Saturday, April 20, 2019

Dark Times Ahead for Kansas City's Self-Storage Industry

BWW News Desk
February 12, 2019

The greater Kansas City area’s commercial real estate market has been thriving since 2012. Developments of multi-family, industrial, and self-storage property types have all yielded strong returns. As household income grows and unemployment rates continue to shrink (down to 2.7% as of October 2018), Kansas City’s economic environment has allowed these real estate asset classes to thrive. One asset class that has experienced particularly accelerated growth due to these improved market fundamentals is self-storage, and developers are taking notice. The question that arises with this information is if the large surge of supply will have an impact on the storage market in Kansas City.

Over the last decade, self-storage in the greater Kansas City area has generated impressive income growth and returns for investors, proving to be an exceptional commercial asset class. Due to the industry’s success, local banks have actively pursued boosting their lending to local developers of self-storage. This surplus of commercial lending has allowed for substantial self-storage construction and investment. The now-mainstream asset class exhibits impressive returns, which has brought a surplus of hot money to the industry in the past two years. Many new developments are taking place in markets that have previously been considered too upper-class for storage. Costs of development real estate that could support self-storage have significantly increased, along with overall building costs in Kansas City. With online retailers such as Amazon becoming increasingly prevalent, investors previously favoring the retail sector of real estate are now seeking yields that the self-storage sector has historically delivered. As retail prospects continue to dwindle, former box retail locations are shutting down across the country with Kansas City being no exception. Numerous empty retail buildings in the greater area have begun, or are planning to begin, conversion of empty retail space to self-storage.

Unprecedented Growth in Supply
With new facilities continually beginning development, developers run the risk of killing the historically profitable market by over-supplying the area. Current developments in Kansas City will make for a dramatic increase in total supply for the market. There are approximately 152 storage properties of institutional quality presently operating in the greater Kansas City area with approximately 9.9 million square feet of rentable storage units. The new delivery pipeline is substantial, as there are 29 new properties in planning or set for delivery in 2019 and 2020 containing new rentable space more than 2,950,000 square feet . This new supply makes for an enormous 29.8% increase for the market, which will hinder prospects for even the most experienced storage developers. Put differently, there will be at least a square foot and a half of supply added for every man, woman and child throughout the entire marketplace. For users of self-storage in Kansas City, this means they will enjoy lower rental rates and better incentives offered by facilities. Storage facility owners, however, can expect higher vacancies and diminishing returns.

Operating Costs Rising Faster than Inflation
Operating expenses of the self-storage industry have always largely consisted of fixed costs, with only two main variable costs that warrant attention from facility operators: payroll and real estate taxes. With the unemployment rate sitting below 3.0% in Greater Kansas City, property owners are forced to increase wages and benefits to compete with other businesses for workers. Wage and benefits expenses at storage facilities have increased upwards of 10% according to local operators. Concurrently, self-storage owners face rising real estate taxes as valuations by assessors continue to increase drastically. New investors in the storage market across the country must often pay huge premiums on sales prices over the values listed on local property tax rolls. As these transactions are picked up by local property tax assessors’ offices, tax bills will continue to soar.

Conclusion: Operating Fundamentals Will Decline in Kansas City’s Self-Storage Market
Although there is presently healthy consumer demand for self-storage in the metropolitan Kansas City area, overall operating fundamentals are on the decline. Significant surges of new supply competing with existing product hurt any property sector, and with wages and property taxes growing, owners are realizing smaller margins than anticipated and recorded in prior years. Growing costs paired with a surplus of supply will cause the self-storage industry in Kansas City to suffer for the next 1-3 years. Developers should bear this in mind when planning new facilities. If they want to be profitable in the long run, they will plan for longer lease up periods, stagnant/negative rent growth, and lower stabilized occupancy rates.

1 Yardi® Matrix Self Storage – All Properties in Greater Kansas City
2 Yardi® Matrix Self Storage – Greater Kansas City Development Pipeline (Planned, Prospective, and Under Construction)

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