Extra Space Storage Inc. (EXR) Q4 2011 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2011 Extra Space Storage, Inc. Earnings Conference Call. My name is Chantelle, and I will be your facilitator for today’s call [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today’s call, Mr. Clint Halverson, Vice President of Investor Relations. Please proceed, sir.

Thank you, Chantelle. Welcome to Extra Space Storage’s third-quarter 2011 conference call. In addition to our press release, we’ve also furnished unaudited supplemental financial information on our website. The company will also be sharing updates from the earnings call via Twitter. If you’d like to receive these updates, please follow Extra Space at www.twitter.com/ExtraSpaceIR. 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. Forward-looking statements represent Management's estimates as of today, Wednesday, February 22nd, 2012. The Company assumes no obligation to revise or update any forward-looking statements because of changing market conditions or other circumstances after the date of this conference call. I’d now like to turn the call over to Spencer Kirk, Chairman and Chief Executive Officer.

Thanks, Clint. Welcome and thank you for joining us today. With me are Karl Haas, our Chief Operating Officer, and Scott Stubs, our Chief Financial Officer. Let me start by saying that we are very pleased with our performance in 2011. For the year, revenues were up 4.9%, NOI was up 7.6%, and occupancy was up 310 basis points. In December, Scott Stubbs stepped into the CFO role. He is an 11-year veteran of Extra Space, with tenures as our Senior Vice President of Accounting and the Principal Accounting Officer. Scott has been actively involved in our financial architecture and activities before and after going public and the transition has been seamless. Many of you have had the opportunity to meet with Scott. For those that have not, I invite you to contact him. For the past year, I have been talking about Extra Spaces five levers of growth. Our performance in 2011 and into the future is directly attributable to these levers. Let me illustrate what these levers actually mean in tangible terms. Our core performance resulted in an annual same-store NOI growth of 7.6%. We acquired 55 assets during 2011 for nearly $300 million. Our third-party management platform grew to 185 properties. Our lease-up assets are slated to add an additional $0.10 of FFO by the end of 2014 and we added approximately 35,000 potential customers for our tenant-insurance program in 2011. In my 14 years in the storage industry, I have never felt more confident in the future than I do now. We grew our FFO by 32% in 2011. In 2012, at the midpoint of our guidance, we are positioned to have almost 18% growth in our FFO over 2011 and 55% growth over 2010. These results highlight our platform and the performance that its producing yesterday, today and tomorrow. With that, let’s turn the call over to Karl to discuss operations.

Okay. Well, we finished 2011 with a strong quarter. Occupancy continued at historically high levels. At yearend, our same-store properties were 87.8% occupancy. We will see a seasonal increase in occupancy as we head into the rental season. But let me emphasize that our top line growth will primarily come from optimizing rental rates that we’ve reached our occupancy goal levels. We’ve seen consistent reductions in discounts and promotions as our occupancies climbed. Now that we are where we want to be with occupancy, discounts will begin to stabilize on a year-over-year basis. For the year, discounts were down over 5% compared to 2010. And for the quarter, they were down 1%. During the quarter, we saw an average increase in street rates of over 4.5% compared to last year. All of this combined to produce same-store revenue growth of 5.8% for the quarter. When you factor in another strong quarter of expense control, we generated same-store NOI growth of 9.3%. We continue to see reductions in our utility usage and expense due to our sustainability initiatives. Electronic consumption is down 19% versus 2009 on properties where we have done energy retrofits, and that is excluding solar panels. Technological innovations continue to decrease expenses at the site level. In addition, Q4 we had lower snow removal expenses and energy cost at all Northern sites due to the mild winter. We’ve been able to reduce advertising expense due to a more efficient online spend and to continued reduction in Yellow Page advertising. We are committed to increasing our operating efficiencies. Nothing is considered off limits as we look for areas to optimize our business. A few past examples are electronic leases, energy retrofits and solar. While we continue to search for additional efficiencies and cost reductions, we do not feel we will be able to keep our year-over-year expense growth, as well as we have the last several years. And with that, I’d like to turn it over to Scott Stubbs.

