10-K 1 ps10k_2012.htm PUBLIC STORAGE FORM 10K ps10k_2012.htm

 
 
 
 
 



 UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
 
FORM 10-K
 
 
[X]  Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 
For the fiscal year ended December 31, 2012.
 
 
 or
 
 
[  ]  Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 
For the transition period from   to  .
 
 
Commission File Number:  001-33519
 
 
PUBLIC STORAGE
 
(Exact name of Registrant as specified in its charter)
 
Maryland
95-3551121
( State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
 
701 Western Avenue, Glendale, California  91201-2349
(Address of principal executive offices) (Zip Code)
 
 
(818) 244-8080
 
 
(Registrant's telephone number, including area code)
 
 
Securities registered pursuant to Section 12(b) of the Act:
 
 
Title of each class
Name of each exchange
on which registered
 
Depositary Shares Each Representing 1/1,000 of a 6.875% Cumulative Preferred Share, Series O $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 6.500% Cumulative Preferred Share, Series P $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 6.500% Cumulative Preferred Share, Series Q $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 6.350% Cumulative Preferred Share, Series R $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 5.900% Cumulative Preferred Share, Series S $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 5.750% Cumulative Preferred Share, Series T $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 5.625% Cumulative Preferred Share, Series U $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 5.375% Cumulative Preferred Share, Series V $.01 par value
 
New York Stock Exchange
 
Depositary Shares Each Representing 1/1,000 of a 5.200% Cumulative Preferred Share, Series W $.01 par value
 
New York Stock Exchange
 
Common Shares, $.10 par value                                                                                                
 
New York Stock Exchange
 
Securities registered pursuant to Section 12(g) of the Act: None (Title of class)
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
 
                Yes [X]No [   ]
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.
 
                Yes [   ]No [X]
 
 
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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
 
Yes [X]                      No [   ]
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
 
Yes [X]                      No [   ]
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  [X]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large Accelerated Filer [X]                                                              Accelerated Filer [   ]                                              Non-accelerated Filer [   ]      Smaller Reporting Company [   ]
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
 
Yes [   ]                      No [X]
 
The aggregate market value of the voting and non-voting common shares held by non-affiliates of the Registrant as of June 30, 2012:
 
Common Shares, $0.10 Par Value – $20,712,158,000 (computed on the basis of $144.41 per share which was the reported closing sale price of the Company's Common Shares on the New York Stock Exchange on June 30, 2012).
 
As of February 22, 2013, there were 171,728,085 outstanding Common Shares, $.10 par value.
 
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the definitive proxy statement to be filed in connection with the Annual Meeting of Shareholders to be held in 2013 are incorporated by reference into Part III of this Annual Report on Form 10-K to the extent described therein.
 

 
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PART I
 
ITEM 1.
Business
 
Forward Looking Statements
 
This Annual Report on Form 10-K contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  All statements in this document, other than statements of historical fact, are forward-looking statements which may be identified by the use of the words "expects,"   "believes,"   "anticipates,"  "plans," "would," "should," "may," "estimates" and similar expressions.
 
These forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties, which may cause our actual results and performance to be materially different from those expressed or implied in the forward-looking statements.  Factors and risks that may impact our future results and performance include, but are not limited to, those described in Item 1A, "Risk Factors" and in our other filings with the Securities and Exchange Commission (“SEC”) including:
 
·  
general risks associated with the ownership and operation of real estate, including changes in demand, risks related to development of self-storage facilities, potential liability for environmental contamination, natural disasters and adverse changes in laws and regulations governing property tax, real estate and zoning;
 
·  
risks associated with downturns in the national and local economies in the markets in which we operate, including risks related to current economic conditions and the economic health of our tenants;
 
·  
the impact of competition from new and existing self-storage and commercial facilities and other storage alternatives;
 
·  
difficulties in our ability to successfully evaluate, finance, integrate into our existing operations, and manage acquired and developed properties;
 
·  
risks associated with international operations including, but not limited to, unfavorable foreign currency rate fluctuations, refinancing risk of affiliate loans from us, and local and global economic uncertainty that could adversely affect our earnings and cash flows;
 
·  
risks related to our participation in joint ventures;
 
·  
the impact of the regulatory environment as well as national, state, and local laws and regulations including, without limitation, those governing environmental, taxes and tenant insurance matters and real estate investment trusts (“REITs”), and risks related to the impact of new laws and regulations;
 
·  
risk of increased tax expense associated either with a possible failure by us to qualify as a REIT, or with challenges to intercompany transactions with our taxable REIT subsidiaries;
 
·  
disruptions or shutdowns of our automated processes, systems and the Internet or breaches of our data security;
 
·  
risks associated with the self-insurance of certain business risks, including property and casualty insurance, employee health insurance and workers compensation liabilities;
 
·  
risks related to the concentration of approximately 20% of our facilities in California;
 
 
 
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·  
difficulties in raising capital at a reasonable cost; and
 
·  
economic uncertainty due to the impact of terrorism or war. 
 
These forward looking statements speak only as of the date of this report or as of the dates indicated in the statements.  All of our forward-looking statements, including those in this report, are qualified in their entirety by this statement.  We expressly disclaim any obligation to update publicly or otherwise revise any forward-looking statements, whether as a result of new information, new estimates, or other factors, events or circumstances after the date of these forward looking statements, except as required by law.  Given these risks and uncertainties, you should not rely on any forward-looking statements in this report, or which management may make orally or in writing from time to time, as predictions of future events nor guarantees of future performance.
 
General
 
Public Storage was organized in 1980.  Effective June 1, 2007, we reorganized Public Storage, Inc. into Public Storage (referred to herein as “the Company”, “the Trust”, “we”, “us”, or “our”), a Maryland real estate investment trust (“REIT”).
 
At December 31, 2012, our principal business activities are as follows:
 
(i)  
Domestic Self-Storage: We acquire, develop, own, and operate self-storage facilities which offer storage spaces for lease, generally on a month-to-month basis, for personal and business use.  We are the largest owner and operator of self-storage facilities in the United States (“U.S.”).  We have direct and indirect equity interests in 2,078 self-storage facilities (132 million net rentable square feet of space) located in 38 states within the U.S. operating under the “Public Storage” brand name.
 
(ii)  
European Self-Storage:  We have a 49% equity interest in Shurgard Europe, with an institutional investor owning the remaining 51% interest.  Shurgard Europe owns 188 self-storage facilities (10 million net rentable square feet of space) located in seven countries in Western Europe which operate under the “Shurgard” brand name, and manages one facility located in the United Kingdom that we wholly own.  We believe Shurgard Europe is the largest owner and operator of self-storage facilities in Western Europe.
 
(iii)  
Commercial:  We have a 41% equity interest in PS Business Parks, Inc. (“PSB”), a publicly held REIT which owns and operates 28.3 million net rentable square feet of commercial space.  We also wholly-own 1.4 million net rentable square feet of commercial space, substantially all of which is managed by PSB.
 
We conduct certain other activities that are not reported as separate segments including (i) the reinsurance of policies against losses to goods stored by tenants in our self-storage facilities, (ii) the sale of merchandise at our self-storage facilities and (iii) management of self-storage facilities owned by third-party owners and entities that we have an ownership interest in but are not consolidated.
 
For all periods presented herein, we have elected to be treated as a REIT, as defined in the Internal Revenue Code.  As a REIT, we do not incur federal income tax on our REIT taxable income (generally, net rents and gains from real property, dividends, and interest) that is fully distributed each year (for this purpose, certain distributions paid in a subsequent year may be considered), and if we meet certain organizational and operational rules.  We believe we have met these requirements in all periods presented herein, and we expect to continue to elect and qualify as a REIT.
 
We report annually to the SEC on Form 10-K, which includes financial statements certified by our independent registered public accountants.  We have also reported quarterly to the SEC on Form 10-Q, which includes unaudited financial statements with such filings.  We expect to continue such reporting.
 
 
 
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On our website, www.publicstorage.com, we make available, free of charge, our Annual Reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after the reports and amendments are electronically filed with or furnished to the SEC.
 
Competition
 
We believe that storage customers generally store their goods within a five mile radius of their home or business, and most of our facilities compete with other nearby self-storage facilities for these customers.  Our competitors attract customers using the same marketing channels we use, including Internet advertising, yellow pages, signage, and banners.  We believe customers usually have many choices among local operators, each who can meet their storage needs, and as a result, competition is significant and affects the occupancy levels, rental rates, rental income and operating expenses of our facilities.
 
While competition is significant, the self-storage industry remains fragmented in the U.S.  We believe that we own approximately 5% of the aggregate self-storage square footage in the U.S., and that collectively the five largest self-storage operators in the U.S. own approximately 11%, with the remaining 89% owned by numerous private regional and local operators.  This market fragmentation enhances the advantage of our economies of scale and brand name recognition.  Our economies of scale are driven primarily by our concentration in major metropolitan markets; approximately 71% of our same-store revenues for 2012 were in the 20 Metropolitan Statistical Areas (“MSA’s”, as defined by the U.S. Census Bureau) with the highest population levels.
 
The fragmentation in the self-storage market also provides opportunities for us to acquire additional facilities; however, we compete for these acquisition opportunities with a wide variety of institutions and other investors who also view self-storage facilities as attractive investments.  The amount of capital available for real estate investments greatly influences the competition for ownership interests in facilities and, by extension, the yields that we can achieve on newly acquired investments.
 
Business Attributes
 
We believe that we possess several primary business attributes that permit us to compete effectively:
 
Centralized information networks:  Our centralized reporting and information network enables us to identify changing market conditions and operating trends as well as analyze customer data, and quickly change each of our individual properties’ pricing and promotional discounting on an automated basis.
 
Convenient shopping experience: Customers can conveniently shop the space available at our facilities, reviewing attributes such as facility location, size, amenities such as climate-control, as well as pricing, and learn about ancillary businesses through the following marketing channels:
 
·  
Our Website:  The online marketing channel continues to grow in prominence, with approximately 47% of our move-ins in 2012 sourced through our website, as compared to 36% in 2010.  In addition, we believe that many of our customers who directly call our call center, or who move-in to a facility on a walk-in basis, have often already reviewed our pricing and space availability through our website.  We invest extensively in advertising on the Internet to attract potential customers, primarily through the use of search engines, and we regularly update and improve our website to enhance its productivity.
 
·  
Our Call Center:  Our call center is staffed by sales specialists who are trained in phone selling skills.  Customers reach our call center by calling i) our advertised toll-free telephone referral number, (800) 44-STORE, ii) an individual storage location’s telephone number advertised on each sign of our storage facilities, or iii) telephone numbers provided on our website.  We believe giving customers the option to interact with a call center agent, despite the higher marginal cost relative to an internet reservation, enhances our ability to close sales with potential storage customers.
 
 
 
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·  
Walk-In:  Customers can also shop at any one of our facilities.  Property managers access the same information that is available on our website and to our call center agents, and can inform the customer of storage alternatives at that site or our other nearby storage facilities.  Property managers are extensively trained to maximize the conversion of such “walk in” shoppers into customers.
 
Economies of scale: We are the largest provider of self-storage space in the U.S.  As of December 31, 2012, we operated 2,078 self-storage facilities in which we had an interest with over one million self-storage spaces rented.  These facilities are generally located in major markets within 38 states in the U.S.  The size and scope of our operations have enabled us to achieve high operating margins and a low level of administrative costs relative to revenues through the centralization of many functions, such as facility maintenance, employee compensation and benefits programs, revenue management, as well as the development and documentation of standardized operating procedures.  We also believe that our major market concentration provides managerial efficiencies stemming from having a large number of facilities in close proximity to each other.
 
