Iron Mountain: Thank You Very Much Bank Of America

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About: Iron Mountain Incorporated (IRM)
by: David Alton Clark
Summary

Bank of America Merrill Lynch recently cut Iron Mountain from Neutral to Underperform.

Analyst Michael Funk says declining recycled paper prices create "insurmountable headwinds" to 2019 guidance, and lowered his target from $33 to $25, a 22% downside.

I beg to differ and actually bought IRM Friday. In the following piece, we lay out our bull case.

What Happened?

Bank of America Merrill Lynch (BAC) recently cut Iron Mountain (IRM) from Neutral to Underperform. Analyst Michael Funk says:

"Declining recycled paper prices create 'insurmountable headwinds' to 2019 guidance. Funk notes that IRM is pursuing a 'bold' strategy of shifting the mix to the higher-growth data centers and emerging markets. The analyst expects negative estimate revisions."

This caused the stock to take a massive 6% nosedive on Thursday to a new 52-week low.

Source

After careful review, we have decided to go against the grain of this analyst's call. We always have dry powder ready for just such an opportunity. One of our core investing principles is to layer into full position over time; more to come on that later. Let's first address our primary reasons for adding to the position.

Primary Buy Catalyst

Moody's revision

Iron Mountain's ratings have been reiterated by Moody's Investors Service - the rating division of Moody's Corporation (NYSE:MCO). Additionally, the company's rating outlook has been revised to stable from negative.

New York, June 27, 2019 - Moody's Investors Service ("Moody's") has revised the rating outlook of Iron Mountain Incorporated to stable from negative. At the same time, Moody's affirmed the Corporate Family Rating (CFR) of Iron Mountain at Ba3. Moody's also affirmed the Ba3 and B2 ratings for Iron Mountain's existing senior and subordinate debt, respectively.

Moody's affirmation of Iron Mountain's ratings and the revision of its rating outlook to stable from negative take into consideration the excellent work the management team has done over the last year. The following are some of the positive results of the past year.

Leading market position in storage and information management market with geographically diversified footprint

Source: Iron Mountain

Large Diversified Business

Large base of recurring storage rental revenues

The proof is in the pudding

IRM has increased its portfolio size and scale in recent years with investments in a global data center platform as well as other strategic acquisitions in the secure storage space.

IRM has transformed itself over time by increasing its footprint in the global data center space particularly the faster-growing international markets. This has increased its book value considerably over time. The book value has increased to about $16.9 billion as of Q1 2019 from $10.0 billion at year-end 2014, according to Moody's. I like that. Iron Mountain's portfolio consists of more than 90 million square feet across more than 1,450 facilities in approximately 50 countries.

Solid leverage metrics

According to Moody's, Iron Mountain's leverage and coverage metrics are considered solid relative to similarly rated companies and REIT peers. In particular, Moody's noted the following:

  • Net debt to recurring EBITDA (6.3x at YTD 1Q19)
  • Secured debt (17.7% at YTD 1Q19)
  • Fixed charge coverage (2.9x at YTD 1Q19)

Effective Leverage on the High Side

On the other hand, effective leverage (debt plus preferred over gross assets) has been consistently high. Effective leverage is approximately 61% at YTD 1Q19. Moody's states it will continue to monitor IRM's leverage going forward as the company continues its long-term growth initiatives. The stable outlook reflects Moody's expectation that Iron Mountain will continue to grow and diversify its portfolio while reducing leverage over time.

IRM has a solid, long-term growth story, strong AFFO growth projections, a best-in-class 7.9% yield, adequate coverage, and low cost of capital.

Nevertheless, the stock sold off hard after last quarter's earnings report.

Current Chart

The stock has bounced off long-term support for the fifth time in the last year. The first two times the stock had significant rallies. I believe we may be in for another with this news and the softening of US and China trade tensions.

Long-Term Chart

The $43 range has provided strong resistance over the past few years. Even so, IRM has very strong growth prospects going forward. When looking for an investment vehicle, I look for four specific things: a long-term growth story, solid cash flow, low cost of capital, favorable valuation, as well as a superior dividend yield. I believe IRM has all these qualities.

