Public Storage
Annual Report 2008

Plain-text annual report

PUBLIC STORAGE 2 0 0 8 A N N U A L R E P O R T WA 91 WA 91 OR 39 OR 38 CO 60 CO 60 NV 24 NV 22 UT 7 UT 7 AZ 37 AZ 37 CA 374 CA 368 HI 8 HI 7 MN 44 MN 44 WI 16 WI 16 IL 123 IL 123 MS 1 MS 1 MI 43 MI 43 IN 31 IN 31 TN 27 TN 33 AL 22 AL 22 OH 30 OH 30 KY 7 KY 7 GA 92 GA 90 MO 38 MO 38 LA 9 LA 9 NE 1 NE 1 KS 22 KS 22 OK 8 OK 8 TX 236 TX 235 PA 28 PA 28 VA 78 VA 78 NC 69 NC 69 SC 40 SC 40 FL 191 FL 191 NH 2 NH 2 NY 62 NY 61 MA RI MA CT RI CT NJ NJ DE MD DE MD 19 2 19 14 2 14 56 5 56 5 56 55 SWEDEN 27 DENMARK 10 UNITED KINGDOM 20 NETHERLANDS 37 BELGIUM 21 GERMANY 11 FRANCE 55 P RO PE RT I E S (as of December 31, 2008) Location Number of Properties(1) Net Rentable Square Feet Location Number of Properties(1) Net Rentable Square Feet UNITED STATES Alabama Arizona California Colorado Connecticut Delaware Florida Georgia Hawaii Illinois Indiana Kansas Kentucky Louisiana Maryland Massachusetts Michigan Minnesota Mississippi Missouri Nebraska Nevada New Hampshire New Jersey New York North Carolina 22 37 374 60 14 5 191 92 8 123 31 22 7 9 56 19 43 44 1 38 1 24 2 56 62 69 890,000 2,259,000 24,129,000 3,810,000 869,000 306,000 12,511,000 5,964,000 555,000 7,800,000 1,926,000 1,310,000 330,000 608,000 3,290,000 1,179,000 2,755,000 2,990,000 63,000 2,144,000 46,000 1,561,000 132,000 3,524,000 3,997,000 4,775,000 UNITED STATES (cont.) Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina Tennessee Texas Utah Virginia Washington Wisconsin 30 8 39 28 2 40 27 236 7 78 91 16 1,860,000 428,000 2,006,000 1,867,000 64,000 2,155,000 1,528,000 15,493,000 440,000 4,453,000 6,028,000 1,030,000 Totals 2,012 127,075,000 EUROPE Belgium Denmark France Germany Netherlands Sweden United Kingdom Totals Grand Totals 21 10 55 11 37 27 20 181 2,193 1,254,000 502,000 2,901,000 552,000 1,977,000 1,437,000 970,000 9,593,000 136,668,000 (1) Storage and properties combining self-storage and commercial space. SELECTED FINANCIAL HIGHLIGHTS Revenues: Rental income and ancillary operations Interest and other income Total revenues Expenses: Cost of operations Depreciation and amortization General and administrative Interest expense For the year ended December 31, 2008 (1) 2007 (1) 2006 (1) 2005 2004 (Amounts in thousands, except per share data) $ 1,709,452 $ 1,803,082 $ 1,347,267 $ 1,041,528 $ 950,600 5,391 955,991 11,417 1,814,499 31,799 1,379,066 16,447 1,057,975 36,155 1,745,607 580,577 414,188 62,809 43,944 1,101,518 657,743 622,400 59,749 63,671 1,403,563 496,257 437,555 84,661 33,062 1,051,535 376,526 195,824 21,115 8,216 601,681 360,256 182,663 18,813 760 562,492 Income from continuing operations before equity in earnings of real estate entities, gain on disposition of an interest in Shurgard Europe, gain (loss) on disposition of real estate investments and casualty gain or loss, foreign currency exchange (loss) gain and minority interest in income Equity in earnings of real estate entities Gain of disposition of an interest in Shurgard Europe Gain (loss) on disposition of real estate investments and casualty gain or loss, net Foreign currency exchange (loss) gain Minority interest in income Income from continuing operations Discontinued operations and cumulative effect of change in accounting principle Net income Per Common Share: Distributions: Regular Special Net income - basic Net income - diluted Weighted average common shares - basic Weighted average common shares - diluted $ $ $ $ $ 644,089 20,391 344,685 (8,665) (25,362) (38,696) 936,442 (1,266) 935,176 $ 410,936 12,738 327,531 11,895 456,294 24,883 393,499 22,564 — — — — 5,212 58,444 (29,543) 457,787 2,177 4,262 (31,883) 313,982 1,182 — (32,651) 449,708 67 — (49,913) 366,217 (252) (4) 457,535 $ 314,026 $ 456,393 $ 366,213 6,685 44 2.20 $ .60 $ 4.21 $ 4.19 $ 2.00 $ — $ 1.18 $ 1.17 $ 2.00 $ — $ 0.33 $ 0.33 $ 1.90 $ — $ 1.98 $ 1.97 $ 168,250 168,883 169,342 170,147 142,760 143,715 128,159 128,819 1.80 — 1.39 1.38 127,836 128,681 Balance Sheet Data: Total assets Total debt Minority interest Shareholders’ equity $ 9,936,045 $ 10,643,102 $11,198,473 $ 5,552,486 $ 5,204,790 643,811 $ 1,069,928 $ 1,848,542 $ 149,647 $ 145,614 $ $ 506,688 $ 506,030 $ 253,970 $ 428,903 364,417 $ $ 8,715,464 $ 8,763,129 $ 8,208,045 $ 4,817,009 $ 4,429,967 Cash Flow Information: Net cash provided by operating activities Net cash provided by (used in) investing activities Net cash used in financing activities $ 1,059,225 $ 1,027,605 $ 753,140 $ 673,150 $ 593,743 340,013 $ (261,876) $ (473,630) $ (452,425) $ (156,066) $ $ (966,360) $ (1,061,457) $ (228,095) $ (102,969) $ (276,255) (1) The significant increase in our revenues, cost of operations, depreciation and amortization, and interest expense in 2006 and 