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Home / Business / Iron Mountain: This 7.4% High-yielding REIT is a Strong Buy – Iron Mountain Incorporated (NYSE: IRM)

Iron Mountain: This 7.4% High-yielding REIT is a Strong Buy – Iron Mountain Incorporated (NYSE: IRM)



Coproduction of Dividend Sensei.

There's nothing better when the winning season delivers great high-yield REITs trading at rock-bottom prices. The short-term obsession of the market with quarterly results rather than the long-term picture generally represents some of the best opportunistic buying opportunities of the year.

This is what is currently happening with Iron Mountain ), one of my favorite highs. Yield REITs missed their gains (and even dropped 9% as a result), while reaffirming the forecast for 201

9 and its long-term growth plan.

Let's see why Iron Mountain is so thick The return of 7.4% is probably safe and possibly one of the best deep value opportunities you can add to your portfolio. This is because the hybrid storage / data center / industrial REIT is expected to achieve an annualized total return of 14% to 16% over the next five years at the current, heavily discounted price.

Iron Mountain: Great Business Model Helps a Safe and Stable Company Rising 7.4% Yield

First of all, I consider dividend security to be the dividend security. My entire strategy is based on maximizing secure and increasing revenue over time. I'm not interested in yield trades and risky stocks.

  • Yield: 7.4%

  • 2019 AFFO forecast for the payout ratio: 78% (REIT average: 81%)

  • Net debt / adjusted EBITDA (debt ratio): 5.8 (REIT average 5, 8)

  • Interest rate: 3.2 (REIT average: 3.4)

  • Sensei-dividend safety rating: 4/5 (SAFE)

  • Sensei Quality Score: 8/11 (blue-chip) [FortunatelyIronMountain'sreturnof74%althoughnearlytwicethatofaverageREITsappearssafeonthebasisofpayoutanddebtlevelsInadditionmyproprietaryqualityassessmentsystem(whichlooksatdividendsecuritybusinessmodelandmanagementquality)considersIRMasabluechipbasedonits8/11score

    The reason why I am a fan of Iron Mountain, and ready to both recommend and own it, is because the company is one of the few REITs with large moats.



    (Source: Investor Presentation)

    Iron Mountain was founded in 1951 (but became a REIT in 2014) and is the world's largest provider of physical document storage. With nearly 1,500 facilities in 54 countries across six continents, the company serves more than 225,000 corporate clients, including 95% of the Fortune 1,000. It has a 60% market share in the Fortune 1000 market and a global document storage market share of 80%.



    (Source: Amendments of Merit)

    Most of the current revenue comes from the physical storage of industrialized countries, which offers extremely attractive economics for two reasons.

    ]

    (Source: Investor Presentation)

    First, Iron Mountain only has to spend about 3% of its maintenance investment income, combined with strong pricing power (thanks to a permit) three-year leases that enable more frequent rent increases), allows the company to spend more than 75% of its EBITDA margin on money. Its data centers are slightly less profitable (50% EBITDA margin), but still cash-rich with high customer retention and low maintenance costs.

    The key to physical storage profitability is the 98% retention rate that IRM has with its enterprise customers, many of whom have been using it for decades. Why do not companies stop storing physical documents? Due to regulations that require paper copies. Why should not companies switch to a cheaper alternative storage?

    Morningstar estimates that the cost of switching storage providers is about $ 2.94 per cubic foot. The average customer of Iron Mountain pays only $ 0.16 per month per cubic foot of storage. This means that the breakeven time to stop the store is a total of 19 months and the bill of exchange is even higher, as competitors can only offer discounts and no free service.

    Being the largest document storage provider in the world, literally nobody has the economies of scale that IRM makes. The logistics network has been built for over 68 years to take, transport and store documents at a lower cost than others.

    (Source: Investor Presentation)

    With their reputation for reliable service, half of the boxes are stored for 15 years and 35% for 22 years. This is the secret sauce of IRM's boring but beautiful, recession-resistant cash flow.

    The mature storage business of IRM, however, has one drawback, and that is a lack of growth.

    (Source: Outcome Presentation)

    Over the past five quarters, net document volume has declined in developed markets, and only overseas REIT growth has enabled global document volume overall maintain their historical trend.



