Ugly duckling

Don’t Get Stuck With an Ugly Duckling! Tips for a Smooth Self-Storage Due-Diligence Process

When purchasing a self-storage facility, the term “buyer beware” applies. The following offers guidance on the due-diligence process and the professional team that will help ensure a smooth transaction.

We’ve all heard of the principle “caveat emptor,” or “let the buyer beware.” It means the buyer is responsible for checking the quality and suitability of goods before making a purchase. Still, it amazes me how many self-storage buyers have more money than common sense when spending millions of dollars to purchase a facility. They get excited about an accepted contract and leave due diligence at the door.

Although you may want to trust all the facts provided to you by the seller, you need professional help when evaluating a potential asset so you’re not stuck with an expensive “ugly duckling” that’ll never grow into a swan. Statements and facts that aren’t verified through a review of the market and competition, physical plant, facility finances, and overall operation can result in an unhappy purchase. This article will cover a few points you and your team of qualified professionals can use to ensure that what’s presented on paper is accurate and your quest for information is fulfilled.

Your Team

First, you need to assemble your professional acquisition team. This should include:

  • A real estate attorney and broker, both experienced in self-storage transactions
  • A certified public accountant (CPA) or firm with extensive experience in real estate transactional accounting review
  • A reputable construction company or engineer
  • A qualified self-storage consulting or management company with due-diligence experience

An experienced self-storage attorney can help you avoid legal terms that often are inserted into the purchase contract to protect the seller rather than the buyer. The attorney and broker will also help you when requesting items that will be added to the contract. These include but are not limited to:

  • Phase I environmental report
  • ALTA (American Land Title Association) survey of property lines and easements
  • Flood zones that affect the subject property
  • Vacant land that could face challenges due to protected riparian zones or soil issues
  • Fire inspection of extinguishers and suppression systems

One of the biggest and most important purchase factors is the Certificate of Occupancy (CO), which states the site complies with zoning and other city and county requirements. Not having a CO is a red flag that should be investigated. Although very rare, it can occur, especially in smaller towns. Also, what zoning area is the subject site located in, and could this affect future development or expansion, unit sizes, vehicle storage, or barriers to entry for future competitors? All these items can affect site performance.

Your professional acquisition team will cost money upfront but will offer you a better understanding of hidden or misrepresented issues in the market, physical plant, facility accounting and overall operation. Some items may even warrant a reduction in the sale price.

Market/Competition Review

All buyers should conduct an extensive due diligence of the local competition including curb appeal, occupancy, specials and rental rates. The research, done within a three- to five-mile radius, will allow you to see how the subject site truly stacks up against the competitors in the market.

It’s amazing what you can uncover by talking to managers at nearby facilities. In one purchase for which I conducted due diligence, a site that looked perfect had flooded every summer due to rain, according to a competitor. This important information led us to hire a restoration firm to evaluate the property, which revealed hidden damage that had been covered up. This fact alone led to a large reduction in the sale price as well as a solution for the property.

It’s also important to verify that rental rates and occupancy are accurate as listed in the sale package. Of course, there can be seasonal issues that affect these numbers. For example, if you’re buying a storage facility in a college town, you’ll see highs and lows around student renting, especially in the summer.

As part of your research, find out if competitors are full but have low rates and specials. Can you compete in the market based on local income demographics? If there are discrepancies in this information, it warrants additional investigation. There may be valid reasons, but you must understand how these facts could affect performance.

Physical-Plant Review

The physical site review is one of the most important evaluations when purchasing a self-storage facility. Your construction company or engineer will examine all the things you might overlook. For example, an uninformed buyer might not realize that unit slabs weren’t raised from the asphalt and flood at every rainfall.

Leaking roofs is another problem that can be expensive to fix. This needs to be uncovered prior to purchase. A roof inspection eliminates surprises, and if there’s a leak, a price reduction can often can be negotiated.

Here are a few other things a professional company can help you answer:

  • Can the building handle a larger sign, or can one be placed based on zoning policies?
  • Are the concrete or asphalt aisles in good shape or broken?
  • Are the climate-controlled units up to code and have they been serviced?
  • Are the unit doors hard to open? Is the manufacturer still in business for parts, or will the site need all new doors?

Finally, always hire a pest-control company to evaluate everything from rodent issues to termites in wood buildings or interiors.

As you can see, there are many physical aspects to a storage property that need to be checked. Remember, not all issues are deal-breakers but rather negotiating points.

Financial Review

The financial investigation is critical for the purchase. Often, the CPA finds non-disclosed issues that may affect business income. For example, if the review reveals dips in income when the site is highly occupied, why is this happening?

Always ask for two to three years of property tax returns. Request the same years in management summaries and occupancies. Perhaps the facility uses management software that can generate reports you can scrutinize for financial or operational issues.

Also, request copies of all contracts that affect site expenses. Does the stated purchase price, which is often based on net operating income for two to three years, reflect accurate expenses? Many buyers overlook utility costs, so look at those, especially on properties with climate control.

Another big expense item is real estate taxes, which can strangle cash flow. You need to know if the tax bill will increase and by how much. Have the site’s taxes been on a restrictive escalation due to law that will escalate greatly upon sale? Many sellers fail to appeal their real estate taxes and leave money on the table. Knowing this information will allow the CPA to accurately complete the due diligence and offer a more defined return on investment.

Operational Review

An experienced consulting or management company can summarize all the operational functions of a professional self-storage site and verify that all facility operations are normal or determine where they can be improved. Often, lending institutions won’t even make a loan without an experienced company advising on or running the site for a set period.

The company you hire will evaluate the systems related to marketing, collections and lien-sale compliance. It’ll complete a full site audit to make recommendations on curb appeal, security, lease clauses and more. It’ll also verify all tenants and ensure the required forms are completed correctly, thus avoiding legal issues down the road. Finally, an evaluation of the facility’s service contracts will determine if they’re truly necessary, what their terms are, and if money can be saved by cutting them or putting them out to bid.

Before you buy, you must be willing to invest in the due diligence necessary to make smart decisions on the path to self-storage ownership, or suffer the consequences. Paying fees upfront will help you avoid buying an ugly duckling, or at least be assured of growing it into a beautiful swan for a great financial outcome.

Andrew Kelly Jr. is principal of Sierra Self Storage Consulting LLC, which was founded in 2004 to help new and existing facility operators enhance their return on investment. The company offers facility brokerage, consulting for new development and due diligence, facility audits, owner and staff training, and property management. For more information, call 520.323.6169; visit www.sierraselfstorageconsulting.com

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