CUBE’s Cornering Overtaking The Profit Model Of Self-Storage REITS Is Circulating

If the success of PSA lies in the advantages of scale under heavy capital investment and the refined operation under the leadership of technology, then CubeSmart (NYSE: CUBE) has made breakthroughs in scale disadvantages and operational weaknesses in recent years, more with the combination of light and heavy capital. To achieve the expansion of the management radius and the optimization of the property asset structure.

 

CubeSmart was in deep trouble during the financial crisis

 

CubeSmart is the third largest self-storage REITS in the United States. Its predecessor, U-Store-It, went public in 2004. In 2010, it expanded its third-party custody business through the acquisition of United Store-All. However, CUBE’s operating conditions were not ideal at that time. By the end of 2010, U-Store-It had managed a total of 456 self-storage warehouses, while PSA’s own self-storage warehouses had reached 2,030 at that time, more than four times that of U-Store-It.

In addition to the scale disadvantage, U-Store-It at that time also performed poorly in operation. In 2010, the average occupancy rate of U-Store-It’s comparable properties was only 76.8%, which was significantly lower than the average PSA’s comparable properties of 89.8% in the same period. The occupancy rate, the average rent of the overall property of $11.66/sq. ft. is also slightly lower than the average rent of PSA’s average of $12.65/sq. ft. in the same period; PSA’s overall gross profit margin was 10.4 percentage points lower; correspondingly, U-Store-It’s unleveraged investment return on property assets in 2010 was only 5.5%, significantly lower than PSA’s 10.0% return over the same period.

Further, due to poor operating performance, U-Store-It’s share price fell sharply by more than 80% during the financial crisis. By the end of 2010, its share price was still down 43% compared with the end of 2005. In contrast, PSA’s share price during the financial crisis The biggest drop in the stock price was around 30%, and by the end of 2010 its stock price had risen sharply by 73% from the end of 2005. It can be seen that although they are both self-storage enterprises, their operating ability largely determines their ability to resist shocks in the trough.

 

Rebranding: Optimizing property structure through acquisition and development

 

In 2011, U-Store-It changed its name to CubeSmart and began to reshape its brand image in order to improve its operating conditions and increase shareholder returns. In the process of remodeling, in addition to the optimization of human resources, marketing strategies, and information system platforms, it is more important to use capital market financing tools, as well as funds, custody and other light capital models to expand the scale of assets and optimize the structure of property assets. .

To this end, CUBE, which changed its name in 2011, first raised US$200 million by issuing common stock in the capital market to support its acquisition of 22 self-storage facilities under Storage Deluxe, with a total transaction value of US$560 million. Since then, CUBE has successively carried out a number of asset acquisition transactions. At the same time, the company has disposed of 114 non-core property assets with a total value of US$390 million. As of the end of 2021, CUBE held a total of 607 storage hong kong warehouses, with a net leasable area of 43.6 million square feet, an increase of 84% over the end of 2009 and an average annual growth of 5.2%. Although the area growth rate is not very fast, its property assets The structure has changed a lot.

Before 2011, CUBE had only 5 comparable properties in New York State, accounting for only 1.4% of the leased area of comparable properties. Since then, the company has continuously increased its property assets in core areas such as New York City through acquisitions and development, while disposing of some non-standard properties. Property assets in core areas. By the end of 2021, the total number of CUBE properties in New York State has risen to 58, ranking first in the industry, contributing 10.5% of the total property portfolio area; among them, the New York City-Northern New Jersey-Long Island metropolitan area has a total of self-storage warehouses. 60 properties, accounting for 12.2% of the net leasable area of comparable properties and contributing 19% of comparable property income. The reason for the heavy exposure to the New York market is that New York has always been one of the most attractive tsuen wan storage markets in the United States – both demand and rents are significantly higher than other regions.

In addition to New York, most of CUBE’s other properties are also located in core areas. Its top 12 markets are all metropolitan cities, and they collectively contribute 67% of the company’s comparable property income; while the company’s properties are located in the top 25 metropolitan cities in the United States The total area accounts for 74.2% of the total area, which is 0.4 percentage points higher than that of PSA, which has a longer history, and is significantly higher than that of other self-storage companies. Correspondingly, the average population within a 3-mile radius of the CUBE self-storage facility is over 150,000, and the median household income is over $80,000, both higher than PSA and its other major competitors—arguably, by property value over the past 10 years. Optimization, today’s Cube already has the best property portfolio in the industry.

Since 2011, although the net leasable area of CUBE has only increased by 84%, the total book value of its property assets has increased by 308%, with an average annual growth rate of 13.6%. In terms of market value, the increase in the value of its property assets is even greater. As of the end of 2021, 12 of the 28 self-storage facilities (including properties developed by its funds) with a total value of $800 million newly completed by CUBE in the past few years are located in New York City, and these 28 properties are expected to enter stable. After the operation, it can add another 400 million US dollars in value.

