Typically, they don’t get involved in leasing office space and occasionally, though they are not appraisers, they may provide a broker’s opinion of value which serves as an informal appraisal.Their primary specialization is in selling commercial properties. The investment sales broker category is further broken down into product types. For example, there are investment sales brokers that specialize in selling only office buildings and there are investment sales brokers that specialize in selling retail properties. Some investment sales brokers cross over into different categories. In our industry, we usually only hire somebody who has years of experience in selling office buildings – particularly if it’s a large building that we’re marketing. Ideally, we look for somebody with a minimum of ten years of experience in marketing office buildings. Here at Feldman, we’re specialists in high-rise office buildings, and the community of investment sales specialists with over a decade of experience in our market is only a tiny population of players. Here in Tampa, there’s probably only about a half a dozen folks who really qualify, and within those six, there’s usually three or four who control 80 or 90 percent of the business.
Occasionally, an owner will carve out exceptions to this rule. They may identify an individual or company with whom they have a close, pre-existing relationship and with whom they have already been talking about the transaction. In such a case, if this individual or company buys the building, the contracted brokerage firm may get a half commission, or in some cases, no commission.That said, putting exclusions in the brokerage contract is fraught with peril because it can disincentivize the broker. Instead of focusing on finding a buyer, he may be looking over his shoulder, thinking we might sell to a friend and wind up with a half commission. It provides a disincentive right from the beginning and we tend to avoid these kinds of terms.
The OM will also include information about existing problems with the building. For example, if a tenant is suing the owner for some reason or if there is an environmental problem. If you are dealing with a reputable investment sales broker, most things that might be found out during the process of due diligence are disclosed upfront to get them out of the way.Nevertheless, more often than not, the OM is authored to paint a rosy picture of the building – so caveat emptor!! It’s up to the buyer to find the things that are not being disclosed, and most buyers of, let’s say, a large office building are institutional buyers that have very sophisticated processes they employ to check every aspect of a building’s performance. This step will take you a couple of weeks to a month (or longer if the building has serious problems), but the time is worth it in order to make sure the property is worthwhile.
Wells Fargo Center / Tampa, FL
In the case of the major office building, let’s say in downtown Tampa, an investment sales broker might send out OMs to as many as 50 or 60 prospective buyers. Most of the prospective buyers that receive an OM, do not actually wind up getting the property. On a major office building, in today’s market, there may be as many as a dozen actual bids.
Many people think of the first bid round as the first several days or first week when a property goes on the market. If the market is slow, the first bid round may take longer.
After asking questions and undertaking research, the buyer’s team will create a detailed cash flow projection of the property’s cash flow over the next 5 to 10 years. That projection includes defensible assumptions about rental rates, vacancy factors, the cost of tenant improvements upon lease expirations, free rent, etc.The prospective buyer then applies a “discounted cash flow” return percentage that the buyer’s needs and those of their investor partners. In simple terms, the bid price is a function of both the cash flow assumptions as well as return threshold parameters. In most cases, the buyer team will finish multiple underwritings to look at the potential gains or pitfalls from a deal, which helps them understand the risk versus reward for the asset in question.
After the initial bid, the investment sales broker, together with the owner of the building, usually agreed to reduce the number of bidders to a smaller list of 3 to 5 bidders that will be admitted into the “second round of bidding”. Typically, within a week thereafter, a Buyer Interview process is conducted with 3 to 5 “finalists”.
Sign up to learn more about how to invest in office buildings and to get early access to our next investment opportunity.
Park Tower / Tampa, FL
During the due diligence phase of the contract, the buyer will focus in on whether or not the assumptions used in the OM are accurate. The key area of focus is to determine whether or not the operating expenses of the building reflect reality versus the amounts that are represented in the OM. For example, one of the single biggest ticket operating expense items is the real estate tax. Involved parties should look at what exposure there is on real estate taxes. In the Tampa market, over the last ten years, we’ve seen a big run up in assessed taxes, back up from what was the abyss of real estate valuations during the global financial crisis of 2007-2009.
After the 2009 collapse, real estate tax assessments ran way down to where landlords were able to reduce their taxable assessments by half. Believe it or not, 10 years later, the tax assessments for some Tampa area real estate still lag because the market is moving at a faster rate than these reassessments have occurred.
