Iron Mountain Inc

NYSE:IRM

Earnings Call Transcript 2018-Q4

[Operator]

Good morning, and welcome to the Iron Mountain Fourth Quarter 2018 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded.

I would now like to turn the conference over to Greer Aviv, Senior Vice President of Investor Relations. Please go ahead.

[Greer Aviv, SVP, IR]

Thank you, Steve. Hello, and welcome to our fourth quarter and full year 2018 earnings conference call. The user-controlled slides that we will be referring to in today's prepared remarks are available on our Investor Relations site along with the link to today's webcast.

You can find the presentation at ironmountain.com under About Us/Investors/Events & Presentations. Alternatively, you can access today's financial highlights press release, the presentation and full supplemental financial information together in one PDF file by going to investors.ironmountain.com under Financial Information. Additionally, we have filed all related documents as one 8-K, available on the IR website.

On today's call, we'll hear from Bill Meaney, Iron Mountain's President and CEO, who will discuss highlights and progress toward our strategic plan followed by Stuart Brown, our CFO, who will cover financial results and our 2019 guidance. After our prepared remarks, we’ll open up the lines for Q&A.

Referring now to page 2 of the presentation, today's earnings call, slide presentation and supplemental financial information will contain forward-looking statements, most notably our outlook for 2019 financial and operating performance.

All forward-looking statements are subject to risks and uncertainties. Please refer to today's press release, earnings call presentation, supplemental financial report, the Safe Harbor language on this slide and our Annual Report on Form 10-K, which we expect to file later today for a discussion of the major risk factors that could cause actual results to differ from those in our forward-looking statements.

In addition, we use several non-GAAP measures when presenting our financial results, and the reconciliations to these measures as required by Reg G are included in this supplemental financial information.

With that, Bill, would you please begin?

[William Leo Meaney, President & CEO]

Thank you, Greer, and thank you all for taking the time to join us. We’re pleased to be here this morning to discuss our fourth quarter and full year 2018 performance. 2018 marked a year of continued strong growth for Iron Mountain highlighted by global storage organic revenue growth, significant growth in our data center business and further scale in our emerging markets.

Turning to slide 3 of our financial results presentation, full year increased 10% which was in line with our expectations, driven in part by the contribution from recent data center acquisitions and strong growth and services. Notably total organic revenue growth was 3.6% for the full year, a strong acceleration from the 2.3% we reported in 2017.

Adjusted EBITDA was also in line with expectations growing 14% year-over-year and resulting in a 120 basis point improvement in our margin. Lastly, we generated 16% growth in AFFO at the high end of our expectations, whilst continuing to reinvest in the growth of our business and supporting our commitment to our dividend. The strong AFFO performance compares to an increase in our fully diluted shares outstanding of 7.4% and resulted in a 160 basis points reduction of our payout ratio to 78%.

As it relates to our fourth quarter performance, we achieved constant currency revenue and adjusted EBITDA growth of 10% and 12% respectively, whilst our margin expanded a 100 basis points year-over-year. I’ll provide more detail around volume trends in a few minutes.

When on a global organic basis Records Management volume was flat in 2018. Importantly, 2018 was a year of continued evolution for Iron Mountain. We made significant progress in increasing our mix to high growth businesses, completing more than $1.7 billion in targeted acquisitions. This evolution is highlighted by the ongoing expansion of our global data center footprint with the acquisitions of IO, the Credit Suisse Data Centers and EvoSwitch.

We continue to also expand in faster growing emerging markets with acquisitions that increase scale and reach in key markets including South Korea, China and the Philippines.

We continue to build from our strong capabilities and core competencies developed over many decades of managing our customers’ valuable physical and information assets to extend our storage capabilities beyond Records Management and Data Management to a more comprehensive portfolio of physical storage solutions.

Today, we store many of our customers’ valuable assets in addition to information assets, which leverages our know how and utilizes our existing storage facilities and logistics expertise whilst maximizing our revenue in NOI per square foot. To this point, we made targeted acquisitions to further a number of our faster growing businesses, such as market leading Fine Arts and entertainment services capabilities and valley consumer storage.

All of this enables us to help customers manage the storage of valuable assets beyond the more than 690 million cubic feet of records in digital information we store in our Records and Information Management or RIM business area.

Turning to our business performance, Organic Records Management global volume was flat, a modest improvement from Q3 as new volume increased 10 basis points sequentially. More specifically in North America new volumes from existing customers and new sales together increased almost 40 basis points sequentially whilst destructions ticked up 10 basis points.

In a few moments I’ll highlight some of the recent wins in North America Records and Information Management that have helped to support this performance. Volume in the emerging markets continues to grow at a faster clip increasing 7% for 2018 though we saw a modest tick down in new sales compared to Q3.

Our investments are focused on increasing the scale of our businesses in these geographies and growing market share as evidenced by the recent acquisitions I highlighted earlier.

Organic storage revenue growth increased 1.9% and 2.4% year-over-year in Q4 and 2018 respectively, as revenue management continues to contribute positively to growth.

Destructions remain at elevated levels though we saw a moderation in recent trends. Organic service revenue growth was strong in 2018, growing at 5.4% driven in part by continued strength in Secure Shred as well as momentum in digital projects from our Information Governance and Digital Solutions business or IGDS. Overall, we had a successful Q4 with a number of strong new business wins across the North America RIM.

Turning to slide 4, an example of one such win was a 5-year agreement with CitiMortgage, which was looking to outsource their non core business function within their mortgage workflows. Once successfully implemented, we expect to gain 550,000 cubic feet of records plus more than 820,000 files.

Additionally, a new customer signed in Q4 was the Hoover Institution at Stanford University. The Hoover Institution has begun a major renovation of their facilities at Stanford, which will directly impact their archival collections located in three historic buildings. Most of their collections are moving off-site during the renovation some indefinitely and Iron Mountain was selected to relocate 64,000 cubic feet of material from Stanford University to a customized Iron Mountain facility.

Specialized relocation processes designed by our team along with the Hoover archivists and preservationists will be utilized during the move. The collections will be maintained and circulated from our private climate controlled vault modified specifically for this project. This is a great example of our teams working to implement solutions to meet our customer specific needs.

