Making offers, low offers compared to asking price?

Question

I'm looking at buying a building that is listed for 870,000 But I feel its inflated based on potential. I value the property at 570000,(10%) cap. Its it even worth making such a low offer since the owners are asking 300k more?

Scott Miller · Answer

I agree...

I was simply pointing out the three core value techniques.

What happens when a building cash flows, but you later learn that similar buildings were sold at a cheaper acquisation price?

You leave money on the table...

Regards,

Scott Miller

N/A N/A · Answer

Hi,

The seasoned writers from this forum make very valid points. However, there's in an additional point I'd like to bring out. While it is true that due-diligence and proper pricing should prevail, sometimes it is also valuable to NOT be too heavy-handed in getting the price to where you want it.

By this, I mean, there are times when it would be better to leave some of the price on the table and negotiate terms and conditions, rather than to beat a seller down on price (unless of course the building is in perfect condition and you're paying all cash). If this is not the case, and since many lenders want to know that you have "skin" in the game, you might consider these possble opportunities:

1) Once you've determined where you need to be on pricing, let the seller keep some of their asking price, in lieu of them paying for some of the repairs -- For one customer seeking a reduction in the price of a commercial site from $700K to $550 to cover half of the land development costs. When they rejected that, I suggested countering with their $700K price, but them paying $150K toward the cost -- to which they agreed.

2) If there is the possibility of the seller being flexible on terms if they can get their price (or closer to it) then this would make sense also, depending on what your exit strategy happens to be. Take for example the situation that you gave. If, in fact, he only paid $37K for the property and now is looking to pull out $870K, you might look at splitting the difference in price, but find out what he intends to do with the money. Since you said he's elderly and looking at retiring, you might ask him to finance a substantial portion of the purchase price with payments deferred and a simple-interest structure that is on par with what he'd get from the bank where he'd make the deposit. In other words, perhaps he'd be agreeable to having the interest accrue on the loan (no payments) for 1-5 years at 5-6% interest and then balloon. If you don't have to make payments on that part, this increases your cash flow. And assuming the building is in reasonably good shape and in a good area, you can pocket the cash flow while the building appreciates to pay off the accrual at a later refinance or sale. You both win!

That's just two possibilities. Hopefully, I've stimulated thoughts of some other possibilities.

Kelvin

Ryan Webber · Answer

Well, Scott, I have to say that I would never decide to buy a commercial building based on the cost approach.  Why should I care how much it will take to rebuild the building if it won't make me money?

Now with commercial, comparable sales factor into the income approach anyway, with the Gross Rent Multiplier (GRM) used for the income approach coming from comps, so I think those two methods are rather redundant most of the time with a commercial appraisal.  Now there are sometimes some other factors that play into looking at comparable sales, but I think they should still be properly represented by comparing the GRM's.

I really think the bottom line with commercial property is the income approach, unless you are speculating on appreciation.  I mean people buy commercial property for one reason and one reason only, to make money.  If it doesn't make money one way or another, you are going to have very few buyers.

Scott Miller · Answer

I beg to differ with some of the other posters; there are three accepted methods of determining the value of for all properties (to include commercial):

- Cost Approach
- Comparable Sales Approach
- Income Approach

Although the income capitalization approach is the most popular approach for those evaluating the merits of an investment, one should not ignore the other points of references available to you.

Regards,

Scott Miller

Frank Gallinelli · Answer

Glenn is quite right.  The value of a commercial income property is a function of it's Net Operating Income, not comps.  You first need to research what is the prevailing cap rate in your area for properties like the one you're considering, and apply that cap rate to the NOI.

Next, build a pro-forma that demonstrates why your offer makes sense, given the property's income stream and the cap rate that other investors are using when they purchase this kind of property.

Finally, be sure your offer to purchase include a reasonable opportunity for you to perform your due diligence.  You want to verify the leases and, to the extent possible, verify the operating expenses.  Many (probably most) commercial property owners hold title as a LLC or limited partnership and I wouldn't hesitate to ask to see the partnership tax return.

Frank Gallinelli

Richard Warren · Answer

If the seller isn’t embarrassed by his asking price why should you be embarrassed by your offer?  When I’m considering a property I don’t even look at the asking price until after I’ve figured out what it is worth to me.  If you make offers based on what someone is asking you will wind up over paying. Do your due diligence to determine value and base your offer on that.

8)

N/A N/A · Answer

What type of property is it?  I've not seen a commercial property valued based on comps, but instead the income.  If the property has a tenant like WalMart then you've got near guarenteed income from a proven profitable business system and expect 5% cap rate.  If the tenant is Cluck Cluck Chicken, one of a kind, actively being investigated by the health department, you've got a strong negotiation stance.  In my opinion, thinking it out and presenting the rational to the seller should get you somewhere.  Unless the seller has their head in the clouds on value and reasonable return on investment, they should be open and willing to listen to their market.  If not, I would think the property will just sit until they finally get motivated enough to sell it for a price that will catch the market's attention.

Scott Miller · Answer

Prepare a counteroffer to include new asking price and recent comps that justify your pricing position.

Like Ryan said, the worst you can hear is "no".

Regards,

Scott Miller

Ryan Webber · Answer

You might want to research how much they owe on it, first.  You can find out what their original note was through the public records at the county clerk's office.  I usually will do some research on a property to see if I'm just wasting my time with a low offer.  If they have the equity, I would definitely make the offer.  The worst they can say is no, and every once in awhile they will say yes.  That one yes makes a hundred no's more than worth it.

James Otto · Answer

My wife just looked it up. The owner paid 37K. So I doubt he owe's anything on it.  He's old and wants to retire, so I may make the offer after a bit more reasearching. The expense report that we got from his agent seem quite a bit low.