Unfortunately, when the building is sold, it automatically triggers a reassessment. You have to make sure that you’re not exposed, and you’re properly budgeting for what could be a significant increase in real estate taxes.After tax assessment and related costs, repairs and maintenance are also a very big category. Buyers want to focus on the payroll costs to run and administer the property. Sellers often try to skinny these costs down in the OM because the skinnier they are, the bigger the net operating income is, and the bigger the net operating income is, the more buyers are willing to pay for the building. However, that may be a false illusion. Savvy buyers drill into all operational line items to uncover how a building actually functions economically. Put another way, operational due diligence refers to the ongoing costs involved in operating the property, from employee payroll analysis to regular expenses and maintenance and any other facet of how the property is run, and how much it will cost to keep it running at a level where it is generating expected returns. Related: Office Building Renovation Checklist: Everything You Need to Know
There is a series of questions we ask along the lines mentioned above. We ask if a tenant is right-sized? Why they moved to the building in the first place? Does the space still fit their needs? Are there any specific issues with the building they’d like to see addressed? Buyers can also use that opportunity to survey the tenants regarding potential services that a landlord could provide to attract or retain tenants.The tenant interview process may be the single most important item of the whole due diligence list. Buyers want to look at things like rent delinquencies – that’s a big issue. Are tenants paying their rent on time or are their tenants that are in arrears? If it’s a $50 item the tenant’s been disputing because somebody left dishes in the sink that they agreed to pay miscellaneous cleaning charges for, you don’t lose sleep over that. But if it’s base rent that hasn’t been paid for 60 days, you had better drill down heavy into that situation.
Wells Fargo Center / Tampa, FL
One of the most obvious areas of due diligence involves the physical due diligence, which involves obtaining a thorough inspection of all of the structural and mechanical aspects of the building. Such inspection and analysis will include things like determining the condition of the roof, analyzing the heating, ventilating and air conditioning (“HVAC”) system, etc. Very often, physical issues are found during this inspection that might require the seller to provide a credit to the purchase price in order to enable the buyer to rectify any physical defects.
An automatic item that we perform in 100% of the properties we acquire is an environmental inspection. We retain specialists that analyze the environmental history of the property in order to ascertain whether or not there are any issues.In addition to the physical due diligence, there is also legal due diligence. The term legal due diligence can cover a broad spectrum of items. For instance, say you own a building that has a parking garage overhanging the neighboring property by five feet. It is important to make sure that the neighboring property owner would not sue you in that situation, for obvious reasons. With an item like that, the best bet is to get title insurance. The title insurance company may be willing to actually ensure that problem because they’ve done the research and they found forty-nine years ago that there was a waiver given and title is clear. In addition to title issues, there may also be zoning issues, compliance problems, permitting problems, and concerns relating to tenant contracts- among other categories. If you can think of a legal problem originating from a commercial deal, it falls under this purview. Another key legal due diligence item is to determine the current zoning and whether or not the property is fully compliant with the use restrictions. Typically, we hire a zoning specialist to perform a thorough analysis of the legal risks, if any, associated with the zoning of the property.
That prevents it from becoming a legal contract. The purpose of a letter of intent is only to summarize the business terms of the deal. The only exception to the non-binding provision might be the confidentiality portion of the agreement. In most cases, neither buyer nor seller want the bid information to leak to the public prior to the closing.In the case of the purchase of an office building, the most important term in the LOI is the purchase price. It will also describe how long the due diligence period is before which time the buyer’s contract deposit money will be at risk. It will describe how much of how much contract deposit will be required and what is the expiration date of the due diligence period at which time that deposit becomes non-refundable to the buyer – whether they close on the transaction or not. For example, let’s say you’re buying an office building for $80 million. A deposit of $1 million would likely be posted at the time the contract is executed with a 45-day due diligence period, after which time the $1 million is nonrefundable to the buyer. In addition, the LOI identifies who pays what closing costs or any other costs that arise or need to be satisfied as a result of the contract. Finally, the letter of intent is turned over to the attorneys who use it as the framework from which to prepare the final purchase and sale contract.
Park Tower / Tampa, FL
As a last word, let’s take another look at the factors affecting the bid process timeline.
When you’re regularly acquiring properties, as we do here at Feldman Equities, you have to optimize the process to compete with other players. To get a deal started off quickly and on the right foot, we like to use forms prepared in advance that we email over to an investment sale broker, along with references and phone numbers.
We also like to pitch the seller with the idea of using a contract form that has been heavily negotiated on a prior deal so that both sides can start from a position of equality in the ‘bias’ of the contract, instead of starting with some boilerplate form that the seller’s attorney puts together that is going heavily favor the seller and require time-consuming and consequently costly negotiations just to get back to a fair contract. We’re not always successful in asking for this, but tactics and strategies like these are a good way to bring about efficiencies in the process.
Finally, we always try to anticipate the things that sellers want to ask us during the bid process, like how much discussion have we had with our lenders. When we know that we’re facing tough competition, it may behoove us to call our lender and get them to come up to speed quickly on a deal. We will sometimes get them on the phone with the seller’s broker to underscore that we’re ready to go and we have the “dry powder”.Those are the kinds of things we do to help our cause and to speed things up for everyone involved. Related: 10 Best Real Estate Investing Books
Sign up to learn more about how to invest in office buildings and to get early access to our next investment opportunity.
The Covid-19 pandemic has forced governments around the world to close down their local economies. As a result, lower consumer spending and decreased business operations are creating unique challenges for office building owners and operators.
A boom market makes real estate investing look easy. Investors chasing fast yields flood the market, bidding properties up to the point where the yield isn’t there.
Commercial Real Estate refers to real estate that is leased out to one or more tenants. It refers to the business of owning and leasing real estate, which may consist of office buildings, shopping centers, industrial buildings, etc.
