Today I'm talking with Paul Moore of Wellings Capital.
Now, you might be wondering,
Didn’t you just have Paul Moore on your show a few episodes ago?
And you’d be right because we did!
Normally, I wouldn’t be interviewing the same person again so soon, but I heard back from a lot of people who LOVED our first conversation with Paul in episode 111.
And interestingly enough, I just heard that Paul is putting out a book with BiggerPockets about self-storage investing.
Self-storage has been hot on my radar this past year because I’ve been laying the groundwork for a new construction project on my first storage facility. I’ve been deeply entrenched in this world and thinking through a lot of the risks and rewards of this business, and I’m frankly curious to hear what Paul has to say about it.
Links and Resources
- Storing Up Profits by Paul Moore
- Wellings Capital Resources
- How Does a Cap Rate Work?
- What Does LTV Mean?
- Exodus Cry
Episode 117 Transcription
Seth: Hey everybody, how's it going? This is Seth Williams and you are listening to the REtipster podcast. Today, I'm talking with Paul Moore. You might be wondering “Didn't you just talk to Paul Moore on your show like a few episodes ago?” And you'd be right because we did.
Normally, I wouldn't be interviewing the same person again this soon, but I heard back from a lot of people after we published episode 111. If you want to go back and listen to it, you can. I heard from a lot of people who really enjoyed that conversation and really enjoyed hearing what Paul had to say. So, I thought, you know what? Let's talk to him again.
But more importantly, I heard that Paul is putting out a book. By the time you actually listen to this, it should already be launched, all about self-storage investing, published through Bigger Pockets.
Paul has found a lot of success in different domains as an entrepreneur over the years and self-storage, in particular, is something that I've also been really involved with over the past year, just in terms of figuring it out, working on a project on my own. So, I just thought, you know what? Now that this is all fresh in my mind and it's fresh in Paul's mind because he just wrote about it, maybe we should talk this through and cover the self-storage industry again.
We've done this a couple of times with other people in the past, but it's been a while and especially with some of the pandemic-related changes and just weird things going on in the world over the past couple of years, it'd be a good time to revisit this and just hash it out. So, Paul, welcome back to the REtipster podcast. How are you doing?
Paul Moore: It's great to be here, Seth. Yeah, I'm doing great. And it's a real honor to be on your show again.
Seth: Yeah. Awesome. If I remember correctly from our last conversation when you got into real estate investing, self-storage was not your first thing. Did you migrate over to self-storage from multifamily at some point? Take us through that story on how that worked.
Paul Moore: Yeah. I was in a single-family. I did a bunch of flips. I built a couple of seven or eight ground-up construction houses. And I learned something really important. I might have mentioned this on your last show. It's not good to build a house if you don't know how to put the doorknob on your own house. But I found out that it was good to have great contractors and that's super important in what we do now.
But anyway, in 2010 I invested in an oil and gas deal in North Dakota. We found out there was a massive housing shortage there. And so, we built a multifamily facility and then a sister property next door. My partner built a Hyatt hotel after that. And I decided to stay in multifamily.
After a number of years of operating that, I ended up writing a book on multifamily called “The Perfect Investment.” And I really thought that I'd stay in multifamily the rest of my life, Seth, but I got frustrated. The perfect investment is not perfect anymore if you can't find deals that make financial sense. And there is international money, 1031 money and institutional money, IRA money, all kinds of people throwing money at multifamily. And so, we started looking for other asset types that were similar, but had much more upside potential and weren't as popular and had more mom-and-pops at the helm that would potentially sell. And we found that in self-storage.
Seth: What year was this when this transition started happening?
Paul Moore: It was 2018.
Seth: 2018. Okay, gotcha. With the facilities that you've worked with in the past, have you bought existing ones or did you build them from the ground up? Or how did you approach that?
Paul Moore: Yeah. What we did is we went to our investors. We had about 120 investors at the time and a lot of them wanted to invest in something. And we said, “We are not experts. We could take millions of dollars from you and go do this. We understand how to do it now, but we don't have a history. So why don't you let us be your professional due diligence partner and go out and find the very best deals?”
We invested in one that was completely ground up. We invested in another one that was about half leased up, but it was still new. We invested in other ones that were value-added.
The middle part of my book, Seth, has four strategies for investing in self-storage. Strategy one is buying a coupon clipper, which would be just being a mediocre passive operator who just expects to get a check every month from their facility. And a lot of people do that. And this is creating a great opportunity for others who want to go buy those so-called mediocre mom-and-pops and make them something great.
Option two would be to do a ground up. And ground ups are tough right now because it's hard to find the land in the right place of course. It's really important that you evaluate the location and let's circle back to how to do that because that's a whole topic in itself. An important topic.
A third possibility is the renovation of an old building and that would be getting an old Toys “R” Us or Sears or Super Kmart, like my friend AJ Osborn did, and buying the facility, potentially selling off the parking lot to a multifamily developer and then making the facility into something truly great. You've already got the building, the HVAC, the floors, the ceilings, et cetera in place.
