October 1, 1998

10 Min Read
One on OneAn Interview With Neil Gussis

One on One

An Interview With Neil Gussis


Neil Gussis, senior vice president, First Security Commercial Mortgage

When we last caught up with Neal Gussis in the June 1995 issue of InsideSelf-Storage, securitized lending was just beginning to make inroads in theself-storage industry by providing new, non-recourse, financing alternatives. Manyself-storage owners and operators were completely unfamiliar with this form of propertyfinancing and were accustomed to only working with a local bank for their self-storagelending needs. Since then, securitized financing, as well as Mr. Gussis' firm, FirstSecurity Commercial Mortgage, have grown exponentially. Today, securitizedlending--through a vehicle known as commercial mortgage backed securities (CMBS)--is adominant force in commercial mortgage financing nationwide, including self-storage.

First Security Commercial Mortgage was among the first CMBS lenders to enter theself-storage marketplace. Mr. Gussis helped lead his firm's move into self-storagefinancing in 1993 and continues to direct a specialized team of originators, analysts,underwriters and closing professionals dedicated to the industry. First Security has grownsince 1995 from one office to six, and now employs five times as many employees as it didfour years ago.

Mr. Gussis serves as a senior vice president with the firm and is responsible forits self-storage financing programs. He was one of First Security's founding members andhas an extensive background in real-estate financing.

We met with Mr. Gussis to gain his insights and reflections on changes in theself-storage industry and financing options available to owners.

What financing changes have you seen in self-storage since you became involved init, specifically over the past five years and, more specifically, the past 6 months?

The changes in the past five years in self-storage financing have been nothing short ofdramatic. Self-storage owners are no longer captive to their local bank for financing;they have a myriad of options for the type of loan and the lending source. We have seenself-storage financing become much more available, primarily due to the exposure that theREITS and national self-storage lending programs have provided the industry. A greaternumber of financing institutions understand the self-storage business than did five yearsago.

Securitized, or conduit, lending has become a very popular financing vehicle because ofits attractive long-term rates and non-recourse features. Statistics show that the totalvolume of commercial mortgages originated, pooled and issued as CMBS has grown from $19billion in 1995 to more than $77 billion in 1998. That's dramatic growth and speaksvolumes for the importance of this financing option.

In the past five years, interest rates have gone through a full cycle and now are onthe next cycle. Through October 1998, interest rates continued to fall based on acombination of several beneficial factors including strong operating results offacilities, dropping indices (such as the U.S. Treasury yield, Prime and LIBOR), increasedacceptance by lenders and investors of self-storage, and heavy lending competition.

Many borrowers took advantage of lowering their interest rates with financing optionsthat had plummeted below 7 percent in some instances (available during the last half of1998). This environment caused lenders to lend on "skinny" margins based on theassumption that their cost of funds remained the same.

In 1998's fourth quarter, the investment community became concerned by negative globaleconomic developments, which resulted in a dramatically increased cost of capital tolenders. Many conduit lenders decided to exit the business, including some major CMBSsources.

Today, the market has returned, and the self-storage industry still has financingorganizations lending to facility owners. The lenders who specialize in self-storageshould remain in a strong position to supply capital to the industry. This is because theyhave built a reputation with investors of their industry knowledge and underwritingquality. Those companies, including First Security, will be in a position to be a directlender backed by various capital sources, depending on the owner's financing objectives.More importantly, while spreads have increased from their all-time lows, interest rateswere still hovering around plus or minus 8 percent in early 1999.

Banks are generally more familiar with the industry. However, in local markets,financing availability varies, since some banks still have little understanding ofself-storage and will continue to have little interest in providing loans. Some banks willlend based on the relationship and the borrower's recourse. Over the past five years, bankfinancing has been instrumental for construction projects, expansions, short-termfinancing and for smaller loans under $1 million. A majority of bank financing isrecourse.

The industry has been fortunate to have a select group of securitized lenders thatactively seek self-storage deals. Many securitized lenders like to diversify theirportfolio with some self-storage loans, yet, very few have truly committed to thisindustry. And even rarer are the firms in which the lending team stays consistent yearafter year.

Financing relationships have also shifted during the past five years from mainly banksto, now, both banks and conduit lenders. Customers today are much more familiar withsecuritized lending and its procedures; conduit lending is no longer an"unknown" form of financing. Many self-storage owners have experienced asecuritized loan transaction and are now repeat customers, either for new propertyacquisitions or through refinancing. In fact, 50 percent of First Security's self-storagebusiness comes from repeat customers or referrals.

What is your take on Wall Street's recent roller-coaster-like scenario?

Long before last fall's volatility that was brought on by international loan defaultsand corresponding currency devaluations, we had predicted CMBS lender consolidation. Weknew that, through acquisitions and mergers, only a handful of strong financingorganizations with the necessary critical mass of capital and infrastructure to originateand close deals would survive into the 21st century.

Last October's events only accelerated this trend. Lenders hurt by the downturn haveexited CMBS financing. New players who did not take these losses have entered the market.There is clearly plenty of liquidity in the CMBS market for the risk/return profile.