Turning to our federal business, we’ve made significant inroads and further penetrating this historically un-vended channel. Across our entire federal business revenue grew 14% year-over-year in 2018 led by strength in data center and Records Management.

To this point, a U.S. government regulatory agency expanded with a new data center deployment in Northern Virginia adding to their existing deployment in New Jersey. On the Records Management side of the federal business we had net cube growth of 4% during 2018 and continued to see good momentum.

We’re encouraged by the progress made in Q4 in North America and accelerating volume from existing customers and driving new business to Iron Mountain. Another area of solid progress in 2018 was the momentum of our IGDS business as customers increasingly live in a hybrid world of both physical and digital storage.

We recently signed a contract with a large retailer to enhance our value adding services. We’re beginning a digital solution involving more than 75 million images of employee files, which are currently housed on premise at each individual store as part of an HR file conversion project.

Digitizing HR documents and centralizing into a single repository helps achieve greater efficiency, reduce risk and improve compliance with a variety of federal and state requirements. We’re currently in discussions with this customer to assist them in extracting even greater value from their HR information through the use of our InSight platform and its machine learning and artificial intelligence capabilities.

These are great examples of how we’re solving problems of our customers and adding value in the areas of digital transformation and compliance. We had an extremely active pipeline of opportunities for our IGDS business as we ended 2018, nearly 50% increase over the prior year. Importantly we’re seeing these opportunities increasingly translate into income as revenue is doubled over the past two years.

Regarding our data center business on slide 5, you can see Q4 in 2018 performance was strong with full year revenue of nearly $230 million and adjusted EBITDA of a $100 million. We continue to see solid leasing momentum as we closed out Q4 achieving our targeted 10 megawatts of new and expansion leasing for the year consisting of 261 leases signed with strength in the financial services, professional services and federal vertical.

Of those new and expansion leases 34% were new logos to our data center platform of which 43% had a pre-existing customer relationship with Iron Mountain reinforcing the strength of the Iron Mountain brand and its extension to our data center business.

To that point, we signed a new cloud base provider of medical information in Northern Virginia as this customer was very sensitive to proximity to its own local IT team. Additionally, this customer also has a longstanding relationship with our Data Management team, so our core competencies and compliance and security resonated well with their data center needs.

Another great example of a new customer is Wasabi Technologies, a hot cloud storage company, which deployed in Northern Virginia. Iron Mountain was able to fulfill all of their data center requirements including a hyper scale ready facility which meets the strict compliance requirements for Fed ramp.

Demand from existing customers remain strong with a number of customers expanding their footprint in existing data centers as well as deploying with us in additional markets. A large global bank which came to us as a data center through the IO acquisition increased its capacity needs three times during 2018 expanding its usage in New Jersey by 47%.

Turning to slide 6, our development pipeline reflects construction in key markets including New Jersey, Phoenix, London and Amsterdam as we continue to see good demand from existing customers. Subsequent to the end of the fourth quarter, we acquired a part of the land in Frankfurt with power reserved in a permitted design which will ultimately support 20 megawatts of capacity.

Frankfurt is the second largest multi-tenant data center market in Europe beyond London. This land acquisition improves our competitive position across Europe and allows us to have a presence in three of the four key European metro areas. We now have total potential capacity of almost 350 megawatts across our data center platform including the land in Frankfurt and Chicago.

We expect the leasing momentum exiting 2018 will continue into 2019 as we build on our strength with enterprise customers and attract more hyper scale demand. We currently expect to be able to achieve robust leasing activity with a target of executing 15 to 20 megawatts of new and expansion signings in 2019.

Turning to slide 7, our strong performance in 2018 has enhanced the solid foundation we’ve created and increased our financial strength as an organization to support sustained growth. Once our acquisitions from last year are fully incorporated in our base numbers, the business as it is configured today is expected to deliver 4% plus organic adjusted EBITDA growth going into 2020 well in line with our original 2020 plan to exit 2020 with a 5% organic EBITDA growth. This is all compared to less than 2% growth just five years ago.

As it relates to our outlook for 2019, we issued guidance this morning which reflects consistent performance expectations for Records and Information Management business fundamental with further physical storage potential from newer adjacencies.

Ongoing strong growth in emerging markets data center and adjacent businesses and continued investment in the business to support strategic initiatives and innovation around digital solutions to support our customers’ evolving needs.

We do anticipate that the strong dollar will create headwinds over the course of 2019 relative to our reported results, though this has no operational or margin impact. On a constant currency basis we expect revenue growth of 3%, adjusted EBITDA growth of 4% and AFFO growth of 4.5%. And if we normalize for the impact of adoption of lease accounting our adjusted EBITDA margin would increase by a 100 basis points further.

Stuart will have more detail on our 2019 guidance in a moment. Putting this all into historical context Iron Mountain is entering into 2019 in great shape. Our brand continues to resonate with our customer base where trust is ever more important especially when it comes to information as well as valued assets.

This trusted relationship with more than 225,000 customers in covering over to 95% of the Fortune 1000 is demonstrated both by the continued relevance of our RIM business with expanding margins through higher pricing as well as the rapid growth of our digital solutions business and data center offerings.

In terms of how our services have delivered bottom-line value is worth noting the accelerating growth of the business since 2014. We have grown revenue and adjusted EBITDA on a constant currency basis at a 10% CAGR. AFFO has delivered a 10.9% CAGR with a 7.8% CAGR in share count.

Our business is more diversified both by business line as well as geography all yielding the acceleration in underlining growth mentioned earlier. All together over the past five years we have built significant momentum into the business and feel good going into the year.

We will remain disciplined regarding the pace with which we deploy capital to support these growth initiatives, whilst ensuring we remain true to our financial model.

With that I will turn the call over to Stuart.

[Stuart Brown, CFO]

Thank you, Bill and thank you all for joining our fourth quarter and 2018 results conference call. We delivered very strong AFFO growth in 2018 of 16% and continue to expand our adjusted EBITDA margins while also achieving 3.6% organic revenue growth. This growth was supported by results of our revenue management program and continued expansion of value add services and our data center platform with growth of records volumes in our international markets offsetting declines in North America.