Last night, we reported fourth quarter FFO of $0.35 per share including $0.01 of lease subdilution. For the year, we reported a $1.20 per share including $0.07 of lease subdilution. This is $0.03 above the high-end of our guidance due to primarily to better-than-expected rental revenues, lower-than-expected property operating expenses, and strong performance by our tenant-insurance program. For the first quarter of 2012, we estimate FFO to be between $0.31 and $0.33 per share and to be between $1.37 and $1.45 per share for the year. During the fourth quarter, we recognized a one-time severance charge of approximately $0.02. In addition, our G&A expense included a non-recurring charge relating to litigation matters of approximately $0.02. These charges were offset by a $0.04 true up in managed asset management fee income and equity and earnings, $0.03 relating to prior years and $0.01 related to the current year. In 2011, we installed solar panels of 51 properties throughout the country. These enabled us to realize tax savings of approximately $0.06, in addition to the reduced energy cost that we experienced at the properties. We expect to take advantage of these tax credits for the next two to three years. During the quarter, we closed on the acquisition of 28 properties for approximately $190 million. Of the 28 properties purchased, 19 came from a portfolio located in Southern California. An additional six flagship properties were added through the purchase of partner’s 90% interest. For the year, we have purchased a total of 55 properties located in 17 states for nearly $300 million. As always, we continue to look for accretive deals that will strengthen our portfolio and we will continue to focus on being a disciplined buyer. Our third-party management program has proven to be a strong acquisition pipeline in 2011. Excluding portfolios, 75% of our acquisitions came through existing management and joint venture relationships. As of the end of the year, we had 185 third-party properties under management. If you include joint venture properties, we have 526 properties under management. We are well-positioned to act on acquisition opportunities from these relationships as we move forward. I would now like to turn the call back to Spencer for some closing remarks.

Thank you, Scott. As I said earlier, we are pleased with the success we have had in 2011 and are optimistic about 2012. Commensurate with our robust growth n earnings, our first quarter dividend is beginning to increase by 43% to $0.20 per share. We have one main theme in 2012, focus on fundamentals. It is the consistent execution on the fundamentals that will continue to propel our growth and our performance. We would now like to spend the remainder of the time addressing your questions.

[Operator Instructions] Your first question comes from the line of David Toti of Cantor Fitzgerald.

I don’t know if I missed this, but did you guys comment on the change in move-in versus move-out rates in the fourth quarter? Is that sort of just a typical seasonal pattern to see that reverse a bit?

This is Karl. Not necessarily seasonal pattern, but I think it’s more of vacates getting back to more normalized levels. So it’s not a surprise. And on a macro basis, I think you got to keep in mind in going forward for us in that we’ve reached our target occupancy levels. And so you’re going to probably see our rental delta be a little bit worse because we’re going for more rate, because we’re not trying to boost our occupancy. So we’re at three, three something percent above last year on average occupancy. We expect that to continue that gap to close and to get near zero somewhere during 2012.

Okay. And along those lines, the rent growth was quite strong relative to some of the commentary out of your peer group. Is that a strictly a product of pushing more rate because you’ve reached that target occupancy? And do you think that rate or that sort of rent growth is sustainable going forward?

Yes to the first question. It is. In the fourth quarter and throughout 2011, we still had a lot of growth coming from the delta and occupancy and we’ll probably have that in, it looks like, in the first quarter as well, because even though we’re pushing rates, we’re probably holding occupancy better than we projected. But it will -- in the second and probably third and fourth quarter, it will be more from rate.

Okay. And then my final question, Spencer, any change on your thoughts on development? I know you guys made it very vocal about not thinking about it at this point in the cycle like giving some firming in pricing and increasing absorption. Are you guys talking internally about that any differently?

No. One word, no.

Your next question comes from the line of Paula Poskon of Robert W. Baird.

Housekeeping question, how much of management franchisees are embedded into your guidance?

When you say how much of the management fees, you’re talking about the one-time charge that we experienced in the fourth quarter or just going forward?

No, just going forward. Like what would be -- perhaps a different way of asking it is, what would be the quarterly run rate that you’re looking at.

We’re estimating them to be $25 million to $27 million for the year next year. So, basically, we’re hoping to continue to grow them. But the majority of the growth is coming from the property rental revenue times the management fee.

And, Karl, could you provide some color on what trends you’re seeing in call volumes at the call center? You’re usually higher or lower over the winter.

Not unusually, but they’re higher than same time last year, not dramatically, though.

And are you seeing increasing interest in the third-party services from independent owners?

I would say there is an awakening. It’s gradual at best, but I think that there is an awareness that is building that the larger operators, i.e. the public companies, definitely have an advantage when it comes to scale and sophistication. I think the public REITs have demonstrated that not only is the revenue growth and NOI growth better than the smaller operators, but the occupancy is better than the smaller players. And so, for us, we’re saying it’s going to be a gradual evolution, not a revolution in terms of awareness of what the sophistication and the power of revenue management, Internet, call center and other things, can provide an operator. And we are seeing some volume, yes.

And just to kind of dig a little deeper into the third-party strategy. What do you say to those folks who say it’s a lot of brain damage and why would you go about improving asset performance of an asset that essentially you’re ultimately raising the price that you’d have to pay for it when you want to own it anyway?