And so, it could be a great shell for a property that could be really profitable. We just invested in a five-story old building, just north of Boston. And it's a great shell for a self-storage facility and that should be able to be finished within about eight months and up and running.
The fourth strategy is my favorite, that balances risk and return and that's value-add self-storage. Now, when I first heard the term value-add self-storage I literally laughed because I thought, okay, we're talking four pieces of sheet metal, a floor, some rivets, and a door. Where's the value-add? Where's the lighting and fixtures and countertops and cabinets and paint and flooring? I had no idea how many value-adds were in self-storage.
For example, you can add U-Haul. If you get a commission deal with U-Haul, you can make between $1,000 and $5,000 a month in a lot of cases in just commission, allowing U-Haul to lease out of your front office. You'll also sell a lot of ancillary items like boxes, tape, and scissors. You'll get higher occupancy by typically up to 5% by having U-Haul.
So, it's a really great play adding those ancillary items and then charging late fees and admin fees is another opportunity. Vacant land that you can convert to a boat. An RV storage yard is another opportunity. There are just lots of value-adds. Just raising rents and raising occupancy through great marketing.
I talked to a guy today who says, “You don't need to do any marketing. I'm 90% full. I’ve always been 90% full. We've never raised the rents and we're doing fine.” Well, that's a perfect target because he's owned it for six years and never raised the rents once. That is a great opportunity for someone to come in and turn it from an average facility into a great cash-producing facility and you put up 10 or 20 of those together under one flag and one system and you can sell it to an institution for a premium. So, that's what we love about the value-add strategy, Seth.
Seth: Yeah. How big are these facilities that you've been working with? How many square feet?
Paul Moore: Yeah. They're typically anywhere from 30,000 to 100,000 and there's some as low as 20,000 and some as high as 150,000. Anywhere from 300 to 1,000 units would be typical.
Seth: And then when it comes to property management, do you have some third party that's handling that? Or who does that on these facilities?
Paul Moore: Yeah, there are some great national companies that do property management, like Life Storage and Easy Storage. They have a property management arm. But most of the companies we invest with have their own property management company in-house. And like a lot of multifamilies they come to the conclusion that they can best create their own rather than relying on a third party.
Seth: So, when you say companies that you invest with, there's like an existing corporate monster or something that runs tons of storage facilities and you sort of throw money at them. Is that how the arrangement works?
Paul Moore: That's close. We typically look for companies who are great operators, but average marketers. And they may have a way better track record, way better team, way better systems, and marketing than they do advertising to get new investors. And so, we pull together, we have almost 500 investors now. We pull together millions of dollars and we invest.
And some of these operators we invest with have like a $5 million minimum. Like one in Florida, we have over 120 facilities we've invested with them. Other operators are just not that well-known and they don't care. They're really focused on operations. And so, we're typically looking to get a better deal because being a large operator, we would rather get a better deal with them. We take a little fee and then we pass that better deal along to investors.
Seth: Is the play with this to buy a facility and just hang onto it long-term? Or is the idea to buy it, add the value or build the facility, and then sell it off and cash out?
Paul Moore: Yeah. Great question. Both are great strategies. There are about three different strategies, I would say. One would be to buy it, improve operations, improve financials, refinance it, and then hold on long-term. And that's what most of the people we invest with do. When I say long-term though, I mean 6 to 10 years. Some of the folks we invest with have an infinite holding strategy. They plan to hold it indefinitely. And that's a great strategy. Inflation plays a role in that now, which we can jump back into.
But a second strategy is to win refinancing by buying the investors out. And that's great for the syndicator. It's okay for the investors.
A third strategy would be to buy, make improvements, and then take the highest offer. An example of that is, one of our operators made a call. They've got seven people in a phone bank calling people full time and they called these five kids. Their parents had passed away some time ago. They were fighting over the 600-unit self-storage facility in Texas. They ended up selling to my friend for $2.4 million cash just to sell quickly. They actually wanted $5 million. That's what we heard through a broker locally who was not marketing it right.
Anyway, he went in and he fixed up the facility, he fixed the marketing, kicked out the bad tenants, raised the rents to market levels, increased occupancy from 80% to 90%. Like I said, he bought it for $2.4 million cash and got an appraisal just three or four months later for $4.6 million.
Paul Moore: Got the first debt on the property at that time of $2 million. $2 million on a $2.4 million purchase would've been about 80% or more LTV, but it was only 43% loan-to-value ratio at this new value.
They went in, that basically knocked our investors' equity. We were the largest investor in this down to about half a million. And then when he eventually sold it a year and a half later for $4.6 million, that half a million was worth about $2.6 million at that time. And so, a great return for us, but a shorter hold than I would've loved.
Seth: Yeah. That's interesting. I've seen and heard for a long time now people talk about self-storage. It’s almost like something you can't lose at. Just throw money at it and it’s going to go up and up and up. It has done that historically, but it just makes me wonder, do you think it's going to burst at some point? Are we in a storage bubble or is it going to just infinitely keep getting better and better like this?