Our market share and concentration in major metropolitan centers makes various promotional and media programs more cost-beneficial for us than for our competitors.  As noted above, approximately 71% of our same-store revenues for 2012 were in the 20 MSA’s with the highest population levels.  Our large market share and well-recognized brand name increases the likelihood that our facilities will appear prominently in unpaid search results for “self-storage” in Google and other search engines, and enhances the efficiency of our bidding for paid multiple-keyword advertising.  We can use television advertising in many markets, while most of our competitors cannot do so cost-effectively.
 
Brand name recognition: We believe that the “Public Storage” brand name is the most recognized and established name in the self-storage industry in the U.S, due to our national reach in major markets in 38 states, and our highly visible facilities, with their distinct orange colored doors and signage, that are located principally in heavily populated areas.  We believe the “Public Storage” name is one of the most frequently used search terms used by customers using Internet search engines for self-storage.  We believe that the “Shurgard” brand, used by Shurgard Europe, is a similarly established and valuable brand in Europe.  We believe that the awareness of our brand name results in a high percentage of potential storage customers considering our facilities, relative to other operators.
 
Growth and Investment Strategies
 
Our growth strategies consist of: (i) improving the operating performance of our existing self-storage facilities, (ii) acquiring more facilities, (iii) developing new self-storage space, (iv) participating in the growth of commercial facilities, primarily through our investment in PSB, and (v) participating in the growth of Shurgard Europe.  While our long-term strategy includes each of these elements, in the short run the level of growth in our asset base in any period is dependent upon the cost and availability of capital, as well as the relative attractiveness of investment alternatives.
 
Improve the operating performance of existing facilities: We seek to increase the net cash flow generated by our existing self-storage facilities by a) regularly analyzing our call volume, reservation activity, move-in/move-out rates and other market supply and demand factors and responding by adjusting our marketing activities and rental rates, b) attempting to maximize revenues through evaluating the appropriate balance between occupancy, rental rates, and promotional discounting and c) controlling operating costs.  We believe that our property management personnel, systems, our convenient shopping options for the customer, and our media advertising programs will continue to enhance our ability to meet these goals.
 
 
 
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Acquire properties owned or operated by others in the U.S.: We seek to capitalize on the fragmentation of the self-storage business through acquiring attractively priced, well-located existing self-storage facilities.  We believe our presence in and knowledge of substantially all of the major markets in the U.S. enhances our ability to identify attractive acquisition opportunities.  Data on the rental rates and occupancy levels of our existing facilities provide us an advantage in evaluating the potential of acquisition opportunities.  Over the past three years, we have acquired 77 facilities from third parties (5.5 million net rentable square feet) for approximately $546 million, including 24 facilities (1.9 million net rentable square feet) for approximately $226 million in 2012.  The level of third-party acquisition opportunities available depends upon many factors, such as the motivation of potential sellers to liquidate their investments as well as the financing available to self-storage owners.  We decide whether to pursue any such acquisition opportunities based upon many factors including our opinion as to the potential for future growth, the quality of construction and location, and our yield expectations.  We will continue to seek to acquire properties in 2013.
 
Develop new self-storage space:  The development of new self-storage locations and the expansion of existing self-storage facilities has been, from time to time, an important source of growth.   Over the past three years our development activities were minimal.  We have recently expanded our development efforts due in part to the significant increase in prices being paid for existing facilities, in many cases well above the cost of developing new facilities.  At December 31, 2012, we had a development pipeline of projects to expand existing self-storage facilities and develop new self-storage facilities, which will add approximately 1.3 million net rentable square feet of self-storage space.  The aggregate cost of these projects is estimated at $169 million, of which $36 million had been incurred at December 31, 2012, and the remaining costs will be incurred principally in 2013.  Some of these projects are subject to significant contingencies such as entitlement approval.  We expect to continue to seek additional development projects and have hired additional personnel; however, due to the difficulty in finding projects that meet our risk-adjusted yield expectations, as well as the difficulty in obtaining building permits for self-storage activities in certain municipalities, it is uncertain as to how much additional development we will undertake in the future.
 
Participate in the growth of commercial facilities primarily through our ownership in PS Business Parks, Inc.:  Our investment in PSB provides us diversification into another asset type, and we have no plans of disposing of our investment in PSB.  During 2010 and 2011, the challenging economic trends in commercial real estate resulted in year over year decreases in rental income for PSB’s “Same Park” facilities.  During 2012, economic trends have improved, and PSB’s “Same Park” facilities had growth in rental income.  It is uncertain what impact these trends will have on PSB’s future occupancy levels and rental income.
 
Over the past three years, PSB has been able to grow its portfolio through acquisitions.  In 2010 and 2011, PSB acquired an aggregate total of 7.9 million net rentable square feet of commercial space for an aggregate purchase price of approximately $855.2 million, and in 2012, PSB acquired 1.2 million net rentable square feet for an aggregate purchase price of $52.5 million.  PSB is a stand-alone public company traded on the New York Stock Exchange.  As of December 31, 2012, PSB owned and operated approximately 28.3 million net rentable square feet of commercial space, and had an enterprise value of approximately $3.4 billion (based upon the trading price of PSB’s common stock combined with the liquidation value of its debt and preferred stock as of December 31, 2012).
 
Participate in the growth of European self-storage through ownership in Shurgard Europe:  Shurgard Europe is the largest self-storage company in Western Europe, and owns and operates 188 facilities with approximately 10 million net rentable square feet in seven countries:  France (principally Paris), Sweden (principally Stockholm), the United Kingdom (principally London), the Netherlands, Denmark (principally Copenhagen), Belgium and Germany.  We own 49% of Shurgard Europe, with the other 51% owned by a large U.S. institutional investor.
 
Customer awareness and availability of self-storage is significantly lower in Shurgard Europe’s markets than in the U.S.  With more awareness and product supply, we believe there is potential for increased demand for storage space in Europe.  In the long run, we believe Shurgard Europe could capitalize on potential increased demand through the development of new facilities or, to a lesser extent, acquiring existing facilities.
 
Shurgard Europe has a term loan from a bank (the “Bank Loan”) with a balance of approximately €159.5 million ($210.8 million) at December 31, 2012, which matures in November 2014.  Shurgard Europe also has a loan due to us totaling €311.0 million ($411.0 million) at December 31, 2012, which matures in February 2015.  The Bank Loan requires Shurgard Europe to utilize a significant amount of its operating cash flow to reduce the outstanding principal.  As a result, and in the absence of additional capital contributions by either us or our joint venture partner, Shurgard Europe’s ability to finance new investments will be constrained until its debt is refinanced.
 
 
 
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Financing of the Company’s Growth Strategies
 
Overview of financing strategy:  We have historically financed our investment activities with permanent capital, predominantly retained cash flow, the net proceeds from the issuance of preferred securities and common shares.  Since we rarely dispose of our investments, we believe that financing with substantially permanent capital properly matches our long-lived real estate assets and avoids future refinancing risk.  Further,  we have elected to use preferred securities as a form of leverage despite the fact that the dividend rates of our preferred securities exceed the prevailing market interest rates on conventional debt, because of certain benefits described in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources.’’  Our present intention is to continue to finance substantially all our growth with internally generated cash flows and permanent capital. We believe that we are not dependent upon raising capital to fund our ongoing operations or meet our obligations.  However, in order to grow our asset base, access to capital is important.
 
Issuance of preferred and common securities:   When seeking capital, we generally select the lowest-cost form of permanent capital which is dependent on market conditions.  During periods of favorable market conditions, we have generally been able to raise capital from preferred securities at an attractive cost of capital relative to the issuance of our common shares.  During the years ended December 31, 2012 and 2011, we issued approximately $1.7 billion and $862.5 million, respectively, of preferred securities, and on January 16, 2013, we issued another $500.0 million of preferred securities.  In December 2012, we raised approximately $101 million from the sale of Public Storage common shares owned by a wholly-owned subsidiary, which will enable that subsidiary to efficiently liquidate.
 
Borrowing on Line of Credit: We have in the past used our $300 million revolving line of credit as temporary “bridge” financing, and repaid borrowings with permanent capital.  Most recently, on December 27, 2012, we borrowed $133.0 million on our line of credit to fund a portion of cash redemption costs for preferred securities, and on January 16, 2013 all outstanding amounts were repaid following the issuance of preferred securities.
 
Borrowing through mortgage loans or senior debt:  While it is not our present intention to issue additional debt as a long-term financing strategy, we have broad powers to borrow in furtherance of our objectives without a vote of our shareholders.  These powers are subject to a limitation on unsecured borrowings in our Bylaws described in “Limitations on Debt” below.
 
Our senior debt has an “A” credit rating by Standard and Poor’s.  Notwithstanding our desire to continue to meet our capital needs with permanent capital, this high rating, combined with our low level of debt, could allow us to issue a significant amount of unsecured debt at lower interest rates than the coupon on preferred securities if we were to choose to do so.
 
Assumption of Debt: When we have assumed debt in the past, we have generally prepaid such amounts except in cases where the nature of the loan terms did not allow such prepayment, or where a prepayment penalty made it economically disadvantageous to prepay.  Substantially all of our debt outstanding was assumed in connection with real estate acquisitions.
 
Issuance of securities in exchange for property: We have issued both our common and preferred securities in exchange for real estate and other investments in the past.  Future issuances will be dependent upon our financing needs and capital market conditions at the time, including the market prices of our equity securities.
 
 
 
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Joint Venture financing: In the past, we have formed joint ventures, and in the future we may form additional joint ventures to facilitate the funding of future developments or acquisitions.  However, we can generally issue preferred securities on more favorable terms than joint venture financing.
 
Disposition of properties:  Generally, we have disposed of self-storage facilities only when compelled to do so through condemnation proceedings.  We do not presently intend to sell any significant number of self-storage facilities in the future, though there can be no assurance that we will not.
 
Investments in Real Estate and Unconsolidated Real Estate Entities
 
Investment Policies and Practices with respect to our investments: Following are our investment practices and policies which, though we do not anticipate any significant alteration, can be changed by our Board of Trustees without a shareholder vote:
 
·  
Our investments primarily consist of direct ownership of self-storage facilities (the nature of our self-storage facilities is described in Item 2, “Properties”), as well as partial interests in entities that own self-storage facilities.
 
·  
Our partial ownership interests primarily reflect general and limited partnership interests in entities that own self-storage facilities that are managed by us under the “Public Storage” brand name in the U.S., as well as storage facilities managed in Europe under the “Shurgard” brand name which are owned by Shurgard Europe.
 
·  
Additional acquired interests in real estate (other than the acquisition of properties from third parties) will include common equity interests in entities in which we already have an interest.
 
·  
To a lesser extent, we have interests in existing commercial properties (described in Item 2, “Properties”), containing commercial and industrial rental space, primarily through our investment in PSB.
 
Facilities Owned by Subsidiaries
 
In addition to our direct ownership of 2,049 self-storage facilities in the U.S. and one self-storage facility in London, England at December 31, 2012, we have controlling indirect interests in entities that own 15 self-storage facilities in the U.S. with approximately one million net rentable square feet.  Due to our controlling interest in each of these entities, we consolidate the assets, liabilities, and results of operations of these entities in our financial statements.
 
Facilities Owned by Unconsolidated Real Estate Entities
 
At December 31, 2012, we had ownership interests in entities that we do not control or consolidate, comprised of PSB, Shurgard Europe (discussed above), and various limited partnerships that own an aggregate of 14 self-storage facilities with approximately 0.8 million net rentable square feet of storage space.  These entities are referred to collectively as the “Unconsolidated Real Estate Entities.”
 
PSB, which files financial statements with the SEC, and Shurgard Europe, have debt and other obligations that we do not consolidate in our financial statements.  None of the other Unconsolidated Real Estate Entities have significant amounts of debt or other obligations.  See Note 4 to our December 31, 2012 financial statements for further disclosure regarding the assets, liabilities and operating results of the Unconsolidated Real Estate Entities.
 
