With nearly 50,000 self storage facilities in the United States, there is bound to be an owner who is considering selling almost every day. To give you an idea of the size of the self storage industry today, I have done a quick comparison below of the fast food industry and the self storage industry by number of locations. I would also mention that by rough estimates there is 2.104 Billion square feet of self storage in the United States which is approximately three times the size of Manhattan or 36,500 football fields.
Self storage is no longer a sleepy little industry that goes unnoticed. Therefore, it is important that you manage your objectives and understand how to execute them in order to maximize your investment. Below I have outlined three possible situations that you might find yourself in and some things to consider as you start to understand your objectives.
Should You Hold?
We believe that self storage is a very good business with a long term bright future. If you agree and are sure that you want to own and operate your facility for the next five to ten years then you are a "holder." If you fall into this category then you must follow these three important rules: 1) Lock in a low interest rate loan for at least 5 years and longer if possible, 2) Make sure you have enough money to weather the up and down revenue swings that all income-producing real estate experiences over an extended period of time, and 3) Make sure your facility is positioned to be a market leader and that you have the flexibility to adjust quickly to changing demand characteristics i.e. lowering rates, free rent, etc. These three rules should enable your investment to capitalize on improving market conditions and remain viable when market conditions deteriorate.
Should You Sell?
We have learned at Argus that there is a difference between considering selling and actually becoming a seller. To help clarify the difference, it is important to understand what your objectives are. At some point almost everyone will become a seller. Thinking through the following factors and understanding the current market will help you determine how close you are to becoming a seller and give you some things to consider in order to maximize your investment.
I have recently had discussions with five different facility owners who are all currently selling or considering selling. All of them are in this position because they fall into one of these categories: retirement, divorce, estate planning, partnership problems, liquidity issues, desire to relocate, concern for what may happen to capital gains tax, or health concerns. These are just a few things that make owning an investment property difficult. Our experience has indicated that about 80% of all self storage sales are a result of such personal issues rather than what a broker would call "taking advantage of the current market" or concern for the future market. This proclivity to make the final decision based on personal issues is entirely appropriate, but with a little planning and realistic thinking about the current market and what the future market may hold, it can be very rewarding and lead to a higher return on investment. As one of my mentors told me, "it is better to be a year early than a day late."
Should You Buy?
Buyers might think that with prices starting to stabilize, this would not be an ideal time to invest in self storage because most buyers want to buy when prices are down. I believe that it is a good time to be buying if you are able to follow the three rules for "holders" that I mentioned above.
It is also important to consider that interest rates will most likely rise at some point in the future. The result will be that the rate of cash on cash return goes down much faster with rising interest rates than when prices fall, and after all, a buyer is buying cash flow and return on investment. The reality for a buyer in a period of rising interest rates is that they wind up paying more interest than they save on price - and by a large margin! For example, a million dollar loan at 8.0% costs an owner $380,000 more in interest than a 6% loan over 25 years, not to mention that the majority of the interest comes in the first few years of the loan. In other words, a buyer has to get a giant discount to make up for the rise in interest rates. Rates of return work the same way. A project that has a 16% cash on cash return with a 6% loan would only yield a 12% cash on cash return with an 8% loan. Thus, even though prices are at stabilized levels, now is still a good time to buy. Buyers should remember that the seller is not getting the benefit from your new, low interest rate loan and that is what is creating the increase in cash flow. Sellers make a note; if it is a good time to buy, it is also a good time to find a buyer.
In review, if you are waiting for interest rates to rise so you can take advantage of lower prices, you are engaged in a losing proposition. If you are thinking of buying, now is the time to capture the low interest rates that are still available and realize the benefit of arbitrage. For a more in-depth discussion of identifying your objectives and maximizing the value of your self storage property, please join us on June 22 for our webinar "Realizing Value in Today’s Market."