Paul Moore: I'm pretty confident that brand new apartments that are well-built will still be here housing people in a hundred years. I can't be quite as confident that self-storage won't have a complete shift in the model, like we've seen in lots of other areas in the last 50 years. In a hundred years, I don't know about that.
I do believe that right now there is a significant glut of self-storage in certain suburban areas. I could take you to Nashville and show you submarket after submarket that's overbuilt for self-storage. But I could also take you Southwest of Nashville to a couple of areas down in that area, like Belmont and Bellevue that are completely underbuilt and have a screaming need for more storage. And so, it's very submarket-specific and that's important to remember, Seth. And that's why it's important to pick your location right.
Seth: How does a person determine whether it's overbuilt or underbuilt? How do you know if there's a glut of storage on the market?
Paul Moore: Yeah. The biggest risk in building new self-storage, Seth, is that you're in such an attractive location and a densely populated location that you get a national competitor who pops up down the street, right when you open. And we had that happen in Bradenton, Florida, and it was not pretty. We honestly struggled with this operator that we had to get to break even, and then struggled to get to profitability. But now it's very, very profitable three and a half years in total, since it was acquired about half-leased up.
But like you said, the important issue is how do you pick the location. We believe, and it's different for different markets, but the national average of square footage per person in a given three- or four-mile radius is about six or seven, maybe up to eight square feet. So, in places like Florida, Texas, or California that don't use basements and they don't use attics as much in the heat, they will often have more like 8 or 10 square feet of self-storage.
Places like Michigan, Wisconsin, Indiana, Illinois, that have more basement storage and less extreme heat are more likely to have on the low side of six or seven square feet per person in a given radius.
What you do is you go into that radius, you put a three- or four-mile circle around your location, or if it's in a dense urban area, maybe a one-mile radius, and you see how many square feet of storage are in that radius versus how many people. That's data point number one.
Data point number two is you want to be on a main road with a high vehicle count. Data point three is you want to be very visible on that road with good signage and good ability to see the actual facility. And data point number four is you want to be in a medium- to high-income area. You obviously don't want to be in a bad or a low-income area, but you want to be in at least a medium and preferably a medium- to high-income area.
If you do all those four right and especially if you can see that there are no competitors that are already permitted nearby, that could be a good location. We recommend that people use a software called Radius Plus. Radius Plus will do almost everything I just said for you.
Seth: Yeah. I've used it and it’s very helpful. I think the first time I ever used it was a couple of years ago. I noticed that it didn't pick up every location. I had to sort of trust, but verify it. But when I used it probably a year, year and a half later in 2021, it was pretty darn accurate. It nailed it pretty well. And I don't know if that's just a function of where you're at or something, but I would agree. I think we've got a free trial. If you just want to poke around and figure out what's going on in your area, you don't have to pay anything for it upfront.
Paul Moore: Yeah. We love Radius Plus.
Seth: Yeah. Have you ever heard of a storage facility going under? Just totally failing catastrophically?
Paul Moore: I heard of one in Charlotte. It was just in an overbuilt area and maybe it was poorly run or maybe who knows what the reason was. Here's what I've heard from the pros in the industry. I've heard that if you overcapitalize it to take into account seasonality, cyclicality, the potential for a new competitor, keeping occupancy and rates low and concessions high for two to three years, if you've overbudgeted it for all that, you should be okay. Because eventually, almost every well-marketed facility leases up.
Seth: Yeah. That one you were talking about in Bradenton, Florida, how it struggled to break even, but it sounds like it worked out at some point. What made it work out?
Paul Moore: Yeah. They have 92% occupancy now and they're getting ready to sell. I think they're at the asset level and are going to almost double the investor's equity. At the investor level, it might be more like, I don't know, 80% return in three and a half years. That's not too bad.
Seth: Do you know what the source of the struggle was? Was it just a bad property manager or something? What turned around that?
Paul Moore: No, they had a bad property manager first. And that's something I haven't really mentioned publicly, but yeah, they had a bad manager specifically. And second, two national facilities popped up nearby. That was the second one that crushed that one for a while. And the third issue was the previous owner. The seller had apparently, I'll say, "misled" the buyer on the occupancy.
Paul Moore: On the rent rolls. I mean, like really misled them again. I don't want to go on record saying that's absolutely what happened, but I say, apparently, that's what happened.
Seth: Yeah. Yeah. That's something I've always heard about how storage is one of those things that's recession-resistant. I've personally never heard of one that's ever gone bad. And I've financed a bunch of them when I used to work in banking. And I know a lot of people that have played around with them. But that doesn't mean it's impossible. I'm always curious when those things do happen, like why? What happened there? So, it's great that it's sort of a lower-risk investment if you're smart about it. But I was trying to drill down to what would cause it to go sideways.
Paul Moore: Right. Well, I think those are the biggest issues. I'm writing an article on five potential ways to lose money in self-storage right now for BiggerPockets. And I could pull that article out, but in summary, I just covered most of the ways right there. Not having enough capital, not realizing the competition is coming in, really poor management, really high leverage, or lies you tell yourself. Now, the lies you tell yourself would be, “This is easy. This is just passive. I'll build it. And they will come.” That's not true.