Limitations on Debt
 
Without the consent of holders of the various series of Senior Preferred Shares, we may not take any action that would result in our “Debt Ratio” exceeding 50%.  “Debt Ratio”, as defined in the related governing documents, represents generally the ratio of debt to total assets before accumulated depreciation and amortization on our balance sheet, in accordance with U.S. generally accepted accounting principles.  As of December 31, 2012, the Debt Ratio was approximately 4%.
 
 
 
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Our bank and senior unsecured debt agreements contain various customary financial covenants, including limitations on the level of indebtedness and the prohibition of the payment of dividends upon the occurrence of defined events of default.  We believe we have met each of these covenants as of December 31, 2012.
 
Employees
 
We have approximately 5,000 employees in the U.S. at December 31, 2012 who render services on behalf of the Company, primarily personnel engaged in property operations.
 
Seasonality
 
We experience minor seasonal fluctuations in the occupancy levels of self-storage facilities with occupancies generally higher in the summer months than in the winter months.  We believe that these fluctuations result in part from increased moving activity during the summer months.
 
Insurance
 
We have historically carried customary property, earthquake, general liability, medical insurance provided to our employees, and workers compensation coverage through internationally recognized insurance carriers, subject to customary levels of deductibles.  The aggregate limits on these policies of approximately $75 million for property losses and $102 million for general liability losses are higher than estimates of maximum probable loss that could occur from individual catastrophic events determined in recent engineering and actuarial studies; however, in case of multiple catastrophic events, these limits could be exhausted.
 
Our tenant insurance program reinsures a program that provides insurance to certificate holders against claims for property losses due to specific named perils (earthquakes are not covered by these policies) to goods stored by tenants at our self-storage facilities for individual limits up to a maximum of $5,000.  We have third-party insurance coverage for claims paid exceeding $5.0 million resulting from any one individual event, to a limit of $15.0 million.  At December 31, 2012, there were approximately 700,000 certificate holders held by our self-storage tenants participating in this program, representing aggregate coverage of approximately $1.5 billion.  We rely on a third-party insurance company to provide the insurance and are subject to licensing requirements and regulations in several states.
 

 
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ITEM 1A.  Risk Factors
 
In addition to the other information in our Annual Report on Form 10-K, you should consider the risks described below that we believe may be material to investors in evaluating the Company.  This section contains forward-looking statements, and in considering these statements, you should refer to the qualifications and limitations on our forward-looking statements that are described in Forward Looking Statements at the beginning of Item 1.
 
We have significant exposure to real estate risk.
 
Since our business consists primarily of acquiring and operating real estate, we are subject to the risks related to the ownership and operation of real estate that can adversely impact our business and financial condition.  These risks include the following:
 
Natural disasters or terrorist attacks could cause damage to our facilities, resulting in increased costs and reduced revenues.  Natural disasters, such as earthquakes, hurricanes and floods, or terrorist attacks could cause significant damage and require significant repair costs, and make facilities temporarily uninhabitable, reducing our revenues.  Damage and business interruption losses could exceed the aggregate limits of our insurance coverage.  In addition, because we self-insure a portion of our risks, losses below a certain level may not be covered by insurance.   See Note 13 to our December 31, 2012 financial statements for a description of the risks of losses that are not covered by third-party insurance contracts.  We may not have sufficient insurance coverage for losses caused by a terrorist attack, or such insurance may not be maintained, available or cost-effective.  In addition, significant natural disasters, terrorist attacks, threats of future terrorist attacks, or resulting wider armed conflicts could have negative impacts on the U.S. economy, reducing storage demand and impairing our operating results.
 
Operating costs could increase.  We could be subject to increases in insurance premiums, increased or new property tax assessments or other taxes, repair and maintenance costs, payroll, utility costs, workers compensation, and other operating expenses due to various factors such as inflation, labor shortages, commodity and energy price increases.
 
The acquisition of existing properties is subject to risks that may adversely affect our growth and financial results. We have acquired material amounts of self-storage facilities from third parties in the past, and we expect to continue to do so in the future. We face significant competition for suitable acquisition properties from other real estate investors.  As a result, we may be unable to acquire additional properties we desire or the purchase price for desirable properties may be significantly increased. Failures or unexpected circumstances in integrating newly acquired properties into our operations or circumstances we did not detect during due diligence, such as environmental matters, needed repairs or deferred maintenance, or the effects of increased property tax following reassessment of a newly-acquired property, as well as the general risks of real estate investment, could jeopardize realization of the anticipated earnings from an acquisition.
 
Development of self-storage facilities can subject us to risks.  At December 31, 2012, we have a pipeline of development projects totaling $169 million (subject to contingencies), and we expect to continue to seek additional development projects.  There are significant risks involved in developing self-storage facilities, such as delays or cost increases due to changes in or failure to meet government or regulatory requirements, weather issues, unforeseen site conditions, or personnel problems.  Self-storage space is generally not pre-leased, and rent-up of newly developed space can be delayed or ongoing cash flow yields can be reduced due to competition, reductions in storage demand, or other factors.
 
There is significant competition among self-storage facilities and from other storage alternatives.  Most of our properties are self-storage facilities, which generated most of our revenue for the year ended December 31, 2012.  Competition in the local market areas in which many of our properties are located is significant and has affected our occupancy levels, rental rates and operating expenses.  If development of self-storage facilities by other operators were to increase, due to increases in availability of funds for investment or other reasons, competition with our facilities could intensify.
 
 
 
11

 
 
 
We may incur significant liabilities from hazardous wastes or moisture infiltration.   Existing or future laws impose or may impose liability on us to clean up environmental contamination on or around properties that we currently or previously owned or operated, even if we weren’t responsible for or aware of the environmental contamination or even if such environmental contamination occurred prior to our involvement with the property.  We have conducted preliminary environmental assessments on most of our properties, which have not identified material liabilities.  These assessments, commonly referred to as “Phase 1 Environmental Assessments,” include an investigation (excluding soil or groundwater sampling or analysis) and a review of publicly available information regarding the site and other nearby properties.
 
We are also subject to potential liability relating to moisture infiltration, which can result in mold or other damage to our or our tenants’ property, as well as potential health concerns.  When we receive a complaint or otherwise become aware that an air quality concern exists, we implement corrective measures and seek to work proactively with our tenants to resolve issues, subject to our contractual limitations on liability for such claims.
 
We are not aware of any hazardous waste or moisture infiltration related liabilities that could be material to our overall business, financial condition, or results of operation.  However, we may not have detected all material liabilities, we could acquire properties with material undetected liabilities, or new conditions could arise or develop in the future.   Settling any such liabilities could negatively impact our earnings and cash available for distribution to shareholders, and could also adversely affect our ability to sell, lease, operate, or encumber affected facilities.
 
We incur liability from tenant and employment-related claims.  From time to time we have to make monetary settlements or defend actions or arbitration (including class actions) to resolve tenant or employment-related claims and disputes.
 
Economic conditions can adversely affect our business, financial condition, growth and access to capital.
 
Our revenues and operating cash flow can be negatively impacted by reductions in employment and population levels, household and disposable income, and other general economic factors that lead to a reduction in demand for rental space in each of the markets in which we operate our properties.
 
Our ability to issue preferred shares or access other sources of capital, such as borrowing, has been in the past, and may in the future be, adversely affected by challenging credit market conditions.  The issuance of perpetual preferred securities historically has been a significant source of capital to grow our business.  We believe that we have sufficient working capital and capacity under our credit facilities and our retained cash flow from operations to continue to operate our business as usual and meet our current obligations.  However, if we were unable to issue preferred shares or borrow at reasonable rates, prospective earnings growth through expanding our asset base would be limited.
 
We have exposure to European operations through our ownership in Shurgard Europe.
 
As a result of our ownership of 49% of the equity in Shurgard Europe with a book value of $411.1 million at December 31, 2012, and our loan to Shurgard Europe totaling $411.0 million at December 31, 2012, we are exposed to additional risks related to the ownership and operation of international businesses that may adversely impact our business and financial results, including the following:
 
·  
Currency risks:  Currency fluctuations can impact the fair value of our investment in, and loan to Shurgard Europe, as well as the related income we receive.
 
·  
Legislative, tax, and regulatory risks:  We are subject to complex foreign laws and regulations related to permitting and land use, the environment, labor, and other areas, as well as income, property, sales, value added and employment tax laws.  These laws can be difficult to apply or interpret and can vary in each country or locality, and are subject to unexpected changes in their form and application due to regional, national, or local political uncertainty and other factors.  Such changes, or Shurgard’s failure to comply with these laws, could subject it to penalties or other sanctions, adverse changes in business processes, as well as potentially adverse income tax, property tax, or other tax burdens.
 
 
 
12

 
 
 
·  
Impediments to capital repatriation could negatively impact the realization of our investment in Shurgard Europe: Laws in Europe and the U.S. may create, impede or increase the cost to Public Storage of, repatriation of funds we have invested in Shurgard Europe or our share of Shurgard Europe’s earnings.
 
·  
Risks of collective bargaining and intellectual property:  Collective bargaining, which is prevalent in certain areas in Europe, could negatively impact Shurgard Europe’s labor costs or operations.
 
·  
Potential operating and individual country risks:  Economic slowdowns or extraordinary political or social change in the countries in which it operates could pose challenges or result in future reductions of Shurgard Europe’s same-store revenues.
 
·  
Impediments of Shurgard Europe’s joint venture structure:  Shurgard Europe’s significant decisions, involving activities such as borrowing money, capital contributions, raising capital from third parties, as well as selling or acquiring significant assets, require the consent of our joint venture partner.  As a result, Shurgard Europe may be precluded from taking advantage of opportunities that we would find attractive.  In addition, we could be unable to separately pursue such opportunities due to certain market exclusivity provisions of the Shurgard Europe joint venture agreement, and our 49% equity investment may not be easily sold or readily accepted as collateral by potential lenders to Public Storage due to the joint venture structure.
 
·  
Refinancing risks:  Shurgard Europe has a loan due to a bank (the “Bank Loan”), maturing in November 2014, totaling $210.8 million (€159.5 million), and a loan due to us, maturing in February 2015, totaling $411.0 million at December 31, 2012.  As a condition of the Bank Loan, Shurgard Europe must use most of its available cash flow to make principal payments on the Bank Loan.  As a result, the Bank Loan will be paid down and mature before ours, increasing the risk of nonpayment or default on our loan.  In addition, if Shurgard Europe cannot refinance its debt upon maturity due to a constrained credit market, negative operating trends, or other factors, it may not be able to pay either the Bank Loan or our loan when due and the value of our equity investment could be negatively impacted.  We may also be forced to pursue less advantageous options, such as an additional equity contribution or loan, extending the maturity date of our loan, or exercising our lender rights.
 
The Hughes Family could control us and take actions adverse to other shareholders.
 
At December 31, 2012, B. Wayne Hughes, our former Chairman, and his family, which includes two members of the board of trustees (the “Hughes Family”) owned approximately 15.9% of our aggregate outstanding common shares.  Our declaration of trust permits the Hughes Family to own up to 35.66% of our outstanding common shares while it generally restricts the ownership by other persons and entities to 3% of our outstanding common shares.  Consequently, the Hughes Family may significantly influence matters submitted to a vote of our shareholders, including electing trustees, amending our organizational documents, dissolving and approving other extraordinary transactions, such as a takeover attempt, resulting in an outcome that may not be favorable to other shareholders.
 

 
13

 
 
 
Takeover attempts or changes in control could be thwarted, even if beneficial to shareholders.
 
