Life Storage Inc (LSI) 2007 Q2 法說會逐字稿

At this time, I would like to welcome everyone to the second-quarter earnings release for Sovran Self Storage conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (OPERATOR INSTRUCTIONS) Thank you. Mr. Myszka, you may begin your conference.

Thank you, Amanda. Good morning and welcome to our second-quarter conference call. As a reminder, the following discussion will include forward-looking statements. Sovran's actual results may differ materially from projected results. Additional information concerning the factors that may cause such differences is included in our Company's SEC filings. Copies of these filings may be obtained by contacting the Company or the SEC.

Well, we had quite a busy quarter the last three months. The upward trend we noted on our last call continued throughout Q2 with same-store net move-ins up by nearly 20% compared to the second quarter of 2006. Although our same-store occupancy level is still lower than last year at this point, the trend over the past four-plus months is certainly positive.

Our same-store revenues and net operating income increased by 4% and 1.9%, respectively, over the second quarter of last year. Dave Rogers, our Chief Financial Officer, will provide some more details in a few minutes. But let me just give you a little bit of a brief overview of our quarter.

A major contributor to our performance has -- continues to be our customer care call center. We showed improvement in Q2 '07 over Q2 '06 in just about every major category that we track. Of special note, percent of calls answered by our people improved by 3% over last quarter; and our closing rate improved by nearly 4%. In addition, the number of rentals generated over the Internet increased by nearly 90% compared to Q2 '06.

During the quarter, we added Uncle Bob's Trucks to 13 more stores. All of these locations are new acquisition stores for us, many of those in Western New York. We currently have trucks at 261 of our stores.

Our humidity control system, Dri-guard, continues to attract new customers. The rates we collect on Dri-guard treated units are running approximately 26, 27% higher than nontreated units. The average occupancy of our Dri-guard treated units at the end of June was 80%.

We completed three climate control conversions and/or expansions during the second quarter at a cost of $3.5 million. Since the end of the quarter, we have completed and received certificates of occupancy for 10 more projects, worth roughly $7 million.

On the acquisition front, we acquired 15 stores last quarter for a total purchase price of $87.4 million. Safe Mini Storage was a 14-property portfolio with locations in Florida, Mississippi, and Alabama. The portfolio contains 1.2 million square feet and was purchased for $84 million. Five of the stores are in markets where we already have a presence -- Pensacola, Florida, and Montgomery and Auburn, Alabama. Four are in Huntsville, Alabama, and five are located along the Gulf Coast. Both of these areas are new markets for us.

A little bit more specifics. Two of the properties are relatively new, having opened for business just in 2006, while six of the rest underwent significant expansions within the past 12 months. Consequently, we are expecting substantial growth in these stores in the coming months and years.

We also acquired our 11th store in San Antonio, Texas, last quarter, for $3.4 million. So it indeed was a busy quarter for us. But at this time, I would like to ask Dave Rogers to offer some details on our financial performance and position.

Thanks, Ken. Regarding operations, total revenues increased $7.8 million, which was 19% over 2006's second quarter. Property operating expenses increased by $3.7 million. These increases, resulting in an NOI increase of 16%, were primarily due to improvements in the same-store results that we will talk about in a minute and the addition of the 58 stores we have purchased since June of last year.

Our average overall occupancy was 84.8% for the quarter ended June 30. Average rent per square foot was $10.24.

Our same-store revenues increased by 4% over those of the second quarter of 2006. This was purely rate driven, as our same-store weighted average occupancy for the quarter declined from that of 2006's second quarter by about 180 basis points to 84.8%.

Other income, which is primarily truck rentals and cell tower income, increased by 2.3%.

At the quarter end date, same-store occupancy was 85.8%, down 170 basis points from last June 30; but rental rates were higher at $10.34 per square foot compared to the same-store rate of $9.90 last year.

Total operating expenses on a same-store basis increased 8.1% this quarter. Again, presumably for the last time, property insurance costs were the primary culprit, increasing by $630,000 over those of last year's quarter. Landscaping and property maintenance costs were also significantly higher this year. But other operating expenses were pretty much in line, with increases of 2 to 4% across most categories.

So taking same-store operating cost increases of 8.1% away from the 4% top-line growth, we achieved same-store NOI improvement of 1.9% for the quarter.

G&A costs for the period came in at $3.7 million, which is about $200,000 below the run rate we expect for the balance of the year. We will have some increased staffing and facility costs in the latter half of this year to accommodate the recent acquisitions we made.

