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Executives

Kenneth F. Myszka - President, Chief Operating Officer

David Rogers - Chief Financial Officer

Analysts

Christine McElroy - Banc of America Securities

David Coty for Michael Bilerman - Citigroup

Jordan Sadler - Keybanc Capital Markets

Todd Thomas – KeyBanc Capital Markets

Christeen Kim - Deutsche Bank Securities

Paul Adornato - BMO Capital Markets

Michael Salinsky - RBC Capital Markets

Sovran Self Storage, Inc. (SSS) Q2 2008 Earnings Call August 7, 2008 9:00 AM ET

Operator

Welcome to the Sovran Self Storage second quarter earnings conference call. (Operator instructions) I would now like to introduce Kenneth Myszka, President and COO.

Kenneth F. Myszka

As a reminder, the following discussion will include forward-looking statements. Our actual results may differ materially from projected results. Additional information concerning the factors that may cause such differences is included in our company's SEC filings. Copies of these filings may be obtained by contacting the company or the SEC.

We experienced another solid quarter as we again increased revenues and net operating income at our properties. Thanks to our revenues and NOI increased by 1.2% and 1.8% respectively over the second quarter of 2007. There were one or two areas in particular that negatively impacted our results, Florida and the capital district, and without these two areas our same store revenues would rise from 1.2% to 3.9% and our same store in Hawaii would go from 1.8% to 5.9%. You can see, with the exception of these two areas, our portfolio is in good shape and performing well.

The second quarter trending started stronger than it ended with moving activity in June well below that of June of 2007. Rentals did improve somewhat dramatically and date gates were about flat for July, which are encouraging times for us. However, we have had to increase the number of concessions offered to attract new customers, which accounts for most of the reason we have lowered our guidance, as we will discuss further in the call.

But we had a busy quarter. We formed a $350.0 million joint venture with Heitman, LLC, a firm based in Chicago, and this will enable us to use our operating platform to expand in our current market as well as new areas of the country. We completed a $375.0 million unsecured credit facility with favorable terms amid what we would call pretty turbulent financial times. This strengthened our balance sheet and provides us with capacity and flexibility to expand and improve our business.

And just after the close of the quarter we closed, in a JV, a purchase of 21 stores in five states at a cost of $144.0 million. We also completed 12 expansions during the second quarter at a cost of just under $16.0 million, and sold our only store near Detroit, Michigan, for $7.4 million, generating a profit of approximately $700,000. So it was a busy quarter.

Let’s ask Dave Rogers, our Chief Financial Officer, to provide some details on these transactions.

David Rogers

Regarding operations, our total revenues increased $2.3 million, or 4.7%, over 2007 second quarter and property operating expenses increased by $700,000. These increases resulting in an overall increase of 5.1% were primarily due to improvements in the same store results I will get to in a minute and the addition of the 20 stores net that we purchased since the beginning of Q2 last year. Average overall occupancy was 82.3% for the quarter and average rent per square foot was $10.35.

Same store revenues increased by 1.2% over those of the second quarter of 2007. The gain was purely rate driven, as our same store weighted average occupancy declined from that of the second quarter in 2007 by 220 basis points to 82.6%. At the quarter end date same store occupancy was 83.5%. Rental rates were higher, at $10.51 per square foot compared to same store rate last year of $10.24.

Total operating expenses on a same store basis increased by only 10 basis points this period. Our payroll costs were up about 5% and our utilities were up 17% but insurance cost savings made up for that and all other categories grew only nominally. We think that for the most part expenses have been, and should continue to be, well-contained.

Growing the top line by 1.2% with only a negligible increase in operating costs resulted in a same store NOI growth of 1.8%. G&A costs for the period came in at $4.1 million, which is pretty much as expected, and while this is about 10% higher than last year’s second quarter, we’re operating more stores at this point.

With regard to capital matters, we didn’t acquire any stores during the period but we did sell one, as Ken mentioned, near Detroit, for $7.4 million. We realized a gain of about $700,000. There were no encumbrances on the property so all the cash came to us. We do not include such gains on sales in our FFO computation.

We used the proceeds of that sale to fund the last remaining piece of our first joint venture, Locke Sovran I, LLC, which was formed in 2000. We paid $6.1 million now for the right to own 100% of the venture, which operates 11 properties.