Seth: On that, does that mean they won't come unless you advertise in a specific way or they just take a lot longer than you might anticipate to come? Let's try to drill down on that.
Paul Moore: I'd say if you're in a market that has a lot of good marketing going on around you, then Seth, you might find that you aren't able to lease up at all because the competition's way better than you. But from what I hear, if you have those other factors covered, high-income area, priced right, high visibility, high traffic count, you should eventually lease-up, even if it takes a while.
Seth: Yeah. Do you guys get feasibility studies whenever you pursue new projects like this?
Paul Moore: Absolutely. There's a guy named Bob Copper. I think he's in your general part of the world. He does, I think it's for $3,000 or $4,000 a desktop feasibility study, which means he analyzes it from his desk. But then for a few thousand more, he'll fly out and he'll do a full-on the ground analysis, which is what we want our operators to do, of course.
Seth: Yeah. And a feasibility study for anybody who doesn't know what we're talking about, that's basically a really detailed report that a specialist will prepare to look at a lot of different information. What is the competition in the area? What rates can you charge and expect to get on these types of units? And what do the projections look like? What is it most likely going to cost to build this thing or change it around?
This is stuff that you should be doing on your own anyway if you're ever going to buy a storage facility, but they can kind of come in and crosscheck and confirm or deny a lot of your assumptions.
When I ordered one, I found it to be just super helpful. If for no other reason, just to have a second set of eyes to be like, “Yep, you're not crazy. I agree.” And also, answering some questions that I didn't even really think I should be asking. And a lot of stuff ends up getting based on what the numbers in those feasibility studies say, like how much you should expect to make and what kind of financing is going to work out. And a lot of stuff boils down to that.
I'm sure you can buy these things without getting a feasibility study, but man, it seems like such a worthwhile expense just to get somebody looking really close at that stuff.
Paul Moore: Yeah, absolutely true. I mean, think about it. If you're going to invest millions of dollars and especially if it's investor dollars and you're getting debt, it makes sense to spend that $5,000 or $6,000 if that's what it costs in your area.
Seth: Yeah. Now, what are some of the risks and downsides of storage? I know we sort of talked about competition and the ability to market as good, if not better, than your competitors and that kind of thing. But a lot of times people talk about the upsides and how great it is, but what is not that great about self-storage?
Paul Moore: I haven't even gotten into my upsides list yet. So let me jump back into that later, but the downside, yeah, number one is it really is risky during lease-up as I mentioned that if you get a competitor popping up nearby.
A second downside would be getting too high of debt. If you get 80% debt on a property and you increase your income by 10%, well, that's going to be a 50% percent return on equity. But if you decrease, if your income decreases by 10% and the cap rate expands by a point, you lose 25% of your value. And that's 125% at 80% leverage of your equity value.
And so, what I mean by that cap rate thing is the value in commercial real estate, the value is the net operating income divided by the cap rate. And if your cap rate goes from 5% up to 6% and your income, the new rate of that equation drops by 10%, you got a really bad situation on your hands. And so, that will be another risk.
Another risk would be having a really bad property manager who doesn't watch the store and allows crime to go on there or just generally handles the cash in a way that wouldn't be helpful. Of course, that's a risk in almost any business.
Another risk is again, believing lies. Believing that it's just such an easy business, you build it and they will come and people just show up and you end up with a mediocre facility. You could still be really profitable because you've got a facility and a location that's really desirable perhaps. But overall, yeah, I would say those were the major risks in self-storage.
Seth: Yeah. In terms of how things have gone over the pandemic, has self-storage gotten better or worse, or has it been impacted at all by the COVID 19 stuff that's been going on?
Paul Moore: Yeah. There's a New York Times article and a Wall Street Journal article that both came out this fall saying that self-storage has exploded since COVID. And there are several reasons. The number one… I wouldn't say this was one of the major reasons, but I'll say it anyway. There's no eviction moratorium. In self-storage, you're talking about people's stuff. And so, they typically pay and they typically pay to keep their stuff. They don't want to lose it. And that's been one factor.
Another sad factor that always plays into this is the 4 Ds. The 4 Ds are unfortunate situations, but they're real. And that's death, downsizing, divorce, and dislocation. Now there's been some more average death than use maybe. There's definitely been divorce going on at a higher rate with all the COVID stuff going on.
There's been downsizing and dislocation. For example, offices, as we know, have downsized and people are working from home. Those offices need a place to store their stuff. And self-storage is relatively cheap.
You've also got dislocation, and that can be a good kind. I talked to somebody today about moving from the Newport Beach area of California to the mountains of Tennessee. And there's a mass migration of people right now moving out of big cities and states they don't like to places like Utah, Texas, Arizona, Florida, Tennessee, low-tax states, high-freedom states, et cetera. Well, as that happens, there are a lot of people using self-storage.
Another thing that happened during COVID is college students, especially the first three months of COVID in 2020, didn't know what the future held. So, they put up their stuff in self-storage. And some of that is still there, believe it or not.
