Exploring Tertiary Markets
Growth—it’s the universal trend of post-World War II America. When our central cities, and later our suburban areas, expand in total population and in density, the economic forces of nature point prospective investors in new directions—often outside traditional metroplexes to more rural areas. And although they may not possess the panache of their more urban counterparts, third tier or “tertiary” markets can represent a promising alternative to self-storage owners and investors.
Ken Nitzberg, CEO of Devon Self Storage, offers a concise definition of the three tiers. “Primary markets are those located in areas of highest population density, typically central cities. Secondary markets are situated 20 to 30 miles outside the urban center and offer good demographics and healthy income levels. Finally, tertiary markets are rural locales with a population of 50,000 or less within a five-mile radius.”
Beyond the obvious, what are the reasons behind this shift?
Nitzberg points to two. “First, the urban cores and the attractive suburban markets in the top 25 Metropolitan Statistical Areas (MSAs) have in recent years become much more built out, which brings with it greater competition. In less congested areas, that’s less likely to be the case. Second is the difficulty in building in more populated areas.”
He points to markedly higher premiums for land and construction labor, more complicated zoning and permitting requirements, and a greater insistence by municipalities on building designs that are aesthetically pleasing. All of these factors add considerably to the cost of developing in a mature market. In some cases, it’s almost impossible.
Heath Mulkey, owner of Storage Structures, Inc., speaks from the perspective of a builder. “In central cities, putting up a structure can be complicated due to the lack of space around the perimeter of the site, making it difficult to stage construction equipment.” This can lead to delays, which add to the total cost of development.
If those challenges weren’t daunting enough, they exist alongside reasons why many suburban communities would prefer not to be home to a self-storage facility.
First is the type of tax revenue generated. In states which allow local communities to levy a sales tax (about three quarters of all U.S. states), a service like self-storage is generally not taxable, depriving the local government of revenue.
Second is the relatively low number of jobs self-storage bring. After construction is complete, an operating facility can have as few as two full-time employees.
Third is a matter of perception. Despite the evolution of self-storage design over the decades, a stereotypical, dated image still persists among planning officials.
Nitzberg uses some amusing imagery to describe this. “When you walk into a mayor’s redevelopment office or the local planning department and say you want to put a self-storage facility on Main Street, what those people see is a 1970s era facility—a long rectangular building with dented corners, dead cars parked nearby, cyclone fencing topped with concertina wire, and a couple of Rottweilers roaming around at night howling at the moon. We’ll give you zoning changes and building permits right after pigs fly!”
Modern facilities, of course, look nothing like this. “Newer properties are almost indistinguishable from retail stores or condo complexes, but the old perception persists,” says Nitzberg. “Lots of communities have even enacted moratoria on issuing building permits or allowing zoning changes.”
In tertiary markets, by comparison, local officials tend to be more practical and are far more willing to welcome almost any sort of economic investment. Third-tier markets offer other inviting factors, including lower costs for land acquisition and construction labor, easier permitting and approval processes, and slightly less stringent design standards.
But, while overall development costs can be much lower in tertiary areas, lower population density will mandate smaller facilities (often about 50,000 to 75,000 rentable square feet), thus reducing opportunities for revenue correspondingly, which makes profitability a challenge.
Storage Express, based in Bloomington, Ind., represents a creative solution to this problem. The company operates over 100 smaller properties in secondary and tertiary markets in Illinois, Indiana, Kentucky, and Tennessee. Amazingly, the company’s facilities operated unstaffed. A new customer simply pulls up to a kiosk, inserts a credit card, then fills out and signs the on-screen forms. After being approved, the customer is assigned a unit and the gate opens to allow access. Payments can be made at the kiosk or online, and customer concerns can be phoned or emailed to the home office. This model sharply reduces labor costs and can make the difference between profit and loss.
Traditional strategies can also be used to achieve profitability. Matt Janes, director of self-storage at the Rosewood Property Company, explains that a developer will naturally want to build the largest facility possible, but suggests caution.
“If it looks feasible to build 100,000 rentable square feet and maintain 90 percent occupancy, that will make the proforma, or the build/not build decision easy,” says Janes, adding that due diligence is essential. “The downside would be that you overbuild, and you’re not able to achieve your desired occupancy or rate of return.”
To date, most developers have acted out of an abundance of caution and built facilities in tertiary markets of 40,000 to 50,000 rentable square feet. One upside, however, is the distance potential customers will travel. Industry experts are reevaluating the customary industry standard of a three-mile radius as a facility’s trade area.
“As you start to move to tertiary markets—places a bit more rural—I think you can expand that radius out to about five miles,” says Janes. “People that live in those places are used to driving a bit more to do their commerce, be it going to the grocery or picking up their kids from school, and I think storage follows that.”
Aiming to draw from a larger geographic area does carry a risk, however. Mulkey points out that in such a situation it’s easy for a competitor to move in and promote their proximity in their marketing.
“Even though distance and travel times are perceived differently, the idea that people’s stored possessions will be in close proximity to their home or job can be a source of comfort, even though most tenants rarely come to retrieve them,” says Mulkey.
Conversely, Nitzberg underscores the importance of proximity, and makes a few other noteworthy points. “Our industry doesn’t have a high degree of brand recognition,” he says. “Storage is storage is storage. We don’t have a Rolex, or a Coca Cola, or a Mercedes. People will gravitate to the nearest facility.” Indeed, Devon’s focus groups indicate that convenience ranks high in priorities that customers look for, second only to safety and clean bathrooms. Nitzberg suggests these priorities are reflected in the fact that seventy percent of his company’s new rentals are booked by women.
Despite the noteworthy advantages of developing in tertiary markets, large institutional investors may still be hesitant to make the move. Janes explains that while storage is something that’s needed everywhere, tertiary markets, because of their limited population and remote locations often have limited growth potential. A large investor may not want to take that risk.
“Maybe a new company is moving there, or perhaps a university is located nearby,” says Janes. “When you go to your investment committee, how will you be able to sell that market? Is there a story to tell?” Janes sees development in more remote tertiary markets as being the wheelhouse of local people. “Take someone who has lived in a small community their whole life and knows the area. They’ve just heard about storage, maybe found an attractive piece of land, and make the decision to invest. It’s those locally based people who will likely drive much of the near-term tertiary development.”
Since many properties in tertiary markets tend to be locally focused business, effective marketing often has a community based, low tech (and low cost) focus. Business networking events held through the chamber of commerce or finger printing events sponsored by the local police can offer exposure and build goodwill. Sponsoring local youth sports is another option, which might include offering free storage for the teams’ equipment.
While investing in a tertiary market clearly isn’t an option for every businessperson, areas outside a major metroplex can offer the astute entrepreneur a good opportunity that might otherwise be overlooked.
Paul Vachon is a freelance writer and editor based in Detroit. He is the author of four books and has contributed to publications such as Pacific Standard, Preservation, HOUR Detroit, Michigan History, and Costco Connection.