Operator:

Good day, everyone, and thank you for standing by. Welcome to the Second Quarter 2024 Extra Space Storage, Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. I will hand the call over to the Vice President of Investor Relations, Jared Conley. Please go ahead.

Joe Margolis:

Thanks, Jared, and thank you, everyone, for joining today's call. We had a great quarter, exceeding our internal FFO per share projections due to outperformance in multiple areas of our business, allowing us to increase our 2024 FFO outlook. We experienced steady improvement in Extra Space same-store occupancy for the second quarter, ending at 94.3% and continue to see occupancy gains in July. Our second quarter occupancy represents 110 basis point sequential gain over our first quarter occupancy and a 30 basis point improvement year-over-year. In the same period, the average move-in rate improved by approximately 12%. However, it is still about 8% below last year's average moving rate. The combination of increased move-in rate and occupancy gain contributed to a 0.6% increase in Extra Space same-store revenue year-over-year. Same-store expenses increased by 6% for the quarter compared to the same period last year, marginally better than internal projections. As expected, we saw significant gains in occupancy for the Life Storage same-store pool, finishing the quarter at 93.8%. This represents an increase of 400 basis points year-over-year and a 200 basis point improvement over first quarter levels. The occupancy gains drove revenue growth for the Life Storage same-store pool of 1.8% year-over-year. Given the occupancy gains, we expected to generate significant pricing power at the Life Storage properties. Midway through the quarter, we eliminated the move-in rate discounts and placed new customer pricing for the Life Storage properties on par with comparable extra space stores. However, the pricing improvement at the Life Storage stores has been below our internal projections. We are confident our approach is maximizing revenue at these stores. However, progress has been slower than anticipated. We remain convinced that we will continue to close the rate gap between Life Storage and extra space stores over time. Life Storage same-store property expenses increased by 0.8% year-over-year, significantly better than our internal projections. The team has done a great job finding additional expense efficiencies, and we can now project lower expenses, particularly with respect to property taxes and in the controllable areas of R&M, utilities, and payroll for the second half of the year. Turning to growth. While the transaction environment remains muted, our capital-light external growth programs continue to make gains. In the quarter, we added 77 third-party managed stores, netting 14 stores after factoring in the expected departure of a large portfolio that internalized management. Year-to-date, we have added 86 net stores to the platform, one of the strongest first halves of the year ever. Additionally, our bridge loan program expanded with $433 million in new loans originated in this quarter. Our greater scale and sophisticated operating platform have led to meaningful wins in other areas of the business, including G&A and tenant insurance. We're working hard to continue to find efficiencies in all areas of the business to drive FFO growth despite the difficult operating environment at the stores. I will now turn the time over to Scott.

Operator:

Thank you. [Operator Instructions] Our first question is from Michael Goldsmith with UBS. Please proceed.

Joe Margolis:

Sure, Michael. So when we took the portfolio over, we had a significant 420 basis point occupancy gap. And that was the first thing we worked on. And the main tool, we used over the last year was discounting the new customer rate at the Life Storage stores below the Extra Space stores. And we made good progress. And by mid-quarter, we were close enough to occupancy parity that we remove that extra discount at the Life Storage stores. We then thought we would gain pricing power, and we just didn't gain as much as we did. The customers new customers remain price sensitive, and we haven't been able to move new customer rates at the Life Storage stores or the Extra Space stores as much as we would have hoped. So that is certainly a factor in our projected revenue for the Life Storage stores for the rest of the year. Another factor is geography, as you pointed out. When we close this merger, one thing we were excited about was the effect on our portfolio footprint. By merging with Life Storage, we reduced our proportional exposure to California and increased our proportional exposure to Sunbelt markets, including Florida, for example. And we still are happy about that. We think long term, we believe in the Sunbelt. We believe in Florida. We're happy to have greater exposure in those growth markets. But it worked against us this year. Extra Space has 23% of its same-store revenue coming from California, Life Storage has 7% and California is an outperforming market this year. And conversely, Extra Space has 10% of our same-store revenue coming from Florida, Life Storage has 16% and Florida is an underperforming market this year. So I think it's timing. Long term, we like where we are. We think we'll close the rate gap and we like our geographical footprint.

Joe Margolis:

Yes. I mean, clearly, a pickup in demand would be positive. Whether that's going to come from the housing market or otherwise, I think it's probably a little of both, right? We'll probably have a slow and steady improvement in the housing market, not a hockey stick. I think continued moderation of new development is a positive that will help us as well. So, we can't control market conditions, but we can control how we react to them. And I'm highly confident that our systems will optimize performance given whatever market conditions were presented with. And when I look at our occupancy, which is 94 -- Extra Space same store pool, 94.5% in July and 93.9% for the Life Storage in July. I'm very confident in our systems are capturing the demand that's out there and maximizing revenue.

Joe Margolis:

Thank you.

Steve Sakwa:

Yes, thank. I guess, good morning still out there. Maybe Joe or Scott, can you maybe -- maybe I missed it, did you touch on the July trends at all? And if you haven't, could you just kind of provide where July trends are on some of the key metrics like occupancy and the revenue growth or kind of move-in rents. Thanks.

Steve Sakwa:

Okay. Great. Thanks. And then, Joe, maybe just going back to this EXR LSI and the pricing and a little disappointing that you didn't get the rate. I'm just wondering, is it possible that the customer mix was different. And before the merger, if LSI had lower street rates and charge less that attracted 1 type of customer and the fact that you're trying to bring them up to parity with EXR, just kind of either pushes them out of the system? Or I guess I'm just trying to think, is everybody at the same pricing level or do you have to fully turn that customer mix to get them back up to parity on the EXR rent side?

Scott Stubbs:

Yes. Steve, we would point a little bit more to this being a new customer issue, meaning the existing customers are still behaving quite well. We're seeing strength with those customers. But the new customer has been price sensitive, and this came at a time when we were trying to increase occupancy.

Joe Margolis:

Sure.

Eric Wolfe:

Hey, it's Eric Wolfe here with Nick. Sorry, if I missed this in the last question, but did you say where LSI rates are compared to XR. Just curious whether you took it back down to that sort of 10% gap that was in place before.

Eric Wolfe:

Okay. So you haven't dropped them back down. And so the guidance reduction of 200 basis points, isn't due to pricing, it's due to less moving customers, less occupancy? Like I'm just trying to understand what sort of specifically drove that 200 basis point -- 200 basis point reduction.

Scott Stubbs:

Eric, you've effectively brought more customers in at lower prices, so you're starting off a lower base. And that takes some time to work through. We expect those customers to accept rate increases similar to other customers, but it does take time to work through if they came in at lower rates.

Scott Stubbs:

So some of that can be timing on the numbers you just gave and exactly where they are. And then some of that is expansion or change in units. We are constantly modifying our units in terms of converting them large to small or small to large, but there is some degree of expansion in our portfolio.

Joe Margolis:

Thanks, Eric.

Juan Sanabria:

Hi. Just wanted to follow up on that prior question. But from the perspective of the new customer rates, so how much -- or how have the new customer rates changed as a result of I guess, still having a price-sensitive customer. I get it that it takes a while to move the in place. So how have you changed your thought process after reaching occupancy parity for that new customer? And how does that compare to extra, I guess, relative to prior guidance. Still a little bit unclear there.

Juan Sanabria:

Just to compare with versus the extra experience, you haven't necessarily had to have stayed as aggressive for new customers on the extra versus LSI.

Juan Sanabria:

And that's just due to geographies?

Juan Sanabria:

Got you. Okay. Then just to -- what should we think of as the exit run rate for both pools for same store revenue? Just in general, we could do the math on what's implied for the second half, but should we think of the growth rate for same store revenue improving or being fairly steady between the third and fourth quarter for each of the two pools?

Juan Sanabria:

Thank you.

Keegan Carl:

Yeah. Thanks for the time, guys. Maybe first, just two-parter, I guess, how do you think about your marketing spend trending the rest of the year, and ultimately, what's that translating to in your top-of-the-funnel demand?

Keegan Carl:

Then just on top-of-the-funnel demand, I guess just more broadly, what are you guys seeing and maybe how does that compare to your comments at NAREIT?

Keegan Carl:

Got it. Then just maybe more broadly within your embedded guide, I guess I'm just curious on a year-over-year occupancy Delta versus last year, just any more color and how you expect to trend through the back half, and if you've changed any of those assumptions in your guidance range?

Keegan Carl:

Great. Thanks for time guys.

Operator:

Thank you. Our next question comes from the line of Joshua Dennerlein with Bank of America. Please proceed.

Joe Margolis:

Well, I mentioned geographical differentiation between the pools. Certainly, that's one thing. I would also say that we have not gotten the improvement in the Life storage organic strength, SEO strength that we expected. And we've made up for some of that to increase marketing spend, increased paid search. Scott just mentioned that. But our thought was a year or nine months really into running the second brand, second website, the Life Storage, SEO would be closer to the Extra Space strength than it actually is.

Joe Margolis:

So the decision to test dual brand was based on the theory that if we have twice the digital real estate in the paid section, in the local section and in the organic section, we would have more clicks and more rentals and that benefit would outweigh the cost of running two brands. And we certainly see that in the page that's easy to buy it. We've had progress and are seeing movement in the local section where we have -- we've been most disappointed is in the organic section. And it's something we're looking at. We're looking at the data. We'll let the test run its course, and then we'll make the decision.

Joe Margolis:

Sure.

Ronald Kamdem:

Hey, just two quick ones, staying on the different pools between Life Storage and EXR. I guess, if we think about three to five years out, when should we expect both pools behave similarly. I mean, it sounds like the pricing is the same or the average prices are the same, maybe one has higher occupancy. But at what point does this converge, or will it always sort of be two separate pools three, four, five years down the road?

Ronald Kamdem:

Got it. Okay. That's helpful. And then my second commentary question, I should say, is just maybe can you talk about that you talked about, there's a lot more sort of competition or pricing in the market. Maybe if you could just contextualize that. What do you think specifically is driving that? Is that less activity in the housing markets? Is it the consumer is more price sensitive? Like, what do you think is maybe leading to a little bit more competition than you would have anticipated on the pricing?

Ronald Kamdem:

Okay. That's it for me. Thanks so much.

Operator:

Thank you. Our next question comes from the line of Ki Bin Kim with Truist.

Joe Margolis:

I think there's a number of ways to observe it. But the best way is we'll pretty continually run a test where we have a series of stores or units at stores that are priced 5% higher or 5% lower than we think they should then the model thinks they should be. And we can see the consumer reaction to a 5% increase in prices or a 5% decrease in prices. And that really helps us kind of zero in on what the right price is and which -- which combination of rate and rental volume and discount and marketing spend maximizes revenue.

Scott Stubbs :

Yes. So on the payroll side, first half of this year, it is slightly elevated. Some of that's a comp issue. So last year, we ran fewer hours at the stores, as we were basically just a little bit understaffed. So this year, it -- not only do you have the wage increase, you also have the increase in hours. We would expect that to be less in the back half of the year to become more inflationary. In terms of utilities, we've actually been quite aggressive on the solar side for a lot of years. Prior to the Life Storage acquisition, we had about 50% of our fully owned stores that have solar on them, so that is clearly benefiting us. We continue to look for opportunities to have a good yield, and we continue to install solar. One of the opportunities with the Life Storage acquisition is more stores to install solar. We've also been focused on our HVAC and getting that to be more efficient. We've also done a lot of LED lighting. So solar is obviously a big component of that and probably the bigger driver, but also some opportunities on HVAC and LED lighting.

Ki Bin Kim:

All that makes sense to me. Thank you.

Operator:

Thank you. Our next question comes from the line of Brendan Lynch with Barclays.

