Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Clint Halverson - Senior Director, Corporate Communication & Investor Relations

Spencer Kirk - Chairman and CEO

Kent Christensen - CFO

Karl Haas - COO

Analysts

Christy McElroy - UBS

Mark Metendan - Citi

Todd Thompson - KeyBank Capital Markets

David Toti - FBR

Smedes Rose - KBW

Michael Knott - Green Street Advisors

Michael Salinsky - RBC Capital Markets

Todd Stender - Wells Fargo

Paul Adornato - BMO Capital Markets

Mike Bilerman - Citi

Ross Nussbaum - UBS

Extra Space Storage, Inc. (EXR) Q3 2010 Earnings Call October 29, 2010 1:00 PM ET

Operator

Greetings and welcome to the Extra Space Storage Third Quarter 2010 Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Clint Halverson. Thank you Mr. Halverson, you may begin.

Clint Halverson

Thank you, Tanya. Welcome to Extra Space Storage’s third quarter 2010 conference call. In addition to our press release we’ve also furnished unaudited supplemental financial information on our website. Please remember that managements’ prepared remarks and answers to your questions contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements address matters which are subject to risks and uncertainties that may cause actual results to differ from those discussed today.

Examples of forward-looking statements include those related to Extra Space Storage’s development and acquisition program, revenues and operating income, including FFO and guidance. We encourage all of our listeners to review a more detailed discussion related to these forward-looking statements contained in the Company’s filings with the SEC. Forward-looking statements represent management’s estimates as of today, Friday October 29, 2010.

Extra Space Storage assumes no obligation to update these forward-looking statements in the future because of changing market conditions or other circumstances. I would now like to turn the call over to Spencer Kirk, Chairman and Chief Executive Officer.

Spencer Kirk

Welcome, thank you for joining us today. With me are Kent Christensen, our Chief Financial Officer and Karl Haas, our Chief Operating Officer.

We are pleased to announce another strong quarter. We exceeded the top end of our quarterly FFO guidance by $0.01. We experienced strong internal growth at 3.9% same store revenue gain, at 3.1% same store expense decline resulting in a 7.8% same store NOI growth. We had a productive quarter with respect to our external growth strategy. The early signs of improvement on the acquisitions front that we spoke out on our second quarter call has turned out to be.

We purchased three property sourced from our third party management platform in the quarter and we have purchased three additional properties since the end of the quarter. Our marketing efforts from the third party management program have provided meaningful acceleration.

We added another 21 properties to the platform during the third quarter and one more since the end of the quarter. We opened another state-of-the-art development in Florida and we anticipate completing an additional two to four sites by year end. We will complete the remainder of our development pipeline in 2011.

We continue to make improvements to our balance sheet. Since the apex of the credit crisis, our total debt is down 21%. This has increased our financial flexibility. With just two months remaining in 2010, I believe that it is important to assess what we have accomplished year-to-date.

We have driven internal growth and our pricing has stabilized. We’ve incrementally improved various programs to enhance our operational efficiencies and reduce our cost structure. We have created an infrastructure that has multiple levers to generate earnings growth and we are proud of what we have accomplished. However, we are not satisfied and we will continue to use every effort to optimize our results. I’d now like to turn the time over to Karl.

Karl Haas

Thanks Spencer. During the quarter we achieved same store net operating income growth around 7.8% driven by both top line growth and by improving operating efficiencies. Occupancy ended the quarter at 180 basis points compared to last year, 180 basis points above to prior year. With improved occupancy and similar pricing compared to the prior year, combined with decreases in bad debt and discount, we achieved 3.9% same store revenue growth this quarter. While the market is still challenging, we are seeing rentals and vacate comparable to prior years.

We’ve experienced some softness in the pricing to new customers, but continued to have strong pricing power with existing customers. On the expense front, we benefited from the successful tax appeal in 2010 and improved operational efficiency. We’ve continued to aggressively manage all expense categories achieving a 2.6% reduction in controllable expenses.

An example of our operational efficiency is in our customer delinquency mailings where through our relatively simple modification we have reduced our expense almost 50%. Through focus on uses in reductions and retrofits, we are also seeing our utility expenses stay under control and expect even to have more savings as we get further into our retrofit programs.

We continue to push on all of our operational growth levers, but recognized that there are challenges that will likely make our recovery in a moderate way. We will also maximize all opportunities and expect to produce the possible results. In short we will make the most of what the market offers. With that, I would like to turn it over to Kent.

Kent Christensen

Thanks. Last night we reported FFO per share of $0.24 including $0.03 of development dilution and a $0.02 charge related to the write off of a long term office lease with a subtenant that we assumed in the acquisition of Storage USA in 2005.

The impact of these better than expected results along with the sequential improvements in our business has led us to increase our FFO guidance for 2010 to a range of $0.88 to $0.89. This guidance includes the development dilution and the one time office lease charge realized this quarter.