Late in the quarter we announced the formation of Sovran HHF Storage Holdings, a joint venture formed with an investor advised by Heitman. The venture expects to acquire about $300.0 million of quality self-storage properties in strategic markets throughout the continental United States. Sovran will contribute 20% of the venture’s equity and Heitman’s investor will contribute 80%, with leverage of around 60% expected to be utilized.

Sovran will manage the venture’s properties and will receive fees for its services. The facilities that are acquired by the venture will be branded under Sovran’s Uncle Bob’s trade name.

In late July we made the first acquisition for that venture, which was a nice 21-property portfolio that cost a $144.0 million. 11 of the stores are in markets where we already have a presence, Tampa, San Antonia, Dallas, and Houston, and the other 10 stores take us to new markets, including Columbus, Ohio, Louisville, Kentucky, and Denver, Colorado. Approximately $68.0 million was financed with assumed and newly-issued mortgage debt.

We successfully refinanced our short-term and near-term debt obligations during the quarter. Proceeds from a four-year $250.0 million term loan were used to repay the outstanding balance on the company’s $100.0 million revolving credit facility and $39.0 million worth of short-term notes that were due to mature later in 2008.

Sovran also prepaid a $100.0 million term note that was due to mature in 2009. And the excess proceeds of $11.0 million were used to fund part of our share of the joint venture capital contribution.

Additionally, we are paying from the same bank group a three-year $125.0 million unsecured line of credit with an accordion feature of up to $50.0 million more and an extension provision of up to one additional year.

Interest on the line of credit is LIBOR plus 137.5. Term loan interest provides for interest at LIBOR plus 162.5. We entered into an interest rate swap contract which effectively fixed the interest rate payable on the four-year term loans at 5.97% through September 2009 and just a shade higher from then through June 2012.

Our outstanding debt is now $610.0 million at June 30, 2008. All of it is long-term or fixed rate or hedged to maturity. Approximately 18% of our borrowings are secured. Our debt service coverage in the second quarter was 3.1x EBITDA as was, since we don’t have any preferred shares outstanding, our fixed charge ratio.

Debt to enterprise value was about 38% at June 30, 2008, so we remain conservatively capitalized and now, especially with the new line, have sufficient flexibility and capacity to fund our needs.

In terms of volumes, as Ken mentioned, we’ve encountered some pretty strong headwinds in some of our markets and judging by what we’ve seen this leasing season, we expect to continue with this quarter’s leasing incentives and aggressive marketing.

We are curtailing our same store revenue growth expectations for at least the next couple of quarters and are now looking for increases of between 1%-2.5% for the balance of the year, net of incentives.

We expect expense growth to be relatively contained in the 1%-3% range so our same store NOI growth is now forecast at between 1%-2.5% for Q3 and Q4 of 2008.

G&A costs are targeted between $4.2 million-$4.5 million per quarter, depending on the acquisition pace of the JV. These additional costs incurred to operate the JV properties are expected to be more than offset by management fees earned from the JV.

For the coming two quarters, and perhaps beyond, we plan to acquire additional properties primarily for the benefit of the joint venture. The acquisition environment is pretty much unchanged, there are a lot of properties and portfolios on the market. Unfortunately, despite recent jolts to the REIT markets and to the overall debt markets, [inaudible] expectations have still not been appreciably reduced.

For purposes of guidance we are forecasting a total of $30.0 million of company contributions to the JV, including [inaudible] investment of $15.0 million, and expect those contributions to earn about a 7.5% yield.

Our expansion program will continue and we expect to make expenditures of about $40.0 million in 2008 to enhance revenue capabilities at our existing properties. In 2007 we spent almost $25.0 million on such improvements and so far this year approximately 16 stores at a cost of $17.0 million have been put online.

We have continued our program of accelerating the paving, painting, and fencing projects at many of our stores in an effort to improve curb appeal sooner. As mentioned before, we expect to spend about $12.0 million on our same store pool in 2008 and about $5.0 million more on our 2007-2006 acquisitions.

