Conducting a Feasibility Study
|Copyright 2014 by Virgo Publishing.|
|By: Stephan Ross|
|Posted on: 02/01/2003|
Your stocks aren't performing as you would like and you've been told self-storage is a "cash cow," but you're relatively unfamiliar with the industry. How do you choose a property? How do you determine if it will be successful? A feasibility study will provide the initial information you need to make sound, knowledgable business decisions.
There are a few things you need to determine before you start the field work on a feasibility study:
1. Will the local municipality of your proposed location allow self-storage and, if so, in what zonings?
2. Does the site you've chosen need a zoning change or just a conditional-use permit? What type of signage will be allowed?
3. Does the site pass the phase I environmental assessment?
4. What type of return are you or your investor seeking? Will this property meet your objectives?
These are questions you must answer before starting the actual feasibility report. The days are gone when you could operate under the philosophy, "If I build it, they will come." If your answers to the above questions are positive, the rest of this article is for you. I will outline what is needed in determining feasibility and issues to address. The following information is needed for all types of storage, i.e., typical outside-access or hallway units, climate-controlled units, outdoor or covered parking, and even wine storage. You must consider all types when examining the needs of your market area.
Shop the Competition
You must first map out all existing self-storage facilities within the proposed site's community and visit them all. The best way to get correct information is to present yourself as a prospective tenant. If you tell them you are interested in building another facility in the area, they will tell you they have a lot of vacancies and are giving heavy discounts--nobody wants more competition.
Once you are in the office, pay attention to its appearance and that of the manager. What are the office and access hours? Is access the same for typical and climate-controlled units? Are there climate-controlled units? Keep track of the security each facility offers and whether the manager explains its features to you. Get as many prices on different size units as possible. Do the facilities charge a security deposit, administrative fee or both? Did they offer a move-in or long-term-rental special? Take a picture as you leave--after you visit a few facilities, you forget which ones are which.
Afterward, call each facility and shop it on the phone. How is the manager's phone technique? Are the pricing and specials the same as those presented in the personal visit? You need to gather as much information on the competition as possible. You will be competing with them for new tenants and you want to find your own niche.
Is There Already Too Much Storage?
When conducting your feasiblity study, determine your actual market. This could be as far as 10 to 15 miles in rural areas or as little as a few blocks in some metropolitan areas. Once you have determined your target market, you need to establish the occupancy rates in the area, which can be accomplished in a number of ways.
When visiting competition, ask the manager how many total units he has and how full the facility is. Most managers are all too happy to talk about themselves and their property, if they are asked the right questions. Some, however, will not tell you anything. Then you need to drive through the facility at night, counting locks. If you need gate access, you may need to rent a small unit to accomplish this. Keep in mind some managers keep locks even on empty units, so this may not always be the best indication of occupancy.
Once you know each facility's occupancy, determine its actual square footage. Again, there are a number of ways to do this. The first way is to measure the outside of each building. If you are dealing with inside storage, calculate 70 percent coverage, or take the total number of units and multiply by the average unit size, usually between 100 and 120 square feet.
Once you know the amount of storage currently built and the occupancies of each facility, it should become clear if there is still demand for self-storage in the area. A word of caution: Just because all facilities are full does not mean there is demand. Are you visiting facilities in a college area during summer break when all facilities are full? There are a number of reasons why facilities fare well during certain times of the year and not others.
Finally, you'll want to compare your proposed facility with its competition in terms of demographics, visibility, traffic count, management, security, accessibility, appearance and structure. All of these factors need to be considered, but do not necessarily decide not to build just because the facility is lacking in one area. I've seen facilities do very well in economically challenged areas. I've also seen facilities do very well in areas that appear overbuilt because of a lack of or weak competition.
What Sizes Do I Build?
When shopping your competition, ask managers what sizes they run out of first and which people ask for the most. The actual unit mix is very important. If you build a "bankers mix"--a lot of smaller units, which have the highest rate of return per square foot--and not many larger ones, you may wind up with a lot of units you cannot rent. This type of mix looks great on economic projections, but there are only so many people who want or need 5-by-5 and 5-by-10 units. Vacant units mean less income.
What Type of Income Can I Expect?
Remember that your facility does have expenses. I'm amazed how many people subtract their mortgage from their income and think this is an indication of their monthly profit. Operating expenses include utilities, salaries, services, advertising and marketing, property taxes, insurance, supplies, repairs and maintenance. You need to include a line item in your budget for each expense projected.
Determining income is easy. You've already found out what the competition charges and determined a unit mix. Now multiply the number of units built in each size by the price you will charge, taking into consideration a move-in special if you feel one is needed. Keep in mind you cannot expect to be 100 percent occupied, so 85 percent is a good average to use. Add to your rental income proposed late fees to be collected (usually between 1 percent and 2 percent of the rental income), merchandise sales (also between 1 percent and 2 percent) and any other fees you might charge, such as administrative fees. Your total income minus expenses--not including the mortgage--will give you your net operating income (NOI).
Take into consideration that during rent-up you are not already 85 percent occupied. This is why you have a rent-up reserve when taking out your construction loan: to cover the short fall until maturity. Some people say you can budget a 5 percent monthly increase. I do not agree. Using this calculation, if you build a 300-unit facility, you only need to net 15 units a month; but if you build a 600-unit facility you need to rent 30. Just because you need to rent 30 units to meet your 5 percent does not mean the area will provide that many renters! I prefer to do a monthly budget, deciding how many units will rent each month and taking into consideration a move-out rate of approximately 10 percent. Then, whatever monies are left after paying your mortgage at the end of each month can be distributed at your discretion.
What Will My Property Be Worth?
The self-storage industry usually calculates the worth of a property by taking the annual NOI of a mature facility--usually one that is 85 percent occupied--and dividing it by a cap rate. This rate can be anywhere between 9 percent and 13 percent depending on the age of the facility, the type of construction used, and how the facility compares to competition. For example, if the facility has an annual NOI of $360,000 and you divide by a 10 percent cap rate, you get a value of $3.6 million. If the construction loan for the facility was $2.5 million, your profit would be $1.1 million minus your down payment and interest for the original loan amount. Are you going to make the return on investment you need?
The reality is, if you do not do your homework and have an "If I build it they will come" attitude, the possibility of failure is high and the bank will foreclose on the property. The good news is, for people who do their homework, there are still many locations that will perform to the standards they set.
Stephan Ross is president of Cutting Edge Self-Storage Management & Consulting, which specializes in feasibility studies, third-party management, auditing and training for the self-storage industry. He has more than 15 years experience in the industry and is a frequent speaker at Inside Self-Storage Expos. For more information, call 801.273.1267 or visit www.cuttingedgeselfstorage.com.