"Public Storage is the Coca-Cola of the real estate business" -- Ronald L. Havner, CEO Public Storage.
Source: Public Storage.
The Motley Fool encourages lively debate regarding the merits of investing in publicly traded companies. Fellow Fool Jordan Wathen recently wrote "3 Reasons to Sell This Red-Hot REIT." I enjoyed the article, but I have a different point of view to share.
First, let's look at the big picture:
The chart shows that among the four REITs making up the entire self-storage universe, Public Storage is not the "red-hot" REIT. Smaller rivals CubeSmart (CUBE +0.18%), Extra Space Storage (EXR +0.27%), and Sovran Self Storage (SSS +0.00%) are flying higher. A huge market cap of $29 billion makes it much harder for Public Storage to grow significantly on a percentage basis by acquisitions.
1. High occupancy is a happy problem
Public Storage reported record high 94% occupancy for the quarter ending June 30, 2013. These are short-term rental agreements, and tech savvy publicly traded REITs are able to increase rates to what the traffic will bear in each market. They can maximize revenues by raising rents even if it results in reducing occupancy in the short term.
Extra Space CEO Spencer Kirk recently pointed out, "you can't raise rents on unoccupied storage units." There is a program in place that automatically increases rents at specified intervals. This results in 50,000 customers paying an average of 9% more per month, out of a total number of about 650,000 customers.
2. Very little new development
F.W. Dodge estimated that there were less than 200 new facilities being added to the approximately 54,000 self storage sites nationally. Virtually no new facilities were built in the last five years as financing for all but the strongest operators has evaporated.
Public Storage is the only one of the four REITs that has the balance sheet, expertise, and willingness to construct new facilities. Public Storage has recently started expanding its new construction and redevelopment program -- a potential competitive threat to the other three self-storage REITs.
3. Few locations to compete in urban areas
Public Storage focuses on urban locations with high population density. This often provides a barrier to competition due to the lack of infill locations that can be entitled or redeveloped into self-storage complexes. Small competitors can't easily pop out of the woodwork. It is far more likely Public Storage would expand or build new product if there was an opportunity and sufficient demand.
4. A fragmented industry fuels acquisition
The report of Acadia Realty Trust selling a self-storage facility at an implied cap rate of 5.5% shows how competitive it can be to acquire stabilized self-storage properties. However, the vast majority of acquisitions are from privately held regional and small local owner/operators, who represent about 90% of the self-storage universe.
Public Storage has previously reported it expected to complete the purchase of 29 properties located in four states for $374 million during the quarter ending Sept. 30, 2013. Public Storage only acquires properties that are accretive to earnings and cash flow.
5. A huge competitive advantage
What if a "mom and pop" operator with a pile of cash built in a Public Storage market?
The self storage REITs are able to spend millions of dollars on Internet, call centers, SEO, and mobile devices. During 2012 Public Storage spent $15 million just with Google. Competitor Extra Space Storage spends over $1 million per month on Google ads -- and has 44 people focused on Internet and mobile marketing initiatives.
This drives a disproportionate share of customers to the large publicly owned self-storage facilities -- where revenue management models determine what price is quoted to each customer based upon multiple inputs. It has become a very sophisticated industry during the past five years -- a real barrier to entry.
Investor takeaway
Public Storage has a self described "fortress balance sheet" and has Moody's highest bond rating of any publically traded U.S. real estate company. It has gross margins north of 70% and profit margins of 55%! This is a very healthy company with the cash flow to buy back its stock if there are not attractive acquisition or development opportunities.
Public Storage has not issued any updates on acquisitions or guidance since the conference call discussing the results of the quarter ending June 30, 2013. Investors may want to pay close attention to the earnings release scheduled for Oct. 31, 2013 prior to buying common shares at these prices. If you already own Public Storage shares, I see no compelling reason to sell them.
