Self-Storage Investing: Buying vs Building
When you are first getting into self-storage investing it is a lot like dating: whether you buy or build you are going to have to kiss a lot of frogs to find your prince.
Think like a self-storage feasibility analyst and pull out our old pros and cons list from days of yore (ladies, I know you have one; gentlemen, you needed one and just look what happened since you didn’t) and think this through.
Pros of Buying
Like dating an ex, it’s a sure thing – you know more or less what you are going to get. The customer base, operating expenses, rents and tax returns – it’s mostly all there in black and white. Of course, you need to verify the data is true, but overall buying is the known versus the unknown and therefore less risky, less daunting and simpler than building.
Do not need as much industry expertise or business acumen as you do to build.
May be faster than building if you can find a good deal.
Unlike your ex, you can change the facility and may be able to make it more profitable by fixing things like rental rates, security, marketing, expanding, implementing technology for cost savings, making landscaping improvements, etc.
Pros of Building
Building is less expensive than buying because when you buy you are buying an income stream. When you build there is no income stream – yet.
All things being equal, it is less expensive to build a Class A facility than buy one.
Unlike your perfect mate, you can build your perfect facility. And control every aspect of the facility design’s and construction. What kind of fantasy world is this?
Right now there are many opportunities to convert existing retail structures to self-storage in great locations.
Your facility will be new and thus more appealing than competitors. Because you are starting from scratch, you can build in technology that is harder for competitors to match.
You can build in phases and keep adding more of most popular sized units.
The profits to be had at the exit are probably greater, depending on your market and how long you hold the facility.
Cons of Buying
Every site has a problem (insert your own personal relationship reference here), and it’s up to you to figure out what it is.
If you don’t catch deferred maintenance in your inspection you could be hit with a lot of unexpected costs. You are buying someone else’s problems including site limitations that you cannot fix and problem tenants that you will have to fix.
You may not be able to get your dream facility in a primary market if you cannot compete with the big players’ checkbooks. This is pretty easy to get over because I doubt you are married to George Clooney either.
Your return on investment is lower overall because you must pay the fair market value of the facility. Remember, you aren’t just buying a building and the land it is on, you are buying a revenue-generating business.
Although you may be able to avoid increased property taxes by buying the property’s business entity, you may not. Be sure you know what the new property taxes will be before you make a decision.
Expanding the facility may not be possible or may be cost prohibitive because of site limitations or existing problems. If expansion is necessary to reach your desired rate of return, be sure your purchase agreement is contingent on zoning and permit approval.
Every site has a problem (insert your own personal relationship reference here), and it’s up to you to figure out what it is. And yes, I know this is also on the cons list for buying.
Cons of Building
Projections are just projections. Building is inherently riskier than buying.
Beware of design and construction mistakes. Without careful research and planning, you may not build the most desirable size units, you may make mistakes due to codes you are not aware of, there is a scary long list of potential pitfalls.
To avoid these and other mistakes, you have to put together a development team if you don’t have one from working in a similar industry. Vet your engineer, architect, general contractor, attorney and title company carefully because your finished product will only be as good as they are. If you do your due diligence correctly, you could move this up to the pros column.
There are going to be timeline overruns. Get over it.
Building is more time consuming and labor intensive than buying.
Until your facility is 90% occupied it does not reach its full fair market value and this may take 2-3 years.
If you decide to phase there may be reasons you cannot build the second phase due to zoning, political or economic changes beyond your control.
For the same reasons, your up front investment may not pay off if you are not able to build.
Just Ask Her to Dance Already
This is no time to be a wallflower. Whether you think you are going to buy or build, you need to start looking at facilities for sale and learning from them.
In order to learn anything, first you must know yourself.
Identify your preferred business model including how you want to manage your facility and rate of return so you can objectively compare facilities or dirt you are considering buying. Either way, don’t get emotional about deals that don’t meet your goals and standards (remember, there is a reason they are called ex’s and you are not. going. down. that. road.).
Make a list of the pros and cons of each facility and verify everything the broker and seller tell you. Run the net operating income and return on investment numbers yourself on every prospective site or deal and determine the site value yourself. Don’t just accept the seller’s word for it because the appraiser and the bank sure won’t.
Whether you end up buying or building may be out of your hands. If there isn’t anything for sale in the markets within a reasonable driving distance of where you live and you want to manage the facility yourself, you may have to build if there is nothing to buy (and only if there is unmet demand in your target market).
There are four things you need to do regardless of your decision to buy or build:
1. Do your research and educate yourself about the self-storage industry and your submarket.
2. Be prepared to spend money up front that you may not get back if the facility or parcel does not pan out.
3. Get your ducks in a row to be approved for a loan and line up investors.
4. When you find a facility to buy or site to build on, get an independent second opinion in the form of a self-storage feasibility study before you make your final decision.
As you consider self-storage investing and evaluate the pros and cons of buying versus building, don’t be dismayed because the list of cons for each is longer than the list of pros. If you buy or build an ugly facility and it makes you lots of money, you won’t mind the mustard color. Remember your frog prince – he may have some warts but in the end he’s still a great kisser!
When she’s not offering unsolicited relationship advice, Katherine D’Agostino is the Sensei of Self-Storage Ninjas, a self-storage feasibility consulting firm focused on delivering unbiased reports that enable you make informed decisions. She offers a free, weekly newsletter that provides insider techniques, ready-to-use calculators, downloadable spreadsheets and data sources. Contact Sensei Katherine via her website, www.selfstorageninjas.com.