Elliott tries to turn around a decade-long laggard with new real estate investment

Elliott Associates sees a runway beneath Public Storage, and is pushing the self-storage company to boost investment and catch up to industry peers’ growth.

The company is one of the best known and better positioned in the self-storage space but hasn’t built up its asset base enough to stave off competition and is leaving too much money on the table with variable pricing algorithms and poor customer experience, according to the activist firm. The stock has underperformed storage peers by more than 300% in the last decade.

Elliott has nominated six directors to the Public Storage board to oversee a more aggressive growth strategy.

Business: Real estate investment trust (REIT). The company’s principal business activities include the ownership and operation of self-storage facilities, which offer storage spaces for lease, generally on a month-to-month basis, for personal and business use, ancillary activities, such as merchandise sales and tenant reinsurance to the tenants at its self-storage facilities, as well as the acquisition and development of additional self-storage space. The company’s segments include Self-Storage Operations, Ancillary Operations, Investment in PS Business Parks, Inc. and Investment in Shurgard Europe. As of December 31, 2019, the company had direct and indirect equity interests in 2,483 self-storage facilities that it consolidates (an aggregate of 169 million net rentable square feet of space) located in 38 states within the U.S. operating under the “Public Storage” brand name.

Stock Market Value: $40.3 billion ($228.93 per share)

Percentage Ownership:  n/a

Average Cost: n/a

Activist Commentary: Although Elliott is known for their activism in the technology sector, they have been successful activists in many sectors. Elliott is a $40+ billion hedge fund with tremendous resources to analyze potential investments. Their team includes analysts from leading tech private equity firms, engineers, operating partners – former technology CEOs and COOs. When evaluating an investment they also hire specialty and general management consultants, expert cost analysts and industry specialists. They often watch companies for many years before investing and have an extensive stable of impressive board candidates.

On December 14, 2020, Elliott sent a letter to the company announcing that it has nominated the following six directors for election to the company’s Board: (i) Benjamin C. Duster, IV, CEO of Cormorant IV Corporation, LLC, a finance operations and strategic advisory/interim management firm, (ii) Craig Macnab, Board member at VICI Properties Inc., a real estate investment trust specializing in casino properties, American Tower Corporation, an REIT and an owner and operator of wireless and broadcast communications infrastructure, and Cadillac Fairview Corporation Limited, a private company that invests in, owns and manages commercial real estate, (iii) Adam S. Metz, a non-executive director of Hammerson PLC, a property development and investment company and former Managing Director and Head of International Real Estate at The Carlyle Group Inc., a private equity, alternative asset management and financial services company, (iv) Michelle Millstone-Shroff, a Senior Advisor to McKinsey & Company, a management consulting firm, (v) Mahbod Nia, a private investor and former CEO and President of NorthStar Realty Europe Corp., a publicly traded European focused commercial REIT and (vi) Rebecca L. Owen, founder and chair of the board of directors of Battery Reef, LLC, a commercial real estate investment and management company.

Elliott proposed a plan for the company that includes substantial board refreshment, formation of a new Board committee to evaluate the company’s performance and plan, and restoring its relationship with shareholders starting with an investor Day in the first half of 2021. (On the same date as Elliott’s letter the company announced that it will be holding an investor day on May 3, 2021).

Elliott has made a substantial investment in the company, making it one of the largest shareholders, and has already been in communication with the company. The only reason that they went public with this letter is because their involvement has been reported on by the press and the company, and Elliott wanted to make sure the market had complete information. With respect to this investment, it has engaged a leading management consultant, conducted various surveys of customers and shareholders, talked with industry executives and experts, and led its own hands-on diligence including renting storage units at Public Storage and its peer companies.

Elliott sees Public Storage as a company with first mover advantage in this $40 billion industry, which has given it a moat of irreplaceable assets. Further, the company has the best assets and platform in the industry and has every structural advantage possible — the highest brand awareness, the best and most locations, and regional density. However, despite all of this, the company has underperformed both its storage peers and the S&P 500 every single year over the last decade, and cumulatively by -317% and -55%, respectively.

Elliott points to two main issues that are driving the company’s underperformance — a failure to invest more aggressively in the strong asset base and lagging same store sales growth, both of which Elliott believes have been compounded by poor corporate governance and lackluster investor relations. The company’s failure to invest more aggressively has been the primary driver. For several decades following its inception, Public Storage did invest heavily in expanding its store base, such that by 2010, it owned more than five times as many self-storage facilities in the United States than its largest competitor, and still only owned 5% of the industry’s square footage. With a pristine balance sheet, access to capital, high incremental returns on capital, an operational edge on competition and a highly fragmented industry of unsophisticated competition to acquire or out-develop, Public Storage was primed to dominate the next decade, but failed to do so. However, since then, the company has been out-invested by its peers who increased their store counts by 150% while PSA’s market share relative to its closest peer declined from 2.5x to 1.4x. Additionally, the company is well behind its peers on entering the third-party management space, which provides peers with minimal upfront capital and incremental “effective scale” through regional market share and opportunities for better decision-making. The company has finally entered this business but way too late and too slow for Elliott’s liking. However, the company still has an industry-leading platform and a base of properties that can yield high-return development, so Elliott believes that increasing investment to a level commensurate with its relative scale should drive accelerated growth.

Lagging same-store sales growth is the second reason Elliott believes the company has underperformed its peers. Elliott’s research and experience shows that the company lags its peers in customer experience and the company’s price-occupancy optimization algorithm is too highly sensitive to changes in occupancy, holding it back from maximizing revenue. Elliott believes that targeted spending increases throughout the store base will drive stronger revenue growth and position Public Storage to thrive and compete; and by investing in its employees, Public Storage can improve its customers’ experience and improve its growth trajectory to match and ultimately exceed its peers.

While the company has taken certain encouraging steps, including increasing capital deployment, launching new initiatives, raising unsecured debt, hiring a head of IR and most recently and following Elliott’s private outreach, replacing three Trustees, Elliott still wants to see more changes. Simply put, Elliott does not believe that the Board that presided over company while it trailed peers and ceded market share is the right board to lead the Company toward long term success. Elliott would like to see fresh perspectives and leadership changes in consultation with shareholders. Elliott’s six nominees certainly offer that.

While the six nominees offer a diverse amount of relevant experience, what is not included in its slate is an Elliott principal or executive. When an activist investor puts one of its own on the Board, it strongly signals long term commitment and contribution. While not adding a principal to the slate does not mean lack of commitment or continued contribution, it certainly gives the activist more flexibility in the management of its investment. This is in no way meant to say this type of activism is bad activism. In fact, it can be very value-added activism that creates tremendous value for shareholders. But from an activist campaign perspective it could lead to activism-lite, where an activist does almost all of their activist work up front, puts in an independent board and then just monitors it as somewhat of a passive investment. With limited resources and such a time-consuming strategy, this type of activism is necessary from time to time – not every campaign can be a “Citrix” where Elliott partner Jesse Cohn spent five years on the Board resulting in a 102.52% return for shareholders versus 49.54% for the S&P 500. However, this does not mean that Elliott will take its job of getting board representation here any less seriously. We expect them to do what it takes to put the company back on the right track.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments.