Due diligence shows major misrepresentations (seller or broker?)

16 Replies

Hi,

I submitted an offer for my first multi-family (8 apartments plus one commercial unit), and it was accepted, and signed the P&S. I got the due diligence documents on the same day as the inspections. And it turns out there was a lot of misinformation in the listing and offering.

The biggest issue is that the commercial unit, on a newly signed 7-year NNN lease, was supposed to pay for half the real estate taxes, half the maintenance, half the water/sewer. But it is actually about 1/3rd the real estate taxes (perhaps as little as 1/5th; "percentage of ground floor to entire building", but SF numbers for the floor and building vary), they pay their own maintenance and water/sewer but nothing beyond that. The building was also laughably listed as Class B, "minimal management", "easy to manage." It's 98 years old, and not in the best neighborhood , so I took that to mean a Class C, but with little if any deferred maintenance. It needs a new roof, new driveway, new boilers, new HVAC, and every unit needs work to get them up to code. There was lots of shoddy work done in the past.

For the misinformation, it could any combination of the seller providing incorrect information, error(s) the broker made, or just simply me not understanding what was presented. But the broker hasn't pointed out any errors in what I have presented (he's trying to sell "potential" and "upside", making it sound like my fault, etc.).

I've already put in quite a bit of money (attorney fees, inspections). I'd like to work something out with the seller. But I am strongly suspecting that the broker made a number of the errors in the listing, and if so, I imagine the seller and I won't be able to come to an agreement.

Any thoughts? I could easily bail on the deal, but lose a lot of money. I'd like the deal to work, but if the broker made most of the mistakes, I doubt the seller would get to a price that works.

pretty much every listing has a little disclaimer at the bottom that the information Is subject to due diligence.

there is no need to get lawyer in a transaction that early in the due diligence phase..  your discovering the B /C issue should have been evident on your personal inspection.. and of course that Is subjective.

I like the South Carolina listings they have a little blurb.

Is square footage is important to you MEASURE  in other words its what they think it is but don't rely on it and if its important measure it yourself..

@Scott P.

Unfortunately this is on you. For commercial buildings, we usually use an LOI instead of an offer and it lays out due diligence (i.e. physical inspections, rent audits, T-12) before the P&S is even signed. While we try not to re-trade if the due diligence uncovers what was represented, if it is grossly misrepresented, as it seems to be here, we have no problem revising our offer. The numbers still have to work.

Hopefully you're not out too much money but chalk this up to a learning experience! FYI, I know a great attorney who specializes in investors if you would like a referral. Also happy to share our LOI template if that would help.

PM me and I will share.

Good luck!

Originally posted by @Account Closed :

I vote for you chalking up  your lost money as tuition.   You made an offer without touching the building or walking the parking lot?   Dont do that again.

On the lost money part.  You want to lose MORE?

The majority of the discrepancy was from what the lease requires the commercial unit is responsible for paying. Without seeing the lease, it was impossible to know about that misinformation.

I did have a tour of the building. I'm not a property inspector; I can't tell if the parking lot has 15 years left in it with minor repairs, or 2. I was told the seller was installing a new $15K HVAC system (due diligence shows he hasn't quite spent that much on repairs and capital expenses in the past 5 years, despite this being on the market for 2 years). On a tour, I wasn't going to go poking through the boilers to try to determine how old they were. And the 2 apartments I was shown didn't have any issues noticeable without actual doing a full inspection (e.g. baseboard heaters that don't work, and an unvented gas space heater).

Originally posted by @Robbie Reutzel :

@Scott P., 

Unfortunately this is on you. For commercial buildings, we usually use an LOI instead of an offer and it lays out due diligence (i.e. physical inspections, rent audits, T-12) before the P&S is even signed. While we try not to re-trade if the due diligence uncovers what was represented, if it is grossly misrepresented, as it seems to be here, we have no problem revising our offer. The numbers still have to work.

Hopefully you're not out too much money but chalk this up to a learning experience! FYI, I know a great attorney who specializes in investors if you would like a referral. Also happy to share our LOI template if that would help.

PM me and I will share.

Good luck!

Sorry, I wasn't clear about attorney fees -- I'm referring to the attorney I am used for the LOI and P&S. I am hoping to work something out with the seller, but if the broker was responsible for much of the price discrepancy, that might not be easy.

Whatever happens, this will certainly be a learning experience!

@Scott P. ,

The whole point of physical due diligence, prior to signing the P&S is to have an inspector/contractor check out all systems, roof etc. to make sure they are good to go. Then if they're different than what the seller represented you have ammo to offer less.

Originally posted by @Robbie Reutzel :

@Scott P.,

The whole point of physical due diligence, prior to signing the P&S is to have an inspector/contractor check out all systems, roof etc. to make sure they are good to go. Then if they're different than what the seller represented you have ammo to offer less.

Interesting. Here in Massachusetts, with residential transactions, I believe the norm is to do inspections after the offer is made. The seller's broker (who wrote up the initial LOI) and my attorney (who came up with his own LOI) both stated inspections to be done starting when the P&S was signed.

I had asked the seller's broker for due diligence documentation before the P&S was signed, but he responded that they would be given to me after the P&S was signed.

Bummer! Sounds like you were played-some by them, some by yourself. This has happened to all of us at one time or another, just don’ fall for the same thing twice. I’d say walk while you still can-from the sounds of things the last thing you want is for this deal to “work”. There is a reason why it sat for two years. Cut your losses, and learn from this experience. All the best.

@Scott P. ,

I'm in Mass and we've been in business since 2005.  In commercial an offer is not typically used.  If it's a residential property the offer is used. MA is basically the only state that uses a formal "offer" and then a purchase agreement.  

Nevertheless, all due diligence is usually done prior to the P&S or else the P&S has an inspection clause that gives you an out. Either way there is almost always an out if due diligence doesn't check out.

Originally posted by @Robbie Reutzel :

@Scott P.,

I'm in Mass and we've been in business since 2005.  In commercial an offer is not typically used.  If it's a residential property the offer is used. MA is basically the only state that uses a formal "offer" and then a purchase agreement.  

Nevertheless, all due diligence is usually done prior to the P&S or else the P&S has an inspection clause that gives you an out. Either way there is almost always an out if due diligence doesn't check out.

Thank you for the information. The P&S did have an inspection clause, which ended today, and I did back out.

I'm just amazed there can be so much misinformation, and the broker doesn't seem to care at all. It's a shame, as much of my loss could have been avoided if I had insisted, rather than simply asked, for due diligence documentation before the P&S. At least I'll know better next time.

To @Account Closed that this is one that I would walk away from and use it as a learning experience. Be sure to make a post about your lessons learned here on BP once done.

Best of luck on this one and let me know if there is anything I can do for you.

@Scott P. ..... don't sweat it.  Last year, I put $8,000 of my own money into a deal that I ultimately killed.  Atty fees, travel, lodging.....plus four months of my time.  From that lesson, I have seen the same red flags on other deals and now have the know-how to walk away with $0 expense and only 15 minutes lost.  

Regarding the LOI vs. P&S debate, I always get a P&S before I sink any real time & money into due diligence. The LOIs I work with are non-binding, and I want to bind the Seller.

@Scott P. your initial walk through should have pointed out many of these issues. If you can't tell what an old roof, driveway, HVAC, etc looks like, then you need to find someone on your team that does. On your next deal, I would suggest doing a full walk through of the property with a contractor first and then hire an inspector after. This will save you some money.  

The broker may be a snake oil salesman and you could turn them in for unethical behavior, but it still is on you to inspect the property. 

@Scott P. Suck it up (painful), swallow your pride (even more painful) and walk away. Don't throw good money after bad. This is a good lesson in having experienced folks with complimentary skills on your team. Leverage their expertise as they will yours.

P.S. Seller's broker does not have a fiduciary responsibility to the buyer.

@Scott P. it is the norm, or at least very common, for commercial listings to have exaggerated numbers.  In particular Pro Forma provided by sellers are likely to put things in the very best light possible. That is exactly why almost all commercial contracts have a "Free look" due diligence period. 

Since things often don't match information initially provided, this is the time to get serious about negotiating. Good deals often are not found but instead negotiated.  Just because the last contract is dead, does not mean the deal is dead. 

That said I agree with @Omar Khan I would just add that use this experience to learn as much as you can.

I don't think you are going to get any where going after the broker. He or she is just going to claim they were going by information provided. 

Good luck and keep us updated.

@Scott P.

You can try to re trade the errors that the broker made. In your next deal, try to verify all the data before the P&S is signed. If income/expense numbers given to you were inaccurate, then I would lower my price to adjust accordingly to the cap rate you agreed upon the incorrect numbers.

No deal is better than a bad deal, and losing a few thousand dollars is worth it not to get into a bad deal.

The broker can put any description he wants, but he should not be passing over incorrect income & expense numbers.

Go back and lower your price accordingly or else walk away.  I wish someone told me that 10 years ago

Good Luck

Gino