Real Estate Market Snapshot: Self-Storage in the Western States
|Copyright 2014 by Virgo Publishing.|
|By: Ben Vestal|
|Posted on: 10/30/2010|
These are unique times in the self-storage real estate market. To get answers to questions relevant to today’s facility owners, buyers and sellers, I recently assembled a roundtable of real estate experts to discuss the state of self-storage in the western region. I’ve asked them to comment on the state of the market in their areas and share thoughts on how the industry will perform moving forward. Joining us in the discussion are:
1. As the economy and real estate market start to recover, should self-storage owners consider selling, buying, or continue to operate their properties and see what happens? How is the economic recovery progressing in the major market areas in your territory?
Boldish: Cash investors are seeking high returns, as might be expected. Now’s a good time to buy if you can handle the risk associated with low occupancy and perhaps three to five years before the market fully recovers. I’ve advised sellers with good cash-flow properties to hold rather than sell unless there are circumstances forcing the sale. If they don’t have to sell, it’s better to wait and evaluate the market in six-month intervals.
Dunn: Until the economy recovers, owners in Southern California should continue to operate. This is still a buyer's market and, unless there is a pressing personal concern (death, divorce, partnership break-up), most sellers will not be able to obtain top price for their property. The exception is institutional-quality properties, which are likely to experience competing offers. Institutional buyers will generally not pay the prices seen two years ago, but will pay good value for a property with 12 to 24 months of a quality income stream.
The economic recovery is still a way off in Southern California. Unemployment remains high, job loss continues in the public sector, and state and local government instabilities weigh heavily on the business and public communities. The major storage companies see this as a time to buy and are looking to invest in quality storage deals. Outlying suburban properties or smaller (below 50,000 square feet) will generally not be considered by major players. I see a continuing consolidation of storage properties of more than 50,000 square feet.
Hayes/Hall: Without specific reasons for selling now, we recommend they continue operating their properties and increase marketing efforts to build occupancies and gain value increases from higher revenue and improvement in regional economics. Throughout Montana and Idaho, some areas are improving, while other areas have continued to stagnate. There is a definite advantage to buyers and sellers to act while interest rates are low because as interest rates escalate, it will hurt both parties. Our economic recovery is doing well, and Montana is one of the only states still in the black.
Lucas: The market really is rebounding in Colorado. There’s more activity now than we’ve seen in a year. Owners are still reeling from the downturn; however, some are starting to see an increase in occupancies again. If the owners are really interested in selling, we encourage them to take a good hard look now. Many of the major buyers have come back into Colorado, and for good quality projects, there’s aggressive activity. Projects in smaller towns are still affected by the slowdown, because buyers for their sites are still the people who need to get financing, and need to have at least 35 percent as down payment.
2. What advice would you give owners with regard to financing for self-storage properties in today’s market?
Boldish: More than ever, buyers, builders and owners need to "qualify" their lender, just as lenders qualify a borrower. Recently, an owner building a new facility was 30 days out from obtaining permanent financing that included an interest reserve to carry the property through the stabilization period. Their lender was seized by the FDIC and the loan was not funded. The owner lost the property through foreclosure.
Dunn: Financing is "easier,” but not "easy" to find as compared to last year. Anecdotally, lenders are creeping back into the market; but while rates may be attractive, the underwriting criteria remain difficult. Lenders will demand larger equity stakes from borrowers in exchange for favorable rates. Prepayment penalties for 10-year financing will not disappear, as most individual borrowers have little leverage to negotiate reduction of loan terms until there is an increase in lenders competing for loans.
When obtaining new financing, sometimes there’s a trade-off between having a prepayment penalty and having lower origination fees or interest rates. The lender may be willing to reduce or eliminate a prepayment penalty based on the amount you pay in loan fees or on the interest rate in the loan contract. Negotiate with a lender just as you would with a buyer or seller.
Hayes/Hall: Local lenders continue to provide the best means of financing in the Montana and Idaho markets. Although some national lenders will provide financing, it’s the relationship between borrower and lender in specific submarkets that provides the availability of funds. Local lenders have shown a willingness to provide capital at reasonable rates with 20-year amortizations, but with a call provision or rate adjustment every five years. It’s not typical in those situations for a lender to have a prepayment provision in the loan. Further, these lenders are not interested in new projects but are willing to loan on stabilized projects.
Lucas: We talk with owners all the time who have a loan with stringent prepayment penalties, or they have a lender that wants to get the loan off of their books. When those loans come due, we encourage them to talk with life-insurance companies and lenders like Wells Fargo, as they have all come back into the market with money to lend for self-storage. I don’t know of any banks that are doing non-recourse loans now, but depending on the borrower’s relationship to the lender and financial capabilities, the lender might be willing to waive prepayment penalties, as many lenders are still looking to get real estate loans off their books. Several lenders are quoting low rates on three-year terms and higher for seven.
3. With the market beginning to improve and strong performance of the self-storage sector during the recession, do you think we’ll start to see new development of properties in 2011?
Boldish: New development will not take hold until the cost to build becomes less than the cost to acquire. With the unemployment rate in Oregon being higher than the national average, I don't see new development taking place in any of our commercial sectors for several years. With self-storage occupancy rates in the west down over the last 24 months and a soft housing market in Oregon, new self-storage construction in 2008 saw anticipated 18-month stabilization periods extending to 24 to 36 months.
Dunn: We won’t see new storage development in Southern California for the next couple of years. The area experienced a boom in development that ended in 2007-08 when storage was considered the “soup de jour” of the construction business. A number of projects scheduled to come out of the ground in 2008-10 have been put on hold. Until there’s a trend of positive absorption of existing vacant space, it will be difficult to get construction financing for all but the largest and most experienced companies. Once absorption is back on track, development financing will ease and construction will resume. This will not occur for another three to five years.
Hayes/Hall: At this point, the Montana and Idaho submarkets appear to be reasonably well covered. Some cities in the region are oversupplied, and new construction is not likely for some time. Other cities continue to show growth in the multi-family markets, which suggests some growth in this self-storage demand generator. It would seem the Montana market is best defined as either saturated or adequately serviced, so new construction in the region is likely to be spotty and fairly modest.
Lucas: The one piece still missing is construction financing. My advice would be to wait at least a year, and let the dust settle before starting construction on a new project. I would also strongly suggest a good feasibility study to verify that the market can really absorb another facility.
I recall an example in Colorado where, two years ago, a community consistently turned down application after application for self-storage development. Then out of the blue, the planners decided to allow it. Unfortunately, two very large projects opened within weeks of one another, and because of their geographic proximity, they’ve fought for every single tenant. Each facility is now only 50 percent occupied and serves as an example of what can happen when a market gets overbuilt.
Ben Vestal is president of the Argus Self Storage Sales Network, a national network of real estate brokers who specialize in self-storage. Argus provides brokerage, consulting and marketing services to self-storage buyers and sellers. For more information, call 800.55.STORE; e-mail firstname.lastname@example.org.