The demand for quality self-storage facilities in the Southeast states continues to grow, creating a compressed spread between the first- and second-tier markets. With fewer facilities available for purchase in the major markets, however, some buyers are considering the more favorable prices and availability of properties in the second-tier markets. The following real estate experts discuss capitalization (cap) rates, rental rates, the affect of capital gains taxes and the overall operating performance in their areas:
- W. Frost Weaver, Weaver Realty Group, Jacksonville, Fla.
- Bill Barnhill, Shannon Barnhill Barnes and Stuart LaGroue, Omega Properties Inc., Mobile, Ala.
- N.J. Joey Godbold, Percival McGuire Real Estate, Charlotte, N.C.
Are you seeing the cap-rate spread between first- and second-tier markets compressing?
Barnhill: The demand is intense for first-tier properties due to the larger buyers chasing deals with large amounts of cash. This has compressed the cap rates for first-tier properties. More buyers are resorting to second-tier markets by necessity to obtain a positive spread between the interest rate and cap rate. This has put more pressure on demand and is beginning to compress cap rates on second-tier properties.
Godbold: What were seeing in the Carolinas is the definition of first-tier and second-tier markets is changing. Institutional buyers coming into the Carolinas are targeting the two larger and fastest growing marketsthe Raleigh and Charlotte metropolitan statistical areas. Those two markets, from the perspective of true institutional buyers, were considered second-tier markets several years ago. Now theyre target markets and command aggressive cap rates. Mid-size cities in our area remain attractive to regional and, to a lesser extent, national buyers, but we still see a cap rate spread of 50 to 100 basis points. Smaller markets, of course, exhibit greater spreads.
Weaver: While there have not been many recent transactions in Florida to truly develop a trend, based on the self-storage projects were working on, it appears theres at least a one-point spread in the cap rates between the first- and second-tier markets.
What are the current trends in rental rates in your major markets? Are you seeing rates rising as the market continues to improve?
Barnhill Barnes: The current trends in rental rates for Alabama and Northwest Florida remain mostly flat. With that being said, some facilities are increasing their rental rates on current tenants whose rents are below the street rate. Many facilities are adjusting rental rates upward or downward depending on the vacancies for each unit size, according to our markets surveys. Overall, the rental rate changes were seeing are very specific to each market area.
Godbold: Were seeing less pressure to keep rates down. Managers are less reluctant to experiment with rate increases for new and existing tenants. Overall, were seeing gradual increases in rents, but not significant jumps. Whats harder to track is the level of discounts. I sense that those discounts are given more sparingly than in the past few years.
Weaver: Rental rates have risen during the past year in Florida along with the general real estate economy. This seems to be true in the smaller markets as well. So far, these increases are in the 5 percent to 8 percent range.
What market areas in your territory present a good outlook for self-storage?
LaGroue: In addition to the primary markets in the Southeast, there are several secondary and even tertiary markets that present a good outlook for self-storage. It seems that so many of the larger operators tend to overlook these markets for a variety of reasons, including operational efficiencies, economic concerns, etc. This really opens the door for some of the smaller operators, including regional and local players, to expand their footprint while enabling them to achieve operating efficiencies.
I think youll eventually see some of the larger outfits begin to take notice of some of these smaller markets due to the fact that everyone wants to acquire the properties available at Main and Main in the major metropolitan markets. The Southeast has fared fairly well in this current economic climate, and the prospects for some areas, such as Mobile, Ala., will continue to make these areas favorable in the future. Mobile, however, is currently saturated with supply.
That being said, your homework must be done on any market, regardless of size. Weve all seen mistakes that have been made in the past, as far as developing in a questionable market simply because there was land available. In some cases, those particular properties were built and they continue to struggle to rent up simply because the developer did not do a market study.
Godbold: Continued population growth is anticipated in most of the significant markets in the Carolinas. Charlotte and Raleigh take the lead, but Wilmington and Asheville, N.C., as well as Myrtle Beach, Charleston and Columbia, S.C., are growing. Job growth feeds the economic engines in Charlotte and Raleigh in particular. Charlotte is a major financial and transportation hub, while Raleigh is a major research and education center. That is what makes them magnets for jobs.
Have the recent changes to the capital gains tax rate changed the outlook of self-storage owners on buying/selling/holding their properties?
Barnhill: The outlook for buyers has not changed significantly due to changes in tax laws. On the other hand, some sellers may reconsider selling due to higher capital gains tax rates of 20 percent instead of 15 percent, and the possibility of incurring the 3.8 percent health-care tax, all depending on how the sale impacts their adjusted gross income. Some sellers may elect to do a 1031 Exchange to defer the capital gain.
Godbold: The expectation is that operators would tend to want to hold their properties longer, but I believe the typical storage operator has always been in it for the long haul. Sellers of self-storage properties, in my experience, would not be characterized as being particularly opportunistic. Therefore, a decision to sell tends to be driven more by life changes or changes in business strategy than by tax structure, so I dont anticipate any significant change in the decision process.
Weaver: Since the first of this year, the main impact is the net dollars to a seller. If they cannot reach their after-tax target and are not under pressure to sell, then theyre holding for future improvement that would provide a higher price.
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 and operates SelfStorage.com, a marketing medium and information resource for facility owners. For more information, call 800.55.STORE; e-mail [email protected] .