Joe Margolis:

Sure. So our increase of guidance was really the function of us capturing three deals that we didn't expect to. And it's not a reflection that we see the market changing drastically. I think the market is still muted. There's still a bid-ask spread. There'll likely be a few more transactions at the second half of the year as there always are in any year. But I don't think there's a material change in market dynamics, right? Leverage buyers are still on the sidelines. Most storage owners aren't in distressed. They don't need to sell. And if they can't get their price, they'll just hold or frankly, what we're seeing, they'll come to us for a bridge loan. And one of the reasons our bridge loan activity is up is because the acquisition market is quiet and people are looking for other options.

Joe Margolis:

This was a owner that we inherited from Life Storage. They were a capital partner. They purchased a self-storage company and operating platform and moved all of their stores to that operating platform. So we lost 63 stores in the quarter, 59 of them were because of this internalization of management. Other than that, we only lost four stores. So part of having over 1,400 stores on our third-party management platform, is that every now and then you lose a portfolio, and we've lost portfolios in the past, but we continue to grow at a very healthy pace. We've added 174 stores gross throughout the year and 86 net, and that's a very, very healthy year for us, and we see the demand continuing.

Operator:

Thank you. Our next question comes from the line of Hongliang Zhang with JPMorgan.

Scott Stubbs:

So we don't see a catalyst for a big -- for us to be able to have a lot of pricing power. I think that's the reality. I think with housing market down with the consumer where they are, we don't see a strong catalyst. Our guidance doesn't imply that. That being said, we are going to -- the street rates are somewhat an outcome of your occupancy, your rentals, the volume, what you're giving. And we're going to solve for occupancy -- the first thing we look at is occupancy -- I'm sorry, not occupancy, but for revenue, sorry. So you can use occupancy, you can use street rate all to solve for occupancy. And as we've always said, we are solving for I did it again. We are solving for revenue. We want to make sure that we use these other tools to solve for revenue.

Scott Stubbs:

I know .

Joe Margolis:

No. Now that everything is priced at parity they're on the same system, they're on the same ECRI system. So it's the same.

Operator:

Thank you. Our next question comes from the line of Todd Thomas with KeyBanc Capital Markets. Please proceed.

Scott Stubbs:

So I think it was really more a function of us taking the bottom end of the guidance off the table. Based on where the stores are halfway through the year, we didn't feel like that was a likely scenario.

Joe Margolis:

No. So we addressed the differences in website, and I'll give you one example. When we closed the transaction, the LSI website was twice as slow or the Extra Space website was twice as fast as the LSI website. And that's an important signal to Google. That's one of the factors Google looks in when they decide who's going to be first in the SEO ranking. So all of those things that we could address, we addressed. So the websites physically, if you will are now comparable. The challenge we're having is if Life Storage average seven or eight, the seventh or eighth spot on the SEO, and we've improved it to five to six, that's not enough to get the results we want. We need to continue to see improvement where we could get that up into the top three locations to get the benefit we're hoping for. And there are dozens of factors that Google takes into account in determining when someone searches storage near me, who they're going to put first in the organic rankings and who they're going to put second and third. And those are the things that we need to work on and continue to see improvement in.

Scott Stubbs:

Our plan would be to move them into same-store, but we would still provide the previous year, so you should be able to see it kind of before and after.

Operator:

Thank you. Our next question comes from the line of Omotayo Okusanya with Maryland REIT Research.

Scott Stubbs:

Yeah. So when you look at the average rent per square foot between the two portfolios, they are structurally different somewhat. Some of them are -- they're in different demographics, different markets. And when the markets where we compete is the markets we refer to closing the gap. So we would expect them to behave like the Extra Space property in the markets they compete, and we would expect them to continue to perform better on the Extra Space platform, but not necessarily be on the -- at the exact same rent per square foot.

Joe Margolis:

Yes. So, we've grown that pretty significantly this year for a few reasons. One is we had very few maturities this year, and some of those maturities chose to extend. I discussed earlier kind of the effect of a muted acquisition market on greater demand for that product. And then we made a capital allocation decision, right? We had a quiet year on the acquisition front. So, we're holding incrementally more of the loans on our balance sheet because that's a good use of capital when we don't have as many acquisition opportunities. I would expect over time, things will change and maybe when the acquisition market gets more active, we'll sell more loans and hold less on our balance sheet. We certainly have more maturities next year than we do this year, and we'll have to address that. But I think this is a viable business that serves a number of benefits to the company and increases our management business. It gives us an acquisition pipeline. It increases the number of relationships we have across the business and provides great economics. So, I think it's a business we can continue to grow.

Joe Margolis:

Sure.

Nick Yulico:

Thanks. I know you guys gave some of the move-in rate commentary for July. I just wanted to see if it was possible to get sort of like the dollar rate. You give it in this up for the quarter ended the 133. Is it possible to get what that number is for July?

Joe Margolis:

That's Extra Space.

Nick Yulico:

Okay. Perfect. Thank you. And then I guess the other question is just on the balance sheet. Scott, like what -- the line of credit balance going up, which I assume is related to all the bridge loan activity, how should we think about just debt, how you're thinking about the debt component going forward because the balance has gotten higher? Thanks.

Nick Yulico:

All right. Thanks.

Joe Margolis:

Great. Thank you very much, and thanks, everyone, for your time and interest in Extra Space Storage. But a lot of questions about Life Storage and how it's not performed as expected. I truly believe that's a timing factor. We will get to those rates and that improvement that we want. And when I look across all other areas of the business, whether it's our expense control, our G&A, our ancillary businesses, like management, bridge lending, the company is really performing at a very high level, and I'm confident we can continue to do so in the future. Thank you very much.

Operator:

Good day, and thank you for standing by. Welcome to the First Quarter 2024 Extra Space Storage Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded.

Jared Conley:

Thank you, Michelle. Welcome to Extra Space Storage's First Quarter 2024 Earnings Call. In addition to our press release, we have furnished unaudited supplemental financial information on our website. Please remember that management's prepared remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act. Actual results could differ materially from those stated or implied by our forward-looking statements due to risks and uncertainties associated with the company's business. These forward-looking statements are qualified by the cautionary statements contained in the company's latest filings with the SEC, which we encourage our listeners to review.

P. Stubbs:

Thanks, Joe, and hello, everyone. As Joe mentioned, we had another good quarter, driven by steady revenue, G&A savings, and better-than-expected property operating expenses, specifically property taxes. The G&A savings have been from a broad range of categories as we continue to seek efficiencies and capitalize on our greater scale. As mentioned in our prior call, we closed a $600 million bond offering in the quarter at a time when interest rates were more favorable than the current environment. Proceeds were used to repay the bridge loan that we used to acquire Life Storage and the offering helps reduce our exposure to variable interest rate debt. Our balance sheet is in great shape, and we have plenty of dry powder to capitalize on an improving transactions market.

Michael Goldsmith:

Can you talk a little bit about what the trend was in April and how that kind of compares from the last couple of months of the end of the first quarter?

Joseph Margolis:

So that 92.7% is the Extra Space same-store pool. We're at 92.8% for the Life Storage same-store pool.

Joseph Margolis:

So street rates is only one component, right? And we're kind of agnostic as to whether we can maximize our revenue through street rates, through occupancy, through discounts, through marketing spend, through ECRI. So there's no one number we're targeting for any one of those metrics. We're trying to mix and match them to maximize revenue.

P. Stubbs:

Michael, we actually have not broken out street rates. If you remember on the last call, we actually didn't break them out. We said when we did our budgets, when we did our estimates and forecast, we did it based on revenue growth. And so street rate is a component of that, as is occupancy. And obviously, the better the street rates are, the better the occupancy, the higher we are going to be in that range.

Jeffrey Spector:

I just want to confirm, thinking about your comments and where we stand here, May 1 versus, let's say, the last couple of years, where there was a bit less visibility, seasonality was a bit distorted or, I guess, can you just put the context of how you feel today versus the prior 2 years? Because it sounds like you're more comfortable, confident maybe with that seasonality. Normal seasonality trends are kicking in and we should expect that to continue for the remainder of the year.

Jeffrey Spector:

I understand that, Joe. I guess I'm just asking, though, again, part of the issue in the last couple of years was pinning down seasonality trends, right? And I feel like it's important to have a grasp on that seasonality trends are back normal, so your operations and systems are running smoothly and you're confident in those systems. Is that not a fair way to think about it?

Jeffrey Spector:

And do you think we'll have a better feel when we see you at NAREIT, or again, could it be later in the summer like last year?

Operator:

Our next question comes from Eric Wolfe with Citi.

P. Stubbs:

Eric, so the main driver of that is not the 165 stores. I mean, those stores actually increased our performance in the quarter. I think they added about 40 bps to our revenue growth in the quarter. Our revenue growth throughout the summer is impacted somewhat by our performance last year. Obviously, where you're coming off higher numbers, comps do get easier as you move throughout the year. But we are not seeing -- our current expectation, similar to when we gave our annual guidance is we're not expecting a major recovery from the housing market today. We're expecting things to kind of perform as they are today and not seeing a major rebound. And I think that's maybe one difference from what some other people have projected or thought.

P. Stubbs:

Yes. So obviously, it's a range that we provided. So it will depend a little bit on where you are in that range. But the way we're viewing this is, as occupancy moves up to parity with the Extra Space stores, those rates will move up. So today, our Life Storage stores have rates that are 5% to 10% below our Extra Space stores, as they are growing faster. We saw very good rentals in the first quarter. We've continued to close that occupancy gap. We would expect that occupancy gap to be closed at some point during this rental season and then see the growth in the back half of the year.

Nicholas Yulico:

First question is just can you give us a feel for how ECRI is trending year-to-date versus, let's say, the back half of last year? On a percentage basis?

Nicholas Yulico:

And then in terms of -- maybe could you just elaborate a little bit further on that pricing strategy right now where it feels like it's been a heavily discounted promotional move in, web rate in some cases, and then you're trying to get that customer back up to a more normalized rate in a pretty quick time frame. Are you getting pushback from customers? I mean, what's sort of the feeling for that? And I guess I'm wondering, at some point, do you move away from that strategy as you get more comfortable with occupancy, and then that will help show improvement in move-in rates? How should we think about that?

Juan Sanabria:

Just hoping you could talk a little bit about the transaction market. You guys have done some deals in the first quarter and then expected to close over the balance of the year. So maybe you could give us a little flavor for the going in and stabilized yields that you're underwriting to?

Joseph Margolis:

So an advantage of our scale is how diversified we are and the exposure we have to many, many, many markets. And that's a purposeful portfolio of construction, because all of our data tells us that markets act differently. Not all markets move in the same direction. Even if you start to categorize markets by primary, secondary, tertiary, coastal, or whatever, they don't act with any correlation. And the reasons markets act differently is because of new supply situations, because of job growth and population, and because sometimes if the market does really well for a couple of years, as revenue growth over 20%, like we experienced in Atlanta, then the next year, it's not going to be so good.

Operator:

Our next question comes from Samir Khanal with Evercore ISI.

Joseph Margolis:

Yes. So great question. So yes, Florida, some of the markets in Florida are some of our weaker markets today. That's a good observation. That's partially because they did so well during COVID, and that's partially because of supply issues in some of those markets. But we're in this, and we did this merger for the long term. And over the long term, the Sunbelt markets, the Florida markets, and the population growth and the businesses that are moving there, we believe those are really good long-term markets. So yes, this quarter, some of those markets and maybe this year, some of those markets might be on the weaker side. But long term, we're really happy to have exposure down there.

Samir Khanal:

I guess my second question is around ECRIs. That's still holding up clearly. I guess what does it take for the consumer behavior to sort of shift? Is it job growth at this point? I mean, job growth with nonfarm payroll is still pretty strong month-to-month. I mean, is it really job growth that will sort of crack that? I mean, just kind of what your thoughts are?

Anthony Peak:

This is AJ on for Todd. Appreciate you guys taking the question. But first, just to piggyback off that last question. So vacates were down. But one of your peers noted that they saw a slight uptick in vacate activity and noted that there might be a normalization in the length of stay. You just noted that length of stay is incrementally improving. I'm curious, though, if you expect that to continue? Or do you see potential for vacate activity and the length of stay trends to normalize a bit moving forward?

