Commercial Property and business (appraisal, negotiating, mortgage, mortgage)

[arkcitynative]

Hi-

I was recently looking to purchase a commercial property and business in a small town in Kansas.

I did some very diligent research asked for the books (never got the net income) and tried to figure out the best offer to make. After submitting my offer and going through all the hassle of writing a business plan the owner's told me the price was non-negotiable. We had several discussions back in forth while I was trying to evaluate the business and was never told the price was non-negotiable. This was a FSBO.

Anyway, I asked her how she had come up with the number, i.e, a multiple of earnings or something else. She then told me that she had a very firm offer for above asking but she really wanted us to have the place because we were going to basically keep it the same and would accept our offer if we were to offer the asking price. (The firm offer never materialized as they still haven't sold it and this was several months ago).

I told her that it was great that she had an offer for above asking but that I had run the numbers and they just didn't work for us and walked away.

My offer was about $60,000 dollars less than asking and I based it on the tax appraisal of the building being about $114,000(plus I added some) and I offered her the yearly gross for the business, which wasn't very much. My guess is if I had ever really gotten to see the net that they were probably not making any money.

She claimed the business had potential and that was what her asking price was based off of. There was potential but you would have had to put about $50,000 into the business before you could ever realize the potential.

This is a very small town in Kansas. There really are not comps because buildings do not sell there very often. I do know of two that had sold in the last few years... one was for 3,000 (not in great shape) the other was for $40,000 in decent shape. This building had living space above and was in very good shape. Again the tax appraised value was $114,000, which was the second highest on the block. My parent's purchased a building about 15 years ago for around 40,000.

The family had owned the building and the business for about 40 years so there wasn't a question of them needing to make a certain amount to pay off a mortgage.

Was I being unreasonable with my offer or was she being unreasonable with her asking price? This was my first foray into this type of deal and I just wondered what other people thought.

[Daddys///M3]

Most business brokers use 2 or 3 years of gross revenues to valuate the business listings they take, I'm not 100% sure. The best way to value a commercial property, short of an appraisal, is to divide the net operating income by the cap rate. Without financials on either the property or the business I couldn't tell you which one of you was being unreasonable, but I would definitely walk away from any sort of business purchase transaction when the proprieter would not (as I'm sure they are required by law) disclose their financials. Also to base an asking price on "potential" is absolutely ridiculous.

[arkcitynative]

In this case the building wouldn't have had any net operating income. The business was the building and they lived in the living space. They had no revenue from the actual building.

I probably could have gotten the net but it was slightly complicated. They actually had 4 parts to the business and I was only interested in 2 of them. They gave me the financials for the gross of all 4 businesses. I had to work out all the numbers on my own as to what the actual gross of the 2 sections of the business I wanted. I also knew about how much the utilities were each month(not cheap). I didn't get property tax, insurance, wages, and other fixed operating costs. I had a pretty reasonable idea of what the net would have been but not an exact picture.

In my estimation considering the location and that most people don't even actually sell businesses there they just close up and sell the building.... I think I was being more than fair. I am sure the owner's have a totally different take on the matter!

Also, this 6 months ago and they haven't sold it yet so I think I can reasonably say they are priced too high.

It was just be nice to have an idea of what is a reasonable offer. It is possible that mine was even too high for what I was getting.

As far as valuation, a lot of what I read discussed multiple of earnings somewhere between 3-10. Offering them gross income was probably overvaluing it.

[Daddys///M3]

I believe that in the case of an owner occupied commercial property, they would take the gross of the business (or business') that occupy the property, subtracting appropriate amounts for utilities, taxes, and maintenance, and consider that the NOI, but I may be mistaken.

If they still haven't sold it then it would be safe to say that it is probably overvalued. Again, the moment I asked the proprietor of a business I was interested in how they came to the valuation of their business, and they replied "because it has potential" without any financials to back up what they say, then I would walk away.

Sorry I couldn't be more help.

[walidm]

I'd start with a commercial lender.
You can get a fairly decent list of questions to ask the owner if you call a lender. They'll let you know exactly what they will require from the owner to do the deal. They have market rent data as well as recent sold data, some of which you can purchase yourself from loopnet.com. Commercial is a tough field, why not hire a broker who knows what to ask and can roll right through a bluff and get the deal done?

[arkcitynative]

"Commercial is a tough field, why not hire a broker who knows what to ask and can roll right through a bluff and get the deal done? "

I was waiting for someone to say that

Frankly, I was just sort of over it after all the I am not willing to negotiate talk. About a week after we went through all of this there was an article in the paper about how they were trying to sell the place and just hadn't had any buyers!!

I knew what number I needed to get because I had run the numbers and if she wasn't willing to negotiate at all then I doubt even with a broker she would have come down what was needed to actually make the deal viable.

