SFSHF - Safestore: Long Growth Runway For A Proven Operator

2023-06-06 13:26:24 ET

Summary

• Safestore, a British self-storage operator, maintains a "buy" rating despite a 10% share loss over the past year.
• The company has a solid competitive position in a growing industry with a huge growth runway and proven business model.
• Safestore's long-term outlook remains buoyant, with expansion in multiple Continental European markets and strong growth in free cash flows.

British self-storage operator Safestore ( SFSHF ) has been a weak performer in my portfolio recently. Its shares have lost 10% over the past year.

I last covered the name in September 2020, in Safestore: Sailing On Smoothly . At that time, I had a "buy" rating. Since then the shares have moved up 26% and I maintain a buy rating.

Long-term Outlook Remains Buoyant

The economics of self-storage are attractive: buy or rent a building, subdivide it then rent out units to people and businesses who have a tendency to put their items in storage then leave them there for decades. Inconvenience makes customer switching rare, giving operators pricing power.

Self-storage in the U.K. remains underdeveloped as a market compared to the United States. A useful source of data on this and other relevant aspects of the industry is the U.K. trade body's annual report . As Safestore relates based on that report and others, the current self-storage provision is 0.76 sq ft per head of population in the UK, 0.24 sq ft in France, close to 10 sq ft in the U.S., and 2 sq ft in Australia.

Safestore is one of the market leaders and has built a strong brand, although Safestore brand awareness is around one-fifth that of rival Big Yellow (BYLOF). The company has consistently grown its let footage and revenue.

Safestore Business Performance is Solid

Business continues to tick over pleasingly at Safestore.

The most recent business update was the first quarter trading update in February.

Basically, the company is moving forward positively on most metrics, with the exception of its occupancy rates. Lower occupancy is a risk to profits as it allows the fixed cost base to be spread less broadly, but for now, I am not concerned by what I see as blips. As the company aggressively increases the size of its estate (maximum lettable area grew 11% year-on-year) it can take time for customer demand to catch up. With enough capacity growth, though, that need not be a big short-term drag on profitability, while also setting the business up longer term for significant growth.

Over the past three years, compound annual growth has been 11.9% for revenue, 51.9% for post-tax profit, and 19.4% for the dividend per share.

Although I am upbeat about current performance and the outlook, that earnings number is not a helpful tool in my view. After all, post-tax earnings last year were more than double revenues. Free cash flow may be a more useful metric. Over the three-year period, it grew from £61.2m to £101.4m, a CAGR of 18.3%.

This is a straightforward business with a plain, easy-to-understand and proven business model. I, therefore, expect that, in the years to come, it will continue to perform strongly. While the core of the business remains centered on the U.K. market, it is expanding in multiple Continental European markets. Specifically, it currently has 182 stores: 130 wholly-owned stores in the UK, 29 wholly-owned stores in France, 7 stores in Spain, 10 stores in the Netherlands, and 6 stores in Belgium. It also operates 7 stores in Germany in a JV with Carlyle (CG).

Risks

Expanding into Europe, a less developed storage market even than the U.K., could dilute profit margins.

Rising interest rates could also add costs for the company given its debt load.

The long-term risk that most bothers me is the low barriers to entry in self-storage. Safestore's brand can help somewhat in this regard, but small-scale local operators could try to break into the market and hurt pricing power for national chains like Safestore.

Valuing Safestore

The current London share price of around £9.87 is a premium to last year's reported EPRA Basic NTA per share, as reconciled to IFRS net assets per share (£9.08) and the IFRS reported diluted NAV per share (£8.20). Given the company's strong brand, installed customer base, and proven operational ability, I think that is justifiable.

Safestore shares are down 13% over the past year and around 30% since the end of 2021.

That puts them on a P/E ratio of under 5, which looks cheap, although as I said above, the property nature of the business means that I do not think accounting earnings provide a helpful way to value the business.

The company is trading at roughly 20 times free cash flow. With free cash flow likely to continue growing, the prospective multiple is in the mid to high teens. I regard that as good but not outstanding value.

Meanwhile, the dividend yield is 3%. The dividend has been growing at a strong clip (over the past nine years it has slightly more than quintupled) and I expect that to continue. The dividend was covered 1.8 times last year by free cash flow. Therefore, given strong growth in free cash flows, I expect that the dividend can continue to grow annually in double-digit percentages while remaining comfortably covered.

The company ended its most recent financial year with net debt of around £700m. I see rising interest rates as a threat to profits and think they could also put the brake on expansion to some extent compared to the past few years.

But while I think the valuation is just so, I like the business well enough to continue rating it as a "buy" (my last piece on the name back in September 2020, Safestore: Sailing On Smoothly) also rated it as a buy. The total return since then, according to SA data, has been 25%. It has a solid competitive position in a growing industry with a huge growth runway and a proven business model. I continue to hold my shares in the expectation of long-term price appreciation, as I believe the business performance will continue to shine.

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