JF2148: Self Storage Classified As A National Park With Scott Krone

Scott is the founder of CODA Management Group with experience in architectural design and development. Scott shares his journey in real estate and the reasons he determined to shift towards self-storage and now he owns a self-storage space that is now a national park location. He shares how he was able to get his building under the national park registrar. 

Scott Krone Real Estate Background:

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Best Ever Tweet:

“Simplicity of product, we took the Henry Ford model, “you can have any color car you want as long as its black” – Scott Krone

TRANSCRIPTION

Joe Fairless: Best Ever listeners, how are you doing? Welcome to the best real estate investing advice ever show. I’m Joe Fairless. This is the world’s longest-running daily real estate investing podcast where we only talk about the best advice ever; we don’t get into any of that fluffy stuff. With us today, Scott Krone. How are you doing, Scott?

Scott Krone: I’m doing well. Thanks for having us.

Joe Fairless: Well, I’m glad to hear that. It’s my pleasure. A little bit about Scott – he’s the founder and director of development for CODA Management Group. They focus on self storage facilities, and in fact, not only do they focus on it, they develop them. They’re in the process of closing on their eighth self storage facility. They have about 2,000 units right now with about 3,000 that are coming online soon. Based in Chicago, Illinois. With that being said, Scott, do you want to give the Best Ever listeners a little bit more about your background and your current focus?

Scott Krone: Sure. I’d love to. My background began in real estate when I began getting my masters of Architecture, way back in 1991. So I’ve came online just as we were in the midst of the recession back in ’91, and I was involved heavily in multifamily at that point in time, and then 1998, I started CODA and we were a development, design-build firm, and we focused on single-family, multi-family, mixed-use apartments. Now, since ’13, we’ve been focusing on self-storage as our investment portfolio. So during that time, I’ve obviously seen the ’91 and the 2001 and 2008 recession, and it certainly looks like we’re heading into it at this point in time.

Joe Fairless: So development, design, build; originally focused on multifamily and single-family homes. Did I hear that correct?

Scott Krone: That is correct. When I got my master’s degree, I was working for a developer who owned an architectural design-build firm as well, and my master’s thesis was a 400-unit development that we worked on for six years, and I did other multifamily for him during that period of time.

Joe Fairless: Okay. What did you learn in that process that focused on multifamily development, design-build that you’re applying now with self-storage?

Scott Krone: Well, the way I view it is self-storage is just a more simplistic version of multifamily; it’s an apartment without toilets and sinks. But we have a greater diversification within the product type, but what I did learn is obviously, the importance of understanding the capital stack, how to leverage the capital stack in a conservative manner, but also to enhance our investors’ rate of returns, how to acquire, how to develop efficient designing of the units and the layouts so that we can maximize the rentable square footage of the building, and then obviously, I also learned throughout the construction, the best practices for building and how we can apply that to self-storage.

Joe Fairless: Well, let’s talk about a couple of those things that you mentioned – how to leverage the capital stack in a conservative manner, but also help yield good project returns to investors. Can you give some specifics on that?

Scott Krone: Absolutely. A few things that we’ve done is that we’ve acquired assets that had cell towers, and we’ve sold off the cell towers, other buildings that we’ve been able to acquire historic tax credits. So those historic tax credits get funneled back to the investors. We’ve done PACE financing, we’ve done opportunity zone funds. We’ve created two funds for our investors on that, so they can shelter their capital gains. We’ve worked with IRA investors… And the other one is obviously cost segregation. So something that we can do with cost segregation on an apartment or self-storage facilities that we couldn’t do with condominiums.

Joe Fairless: For the efficient designing of the layout to maximize the rent per square foot and just not overbuild unnecessarily, what are some things you learned there?

Scott Krone: Well, efficiency is the most important thing when we’re looking at something. So minimizing length of hallways, how to create variation within the unit product type. So the more regular the building that we have and the more regular the common spacing, the more efficient that we can get. So we have to balance the building code with the travel distances and egress and all those sorts of things, but how to lay out the units so that we can reduce those hallways and those travel distances so that we can get more square footages of rentable square footage of the building.