2007, and the significant increase in total assets, total debt and shareholders’ equity in 2006, is due to our acquisition of Shurgard Storage Centers in August 2006. The significant decrease in our revenues, cost of operations, depreciation and amortization, and interest expense in 2008, and the significant decrease in total assets, total debt and shareholders’ equity in 2008, is due to our disposition of an interest in, and deconsolidation of, Shurgard Europe on March 31, 2008. See Note 3 to our December 31, 2008 consolidated financial statements for further information. TO OUR SHAREHOLDERS D espite the challenging economic conditions and the tremendous dislocations in the financial markets, our company continued to grow in 2008. Net income per share increased from $1.17 to $4.19 and funds from operations (FFO)(1) per share increased from $4.97 to $5.07. Most important, our intrinsic (2) or franchise value per share continued to improve. We measure our progress per share, since changes in absolute size mean little unless translated into additional value per share. Our growth this year was achieved even though we reduced our financial leverage. As important, we are well positioned going into 2009 to take advantage of opportunities resulting from the turbulent credit markets and to withstand the challenges they present. Below I will expand on each of these points in greater detail, but in summary: • Our U.S. self-storage operations grew revenues and net operating income (NOI) by 4% and 5%, respectively. Same Store revenue and NOI growth was about 3%. These growth rates are down from prior years and will be lower in 2009. • Our European self-storage operations grew revenues and NOI by 9% and 15%, respectively. Same Store revenues and NOI increased by 2% and 6%, respectively, down substantially from last year’s growth of 9% for revenues and 21% for NOI. Europe’s growth has declined much faster than the U.S. and will be lower in 2009. • Our U.S. commercial property operations grew revenues and NOI by just over 2%. This is about the same as last year and we expect they will be lower in 2009. Businesses In last year’s report I described each of our businesses. Nothing much changed in 2008 other than the sale of an equity interest in Shurgard Europe to the New York Common Retirement Fund (NYCRF). The details of this transaction are in the notes to the financial statements, but I will summarize here. We sold 51% of Shurgard Europe for $600 million, resulting in a large “book gain” of about $350 million. Post transaction, Public Storage and NYCRF jointly oversee the business and participate in major decisions, just like a board of directors, but the local management team continues to run the day-to-day operations. There are no preferred returns or incentive fees to either of us. Both Public Storage and NYCRF own equity interests with the same economic characteristics. We do receive a “licensing fee” of 1% of all revenues for use of the Shurgard name and interest of 7.5% per year on our 400 million euro loan. We are essentially partners. Our long-term goal is to take Shurgard Europe public and maintain our equity interest. Just as PS Business Parks constitutes our investment in U.S. office and industrial properties, Shurgard Europe is our investment in European self-storage. Our loan is not a long-term investment, has a maturity date of March 2010 and is denominated in euros. We reflect changes in the exchange rate between euros and dollars in our income statement for the loan. Summary of Financial Results In 2008, total revenues were essentially flat at $1.75 billion and net income increased to $708 million. Both were impacted by the sale of an interest in Shurgard Europe. In addition, we incurred a foreign currency loss of $25 million on our loan to Shurgard Europe compared to a $58 million currency gain in 2007. (1) See accompanying schedule “Computation of Funds from Operations” for a definition. (2) See Public Storage, Inc. 2006 Annual Report letter to shareholders for a discussion of “intrinsic value.” Our funds from operations per share increased from $4.97 in 2007 to $5.07 in 2008. Excluding items associated with foreign currency gain, Shurgard integration costs and other non-cash charges, the per share amounts increased by 10% from $4.73 in 2007 to $5.18 in 2008. These comparisons are reflected in the table below. Funds From Operations (FFO) FFO per common share prior to adjustments for the following items Foreign currency exchange gain (loss) Shurgard acquisition integration costs Cost associated with the sale of Shurgard Europe Termination of contract and development projects EITF Topic D-42 gains/(charges) Other Year ended December 31, 2008 2007 $ 5.18 (0.15) — (0.17) (0.02) 0.21 0.02 $ 4.73 0.34 (0.03) — (0.01) — (0.06) FFO per common share, as reported $ 5.07 $ 4.97 Operating earnings were $1.2 billion for 2008 about the same as 2007 due to the sale of 51% of Shurgard Europe, and are broken down as follows. Operating Earnings(1) Amounts in millions U.S. self-storage operations European self-storage operations (2) Commercial properties (3) Ancillary operations Operating earnings 2008 $1,031 62 69 59 $1,221 2007 $ 980 102 63 55 $1,200 (1) Operating earnings exclude the impact of other items which reduced net income approximately $286 million and $743 million in 2008 and 2007, respectively, in reconciling from operating earnings to our net income. Such items are comprised of interest income, depreciation and amortization expense, general and administrative expense, interest expense, equity in earnings of real estate entities (except for our pro rata share of PS Business Parks’ and Shurgard Europe’s pre-depreciation net income, which is included in operating earnings), casualty gains and losses, gains on disposition, foreign currency gains and losses, minority interest in income, cumulative effect adjustments and discontinued operations. (2) Reflects pro rata share of Shurgard Europe’s operations; a 51% interest was sold in March 2008. (3) Reflects pro rata share of PS Business Parks and wholly owned Public Storage commercial properties. Self-Storage Operations When evaluating our store operations, we bifurcate our domestic properties into two groups—“Same Store” and other. The Same Store operations consist of those properties operated by the Company for the last three years that have achieved a stabilized occupancy level. Properties that are either under redevelopment, recently acquired or developed are in “other properties.” We consider the measurement of Same Store operations as a key barometer of both the fundamental strength of our business and the efficacy of our personnel and operating strategies. We use certain metrics to evaluate our performance, the most important being revenue per available square feet, or “REVPAF,” and gross profit margin. REVPAF measures how much revenue is generated per foot we have to lease. We manage growth in REVPAF, balancing increased pricing with higher customer volumes (occupancy). Also impacting REVPAF are product quality, customer sales and service and local competition. Gross profit margin reflects how capable we are at generating more revenue while controlling expenses. Both REVPAF and gross profit margin increased across all portfolios last year, resulting in higher net operating income. U.S. Same Store Europe Same Store (1) Other properties–U.S. U.S. Same Store Europe Same Store (1) Other properties–U.S. U.S. Same Store Europe Same Store (1) Other properties–U.S. Amounts in millions U.S. Same Store Europe Same Store (1) Other properties–U.S. REVPAF (Per sq. ft.) Weighted Average Occupancy Gross Profit Margin Net Operating Income (Before depreciation) 2008 $11.72 $25.34 $11.31 2008 89.5% 86.5% 84.4% 2008 67.9% 61.9% 65.4% 2008 $909 $ 84 $122 2007 $11.45 $24.95 $10.83 2007 89.5% 89.8% 80.0% 2007 67.4% 59.7% 61.9% 2007 $880 $ 80 $101 (1) Amounts with respect to Europe are on a constant exchange rate basis using the 2008 exchange ratios. The 2008 Europe data represents historical data; a 51% interest was sold in March 2008. Overall, the domestic portfolio performed reasonably well in 2008, as we achieved higher REVPAF through rental rates, offset in part by higher promotional discounting. Same Store expenses were modestly higher at 1% as higher property taxes and property payroll expenses were offset by lower media advertising costs. The acquired Shurgard properties continued to benefit from our pricing and promotional strategies; however, we do not expect any further merger benefits in 2009. Our recently acquired, developed and redeveloped properties continue to lease up, generating higher revenues. In Europe, our operating team continued to implement best practices, improving operating efficiency and operating margins. Similar to the U.S., year-end occupancies and “asking” rents were below prior year. This sets the stage for a very challenging 2009. Commercial Properties Our investment in commercial properties consists of our 46% equity interest in PS Business Parks (PSB) and our wholly owned properties, which are generally contiguous to our self-storage properties. We own one million square feet directly and another nine million square feet indirectly through our investment in PSB. The Same Store performance metrics used for self-storage are applicable to commercial properties. Operating performance for the commercial properties was solid in 2008. Fortunately, we