Excellent question, Paula. The answer for us is this. We’ve said that the third-party management business becomes a quasi proprietary acquisition pipeline. We still believe that’s true. When it comes time for that owner to sell, of course we’ve improved the performance and probably raised the price to which the owner is going to give us the first call, because we already have an existing relationship. And we believe that the call will not go beyond that in many cases. Last year, 75% of our non-portfolio acquisitions came because of our relationships with our partners. And it was really one call to extra space and nobody else in it. And the answer is this, if we give the owner a fair price, two things come to our benefit. Number one, because we have perfect operational knowledge of that asset, our acquisition risk approaches zero. We have all the information we need and we don’t need to build in a contingency. And secondly, we’re not paying broker’s fees and at the end of the day, we can have something that no one else gets. We don’t pay broker’s fees, we don’t take acquisition risk, and everybody comes away a winner. And that to me is the best of all situations for us, a mutually beneficial transaction.

Paula, this is Karl. I’d like to add something that I just heard from somebody in our acquisition or third-party management group just this morning. And that is, in almost every case, we try to acquire the properties first and then they tell us no, we’re not interested in selling. And then the next part of the discussion is about management. And that’s not the case in the big portfolios [indiscernible] and things like that. But on the more local operators, that is the case. They’re just not willing to sell at where they are. So it’s not like we’re making -- we’re taking and go, “All right, we don’t want to buy it. We just want to manage it.” We’re never given the option. They don’t want to sell yet.

Okay. And then if you think about the $100 million in acquisition volume that’s in your guidance this year, do you expect sort of a repeat split of where that’s being sourced from? Or do you see the marketed opportunity that’s improving?

We continue to underwrite a lot of deals. We continue to underwrite things that are in-house as well as outside. And I would tell you that right now we have just under $50 million under contract or under letter of intent of which it’s pretty evenly split that we hope to close by the middle of the year.

Thanks, Scott. And since this is your first time officially on the call with us in your new role, would you share a little bit of your philosophy about managing the balance sheet particularly if you look out over the next few years.

Yes. I don’t think you’re going to see major changes. I think if anything is probably on the margins, I think that we’ve had a lot of input here. Whether it’s Spencer or Karl or myself, I think that we all believe in the philosophy that we’re using where we utilize some unsecured debt, whether it’s exchangeable debt or trust preferred, secured debt, and then looking at raising equity as we have a place to put that money. So I think that it’s going to be largely the same. I think right now it’s -- we’ve been able to delever as a result of keeping our dividend low and the natural growth within the company.

And then just one final question for you, Spencer. Can you just give a little bit more color on the reason for Karl’s retention bonus, particularly in light of having his employment agreement expire last August and the commentary around that?

Yes. Actually, let’s bifurcate that. Karl is doing an outstanding job for this company and our results speak volumes about what Karl and his leadership and the operation’s team are able to produce. I think the best thing to do, however, is have Karl talk about his perspective on the retention agreement and put it in proper context.

Yes. My roots are in the East Coast and, yes, I never intended my move to Salt Lake City to be a permanent one. I still have a lot of passion for what I’m doing and my company provided me a generous incentive for me to stay another two years. And as with all the members of our executive team, I’m actively working on my succession plan, identifying and developing a core team of individuals that will be ready to step in to my position then or whenever I retire.

Fair enough. And I’m sure there was some incentive around Dunkin Donuts, too. Wasn’t there, Karl?

Well, they haven’t come to Salt Lake City. So that’s the same thing in two years. We are going to make the decision even easier.

Your next question comes from the line of Eric Wolfe of Citi.

I just wanted to follow up on Paula’s question and kind of better understand the process you actually go through when you pull a property into your third-party management platform. How do you integrate that property and how much does it cost? And I guess how do you look at the return on that investment, putting aside maybe the acquisition opportunities down the road?

Well, the cost depends. If we’re adding one property where we’re already -- in a city where we already have 12, we almost have no incremental cost. If we go in to a market where -- and we’ve had some of these just where we have no presence but we’re adding a good number of properties, and that happened in Southern California, it will result in a fairly significant increase in cost, because we’ll have to add DMs to accommodate it. And then back here in our store support center, we also -- and it kind of works the same way. It depends. If you add one property, it doesn’t have much impact. If you add 20, well, we’re going to add a property accountant and maybe some other resources. So it really depends on how they come in and what the impact is. And we look at -- the real direct cost is somewhere between the 3% and 6%. Where our profit comes from is tenant insurance over the long-term.

And I’m just curious. In terms of the acquisition pipeline that you’re building to your third-party management platform, I’m just wondering how many of those assets that you -- I know you always get the first look at it. But how many of the ones that you’ve been third management managing actually end up in other people’s hands besides Extra Space?

We’ve lost a few. I mean, nothing significant, but generally it’s a pricing issue where we can’t get to the number where the seller wants to be.

But it’s single digits, Eric. It is a handful.

And then just one last question, switching topics. Looking at the strong occupancy growth you had in the second half of the year of 2011, I would expect that the comps get much more difficult as the year progresses. So in terms of thinking about how we should expect revenue growth to trend through the year, should we sort of expect it to start around kind of 5 percentage and then sort of trend down to 3%? Just wondering how you think it’s going to look through the year.

