Looking a person in the eye and telling him he no longer has a job is difficult enough. The possible fallout is a worry, too. Will the fired employee turn around and sue you? Will he steal from you, sabotage your company or act violently? Fortunately, if you plan ahead, you may be able to strip away some of the discomfort of the situation. But more important, you can reduce the risk of being sued or having the employee harm your business in other ways.

For excellent advice on how to conduct a firing, I recommend, Dealing With Problem Employees by Amy DelPo and Lisa Guerin, a pair of employment-law specialists based in California. What follows is the essence of their advice.

Consider Using a Two-Step Process

You can start with the actual termination meeting. Then, follow up with an optional exit interview several days later. By that time, the ex-worker's emotions may have cooled. You can have a calm discussion of details, such as when the employee's health- insurance coverage will end.

Decide Who Should Break the Bad News

Pick someone who has had a positive--or at least a neutral--relationship with the employee. It's unwise to give this assignment to someone who's been at odds with the employee or is emotionally involved in the firing decision. Also, choose someone who has discretion and doesn't gossip.

You Can Probably Do Without a Witness

It's often recommended two people attend the termination meeting for the employee. The idea is one does the firing and the other is the witness in case there's a lawsuit. But having a witness may humiliate the employee; the firing may be more public than private. Use common sense. On balance, it's probably best to bring in the second person only if you think there's a high risk of litigation or violence, but not in other situations.

Meet Where the Employee Will Feel Most Comfortable

Making the employee feel comfortable can help head off a wrongful-termination lawsuit. Of course, that notion may take a back seat if you fear violence, theft or sabotage. In most cases, however, employee comfort is a priority. Choose a quiet place where there's privacy. The employee's own office may be a good choice. In most situations, avoid escorting the employee out the door. Doing so may make the employee feel he is being treated like a criminal.

Choose Your Words Carefully

Tell the employee the date the termination will take effect--maybe it's immediate. Give your reasons objectively and concisely. Don't be drawn into a debate. Have the employee's final paycheck at the meeting. If that isn't possible, let the employee know when it will be ready. Then, explain the severance package, if there is one. If you're not going to have an exit interview later on, you can explain the status of the worker's benefits.

Keep Notes of What Was Said at the Meeting

This can help your memory if there's ever an issue about who said what.

Collect Company Property

If you trust the employee, there's no reason to grab the company credit card or cell phone instantly. You can arrange an orderly turnover after the employee has digested the termination. But if there's a chance of violence, theft or sabotage, you do need to act quickly to secure your property and block the employee's access to the computer system, company files and building.

Keep It Confidential

Tell people about the termination and the meeting only on a need-to-know basis.

Use an Exit Interview to Tie-Up Loose Ends

If you follow up with an exit interview some days after the firing, there's a lot you can cover, such as:

• Explain what will happen to job benefits such as health insurance, stock options and retirement plans, and whether the employees is eligible for unemployment benefits.
• Remind the ex-employee about any confidentiality agreement he may have signed.
• Retrieve any confidential documents and other company property the ex-employee still possesses.
• Review any noncompete agreement the ex-employee signed.
• Present a severance agreement in which the ex-employee releases your company from legal liability in exchange for extra money or benefits.

The exit interview is also a good time to explain how you plan to handle requests for references. Finally, you can give the employee a chance to express feelings and air grievances. Your careful listening may cause the employee to abandon the idea of suing you--and you may learn something new about your business.

A Final Note

DelPo and Guerin emphasize that employees who receive unfair and insensitive treatment are more likely to sue than employees who receive fair, honest and dignified treatment.

Editor's Note: Legal strategies may vary depending on the state in which you live and the specifics of your situation. See an attorney for legal advice.

Fred S. Steingold practices law in Ann Arbor, Mich. He is the author of The Legal Guide for Starting and Running a Small Business and The Employee's Legal Handbook, published by Nolo. For more information, call 800.728.3555; visit www.nolo.com. To contact Mr. Steingold, call 734.665.0635.

Your Lease

First and foremost is your rental agreement. It is not a good idea to borrow another facility's rental agreement, as it is unlikely the borrowed agreement is accurate, unambiguous, consistent and compliant with your state's self-storage statute. A visit to your attorney or the purchase of a self-storage contract from a reputable producer will save you thousands of dollars in legal fees, guaranteed.

At a bare minimum, ensure your rental agreement has the following basic elements:

1. A basic identity of the space being leased with an approximate size, and language providing there is no reduction in the price of the space if it is bigger or smaller than that stated in the lease.

2. State self-storage statute language exactly and conspicuously displayed within or at the top of the lease where required. Do not miss this requirement.

3. The term of the lease (i.e., monthly), including whether the lease renews on the date executed or the first day of each month. The lease should also outline how much notice you require to terminate the lease at the end of a term.

4. A limitation on the type of items stored in the premises. You want to prohibit antiques, collectibles, items with sentimental value or those with no immediately determinable replacement value from being stored at your facility.

5. A limitation on the dollar value of stored property. While you may not be able to require self-storage insurance from your tenants, you can protect yourself from large losses by having a contractual limitation setting forth the value of the property stored in a particular unit.

6. A "no hazardous waste" provision. Most mortgages or insurance policies require you make a reference to the Comprehensive Environmental Response Compensation and Liability Act (CERCLA). In many cases, if you do not specifically address CERCLA by using its language in your lease, you may be in violation of your mortgage or insurance requirements.

7. A requirement that the unit is to remain locked. The lease should also indicate how many locks you permit and what type of lock you require. Do not agree to maintain a key to any lock.

8. A release from liability from the tenant for any personal injury or death, and a separate release for loss of or damage to the property stored.

9. A definition of climate-controlled space, where offered. Do you intend to maintain a temperature between 40 and 80 degrees, or are you trying to keep the premises at 72 degrees at all times?

11. A provision advising all other fees you may be charging, i.e., late, lock-out, clean-up, etc. Make certain your charges do not violate the limits set forth in your state's self-storage statute.

12. A default provision. This states that in the event the tenant violates any of the provisions of the lease, the tenant is in default. The default clause should then give you certain remedies. Some of those remedies should always be those provided under your state's self-storage statute, but also retain the right to evict the tenant from the premises.

13. A governing-law provision, especially if you are close to the border of another state. You do not want residents of other states renting in your facility and suing you in a state in which you do not do business.

14. A statement that the written agreement is the final word, that no oral representations have been made, and the lease may only be modified in writing.

15. A statement against bailments. Most states' self-storage statutes are very clear that self-storage is not a bailment and not warehousing. We should continue to emphasize that distinction in our lease agreements.

Your State's Self-Storage Statute

You must be familiar with your state's self-storage statute. While you may need an attorney to help you interpret the specific requirements of the statute, you should at least be familiar with the basic deadlines and types of notices required to give a tenant before you can exercise your lien rights. For your convenience, a chart identifying the section containing your state's self-storage statute follows.

Tenant Issues

You need to determine whether you are going to perform any sort of tenant screening before leasing to a customer. If you are going to do screening, you must perform the same sort of screen on every single person who applies to lease from you. Otherwise, you will buy yourself a discrimination lawsuit. Also note that if your tenant is in the United States legally, but not to work, he can no longer be issued a Social Security number. He should then have an individual-taxpayer identification number (ITIN).

An ITIN is a nine-digit number, similar a Social Security number, that always begins with the number nine. These numbers can be run through criminal-background and credit-screening services, although the prospective tenant may not have been in the country long enough to have developed a credit or criminal profile.

Office Procedures

You need to make a decision about in-house/office procedures for various scenarios. Some of the biggest are:

1. Package acceptance. When you accept packages for tenants, you have created a bailment, at least while you are holding the packages in the office. A bailment is a legal relationship by which you have agreed to hold and care for the item belonging to another--in this case, your tenant--until he claims it from you. With a bailment, you incur certain additional duties to care for the delivery until it is picked up. Some operators keep keys to the locks of their tenants' units so delivery persons can deliver directly to the unit. This situation is worse, because while holding a key, it is arguable you have created a bailment over the entire unit. The best solution is to have the delivery driver retain a key or know the combination to the lock and keep you completely out of the loop.