haven’t grown the portfolio much the past two years due to the underwriting discipline of Joe Russell, PSB’s CEO. REVPAF / Gross Profit Margin / Occupancy(1) REVPAF Gross profit margin Weighted average occupancy (1) Reflects pro rata share of PS Business Parks and wholly owned Public Storage properties. Commercial Property Net Operating Income Amounts in millions PS Business Parks(1) Public Storage Net operating income before depreciation Maintenance capital expenditures(2) Operating cash flow 2008 2007 $13.82 68.8% 92.4% $13.47 68.1% 93.3% 2008 $60 9 69 (15) $54 2007 $ 54 9 63 (17) $ 46 (1) Reflects Public Storage’s pro rata share of PS Business Parks’ funds from operations. (2) Reflects Public Storage’s pro rata share of PS Business Parks’ recurring capital improvements, tenant improvements and lease commissions. We expect a challenging commercial property market in 2009 as a result of lower “asking” rents, increased concessions and more customer failures. We have the management team to deal with these challanges and to improve our competitive position. Summary of Operating Results Overall, our operating results were satisfying in 2008 across all portfolios. We continued to refine our marketing, pricing and operating strategies, as well as our personnel. As with most good companies, we continually try to “raise the bar,” so there are always opportunities. We have a solid operating management team, but I think we can improve over the course of 2009. Despite the challenging economic environment, we are stepping up our investment in technology, operating systems and people in 2009. We hope to expand upon our competitive advantages while some of our competitors are struggling. Capital Markets In prior letters I have explained our rationale for “leveraging” our company with perpetual preferred stock instead of debt. I have also explained its principal attributes: a permanent fixed rate structure, we can call it after five years without penalty and no financial covenants. Like debt, preferred stock has a fixed return, but no recourse against the Company’s assets and no maturity date. Accordingly, for purchasers of preferred stock it is riskier than debt and they demand a higher return (coupon rate) than if they purchased debt. Let’s assess the wisdom of this financial strategy in the context of the dramatic changes in the global capital markets this year. To understand the turbulent change in the cost of capital, it is important to put things in context. In the first quarter of 2007, by any measure, the real estate industry reached a zenith. Our Company’s stock traded above $110 per share, while the newspapers headlined Blackstone Group’s $30 billion acquisition of Equity Office Properties (the largest REIT in America at the time) at record high prices with Blackstone’s concurrent re-sale of some properties at even higher prices. Real estate in the public and private markets was “selling” at sub 4% yields, while ten-year U.S. Treasuries were yielding about 5%. What was happening in the housing market—buy today, finance 100% with easy terms and low rates, sell tomorrow at a profit—was happening in the commercial real estate market. Commercial mortgage debt could be issued at 40 to 50 basis points over ten-year swap treasuries, historical lows. Convertible debt, a funding source not typically utilized by REITs, was issued at rates of 1%-2%. Logically, companies took advantage of the abundant supply of inexpensive capital. They in turn deployed this cheap capital into an already over-heated commercial real estate market, bidding prices ever higher with each deal. For the really aggressive, they deployed capital into property development and large “land banks,” double leveraging their investments with joint venture equity and additional leverage inside the joint venture, i.e., turbo leverage. Similar to private equity sponsors, various fees were charged to these structures, which rolled into income statements and earnings guidance, incentivizing management teams to raise even more turbo leverage. Hundreds of billions of dollars were raised in a period of just two years. Like the “dot com” bubble, investors thought that “it is different this time” and that they could always sell out to the “greater fool.” But the bubble burst. Equity investors, joint venture partners and lenders are now asking, “What was I thinking?” Similar to other bubbles that have burst, capital quickly becomes scarce and expensive. Everyone heads to the fire escape at the same time. Now there is a dearth of capital for commercial real estate, and what is available is very expensive with much more onerous terms. Secured mortgage debt, rated AAA, now trades at 15%+ yields. The convertible debt