We are pleased with the healthy performance across our business segments as well as our progress investing in and integrating faster growing businesses. Not only do these new businesses create value for shareholders, but also allow us to be better partner with our customers for their critical physical and digital storage needs.

I'd like to start off the financial discussion with the performance highlights which you can see on slides 8 and 9 of the presentation. For the quarter revenue was in line with expectations approaching $1.1 billion growing about 7% on a reported basis then almost 10% on a constant currency basis. This is driven by contributions from our recent data center acquisitions and strong organic revenue growth including solid contributions from our emerging markets in our businesses.

Total organic revenue grew by 3.5% in the fourth quarter compared to the prior year and 3.6% for the full year. Organic storage revenue grew 1.9% for the quarter and 2.4% or by $60 million for the full year. Organic service revenue grew 6.1% in the fourth quarter and by 5.4% for the full-year. Service growth was primarily driven by increased contributions from our expanding Secure Shred business, continued strength and recycled paper prices as well as additional digitization and special projects.

Our adjusted EBITDA grew over 12% on a constant currency basis for the fourth quarter to $360 million with margins expanding 100 basis points year-over-year to 33.9%. The margin improvement resulted primarily from the flow through of revenue management, the impact of the adoption of the revenue recognition standard and improved labor productivity.

SG&A as a percentage of revenue excluding significant acquisition costs declined about 80 basis points in the fourth quarter versus a year ago due in part to lower bad debt expense and increased operating leverage on the revenue growth.

Adjusted EPS for the quarter was $0.25 per share down from 2017 due mostly to higher depreciation and amortization associated with data center acquisitions and impacted by a 6% increase in shares outstanding following our December 2017 offering to fund the acquisition of I/O data centers.

For the full year AFFO was $874 million up $122 million or 16% over the prior year reflecting the strong operating performance of our data center acquisitions in a very disciplined approach to capital allocation while continuing our investments in new products and businesses. AFFO came in at the high end of our expectations due to lower cash taxes and interest as well as slightly lower capital spending.

To touch on operating performance in more detail, on slide 10 you can see developed markets organic storage revenue growth came in at 0.9% for the quarter slightly better than Q3 and 1.4% for the full year despite the negative volume growth again reflecting the contribution from revenue management.

Organic service revenue in developed markets increased 5.1% for the quarter and 5.2% percent for the full year due mainly to growth in our shred business, project revenue and digitization projects as mentioned earlier.

In other international, we continued to see healthy organic storage revenue growth of 4.1% for the quarter. Full-year organic storage revenue growth was 5.4% and 3.2% growth in organic volume. Organic service revenue growth was 6.1% in the quarter and 5% for the full year in this segment.

Further the data center business delivered strong organic revenue growth of 12% for the quarter and 9% for the full year. Our adjacent businesses also performed well with revenue growth growing almost 19% on an organic basis in the quarter and nearly 11% for the full year.

Turning to slide 11, you can see the detail of our fourth quarter 100 basis point adjusted margin expansion with growth in most segments. We saw a margin decline in North America data management or our tape business driven by lower volumes and mix as well as investments made in growing new products and services.

In the tape storage business the amount of digital data being stored continues to grow, however, greater physical tape density is resulting in lower physical volumes. Revenue management has helped offset some of the tape volume trends and margins have remained north of 50%.

In Western Europe fourth quarter margin expansion returned to levels seen in the first half of the year expanding by 240 basis points reflecting lower bad debt, our focus on continuous improvement and stronger project based revenue in the UK, Germany, and Austria.

In the global data center segment, adjusted EBITDA margins were 41.5% in the fourth quarter and 43.5% for the full year reflecting the increased scale of the business and progress on integration activity. As Bill noted, we are pleased with our leasing activity reflecting the successful integration of a strong commercial team and demand in the markets where we operate.

During the quarter we executed 3.3 megawatts of new and expansion leasing for total 9.6 megawatts for the year. The leasing was primarily enterprise in Federal Government customers in churn remains quite manageable at 3.2% in 2018.

Turning to slide 12, you can see that our lease adjusted leverage ratio at the end of the year was 5.6 times comfortably in line with other rates especially when considering that our business is more durable than many other REIT sectors, but we did not have any significant financing activity in the fourth quarter, we did sell two properties as part of our capital recycling program which generated net proceeds of $56 million.

As of December 31, our borrowings were 73% fixed-rate, our weighted average borrowing rate was 4.9% and our well-laddered maturity average is 6.2 years with no significant maturities until 2023. Our strong balance sheet and capital structure is supported by our significant real estate portfolio and long term nature of our customer relationships.

Turning to guidance this is detailed in the supplemental for your review and on slide 13. We’re expecting 2019 revenue to be in the range of $4.2 billion to $4.4 billion. Adjusted EBITDA to be in the range of $1.4 billion to $1.5 billion, adjusted EPS to be in the range of $1.08 to a $1.18 and AFFO to be in the range of $870 million to $930 million.

This reflects solid performance following 2018’s growth impacted by a stronger dollar, new lease accounting standard and continuing investments in our Insight IT infrastructure and our data center pipeline.

2019 total organic revenue growth is expected to be in a range of 2% to 2.5% including organic storage revenue growth of 1.75% to 2.5%. Global organic record volumes are expected to be flat with declines in North America offset by growth in other international markets.

Globally we expect new incoming volume to continue offsetting destruction rates of 4.5% to 5% and outperms of around 2%. We expect service organic growth will be the low single digits for 2019 from continued growth in our shred business and information governance in digital solutions. As many of you know, record recycle paper prices were tailwind to our service business in 2018, but we anticipate moderating paper prices in 2019.

We also expect continued strong growth in the data center business with low teens organic revenue growth compared to 2018. We will though have elevated churn in the first quarter in Phoenix due to two customer move outs that were part of our deal underwriting when we acquired IO.

