Same-store revenue is negative and the distribution hasn't moved

Sixteen facilities, aggregation strategy, I'm four quarters in as an LP. Latest report:

Same-store revenue down 1.8% year over year. Physical occupancy 89.4%, was 91.2%. In-place rent per square foot up 2.1%. Street rates on comparable units down about 6% across their markets, their own number from their own report, which I give them credit for printing.

Distribution held at 6% annualized. Coverage from operations went from about 1.3x to 0.82x, so the shortfall is being funded, and a footnote says draws on a $2.4M facility-level line are available for working capital and distributions.

So they are holding rate on existing tenants, letting occupancy bleed, and borrowing the difference to keep the check the same size. In-place is now well above street, which means anyone who leaves is replaced at a lower rate, and the existing customer rate increases that got them the 2.1% are the same thing pushing people out the door.

I'd rather they cut the distribution to 3.5% and stop drawing the line. I don't get a vote on that.

What I'm trying to decide is whether this is ordinary smoothing through a soft patch or the early version of something worse, and what number would tell me the difference. Their first loan maturity is 2028 and I don't have the full ladder. Anyone who has watched a storage portfolio go through this, what did you look at that actually predicted which way it went?

Answer

1brandonlee36Passive

I sat through this on a smaller scale, ten properties, different asset class, same shape. Four numbers told me which way it was going, and I'd ask for all four in writing.

First, the gap between in-place rent and street rent, per market, expressed as a percentage. That gap is your downside on every unit that turns. If in-place is 14% above street, then a 40% annual turnover rate mechanically drags revenue for a year even with zero further street decline. If the gap is 3%, the same story is noise. Your 2.1% in-place growth against a 6% street decline says the gap is opening.

Second, move-ins per month against move-outs per month for eight quarters, not occupancy. Occupancy is the running total and it lags.

Third, the actual loan ladder, every facility, maturity date, fixed or floating, current DSCR against the covenant, and whether any of it has a cash management trigger. A soft patch with no maturity inside three years is survivable. The same soft patch with a 2027 maturity and a 1.20x covenant at 1.26x actual is a different problem, and the distribution policy stops being the story.

Fourth, the sponsor's rate management practice in writing. Are they still pushing existing customer increases at the same cadence and size while street is falling? That choice is what produced your 2.1% and your occupancy drop, and it's reversible. An operator who holds rate to protect the reported number through a refi appraisal is optimizing for something that isn't your return.

What predicted it for me was the third one. The portfolio that survived had staggered maturities and a lender who'd already agreed in principle to an extension. The one that didn't had everything due in one year.

On your preference for a 3.5% distribution, I agree with you, and I'd ask them the question directly and keep the answer. Not because they'll change, because the way a sponsor answers "why are you not cutting" tells you whether they're managing the asset or managing the LP base.

9 replies

2paulgrant17PassivePRO5

I don't follow one bit. If rent per square foot went up but revenue went down, is that just because fewer units are occupied? So they raised rent on the people who stayed and lost enough people that the total was still lower.

2nicole_adeyemiPassivePRO5

@wren yes, that's exactly it. Rate up, units down, product of the two down.

@quill the thing I'd want is the move-out reason data if they collect it, and the move-in volume by month against last year. Occupancy is the score, move-ins are the pulse. On my land holdings I have no equivalent, but the principle carries: the level tells you where you are, the flow tells you where you're going.

3tylerbrooks9PassivePRO5

Honest reaction: borrowing to pay a distribution is the thing I try to avoid entirely, so I'd be halfway out the door. Except you can't get out, presumably. Are secondary sales even permitted in your docs, and at what discount would you be looking?

2priya_n21PO1C

The part that bothers me is that a 6% check funded from a credit line looks identical on my statement to a 6% check funded from rent. If I'm buying income, and the income isn't there, I'd want the number to tell me the truth. @quill did the report say plainly that distributions were funded from the line, or did you have to work it out from the coverage figure?

1mikeoconnell7SP2APRO6

Small thing from watching operators pitch service contracts: when a portfolio starts holding rate on in-place tenants while street rates fall, marketing spend usually goes up at the same time. Ask what they spent per move-in this year versus last. If cost per move-in jumped and move-ins still fell, the occupancy slide is about demand in those markets and not about their execution, which changes what a new manager could fix.

4aliyah_bAU2APRO6

$2.4M against sixteen facilities isn't much cushion. Do you know what the line costs them and whether it's floating? Paying a 6% distribution with money that costs more than 6% is a slow bleed even if everything else stabilizes.

1samantha_ruizAU4APRO6

Adding to @thicket's list, ask for square feet of new competitive supply that opened within a three mile ring of each facility in the last 24 months. Some of a 6% street decline is macro and some of it is a new building down the road, and those two have completely different recovery timelines.

2joe_delgado5AP4CPRO6

Devil's advocate. Holding occupancy at 89% while pushing in-place up 2% in a soft market isn't obviously wrong, it's a rate-over-volume choice and it's the choice that pays if street rates recover next year. The problem is the borrowed distribution sitting on top of it. If they'd cut to 3% and run the same rate strategy I don't think you'd be posting.

Same-store revenue is negative and the distribution hasn't moved

9 replies