To give you a better handle on interest costs, we are now obligated on $610.0 million of long-term fixed-rate debt. Our annual cost to carry this debt, including the amortization of financing costs, is $39.1 million. This is not expected to change materially for the next four years. So the only variable component in our debt structure is related to our line of credit, which as mentioned, carries a floating rate of LIBOR plus 137.5 and at June 30,2008, we had nothing outstanding on the line.

To summarize our expectations for the balance of 2008 as we see them today, revenues are projected to be reduced by the impact of aggressive incentive to move in specials to the tune of about $1.5 million-$2.0 million per quarter. Operating expenses are expected to remain in check, coming in somewhat under budget. Investments and acquisitions have been replaced by expected investments in our joining venture.

The expansion and enhancements plans for 2008 have been moderately curtailed from approximately $48.0 million originally to about $40.0 million now. Management fee income from the joint venture is expected to rise $0.02-$0.03 per share for the balance of 2008 in earnings. The refinancing of our short-term debt obligations with the long-term fixed-rate notes has created a $0.06 drag for the balance of 2008.

So reconciling all of the above to the previous guidance we issued, we feel that the newly planned investments in the JV will compensate for the fact that we aren’t planning to make any acquisitions for our own account. The increased interest costs resulting from terming out the short-term line debt are offset by expected management fee revenues and reduced operating costs.

The slightly reduced construction program has really no impact on current year’s FFO. And given all this, we really don’t have anything left to compensate for the net decrease in revenues we’re bracing for and our battle to gain market share and improve occupancy will process and expected $0.06-$0.08 per quarter. So, accordingly, we are now projecting FFO per share to come in at $3.35-$3.40 and $0.86-$0.88 per share for the third quarter.

And with that I will turn it back to Ken.

Kenneth F. Myszka

Before I open up the conversation to some questions, I mentioned earlier that except for Florida and the capital district, our portfolios are performing well and I would like to just shed a little bit more light on these two points.

Regarding the capital district, we are frankly not too concerned there because two stores really accounted for much of the poor performance in the second quarter and we have taken steps to remedy the issues at those stores. Returning military had some impact, not major now, but it is a factor we’ll be watching in the coming months.

That leaves the state of Florida to consider. And there’s a combination of factors that have contributed to the poor performance there. In recapping, in the aftermath of the hurricanes that hit that state in 2004 and 2005, most storage facilities were full, or near full. In response, a number of new competitors opened and with demand soaring, due to the storms back then, these new storages posed no immediate threat.

However, in early 2007, demand started to wane and we were faced with a tough combination of somewhat excess supply and less demand. And to add to that, the generally poor economic conditions affecting many parts of the nation, and frankly, they were magnified in Florida because the economy had been so hot for so long. In fact, according to Wachovia economics group, the state’s economy shrank from April of June of this year and it was the first quarterly decline they’ve had in 16 years. As a result, Floridians are very cost conscious and are looking for deals.

Add to that the fact that new homes just aren’t being built like they were before and that impacts our business in two ways. When construction is booming, we get customers who are moving and are in-between homes and need a place to store their household items. We’re not getting them. In addition, contractors used our facilities to store their equipment. So much of the business we get from them has temporarily dried up.

So those are the negatives, as we see. Now, you’re probably wondering what we’re going to do about it. Well, first, as we kind of indicated before, we think we’re pretty close to the bottom here. After a horrendous June, July was the first month of this year where move-ins in Florida were greater than the corresponding month of 2007. So that’s obviously a good sign. And we’ll be closely monitoring August and September and months’ activity in the future.

But this good news didn’t come without a price. We have had to be very aggressive with concessions to build occupancy. We’re offering more full month specials than we ever have in the past and as a result these revenues won’t hit the income statement for a while.

Among the other things we’re doing, we’ve further refined our already sophisticated revenue management system so that rates and concessions can be self-adjusted, several times daily under strict occupancy and demand parameters. This ensures we’re getting maximum revenues from existing customers as well as new customers.

We made several mid-management personnel changes in those areas, in Florida and the capital district. As we’ve alluded to before, we’ve been very aggressive with our specials and localized advertising.

We have been successful in the past with turning around struggling areas. Case in point, frankly, is New England. Back then, as we have here, we identified the areas that needed improvement and we aggressively attacked those and we’re doing that now.

