A Little-Known Auction Strategy

One of the strategies I talked about previously was making pre-auction offers. If you go in at 20% or more below the guide price, you only need a few of those to be accepted every year for you to make a tidy profit from BMV property.

Underwriting is a step or three on from the straightforward pre-auction offer, and is a potentially lucrative procedure that is little known in the property investment business.

Let me say right up front that it’s not for the inexperienced or the faint-hearted and, as with any transaction that involves an element of risk, you should always seek professional advice first.

Underwriting is all about making a pre-auction offer on a certain type of property that, in certain circumstances, the vendors will find difficult to resist. In fact, not only will the vendor be tempted, but the auctioneer will be pleased to recommend the offer, and the property will still be offered for sale in the auction room.

Confused? Then read on!

Basically, on certain types of property, you make a pre-auction offer that you are happy to pay, just as with the straight offer we talked about last time. However, you also let it go to auction as originally planned and, if it makes more than your offer on the day, you split the difference with the vendor.

You either make a purchase at the right price, or you make a profit on the sale. The vendor, meanwhile, has a guaranteed sale at a guaranteed price that s/he’s happy with, set before the day of the auction. Anything extra is a bonus that they’ll be happy to share with you.

So – what’s the ideal property for underwriting?

Who’s the ideal vendor?

And how do you go about structuring an underwriting deal?

The ideal property is one from which you can unlock value in some way, and make a profit, if you were to pay close to the guide price. Ideally it will be mortgaged, vacant, and likely to attract a fair bit of interest on the day. You may well end up buying the property, so make sure you’re happy with that before you proceed.

The ideal vendor is, you won’t be surprised to hear, motivated! Having a mortgage on a vacant property means a month-on-month loss for the owner, so that’s a pretty good indicator on its own. Add to that the fact the property coming to auction (for a fast sale) and you’ve got an ideal vendor profile for an underwriting offer. If the vendor is experiencing financial difficulties as well, and if the place has been on the market for a while, so much the better.

Making An Offer

In the same way as making a normal pre-auction offer, you simply decide on how much you’d be willing to pay, and make your offer in writing via the auctioneer.

However, there are two key differences with an underwriting offer

1. Your offer should be at or near your price ceiling – in other words, the most you’d be prepared to pay. You want to make this attractive to the vendor, so going in at 20% below the guide price makes no sense here.
2. You’ll make clear that you are offering to underwrite the sale, not to buy it pre-auction.

If your offer to underwrite is accepted, you’ll enter into a contract with the vendor and the auctioneer, and you’ll pay the auctioneer 10% of your chosen figure up front. The property will then go into the auction, and one of two things will happen.

Possible Outcome 1

In the auction, the highest bid for the lot in question is below your offer price. The property doesn’t sell at that price because you’ve underwritten the sale at a higher price. You’ll then have the usual 28 days to complete on the deal.

Here, you get a property you want, at a price you were happy to pay, without all the hassle of bidding!

Possible Outcome 2

In the auction, the highest bid on the day is over your offer price, in which case the property is sold to that bidder. However, the difference between the price at which you underwrote the property and the eventual selling price is then split 50/50 between the vendor and you, as the underwriter.

Here, you make a tidy profit for the sake of a couple of phone calls, a written offer, and a cheque that will be returned to you! Your share of the difference will be passed to you on completion – again, 28 days from the date of the sale.

In order to make this work for you, be sure to follow the rules…

• Do all the research and due diligence, just the same as if you were planning to bid in the normal way.
• Only underwrite properties you are really prepared to buy and own, and that fit your overall strategy.
• Don’t get involved in underwriting unless you have the funds available and can prove that to be the case at the time you make your offer.
• Don’t over-estimate what the property is likely to achieve on the day.
• Providing you choose the right property, the right vendor, and offer the right price, then this buying strategy is pretty fail-safe, and is a true Win-Win.

In either outcome, you are up on the day (either by one property or by a lump of cash) and, in either outcome, the vendor has sold their property. (In Possible Outcome 2, that certainty came at a price, and that’s part of the deal they signed up to).

In summary, underwriting is a strategy with the possibility of high returns. It’s a method by which it is possible to make a profit from an auction without buying or selling anything or, if you do buy, it’s a property you want at price you are happy to pay.

One health warning to end on – don’t use this strategy as a speculative way to make money by guessing the outcome of an auction. If you go into it with that attitude, you will more than likely lose!

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Daniel Peacock