During the past several months, financing organizations have either exited the marketor realigned themselves with one or more new capital sources in order to continue toposition themselves as direct lenders. The companies who have secured post-October fundingwill have significant liquidity, a broader range of products to originate, and they willaggressively pursue new borrowers.

For conduit self-storage borrowers, this is all very positive news. While they canexpect underwriting standards to be tighter than last summer, they can also anticipatehigher-quality lending options since the market has reduced the number of players. Thesurvivors will offer borrowers stronger and better deals that are more likely to closewithin the quoted terms and timeframes. We do not feel lenders will attempt to get out oftheir commitments. Borrowers can feel assured the CMBS market will continue to serve as aviable and dominant lending source.

Of course, global market conditions and the U.S. real-estate market temper all of theseexpectations. Real-estate markets are not in turmoil; supply and demand are currently inrelative equilibrium. As long as the U.S. economy remains healthy, real-estate marketswill perform well through the next 24 months. The cycle could change after that, but weexpect a soft landing since the capital markets and investment community has responsiblyrationed capital. This is in stark contrast to the late 1980s and early 1990s when weendured the savings-and-loan crisis caused by poor capital rationing.

What are your projections for the future of self-storage financing for theupcoming months? The upcoming year?

Except for some limited market choppiness, it's quite evident that liquidity hasreturned to the CMBS marketplace and that CMBS is well-developed for the long run. Ourconfidence in the CMBS markets is bolstered by the U.S. stock market's continued trek tonew heights and the relative calm in international markets.

The capital markets and real-estate industry are strong, with solid fundamentalsbacking them. While the future is always unpredictable, we believe interest rates inself-storage financing have leveled off and are likely to stay in the general range theyare today.

The most recent capital market events have led lenders to focus even more carefully onthe quality of individual self-storage facilities, with underwriting standards thatinclude more conservative loan-to-value ratios, increasing debt-service coverages,increasing spreads and a greater scrutiny of a property's operating history.

Are there any other ways you've seen the industry change?

There's no doubt the self-storage industry has become more sophisticated; what used tobe considered state-of-the-art and improved competitive position is now considered astandard requirement to remain competitive in many markets. This is particularly the casein such features as security cameras, door alarms, climate-controlled units and ancillaryservices. Also, with the advance of computer technology and the vast availability ofself-storage management and accounting software, a good majority of facilities arecomputerized. In fact, many lenders will not even consider lending on a facility if it isnot computerized.

More owners today have three to 10 facilities. Consequently, these operators areupgrading the landscape of self-storage. Many are acquiring facilities, giving them"face lifts," and improving the management and operations. We see more ownerstaking advantage of the industry's professional management firms. Owners who expand theirportfolios through development are generally building in good locations and buildingbetter-quality facilities. The building suppliers have also played a part in the industryupgrade. Suppliers have improved the quality of products and expanded options.

There certainly has been considerable construction and expansion in the past fiveyears. The saturation levels are reaching new heights in many local markets.

Keep in mind, all the above factors will be considered by a lender in evaluating afacility's ability to maintain cash flow to support a financing request.

What do you recommend facility owners do to make a loan process easier?

The primary way to make a transaction process smoother is to keep consistent andaccurate records. We need to see such data as physical occupancy history, square footageand unit expansions or changes on a monthly basis, breakouts of rental and other income,schedule of historic and future capital improvements, and a record of items that may causerental income fluctuations (such as road construction near a facility or changes inadvertising programs).

Lenders require extensive documentation, and the established financing organizationsthat understand the self-storage industry will provide facility owners with a completelist of the necessary items. The better prepared a borrower is for these documentationrequirements, the easier the loan process.

Is there anything else you believe owners can do to feel comfortable with theirlender?

Use common sense. If a deal sounds too good to be true, it probably is. Shop around.Feel comfortable with whom you deal with and what they tell you. Ask who is involved inthe ultimate loan-approval decision. Deal directly with your lender as much as possible.In this way, you establish a relationship with the financing organization and can make thetransaction process much smoother.

What do you generally look for in the way of indicators to see if a facility cansustain its income level?

At First Security Commercial Mortgage, we focus on consistent, monthly, net-operatingincome (NOI) as a benchmark. We also look closely at a facility's competitive situation,how it is positioned in the local market, its location, as well as its on-site andoff-site management.

What advice would you give people just getting started in the self storage business?

Do your homework. Facility owners have so many more educational options today than theydid in the past. The seminars and workshops at industry conferences have expanded greatlyand offer outstanding learning experiences. The Self Storage Association's programs alsoprovide a wealth of knowledge, and it's incumbent upon people to take advantage of them.

What is your company's objective regarding self-storage for the new millennium?

Our objective is quite simple: We plan to stay in self-storage financing and continueour dominant role as an industry lender. We were one of the first firms to providesecuritized lending programs to facility owners and were instrumental in bringinglow-interest-rate financing to the self-storage industry. We will continue to serve in ourestablished leadership position and utilize our veteran team of self-storage lendingexperts to serve our customers' personalized needs.

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