In certain circumstances, shareholders might desire a change of control or acquisition of us, in order to realize a premium over the then-prevailing market price of our shares or for other reasons.  However, the following could prevent, deter, or delay such a transaction:
 
·  
Provisions of Maryland law may impose limitations that may make it more difficult for a third party to negotiate or effect a business combination transaction or control share acquisition with Public Storage.  Currently, the Board has opted not to subject the Company to these provisions of Maryland law, but it could choose to do so in the future without shareholder approval.
 
·  
To protect against the loss of our REIT status due to concentration of ownership levels, our declaration of trust generally limits the ability of a person, other than the Hughes Family or “designated investment entities” (each as defined in our declaration of trust), to own, actually or constructively, more than 3% of our outstanding common shares or 9.9% of the outstanding shares of any class or series of preferred or equity shares, in either case unless a specific exemption is granted by our board of trustees.  These limits could discourage, delay or prevent a transaction involving a change in control of our company not approved by our board of trustees.
 
·  
Similarly, current provisions of our declaration of trust and powers of our Board of Trustees could have the same effect, including (1) limitations on removal of trustees in our declaration of trust, (2) restrictions on the acquisition of our shares of beneficial interest, (3) the power to issue additional common shares, preferred shares or equity shares on terms approved by the Board without obtaining shareholder approval, (4) the advance notice provisions of our bylaws and (5) the Board’s ability under Maryland law, without obtaining shareholder approval, to implement takeover defenses that we may not yet have and to take, or refrain from taking, other actions that could have the effect of delaying, deterring or preventing a transaction or a change in control.
 
If we failed to qualify as a REIT, we would have to pay substantial income taxes.
 
REITs are subject to a range of complex organizational and operational requirements.  A qualifying REIT does not generally incur federal income tax on its net income that is distributed to its shareholders.  Our REIT status is also dependent upon the ongoing REIT qualification of our affiliate, PSB, as a REIT, as a result of our substantial ownership interest in that company. We believe that we are organized and have operated as a REIT and we intend to continue to operate to maintain our REIT status.
 
There can be no assurance that we qualify or will continue to qualify as a REIT.  The highly technical nature of the REIT rules, the ongoing importance of factual determinations, the possibility of unidentified issues in prior periods or changes in our circumstances, all could adversely affect our ability to comply.  For any taxable year that we fail to qualify as a REIT and statutory relief provisions did not apply, we would be taxed at the regular federal corporate rates on all of our taxable income and we also could be subject to penalties and interest.  We would generally not be eligible to seek REIT status again until the fifth taxable year after the first year of failure to qualify. Any taxes, interest and penalties incurred would reduce the amount of cash available for distribution to our shareholders or for reinvestment and would adversely affect our earnings, which could have a material adverse effect.
 
We may pay some taxes, reducing cash available for shareholders.
 
Even if we qualify as a REIT for federal income tax purposes, we may be subject to some federal, foreign, state and local taxes on our income and property.  Since January 1, 2001, certain corporate subsidiaries of the Company have elected to be treated as “taxable REIT subsidiaries” for federal income tax purposes, and are taxable as regular corporations and subject to certain limitations on intercompany transactions.  If tax authorities determine that amounts paid by our taxable REIT subsidiaries to us are greater than what would be paid under similar arrangements among unrelated parties, we could be subject to a 100% penalty tax on the excess payments, and ongoing intercompany arrangements could have to change, resulting in higher ongoing tax payments.  To the extent the Company is required to pay federal, foreign, state or local taxes or federal penalty taxes, we will have less cash available for distribution to shareholders.
 
 
 
14

 
 
 
We are heavily dependent on computer systems, telecommunications and the Internet to process transactions, summarize results and manage our business and security breaches or a failure of such networks, systems or technology could adversely impact our business and customer relationships.
 
We are heavily dependent upon automated information technology and Internet commerce, with approximately half of our new tenants coming from the telephone or over the Internet, and the nature of our business involves the receipt and retention of personal information about our customers.  We centrally manage significant components of our operations with our computer systems, including our financial information, and we also rely extensively on third-party vendors to retain data, process transactions and provide other systems services.  These systems are subject to damage or interruption from power outages, computer and telecommunications failures, computer worms, viruses and other destructive or disruptive security breaches and catastrophic events.
 
As a result, our operations could be severely impacted by a natural disaster, terrorist attack or other circumstance that resulted in a significant outage at our systems or those of our third party providers, despite our use of back up and redundancy measures.  Further, viruses and other related risks could negatively impact our information technology processes.  We could also be subject to a “cyber-attack” or other data security breach which would penetrate our network security, resulting in misappropriation of our confidential information, including customer personal information. System disruptions and shutdowns could also result in additional costs to repair or replace such networks or information systems and possible legal liability, including government enforcement actions and private litigation.  In addition, our customers could lose confidence in our ability to protect their personal information, which could cause them to discontinue leasing our self-storage facilities. Such events could lead to lost future sales and adversely affect our results of operations.
 
We have no ownership interest in Canadian self-storage facilities owned or operated by the Hughes Family.
 
At December 31, 2012, the Hughes Family had ownership interests in, and operated, 53 self-storage facilities in Canada (the “Canadian Self-Storage Facilities”).  These facilities are operated under the “Public Storage” tradename, which we license to the Hughes Family for use in Canada on a royalty-free, non-exclusive basis.  We have a right of first refusal, subject to limitations, to acquire the stock or assets of the corporation engaged in the operation of the Canadian Self-Storage Facilities if the Hughes Family or the corporation agrees to sell them.  However, we do not benefit from profits or potential appreciation in value of the Canadian Self-Storage Facilities because we have no ownership interest in these facilities.  We do not operate in the Canadian self-storage market, and have no plans to do so.  However, if we choose to do so without acquiring the Hughes Family interests in the Canadian Self-Storage Facilities, we may have to share the use of the “Public Storage” name in Canada with the Hughes Family, unless we are able to terminate the license agreement.
 
Through our subsidiaries, we reinsure risks relating to loss of goods stored by tenants in the Canadian Self-Storage Facilities.  During each of the three years ended December 31, 2012, we received $0.6 million in reinsurance premiums attributable to the Canadian Self-Storage Facilities.  Because our right to earn these premiums may be qualified, there is no assurance that these premiums will continue.
 
We are subject to laws and governmental regulations and actions that require us to incur compliance costs affecting our operating results and financial condition.
 
Our business is subject to regulation under a wide variety of U.S. federal, state and local laws, regulations and policies including those imposed by the SEC, the Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act and New York Stock Exchange, as well as applicable labor laws. Although we have policies and procedures designed to comply with applicable laws and regulations, failure to comply with the various laws and regulations may result in civil and criminal liability, fines and penalties, increased costs of compliance, restatement of our financial statements and could also affect the marketability of our real estate facilities.
 
 
 
15

 
 
 
The Patient Protection and Affordable Care Act as well as other healthcare reform legislation recently passed or being considered by Congress and state legislatures (collectively, the “Healthcare Legislation”) are expected to impact our business beginning in 2014.  Based on its current form, we believe that the Healthcare Legislation will at least moderately increase our costs; however, there could be a significant further negative impact to our costs and business depending upon how the various governmental agencies design and implement the specific regulations to implement the Patient Protection and Affordable Care Act, the nature of further legislation that may be passed at the national and local level, and other factors.
 
 In response to current economic conditions or the current political environment or otherwise, laws and regulations could be implemented or changed in ways that adversely affect our operating results and financial condition, such as legislation that could facilitate union activity or that would otherwise increase operating costs.
 
All our properties must comply with the Americans with Disabilities Act and with related regulations and similar state law requirements, as well as various real estate and zoning laws and regulations, which are subject to change and could become more costly to comply with in the future.  Compliance with these requirements can require us to incur significant expenditures, which would reduce cash otherwise available for distribution to shareholders.  A failure to comply with these laws could lead to fines or possible awards of damages to individuals affected by the non-compliance.  Failure to comply with these requirements could also affect the marketability of our real estate facilities.
 
Our tenant insurance business is subject to governmental regulation which could reduce our profitability or limit our growth.
 
We hold Limited Lines Self-Service Storage Insurance Agent licenses from a number of individual state Departments of Insurance and are subject to state governmental regulation and supervision.  Our continued ability to maintain these Limited Lines Self-Service Storage Insurance Agent licenses in the jurisdictions in which we are licensed depends on our compliance with related rules and regulations.  The regulatory authorities in each jurisdiction generally have broad discretion to grant, renew and revoke licenses and approvals, to promulgate, interpret, and implement regulations, and to evaluate compliance with regulations through periodic examinations, audits and investigations of the affairs of insurance agents.  As a result of regulatory or private action in any jurisdiction, we may be temporarily or permanently suspended from continuing some or all of our reinsurance activities, or otherwise fined or penalized or suffer an adverse judgment.  For the year ended December 31, 2012, we recorded a total of $63.5 million in net income from our tenant reinsurance activities.
 
Developments in California may have an adverse impact on our business and financial results.
 
Approximately one fifth of our U.S. properties, and our corporate headquarters, are located in California.  California is facing budgetary problems and deficits.   Actions that may be taken in response to these problems, such as increases in property taxes, changes to sales taxes, adoption of a proposed “Business Net Receipts Tax” or other governmental efforts to raise revenues, could adversely impact our business and results of operations.  There has been legislative discussion regarding the repeal of certain components of “Proposition 13,” which, if so repealed, could result in a substantial increase in our property tax expense.
 

 
16

 


ITEM 1B.                Unresolved Staff Comments
 
None.
 

 
17

 

ITEM 2.                      Properties
 
At December 31, 2012, we had direct and indirect ownership interests in 2,078 self-storage facilities located in 38 states within the U.S. and 189 storage facilities located in seven Western European nations:
 
   
At December 31, 2012
 
   
Number of Storage Facilities (a)
   
Net Rentable Square Feet (in thousands)
 
U.S.:
           
California:
           
Southern                             
    241       16,904  
Northern                             
    173       10,198  
Texas                                  
    237       15,687  
Florida                                  
    199       13,128  
Illinois                                  
    126       7,904  
Georgia                                  
    95       6,196  
Washington                                  
    91       6,028  
North Carolina                                  
    68       4,704  
Virginia                                  
    78       4,471  
New York                                  
    65       4,318  
Colorado                                  
    59       3,713  
New Jersey                                  
    56       3,549  
Maryland                                  
    57       3,404  
Minnesota                                  
    43       2,931  
Michigan                                  
    43       2,755  
Arizona                                  
    38       2,314  
South Carolina                                  
    40       2,155  
Missouri                                  
    37       2,136  
Oregon                                  
    39       2,006  
Pennsylvania                                  
    29       1,993  
Indiana                                  
    31       1,926  
Ohio                                  
    31       1,922  
Nevada                                  
    27       1,818  
Tennessee                                  
    27       1,528  
Kansas                                  
    22       1,310  
Massachusetts                                  
    20       1,249  
Wisconsin                                  
    15       968  
Other states (12 states)
    91       5,154  
Total – U.S.                             
    2,078       132,369  
                 
Europe (b):
               
France
    56       2,949  
Netherlands
    40       2,182  
Sweden
    30       1,629  
Belgium
    21       1,265  
United Kingdom
    21       1,026  
Denmark
    10       562  
Germany
    11       553  
Total - Europe                             
    189       10,166  
                 
Grand Total                             
    2,267       142,535  
 
(a) See Schedule III:  Real Estate and Accumulated Depreciation in the Company’s 2012 financials, for a complete list of properties consolidated by the Company.
 
(b) The facilities located in Europe include one facility in the United Kingdom that we wholly own, as well as the facilities owned by Shurgard Europe.
 
