NSA - Unpacking National Storage Affiliates: Internal Challenges And The Road Ahead

2023-08-08 21:33:08 ET

Summary

• National Storage Affiliates Trust has historically been a strong player in the self-storage industry, but recent market shifts and internal challenges raise concerns about its future trajectory.
• NSA's weakening of guidance shows that this stock is likely overpriced. Especially when considered against treasuries.
• The company's financial performance has shown a decrease in net income and core funds from operations, and its revised guidance indicates potential hurdles and challenges in the coming year.

National Storage Affiliates Trust ( NSA ) has long been recognized as a formidable force in the self-storage sector, capitalizing on its distinctive PROS framework and a bold acquisition-driven approach. However, the landscape is changing. Recent market shifts and internal hiccups are raising questions about NSA's future trajectory. Although the company's historical growth and dedication to its shareholders cannot be overlooked, emerging concerns cannot be ignored. With NSA's dividend yield only slightly surpassing the 2-year treasury rates, amidst a challenging operational and fiscal backdrop, our initial assessment leans towards a "sell" recommendation.

Growth Strategy and Acquisitions

National Storage Affiliates Trust, is a real estate investment trust specializing in the ownership, operation, and acquisition of self-storage facilities. As a self-administered and self-managed REIT, NSA has carved out a significant niche for itself within the self-storage industry, managing over 1,100 properties across 42 states and Puerto Rico.

At the core of NSA's growth strategy is its Participating Regional Operators (PROs) structure. This unique organizational model encourages private self-storage operators to join NSA, benefiting from shared operating expenses and the advantages of scale. By integrating these best-in-class regional operators, who own self-storage properties in markets with strong fundamentals, NSA enhances its portfolio growth across the top 100 Metropolitan Statistical Areas (MSAs) in the United States.

This strategic focus not only allows NSA to expand its geographical footprint, but it also ensures a diverse portfolio with assets spread across different market conditions, reducing the risks associated with any single market downturn.

Strategic Acquisitions

NSA’s growth has also been significantly fueled by its aggressive acquisition strategy. The company has shown a strong appetite for enhancing its portfolio through acquisitions and joint ventures. In 2021 alone, NSA recorded a prime acquisition volume of $2.2 billion, pointing to a concerted effort to grow through strategic purchases.

In the first quarter of 2023 , NSA acquired 16 wholly-owned self-storage properties for approximately $160.5 million. Notably, 15 of these properties were acquired in a portfolio from affiliates of Personal Mini, one of the Company's PROs, for approximately $144.8 million. This move not only expands NSA's property portfolio but also strengthens its relationship with its network of PROs.

The consideration for these acquisitions included the issuance of $150.5 million of equity, with a new class of preferred shares representing the majority of equity issued. This strategy of using equity issuance for acquisitions helps NSA maintain a healthy balance sheet while continuing its aggressive growth strategy but can be dilutive to equity holders.

In the second quarter this appetite of aggressive acquisition seems to have slowed dramatically with only two “annexes” to existing properties for $13.8 Million. This slowdown in acquisitions shows a dramatic change in strategy.

A Balanced Approach

The approach that National Storage Affiliates has taken towards growth, which combines the integration of Participating Regional Operators and strategic acquisitions, may seem balanced at first glance. However, upon closer examination, several potential challenges emerge that could impact the success of this strategy.

The process of incorporating regional operators and their properties into NSA's network may not be as seamless as expected. Differing operational standards, management styles, and corporate cultures between the existing organization and new acquisitions can present significant integration challenges. These could potentially affect the performance of the newly acquired properties, obstructing NSA's intended growth and leading to increased management costs.

NSA's decision to maintain a decentralized model does indeed allow it to benefit from local market knowledge and expertise. However, it also opens the possibility of inconsistent service quality and customer experience across different regions, which could negatively affect the company's overall brand image.

Additionally, NSA's growth is heavily reliant on acquisitions, a strategy that comes with its own set of risks. The availability of suitable acquisition targets is not constant and can be affected by various unpredictable factors such as market conditions, competition from other businesses, and regulatory changes. Furthermore, the company must ensure that it does not overpay for acquisitions, as this could negatively impact its return on investment.

Financing for acquisitions often involves significant capital outlay, and debt is commonly used. With interest rates rising, the cost of financing for future acquisitions could increase, affecting NSA's profitability and financial health.

Lastly, it's important to remember that the self-storage industry, like any other, is subject to economic cycles. A downturn in the economy could lead to decreased demand for self-storage units, thus impacting NSA's revenue growth.

Financial Performance and Challenges

NSA reported a net income of $40.4 million for the first quarter of 2023, a decrease of 9.8% YoY. This was followed up with a 6.1% YoY decrease in the second quarter to $45.5 Million from $48.4 Million. This decrease is noteworthy and could be a potential cause for concern among investors.