Joe Fairless: With what you’re doing now, self-storage, as you said, you look at it as a more simplistic apartment community; it’s an apartment that toilets and sinks. Why switch over to self-storage and why switch over at the point in time that you did?

Scott Krone: Well, we were coming off the crash of 2008, 2009, and everyone was jumping into multifamily. I felt that there was huge cap compression going on and there was a lot of competition within it. And when I began studying the self-storage, I couldn’t find a distressed self-storage facility. I could find plenty of distressed apartment buildings, but I couldn’t find a distressed self-storage. So that alerted me that something was different with this asset class. Once I got more involved with them, then I understood more of the demographics and how we can study the market to determine which areas need self-storage and which ones are oversaturated, and so it was easier to monetize or put a number to the product than it was within multifamily in terms of demand, where the supply is and what those indices were.

So what I see is that one, it’s a reduced risk because we can analyze it better; two, my operational costs, my capital expenditure’s about 10% of what it would be compared to multifamily to get the same number of units, and then the third one is it’s the simplicity of product. We take the Henry Ford Model that used to be famous for saying you could have any color car you want as long as it’s black. So with self-storage, I don’t have to worry about if the counters are the wrong color or the tiles the wrong color or the carpet is. You can have a white locker or you can have a white locker.

Joe Fairless: How do you determine the demand for self-storage? You were talking about that earlier; I would love to learn more.

Scott Krone: The metric is the number of square feet a locker per capita, and there’s services out there that can provide that, and it’s based upon a one, three and five-mile radius. So for the most part, across the country, the saturation level of square feet of lockers per capita is seven, and higher density markets like New York or places in Florida, it might be nine, or the South– the South is becoming very saturated now.

Joe Fairless: You said most markets. Is that based off of a one, three or five mile?

Scott Krone: Yes, they’ll look at each of those. So for instance, you might be high within one mile, but if three miles and you’re good, then they’ll broaden it to the three-mile, because most buyers are within three miles in a heavily urban setting. In a more rural setting, there’ll be five to seven and a half miles. Most people won’t travel more than seven miles to go to a self-storage facility.

Joe Fairless: Alright. So it’s number of square feet of locker per capita, and it’s based off of a one, three and five-mile measurement, and you said most markets are 7,000 square feet or what– you said, 7.

Scott Krone: 7 square feet of lockers per capita.

Joe Fairless: 7 square feet of lockers per capita. Got it. Okay. Give us some extremes for what would be above that, like a rural area, and below it, what those numbers are. What would New York City be, versus Green River, Wyoming be?

Scott Krone: Without knowing where Green River, Wyoming is —

Joe Fairless: I know the former mayor of Green River, Wyoming. That’s why I brought that up. [laughter]

Scott Krone: Okay. I’ll give you an example. We were at a conference one day and I was talking with a woman who was a multifamily and single-family developer in the Austin, Texas market, and she learned what we did and she goes, “Oh, I have a property that’s five acres. I’m planning on building 100,000 square feet of self-storage there,” and I said, “Have you done a saturation study? Have you done a feasibility study? She goes, “No, I figured when we do it, they’ll just tell us what we have to build,” and I said, “Well, before you start going venturing down this path too far, you might want to make sure what your saturation level is, because if it’s too high, then you’re gonna be wasting your money. In fact, you’ll be risking losing all your money.” So I said, “Where is it?” She gave me the address. So I plugged in the address in Austin, Texas, and immediately 18 facilities came up within three miles; I sent it off to our people that do our reports for us, and they came back and said it was nine without her facilities. So if her facility comes online, it would be around ten. So what that means is that you’re going to have slower absorption rates, you’re gonna have lower pricing and it’s going to put a lot more economic pressure on your feasibility model.

To put it in perspective, when we went into our market in Chicago, we had half a million people within three miles and the feasibility report came back at two. So if I’m going into a market at two compared to nine, I’m certainly going to take the market that was two. Now you might say, “Well, I see plenty of self-storage facilities in Chicago.” That’s true, but within three miles of this location, there was only two square feet of lockers per capita.

