Public Storage was ready to go on a shopping spree last year. The Glendale self-storage company had amassed more than $760 million in cash reserves and was hunting for bargains.
But values for storage facilities never dropped as much as it hoped, and it was competitors that ended up acquiring three-quarters of a billion dollars in properties across the country this year – at prices that Public Storage publicly balked at.
Instead, the past 12 months have seen the real estate investment trust put its war chest to other uses: cleaning up its balance sheet, and buying out partners in joint ventures and limited partnerships. The strategy has been hailed by analysts as a savvy one – but it also has prompted legal challenges from former partners who say they’re being low-balled.
“They’re very focused on what real estate is worth, and getting the best deal on a per-square-foot basis,” said John Sheehan, an analyst in the St. Louis office of Edward Jones.
Not finding many deals it liked on the open market, Public Storage spent $154 million buying out partners in five affiliated domestic limited partnerships last month, and $238 million buying out European joint-venture partners in March. It also has called in nearly $1 billion in preferred shares, and reissued them at lower dividend yields.
“These moves are really going to be the driver of growth over the next 12 months,” said Michael Salinsky, an analyst in the Beachwood, Ohio, office of RBC Capital Markets.
But the company’s zeal for better deals has led it into legal battles. A class-action lawsuit filed in Los Angeles this month on behalf of a bought-out partner alleges the purchase price for the five limited partnerships wasn’t consistent with the value of Public Storage’s portfolio. A similar lawsuit has been filed in New Jersey state court on behalf of other former partners.
A Public Storage spokesman declined to comment on the lawsuits. But in a quarterly filing, the company stated that it believed the legal challenge was without merit and intended to defend itself vigorously.
Finding value
In an earnings call last month, Chief Executive Ronald Havner was asked about the company’s reluctance to pull the trigger on external acquisitions. “The pricing just did not make sense to us,” he said. “It’s easy to buy stuff. You just show up with the biggest check.”
The company decided it made more sense to buy out the five limited partnerships. The 47 properties controlled by the partnerships, which total 2.7 million square feet, already operate under the Public Storage name, so the company won’t have to bear costs for integrating and rebranding.
A lawsuit filed in L.A. Superior Court alleges that the price was unfair because the average cap rate of 7.6 percent used in the deal was significantly higher than some analysts had been using to value Public Storage’s assets. (A cap rate reflects the income a property will generate and has an inverse relationship to price; the higher the cap rate, the lower a property’s price or value.)
One recent analysis, for example, had used a cap rate of 5.7 percent. In other words, the suit contends that properties were valued up to 25 percent lower than they would have been using cap rates for Public Storage’s existing portfolio.
Rod Petrik, san analyst in the Baltimore office of Stifel Nicolaus & Co. Inc. who follows the company, said that such lawsuits aren’t unusual in buyouts, and that the deal showed how the company was able to make savvy investments when it didn’t find home-run acquisitions.
“They may be earning a better return on these moves compared to what was available in the marketplace,” Petrik said.
Public Storage also has long been unique among its competitors in relying heavily on preferred shares instead of debt for capital infusions. This year, with interest rates at historic lows, it has announced the buy-back of preferred shares worth $942 million, which had dividend yields of 7.25 percent. It has reissued $863 million in preferred shares at interest rates between 6.35 percent and 6.5 percent, knocking off tens of millions in payments.
Investors clearly like what they see, because the stock is on a tear. Analysts also credit one of the strongest balance sheets in the industry, and rising occupancy and rental rates.
Shares hit a 52-week high of $124.81 earlier this month and are up 17 percent in the last 12 months – and up 150 percent since bottoming out in March 2009, easily beating rival REITS.
But there’s also a growing consensus that shares have hit a premium. Of 20 analysts listed on Bloomberg News, 13 have a “hold” rating on the stock.
Still, the stock easily outpaces competing self-storage real estate investment trusts such as Sovran Self Storage Inc., which is down slightly in the last year, and CubeSmart, with a one-year return of 7 percent.