This is Karl. No. Well, I think it will probably be pretty flat throughout the whole year. At least that’s the way we’ve performed at it.

Okay. So flat, just a little bit above 4% through the whole year.

Yes. We really don’t have -- we’re not projecting any kind of tremendous spikes. It will go down a little bit. We’ll start a little bit stronger in the beginning of the year and trend down. But it won’t be -- it’s not really dramatic.

Your next question comes from the line of Michael Salinsky of RBC Capital Markets.

You guys talked a little about acquisitions. Can you talk a little bit about what you’re seeing in terms of pricing and the amount of product on the market? And also, just as we think about acquisitions, a reason probably similar to last year where you had enough free cash flow to cover the acquisitions. How would you think about funding if there was upside to that number?

Mike, this is Scott. Right now, we continue to see a steady deal flow. I think pricing has gotten a little bit more expensive. We continue to underwrite things around to 7%. We want to be an aggressive buyer, but we also don’t want to get crazy on what we buy and make sure that we’re a disciplined buy. As far as the $100 million that we projected in our guidance, we feel like we can obviously finance that with cash generated internally. If we did a larger acquisition than that, then obviously I think that we’d have to take a look at our options at that point. But again, we don’t want to raise equity if we don’t have anywhere to put it.

Second question, just to go back to, actually, put Karl to work here. In terms of the guidance for 2012, can you kind of walk us through what’s your -- how much of the growth comes from discount burn off and what’s your expectations are for both renewal and street rate growth kind of embedded in there.

We’re not anticipating a lot more benefit from either discounts or decreasing bad debt. We’ve milked that pretty dramatically in the last two or three years. And we’re not anticipating a lot from occupancy, although we’ll probably in the early part of the year get more and the latter part, get less from occupancy delta. And we’re projecting around -- somewhere between a 3% and a 5% increase in street rates, coming in street rates. A big contributor continues to be our existing -- we call it ECRI, existing customer rate increase. And we’ll continue to do that as aggressively as we have and that will be in the 7% to 9% range.

Okay. And the in-place discounts currently?

In the range of 5%.

Okay. So you expect that to moderate throughout the year.

I expect that percentage to stay about the same as a percentage of revenue.

As a percentage of revenue, but you expect to tailor down discounts throughout the year, or that’s not the case?

No, we don’t see discounts dramatically decreasing.

And then final question is that, as you look at the capital market strategy here, and you said mainly looking at both unsecured and secured options, is there any bias towards either one in particular at this point given where pricing is today?

Right now, the pricing that we’re finding is best in the secured market with local banks rather than conduit loans and CMBS market. So, obviously, that’s an emphasis right now or our focus right now as far as where we’re finding money.

Your next question comes from the line Swaroop Yalla of Morgan Stanley.

Just looking at your expense growth guidance of 3% to 4%, there seems a significant jump from this year’s, it’s almost flat, expenses. What are the specific drivers of that? And then, where do you see some of the savings from some of the initiatives you mentioned earlier coming through and bring it at the lower end of guidance?

Our 2 major expense categories are payroll and taxes. And we have budgeted and expect to see payroll to increase somewhere in the range of around 3.5% to 4%. And that is one of the – someone says a third of our overall expenses. Taxes, Scott, if you want to talk a little bit more about taxes. You’re probably better versed in it.

Property taxes, we’ve estimated kind of in the 3% to 5% depending on the municipality. What we found is that in the past few years, taxes have grown slower than that, but I think at some point, you’re going to see an adjustment where municipalities are going to need to raise their taxes. So that’s the level that we’ve used to estimate based on our property tax consultant.

And we do expect our utilities to be moderated, but other expense categories are going to be hard to keep, especially as I already said the payroll and taxes. And we have an opportunity in the first quarter because of the utilities and snow removal. We anticipated a normal year and so far, we’ve had a fairly abnormal year. But we have March to go. So we’ll see where that goes. But I think we have a chance in the first quarter to have a little bit better performance on expenses just because of the mild winter.

Great. And then just turning to renewals. I mean, can you tell us how they trended in 4Q and what are you seeing -- what are you sending out right now in terms of renewal increases?

Every quarter is basically the same.

Yes. This is Spencer, Swaroop. Our existing customer rate increases, it’s about 35,000 per month and they’re in that 7% to 9% range, and that has not changed at all during the course of 2011 or even into the start of 2012. It’s a program that we’ve tested, we’ve proven it, and it continues to be in full force and effect.

Got it. So it’s more stable then.

Very stable.

And then, lastly, I mean I might have missed this, but sort of debt market activity is contemplated in the guidance? Specifically, I was talking about the line of credit which matures in October of this year. Are you planning to term out that debt or sort of renew that line of credit?