The condition of our balance sheet continues to improve and recently we have seen more attractive debt pricing. This quarter we made progress by extending the maturity of our $50 million line of credits of 2013 and eliminating the floor on our Wells Fargo revolving line of credit. Overall, our leverage year-over-year has improved. Our net debt to EBITDA is 6.8 versus 7.8 a year ago and our total debt is down to 1.1 billion from 1.4 billion this time last year.

We believe we have a solid foundation for continuing our growth. We continue to grow our third party management business having increased to a total of 157 properties under management. All properties currently under management are branded as Extra Space. This enables us to take full advantage of our national footprint and increase our brand awareness. Our third party management platform continue to demonstrate its value as a way for us to lever our operating platform and provide an acquisition pipeline.

During the quarter we closed on three acquisitions totaling 5.4 million outsourced from our third party management platform. In subsequent to the end of the quarter, we closed on an additional three properties for a total of 21.2 million. One of those was from our third party management business. In addition to closing these six acquisitions, we have five additional properties under contract that we expect to close by the end of the year.

For the year we estimate that we will purchase 15 properties for approximately 65 million, of which seven have come through our third party management business. With that I will turn the call back to Spencer.

Spencer Kirk

Thank Kent. We have had a strong rebound in our operations. As I have said, it is possible that this rate of growth may not be sustainable. We see our economic recovery as a gradual, moderately positive slope.

Successfully navigating through the economic cycle over the last few years, I think speaks well to this stability of self-storage. We are pleased with the strong results over the past quarter and I give full credit to our team. We continue to use our advanced technology, sophisticated revenue, the revenue management tools and our personal selling skills at the site to capture and maximize the value of every sale.

In addition to a strong focus on the top line, every one at Extra Space is focused on minimizing every expense. Extra Space has demonstrated resilience in the downturn and we have laid the foundation for continued growth.

The acquisitions environment is improving and we are making progress on our third party management business. Going forward, development dilution will diminish and we will being to see a positive impact on FFO. Embedded gains from our development properties are forecasted to be $0.25 over the next three to four years.

We do look forward to the opportunities that lie ahead and with that said, let’s take some questions.

Question-and-Answer Session

Operator

We will now conduct a question- and -answer session. (Operator instructions) Our first question comes from Christy McElroy with UBS. Please proceed with your question.

Christy McElroy - UBS

Hey, good afternoon everyone. With occupancy gains having been the biggest driver of your revenue growth in the last two quarters or so, and with occupancy closer to more normalized levels at this time, what drives revenue growth from here? Do you still need to drive moving higher as all that pushing around and how do you do that in this economic environment?

Karl Haas

This is Karl, Christy. The other driver all along has been our existing customer rate increases which we have continued through thick and thin. That certainly has helped to contribute. We will, I mean, what we are hoping for and why we are little bit cautious right now is that we will be able to see the existing or the street rates move in the right direction and it’s challenging.

We’re trying to hold occupancy and as a result we’re being very aggressive on street rates. We’re not seeing a lot of growth from the prior year. So, but we also have seen a decrease in discounting because as we’ve gotten higher occupancy, the way our system works is, certain unit types will lose, kind of fall off the full month discount, some will go to no discount, some will go to half month discount. We’re hoping with the higher occupancy we’ll be able to make some gains as a result of lower discounting and also that we’ll see some firming up of street rates.

Christy McElroy - UBS

When does all that starts to flow through to the net rent per occupied square foot number because you are still sort of running flat year-over-year?

Karl Haas

When we see more of the stabilization of the street rates and enable to push more. I mean the good news is there is no new competition coming on and we are seeing rentals are holding pretty close to prior years. Now what we are hoping is that we can see rentals start to grow over prior years.

Christy McElroy - UBS

Okay, and then I’m along with Ross Nussbaum, I think he has a couple of questions.

Ross Nussbaum - UBS

Yeah, hi guys. Can you just quantify where are your street rates today versus expiring?

Karl Haas

Well, I’m not sure I have like where it is to expire. Well, we have more where they are compared to the average existing customer and relatively comparable, where they are to last year is also relatively comparable.

Ross Nussbaum - UBS

Okay, so you are saying this is basically flat.

Karl Haas

Yes.

Ross Nussbaum - UBS

Okay, and then on renewal, what’s the percentage increase and how often you’re pushing those through?

Karl Haas

We’re pushing them through at about the same level as we have in the past about once every nine months and they are in the range of about 6%.

Ross Nussbaum - UBS

Okay, and then on the acquisitions that you’ve done, can you just walk through pricing, how are you approaching it, what are the going in yields in terms of the ones where you’ve got reasonably full occupancy and what are you underwriting to on the ones where there’s some lease up?

Kent Christensen

Well, this Kent, for the stabilized, for properties that are stabilized we’re pricing them between 7.5 and 8.5 cap and properties that are leasing up we’re hoping to achieve that same kind of cap rate within 12 months when we have acquired the properties.

Ross Nussbaum - UBS

So, you’re not seeking a higher yield on those to compensate for the leasing risk.