Anthony Peak:

Yes, that clarification is helpful. And then transitioning just over to the structured finance book as that kind of continues to grow. So it seems like the demand for that product definitely seems strong today. How big are you comfortable with growing that to? And are you starting to see competition from others creating a more competitive environment for the bridge loan and mezz financing?

Keegan Carl:

Maybe first just on LSI. I'd love to hear how the performance of the portfolio is trending relative to your expectations at the start of the year? And do you think you fully realize revenue synergies in this yet?

P. Stubbs:

Yes. So we don't expect a significant occupancy delta for the entire year. Obviously, it's a component of your revenue, but we would expect it to be flat for most of the year, although we have been ahead some in the first quarter.

Spenser Allaway:

You guys have been successful with your revenue management strategy. But just thinking about how you had to cut moving rents fairly aggressively like peers. I'm just curious if you have a sense of how long, on average, based on the current cadence and magnitude of ECRIs, it would take you to get your new customer rent up to market level rents?

Spenser Allaway:

And then you spoke about the progress you've made in closing the occupancy gap on the legacy LSI assets. But based on your growing knowledge of the LSI market, I'm just curious what you think is a sustainable long-term occupancy level for that portion of the portfolio?

Operator:

Our next question comes from Caitlin Burrows with Goldman Sachs.

P. Stubbs:

Yes, the first thing to look at here is really a marketing spend as a percentage of your revenues. If you look at our marketing spend as a percentage of revenues, we're still about 2%, which is still a very small component. On a year-over-year perspective, we get at the 23%, looks like a big number, but there's still a very positive yield. We look at the return on that spend in several different ways. It depends on where you're spending money, whether it's paper click, whether it's search engine optimization, or other areas. But we continue to have a very high return on that marketing spend, and it's a very small component of our expenses.

P. Stubbs:

So I think that -- what gives you confidence? I think the question was asked earlier, your guide versus your tone and where you are. I think we've seen positive things early in this year in terms of month-over-month rate increases. Now that's a positive. The negative is we're still negative to last year. So we are moving in the right direction. I think the leasing season will kind of be the real catalyst to say it was a great year or a good year or, hey, maybe it's still a little bit slow. So I think that it's really that June, July time frame when we're going to get a feel for that. But so far, occupancies held up sequentially, rate has improved, but it's still probably too early to really say, yes, it's been a good year so far.

Ronald Kamdem:

The first one is just on housing. Can you sort of remind us what percent of your customers are coming in because of sort of home sales or the home activity and how you're thinking the demand is changing as rates have moved up?

Ronald Kamdem:

And then my second question was just on the guidance. There was a lot of moving pieces from sort of the first quarter, the initial guidance and the guidance that you gave today. I know you reiterated that interest costs are higher, interest income is also higher, and so forth. And then if I think about where you are in 1Q on the same-store NOI, whether it's a legacy EXR or LSI, it seems like the EXR portfolio needs to decelerate to get to the middle of the NOI guidance, while the LSI will accelerate.

P. Stubbs:

So we have not seen anything that is significantly different than what we saw 60 days ago. So that's really the catalyst for us not changing the guidance. In terms of the items that we did change, they were interest rate based, which we changed our SOFR assumption from 4.75% to 5.2%. That's based on the forward curve and when you obviously lock into that or update your guidance. And then we updated it for volume of bridge loans and a small change in our management fees. All of those netted to a very small delta, which caused your FFO to stay the same. But we really don't have the information yet to be able to give strong conviction that things are better or worse than what we originally estimated for our properties.

Eric Luebchow:

I know you talked about the current gap between LSI and EXR for new customers, but any color you could provide on the gap between the in-place customer at those 2? How far apart they are? And how long you think it will take to get to kind of the target to hit your revenue synergies?

Eric Luebchow:

I was talking about like the in-place rental rate per square foot gap.

Eric Luebchow:

That's helpful. I know we touched on this in a few different questions. But as you look generally at the supply picture across many of your markets, do you think, based on construction starts, things will improve even more into 2025? And are there any markets that you'd highlight that still you think will continue to deal with elevated levels of supply, whether that's like a Phoenix, Atlanta, a few markets in Florida you touched on as well, that would be helpful.

Operator:

Our next question comes from Michael Mueller with JPMorgan.

P. Stubbs:

Mike, it's really a combination of both. The first thing you had to move is the street rates or your achieved rate coming in. So it's at parity with the Extra Space. So the new customer would then be paying the same amount. Then the other differential in the achieved rate, or I mean in your rent per square foot that's at the store, that will come over time as we do existing customer rate increases.

Omotayo Okusanya:

Yes. First question is just around ECRI. I'm taking a look at your revenues per occupied square foot kind of in the 20s. Again, so that means for a typical 10 x 10 unit, someone is paying like $220 a month, which isn't an insignificant bill. I mean, probably outside of your mortgage and your card payments, it's probably one of the higher bills one would be paying. So when I look at that, I just kind of ask, what is that ability to keep pushing ECRIs kind of 10%, 12%, 15% without that becoming such a huge piece of someone's monthly payments that they start to push back?

Omotayo Okusanya:

Fair enough. That's helpful. And then my second question, if you would allow me. Again, the past 10 years, technology has been such a big game changer in the industry. Could you help us think about the next 10 years, whether it's AI or kind of what are you seeing that drops that helps lower customer acquisition costs, that helps lower cost of operation? And how quickly can we kind of see some of that stuff get implemented and kind of hit your overall numbers?

Operator:

Our next question comes from Ki Bin Kim with Truist.

Joseph Margolis:

So I think it's customers that have expensive equity partners that want to get cashed out, folks that don't think this is the greatest sales market where there's been value created. We talk about the benefits of the Life Storage transaction. One benefit we don't really talk about is we were introduced to a whole new group of partners we didn't have relationships with.

Ki Bin Kim:

And that was actually part of my second question. Do the vast majority of these come with management contracts? The management contracts can obviously be terminated, but is there a sense that the management contract lifetime can exceed the bridge loan maturities?

Ki Bin Kim:

And second question on CapEx. Can you just provide some color? I know you don't really disclose it on the maintenance CapEx you spent in 2023 and what we should expect in 2024, obviously, excluding development or whatever solar projects you might have?

Operator:

Thank you. There are no further questions. I'd like to turn the call back over to Joe Margolis for closing remarks.

Operator:

Thank you for your participation. This does conclude the program. You may now disconnect. Have a great day.

Operator:

Good day and thank you for standing by. Welcome to the Extra Space Storage Fourth Quarter 2023 Earnings Conference Call. At this time all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to Jeff Norman, Senior Vice President, Capital Markets. Please go ahead.

Joe Margolis:

Thanks, Jeff, and thank you, everyone, for joining today’s call. We had a solid fourth quarter where we focused on optimizing the performance of the recently added Life Storage assets while maximizing the performance of the legacy Extra Space locations. We were also very productive on the external growth front adding another 74 third-party managed stores, 8 stores through acquisition and $129 million in bridge loans. Operationally, the Extra Space same-store pool maintained high occupancy and solid in-place rents, driving same-store revenue growth of 0.8% for the quarter. Core FFO in the quarter was $2.02 a share and full year core FFO was $8.10 per share. On our last call, we outlined that in order to reach the high end of our guidance range we would need achieved rates to new customers to improve on a year-over-year basis. While demand was steady and allowed us to maintain strong occupancy, it was not strong enough to eliminate negative new customer rates, which remained at approximately negative 10% during the quarter. As a result, we faced the headwind of higher negative churn, and our full year performance was near the midpoints of our same-store and FFO ranges. Turning to Life Storage. One of the factors in our merger decision was our belief that we could enhance Life Storage property performance through our more sophisticated platform. Seven months removed from closing, we are happy to report that our assumptions have proved true. Customer acceptance of rent increases has been in line with our expectations, and we are seeing the net rent per square foot for legacy Life Storage customers move closer to that of nearby Extra Space locations. Occupancy is also responding positively and we saw the occupancy gap between the LSI and Extra Space Storage same-store pools tightened through the quarter, improving from a gap of 350 basis points at the beginning of the fourth quarter to a gap of 250 basis points at year-end. Today, that gap has tightened further and is approximately 200 basis points. The occupancy improvement together with the benefit of existing customer rent increases resulted in Legacy LSI same-store revenue growth of 1.8%, an acceleration of 80 basis points over the third quarter growth rate. However, similar to the Extra Space properties, we continue to see new customer price sensitivity at the Life Storage locations, resulting in lower-than-anticipated new customer rates. So while we are achieving the anticipated incremental outperformance we expected for the Life Storage assets, reaching full property level synergies is taking longer than anticipated due to current market conditions, which we know will eventually normalize. The current level of demand also influences our outlook for 2024. We are encouraged by our rental velocity, occupancy levels, existing customer health, length of stay and the potential benefits of moderating new supply. However, these factors have not yet led to material improvement in new customer rates. We are confident we can hold strong occupancy and generally maintain current revenue levels, but we believe it will be difficult to drive a reacceleration in revenue growth until we regain pricing power with new customers. We are seeing some positive signs that we are getting closer. And given our strong occupancy levels, when pricing power returns, we are very well positioned to push rates quickly. We just have not seen enough progress to date to feel confident this inflection will be in time for the 2024 leasing season or to include this scenario in our guidance. So, while the industry as a whole will likely face headwinds from lower new customer rates in the near term, the long-term outlook for our sector and for Extra Space specifically remain bright. Storage has consistently proven to be a remarkably durable asset class and Extra Space Storage has the largest and most diverse portfolio in the industry. New supply continues to moderate and the headwinds to future new development are substantial and increasing. We have very strong third-party management and bridge loan pipelines and a robust joint venture program and I am confident in our ability to further scale our capital-light growth activities. We expect to outsize relative growth from our LSI assets in 2024 and with additional synergies to be unlocked as the rental environment improves. And as I mentioned, our occupancy today is over 93% at what is normally our low point for the year. Once demand improves, we are very well positioned to capture it. I will now turn the time over to Scott.

Operator:

[Operator Instructions] Our first question will come from the line of Jeff Spector with Bank of America.

Joe Margolis:

So our guidance is really revenue based and new move-in rates to customers are one component we’re a little agnostic between occupancy and new move-in rate and ECRI program and promotions and all the various components that go into the revenue assumptions that produce our guidance. As I said and you indicated, we don’t see enough now to guide to a strong rebound in the housing market in time for the leasing season. We still see price sensitivity from new customers, although rental demand is good, and we’ve had a really good start to this year. We don’t think interest rates are going to go down in time to have a material impact on the leasing season. So while we don’t have a crystal ball, we thought a reasonably prudent guidance would be not to assume that rebound.

Lizzy Doykan:

Okay. That’s helpful. And as my follow-up question, we just noticed that the assumption on the SOFR curve driving interest expense within guidance. It seems a bit aggressive just based on where SOFR sits today. So could you just walk through kind of your outlook on rates and what’s embedded in guidance in terms of debt and refi activity? Thanks.

Lizzy Doykan:

Thank you.

Operator:

Our next question will come from the line of Michael Goldsmith with UBS.

Joe Margolis:

Sure, Michael. So our strategies are designed to maximize long-term revenue, not to maximize incoming rate or any other metric. And all the testing we do – that we constantly do shows that to lean into occupancy a little more, lean into acquiring web customers at lower rates because they tend to be the longer-term customers and rely on ECRI produces the best long-term revenue growth. Customers’ acceptance of ECRI has not changed at all. We monitor that every month as we send out ECRI notices, and we have not seen any increase in customers vacating the stores because of ECRI. So we believe this strategy is both valid and working.