    (Source: Outcome Presentation)

    Overseas expansion is one of the two main growth paths pursued by management. By 2020, the management aims to generate 30% of its growth portfolio revenue, which focuses on document storage in emerging markets (and ancillary services such as shredding and fine arts storage) and data centers. In context, 90% of sales five years ago were market stores for developed markets.



    (Source: Outcome Presentation)

    If management can achieve this goal, Iron Mountain believes it can increase organic cash flow by 5% CAGR.

    The key to the REIT's long-term future lies in leveraging long-standing relationships with corporate clients to meet their digitization needs and secure cloud storage needs. Most companies prefer a single provider, and Iron Mountain is a name they trust and know well.

    (Source: Investor Presentation)

    The IRM entered the data center market in late 2017 and has since made several acquisitions worth over $ 1.5 billion. This means that 14 data centers are located in 9/10 of the American top data markets and four of the top 10 hotspots in foreign locations.

    The REIT is also building organic data centers, including $ 250 million this year, a long-term plan to increase data storage capacity by 250%. By 2020, management hopes to generate 7% of revenue and 10% of EBITDA from the data center business (which is currently a 13% growing market).

    These efforts will be led by an experienced management team led by President and CEO William Meaney, who has been working in this role since January 2013. Meaney is the one who turned IRM into a REIT, so he does not have to pay corporate taxes. He was also the one who led his growth over the years, including eight consecutive consecutive dividend increases.

    Prior to joining Iron Mountain, Meaney spent eight years as CEO of the Zuellig Group, a Hong Kong-based B2B conglomerate. His revenue trebled from $ 4 billion to $ 12 billion.

    He is also a member of the Asia Business Council, which signifies excellent business relations in the Pacific Rim. This explains why IRM has expanded so aggressively in Asia in recent years. He has a degree in Mechanical Engineering and a Master in Industrial Management from Carnegie Mellon, making him an excellent choice for operating a REIT for industrial and data centers.

    Management expects growth of only 2.6% AFFO / share for 2019. much lower than 8.2% in 2018. This slower growth rate this year, combined with the $ 10 million missing EBITDA this quarter (mainly due to rising labor costs), is the reason why the stock dropped by almost $ 10 million on the earnings date 10% shrank.

    But not just the management Referring to FAST Graphs (the data used by FactSet Research), analysts estimate the growth of cash flow per share for 2020 and 2021 by 7%. This is because most of IRM's major investment projects are online these years.

    (Source: Investor Presentation)

    This is part of the current growth plan, which aims to achieve 4% dividend growth by 2020, while the payoff will increase more slowly than cash flow to leverage lower to a very safe 5.0. This is the level which, in Moody's view, would lead to a credit upgrade that would lower IRM's future borrowing costs and total cost of capital and facilitate profitable growth in the coming years.



    (Source: Investor Presentation)

    This is just the plan until 2020. In the long term, management plans to reduce the payout ratio to around 73% and the debt ratio to 4.75. This means more rating upgrades and is likely to result in an investment grade rating that will allow IRM to sleep well at night or SWAN stocks.

    If the REIT can meet these expectations, it should be able to live up to its expectations. Payout ratio and leverage targets. With management confident in making that forecast for this year, I consider the earnings meltdown as a major overreaction and a good buying opportunity.

    That's because IRM not only offers a safe return of 7.4%, but the potential for about 15% CAGR returns over the next five years, which essentially means you can spend your money over the next five years To double for decades.

    Valuation / Total Return Potential: Generous Return, Excellent Valuation, and Double-Digit Return Potential Make Iron Mountain A Strong Buy

    All my referrals and buybacks are based on trying to maximize a safe and growing income with a two-digit long-term minimum risk To achieve total return. Therefore, I only own companies with 8 or more quality ratings (blue chips or better) and use a valuation-adjusted total return model based on what Brookfield Asset Management (BAM) has used for decades. [19659045] This model is based on the Gordon Dividend Growth Model, which since 1954 has proven to be extremely effective in predicting long-term total returns of more than 5 years. It says that total returns are returns plus long-term cash flow / dividend growth. Assuming that valuation changes will be reversed (and one share will start and end at fair value).

    I use historical valuation comparisons for stable blue chips (very effective since 1966) to estimate how much a valuation boost will give a stock as its value. Multiples return to their historical norms (which roughly equals the fair value).