 
 
18

 
 
 
We seek to maximize our facilities’ cash flow through the regular review and adjustment of rents charged to our existing and new incoming tenants, and controlling expenses.  For the year ended December 31, 2012, the weighted average occupancy level and the average realized rent per occupied square foot for our self-storage facilities were approximately 91.5% and $13.54, respectively, in the U.S. and 80.7% and $26.23, respectively, in Europe.
 
At December 31, 2012, 64 of our U.S. facilities were encumbered by an aggregate of $149 million in secured notes payable.  These facilities had a net book value of $344 million at December 31, 2012.
 
We have no specific policy as to the maximum size of any one particular self-storage facility.  However, none of our facilities involves, or is expected to involve, 1% or more of our total assets, gross revenues or net income.
 
Description of Self-Storage Facilities: Self-storage facilities, which comprise the majority of our investments, are designed to offer accessible storage space for personal and business use at a relatively low cost.  A user rents a fully enclosed space, securing the space with their lock, which is for the user's exclusive use and to which only the user has access on an unrestricted basis during business hours.  On-site operation is the responsibility of property managers who are supervised by district managers.  Some self-storage facilities also include rentable uncovered parking areas for vehicle storage.  Storage spaces are rented on a month-to-month basis.  Rental rates vary according to the location of the property, the size of the storage space, and other characteristics that affect the relative attractiveness of each particular space, such as whether the space has “drive-up” access or its proximity to elevators.  All of our self-storage facilities in the U.S. are operated under the "Public Storage" brand name, while our facilities in Europe are operated under the “Shurgard” brand name.
 
Users include individuals from virtually all demographic groups, as well as businesses.  Individuals usually obtain this space for storage of furniture, household appliances, personal belongings, motor vehicles, boats, campers, motorcycles and other household goods.  Businesses normally employ this space for storage of excess inventory, business records, seasonal goods, equipment and fixtures.
 
Our self-storage facilities generally consist of between 350 to 750 storage spaces, most of which have between 25 and 400 square feet and an interior height of approximately eight to 12 feet.
 
We experience minor seasonal fluctuations in the occupancy levels of self-storage facilities with occupancies generally higher in the summer months than in the winter months.  We believe that these fluctuations result in part from increased moving activity during the summer months and incremental demand from college students.
 
Our self-storage facilities are geographically diversified and are located primarily in or near major metropolitan markets in 38 states in the U.S.  Generally our self-storage facilities are located in heavily populated areas and close to concentrations of apartment complexes, single family residences and commercial developments.
 
Competition from other self-storage facilities is significant and impacts the occupancy levels and rental rates for many of our properties.
 
We believe that self-storage facilities, upon achieving stabilized occupancy levels of approximately 90%, have attractive characteristics consisting of high profit margins, a broad tenant base and low levels of capital expenditures to maintain their condition and appearance.  Historically, upon stabilization after an initial fill-up period, our U.S. self-storage facilities have generally shown a high degree of stability in generating cash flows.
 
Description of Commercial Properties: We have an interest in PSB, which, as of December 31, 2012, owns and operates approximately 28.3 million net rentable square feet of commercial space in eight states.  At December 31, 2012, the $316 million book value and $852 million market value, respectively, of our investment in PSB represents approximately 4% and 10%, respectively of our total assets.  We also directly own 1.4 million net rentable square feet of commercial space managed primarily by PSB, primarily representing individual retail locations at our existing self-storage locations.
 
 
 
19

 
 
 
The commercial properties owned by PSB consist primarily of flex, multi-tenant office and industrial space.  Flex space is defined as buildings that are configured with a combination of office and warehouse space and can be designed to fit a wide variety of uses (including office, assembly, showroom, laboratory, light manufacturing and warehouse space).
 
Environmental Matters: We accrue environmental assessments and estimated remediation cost when it is probable that such efforts will be required and the related costs can be reasonably estimated.  Our current practice is to conduct environmental investigations in connection with property acquisitions.  Although there can be no assurance, we are not aware of any environmental contamination of any of our facilities, which individually or in the aggregate would be material to our overall business, financial condition, or results of operations.
 
ITEM 3.                      Legal Proceedings
 
We are a party to various other legal proceedings and subject to various claims and complaints that have arisen in the normal course of business.  We believe that the likelihood of these pending legal matters and other contingencies resulting in a material loss to the Company, either individually or in the aggregate, is remote.
 
ITEM 4.                      Mine Safety Disclosures
 
Not applicable.
 

 

 
20

 

PART II
 
ITEM 5.                      Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
 
a.  
Market Information of the Registrant’s Common Equity:
 
Our Common Shares (NYSE: PSA) have been listed on the New York Stock Exchange since October 19, 1984.   The following table sets forth the high and low sales prices of our Common Shares on the New York Stock Exchange composite tapes for the applicable periods.
 
     
Range
 
Year
Quarter
 
High
   
Low
 
2011
1st
  $ 113.36     $ 99.96  
 
2nd
    120.00       107.21  
 
3rd
    124.81       101.77  
 
4th
    136.67       103.42  
                   
2012
1st
    141.48       129.04  
 
2nd
    146.49       129.77  
 
3rd
    152.68       137.86  
 
4th
    148.17       135.07  
 
As of February 15, 2013, there were approximately 16,971 holders of record of our Common Shares.  Because many of our shares of common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders.
 
b.  
Dividends
 
We have paid quarterly distributions to our shareholders since 1981, our first full year of operations.  During 2012 we paid distributions to our common shareholders of $1.10 per common share for each of the quarters ended March 31, June 30, September 30 and December 31, representing an aggregate of $751.2 million or $4.40 per share.  During 2011 we paid distributions to our common shareholders of $0.80 per common share for the quarter ended March 31 and $0.95 per common share for each of the quarters ended June 30, September 30 and December 31, representing an aggregate of $619.7 million or $3.65 per share.  During 2010 we paid distributions to our common shareholders of $0.65 per common share for the quarter ended March 31 and $0.80 per common share for each of the quarters ended June 30, September 30 and December 31, representing an aggregate of $515.3 million or $3.05 per share.
 
Holders of common shares are entitled to receive distributions when and if declared by our Board of Trustees out of any funds legally available for that purpose.  As a REIT, we do not incur federal income tax on our REIT taxable income (generally, net rents and gains from real property, dividends, and interest) that is fully distributed each year (for this purpose, certain distributions paid in a subsequent year may be considered), and if we meet certain organizational and operational rules.  We believe we have met these requirements in all periods presented herein, and we expect to continue to elect and qualify as a REIT.
 
For Federal income tax purposes, distributions to shareholders are treated as ordinary income, capital gains, return of capital or a combination thereof.  For 2012, the dividends paid on common shares ($4.40 per share) and on all the various classes of preferred shares were classified as follows:
 
 
 
21

 
 
 
   
1st Quarter
   
2nd Quarter
   
3rd Quarter
   
4th Quarter
 
Ordinary Income                               
    100.0000 %     100.0000 %     100.0000 %     100.0000 %
Long-term Capital Gain
    0.0000 %     0.0000 %     0.0000 %     0.0000 %
Total                               
    100.0000 %     100.0000 %     100.0000 %     100.0000 %
 
For 2011, the dividends paid on common shares ($3.65 per share) and on all the various classes of preferred shares were classified as follows:
 
   
1st Quarter
   
2nd Quarter
   
3rd Quarter
   
4th Quarter
 
Ordinary Income                               
    99.9406 %     100.0000 %     100.0000 %     96.6553 %
Long-term Capital Gain
    0.0594 %     0.0000 %     0.0000 %     3.3447 %
Total                               
    100.0000 %     100.0000 %     100.0000 %     100.0000 %
 
c.  
Equity Shares
 
We are authorized to issue 100,000,000 equity shares from time to time in one or more series and our Board of Trustees has broad authority to fix the dividend and distribution rights, conversion and voting rights, redemption provisions and liquidation rights of each series of equity shares.
 
At December 31, 2009, we had 8,377,193 Equity Shares, Series A outstanding, and on April 15, 2010 we redeemed all these shares at $24.50 per share for an aggregate redemption amount of $205.4 million.  During the three months ended March 31, 2010, we paid quarterly distributions to the holders of the Equity Shares, Series A totaling $5.1 million ($0.6125 per share).  No further distributions on Equity Shares, Series A were paid after their April 15, 2010 retirement.
 
At December 31, 2009, we had 4,289,544 Equity Shares, Series AAA (“Equity AAA Shares”) outstanding with a carrying value of $100,000,000, all of which were held by a wholly-owned subsidiary and eliminated in consolidation, and we retired all of these shares on August 31, 2010.   For each of the quarters ended March 31, 2010 and June 30, 2010, we paid aggregate distributions to the holder of the Equity AAA Shares totaling $2.3 million or $0.5391 per share.  No further distributions were paid on the Equity AAA Shares after their August 31, 2010 retirement.
 
d.  
Common Share Repurchases
 
Our Board of Trustees has authorized the repurchase from time to time (with no expiration date) of up to 35,000,000 of our common shares on the open market or in privately negotiated transactions.  From the inception of the repurchase program through February 25, 2013, we have repurchased a total of 23,721,916 common shares (all purchased prior to 2010) at an aggregate cost of approximately $679.1 million, and 11,278,084 common shares remain available to purchase under the authorization.   Future levels of common share repurchases will be dependent upon our available capital, investment alternatives, and the trading price of our common shares.
 
e.  
Preferred Share Redemptions
 
In addition to the redemption price of $25.00 per share for all Cumulative Preferred Shares that we redeemed during 2012, we also paid accrued and unpaid dividends for such shares up to their respective redemption dates.  The following table presents monthly information related to our redemptions of our Preferred Shares during the year ended December 31, 2012:
 

 
22

 


Period Covered
 
Total Number of Shares Repurchased
   
Average Price Paid per
Share
 
 
January 1, 2012 – January 31, 2012
    -       -  
 
February 1, 2012 – February 28, 2012
               
Preferred Shares – Series L
    8,266,600     $ 25.00  
Preferred Shares – Series E
    5,650,000     $ 25.00  
 
March 1, 2012 – March 31, 2012
               
Preferred Shares – Series Y
    350,900     $ 25.00  
 
April 1, 2012 – April 30, 2012
               
Preferred Shares – Series M
    19,065,353     $ 25.00  
 
May 1, 2012 – May 31, 2012
    -       -  
 
June 1, 2012 – June 30, 2012
    -       -  
 
July 1, 2012 – July 31, 2012
               
Preferred Shares – Series N
    6,900,000     $ 25.00  
Preferred Shares – Series C
    4,425,000     $ 25.00  
 
August 1, 2012 – August 31, 2012
               
Preferred Shares - Series W
    5,300,000     $ 25.00  
 
September 1, 2012 – September 30, 2012
    -       -  
 
October 1, 2012 – October 31, 2012
               
Preferred Shares - Series F
    9,893,000     $ 25.00  
Preferred Shares - Series X
    4,800,000     $ 25.00  
 
November 1, 2012  – November 30, 2012
    -       -  
 
December 1, 2012 – December 31, 2012
               
Preferred Shares - Series Z
    4,500,000     $ 25.00  
Preferred Shares - Series A
    4,600,000     $ 25.00  
Preferred Shares - Series D
    5,400,000     $ 25.00  
 
Total
    79,150,853     $ 25.00  
 
 

 
 
23

 
 
 
ITEM 6.                      Selected Financial Data
 
   
For the year ended December 31,
 
   
2012
   
2011
   
2010
   
2009 (1)
   
2008
 
   
(Amounts in thousands, except per share data)
 
Operating Revenues
  $ 1,826,729     $ 1,717,613     $ 1,613,777     $ 1,590,929     $ 1,680,198  
                                         
Operating Expenses:
                                       