Less than two years ago New England experienced slow or no growth. Today’s stores in that region are generating same store revenue growth greater than 5%. So we’ve done it before and we’re confident we’re going to do it again here.

So with that, we’re ready to take any questions you might have.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Christine McElroy with Banc of America Securities.

Christine McElroy - Banc of America Securities

Dave, regarding your new joint venture, can you provide a little bit more color and maybe quantify all the various property and asset management fees, as well as the acquisition and leasing fees?

David Rogers

It’s pretty straight-forward and pretty simple. We get a reimbursement of our acquisition and [inaudible] costs of 50 basis points of the net cost of the property. There is a 6% management fee and we are using our call center and charging 1% of revenues for the call center. Then there is a promote that we don’t expect to hit for the next two years.

Christine McElroy - Banc of America Securities

So then just reconciling some of your guidance assumptions, you said that you expect that the rise in G&A will offset some of the fees going forward. Can you give us a sense for how accretive you expect the fees will be, kind of net of G&A? I think I heard $0.02-$0.03 in 2008. Is that net of G&A?

David Rogers

It is.

Christine McElroy - Banc of America Securities

And then can you update us on any acquisitions that are in the pipeline and kind of what cap rates do you see being able to buy assets today versus a year ago? And kind of given an overall decline in property level growth assumptions, what does that mean for where you think cap rates should be? Assuming kind of similar IR requirements in your underwriting?

David Rogers

Unfortunately we haven’t seen much of a decrease in Sovran expectation for quality properties. So the 21-pack that we bought to start the joint venture are best-in-class in every market we’re in. Those are wonderful stores. We had about a 7-1, 7-2 cap on those. The stores that we’re looking at for heightening our all of a similar vein, very strong with great likelihood strong cash flow. Upside potential for this joint venture, while important, is not as important as basically being bullet-proof.

So, we’re looking at stabilized, mature properties, best in the markets, and that we expect to pay around a 7, 7-1 cap for. Really, there’s a lot of stuff that’s sub-par, some of it might be good turn-around type opportunity, that’s going for high 7s perhaps, but for the most part, anything that we will be interested in buying for this venture, at this point anyway, is not moving and probably going to be in the very close shouting distance of a 7. We just don’t see any movement.

Christine McElroy - Banc of America Securities

Can you give some color on what your strategy is regarding pushing increased rents? Are you finding that the rate of move-outs following an increase is accelerating?

Kenneth F. Myszka

No, we’re not seeing that at all. Because if you do it the proper way, we don’t think you’re going to experience that. What we’re more concerned with is getting people in. But what we’re doing is, on an annual basis we will review our existing customers, when was the last rate increase that they experienced, especially if it’s a high-demand unit that they’re in, we’re fairly aggressive in increasing their current rates, to market.

Christine McElroy - Banc of America Securities

What’s the current gap today between in-place rents and market rents and how much of a drag is churn in your portfolio having on revenue growth?

Kenneth F. Myszka

Very little gap between them. So it’s really not much to drag on there.

David Rogers

We work pretty hard to keep our rate structure in place so what we’re doing and what we’re paying for are initial incentives. First month, first month and a half, that kind of stuff. But the rate structure itself has been kept pretty [inaudible] except on very rare occasions.

Operator

Your next question comes from Michael Bilerman with Citigroup.

David Coty for Michael Bilerman - Citigroup

Couple of questions going back to the joint venture. Is there any optionality in that structure with regards to putting properties to a partner, first right of refusal, that sort of thing?

David Rogers

Yes, we’ve given Heitman, at least initially, a nine-month right of first refusal. Everything that comes by us we’ll share with them and they have first crack at it. Either nine-months or $100.0 million of their equity.

David Coty for Michael Bilerman - Citigroup

Is there any kind of geographic focus plan?

David Rogers

Good markets, not necessarily restricted to our footprints. As we said, Denver is a nice market. We’ve got a foothold now with four stores there. So, there’s no specific target, although we will evaluate each one as they come by.

David Coty for Michael Bilerman - Citigroup

And is there development capacity in the entity?

David Rogers

We’re not expecting development, no.