Joe Fairless: You said when you got her address or zip code, you plugged it in, and then you got initial information, then you sent it to your feasibility people. What are you plugging it into? What software program?

Scott Krone: Well, it’s very highly complex detail.

Joe Fairless: You’re setting me up. What have we got? Google? What are you doing?

Scott Krone: [laughs] Google Maps was my first.

Joe Fairless: Okay.

Scott Krone: It’s my first indicator. And when I do that, it’s always just to get a sense… Because everyone says, “Oh, there’s no self-storage around me,” and then I ask for the address and I put it in, and inherently, it’s a type of thing that people are not aware of. It’s like when you say you’re going to buy a blue car, then you notice every blue car around the neighborhood, but until that point in time, you’re not recognizing how many blue cars are out there. So the first step is just for me to plug it into Google Maps, and I put in self-storage near that address. I can’t do the zip code because that’s not even specific enough. I have to put in that specific address. So when I just look at it, if I get a sense of how many are around there, if there’s two or three, I’m like, “Okay, makes sense.” If I see it’s 10, 20 and it’s not a really urban area, then I’m going to think this is way too much, and that’s just the thumbnail test before we start really digging into the details and the nitty-gritty of the due diligence. If it doesn’t pass that first litmus test, then I’m not going to do it.

The second litmus test is then I’ll turn it to satellite and see what the product of housing stock is around that neighborhood. So if I see a lot of empty yards like farm country, this and that, or not a whole lot of homes or apartment buildings, that’s also another indicator. Take your Wyoming city, if I plug that in and I see it’s mostly rural and there’s five facilities, that’s not going to look real good for you, but if I say it’s incredibly dense area and there’s five facilities, then there could be probabilities or it could be possibility there.

Joe Fairless: One, put in the address and then look for self-storage nearby, then do a follow-up and see what type of housing is around it. Do you want more apartments than homes?

Scott Krone: What we want is density. So it doesn’t have to be necessarily apartments per se. So for instance, our property in Chicago– when the city of Chicago did away with public housing per se, like Cabrini-Green and Robert Taylor homes, etc., they went from this 60-story, 10,000 people per square mile density and they put them all in row houses. In Chicago, there used to be a three-story house and then they converted them to three apartments per house. So our project in Chicago is surrounded by homes like that. So we have 500,000 people in predominantly what we would classify to look at it as single-family homes, but they’re really apartment buildings because they have three units. So if we see a lot of tight clustered housing stock in and around there, then we’ll get a better sense of the fact that it’s a dense area. So for our Class A facilities, we’re looking for anywhere from 100,000 to 500,000 people in the radiuses, depending on what the saturation level is. If it’s only 100,000 people and it’s at seven, then it’s going to be very hard to fill it up. If we have 500,000 people, and it’s a two, then it’s going to be very easy to fill it up.

Joe Fairless: Then the next level analysis is, as you mentioned, sending it over to the team that does your feasibility study. So what are they looking at that you’re not?

Scott Krone: They just pull more resources. They’ll pull census’ tracks, they’ll pull what the growth is, what the medium income is and what the segment of the population is, and the reason why we do that is because the medium income and the other demographics, renters versus owners, will give us a sense of what type of locker to put in there. So the more affluent the community is, the larger the demand for bigger lockers. The less affluent the community is, then there’s a greater demand for smaller lockers. So we’ll get a sense of what configuration we need to do to put in that building in order to maximize the marketability, the saleability of our product.

Joe Fairless: What’s considered a large locker versus a small locker?

Scott Krone: An average locker is 90 square feet. So if you’re median income, 90 square feet is the average. So that would be a 10 by 10 as your basis point for what a typical locker is. We go up to 20 by 30, and we go as small as 5 by 5.

Joe Fairless: So let’s say it’s in a more affluent — or we’ll talk specifics. Let’s talk about the facility that you have that is in the most affluent of your areas, based off what you own. What’s the configuration there?

