Storage Business Owners Alliance
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Protecting Your Property's Value

Date: 1/30/2015
Author: Ben Vestal
Link: www.argus-selfstorage.com/property_pdfs/271968358.pdf

 Protecting Your Property’s Value

by Ben Vestal

As self-storage brokers, we spend a lot of time thinking about the value of self-storage properties.  Our conversations are usually focused on interest rates, cap rates, timing of the real estate cycles, loan to value ratios, basis points, cost of capital, net operating income (NOI) and lot of other topics that rarely interest property owners other than when they decide to buy or sell a property.  There is a good reason most owners avoid this terminology on a daily basis: they are running a storage business! However, we believe that there is a connection between understating the nuances of what does and does not create value and running a successful business. Now more than ever before, the value and preservation of value for self-storage assets is focused around NOI and whether or not the income is being maximized by the current operator. The old rule of thumb that 90% of your facility’s value is in the NOI is ringing true today.

The current market fundamentals and new and well-capitalized players in the industry along with the historically low interest rates have pushed values to record highs and made some owners complacent.  When values climb and cap rates compress, we must think ahead to what happens when the market peaks.  How can self-storage owners protect their investments? The risk that self-storage owners face today is not only whether their NOI goes up or down, but that cap rates will go up at a faster rate than their NOI can compensate for, creating a loss of value.  With investors looking to maximize their rate of return and limit the amount of risk (value preservation), it is only logical to think that if we control our operating expenses, maximize our return on our operating expenses, and increase our revenues that the NOI and cash flow will preserve and possibly increase the value of our asset.      

Because my space is limited, I have touched on few topics below that will allow you to calculate the value of self-storage properties along with some tips that will help you preserve your value in these very frothy times. However, please know that the topic of valuation is very subjective and each deal has nuances that are property specific.       

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Calculating Value:

 

Valuation is a professional art, and while mechanical number manipulations are a very importation part of the process, there is also a large measure of real estate judgment and experience in developing a precise value range. While we cannot elaborate on every point of judgment necessary to arrive at the precise valuation, we will try and give you the basics that will help get you in the ball park of valuation but will also make your conversation with your local self-storage expert more productive.

It should be noted that true market valuation takes a much more in-depth look at value, calculating the value not only based on income, but a cost basis and market sales comparable approach. The cost basis method compares the cost of replacing the facility in the market your facility is located in, and the market sales comparable method compares the value actually achieved in the marketplace by similar facilities in recent sales. However, in large measure the value of your property to most potential buyers today is largely driven by the net operating income (NOI) and income approach.  Your NOI is simply your total revenues minus your operating expenses.  The value can then be calculated by dividing the NOI by a market and property-specific cap rate. Remember you must use industry standard operating expenses and be realistic about cap rates - not all properties are 6 cap deals. 

Without reconciling the value from each of these three independent methods, one cannot be sure that the correct value for the property has been identified. It is a complicated process and one that requires the expertise of a professional who is active in the self-storage investment business.

Value Preservation:

The old adage that “watching your pennies will make you dollars” holds true in the self-storage business, except that we can expect an even greater return when we make an effort to save on operating expenses.  However, you need to understand how to measure your operating expenses and understand what expenses result in the greatest return on your invested dollars in operations. If you are not already, you need to be monetizing your property’s general amenities (security cameras, management software, gate access systems, selling tenant insurance, general repairs and maintenance, etc.).  Also evaluating and upgrading your property’s operations (on-site management, kiosks, online bill pay, online reservations, monthly P&L reports, etc.) will pay big dividends.  At one time or another we have all looked at our to-do list and thought “I can do that next month,” but reviewing and analyzing your operating expenses and general amenities is not one of those things you can afford to put off until next month. Operating expenses need to be reviewed regularly to ensure that the value of your property and its cash flow are not being undermined by subtle, yet devastating increases in operating expenses.

First, it is important to understand the magnitude of what each dollar of lost NOI means to the value of a property.   Assuming that cap rates are in the 7% to 9% range, each dollar of gained NOI will result in an increase of value by $11 to $14. So if you are able to save $6,000 per year (or $500 monthly), you have increased the value of your property by between $66,000 and $85,000.   While the majority of self-storage expenses are in the three major categories of real estate taxes, management, and advertising it is understandable how yearly escalations in these expenses can deteriorate the value of your property. However you must also consider even the smallest expense when calculating the affect each dollar of NOI has on your value.  Interestingly enough, you don’t have to sell your property to get an immediate gain out of these saved operating expenses; the value will be reflected in the amount you can borrow on the property. Generally speaking you can borrow 70% of the increased value when you refinance. So you can have your cake and eat it too!

In the ultra-competitive environment of today’s self-storage business you must rethink how you approach operating expenses and implement a regular process for reviewing and evaluating the return of each operating expense and amenity.   Remember that no box is too small to look for a dollar!

 Ben Vestal is president of the Argus Self Storage Sales Network, a national network of real estate brokers who specialize in self-storage. Argus provides brokerage, consulting and marketing services to self-storage buyers and sellers. For more information, call 800.55.STORE; e-mail bvestal@argus-realestate.com; visit www.argus-selfstorage.com.