This week, I want to give you more insight into how we evaluate a facility to determine whether or not to put in an offer. This is based on a real opportunity that we looked into and ultimately decided was not a fit for us.
The property is a 377 unit storage facility in Baytown, TX. The property is fairly new, with the newest building built in 2022. It is offered at $3M with an option for seller financing. For purposes of our discussion, we are assuming a final purchase price of $2.5M, with 50% seller financing at 5%. With reserves, planned capital expenditures, and closing costs the investor equity would be approximately $1.9M, with a $1.35M loan.
The numbers on this property look pretty good (obviously based on our assumptions, which may or may not be accurate). The gross potential rents for the property come in at $378k using current rates. If we consider a vacancy rate of 15% (industry standard) and a 50% adoption for tenant insurance, our expected rental income comes in at $330k. This would lead to a small CoC return of about 1.65% in the first year, rising to over 12% in year 14. Over the hold period, that results in an average CoC of 7.07% and a projected IRR of 11.3% (assuming industry standard 6% rent increases, and expenses increasing at 3%).
In addition to the existing units, there is about 0.6 acres of unused land at the back of the property. This could be used to build additional storage units and increase the NOI further, assuming the demand remains strong. The potential increase there is not factored into our initial numbers, but is something that makes the property even more attractive.
Those numbers are pretty solid and based on reasonable assumptions, so the property is definitely worth a deeper look.
Unfortunately, it didn’t take long to decide this property was not for us.
The property is located in Harris County, TX which saw a 15.6% population increase between 2010 and 2020 according to census data. That is amazing growth and would certainly indicate that a self storage facility would do well in that area. The population density in that region is also quite high, with the property being on the border between two census tracts having a density of 2,729 and 3,970 people per square mile respectively.
While many parts of Houston are high crime areas where you wouldn’t want to be around at night, this part of Baytown is relatively safe, so crime wasn’t an outstanding concern either.
However, when looking at the FEMA website, the property is located in a flood prone area. Not only is it less than a mile from a bayou, it is within 3 miles of the gulf coast. This means that there is a good chance that, over our target ownership period, the property would be flooded. Having a flood would decrease revenues and increase expenses substantially, with it taking up to 1 year. Even without a flood, the location puts the property at high risk of hurricane (wind) damage. This means that the price for insuring both our property and the property of our tenants would be extremely high as we would need, and likely have to use, both flood and hurricane insurance. Insurance in these areas have more than doubled in the past 2 years and the expectation is that rates will continue to rise by 30% or more per year for the next few years as insurance companies figure out the right approach. And that assumes that you can get insurance coverage. In many cases, insurance companies are not writing any new policies in high risk areas (or even pulling out of states entirely).
Those risks, in addition to the significantly higher insurance premiums required, makes this property higher risk than we are looking for within our portfolio. As a result, we have moved it solidly into the “do not consider” pile and are looking for properties further inland where the chance of flooding or hurricane damage is less and the cost of insurance is appropriately lower.
If you have any questions or comment about this post, please email them to me at blog@mbc-rei.com, I will reply to the questions that are straightforward and will turn the questions requiring more detailed answers into future blog posts.
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This article is my opinion only, it is not legal, tax, or financial advice. Always do your own research and due diligence. Always consult your lawyer for legal advice, CPA for tax advice, and financial advisor for financial advice.
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