    • Yield: 7.4% (compared to 6.2% in the five-year average = 16% historically undervalued)

    • P / AFFO (2019-Guidance): 10.5 (vs. 5 average on annual average of 12.6 and REIT average of 16.6, 17% historical and ervalued)

    • Five-year AFFO / stock growth expected (management projections, analyst estimates): 3% to 5%

    • Total return (no change in valuation): 10.4 % to 12.4%

    • Fair Value Discount: 16.5%

    • Valuation Adjusted Total Return Potential: 14% to 16%

    Iron Mountain's return of 7.4% results in a price / AFFO of just 10% , 5x, which is approximately 17% below its five-year average (and well below the 16.6 average for REITs). Whether you look at the cash flow multiple or the return compared to its historical norm, Iron Mountain currently seems to be 17% undervalued.



    (Note applies only to companies with quality ratings of 8 or higher)

    That this makes it a strong buy below my personal rating scale, which is based on the famous Buffett mantra: "It's far better, a wonderful company to buy at a fair price as a fair company at a wonderful price. "

    Of course, this is only the case if you are familiar with the risk profile of Iron Mountain and use good risk management and good asset allocation.

    Risks to Consider

    The biggest risk at Iron Mountain is the debt profile. There are two reasons. First, 31% of the loans are floating rate debt linked to LIBOR, which increases long term interest rate risk.

    (Source: Income supplement)

    Variable interest rates have increased in recent years thanks to nine Fed rate hikes that tend to increase short-term corporate borrowing costs (such as loans) Revolver). Another problem with access to cheap capital to finance the growth plan is the poor credit ratings for junk bonds.



    (Source: YCharts)

    The risk with junk bonds is the Demand for them has been very high in the past decade (due to low interest rates), junk bond yields (to beat the debt ) rise during corrections and the bear market (as in recessions).

    [19459079

    (Source: YCharts)

    Remember that this leads to BB-rated bond yields, and that the IRM sits at BB-, which means that the interest rates that Bond investors would probably raise, probably would be slightly higher. You can see how volatile those returns can be, and when you make corrections when credit markets are startled, yields can rise well above 6%.



    (Source: YCharts)

    And these are just corrections. In recessions (most economists now expect one for 2020 or 2021), junk bond yields can rise in the double-digit range, and during the financial crisis they reached a record of over 16%.

    The good news is that Iron Mountain isn & # 39; He soon stared at a massive debt bubble. Only from 2023 large loans are due, which may pose problems.



    (Source: Income Supplement)

    However, should a recession occur in 2020 or 2021, Iron Mountain may need to seek to refinance debt of up to $ 870 million at significantly higher interest rates. If you do not believe that interest rates that fall to zero or future Fed QE will fail to keep corporate credit costs down, do not count on them.

    (Source: YCharts)

    Here is a graph of the spread between BBB (investment grade) corporate bonds and 10-year US government bond yields. You can see that even for BBB-rated debt, credit spreads can even break out during regular corrections. Indeed, in June, when the risk premium did not even rise as sharply as during the 2016 correction (mainly as a result of the oil crash), zero US companies did not sell any new junk bonds. This was the first month since 2011 (debt ceiling / correction by the euro area).

    And during a typical recession (as the next one is likely to be), credit spreads also rise to around 3%, again for BBB-rated corporate bonds.



    (Source: Cleveland Federal Reserve)

    That does not mean that by 2020 a recession is inevitably likely. According to the Cleveland Fed's model, the yield curve is based on 10y-3m ((the most accurate recession forecasting tool ever discovered), with the likelihood of recession at around 33% from March 2020. According to Blackstone Byron Vienna, the proprietary models are expected of the private equity asset manager with a recession in 2021 at the earliest.

    This means that Iron Mountain has time to implement its growth plan, which makes it all the more worrying that the leverage ratio of the REIT today is 5.6 in the third quarter of 2018 to 5 today , 8 has risen.