Joe Margolis:

Yes, it’s a great question. And I think it’s accurate assessment of what’s going on. The things we control, like G&A and tenant insurance, we’re not only working, but working better, as Scott pointed out in his comments, than underwritten. And we’re not done there. We’re going to continue to look for further savings in those areas. We’re outbidding contracts to get savings from the greater scale that we have now. We’re going to continue to work real hard to improve on those numbers. What’s also working is that the Life Storage properties do perform better and are trending better on our systems. But the headwind that we face that we don’t control is the market conditions, and that is slowing down the achievement of the full underwritten property synergies. So two things are going to happen. The mix of what contributes to the targeted synergies is going to change, and there’s going to be less near-term contribution from the properties and more near-term contribution from the other aspects. And depending on where you are in our guidance, it potentially could not occur until after this year. At the high end of our guidance, we’ll get real close, and at the lower end of our guidance, we’ll fall somewhat short.

Todd Thomas:

Hi, thanks. First, I just wanted to see if you can talk a little bit more about the differences that you’re forecasting for same-store revenue growth between the EXR and LSI portfolios. If you can expand a little bit on the primary drivers behind those differences and discuss trends that you’re seeing in occupancy and any differences in move-in rates for those two portfolios.

Todd Thomas:

Okay. And then it sounded like, I think, Joe, you said that you’re encouraged by the rental activity and what you’re seeing so far early in the year? Are you able to provide an update on January and February occupancy and move-in rate trends?

Todd Thomas:

Okay. And that’s for the EXR legacy same-store that you’re referring to?

Todd Thomas:

Okay, that’s helpful. Okay. Does the change in the same-store pool for either EXR LSI have any expected meaningful impact?

Todd Thomas:

Okay, great. Thank you.

Operator:

Our next question will come from the line of Samir Khanal with Evercore ISI.

Scott Stubbs:

Yes. So the Extra Space pool, the midpoint 4.75% includes an increase of payroll that is inflationary to slightly plus, but call it, 3%. Biggest line item in terms of dollar increase is marketing, which includes its upper teens in terms of increase year-over-year. And we’re expecting to continue to have to spend on the marketing we saw that increase as we moved through 2023. Property taxes are between 2% and 3% and then tenant insurance is the biggest line item with closer to 20%, I’m sorry, property and casualty insurance is closer to 20%.

Joe Margolis:

Sure. So the New York-New Jersey, MSA market is, I think it’s being driven down or negatively impacted by Northern New Jersey. So if you look at the borough, the borough continues to outperform our portfolio as it has for the last three or four quarters. New York was laggard for a while, and now New York markets rotate, and now New York is performing very well. But Northern New Jersey in particular is dragging down the overall MSA performance.

Joe Margolis:

Thanks, Samir.

Nick Yulico:

Thanks. Hi, everyone. In terms of the move-in, move-out rates, that’s very helpful in the disclosure. Can you just give us a feel for how you’re thinking about that sequential benefit, which you did cite, some sequential benefit expected in the move-in rates this year? Is it going to be a similar shape to last year, how it played out in terms of looking at, say, mid-year move in rates versus the ending fourth quarter rates in 2022?

Nick Yulico:

Okay, great. Thanks, Scott. Just one other question on the $0.20 dilution from acquisitions and such, is that relating to something more than the $250 million of acquisitions in the guidance, is there some impact from last year? Just seems a lot for like a about a $44 million overall number. So I just wanted to make sure I understood what that related to.

Nick Yulico:

Okay, perfect. Appreciate it. Thanks.

Operator:

Our next question will come from the line of Spenser Allaway with Green Street.

Joe Margolis:

Yes, we can, Spenser.

Joe Margolis:

So I just want to clarify. There’s not minimal new customer demand. We’re still renting an awful lot of units every month. It’s just that the price sensitivity of those customers is such that we’re not successful in pushing prices. Marketing spend – I’m sorry?

Joe Margolis:

Sure. So marketing spend, which is only about 2% of revenue, we really look at as an investment. We’re happy to spend or willing to spend the marketing dollars as long as we can get an ROI in those dollars. And we have a metric that we use to make sure we’re getting a good return on every marketing dollar we spend.

Joe Margolis:

It is slightly higher. That’s certainly a factor. We also are using Sparefoot more than we have in the past. It was a lesson we learned from the LSI merger and that has a slightly higher cost.

Scott Stubbs:

It’s property tax appeals, so it’s successful appeals. And so you had negative expense effectively in some of those stores.

Scott Stubbs:

Thanks, Spenser.

Operator:

Our next question will come from the line of Eric Wolfe with Citi.

Scott Stubbs:

So depending on where you are in the range of that, rates do go up and we do assume that they’ll move in the right direction. And we are seeing that as you move throughout the year, the fourth quarter compared to the third quarter is a normal time when you do see rent per square foot tick down, that’s not odd. You saw that in the portfolio. It was also impacted a bit by some of the churn from auctions. But as we move into January, February, we are seeing that rent gap continue to close and move in the right direction.

Joe Margolis:

So the shorter duration customers will typically get a larger ECRI if they came in on some type of promotional or introductory rate. And after that, the longer-term customers typically will get a smaller percentage increase because we’re just trying to get them to Street rate.

Scott Stubbs:

Yes. So that actually comes from multiple years. So some of those C of Os are from 2022 C of Os, 2023 C of Os, 2024 C of Os, certificate of occupancy deals. It’s basically as they get up to the run rate of a stabilized property. And so it’s not just 2024 dilution and 2024 adds, it’s multiple year. All we’re trying to show there is the potential upside if we were to stop adding to that portfolio or to that pool of properties.

Scott Stubbs:

Thanks, Eric.

Keegan Carl:

Yeah. Thanks for the time, guys. Maybe first, just what are you guys currently seeing in the transaction market that gives you confidence in your target? And where are you seeing stabilized cap rates at today?

Keegan Carl:

Got it. That’s fair. And I’m going to sound like a broken record here on this one. I’m going to ask another question about the Storage Express deal. So I know when you guys initially mentioned you were going to swap some stores between that platform and your Extra Space platform. I’m just curious what you’ve learned so far and if we can expect some more assets, especially from the LSI portfolio to be added to this platform in 2024?

Keegan Carl:

Are you willing to share any sort of quantification of performance on stores you would have shifted from one platform to another? Is it too early to tell?

Keegan Carl:

Got it. Fair enough. Thanks guys.

Operator:

Our next question will come from the line of Ronald Kamdem with Morgan Stanley. Ronald your line is now open.

Joe Margolis:

So there’s – in general, there’s no – we haven’t made any change in frequency for ECRI. Where – that being said, we’re always testing things. So there are outliers. And what was the second question?

Ronald Kamdem:

Great. And then my second one, if I may. I think one of your competitors made an interesting comment that they’d actually already seen some of their markets start to accelerate and that maybe the markets that went up higher during COVID were taking a little bit sort of longer. And I guess I’m curious, as you’re thinking about your portfolio, you guys have been much more successful peers pushing pricing. Can you comment around is there a sort of are different markets in different stages? And have you seen some already maybe start to turn around and pick up? Thanks.

Ronald Kamdem:

Great. That’s it for me. And we appreciate the new move in disclosures. That was helpful.

Operator:

Our next question will come from the line of Michael Mueller with JPMorgan.

Joe Margolis:

So we’ve completed the ECRI program for all LSI customers who were customers at closing.

Joe Margolis:

So they’re now on the normal site. As new customers come in, they’ll be on the normal program. I don’t think we’ve seen many busted developments or developments that aren’t leasing up as well. They’re disappointed developments that look like really attractive opportunities to us, yet I don’t think that’s meaningful.

Joe Margolis:

Thanks, Mike.

Eric Luebchow:

Great. Thanks for taking the question. Could you comment a little bit on the dual brand strategy if you’re seeing any top of funnel benefits from operating LSI and EXR separately in some of your markets, or if extra operating expenses make that too complicated or costly in terms of operations?

Eric Luebchow:

Okay. I appreciate that. Just one follow-up on the guide, and I know Scott touched on this. So the G&A guide of 180 million plus, I know you had some seasonality in your Q4, but you were at a run rate of around 160 million annualized. And maybe you could just kind of help us bridge those two numbers when we’ll see kind of more of the G&A cost synergies that you touched on really flow into the P&L from the G&A side? Thank you.

Eric Luebchow:

All right. Thank you both.

Operator:

Our next question will come from the line of Ki Bin Kim with Truist.

Scott Stubbs:

So it’s difficult to break it out exactly. I think that we are saying we don’t expect to get significant growth in street rates. They will be the midpoint. We do expect occupancy to be relatively flat. But we don’t feel like it’s helpful to necessarily break those out since there’s one component of the total model, but we are not expecting significant street rate power this year.

Scott Stubbs:

Sequentially, we do expect them to go up month-over-month. I think it will depend a little bit on how this leasing season goes. I think that we were disappointed last year. We were at a point last year where we raised rates significantly January through March. And then the leasing season came and the housing, the lack of home sales, I think, impacted last year. And so I think that we’re a little gun shy and don’t want to make that mistake again.

Joe Margolis:

Yes. So part of the increase in bridge loan balances is our plan to hold more of the whole notes and not sell as many A notes. Now that can change as the year unfolds. But the whole bridge loan now is 8.5% to 9%. So we don’t feel that’s a bad use of capital at this point. The fundamentals of the loans are unchanged. We still will end up to 80% of our underwritten value will take operating reserve and interest reserve that’s a recourse obligation to a creditworthy entity. So we know that there’s capital to pay the debt service and operate the property. We require that we manage the property. We require an interest rate cap, which is less important now than when we started the program. So the fundamentals of the loan program haven’t changed.

Joe Margolis:

I’m not sure there is a base case. I mean we’re going to handle every loan as it comes up, and I think some will extend, some will get paid off and some will buy the collateral. And grow, I think the attractiveness of the product will remain, and we should continue to be able to make new loans to backfill ones that are maturing in some way or another.

Joe Margolis:

Sure.

Operator:

Our next question will come from the line of Caitlin Burrows with Goldman Sachs.

Joe Margolis:

So our data which we look at for our properties, not for the overall development landscape is pretty encouraging. We see about a 30% drop in Extra Space same-store pools that will be affected by new development in 2024. And when you look at all our wholly owned stores, it’s even a larger drop, almost 40%. So new development isn’t going away, we still have to – the market still has to lease up the ones that were delivered in prior years, but the environment is certainly getting better.

Joe Margolis:

So the housing market certainly will help, but it’s not the sole driver of demand for self-storage. I think just people moving more, whether right now, almost half of the people who tell us their storing because they’re moving or moving apartment to apartment. So more transition is just good. The single-family home rental business, the more that grows, I think that’s great. That helps people move in and out of homes without having to buy them without having to worry about a mortgage. So a strong economy is always better than a weak economy and all indications are now that we’re going to have more of a soft landing than a recession. So I think all of those things can help improve customer demand.

Scott Stubbs:

Thanks, Caitlin

Unidentified Analyst:

This is Robin Haneland [ph], filling in for Juan. I just wanted to follow up on how you expect move-out and move-in spreads to trend throughout the year? And what is the spread for Life Storage? And how do you expect that spread to trend?

Unidentified Analyst:

And do you feel like you’re ready to reengage in sort of larger external growth at this point? Or are you still focused internally on executing Life Storage?

Unidentified Analyst:

Thank you.

Operator:

That concludes today’s question-and-answer session. I’d like to turn the call back to Joe Margolis for closing remarks.

Operator:

This concludes today’s conference call. Thank you for participating. You may now disconnect.

Operator:

Good day, and thank you for standing by. Welcome to the Q3 2023 Extra Space Storage and Earnings Conference Call. [Operator Instructions]. Please be advised as being recorded. I would now like to hand the conference over to your speaker today, Jeff Norman. Please go ahead.