I also doubt they would have worked with me had I brought in a broker. She was very adamant that she had placed it at fair market value and it was a good deal. She wasn't willing or wouldn't even consider negotiating.

I was interested in another property in town and I brought in a broker for that but this was just a different kind of deal.

So, can anyone tell me the difference between the tax appraisal on a building and the FMV of a building?

[pghquest]

Originally Posted by arkcitynative

Hi-

I was recently looking to purchase a commercial property and business in a small town in Kansas.

I did some very diligent research asked for the books (never got the net income) and tried to figure out the best offer to make. After submitting my offer and going through all the hassle of writing a business plan the owner's told me the price was non-negotiable. We had several discussions back in forth while I was trying to evaluate the business and was never told the price was non-negotiable. This was a FSBO.

Anyway, I asked her how she had come up with the number, i.e, a multiple of earnings or something else. She then told me that she had a very firm offer for above asking but she really wanted us to have the place because we were going to basically keep it the same and would accept our offer if we were to offer the asking price. (The firm offer never materialized as they still haven't sold it and this was several months ago).

I told her that it was great that she had an offer for above asking but that I had run the numbers and they just didn't work for us and walked away.

My offer was about $60,000 dollars less than asking and I based it on the tax appraisal of the building being about $114,000(plus I added some) and I offered her the yearly gross for the business, which wasn't very much. My guess is if I had ever really gotten to see the net that they were probably not making any money.

She claimed the business had potential and that was what her asking price was based off of. There was potential but you would have had to put about $50,000 into the business before you could ever realize the potential.

This is a very small town in Kansas. There really are not comps because buildings do not sell there very often. I do know of two that had sold in the last few years... one was for 3,000 (not in great shape) the other was for $40,000 in decent shape. This building had living space above and was in very good shape. Again the tax appraised value was $114,000, which was the second highest on the block. My parent's purchased a building about 15 years ago for around 40,000.

The family had owned the building and the business for about 40 years so there wasn't a question of them needing to make a certain amount to pay off a mortgage.

Was I being unreasonable with my offer or was she being unreasonable with her asking price? This was my first foray into this type of deal and I just wondered what other people thought.

NEVER, NEVER, NEVER, Buy a business without seeing the net. Dont buy that they cant provide them because they have to file it yearly on their tax return. If they would not provide one, you were better walking away.

Buying a business thats losing money is ok, provided you know about it ahead of time. Hidden figures = a larger, hidden problem and you may as while just donate your money to charity and save yourself some headaches.

[DMenscha]

A Classic situation of the seller in denial. Almost worse than a homeowner, someone who has invested time and money in a losing operation feels that if they can get repaid some of the amount they've put in to the business, then they aren't failures. The attitude suggested by the OP tells me that the seller falls into this category or at least isn't much of a business person.

When I purchased the real estate company I own now, I really wanted to have some way of having a third party negotiate it for me, but the previous owner was so unstable, another layer of personalities didn't seem right. I believe there is a real advantage in not speaking directly to the principal during the negotiation phase. Perhaps an attorney to present the offer might have yielded some fruit.

I don't know about KS, but the tax appraisal in CA is usually not a market value indicator, so we use other appraisal methods. The gross multiplier varies according to the kind of business it is and gets higher based on the stability of revenue and gross margins. A grocery store would get a higher multiple than a bicycle shop for example even though a grocery store operates on a lower margin.

The OP's comment about having a mortgage to pay off doesn't account for the possibility that the seller may have refinanced it.

One can't pay more than a business is worth and try to turn it around and make money at it. Perhaps offering to pay the asking price with the seller financing a portion of it and tying the payment to the revenue stream would work, with a floor and a ceiling on the amount of the regular payment. One might quickly find out the sellers motivation.

[arkcitynative]

Thank you for the great insight.

Well, the seller and the potential buyer in this case were definitely novices so a third party probably would have helped. In the end, it just seemed like there were better opportunities for me.

When I first heard about the business being for sale someone had said they were asking $150,000 (including the real estate) that sounded incredibly reasonable to me and I would have jumped on that. Well, as with rumors in small towns the asking price wasn't quite that low.

Unfortunately, they were not willing to finance any portion of it.

I imagine that if I had even gotten to the financing part of it that I would have had a difficult time getting that type of money from the bank.

The one bright spot was that you could live in the loft apartment upstairs so you wouldn't have living expenses on top of the businesses expense. The inverse of that is that your home was tied to the business so if you go under you also lose your house. I felt there was just too much risk involved for the amount of money they were asking.

Even after 6 months, I still wished it had worked out but I have some other plans now, which will be much less money.

I am still just unsure if I just didn't understand the value there or if she was way overvaluing it.