2. Dumpsters. Dumsters appear to be a constant source of problems for self-storage operators. Tenants appear to think part of their rent is license to dump as much from their self-storage unit or home as they want into the facility's dumpster. This raises costs for you. One solution is to lock the dumpster. However, some owners wish to provide the dumpster because it reduces the number of spaces left to clean out each month. An appropriate policy regarding dumpsters and the fees for using the dumpster should be in place.

3. Procedures for allowing large trucks onto the property. While not everyone will move in and out with an 18-wheeler, there will inevitably be some tenants who will be operating a truck larger than anything they have ever driven before. If your space is tight or if you use a loading dock, a semi- or large-truck policy is necessary. The roofs, gutters and bollards at your loading docks will thank you.

4. Security systems. Tenants must be specifically told what the security systems on the property do. Are they to protect the facility or monitor individual units? If they are to monitor individual units, are they wired to the police? How are the authorities notified if an improper person enters a unit?

The problem is, if you advertise a security system, a tenant may rely on it for the protection of his property. If the system fails to protect the property, was not designed to protect the property or is not monitored, you will find yourself with a lawsuit by the tenant claiming reliance on the system.

5. Procedures for disasters. Disasters, be they natural or man-made, can cause buildings or vehicles to be damaged or lost and bring a facility horrible publicity. A plan must be in place so employees of the property know how to deal with these types of emergencies. They must know how to respond to requests for information from the press and how to handle investigations or search warrants from police.

Delinquencies and Collections

This may belong under the "procedures" section, but it is so important it deserves to be addressed as a separate issue. There is a careful balance that must be maintained between good tenant relations and delinquencies. There is no magic number of days or weeks your tenant should be delinquent before you start to take collection action. However, there are various preemptive measures you can take when someone becomes past-due on rent.

For example, there should be policies and procedures about the day on which managers make phone calls to all delinquent tenants to ensure the nonpayment wasn't an oversight. The first appropriate late-notice letter must go out promptly so tenants know you are serious about collecting rent. Some operators require their tenants provide a credit card. Thus, if the rent is not paid by a certain day of the month, the credit card is charged.

This also avoids a potential litigation problem involving late fees. There have been several class-action lawsuits regarding late fees. If you can avoid charging them altogether by debiting tenants' credit cards, you may lose a profit center, but all of your rent will be paid each month without a lot of collections efforts by your manager.

Note that your state's self-storage statute may specify a date before which you may not start your lien-sale procedures. This does not mean you cannot send late notices, make calls, etc., but you may not start certain prescribed statutory lien-sale actions until the tenant is at least so many days delinquent.

Also watch out for partial payments, which may reset the time calculation under your state's statute for when you may proceed with your lien-sale activities. Be careful not to call your sale an "auction" unless you are using a professional auctioneer. If there is no auctioneer, you must call it a "public sale" or "lien sale." Before selling a tenant's goods, ensure you have complied with all of the prerequisites of your state's statute and waited the minimum number of days between each action as required.

Even if you believe you have sold the goods legally, you may get a wrongful-sale lawsuit. It is important to have a plan in place for how you review the file to ensure everything was done as required by the statute, and you must know your insurance policy's limitations on coverage. Additionally, your insurance policy requires you notify the insurance company within a certain number of days of a claim being asserted, or you waive coverage. Be careful to adhere to the time limit. If you are nervous about wrongful-sale-type lawsuits, remember you have the right to evict the tenant and conduct a court-ordered set-out of the property.

Damage Claims

Inevitably, a tenant will eventually blame you for damage that occurs to property he has incorrectly packed in his unit, or for damage due to humidity, flood, water infiltration, pests, etc. While your lease should contain a release from all of these losses, you should strongly recommend renter's insurance to all tenants. Still, some will insist on pursuing a claim against you. Have a proper procedure in place for auditing the situation to determine whether you actually have liability to the tenant. This inquiry should occur with your attorney and, perhaps, your insurance company.

If it is possible you have some exposure to liability, and if you deal with the case appropriately from the beginning, it is often possible to settle these types of claims for little or no money out of pocket in exchange for some type of barter--if offered early. Some people are really only looking for sympathy and an opportunity to vent their frustrations. You should not let a situation like that develop into a full-blown piece of litigation if you can avoid it.

Also, never lose sight of the fact the appropriate measure of compensation for lost, damaged or stolen property is actual cash value--the depreciated value of the property, not replacement cost. Replacement cost is an insurance term. Insurance companies offer this sort of extra protection for a fee. You do not, so do not lose sight of the appropriate calculations. You may also want to consider a mandatory arbitration clause in your lease, if permitted, to avoid lengthy lawsuits.

Insurance

First, understand and know your own insurance policy. What kind of coverage do you have? What are your limitations? What is your deductible? What is your deadline for notifying insurance companies of a claim?

Second, if you offer tenant insurance at your facility, be careful. There is a line of thinking that if you offer only one of an insurance company's many products, you are implying this product is better than the others it offers. For example, if you offer a policy that does not include coverage from a sewer backup and such an instance occurs, a tenant may sue you under the theory of reliance--you judged this policy to be better than the rest, even if you did not sell it. If other self-storage policies include coverage for sewer backup, you could be held liable.

I am a strong advocate of offering pamphlets for insurance, but offer several policies from which to choose. Also be careful not to sell or collect premiums for insurance. This act may violate your state's insurance statute because you may be acting as a broker without a license to sell. If you give a discount for insurance, you can ask to be named as a second insured or additional noticed party so you can know if your tenant cancels, does not renew, or modifies the insurance policy covering the property.

Employee Issues

Once you have considered all of the above, you must also be concerned about employment-law issues--that is, the people working for you can also sue you if you do not do things properly. It is important to invest some money in a good employment manual that sets forth, at a minimum, the following:

1. The type of employment. If your state permits employment at will, you certainly wish to declare this to be the term of your employment with each employee.

2. A statement regarding equal opportunity employment, as well as a statement denouncing unlawful discrimination and sexual and other harassment in the workplace.

3. A conflict-of-interest provision, where appropriate. For example, you may not want your manager managing a different facility in the evenings.

4. Prohibition against drug use and the right, if desired, to do appropriate drug testing randomly as a condition of continued employment. The manual should also include a statement that the failure to take a test or a positive test result will be grounds for termination.

5. Requirements for appearance, including any uniform requirement.

6. Hours of employment.

7. Other terms of employment: what is expected from a full-time vs. part-time employees, vacation benefits, holiday benefits, sick and personal leave, health benefits, etc.

8. An agreement to arbitrate any claim arising out of a dispute involving the employment or arising from a termination of the employment, if appropriate in your state.

This is only a sketch of what an employment manual must, at a minimum, contain. There are requirements for the execution and consideration of an employment manual. There are also requirements to change the terms and conditions of an existing manual. These must all be done with an attorney.

Further, employees can sue you for overtime if they believe you have violated the Fair Labor Standards Act. Many self-storage facilities give the title of "manager" to a person working at the facility, considering them an exempt employee and failing to pay them overtime for more than 40 hours worked in any given week.

The test for whether an employee is exempt is actually more stringent. It requires the employee have actual managerial supervision of other employees, with the right to make decisions regarding hiring and firing, or an administrative position with actual responsibility for the success or failure of the business. An article in the June 2002 issue of Inside Self-Storage covers this issue in detail if you wish to read more. You should also consult an attorney or tax advisor.

