A 5-step guide to selling your rent roll - tips and traps to avoid
A 5-step guide to selling your rent roll - tips and traps to avoid
When speaking with real estate business owners about selling their property management business (rent roll), a few questions crop up time and again.
The most basic and common one is “how do I sell my rent roll”, which is often followed with “what’s retention all about”.
A rent roll sale is a special type of transaction that is not like other business transactions. From how the price is calculated to what retention is and how it works, it’s unique to the real estate industry.
To make it a bit easier to understand, we’ve broken it down the process to five key steps.
Step 1 – Deciding to sell and appointing a broker
This might sound obvious, but get the story straight on your reasons for selling and what your plans are for the future. Prospective buyers will be interested in knowing this, including if you are staying in the industry – whether you are likely to be a competitor for them in the future. Keep in mind that your plans for the future may change a buyer’s position on key components of the sale, including price, retention and non-compete.
Unless you have already found a buyer, you will probably need to engage a broker - there are specialist rent roll brokers you should use. Like real estate agents, brokers usually operate on a percentage commission basis, but some offer fixed fees.
Step 2 – Getting your house in order
It may take weeks or months to find a buyer. While your broker is working on this for you - you should do some groundwork to ensure that the key compliance elements of the rent roll are in order (and where there are issues, identify and correct them early).
A key problem that comes up time and again is ensuring that you have current and valid forms of appointment for all of your properties under management. For Queensland rent rolls, if your forms of appointment are not all on a Form 6, you will run into problems. Buyers (driven by their financiers’ requirements) typically do not want to buy appointments on older forms (such as the old PAMDA Form 20a). Similar issues apply in New South Wales and Victoria.
Additionally, if your forms of appointment have defects (such as not being properly signed or filled out, wrong licensee or client names etc), you will need to rectify them, otherwise they won’t be sellable.
The key takeaway is that out of date or invalid appointments are effectively worthless.
If you need to update or replace your forms of appointment, talk to your advisers around how best to coordinate this. The process is not as simple as it seems, and it is important to manage communications with landlords to avoid the shock of too much change.
Also, don’t overlook the basics of ensuring that the property management files are complete and up to date – including signed tenancy agreements, condition reports, key etc.
Step 3 – Negotiating the deal and due diligence
Real estate agents are experts at doing deals, but many will not be experienced in selling a rent roll and will be uncertain of the issues and commercial parameters that come into play to negotiate a successful deal.
Depending on supply and demand, you might be dealing with a single buyer or (if it is a competitive environment) several.
The stumbling block in most negotiations comes down to the retention conditions and a mistake here can be enough to kill an otherwise good deal, or prove very costly later. At the end of the day there needs to be a balancing act between the interests of the seller and the buyer.
You should expect that the buyer will ask for the contract to be conditional on due diligence, and that the buyer go through your records with a fine-tooth comb as part of that process.
Be careful around what access the buyer should have to your premises and your staff, when the buyer is carrying out its due diligence. You probably won’t be able to keep the sale a secret from everyone so you will need to take some of your staff members into your confidence.
Where buyers identify problems in due diligence, they tend to use them to try to renegotiate the terms of the contract (in particular, as to the price and retention conditions) and how you respond can be very important – balancing the risks of giving away too much vs killing the deal.
Step 4 – Preparing for and completing settlement
A unique element of rent roll sales is that the purchase price is usually unknown (other than an estimate) until the day before settlement.
This is because the price is calculated based on a multiple of income, on a per property basis. It then follows that the number of properties under management, the rent and commission being charged, directly determine the price. There is massive incentive for sellers to ensure that all properties have confirming forms of appointment (noting that non-conforming properties will be excluded from the price calculation) and for the seller to be continuing to grow the rent roll by adding new managements right up to settlement (each property, even new appointments, adds to the price).
The multiple underpinning the price calculation is a commercial point for negotiation, and like all prices is based on market factors. Rent rolls with a strong history of growth, good management and compliance tend to attract higher multiples.
To help facilitate the price calculation it is a good idea to maintain a detailed spreadsheet in the few weeks prior to settlement itemising each property and all the relevant particulars (owner, address, rent, commission etc). The buyer and seller should share and collaborate on this regularly, helping to minimise errors and omissions when the time comes to finalise the calculations.
You will also need to manage communications to the landlords and the tenants around this time, factoring in handover practicalities such as changes to bank account details etc.
The day of settlement is when the buyer pays for the rent roll, and the seller transfers the managements to the buyer. This often involves several parties (including financiers) but is straight forward if all preparations have been properly made.
Step 5 – Post-settlement and retention
Between the date of settlement, and a predetermined date (the retention date) part of the purchase price will remain at risk (and refundable to the buyer in whole or in part) depending on how many managements are lost.
The refund amount is usually calculated using the same formula that was used to calculate the purchase price, again on a per property basis.
Many transactions have a retention amount of 20% of the purchase price, and a retention period of three months. However, depending on the transactions and what was negotiated, these terms may be different.
Further, what constitutes a valid retention claim is usually different from deal to deal – and the devil is in the detail. Consider for example, if a managed property is listed for sale – is this a claim in itself or do we need to wait until the property is actually sold, and if so, does the position change if the property is bought by an investor vs an owner occupier?