for some issuers is trading at over 20% yields. Sales transactions are down over 80% from last year. As bad as it is in the U.S., it is worse in Europe, directly impacting Shurgard Europe’s ability to grow. For those who participated, the destruction of shareholder value is immense. Some will not recover and those that survive will need years, if not decades, to restore lost value. A simple analysis highlights the problem facing many management teams of public companies (this applies to private equity investors as well). Assume Company A acquired a property in 2006 generating $100 of net income at a 6% income capitalization rate (cash flow yield) and financed 70% of the purchase with 5% interest only debt. They pay $1,667 for the property, invest cash of $500 and borrow the balance. Their cash-on-cash return on the equity is 8% which is not bad in a 5%-6% interest rate world (18 months ago). Investors, observing this financial alchemy, gladly pay 20 times earnings or $833 for the incremental cash flow, resulting in a 67% increase in the company’s equity value. Fast forward to today when the debt comes due. The property will probably only generate $90 of net income (lower due to the recession) and the income capitalization rate used for a new loan to refinance the old loan is 10%, loan to value is reduced to 60% and the interest rate is increased to 8%. Company A now needs $627 to pay down its loan in order to get it refinanced. Now the invested equity capital is $1,127 and the cash-on-cash return is 4%. This is terrible in today’s 15%-20% equity return environment. Where does the company get $627 for the loan pay down? Sell unencumbered assets at a 30%-40% discount from where they were purchased two to three years ago, borrow money on onerous rates and terms, sell common stock at distressed prices? These are exactly the issues facing many real estate management teams today and investors know that. Uncertainties regarding both the ability to obtain this $627 additional capital and the cost and terms of the capital have driven share prices down 70%-90% for some companies. We have not escaped collateral damage. We issued our last series of preferred stock in July 2007 at a 7% coupon. Today our various preferred issuances trade at 9%-11% yields. PS Business Parks' preferreds trade at 10%-12% yields. We probably can’t issue any new preferred stock today, regardless of rate. As noted earlier, when someone yells “fire,” everyone heads for the exit at the same time and our common and preferred shares have been caught up in the mad dash. Operating from a position of a “fortress balance sheet,” we are seizing this opportunity and repurchasing our preferred stock at significant discounts to issue price and, unlike repurchasing debt at a discount, without generating taxable income. We have operated for the last 16 years (since 1992) as if the capital markets might close the next day, as it did for all real estate companies during the savings and loan crisis (remember the Resolution Trust Corporation or RTC). The lessons of that period caused us to seek a different form of “leverage” than traditional debt. Our first preferred stock issuance carried a coupon of 10% and we were happy to get the money. It allowed us to pay off most of our debt and we haven’t looked back since. During the past 16 years, we paid a much higher coupon rate for the preferred stock compared with the rate we would have paid to issue short-term debt, probably an additional 2% per year. I estimate we probably paid $600-$700 million more in preferred dividends over the 16 years than if we had used traditional debt or about $4 per share. We consider this a small price to pay for peace of mind. Were the capital markets to remain closed for the next ten years, we could operate our business and pay off what debt we do have. Our financial position also has intangible benefits. We are able to hire and retain better people, focus our attention and energy on our businesses and gain market share, while enjoying an outstanding and long-standing relationship with our primary bank, Wells Fargo. There is a further silver lining to the “premium” we paid all these years. Real estate prices are coming down dramatically, and we should have abundant opportunities to deploy significant capital in a value enhancing manner. I am fairly confident that over the next couple of years we will be able to more than make up the $4 per share. Having taken the road less traveled by others, we are a better company. Leverage–Why? The long discussion of preferred stock leads to an obvious question—why does Public Storage or any company use leverage? The benefit of leverage to an owner depends upon its terms and amount relative to