We have spent a lot of time discussing equity. But equity usually only accounts for 20% to 35% of any new Self Storage deal.
What about the rest of the Self Storage money? Well, lenders.
And for the smaller investor, that story usually starts with the local banks. As much as I hate to say it, and as boring as it may sound, having a good relationship with a banker is the starting place. And for many of us that don’t necessarily have stellar credit that is not a fun thing to hear.
In my early days (college and slightly after) I used to set off alarms just walking into a bank. It took a while to develop and restore my credit history, and if you are like I was and want to play in this arena, having core partners (non-investor partners) with good credit may be a step along the way or a career path for you.
But establish the local banker relationship, and nurture it. It is a critical one to have in our business. If I was doing it over and starting on my first one, I would also consider an SBA loan, again through a local banker. They didn’t have them for Self-Storage when I started. They require less equity and don’t have balloon notes. However, they are higher interest and more cost up front.
Then as you establish yourself, gain traction, and build your net worth, you can start considering non-recourse institutional loans such as life insurance loans and conduit lending. Big boy or big girl loans for higher net worth groups and people, but a critical strategy as your portfolio grows and your contingent liabilities increase.
However, the real purpose of this blog is to bring your attention to a key number not talked about much, the “real cost of capital” for your Self-Storage facility.
What does that mean? Well, if you have investors, they are expecting or have a preferred status for getting a certain return. Let’s say it is 12%. In other words you are paying a 12% return on 35% of the deal.
What if you do not have investors and you are using your own money. What was that money earning before you put it in this deal? That is called a safe rate (I think). It is fair to say you can invest money safely and generate a 4% to 55% return in some index funds. So you could use that, or any rate you know you were getting on money before you put it to work in a Self-Storage deal. But for me it is anywhere from 10% to 12% preferred on the equity.
Then the loan cost is the balance of the rest of the capital. Today I am getting that from 4.5% to 4.65% interest. So if 65% of the deal is 4.5% money and 35% of the deal is 12% money, my total cost of capital is 8% (I think that is correct if you find I made a mistake don’t tell me). On one of the facilities I discuss in the book Creating Wealth Through Self-Storage, that was the total cost of capital on that project.
Why do you need to know that?
In today’s market, you had better know it. If CAP rates are 7% and your cost of capital is 8%, it might not be too fun a deal.
This is why having a plan and having confidence in your analysis skills are critical. If I am expanding or adding new income to a deal, (which we usually have to do today to be able to successfully purchase), I had better know very closely what they are going to generate in income. I had also better know very closely what my expenses are going to be.
Today I am having to pay a good CAP rate on the “Seller’s” NOI, then I have to know for sure I can increase it, how much, and my cost to increase it , because my “total cost of capital” is usually higher than the “going in CAP rate”.
At this point, I can again offer the 3 video training series free on my website CreatingWealthThroughSelfStorage.com. More detailed on line training courses are in the works and will be available soon.
So as you are looking at your next deal, be very strategic as you put this piece into play. Begin by establishing those relationships so you can call on them when needed. As I said last week, at the end of the day, relationships are everything.
Next week we will look inside our facilities and look closely at the skill sets we think make a difference inside this Self-Storage business.
