The lowering of street rates in many parts of the country might indicate that there are enough self-storage facilities already, and yet they are still being built. To find out more, we talked to a leading investment company with a special interest in this sector. As it turns out, investment in self-storage is still a great idea and it can be done most successfully if you keep your business ahead of the game, according to Fairway America.
The recent rapid expansion of the self-storage industry means there are now many different types of storage facility and several different approaches to choosing how to construct them and where to locate them. Out-of-town locations let operators keep the rents down and inner-city infill locations can be tempting because of their locations. However, repurposing existing properties, such as large retail spaces, has emerged as an increasingly viable alternative—a building structure already exists, and if it has not been used for a while it could be available at a knock-down price and planning applications may be treated sympathetically.
Fairway is a private equity commercial real estate investment firm specializing in the highly fragmented and opportunity-laden U.S. middle market. Their Value-Add Self-Storage Fund allows investors to focus on the self-storage sector. Fairway’s Vice President of Investments, Barry Johnson, helped us get more insights on why self-storage still makes a good business opportunity and discussed some of the challenges that come with owning and operating self-storage facilities.
1) What cities/regions of the US are particularly ready for self-storage investment right now?
As most of the market reports over the past several years have shown, nearly every market is oversupplied when looking at it from a macro level. However, since we generally classify storage as a “three-mile-business,” the macro supply does not significantly impact our strategy. We focus on undersupplied, in-fill markets that have seen sparse new development of Class-A storage facilities.
2) Are urban locations a better investment prospect than out-of-town sites?
Similar to the previous question, we consider each deal based on its specific metrics. More suburban sites could potentially be great opportunities if there are strong demographics and few competitors, but in general we prefer more urban sites where the threat of new supply is much lower because of zoning requirements.
3) Do you see self-storage as a recession-proof sector for investors?
I wouldn’t go so far as to say “recession-proof” since a market downturn impacts everything from financing to sales pricing, but we do like the prospects for self-storage being one of the most resilient sectors during a recession. If you look at trends during the Great Recession, you will see that storage REITs fared better than just about any other real estate sector. In fact, there are triggers that occur during a recession such as moving, downsizing, relocating, etc. that are all positive for self-storage owners.
4) For your Value-Add Self-Storage Fund, why did you choose to focus on repurposing retail properties?
Fairway’s focus on repurposing retail properties is motivated by two key factors. First, we determined the economics of repurposing properties was better than ground-up development. And since many of the properties have sat vacant for a significant period of time, they could essentially be acquired for close to land value. Once acquired, the costs to build-out the space results in an all-in basis that we find attractive compared to what the properties could be sold for at stabilization. Second, due to the in-fill retail locations of many of the assets, competition is lower than in more suburban areas where recent development saturated the market.
5) What regulations are making self-storage development most difficult at the current time?
For the retail-to-storage-conversion business plan, zoning is definitely one of the biggest hurdles. Cities have shown great reluctance to abandon the potential future sales revenue that a retail building can produce – even if it has sat vacant for years and will likely never be a viable retail property. This is not always the case, however, as some city councils do see the upside of repurposing vacant property. It really depends on the mindset of the cities.
6) What and where were the biggest building conversions you have been involved in?
Most of our conversions are similar in size since the market will only bear so much new supply. The largest conversion we have done to date was a former Macy’s department store that was just over 100,000 square feet. Several of our other conversions have been in buildings with smaller footprints, but high ceiling clearances allowing for a second story of interior rentable space, bringing the total size into the 80k-100k square foot range. The vast majority of our projects have been done in Top-50 Midwest cities such as Cleveland, Detroit and St. Louis.
One of the most interesting projects in which Fairway has been involved is the former strip mall at 641 Richmond Rd, Richmond Heights, OH. This once housed a Macy’s store together with other retailers including Sears and JC Penny Co. In January 2018 it was announced that it had been sold to a developer with the intention of using most of the space as self-storage, and PropertyShark data confirms that the sale price was $1,150,000. Of the total 162,190 square feet, it was planned to use 30,000 square feet for retail—the mixed-use tactic is interesting as it will bring some life back to the place, albeit with a lower rate of visits than in its heyday. Other similar repurposing projects Fairway have funded recently include those at 13333 Eureka Rd, Southgate, MI and 13820 Lorain Ave, Cleveland, OH.
Fairway’s successful experiences with repurposing strip malls tells us a lot about current trends in the sector. There are many ‘ghost malls’ across the US right now, and these are not only a waste of space but also an eyesore for the communities surrounding them. Repurposing them into storage facilities kills several birds with one stone, keeping the places profitable and looking smart, and maybe encouraging some retail businesses back again. Last but not least, acting on Barry Johnson’s comment about storage being a three-mile business means communities get new, high-quality storage facilities on their doorsteps.
Self-storage is a flexible industry which will adapt to both customer demands and the ups and downs of other sectors. In fact, it tends to cope comparatively well in times of economic downturn when other types of real estate are likely to be hit. All in all, when not looking exclusively at the macro level, there are great opportunities for investment in self-storage space these days. In an effort to boost exposure for the self-storage sector, StorageCafe has created an inclusive listings platform where potential renters can connect with property managers and find the best storage spaces for their needs.
Barry Johnson’s Biography
As Vice President of Investments, Barry Johnson leads real estate due diligence and valuation at Fairway. Prior to his role as Vice President, Barry was Fairway’s Senior Portfolio Manager, and acted as a Director at Integra Realty Resources. Barry holds an MBA from University of Denver and the two most advanced real estate appraisal designations, MAI (Member Appraisal Institute) and SRA (Senior Residential Appraiser), as well as the highly coveted CCIM (Commercial Investment Member).