David Coty for Michael Bilerman - Citigroup

And just moving over to the customer a little bit, you guys have stated in the past that you have about 42% of your residential customers use storage as kind of a closet. Do you see any kind of decrease in that percentage, that’s accelerating beyond the normal trend?

David Rogers

We basically have said in the past that about 20%, we think, of our customers use our place as an extra room, for homeowners, and another 20% or so for apartment. And, no, we don’t see, we’re feeling some of it, we think, is in the moving side, people buying houses, selling houses, and that transactional activity, in moving from house to house, and our realtor referrals are not as strong. That’s where we’re feeling it. The extra room concept, not so much.

David Coty for Michael Bilerman - Citigroup

Going back to Florida, some of your peers have stated recently that they felt that those markets had pretty much reached the bottom in terms of the extent of the weakness. Do you feel that’s the case? What’s your outlook going forward for those markets for the next 12 months?

Kenneth F. Myszka

We’re cautiously optimistic. July was, we hope, a turning point where for the first time, as I mentioned in my prepared remarks, this year that move-ins in the state of Florida were greater than they were for the corresponding time period of last year. So the economy still is there, it’s very fragile, but we’re working hard to offer as many concessions as we need to build that with the understanding that we’re not going to generate the revenues from those for a month or two later.

But our forecast, on a more conservative side, I guess we would say, because we’ve been fooled before. We’re hoping we’ll be pleasantly surprised as the year goes on.

Operator

Your next question comes from Jordan Sadler with Keybanc.

Jordan Sadler - Keybanc Capital Markets

I just wanted to move beyond Florida. Ken, you kind of quickly went past Maryland and Virginia. You said you weren’t worried. Just curious what you think happened there during the quarter.

Kenneth F. Myszka

One of our larger stores is going through a renovation and we anticipated that by the end of the first quarter it would be completed. So that store, about half of the store or more, has been unavailable for rent, which hurt us quite a bit.

And another store has a big influx every second quarter of college students. And a new competitor literally opened up almost right across the street from the college. So those two things had a big impact on our results there.

The other part that hurt us somewhat, and it wasn’t huge but just kind of watch this, was there was a fair amount of returning military. When they’re coming back they get their stuff out of storage, and that could be a trend that we see going forward. We’re going to monitor that closely.

Jordan Sadler - Keybanc Capital Markets

And then separately you talked about July being such a strong month for you guys, particularly year-over-year. I’m curious, is that a function of the increased advertising and stepped-up incentive activity more so than just what’s going on in the markets and is that sustainable?

Kenneth F. Myszka

I think a big part of it was response to our marketing efforts. We’re giving a lot more concessions. Generally speaking, we will give a concession to maybe 5 or 6 out of 10 people who walk in the door. This year it’s closer to 7 or 8 people who walk through the door get a discount or a concession. But it’s a one-time thing that we’re generally offering to these people. We’re trying to keep our street rate [inaudible], give the incentive to get people in the door.

And what’s happening, too, we do surveys with our customers and when they move in we ask them to fill these things out and ask them some questions. And to them, before they move in, the most important for them, they say, is price. And then what happened in, we actually went back and changed after they moved in. And much of the time, about 61% of the time, people said it was more now customer service, security, and convenience.

So, what we’re trying to do is emphasize customer service to these people. When they come is there’s that enticement because we’re trying to get a deal, but give them good service and a clean, secure storage facility for their goods so they feel confident when they get their goods and they’re in the same condition. This is important, once you get them in the door.

Jordan Sadler - Keybanc Capital Markets

And the 12 expansions that were completed during the quarter, can you give us a sense of where those were? Are those included in the same store guidance or same store revenues?

David Rogers

They are not. Actually, for the most part, they’ve been costing us more than they’ve been helping us because we funded them, we’ve been carrying the load on the $17.0 million and, really, a bunch of them just came online later June and a couple even in July.

They are sprinkled throughout the portfolio. We have about 42 projects in place and there is no real concentration, geographically. We did pull back some. As I mentioned, we had $48.0 million projected to do at the beginning of the year. We took that back to about $40.0 million. In part, some of those projects were on the cusp as to hitting our projected rate of return of 12% cash-on-cash. With the increase in the cost of steel and concrete, especially, some of those sort of slipped below the break-even point.