Scott Krone: Well, that’s a great question because we specifically went through this. We were having trouble leasing them up, and when we were talking with the sales team, they were saying, “We’re sold out of the 10 by 20s,” and we said, “We need more larger lockers,” and we were looking at the configurations, I said, “What happens if we convert the 10 by 10s into 10 by 20s?” and they said, “We will have that much more success.” Even though the person is renting the same amount of square footage, there was something in their mind that just said, “Okay, I need a 10 by 20.” So we took out the metal walls and we leased up all the 10 by 10s, [unintelligible [00:17:34].04] we convert them to 10 by 20s.

Joe Fairless: Wow. What does it take to do that conversion?

Scott Krone: Well, when we’re dealing with Class A, we’re taking existing commercial buildings, either office or warehouses or retail, and we’re converting them into self-storage, which means that our lockers go up to 8 feet. And once you get to 8 feet, then there’s chicken wire across the top, and the reason why we have chicken wire is we need to be able to get light, heating and more importantly, fire suppression in each individual unit. So all it is, is a corrugated metal wall. So it was a sill track that’s tapped into the concrete of the flooring. So it’s a matter of removing the wall, screwing that wall to the end wall and pulling up the track and keeping the track in the unit as well. So we had the ability of converting it back, but it was just a matter of relocating the single corrugated metal wall.

Joe Fairless: What’s the largest conversion you’ve done?

Scott Krone: Square-footage-wise?

Joe Fairless: Yeah.

Scott Krone: Well, to date, the largest one is our one in Milwaukee where we got historic tax credits, and we went through the process of converting that into a national park. So we will charge tickets if you want to– if you’re on a national tour of the Grand Canyon Yosemite, you can stop by our self-storage facility. That was 100,000 square feet.

Joe Fairless: Wait, timeout. What did you say?

Scott Krone: It’s in a national park. It’s gonna be registered. When you make a building historic, you get historic tax for it. You go through the Department of Natural Resources and they make it a national park.

Joe Fairless: Your self-storage facility?

Scott Krone: Our building that is now self-storage is going to be on the National Park register, yes.

Joe Fairless: Okay. There’s the trivia question… What was it prior to you doing this renovation?

Scott Krone: It was the first fireproof building in Milwaukee, and they used it for hard data files. So everything from banker boxes to election ballot tickets, all those sorts of things. Obviously, when people are going from a paper world to a digital world, companies didn’t need to run big floor spaces of storage because they had it all on a computer in a gigabyte or trillion byte or whatever the latest measurement of computer storage is. So by dividing it, then we can rent smaller spaces to the residential community as well as its commercial community, and so we’re just finishing up that process right now. We got SBA Financing on it, and we’re going to be finishing up in the next six weeks to get this thing done.

Joe Fairless: What’s the total square footage for that one?

Scott Krone: That one’s 102,000 square feet, and the project that we just went under contract for in Lowell, Kentucky is actually going to be 140,000 square feet, and we’re gonna make it a combination of mixed flex space, as well as self-storage. So we’ll have about 80,000 square feet-ish of self-storage and about another 60,000 square feet of flex space.

Joe Fairless: What was that building prior to what you planned on doing?

Scott Krone: Originally, it was a candy factory, and right now people have been using it for storage. They’ve been using it for making envelopes. They still make envelopes there with these presses from the 16th century, which is crazy, and I don’t know who they get to repair those things, but they have a Xerox copier there… We actually also have a church that is inquiring with us to begin planting the satellite campus at that location.

Joe Fairless: Taking a giant step back, what is your best real estate investing advice ever as it relates to your area of expertise?

Scott Krone: Well, I don’t think it’s just limited to my real estate expertise, but my mentor always told me to look at best case, worst case, and what most likely will happen. So I think a lot of people look at best case and then maybe what most likely will happen, but with stress tests and looking at the downside, if we can make it work with worst case, then that’s what we go forward with.

So we always try to be conservative and making sure that our numbers are accurate and as good as we can possibly get them, so that we have that worst case in mind. So that might be multiple exit strategies, that might be looking at if we lose rent, if we lose market share, each of those things, to make sure that we’re still able to perform.