To sum up, since 2010, the book value of CUBE’s property assets has increased by US$5.33 billion, and the structure of property assets has been significantly improved, and it has the best property portfolio in the industry. So, how does CUBE achieve the optimization of property asset structure while expanding its scale?

 

Scale Expansion Supported by “Stock + Debt” and Its Financing Bottleneck

 

Unlike PSA, which mainly relies on preferred stock financing to support investment expansion, CUBE is mainly financed through stocks and debts. Correspondingly, its interest-bearing liabilities have always accounted for more than 40% of its total assets (compared to PSA’s preferred stock and interest-bearing debt). The proportion of liabilities in total assets is similar), and the net debt ratio ((interest-bearing liabilities-cash)/net assets) has always been above 70%, and has reached more than 100% in recent years. Correspondingly, although CUBE has also obtained It has an investment grade rating, but its Baa2/BBB credit rating is 3 notches lower than PSA, and its debt financing cost is 1-2 percentage points higher than PSA – the average debt financing cost of CUBE at the end of 2021 is 2.85 %, compared to 1.80% for PSA.

Of course, since the main financing tool of PSA was preferred stock, and the overall financing cost of preferred stock was significantly higher than that of senior notes, the comprehensive financing cost of PSA was 1-2 percentage points higher than that of CUBE. With the large-scale issuance of senior notes by PSA in 2021 to lock in the current low interest rate environment, its comprehensive financing cost has dropped to 2.8% at the end of 2021, which is comparable to CUBE.

In fact, although CUBE has actively expanded its debt financing channels in the past 10 years, it has also made efforts to maintain a relatively stable debt ratio through equity financing in the capital market; however, because CUBE’s profitability is lower than that of PSA, its debt multiple has always been Higher than PSA, the fixed expenditure coverage ratio is significantly lower than PSA, correspondingly, the overall debt pressure is higher than PSA.

As of the end of 2021, PSA’s debt multiple (net debt/EBITDA) was only 2.9 times, and even with the preferred stock component, its debt multiple ((net debt + preferred stock)/EBITDA) was only 4.5 times, lower than CUBE’s over the same period. Debt multiple (5.4 times); while PSA’s fixed expenditure coverage (EBITDA/interest and preferred stock dividend) is as high as 9.1 times, higher than CUBE’s fixed expenditure coverage (6.7 times).

Although PSA’s debt ratio will increase significantly in 2021, and interest-bearing liabilities will also account for 43% of total assets, due to its strong solvency supported by its high profitability, its credit rating will remain at the A2/A level, which is higher than that of PSA. The CUBE is still 3 notches higher.

In addition to different financing costs, differences in credit ratings also lead to differences in the debt financing structures of PSA and CUBE. With a high credit rating, PSA rarely uses bank loans except for occasional use of bank loans as a bridge financing tool in the process of mergers and acquisitions. Since 2010, the average proportion of bank loans in its interest-bearing liabilities is only 5%. All of the debt comes from senior notes.

Before CUBE obtained an investment grade rating in 2011, all its debts came from bank loans, and it began to issue senior notes financing in 2012. By 2015, the proportion of senior notes in interest-bearing liabilities rose to 59%, and further by the end of 2021 It has risen to 86%. However, the average proportion of bank loans in the company’s interest-bearing liabilities since 2010 is still 35%, which is significantly higher than PSA. Correspondingly, before 2015, the company’s average debt maturity was shorter and with floating interest rates This also limits the use of its debt financing tools to a certain extent.

 

Capital-light strategy assists growth

 

Since a high debt ratio will cause the company to lose its investment-grade rating, thereby shortening the debt period and increasing financing costs, and the extensive use of stock financing will lead to the dilution of shareholder value, CUBE cannot expand its scale and optimize its property asset structure in the process. Instead of relying solely on equity and debt financing models, we chose a combination of light and heavy capital, namely, stock financing + debt financing + fund model + custody model.

Fund model assists expansion. Unlike PSA, which was mainly funded in the early years, but has abandoned fund financing in recent years, CUBE has only begun to use fund financing on a large scale since 2011.

As of the end of 2021, the five non-consolidated funds independently established by CUBE held a total of 88 self-storage facilities, and acquired 50% of each of the two funds under LAACO through acquisitions, holding a total of 90 self-storage facilities through fund carriers. Storage facilities, equivalent to 15% of its total owned properties, with a net leasable area of 6.5 million square feet. The book value of the above-mentioned fund assets is about US$1 billion, which is equivalent to 14% of the total value of its consolidated property assets; the total debt at the fund level is US$530 million, and the introduction of third-party investor LP capital is about US$300 million. Yes, CUBE’s net investment in it is only $120 million, plus the debt, the actual invested capital is less than $200 million.