We’re planning on looking at lines of credit. It’s a secured line of credit right now. So, obviously, if you replace it with another secured line of credit, it doesn’t necessarily affect that number of properties that are used in that line or anything of the sort. But we’re planning on obviously paying that back in October.

Your next question comes from the line of RJ Milligan of Raymond James.

Just a follow up on David’s question earlier in the call in terms of new supply. I know you guys aren’t thinking about developing, but just wondering if the outlook for new supply over the next couple of years has shifted since, I guess, the last conference call when we spoke about it.

RJ, this is Spencer. I have a chance to travel around quite a bit and I talk with a lot of people inside the industry, and I don’t know what the numbers are, but to the best of our ability to make a guesstimate of what the development activity in the country is, it’s dozens of properties. I did a look back on 2003, 2004, 2005, 2006, 2007. There were more than 13,000 new self-storage facilities added to the US footprint in that five-year period. And to the best of my knowledge, I freely acknowledge that it’s an imperfect perspective and vantage point. But we’re taking dozens of properties, not hundreds, not thousands in development coming up out of ground. And I think that bodes really well for the entire industry and for any current operator of self-storage.

In those dozens of developments, is there any specific trend you’re seeing in terms of a market that they might be going up in or secondary markets, or any additional color you can provide?

It’s random. It’s smattering.

Your next question comes from the line of Christie McElroy of UBS.

Just a question for Karl. I just wanted to follow up a little bit in some of the revenue growth questions. If I think about your existing customer rents were up 7% to 9% this year, your street rents are up 4% to 5% year-over-year, your discounts are down 5%. If I look at page 16 of the sub and if I look at the realized rent per occupied square foot for the same-store pool, it looks like that was up about 1.4%. So you saw 1.4% growth in rents, realized rents over last year. Am I thinking about that in the right way? And it seems like that given that, that the strong existing customer rents and street rents, that number would’ve been a little bit higher. Is there any sort of offsetting factor there that I’m missing, whether it’s negative impact from churn or anything like that?

Christie, one thing to note. I would tell you our street rates were 4.5% above at the end of the year. But early in the year, they were lower than maybe the competition as we gained occupancy.

And this is Karl. And we continued through most of 2011 working the occupancy gain in delta more so than anything else. And, really, it was in the fourth quarter that we started to reach our plateau. I mean it was part of our plan. It started in 2010 and it took a long while to get to the occupancy goal that we had. And so, I think that’s going to switch some. But we’re pretty comfortable with what we’re projecting based on the components.

Okay. So, if I think about your expectation for about 3.5% to 5% same-store revenue growth for this year and you’re close to full occupancy, the bulk of that is going to come from in-place rent growth. Given those different components and those trends continuing, that number should be higher next year, that growth rate?

I’m not sure what growth rate when you said...

In terms of that in-place realized rent per occupied square foot number.

Yes, yes.

That growth rate should be a lot higher next year.

Yes. Yes.

Okay. And then just following up on the move outs. It seems like so the delta between the vacates and the move-ins was about 5,800 units this quarter. If I look at the last two years, that number was about 2,000 to 3,000 units. And you talked about kind of coming back to a more normalized level. What was that delta sort of in ‘06 and ’07 when you were closer to that full occupancy level?

I don’t have that right available. I don’t know off the top of my head. I’m sure we could get that if you need it.

That would be helpful. And then, are you guys planning on putting any redevelopment capital to work for expansions in the next couple of years?

Yes, we are. We’re working a plan on some of our -- we’ve done an internal review and, Spencer, maybe you want to talk about the kind of the long term view related to that.

The long term view is this. We have assets that are brand new. In fact, this quarter, we’ll finish our last development property in Los Gatos, out in the Bay Area and bring that online into leased up asset. We also have assets that are 35 years of age. We have everything in between. And we as a management team have very carefully done an abstract on our properties and said, “Ten years from now, what is the state and condition of our portfolio if we’re not adding new purpose built facilities?” And of course, there will be some acquisitions mixed in there. So, we have said, we need to look at each asset and look at the markets where they’re located and make a determination as to what the highest and best use for that property is in terms of single-story drive-up, climate-controlled, all the various other attributes that comprise self-storage facility to keep our product relevant in that particular market. And this is a multi-year, ongoing program that we want to be sustainable. It’s going to be something we’re not going to be digging in to the details a lot on conference calls. Rather, you’ll just see a commitment from this company to keep, as I said, just a second ago, our product relevant in the markets in which we are doing business.

Okay. And then just lastly. I’m so sorry if you’ve mentioned this already. But in terms of the equity interest that you purchased from JV partner in the quarter, what was the cap rate on that transaction versus the other assets you bought in Q4?

It was similar. I mean, it was -- again, we’ve tried to underwrite things around the 7%. So again, a creative acquisition.

Your next question comes from the line of Todd Thomas.

