The Realities of Today's Self-Storage Market

Doug McCarron and Devin Huber Comments
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Development Volatility

In recent years, our industry became extraordinarily attractive to developers who would have traditionally focused on other commercial real estate types. They were intrigued by the notion that self-storage is an easy asset to manage—or so they thought. Correspondingly, we experienced a development cycle of huge facilities ranging from 120,000 to, in some cases, more than 150,000 net rentable square feet.

A statistic from the Self Storage Association bears witness to this development boom: “It took the self-storage industry more than 25 years to build its first billion square feet of space; it added the second billion square feet in just eight years (1998-2005).”

Many newly developed facilities are still on their constructions loans, so permanent debt will need to be placed on these properties. Given today’s new market realities, these developers will need to contribute a significant amount of equity in order to receive a permanent loan, but with the industry’s generally strong performance, these loans will be attainable. However, the cash-outs certainly will be fewer and far between.

Where We Are

We believe overall values for self-storage assets have corrected by as much as 10 percent from its 2007 first quarter peak. With maturing construction loans, maturing floating rate debt (originated in 2006) and maturing CMBS debt (originated in 1999 and in 2003), this correction is likely to remain static through 2008 as the market absorbs these deals.

With all of the media hype over write-downs and commercial real estate woes, we expect to see “distress sales” within the self-storage industry appear on a very limited basis. Maturing construction loans are likely the most vulnerable, but there simply is not enough volume from that market segment to create a systemic effect across the industry.

Any deal priced after August 2007 likely has a majority of the credit market correction priced into it. Therefore, late-2007 closings, along with those closing this year, are establishing new benchmarks and comparables that will help narrow the current seller-buyer delta by fueling volume.

The overriding sentiment today is that cash flow is king. Sure, buyers are willing to allocate some value to upside in rents and/or occupancy, but only when a facility is measurably below market in rents or is newer and has space left to lease. The main focus in today’s valuation matrix is on in-place cash flow. Buyers will be extremely aggressive on what is there today because it is a known quantity with history to back it up.

Doug McCarron is a managing director at HFF Self Storage, formerly Storage Investment Advisors, and can be reached at 310.908.4728 or dmccarron@hfflp.com. Devin Huber serves as senior vice president with Beacon Realty Capital and can be reached at 312.207.8232 or dhuber@beaconrealtycapital.com.

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