Kent Christensen

No, they would be on the higher end of that 7.5 to 8.5 range

Operator

Our next question comes from Mike Bilerman with Citi. Please proceed with your question.

Mark Metendan - Citi

Hi, this is Mark Metendan, here is Michael. Just a question on the trends you are seeing in the size of the units that are being leased, looking at the move in, move out trends, you wouldn’t predict that the occupancy gains would be to the level that you’re able to achieve this quarter. I’m wondering if you are seeing something in the size of the units that’s driving some of that.

Karl Haas

This is Karl, nothing really dramatic. If there is anything it’s a little bit in the direction of smaller units that we’re seeing little bit higher trend, but nothing really that you would say is significantly impacting the overall.

Mark Metendan - Citi

On assets that you acquired in the quarter and those post quarter, can you give any metrics around going into yield what up there, of any, some of the thesis behind how these were purchased?

Kent Christensen

The, probably once again that just the previous caller asked the similar question, but 7.5 to 8.5 cap rate and those, most of those properties, I’d say 70% of them are stabilized properties and some of the properties are in lease up. On the lease up ones we are expecting to get on the higher end of that range of 7.5 to 8.5

Mark Metendan - Citi

Lastly on the redevelopment, on the development delivery, typically leasing up over 36 months or so, just wanted to understand a little better what the piece of stabilization is that you are seeing today based on real time, lease up trend?

Kent Christensen

We have about 25 properties that are currently leasing up and looking at the numbers based on the pace of lease up, about one half of them are a little behind what we thought and one half of them are a little ahead of what we thought. Overall, and then we have some on the outliers. We have some that are going really slow and then some that are really going really fast.

The overall average of all of those properties is right on budget for what we had expected. That being said, our rental rates are somewhere between 10% and 15% below what we had expected them to be when we did the under writing. We said that earlier this year and it has been about the same. We have not had to drop our rates anymore this year to continue the lease up pace that we are seeing.

Operator

Our next question comes from Todd Thompson with KeyBank Capital Markets. Please receive this question.

Todd Thompson - KeyBank Capital Markets

Hi, good afternoon. I’m on with Jordan Sadler as well. I just had a quick question back to acquisitions, last quarter you mentioned that there was a small portfolio that was being marketed about 25 properties or so, is that still floating around or are you generally, are you still seeing that? Just additionally, are you generally encouraged by what you are seeing in the market today?

Kent Christensen

The portfolio has been in the process of closing on that 26 property portfolio. We discuss on it and what we can tell you is that there were, what we have been told there were numerous bids and we were not successful in any of the properties that we bid on, but they have not announced yet who the bidder was and what the pricing and all of that is.

I do not know that yet. All I can tell you is it in the five properties that we’re acquiring between now and the end of the year; it’s not any of those. I am sorry, Todd, which is the question I already, forgot.

Todd Thompson - KeyBank Capital Markets

Just if you are generally encouraged by the acquisitions opportunities that you are seeing in the market.

Kent Christensen

Yeah, absolutely we are encouraged, there is a lot more activity, but at the same time there are a lot more people that are out there wanting to buy properties and so the competition is increasing. More properties for sale but more competition of people who have cash that are wanting to buy.

Todd Thompson - KeyBank Capital Markets

Okay, and then just taking a look at the guidance update and some of the revisions, it looks like your forecast for tenant reinsurance income increased by modest amount and then taxes associated with the TRS declined a bit. I guess this is sort of the opposite of what I would have expected to seek news comment on what might be driving those changes?

Kent Christensen

It is just, as we go throughout the calendar year working with our auditors and our accountants on the tax provisions and the other aspects that is going on inside the company, there are other things that drive the taxability and the TRS and there are ways that we’re trying to find ways of trying to reduce the tax liability that we had.

In this quarter we were able to come up with a couple of things and make an arguments to our auditors that should bring our tax down a little bit which offset the increase from the tenant insurance.

Todd Thompson - KeyBank Capital Markets

Okay, and then just lastly, with today being the last day of the month, so I was just wondering if you could give any comments on where October occupancy is or how performance trended subsequently end of the quarter?

Spencer Kirk

This is Spencer. We still got a really nice day ahead of us tomorrow but I would characterize October as being well within the normal balance both on rentals, (inaudible) and the occupancy that follow perfectly inline with the season we are in.

Operator

Our next question comes from David Toti with FBR. Please proceed with our question.

David Toti - FBR

Couple of questions, did you run any market tests in the last couple of months relative to and I ask you this every quarter, but I know you guys were pretty active in trying out different strategies around concession types and pushing rents sort of disproportionately relative to the portfolio?

Karl Haas

This is Karl. We just had numerous tests ongoing. One right now we are working on is looking at. We are trying to vary the discount to see if we can sell units with less of a discount and its still in process and kind of early in the test.