It’s Jordan Sadler here with Todd. I just wanted to dig down into the same-store guidance a little bit more. And not to beat the dead horse, but on the occupancy front, you guys have obviously worked to lift the occupancies across the portfolio and had these nice increases. And, obviously, the increases are moderated throughout the year, but if you could sort of maybe quantify it in terms of the average occupancy assumption year-over-year that’s imbedded in guidance, so it might be helpful as well.

It’s approximately 87% on annualized basis.

Which is flat or is it -- is that on the same-store portfolio? I’m looking at page 17. You were 87.6% for the full year.

On the same store of what we’re aiming for is around 87%.

So, you’re saying it could come moderate 60 basis points or so from -- is that a conservative...

I’m not sure now. I mean, 87% was a goal and kind of what we were shooting for. Yes, it could be that the pool has changed a little bit.

Okay. Okay. So, by and large, not much uplift embedded in the guidance.

Although I will say -- I mean, our strategy is to maximize -- the ultimate, as in everybody else’s on that, so that being said. But we’re all trying to maximize revenues. So, our strategy is to -- we’ll be pushing rates. What we’ve seen -- and it’s really kind of the positive surprise that happened in the fourth quarter is that, normally, we see more of a down trend. If you graph our numbers, we normally see more of a little bit of a downturn in the fourth quarter. It didn’t really happen this year. And so, that was part of the positive surprise that we had.

How much of that do you think is due to the mild weather versus sort of your changes in the pricing strategy to sort of make that happen?

Probably other people may say they can answer that question. I’m not sure I can.

Okay. But you’re not sure if a part of that was mild weather driven? Is it purely as the result of your efforts?

We’re kind of in new terrain here with our occupancy. And so I guess we’re going to see as we go. It may be a pleasant surprise. We have been very aggressive on rate. As we’ve talked about over the last couple of years, beginning in 2009, we got very aggressive in rate and occupancy was driving everything. And we achieved kind of big deltas, positive deltas in occupancy. And we reached -- our goal was 87%. I think someone just told me that our goal in 2011 or 2012 is 87.1%. So it’s pretty close to that 87% number, I said. And now we’ve gotten there, so we’re going to go for rate. But if the higher rate also results in us being able to hold occupancy or even gain occupancy a little bit, well, that will be icing on the cake. We don’t think that will be the case because -- I don’t know that anything is indicated that the demand is that strong that we’re going to be able to get both occupancy and rates.

In terms of rate, have you started to see any pushback? You’re now obviously starting to be much more aggressive on pushing street rates being up 4.5% in the quarter. Are you seeing any pushback there?

No. But as I said, I mean, it will happen naturally because -- and as you saw on the fourth quarter. I mean we’re not going to get as much increase in rentals as we would have if we’re cheaper. So it’s kind of a natural thing. Higher rate is going to result than a little bit less rentals. But I can’t say it’s really push backs. And we’re really getting to where a rate where we think we probably ought to be anyway.

Right. No. That makes sense. Last question. Do you guys track a percent of your customers that are new customers to storage still?

Yes, we do.

Where are we at these days?

Sorry, Jordan. It’s Spencer. More than 50% of our customers have never used storage previously.

It’s not moving, right? I mean that’s the number you’ve told us for years.

That is correct. Yes, the number has not changed.

Your next question comes from the line of Michael Knott of Green Street Advisors.

Spencer, a question for you. If you guys achieved sort of a top-end of your same-store revenue growth guidance, that will mean that rent growth is historically strong, maybe best or second best year ever. Given that the economy is still kind of weak, why do you think that is? Why do you think storage is so strong right now? Are you seeing more discretionary users come back after ’09? Is it the lack of new supply that you talked about earlier? And then sort of on a different path, do you worry about increasing gas prices, denting consumer confidence or consumer wallets in light of weak employment?

Yes, yes, yes. No. The answer is this, Michael. I believe storage is overall closely tied to the economic health of our economy. An area where I have a different opinion than others is I don’t subscribe to the discretionary user. I never have, never will. Every customer that comes in our door is a need-based customer. There’s nothing sexy or cool about space, storage space. We’re not selling iPhone and iPads and iTouches. It’s not something people desire to have. But when a life-changing event takes place, people move in. They are need-based. Now, as time burns off, that user transitions from being a need-based customer to a discretionary user. And that’s where the vacate takes place. With no new supply coming onboard, of course, that is one of the things that factors in to what’s going on. There are a lot of exogenous forces out there that could disrupt what we’re doing. It could cause consumer sentiment to take a hit. But right now, absent that information, we’ve given our best prognostication as to what we think 2012 is going to be and it’s a variety of factors that all amalgamate together to drive the result.

Scott, I ask the question for maybe you or Spencer, I guess. It sounds like you guys are about half way home on your acquisition guidance for the year. Did I hear that right?