One new item on our P&L is an amortization charge for in-place customer leases. Given the number of stores we have purchased since the second quarter of 2006, we thought it proper to allocate a portion of the property purchase price to the income stream generated by tenants renting as of the closing date of the property.

So this quarter's charge includes a catch-up. The amount, the $2.7 million was really basically catching up the last couple quarters. What we expect in 3Q is about $600,000 and 4Q a bit less than that. Of course, this charge is added back to compute FFO. So there is no FFO effect from the charge for in-place tenants.

Concerning capital matters, we drew $89 million on our line during the period to fund the acquisitions Ken mentioned. It also served to work toward part of our expansion and enhancement program. We have $11 million of capacity left on the line, with capacity to borrow more of course. We extended the existing line for an additional year. It now matures in September of 2008.

Our outstanding debt is now $550 million. Except for the line debt of $89 million, all of it is long-term and fixed-rate or hedged to maturity. Approximately 20% of our borrowings are secured.

Our debt service coverage in the second quarter was 3.3 times EBITDA. Our fixed charge coverage for the quarter was 3.0 times EBITDA. Debt-to-enterprise value was about 34% at June 30, so we remain conservatively capitalized and have lots of room to fund future growth.

Subsequent to the end of the quarter, the last holder of our Series C Convertible Preferred Stock did indeed convert their shares to 920,000 shares of common. So that as -- we put an 8-K out on that the first week of July. So that as of mid-July, then, we had 21.5 million shares of common stock outstanding.

Concerning guidance, visibility has improved a bit over the past couple of months. As you can gather from what Ken discussed, our top-line growth is solid if not necessarily robust.

We have mentioned during the past couple of calls two factors impact our Company specifically. First is that of a fall-off in occupancy at most of our Florida and Louisiana stores. We achieved record occupancies in 2005 and for the first eight or nine months of 2006, as a result of serving customers with hurricane-related needs. But then starting late last year, many of those folks have been able to regain some sense of normalcy in their lives and they have been taking their stuff back to new or repaired homes.

The past two quarters were especially tough comps because, while Florida has showed a relatively strong 90% or so occupancy, this is 600 or 700 basis point drop over prior-year quarters for Florida. The effect of this begins to wane as we get deeper into this year's third quarter.

We are also fighting tough comps across the whole portfolio. Beginning in 2003, we enjoyed four consecutive years of same-store top-line growth of 5% or more. Most of our markets remain quite strong; but given the Florida effect and 20 straight quarters of pretty significant upward rate pressure, we're holding now with our revenue growth forecast of 4% for the balance of the year.

As described earlier, we absorbed a considerable hit this year to provide proper insurance coverage. The additional annual charge of almost $2 million shrunk margins and clipped same-store NOI by about 175 basis points. This abates starting this quarter, as our new policy with a 30% rate reduction took effect July 1.

We're seeing pretty moderate increases across other expense categories. So putting it all together, we're forecasting an approximate 4% same-store NOI growth for the balance of 2007.

The acquisition environment is unchanged. There are many properties and portfolios either on the market or owned by folks who can be coerced into selling. Unfortunately though, despite recent jolts to REIT capital markets, cap rates remain rich and good properties are extremely pricing.

We have acquired about 60 quality stores in the past 12 months. While we had expectations of continuing that pace deep into next year, we're now looking at alternative ways to grow the portfolio. We're emphasizing upside potential more than ever in our underwriting.

Our total 2007 expectations regarding acquisition volume remain essentially unchanged at about 135 to $145 million. With about $125 million already booked, we're not forecasting a very busy second half concerning acquisition properties in the traditional manner.

As Ken mentioned, we are undertaking a pretty extensive expansion program. We expect expenditures of up to $25 million in 2007 to enhance revenue capabilities at many of our existing properties. In 2006, we spent almost $20 million on these improvements; and in the first half of this year, we put a little over $13 million to work.

We have continued our program of accelerating painting, paving, and fencing projects at many of our stores in an effort to improve curb appeal sooner. Accordingly, we will be expending as much as 10 to $12 million this year on non-revenue-enhancing projects.

To give you a better handle on our interest costs, we're now obligated on $460 million of long-term fixed-rate or hedged loans. Our annual interest costs to carry this debt, including amortization of financing costs, is $30.4 million and shouldn't change until late 2008. The only variable component in our debt structure is related to the $89 million outstanding on our line, which carries a floating rate of LIBOR plus 90.