Cost of operations
    540,129       542,234       528,404       520,089       552,667  
Depreciation and amortization
    357,781       357,969       353,245       339,003       407,422  
General and administrative
    56,837       52,410       38,487       35,735       62,809  
Asset impairment charges
    -       2,186       994       -       525  
      954,747       954,799       921,130       894,827       1,023,423  
Operating income
    871,982       762,814       692,647       696,102       656,775  
Interest and other income
    22,074       32,333       29,017       29,813       36,155  
Interest expense
    (19,813 )     (24,222 )     (30,225 )     (29,916 )     (43,944 )
Equity in earnings of unconsolidated real estate entities
    45,586       58,704       38,352       53,244       20,391  
Foreign currency exchange gain (loss)
    8,876       (7,287 )     (42,264 )     9,662       (25,362 )
Gain on real estate sales and debt retirement
    1,456       10,801       827       37,540       336,545  
Income from continuing operations
    930,161       833,143       688,354       796,445       980,560  
Discontinued operations
    12,874       3,316       7,760       (5,989 )     (6,688 )
Net income
    943,035       836,459       696,114       790,456       973,872  
Net income allocated (to) from noncontrolling equity interests
    (3,777 )     (12,617 )     (24,076 )     44,165       (38,696 )
Net income allocable to Public Storage shareholders
  $ 939,258     $ 823,842     $ 672,038     $ 834,621     $ 935,176  
                                         
Per Common Share:
                                       
Distributions                                                       
  $ 4.40     $ 3.65     $ 3.05     $ 2.20     $ 2.80  
Net income – Basic
  $ 3.93     $ 3.31     $ 2.36     $ 3.48     $ 4.19  
Net income – Diluted
  $ 3.90     $ 3.29     $ 2.35     $ 3.47     $ 4.18  
                                         
Weighted average common shares – Basic
    170,562       169,657       168,877       168,358       168,250  
Weighted average common shares – Diluted
    171,664       170,750       169,772       168,768       168,675  
                                         
Balance Sheet Data:
                                       
Total assets
  $ 8,793,403     $ 8,932,562     $ 9,495,333     $ 9,805,645     $ 9,936,045  
Total debt
  $ 468,828     $ 398,314     $ 568,417     $ 518,889     $ 643,811  
Public Storage shareholders’ equity
  $ 8,093,756     $ 8,288,209     $ 8,676,598     $ 8,928,407     $ 8,708,995  
Permanent noncontrolling interests’ equity
  $ 29,108     $ 22,718     $ 32,336     $ 132,974     $ 358,109  
                                         
Net cash flow:
                                       
Provided by operating activities
  $ 1,285,659     $ 1,203,452     $ 1,093,221     $ 1,112,857     $ 1,076,971  
Provided by (used in) investing activities
  $ (290,465 )   $ (81,355 )   $ (266,605 )   $ (91,409 )   $ 340,018  
Used in financing activities
  $ (1,117,305 )   $ (1,438,546 )   $ (1,132,709 )   $ (938,401 )   $ (984,076 )
 
(1)  
The 2009 decreases in our revenues, cost of operations, and depreciation and amortization, and our increase in equity in earnings of unconsolidated real estate entities, are due primarily to our disposition of a 51% interest in Shurgard Europe on March 31, 2008.
 

 
24

 

 
ITEM 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The following discussion and analysis should be read in conjunction with our financial statements and notes thereto.
 
Critical Accounting Policies
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) discusses our financial statements, which have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”).  The amounts reported in our financial statements, notes to financial statements and MD&A are affected by judgments, assumptions and estimates that we make.  The notes to our December 31, 2012 financial statements, primarily Note 2, summarize our significant accounting policies.
 
We believe the following are our critical accounting policies, because they have a material impact on the portrayal of our financial condition and results, and they require us to make judgments and estimates about matters that are inherently uncertain.
 
Income Tax Expense:  We have elected to be treated as a real estate investment trust (“REIT”), as defined in the Internal Revenue Code.  As a REIT, we do not incur federal income tax on our REIT taxable income (generally, net rents and gains from real property, dividends, and interest) that is fully distributed each year (for this purpose, certain distributions paid in a subsequent year may be considered), and if we meet certain organizational and operational rules.  We believe we have met these REIT requirements for all periods presented herein.  Accordingly, we have recorded no federal income tax expense related to our REIT taxable income.
 
Our evaluation that we have met the REIT requirements could be incorrect, because compliance with the tax rules requires factual determinations, and circumstances we have not identified could result in noncompliance with the tax requirements in current or prior years.  For any taxable year that we fail to qualify as a REIT and for which applicable statutory relief provisions did not apply, we would be taxed at the regular corporate rates on all of our taxable income for at least that year and the ensuing four years, we could be subject to penalties and interest, and our net income would be materially different from the amounts estimated in our financial statements.
 
In addition, our taxable REIT subsidiaries are taxable as regular corporations.  To the extent that amounts paid to us by our taxable REIT subsidiaries are determined by the taxing authorities to be in excess of amounts that would be paid under similar arrangements among unrelated parties, we could be subject to a 100% penalty tax on the excess payments.  Such a penalty tax could have a material adverse impact on our net income.
 
Impairment of Long-Lived Assets:  The analysis of impairment of our long-lived assets involves identification of indicators of impairment, projections of future operating cash flows, and determination of fair values, all of which require significant judgment and subjectivity.  Others could come to materially different conclusions, and we may not have identified all current facts and circumstances that may affect impairment.  Any unidentified impairment loss, or change in conclusions, could have a material adverse impact on our net income.
 
Accruals for Operating Expenses:  Certain of our expenses are estimated based upon assumptions regarding past and future trends, such as losses for workers compensation, employee health plans, and estimated claims for our tenant reinsurance program.  In certain jurisdictions we do not receive property tax bills for the current fiscal year until after our earnings are finalized, and as a result, we must estimate property tax expense based upon anticipated implementation of regulations and trends.  If our related estimates and assumptions are incorrect, our expenses could be misstated.
 
Accruals for Contingencies: We are subject to business and legal liability risks due to events that have occurred, which could result in future payments.   We have not accrued certain of these payments, either because they are not probable or not estimable, or because we are not aware of them.  We may have to accrue additional amounts for these payments due to the results of further investigation, the litigation process, or otherwise.  Such accruals could have a material adverse impact on our net income.
 
 
 
25

 
 
 
Recording the fair value of acquired real estate facilities: In recording the acquisition of real estate facilities, we estimate the fair value of the land, buildings and intangible assets acquired.  Such estimates are based upon many assumptions and judgments, including expected rates of return, land and building replacement costs, as well as future cash flows from the property and the existing tenant base.  Others could come to materially different conclusions as to the estimated fair values, which would result in different depreciation and amortization expense, gains and losses on sale of real estate assets, and real estate and intangible assets.
 
Overview of Management’s Discussion and Analysis of Operations
 
Our domestic self-storage facilities generated 93% of our revenues for the year ended December 31, 2012, and also generated most of our net income and cash flow from operations.  A large portion of management time is devoted to maximizing cash flows from our existing self-storage facilities, as well as seeking to acquire and develop additional investments in self-storage facilities.
 
Most of our facilities compete with other well-managed and well-located competitors, and we are subject to general economic conditions, particularly those that affect the spending habits of consumers and moving trends.    We believe that our centralized information networks, national telephone and online reservation system, the brand name “Public Storage,” and our economies of scale enable us to effectively meet such challenges.
 
In 2010, 2011, and 2012, we acquired an aggregate of 77 self-storage facilities from third parties for approximately $546 million, we acquired noncontrolling interests in subsidiaries owning self-storage facilities for approximately $197 million, and we invested $117 million in Shurgard Europe which it used to acquire interests in self-storage facilities.  We will continue to seek to acquire additional self-storage facilities from third parties in 2013.  There is significant competition to acquire existing facilities and there can be no assurance that we will be able to acquire additional facilities.
 
Over the past three years our development activities have been minimal.  We have recently expanded our development efforts due in part to the significant increase in prices being paid for existing facilities, in many cases well above the cost of developing new facilities.  At December 31, 2012, we had a development pipeline of projects to expand existing self-storage facilities and develop new self-storage facilities, which will add approximately 1.3 million net rentable square feet of self-storage space.  The aggregate cost of these projects is estimated at $169 million, of which $36 million had been incurred at December 31, 2012, and the remaining costs will be incurred principally in 2013.  Some of these projects are subject to significant contingencies such as entitlement approval.  We expect to continue to seek additional development projects and have hired additional personnel; however, due to the difficulty in finding projects that meet our risk-adjusted yield expectations, as well as the difficulty in obtaining building permits for self-storage activities in certain municipalities, it is uncertain as to how much additional development we will undertake in the future.
 
We also have equity investments in Shurgard Europe, interests in commercial operations primarily through our investment in PS Business Parks, Inc. (“PSB”), and ancillary operations such as tenant reinsurance and sales of merchandise.  We have no current plans to change our equity investments in Shurgard Europe or PSB; however, it is possible that we may make additional investments in these entities in the future.
 
We believe that we are not dependent upon raising capital to fund our ongoing operations or meet our obligations.  However, access to capital is important to growing our asset base.  During the years ended December 31, 2012 and 2011, we issued approximately $1.7 billion and $863 million, respectively, of preferred securities.  During December 2012, we raised $101 million from the sale of our common shares owned by a wholly-owned subsidiary.  We have no current plans to issue additional common shares.  On January 16, 2013, we issued another $500 million of preferred securities.
 
At December 31, 2012, cash and cash equivalents totaled $17.2 million and we had $133.0 million in borrowings on our line of credit.  On January 16, 2013, we raised $485 million in net proceeds from the issuance of our 5.2% Series W Preferred Shares and repaid the outstanding borrowings on our line of credit.  We have $255 million in scheduled principal repayments in 2013, including $186 million for our senior notes which mature on March 15, 2013.  At December 31, 2012, we have a pipeline of development projects with approximately $133 million in remaining spending.  We have no other significant commitments in 2013.
 
 
 
26

 
 
 
Results of Operations                                                                          
 

Operating results for 2012 as compared to 2011: For the year ended December 31, 2012, net income allocable to our common shareholders was $669.7 million or $3.90 per diluted common share, compared to $561.7 million or $3.29 per diluted common share for the same period in 2011, representing an increase of $108.0 million or $0.61 per diluted common share.  This increase is due to (i) improved property operations, (ii) a $19.6 million reduction in distributions to preferred shareholders due primarily to lower average coupon rates, and (iii) a $16.2 million increase resulting from foreign currency exchange gains and losses in translating our Euro-denominated loan receivable from Shurgard Europe into U.S. Dollars, offset partially by (iv) a $36.3 million decrease due to the application of EITF D-42 to our, and our equity share of PSB’s, redemptions of preferred securities.
 
Operating results for 2011 as compared to 2010:  For the year ended December 31, 2011, net income allocable to our common shareholders was $561.7 million or $3.29 per diluted common share, compared to $399.2 million or $2.35 per diluted common share for the same period in 2010, representing an increase of $162.5 million or $0.94 per diluted common share.  This increase is due to (i) improved property operations, (ii), a $35.0 million increase due to foreign currency exchange gains and losses in translating our Euro-denominated loan receivable from Shurgard Europe into U.S. Dollars, (iii) increased equity in earnings and interest and other income from Shurgard Europe, due primarily to Shurgard Europe’s acquisition of its joint venture partner’s interests on March 2, 2011 and (iv) reduced income allocations to our Equity Shares, Series A.
 