David Toti - FBR

Just moving on to acquisitions, it seems you've shifted your focus from acquiring from the joint ventures to acquiring from the third party pipeline. Is the portfolio still available as well and any update around that possibility?

Spencer Kirk

Yes David, it's Spencer. Once again there has been no shift on the part of Extra Space in terms of our philosophy with JV opportunities. If and when they appear we are very eager to pursue them. With the third party management business what we are trying to do is just simply say this is way to grow our footprint and also create a quasi proprietary acquisition pipeline.

David Toti - FBR

Relative to the third party acquisition is there an increased opportunity to use OP currency there? Are you having discussion along those lines with some of the sellers?

Kent Christensen

This is Kent. Yes, in the discussion we have with the people that we are acquiring their properties, generally we have a discussion with them about OP units and then it comes down from what their tax situation is and whether or not they want to hold our stock. So, today we have yet to close any of those transactions with OP units but in every instance we have a discussion with them about that.

David Toti - FBR

If you could just update us on some recent discussions, obviously, you've made some progress from changing the terms of your revolver. What is the lender term that you are hearing relative to the banks, especially with regard to development?

Spencer Kirk

Still very difficult to give construction loans today. It's getting slightly better, but slightly better from zero, it's not much.

Operator

Our next question comes from Smedes Rose with KBW. Please proceed with the question.

Smedes Rose - KBW

I just wanted to make sure understand your guidance correctly to the second quarter you would point it to 82 to 85 for the year, you are increasing it to 88 to 89, but that does include the $0.02 impact, right, so it would be $0.90 to $0.91 adding that back?

Karl Haas

That’s right. The current guidance includes the charge we have this quarter.

Smedes Rose - KBW

Your previous guidance did not?

Karl Haas

That is correct.

Smedes Rose - KBW

On a operating basis adjusting it's kind of really like a $0.06 to $0.07 increase from your previous guidance?

Karl Haas

That is correct.

Smedes Rose - KBW

You'd be in the third quarter relative to your guidance and it seems like the fourth quarter would need to come up now. I am trying to sort of back set that again some of you opening remarks that sounded a little bit more sobering than I would have expected in terms of trends and the pace of recovery.

It really more sort of just a lower interest expense that you are looking for that is really going to driving that upside? Do you sort of feel like the costs have to go up on the fourth quarter or what? Can you just tell me kind of understand a little more about what you are saying?

Spencer Kirk

Smedes, this is Spencer. The question is one of sustainability. I'd characterized at this rate, our revenue growth has been very good and we've benefited from operational revenue management, marketing systems that have allowed us to maximize the rentals in the rate which we make those rentals. We have gone up against pretty easy comps from 2009 and going forward, these comps are going to a lot harder as the economy improves. Our NOI growth this quarter is really due to some lower expenses.

I don’t think its realistic to expect to have negative expense growth going forward and I would say we are returning to normal fee. I just want to stress that. That’s why the comments are what they are. We see a moderately positive slope of recovery and along that slope you’ll have some ebbs and flows. With that I think that we’ve got right trajectory and we’re pleased with the results of the quarter.

Smedes Rose - KBW

What is the penetration now for the tenant reinsurance system wide?

Kent Christensen

We’re very, very closed to 60%.

Spencer Kirk

We’ve gotten there yet.

Operator

Our next question comes from Michael Knott with Green Street Advisors. Please proceed with your question.

Michael Knott - Green Street Advisors

Spencer or Karl, just curious what you think sort of a normalized annual average occupancy is for you guys in kind of environment may be looking out over the next couple of years and may be contract that with where it was in the peak?

Spencer Kirk

This is Spencer, Michael. Optimally, what we’re trying to achieve is maximization of revenue, and driving on 33 years of experience growing back to the founding of this company with Ken Woolley and the more recently, systematically testing various theories statistically, we think that the occupancy is mid to high 80s and compared to prior more normal periods that’s kind of where we philosophically have run the business and that’s where we want to run the business until we get something that indicates that we ought to be doing something differently.

Now, I would temper that. That’s in the macro. In the micro, there are various markets where you might want to have different occupancy targets depending on the dynamics in that region. Holistically, mid to high 80s is philosophically where steering things.

Michael Knott - Green Street Advisors

You’re getting there, but you think there should be room for further growth as your moderate recovery, as you termed it, continues unfold?

Spencer Kirk

That's correct.

Michael Knott - Green Street Advisors

Can you just remind us about the economics of adding an extra stores to the management program; I know you’ve added quite a few this year? Can you just talk about may be initial cost and then sort of incremental cost and how it adds to the management franchise fees and sort of your thinking on how big that your appetite is to continue to grow this part of your business?

Spencer Kirk

The later part, Mike, our appetite is significant. We think this the very healthy way to grow our business, not only the footprint, but also as I talked about earlier to create an acquisition pipeline. The incremental costs, when we rebrand property obviously there is a little upfront cost there, 15 to 20, may be $25,000 put a new computer and our systems inside the store and the few other things.

