Key Takeaways: As expected last night after the close Best Idea Long PSA announced it would redeem all $325 million of the 4.95% Series D preferred stock on 7/20. This comes on the heels of the redemption of the $200 million of 5.125% Series C preferred to be executed on 6/30, as well as the issuance of new $525 million of 4.0% Series P preferred earlier this month. Net-net the company match-funded the preferreds thereby leaving the total amount of preferred outstanding in the stack unchanged at ~$3.8 billion, and reduced the effective rate by about ~100bps (~$5.3 million of annual cash flow savings, which for context is ~5-6% of PSA's annual G&A burden). We updated our model estimates below, and would highlight the following:
- First, while PSA's cap structure remains an outlier in the self-storage space and REITs more generally, this "trade" was well-executed given the recent back-up in interest rates, and given that PSA had just issued $2 billion of new unsecured debt to fund the acquisition of ezStorage. We continue to look for the amount of preferred in the cap structure to shrink on a relative basis over time, depending on capital market conditions. At ~4.0x Net Debt + Pfd. / EBITDA currently, there is additional capacity to take leverage to the upper-bound of PSA's long-term target of 4-5x, which represents about ~$2 billion of additional external growth capacity if financed 100% with debt. This would still place PSA, despite its scale advantage and FCF generation, at ~1-1.5x turns below the average leverage profile in the self-storage sector.
- Second, while consensus estimates have been revised upwards over the past few weeks following PSA's investor day, we are still about ~2% above consensus on 2022E Core FFO/Share ($12.77 vs. $12.49) with an upward bias on estimates generally. Street rate growth has been accelerating with ECRI "on the come," likely translating into mid-to-high single digit realized rental rate growth through 1H22, and the question now is to what degree and when do occupancy rates normalize to typical levels/seasonal patterns for self-storage. There is a possibility that when seasonal patterns return, industry occupancy levels may have reset 50-100bps higher through the cycle which is interesting for future earnings expectations.
- Finally on valuation, PSA remains ~2.5x turns below best-in-class peer EXR on an FFO multiple basis, and about ~30bp wide on a cap rate basis. Valuation is not a catalyst, but it is undeniable that PSA management is doing what is necessary to maximize returns on its existing portfolio and improve its external growth profile. We remain excited on the long-side and see upward guidance and estimate revisions through the balance of this year as catalysts for the stock to re-rate further, ahead of the ROC profile (for PSA only) changing beginning in 1Q22.
Figure 1: Hedgeye PSA Estimates
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Rob Simone, CFA
Managing Director
Twitter: @HedgeyeREITs
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