the owner’s equity. While some argue that high leverage adds significantly to owner returns because of the tax benefits and lower commitment of “owner capital” to fund the business, they generally overlook the “risks” associated with leverage. A dollar of operating cash flow in a company with no leverage is worth far more than the same dollar of operating earnings “trapped” inside a company with 90% leverage. In the latter, earnings have to be sufficient, year in and year out, to service the interest or preferred dividend requirement to those providing the leverage. While it is usually easy to “leverage up” and grow without additional owner equity in a benign economic environment, leverage often proves to be a “dagger in the heart” for many companies during an economic downturn. In today’s economic climate, with over 8% unemployment and virtually no access to capital except for those companies highly rated, leverage may prove fatal for many. At Public Storage, we seek to maximize the benefits of leverage and mimimize its risks by using “low risk” leverage in the form of preferred stock. We treat our preferred stock shareholders as partners in a priority position, working hard to make sure we generate more than enough operating earnings to pay their preferred returns. However, should we fail, their dividends will “accrue but not be paid” and they will appoint two Trustees to our Board. We won’t go into bankruptcy or have our properties foreclosed upon. This provides us a margin of safety in case of unforseen events. We try to immunize our company from the vagaries of the capital markets. Shurgard Europe Last year I outlined the significant growth opportunities for self-storage in Europe and how we would participate through our equity investment in Shurgard Europe. At that time, we were concluding our transaction with NYCRF and our business plan was: • Continue to drive Same Store revenue and operating income. • Continue to integrate U.S. best practices into the European operations. • Continue to grow the platform, primarily through development of new properties. • • Acquire our joint venture partner’s interest in about 80 properties. Secure a new bank credit facility to fund these activities and refinance the intercompany loan (total of about one billion dollars). We approached each aspect of our plan with great zeal; however, by August it became clear that the debt markets were changing dramatically in Europe and that we should terminate all development activity. During the balance of this year, we terminated projects and reduced staffing. In 2009, we will complete the balance of properties under development and work to either refinance or pay off the debt related to our joint venture interests. As always, we will work hard to create value from our 200-store platform. By early 2010, we plan to refinance the 400 million euro intercompany loan (market conditions permitting). Unlike the U.S., in Europe there has never been an established market for preferred stock, especially for real estate companies. Accordingly, Shurgard Europe will depend on the debt markets (just bank debt at this time, but eventually public debt) for capital. Regardless, we expect it will be conservatively structured. We expect a challenging operating environment in 2009. Like in the U.S., customers are extremely price sensitive, moving/relocation activity is much lower and customer awareness of our product is still low. Growth in Europe will occur at a much slower pace than prior years. Steven De Tollenaere and his management team have made some tough decisions over the past year in view of the changing economic climate, especially the termination of further property development. They have created significant value for Public Storage shareholders since we acquired Shurgard and they have positioned the business well for today’s environment. Executive Compensation We paid over $30 million in executive compensation in 2008–a record. This is big time money for us and so some explanation is warranted. Our goal is long-term wealth creation both for you the owners and the management team. The management team participates in the value created for owners. We are fortunate to have a Board of Trustees that has significant equity ownership, understands the business and doesn’t need a consultant to help them think. We measure changes in shareholder value by sustainable improvements in free cash flow per share and our competitive position, not short-term changes in our share price. These are generally accomplished by hiring and motivating excellent people, making wise capital allocation decisions, maintaining financial strength and constant risk management. In 2008, we achieved the final big goal of