Auctions

Going once…going twice…sold to the highest bidder! Auctions, a disposition tactic once reserved for the accelarated marketing needs of distressed assets, will in my opinion become the norm for commercial real estate tranactions moving forward. The question is not if this will happen, but when will it happen. In today’s post I’ll share a few brief thoughts on the main reasons why I believe auctions will someday drive the majority of the transaction volume in commercial real estate, making the markets more efficient as a result.

By way of background, prior to becoming an executive I had the distinct pleasure of serving as a professional advisor representing both the buy-side and the sell-side on a myriad of commercial real estate transactions. I’ve been around long enough to remember the days when proprietary transactions (deals that didn’t get shopped) were the norm. As much as many brokers want the world of proprietary transactions, and “double-ended” deals to flurish in perpetuity, the reality is that mounting pressure from commercial real estate principals and regulators will eventually change the norm for how transactions are facilitated. Following are just two reasons for what will eventually cause the changing of the guard:

1. Deal transparency: It sounds reasonable doesn’t it? It sounds like something any buyer of commercial real estate should be entitled to right? Sure it does…In a recent decision in Delaware, the court found independent directors of a company personally liable for what the court called a breech of fiduciary obligations by holding a “passive” sale. If officers and directors on the sell-side cannot get away with entertaining exclusive deals without incurring personal risk, guess what…they won’t do it. Combine this with what will most certainly be an environment of increased regulatory oversight, and enhanced investor scrutiny, and you’ll quickly arrive at the same conclusion that I have…Most deals will have to become very transparent in order for the sell-side to be comfortable in moving forward. While this example comes from the corporate investment banking world as it related to an M&A transaction, it doesn’t take a rocket scientist to see the direct linkage that could easily be applied to commercial real estate.

In fact transactional nuances are already starting to shift in favor of more deal transparency. As an example, “Go-Shop” provisions, common in the M&A world are starting to emerge in commercial real estate and are included in many of today’s letters of intent and purchase and sale agreements with potential suitors. “Stand-Still” provisions are becoming a thing of the past as they set-up the seller for third party allegations that the seller failed to fulfill their fiduciary responsibilities by agreeing to sell a property at a “low-ball’ price, and/or by signing off on measures designed to dissuade competing bidders. The offset for buyers to induce them into agreeing to a go-shop provision is the inclusion of a provision to pay a break-up fee should the seller unwind the deal due to a better competing offer. These types of provisions were simply unheard of in the market no so long ago…

2. Macro Economics: Anyone who has ever taken an economics class knows the law of supply and demand: The greater the exposure and demand for an asset, the higher the price the asset will sell for. The problem lies in the fact that the world of commercial real estate generally operates in much the same way as it has for decades upon decades…small groups of brokers marketing deals to private client lists in the hope of controlling both sides of the commission. While there is certainly nothing illegal about this, simple econmics, combined with growing regulatory scrutiny will eventually force the intermediaries in the commercial real estate world to submit themselves to the same level of deal transparency that their counterparts in the corporate investment banking world have had to do.  

So how does this tie back to auctions you ask? For the reasons noted above, the pressure being brought to bear to maximize disposition valuations will insure at some point in time that virtually all deals will get shopped (advantage sell-side). When this happens, the environment will simply play right into the strengths of the auction platform. The spoils simply go to the highest bidder on a price basis, or the highest bidder on a value add basis, but in either case (preferably a combination of the two) it usually boils to the most aggressive bid winning the transaction. As a long time proponent of deal transparency, I am particularly fond of this proliferating trend.

Bottom line…Owners of commercial real estate assets don’t need to wait for the market to shift. They can simply demand that their brokers and advisors take their assets to market via auction. The auction environment, properly managed by the right advisor can be your best friend by proving transparency and maximizing valuation.

In an upcomming post, I’ll share some thoughts about how to insure that an auction is structured properly, and that it’s just not a cheap masquerade to cover-up business as usual by brokers.