Anticipated investments which are detailed in the supplemental will be funded by a combination of cash available from operations, capital recycling and new borrowings supported by the higher expected adjusted EBITDA. We may also utilize third party capital particularly for data center development and equity from our ATM depending on market conditions. We expect our lease adjusted leverage ratio to improve 10 to 20 basis points from the 5.6 times at the end of 2018.

As we think about 2019 outlook there are several factors affecting comparability that I would like to bring to your attention. First we divested our fulfillment business at the end of Q3, 2018 which generated approximately 25 million in annualized revenue.

Second, the adoption of the new leasing standard is expected to result in a non-cash increase in rent expense of $10 million to $15 million, lower interest expense of $3 million and lower depreciation expense of about $3 million due primarily to certain capital leases converting to operating leases under the standard.

Third, current foreign exchange rates relative to 2018 are expected to result in a $60 million to $70 million headwind to revenue and $20 million to $25 million impact to EBITDA. As a reminder on FX, we derive about 40% of our revenue from non U.S. dollar currencies and as a result exchange rate volatility can't have a significant impact on our reported results.

Well, we have very low transactional exposure with our costs well matched to our revenue in the respective countries, we do have un-hedged translation exposure and somewhat higher proportion of our debt is U.S. dollar denominated.

As the business continues to evolve with data center growth, we will also be reviewing our disclosure to determine where we can make changes to reduce complexity and enhance transparency. You should expect to see some changes to the supplemental beginning in the first quarter.

In summary, as we close out another year of continued growth and evolution we are pleased to see progress on multiple fronts. Our records and information management business continues to deliver durable cash flow and steady organic revenue growth through solid revenue management. We've had continued success extending into higher growth in emerging markets and our fast-growing data center business and adjacent businesses continue to increase scale and have become very competitive platforms poised for even greater success.

We are pleased with the adjusted EBITDA, AFFO and dividend growth rates achieved in 2018 and the contributions from our team serving customers around the world and look forward to strong performance again in 2019.

With that I will turn over the call to Bill for closing remarks before we open up for Q&A.

[William Leo Meaney, President & CEO]

Thank you, Stuart. And just a couple of comments before we begin the question and answer is, first of all, it was a very strong year, which was punctuated by double-digit EBITDA and AFFO growth well ahead of the shares we issued to support our acquisition of the IO data center.

The business also has never been stronger or better positioned, continued organic storage revenue growth with remaining untapped storage segments or reserves, a broader range of businesses and services still tied to our existing business relationships built on decades of trust and accelerating organic growth of EBITDA and AFFO which underpins future dividend growth whilst de-levering.

With that operator I'd like to open it up to questions.

[Operator]

Yes. Thank you. We will now begin the question and answer session. [Operator Instructions] The first question comes from Nathan Crossett with Berenberg.

[Nathan Crossett, Berenberg Capital Markets]

Hi, good morning. Maybe you can just talk a bit about your appetite for further data center acquisitions. I know you have plenty of room to build out based on the current pipeline. But wanted to get your thoughts on just outright acquisitions. Is it possible to see some more EvoSwitch type transactions going forward?

[William Leo Meaney, President & CEO]

Good morning, Nate. Look I wouldn't rule it out but it's not really what we think we need to do in the plan. In other words the EvoSwitch, if you think about EvoSwitch specifically which as a good example is we look at the top 10 international markets and the top 10 U.S. markets and we say okay, do we feel, how do we prioritize those, which ones do we think we should enter. And then, when we look at that is, we look at what's the best way to enter that market.

So Chicago, Northern Virginia and Frankfurt are all great examples where we decided the best way for us to enter that because it's important for our customers that we have decades of relationship with, plus some of our newer customers on the data center side that we have product on the shelf in those key markets and we decided the best way to enter those markets was through Greenfield development which we've done.

In Amsterdam, we looked at the same thing because as you know, in Europe we refer many times to the flat markets, the top markets in Europe are Frankfurt, London, Amsterdam and Paris. So Amsterdam is absolutely a key market in Europe and it's one that our customers wanted to see us in. and when we looked at Amsterdam, quite frankly EvoSwitch for us was the best entry point.

So, that's how we think about those markets but if you think about overall in terms of our growth plan, we're now almost 350 megawatts of capacity that we can build out both with sites that we've already started building in the Frankfurt in Chicago site and we feel really good about being able to achieve our financial plan with little or no acquisitions.

[Nathan Crossett, Berenberg Capital Markets]

Thanks, that's helpful. And maybe just a quick follow-up, can you talk a bit about this datacenter competition. We've heard from some of the wholesale providers that price can be very competitive in certain markets. So, I'm just curious to hear your thoughts and maybe you could talk a bit about how you're trying to differentiate?

[Stuart Brown, CFO]

I think it's a good question, Nate. I think that well first of all I would differentiate between the enterprise customers in a hyper scale. So, it's fair to say right now, we as Iron Mountain is we're more the bulk of our customers are in the enterprise segment which is what you would expect. We notice that of the new logo who signed this year, 43% of them we already had an existing customer relationship, where then obviously those were enterprise customers.

So, for us I think when you talk about pricing, we see less price sensitivity on the enterprise side quite frankly. So, Iron Mountain hasn’t been exposed to that as much. When you see the analyst talking about the pricing compression, it's more on the hyper scale. Now, what does that mean for us is we do have an appetite to be present in the hyper scale market and I think I've covered this before on the calls and it's more about getting to optimize in the yield on the site.

So, if you look at Northern Virginia which is 82 acres and can build out well north of 80 megawatts of critical IT load. Then if you want to fill that, the rate that you fill it is it's important in some ways as what the specific revenue per kilowatt that you're getting on that site.

So, to fill that out at a pace that we think is optimum, then we would expect that site to be somewhere at when it's fully built out between 40% to 60% hyper scale. Now, on our standpoint is our models are built on current hyper scale pricing. So, I think what you're hearing coming out of the industry is hyper scale pricing has come down and quite frankly these things typically are kind of 8% to 9% cash-on-cash returns.