One of the great things about self-storage is people really have a much shorter perception of how long they'll be there than they really are because it's generally a small part of their income, $150 a month compared to 10 times as much or more for their lease or for their rent or their mortgage while they can generally plan to stay there even in bad times.
Seth: Yeah. I actually thought of a question I was going to ask you earlier when you were talking about cap rates. Especially for somebody who deals strictly with a residential single-family or vacant land, that kind of stuff, cap rates are just kind of like “What? What is the cap rate?”
And it's something that even I continue to struggle with, which I must just have some mental deficiency or something. But the cap rate plays a very important role in determining the value of that property. And I know the cap rate can move around, but who gets to decide what that cap rate is? What determines that and what makes it change?
Paul Moore: Yeah. The cap rate is the unlevered average rate of return for a property like this in a location like this at a time like this and less importantly in the condition it's in. The cap rate would generally say, “Hey, what return do people get? What do they expect?” If the cap rate is 10%, which is what it was historically, kind of for a lot of these facilities, then you would say, “Okay, I want to make $50,000 a year income from this. How much will I have to pay to buy that? I'll have to pay half a million dollars for this facility.” And that's a 10% cap rate.
But now cap rates are running closer to 5%, which means the values have doubled per dollar of income. And so, now you have to spend a million dollars at a 5% cap rate to make $50,000. And so, the more that denominator of our value equation increases, the more the value decreases. So, it's an inverse proportion to the actual value, if you will. Does that make sense?
Seth: Yeah, it does. For me though, it didn't really start to gel with me until I just had the formula on my spreadsheet and was looking at the net operating income and dividing that by a bunch of different cap rates and just seeing the relationship that had with the supposed value or what I could sell it for someday. It's one of those things, maybe it's just me, but actually playing around with it like in real life, it helped a lot for me to understand that, but I still wasn't sure.
But you did just answer my question about where does that cap rate number even come from in the first place. And I guess it sounds like you sort of need some good comparable to even know what that is. If there's no similar storage facility in a similar location in a similar condition to judge it by, then you are kind of guessing, aren't you?
Paul Moore: Yeah, that’s right. You want broker’s opinions, appraiser's opinions, owner's opinions, what was sold in the past, and try to figure all that out. And you just come up with what you would guess is the best cap rate. Cap rate, you might think, “Oh, well, I would never want to pay a 3% or 4% cap rate. That's way too high.” Meaning that you're going to get a 3% or 4% return only. That's not necessarily true with value-add, because think about it. With value add, if I can go in and turn a $2.4 million self-storage, as I mentioned earlier, into a $4.6 million self-storage in three to six months. Well, I don't care what the cap rate was going in because I just quadrupled the value of the equity. Let's say in that example.
Seth: Gotcha. Now I know we have alluded a little bit to inflation. We just mentioned it in passing. But I know inflation it's probably going to start going through the roof, if it hasn't already. But when you're looking at a big commercial project where lots of debt and financing are involved, is inflation your friend? What is the relationship with that versus the debt that you have on this kind of property?
Paul Moore: Yeah. Sam Zell is the most potentially famous and most successful commercial real estate investor in America, and maybe the world. Sam Zell is a multi-billionaire from commercial real estate. And he says that one of the keys to his wealth was getting low-interest rate, long-term fixed debt. And then watching inflation grow the revenue above that fixed debt. The debt decreased in cost every year and the revenue increased in value every year. And so, you have both of those moving in your favor.
And so, holding long term in an inflationary environment, especially with low-interest rates is a powerful, powerful way to leverage your future wealth. And by the way, when Sam Zell said that he was getting interest rates of 7% to 7.5%. I'm talking late 70s, early 80s when he was buying a lot of commercial real estate and he still is. Now with interest rates around 3%, the last project I looked at the interest rate that we invested in was 3.09% 10 years interest only.
Well, that's a powerful opportunity to really increase your wealth. And self-storage is the best context to do it in that I know of, and here's why. If you've got at one extreme, an Amazon warehouse you own, and you're leasing to them or a CVS drug store, and it has a 1% or 2% rent escalator built-in for 20 years. Well, you're locked in. If inflation hits at 6% or 8% or more, how are you going to capture that? You can't.
Self-storage is better and it's even better than multifamily, which has a one-year lease or mobile home parks have a one-year lease. Self-storage has a one-month lease. So, you can capture the inflation so-called in real-time as those prices go up.
And the great thing is, like I mentioned earlier, tenants don't typically get upset. If you have a $1,000 apartment, you raise the rent by 6%, they're signing up for $60 a month or $720 a year. If you've got a $100 storage unit in Grand Rapids and somebody raises your rent 6%, well, you're probably not going to spend a weekend renting a U-Haul get your friends together to move your treasures or stuff or junk down the street just to save $6 a month. And so, those rent increases can be captured in self-storage. That inflation can be leveraged in self-storage better than any asset type I know.
Seth: Yeah. Storage sounds like a good way to trap people and take advantage of them and squeeze as much money at them as you can. And they'll never even know.