Joseph Margolis:

Thanks, Jeff, and thank you, everyone, for joining today's call. We had a busy third quarter. In July, we successfully completed our merger with Life Storage adding over 1,200 stores to our portfolio and over 2,300 new members to team Extra Space. The transition is going very smoothly, and I am proud of the teamwork and innovation our employees are demonstrating through the merger. Our combined portfolio of 3,651 stores provides greater diversification, stability, revenue opportunities, operational efficiencies that I believe will improve our property level and external growth for years to come. From a performance standpoint, the third quarter was generally in line with expectations. Revenue growth moderation for the Extra Space same-store pool flattened meaningfully during the third quarter and our 1.9% same-store revenue increase was modestly ahead of our expectations. Revenue growth was driven by high average occupancy in the quarter of 94.4%. Existing customer behavior continued to be strong with solid length of stay, muted vacates and continued acceptance of rate increases. Rental volume was also steady year-over-year, albeit at lower new customer rates. Expenses came in higher than our estimates, offsetting the revenue outperformance. This was driven by higher-than-expected property tax increases. The higher-than-projected expenses resulted in a modest miss in our same-store NOI, which was offset by a beat in G&A, resulting in core FFO of $2.02. This was in line with our internal forecast. Short-term dilution from the merger with LSI was consistent with our estimates for the third quarter. We have achieved our target G&A synergy run rate of $23 million and we'll continue to gain additional synergies as we further integrate the team, platform and portfolio. We have also started a property level revenue synergies as we move existing LSI customers to rates more consistent with the Extra Space portfolio. The incremental FFO contribution from these improvements is partially offset initially by lower occupancy at the LSI properties due to catch up auctions and lower new customer rates to drive rental demand. However, once we achieve stronger new customer rates and build occupancy, the benefit to FFO will ramp up and we remain confident we will reach our total expected synergy run rate in the first quarter of 2024. We have slowed our acquisition pace given the LSI merger, but we continue to be very active in third-party management, adding 49 new stores gross in the third quarter, not including the LSI managed stores. Year-to-date, outside of the LSI merger, we have added 151 stores gross to the managed platform with only 17 departures. We have also continued to have steady bridge loan volume despite the difficult interest rate environment. In short, property level performance is in line with expectations. The integration of the Life Storage properties is on track, and we continue to be active in our capital-light external growth channels. As a result, we have tightened our annual core FFO guidance for 2023, maintaining the same midpoint. We will remain focused on maximizing performance at all of our stores and executing our integration plan in the fourth quarter. As we have interacted with our shareholders throughout the quarter, it has been hard to miss the serious concerns people have about wars, the economy, interest rates, consumer health, sector demand and our stock price. We absolutely share those concerns. That said, I think it is important to step back and not lose sight of where we stand today. Storage has consistently proven to be a remarkably durable asset class and Extra Space Storage has the largest and most diverse portfolio in the industry. Occupancy averaged over 94% in the quarter, and it remains very healthy. New customer rates, while not as strong as last year, remained 12% higher than 2019 pre-pandemic levels and customer health remains strong. New supply continues to moderate and the headwinds to future new development are substantial and increasing. Our external growth drivers continue to fire on all cylinders, and I am confident in our ability to further scale our platform. And finally, I believe we have the strongest team and operating platform in the industry. It is still a great time to be in storage, and I believe the future of Extra Space remains very bright. I will now turn the call over to Scott.

Operator:

[Operator Instructions]. Our first question comes from Michael Goldsmith with UBS.

Scott Stubbs:

Yes, Michael, your assumptions are correct. It does imply at the midpoint that it's positive for the entire quarter. And we obviously have October, largely we know what October was. And so we're confident that we should hit those numbers.

Joseph Margolis:

Great question. So the short answer is everything is going as planned. We have begun sending out the ECRI notices to the Life Storage customers, and they are accepting them at the same rate or maybe even slightly better rate than Extra Space customers. We have headwinds of catch-up auctions and the slightly elevated vacates from the CRI notices, the occupancy on the LSI portfolio. So we have discounted rates on the web, in particular, to protect that occupancy while we do that. And that's been very successful, and we've actually seen a slight uptick in occupancy in the LSI portfolio. So we're really happy with how the strategy is playing out, and we continue to monitor it and make sure there's no bumps in the road.

Jeffrey Spector:

Joe, you mentioned that as you're integrating and now operating the LSI assets you're using street rate to build up that occupancy. How should we think about that over the coming months? How long will that take place? And given the existing overlap with the EXR portfolio, is that creating some of the drag, let's say, on street rate in markets?

Jeffrey Spector:

And then on the existing customer, you mentioned again the strength there. Can you characterize pricing power today versus, let's say, 6 months ago? And then can you quantify the length of stay versus the vacates?

Jeffrey Spector:

If you were able to quantify the vacates versus the length of stay?

Jeffrey Spector:

Where is length of stay today? You had mentioned that the length of stay remains strong and vacates are down.

Operator:

Our next question comes from [indiscernible] with Truist Securities.

Scott Stubbs:

Yes. So comps throughout this year have gotten easier as we've moved through. In terms of how it came out versus what we were expecting, it was pretty similar to what we were expecting. As we mentioned earlier, we don't expect things to go negative in the fourth quarter and that sets us up for what we hope to be a good 2024. I think our occupancy is holding up well and not going negative, I think, is a positive thing.

Scott Stubbs:

So our variable rate debt actually ticked up slightly in the quarter as we completed the merger. With the merger, we had to pay off some fixed rate debt. You had private placement bonds on Life Storage that weren't allowed to be prepaid. To do that, we've used a bridge loan, a $1 billion bridge, that's a 2-year loan, and we will be terming that out over the next 1 to 2 years. So we will be bringing that down. If you look at our variable rate debt net of the variable rate borrowings, it's about 75%. But again, we'll be bringing those down, variable receivables.

Unidentified Analyst:

This is A.J. on for Todd. Real quick, could you just provide an occupancy update for October and what that looks like year-over-year?

Unidentified Analyst:

And what is that year-over-year?

Joseph Margolis:

We haven't adjusted last year's like storage occupancy to reflect our methodology.

Joseph Margolis:

So I think we have a significant opportunity to exceed the G&A synergy of $23 million. Our original guidance for that was $140 million. Our original Extra Space guidance at the beginning of the year before this merger was contemplated. Our current midpoint guidance for G&A is $150 million. So it's not quite $10 million every 6 months of additional G&A because we closed the merger on July 20. G&A is not smooth. G&A is higher in the first quarter. It's not perfectly spread out through the 4 quarters. And we still have some hiring to do to fill in some spots. But clearly, we're going to be ahead of our $23 million run rate.

Joseph Margolis:

So we've achieved very little of that synergy because the only extra space tenant insurance policies, we're selling now are to new customers. Existing customers will not convert from the Life Storage insurance policy to the Extra Space insurance policy until starting January 1 of 2024, and that was for both regulatory and contractual reasons. But that will be somewhat of a light switch, right? We'll send out the notice, people get them and beyond the extra space policy, which is more robust in terms of coverage but also has a higher premium.

Juan Sanabria:

Just wanted to kind of piggyback on a couple of questions that have already been asked. I guess on the sequential deceleration that it moderated in the third quarter, it's expected to moderate even further. Should we think that, that continues into 2024 as you stand here today based on what you know and I'm not asking you to give 24 guidance. But I guess what the market is really wondering is have we passed the worst particularly given where comps are as we look into '24. Just curious on your thoughts on what you could share there.

Juan Sanabria:

And then can I just ask on the LSI occupancy front is part of the synergies that you guys are assuming that you're able to make up the difference in occupancy between the EXR and LSI portfolio? And I guess -- if so, what does that entail doing to close that gap? Or are you happy keeping the portfolio is running at different occupancy levels. Just curious on how that should evolve.

Juan Sanabria:

I guess this is a quick. So would you want to discount further at LSI to close that gap? Or are you happy kind of running two different occupancies across the different portfolios [Technical Difficulty].

Juan Sanabria:

Sure. My addendum was is the goal to close eventually that occupancy gap? Or are you happy, I guess, running different levels of occupancy across the 2 portfolios?

Operator:

Our next question comes from Spenser Allaway from Green Street.

Joseph Margolis:

So the best returns on capital continues to be a redevelopment of existing stores. Those returns are high single, low double-digit returns. You can add units where you already own the land, you already have the office, you already have entitlements and we are very excited to now have 1,200 more stores to look at and try to find additional opportunities to put storage in parking lots or make single stores storage, multistory storage. The challenge with those are they're relatively small in terms of dollar investment, so you have to do a lot of them, but we have a team and a process and a program and we expect to do a lot more of those in the future. Another bridge loan program also provides very high return on capital. The whole note rate is 10% now, average is 10% now. And when we sell the A note, the rate on the B notes is into the teens and that does not include the economic benefit of managing the property, which we lend on. So that also is a very good use of capital, particularly because we can control the capital by selling or not selling the A note.

Joseph Margolis:

So I think our best sense is one of the ways we underwrote this transaction is. We identified 106 or 109 LSI stores that had one or more extra space store that was in a very tight geographical radius was a similar type store in terms of single-story drive-up or multistory and we felt was a truly competitive store. And at the time of underwriting, the delta in rate was about 15% for those stores.

Smedes Rose:

I just wanted to ask you on the LSI portfolio, you mentioned a number of catch-up options. And just it I guess, a little less familiar with that. I'm just wondering, is that a significant part of the portfolio? Will that make a significant difference, I guess, as those customers are, I guess, cleared out who are nonpaying and putting in new customers?

Smedes Rose:

[indiscernible] picking over. Yes, sorry go ahead.

Smedes Rose:

And then I just -- you mentioned higher property taxes in the quarter. And I just -- as you -- the larger expense lines just looking into next year is there -- so we're broad sense of how we might be thinking about wages and benefits for pace of growth slowing at all? Is it maybe what are you thinking about for kind of the pace of tax property tax increases? Any sort of thoughts there you could share?

Smedes Rose:

And on wages and benefits, how is that pacing?

Operator:

Next question comes from Ronald Kamdem with Morgan Stanley.

Scott Stubbs:

Yes. So we think it's a good run rate, the estimate we've given for the quarter. Obviously, October is done. It's too early to tell for next year.

Scott Stubbs:

So why storage, the big increase year-over-year came from more personnel and the payroll line item. Our managers, on average, make more, and we have more hours allocated to us, and that's how we get the premium rates that we get. So we are operating them more like we operate our stores. The other thing that's different from their historical same-store numbers is we have allocated call center and a technology charge to the stores that they historically had in their G&A. So we went back to their historical numbers and added those in, too.

Caitlin Burrows:

I was wondering maybe -- I don't think anybody's asked about supply yet. So we've seen it fall off in other sectors, new starts. So I was wondering if you could comment on what you're seeing now? Have you noticed any projects either getting -- taking longer, getting pushed out or any new ones getting started, just kind of what you're seeing on the new supply side.

Caitlin Burrows:

And just to that last point, would you say that the dropout rate is more significant today than it has been in like the past? Because of maybe those factors you mentioned?

Caitlin Burrows:

Got it. And then maybe just a quick 1 on the transaction side. You mentioned that EXR has pulled out recently, especially to focus on merger, which makes sense. I guess, could you comment more broadly on the transaction market? Kind of our properties trading have cap rates stabilized? Has the bid-ask spread close? Or is it still pretty quiet in storage also?

Operator:

Our next question comes from Samir Khanal with Evercore.

Joseph Margolis:

There's two things, I think, to think about. One is maybe 3 things. One is job growth. Job growth is maybe the #1 indicator of storage performance. And those Sunbelt markets still have job growth, and that's an important factor. On the flip side, when a market has a couple of years of 20%, 30% plus revenue growth, it's really difficult to keep up. So it may look like it's giving back because it's not growing as fast, but it's still a healthy market, and it's just coming up against a tough comp. And then lastly, which is a little bit of the wildcard is the housing market. I firmly believe the housing market will come back. It's got two people can't stay in their houses forever, life events happen, just when and how quickly is going to be a factor that will inform our performance next year.

Joseph Margolis:

No, I said we underwrote 7% to achieve our underwritten synergies. So we underwrote not closing the occupancy gap at all and only closing about half of the rate gap and that if we can do those 2 things, that will give us our $65 million synergies from the properties.

