Key National Observations

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1 Key National Observations Cap rate compression continues, but only down 16 bps from 4Q14 to 4Q15, the smallest gain in recent years and about half the pace of the prior year. However, class A facilities in top 50 MSA s can trade in the low 5s, or even below in major metros. Spreads over the 10-year U.S. Treasury Rate decreased slightly to 347 basis points, below the 15 year sector average of 410 bps. However, the spread remains higher than the 2006 low of 254 bps suggesting compression can continue, although declines are likely to remain small. It also indicates greater market discipline than in the previous boom cycle. Transaction volume was record setting last year with CoStar reporting nearly 1,000 single asset sales. Last year also had the third largest portfolio transaction in the self storage asset class history. Buyers are considering secondary markets, but generally within the top 100 MSAs. Portfolio transaction volume has increased more for class B-C product than in prior years. Continued strong returns in cash flow, combined with restrained new construction trends, and has led to continued investor to have high confidence in the sector. Supply and demand market fundamentals remain strong in self storage, resulting in continued, robust growth in operating results. In terms of industry performance, year-over-year results for storage REITs show increases of 6% to 10% in rental income and net operating income. According to the CBRE forecast, approximately 300 new facilities were constructed last year with 600 new starts forecast for The following Investor Survey reflects the knowledge and collaboration of 42 Valuation and Advisory professionals as well as interviews with over 50 investors, brokers, owners, lenders and industry leaders. Cap rates are based on stabilized properties and a Year One Pro Forma with expenses adjusted to market (including taxes). The survey also includes a breakdown among sector Investment Classes: A, B, and C. Investment Class varies from construction cost class as defined in Marshall Valuation Cost Services. Investment Classes are identified by CBRE as follows: Class A is generally located in a top 50 MSA (urban to suburban) and has an NOI/SF of at least $ Market are under-supplied to equilibrium with high barriers to entry. Construction quality is high with state of the art security features. Projects are generally less than 15 years old and contain at least 75,000 rentable square feet.. Class B can be located in the top 200 MSAs (suburban) and have an NOI/SF in a range of $ $ Market are generally equilibrium to slight over-supply with some risk of new construction. Construction quality is good with most security features. Projects are well-maintained, but may be years old, and generally contain 50,000 to 75,000 rentable square feet. Class C product often has a rural location with low barriers to entry (lots of land, less challenges to zoning and entitlements). They generally have an NOI/SF of less than $6.00. Markets are often over-supplied and rarely do class C facilities have occupancy higher than 85%. Facilities are generally 25 years old or older and may require capital expenditures for deferred maintenance. Projects are typically smaller than 50,000 square feet of rentable area. Q CBRE Self Storage Valuations Group 1

2 Second Half-2015 Self Storage Key Indicators Time Second Half Second Half First Half Discount Rate Range: 8.00% % 8.00% % 8.00% % Average 8.75% 9.00% 9.15% Change (Basis Points): Capitalization Rate: Range: 5.00% % 5.25% % 5.25% % Average: 5.74% 5.90% 6.12% Change: Residual Cap Rate: Range: 5.25% % 5.50% % 5.50% % Average: 6.01% 6.15% 6.35% Change (Basis Points): Market Rent Change Rate: Range: 3.00% % 3.00% % 3.00% % Average: 3.60% 3.50% 3.50% Change (Basis Points): Expense Change Rate: Range: 2.00% % 2.00% % 2.00% % Average: 2.94% 3.00% 3.00% Change (Basis Points): Marketing Time: Range: Average: Change: Source: CBRE National Self Storage Valuation Group Q CBRE Self Storage Valuations Group 2

3 Market Segmentation by Investment Quality Class A Class B Class C Discount Rate (IRR) Range: 8..0% - 9.0% 9.0% % 10.0%-10.75% Average 8.28% 9.20% 10.11% Capitalization Rate: Range: 5.00% % 5.75% % 6.50% % Average: 5.23% 6.20% 6.90% Residual Cap Rate: Range: 5.25% % 6.00% % 6.75%-8.25% Average: 5.27% 6.60% 7.25% Source: CBRE National Self Storage Valuation Group Discounted Cash Flow Favored Investors interviewed continue to focus on discounted cash flow analysis, as the primary valuation methodology. As revenue enhancement models have improved by competent management, the need to analyze bifurcated growth rates has also increased. Market or street rents may grow at the rate of inflation, while growth rates on income in place tend to be higher. The compound rate of growth of the net operating income over the holding period becomes the delta between the cap rate and yield rate, within 50 basis points. For example, a 6.0% cap rate with a compound rate of growth in the NOI of 3.65% may result in a discount rate or IRR of 9.25% to 9.50%. Typically, the cash flow includes a terminal cap rate 25 bps higher (although one large investor will increase the terminal cap rate spread by as much as 75 bps, but lower the discount rate). The value is bifurcated among cash flow and reversion, historically near 50%/50% weighting. Confidence in self storage now has led to more emphasis on reversion (as much as 60%, but not more). Cost of sale remains relatively low, generally 2%-3% and even lower for portfolios (1% or less). The DCF model favored by investors will also be tested to a direct capitalization model. For self storage, the spread between both approaches is typically less than 5%. In part, this is because the cash flows are very steady and not subject to shock from a single large tenant non-renewal. Also, self storage does not have leasing commissions or tenant improvements so cash flow is close to net operating income (although capital reserves are typically modeled at 1% of EGI and can vary from $0.10 to $0.50 per square foot in a typical range). On a final note, self storage returns from publicly traded companies outshined other CORE sectors significantly in As many view the United States a safe haven for investment, it appears self storage may be among the best places to store capital. Q CBRE Self Storage Valuations Group 3

4 Total Annual Returns by Property Sector Office Industrial Retail Apartments Self Storage 2015 (Returns in Percent) Source: NAREIT Analysis-Calculated Based on NAREIT Data 5 yr Avg. Return '11-' yr Standard Deviation yr Avg. Return '06-' yr Standard Deviation yr Avg. Return '01-' yr Standard Deviation Source: NAREIT Q CBRE Self Storage Valuations Group 4

5 Conclusion Strong fundamentals in self storage are resulting in rising income and occupancy, while new supply remains manageable. Financial operations continue to gain as investor interest continues a five year trend in cap rate and yield compression. Average cap rates peaked in 2009 at 8.55%, indicating a decline to the average cap rate of 5.74% of 281 basis points suggesting an average compression rate of 4.68 pbs per month over the last five years. Based on acquisition activity and comparative spreads in cap rates to 10 year Treasuries, investor confidence in the sector remains high. FOR MORE INFORMATION R. Christian Sonne, CRE, MAI, FRICS Executive Vice President National Self Storage Valuation Group Leader CBRE Valuation & Advisory Services 3501 Jamboree Road, Suite 100, Newport Beach, CA T C CBRE, Inc. The opinions contained in this article represent the opinions of the author and not the opinions of CBRE. The information contained in this article was obtained by the author from sources believed reliable but have not been verified, so are for informational purposes only. Neither the author nor CBRE makes any guarantee, warranty or representation about anything contained in this article. Q CBRE Self Storage Valuations Group 5

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