As you look at the efficiency, there are easily quantified things and then there are those that are not so easily quantified. We do believe that it’s $0.01 to $0.02 per 50 properties that we can just stay this is the gain.

There are other gains that are little more qualitative. For instance, with a large denominator over which we can spread our expenses for our internet marketing campaigns or our national account campaign or several of the other things that we’re doing, I have to stay on the balance we think that this is an accretive business.

It increases our footprint. It builds the brand and at the end of the day it gives the growth opportunity because we’re finding out that we believe the past year is may be a pretty good indicator of may be what we can expect.

That is that a significant portion of our acquisitions can came from our JV and third-party managed business and we think these relationships are important today and we think that are going to be just as an important going down the street looking into the future.

Michael Knott - Green Street Advisors

Is the opportunity there met your significant appetite?

Spencer Kirk

Today, I’d say no, we’d like to be doing more. The things are stabilizing and returning to normalcy I'd say the trend very much is starting to marry up with the appetite.

Michael Knott - Green Street Advisors

Can you remind us of your target that EBITDA leverage ratio in terms of how you think about the business? Also your philosophy on the mix of fixed and floating debt?

Spencer Kirk

I'll let the fixed and floating question kick over to Kent. Let me take the current EBITDA question or debt to gross asset value or any of these other things. We’ve had tremendous improvement in our balance sheet that debt to EBITDA is gone from 7.8 to 6.8. The question is where should that threshold will be, and there are lot of economic and financial factors that will determined that.

It depends and what we do in the capital market, it depends on the lot of other things. I would say once again the trajectory is one of improvement. We think that leverage that we have today on our business is a good thing and is a great thing for our shareholders. With that, I'll let Kent talk to the fixed versus variable.

Kent Christensen

A lot of variable rate debt today is loans that are coming due in the next 12 to 36 months. Based on where we believe the interest rates are going in the short-term probably bad debt variable rate loans that were putting in place today are going to be longer term loans will be fixed in those loans for longer periods of time at fixed interest rate. We’re not wanting to put current variable rates loans that are expiring in the near-term we won't be swapping those out.

Michael Knott - Green Street Advisors

The proposition won’t be reducing in terms of floating rate?

Kent Christensen

That will be reducing and over time we will reduce and that we will be replacing longer term loans that will be paying off the shorter term loans that are coming due.

Operator

Our next question comes from Michael Salinsky with RBC Capital. Please proceed with your question.

Michael Salinsky - RBC Capital Markets

First question on the purchase as you mentioned the 500 contract, where are those located?

Kent Christensen

The five that we’re going to purchase?

Michael Salinsky - RBC Capital Markets

Yes.

Kent Christensen

Texas, Salt Lake and New York.

Michael Salinsky - RBC Capital Markets

Second of all, question for Karl. Have you noticed any discernable trends between may be commercial versus residential? As we think as we’ve made to the summer here are you’re seeing any differences between the two?

Karl Haas

No, we really haven’t.

Michael Salinsky - RBC Capital Markets

Third, in terms of tenant reinsurance, it's been a big area of success over the past couple of years here. Just wondering how much upside what in that if you exclude out the three plus management program there?

Karl Haas

Yeah, we think we’re very pretty much reaching our peak. We might have some opportunities as we go forward to treat the program a little bit and find ways to squeeze a lit bit more out of it. The penetration level, there is a certain percentage of the customers you can never get. There are going to be some caps, we’re still looking at opportunities.

We have some new stores that we take over. We have some exceptions to have considerably above the 60%, but it's on the macro, it’s really been a struggle to get this last from 55 to 60. It’s been a painful year. Our goal for the year was 60 and we’re at like 59.8 right, we've been doing like just baby steps getting up and it’s not a result of this not for a lack of pushing it hard.

Michael Salinsky - RBC Capital Markets

Finally, just as you look to move into external growth over the next couple of years for the acquisition, I’m uniquely to counter with the balance sheet, I mean is that match fund and may be move to like something like an ATM, or any thoughts on asset recycling here? How do you expect to fund gross initiatives over the next call it 12-18 months?

Spencer Kirk

Michael, it’s Spencer. We’re looking at all avenues. An ATM is obviously an option. A broader larger offering is an offer. We’re looking at and exploring all things. Match funding is important to us. We’ve got 66 unencumbered assets today and when the appropriate opportunity is realized, I think you’ll find Extra Space being a, creative and b, using every resource at a disposal to get the job done. Our track record speaks well to that.

Michael Salinsky - RBC Capital Markets

Are you seeing enough volumes right now as to where that would be looking at in the near term or is it something kind of longer term out there? You usually have enough capacity now.

Spencer Kirk

The word for me is intermediate, Mike. It's not going to happen tomorrow and it's not a year away, it's intermediate thing for us.

Operator

Our next question comes from Todd Stender with Wells Fargo. Please proceed with your question.

Todd Stender - Wells Fargo

On the acquisitions that you made in the third quarter and then also the stuff such as fourth quarter so far have you assumed any debt on those properties?