And also, some demand changes. A few of the Florida stores were holding back on the expansion and focusing more on the lightening and brightening. So, you know, they’re everywhere. Essentially I think we’ve got projects in Phoenix, Texas, Florida, New England, New York, Maryland. Everywhere.

Jordan Sadler - Keybanc Capital Markets

But you pulled the whole store offline, or you take that piece out? When you have an expansion.

Kenneth F. Myszka

[The situation you’re referring to], that was an unusual situation where if we’re going to put an expansion in, we’re putting in a new building or buying adjacent property and putting something there, or climate controlling. In this case, we had a whole refurbishment of the building and it was an older building, we put in a lot of things and each time we opened up something else, a new thing popped up. So that was an unusual situation.

Jordan Sadler - Keybanc Capital Markets

But as a rule, like when you’re doing expansions, like the 12 on average, do those stores come out of the same store pool?

David Rogers

No. And like I said, we’ve isolate the expansion. And to this point it hasn’t been much. I see what you’re getting at and we may actually have to do that, cut the size and say, “Okay, here’s our same store pool of 348 stores and now we’ve got 20 of them with expansion.” The impact is not that significant, or even measurable, up to now. But hopefully, starting third quarter and into next year, where we will really see it, we will have to do something to isolate that because it will be an unfair advantage.

Jordan Sadler - Keybanc Capital Markets

So anything that was brought online over the past 6-12 months is still in your same store pool?

David Rogers

That’s correct.

Operator

Your next question comes from Todd Thomas with Keybanc.

Todd Thomas – KeyBanc Capital Markets

Did you recognize any debt pre-payment penalties or charges associated with the refinancing activity?

David Rogers

Yes, we did. It was about $90,000. We put it in financing costs. Because we prepaid the 2009 note, we had some prepaid expenses associate with it that we had to flush out. We should have broken it out, I suppose. It’s in financing costs. It affected our FFO by about $90,000.

Todd Thomas – KeyBanc Capital Markets

And can you provide some color on the acquisition of the balance of the Locke Sovran investment, in particular the pricing on that and also the timing and how that deal evolved?

David Rogers

Back in 2000 we formed sort of a close joint venture, we contributed I think it was 6 of our properties. We had a contribution of a large property in Brewster, New York, from a partner who didn’t want to sell but he wanted to join up with us. This was a very small venture, he contributed his property for something like about $8.0 million. We contributed ours for about $15.0 million. We mortgaged the whole and went out and bought 4 more, I think. So it was a $30.0 million note and an $11.0 million combined capital contribution.

We bought this partner out on a staged program over the last, I think April 1, 2007, we bought the majority interest in Locke Sovran I, then we turned him into kind of a preferred shareholder. He has a $6.1 million remaining investment in the deal. We are paying him a preferred 8% yield. Preferred meaning he got first shot at cash flow.

We wanted to improve a bunch of properties in this portfolio. He didn’t have the pockets to match us, so we were throwing dollars into these stores that he was going to be the beneficiary of if we did sell or otherwise liquidate the partnership. So, back in April 0f 2007 we preferred him out, as we like say, and gave him a $6.1 million set contribution, paid him $480,000 a year since then, and June 1 he said he was done if we wanted to buy him out.

I figure it works out to be something on the order of about an 8.25% yield. It was decent. The $6.1 million we should be getting about an 8.25% yield on. Back then it was kind of a big thing but eight years later it was just sort of a big pain in the neck so we were happy to clear it up and holding on to this Locke Sovran deal.

Operator

Your next question comes from Christeen Kim with Deutsche Bank.

Christeen Kim - Deutsche Bank Securities

Just going back to the concessions, are those mostly focused just on Florida and Maryland now or are those being used portfolio-wide?

Kenneth F. Myszka

It is concentrated in the areas that we’re having some issues, but even in the strong area, depending upon the unit size and the demand and occupancy, we will be aggressive there, too. Even in New York, where we’ve had great successes this year and there’s a number of those that have been sitting vacant for a while, we’ll be aggressive and offer perhaps a four-month special. But we’ll do it judiciously.