They are at least approaching that level now but that's where we built our model and that's where we expect our entry point, which are still well above our weighted average cost of capital and it's still a good return. So, I think the noise coming out of the market I think is more about people who have been heavily present in that segment before and they're realizing the pricing is coming down to what I would call the normal clearing price in terms of what a reasonable return is for these very large scale projects which have very long contract duration.

[Nathan Crossett, Berenberg Capital Markets]

That's helpful, thanks. I'll get back in line.

[Operator]

Thank you. And the next question comes from Sheila McGrath with Evercore.

[Sheila McGrath, Evercore]

Yes, good morning. Your EBITDA margins in 2018 continue to improve, just wondering what your outlook for merging improvement is in 2019. Is it achievable to maintain or grow margin in North America in storage. And how is the mix shifting to datacenters driving margin improvement?

[Stuart Brown, CFO]

Yes, hi. Good morning, Sheila, this is Stuart. Just if you look at sort of the midpoint in guidance implies about a 30 basis point improvement in margin and as Bill mentioned in his prepared remarks where that's impacted also negatively by the change in lease accountings if you normalize for that it's a 50 basis points to a 100 basis point margin expansion.

And I think you're going to see similar trends in '19 to what you saw in '18 with revenue management continuing to contribute to margin expansion in the developed markets. Emerging markets, you'll see some margin expansion really due to continue in increased scale because we're not we've got pricing program in those market but we're really there focused on driving scale and continuing to increase our market presence.

And then you will get then in the datacenter business or that business grows as a percentage of the total business. You will get some uplift in margins because that business is higher average EBITDA margin than the rest of the business.

[Sheila McGrath, Evercore]

And as a follow-up, Bill you mentioned the federal vertical records growth of 4% in 2018. Just wondering how that backlog is looking in 2019 and any insights on how meaningful that opportunity might be?

[William Meaney]

No, thanks Sheila. No, I think that we expect to continue to build on that, obviously it's with the federal government the gestation period of it is longer than our say normal private enterprise customers. But we continue to see the backlog growing and I think we highlighted our homeland security win on the last call. And we start getting those what I call kind of an iconic brand is the momentum that's starting to build in the business.

And we see that, we see an acceleration in terms of the pipeline. With that being said is that the government is one fiscal budget. So, you work this year to deliver the project generally for next year. But we really like what we see in the pipeline in terms of momentum. So, I would expect that to tick up over time.

[Sheila McGrath, Evercore]

Thank you.

[Operator]

Thank you. And the next question comes from George Tong with Goldman Sachs.

[George Tong, Goldman Sachs]

Hi thanks, good morning. You are now several years into your revenue management initiative. Can you provide us with an update on the roll out of revenue management across your geographies and the amount of pricing benefit you expect through 2020?

[Stuart Brown, CFO]

Yes, good morning George. So, first of all in terms of the program is that it's pretty much completely rolled out obviously in North America and now Western Europe. We start rolling it out this year or past last year in 2018 with four centers across the broader international market out beyond Western Europe. So, we expect to see some real traction in those markets whereas Western Europe will be fully online this year, last year was partially online, obviously North America will continue online.

So, what we expect is similar levels of price increase in North America. In Europe as we while in North America is we got this past year, we expect an uptick on coming out of Europe and also the emerging markets, and so the international markets this year. So, we feel pretty good in terms of the momentum that we're getting on that. So, I think you can expect that we'll have further strength from price in revenue management coming in to 2019 and we built that into our guidance.

[George Tong, Goldman Sachs]

Got it, that's helpful. And on margins, we essentially achieved all your targeted transformation savings and recall cost synergies to the end of 2018. Can you remind us of your 2020 EBITDA margin target taking into account the lease accounting changes and discuss some of the initiatives you have to bridge from your current margins to 2020 margins?

[Stuart Brown, CFO]

Yes, I mean if we normalize for the impact of the lease accounting and even if we go back which to normalize actually for the rev rec accounting that we had that helped us in 2018, while we've been achieving margin expansion of 50 basis points to a 100 basis points a year. Looking forward, right investment benefit also by the obviously the flow through of rev rec as well as synergies, we continue to have cost improvement programs in place that you will continue to see benefit from going forward.

So, we expect to see sort of similar levels of margin expansion going forward. But in addition, we've historically been investing $20 million to $30 million a year in our new business growth and new business initiatives and starting to see some green shoots come out of those businesses. And as you look forward, we expect to see some margin expansion that coming out of those business as well.

So, I think as you look forward, feel quite comfortable with sort of continuing a similar track of a margin expansion.

[George Tong, Goldman Sachs]

Got it, thank you.

[Operator]

Thank you. And then the next question comes from Andy Wittmann with Robert W. Baird & Company.

[Andrew Wittmann]

Yes, great. I guess my question kind of builds on the last question here. Just want to understand some of the moving parts of -- I know the long-term guidance to 2020 that you gave. As talked to obviously multi -- your look is going to have lots of puts and takes as things change over the years. But maybe just to start out level side us.

Stuart, can you talk about can you quantify the FX headwind that the target is seeing to revenue and EBITDA, so we could kind of really look on it as on the 2019 currency rates. And I mean it looks like you need to find something like I don’t know exactly what the FX it is but double-digit EPS growth or EBITDA growth into next year in margin increases '20 over '19 of a 200 basis points or so.

So, can you just talk about some on the puts and takes in a little bit more detail and achieving that 2020 guidance and how you feel about the key matrix of revenue and EBITDA specifically?

[Stuart Brown, CFO]

Yes. I'm glad you asked the question. Again, and today we're really focused on the 2019 guidance. So, we didn’t want to sort of confuse that with sort of putting out 2020 numbers. So, let me walk you through the puts and takes to how to get there. And to answer your first question on the currency, if you go back to my script, we talked about in 2019, FX headwinds by itself on revenue were $60 million to $70 million on an EBITDA or $20 million to $25 million.

And --.

[Andrew Wittmann]

Can you give that cumulative business beginning now just so we can kind of compare more easily, do you have that handy for each one?