Outdoor Storage

Finally, if you are going to allow the outdoor storage of cars, boats, motorhomes or other vehicles, you must have a separate section in your lease that provides for the differences involved in outdoor storage. These include parking spaces rather than locked units, how you wish for parking to occur, and requirements for keeping the vehicle in good condition, registered and insured. There is also additional information you may need to perform a title transfer, sale or tow of the vehicle in the event of a default and, if appropriate, the requirement to maintain a drip pan under any parts of the vehicle that may contain hazardous substances, such as gasoline, oil or other chemicals.

You must also be familiar with your state's parking or livery and towing laws so you have an alternative remedy, if available under your state laws, to remove the vehicle from your property in the event of a default without trying to do a lien sale. In many states, lien sales with vehicles are much more complicated than they are with other personal property.

This is just a survey of some of the legal issues you must consider in an operation of a self-storage facility. Many of these issues have been addressed in much greater detail through articles in this magazine or at ISS expos. The best advice is to consult with an attorney about these issues as soon as possible, and make sure you are in full compliance with your state's statutes, labor and employment laws, with sound self- storage principles of operation.

Jeffrey Greenberger practices with the law firm of Katz Greenberger & Norton LLP in Cincinnati, which primarily represents owners and operators of commercial real estate, including self-storage. Mr. Greenberger is licensed to practice in the states of Ohio and Kentucky, and is the legal counsel for the Ohio Self Storage Owners Society and the Kentucky Self Storage Association. He is a regular contributor to Inside Self-Storage magazine and the tradeshows it sponsors. For more information, call 513.721.5151.

You may think each initiative you introduce is an improvement to your operation and, hopefully, it is. But how do your managers perceive it? Many times, their first reaction is, "Oh no, here he goes again!" Your initiatives give your managers grief. This being the case, you will need to help them cope with the seven steps of grieving.

Confusion

When a new process or idea is implemented in a self-storage operation, at first the manager is confused. He isn't sure what you are really up to. He's seen initiatives come through before--what is this one going to be like? You can assist him through the confused stage by providing him as much information as you can about the change or program. Help him understand the benefits to the operation as a whole and him specifically. Help him understand the day-to-day processes that will affect him.

Many initiatives are fairly simple to integrate into your operations. Help managers see how this will happen. Don't just call and leave a message on the answering machine or an e-mail saying, "Starting tomorrow, we are going to be using ABC Co. to process credit-card transactions." You will throw your staff into a state of confusion.

Feeling Threatened

If you have done a good job explaining the new initiative to your manager, he will no longer feel confused, but he may feel threatened. Does the new initiative mean you don't trust him to do his job or that he is doing a poor job? Does it mean you will cut back his hours or replace him?

In most cases, the savvy owner is making changes to help managers be more effective and efficient. If you thought your manager wasn't doing a good job, you wouldn't invest in him; you'd probably let him go. Explain your motives to your manager. Let him know the change is meant to assist him. If you can make this point understood, he will no longer feel threatened. He may, however, still resist the change.

Resistance

You hire people to run your stores who take an emotional ownership in the operation. You do this because you know they will take care of the place and really apply themselves. But this sort of individual also tends to think he knows what he is doing and, in many cases, he does. When you introduce a new initiative, your manager may think he already has that portion of the business under control. For example, if you tell your manager you want him to start making photocopies of each tenant's ID, he may think this is unnecessary because he is very cautious to whom he rents. If you can list the benefits of the new program from the manager's point of view and provide duties and routines that ensure the program works correctly, the manager's resistance will likely dissolve.

Feeling Tentative

The tentative stage is a tricky one--it is where the new program will sink or swim. You might think you have done all you can to help the manager get over whatever "grief" the new initiative has caused, but if he remains hesitant in his support, you will never get an honest appraisal of the change. The program will not be approached with enthusiasm, and you will hear mostly negative feedback. Your job is to get the manager through the tentative stage and to the point that he is curious about the new mode of operation.

Curiosity

If your manager shows curiosity in how a new program works and how it will affect him, you will both begin to see positive results. The manager will work with greater effectiveness and enthusiasm, which will create a more satisfying outcome.

Excitement

If you can get your manager to the point of excitement, you've made it almost completely through the grieving process. The excited stage is where all sorts of good things happen. Managers begin to find ways in which the program is beneficial--ones you hadn't even foreseen. They become fans of the new initiative and start selling the idea to other employees. Now is when you can find out all sorts of information about how the program can really work. Your manager now has a wide perspective of the situation and can objectively weigh the good, the bad and the indifferent.

Bliss

If you have shepherded your managers through the grief process and had the foresight and patience to see them through to excitement, you are just about home free. You will eventually see the excitement fade and the initiative blend into your operational procedures. This is a great place to be. This is bliss, because your managers no longer think about or question the program--they just work it. You have already established your managers as good customer-service personnel interested in the success of the store. When they internalize a change and operate it from rote, it only adds to their personal achievement.

When your manager has experienced the seven steps of dealing with grief and memorized and internalized your new program, you will hardly see the ball drop. It will not happen overnight, though some managers will evolve through the progression in a matter of days. The process is very real and needs to be addressed in a positive training atmosphere. A manager who is initially confused, threatened and resistant to a change can become one of its biggest fans, living in blissful harmony with a program that, not too long before, caused him nothing but grief.

Tron Jordheim is the director of the PhoneSmart Call Center, which serves the self-storage industry as a rollover off-site sales force. He has started several successful businesses from scratch and assisted with acquisitions as general manager of the Mid-Missouri Culligan Bottled Water franchise. For more information, call 866.639.1715; e-mail [email protected].

As it stands, of the many self-storage lien laws on the books throughout the country, each has its differences--although operators can usually find some similarities in the laws of neighboring states. Unfortunately, even with those likenesses, an operator with facilities in different states may not be able to use the same lease form, since some lien-law statutes require special language included as part of the rental agreements used in the state. Some call for certain font sizes, some require particular language be bolded, and some require specific provisions. All in all, as the self-storage industry has grown, the lien laws that govern these businesses have remained antiquated and appear to ignore the more modern issues that challenge "third-generation" self-storage operations.

For example, certain state statutes call for denial of access to the storage unit after 30 days of default, whereas some statutes enable the operator to overlock immediately. Some statutes address the foreclosure and sale of vehicles and boats while others remain silent on these issues. Unfortunately, as the industry has grown and added features to facilities, such as perimeter fencing and gate-control access, and amenities like car and boat storage, many state legislatures have not been properly reactive to address the operational issues encountered with these changes.

Sale of Vehicles

Currently, only a handful of state self-storage laws address the procedures for processing vehicles with title for foreclosure and sale. Some states--North Carolina, for example--outline specific notice procedures for dealing with the foreclosure of a vehicle as compared to nontitled personal property. Recently, efforts in Arizona and New York have resulted in improving the foreclosure and sale process for their states. The New York Self Storage Association, with the cooperation of the New York Department of Motor Vehicles, has acted to create new regulations for the transfer of title to bidders at self- storage vehicle sales. In Arizona, self-storage owners helped enact House Bill 2116 to simplify the procedures for conducting lien sales. The new law gives owners access to title and registration records for cars and boats through state agencies, and simplifies the process for selling vehicles and boats while providing title to buyers.

Denial of Access

Similarly, there have been changes in some state laws to deal with issues such as denial of access. In recent years, Georgia has reduced its denial of access time for default from 30 to 10 days. Michigan completely revamped its lien law last year to model itself after Florida's self-storage lien law. In addition to reducing the time for the denial of access to five days, the new law deleted a provision that allowed an occupant to vacate without paying the rent and now confirms landlords do not have care, custody or control over their tenants' property.

Notifications

A continuing challenge of many lien laws has been the issue of mailing vs. delivery when it comes to sending the certified foreclosure letter. Once the demand letter is sent regarding payment, the tenant is entitled, by statute, to a certain period of time in which to cure his default and pay the outstanding rent (in addition to late charges). One of the common questions from storage operators is when does the time to cure begin?