Paul Moore: But they can leave in a month anytime.
Seth: That's true. Yeah. I guess they're not trapped then, but it's highly inconvenient to do so.
Paul Moore: It sure is.
Seth: Well, this is kind of going backwards. We probably should have covered this earlier on, but in your upcoming book, you talk about 40 reasons why you love self-storage. What are some of the highlights?
Paul Moore: Well, one thing is the fragmented nature of the market. There are about 53,000 self-storage facilities in the US, and that's about the same as Subway, Starbucks, and McDonald's combined. But about 75% are independent operators. And two out of three of all those 75% are mom-and-pop owners. That means they own one facility. And these folks don't have the desire or the resources or the knowledge typically to upgrade the units and to maximize income and value.
If you can buy one of these mom-and-pop-owned facilities and you can do some of the value-adds I mentioned earlier, you can significantly increase the value and with leverage, even more significantly increase the return on equity. Now that's the seller side, not the buyer side.
Well, putting these together in a well-run portfolio with a common flag, common marketing system, and property management system, you can potentially sell this to an institutional buyer and get a very low cap rate, which means you're getting a premium for the lack of hassle that that institutional buyer doesn't want. They don't want hassle. They don't want to do value-adds. They don't want to improve it. They don't want to put the parking lots in. They just want to clip coupons. And so, they're happy with a 5% return and you're happy to sell at 4.5% or 5% cap rate to get them there.
I mentioned these are recession-resistant. The 4 Ds kick in, in bad times, but in good times, people are filling up their Amazon cart or Walmart cart and they need a place to store their stuff. I mentioned the prices are inelastic. Tenants don't typically leave on a month-to-month lease, even though they always plan to leave in two months when they get that extra weekend off or vacation to empty out their stuff. They usually don't do it. And so, we love that.
Another thing we love is, like I said, if we build it, they will come. Well, a lot of people believed that for years and those mom-and-pop sellers, those mom-and-pop owners have left tremendous upside. I've got story after story of how this has really played out in our investing.
Another upside is it's easy to reconfigure the units. We're talking sheet metal and rivets. And so, if you find that there's a huge demand for 5 by 5 or 10 by 5 units, and you've got 10 by 10, you add a piece of sheet metal and maybe a door and you have twice as many 5 by 5 units, or you can go the other direction as well by popping rivets. And so, you can do that. Now, mom-and-pop owners would not do this, but a great operator could do that.
I like the opportunities for ancillary income. I like the fact that if you have a small enough facility, you might want to run it remotely. I like the low-cost value-adds, the flexible leases, and eviction process. The fact that there's no eviction moratorium in self-storage. These are some of the things we absolutely love. And of course, that opportunity to capture inflation.
Seth: Yeah. Those are a lot of good reasons. I like that. That's super helpful.
Paul Moore: Oh, and no toilets.
Seth: Yeah. That's a big one right there. What are your thoughts on climate-controlled storage versus just regular cold drive-up storage?
Paul Moore: Yeah, there's a demand for both. If you're in south Texas, you're going to want to be in a climate-controlled facility. If you're in Michigan, you might want to consider some of each. I think that as America becomes wealthier and wealthier, I'm not sure if that'll continue, but the demand for climate-controlled storage will most likely be higher than non-climate controlled in the future.
Seth: When I first ordered my feasibility study, the guy that was putting it together, for some reason, assumed that's what I was doing and that's not what I was doing, but it had a huge impact on the cost of everything and the management and the projections. It's just a different class of storage. And it's not that it's like better or worse, it's just different. It makes more money, but it's also more of a job to manage it because there are things that can break and all that.
But I do think climate control, at least in my area, seems most people have the same idea that I do where they just don't want to mess with it. They want simple, just plain metal buildings and that's it. But for those who do go so far as to do climate control, I'm sure there's a benefit to that. Probably leases up faster.
Paul Moore: Yeah, no doubt. I think it may not lease up faster. It depends on the price and the marketing and the demand in the area. I think there's a great demand for boat and RV parking now as well. I'm sure there is in your area like there is in ours.
Seth: Yeah. That's the plan for me. Half of the property is going to be just outdoor boat and RV parking and the other half would be buildings. So, we'll see how that pans out.
Paul Moore: Can we do the math on that real quick?
Seth: Yeah, sure.
Paul Moore: I have a friend who bought a mobile home park and he had a couple of acres out front that he wasn't using. And he looked around after he closed and he said, “Hey, there are boats here, RVs here, three and four and five parked cars. Some of them are up on blocks. We got to get this place cleaned up, make it a better place for people to live, better place for new occupants to come in, better place to raise rents.”
He paved an area out front. He put a nice fence and a lock and a gate on it. And he said, “Okay, if you've got an extra car or two or three or four or boat or RV or work truck or work trailer, you got to put it in here if you want to keep it here.” And so, they did and they had room left and they put it on Craigslist. And before they were done, they had spent $100,000, but they were making $10,000 a month. It's $120,000 a year from the rents from this little add-on.