Joseph Margolis:

Maybe not as much as might be -- we might assume because one of the big drivers of ECRI is the gap between the discounted web rate. The customer comes in and the actual market rate for that unit. So while we're in a period of time now where we're offering significant discounts for customers to come into the web that gives us the opportunity to catch them up to ECRI and get them to what the true market rate is.

Michael Mueller:

I'm curious, what are the early observations on operating 2 brands versus 1 brand so far?

Michael Mueller:

And then maybe one other quick expense question. And I know this isn't a huge line item in the grand scheme of things. But the growth in insurance expenses, how should we think about that over the next few years in terms of how outsized they could be or relative to the overall expense pool?

Operator:

Our next question comes from Keegan Carl with Wolf Research.

Scott Stubbs:

We're assuming about a 100 basis point gap through this year. And then obviously, moving into 2024, I think that gap gets easier.

Joseph Margolis:

Sure. So Bar Gold, I would say, is glasses half full and half empty. The half full is we've done a really, really good job of institutionalizing and integrating the operations there. We're significantly outperforming budget on the expense side, where I think we have more wood to chop is the growth side of that. We are growing bar gold at historical rates at the rates that bar gold grew before we bought it. and we really want to turn some attention to that and try to grow it at a faster rate. Some of that, I think, is just us getting to know the business, getting to know the people and understanding it and some of it is, frankly, attention on Storage Express and then Life Storage. Storage Express is -- I think we made a lot of progress. It was actually, in some ways, harder to integrate Storage Express because it was a different platform, a different way of doing business. I mean we got all of the 1,200 Life Stores on our operating platform breeze in 19 days. It took us 6 months with 107 Storage Express stores because it's a different way of operating. There's just different software systems procedures. So we're doing very well on the integration front. We have bought several small remotely managed stores in our traditional markets, not in the more rural markets they operate in. They trade at 7% yield. So we feel they're good purchases. And we're learning a lot. We're learning about exactly what should be a remote store partially manned. What are the various attributes, distance from an Extra Space store population, rent per square foot saturation that makes it work and makes it doesn't work. We have opened up our third-party management platform. We've just signed up a 60-property portfolio to be run remotely. We have a large, large pipeline of remotely managed stores for our Management Plus platform. So I think similar to Bar Gold, the growth of that platform was slowed by our attention to the Life Storage deal. We used that time to learn things, which I think is good. And as we move forward, I expect that growth to accelerate.

Joseph Margolis:

Great. Thank you, everyone, for your time today. I hope the message was clear that things are going as expected. Our integration is realization of synergies are proceeding very well, and we look forward to seeing many, many of you in Los Angeles next week. Thank you very much.

Operator:

Thank you for standing by, and welcome to Extra Space Storage, Inc.'s Second Quarter 2023 Earnings Call. [Operator Instructions] I would now like to hand the call over to Jeff Norman, Investor Relations. Please go ahead.

Joe Margolis:

Thanks, Jeff, and thank you, everyone, for joining today's call. We have had a busy three months and a lot has happened since our first quarter earnings call. Operationally, same-store occupancy remained high through the second quarter. Although rental volume was down year-over-year, vacates also remain muted, allowing us to improve occupancy sequentially each month through the quarter, ending June at a very healthy 94.5%. The existing customer health remains strong with ARs and bad debt levels remaining low and customer acceptance of rate increases remain steady. Our strategy coming into the year was to maintain high occupancy in order to enhance pricing power to new customers as we moved into the leasing season. This strategy was effective through May, and we improved rental rates sequentially and started to tighten the year-over-year negative delta and achieved great growth to new customers. However, new customer rates have not improved meaningfully in June and July, both of which are typically high-volume rental months in a busy leasing season. The miss in same-store revenue in June was offset by lower-than-expected same-store expenses, allowing us to remain on budget for property NOI for the first half of the year. From an FFO perspective, we also met our internal budgets for the first and second quarter. As we look forward, we expect the impact of lower new customer rates in the summer months to weigh on revenue growth in the back half of the year. Our initial guidance assumed that we would fully close our negative year-over-year new customer rental rate growth gap by July, and that new customer rate growth would be positive through the end of the year. Year-to-date, we have not gained that pricing power and now believe new customer rate growth will remain negative year-over-year further into 2023. As a result, we have reduced our 2023 same-store revenue expectations. Our lower estimated property revenue, together with a higher forward interest rate curve also reduced our full year outlook for core FFO. Needless to say, we are disappointed that rental rate growth to new customers has been weaker this leasing season, and we never liked the idea of having to reduce our outlook. With that said, we are also careful to maintain perspective about where Extra Space and the storage industry actually sit today. First, occupancy levels remain just below 95%, which excluding the last couple of years, are as high as we have ever seen. Second, new customer rates, while not as strong as last year, remained 15% higher than 2019 pre-pandemic levels. Third, new supply continues to be manageable and the headwinds to future new development are increasing. And finally, our external growth drivers continue to fire on all cylinders with 54 additions to our third-party management platform in the quarter and 102 stores added through two quarters. On July 20, we closed our merger with Life Storage, adding over 1,200 stores to our portfolio, which today has over 3,500 stores spanning 43 states. I am proud of both teams who have worked tirelessly to complete the merger to create a stronger portfolio, platform and company. We are all focused and working hard to achieve a smooth integration. So far, I am very pleased with how seamlessly the integration is progressing and how we are already finding ways to create value and unlock synergies. Let me provide a couple of examples. In the two weeks since we closed the transactions, we have onboarded and trained over 2,700 LSI employees and already transitioned over 900 stores to our point-of-sale system with the remaining stores to follow next week. This move to our point-of-sale system is critical because, among other things, this platform allows us to implement our digital marketing and pricing strategies, which will allow us to begin to optimize performance at these stores. And second, last week, S&P Global raised our credit rating to a BBB+ to reflect our larger and stronger company, which will have an immediate and future benefit on our cost of debt capital. So while we have just closed and we know it is still early, we are excited as we begin to realize the many future opportunities this merger creates for Extra Space and our shareholders. We will continue to give updates on the integration and performance of the Life Storage assets as well as our progress towards our $100 million in minimum estimated synergies. After some short-term dilution expected during the remainder of 2023, we believe we will be at least in our underwritten synergy run rate early in 2024 with additional upside beyond, as we continue to optimize the performance of the combined company and capture additional synergies not quantified in the original underwriting. It is still a great time to be in storage, and I believe the future of Extra Space remains bright. I will now turn the time over to Scott.

Operator:

[Operator Instructions] Our first question comes from the line of Michael Goldsmith of UBS.

Joe Margolis:

So I think we see - the biggest difference we see in the back half of the year, frankly, is the comps get a lot easier. So we kind of see a continuation of modest growth, but with much easier comps. What was the second question, Michael?

Joe Margolis:

So we are not talking - we don't have any guidance. I'm not talking about guidance to 2024 yet. But clearly, where you end '23 is your, sorry to give a stupid answer, as a starting point for '24. So that will be the impact.

Joe Margolis:

Yes. We had thought by June, July, we would have had that conversions point, and now we think it's further into 2023.

Joe Margolis:

So on the revenue side, as I mentioned in my comments, we have 900-plus stores on our point-of-sale soft breeze and the ECRI notices have started going out. And we have a very detailed plan customer-by-customer, when do they get their last one, where their rate is, on street rate, not to overload any store, but that has started. And next week, we'll have all the rest of the stores on breeze and those ECRI notices will go out. And the confidence we have is because we've done this all the time. We take over stores all the time that have rates below where we want them and we send out ECRI notices, and we know the acceptance rate and the churn rate, and it gives us a high degree of confidence that's going to work. On the insurance side, once we're on breeze, new customers will purchase insurance from our platform, which is at a higher rate than LSI's program was and existing customers won't be converted until January 2024. Those notices will go out. And that delay is for both regulatory reasons and notice requirements in the existing LSI contract with their insurance provider. And then the third biggest kind of segment of the $100 million is the G&A side. And we've now sharpened our pencils, hired who we want to hire redone budgets department by department and have greatly increased confidence we will exceed the underwritten G&A savings.

Joe Margolis:

So I don't think that's going to be a significant impact. So you're right that street rate is a factor in the quantum of the ECRI that's given. But the gap between the rate at the LSI stores and the rate at the competitive Extra Space stores gives us confidence that there's still plenty of meat on that bone.

Operator:

Thank you. Our next question comes from the line of Jeff Spector of Bank of America.

Scott Stubbs:

Yes, Jeff. So what we were seeing earlier in the year was we were seeing our street rates or our achieved rates to new customers steadily moving up, and we were seeing that our occupancy gap was maintaining what we were expecting. That was pretty consistent through May. As we moved into June, we found that in order to maintain our occupancy, we needed the lower rates. And that continued into July. And so into July, we were negative 10.5% whereas in the second quarter, our rates were averaged about 8% negative to new customers. So just that change in customers being shopping more and being much more rate sensitive is what caused us to change our outlook going forward.

Joe Margolis:

So there's plenty of self-storage customers out there for the larger operators to capture, right? We're at 94.5% occupied. Obviously, we can keep our stores full. The challenge is there's not sufficient enough customers to give us pricing power. We can't move rates and maintain that type of occupancy to the level we wanted to. So our year-over-year rentals were down 9% in the second quarter so were Life Storage for comparison purpose. But vacates were also down a little less than that, but a similar number. So there's customers out there, our platform can capture them, but we don't have the pricing power we expected.

Jeff Spector:

And then -- I'm sorry, but just one follow-up to Michael's question on the -- I guess, you discussed the easier comps, I think you said into the end of this year. I guess, can you provide like a specific month or time frame? And do the easier comps continue into '24?

Jeff Spector:

Thank you.

Scott Stubbs:

Thanks Jeff.

Steve Sakwa:

Thanks. I guess, good morning. It seems like the light switch went off in June or July. And I'm just curious, can you guys put your finger on what sort of changed customer behavior that much to change the pricing dynamic in June?

Steve Sakwa:

I mean do you think it's housing related? Is that maybe just the lack of movement in housing creating more less demand than you would have thought?

Steve Sakwa:

Okay. And I guess, secondly, if you kind of look at the implied guidance for the second half of the year. If I'm doing my math right, I think the revenue growth is kind of 0% to 2%, which compares to the 2.7% you did in the second quarter. So maybe, Scott, just help us think through like what gets you to kind of the upper end of the range and what gets you to the lower end of the range? Is it more occupancy driven? Is it more the new rates, the customers, the slowdown in ECRI? Like what are the big drivers between kind of the low end and high end, do you think from -

Steve Sakwa:

So, I'm sorry, is there any of that embedded in the guidance for the back half of the year? Or is it like at the high end that assumes that and the low end it doesn't?

Steve Sakwa:

Got it. Okay. Thank you. That's it.

Operator:

Thank you. Our next question comes from the line of Juan Sanabria of BMO Capital Markets.

Scott Stubbs:

It's more of the year-over-year comp. We have actually been able to move street rates sequentially, as we've moved through this year, but the year-over-year comp has made them negative.

Joe Margolis:

So, I think it's too much of a generalization to say the Sunbelt is weak and the coast are strong or anything like that, right? Some of our best markets, Orlando, Tampa, Miami, continue to outperform portfolio averages. Those are Sunbelt markets. L.A. continues to be good. And some of the weaker markets, frankly, are markets that put up 30% growth last year. So, they - it's hard to do that several years in a row. So they appear weaker. But I think the important thing to remember is markets will cycle in a non-correlated factor - non-correlated manner. And because of that, it's important to be as diversified as possible. So, you always have some markets that are on the upswing, and you always have some markets that maybe are coming off of the upswing. And one of the reasons we like the LSI merger is because it further diversifies our portfolio and reduces our concentration in our top markets.

Joe Margolis:

So the one or two-year length of stay has decreased very slightly. We're still in the low 60% on the one year and 46% or so on the two-year - I think we are losing some of those long-term COVID tenants, but not all of them. But length of stay is still healthy. Our average vacating customer is almost 18 months, median is about 7.5 months. Those are great numbers as compared to pre-COVID.