Some states start the time period after the mailing of the demand letter, others after receipt. If the statute requires receipt of the certified mail letter, most identify receipt as either the actual signing of the green card or the impossibility of delivery (usually after the third attempt by the post office). The best approach for a storage operator is to be as conservative as possible to determine when the time period begins. That way, it cannot later be questioned by the court on a claim for wrongful sale if the storage facility waited an additional amount of time before it sold a tenant's goods.

Due to the questions surrounding the delivery of certified mail, it always makes sense to send the certified-mail letter along with a letter for regular delivery. That way, if the letter sent regular delivery is not returned, it will confirm the original address sent for certified-mail delivery was accurate.

Inventory

An additional area of dispute has been the requirement to actually cut a tenant's lock before the sale to conduct an inspection and inventory. Again, state laws differ on the requirement for self-storage owners and operators to physically inspect and inventory a tenant's property prior to sale, rather than relying on the general description given by the tenant himself. Certainly, an owner who cuts a lock and inspects a tenant's goods assumes the risk that if the tenant reappears and pays the overdue rent prior to the sale, he will complain property has been taken or damaged. The best solution to this problem is to photograph or videotape the inspection before the unit is relocked. If a physical inspection is not required by the self-storage statute for the state, a facility may want to weigh the benefits of such an inspection as compared to the potential risks.

Lien Searches

One of the other ongoing issues that remain a part of many self-storage lien laws involves the requirement for operators to conduct lien searches prior to their action to sell a tenant's property. Although the investigation of prior liens may actually enhance an operator's chances of getting paid the outstanding rent (assuming an interested party is located), the statutory obligation to perform the search adds another layer of potential liability to self-storage operators who fail to perform the search before the sale is held or perform it incorrectly, thereby failing to notify a proper party before the property is sold.

Although most self-storage statutes reference the issue of lien priority as part of their language, many include provisions that specifically require self-storage operators to perform the lien searches before the sale process can be completed. For example, states such as Alabama, Colorado, Connecticut, Florida and New Hampshire all require self-storage operators to conduct these lien searches by reviewing the financing statements filed by parties with secured interests in the county where the debtor is located. Whether the state law requires these lien searches or not, such searches can be an effective tool for rent recovery and are undoubtedly an important ingredient of an operator's due diligence before any property with title is sold at an auction.

Employing a Licensed Auctioneer

Over the last few years, the self-storage industry has seen some developments in the area of using licensed auctioneers to conduct self-storage sales. Whereas many states are silent on the question of whether self-storage operators are required to use licensed auctioneers to conduct their sales, some states have specifically addressed this issue. For example, last year, a bill was proposed in California requiring self-storage facilities to use licensed auctioneers at their sales. However, that bill was defeated. In Georgia a number of years ago, the operators sought a change in the law to exempt self-storage facilities from having to use licensed auctioneers for their sales. That bill was passed.

Certainly, there are benefits to using an auctioneer service for self-storage sales. For example, auctioneers who are good at their jobs will have bidders who follow them from sale to sale. With more traffic, these auctioneers may potentially get more dollars for each unit sold. Licensed auctioneers are also presumed to know their state's auction laws and, if an auction is found invalid, the facility may be able to pass their liability on to the auctioneer. The obvious disadvantage to using an auctioneer is a facility will have to pay some percentage of the dollars recovered in the sale as a commission or some other amount as compensation for the auctioneer's services, which will lower the facility's bottom line recovery.

Proposed Law Changes

In the last few years, there have been legislative efforts to change and update some existing self-storage lien laws throughout the country. Some proposals have been successful, but many have not. For example, Missouri and North Dakota made an effort to change their lien laws last year; however, no legislative action was taken on these recommended changes. In West Virginia, self-storage owners made an effort to improve their recently enacted lien law, but the changes did not get passed. The West Virginia bill would have shortened the waiting period for the foreclosure process from 60 days to 30, allowed late fees after five days rather than 15, and increased the amount of late fees to the greater of $25 or 25 percent of the monthly rate from $10 or 10 percent. New Hampshire was one state that changed its lien law to require tenants to designate a personal representative as part of their rent application for notification in case the tenant is unavailable or unreachable.

The bottom line about lien laws is if an operator seeks to enforce the law to sell his tenant's property, he must understand and follow his state statute. Courts have generally found in favor of operators who follow the law. For example, in the recent case of Seaforth v. Public Storage Management, Inc., a tenant failed to pay rent, and Public Storage complied with the lien law by sending the certified letters and publishing the advertisements prior to the sale of the property. The notice letters were not received by the tenant because he had moved and had not notified Public Storage of his change of address. The trial court dismissed the plaintiff's lawsuit for wrongful sale. The tenant appealed, but the court upheld the lower court's dismissal based on the finding that the facility had complied with the lien law. The message from the court's decision is clear. When you follow the law and do the sale right, you will be protected.

Unfortunately, a majority of wrongful-sale claims arise from simple ministerial mistakes vs. intentional acts. Although a facility's records may indicate nonpayment or proper mailing of notices, the actual documents may indicate otherwise. To protect a facility from wrongful-sale claims, it is vital to allow a second person--whether a manager or other facility representative--to review all aspects of a tenant's lease before the property is sold at auction.

Lien-law education and training are essential elements in every self-storage operation. As long as the state statutes remain antiquated and confusing, self-storage operators and managers must be trained to understand the laws and follow their procedures if they intend to foreclose on a tenant's property. Without a clear understanding of the law and the requirements for foreclosure, wrongful sales will be unavoidable.

Scott I. Zucker is a partner in the law firm of Weissmann & Zucker P.C. in Atlanta. He specializes in business litigation with an emphasis on real estate, landlord-tenant and construction law. Mr. Zucker is a frequent lecturer at self-storage national conventions and is the author of Legal Topics in Self-Storage: A Sourcebook for Owners and Managers. He can be reached at [email protected].

It's that time of year when our dedication to new year's resolutions is safely behind us and we are free to think about things really happening in our lives. March also brings the winds of spring, which are the perfect metaphor for understanding where the self-storage industry and our own investments are going. Perhaps we should pause for about 15 minutes and see if we can get an idea from which direction the winds have come in the past.

For the last couple of years, the winds of fortune have been coming from the cold north of recession. While the self-storage business is more resilient than most, the recession has had an impact. There has been significant pressure on rental rates and occupancies as many customers have found storing their "valuables" is no longer within their budget. In fact, many are comparing their valuable possessions to the rent of the storage facility and coming to the conclusion they are paying a lot to store very little. Many renters have decided they are simply paying for the privilege not to decide to throw stuff away.

Customers have become very value- conscious--the service and cost equation has become more important. There seems to be a trend in consumers' thinking that it is their duty to shop around and find the greatest value. Some owners will argue price is the greatest objective and others will argue quality and service count the most. Both will be right in some measure. Renters will find the right balance for themselves between price and product, but you can be sure they will be considering both aspects of the bargain. However, in times of economic distress, or the recent memory of such times, price more often seems to be the ultimate taskmaster in this selection process.

Thus, while the winds of the recession may well be changing direction, the howl of those cold winds will echo in the ears of the consumer for a while longer and force them to make the value calculation in selecting their storage facility. It is important to ensure your rents are competitive and your service and maintenance are top-notch. Price increases are unlikely to be well tolerated for some time into the future, as a couple of the major operators have found out by having to roll back increases they had come to believe were part of their birth right.

Interest Rates

It is also clear the winds brought a mixed blessing in the form of the lowest interest rates in 40 years. For those who refinanced, it was like a gift from heaven--cash flow soared up and everyone felt very smart. The grace of lower interest rates has often covered up some market weakness and operational sloppiness. Not only did cash flows go up, values of properties increased as they became easier to sell, and buyers became intrigued with the higher cash-on-cash returns available. Folks who had been in the stock market found cash flow is more valuable than Wall Street analysts' promises of future gains in share prices.