our 2006 acquisition of Shurgard, which was to monetize 51% of our interest in Shurgard Europe on price, terms and structure that realized significant value for the shareholders. It was a “home run” from the Trustees’ perspective and they awarded management commensurately. Conclusion Last year I ended my letter to you with “. . . Demand for your product is not directly dictated by the general economy but by recurring lifestyle changes . . . . ” I was wrong. While our business may well be recession-resistant, it is certainly not recession-proof. Our customers are susceptible to severe economic downturns. On average, given our geographic diversity, most “normal” economic downturns don’t severely impact our results. Generally, at any point in time, some part of the country is “slow.” Today, the entire country is slow. Like most companies, we haven’t experienced this kind of economic climate. However, as shareholders, you should probably not lose sleep. Our financial profile is designed for these kinds of economic headwinds and I think when they pass, we will have improved our competitive position. My view on the real estate industry is far more jaundiced. There are two major headwinds facing the real estate industry—poor operating fundamentals and “closed” capital markets. You couldn’t pick two bigger Achilles’ heels. Many companies are turning into what Warren Buffett would call “cigar butt” investments, i.e., they are cheap but there are only one or two puffs remaining. Many real estate companies will need to be recapitalized. In the meantime, these headwinds will continue to weigh on share prices, including ours. Ronald L. Havner, Jr. President and Chief Executive Officer February 28, 2009 CUMULATIVE TOTAL RETURN Public Storage, S&P 500 Index and NAREIT Equity Index December 31, 2003 - December 31, 2008 $300 $250 $200 $150 $100 $ 50 $ 0 Public Storage S&P 500 Index NAREIT Equity Index 12/31/03 12/31/04 12/31/05 12/31/06 12/31/07 12/31/08 12/31/03 12/31/04 12/31/05 12/31/06 12/31/07 12/31/08 Public Storage S&P 500 Index $100.00 $133.21 $166.69 $245.71 $189.67 $212.25 $100.00 $110.88 $116.33 $134.70 $142.10 $89.53 NAREIT Equity Index $100.00 $131.58 $147.59 $199.33 $168.05 $104.65 The graph set forth above compares the yearly change in the Company’s cumulative total shareholder return on its Common Stock for the five-year period ended December 31, 2008 to the cumulative total return of the Standard & Poor’s 500 Stock Index (“S&P 500 Index”) and the National Association of Real Estate Investment Trusts Equity Index (“NAREIT Equity Index”) for the same period (total shareholder return equals price appreciation plus dividends). The stock price performance graph assumes that the value of the investment in the Company’s Common Stock and each index was $100 on December 31, 2003 and that all dividends were reinvested. The stock price performance shown in the graph is not necessarily indicative of future price performance. Computation of Funds from Operations (unaudited) Funds from operations (“FFO”) is a term defined by the National Association of Real Estate Investment Trusts (“NAREIT”). FFO is a non-GAAP financial measure. FFO is generally defined as net income before depreciation with respect to real estate assets and gains and losses on real estate assets. FFO is presented because management and many analysts consider FFO to be one measure of the performance of real estate companies. In addition, we believe that FFO is helpful to investors as an additional measure of the performance of a REIT, because net income includes the impact of depreciation, which assumes that the value of real estate diminishes predictably over time, while we believe that the value of real estate fluctuates 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 is not a substitute for our cash flow or net income as a measure of our liquidity or operating performance or our ability to pay dividends. Other REITs may not compute FFO in the same manner; accordingly, FFO may not be comparable among REITs. For the year ended December 31, (Amounts in thousands, except per share amounts) 2008 2007 2006 Net income: Depreciation and amortization Depreciation and amortization included in discontinued operations Less - depreciation with respect to non-real estate assets Depreciation from unconsolidated real estate investments Gain on sale of real estate investments and assets Minority interest share of income Net cash provided by operating activities FFO to minority interest - common FFO to minority interest - preferred Funds from operations Less: allocations to preferred and equity shareholders: Senior Preferred Equity Shares, Series A $ 935,176 $ 457,535 622,400 414,188 $ 314,026 437,555 13 (253) 