Funds from Operations
 
Funds from Operations (“FFO”) is a term defined by the National Association of Real Estate Investment Trusts, and generally represents net income before depreciation, gains and losses, and impairment charges with respect to real estate assets.  We present FFO and FFO per share because we consider FFO to be an important measure of the performance of real estate companies, as do many analysts in evaluating our Company.  We believe that FFO is a helpful measure of a REIT’s performance since FFO excludes depreciation, which is included in computing net income and assumes the value of real estate diminishes predictably over time.  We believe that real estate values fluctuate due to market conditions and in response to inflation.  FFO computations do not consider scheduled principal payments on debt, capital improvements, distributions and other obligations of the Company.  FFO and FFO per share is not a substitute for our cash flow or net income per share as a measure of our liquidity or operating performance or our ability to pay dividends.  Because other REITs may not compute FFO in the same manner; FFO may not be comparable among REITs.  The following table reconciles from net income to FFO allocable to common shares and computes FFO per common share.  Amounts previously presented for 2010 have been adjusted to eliminate impairment charges with respect to real estate assets.
 
 
 
27

 


   
Year Ended December 31,
 
   
2012
   
2011
   
2010
 
   
(Amounts in thousands, except per share data)
 
Computation of FFO allocable to Common Shares:
                 
Net income                                                                                      
  $ 943,035     $ 836,459     $ 696,114  
Add back – depreciation and amortization, including amounts classified as discontinued operations
    358,103       358,525       354,386  
Add back – depreciation from unconsolidated real estate investments
    75,648       64,677       61,110  
Eliminate – gains on sale and impairment charges related to real estate investments, including discontinued operations and our equity share of unconsolidated real estate investments
    (14,778 )     (12,797 )     (7,573 )
FFO allocable to equity holders
    1,362,008       1,246,864       1,104,037  
Less allocation of FFO to:
                       
Noncontrolling equity interests                                                                               
    (6,828 )     (15,539 )     (25,915 )
Preferred shareholders
    (266,937 )     (260,462 )     (240,634 )
Equity Shares, Series A                                                                               
    -       -       (30,877 )
Restricted share unitholders                                                                               
    (4,247 )     (2,817 )     (2,645 )
FFO allocable to Common Shares
  $ 1,083,996     $ 968,046     $ 803,966  
Diluted weighted average common shares outstanding
    171,664       170,750       169,772  
FFO per share
  $ 6.31     $ 5.67     $ 4.74  

In discussions with the investment community, we often discuss “Core FFO” per share, which represents FFO per share, adjusted to exclude the impact of i) foreign currency gains and losses, representing a gain of $8.9 million in 2012, and losses totaling $7.3 million and $42.3 million in 2011 and 2010, respectively, ii) EITF D-42 income allocations, including our equity share of PSB, representing a reduction of FFO totaling $68.9 million, $32.6 million and $35.8 million in 2012, 2011 and 2010, respectively, and ii) the aggregate net impact of  impairment charges with respect to non-real estate assets, contingency accruals, our equity share of PSB’s lease termination benefits, and costs associated with the acquisition of real estate facilities, representing an aggregate net reduction in FFO per share of $0.02, $0.03 and $0.02 in 2012, 2011 and 2010, respectively.
 
We present Core FFO per share because we believe it is a helpful measure in understanding our results of operations, as we believe that the items noted above that are included in FFO per share, but excluded from Core FFO per share, are not indicative of our ongoing earnings.  We also believe that the analyst community, likewise, reviews our Core FFO (or similar measures using different terminology) when evaluating our Company.  Core FFO is not a substitute for net income, earnings per share or cash flow from operations.  Because other REITs may not compute Core FFO in the same manner as we do, may not use the same terminology, or may not present such a measure, Core FFO may not be comparable among REITs.
 
The following table reconciles from FFO per share to Core FFO per share:
 
   
Year Ended December 31,
 
   
2012
   
2011
   
Percentage
Change
   
2011
   
2010
   
Percentage
Change
 
FFO per share
  $ 6.31     $ 5.67       11.3 %   $ 5.67     $ 4.74       19.6 %
Eliminate the per share impact of items excluded from Core FFO:
                                               
Foreign currency exchange (gain) loss
    (0.05 )     0.04               0.04       0.25          
Application of EITF D-42
    0.40       0.19               0.19       0.21          
Other items, net
    0.02       0.03               0.03       0.02          
Core FFO per share
  $ 6.68     $ 5.93       12.6 %   $ 5.93     $ 5.22       13.6 %

 
 
 
28

 
 
 
Real Estate Operations                                                                        
 
 
Self-Storage Operations: Our self-storage operations represent 93% of our revenues for the year ended December 31, 2012.  Our self-storage operations are analyzed in two groups: (i) the Same Store Facilities, representing the facilities that we have owned and operated on a stabilized basis since January 1, 2010, and (ii) all other facilities, which are newly acquired, newly developed, or recently expanded facilities (the “Non Same Store Facilities”).
 
Self-Storage Operations
Summary
 
Year Ended December 31,
   
Year Ended December 31,
 
   
2012
   
2011
   
Percentage
Change
   
2011
   
2010
   
Percentage
Change
 
   
(Dollar amounts in thousands)
 
Revenues:
                                   
Same Store Facilities
  $ 1,596,320     $ 1,522,055       4.9 %   $ 1,522,055     $ 1,454,633       4.6 %
Non Same Store Facilities
    106,770       81,469       31.1 %     81,469       54,763       48.8 %
Total rental income                                
    1,703,090       1,603,524       6.2 %     1,603,524       1,509,396       6.2 %
Cost of operations:
                                               
Same Store Facilities
    468,752       477,041       (1.7 )%     477,041       474,831       0.5 %
Non Same Store Facilities
    33,114       27,797       19.1 %     27,797       19,884       39.8 %
Total cost of operations
    501,866       504,838       (0.6 )%     504,838       494,715       2.0 %
Net operating income (a):
                                               
Same Store Facilities
    1,127,568       1,045,014       7.9 %     1,045,014       979,802       6.7 %
Non Same Store Facilities
    73,656       53,672       37.2 %     53,672       34,879       53.9 %
Total net operating income
    1,201,224       1,098,686       9.3 %     1,098,686       1,014,681       8.3 %
Total depreciation and amortization expense:
                                               
Same Store Facilities
    (313,173 )     (319,033 )     (1.8 )%     (319,033 )     (316,199 )     0.9 %
Non Same Store Facilities
    (41,798 )     (36,282 )     15.2 %     (36,282 )     (34,426 )     5.4 %
Total depreciation and amortization expense
    (354,971 )     (355,315 )     (0.1 )%     (355,315 )     (350,625 )     1.3 %
                                                 
Total net income                                  
  $ 846,253     $ 743,371       13.8 %   $ 743,371     $ 664,056       11.9 %
                                                 
                                                 
Number of facilities at period end:
                                               
Same Store Facilities
    1,941       1,941       -       1,941       1,941       -  
Non Same Store Facilities
    124       97       27.8 %     97       83       16.9 %
Net rentable square footage at period end (in thousands):
                                               
Same Store Facilities
    122,464       122,464       -       122,464       122,464       -  
Non Same Store Facilities
    9,173       6,997       31.1 %     6,997       5,684       23.1 %
 
 
(a)
See “Net Operating Income below for further information regarding this non-GAAP measure.
 

 
29

 

 
Same Store Facilities
 
The Same Store Facilities represent those 1,941 facilities (122,464,000 net rentable square feet) that have been owned and operated on a stabilized basis since January 1, 2010, and therefore provide meaningful comparisons for 2010, 2011 and 2012.  The following table summarizes the historical operating results of these facilities:
 
SAME STORE FACILITIES
 
Year Ended December 31,
   
Year Ended December 31,
 
   
2012
   
2011
   
Percentage
Change
   
2011
   
2010
   
Percentage
Change
 
Revenues:
 
(Dollar amounts in thousands, except weighted average amounts)
 
Rental income                                                           
  $ 1,516,152     $ 1,442,684       5.1 %   $ 1,442,684     $ 1,383,232       4.3 %
Late charges and administrative fees  
    80,168       79,371       1.0 %     79,371       71,401       11.2 %
Total revenues (a)        
    1,596,320       1,522,055       4.9 %     1,522,055       1,454,633       4.6 %
                                                 
Cost of operations:
                                               
Property taxes  
    151,605       147,259       3.0 %     147,259       144,502       1.9 %
On-site property manager payroll            
    97,942       101,034       (3.1 )%     101,034       99,928       1.1 %
Repairs and maintenance     
    39,998       45,237       (11.6 )%     45,237       46,201       (2.1 )%
Utilities     
    36,255       37,732       (3.9 )%     37,732       36,299       3.9 %
Media advertising   
    6,326       10,542       (40.0 )%     10,542       15,178       (30.5 )%
Other advertising and selling expense
    32,423       32,133       0.9 %     32,133       31,991       0.4 %
Other direct property costs     
    35,257       35,937       (1.9 )%     35,937       36,810       (2.4 )%
Supervisory payroll       
    33,144       32,038       3.5 %     32,038       29,828       7.4 %
Allocated overhead     
    35,802       35,129       1.9 %     35,129       34,094       3.0 %
Total cost of operations (a)       
    468,752       477,041       (1.7 )%     477,041       474,831       0.5 %
Net operating income (b)
    1,127,568       1,045,014       7.9 %     1,045,014       979,802       6.7 %
Depreciation and amortization expense   
    (313,173 )     (319,033 )     (1.8 )%     (319,033 )     (316,199 )     0.9 %
Net income     
  $ 814,395     $ 725,981       12.2 %   $ 725,981     $ 663,603       9.4 %
Gross margin (before depreciation and amortization expense)
    70.6 %     68.7 %     2.8 %     68.7 %     67.4 %     1.9 %
                                                 
Weighted average for the period:
                                               
Square foot occupancy (c)      
    91.8 %     91.2 %     0.7 %     91.2 %     89.8 %     1.6 %
Realized annual rent, prior to late charges and administrative fees, per:
                                               
Occupied square foot (d)(e)     
  $ 13.49     $ 12.92       4.4 %   $ 12.92     $ 12.58       2.7 %
Available square foot (“REVPAF”) (e)(f)
  $ 12.38     $ 11.78       5.1 %   $ 11.78     $ 11.30       4.2 %
Weighted average at December 31:
                                               
Square foot occupancy    
    91.4 %     89.6 %     2.0 %     89.6 %     88.7 %     1.0 %
In place annual rent per occupied square foot (g)
  $ 14.42     $ 14.02       2.9 %   $ 14.02     $ 13.65       2.7 %
                                                 
 
a)  
Revenues and cost of operations do not include tenant reinsurance and retail operations, which are included on our income statement under “ancillary revenues” and “ancillary operating expenses.”
 
b)  
See “Net Operating Income” below for a reconciliation of this non-GAAP measure to our net income in our statements of income for the years ended December 31, 2012, 2011 and 2010.
 
c)  
Square foot occupancies represent weighted average occupancy levels over the entire period.
 
d)  
Realized annual rent per occupied square foot is computed by dividing annualized rental income, before late charges and administrative fees, by the weighted average occupied square feet for the period.
 
e)  
These measures exclude late charges and administrative fees in order to provide a better measure of our ongoing level of revenue.   Late charges are dependent upon the level of delinquency and administrative fees are dependent upon the level of move-ins.  In addition, the rates charged for late charges and administrative fees can vary independently from rental rates.  These measures take into consideration promotional discounts, which reduce rental income.
 
 
 
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f)  
Realized annual rent per available square foot (“REVPAF”) is computed by dividing annualized rental income, before late charges and administrative fees, by the total available net rentable square feet for the period.
 
g)  
In place annual rent per occupied square foot represents annualized contractual rents per occupied square foot before any reductions for promotional discounts, and excludes late charges and administrative fees.
 
Analysis of Revenue
 
Revenues generated by our Same Store Facilities increased by 4.9% in 2012 as compared to 2011 due primarily to increased average rental rates charged to our tenants.  This increase was due primarily to annual rent increases for tenants that have been renting longer than one year combined with a reduction in promotional discounts given to new tenants from $96.5 million in 2011 to $87.8 million in 2012.
 