    Iron Mountain is likely to reach its leverage target of 5.0 by the end of 2020 as these growth projects pay off, as expected, where Moodyys explains its BB equivalent rating explains with a negative outlook

    "The negative outlook reflects concern that the effective leverage of Iron Mountain may remain high for a longer period of time as Un formerly based on debt to finance capital requirements and acquisitions. A positive rating move would come from leveraged debt financing of new acquisitions, which would provide a track record of debt. A downward pressure on ratings would be due to a significant deterioration in Iron Mountain's profitability or liquidity and should not improve its credit metrics as planned. so that the net debt for recurring EBITDA in the next 12 to 24 months at or above the current level of 5.8. "- Moody & # 39; s (emphasis added)

    What Moody's says is that it does not want assurances but results. Iron Mountain has been forced to finance many of its acquisition and growth projects over the past six months due to Iron Mountain's high cost of equity (nearly 10%). [194559082]

    (Source: Presentation of Results)

    The reason for this is that despite the AFFO forecast for the AFFO payout ratio of 201% for $ 959 million, the REIT has a retained cash flow approximately $ 95 million is expected to be $ 625 million for growth projects. Although the recycling of capital can account for about 25%, the REIT expects to borrow approximately $ 380 million. This means that leverage will not fall this year (management says it will remain unchanged), but in 2020 and beyond.

    Do not get me wrong, I do not necessarily agree with Moody's that a leverage ratio of 5.8 earns a BB equivalent rating, not if the cash flow that supports that debt is so stable and resistant to recession is like that of IRM. However, it is important for bond investors to take care of what the rating agencies think, and if the IRM is downgraded by Moody's (if the leverage ratio remains current for 12 to 24 months) then the rating is by a rating of four points higher.

    And we can not forget that while capital recycling is a good financial instrument during a healthy economy, a recession may not work. Falling commercial real estate prices mean that annualized returns of 15% (which management goals) may not be achieved. This means that Iron Mountain's growth plans could be temporarily derailed during a recession.

    I do not think the dividend is likely to be cut during the next economic downturn. It can, however, be frozen. And the fact remains that since IRM started distributing dividends in 2010, there is no recession that conservative investors can turn to for security at such times.

    That's why I quite understand that if some of the most cautious investors, such as retirees living on the 4% rule, should avoid Iron Mountain for the benefit of investment grade and REITs.

    Conclusion: Today is a good time to add this high yield REIT to your portfolio

    Do not get me wrong, I'm not saying that Iron Mountain is a SWAN stock or right for everyone. Some conservative income investors, such as retirees who live under the 4% rule, prefer to distance themselves from volatile stocks or something with junk bond ratings.

    In fact, my biggest concern with this REIT (which is at level 8) quality blue chip on my rating scale and my fifth-largest position in my retirement portfolio) is the management's effort to achieve debt reduction while maintaining its growth plans to reach.

    Ultimately, however, the quality of the management team in conjunction with a core business that is happening. Stable and recession-resistant cash flow. Therefore, I am confident that Iron Mountain will ultimately achieve its goals.

    If this is the case, the balance eventually becomes a fortress (4.75 leverage) and the cost of capital improves as it receives credit upgrades. Along the way, investors can expect long-term dividend growth of 3% to 5% in addition to today's tempting and safe returns of 7.4%.

    That means double-digit total returns are likely over the next five years, even if they go out of Wall Street never rates that REIT at a reasonable multiples (unlikely if the management sticks to its plan). And since Iron Mountain is now trading 10.5 times in 2019 AFFO, the potential for much better long-term returns of about 15% CAGR will remain in the next five years.

    This may not be the best ROI You'll find Wall Street, which is among the best in REITdom, and few of these bring you 7.4% while you wait for management to meet the long-term growth plan.

    Remember that risk management is essential. That's why I recommend:

    • limiting your position sizes to 5% to 10% for each company (20 to 30 stock portfolios are a good rule of thumb for most investors)

    • 15% to 25% sector caps (z as REITs)

    • Reasonable asset allocation with enough bonds / cash to avoid selling to cover costs during a future recession / bear market (no dividend share is a real bond alternative).

    Author's note: Brad Thomas is a Wall Street writer, and that means he's not always right in his predictions or recommendations. Since this is also true for his grammar, please excuse any typo. In addition, this article is free, and the sole purpose of the letter is to support the research while providing a forum for second-level thinking.

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    Disclosure: I am / we are IRM long. I wrote this article myself, and it expresses my own opinions. I can not get any compensation for it (except from Seeking Alpha). I have no business relationship with a company whose inventory is mentioned in this article.


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