Interest & Borrowing– are your finances in need of a review?

By Andrew Garvey – Director – Barclays Self-Storage Team

The Self Storage industry generally incorporates a fair amount of bank borrowing, principally in the form of mortgages for land and property, loans for fit-out of sites and ‘revolver’ facilities. A revolver or revolving credit store (RCF) can be drawn down and repaid continually during its term allowing operators to repeatedly buy and build stores, generate new income and repay the borrowings.

The UK is currently in uncertain economic times and so many operators are putting new site acquisition plans on hold and or delaying capital expenditure decisions. As a result, this is a good time to examine the levels of bank borrowing within a business and consider if it is in the right structure, if the term is appropriate and to what extent the interest costs may fluctuate.

Interest charges levied by banks are linked to either the UK base rate or LIBOR (London Inter Bank Offered Rate). The former is set by the Bank of England Monetary Policy Committee (MPC) while the latter is a continually fluctuating index representing the market rate for money. The two rates have historically been closely linked with only a very small variance between them. However, with the onset of the credit crunch and subsequent reduced liquidity in the money markets, LIBOR has increased significantly to a position where it now floats at anything up to 1% over UK base.

There are three principal implications of this situation to Self Storage Operators: LIBOR linked borrowing is now significantly more costly than UK base rate linked borrowing; Banks are now unlikely to offer UK base linked borrowing for anything other than overdrafts; Interest rate margins for new borrowing will be higher than last year to account for market conditions.

Self Storage operators who have floating or variable rate debt above £250,000 should give attention to their interest rate exposure. This means considering the implications of increased interest costs to their budgets, cash-flow and any loan covenants, particularly those relating to interest cover and/or debt service. Banks will expect operator earnings (before interest, tax, depreciation & amortisation) to cover all loan interest and principal repayments adequately and that all loan conditions and covenants are met. A breach of a loan covenant will force a review of the borrowing store and in certain situations the bank may amend pricing, amend the term of the store or reduce facilities. To mitigate interest rate risk, operators should consider risk management products such as caps, collars and fixed rates that overlay existing loan structures to achieve a goal of reducing interest rate exposure.

It is important to note that some of these structures are available at no cost and operators do not have to take interest rate risk management advice or solutions from the bank that has provided their borrowings. In fact, it is often beneficial to obtain more than one opinion on such matters and in the current climate, maintain a relationship with more than one bank.