Well, $120,000 a year is great money. But if that goes straight to the bottom line, think about what that's worth. Let's use our value formula. Value is the net operating income divided by the cap rate. Using a 6% cap rate value equals $120,000 divided by 0.06. He just created $2 million in value. Well, let's say he paid $5 million for that mobile home part. Let's say that's 60% debt. That's $3 million in debt, $2 million in equity. The bankers don't share in that upside, Seth. The equity holders just took their $2 million in equity and doubled it to $4 million. And that's before they'd ever done anything to the major heart of their asset, their mobile home part.
Paul Moore: It's a beautiful thing.
Seth: It's exciting. It's fun to think about that.
Paul Moore: Yeah, it really is.
Seth: I don't know if you talk about this in your book, but somewhere I saw you mention this idea of real estate investors partnering with the IRS to make big profits while paying virtually no taxes. How does that work with self-storage? Is it mainly the depreciation or are there other angles to that?
Paul Moore: Yeah, there are all kinds of ways commercial real estate investors and operators pay very little in taxes. A friend of mine said he had been in the business for like 25 years. He said if the American public knew how little we all paid in taxes, we'd have another tax revolt on our hands.
And so, there are lots of great ways to save money on taxes for commercial real estate investors. One obvious way is accelerated depreciation through a cost segregation study. And so, if you've got a $10 million facility, perhaps 25% would be land. So, now you've got $7.5 million in real property erected on that land.
Well, you've got lights and flooring and infrastructure, parking lot striping and curbs and gutters. And you've got an office and you've got the showroom and you've got electrical and lights and all that's depreciable over a much shorter timeframe than the typical 39 years for a commercial property.
Paul Moore: And so, that stuff that's depreciable sooner, it’s maybe 30% of that remaining property. And so, that would be $2.25 million out of the $7.5 million you could accelerate the depreciation on. Well, $2.25 million if you could accelerate that into a 15-, 10-, 7-, 5-, or 3- or even 1-year bucket, all that gets depreciated much quicker. And it means that an investor in this property, let's say it was one big investor, and let's say it was $3.5 million in equity. Well, if they get a $2.25 million loss on their $3.5 million in equity, that's a huge sum in those early years. But the 2017 tax law made it much better. They said, no, it's not going to be 15, 10, 7, 5, 3, or 1. It's going to be all in the first year. And so, for now, until these tax rules sunset, there's going to be a significant acceleration and significant tax losses that investors can take in the early years.
And these years of losses can be carried forward until they're used up, unless you're a qualified real estate professional, and then potentially they can be used against all kinds of other income in year one. It's a really beautiful thing. We can talk more about that if you want.
Another benefit is 1031 exchanges. And of course, you can exchange properties one for the next, for the next. And if you swap until you drop and you die with those properties in your portfolio, the IRS allows a reset basis. So, your heirs don't ever have to pay the capital gains and the depreciation recapture that you build up over years or decades. It's a great, great opportunity to create wealth.
Seth: Wow, man. I don't even know all that stuff. The stuff of the depreciation from my understanding is that literally anything you put on the land other than the land itself is depreciable, right? So, cement slabs, stuff that probably is not going to wear out any time soon, but you could still depreciate that, right?
Paul Moore: Yeah. We need a cost segregation company to come in and tell us exactly what can be depreciated and how long. But yeah, they typically have an engineer and a CPA on those teams and they come in and they decide how long this is valued over or how long until it's going to be worn out. And so, a roof might be 15 years, but today it's one year because of the rules like I said. A computer might be five years, but now it's one. A vehicle might be five, but now it's one.
Seth: Man, that’s crazy.
Paul Moore: And so, it's a great, great time to be a commercial real estate investor, I'm telling you.
Seth: When are those rules going to sunset? Do you know?
Paul Moore: I believe they start to sunset in 2024 or so, and then they're gone by 2027 or so.
Seth: Okay. Gotcha.
Paul Moore: But even then, you've still got cost segregation studies that dramatically accelerate your depreciation.
Seth: Sure. Now I know a lot of people listen to this. Maybe they have this mental block or idea that sell-storage it's commercial, it's too big, it's too scary. “Just no, I can't do it.” Is that true? Is it really harder to get into commercials than anything else or is it just sort of changing the frame of mind on how you approach this? And I think in your book you talk about seven different paths to enter this self-storage business. What are those?
Paul Moore: Yeah. For years while I was in residential real estate, I was curious about how to get into commercials. And I didn't know the path. I'd heard of syndicate, but I also saw the movie The Godfather and I thought syndicate sounded like some mafia thing. It scared me. But seriously, I heard of syndication. I didn't know how to get into it.
Well, I actually joined a mentoring program and I highly recommend that if you want to get into self-storage or multifamily or other asset types, you consider getting a mentor, which is one of the paths. So, the first path would be finding a mentor. This mentor could be a local company you partner with, or it could be a paid coach. I paid $25,000 a couple of different times to have mentors. And it dramatically accelerated my learning and my ability to grow a business.
Find a mentor. You might be able to find somebody locally who you volunteer to work for them to do something that you're good at. Like let's say it's social media or marketing and that you trade that skill and they teach you the business. That's path number one.