All in all, it's a very nice time to be a seller--or a buyer for that matter--getting the great cash-on-cash return. However, all investors are very concerned about the quality of what they are buying. Their recent experience has taught them to do more due diligence and make sure they are buying real cash flow, not a promise and a story. Thus, buyers, while more desirous of owning self-storage facilities, are also much more careful and critical of the quality and risks attendant to the projects. In other words, they are just like our rental customers--hypersensitive to real value.

Overbuilding

Despite the warmth of the low-interest winds, there were (and are) some nasty gusts that came along with them. These gusts are represented by local pockets of moderate and severe overbuilding. The low interest rates created zeal on the part of developers and, worse yet, would-be developers to build projects without regard to market demand or other feasibility information. The full extent of the overbuilding has not become apparent as many projects are still in the pipeline and not yet true competitors.

Overbuilding has always been the Achilles' heel of the self-storage business, and it is almost always the unsophisticated developer who causes the overbuilding in a specific market. While the effects of recession certainly compound the problem, it is overbuilding that continues to have the most devastating impact on self-storage operations. When this tornado blows in, there can be severe damage to all current participants in the market.

It is worth thinking about what a little overbuilding can do to a market. Understanding the math can provide very useful insight into decisions that will impact a facility. For example, let's assume a well-established market area with a five-mile radius has five facilities of about 40,000 square feet each (200,000 square feet total). This comfortable little market has suffered modestly from the recession, and average occupancies are down from 92 percent to 85 percent. This means the actual market demand is about 170,000 square feet (200,000x.85). All of the owners are disappointed at the occupancy numbers, but quite sanguine the market will soon recover.

However, a fellow just bought a failed lumber yard in the area and has gotten approval to build a self-storage facility. He was enticed by the low interest rates the bank offered him on a mini-perm loan. His calculations indicated a breakeven point at 62 percent occupancy. His plans call for phase I to be 50,000 square feet and phase II to be 35,000 square feet. Because the site is relatively high profile in the city, the planners have insisted it have all the bells and whistles of modern self-storage facilities.

The addition of phase I to this highly competitive project will bring the total supply of the area to 250,000 square feet; but the total actual demand will remain at 170,000 square feet. This creates an average market occupancy of 68 percent (170,000/250,000). If the new competitor decides to build phase II, the average occupancy will drop to 60 percent (170,000/285,000). It is clear the wind of enthusiasm for building self-storage has carried in a tumbleweed!

Some more math will tell us how much growth will have to occur to resuscitate the market's average occupancy. For the market to have an average occupancy rate of 85 percent, demand would have to grow 42,500 square feet to 212,500 (250,000x.85) or a whopping 25 percent. To get back to 92 percent occupancy, demand would have to grow 35 percent. Few established markets have the short-term potential for such growth.

If you assume the average tenure of the self-storage renter in this market is 12 months, the five original facilities will have to compete with the new operator for at least a year. Remember, his breakeven occupancy is only 62 percent and his first objective is to fill up so he can build phase II. It is likely, given his situation, he will bring lower competitive rental rates to the market to facilitate his lease-up.

If the gust of overbuilding wind blows your way, you may have a different view of low interest rates. It is unlikely the recent weather patterns will change much in the near future. If the recession does end, the memory will linger for some time and cause renters to continue to be very sensitive to value and resistant to rate increases. While falling interest rates may diminish in the near term, they will remain attractive to investors, and the enthusiasm of developers is likely to remain unabated. Remember, it only takes one ill-conceived project to do real damage to an entire market. It will also take the current pipeline about 18 months to empty out, even if we assume no other starts.

Thus, having worn out the metaphor, the only suggestion I can offer for protection from the winds is to wear your coat. In other words, make sure your facility and operations are sharp. Also be sure you have refinanced at these low rates. It could improve your bottom line or give you the margin you need to be competitive if the wind drops the overbuilding tumbleweed in your backyard.

Michael L. McCune has been actively involved in commerical real estate throughout the United States for more than 20 years. Since 1984, he has been owner and president of Argus Real Estate Inc., a real estate consulting, brokerage and development company based in Denver. In January 1994, he created the Argus Self Storage Real Estate Network, now the nation's largest network of independent commercial real estate brokers dedicated to the buying and selling of self-storage facilities. For more information, call 800.55.STORE or visit www.selfstorage.com.

As the winter snow melts and the spring months deliver frequent rain, floods are one of the most common natural disasters. Flooding occurs when heavy rains pour over dry land or rain falls too fast for the earth to soak up all the water. Flooding also results from drainage-system failure, inadequate dams, and even tropical storms, tornadoes and hurricanes.

The worst floods happen where the land is flat and low-lying. These areas are known as flood plains. Mud, earth and large objects such as cars can be carried long distances by flood water and can dig up and destroy anything not firmly attached to the ground. You don't have to be in a flood plain to be at risk for flood damage. Floods can happen to any business at any time. Even typically dry states such as New Mexico and Arizona can be prone to flash floods that have the power to cause as much damage. The danger with flash flooding is it can happen quickly with very little or no warning.

Did you know self-storage insurance policies, like most commercial policies, don't include flood insurance? Many facility owners don't realize their standard business-insurance policy doesn't protect them until it's too late. As a matter of fact, only a small portion of businesses exposed to the risk of flood damage are insured. Fortunately, it's easy and inexpensive to protect yourself against flood through the National Flood Insurance Program (NFIP), which is backed 100 percent by the federal government.

Before the NFIP program, people had only their community and charity organizations on which to depend. The problem was government assistance in each area wasn't extensive or consistent. Flood insurance was sparse because the people who bought it were only those living in flood-prone areas, therefore making insurance rates expensive. In the late 1960s, Congress took notice of these problems and passed the National Flood Insurance Act, which was designed to assist with costs of loss, inform and educate people to build up and away from flood-prone areas, and set forth requirements on building construction to prevent and deter flood damage.

Get Covered

You can get good and affordable flood coverage even if your facility is located in the boundaries of a flood plain. Flood insurance costs an average of a few hundred dollars per year for businesses, and a special, low-cost, preferred-risk policy is available for businesses in less hazardous areas. The NFIP and its write-your-own servicing companies guarantee coverage for anyone living in a high-risk area.

Depending where you are located, it may not be necessary to purchase flood insurance at maximum amounts. If you are outside a designated high-risk area, you can purchase partial coverage and receive an actual-cash-value payout for damages up to the purchase amount. However, if you have a lot of equity in your buildings and property, you may want to consider purchasing excess flood protection, available up to twice the regular limit. This extra protection may be very prudent given today's inflation and excessive construction costs.

The NFIP divides risk areas into three basic groups: low, medium and high. Less than one-third of all reported flood claims, however, come from high-risk areas; and more than one-quarter come from low-risk areas. That's why most business-insurance experts strongly recommend you have flood insurance, even those in low-risk areas. Remember, your facility doesn't have to be near a river or a lake to be at risk.

You can purchase flood insurance at any time, but there is a 30-day waiting period from the date of your application before coverage goes into effect. It is essential to plan ahead and get coverage from your agent before flooding occurs to ensure you will be covered if disaster strikes.

Some Important Considerations

Some prestorm considerations to take would be to establish an action plan for monitoring storm activity, preparing for flood conditions and implementing emergency-salvage operations. It is important to know the history of your area to better anticipate flooding potential. Another preventable measure would be to document the interior and exterior of your facility and valuables with a camcorder or photographs to aid in the event of a claim.

Monitor weather reports through National Weather Service advisories. Every so often, see that all outside doors and windows are tightly secured and check conditions of flood doors, gates, walls, dikes, etc. Test all sump pumps for proper operation. Back up all important computer files and records and store them in a secure location. If you suspect flood conditions, shut off gas and electrical service, relocate valuable possessions to safe elevations, and stay calm if disaster threatens. Be prepared to evacuate the area immediately.

