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Morningstar | Abacus Takes Steps to Become King of Self Storage. FVE Increases to AUD 3.70. See Updated Analyst Note from 17 Feb 2019

Abacus Property Group reported first-half fiscal 2019 earnings on a funds from operations, or FFO, basis of AUD 11.3 cents per security, or cps, down 18% on the previous corresponding period, or pcp. The decline in FFO is of little consequence as the pcp was buoyed by high and nonrecurring transaction profits. The first-half dividend of AUD 9.25 cps remains conservative, representing 82% of FFO. Fiscal 2019 earnings guidance was not provided, other than a reiteration of a distribution target of AUD 18.5 cps. We’ve revised our forecasts, and now assume nearly all capital released from asset sales in other parts of the business is used to acquire mature self-storage assets or redevelop existing self-storage assets. The higher weighting to self-storage positively impacts Abacus’ long-term earnings growth outlook. We’ve also pushed back the expected date for Abacus to realise its investment in the regeneration site of Camellia from 2020 to until 2024. Our fair value estimate is increased to AUD 3.70 from AUD 3.55, with no-moat-rated Abacus screening as fairly valued at current levels.

In the past year under CEO Steven Sewell, Abacus’ investment focus has narrowed but is still not crystal clear to us. Self-storage is firmly the favoured property class and as such will be the major beneficiary of capital as Abacus exits speculative residential and apartment development and lending to developers. City fringe office buildings appear to be Abacus’ second most important asset class. Abacus seems largely content with its current office portfolio and following the newly announced joint venture with Melbourne developer, Salta, will participate in an inner-city brownfield office development.

We view investment in office development after a multiyear period of growth in rents and very high office valuations as a higher-risk activity. Our concerns stem from office rents and occupancy having both been inflated by stimulatory monetary and fiscal policies. At this point, Abacus’ exposure to new office development is modest relative to the overall portfolio and we’d prefer it stay that way.

There is a lot to like about self-storage, most particularly yields for acquisitions and development capital expenditure of approximately 7% and 9.5%, respectively. These yields are roughly 20% to 30% higher than what is commonly achieved in the major property categories of office, retail and industrial. Further, operating metrics are very attractive with negligible maintenance capital expenditure and revenue per available metre, or RevPAM, increasing roughly 3% annually over the past four years.

Our major concern around self-storage in the resilience of tenant demand and rents to economic volatility. Rents for the self-storage assets of Abacus and major peers National Storage and Kennards have benefited from a high rate of turnover across the Australian housing markets in recent years. The current weakness in dwelling prices and slower sales rate is likely to impact demand from households who store their possessions as they move between dwellings. A positive is the operating metrics have actually improved in recent months, with average length of stay increased to 42 months at December from 40 months at June 2018.