What a year!
I joined Russell and David at Safe Storage Investors on January 1, 2024. Little did we know what an incredible year we had in store for us.
It’s been a whirlwind in the Self Storage sector, marked by a massive shift in ownership trends favoring larger players such as REITs and private equity firms.
Industry Shifts and Acquisitions
The biggest acquisition news of the year wasn’t as significant as 2023’s merger between Life Storage and Extra Space. However, the merger of Go Store It and Snapbox significantly elevated their market position.
Beau Agnello, COO of the combined company, joined The Self Storage Made Simple podcast and emphasized that companies with fewer than 100 stores would struggle to compete due to the advantages of economies of scale in this new era of storage.
This shift has led to a sharp decline in mom-and-pop-owned facilities. Estimates indicate that ownership by smaller operators, which was around 80% just five years ago, has now dropped below 40%, according to some industry sources.
Our own experience mirrors this trend. Three years ago, Russell and David acquired a small facility in Sturtevant, Wisconsin, a suburb of Madison. We sold that facility in March to a top-10 owner, further reflecting the growing dominance of larger players.
When major players are acquiring 30,000 sq. ft. facilities in tertiary markets, it underscores the increased investor interest in the storage sector.
Technology Adoption and Cost Pressures
Two major trends shaped the asset class this year:
- Technology Adoption: Owners rapidly adopted technology to reduce operating expenses amidst rising costs for insurance and property taxes. Larger owners shifted to a hub-and-spoke model, using centralized sales teams and digital tools like tablets or mobile platforms to handle customer interactions.
- ECRI Practices: Existing Customer Rate Increases (ECRIs) became a hot topic. As occupancy lagged post-COVID, REITs aggressively discounted rates for new customers, later implementing sharp increases to offset initial losses.
At the NYSSA investors forum in January, all five major REITs (Public Storage, Extra Space, CubeSmart, NSA REIT, and U-Haul) affirmed this approach was effective and here to stay.
However, concerns emerged over its long-term sustainability. California even introduced legislation to regulate rate increases, imposing stricter timeframes for adjustments. Despite these challenges, Extra Space’s Q3 report showed occupancy above 94%, up 0.6% from 2023. Nevertheless, rising expenses led to a 1% drop in Net Operating Income (NOI).
Broader Market Trends
The storage sector faced challenges due to high interest rates and rising costs, but it remained resilient compared to struggling asset classes like Multi-Family and Office.
Multi-Family developments launched in the past two to three years are facing harsh realities. Many require up to twice their initial equity just to remain solvent, potentially leading to significant investor losses by 2026.
In contrast, storage developers have avoided fire sales, as the sector’s strength has prevented distressed properties from flooding the market. However, larger owners’ dominance has made it harder for smaller firms to compete. Lower capital costs, longer time horizons, and operational efficiencies allow major players to pay higher prices for acquisitions. Public Storage, for example, reported a 77% NOI margin compared to the typical facility’s 35%.
Pivoting to Small Bay Industrial Flex
To remain competitive, we maintained discipline in underwriting, ensuring we protected our investors by not overextending. As a result, we made no new acquisitions of existing properties this year but shifted focus to a new opportunity.
We identified Small Bay Industrial Flex as the asset class most poised for growth, akin to storage’s rise over the past five years.
Small Bay Flex shares similarities with storage in build style and operational simplicity but differs in key ways:
- Units typically range from 1,500 to 2,000 sq. ft., with warehouse space and 10% allocated for office and bathroom use.
- Lease terms span 1 to 5 years, usually 3 years, and often use NNN leases, passing taxes, insurance, and maintenance costs to tenants.
Addressing Market Gaps
The past two decades saw a surge in large distribution warehouses, fueled by companies like Amazon and Wayfair. Developers focused on 200,000 to 1M+ sq. ft. spaces, neglecting smaller entrepreneurs’ needs.
Now, with Amazon and others scaling back, vacancies in big-box warehouses have risen, leaving smaller businesses like plumbers, electricians, and HVAC contractors underserved. Meanwhile, many prime sites were used for storage development during COVID, when rents soared and made storage the go-to asset.
As storage rents normalize below pre-COVID levels, development feasibility has declined, creating an opening for Small Bay Flex investments.
Moving Forward
We’re aggressively pursuing this asset class, recognizing a 3-5 year window to maximize value before the cycle shifts. We expect momentum to crest as interest rates stabilize and activity picks up across other asset classes.
Despite a challenging year, we embraced it with excitement and effort, continually learning from industry leaders and positioning ourselves to deliver strong returns for our investors.
We look forward to breaking ground on major projects as we head into 2025!