Correct. We currently have about $49 million. Now, some of those will close over the next several months ended -- the end of February right now, we haven’t closed on anything. So the $100 million is the total for the year assuming that it happens evenly throughout the year. So we need to close $100 million by the end of the year.

And do you care to comment on geographic split out or nature of the $49 million?

It’s pretty diverse all in the markets where we are.

And then, Spencer, can you just speak to your team’s decision and leadership dynamics when Ken returns to a day-to-day role later in the year? And just maybe give some color on how investors are to think about you as CEO and he and chairman/CIO role?

Yes. I’d be happy to. Ken and I have known each other for almost three decades. We’ve worked well together here at Extra Space for the last 14 years. I took a three-year Sabbatical, remained as the director, came back, and things were pretty seamless. The message that I would deliver, Michael, is this company is way beyond Spencer or Ken. It’s about the team. And we’ve tried to highlight and expose the capacity and capability of our team broadly out in the street and with our customers and with our employees. Ken will come back as the chief investment officer, as we’ve talked about. He’ll take over the real estate function. I think that’s an area where he has supreme expertise, experience and capability. And he’ll also take over the board as the executive chairman. What’s interesting for me is we have seven board members, each one of them has a vote, someone has asked to run the board meeting, and kind of manage that function of the oversight that the board provides. And I think you’ll find Ken and Spencer working very well together as we have done historically. And I think the message to the street is we’ve got a management team in place, Spencer Kirk stays on as the CEO, we welcome back a valuable contributor to the team, and I think you’ll see continued great things come out of Extra Space.

Great. But the buck is going to stop in your office, right?

That is correct. I’m the CEO and I hate to say this, but I’m going to say it again. I’m the single largest private shareholder. I have a vested interest in making sure that the chain of command and the direction of the company is clearly understood and executed appropriately.

Okay, great. Thanks for all that color. I just have one last question. Can you guys comment on how recent transactions are trading relative to your assessment of replacement cost?

I think it depends on the transaction. I mean, some are above, some are below. I think that things have -- cap rates have gone down with low interest rates and a lot of interest in self-storage.

Is that a reason why cap rates may not go a whole lot lower though, is because the values could start exceeding replacement cost if they’re kind of on average at replacement cost now, which sounds like kind of what you’re saying?

When we factor in replacement cost, it’s probably not as big of a factor for us. We want to make sure that it’s a deal that makes sense in our underwriting as far as -- we’re largely a cap rate buyer. But at the same time, we do look at replacement cost. So it’s hard to comment on that.

Your next question comes from the line of Todd Stender of Wells Fargo Securities.

Scott, you highlighted the 7% cap rate assumptions. Any real difference in cap rates, you’re saying, from California stuff versus Massachusetts, New Jersey, New York?

I think it really depends on where at in California and we’re in each of those markets. Obviously, downtown LA is different than Victorville. Cap rates are higher the further out you get from the metropolitan areas.

Is it fair to say you’re interested more in the LA, San Francisco, San Diego markets?

Absolutely. Well, not just in those markets, but we’re more interested in those markets than San Bernardino County.

Sure. Just sticking with the market theme, how are you thinking about some of the underperforming markets? I know in the release you highlighted Houston, Las Vegas and San Diego. Are you patient with these markets? Are the fundamentals lagging too far behind? How do you kind of think about those?

This is Karl. Seattle is not real. We have a limited number of properties there and the military impacted. And actually, San Diego is kind of the same thing. Then we have two of our major properties there are near Marine bases that really have big ups and downs. Vegas is Vegas and it’s a sad story. Houston is a market that just kind of has ups and downs. It’s a tough market. But we believe in the long run. We just bought a property in Houston. And we believe in the long run Houston is a good bet.

And then just moving towards your comments in your prepared remarks regarding the solar panels. What was the cost allocated for 2011? And then have you budgeted any for 2012?

We spent just over $20 million in solar panels and we expect to do the same type of volume in 2012.

Your next question comes from the line of Smedes Rose of KBW.

I just wanted to ask. So you bought out one of your partners in order to get full ownership of six properties. Is that a potential source to the acquisitions going forward? Or is that more of, I guess, a one-off exception? I mean, in the past, you haven’t really seen that as an opportunity to...

This is Spencer. That was a JV partner and that we had six assets that were really a good fit. It’s one-time deal for us with that particular partner at this point.

So, for the acquisitions that you’ve talked about are not buying out any of your JV partners. They’re all just kind of new.

That’s correct.

Your next question comes from the line of Ki Bin Kim of Macquarie.

Just a couple of quick follow-ups. I mean, when I look at your managed portfolio, it seems like the same-store NOI growth was much better than your core portfolio, about 15% year-over-year. And I think Christie was asking that does -- or Paul was asking that does make your eventual purchase price higher because you’re doing a good job with those properties. Have you thought about restructuring those deals with maybe a promote option in there that will actually help you collect more management fees in the meantime while decreasing the net cost of those assets if you actually decide to buy them?