Joe Margolis:

Thanks, Juan.

Todd Thomas:

Hi. Thanks. I appreciate the disclosure on LSI same-store. It looked like revenue and NOI growth decelerated quite a bit more than we would have anticipated. I'm not sure how that compares to what you were anticipating, but it was about 1,000 basis points sequentially during the quarter before the merger closed. Any sense on what happened during the quarter? And can you speak to the integration there and first steps around stabilizing growth in the Life Storage portfolio?

Joe Margolis:

So, I spoke a little bit about the systems integration. That's going well, and we'll continue to work on that. Data transmission is going well. We still have some work to do there, but no hiccups. People is not something you can just do in a couple of weeks. It will take us a while to fully train the Life Storage managers on our way of doing things. They can all take rentals now and do the basics, if you will. But they'll continue to get better and better. And as they do, the performance will improve.

Scott Stubbs:

So have not fully determined '24. We think it is likely, because it's probably the best way to show the improvement. If you compare our same-store pool to theirs, you should be able to see them outperforming due to them being on our systems. But I think it's likely, but no final decision yet.

Joe Margolis:

No. I don't think customers pay differently if they moved into a new store that just opened or whether they moved into a store that's been up and stabilized for a long time, right? They leave some point after their need for storage goes away. I think your thesis is right, right? We see a moderation of new supply, but at the same time, we see markets that had kind of excess COVID demand that's going away that build up new supply and now that may be moderating, creating more availability.

Joe Margolis:

So, I'm sorry if I didn't answer that question clearly. I think, it's an asset-by-asset analysis. Certainly, there are markets that are struggling because they had a lot of new supply delivered. It all got filled up during COVID. Now there's lesser demand. So maybe those markets are under a little more pressure. And I would give you Phoenix is a really good example of that. But I think it's a market analysis, not an asset analysis. It's not like all the excess COVID demand customers moved into the new property and the other - all the regular customers moved into the existing properties. So, the new properties are struggling more, the customers go everywhere, and the markets perform similarly. I hope that makes sense.

Todd Thomas:

Okay. Got it. Thank you.

Operator:

Thank you. Our next question comes from the line of Smedes Rose of Citi.

Joe Margolis:

We would expect the LSI portfolio to do better as we get their stores on our platform, that uplift to begin to occur.

Scott Stubbs:

So, there is some growth there, but not significant. Typically, what happens is you bring things onto our portfolio is it takes a month or two as you bring things on. And so not a significant amount of increase, but we would expect those stores to start to benefit from the ECRI.

Joe Margolis:

Yes. I think that's a good description. So we talked to all of the managed owners that had LSI managing their stores. And our expectation is that everyone will migrate to our economics, which are significantly better than LSI's economics and also our kind of service levels. We run one program. Everyone is on the same program. LSI ran more of a customized program for their managed partners. And we will absolutely separate with some of those managed partners who don't want to work on our system, and that's fine because our goal is not to have the most stores, but to have an efficient profitable management program that works well for both parties. So, we'll continue to - we'll keep most, I think, and lose many, I think, as you said. But I'm very confident we'll continue to grow our management platform faster than anyone else in the industry.

Smedes Rose:

Okay. Thank you.

Operator:

Thank you. Our next question comes from the line of Keegan Carl of Wolfe Research.

Scott Stubbs:

I'm not sure we have that kind of power, first of all, to create that kind of environment. I think we typically react, or based on the data that we're reviewing to maintain the occupancy and maintain the pricing power in terms of our existing customer rate increases. So if you look at big picture, I think we were probably one of the earlier ones to move on rate. And I think everyone else eventually, we'd like to have the hubris to think they copied us, but I think they probably saw the same thing in the data that we saw, and they moved on rates also to maintain occupancy.

Keegan Carl:

Okay. And shifting gears here at NAREIT. I remember you guys mentioned that marketing spend was up materially in May, and you weren't seeing the same results. So one, is it fair to assume that since you weren't seeing the results you wanted that you drastically reduced that in June? And I'm just curious how it translated in July and how you're thinking about marketing spend in the back half of the year?

Keegan Carl:

Okay. Thanks for the time guys.

Operator:

Thank you. Our next question comes from the line of Ronald Kamdem of Morgan Stanley.

Scott Stubbs:

Yes. So, I think what we've seen early in the summer in July, is that there is demand. You just can't get the occupancy and the rate. As we move throughout this year, we have easier comparables from last year. And so that's where it gives us the confidence to be able to go with the numbers that we've done - that we've gone with. We think that it gets easier as we move through this year in terms of new customer rates. And so that's where we're confident. And again, as we mentioned before, where you are in that range is going to depend somewhat on how quickly we get some pricing power.

Scott Stubbs:

So if you look at the lower end of the guidance, I think it does imply that you could tick negative for a period of time in the back half of the year.

Joe Margolis:

Yes, it's a good question. So, we had initially had four components of underwritten synergies. We had G&A. We had reduced marketing spend. We had increased store revenue, and we had tenant insurance. Tenant insurance has stayed about the same. We feel better about G&A that we'll do better than that component. The marketing piece we will not achieve. We - since we did the underwriting, we have decided pursuing a dual brand strategy, which we can discuss, if you like. But the marketing savings was presumed to be under one brand. But we think that the revenue increase, the rental increase in revenue increase from two brands will more than offset the $50 million underwritten marketing savings, and we'll also save about $70 million or so of rebranding costs. So better in G&A, won't achieve the marketing savings, about the same in tenant insurance and better at the property level.

Joe Margolis:

Thanks Ronald.

Ki Bin Kim:

Thank you. Just going back to the LSI topic. This year, you're guiding towards $0.10 to $0.15 of dilution. I'm just curious, how should we think about that during - like how should we think about that improving into next year, just given the size of the portfolio? I think it's going to be pretty helpful for people to understand the earnings runway from here on out?

Joe Margolis:

And we - sorry, on top of this, Scott. But we've also achieved non-underwritten synergies. We've got our rating upgrade, which will immediately save us on interest expenses this year and obviously, on any future borrowings. We sold warehouse anywhere to that management team at closing, which takes that loss off the books. And lots of other smaller things that were not in our $100 million that we're starting to achieve.

Scott Stubbs:

So your difference between those two numbers is your existing customer rates are more than that 15%, and that's what's created the negative churn gap that we have today.

Joe Margolis:

Thank you, Ki Bin.

Spenser Allaway:

Thank you. Apologies if I missed this, but have you guys quantified the magnitude of ECRIs in the stand-alone LSI portfolio and EXR for 2Q and then through July?

Spenser Allaway:

Okay. And sorry, did you quantify it for ESRIs portfolio?

Spenser Allaway:

Okay. And then I know you guys have spent a lot of time on this call, and thank you, just provide any color around the potential uplift you expect on operations from the LSI portfolio. But are there any concerns as it relates to the NOI kind of operating margin that you guys kind of hope to achieve with this integration just as we started to see some material weakness in some of LSI's smaller secondary markets? Or said differently, are there any like structural or demographic headwinds in those markets that you think that maybe your scale or superior revenue management platform won't be able to overcome in the near term?

Spenser Allaway:

Okay. Thanks so much.

Operator:

Thank you. Our next question comes from the line of Jonathan Hughes of Raymond James.

Joe Margolis:

So I think it's important to remember that even though public and Extra Space and cube and life are the largest brands. It's still a highly fragmented industry. And we don't control these markets in any respect. We have many, many stores where most or all of our competitors are mom-and-pops and not REIT. So we only have one or two REIT competitors. So we're going to continue to adopt strategies that we think produce the best long-term results for our shareholders and not really care about what it does to others.

Joe Margolis:

I would respectfully disagree. I think our private competitors are not all Gen 1 older. There's plenty of sophisticated private regional operators that have new store climate control that are very comparable to our stores. Their systems and their operating platforms aren't comparable to us at all. But from a tenant standpoint, the product is the same.

Scott Stubbs:

Thanks Jonathan.

Operator:

Thank you. Our next question comes from Juan Sanabria of BMO Capital Markets.

Joe Margolis:

Yes. So Storage Express was a little harder, frankly, to put onto our systems than Life Storage because we had to put it on a system with a different operating model that we hadn't had program. But once they got on to our system, everything is working very well. And one of the reasons we're confident with the ECRI program for life storages, we just went through that ECRI program for Storage Express, and we saw how their customers accepted it. So in terms of integration very well. Operating through six months of the year ahead of underwriting, which is good. Growth is a little slower than we underwrote as we scaled that back while we were focused on the LSI merger. So we bought five or we've approved for purchase five remote stores, less than $30 million, so smaller stores, $130 a foot, but 7% yields in the first year. So once we can turn our full attention to growing this, we're excited about it. So the summary would be, everything on track or ahead of track going well, just slower growth than we thought as we turned our attention to integrating Life Storage.

Joe Margolis:

Yes. So as I mentioned earlier, our strategies are based on results of testing that we do. And our - the results of those tests have led us to have a strong conviction that we want to have incrementally higher occupancies. We want to seek the longer-term customers, and both of those things come at the expense of initial rate and try to make that up through ECRI. So I apologize if we've spoken too much about occupancy, but it is a tool to maximize revenue.

Joe Margolis:

Thanks.

Joe Margolis:

Great. Thank you, everyone, for your time today. I want to emphasize and assure everyone that everyone here at our combined teams is very focused not only on integrating the companies, but maximizing performance at our stores as a difficult time. We are very, very excited about the future. We see a lot of tailwinds in 2024 is beyond as the underwritten and non-underwritten synergies from LSI hit the books, given the moderating delivery of new stores, given that we have $0.23 of dilution from lease-up stores that will come to the bottom line, that eventually interest rates will be lower. Eventually, the housing market will recover, and we will continue to grow our ancillary management bridge loan and insurance businesses. Thank you very much.

Operator:

Thank you for all for standing by and welcome to the Extra Space Management First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] As a reminder, today’s program is being recorded. And now, I’d now like to introduce your host for today’s program Mr. Jeff Norman. Please go ahead, sir.

Joe Margolis:

Thank you, Jeff. And thank you, everyone, for joining today’s call. We have had an exciting couple of months, and a lot has happened since our fourth quarter earnings call in late February. Operationally, occupancy remained very strong through the first quarter, ending March at 93.5%, our highest first quarter result outside of the COVID years. Our strategy to maintain high occupancy through the winter allowed us to sequentially increase rates to new and existing customers through the first quarter, driving same-store revenue growth of 7.4%. Same-store expenses were lower than expected due to normalizing payroll expense growth, as well as year-over-year savings from repairs and maintenance and property taxes. As expected our same-store NOI growth rate moderated sequentially from the fourth quarter due to an exceptionally difficult 2022 comparable and was modestly ahead of our internal projections at 8.7%. We have also been busy on the external growth front. We continued to grow our third-party management platform with net additions of 44 stores. We acquired six stores primarily in joint venture structures. We originated $53 million in bridge loans. We started our external growth phase of our remote storage strategy, approving three remote model acquisitions, two of which are in our primary markets. Subsequent to quarter-end, we closed the second preferred investment with an affiliate of SmartStop in the amount of $150 million. And of course on April 3rd, we announced a strategic merger with Life Storage through a leverage neutral all stock deal. We believe this combination will produce an even more formidable portfolio, team and platform with over 3,500 stores across 43 states. We anticipate that there are at least $100 million in annual run rate synergies with this transaction that neither company could have created on their own. So far, everything is on track to successfully complete the merger in the second half of the year. And as we continue to refine our integration plan, we are even more confident that we can achieve at least our stated synergies. Further, there are additional potential growth drivers and synergies not captured in the minimum target of $100 million. These include additional expense savings due to increased scale, a lower cost of capital, a 50% increase in data, which could further improve property performance, a larger pool of properties to evaluate opportunities, such as expansion, redevelopment, and solar installation and finally, broader industry relationships, which will provide greater reach and scale to offer potential products and services and build our acquisition pipeline. We are working hard to complete the pending merger and I appreciate the efforts of the teams from both companies and the way they have remained focused on driving the existing business as we enter the busy leasing season. I would now like to turn the time over to Scott.