So given all the above, we are estimating funds from operations to come in total 2007 at between $3.38 and $3.42 per share; and between $0.88 and $0.90 per share for the third quarter. At that, I will turn it back to Ken.

Thanks, Dave. That concludes our prepared remarks. We would be pleased to field any questions anybody out there might have. Amanda?

(OPERATOR INSTRUCTIONS) Jonathan Litt of Citi.

It's Craig Melcher here with Jon. Can you give a little bit more color on the traffic in the portfolio year-over-year in the second quarter? The net movement is up 20%, but just can you talk about the traffic trends so far during the year?

Well, there has been -- what we experienced the last probably four months or so is a reduction in the number of people moving out in Florida, so that gives us a good feeling as far as the trend in that market. That is really what has been hurting us with that portfolio, for the most part.

We have seen a little bit of reduction in residential users, which we attribute to some extent to the housing market slump. We're getting about the same number of calls to our call center here as we have in the past, maybe a little bit less; but there are more shoppers.

All in all, as I mentioned in my opening remarks, we see the trend upward, so we are encouraged by that. We think the exodus of people in the hurricane-affected areas is pretty much abated. So we are looking forward to a relatively strong second half of this year.

What do you attribute the lower move-out rate to?

Well, the big part of it, where we have had most of the move-outs has been in Florida. I think as Dave mentioned, our occupancy in Florida over the past couple of years was an incredible 95%, 96%. It is down to about 88%, which is still very strong number for us.

So what has happened there is people who were using those facilities because they had problems with the hurricanes, they have moved out over the past say 12 months or so. I think that is primarily what you attribute it to. And Louisiana is the same thing.

Okay. On the same-store guidance, so is 4% NOI growth for the second half of the year, is that the new guidance, which would put the full-year NOI growth somewhere between 2.5% and 3%?

Yes, I think we are looking for a 4% total year. But given the fact that the first two quarters have come in with a little bit less occupancy than we were hoping for, yes; we feel comfortable that the balance of the year will be 4%, or maybe a little better. But the overall year we're not going to catch up.

Okay. The last question is just with the credit facility with the $89 million on it. What is the plan there, in terms of dealing with that? Do you think it would grow over $100 million, or do you look to do a debt offering or any other type of offering to reduce that balance?

I think given the way interest rates are -- and pretty much neutral between short-term floating debt and long-term fixed rate -- we will be moving this into a long-term facility shortly after we get over $100 million. That is pretty much the way we have been doing it. Should market conditions remain the way they are, I think we would do that between now and probably year end.

Okay. Based on the current rates today, it would be roughly neutral?

Yes.

Okay, thank you.

Christine McElroy of Banc of America.

Hi, good morning. Just following up, was there anything else that drove the reduction in your guidance, except for the same-store NOI growth?

Well essentially, we had guidance, I think we dropped the range by $0.02, and we have slipped about a penny in the first quarter and a penny in the second quarter. So total-year guidance, just by its nature almost slips.

So nothing -- the midrange is about the same. We're just tweaking it a little bit. So no, there is no overall big trend or anything. It is just a minor reduction given the minor misses in Q2 and Q1.

Okay. Then with regard to your acquisition on the Gulf Coast, I think you said previously that the cap rate was 6.8% and you expect to achieve roughly an 8% yield over the next year. Can you walk us through how you get there, especially since some of those markets have been weaker?

Well, primarily the acquisitions there were done from a guy who ran the portfolio pretty well but didn't have a lot of the benefits that we do. We wrapped a lot of these stores into existing markets, so we will be getting some efficiencies in expenses, such as Yellow Page sharing, insurance. Even though our costs are high, the private guys are a lot higher. Relief help sharing, maintenance contracts, and so forth.

So there should be some pretty significant expenses in the stores that we are wrapping into our existing markets. Typically, that by itself is good for 90 to 100 basis points on a run rate basis, 12 months out.

Then we add the benefits of our call center, which again the private operators typically don't have. We are essentially then open from 7 in the morning until 9.30 at night, seven days a week, answering the phone with people who know how to sell. So we expect 20 to 40 basis point increase in revenue growth just from the fact that we can capture more customers and upsell rates a little bit.

So we're not looking at any big trends or any big improvements in the typical acquisition that we make. Now these used, as Ken mentioned, have some upside potential because the occupancies were lower. Some of them were just recently built. So the markets are certainly strong in those areas; they just were not as strong as they were. But our typical approach to growing 12-month-out occupancy is based on the factors I just mentioned.

