I am sitting here in the last quarter of the year in 2024. There are some really exciting aspects of our business as I look into the future, and there are some real risks.
I am planning out my next few years for myself and working on what I can tell people I coach and work with.
As I started writing down my thoughts to make them coherent, I realized this was an episode.
I created five strengths and weaknesses of the self-storage business from a smaller investor perspective as I see it for the next few years. Going through this drill, I felt it allowed me to think clearly about the rewards and risks of the industry I love so much and be able to pass them on to the people I work with and partner with.
So here it is.
Strengths of The Self-Storage Industry
- The business does well in both economic good times and bad times.
Given the nature of our business and the fact most of our customers need our product (space) because of changes in their lives, both boom and bust times create those changes.
During COVID, our industry’s occupancy rate went up.
During the worst economic recession since the 1929 stock market crash and the depression in the 1930s, our industry’s occupancy rate dipped slightly.
It is a resilient asset class that can do well in all economic environments. We may have to do different things in hard times, but overall, it is a very resilient business and a great one to be in, especially in economic downtimes.
- Our rental rates are not locked In for long periods of time.
Coming from a commercial real estate background, I truly appreciate the fact we can raise (or lower) our rates of our own choosing.
In every other real estate asset class, I am negotiating rental rates for three, five, ten sometimes even fifteen years into the future.
Because self-storage is usually a month-to-month contract with our customers, I can adjust rates to fit my needs as an owner. Rarely do I ever lose customers over a rate increase.
Yes, I keep my eye on my competitors and know what my customers would be paying if they decided to leave. But rarely do I ever lose customers. From 2013 to 2019, our portfolios averaged a 6% per year price increase (inflation during that time was only about 2.5%).
Real wealth can be created because of this fact.
- Demand for storage is going up.
More of the US population is comfortable with self-storage than ever before.
Various sources have different numbers, but from what I can tell, about 1 in 5 Americans rent a self-storage unit.
What if, over the next five years, that went to 2 people?
Our population is estimated to grow by .04% per year. If my calculations are anywhere near correct, just the growth over the next for years alone will generate over 220 million square feet of new self-storage.
The game will be to have our facilities where that growth is.
- Storage’s low operational and capital cost are low.
Depending on the size and way we run our projects, our operating costs can run from between 30% to 42% of our income for stabilized properties.
That is lower compared to other asset classes like offices and apartments.
Even with rising insurance, taxes, and marketing costs, we can somewhat offset that with technology.
In 2013, I was averaging about $250,000 of gross rental income per full-time employee. By 2019 that number was over $350,000 of gross income per full time employee. Technology made that happen.
The real boost to the overall return for our projects (not to mention the lower risk level as well) is because our ongoing capital costs are very low.
Essentially, we have a steel wall, roll-up door, and concrete floor generating apartment-like rent PSF. For 15 cents PSF per year, we can set aside a reserve fund for ongoing capital costs that will rarely call for us to dip into our operating income for capital improvements.
No other asset class even comes close to self-storage in this regard.
So once stabilized, our projects tend to be very profitable and safe investments.
- The Boat & RV niche of our industry is in early stages of growth.
Much like self-storage was in the 80s and 90s or so, defining itself as an asset class, the Boat & RV sector of storage is now doing that in my opinion.
From what I can tell, each year, about 20% more potential demand is created for RV storage alone based on RV manufacturing and sales. Many of these new vehicles will need to be stored somewhere due to HOA restrictions, and people are looking for safe, nice places to rent for their expensive toys.
If we look at the industry in terms of a human life span, sell-storage is a full adult now, but the Boat & RV industry is a toddler.
I have the experience of being at the forefront of helping define what this industry will become.
Mark my words: REITs will soon be in or will be formed to be in this growing sector of storage.
Weaknesses (Risks) of The Self-Storage Industry
No business is without risks, and here is what I see as I look forward for the next few years.
- Many markets and trade areas are overbuilt.
As we all know, there has been an explosion of projects over the last five to eight years or so. Lots of money has poured into this sector. Many projects built were fee-driven rather than return-driven, so it was easy to step over supply/demand metrics in a trade area and just build.
So, as smaller investors, we must be cautious and select our locations carefully.
It also expands the area where we need to look to put projects into service, sometimes making it more difficult for us to oversee them.
I have seen some people underestimate the time and resources it takes to manage an out-of-state project, especially early in their careers.
Just be aware of this and go in with your eyes open. Your market area is most likely going to be larger than you originally anticipated. Put a good team in place to deal with this reality over the next few years.
- More expensive development costs.
Literally, for the same project I built in 2016, in 2024, I was getting double the cost (or more) quotes from GCs.
Double!
Most lenders now require GCs to do the construction rather than allowing me to act as an owner and self-supervise the construction as I did in the past.
That is why I helped form Resolve, a self-storage construction company focused on the smaller investor (myself and you if you need it).
Even now, our costs are 25% to 30% more than in 2016 construction.
So, it costs more to do the value-added plays we have been doing for the last decade or so. Margins are tighter, especially with higher interest rates. So, ultimately, we are doing fewer deals.
But we, and people I work with are still doing deals. Just less of them because we are underwriting much more conservatively.
- CAP rates and Interest rate spread still very slim.
This goes hand in hand with number 2 above. When buying existing self-storage (or any asset class), one needs a 2% to 3% spread between the going-in CAP rate and the interest rate to have the asset cash flow well.
We haven’t seen that spread in the self-storage sector in a long time.
So, to get the returns we need, we need to still, even as CAP rates go up, do value-added plays. This is because the spread of CAP rates to interest rates is still minimal.
That is ultimately due to the amount of capital still in this sector chasing deals, in my opinion.
We can’t control this, but we can control what we look for, how we underwrite, and our negotiation strategy.
But in my opinion, this will be an ongoing risk for the foreseeable future.
- REITs can drive pricing way down in many markets.
I have ranted about this enough, but I do see it as an ongoing risk to us in the foreseeable future.
If you are in a market with REITs and/or players using lots of algorithmic pricing strategies, they can drive market rates down.
Yes, it’s only “moving-in” prices, but it still impacts one’s cash flow, not to mention how banks use this information to underwrite our loans.
The worst I have seen is in one major market, from the time a person I was working with underwrote a project and commenced construction, to the time he started renting, the rates went down 30%.
One REIT had a large share of that market and could affect it, but it had a real impact on what he had to ask for during his lease-up period. If he had had lots of debt like many of us do, he could have had real problems.
Just be aware of this. I now usually reduce the rents on my proformas during the lease-up phase, add in concessions, and have no price increases until the project is stable.
- Self-Storage has a small trade area.
This is not new, but due to the fact online marketing has become so important, it has become a real issue we, as small owners, have to deal with.
Most of us are not trained in online marketing, and to do it right, it takes constant tweaking and monitoring.
What generates results for one facility usually fails utterly for another facility, even in the same city.
The real issue is that the trade areas are so small (usually 3 to 5 miles) that there are just not enough clicks to get Google to work well, and the constant monitoring to do it right is prohibitive for many owners.
As owners today, we have got to deal with this and form strategies to create effective online marketing.
Conclusion
There have always been challenges in this business. In the 1990s and early 2000s, I was challenged to deal with different situations.
Don’t let challenges stop you from getting on the field and playing the game. We develop our skills and become better owners and entrepreneurs by addressing the challenges and working through them.
The resilience of this asset class is its primary strength, and that is why I am still dancing with it after all these years.
These are just my thoughts for the fourth quarter of 2024. Good hunting.