[Stuart Brown, CFO]

I don’t have that handy. Again, the exchange rates prior to sort of the recent changes haven’t been that significant, so we go back to what our 2020 plan has been. This is now really the biggest impact. And yes, remember the 2020 plan was built on currency rates at a certain period of time. So, you should, we should always be normalizing for FX when it goes up or down.

[Andrew Wittmann]

Right.

[Stuart Brown, CFO]

So, but if you look forward and relative to our last 2020 plan, right, you can see that we've delivered right on track for 2018 to get to the 2020 plan adjusted for FX from 2018 reported results, EBITDA would need to grow about 15% or $200 million to get to the range of the 2020 numbers. So, when you think about you got about 4% organic EBITDA growth per year, so that adds in and of itself run a $120 million, continue to expect in our long-term plan, continue to expect a 150, actually a $150 million plus of M&A per year.

So, that $300 million total M&A, that would add about another $50 million of EBITDA and anything about the comments I just made around, we've been investing in new businesses and services about $30 million per year. So, those should start to deliver EBITDA growth as well combined with savings from continuous improvement can get you back into that range for what our longer term models were.

We will, at some point be issuing sort of new long-term growth targets in the future. We're looking at sort of when the best time is to do that now.

[William Meaney]

And the only thing I would just add Andy on this is that from a FX standpoint is that in our view as we take FX right and the good news is we don’t have a margin exposure on that. So, whether it gives us a tailwind which it did a couple of years ago and now it's giving us headwinds is what your where our shareholders are paying for us to do is to manage the business through those tailwinds and headwinds.

So, we're really focused on line-of-sight to the operational plan that we have to do to deliver that original 2020 guidance and we're well on track with that. And we think the looking at some of the R&D pipeline that Stuart relayed, mentioned the $30 million that we're spending roughly a year on that that includes things like Iron Cloud and InSight which we effectively have seen very little benefit to date on.

So, we feel pretty good in terms of where we stand versus our original outline.

[Andrew Wittmann]

Great, that's helpful. And then, just kind of a cleanup question here. On the AFFO for the year you guys came in and better how you mentioned. I think it's just some taxes but the thing you control most here is the CapEx side. Is that a delay of some plan to CapEx and that we're going to see in the future or have you been able to manage the business so that the CapEx is altogether and needed?

[Stuart Brown, CFO]

Let me just give you a quick example of one of the big drivers of CapEx improvement. I can't remember if I talked with this on the last call or not. But if you look at that what we spend annually on our fleets for example, a few years ago our operation seemed to do a great job putting in place new management tools for our drivers to improve fuel utilization; reduce wear and tear on the trucks.

As we've gone back now and reevaluated the impact to that, we've realized that the quality of our trucks and the time that they can stay on the road is increased. So, we've been able to actually reduce the rate at which we replace trucks annually and goes around $15 million or $20 million of capital saving in and of itself this year.

[Andrew Wittmann]

I understand, thank you.

[Operator]

Thank you. And the next question comes from Andrew Steinerman with J.P.M.

[Unidentified Analyst]

Hi, good morning. This is Michael Cho for Andrew. My first question, just a quick clarification. Should we still assume the previously stated 2020 plans has not changed, that's right. I know you mentioned new long-term growth targets are coming but you're referring to something past 2020, right?

[Stuart Brown, CFO]

Yes, we will. I mean again, we want to keep those long-term targets out there and if you look at there what we've been talked about in the past in terms of growth rates of a dividend, how do we support that with AFFO and EBITDA, those general trends all remain on track. And we think our current business plan support those.

And the only thing that we'd say, the only thing you need to make sure that you're doing is when you're looking at 2020 is first of all is to make sure that you're looking at the FX impact to that and adjusting those targets for that. We're not issuing 2020 guidance today.

[William Meaney]

But I make you a point is that the walk that Stuart just took Andy through. Since that we're still on the 2020 number correcting for the 5% at the end of 2020. So, what we expect that the momentum will continue to build in the business. So, exiting '20 we're sitting here at a little over 4% organic EBITDA growth as we sit here today which we think is really great progress because we started as you can find the story as we started less than 2% four or five years ago.

So, we've got that up to a little bit north of 4% on an organic basis and we have lined aside in on track to exit 2020 at 5% organic EBITDA growth.

[Stuart Brown, CFO]

I had one other point as well, just that people don’t think we sort of walking back as on our leverage target as well, right, the original multi-year plan we've got in there either five times lease adjusted EBITDA if we issue the full 80m or 5.2 times target for the end of 2020 and that remains our target as well on our business plan.

[Unidentified Analyst]

Great, thank you. That's helpful. And just one quick on the datacenter side. You mentioned now that book digits organic revenue growth outlook for 2019. Can you give a quick comment on EBITDA contribution as well?

[William Meaney]

Go on, I'm sorry.

[Unidentified Analyst]

EBITDA, on datacenter.

[Stuart Brown, CFO]

Yes. So, I mean the EBITDA on the datacenter, we're sitting right now with the at the mid-40% range on the EBITDA margin. As that scale continues to grow, EBITDA numbers still sort of putting the infrastructure together from an integration standpoint. And also still incurring integration cost, we had a little over $2 million of integration cost in 2018.

So, we're well in track to sort of getting back to the mid-50 margin and a 10% of total EBITDA by the end of 2020.

[Unidentified Analyst]

Understood, thank you.

[Operator]

Thank you. And the next question comes from MaryAnn Bartels from Merrill Lynch.

[MaryAnn Bartels, Merrill Lynch]

Hi, thank you for taking my questions. Most of my questions have been answered but I just wanted a clarification. So, on the leverage target, you said you would get down about 20 basis points the 5.2 time. So, I'm sorry can you clarify why that's not the five plus five times?

[Stuart Brown, CFO]

So, the 10 basis point to 20 basis points to expansion is or improvement is in 2019 rowed up to the 5.6 at the end of 2019. So, we'll get down to 5.0 -- 5.4 at the end of 2019 and then another improvement in 2020.

[William Meaney]

And I think to your point about the difference between the 5.2 and the 5.0, it's whether we run the ATM. So, as you know we have a $500 million ATM which we've draw down a little over a 60 million off. So, and we haven’t run that for over a year now. If we ran that, that would reduce the leverage by 0.2, if we don’t run the ATM, then instead of 5.0 it would be 5.2; would be the endpoint for 2020.

