Inside Self-Storage

JUN 2019

Inside Self-Storage (ISS) is an information source for industry owners, managers, developers and investors covering news, trends, facility operation, finance, real estate, construction, development, marketing, technology, insurance and legality.

Issue link: http://digital.insideselfstorage.com/i/1111702

Contents of this Issue

Navigation

Page 19 of 51

T here are few commercial real estate investments that are more consistently profitable and valuable than self-storage. The huge amount of capital being driven toward our industry by individuals and large investment groups is one clear sign of the desire for new development, and there's now a frantic search for viable markets and locations. Unfortunately, this frenzy leads some people to make poor decisions. They're often blinded to the deficiencies of a potential project by the promises of positive cash flow, stabilized value and obscenely low capitalization rates. The hard reality is not all storage projects should be realized, regardless of an owner's or developer's desire to build. How do you know if you should proceed? Research the market carefully and consider the following. Rental Rates While most potentially negative aspects of a self-storage project can be mitigated by other positive factors, there's one clear line in the sand: prevailing market rental rates. The No. 1 reason to not move ahead with a project is low rates. There are two reasons these will exist in a market, and you can't overcome either one. 1. A soft market . If you're looking at a market that contains sophisticated operators, such as one or more real estate investment trusts or locals that use a similar dynamic-pricing model, their rates are what the market can bear. If they're are low, that's the clearest indication of a weak market. Sophisticated operators adjust their rates based on occupancy. Lower rates equal lower occupancy. If these operators can't charge enough for your new development to be financially viable, neither can you. 2. Unsophisticated operators. The most common reason we see low rental rates is facility operators who don't have enough sense to raise them. I regularly survey markets where occupancy ranges from 90 percent to 100 percent across the board. The average rental rates are so low that even if your land was free you still couldn't make the numbers work. For example, I recently examined a market in which the average 10-by-10, non-climate-controlled unit was $58 per month. The lone Public Storage facility in the market, a 1980s vintage site, was charging $130 per month. Plus, every facility in the market was at more than 90 percent occupancy. You'd think it would dawn on some of those operators that maybe raising the rate to at least $70 or $80 per month would be a good idea. Nope, it didn't. There are some exceptions to this paradigm. For example, if none of the market competitors have climate-controlled storage and the demographic profile indicates higher income levels, it may be possible to develop a climate-controlled facility to mitigate the lower rates. That said, development costs are too high today to expect project return to exceed investment risk if rental rates are too low. While project costs can vary from market to market, in most areas, a blended rate across the unit mix of $14 per foot per year will generally provide a sufficiently high return to move ahead. Projects can certainly work with lower rates but will depend on minimal site work and lower hard building costs. They will also have less room for error. Before moving too far along in the building process, it's critically important to understand the market rental rates and how high they'll have to be to ensure success. If the difference between the market rates and what you need to make the numbers work is substantial, find another location. Other Market Conditions You can't responsibly develop a self-storage facility without first understanding the following additional market conditions: Occupancy. If the occupancy levels for stabilized competitors are generally lower (consistently below the 80 percent to 85 percent range), the market is most likely too weak to support new development. There are some market deficiencies a new project can overcome, but low occupancy isn't one of them. Discounting. Widespread aggressive discounting is another sign of a weak market. Demographics. While self-storage can work across just about every demographic profile, trying to build in a market with declining population will likely prove problematic. Demand analysis. While most market studies will likely include some sort of a demand analysis, be careful not to assign too much importance to those numbers. Just because the analysis shows • To confrm your own initial fndings that a site has the required demand and other features needed for a great self-storage location • To obtain estimated construction costs, along with an income- and-expense pro forma to better understand the fnancial scenarios and opportunity for proft • To better understand your competition so you can plan accordingly • To satisfy the feasibility-study requirement of many banks (especially Small Business Administration lenders) or investment partners Reasons for a Feasibility Study Source: insideselfstorage.com, "Building It Isn't Enough! Understanding the Value of a Self-Storage Feasibility Study," by Marc Goodin Testing the viability of a potential new project By Bob Copper Thumbs Up or Down? 4 18 ISS I June 2019 www.insideselfstorage.com

Articles in this issue

Links on this page

Archives of this issue

view archives of Inside Self-Storage - JUN 2019