Key Takeaways: We are doubling down on self-storage and adding CubeSmart (CUBE) as a new Best Idea Long alongside PSA. This is a "keep it simple and straightforward" type of call: (1) the subsector is highly correlated internally given the submarket overlap and works well in an inflationary environment, (2) CUBE backtests well in each of Quads 2-4, (3) upward earnings revisions are extremely likely and a positive catalyst, and (4) CUBE's balance sheet is a huge strategic and style factor advantage. The sector is in the early innings of a rental rate growth and potential earnings acceleration not seen since the 2013-2016 period, and there is a lot to like for CUBE on the long side:
- Regarding the Macro/Quad positioning, see Figures 1-3 below
- The math tells us the Street is massively wrong on current 2022E and 2023E earnings expectations for CUBE (see Figure 4 below). On our estimates we currently see upward earnings revisions forthcoming in the low-teens % range for both years. A low-to-mid teens NOI growth rate through at least 1Q22, driven by near-double digit realized rental rate growth which should be easily achievable, results in SSNOI growth of +9% and +5% in 2022E and 2023, respectively. This easily produces Core FFO estimates of $2.26 and $2.38, respectively, and Consensus is in another timezone (please reach out to Rob or Sales for the model). For the purposes of staying conservative we assumed occupancy normalization by FY23, but we cannot rule out that occupancy levels have reset to higher levels while retaining normal seasonality. Accelerating SSNOI growth for several quarters + front-running a high-probability upward revision cycle is a great combo on the long side (see PSA)
- This is especially pertinent for Quad 3 (quality + leverage), but CUBE has quietly positioned itself with the second-best balance sheet in the sector which is a huge strategic advantage and source of potential upside vis-a-vis external growth. Management noted on the 2Q21 earnings call that they were leaving capacity to take advantage of external growth opportunities in the market as they arise, such as for example developers selling out of projects started in the past cycle that have failed to meet underwriting. We have the company currently at ~5x net debt/EBITDA adjusted for in-process developments and rapidly trending toward the low-4x range given the pace of internal growth and CUBE's low capex/high FCF generation. That places CUBE a full turn of leverage below EXR and LSI, just comparing the three names that tend to triangulate around a somewhat similar capital structure. Assuming ~30% debt financing + potential secondary issuance, that single turn of today's EBITDA (~$500 million) equates to over ~$1.5 billion of external growth capacity over time versus a ~$12 billion total market cap company. With the stock trading at a sub-4% cap rate and CUBE easily able to issue unsecured debt at sub-3%, any such activity would be accretive and provide upside to our above-Consensus numbers
- We see potential for high-single-digit to low-double-digit dividend increases over the next two years, and a mid-teens IRR through year end FY22 (see Figure 5 below)
Figure 1: CUBE GIP Quad Backtest:
Figure 2: Quarterly Expected Value by Quad
Figure 3: % Positive Ratio by Quad
Figure 4: Hedgeye vs. Consensus FFO Expectations:
Figure 5: CUBE IRR Analysis:
Figure 6: Hedgeye REITs Position Monitor:
Please call or e-mail with any questions.
Rob Simone, CFA
Managing Director
Twitter: @HedgeyeREITs
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