Kent Christensen

Two of the properties we acquired have loan but we are assuming, all the rest of them we'll just be using cash to pay.

Todd Stender - Wells Fargo

The expectations for interest expense have come down about $0.03 to $0.04 a share. What’s driving that? What has changed there?

Kent Christensen

At the beginning of the year we had expected that we would be sitting on a lot of cash and that was the proper thing to do. As we have gone through the year, we have determined that loans are available through us and we don’t need to sit on the cash so we have taken that cash and paid down debt. That has brought our interest rate down. We are able to pay a number of loans of early which is why the interest costs are down.

Second, as a part of our debt we have some preferred stock which are trust preferred. They are a preferred stock because they become due in 30 years from the date that we entered into those agreements we are required to report them as debt. When we did the transactions five years ago we locked the interest rate on those trust preferred securities.

Some of the locks have expired and we are allowed to allow them to shift from fixed rate to variable rate. The interest rate before was about 6% and its brought to LIBOR plus 240. We are in that well below 3%. So, we are getting a pretty good pick up on those trust preferred securities today. It's a combination of those brought our interest costs down.

Todd Stender - Wells Fargo

What course of action you think you will take for the $22 million debt that comes in December?

Kent Christensen

We will just be paying that loan off.

Todd Stender - Wells Fargo

Just switching gears, the 21 properties that you put into you third party management program in the third quarter pretty consistent with the second quarter, in general, is there any seasonality with that business?

Kent Christensen

That is only about a year and a half that does really started into this, we have no idea whether seasonality or not because it just continues to grow and grow. Today we don’t the answer to your question, may be after we have been doing this for five years we can you give you some more history on that.

Every month that goes by we get more and more people interested in what we are doing and the program does seem to be growing and accelerating. Part of it is because of how well Extra Space is performing. It becomes very difficult for the local operators the smaller operators to look at what they are doing and what we are doing and compete with us. That is driving a number of these people to look at what we are doing.

Operator

Our next question comes from [Lin Xia] with Robert W. Baird. Please proceed with your question.

Unidentified Analyst

Spencer, can you elaborate a little bit more on that returned in normalcy? What do you think is kind of a sustainable NOI growth rates because I know may be late ‘06 you guys hit around 10%, or is that where we are headed?

Spencer Kirk

Yes, we need to look over the course of the last decade. Obviously, there are a lot of points of volatility in the world in which we live. I would say normalcy from on NOI is 3 or 4, maybe 5 if you are really doing well. To expect more than that with a largely jobless recovery and few other things is not reality. So, for the current economic condition and for the foreseeable future that’s the range I'd bracketed.

Unidentified Analyst

The next question is for Karl. Can you give a little bit more color on may be some of the specific markets where there is some weakness? It looks like Seattle this can NOI jobs for this quarter, anything in particular driving that?

Spencer Kirk

Our worst markets are Las Vegas, and this is not going to come as surprise to you. Las Vegas, Phoenix and Florida, where Florida is actually starting to bounce back and we are seeing some positive that starts to happen there. Las Vegas and Phoenix are continuing to suffer. LA is suffering, Sacramento.

They is probably the worst markets. I’d say that LA is probably the only one that we are not seeing an improvement in the negative delta.

Unidentified Analyst

Finally just on the construction financing, where you need $18 million, is that already with construction loans that you have closed or is that loan that you still need?

Kent Christensen

The $18 million that still necessary for us to finish our projects, as we are planning on using cash for that. However, we are trying to get loans on those properties that are under construction, not just fixed, but are not completed. There are others that are done that we never were able to get a loan on those.

We are still trying to get loans on all of that to be able to try to fund that $18 million with some debt. That’s why we talk about the construction loan process is still very difficult. We are getting loans here and there and ultimately we hope to have loans on all of the properties that should fund the $18 million, but in case we don’t, we have the cash we need to complete the development of these six projects.

Operator

Our next question comes from Paul Adornato with BMO Capital Markets.

Paul Adornato - BMO Capital Markets

To follow-up on the tenant reinsurance, you said that you are pretty much maxed out to about 60% penetration, but I was wondering how you priced that product, is it a flat rate or is it based on estimated value. Do you have any opportunities to upsell that item?

Karl Haas

Yes, that was probably a little bit, maybe not giving enough of the upside that is there. It is fixed, based on we charge the same amount across the country, based on level of insurance $5000, $7500, $10,000 and there is some opportunity to upsell. There are also as we grow when we bring new properties into the system, they typically are very, very low insurance penetration.

We have some upsize on these linked acquisition, typically they come in with almost no tenant insurance penetration. That also provides some upside. There might be some opportunities to push that 60% a little bit above 60%, but we just don’t see it growing as quickly as we have seen it grow over the last three years.

Paul Adornato - BMO Capital Markets

Okay understood. Looking at the developmental pipeline with the end of the developmental pipeline insight and return of the capital markets and operating markets to more normalized levels.