The company's core funds from operations (Core FFO), stood at $88.2 million or $0.68 per share. This represents a decrease of 4.2% per share compared to the second quarter of 2022, primarily driven by increased interest expenses due to higher interest rates. However, there was a silver lining: NSA reported an increase in same store Net Operating Income ((NOI)) of 3.4% for the second quarter of 2023 compared to the same period in 2022. One of the critical aspects of NSA's second quarter performance was the decrease in same store period-end occupancy from the previous year, a decline of 450 basis points. This drop indicates increased competition or a decrease in demand for NSA's services, which could be a critical factor for the company's revenue growth moving forward. This downward trend in occupancy rates in two consecutive quarters undermines the positive impacts of the increased same-store NOI.

So far this drop in occupancy has been slightly offset by higher revenues and higher margins but a continued drop in occupancy and increasing is something that will continue to eat into the Net Income.

Balance Sheet

As of their latest earnings NSA has a total of $3.6 Billion in debt financing. This is an increase compared to the $3.5 Billion of debt reported at the end of June 2022. The increase in total debt is consistent with the reported increase in the company's borrowing capacity under its credit facility and the issuance of senior unsecured notes.

The balance sheet also shows that the company has $44 Million in cash and cash equivalents, an increase from $35,312,000 at the end of 2022. This indicates that the company has a decent liquidity position, which can be useful for meeting short-term obligations or unforeseen expenses but also was achieved through the issuing of senior notes and senior equity.

Finally, the company issued new Series B Preferred Shares during the first quarter of 2023, totaling $115,212,000. These preferred shares have a fixed dividend and are often considered a form of debt because they obligate the company to make regular payments to shareholders, similar to interest payments on a loan. However, unlike interest payments on debt, preferred dividends can often be deferred in times of financial stress without causing a default.

Guidance

During the quarter NSA’s board declared a dividend of $0.56 which is double what the net income of $0.28 per share for the quarter. That coupled with the change in guidance calls in to question the true strength of their dividend payout. National Storage Affiliates have updated their 2023 guidance, presenting an array of indicators that suggest potential hurdles and challenges in the coming year and beyond.

The company's expectations regarding revenue and NOI growth further underscore this cautious outlook. The newly adjusted total revenue growth is forecasted to be between 1.50% and 2.75%, a significant pullback from the prior range of 3.75% to 5.25% and a dramatic change to the 12.1% growth NSA reported in 2022.

Similarly, the outlook for NOI growth has been recalibrated downwards. The updated guidance of 0.25% to 1.75% growth is a massive decline from the previously anticipated 3.00% to 5.50% and lags considerably behind the 14.9% growth achieved in 2022. This shows a dramatic weakening in the core business.

On the acquisitions front, NSA seems to be adopting a more conservative stance. The company's revised target for property acquisitions for 2023 stands at $200.0 million to $300.0 million, trimming the upper boundary from the earlier estimate of $400.0 million. This could indicate a strategic decision to focus on consolidating existing assets or a response to a less favorable acquisitions environment. This also shows that they will struggle to grow their revenue through acquisitions which has been a key driver of their revenue growth and NOI.

The overarching sentiment from the updated guidance is one of caution, as evidenced by the revised earnings per share forecast. The new range is set between $1.12 and $1.16, down from the previous estimate of $1.25 to $1.31. This adjustment is a reflection of anticipated challenges in profitability or other market factors.

Valuation

The revised earnings guidance for 2023, projecting a range of $1.12 to $1.16 per share complicates the valuation landscape. Once the preferred shares have claimed their portion, the residual profit available for common equity shareholders appears slim. This presents a precarious scenario, especially when considering the sustainability of future dividends. With such thinning earnings, the foundational support for consistent dividend payouts becomes questionable.

Yet, NSA's decision to announce a $0.56 dividend in the recent quarter stands out. While this move might be seen as a testament to NSA's commitment to its shareholders, it does raise eyebrows given the cautious guidance outlook for the remainder of the year. The sustainability of such dividends could be at risk if the company's performance doesn't rally in subsequent quarters.

Given the current trading dynamics and NSA's revised guidance, a valuation analysis is crucial to understand the potential investment implications. NSA's stock currently trades at $33, carrying a dividend yield of 6.8% which is a 2% spread against the current 2-year treasuries trading at a yield of 4.75%. This narrow spread is something to keep in mind while management is lowering guidance across the board and raises questions considering the risk-reward of owning NSA.

Conclusion

National Storage Affiliates Trust has positioned itself as a significant player in the self-storage industry, leveraging its unique PROS structure and an aggressive acquisition strategy. However, recent shifts in market dynamics, combined with internal challenges, have begun to cast a shadow over its future prospects. While NSA's past growth and commitment to shareholders are evident, there are undeniable concerns on the horizon. The company's receding guidance, coupled with a decline in key performance metrics, underscores potential vulnerabilities in its growth model. While the dividend announcement might initially seem like a reassuring gesture, it contrasts starkly with the cautious outlook presented in the revised guidance. With the stock's yield barely outpacing 2-year treasuries and a backdrop of operational and financial challenges, our analysis leads us to a "sell" rating on NSA. Investors should weigh the current risks against potential rewards and exercise caution in their investment decisions concerning NSA.

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