[MaryAnn Bartels, Merrill Lynch]

Got it. And is there a longer term target that you think is ideal for the business but how are we to, so?

[Stuart Brown, CFO]

I think what we've always said is that to us it's not about our ability to run the business or finance the business. And you could see that when we issue debt it's usually at the upper end of investment grade as it stands today. It's more where our covenants cut in. so, our covenants are at 6.5 and we think that ideally we would like 1.5 to 2.0 turns of daylight between wherever our covenants are and where our leverage is.

Because it just gives us much more flexibility, whether it's looking at our own stock from time to time or if it's looking at opportunistic acquisitions, we just think that 1.5 to 2.0 turns between your covenants and where your debt levels are as ideal. So, we're not in a rush, that's why we our view is the right balance again from capital allocation as we continue to invest in growth in the business.

We continue to grow the dividend and that still leaves us enough leftover that we can slowly tick down leverage to the targets that we set for ourselves. And over time that will continue to go down.

[MaryAnn Bartels, Merrill Lynch]

Great. And then just lastly, in terms of how high you would go for the right datacenter or acquisition or any thoughts on that?

[Stuart Brown, CFO]

Well, it's really hard to talk about hypotheticals. We because look at we really like our plan. Obviously the area where the biggest demand for CapEx, don’t forget we have a 150 million of M&A built into the plan annually and another 250 million plus built in terms of expanding datacenters. So, it's not like we're constraining the business for capital.

So, you put those two together, we got over $400 million that we're ploughing into growth and M&A for the business each year. So, and then if you said that we -- just in datacenter being the one that is probably the most obvious, is we with what we have in terms of Greenfield and sites that we've already started developing is we can take that to over to almost 350 megawatts.

So, we got plenty of daylight in our plans, so it's really hard to respond to a hypothetical at this point.

[MaryAnn Bartels, Merrill Lynch]

Great. Well, thank you for taking my question.

[Stuart Brown, CFO]

Thank you.

[Operator]

Thank you. And the next question comes from Karin Ford with MUFG Securities.

[Karin Ford, MUFG Securities]

Well hi, good morning. I wanted to see if can get a little bit more detail on the assumptions underlying the 1.75% to 2.5% organic storage revenue growth forecast. I think you said in your comments that you think volumes to be flat. Does the low-end of the range accommodate volume declines at all and what do you think is going to be the primary driver of the acceleration from the 1.9 you printed in the fourth quarter to 2.1% at the midpoint?

[Stuart Brown, CFO]

No. Good morning, Karin, this is Stuart. I think if you look at sort of the trends that we had overall, you get some variability from quarter-to-quarter and you got to remember our volume numbers is our trailing four quarters. So, when you get around to the end of the year, you're looking at total volume changes by market is what we put in the supplemental and you also then can come back into sort of implied price.

If you look at sort of the buildup in the number and you look at developed markets and emerging markets both volume and pricing, actually don’t expect to see that much difference in trends in 2019 from 2018. So, we've talked about revenue management and our ups continue to upside in that program. And if you think about sort of what those are, it's not really pricing consistent with inflations, so we're not out there doing anything too crazy on that front.

You will get some tick down from organic revenue growth in the data management business; we talked about that as well. And then, that will be offset by continued growth in the datacenter in the adjacent businesses where you're getting storage and service growth on both of those. Albeit in 2019, the data center cooler base or organic base will grow as the acquisition sort of move in to as we lap over the acquisition dates.

So, I think very comfortable with the growth rates that we've put out there.

[Karin Ford, MUFG Securities]

Thanks. Second question is where are EBITDA multiples on business acquisitions today and where are cap rates on real-estate acquisitions today?

[Stuart Brown, CFO]

We haven’t really done a lot of real-estate acquisitions today in that sense. I mean, the real-estate purchases that we've done are really opportunistic and it's more we've done some -- we will do some real-estate acquisitions in 2019 where we've got a couple of purchase options. Actually in California in a couple of record center that are well below market and that's in our plan will fund that with capital recycling from selling some other real-estate which is also in our plan.

So, we'll continue to recycle capital opportunistically. If you look at sort of where multiples are creating in the business from a multiple of revenue basis and again we try to look at it actually including integration cost and things like that and we're still sitting sort of 3% to 3.5% shred, actually quite a bit little bit cheaper than that. And as a multiple of EBITDA six to seven times EBITDA and that's pre-synergies.

So, our synergies will add another turn or so improvement on to those numbers.

[Karin Ford, MUFG Securities]

On the capital recycling front, what's the spread do you think between dispositions and acquisitions this year?

[Stuart Brown, CFO]

As we talked about in the past sort of in the -- the spreads are -- you'll see the gains, we saw the gains actually that we recorded in the P&L in the fourth quarter from some real-estate sales. And we'll you'll see some nice numbers next year as well. I mean, cap rates on industrial real-estate and we did some evaluation work with the east still last year.

You look at the real-estate portfolio that we own in just North America is for the excluding racking before racking is about $2.5 billion and that's on a six cap rate. I'd argue cap rates are actually probably below that given the markets that we're in. and we would primarily end-markets like Boston, New Jersey, California, Chicago, Dallas, we really try to own in the primary markets.

And you'll actually see a selling, actually the real-estate we're going to sell or recycle is going to be more the secondary and tertiary markets.

[Karin Ford, MUFG Securities]

Great. And then, just last question just a technical one on Page 7 of the slides. You show that the growth portfolio moves from about 19% of the revenue mix to 25% from the third quarter and fourth quarter. Was it just a reclassification or why that number moves so much?

[Stuart Brown, CFO]

That's more of a pro-forma just because we're lapping the IO EvoSwitch in Credit Suisse datacenter acquisitions. So, we were quite busy in 2018 and if you actually once those are all lapped, we're sitting at a 75/25 mix today.

[Karin Ford, MUFG Securities]

Great, thank you.