Joe Fairless: The challenge I have with worst cases, regardless of however you’re modeling it in worst case, it’s never going to be the actual worst case, because I guarantee you someone – and I could probably come up with – but what if this happened on top of that? So how do you really identify when you say worst case? It’s never really the true worst case, but where do you stop? Like, “Okay, this is a reasonable worst case,” whereas that other worst case, you’re tripping on some drug and that’s never going to take place.

Scott Krone: Well, I think that’s part of the experience we’re going through now. We’re not quite into this fourth recession right now, but it’s all indications leading that it’s going to be heading that way. So I’ve been able to see what worst case looks like. The crash of 2008 was really, incredibly devastating from a lending perspective, and we had to alter and shift very quickly in order to survive during that period of time, but we also didn’t get over-leveraged and that was one of the things that kept us afloat. So with this one, I think, are we in a worst case right now where there’s no definitive timeframe of getting back on the highway here? There was a clear exit ramp, but there’s not a clear entrance ramp.

So if we’re going to look at what it takes to cover our debt service– so typically, before this new environment, we would say “How much product could come into the marketplace that would drive down our costs?” and that’s where we go back to our due diligence on the front end. And then in that case, what is the likelihood or the probability of a property getting rezoned, or the ability for another product to come up and be part of the competition? So we look at what are the barriers to entry in that marketplace and seeing how much resistance there is to that product.

For instance, in Milwaukee, we knew that they were not going to allow any new self-storage to be rezoned. So we were fortunate that our property had the zoning when we bought it; we didn’t have to go through that rezoning process. So what we do is, we look around there and say, “Okay–” So we will then look at raising the cap rate and seeing what the margins would be once we do that.

Joe Fairless: We’re gonna do a lightning round. Are you ready for the Best Ever lightning round?

Scott Krone: Sure.

Joe Fairless: Alright, let’s do it. First, a  quick word from our Best Ever partners.

Break: [00:24:18]:03] to [00:25:02]:08]

Joe Fairless: Best ever way you like to give back to the community.

Scott Krone: Well, one of the ways in which I do it is I’m part of a nationwide organization of about 35,000 people. We have a private Facebook group community, and I do a weekly Tuesday Tip. I go on there and people post questions, they post victories, they post what we call Celebrate Wins. So I go and just look for ways in which I can answer questions based upon my experience of now being in the street for 30 years, I bring a little bit more than most people have in that community. So I offer a different perspective. That’s one of the ways I enjoy doing, is just taking some time and answering people’s questions or helping them up or calling them up and just helping them through their challenges.

Joe Fairless: What’s a deal you’ve lost money on?

Scott Krone: It was a single-family house. The market crashed and we paid off the bank in full, but we didn’t get all of our equity back, and so that was a tough one.

Joe Fairless: What is the best ever deal you’ve done?

Scott Krone: Well, the best ever deal, from a percentage point of view – and this is going back to before the crash and the crazy economic structure that was there – we bought a house for $600,000, I put $400,000 to build a new house, and I sold it for $1.6 million and I only had $60,000 down. So I did the whole thing, a $1.6 million house, I did with $60,000. So the rate of return on that one was phenomenal.

Joe Fairless: How can the Best Ever listeners learn more about what you and your company are doing?

Scott Krone: Our webpage is www.codamg.com. And you can certainly send us an email at info@codamg.com. One quick story about that house. I took my oldest daughter, we went and watched The Big Short, and she’s like, “Did that stuff really happen?” I’m like, “Yep, and it’s paid for your college right now.” [laughter]

Joe Fairless: Your timing was good on that one. Well, Scott, thank you for being on the show; I enjoyed our conversation. Thanks for talking about your self-storage tips and getting into the specifics of capital stacks and how to leverage capital stack, as well as feasibility studies and how to take a look at self-storage and some different considerations as well. So thanks for being on the show. I hope you have a best ever day. Talk to you again soon.

Scott Krone: Thank you very much.

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