Keeping a Self Storage Business Viable
- Mar 23, 2020
In the past couple of years, the self storage sector was defined by heightened development activity. And as new players continue to enter the business, the industry is becoming increasingly more competitive. Commercial Property Executive discussed where the business is heading with Michael Johnson, principal of Bellomy & Co. In the interview below, he provided insights on the impact of heavy deliveries over the past few years and the challenges of the self storage financing landscape, and also listed a few pieces of advice for those starting out in this business.
How has the self storage industry changed during the past few years?
Johnson: Over the past four years, the self storage industry has experienced a very active development cycle. The self storage market in the U.S. did not see significant development from 2008 to 2014. During this time, several cities and states experienced residential, population and job growth, creating demand for self storage. Almost all major markets across the country are dealing with supply issues due to the development cycle. This is causing operators to soften rental rates and offer significant discounts to get occupancy. The most attractive markets in the U.S. tend to be the ones with the highest barriers to entry.
How do you see the sector in terms of supply and demand today?
Johnson: The development cycle is still winding down, as several projects are still getting completed. However, new projects and the amount of calls from developers looking for sites is almost non-existent. Self storage is a submarket business. You get your tenants from 1, 3, 5 miles. There will be several submarkets that will suffer for 3-5 years due to overbuilding.
What are the biggest challenges in the self storage financing landscape?
Johnson: Self storage financing has been readily available for many years. We are starting to see lenders get more selective on construction loans because of the development activity across the country. In certain scenarios, where a property has been open for six, 12, 18 months in submarkets impacted by new supply and softened rental rates, owners are struggling to meet the requirements of their lender.
How have the needs of self storage borrowers changed in the past few years?
Johnson: The self storage market has been very active on acquisitions and construction over the past few years due to the financing landscape. Some important terms borrowers tend to look for is an interest-only period up to 10 years and non-recourse.
What type of self storage assets are popular with investors?
Johnson: Self storage facilities that are stabilized and well located have seen the most interest in this market. It is an income-based business, so properties with higher income and historical cash flow tend to get the most attention and sell for a premium.
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What advice would you provide someone who is just starting out in the self storage business?
Johnson: The advice we give to people getting in the business is to come up with a set of guidelines for what they’re trying to accomplish and stick to those guidelines. You must be prudent in today’s market with the impact of new development and consolidation with REITs. The resources that both state and nationwide self storage associations provide offer great tools for people just starting out in self storage. It’s important to stress test your underwriting on rental rates and occupancy. Also test insurance and property tax assumptions as these line-item expenses are increasing.
What trends do you think will impact the industry in the year ahead?
Johnson: I think we will continue to see newly constructed lease-up deals coming to the market. The competition for stabilized cash-flowing properties will continue.
How can a self storage provider stay ahead of the competition in 2020?
Johnson: Self storage is becoming an increasingly online business. Consumers are using computers and smartphones to determine where to lease and to complete the leasing procedure online. This is expensive and tougher for smaller operators to compete. More and more of these operators are using third-party management companies so they can have the benefit of scale. It’s also important to be conservative with leverage this late in the economic cycle.