A self-storage facility doesnt make money until it reaches breakeven occupancy. When mapping the success of your site, wouldnt it be great to have a formula to indicate when you will reach breakeven and maturity, considering current market conditions and operating history?
The European self-storage market is in its infancy, which is why a basic mathematical calculation still works in anticipating a facilitys monetary future. In the United States, most sites have enough new tenants every month that they need not worry about reaching breakeven. But in Europe, where a fair number of facilities are unable to add more than 100 square meters per year in new rentals, a site can quickly reach 60 percent occupancy and stay there for a long time. Thats a difficult situation if the facilitys breakeven point is 65 percent.
In this case, it could take years before a storage business generates any profit. So lets take a look at that magical formula that will tell you the potential outcome for a facility.
The Method
What is the formula to calculate your facilitys ceiling point? First, lets look at how many square meters you rent each month. If your average number of move-ins is MI, and the average square meters rented by each customer is S, then simple multiplication of these two numbers will tell you how many average square meters you rent monthly.
Now lets look at the process of losing square meters, which is when tenants depart. A certain percentage of your customers are leaving each month. If we call T the average number of months customers stay in your site, then the percentage of them leaving each month is 1/T. Lets name RS the total of square meters rented in your facility. This means RS/T is the number of square meters you lose every month, on average.
When will your site stop adding rented square meters? Thats when the number of square meters left by your customers is equal to the number of square meters rented. In mathematics this could be translated like this: RS / T = MI x S. Therefore, the maximum of space you can rent is equal to RS = MI x S x T (monthly move-ins multiplied by the average surface, multiplied by the number of months your customer rents with you).
The above figure could be above your net rentable surface, in which case you are fine. But it could be below, and thats bad news because it will take years for your site to reach maturity.
Lets look at an example. Assume a facility rents 40 units per month; the average unit size is 6 square meters; and each customer rents for an average of 12 months.
- MI = 40 rentals
- S = 6 square meters
- T = 12 months
- 1/T = .08 or 8%
- RS = 40 x 6 x 12 = 2880 square meters
Using these numbers, the maximum amount of space you should expect to rent in any given month is 2,880 (40 x 6 x 12). If your site has 2,900 square meters of rentable space, youre in good shape. But if you have 4,200 square meters, you should not expect to rent more than 69 percent of your site. In this case, things are not desperate, especially if you have time on your side. The two variables that can change over time are MI and T.
Increasing Move-Ins and Stays
To increase your average monthly move-ins, focus on long-term strategy and not one-shot advertising campaigns that will only temporarily boost business. The best ways to boost MI is through great location, excellent customer service, word of mouth, repeat customers, referrals and a better conversion rate of prospects to rentals.
Location is critical to success in the European market since nobody knows what self-storage is. Your facility should be on a busy street with lots of drive-by traffic. It should also feature signage and other visuals that help customers understand the product.
Once a prospect rents from you, the key is to get him to stay as long as possible. Temporary users, such as those using storage during a move, arent long-term candidates, so dont focus on that market. Other users will generally continue to need storage over longer periods and will only move out if they are treated poorly or you raise prices too drastically. Keep customers with excellent service, and do your best to retain business during rate changes. Also try to get more commercial customers, as they tend to rent for the long haul.
A French executive once told me, I dont know much about your magic formula, but we sure ask our managers to get more clients and make them stay longer. Thats just one part of the equation.
In Europe, one of the key indicators for your business is monthly move-ins. The number tells you if you will reach the breakeven point and fill your site. Make the most of this calculation to determine the best strategy for your business. Perhaps its smart to phase your project and adjust your unit mix to what the local market will accept.
Philippe Peyrot is president of Annexx SAS, a leading French self-storage company based in south of France, and founder of Self-stockage.info, an online magazine on self-storage in Europe. Mr. Peyrot has a masters in mathematics from the University of Toulouse, and an MBA with a major in finance from the University of Connecticut. For more information, visit www.annexx.com; e-mail [email protected].
Common Real Estate Terms
Capitalization (Cap) Rate:
The assumed rate of return on a real estate investment. The cap rate is commonly used in the valuation of commercial and investment property because it directly links the value to the income produced. To determine the value of a particular asset, divide the net operating income, or net cash flow, by the assumed cap rate.
Cash Flow:
The amount of cash a company generates and uses, calculated by adding non-cash charges (such as depreciation) to the net income after taxes.
Discounted Cash Flow:
A projected cash flow that is discounted to arrive at an equivalent present-day value. For example, if you use a discount rate of 10 percent, an item worth $100 a year from now is only worth $90 today.
Exit Yield:
Yield expected at the time a property is sold.
Freehold:
The legal ownership and control of a building or piece of land for an unlimited time.
Leasehold:
The legal right to live in or use a building, piece of land, etc., for an agreed period of time.
Notional Sale:
The supposed sale of a property at an estimated price.
Yield:
A generic term for return on an investment.
Storage Valuation: Free vs. Lease
By Philippe Peyrot
More and more European self-storage companies are undergoing a valuation process. Listed companies must endure it every year to show to their shareholders a clear picture of their business. For non-listed companies, the goal is either to make a sale or show bankers and future investors the value of the enterprise, even if they havent reached the breakeven point.
Most lenders simply do not understand the dynamics of the self-storage market. A valuation can help them grasp its potential. This makes it a good tool to get money for business expansion. But how is valuation achieved, and how is it different for freehold vs. leasehold properties?
The United States has more than 50,000 self-storage facilities trading in a highly fragmented market. These properties have a well-established track record and are, therefore, considered liquid assets. In Europe, however, large operators control more than 70 percent of the sites. Though several portfolios have been sold, the transaction amounts were not disclosed. Even still, evidence suggests there will be liquidity as the market continues to develop. For this reason, the valuation methodology adopted in the States is now regarded as appropriate for European sites.
The value of a freehold property is a discounted cash flow of its net operating income projected over a 10-year period and the notional sale of the asset at the end of the 10th year. Existing and future net cash flow are estimated by referencing the yields for industrial and retail warehouse property. The notional sale is calculated using the average weighted exit yield.
The same methodology is deployed for a leasehold, except no notional sale of the asset is assumed. Instead, the discounted cash flow is extended to the end of the lease. This approach gives a far better value to freehold, and its always surprising to see companies considering leasehold as a good strategy.