Revenues generated by our Same Store Facilities increased by 4.6% in 2011 as compared to 2010.  The increase was due primarily to a 1.6% increase in weighted average square foot occupancy and a 2.7% increase in realized rent per occupied square foot, as well as an 11.2% increase in late charges and administrative fees due primarily to increases in the fee levels charged for late payments.  The increase in realized annual rent per occupied square foot includes the impact of more aggressive increases in rents charged to existing tenants in the last two quarters of 2011.
 
Our future rental growth will be dependent upon many factors including the level of new supply of self-storage space in the markets in which we operate, demand for self-storage space, our ability to increase rental rates, the level of promotional activities, and our ability to maintain or improve our occupancy levels.
 
We seek to maintain an average occupancy level of at least 90% throughout the year, which we believe maximizes the realized rent per available foot.  We maintain occupancy by regularly adjusting rental rates and promotions offered, in order to generate sufficient move-ins to replace tenants that vacate.  Demand fluctuates due to various local and regional factors, including the overall economy.  Demand is higher in the summer months than in the winter months and, as a result, rental rates charged to new tenants are typically higher in the summer months than in the winter months.
 
Our Same Store average occupancy levels increased 0.7% in 2012 as compared to 2011, due primarily to a 1.8% increase in average occupancy in the fourth quarter of 2012 as compared to the same period in 2011.  This increase was driven by (i) increased move-in volumes, primarily due to more aggressive pricing in the seasonally slow fourth quarter of 2012 combined with (ii) reduced levels of tenants moving out, as compared to the same period in 2011.  We expect to continue to implement aggressive pricing strategies during the first quarter of 2013 to increase occupancy levels as compared to the same period in 2012.  However, we expect occupancy levels in the second, third and fourth quarters of 2013 to be flat as compared to the same periods in 2012 due to more difficult year-over-year comparisons.
 
Increasing rental rates to tenants having a tenancy longer than one year is a key part of our rental growth.  At each of December 31, 2012, 2011 and 2010, approximately 55% of our tenants had a tenancy of a year or longer.  For these tenants, in place rent per occupied square foot at December 31, 2012 increased 4.1% as compared to December 31, 2011 and 4.3% at December 30, 2011 as compared to December 31, 2010.  These increases were due to rate increases passed to these tenants.  We expect to pass similar rate increases to long-term tenants in 2013 as we did in 2012.
 
Based upon current trends, we expect positive year-over-year growth in rental income to continue throughout 2013, due to improved occupancy and realized rents during the first quarter of the year and primarily from increases in realized rents during the remainder of 2013.
 

 
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Analysis of Cost of Operations
 
Cost of operations (excluding depreciation and amortization) decreased 1.7% in 2012 as compared to 2011.  The decrease was due primarily to reductions in on-site property manager payroll, repairs and maintenance, and media advertising, offset partially by a 3.0% increase in property tax expense.  Cost of operations (excluding depreciation and amortization) increased by 0.5% in 2011 as compared to 2010.  The increase was due to higher property taxes, supervisory payroll, and utilities, partially offset by reduced media advertising.
 
Property tax expense increased 3.0% in 2012 as compared to 2011, due primarily to higher assessed values.   Property tax expense increased 1.9% in 2011 as compared to 2010, due primarily to higher tax rates.  We expect property tax expense growth of approximately 4.0% in 2013, due primarily to higher assessed values.
 
On-site property manager payroll expense decreased approximately 3.1% in 2012 as compared to 2011, and increased 1.1% in 2011 as compared to 2010.  The decrease in 2012 was due primarily to lower incentive compensation, and the increase in 2011 was due primarily to higher incentive compensation and wage rates.  We expect payroll expense to increase at a rate less than inflation in 2013.
 
Repairs and maintenance expenditures decreased 11.6% in 2012 as compared to the same period in 2011, and decreased 2.1% in 2011 as compared to the same period in 2010.  Repairs and maintenance expenditures are dependent upon several factors, such as weather, the timing of repair and maintenance needs, inflation in material and labor costs, and random events.  Included in our repairs and maintenance expenditures in 2012, 2011 and 2010 was approximately $2.7 million, $4.3 million and $6.1 million, respectively, in snow removal costs.  We expect repairs and maintenance, prior to snow removal costs, to decline modestly in 2013.  Snow removal costs are expected to be higher in the first quarter of 2013 as compared to the same period in 2012, due to more severe winter weather through February 25, 2013.  Snow removal costs ater the first quarter of 2013 are not determinable at this time.
 
Utility expenses decreased 3.9% in 2012 as compared to 2011, and increased 3.9% in 2011 as compared to 2010.  Utility cost levels are dependent upon changes in usage driven primarily by weather and temperature, as well as energy prices.  The decrease in 2012 was driven by reduced usage caused by milder weather.  The increase in 2011 was caused by higher usage from extreme temperatures, as well as higher energy prices.  It is difficult to estimate future utility cost levels, because weather, temperature, and fuel prices are volatile and not predictable.
 
Media advertising decreased 40.0% in 2012 as compared to the same period in 2011, and decreased 30.5% in 2011 as compared to 2010.  Media advertising can increase or decrease significantly in the short-term in response to demand, occupancy levels, and other factors.  Media advertising expenditures have declined due to higher square foot occupancies, which increased from 87.0% on December 31, 2009 to 91.4% at December 31, 2012.  We expect lower media advertising in 2013 due to current high occupancies.
 
Other advertising and selling expense is comprised principally of yellow page, internet advertising, and the operating costs of our telephone reservation center.  These costs in aggregate have remained flat in 2010, 2011 and 2012.  We have phased out our yellow page advertising program as of December 31, 2012, and expect that this cost reduction will be offset by increased Internet advertising.  We expect other advertising and selling expense to be flat in 2013.
 
Other direct property costs include administrative expenses incurred at the self-storage facilities, such as property insurance, business license costs, bank charges related to processing the properties’ cash receipts, and the cost of operating each property’s rental office including supplies and telephone data communication lines.   Due to cost-saving measures in certain expense categories, offset by inflationary increases, we expect other direct property expenses to be flat in 2013.
 
Supervisory payroll expense, which represents compensation paid to the management personnel who directly and indirectly supervise the on-site property managers, increased 3.5% in 2012 as compared to 2011, and increased 7.4% in 2011 as compared to 2010.  The increase in 2012 was due principally to increased headcount.  This increase in 2011 was due primarily to higher incentives and wage rates paid to supervisory personnel.  We expect growth in supervisory payroll in excess of inflation, due to higher wage rates, incentives and increased headcount.
 
 
 
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Allocated overhead represents administrative expenses for shared general corporate functions, which are allocated to self-storage property operations to the extent their efforts are devoted to self-storage operations.  Such functions include data processing, human resources, operational accounting and finance, marketing, and costs of senior executives (other than the Chief Executive Officer and Chief Financial Officer, which are included in general and administrative expense).  The increases in 2012 and 2011 are due principally to increased headcount.  We expect inflationary growth in allocated overhead in 2013.
 
The following table summarizes selected quarterly financial data with respect to the Same Store Facilities:
 
   
For the Quarter Ended
       
   
March 31
   
June 30
   
September 30
   
December 31
   
Entire Year
 
                                                                                              (Amounts in thousands, except for per square foot amount)
 
Total revenues:
                         
2012
  $ 383,928     $ 394,700     $ 412,641     $ 405,051     $ 1,596,320  
2011
  $ 366,497     $ 375,543     $ 393,819     $ 386,196     $ 1,522,055  
2010
  $ 353,976     $ 360,915     $ 372,125     $ 367,617     $ 1,454,633  
                                         
Total cost of operations:
                         
2012
  $ 130,682     $ 121,043     $ 118,566     $ 98,461     $ 468,752  
2011
  $ 128,295     $ 122,776     $ 121,338     $ 104,632     $ 477,041  
2010
  $ 128,363     $ 122,954     $ 121,127     $ 102,387     $ 474,831  
                                         
Property taxes:
                                 
2012
  $ 43,058     $ 41,925     $ 40,580     $ 26,042     $ 151,605  
2011
  $ 41,382     $ 40,264     $ 39,550     $ 26,063     $ 147,259  
2010
  $ 40,420     $ 39,246     $ 39,187     $ 25,649     $ 144,502  
                                         
Repairs and maintenance:
                         
2012
  $ 12,025     $ 10,585     $ 8,487     $ 8,901     $ 39,998  
2011
  $ 10,765     $ 10,993     $ 10,960     $ 12,519     $ 45,237  
2010
  $ 13,089     $ 10,693     $ 10,829     $ 11,590     $ 46,201  
                                         
Media advertising:
                         
2012
  $ 3,145     $ 1,891     $ 1,239     $ 51     $ 6,326  
2011
  $ 4,046     $ 3,360     $ 2,144     $ 992     $ 10,542  
2010
  $ 5,456     $ 6,603     $ 3,119     $ -     $ 15,178  
                                         
REVPAF:
                                 
2012
  $ 11.89     $ 12.25     $ 12.79     $ 12.59     $ 12.38  
2011
  $ 11.36     $ 11.64     $ 12.16     $ 11.96     $ 11.78  
2010
  $ 11.01     $ 11.22     $ 11.54     $ 11.41     $ 11.30  
                                         
Weighted average realized annual rent per occupied square foot:
         
2012
  $ 13.17     $ 13.23     $ 13.79     $ 13.72     $ 13.49  
2011
  $ 12.65     $ 12.61     $ 13.19     $ 13.26     $ 12.92  
2010
  $ 12.47     $ 12.34     $ 12.68     $ 12.82     $ 12.58  
                                         
Weighted average occupancy levels for the period:
                 
2012
    90.3 %     92.6 %     92.7 %     91.8 %     91.8 %
2011
    89.8 %     92.3 %     92.2 %     90.2 %     91.2 %
2010
    88.3 %     90.9 %     91.0 %     89.0 %     89.8 %
                                         

 
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Analysis of Market Trends
 
The following table sets forth selected market trends in our Same Store Facilities:
 
   
Year Ended December 31,
   
Year Ended December 31,
 
   
2012
   
2011
   
Change
   
2011
   
2010
   
Change
 
   
(Amounts in thousands, except for weighted average data)
 
Same Store Facilities Operating Trends by Market
                                   
Revenues:
                                   
Los Angeles  (168 facilities)
  $ 210,653     $ 201,945       4.3 %   $ 201,945     $ 197,432       2.3 %
San Francisco  (125 facilities)
    134,109       126,852       5.7 %     126,852       121,242       4.6 %
New York  (79 facilities)
    105,421       100,256       5.2 %     100,256       94,342       6.3 %
Chicago  (124 facilities)
    99,699       95,346       4.6 %     95,346       92,431       3.2 %
Washington DC  (72 facilities)
    78,606       75,898       3.6 %     75,898       71,321       6.4 %
Seattle-Tacoma  (85 facilities)
    76,506       73,263       4.4 %     73,263       70,380       4.1 %
Miami  (60 facilities)                                       
    67,468       63,568       6.1 %     63,568       60,930       4.3 %
Dallas-Ft. Worth  (98 facilities)
    62,346       59,062       5.6 %     59,062       55,257       6.9 %
Houston  (80 facilities)                                       
    57,054       53,943       5.8 %     53,943       52,437       2.9 %
Atlanta  (89 facilities)                                       
    56,878       54,426       4.5 %     54,426       51,786       5.1 %
Philadelphia (55 facilities)
    43,128       41,725       3.4 %     41,725       39,389       5.9 %
Denver  (47 facilities)                                       
    36,596       33,749       8.4 %     33,749       32,098       5.1 %