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Diamond in the Rough

Investing in Underperforming Self-Storage Properties: Finding Your Diamond in the Rough

One path to self-storage ownership for new investors is the purchase of an underperforming property that can be turned around to realize great profit. Follow these guidelines to find your “diamond in the rough.”

The self-storage industry is growing rapidly, and new investors are popping up every day. Many of them are starting fresh, with no experience in the industry. They’re looking for an easy investment to put more cash in their pockets. One way to make a purchase worthwhile is to invest in an underperforming property, turn it around and realize a great profit.

There are many benefits to this investment strategy, particularly for industry newcomers. First and foremost, buying a “fixer-upper” is cheaper than buying a well-performing property. This is especially helpful because the recent market has shown a historically low capitalization-rate environment, and finding a stabilized property to buy and run efficiently is difficult.

Indicators of Underperformance

Identifying a property with profit potential can be challenging, but there are a few key indicators. These “diamonds in the rough” have a common set of characteristics that tell you they’re worth the investment:

Web presence. If the facility lacks a modern website, or doesn’t have a website at all, it’s likely underperforming. Operators of these properties often don’t know the importance of a Web presence and are spending money on other things, which means there’s lots of room to improve.

Ancillary income. A facility that doesn’t have any add-on profit centers such as retail sales, tenant insurance or truck rentals can also a candidate. These are easy ways to make additional income. If the facility isn’t using them, there’s a lot of room for financial enhancement.

Low occupancy. If the facility has a lot of vacant units, it isn’t maximizing its revenue. A new investor could put strategies in place to reach higher occupancy and gain more profit, thus raising the net operating income (NOI).

Capital expenditures. Some facilities are outdated and need a few repairs such as a new roof, upgraded security or even a fresh coat of paint. These are small investments that greatly improve a facility’s appearance and help to raise occupancy and NOI.

Financials. Some owners spend money in the wrong areas, such as personal expenses or travel, and fail to allocate funds to important items like the marketing budget. Some also give a lot of freebies or discounts, or neglect the collection of fees. A new investor can re-categorize expenses to create a greater return on investment. Ideally, a storage facility should be running at a 60 percent to 70 percent margin, with expenses at 30 percent to 40 percent of income. If this ratio is off, a new investor can strategize how to mitigate expenses.

Property Characteristics

In addition to indicators of underperformance, you must look at the property characteristics to gauge potential. First, look at the facility’s size. The smaller the facility, the more difficult it will be to turn a profit. A lower square footage means lower rentable income. A site that’s too small can be hard to run efficiently. For example, a 25,000-square-foot property and a 70,000-square-foot property will both need a full-time manager, but the larger facility will have an easier time offsetting the manager’s salary with revenue. This means it’ll have a higher NOI.

Next, determine if the property has expansion potential. The cost to construct storage buildings is usually low compared to other real estate, which makes it easy to invest a small amount in a new structure. Often, an investor can even double his investment.

Profit Strategies

Once you’ve identified and purchased a property with indicators of low performance and the right physical characteristics, the next step is to put tools and procedures in place to generate more income. Here are a few ideas:

  • Self-serve kiosks: This technology is growing and has the potential to revolutionize industry staffing. It allows operators to minimize—sometimes even eliminate—payroll costs, especially if you manage multiple facilities through a single, centralized location. It also provides greater customer convenience, which could lead to more rentals.
  • Third-party management: Hiring a company to oversee the site can also improve profit. These firms take advantage of economies of scale to operate and market facilities. Many also have call centers and collections support. Some even have analytics resources to gauge and improve performance.
  • Ancillary products: As previously discussed, add-on profit generators such as truck rentals and retail sales can significantly grow facility income.
  • Internet: Online reservations and a strong Web presence can be another investment with great impact.

Finding an Exit

Probably one of the most important ways to set a property on the path to success is to have an exit strategy from day one. It’s important to know exactly what you want to get out of your investment so you can work toward that outcome. Many people just stumble into self-storage and don’t have a plan. But with a good exit strategy, you can plan how to implement processes and manage costs for what you want in the end.

An underperforming property can be a great opportunity for someone looking to break into the industry. By making just a few improvements, you can turn the facility around and more than double the income. While you should use caution when considering these “diamonds in the rough,” you can rest easy knowing these suggestions are tried and true strategies that have worked for several owners in the past.

Noel Cain is managing partner of the Debt & Equity Group at SkyView Advisors. He works with clients to provide financing and loan-workout services that fit each self-storage owner’s goals. In addition to closing more than $100 million in debt and equity, he has significant experience in underwriting, development and cash-flow modeling, as well as due diligence and site analysis. To reach him, call 414.306.6999; e-mail ncain@skyviewadvisors.com; visit www.skyviewadvisors.com.

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