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Using Due Diligence to Make Smart Self-Storage Acquisitions

As prospects for new development become less favorable, acquiring an existing facility is often an attractive option for self-storage investors. Learn how due diligence helps you analyze potential deals and avoid costly purchasing mistakes.

As more markets become saturated with self-storage and the prospects for new development become less appealing, investors are increasingly turning toward acquisitions of existing properties to enter the business or expand their portfolio. Learning how to analyze these potential deals can be painful and expensive, but conducting due diligence provides tremendous insight.

Audit Checklist

When considering a self-storage acquisition, schedule an onsite audit of the property early in the due-diligence period. Items to be evaluated should include:

  • Payment audit: Confirm cash flow.
  • Space audit: Confirm square footage as well as the number and status of all units.
  • Income statements: Review income and expenses.
  • Bank statements: Confirm reported collections have been deposited in the bank.
  • Management-software reports: Review these to develop a clear understanding of the facility’s state of affairs.
  • Lease audit: Confirm compliance.
  • Lien-sale review: Confirm legal compliance and that there aren’t lingering issues.
  • Deferred-maintenance review: Know what you may have to fix.

Depending on your financing requirements, you may need to gather additional information such as a property survey, environmental report, proof of zoning compliance and building permits.

Cash Flow

When considering the viability of a potential acquisition, one of the first items to consider is cash flow. Will the facility flow immediately upon closing, or will you have to subsidize it? If the latter, for how long?

In general, look for deals that will cash-flow immediately. Usually, the bank financing the deal will require a 1.2 to 1.3 debt-service coverage ratio (DSCR). This means you’ll need to generate $1.20 to $1.30 in net operating income for every dollar of debt. A purchase offer should always be based on your ability to collect the current reported income, pay expenses (including debt service) and have enough cash left over to meet or exceed the required DSCR.

During due diligence, you want to invest substantial effort on examining and confirming the target property’s reported income and expenses. Review management reports, income and bank statements to confirm rental payments and other income reported by the seller are accounted for and deposited in the bank. It’s also important to look for any reported expenses that aren’t necessarily relevant to a new owner and any you would likely incur. Some income may not carry over to you, so it’s important to contemplate financial underwriting with income sources that will. For example:

  • Truck-rental income: Do rental trucks come with the purchase? Will you continue to rent them out?
  • Billboard income: If there’s a billboard, does it come with the purchase, or will it be retained by the current owner?
  • Retail- and office-space rentals: Are these included in the rent roll or held separate by the current owner?

Some expenses may or may not carry over after the sale. Review them and underwrite your expectations accordingly. Considerations include:

  • Payroll: “Mom-and-pop” facilities sometimes don’t account for payroll, or they show payroll as far higher than would be considered reasonable.
  • Marketing: There’s sometimes little to no marketing costs represented in reported expenses.
  • Maintenance and other service contracts: It’s important to review all such agreements, as you may or may not be obligated to “inherit” them.

Potential Upside

Once you’ve examined cash flow, look for ways you can make the property more profitable and valuable. There are a number of categories to consider, some of which comprise important aspects of your market study, such as:

  • Expansion: If the facility has consistently high occupancy and the surrounding market is robust, consider expanding. The ability to add more storage space to a well-performing facility is one of the most effective ways to increase profit and value.
  • Ancillary income: Explore additional revenue sources. One profit center that’s often missing or grossly neglected at existing facilities is a tenant-insurance program.
  • Rate management: One of the easiest and most immediate ways to increase revenue is to implement a revenue-management system. It isn’t uncommon to find current ownership has never raised rates on existing tenants and rarely, if ever, increased posted street rates. This can even be true with properties that have very high occupancy.

Here are some other areas of operation where potential upside can be created. These can all impact the efficiency and productivity of your investment:

  • Website: Does the facility have one? Will you need to build one or do a redesign? To be effective in a competitive market, a self-storage facility needs a quality website equipped to deliver dynamic pricing, online rentals, account management and other modern amenities.
  • Call center: If the facility isn’t already using one, this is another opportunity. A call center allows for more efficient management and can give your acquisition a marketing and operational advantage.
  • Management software: Transferring the facility data to a more robust software can provide great operational improvement.
  • Hours: Can these be expanded or changed to make the facility more attractive to renters?
  • Lien sales: Consider whether onsite or online auctions will better help you minimize delinquencies and recover the most debt.

You’ll also need to think about items such as facility policies and procedures, credit card processing, security, marketing, and much more. When analyzing the current regime, consider whether any of these can be changed to lower expenses or increase income.

Management Options

Another consideration when contemplating a self-storage acquisition is how you’ll manage the facility. It’s crucial to make an informed decision on your operational model. There are several ways in run your operation:

Self-management. Many owners acquiring a small facility (35,000 square feet or fewer) will likely self-manage, either alone, with family members or by hiring a manager. First, you’ll want to garner the necessary knowledge and skills to maximize the facility’s potential upside.

Third-party management. A professional management firm will handle the day-to-day management of the property, charging a fee of 4 percent to 6 percent of gross income. It’ll take care of staff hiring and training, bookkeeping, marketing, and other operational functions. You can choose from small, independent firms, which tend to operate in specific regions and typically assume operation under your existing business name, or from much larger companies, which tend to apply their own branding to your operation, making it part of a greater enterprise. There are pros and cons to each.

Virtual management. A rising option is to use automation technology and platforms to manage the facility. The unattended self-storage model is becoming more popular and viable for many owners and investors.

Deferred Maintenance

Take great care to determine if there are any maintenance issues that will need to be resolved by the current owner before closing or any outstanding items for which you’ll need to budget. Just about any facility you look at will have some dents and dings on metal panels, gutters and downspouts, bollards, etc. You’ll have to decide if these are deal-breakers. They’re common and shouldn’t be overly expensive to remedy. At the very least, I recommend your contract requires the current owner to ensure every unit door is usable (including fixes as necessary to springs and latches) and that gates, keypads and cameras are all operational.

Major issues such as roof leaks, severe holes or cracks in asphalt or concrete, building damage that affects structural integrity, etc., can be very expensive to fix and will greatly decrease your ability to increase rates or add other improvements. The severity of these issues may be enough to pass on a facility.

When reviewed with relevant knowledge and a critical eye, an existing self-storage facility can be a great investment. Do your homework. Falling in love with a property can lead to bad decisions, so stay within your established parameters. You’ll likely have to review a lot of properties before you find the right buy, but it’ll be well worth it.

Bob Copper is the owner of Self-storage 101, a consulting firm specializing in self-storage. Bob and his team have worked with hundreds of owners, operators and managers to maximize asset value, conducting countless due-diligence audits and helping owners position their facilities to sell. To reach him, call 866.269.1311; e-mail bob@selfstorage101.com; visit www.selfstorage101.com.

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