If a flood has occurred, begin salvage activities immediately, including cleaning and drying. Give priority to your most valuable property and possessions. Remove flood debris and drain all standing water as soon as possible. Dehumidify damp areas as thoroughly as conditions allow and return fire-protection systems to full operation. Carry valid identification along with proof of residency and your business license. Drive carefully through debris-strewn areas and those with standing water. Most important, contact your insurance-claims representative immediately for adjusting and related services.

Universal Insurance Facilities Ltd. offers a comprehensive package of coverages specifically designed to meet the needs of the self-storage industry. For more information, or to get a quick, no-obligation quote, write P.O. Box 40079, Phoenix, AZ 85067-0079; call 800.844.2101; fax 480.970.6240; e-mail [email protected]; visit www.vpico.com/universal.

VERY FEW PEOPLE BUY A SELF-STORAGE FACILITY FOR PERSONAL SATISFACTION OR TO IMPRESS THEIR FRIENDS. If, for example, someone were purchasing a diamond or an automobile, the reasons to purchase and the elements of value would be much different than those for acquiring a self-storage facility. In reality, the only reason to buy a facility is it produces income--more income than could be produced at similar risks in other types of investments such as stocks, bonds, carwashes or hotels.

It is now clear the principle underlying theme of value as it relates to self-storage is the ability of a facility to generate income and compete against other facilities in its marketplace. In the valuation process, little concern is given to any characteristic of a facility that does not contribute to the production of income. To measure the value of a given site, we have to understand not only the amount of income it generates, but the nature and reliability of that income. This income stream must then be compared to other forms of real estate to determine the appropriate level of return on investment to induce buyers to purchase self-storage over other options.

A Word About Appraisals

This article focuses on the three traditional approaches to value used by real estate appraisers: 1) the income approach, 2) the comparable sales approach and 3) the cost to replace the facility. In appraisal theory, all three approaches provide the same answer to the question of real estate value. However, because of the importance of income in generating value, a great deal of focus is placed on understanding its composition and nature. As you will see, the other two appraisal approaches are also important in determining and confirming value.

The Source of Value

In self-storage and most other income producing real estate, the source of value is either current actual income or the reasonable potential of future income. The potential future income can come in the form of increased actual income or the proceeds from a sale of the property. Income seems like an easy word to understand, but in determining real estate value, the term income has several meanings.

For purposes of determining value, the definition of the net operating income (NOI) is important. NOI is merely the product of subtracting the operating expenses from the operating revenues. Operating revenues are those generated from the day-to-day operations of a facility, such as rent, reasonable late fees, lock sales, box sales and auctions. They are not proceeds of sales of equipment or partnerships in the property, insurance-claim payments, proceeds of refinancing or other nonreoccurring income.

The key to understanding operating revenue is it occurs in the ordinary course of the primary business on a recurring basis. In the case of self-storage, it takes the form of rent from tenants. Other revenue can be included only if it is ancillary to the main business of renting space. It will not be considered real estate in valuing the project if it is more than ancillary to primary business. For example, if box sales contributed 60 percent of the total revenue of a facility, that income would be viewed as being of a business other than the primary real estate.

Operating expenses used in valuation are most interesting for what they do not include: interest, depreciation, large equipment costs or amortization on a loan. Also, for valuation purposes, operating expenses do not encompass any personal expenses. However, they may include some things not currently being paid for by the facility, such as management fees. The reason for including management fees, even if they are not currently being paid, is the next owner would have to pay them or provide the service himself.

Operating expenses used in valuing a property can also include increased property taxes caused by the sale of the property. This is because the new buyer will have higher tax expenses (and, therefore, less income) than the current owner. The expenses included are the usual recurring costs such as labor, utilities, legal fees, insurance, advertising, repairs and telephone fees.

If you subtract operating expenses from operating revenue, the product is NOI. For example, assume the operating revenues are $342,000 and the operating expenses are $120,000 (about 35 percent) for a resulting NOI of $222,000. It should be noted that, except in extraordinary cases, the buyer would only consider "trailing income," i.e., the last 12 months of actual NOI, not projections of rent increases in the future.

NOI is not cash flow. Cash flow is the NOI minus the debt service, the principal and interest on any loans. Cash flow is not a component of valuation; however, it is a very important component in calculating the return on equity, which is the ratio of the debt service to the amount of equity required after placing a loan on the property.

How Much Will the Buyer Pay for the Income?

Now that NOI has been calculated, it must be determined what reasonable buyers in the marketplace will pay for the level of NOI the facility has available. This relates to the buyer's perception of risk and his requirement for a return on investment. The market value of the property is the capitalized value of the income stream that can be reasonably expected to be achieved in the market.

How is the expected rate of return determined for a market? Appraisers use comparable sales to help determine value. In this case, previous sales of self-storage are examined to determine what rate of return buyers demand to purchase a given facility. For example, a comparable sale may have been a first-class project in a large metropolitan area with an NOI of $160,000 and sales price of $1,641,000. This would indicate the buyer required a 9.75 percent return on NOI. Another sale of a class-C facility in a small declining industrial town sold with a $120,000 NOI and a sales price of $1,043,000 , indicating the buyer was willing to buy only if he could achieve a return of 11.5 percent on this property with more risk and less potential for income growth.

After looking at many such sales, it becomes clear the market for selling self-storage facilities exists almost exclusively at rates of return of between 9 percent for the very best properties and 11.5 percent for the properties with the most risk and least quality. The chart below shows some recent sales. Because there is a supply of buyers and sellers willing to conduct business at these rates, it is very rare to find a sale outside that range.

For example, if a seller will not sell for the market rate of return for his property, another will sell for that price, satisfying the buyers in the market. The fact most self-storage facilities are bought by current owners already familiar with the business means the range of market values is very narrow; they know the risks and rewards of self-storage.

Computing Value

Now it's time to calculate the value of the self-storage facility used in the above discussion of NOI. The NOI in the example was $222,000. Now that we know the range of returns buyers expect (and at which other sellers are willing to sell), the value can be determined by learning just a bit more about our hypothetical property.

First, assume the property is new in a fast-growing area. It has low vacancy and good construction. If this property compares favorably to the one that sold for the 9.75 percent return, the NOI divided by the rate of return would be $2,256,000. Now assume the sample project closely resembles the project in which the buyer required an 11.5 percent return. The value would then be $222,000 divided by 11.5 percent, or $1,930,000.

Real estate professionals refer to these market rates of return as capitalization rates, or simply cap rates. The accompanying chart shows some characteristics of projects relating to various cap rates. It should be used as a general guide in developing values. Clearly, there are other adjustments to be made in calculating values of self-storage facilities, such as a deduction for excessive deferred maintenance or the economic consequences of a high-rate loan that must be assumed. Positive adjustments can be made for extra land or rental rates that are grossly below market.

The Last Approach to Value

As you may recall, there is a third way to look at value: the cost-to-replace method. This method simply attempts to develop the current costs to replace the project today. Theoretically, it should produce roughly the same value as computed in the above analysis--when the appraiser makes the right adjustments. However, it is more than an exercise in good appraisal to make this comparison.

In today's market, there are a number of projects for which the value computed on income capitalization significantly exceeds the replacement cost of the project. The situation provides an incentive for developers to build additional units that could cause rental rates to decrease. Overbuilding continues to be the most significant risk to self-storage values. Sophisticated or well-represented buyers always make a calculation of replacement cost and make an adjustment to the NOI of a facility for sale if there is a significant potential exposure to overbuilding.

Lenders, in their appraisals, are becoming even more sensitive to replacement costs and are often using them as an upper limit to loan value. While not a rule, it appears when values derived from income capitalization exceed replacement-cost valuations by more than 15 percent, adjustments to the income valuation become necessary to consider.