74,918 (336,545) 38,696 494 (406) 45,307 (6,883) 29,543 663 (225) 38,890 (5,594) 31,883 1,126,193 (21,904) (21,612) 1,147,990 (21,989) (21,612) 817,198 (17,312) (19,055) 1,082,677 1,104,389 780,831 (205,870) (21,199) (236,757) (21,424) (245,711) (21,424) FFO allocable to our common shareholders $ 855,608 $ 846,208 $ 513,696 Weighted average shares outstanding: Common shares Stock-based compensation dilution 168,250 633 169,342 805 142,760 955 Weighted average common shares for purposes of computing fully-diluted FFO per common share 168,883 170,147 143,715 FFO per common share $ 5.07 $ 4.97 $ 3.57 CO R P O R AT E D ATA (as of February 28, 2009) Trustees B. Wayne Hughes (1980) Chairman of the Board Ronald L. Havner, Jr. (2002) Vice-Chairman of the Board, Chief Executive Officer and President Harvey Lenkin (1991) Retired President and Chief Operating Officer Dann V. Angeloff (1980) President of The Angeloff Company William C. Baker (1991) Principal, Baker & Associates John T. Evans (2003) Partner, Osler, Hoskin & Harcourt LLP Tamara Hughes Gustavson (2008) Private Investor Uri P. Harkham (1993) President and Chief Executive Officer Harkham Industries B. Wayne Hughes, Jr. (1998) Vice President of American Commercial Equities, LLC Gary E. Pruitt (2006) Chief Executive Officer of Univar N.V. Daniel C. Staton (1999) Chairman of Staton Capital ( ) = date trustee was elected to the Board Executive Officers Ronald L. Havner, Jr. Vice-Chairman of the Board, Chief Executive Officer and President John Reyes Senior Vice President and Chief Financial Officer Mark C. Good Senior Vice President and Chief Operating Officer David F. Doll Senior Vice President Brian J. Fields Senior Vice President and Chief Legal Officer Candace N. Krol Senior Vice President, Human Resources Corporate Officers Self-Storage Operations Drew J. Adams Vice President and Director of Taxes Todd Andrews Vice President and Controller John M. Sambuco Executive Vice President David D. Young Executive Vice President Mark B. Bilfield Senior Vice President and Marketing Officer Kim DeRuyter Senior Vice President and Divisional Manager Capri L. Haga Senior Vice President—Risk Management Brian J. Devlin Senior Vice President and Divisional Manager Stephanie G. Heim Vice President, Corporate Counsel and Secretary Ken A. Kederian Vice President of Internal Audit A. Ammar Kharouf Vice President and Litigation Counsel Brent C. Peterson Senior Vice President and Chief Information Officer A. Timothy Scott Vice President and Tax Counsel Clemente Teng Vice President of Investor Services Real Estate Group David F. Doll President David W. Marzocchi Senior Vice President—Development and Construction Michael K. McGowan Senior Vice President—Acquisitions and Development James F. Fitzpatrick Senior Vice President—Entitlements Robbie E. Williams National Facilities Director Christopher J. Grenier Senior Vice President and Divisional Manager Harvey A. Grindeland Senior Vice President and Divisional Manager John S. Hiatt Senior Vice President and Divisional Manager Kenneth H. Morrison Senior Vice President and Divisional Manager Alan Grossman Senior Vice President and Chief Financial Officer Ancillary Businesses Thomas Miller President—PS Orangeco Obren B. Gerich President—PS Insurance Shurgard Self Storage S.C.A. (Europe) Steven De Tollenaere Chief Executive Officer Peter G. Panos Chief Operating Officer Frank J.E. Boot Vice President—Marketing A. Stefan Nilsson Senior Vice President—Development Jean L.H. Kreusch Chief Financial Officer Evelyn Depasse General Counsel David L. Coupez Chief Information Officer Professional Services Certifications Stock Exchange Listing Additional Information Sources Transfer Agent Computershare Trust Company, N.A. P.O. Box 43078 Providence, RI 02940-3078 (781) 575-3120 www.computershare.com Independent Registered Public Accounting Firm Ernst & Young LLP Los Angeles, California The most recent certifications by our Chief Executive Officer and Chief Financial Officer pursuant to Sections 302 and 906 of the Sarbanes- Oxley Act of 2002 are filed as exhibits to our Form 10-K. Our Chief Executive Officer’s most recent annual certifica- tion to the New York Stock Exchange was submitted on May 27, 2008. The Company’s Common Shares trade under ticker symbol PSA on the New York Stock Exchange. The Company’s website, www.publicstorage.com, contains financial information of interest to shareholders, brokers and others. Public Storage is a member and active supporter of the National Association of Real Estate Investment Trusts. PUBLIC STORAGE 701 Western Avenue, Glendale, California 91201-2349 (818) 244-8080 • www.publicstorage.com (SKU 002CS-18235) 

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