Christeen Kim - Deutsche Bank Securities

Let me make sure I have this correct. You’re trying to hold your street rates. Are they up year-over-year at this point or are you falling below where you were in 2007?

David Rogers

No, street rates are, in most cases for most unit sizes, except in the troubled states, they’re up. Because we do bring our customers along, we don’t want to get in that position where our existing customers are above street rate. But again, it’s very micro-managed, by market, by unit size. We’re up on our rate structure in many parts of the country.

Operator

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

Paul Adornato - BMO Capital Markets

You mentioned the hurdle rate for expansions of 12%. What’s the hurdle rate for the lightening and brightening projects?

David Rogers

There isn’t really. In the cases where we’re remodeling offices for instance, we want to make sure that we improve our visibility and presumably improve retail traffic, although that isn’t a big part of our business. To make a major expenditure on office remodel has to have some kind of a, not as high as 12%, but some kind of a tangible benefit in addition to the intangible benefit. We’re investing in some landscaping projects and some office remodels. The same thing, the fence, paving, that’s all part of the normal cycle. We just sort of stepped up some of it in a couple of markets because we had the time and we like to get it done. But it means something, it really does.

The curb appeal is important. It’s a big part of our manager compensation, how their stores look and how they present and so forth. But to actually put a percent return on that, we argue with the marketing guys all the time about it and the managers. They want a nice looking store. It’s hard to put a grade of return on it.

Paul Adornato - BMO Capital Markets

What’s your occupancy assumption for the rest of the year, that’s in guidance?

David Rogers

For the third and fourth quarter we’re expecting to be about 150 basis points below last year’s levels, which would be about 83%.

Paul Adornato - BMO Capital Markets

And could you tell us the cap rate on the Detroit property sale?

David Rogers

It’s backward from the way we work it. What we go out and look at, as far as we see what the store’s doing and we expect to bring efficiencies to the table. In this case, the seller lost efficiencies. He’s not getting the benefit of our economies of scale. So he was looking at it like he was buying it for about a 7-1 cap. We were probably selling it in the neighborhood of about a 7-6 cap.

Paul Adornato - BMO Capital Markets

You mentioned a weak June but an okay July. Were you just talking about Florida or was that the whole portfolio?

Kenneth F. Myszka

Florida was stronger than the balance of our portfolio. The rest of the portfolio we had, percentage-wise, probably 2% fewer move-ins than the year before.

Paul Adornato - BMO Capital Markets

In June?

Kenneth F. Myszka

No, in July.

Operator

Your next question comes from Michael Salinsky with RBC Capital Markets.

Michael Salinsky - RBC Capital Markets

You were talking about raising concessions, raising marketing and stuff. It almost seems like you’re switching gears a little bit, trying to focus more so on occupancy as opposed to rate. In the past you’ve mentioned that as long as you could get the rate, you weren’t that concerned about occupancy. And a lot of these properties had higher vacancy components. Is there essentially a change in strategy right now with this? Are you really focusing more on occupancy and what occupancy levels do you want to get the portfolio back up to?

Kenneth F. Myszka

What we’re really concentrating on are revenues, trying to maximize revenues over the long term. When we offer these concessions, the greatest concessions now, we’re not big fans of the four-month-off, but now it’s almost jacks to open a lot of places. So what our goal is, is to get the occupancies up where we can. We’re doing an awful lot of advertising in those areas. But the number one goal is increasing revenues. And if we have a lot of vacancies, we’re going to do what we can to fill them.

And when a person comes in, we have to keep this in mind, our average tenant stays with us for about 11-12 months. So if we have the inventory, it just makes sense for us to give a month and have them pay for the other 10-11 months.

The other thing that we found in this environment is that our close rate, when we give a whole month now, versus what we’ve been giving before, $20 off or a half month, our close rate is up almost 10% higher. So it just makes sense to react to what the market is telling you.

Michael Salinsky - RBC Capital Markets

In the market are you seeing more concessions, more advertising from a lot of your peers or is this just something you’re kind of doing proactive right now in response to what you’re seeing?

