Iron Mountain: 9% Yield With Growth Prospects

Summary

• Iron Mountain currently pays a well-covered 9.3% yield.
• The potential growth catalysts that drive AFFO growth can cause the market to value IRM at a higher multiple eventually.
• IRM stock is still trading at a very attractive valuation after the rally.
• I bought shares for my personal portfolio.

My Investing Approach

Due to my relatively short investing time horizon, I search mostly for higher-yielding stocks. As I intend to retire from professional sports around 2026, higher income-producing investments are a priority for me to achieve my retirement financial goals.

My full portfolio is available here.

Due to the sharp recovery rally, yields have been suppressed, and it's harder now to find strong companies with high dividend yields.

However, there are still pockets of opportunities for income investors to take advantage of.

Iron Mountain (NYSE:IRM) is my latest buy.

It has lagged the recent rally in spite of strong business performance and is still trading at an attractive valuation and a high 9.3% yield.

Thesis

Iron Mountain is generating a lot of cash from its defensive Records Management business and is deploying that cash into faster-growing data center business segment. If successfully executed, this will accelerate the FFO growth and will help the company to lower its payout ratio from current level of 82% to "mid 60s - low 70s" as stated in the latest earnings call. This would further cement the safety of the generous dividend whilst providing growth and a possible revaluation of the company by the market to acknowledge the faster-growing data center segment.

The Company

Iron Mountain is somewhat of a unique REIT. They are in the business of storing records and managing information. From paper and digital documents/data to fine arts, they help securely store it for long periods. The company serves around 95% of the Fortune 1000 companies. This working relationship is crucial as they can cross-sell their services to existing customers. Especially now as they are aiming to becoming a serious player in the fast-growing data center business.

In total, the company has 225,000 customers in around 50 different countries and 50 different industries.

The revenue is derived from 2 main segments: Storage Business and Service Business.

The Storage Business is the more defensive of the two, with a very impressive 98% customer retention rate. The company stated that more than 50% of inbound boxes are stored in IRM facilities for 15 years on average.

Service Business is more cyclical as it depends on business activity of the customers and has therefore is more dependent on the health of the overall economy.

Source: Iron Mountain Presentation

Q1

Iron Mountain reported strong results in Q1. Revenue grew 3.2% on a constant currency basis, EBITDA growth (constant currency) was 14%, and AFFO grew at a very impressive pace of 20% YoY. Global organic storage revenue grew by 3%, and the company signed 6.4 megawatts of leases for the growing data center business segment.

As large parts of IRM's business are deemed "essential", they were able to keep 96% of facilities open. Fine Arts storage is deemed non-essential, so those locations have not been operational.

Catalysts: Data Centers and Project Summit

The company is actively working on re-vitalising growth.

They have entered the data center space by building out 120.6 megawatts of capacity, with another 22.8 megawatts under construction and 213.8 megawatts held for development. Although the data center revenue currently only represents 6.3% of current revenues, it has significant growth potential if they build out their existing capacity.

Data center business saw great organic revenue growth of 10% in Q1, and IRM signed another 6.4 megawatts in leases. The company's plan is to add between 15 and 20 megawatts' worth of leases in 2020.

With data center REITs trading at very elevated valuations compared to IRM, as IRM manages to grow this segment to a bigger % of total revenues, the market eventually has to factor that in. That would be a significant boost to the share price.

The Project Summit restructuring program that was announced last year is another positive catalyst. Project Summit is allowing the company to significantly cut costs. Initially, IRM estimated around $200 million in adjusted EBITDA benefits after 2021 from Project Summit, but lately, they estimated it to be closer to $375 million.

This is a lot of funds that IRM can take and invest in the fast-growing data center segment to drive growth.

The program will cost around $450 million to implement, but the long-term benefits are well worth it if they manage to execute it as promised.

Source: Iron Mountain Presentation

Dividend

At the time of writing, the dividend is yielding 9.3%. On an annualised AFFO ($3.22) basis, the dividend is covered with a 77% payout ratio. The company wants to reduce the payout ratio to mid 60%-low 70% through AFFO growth over the coming years. Dividend growth has been very low lately, with the latest raise coming in at 1.2%. It is understandable as they want to reduce the payout ratio, and the high starting yield more than makes up for it for current investors.

Balance Sheet

IRM currently has $153 million in cash and a further $1.1 billion available through a credit facility. With no debt maturities in 2020, the company is under no stress on that front. Whilst the non-investment grade credit rating is certainly not desirable, the company has been able to issue debt at a more favourable interest rate than the credit rating would suggest. The current weighted average interest rate is 4.5%, down from 4.8%. 78% of the total debt is fixed rate. On a net lease adjusted basis, the leverage is around 5.6x EBITDA.

Valuation

Iron Mountain stock was hurt alongside the broader market during the crash. The stock price declined 39% from peak to trough. It has since bounced 27% from the lows but is still trading 22% below its 52-week high and, more importantly, at an attractive valuation of 8.4x adjusted annualised FFO ($3.22).

I believe IRM deserves to trade at a higher AFFO multiple due to its growing data center segment.

Risks

Although some segments are holding up well in spite of the coronavirus pandemic, the business as a whole is still struggling. Whilst the core storage and data centers are showing resilience during the pandemic, the service segment is seeing much less revenues. Service revenue makes up 34% of total revenues, and the company is expecting around -40% YoY activity in Q2 in that segment, based on April. Even the storage business is affected, as the company will receive less boxes to store from their customers, therefore reducing growth prospects in the short term. Due to the coronavirus, the company is expecting total revenue to be negative for the full year. However, due to the current sufficient liquidity and favourable debt maturity situation, they can weather the storm.

The data center segment that is the catalyst for growth is still in its early years for IRM, and success there depends largely on the company's ability to leverage their relationships with existing customers in other segments and turn them into their data center customers as well. The construction progress of data center projects has also been affected by the pandemic.

As IRM handles sensitive data, the risks coming from potential lawsuits, such as this one in 2013, exist as well.

The shift from physical paper storage to digital storage options is a long-term secular risk for IRM's business. However, in many industries, physical documents are legally required to be kept for long time periods, and the company is also diversifying into other more digital areas.

Summary

I rate Iron Mountain a "BUY" at current levels. The combination of a high, sustainable dividend and potential catalysts to drive the share price higher makes this an attractive investment. I recommend income-seeking investors look into this REIT to see if it fits their portfolio and risk tolerance.

Analyst’s 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.