Are you seeing the same trend in those areas of move-outs that you have been seeing in Florida overall?

Certainly not in Alabama, certainly not in Mississippi. Because the parts that we bought in were further north in Jackson and so forth. So not really. You know, there is -- no. The answer is no.

Okay. Then can you just comment on how aggressive you are being on the concession front versus three months ago?

We are being much -- I would say much more aggressive in the Florida markets, trying to build up, get the people we're calling, convert them into customers. Overall, though, I would say we are pretty much doing much of the same thing as we have done in the past.

Very honestly, in Florida, we got maybe a little bit complacent with 96% occupancy and managers generally not having a lot of inventory to sell over the past couple of years. So we have got them out beating the bushes, going out to the apartments, to the shopping centers, to the contractors, trying to drum up a little bit more business.

But the number of times we are offering it is greater. The amounts are about the same as we have done before. So bottom line is, we are more aggressive than we have been in those markets. The rest of the country, though, is pretty much the way we have been doing it for the last couple of years.

Okay, great. Thank you.

Paul Adornato of BMO Capital Markets.

Hi, good morning. First, quickly, do you have construction in progress at June 30 from the balance sheet?

I thought it was $12 million. Hang on one second. I think it is $12 million, Paul, but I will make sure (multiple speakers).

Okay, thank you. Looking at this quarter's acquisitions, does that include any CapEx? Could you talk about kind of the physical appearance of the properties?

I can tell you a little bit about that. These are very, very good properties, A-type properties. Good visibility, growth areas. They are designed with some retail centers in them. So they include U-Haul trucks and very well stocked merchandise centers. They have shipping and drop-off points for Federal Express, UPS, and so forth.

In addition, they have got a lot of expansion capabilities. Several of the stores have about 80,000 square feet of RV parking, which we over the next couple of years anticipate converting some of that to more pricey, if you will, climate control opportunities.

There is also -- three of the locations have land which we estimate could accommodate up to about 150,000 to 170,000 square feet of additional climate control space as demand requires.

So there is an awful lot of upside to these properties. They're well located, as Dave was mentioning. We think we have some great potential to improve on the operations with our management style plus these expansion capabilities.

Okay. Looking at the acquisition opportunities versus buying back your stock, what are your thoughts on that trade-off, especially given the sell-off in the stock, lately?

Well, it is a battle I think all of us in the capital-raising recycling business face. We certainly think the price of our stock is very favorable. It is approaching an 8 cap rate. We are not seeing too many acquisitions in that range, certainly.

The problem is, what we like to do when we acquire properties is -- as I said and as Ken said -- we like to go out and have opportunities. We're not just buying a yield; we are buying a yield that we expect to improve significantly over the next year, and certainly over the next three years.

I think a good part of our portfolio is somewhat mature. So I think we are seeing a better opportunity to grow the younger properties we are buying at a rapid -- more rapid rate, at least initially. So that is the trade-off we are working with.

We're not adverse to buying back our stock. But by the same token, if the current crunch holds, we are certainly not going to be issuing equity anywhere south of a lot more dollars than we're at right now. So we measure it; we talk about it; we have actually had a big discussion at our Board meeting about it. But it is something we're not prepared to do at this moment, just keep evaluating as the conditions continue.

Okay. Looking at the DRIP, are you comfortable keeping it in place at these levels?

That is another thing we have been evaluating. We have said before, a lot of the shareholders that earn that dribble in a little bit every quarter. It is about $2.5 million or so, $3 million tops every quarter. It may be something we would shut down given $44 share prices.

Okay, thank you.

Paul, it is 12 -- the CIP is $12.4 million at June 30.

Thanks very much.

John Sheehan of A.G. Edwards.

Good morning, guys. I was wondering if you could just give us a little more detail on what is going on in Florida? Specifically, are you seeing any differences in market conditions on the stores on the Eastern side of Florida versus the Western side, or say your stores in South Florida versus the properties you have towards the Northern part of the state?

Well, I would say from the middle part of the state down, say Fort Myers and even -- I guess even Tampa, Orlando, to the South, is where we have experienced the biggest drop in our occupancy. Tallahassee, I guess even up there we have experienced a drop.

Just to give you an idea, last June '06, our average occupancy in Florida markets -- I think excluding Pensacola -- was just under 95%. This year at the end of June, it is just about 88%. So it has been pretty much across the board as far as the reduction in occupancy.