How to Value Your Property

The above review will provide most of the mechanics to help you get to a preliminary or ballpark value for a facility. However, you have to be impartial when making a judgment call regarding income and expenses and compare your project to the chart to get an estimate of the cap rate.

Then talk to a professional--a broker or an appraiser--and ask him for an estimate of value. Talk to him in detail about how he developed his value and see if you concur. Unless you fully understand all the assumptions he uses and agree with them, you should hire an appraiser to do a complete appraisal. Such assurances will allow you to enter the sales process with confidence you are pricing the property correctly. The time to be sure is before you list the facility. Understanding and setting the value of the property is the single most important step in the selling process.

Michael L. McCune has been actively involved in commerical real estate throughout the United States for more than 20 years. Since 1984, he has been owner and president of Argus Real Estate Inc., a real estate consulting, brokerage and development company based in Denver. In January 1994, he created the Argus Self Storage Real Estate Network, now the nation's largest network of independent commercial real estate brokers dedicated to the buying and selling of self-storage facilities. For more information, call 800.55.STORE or visit www.selfstorage.com.

Theoretically, a cap rate is the rate of return you could expect to get in perpetuity if you pay "all cash" for an investment, with all other factors remaining constant. The formula for a cap rate is the net operating income (NOI) divided by the price of the property. Conversely, price is determined by dividing the NOI by the cap rate.

Since my entrance into self-storage in 1992, I have seen cap rates fluctuate from 10.5 percent or 11 percent to the mid-8 percent range. In the early to mid '90s, cap rates were certainly above 10 percent and, in most instances, closer to 11 percent across the board. Transitioning into the late '90s, large publicly traded real estate investment trusts (REITs) brought the cap rates below the magic 10 percent barrier.

I vividly remember the great earthquake that took place in Northridge, Calif., in 1994, destroying homes and displacing thousands of people. It was a tragic event. Occupancy rates in storage facilities shot up to nearly 100 percent within a couple of months, just as the advent of the REITs was taking foothold. At that time, sellers received a twofold increase in the value in their facilities, one from increased occupancy, and a second due to lower cap rates paid by the REITS.

Today, it is not unheard of to find cap rates in the very low 9 percent to even a high 8 percent range. I have encountered a bit of softness in the market--from rental rate and occupancy standpoints--due to increased competition and other economic reasons; however, with interest rates on storage facilities being lower than those previously on home mortgages, you can still acquire a facility at a very low cap rate and have positive leverage.

The cap rate investors are trying to achieve is related to initial and stabilized income numbers. In many instances, initial cap rates are lower than stabilized as operators often feel they can add value to any given property based on their management expertise or economies of scale (i.e., they have other facilities in the area and can share operating expenses). However, assuming a property is fully leased--and with the exception of a normal 5 percent to 7 percent physical vacancy at market rates, with market expenses--the spread between your going-in and stabilized income will be minimal; thus, the going-in cap rate will be more reflective of the stabilized one.

On the other end of the spectrum, I have seen properties at above-market rents that are fully leased as a result of excessive rental concessions and specials. I have also seen fully leased properties with several competitors under construction, which will ultimately place downward pressure on rental and occupancy rates (in the short to midterm). In these instances, the stabilized cap rate may actually be lower than the initial; therefore, you would expect to have a higher initial cap rate at acquisition.

Nonetheless, I have never seen cap rates at this level, nor the infusion of capital from institutional investors and small, private operations looking to diversify. Assuming the debt/equity and economic markets stay relatively stable at these rates, I believe cap rates will remain relatively the same as well.

Matthew T. Pipkin is a senior vice president with Lee & Associates, Newport Beach, Inc. He has been responsible for the recent sale of more than 500,000 buildable square feet of entitled self-storage land, and the sale or escrow of more than 2 million square feet of existing self-storage facilities. For more information, call 949.724.1000; visit www.lee-associates.com.

SELF-STORAGE IS NOT BRAIN SURGERY. COMPARED TO MANY BUSINESSES, the cost structures, labor involvement and customer interactions are very simple. How complicated is the expense structure? You have utilities, management payroll, some advertising and maintenance. You collect rent on the units--end of story. If you can keep ahead of your breakeven point, you are making money. Of course, the devil is in the details; and it is the details that determine whether you can make a purchase work financially.

What Are You Looking for?

Before you even look at your first property, ask yourself how this purchase is going to fit into your life. Are you going to run the property yourself? Are you going to be an active or absent owner? Will a management company run the store for you? What sort of a return on your investment would you like to make? Are you buying to hold? Are you buying to prep the property for sale? These questions and others will tell you what you have to look for in a potential return. It will also tell you how you will manage the property.

Once you know a little more about your particular needs, start looking at properties. There are several brokers who specialize in self-storage. They can help you find facilities for sale. You can also visit self-storage facilities in the area and see if any owners are interested in selling.

Once you have an interested seller, stop and slap yourself in the face. Take a reality check. Look in the mirror and see if your face has the word "sucker" written all over it. The self- storage business has been a good one for many years for people who have an excellent location or a firm grip on expenses. Lots of people have wanted to break into this business. The fact that you want in may mean someone out there will try to play you like a fiddle.

Don't Be a Sucker

Many years ago, I was involved in dog training and breeding and bought many dogs. It would crack me up to see some of the things people would do to pass off a dog as more than it was. For example, Doberman pinschers should not have any white on their chests. One of the things I would have to do when buying a Doberman was check for hair dye or mascara covering a white spot on the chest. Rottweilers should have deep red rather than pink pigment in their mouth and lips. There were a few times I rubbed food coloring off of a rottweiler's mouth when evaluating it for purchase. If people resort to this kind of silliness over a dog worth a few thousand dollars, imagine the temptation when unloading millions of dollars of storage.

Knowledge is your best defense. Know the local self-storage market, including rental rates in the area. Know the tax structure and land-use policies. Know local consumer habits. Know the weather. Know the labor market. If you carry this knowledge into negotiations, you will not shoot yourself in the foot.

The ways in which you can let yourself be fooled in a self-storage purchase are not that different from those in any other business acquisition. You may see misstated earnings or expenses, inaccurate occupancy rates, unrealistic estimates of good will and brand value, untrue reports of the condition of structures, omissions in descriptions of land-use policy and outright lies about environmental risks.

What is the seller's motivation to sell the property? You may never know the truth. Is it possible when the lock was cut on unit 135 to inventory it for auction, the manager found an unidentifiable barrel of stinky, smelly, goopy gunk? If the purchase of your new facility means the EPA will quarantine your site for months while cleaning up toxic sludge, you won't be happy. Environmental risks are real. Make sure you have an environmental consultant look the place over carefully. Make sure your contracts cover you in case you do buy a barrel of toxic waste.

Maybe the seller wasn't making any money. This is not a bad thing. Many times, a change in management and a fresh coat of paint is all that is needed to turn a store around. But protect yourself from paying too much for a sinking ship.

Sellers may misstate earnings by doing several things. A "pay one month, get two months free" promotion will make month No. 1 look pretty good and boost occupancy rates, but it could be used to fool a buyer into believing occupancy rates and earnings are much higher than in reality. It would take very little time and effort for a seller to create phantom tenants. Some current tenants may not be real people at all and may have had the first month's rent paid in cash by the owner. Unless you check leases and call tenants, you will not know how many are real and how many fictitious. You will also not know how many tenants are the owner's siblings, cousins and in-laws.

Misstated Earnings and Expenses

How do you protect yourself against misstated earnings? Get a good estimate of rentable space. Do it with a tape measure if you must. Assume some units may be unrentable. If you know what the high and low rents and occupancy rates are in this market, you can do your own calculations on what the rent roll would be. Work out several scenarios. If you can still make the return on investment in the worst-case scenario, you have an excellent purchase before you. Use the numbers the seller gives you as a test as well. If the numbers are way higher or lower than your research has shown you, ask the seller to explain.

