How Much Money Do You Need to Get Started in Self-Storage?

May 25, 2022

 

What's up everybody? AJ Osborne here from Self-Storage Income and we get to talk today about how much money you need to get started in self-storage. We're going to cover a few things and I obviously love the self-storage game, but one of the biggest reasons I love the self-storage game is because of the opportunity to get into self-storage – especially for beginners! I've said this once and I'll say it again, “I think self-storage offers more opportunity for an individual to start investing in commercial real estate than any other commercial real estate asset.” 

With that said, we need to cover some stuff before I get into examples and talk about facilities that we've bought and how we got started. So, let's lay the foundation for self-storage as a great industry. It's one of the newest real estate asset classes that there is. Self-storage really came about in the 60s late ’60s, ’70s, and took hold in the 90s because self-storage is a newer real estate asset class. The individuals that started investing in it were primarily not institutional investors, wall street funds, those guys they didn't play in it nearly as much as the other real estate asset classes. Now, when looking at the industry this shows very clearly that 74 of all the self-storage facilities on the market are mom and pop or single operator owned. Why is that important? Why would that mean anything to an individual? Because those are the best buys. Those are the ones that you have the opportunity to buy, so that means inventory. If you're going to play in large apartment complexes or if you want to go play in retail centers, there are not nearly as many mom-and-pop operators, so that means less opportunity. 

So, the questions here are, how is this whole industry made up, what can you get in at, and where can it go so if you're looking at getting into the self-storage space? You got to understand that they're really three fundamental types of facilities and I’m going to break them down into small, medium, and large. Small facilities are under 50,000 square feet, medium facilities are 50,000 to 100,000 square feet, and then you have a hundred thousand plus square feet. Square footage is generally how we rate storage facilities so, when we're looking at square footage I'm talking about the net rentable square footage. So, if I have 15,000 square feet that's the 15,000 square feet that I'm renting out. Now, how many doors is that? It depends on if they're small or big. Obviously, 15,000 square feet of five by fives (which is like a closet) compared to twenty by twenties (which are like two-car garages) is very different that's one's going to take up a lot more space, and so you'll have fewer doors. That can vary widely and that's why we usually don't use doors as a measuring stick because that can skew the reality of the situation. So, when looking at the amount of square footage it goes from very small to very large, up to 400,000 square feet of net rentable space. That's how you know 10 acres or more of actual rentable self-storage space. 

If you're in bigger markets, you can have a six-story building. If you go into New York, you can get 500 thousand plus square feet. They can be big and obviously really expensive, but if you go into markets like where I started, that's very different. Before we get there, let's go over who's renting. Why? Because this is important to understand the price. Why is it important for the renter to understand the price of a storage facility or how much you need to get into it? Let me explain. Self-storage is valued at a cap rate. The cap rate is based on the net revenue that is delivered. The net revenue expenses minus revenue. So, if I buy a storage facility, that net revenue is going to give me a certain return and that return is generally viewed as the cap rate. This is before taxes and before debt, so with those two things taken out, your taxes obviously don't matter because they will differ, and the debt will also differ for individuals. But if you take the actual expenses and the revenue minus each other you're going to get your net income and then that is how you determine the value of the self-storage. It's the return on your money that you're going to get from that. 

This is commercial real estate in general. We're looking at this as more of a business. We're looking at the revenue coming in or, how much money I'm going to make from that. What does that have to do with customers? Well, in self-storage, customers vary greatly. There are typically three types you have: 

 

Customers that care about one thing and one thing only which is price. They just want the cheapest they can get. 

Customers that care about convenience. Listen, I want it to be close to me. I don't want to go too far away from where I’m based. 

The third type is the customers who care about quality. These are people that are looking for a nice facility. The spread in what these people will pay is very large. 

In fact, it can be up to three or four times as much. Not all units or doors sell at the same price. Even if they're similar assets and even if they're right down the road from one another. That's because of two things. 

First, the customers they attract. 

Second, how the facility is being managed. 

Are they adding extra products and services? 

All these things affect revenue. The higher the revenue, the higher the net income, and the more it's going to cost because that's how we value it off that cap rate. So, if you're looking at facilities that are only working on price, it's a low cost to the customer (generally speaking). Those facilities don't run their business very well, they're not looking at add-on products and services, so their net income is generally lower. That means the facility is a lower price and now we're getting into the real reason why I love self-storage so much! What is the difference between a 10 by 10 here and a 10 by 10 there? It's a cement box but this 10 by 10 versus this 10 by 10, the spread in revenue could be three times the potential. We made a lot of money doing this because we take the low-cost ones and make them higher cost. That's for another video though where we'll talk about our value-add strategy in the spread, but let's get back to the market. 

When you're looking at small facilities that have a low cost of a unit, that means they have lower revenue and they're not very big. This can make prices very attractive. In fact, in my market right now there are some small facilities that are at less than buying a four-plex, but some of them are even less than buying a duplex which blows a lot of people's minds. They're looking at a commercial real estate asset with much more upside, yet they cost more than a regular four-plex or even a duplex in a lot of markets. Therefore it's such a great opportunity! 

Will the landscape of self-storage last forever? No, I don't think it will in fact. I think we probably have 10 to 20 years. It's consolidating, but if you're watching this now that's a good thing because that means there's still time. 74 out of that 74, a huge amount of those mom and pops, compete on price. This is your ticket to success. It also means that you can pick up facilities for a few hundred thousand dollars so what drives the price of the facility is revenue. But size is calculated into that, not from comparables just because you have more square footage to rent. So if you have 50,000 square feet you have more net rentable square footage, so you're going to have more revenue if they're full. 