[Operator]

Thank you. [Operator Instructions] And the next question is a follow-up from Nate Crossett with Berenberg.

[Nathan Crossett, Berenberg Capital Markets]

Hi. I just wanted to ask about investment grade potential. I'm just curious to hear about any in our recent conversations with the rating agencies and how they are viewing the data center build out. And the reason I asked is because DLR has similar leverage levels and they have investment grades.

So, --.

[Stuart Brown, CFO]

You just say that to make me jealous, don’t you Nate?

[Nathan Crossett, Berenberg Capital Markets]

No. just give me a sense -- I feel like, good.

[Stuart Brown, CFO]

No, it's I can look at a number of my peers across the REIT sector they have similar leverage levels and in better ratings that we do. We've been having ongoing discussions with both S&P and Moody's in a very healthy way, as our business had shifted from historically business services we became a REIT. We're continuing grow the datacenter business.

I think Moody's actually has put out a report and published that we've moved over to their REIT team and so I think we're making good progress, we're having great dialogue with them. And I think they over time will give us more credit for the REIT like durability of the cash flow that comes out of the business.

[William Meaney]

And the only thing I would just add to that to Nate is that we've done like totally -- we're both focused that we would love to be treated like digital. The other part for us is we still want to de-lever because of this free space that we have where our covenants, our covenants are set at 6.5 why that's historical but that is what it is.

One thing I would say is we're already getting kind of upper end of investment grade pricing when we go out and issue debt. So, we're already getting the benefit, it's just that rating agency is just all rated that way. So, you actually see our debt get priced is we're not far off but it would be nice to have the rating as well.

[Stuart Brown, CFO]

Yes. Our debt investors give us credit for the strength in the balance sheet and cash flow.

[Nathan Crossett, Berenberg Capital Markets]

That's helpful, thanks.

[Operator]

Thank you. And the next question also is a follow-up from Sheila McGrath with Evercore.

[Sheila McGrath, Evercore]

Yes, I was wondering given your storage locations in North America are close to many major metropolitan areas and you have the trucking and logistics expertise. I'm wondering if there is a way to capture some additional demand for your storage base from last mile demand or is that what flex the industrial company that you've referenced before, is that kind of a last mile offering?

[William Meaney]

That's a great question, Sheila. So, it's kind of I would say three things that and I kind of highlighted it and will try to incorporate that so the people can see the total volume that we're storing rather than just purely the records information; the 690 million cubic feet of records that we are storing, doesn't include these things that we're already doing like under the flex program which is exactly which has similar margins by the way or revenue per square foot as our core business.

We also have a similar type of operation in Amsterdam where we're doing both last mile customs and delivery for a number of the large global e-commerce platform just well as local post European postal offices. And the third area which I also alluded to is and we've talked about a few times is that we continue to like certain aspects of the Wallet consumer storage which is a logistics heavy portion of the consumer storage market.

So, we think those three areas are areas that will continue to add volume to our network. And we our intention is to be able to incorporate that in the number, so you see it because right now it's hard to actually see the level of impact.

[Stuart Brown, CFO]

The thing I'll just add on quickly to, and when you think about how do we leverage our real-estate and locations, our logistics know how our asset tracking. And you can really see it in our Art business as well and entertainment services where we're doing a lot of specialized transport packing tracking of unique items and a number of the major auction houses have outsourced their back office to us for us to handle that for them.

So, how do we keep expanding that and growing that, we think that's an interesting area.

[Sheila McGrath, Evercore]

Great. And if you could quickly comment on the pre-leased development pipeline and datacenters moved up especially in New Jersey, just comment on the leasing activity there?

[Stuart Brown, CFO]

Yes. Now, let me again, we had a strong fourth quarter leasing activity. We're a little over a 20% pre-leased in the development pipeline. And as Bill mentioned, we had a large global bank take additional space at that location and we continue to see good leasing pipeline in almost all of our markets.

[Sheila McGrath, Evercore]

Thank you.

[Operator]

Thank you. And the next question comes from Yugo Weiwei [ph] with JP Morgan.

[Unidentified Analyst]

Thank you. Good morning. I had a follow-up question on that investment rate question that was just asked. As on the financial policy perspective, do you want to be investment grade or are you working towards becoming an investment creative company?

[William Leo Meaney, President & CEO]

What I would tell you is that unfortunately I don't control the ratings. The rating agencies do. I mean we want to operate the business a heading in a direction that we think is prudent for us to be able to continue to grow and run the business. But I wouldn't say that there's something that we're aspire to. We want to keep those types of metrics, but it'll be up to the rating agency to figure out what they do.

[Unidentified Analyst]

So from the company's perspective respective of what the rating agency says you're sort of not managing the balance sheet to become of investment grade. You want to remain in high yield.

[William Leo Meaney, President & CEO]

I think yes, I would say we want to manage our balance sheet consistent with they being able to fund a business and not that different than other REITs and if you look at their balance sheet structure I think we're pretty close to that today.

[Unidentified Analyst]

And then sort of the lease versus owned mix, are the agencies I think in the past have had an issue with that as a way to compare to other REITs lease versus owned is that still an issue from their perspective or have they moved on?

[William Leo Meaney, President & CEO]

I would say first of all, let me refer you back I think it was the May REIT presentation that's on our website from last fall where we disclosed some of the valuation of our real estate in a little bit more detail. We've done that a couple of times and obviously we shared that with the rating agencies as well and so there's some detail in there. The important point here is that you have to look at it on a percentage of value versus a percentage of square feet.

So while it looks like we own 30% of our overall square feet if you look at it from a valuation perspective the markets that we own or the markets you want to be in and control real estate so from a valuation perspective we're over 50%.

[Unidentified Analyst]

And are the agencies come around to that way of thinking you think?

[William Leo Meaney, President & CEO]

I think the Moody's changing the ratings team is maybe a sign of that.

[Unidentified Analyst]

Great, thank you very much. That's all I had.

[William Leo Meaney, President & CEO]

Great, thank you.

[Operator]

Thank you. This concludes our question-and-answer session and today's conference call. The digital replay of the conference call will be available approximately one hour after the conclusion of this call.

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