Last week I went through the steps of buying commercial real estate. Whether you are buying to shelter your business operations or simply to take advantage of the rent generated by a plot, the steps are essentially the same.
The possible exception could be the financing part, which some investors abandon in favor of investing large sums of money in the purchase.
Today I’m going to wrap up orbit and outline some trading challenges that can arise and some suggestions on how to overcome them.
Since last week :
Due diligence, also known as the emergency period, ranges from 15 days to 90 days, and a ton of work has to be done during that time. Funding must be secured, title exceptions approved, building inspection – roof, electrical, HVAC, etc. carried out, the acquisition documents drawn up, the financial aspects of the rental – if applicable – analyzed and the environmental health diagnosed.
Phew! Within each of the major approval categories, there are checkpoints that guide you to the end. Financing, for example, involves buyer’s, tenant’s credit, appraisal, environmental report, and lender’s agreement. There is a lot to be done in a short period of time. What if something is not approved?
This is, dear readers, a topic for today’s column.
So this is it.
Typically, buy and sell agreements include a mechanism to resolve issues that arise in an agreement.
The most widely used contract is published by the Association of Commercial Real Estate, or AIR. The various categories of approval items are clearly defined in paragraph nine: inspection, title, lease, other agreements, environment, material change, government approvals, and funding. In boilerplate language are roadmaps for resolution.
If your contract is not the standard AIR form, the results may differ. As always, it is wise to consult a lawyer before committing. But in the document, there are usually three choices: cancel, accept or correct. A fourth can slip in, which is a buy-sell compromise.
Do me a favor by going through some quick examples.
Let’s say a home inspector finds out that HVAC units have passed their useful life. From experience, I can say that this scenario is quite common. So here’s what’s going on.
The buyer objects to the state of the cooling systems by disapproving part of the contingency of the physical inspection. You might be wondering, wait, I thought the buyer was buying the building “as is, where is, no warranty from the seller”. It is, but it also relies on its inspection to alert it to necessary fixes. Confusing? Yes it is.
Of course, a seller can just refuse to repair or replace the units and cancel the escrow, but they cannot do so immediately. You see, this is where the “mechanism” takes place. The buyer opposes it; the seller has 10 days to respond – yes, no or maybe. A no vote on the recall – oops, sorry. Bad problem. If the seller refuses, the buyer can cancel the transaction within the additional 10 days, choose to continue and buy with the defective units, or accept a compromise – the “maybe” offered by the seller.
Funding is trickier.
You see, if the buyer is unsuccessful in securing a loan by the specified date, usually the seller can walk away. Therefore, it is imperative to be fairly transparent with the seller during the loan approval process. Because before the date of the financing conditions, there may be a certain leverage effect.
If an appraisal comes in for less than the contract price – which causes a lender to reverse the amount – it is recommended that you align with the seller.
Yes, you or the seller can cancel, additional dollars can be added to adjust delta – accept, appeal can be made to lender – buyer’s solution, purchase price can be reduced – seller’s solution or Compromise between buyer and seller can be struck whereby the buyer adds dough, the seller reduces the price – and voila!
I have witnessed these goings-on as you can imagine during my decades in the business. One thing is certain: there will always be problems. It’s a thing.
The next deal I do without one will be the first. But, just warning. In today’s overheated industrial market, I don’t expect a seller to be very receptive to what is called a “re-commerce”. Chances are there is a line of suitors waiting for the chosen buyer to blink.
Allen C. Buchanan, SIOR, is Principal at Lee & Associates Commercial Real Estate Services in Orange. He can be reached at [email protected] or at 714.564.7104.