Having said that, if our entire portfolio had an occupancy level of 88%, we would be thrilled. So it is really attributable, we think, to the people -- as we have said before -- who have been in there because of the hurricane effects that they have had; no need for the storage anymore.

We have seen a little bit of reduction in the residential market, if you will, of new people coming in. We kind of attribute that to the housing market slump. People are not moving as much, they don't have need for storage on a temporary basis as they did before. So I guess -- I mean that's -- I don't know. That is all I can really tell you as far as what is going on down there.

I guess maybe just to put numbers to it, we're looking at Fort Myers with a year-over-year drop of 7%; that is the worst. The Panhandle was a -5.1% drop. So it is pretty much statewide, I guess. City to city. Orlando, Fort Lauderdale, Melbourne, Jacksonville are all within 150 basis points of each other in terms of the occupancy drops we have been talking about.

Given what you are seeing so far, I guess, in the second and maybe going into the third quarter, do you expect a recovery in Florida to be pretty even across the markets as well?

Yes, we -- at this point, what we are seeing is the markets that in fact we were just talking about, the number of calls has increased somewhat in the second quarter of this year versus second quarter of last year. Number of move-ins we're seeing even into July, net move-ins -- at least net move-ins, that is the difference between move-ins and move-outs -- in Florida has improved so far, beginning of this third quarter.

So we are seeing -- and it is spread out throughout the state. So yes, I think we are expecting that the recovery in Florida, if we call it that, is going to be recognized throughout the state evenly.

Okay. Thanks, guys.

Michael Salinsky of RBC Capital Markets.

Good morning, Dave, Ken. I know you talked about Florida there for a few minutes. Could you give some commentary on the performance of the portfolio to the Northeast and Texas as well during the quarter?

Yes, that is a little bit more pleasant topic for us. We have experienced some really good growth. Austin and San Antonio and Houston, in particular, we have experienced year-to-date double-digit top-line growth in those markets.

In the Northeast, New England is still top; that is up by maybe 1 point, 1.5 points as far as revenue growth, same-store revenue growth. Areas though -- the Buffalo area has improved substantially this year; we're up about almost 6% in this area.

That is excluding the [Benison] portfolio that we acquired here earlier this year. But just to mention that, when we acquired that in -- about three or four months ago, it was about 72% occupancy. It is approaching 80% right now. So we are very pleased with the performance there.

Overall, we are pleased with our markets. The areas that we have been mentioning is Florida and Louisiana that brought down the overall occupancy and same-store performance.

Okay. Secondly, Dave, you are pretty close to your acquisition target for the full year. I know you said you're being a little bit -- the second half of the year looked a little bit more conservative at this point. Can you give us sense of what the acquisition pipeline looks like, first of all?

Second of all, can you talk about what changes you have seen most recently in the -- call it the past month, with regards to cap rates and deals remaining on the market?

Well, our pipeline, properties under contract, are only a few million dollars as of June 30. Properties in the pipeline, or at least deals we are considering on our big board, are in excess of $1 billion.

Now, that sounds great, but we have not seen any abatement whatsoever in cap rates on quality properties, especially portfolio. You probably saw the portfolio that traded in Chicago just the other day; it was almost $60 million on a package that we think is somewhere in the low 4, at best -- letting everything go the right way, mid 4 -- cap rate on a pretty mature group of only four properties. That as far as we can tell traded for just under $40 million just a couple years ago.

There was another portfolio that we were pretty heavy into, a sub 6 cap rate with some upside, that went at considerably better price than that.

Pretty much what we are seeing is one buyer, particularly, who has been very aggressive. The REITs are pretty much, at least on those deals, in the deals and not even close to those prices. So it is hard for me to talk about cap rates when you have a player like that out there who is really paying up.

On the one-offs and so forth for quality properties, despite the increase in rates, we're not seeing much improvement there from our point of view in cap rates. So you are looking primarily for quality properties close to stabilization at right around 7, unless you see some of these higher-profile portfolios, which are kind of not even able to use as a data point because they are pretty extreme.

Great. Thanks, guys.

(OPERATOR INSTRUCTIONS)

Presumably there are no more questions?

Yes, sir. At this time, there are no more questions in the queue.

All right, thank you. Well, I would like to thank everybody for their participation on the call and your interest in our Company. I hope you have a great day, and we will talk to you in three months.

Thank you.

This concludes today's conference call. You may now disconnect.