Solid Long-Term Growth Story

IRM provides mission critical services to businesses across the world.

Furthermore, IRM is the #1 provider in North America with the second largest competitor at merely a 10th of its size. IRM is able to use its size and scale to offer the best value to its customers.

Balanced Strategy to Drive Growth

Predictable And Growing Cash Flows

One of the positive attributes is the fact IRM's businesses are very sticky and often lead to increased business with current clients.

No one likes to move; it appears that is also true for companies as well.

The Ice Cubes are Not Melting

On top of this, IRM is seeing Box growth continuing at a strong clip. The US should be a strong area for growth with over 700 new un-vended clients.

So, the company has a solid business model set for growth. Now, let's turn our attention to the valuation aspect of the company.

Strong Dividend Growth Opportunity

The company missed by $10 million on adjusted EBITDA. The miss was due to transitory labor issues. The selloff in the stock has been way overdone. The management team sees strong growth going forward.

Plenty of Cash Available for Dividends

Well-Positioned Capital Structure

IRM has a well-positioned capital structure. With the average maturity of 6.6 years, the company is well hedged against rising interest rates.

Furthermore, IRM's debt load is below the norm. The company has a disciplined capital allocation plan which maximizes returns.

Wrap-Up

IRM is well on its way to achieving its 2020 goals.

I am bullish on this space. I see IRM as well positioned for growth for the coming years. This REIT has strong, predictable cash flows supporting a 7.98% yield at present. On top of this, the stock is trading at a discount on a relative and historical basis. The 6% nosedive in the stock based on the analyst downgrade was completely unwarranted and provided an opportunity for us to add to our position in the portfolio and substantially improve the portfolio yield and cost basis in the position. Let me explain.

Layering into positions is the Key to Outperformance

Often when I mention the art of layering into full positions, I inevitably am asked by some... What are you talking about? What I mean by layering in is to stage your buys.

If you plan on allocating $10K to a position, don't buy it all at once. Split it into four $2,500 buys, etc. The more layers, the less risk. You hopefully "work" the position's basis to your desired level. Many feel so confident in their thesis just before making the call to buy that they fell they must put it all down at once because they so strongly believe in the thesis. Nonetheless, with the advent of ETFs and index funds, the percentage of control that story has over the price of the stock has shrunk greatly. If I am very confident, I will split it into two buys. Sometimes three if going into earnings. One before, one after, and one as dry powder in case of an opportunity.

This has worked out well for the portfolio. I have been steadily taking profits from winners and reinvesting them into the laggards in the portfolio. IRM had been one of our underperformers and was recently on the chopping block to be cut. The primary objective of the portfolio is to provide income for expense in retirement.

Source: High Yield Income Forum Real Money High Yield Income Portfolio

Portfolio Holdings description

I created this portfolio as a way to bridge the gap between our family's expenses and income. It is a subset of our entire nest egg. The portion of your retirement nest egg you allocate to High Yield should be based on your own individual circumstances, risk tolerance, and suitability.

  • Dividend Yield: 8.54% on average.
  • Deep Value with Upside: Holding trading on average 10% below book value.
  • Low Beta: Aggregate beta of portfolio less than one. This helps to shield the portfolio from market volatility.

The Bottom Line

By adding to our IRM position on Friday, we have lowered our basis to appropriately $32 and are basically even including dividends received. We added to the position because we saw the recent selloff as unwarranted. Income production is the primary objective of the portfolio. Nevertheless, capital preservation should always remain on the forefront of your mind. When deciding whether to double down on a losing position or simply cut your losses, you must be disciplined in your methodology. This requires you to have a discipline. Before you open a position, set some parameters for what you are willing to accept in regards to performance. I.e., if the stock falls by 10%, are you going to double down or sell off, and why? What factors will you consider? You must have a plan for the position. You may fall into the trap of buying into a full position all at once on the first buy. This is a bad mistake. Don't do it. The recent action in IRM is a great example for the discipline.

Disclosure: I am/we are long IRM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.