Self storage- Syndication Stress Tests

[Henry Clark]

Hate wasting effort.  Was asked in a DM what I thought about a specific Self Storage Syndication, so reposting here.

Note: We buy and develop Self Storage. We do not do Syndications; we have access to all the funding we will ever need, and I don't like sharing the profits. We do not invest in Syndications, not good or bad, we do our own investments with higher 250% to 400% COC returns in 2 years.

But we have the same considerations, when making our investments. Realize these same concerns apply to other Syndication asset types also.

Do stress tests against the deal for both hitting the financial targets and also the Capital Stack impact. All deals have the following issue, you should stress test, the degree of failure before it impacts the Capital Stack and then what happens.

1. Occupancy- Where are you at, where do you need to get to? How will you get there?

2. Rental Rates- where are you at, where do you need to get to? What are comparisons against comparable competition?

3. Operations- how will operations be performed

4. Capex- how much capex is needed, and what happens if only xx% occurs?

5. Financing- what is the financing package? If short-term, does it match the exit time frame and strategy. If they plan to exit in 3 years, does the financing and balloon refi occur in 3 years or longer?

6. Market exposure- what is the existing density of the rental units, what is the potential existing market, what competition is coming online?

You should all have a due diligence checklist.  We have one for both buying an existing location and building one.  Realize Syndication is supposed to be Passive, and the Syndicators should have considered all of the above.  But you are the BANKER.  Just like our BANKERS validate and question our deal analysis, you need to be the BANKER.

Majority of the Syndication failures going on right now are due to either Short-term financing used on longer term projects- in a period of extreme interest rate hikes, material Inflation, or Covid related supply chain or personnel issues.

You as the BANKER, know that all of the above should have been covered by the Syndicator and by you the BANKER.  Crystal Ball???  Yes.

1.  Interest rate hikes.  If the payout time frame was 5 years, then the rate exposure should have covered 5 years.  Even if the project was delayed a year, the interest rate hikes would have had little impact.  The fact someone wanted to show a 20% versus a 15% return by using a lower interest rate, meant increased risk, which you either win or lose, since you're gambling.

2. Material inflation- Really a CAPEX question. How much of the financing was for CAPEX to either build new or value add? Only deals which were one year out in starting the development or rehab should have been dramatically impacted. If they were into year 2 of a 3 year funding, most of the CAPEX should have been spent already.

3.  Covid related supply chain- We had a project where we needed a 300 amp electrical service.  There were none available anywhere in the US.  Couldn't find a 400 amp.  Went with 2 200 amp services so we could open the doors on time.  Long term means two monthly bills.  Developing and project management is all about Hurdles.  You need to know the Operation team of the Syndication can get it done.  That is thru TRUST, which I don't like, or thru experience which can be vetted, just like a BANKER would.

There is no Passive.  You will note there is no mention above about being a good communicator.  You have your one chance as the BANKER to have communication. After that, they have and control your money.  No SEC requirements.