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Morningstar | Slow Internal Volume Growth in Mature Markets, but Other Trends Are Positive for Iron Mountain

Narrow-moat-rated Iron Mountain reported solid second-quarter results that were well in line with, even slightly ahead of, our expectations, supporting our long-term thesis on the firm. Revenue and EBITDA came in slightly ahead of our projections, and the firm has completed more acquisitions since the end of the March quarter. Based on this and other updates to our valuation model, we are increasing our fair value estimate for Iron Mountain to $38 per share from $37.

The company's adjusted earnings per share came in at $0.30. While this was flat on a year-over-year basis, much of the shortfall was due to the share issuance associated with the firm's recent data center acquisitions. Total revenue was up 11% year over year on a constant-dollar basis, with adjusted EBITDA up 15%. While acquisitions and currency movements helped, internal growth was still 4.1% on an overall basis, and 1.9% for storage rental revenue and 7.6% for service revenue. Although data center margins remained in the 45% range during the second quarter, we believe this will expand to 50% or higher over the medium term.

Internal storage volume growth was a bit weaker, at positive 0.2% for Iron Mountain as a whole, and negative 2.4% for North America, which was slightly worse than last quarter. Management had already guided to a slow start to the year for this metric, so third- and fourth-quarter results will be key indicators for us as to whether the pressure will begin to abate, as we believe it will. On the brighter side, Iron Mountain's other international operations still saw strong internal growth of 1.4%. And even with weaker internal volume growth, pricing measures have tended to more than make up for it, as internal storage rental revenue growth was positive for both North America and Western Europe during the second quarter.

The corporate and other segment, helped by the Artex acquisition, also saw strong growth, and internal revenue growth was still 6.5%. We wouldn’t be surprised to see another acquisition in this segment sometime in the next two years. Finally, internal service revenue continued its strong growth, up 7.6% year over year during the second quarter. This was partially boosted by unusually high shredding revenue, but either way, the return to consistent positive growth is a good sign for the firm.

Overall, Iron Mountain remains well on track for all of the key items we are monitoring. Data center growth and overall margin expansion is well on track, service revenue continues to grow, and emerging-market storage growth remains strong. Deleveraging should begin to occur, even as the firm maintains a roughly 7% dividend at today's share price. The one area left for improvement would be internal volume growth in mature markets, which we will watch for in the back half of the year.

While the mature, document storage business will continue to be a key driver for Iron Mountain, the firm has kept the ball rolling on its transition to other markets and business segments. The company acquired another data center firm, EvoSwitch in Amsterdam, during the second quarter, with growth here coming in slightly ahead of our expectations. The acquisition was funded with debt without increasing the firm’s financial leverage, supporting our thesis that Iron Mountain has the capacity to deleverage over time while still maintaining its dividend and investing for the future.

For an in-depth analysis of Iron Mountain, please see our April 24 Select report "Iron Mountain Stands Firm Against Paperless Tide."

Additionally, Iron Mountain investor relations is participating in the Management Behind the Moat conference held at Morningstar's Chicago office on Nov. 7-8, 2018. If you are interested in attending the conference, please reach out to your sales representative for registration information.