Whether you’re an experienced self-storage owner or just entering the industry, a review of the elements to consider when acquiring a facility will make for an orderly approach to the decision-making process. This article will not cover every conceivable item, but rather serve as a framework to help you make the best investment.
The first step when considering a self-storage acquisition is to look not at the property, but at yourself. What are your goals, time frames, budget, resources, location and experience? Is it important to find a property that’s close to home? Do you plan to perform the onsite or offsite management duties or will you hire a third-party management company? What is your cost of capital, both debt and equity? Will you have other investors and, if so, how will their requirements factor into your approach?
The list is long and should be specific to your situation, but the key is to understand your objectives first, and then start the process of determining if a property matches. Bottom line: know thyself.
The second step isto know, not guess, what you can do. What are the strengths and skills you intend to bring to the project? What can you do to achieve the goals and objectives you have set? Is your skill in finance, management, marketing, construction or site selection?
An often overlooked aspect of “what can you do” revolves around capital. Many potential buyers fail to have an accurate or realistic plan for financing a contemplated acquisition. In the current environment, knowing what you can do includes knowing what you can finance (unless you’re a cash buyer). Lenders have become much more conservative in their underwriting. As a result, potential buyers should discuss financing options with lenders prior to spending time and money on investigating properties.
Finding a property that matches your personal criteria is the next step. Everyone wants a PRIME property, but what qualifies? Let’s break it down as an acronym, with each letter representing an element of the process to determine if the self-storage property meets a buyer’s specific criteria. Keep in mind this isn’t meant to be an exhaustive outline but an overview.
P = Property
This may seem obvious, but an examination of the physical property and the surrounding area is critical. While some of the in-depth investigation may be reserved for contract due diligence, an adequate initial examination should be conducted prior to entering a purchase agreement. As a buyer, consider at least the following:
- Location: Is the property in a retail setting? Is it conveniently located to its market?
- Visibility: Does the property have good visibility on a road with adequate traffic counts?
- Building layout: Are the drive aisles adequate? Is the layout customer-friendly?
- Unit mix: Are the units of the proper number and size? If not, can they be changed?
- Rental office: Is it of adequate size and layout? Can and should it be modified or relocated?
- Onsite apartment: Is an apartment needed? If not, can the space be converted?
- General condition: Is the appearance attractive? Are the buildings in need of repair? Is the roof sound? Is the pavement in good repair? Are there any apparent water issues?
- Expansion: Can the facility be expanded? What value should be assigned to expansion land?
- Appearance: How does the property rate overall?
R = Records
A review of the records is like a blood test for a patient—it reveals the health of the facility. Look for trends in occupancy, income and rental rates for the past three years, if available. Consider the following:
- Occupancy: Review economic, physical and unit occupancies to determine trends and opportunities.
- Revenue: Review current and recent revenue. Is all the revenue recognized? Are there additional opportunities for revenue?
- Expenses: Review current and recent expenses. Can expenses be reduced? Are the reported expenses realistic?
I = Income and IRR
How does this self-storage facility perform as an investment? In other words, will it provide an adequate return given your contributions (financial and non-financial) as compared to alternative investments such as corporate bonds, stocks, other real estate, etc.?
Most buyers focus on current income and attempt to determine a value by applying a cap rate. While that may be a useful exercise, it’s a bit like driving forward looking in the rearview mirror. Yes, it’s important to review income trends, but it’s more important to use all the information gathered to project future income and returns.
Basically, the only reason a buyer cares how the property has performed in the past is to project how it will perform in the future. It’s essential to prepare and carefully review an internal rate of return (IRR) analysis, which will take into consideration all future cash flow. Consider the following significant items:
- Revenue and rates: Can rates and revenue be realistically increased and, if so, when and how often?
- Real estate taxes: Will they increase based on the sales price, and when?
- Payroll: Will it remain at the same level?
- Repairs and maintenance: Is there deferred maintenance? Will the future expense be greater as the property ages?
- Advertising: Will the budget increase or decrease?
- Financing: What are available financing terms and conditions?
- Sale: What will be the future value of the property?
M = Market, Management and Demographics
Many in the self-storage industry believe demand should be estimated based on available square feet per capita. Others feel it’s related to households. Each market is different, but whichever indicator you use, it’s useful to look at current demographics to determine the drivers of demand. Some key parameters include:
- Housing units
- Housing type—rental, single-family, multi-family
- Household size
- Household income
- Percentage of renters
- Home and lot sizes
- Retail activity levels
Those parameters should then be considered in the light of projected demographic trends. Will there be population growth over the next five years? Will there be income growth? Does the average income or net worth in the marketing area support self-storage rentals?
Consider the nature of the competition, including location but, more important, their practices. Do they cut rates dramatically and quickly to build occupancy or strive to maintain rates? Are the properties comparable or less visible and less appealing? Are there significant barriers to entry in the market? Barriers could be financial such as the cost of the land, availability of sites or community attitude as reflected in zoning ordinances. A call to the local planning and zoning authority will provide information as to future competitors.
As our industry becomes more competitive, management is a key element of success. As a buyer, consider what changes, if any, should be made in the management structure. If the onsite team falls in the category of caretaker, there may be a significant opportunity to install a customer- and sales-oriented team who could build occupancy and income. While location, visibility and other elements may be impossible or cost-prohibitive to change, management can be addressed promptly and efficiently. It may be one of the most significant contributors to success.
E = Expectations and Exit
This is probably the most overlooked aspect of the analysis by a buyer. Unless a buyer defines expectations, how can he know if the property will meet them? Identify, in writing, expectations with regard to budget, cash contributed over the life of the project, acceptable rates of return, growth, expansion, involvement, etc.
Most buyers spend a great deal of time considering their entry to a specific industry or market but little time contemplating an exit. Target how long the property will be held as defined by time, occupancy, income or other parameters. When considering a property and its characteristics, a buyer is well served to consider how those parameters will impact the property’s eventual disposition. Additionally, assumptions necessary to calculate the above mentioned IRR analysis will include those many associated with the planned exit.
As you can see, the last element of PRIME brings us back to the first step—your goals and objectives. It’s where the investigation and buying process begins and ends. Buying a self-storage facility is much more about the buyer’s goals, objectives and expectations than the property itself. The buying process should compare the characteristics of a facility to the specific criteria of the buyer to find a probable match. It’s when a compatible facility is found that a PRIME property should be aggressively pursued.
Dale C. Eisenman is the president and broker in charge of Midcoast Properties Inc., as well as a licensed real estate broker in Georgia, and North and South Carolina. In addition to being a professional pilot early in his career, Eisenman has practiced law, owned and operated several small businesses, and been an active commercial real estate investor for more than 20 years. He now specializes in the self-storage industry as an investor and broker. To reach him, call 843.342.7650; e-mail [email protected]; visit www.midcoastproperties.com.