Path number two is the long and winding road. The long and winding road would be basically buying a small facility, improving it, renting it at higher rates, selling it, and then buying a larger facility. And then you keep walking up the ladder that way. We all know people who have done that. It takes a long time, but it's definitely doable for most people.
A third path would be to be a deal finder. If you have a nose for deals, if you know brokers, if you know owners, if your uncle has a bunch of old facilities he wants to sell, and you're not a real estate broker or you could be a broker and you want to get in the business, you cut a deal with syndicator or an operator, asset manager, whatever you want to call them. And you work a deal where you can actually find a deal. And you say, “Look, just give me 10% ownership in this of your general partnership group. Just give me a small ownership stake, and I'll bring you deals.” You get that in writing and then you go find them deals. So that's an opportunity for a lot of people to get into the business.
A fourth path would be a capital razor path. A capital razor is somebody who has access to raise money. They're really good at podcasting. They're great at blogging. They might have a podcast like yours and they might have a great following like yours. And those people say, “Hey, I want to invest. Where can I invest?” Well, you pull together capital and then you bring it to a deal. Now it's not as simple as that. You can't get paid on commission. You've got to be a general partner in the deal to invest, to get paid for bringing investors or you have to be in a position where you're actually a registered broker-dealer. So be really careful on that fourth path.
A fifth path is just “Go big.” Going big means, you won the lottery, you won at Bitcoin, you inherited a lot of money. You retired from the NBA, whatever, and you want to just go in at a high dollar amount. And doing that is something you could do, but you're going to want to make absolutely sure that you get a great team behind you and around you to do that. That's not a path for most people.
Path number six is a great path for a lot of people and that's getting a job. Now, people probably listen to your show, Seth, because they want to get out of their day job. But getting a job might be a temporary thing where you could go in and be a property manager, asset manager, lender, or broker for self-storage or other commercial real estate. You get to know the lingo. You get to know how it works. You get to know the people. You make a lot of contacts and you eventually go and buy your own facility.
And path number seven, the last path is passively investing. Most people who have money, but don't have a lot of time on their hands would choose this option. If you've got a job or a career or a retirement you're trying to enjoy, then you probably don't have time to do this right. You might think you do, and that can get you in a lot of trouble. Sometimes it works out, but often it's better to find a professional full-time highly focused, highly motivated team to run that investment and then send you a mailbox money check every month. And that's what our company does. We help people coordinate those types of investments.
Seth: If people want to get in on that or participate in any way, where should they go to find out more about that?
Paul Moore: Well, I've got a special report and some information on how to do that at wellingscapital.com. And the place to get that report is at wellingscapital.com/resources. That's a way to learn about that. You can also get the book itself and that's at biggerpockets.com/storage. And that's the book I'm promoting right now that's coming out soon. It'll be out before this podcast.
Seth: Awesome. Obviously, Paul just mentioned those links right there, but if you guys want to see the links to that stuff, and a lot of other things we had mentioned in this conversation, you could check out the show notes at retipster.com/117 because this is episode 117.
Is there anything else we should know? I know that we could probably talk for hours about this, but before we wrap this up, any key takeaways that we haven't touched on that you want the REtipster audience to know about?
Paul Moore: Yeah. Did we talk about human trafficking last time?
Seth: We did, but we can cover it again in case somebody didn't hear that.
Paul Moore: I sold my company in 1997 at 33 years old. I had a couple of million dollars in the bank, but I didn't feel any better about myself than I did before. It was a nice achievement, but I realized I needed some big “why,” something to live for. And I want to recommend my current big “why,” which is fighting human trafficking and rescuing its victims.
Seth, if you took the record profits of Apple, General Motors, Nike, and Starbucks rolled those together and tripled that number, that'd be the approximate revenues generated by human trafficking. And it's a massive horror right now.
Seth: Yeah, that's horrible.
Paul Moore: And since you and I began talking an hour ago, approximately 250 people were sold or captured into slavery. And this is going on 24/7 around the world and it's a horrible thing. And so, I recommend that people consider going to exoduscry.com. That's an organization that puts a lot of information out about this whole trafficking situation. And they are really a great organization that's fighting trafficking, giving a lot of information to the public about how to get involved on an even deeper level.
Seth: Yeah, that's awesome. I'm totally going to check that out. I'll include a link to exoduscry.com on the show notes as well. If anything is worth trying to fight off and put a stop to, I don't know that we'll ever completely conquer that, which is pathetic, but you think of how messed up a person can be just from “My dad wasn't there” or “I had my parents got divorced,” and then you multiply that hundreds of times over for people who are trafficked and abused in every conceivable way. It's one of these great injustices of the world that should make all of us sick. It's awesome to hear that you're throwing some weight behind trying to combat that.
Paul Moore: You bet. Thanks for the opportunity, Seth.
Seth: Yes, absolutely. Thanks, Paul. And again, you guys can check out Paul at Bigger Pockets, wellingscapital.com/resources, and biggerpockets.com/storage. Thanks again.
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