Reducing Price on Commercial MF after Contract Signed?

Question

Hi Everyone,

We are in contract on a 9 unit MF. While we anticipated some repairs in our offer price, the inspection has revealed some more significant issues with the slate roof (expected) and the brick and chimneys (less expected).  We are still in the inspection phase, and have the Seller's remedial phase coming up.  He will almost certainly not opt to cure (the expenses will be rather large).

I have been told that, in commercial deals, it is simply a take it or leave it proposition and that price changes are not negotiated after the contract is signed. However, my broker is already urging us (unsolicited) to seek a lower price.

So the questions would be:

1) Is it accepted practice to change the price if the seller refuses to cure?

2) How would you go about negotiating or arriving at a new/fair number?

NOTE: The seller is also in the midst of doing a 1031 exchange with this property.

Thanks in advance for your thoughts!  Learning so much and very excited to be going down this road.

Joel Owens · Answer

This is why we generally do inspections FIRST and appraisal SECOND. Appraisals in commercial deals larger that this can be 3,500 to 5,000 or more. The inspection is maybe 1,000 or so but varies on the project and can be more.

We want to be the least committed when inspection reveals issues and ask for a credit. We want the seller to know we are not too deep in to back out and walk away for leverage. If you instead spend a ton of money and then real far in ask for a credit the seller will try to use that against you. The lenders push for appraisals right away and the sellers push for a fast closing to try to bully the process and get you to commit a lot of cash fast where you have no leverage once issues are found.

You have to slow it down sometimes to protect your interest. The reality of the 1031 is if you hit with a lower offer the seller might not get enough proceeds to 1031 and might just keep the property. You need to throw the lower price out right away and see what the seller says. If due diligence is ending and you are undecided it's better to send a letter of termination then let a contingency pass and be in a bad situation having to perform on a contract.

No legal advice given.

John Casmon · Answer

The bank is only going to finance what the appraisal justifies. Essentially, this deal did not meet your financing contingency (assuming you had a financing contingency) as it didn't meet the appraisal value so you need to renegotiate either way. "Ripping it up" or "making a new offer" is semantics. You need to renegotiate the price  based on the new info if you want the property and go from there.

Christopher Za · Answer

@John Casmon @Howard Abell

Thank you both. We just got word from the bank that they will not finance because of their appraisal that includes the scope of work that needs to be done (brick). So we can easily opt out of the deal just on the financing contigency clause alone.  However, given that they've also given us a formal appraisal of their value, it's actually also another piece of leverage to re-approach the owner.

Do you find that you can work out a new deal that is part and parcel of the current deal or do you have to rip that up and simply make a new offer?  Taxes are very high in my area so a substantially lower purchase price on record would actually also be quite beneficial.

Howard Abell · Answer

If the contract was written correctly, you should be in a due diligence period that allows you to back out for any reason or no reason at all. ( this is not legal advice, I am not an attorney) If this is the case then try to re-negotiate the price based on the new findings. Be prepared to walk away if these expenses are in fact a deal breaker. As he is in the middle of a 1031 and may have committed to a property you might have some leverage.

John Casmon · Answer

@Christopher Za In a similar boat on an 8-unit we have under contract. The basement revealed some flooding issues and one of the units is in terrible shape with 1 woman living with 8 pets! We pushed for a price reduction and after a couple of rounds going back and forth settled on a figure.For your property, the question is how much are these expenses? If they're not critical or what you'd considered deal breakers, I wouldn't make a big deal of it. If the cost to remedy is significant, have your attorney notify them that this is a problem and you want a credit or price reduction to cover the cost of correcting the issue. Worst case is they refuse and you pull out. You can still renegotiate the price, but they can try to find another buyer as well. If you want to buy the property, be clear that you want to close on the property, but remain diligent in your numbers and negotiations.