It is not difficult to see that CUBE has expanded the scale of its assets under management with the help of third-party capital and off-balance sheet liabilities through funds, contributed management fees and performance remuneration income, and provided itself with an opportunity to obtain high-quality property assets at a lower cost.

In order to make up for the scale disadvantage relative to PSA, CUBE also further expands the scale of its assets under management by hosting third-party self-storage facilities, obtaining management fee income while increasing brand leverage and reducing the marketing cost shared on the unit leasable area , training costs, and information systems and other middle and back-office costs.

As of the end of 2021, there are 651 third-party self-storage facilities managed by CUBE (including 90 self-storage facilities managed on behalf of its non-consolidated funds), and the scale of custody is larger than the scale of the company’s own properties (607); the above-mentioned Property assets contributed $31.2 million in custodial fee income in 2021, or about 4% of total revenue, but their net incremental management costs were low, boosting the company’s overall profit margin.

In addition, the escrow platform also provides a low-risk acquisition platform for the company. CUBE has acquired a total of US$1.5 billion worth of property assets from the escrow platform. Since these property assets were previously under the management of CUBE, CUBE has Asset operations are well understood and valuations are more accurate, greatly reducing acquisition risk.

To sum up, in the past five years (2017-2021), CUBE spent a total of US$3 billion to acquire 129 self-storage facilities, and completed the development of 17 new properties at US$552 million. At the same time, its funds spent US$616 million to acquire 46 It has self-storage facilities and has added management contracts for 335 properties through the custody platform. Under the combined effect of capital-heavy and capital-light models, CUBE has achieved scale expansion and optimization of property asset structure.

 

High growth and return improvement under the light-heavy capital combination model

 

After operating improvement, scale expansion, and property asset structure optimization in the past 10 years, the occupancy rate of CUBE comparable properties has increased significantly from 76.8% in 2010 to 94.7% in 2021, although the current occupancy rate is still lower than PSA’s 96.3% , but the gap has narrowed significantly; the average rent for comparable properties has risen from $11.20/sf in 2011 to $18.72/sf in 2021, on par with PSA.

Correspondingly, since 2011, the average income growth rate of CUBE’s comparable properties has been 5.4%, higher than PSA’s 4.3%, of which, the comparable property income growth rate in 2021 will reach 13.1%, higher than PSA’s 10.5% in the same period; while in 2011 The average gross profit (NOI) growth rate of comparable properties has reached 7.0% since the beginning of the year, which is also higher than PSA’s 5.6%. Among them, the gross profit growth rate of CUBE comparable properties in 2021 is as high as 17.2%, also slightly higher than the same period. 15.4% of PSA.

On the basis of comparable property revenue and profit growth, the expansion of property scale further accelerated the company’s overall revenue and profit growth. Since 2011, CUBE’s average annual total revenue growth rate has been 12.9%, significantly higher than PSA’s average annual revenue growth rate of 7.0% over the same period, and its gross profit growth rate has reached 15.0%, significantly higher than PSA’s 7.8% gross profit over the same period. speed up. As a result, CUBE’s FFO per share increased from $0.51 in 2010 to $1.93 in 2021, an average annual increase of 12.9%, while PSA’s FFO per share increased from $4.72 in 2010 to $13.36 in 2021, The average annual growth rate is 9.9%. However, since CUBE raised nearly $1 billion through additional stock offerings in 2021, although the net working capital (FFO) attributable to common stockholders increased by 27.8% that year, the growth rate of FFO per share decreased to 18.7%, which is lower than PSA’s high FFO per share growth of 37% over the same period. But it is undeniable that, on the whole, the strategy of CUBE in the past 10 years has been successful, and the improvement of operations under its scale expansion has offset the dilution effect of equity financing, thus obtaining better growth.

In summary, due to the low starting point of CUBE, in recent years, under the strategic support of the combination of light and heavy capital, the scale effect has gradually emerged, the geographical location of the property portfolio has been gradually optimized, and the quality of the portfolio has been significantly improved. Correspondingly, in the past 10 years, whether it is comparable Both the property and the company as a whole are growing faster in revenue and profit, and their long-term FFO per share growth is faster than PSA, even taking into account the dilution effect of equity financing. As a result, over the past 10 years, CUBE’s annualized total shareholder return was as high as 47%, significantly higher than PSA, and higher than REITS and S&P 500.

 

In uncertain environment, the impact resistance of CUBE still needs to be improved

 

However, today’s CUBE is still at a disadvantage in scale compared with PSA, and the degree of refinement of its operations still needs to be improved, so its profit margin is still lower than that of PSA. In 2021, the average gross profit margin of CUBE’s comparable properties is 70.7%, while the average gross profit margin of PSA’s comparable properties in the same period will reach 74.8%; in 2021, CUBE’s overall business gross profit margin is 69.4%, which is also lower than PSA’s overall business in the same period. Average gross profit margin of 73.0%.

