The State of Real EstateChange, overbuilding and the future of self-storage
Copyright 2014 by Virgo Publishing.
By: Michael L. McCune
Posted on: 02/01/2000



 
The State of Real EstateChange, overbuilding and the future of self-storage

By Michael L. McCune

It has been a year since I last explored the real-estate aspects of self-storage in depth in this publication. The momentum of the last millennium has carried the self-storage industry to new heights and in new directions. The question, of course, is: What does the first few years of the next millennium hold for the industry as it relates to real-estate values and liquidity?

One word comes to mind: change. It is apparent that many of the constants we have known (or thought we knew) in the past are now changing, and these changes will have a dramatic impact on the value of our investments. The major question that we must come to terms with is: Are these changes simply the continuation of the ever-present cycles of our previous experience, or are they systemic, thus rendering our past experience invalid to judge the future?

Let's begin our exploration by gathering some facts about the current market, hoping to get some perspective for the future.

Overbuilding

We all know that one of the single largest issues affecting the self-storage industry, both in regards to cash flow and investment values, is the impact of potential overbuilding. Unfortunately, the magnitude of the problem is not well established. There are no reliable, national numbers available on new facilities being constructed, and those numbers that are reliable are usually developed for aspecific site.

However, despite the fact that the magnitude of the problem is difficult to quantify, it does not mean that over building does not exist. As owners look at their own markets and submarkets, there is substantial, anecdotal proof that overbuilding is becoming a serious problem. Overbuilding, as we have explored before in these pages, can have a material impact on rental rates, occupancies and overall real-estate values. (For two articles on this topic, visit www.selfstorage.com.) Clearly, we are in the phase of the market cycle where overbuilding is occurring. The question is just how significant is it to the individual owner and to the overall market.

Financing

We know from talking with friends in the financing business that not many of you are currently seeking refinancing. We are all aware that sales have gone up substantially from the lows of 1998. Thus, "sticker shock" of higher rates and optimism that interest rates will go down have probably caused many to sit on the sidelines waiting for better times.

Unfortunately, we see some troubling signs for those who will need to refinance in the intermediate term--say 24 to 36 months. First, because of the lack of business lenders are seeing, many of these "conduits" are beginning to leave the business. While a couple of really good lenders remain, it certainly means less competition at borrowing time. We also hear that many local banks are increasing their underwriting standards and are less likely to consider the facility on its own merits, but rather will place more reliance on the credit of the owner, i.e., net worth apart from the project. Secondly, overbuilding will reduce rental rates and occupancies on some, if not many, projects. This fact, combined with higher interest rates, will cause a reduction in the amount a lender is willing to loan on a project. There have been several individual situations where refinancing cannot liquidate the existing first mortgage because the combination of declining rental rates and occupancy along with increasing interest rates simply does not provide the lender with sufficient coverage to make the same loan.

The prudent owner with an intermediate term financing decision should consider "locking up" available financing while there is competition in the market and money is available so your project can support loan-to-value ratios sufficient to refinance the existing debt. You can always refinance again if the rates go down.

Changes in the Industry

Now that we've hit the millennium mark, we find the last century had more changes than the previous 900 years. On Jan. 1, 1900, how many people would have believed there would be more horseless carriages than horses; children would spend 38 hours per week watching TV or on the computer; one could fly from New York to San Francisco in four hours; or that only 3 percent of the population would work on farms? And certainly no right-minded person would have believed people would pay $100 per month to rent a storage shed, especially when you had a perfectly good barn.

The point of all of this is simply to say the rate of change is increasing and will impact our embryonic industry as well as the rest of the economy. This change will create opportunities as well as challenges. While we tend to think of conventional overbuilding as our single most difficult issue, the future may define obsolescence as our greatest challenge.

Take a moment to think about a couple of changes that are becoming visible, if they aren't already important. Drop-off storage is a great example--the providers are still working the bugs out, but if they find the right formula, the industry could change dramatically. The Internet also provides many interesting opportunities. For example, if (and granted it's a big "if," but so was TV in 1945) the Internet really does become the principle method of marketing self-storage, will location still be the single greatest marketing tool? Obviously, the successful owners and operators will be those who keep ahead of these changes and react accordingly. Carefully monitoring the value of your investment will be even more important in the future.

It's difficult to see into the future very far, but we have attempted to peek around the first corner of the new millennium. What we find are some short-term "bumps," most of which we have seen before and will likely see again. However, we also see the shadows of greater changes further into the next century (maybe even just the first decade) and know that we must be alert and responsive to the changes.

Michael L. McCune has been actively involved in commercial real estate throughout the United States for more than 20 years. Since 1984, he has been owner and president of Argus Real Estate Inc., a real-estate consulting, brokerage and development company based in Denver. In January 1994, Mr. McCune created the Argus Self Storage Sales Network (ASSSN), now the nation's largest network of independent commercial real-estate brokers dedicated to the buying and selling of self-storage facilities. For more information, call (800) 55-STORE.