The real estate market sucks right now.

Rates aren't going down in the near term. Cap rates haven't fallen enough to make buying make sense.

I'm bored shitless looking at crappy deal after crappy deal. Its gotten to the point where I no longer get excited when my favorite brokers email me.

What is a guy to do in times like this?

The big acquisition and what it means

Last week it was announced that Storage Express was acquired by Extra Space Storage for $590 million. This is a big deal because a REIT has acquired a group of remotely managed self storage facilities.

Storage Express had over 2 million square feet of storage managed at a central office in Bloomington Indiana with about 50 employees. They use traveling maintenance guys and kiosks to manage it. The properties are small (many under 20k square feet) and located in small towns and tertiary markets.

Sound familiar? It is my exact model and the model of many others working on rolling up self storage portfolios throughout the country right now.

It means the folks betting on 4-5 cap exits in small town America could get their wish as Extra Space and other REITs are looking for new ways to deploy capital at scale.

It is only a matter of time before Public Storage, Cubesmart and Life Storage follow suite and acquire an operator with a lot of tertiary storage and a great management platform that allows for growth and expansion.

The bottom line is simple: publicly traded self storage REITs are running out of things to buy in major cities. They need a way to operate facilities without full time management on-site so they can expand to smaller towns and still find yield.

What now?

Self storage is VERY expensive to buy because the great roll-up is happening. Groups are acquiring small town storage as fast as possible because they see the players at the top starting to show interest. They know that in 10 years the big dogs will go from controlling 20% like they do today to well over 50% of the nation's storage.

It's a strategy as old as time. Buy a bunch of properties for 6 caps. Combine them into a larger portfolio and sell to a buyer higher up the food chain at a 4 or 5 cap. It's a great strategy and works and the long term option we hope to have.

But I think people are over-paying for storage right now. They are under estimating how hard it is to manage the properties. They are underestimating how expensive it is to build a team to manage the properties.

Do I think they'll go broke? No. I don't think many will.

It's just too good of a business and all signs are pointing towards continued success. But I do think many will miss projections and many properties will be sold without being optimized from a management perspective.

We are largely inactive right now because of market conditions. Borrowing is now north of 6% (8%+ debt yield) and cap rates are still sub 6 on not-that-nice storage.

We are passing on a lot of deals waiting for the market to get real with the fact the fed very likely will keep interest rates high for the next 24 months or longer.

My job is to protect the downside and keep my investors from losing money. We're being really conservative, buying with 50% leverage or so, and setting aside capital reserve funds at closing. We're being really picky about what we buy as well, and will buy less than $45 million this year compared to $50 million last year with 2x the resources put towards acquisitions this year.

Interesting times ahead.

Onward and upward,

Nick

P.S. The folks at RE Cost Seg let me know the schedule for this fall and spring tax season is filling up and they're about to raise their prices. Get a free proposal and get on the schedule sooner rather than later if you need a cost segregation study done on a property you bought this year or last.
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