How I Found a Great Investment in a Tough Market (And in the Desert of All Places)

Is it still possible to find undervalued commercial real estate investments? 

I believe it is, and I’ll prove it by telling you a remarkable story about a recent investment we made in a Nevada self-storage opportunity.  

We’re in a Transitioning Market

We are in a time of transition. From a booming market to a shaky market. From historically low interest rates to the highest we’ve seen in years. From eager buyers, sometimes willing to overpay, to sidelined buyers, waiting to see where the falling knife lands.  

Great cash-flowing deals have gotten hard to find. And with higher interest and cap rates, even harder to pencil. Times like this require more due diligence than usual and a dedicated acquisition team turning over every stone. 

I believe acquiring underperforming assets from mom-and-pop operators is more strategic than ever. Deals like this may present attributes to overcome challenging interest rate environments and recessions.

The Deal

So let’s take a look at this self-storage deal.

A question for residential real estate investors: What if you could acquire a house with below-market rent of $600 on a street where similar homes currently rent for $1,480? That would be quite unlikely, right? 

My firm manages a diversified fund of recession-resistant commercial real estate assets. This includes self-storage, RV parks, mobile home parks, and more.  

BiggerPockets published my book on self-storage investing a few years ago. This book outlines a strategy to acquire struggling facilities from mom-and-pop owners, upgrade them, and eventually sell them to an institutional buyer. 

This is one of the best examples of this strategy I’ve seen. 

This self-storage facility is in Henderson, Nevada, adjacent to Las Vegas. It was owned by the original 1982 builder for over four decades. The facility came with over 40 years of handwritten records and no online marketing presence or management technology. 

The manager collected rent in person, cash only, when the tenants paid at all. And when they didn’t pay, the manager rarely evicted any of them. 

The owner provided quite a few free units to family and friends, including some homeless tenants violating the law. So it’s no surprise that the facility needed deferred maintenance, fresh curb appeal, and enhanced security. 

But here’s what we found so surprising.

The previous owner charged $60 monthly rent on 10’ x 10’ units. The going market rate for similar units in Henderson is $148. Here’s what that means:

The facility’s rents can be increased almost 2.5-fold and still be competitive. 

The new asset manager has also identified a variety of other value-adds that will enhance income and property value. These include selling retail items (like locks, boxes, tape, and bubble wrap) and adding more storage units on the vacant land acquired with the property.  

How the Wealthy Invest

Many of America’s wealthiest investors love commercial real estate. While residential real estate values are based on nearby comps, commercial real estate values are directly proportional to income. 

All other factors equal, doubling the net operating income (NOI) of a commercial real estate asset doubles its appraised value. And this effect is magnified on leveraged properties. 

So imagine how much this facility’s increased income could drive value and investor returns. 

This may sound like a once-in-a-lifetime deal. But it’s certainly not. Similar “diamond-in-the-rough” properties are hidden all over the U.S. Of course, you probably don’t have time or interest in searching out these properties, and that’s where investing with a professional operator comes in.  

This is how our firm invests (with professional operators), and we recommend most people investing in commercial real estate follow a similar strategy. 

The challenge for most investors is this: How do you successfully perform due diligence on an operator? And on a deal? 

My BiggerPockets book can give you an overview of how to invest in self-storage. But if you plan to invest passively in self-storage, multifamily, or any type of commercial real estate, there is a more important book I recommend for your consideration. 

My friend Brian Burke wrote The Hands-Off Investor. This comprehensive guide will give you all the information you need to carefully examine both jockeys (syndicators/sponsors) and horses (the deals themselves). 

If you’re a new or experienced passive investor, I highly recommend you invest in this book before you invest a dollar in a project.   

Final Thoughts

We’re all focused on safety right now. But safety should be a serious focus for every investor at all times. 

Safety is a matter that should always be foremost in our decision-making. And risky debt is usually the culprit. Most investors’ troubles these days stem from investing in assets with risky debt. 

The operator acquired the underperforming asset described above for cash. The new managers are hard at work stabilizing operations and cash flow. The plan is to add moderate financing to this investment once it is optimized. 

If executed as planned, this strategy should maintain safety, provide additional return on investment (ROI) to investors, and return some equity to redeploy into other investments. 

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.