Riding Out the Highs and Lows of Self-Storage Real Estate
Copyright 2014 by Virgo Publishing.
By: Michael L. McCune
Posted on: 11/25/2008



 

Cap rates are up. Prices are down. Interest rates are just a little higher. Competition is down. And, best of all, cash-on-cash returns—the Holy Grail of investing—are up!

It certainly appears that some real opportunities exist for experienced self-storage owners to pick up some nicely priced, quality built, well-occupied properties, earn a handsome cash-on-cash return and yet have significant upside potential when the market improves. However, it is not a time for amateurs. One really needs to understand the self-storage business to be sure that the underlying business value is there.

Many of you may ask, “Is this the bottom?” No one knows for certain, but we know one thing for sure: This isn’t the top. If you do have your eye on a property, many other questions need to be posed:

  1. Will the facility maintain economic viability well into the future?
  2. Can it be improved or better managed to secure long-term viability?
  3. Is the cash-on-cash return significant enough to warrant the current investment?
  4. Do you have the experience and knowledge to recognize the risks and potentials of the investment and the talent to manage the property in an effective manner?

As you answer these questions, listen to both your gut and brain, making sure they both answer “yes” before you decide.

A Closer Look

To gain better insight, let’s look at some numbers that illustrate the recent history of self-storage real estate. As you may have noticed in the example, provided below, the price is down, the loan is smaller, relative leverage has dropped and the cash-on-cash return on equity is up a whopping 77 percent to 9.4 percent—not a bad tax-sheltered return.

The only negative is the equity requirement is up, but then again, you are earning a great return on that equity, which is really the name of the game. And this comes with a nice advantage: If cap rates go back down, at the same income the facility will produce a $400,000 increase in value—a 57 percent return on your new larger equity.

Worst-Case Scenario

Take a moment to think about what will happen if this isn’t the bottom and prices go down further. First, your returns will not change and all of the positive things mentioned before will remain true. Not a bad outcome for being partially wrong on the timing.

There is one possible serious downside to waiting too long to see if prices go down further. Think for a minute about the potential of inflation going up and the Federal Reserve aggressively raising interest rates in earnest, or the banks really tightening up on lending and rates. Take it from a guy who had a construction loan ticking off at 19 percent in 1983: You won’t like it at the bottom.

One last item: Very few people who own self-storage do sell because of changes in the market. They usually sell for personal reasons, such as retirement, relocation, illness, divorce, etc. This means many fine performing properties could be on the market at any given time.

Don’t let this unique time in the real estate market pass you by. Be sure to do your homework and consult a self-storage expert to make sure the opportunity is right for you!

Michael L. McCune is president of the Argus Self Storage Sales Network, a self-storage real estate brokerage and development company based in Denver. Argus also operates www.selfstorage.com, a marketing medium for owners in the industry. For more information, call 800.55.STORE.