Operator:

[Operator Instructions] And our first question comes from the line of Todd Thomas from KeyBanc.

Scott Stubbs:

Yes. Our occupancy at the end of April increased about 30 basis points. At the end of April, we were 93.8%. So we actually are in a good position moving into the rental season. We saw good rental activity during the month of April.

Scott Stubbs:

Yes. So, as we did our guidance, we focused obviously on revenue, but in that number, we do assume that occupancy is a negative delta compared to last year, less than 1%, you’re up against two of the toughest years, the last two years with the COVID peaks. But there is a slight negative headwind with occupancy throughout the entire year. It’s pretty consistent.

Scott Stubbs:

It’s actually an improvement of $0.02 compared to initial guidance, and it’s from two things. Leased up properties are filling up faster, and then it assumes that the timing on a couple of the C of O and acquisitions is bumped back slightly.

Juan Sanabria:

Joe, I think you mentioned at the top the remote storage acquisitions. Could you just talk a little bit about what you’re seeing early days there, and what the opportunity set could be going forward? And any thoughts about how that could tie in with Life Storage, recognizing it’s early days there?

Juan Sanabria:

Sure. Is that better?

Juan Sanabria:

Just curious, Joe, you talked about the remote storage investments in the first quarter…

Juan Sanabria:

Just curious, Joe, you mentioned remote storage acquisitions in the first quarter. Just curious on what early learnings are and what that opportunity set is. And if there’s any tie-ins or expansion opportunities to that opportunity with Life Storage pending transaction, just curious on -- bigger picture thoughts on what that could represent for you guys?

Juan Sanabria:

Is there a different margin that these remote storage spaces are capable of generating?

Juan Sanabria:

Yes, it does. And then just curious, you talked about and seemingly are very confident on the synergies from the pending LSI transaction. I was hoping maybe you could just unpack a little bit what’s driving that increased enthusiasm post the transaction being announced?

Operator:

And our next question comes from the line of Samir Khanal from Evercore ISI.

Jeff Norman:

Samir, we only picked up about second half of your question. Could you repeat the full question?

Joe Margolis:

So, it’s a good kind of health-of-the-customer question. And to answer specifically your question, we have not. We peaked out at about 800 basis points greater move out from customers who receive the ECRIs than those who didn’t. And that has trailed back down towards the more normal rate and it has stabilized in a number that’s a little higher than normal, but our ECRIs are a little higher than normal. So still a very manageable number and justifies the program. But, we also see signs of health in the customer in our very low bad debt under 2%, and willingness of customers on the demand side. The strength of demand, which frankly isn’t as good as it was during the COVID years, but if you look at demand statistics compared to pre-COVID years, it is pretty comparable. Demand is still strong in this sector.

Scott Stubbs:

So, if you look at our expenses, payroll is progressing as expected. We expected it to go back to a more moderate pace than what we’ve seen in the past year. And we saw that at 3.9% in the first quarter, and we would expect that to continue to moderate as we move throughout the year. Moving to the other big expense items, payroll -- property taxes were actually a benefit to us in the quarter. We were negative and we would not expect that throughout the remainder of the year. We would expect that to be an inflationary plus. The other one that was a benefit in the quarter is snow removal, which living in Utah, we never would have guessed we had lower snow removal throughout the rest of the U.S., but it was actually a benefit for us in the quarter. In terms of other expense items that we expect some potential pressure moving forward, we do our property -- we renew our property and casualty insurance 1st of June, and we would expect that to see another sizable bump similar to what I think everybody’s experiencing.

Scott Stubbs:

We’re still in the early phases, but it’s definitely double digits, and could be significant. The other expense item that ran at 11% in the quarter is marketing, and we’ll use that as needed throughout the year, if we find that we find positive returns on our marketing spend and we can spend that instead of cutting rates. Obviously, that’s the first area we’ll look.

Keegan Carl:

Maybe first just on your same-store pool breakouts. Can you help us better understand the outperformance of the 2023 pool relative to the 2022 pool, especially given that occupancy was higher in the 2022 pool?

Keegan Carl:

Okay. No, that’s helpful. And then, I guess on the acquisition market, just kind of curious, what are you guys seeing as far as volumes and cap rates? And how should we be thinking about it the rest of the year? And I guess, as an adjacent one to that, I mean, how is it impacting your bridge lending program?

Operator:

And our next question comes from the line of Michael Goldsmith from UBS. Your question, please?

Jeff Norman:

We can year you now.

Joe Margolis:

Yes. I don’t want to overstate the difficulties of March, right? I think we pushed a little harder with rates than maybe we should, which is fine, right? That’s what the algorithm should do. They should try to find that point of resistance. And we went from minus 11% in February all the way to minus 3% in March, and we did see that there was some weakness at that level and the systems brought things back and we’re recovering. So yes, March wasn’t the best month in our last four months. But overall, the last four months have been strong. It’s been good for us. As Scott says, we’re overperforming our expectations.

Joe Margolis:

Sure. So with respect to bridge loans, you have a couple of things going on. One, you have seasonality, which I mentioned. The second is, we had a couple of deals get dropped, deals we had already signed a term sheet, collected a commitment fee, was in our numbers for pipeline and the borrower walked on the commitment fee. And then, we had a couple that were delayed. So normal, I think, volatility in a business, and we will hope to pick it up in the second half of the year. With respect to management, we had a great quarter. We picked up 11 stores from NexPoint as part of our strategic relationship with them and the 37 other stores, and the churn is much less in the management business. We only lost 4 stores in the quarter because the transaction market is so slow. And one of those we bought into a JV. So we had a great start to our management business. We expect to have a great second quarter as well. And it’s -- one of the advantages of having multiple growth drivers is that when one might be growing a little more slowly, another one could be growing a little more quickly. And it always allows us to grow the overall enterprise.

Joe Margolis:

So, some of our bridge loans are commitments to issue the loan upon completion of construction, right, because we won’t lend until the property has a CO and is operational. And when the project gets built and the CO is issued, if the owner has a different plan, maybe he sells the property instead of borrowing it or maybe he finances it some other way, they have the option to walk from their commitment fee and not take the loan.

Ki Bin Kim:

So first question, your New York City Metro area same-store revenue decelerated a little bit further than your portfolio average. I’m not sure what was the cause. If it is a comp issue, or if you’re seeing additional pressures in the new supply deliveries in Northern New Jersey, but any kind of color you can share would be helpful.

Ki Bin Kim:

Okay. And in terms of the LSI merger and the synergy math that you’ve talked about, a lot of the focus has been about getting the synergies from the LSI portfolio, but I was wondering if you can maybe take a different perspective and look at it from a combined basis. What is the upside from the combined company in terms of improving the overall NOI picture -- NOI margin picture and maybe close the gap between you and your larger peer?

Ki Bin Kim:

Yes.

Ki Bin Kim:

And, Joe, you talked about the benefit of having more data, but there’s obviously a diminishing return to that because this 50% more data doesn’t mean you’re 50% more better. So, can you just talk a little bit more about that and what the upside looks like from a more tangible standpoint?

Operator:

And our next question comes from the line of Ronald Kamdem from Morgan Stanley.

Joe Margolis:

So, we’ve always observed differences of tenant behavior depending on what channel they come through, both in terms of what’s an effective tool to capture that tenant and what their behavior is in terms of unit size, length of stay, other factors. And we’re constantly refining the differences in our different channels that is the results of those learnings.

Scott Stubbs:

That’s primarily appeals that we won during the quarter then revised numbers going forward. So it really relates primarily to prior periods as you win those appeals from prior periods.

Michael Mueller:

I guess a couple of questions. First of all, going forward, should we think of the bridge loan program and balances as kind of going up and down based on acquisition opportunities, or should we really be thinking about that business as being completely independent regardless of what you’re thinking about the acquisition markets?

Michael Mueller:

Got it. Okay. And second question, I apologize if it was discussed before. But part of Scott’s comments I think were a little garbled, at least on my end. But can you touch on the percentage of customers that have been in place over a year and over two years? And if you’re seeing any degradation in that ratio?

Operator:

And this does conclude the question-and-answer session of today’s program. I’d like to hand the program back to Joe Margolis for any further remarks.

Operator:

Thank you, ladies and gentlemen, for your participation in today’s conference. This does conclude the program. You may now disconnect. Good day.

Operator:

Good day, and thank you for all for standing by. Welcome to the Q4 2022 Extra Space Storage, Inc. Earnings Conference Call. At this time, all participants are in a listen only mode. After speakers’ presentation, there will be a question-and-answer session [Operator Instructions]. Please be advised that today's conference is being recorded. I would now like to hand the conference over to Jeff Norman. Please go ahead.

Joe Margolis:

Thanks, Jeff. And thank you, everyone, for joining today's call. We had another strong quarter to cap off an exceptional year. Our 2022 same store revenue growth of 17.4% is the highest in our company's history and for the second consecutive year, core FFO growth was above 20%. I am proud of the Extra Space team for another year of strong performance across all aspects of the business. Now speaking to the fourth quarter, despite difficult comps and the return of seasonality, same store revenue growth was ahead of our expectations at 11.8%. Vacates continued to normalize during the quarter and demand remained seasonally steady, leading to strong same store occupancy levels ending the year at 94.2%. Our high occupancy allowed us to maximize revenue and grow customer rates across the portfolio. Despite offering lower rates to new customers, total net rent per square foot increased 12.8% year-over-year. We experienced expense pressure across many line items with same store expense growth of 6.7%, resulting in same store NOI growth of 13.4%. We were busy on the external growth front, acquiring 10 stores in the REIT or in joint ventures, adding 46 stores gross to our third party management platform and closing over $250 million in bridge loans. We were also very focused on integrating our 2022 strategic acquisitions, including the Storage Express portfolio, which is already slightly ahead of our underwriting. We anticipate full integration of the properties onto our platform by the end of the second quarter, which will provide additional digital marketing, revenue management and operational efficiencies. We have also started to test new operational strategies at both Storage Express and Extra Space stores and we are beginning to see some early external growth opportunities in new and existing markets for Storage Express. Our strong property NOI, plus our external growth efforts, resulted in core FFO growth of 9.4% in the quarter and 22.1% for the year. This allowed our Board of Directors to increase our first quarter dividend by 8%, contributing to a total five year increase of 108%. As we look forward to 2023, we are encouraged by the fundamentals of the business. New supply continues to moderate from 2018, 2019 peaks, and we expect even lower competition from new supply in our markets in 2023. Customer demand has been steady, occupancy has remained high and same store revenue growth remained above 10% through December. Our strong occupancy has allowed us to sequentially increase rates month over month to new customers since November. And we believe elevated occupancy will give us greater pricing power with new and existing customers as we move through the leasing season. We expect to face continued expense pressures but at lower levels than experienced in 2022, resulting in same store NOI guidance of 3% to 5.5%. While this level of growth represents moderation from 2022 levels, it is in line with historical norms and we believe it will compare well to other asset classes in the current environment. Our investment strategy is long term focused and we have made strategic decisions we believe will result in solid long term returns for our shareholders. In the fourth quarter, we modified the term of our $300 million preferred investment in NexPoint, trading yields for longer duration and additional managed properties. We also continued our acquisition strategy which focuses on asset light structures, non-stabilized stores or acquisitions with long term strategic implications, including Storage Express. While some of these initiatives caused short term dilution, we believe they provide more total value for our shareholders over time and unlock additional growth channels for years to come. Before handing the time over to Scott, I would also like to congratulate the Extra Space team for receiving our third consecutive Leader in the Light Award, NAREIT's highest ESG and sustainability honor for real estate companies. We are proud to be recognized as a REIT that delivers strong financial results and has also created a sustainable portfolio and company that is positioned to continue providing results for the long haul. I'll turn the time over to Scott now.

Operator:

[Operator Instructions] Our first question comes from Michael Goldsmith of UBS.