When you look at a facility, the size occupancy and how they're being managed, those all factor into the price. So we see a lot of prices that are justified, but they're lower than the market. In small facilities, we can see a huge swing in what's being offered or valued at those prices, but it's important to remember that you don't use comparables and storage. You can get in trouble doing that even if it's a small asset you really need to value it on revenue. What we look at when we're looking at the price of a storage facility as far as comparables is important. I'm looking at replacement cost. I'm looking at what other things are selling for, but I don't buy off performance. This is important so let me rephrase this: I buy off performance, but I don't pay for it. That's the difference because when I buy something, I'm buying off its actual revenue. 

What you need to be really looking hard at is your expenses versus your revenue. Sellers love to minimize the expenses at a facility and love to. I don't want to say they lie, but we'll say exaggerate some of the revenue, so you need to do your due diligence. We’re also making a video on that but it’s a big topic, so we won’t focus on it here. The reason why I mentioned it's important is that you need to remember your net income is how it's valued so if expenses are suggested at lower than they are and revenue is a little higher, those two things combined really increase the net income and add to a bigger value. 

So, it's important when looking at the value of the facility that we look at occupancy. How much is being rented versus how much could be rented? A lot of people like to sell off performances. We don't pay for performance. You need to look at the market just so you understand what's going on. That will tell you where that facility can go and then you need to look at the quality. The quality is important because of the capital expenditures necessary to put into it. If I’m looking at a facility and I say, “This is a great buy, it's two hundred thousand dollars.” But you must actually put in three hundred thousand dollars worth of work. It's not two hundred thousand dollars, it's five. 

So, when looking at how much money you need, you need to look at the quality, so you get the price tag based upon your net revenue. Then we need to look at necessary capital expenditures: 

Are roofs leaking? 

Is the pavement bad? 

You must factor all those things into it. So, how much money do you need? Let me show you an example of what we did and show you where we were and where we've gone and how that looked at getting started. The next important part of understanding how much money you need to invest in self-storage is the financing. In self-storage, it's a little different in that it requires a lot down, like 30 percent. We see this in other assets like hotels that need a large down payment, and this is mainly due to the month-to-month lease arrangements. So, if you think about assets like apartment buildings, they have long-term leases so it's easy to predict the cash flow over an extended period. Although cash flow remains very predictable in self-storage it doesn't take away the fact that these are month-to-month leases, so banks want to see 30 percent down. When looking at self-storage we could see self-storages that will sell from $200,000 to $500,000 which requires a 30 percent down payment. You're looking at $50,000 to a couple hundred thousand dollars on those smaller ends. Then you have the mid-size facilities that can range anywhere from a million two million to four or five million dollars and the large facilities are the same. It can be 4 or 5 million dollars to 20 million dollars. 

It varies widely due to the revenue component, but 30 percent down is standard and will almost be guaranteed. That's what you're going to need to do. There are several financial partners that we work with like Live Oak Bank that love to invest in self-storage. They look at the asset and they look at the business plan and what you're trying to accomplish in that asset. They go into lots of markets that traditional banks would avoid. This is coming from my own personal experience because when we got started this is what we did. We started and we bought small facilities that were right around six hundred thousand dollars. So, we needed to put two hundred thousand dollars down which we did, and we put two hundred thousand dollars down into these small rural storage facilities. 

Let me talk to you about how this looked. The facility was on the outskirts of town. There was no fence, there was no office, and it was a gravel road, but it was very stable, and we wanted to learn self-storage. We didn't know so we got into it, and we bought these small assets up. One of the small ones that we bought was in a very rural town in Oregon. For this one we got the owner to finance it. This is a great way to do it because then we got off the debt. That means I wasn't personally liable because the asset-backed the note. So, if the asset failed, the person we bought it from would receive the storage facility back. It was also good because we got to put less down. So, I think we had to put around 20 percent down which was around $150,000. So, there are ways that you can work through the financing, but generally, that's with the owner, not institutions. In fourth-tier markets and smaller facilities, this can be a great way to go about it. Lots of the owners, still want to receive residual income so that financing can really help. That's how we started. 

As we got much bigger, we did everything from converting big bankrupt Super Kmarts to ground-up building multi-story facilities. As you can see, they get very nice and very big. Now our down payments are 2 or 3 million dollars instead of the 200,000 dollars and it scales well because the same exact principles apply. The point is that with self-storage you need to understand that when it comes to the value and how much money you need to put down, you need to understand where that value comes from. That comes on your net operating income. So, how it's derived your revenue minus expenses and understand where that can go: what the risk may be and how stable those cash flows are. It also comes from its occupancy: how many people are using it? Is it 100 full? 60 full? You need to look at the difference in occupancies and rates and how that will affect the net income thereby affecting the value of the facility.

The second part you need to look at is the financing part. So how much do you need to put down and what are the terms of those agreements? That's how you come up with how much money you need to put down in a facility. The range is large, but for a commercial asset, there are amazing opportunities to get into it relatively cheap as far as other assets go. You can start small and grow really quickly!

 

 

Want to Keep Learning?

Let me show you how I built a real estate portfolio worth over $100 Million and how you can do it too!