Look Who’s Talking – Bill Alter, managing director – Self-Storage Group, Rein & Grossoehme Commercial Real Estate

With this issue of the Mini-Storage Messenger featuring our annual Top Operators List, there’s no better time to discuss how ownership within the self-storage industry is changing. Through acquisitions, sales, new builds, joint ventures, and the like, consolidation continues to impact the rankings of this real estate sector’s largest players.

There have been several significant alterations to the top operators compared to last year’s list, including a newcomer that made its astonishing debut amongst the top 10 and position swaps within the top five. Certainly, whether you are looking to buy, sell, or build, the stakes have never been higher.

A Seller’s Market
According to Bill Alter, managing director of the Self-Storage Group at Scottsdale, Ariz.-based Rein & Grossoehme Commercial Real Estate, the acquisitions market is incredibly competitive. And he doesn’t foresee that aggressiveness easing any time soon.

“It will continue to be competitive,” says Alter, who adds that there’s an abundance of buyers with plenty of capital that they’d like to invest into the self-storage industry. “There are more buyers than there are properties for sale. It’s a seller’s market.”

Alter splits those properties into two categories:

1. Class-A facilities that are less than five years old, have between 80,000 and 120,000 square feet, and constructed by merchant builders to be sold after achieving a pre-determined occupancy rate. 
2. Value-add facilities that are smaller (roughly half the size of the facilities mentioned above), older than five years old, and unlikely to be professionally managed. 

Although Alter notes that sellers of either property type are likely to receive premium prices for their facilities, buyers are being more selective with their purchases—even the REITs.

“Consolidation is continuing,” Alter says. “The REITs haven’t slowed down; they are still looking for deals, but they are more selective. They are looking for opportunities with proven track records.”

Alter goes on to say that buyers in general want to see some occupancy stability, which is why the Certificate of Occupancy (C of O) deals have become less common compared to earlier years within this drawn-out development cycle. Instead of the C of O, buyers are preferring to purchase facilities that have been managed for a few years and already have decent occupancy levels.

He believes this shift is directly related to the lingering fear of overbuilding within the self-storage industry. In other words, to mitigate some of the risk, buyers want to know there is enough demand in a marketplace for the new supply before acquiring a Class-A new construction facility. To get the most bang for their buck, Alter advises merchant builders to hold onto their new builds and manage them for a few years prior to putting them on the market. This will enable the facility to achieve an attractive occupancy level.

As for the older self-storage properties, Alter mentions that there are few available. “Many who wanted to sell have already done so,” he says, adding that they sell at aggressive cap rates and premiums. “Most sell as value-add deals, and many sellers are surprised by the values.”

Overall, the goal for many buyers seems to be creating (or expanding) economies of scale to reduce expenses and increase benefits. Consolidation through joint ventures and acquisitions are expected to continue as companies attempt to strengthen their brands as well as their market share. While brokers aren’t involved with joint ventures, Alter predicts that their will be more of them in the future as self-storage has managed to stay in the favor of the institutional money that typically funds them.    

On another note, Alter advises self-storage owners to only sell when they are ready. “People have been using fear tactics for years, saying ‘now is the time to sell’,” he says, “but don’t be pressured to sell.”   

The Never-Ending Cycle
Alter, who was one of the founding members of the Arizona Self-Storage Association (AZSA) and has been a self-storage broker for 35 years, has seen development cycles come and go. And this current development cycle, which seems to be exceeding everyone’s predictions, has him concerned. Recalling the last development cycle, which led to oversupplied markets and performance struggles, Alter is fearful that this cycle won’t end well.

“It keeps going,” he says. “The ‘experts’ keep saying each year that it will be the peak year for new builds, but development hasn’t slowed.” Alter states that the peak year just keeps getting pushed back to the upcoming year. With no stoppage to the supply in his sights, he admits that all anyone truly knows is that the current development cycle will end … eventually.

Arizona, the state in which Alter exclusively works, is a prime example of the development boom that’s been happening for the past several years. He calls the past and current development within the state, especially the Phoenix area, “astounding,” and notes that even more development is in the planning stages. In fact, another approximately 10 percent of the total existing supply is slated to be added to the MSA by the end of 2020. 

“Most of the Phoenix MSA is going to be overbuilt,” Alter warns. “Every place within it has seen its fair share of new construction.”

For that reason, Alter strongly encourages self-storage developers to get feasibility studies done by unbiased and honest industry professionals before deciding to build, especially if that parcel is located in the Valley of the Sun. “Accept the results of it,” he says, emphasizing that ignoring the findings of feasibility studies can have detrimental implications—not just for the projected project but for all operators in the market.

Indeed, due diligence—and restraint—is the key to preventing market saturation. Ensuring there is ample demand for additional self-storage supply before developing new facilities or converting existing structures into storage should be everyone’s priority to preserve the health of the entire industry.         

Recessionary Demand
The problem with too much new supply is that surplus eventually diminishes demand. In turn, a lack of demand for self-storage space has the propensity to lead to plunging rental rates and flat occupancy levels. Furthermore, without steady population growth, self-storage facilities located in areas saturated with storage supply are prone to struggle. Economic occupancy slips from an increase in discounts and concessions, which are typically offered as a means for attracting new tenants. In other words, storage facilities in oversupplied markets do not have enough demand to command premium rates, forcing operators to compete on price alone, which is an unfavorable business practice.

As if overbuilding wasn’t worrisome enough, nowadays, with more than half of economists predicting an impending recession, perhaps as early as next year, self-storage operators may have additional cause for concern. Alter reminds the self-storage industry that during recessions, when people have less income and are seeking ways to cut expenses from their tighter budgets, unit rentals can be seen as “discretionary”.

Therefore, tenants negatively affected by the recession may need to move out of their units—either selling or disposing of their stored goods—to make ends meet. Of course, they could also choose to quit paying their monthly rent and allow their unit to go to auction. Regardless of which hypothetical option they take, a recession coupled with a surplus of supply is not a good combination for self-storage businesses.

“The self-storage industry’s recession-resistance label could be affected by the cost of storage,” Alter adds. He says this is more likely to occur in markets where developers have constructed self-storage facilities at extremely high costs, such as $50 per square foot, and have chosen to pass those costs on to customers through high rental rates in order to make the project pencil.

An Ever-Changing Industry
While no one knows exactly what the future holds for the self-storage industry, there is one thing that is certain: It will keep changing. With new technologies, software, companies, investors, and joint ventures/partnerships—and of course new facilities—constantly emerging, there’s no telling what surprises may surface throughout the coming year.