Kenneth F. Myszka

Keep in mind, most of our competition are the moms-and-pops, in a lot of the areas. Within a five-mile radius we’ll track the closest competitors. And generally speaking, if there’s five competitors in a five-mile radius or a three-mile radius, 81 is one of the larger ones and the other 3 are smaller. So they’re not doing that much advertising and a lot of them aren’t interested in getting full occupancy, so that’s what we’re competing with.

We are, we think, pretty aggressive and pretty, I would say, market leaders when it comes to the various advertising we’re doing. We’re doing things grass-roots. Community sports arenas, we’re advertising in those places. Mall advertising, you know backed with kiosks and elevator graphics. We’re doing a lot of cross promotions with local businesses. So we’re spending a lot of money there. We’re re-allocating funds from yellow pages to the Internet because we’re seeing a lot more activity there than we’ve been getting from the traditional places.

So we’re very proactive in trying to generate revenues, whether they come from occupancy or rental rates.

Michael Salinsky - RBC Capital Markets

Dave, in your expense forecast, what are you thinking for real estate taxes? Just across several sectors, we’ve heard that Georgia has seen some pretty big increases, there’s also big expectations for growth in Texas. Just curious what you’re looking for.

David Rogers

We are concerned about Texas because that’s a very big part of our portfolio. We haven’t seen it yet and that’s one of the states that always causes us to kind of hold our breath through the course of the year.

But we’re forecasting a little better than a 4.5% across the board. A little bit heavier in Texas. I’m not aware of issues in Georgia. But about 4.5% is our overall budget for property taxes for the year.

Michael Salinsky - RBC Capital Markets

Can you touch on the performance of the 2007 acquisitions at this point? Relative to expectations.

David Rogers

The pool there was, the state mini-portfolio, which was the Southeast, the Gulf Coast, Montgomery, Alabama, and the 2007 properties that we bought in the first quarter which were the Western New York portfolio. The Western New York portfolio is excellent. New York is up overall considerably and a big part of it is the fact that we brought those stores on line.

I think the Mobile and the Montgomery, Alabama, stores are a little softer than we expected. They’re not in the same store pool. They came in in the middle of the second quarter, I think May 1 was the day we brought those on. So they’re not in the same store pool. The new ones are doing much better than the existing and that’s typical of something that we buy.

So we’re on track. We expect that by the end of this year, 18 months after we closed at about a 7-1.5 cap rate, to be somewhere on the order of about 110 basis points higher. And I think we’ll be there. So, all the properties we bought last year, and they were all done in the first half, essentially, with the exception perhaps of Pensacola, I think are just great.

Michael Salinsky - RBC Capital Markets

The refinancing of your line essentially and the new term loan, were there any changes in the covenants on those, just given what we’re seeing in the market currently?

David Rogers

No. We don’t have the most liberal of covenants to begin with. We have a very comfortable covenant package for the way we like to run the company. It was a fairly challenging effort to put together all of our banks, but the covenant part, we basically have three notes, now two notes that determine. The notes that we sold to the insurance companies in 2003 and 2006 have covenants and we have kept those consistent across virtually all of our debt packages. So we are exactly neutral as far as covenant changes.

Michael Salinsky - RBC Capital Markets

Just finally, having been in the market, forming the joint venture with Heitman, can you talk about the appetite from private equity to get into the storage industry, you know, what you’re seeing in terms of them wanting to do joining ventures, worrying about portfolios. Just give us a sense of what you’re seeing on the private side there.

David Rogers

We were pretty happy in the sense that when we paired up Heitman we didn’t have to do a lot of exploring there. That was a pretty expeditious marriage, if you will. So I don’t know who else was out there in a big way looking to buy. I know there is a fair amount of distressed property that may be coming due in the next couple of years with mortgages that perhaps went in at 80% or 85%. That might open up the appetite for some equity investors to buy.

I don’t know of any big players anxious to part with big dollars on the leverage basis that we think people are able to get. So it’s a little quiet. There are not a lot of data points. We get some inquiries to buy, we’ve heard rumblings and rumors but nothing really that I could say is credible.

Operator

There are no further questions in queue.

Kenneth F. Myszka

We would just like to thank everybody for their interest and support. We appreciate your participation in the call. Have a great day.

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Source: Sovran Self Storage, Inc. Q2 2008 Earnings Call Transcript
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