A seller can also misstate expenses. Some sellers are involved in other businesses and may have begun charging the facility's expenses to another business in anticipation of the sale. He may have cancelled service contracts or advertising in preparation for the sale. He may have been paying some payroll off the books, or paying some expenses with cash to hide the items. Regular expenses may have been stated as capital expenditures. Does this remind you of recent events in big business?

Protect yourself from misstated expenses with good knowledge of what it will take to run the store. You should be able to get accurate utility and tax costs from the local government and utility offices. Calculate the rest on your own with the knowledge you have of the local storage market. Can you make your investment work using low-, middle- or high-expense calculations? Where does the seller's expense estimate fall into play?

Anticipate Costs and Obstacles

What is the condition of the property? What is going to soon need replacing? What can be spruced up with cleaning and painting? What warrantees have expired or will expire soon? Not anticipating the replacement of 40 roll-up doors could put a big cramp in your first-year income projections. Here again, use your newfound knowledge of storage to estimate the maintenance, repair and replacement costs. Get some help. Contact builders and suppliers of the type of structures you have and learn all you can from them. How does the seller's estimate compare with your figures? You have probably all seen the Tom Hanks movie "The Money Pit." No new owner wants to remake that movie at his storage facility.

Ask yourself what system improvements will you have to make. Will you need new computers, gates or management software? These are expensive to replace and time-consuming to integrate into operations. Also ask what it will take to hire, train and empower a new management team.

What will take satisfy and entice local consumers? How much are you going to have to spend to fill up the store? If the seller has over-inflated the goodwill the store has in the community, you may have a tough job on your hands. He may have been so unpleasant to do business with consumers have a bad association with the store. It may also be once the "under new management " sign goes up, the neighbors will be happy to give you a chance.

Pay particular attention to the location and accessibility of the store. If the location is difficult, you may never be able to overcome it. Every community has some commercial locations that never succeed. The access isn't right, or the visibility is poor. If the facility you are considering is on one of these accursed spots, think carefully about the purchase before you make it.

Have you learned all there is to know about land-use policy in the area? The seller may brag there is room for 800 more units on the lot behind building No. 2, but if the city has banned all new storage construction, it is of no value to you. What are the municipality's long-range plans and how will they affect you? If the state plans to build a new interstate exit by your property in 10 years, is that going to be good? Maybe or maybe not, but you need to know about it.

What weather considerations are there? The old-timers used to say you should buy wet and sell dry. There is a lot of truth to that. Does building No. 1 take on 2 inches of water every time it sprinkles? Do tornadoes strike this side of town twice every spring? Any information like this is valuable.

Seek Help

You may want professional help to make a good buying decision. There are many people in the industry who offer services to buyers. If you read through this publication, you will find people who have developed, bought and sold many properties, as well as consultants who can help every step of the way. It is well worth the money to have someone knowledgeable assist with the evaluation and examination of a self-storage property. A professional can do three things:

1. Stop you from making a bad purchase. This could save you hundreds of thousands of dollars in grief.

2. Help you negotiate a better price and terms. This could make a deal work for you.

3. Assure you that you are making a good purchase. Sometimes a good purchase may not be totally obvious to the inexperienced.

In Sum

Don't let the "sucker" sign on your forehead get you into trouble. Learn everything you can about the local conditions effecting the store that interests you. Get professional help. Run the numbers again and again until you are satisfied you have covered the most likely scenarios. If you make a good purchase, you can successfully open your store and start making money.

Tron Jordheim is the director of the PhoneSmart Call Center, which serves the self-storage industry as a rollover off-site sales force. He has started several successful businesses from scratch and assisted with acquisitions as general manager of the Mid-Missouri Culligan Bottled Water franchise. For more information, call 866.639.1715; e-mail [email protected].

SINCE 1987, QUIKSTOR HAS PROVIDED DEPENDABLE SECURITY AND SOFTWARE SOLUTIONS TO THE SELF-STORAGE INDUSTRY. The company offers a complete system that integrates security, management and marketing. Its proven lines of affordable, forward-looking products give businesses a healthy profit margin, and its marketing team can quickly design a security and management solution that provides a competitive edge.

For more than 15 years, self-storage operators have turned to QuikStor for innovation and leadership. To plan a custom business solution, call 800.321.1987; visit www.quikstor.com. International customers call 818.922.2000.

Management Software. QuikStor has produced management software for the self-storage industry since 1987. Its newest offering, QuikStor Express, has once again set an industry standard. Built-in video tutorials, vivid screens and training mode make it easy for employees to become proficient with the software. The colorful QuikMap feature allows managers to quickly locate any unit by its status or location.

With QuikStor Express, managers can verify a customer's checking account before they accept the payment. The software also allows tenants' monthly rent payments to be automatically withdrawn from their credit cards or checking accounts. Every year, QuikStor management software processes more than a billion dollars in self-storage income. As a result, the banking industry rewards QuikStor's customers with the lowest processing fees available--just 25 cents for automatic rent collection.

Access-Control Keypads. Driveways and doorways can be secured with QuikStor-900^TM keypads. In keeping with their reputation for durability, extreme protection against abuse by nature and vandals is standard. Each keypad is manufactured to meet strict ISO-9000 standards and undergoes rigorous quality control and testing. The bright, customizable display screen greets tenants with a welcome message, instructions and a clear explanation of why access was granted or denied. The integrated intercom allows hands-free conversation with the facility manager. Access-code use is permanently recorded while the covert camera quietly captures the user's identity.

Pay-At-The-Gate^TM is another of QuikStor's industry innovations. If a tenant is denied access because of a past-due balance, he can pay the debt by inserting a credit card directly into the keypad. Customers love the convenience and owners collect revenue instead of dealing with vacancies and auctions.

Enterprise Management. Using QuikStor Enterprise remote-site software, self-storage operators can gain instant information about occupancy, vacancy and individual tenants. They can also manage delinquent accounts, update records, add tenant notes, make reservations for any location, and even establish a centralized call center.

QuikStor includes password controls, data encryption and automatic off-site backups to ensure the privacy and security of sensitive business files. Reports are printed and/or e-mailed automatically on the schedule and to the specified recipients. This ensures concise revenue and marketing analyses reach staff, business partners and accountants.

Camera Surveillance. Operators can protect their sites with QuikCam, QuikStor's digital video recorder. The video quality is amazingly detailed at 640 vertical lines per camera--that's 22 percent sharper than a DVD. Quik-On^TM recording eliminates the lag time and tape changing of traditional security VCRs by only recording when motion is detected. The unprecedented storage capacity retains weeks or months of detailed camera activity.

QuikCam makes it easy to quickly review video from any date, time and camera zone. Operators can freeze on an image, zoom in, then print, e-mail or burn it to a CD. While an operator views prior events, QuikCam continues to record new camera activity facility-wide.

Finally, QuikCam is a powerful marketing tool, showing tenants the view from the camera aimed toward their storage space via the Internet. For example, tenants can check the covers on their boats or recreational vehicles during a violent storm. "Public" cameras can show prospective tenants what a facility has to offer via a website. An offsite, high-level manager can view all the password-protected cameras facility-wide.

Wireless Door Alarms. QuikStor's family of individual door alarms remains a popular choice for wireless self-storage protection. More than 150,000 are in service at locations of every design and construction material. QuikStor alarms operate for 20 years between battery changes and protect facilities of any size and shape, even with nonadjacent property. Individual door alarms can be rented to tenants for a modest fee, keeping rental rates affordable while offering advanced security. The company also carries wireless panic pendants, key-chain gate openers and exclusive sensors for recreational vehicle and boat protection.

Intercom Options. QuikStor offers a complete selection of high-quality intercom, music and paging options. Music, prerecorded sales messages and manager notifications broadcast across a facility at a manager's command. Intercoms are seamlessly integrated into a facility's drive-up, elevator, entrance and off-site locations to provide enhanced customer service.