Further, due to the higher profit margin of PSA, and its high profit margin in recent years has mainly come from the improvement of operation and the improvement of information technology, as well as the redevelopment and modernization of old properties, the dependence on capital investment is relatively low; In contrast, in addition to the improvement of operations, CUBE’s profit growth also comes from the structural optimization of property assets supported by mergers and acquisitions, which is highly dependent on capital investment; therefore, the unleveraged return on investment of PSA’s property assets (NOI/ original value) has been significantly better than CUBE.

In 2010, the unleveraged investment return on CUBE’s property assets was only 5.5%, while PSA’s unlevered investment return on property assets at that time had reached 10.0%; by 2021, although CUBE’s unlevered investment return on property assets has Rising to 11.2%, but PSA’s ROI is higher at 15.9%; CUBE’s average unleveraged ROI for property assets over the past 5 years (2017-2021) is 9.2%, while PSA’s ROI is 13.2% over the same period %, with a consistent return gap of about 4 percentage points between the two.

In addition, with the increase in the supply of storage hong kong in the second half of 2021, the average occupancy rate of PSA comparable properties fell from 97.0% in the second quarter to 95.9% in the fourth quarter, a decrease of 1.1 percentage points, and the period-end occupancy rate decreased from 97.0% in the second quarter. The 96.5% at the end of the quarter dropped to 94.8% at the end of the fourth quarter, a decrease of 1.7 percentage points; while the average occupancy rate of CUBE dropped from 95.6% in the second quarter to 93.8% in the fourth quarter, a decrease of 1.8 percentage points, and the occupancy rate at the end of the period It has dropped from 96.1% at the end of the second quarter to 93.3% at the end of the fourth quarter, a decrease of 2.8 percentage points; due to the larger decline in the occupancy rate, coupled with the impact of uncertain factors such as the epidemic, war, and pressure to raise interest rates, In the first quarter of 2022, CUBE’s share price performance was significantly worse than that of PSA. From January to February, CUBE’s share price fell by 15.3% from the end of the previous year, while PSA’s share price fell only slightly by 5.2% from the end of the previous year. By the end of the first quarter, PSA’s share price fell. Shares have recovered to their all-time highs. In fact, when the epidemic hit the hardest in the first quarter of 2020, PSA also showed higher shock resistance than CUBE. In the first quarter, PSA’s stock price fell by 25.8%, while CUBE’s stock price fell by 37.0% in the same period.

To sum up, although CUBE has used the mode of combining light and heavy capital, in the past 10 years, through the improvement of operation and optimization of property asset structure, it has greatly narrowed the gap with PSA, showing higher growth. However, due to the current advantages of scale and informatization, PSA still has obvious advantages in profit margin and return on property assets, and a higher credit rating provides it with a lower and safer financing environment. Therefore, in In the trough period, PSA has better shock resistance than CUBE.

 

The profit model of the self-storage industry is in a positive cycle

 

The expansion of self-storage enterprises is based on “strict cost control and the improvement of profitability of digital technology applications”, while low-cost financing channels and light capital scale expansion create conditions for scale, and ultimately, scale will be further Improve the profit rate and rate of return of the enterprise, thus forming a positive cycle of tsuen wan storage enterprises to continuously improve their competitiveness and trough shock resistance, that is, “strict cost control and support of digital technology to enhance profitability and increase the scale of application of capital strategies. improved profitability and return.” Each of these links is indispensable: if there is no improvement in profitability and blindly expand the scale, it may lead to the dilemma of high debt ratio and lower investment return than financing cost; but at the same time, as an industry with significant scale effect , the improvement of profitability is also inseparable from the scale effect, which can effectively dilute the marketing cost, informatization cost, and other middle-back office and headquarters management costs per unit area, and improve the profitability per unit area and property assets. response rate.

Therefore, business strategy and financial strategy are two indispensable wheels in the growth process of enterprises in the self-storage industry, and neither is indispensable; for those enterprises that are disadvantaged in scale and have high financing costs, the light capital strategy can accelerate the development of enterprises. The scale of the expansion, to achieve a sense of “curve overtaking.” However, whether it is a capital-heavy or capital-light strategy, the ultimate goal of scale expansion still needs to fall back to the improvement of profitability and rate of return-due to the low barriers to entry, the self-storage industry will continue to experience cyclical troughs and prosperity. This means that excessive debt and low profitability will inevitably lead to companies being eliminated in the trough of the industry. Therefore, strict cost control, digital information systems, scale effects, and low financing costs are the keys to winning the industry.