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Morningstar | Abacus Scales in Storage Bodes Well in a Consolidating Industry. FVE Increases to AUD 3.85

We have upgraded our fair value estimate for no-moat-rated Abacus Property Group to AUD 3.85 from AUD 3.70. The increase in our fair value is primarily due to raised assumptions for the amount of capital allocated to acquiring and developing more attractive self-storage assets. Abacus is in the early stages of exiting its higher-risk residential development activities and redeploying the capital to lower-risk self-storage assets. Relative to other commercial property assets, self-storage is high yielding, with the weighted average capitalisation rate of Abacus’ portfolio 7% at December 2018. Investment in new developments and expansions will typically generate yields above 8.5% and 15%, respectively. We have also factored in a reduction in Abacus’ corporate overheads as the firm reduces exposure to property ventures. Abacus currently screens as moderately undervalued, currently trading at AUD 3.65.

Our analysis of dynamics in the Australian self-storage industry points to an industry that is fast consolidating. Firms operating under the major brands (Storage King, National Storage and Kennards) should be able to boost returns to smaller assets by refining operations and implementing more efficient marketing and sales techniques.

We believe the scale benefits associated with the Storage King brand (25%-owned by Abacus) and Abacus’ low cost of debt means the firm can competitively bid for assets and still achieve returns above its cost of capital.

A further and powerful driver is increased awareness and usage of self-storage as a cost-effective and highly flexible option to store items for short or long periods. The storage industry is also seeing strong demand for niche but high growth and high margin storage options such as climate-controlled wine storage and secure firearms storage. Industry players globally have been flagging a more active involvement in the logistics supply chain of their business customers (for example, packaging, labelling and dispatching products for a fee), but to date we have not seen evidence of this evolving to be a material revenue stream.

Contrasting the Australian and New Zealand market with similar international markets points to a strong demand momentum ahead for self-storage and attractive growth ahead for Abacus' self-storage operations. The Australian self-storage industry (as measured by net lettable area per capita) is diminutive and appears to be in the early stages of expansion when compared with the U.S. and Canada--countries with similar average dwellings size that have storage industries that are 3 to 5 times greater than Australia on a relative basis. We think self-storage penetration rates in Australia will always trail the U.S., where storage rates are inflated by very high use by military personal on offshore posting (U.S. military headcount is proportionately 70% bigger per capita than Australia). Nonetheless, it is not a stretch to see the market doubling in size from current levels, where average storage space per capita is 0.17 square metres.

Further, awareness and acceptance are a major driver of self-storage demand and industry growth, and both seem embryonic in Australia. Representations by the major operating brands (Storage King, Kennards and National Storage) and market surveys by property consultancies continue to reveal low, but rising consumer recall of the major brands in Australian self-storage.