I was wondering if you would consider restarting a development pipeline given that acquisitions are relatively tough and you might be able to capture that development premium given your expertise in the space.

Spencer Kirk

Paul it’s Spencer. The settlement program was shutdown and we have viewed that as a permanent decision for a variety of reasons, and I’ll talk about that in a second. Nonetheless, not wanting to be close minded, we always by asking ourselves what if. The reason I tend to be strong in my language and say it’s permanent, is can’t just again articulate it that even with billion dollar balance sheet, it’s a very, very difficult to get development loans. We need that leverage to make these projects pencil.

The second reason is, the cycle is doing development is not something in self-storage, where we just put the switch. Most other property types you can flip the switch. If you consider to take one to two years to get entitlements your permits then it takes another year to lease up or to construct the project and then a lease up anywhere from 24 to 48 months.

This is a four, five, six-year proposition and today as we look at the market, we don’t see the fact that restarting a development project incurring the dilution and having a program that’s large enough to move the needle is compelling and we take all of these factors and I just once again want to reiterate that the decision in Extra Space because of self-storage is unique profile and protracted process to bring a property online successfully over several years, want me to again reaffirm that we have looked at it as a permanent decision.

Paul Adornato - BMO Capital Markets

I appreciate the comments. Finally, if we were to look back at the time of the IPO and obviously going back to the founding of the company, you guys had at that time a very, very infield-oriented portfolio.

I was wondering that over time you wanted to move more towards urban areas as perhaps a final frontier in terms of penetration of Storage throughout the country?

Spencer Kirk

The quickest way I can answer that question is, mentally draw a grid in your mind or quadrant and you have high income, low income and you have high density and low density. If you take those rows and columns and start to fill in those quadrants, high income-high density, great, high income-low density, great. You rounded out and you have end up with just one quadrant, but doesn’t work in that low income-low density.

What I would simply say is, we like in few locations, but primarily we want to be where people are and where the incomes are solid, so that we can justify what we are doing with 52,000 or 54,000 self-storage facilities in the United States.

I would say, at least a half of those are in markets, where we have no business, given our shareholder base. We want to be a solid operator in markets that provide meaningful growth opportunities.

Operator

Our next question comes from Mike Bilerman with Citi.

Mike Bilerman - Citi

Just a few follow-up, in terms of managed portfolio, you look at the composition now the occupancy obviously is much lower than the average rate and average rent per foot lower. I understand that a lot of these are coming into the portfolio to get enhancing operations that you are bringing, but is there a quality gap between the managed portfolio, so to the core-owned portfolio.

Karl Haas

A little bit, yes. This is Karl. In general on some cases there a lot of times the quality that you need depends on the market that you are in. Our owned portfolio is very much in the most competitive markets and the top end market, so you need to have higher quality products because you are competing entire quality products.

When you get in less, the less spent, the less higher rent per square foot markets, you can have a little bit less quality and because we are competing against lower quality. Is that answered your question.

Mike Bilerman - Citi

How much overlap is there between the management portfolio that you have now, the 157 assets relative to the stuff that you are holding on JVs in terms of market penetration or?

Spencer Kirk

It is difficult to answer. A lot of is in different market. A lot of our third-party management is brings in Atlanta, a lot of what he was taken over. In that case there are very nice properties, but it’s a really tough market. We also we turned down a good number of properties that come to us, when they don’t meet our quality standard.

Mike Bilerman - Citi

You are putting this on the Extra Space brand.

Spencer Kirk

Yes, everything we manage, we change the signage. We go in and do some minor re-imaging to make it clear that it is an Extra Space property.

Mike Bilerman - Citi

How much capital is that for the owner to put in on the conversion of the asset and so how you are maintaining brand standard.

Spencer Kirk

It’s not dramatic. We do not require them to, for instance go in and repaint the property and repaint the doors, things like that. We do more what people see from the street and people walking into the office and even in our own portfolio, there is a lot of variation in what the office look like. It’s more the sign and the posters and things like that, that we used to reestablish the brand image in these properties.

Mike Bilerman - Citi

The term of the contract is typically how long?

Spencer Kirk

Three years.

Mike Bilerman - Citi

Okay and just moving on page 18 of the supplemental, there is move-in and move-out. I’m just curious you look at the move-in activity and it’s just on the same-store for the quarter. Your move-ins were down, and the move-outs were greater.

Like your occupancy is up 200 basis points on average year-over-year, which would indicate if I’m reading this the right way, that the people moving in are taking larger space than the people, who are moving out by almost 350,000 square feet?

Karl Haas

No, that’s not, because you got to look at, its more complicated, but our delta prior year in occupancy at the end of the second quarter, what we told you was 2.2%, 2.3%, where as our delta at the end of this quarter is 1.8%. The gap to last year has actually swirled a little bit, which is the first time since last April of 2009 that has occurred.

Mike Bilerman - Citi

The change year-over-year is really a sequential change.

Karl Haas

Right, we have had slightly more vacate, slightly less rentals and so we had a little bit of a slide in the occupancy delta, still very healthy at the 1.8% and the fact that we are going again from stronger numbers as Spencer mentioned, I guess really the third and fourth quarter of last year got better and we were making good progress especially on occupancy.

Mike Bilerman - Citi

That trends in October as well, where your move-ins were lower than your move-out?

Karl Haas

No, we are actually holding pretty steady. October is looking pretty good actually per release last Sunday.

Operator

We have another follow-up from Christy McElroy with UBS.

Ross Nussbaum - UBS

Hi, it’s Ross Nussbaum here. Guys, I want to go back to, there was a comment made earlier in Q&A that and in the current economic environment a jobless or lackluster recovery you think 3 to 4 to maybe even 5% NOI growth is possible. Did I hear that correctly?

Kent Christensen

Yes, if you say, what are the ranges? Ross. It’s entirely possible. Our best guess is what we communicated; we think that somewhere in the range of 3% to 3.5% is what we believe in.

Ross Nussbaum - UBS

If I back that into same-store revenues right, with your margins that probably means you are looking at 2-ish percent revenue growth, is that about right?

Kent Christensen

Pretty close.

Ross Nussbaum - UBS

Tell me we will get to the math behind, how do you generate 2% revenue growth ultimately, if you raising rents 6% on renewals every 9-month, what percentage is your customers are staying in 9 months and are actually getting that by 6% rent increase.

Kent Christensen

I have no idea with that doing some homework on that Ross. I can’t speculate because I haven’t run the math.

Ross Nussbaum - UBS

I would assume it’s a reasonably lower number. It’s not half the tenant.

Kent Christensen

That’s probably correct yes.

Ross Nussbaum - UBS

I start thinking about to the extent that you have raised rents on customers 6% this year and street rents don’t appear to be moving higher yet, are we going to find ourselves in a situation next year, where your rolling rent down on certain customers as guys, who saw renewal increase at least at some point?

Kent Christensen

I don’t forecast rolling rents down. Once again, we are trying to communicate Ross, in the amalgamation of a lot of different markets. We have some markets that are doing very well that we communicated in our release. Yes, market that continue to be challenged. How this all plays out is anybody’s guess. What we have tried to do is, just be conservative and say given the economic environment in which we are operating.

I don’t think storage and particularly Extra Space is going to go negative and I don’t think it’s realistic to expect 7.8% NOI growth going forward. We’re going to operate in some band and as the economy unfold in 2011 and as various markets haven’t flow or improve or maybe don’t improve. It’s anybody’s guess and that’s why not willing to take hard stance on that.

Karl Haas

Ross, if I could add and this is Karl. Clearly that’s one of the reasons that, we’re being cautious about the future right now. On the long run if you don’t have the ability to push street rate it will challenge our opportunity to grow because you can only push existing customer so far.

We have cash on how far the GAAP can be on existing customers and that we still increasing. We’re looking for different levels and right now we’re benefiting from lower discounts and higher occupancy and actually lower bad debt, but ultimately for the industry as well. We’ve got to have the ability to push rates.

Now, the good news is, there is no new inventory coming in, no new properties being built and so that should help, but we’re continuing to see. We’re not able to coming out of the recession. We’re not able to push street rates 4% or 5% or 6% yet.

Ross Nussbaum - UBS

How much of a fact. The occupancy growth that the industry have seen over the last year-ish it seems to be almost entirely driven by a decline in vacate rather than an improvement in rentals. Now we’re hitting that crossover point, right, where in order to generate net absorption, where we need the demand to start picking up.

It appears that as state of the housing market and the state of consumer seems to be making that a tougher transition and maybe we all would have thought three or six months ago. You guys believe at this point seeing how demand has played out this year that you need a housing recovery to play out to see demand in rental turn positive.

Karl Haas

Housing recovery would be nice. Once again, let’s go back to macro driver of this business. If I could be really direct a lot of people try to find correlative measures Ross that we will predict the success of hedge and we’d talk about this previously.

Housing is just one element of a broader amalgamation of factors that determined demand for our business and that’s what I like about storage. It is a broad-based consumer product that is need driven and housing is only a component of what mix our business or doesn’t make a business and I’d like to broad diversification in terms of drivers. I like the brought geographic diversification like many of the elements.

Let’s say, what we’re not contingent on anyone economic driver to drive our business and obviously an improving economy will help our business and improved housing market will help our business. It’s really people in transition to drive our business. Comfortable that comments that have been made and the things that we’ve released. At this point in time, our best prognostication is to what to expect.

Operator

There are no further questions. We’d like to turn the call back over to management for closing comments.

Spencer Kirk

Great, this is Spencer. In conclusion, I would simply like to thank you for joining us today. We look forward to our next earnings call. Have a good afternoon.

Operator

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Extra Space Storage CEO Discusses Q3 2010 Results - Earnings Call Transcript
This Transcript
All Transcripts