The answer, Ki Bin, is we have struck what we think are mutually beneficial business, arrangements with those partners. We don’t like to re-trade our partners. We’re in this for the long-haul. We think that we’ve got a program that is sustainable and it works well for the partner and it works well for this company. And of course, as time goes on, we’ll re-evaluate what our options might be to maximize revenues. But I don’t want to send a signal to any of our partners that we’re unhappy with the arrangements. They’re working and they’re working well.

I was referring to more new partnerships, not...

Okay. Yes, we like consistency in what we do and as time marches on, then we see how things are coming together, of course, we don’t want to lock ourselves in, but we do have a program and we’re selling the program and we’re very consistent in the application of that.

Yes. You also have to look at they’re not necessarily same story. They may have been brought in partway through the year, something to the sort. So the growth could be greater, showing is greater or...

I think you can’t just focus on the percentage growth of those assets compared to your same-store assets.

Okay. The last quarter when you guys reported net vacates, it was actually a benefit as it decreased slightly year-over-year. But this quarter, it increased 6%. So, as we heard in your same-store pool or total revenue pool, now given that vacates increases 6% year-over-year while at the same time street rates increased 4.5%, is that at the end of the day a losing formula -- well, not a beneficial formula given that you’re losing 6% gaining 4.5% in the other side? Or am I missing -- I’m guessing I’m missing something in between there.

Yes, this is Karl. Yes. I mean, we don’t have any control over the vacates and the vacates are -- we benefitted in the prior year with a lower-than-normal vacate level and this year is just getting back to a more normal vacate level. What we have control over is rentals and rates. And that’s really where the play is, is on rentals and the rate for rentals. I mean, if I had my choice, I know everybody out there, all the guys are focused on rentals and vacates. What we focus on is our square foot occupancy and delta and what rate we’re bringing people in at. And ultimately, that’s where we have much more control and it’s where we can have much more impact.

And last question. Albeit you commented on this. Can you comment on January and February trends that you’re seeing in terms of year-over-year revenue growth or occupancy growth?

Right down the middle of the fairway.

Meaning?

Normal. Yes. Completely normal for the season we’re in.

But from a year-over-year standpoint of referring to? So, your year-over-year occupancy trend, is that...

It’s Spencer. The answer is this. There is no aberrational behavior on rentals or vacates. Everything is seasonally trending exactly how we would expect to in context of the guidance we’ve already provided.

Your next question comes from the line of Tayo Okusanya of Jefferies & Company.

Just a couple of quick questions. First one, just in regard to debt maturities next year as I kind of look at the $205 million of debt coming due and the current interest rate on that debt is already pretty attractive. Just curious what you’re seeing out there in the market and whether you actually see opportunities to actually refi that debt or paid off, or what the exact terms would be.

Right now, we’re seeing rates 3.3% to 3.7% on five to seven-year debt, and that’s primarily with banks rather than CMBS or conduits. We’re continually looking at our debt to pre-pay debt or we’ve actually been able to restructure a number of our loans where we’ve approached the bank and told them we wanted to pay it off. And the bank came back with a much better proposal. So we continue to do that and we’ll continue to do that.

Okay. So you actually think you’re more likely -- if you’re going to refi at all, possibly not lower rates than you currently are right now?

Based on where rates are at today, yes, I think that’s a fair assumption. And hopefully they stay low, but again, we don’t have any control over that.

And then just the second question. Is there any extra color you could provide on the litigation expense of $0.02 of the quarter? It’s not very often you guys have that unusual charge.

Tayo, I prefer not to give any more detail on those pending litigation matters until they’re further resolved.

Could you tell us what the nature of the litigation is?

It’s in the ordinary course of renting units and managing a base of more than 550,000 customers, and then that pool continues to grow. And I wish I could give you more color, but I can’t at this point.

Your next question comes from the line of Paul Adornato of BMO Capital Markets.

As you kind of maxed out on some of the other levers at your disposal, I was wondering if you could just spend a minute and talk about tenant insurance and how you plan to use that lever going forward?

Paul, I’m not sure that we’ve maxed out on any of the levers. I think we’re deploying them advantageously. What I would say on the tenant insurance is every time we open a new development, any time we bring on a third-party customer, and any time we do an acquisition, we add a lot of potential customers. And as I said in my opening remarks, 35,000 new potential customers in a period is really quite remarkable when you think about the power of that. We like this business. We like our prospects for growing it, both with wholly-owned and non-owned assets. And I think it’s far from maxed out.

Okay. And with respect to the insurance, does extra spaces insurance requirements for customers differ significantly?

No.

This is Karl. No.

Relatively comparable to everybody else.

Thanks, Paul. This is Spencer. We are at the top of the hour. We appreciate your time today. We’re grateful for your interest in extra space and we look forward to next earnings calls. Thank you.

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a wonderful day.