Land development generally goes through a customary purchase process that consists of:
- A conditional period during which deposit money is risked and is therefore forfeitable
The negotiation of condition(s) is as important as price. Buyers want as much time as they can to close with as little money at risk as possible, but sellers want the opposite. The agreed-upon terms depend on the state of the market, advice given and received by the sellers and their trusted advisors.
In slow markets, favourable terms of purchase and sale are more likely. With fewer buyers, sellers are typically more willing to give a potential purchaser more time to investigate the property without requiring larger deposits. In a hot market, sellers are less afraid of losing a deal and are more concerned about tying up their property when another buyer, and possibly a better offer, could be just around the corner. As conditions in the marketplace shift toward seller-dictated terms (requiring cash offers without financing contingencies, short due diligence periods and high prices), the market would indicate that it is nearing its apex, so the beginning developer who is having trouble competing with other buyers may just be better off waiting.
If the site consists of multiple land parcels under separate ownership (often referred to as land assemblies), progress is further complicated by the fact that all the necessary parcels must first be acquired with similar terms and conditions and closing dates. Neighbours often talk with each other and are aware of what prices have been offered to others in the assembly. These factors and others make land assembly acquisition a particularly complex business that requires sophisticated negotiation and acquisition techniques to ensure that the owner of the last or other key parcels does not insist on an exorbitant price. Knowledgeable brokers who have completed land assemblies know how to manage the expectations of sellers, as well as get the most reasonable terms for a buyer, with closings that are successful for the sellers.
The terms of acquisition set the stage for all that is to follow. An overpriced or complicated ownership structure of the lands can doom an otherwise well-conceived project. When buying land, developers are looking to confirm that:
- they can build what they want;
- they have time to study all site conditions affecting feasibility;
- market data for sales of a similar product supports their business case;
- they can obtain financing; and
- they will be able to assess project economics in a business plan before the required closing date.
Sites with special problems — such as easements, conservation issues, compensation costs, natural heritage designations or contamination —should be approached with caution, as the land may prove to be more difficult and cost-prohibitive to develop.
Inexperienced developers may be thinly capitalized, meaning the level of their debt is much greater than their equity capital, leaving little room for unanticipated costs or delays. Before deciding to tackle problem sites, new developers must determine whether the problems associated with the site can be solved within a reasonable time frame and within budget. If they cannot answer that question affirmatively with a high level of confidence, they should probably look for another site.
Even before submitting an Agreement of Purchase and Sale (APS) contract, buyers may discuss or submit a non-binding Letter of Intent (LOI) or term sheet to sellers that sets out the business terms for purchase of the property.
The Letter of Intent specifies:
- the property to be purchased;
- its price;
- payment terms;
- release provisions (for transfer of lien-free sub land parcels, in the case of seller financing, to the buyer); and,
- other major business points.
Letters of Intent are especially helpful when the buyer or seller plans to use a long, specially-written legal purchase and sale agreement rather than a standardized OREA Brokers form. The LOI saves time and unnecessary legal expense in the beginning because it clarifies the primary aspects of the transaction. If the buyer and seller cannot come to agreement on the primary business terms, there is no point in exchanging full legal documents. The LOI is non-binding, but it does call for signatures by both parties to signify agreement on the major transaction points.
The offer to purchase must clearly indicate all contingencies or penalties other than specific performance (compelling the parties to consummate the agreed-upon deal) for failure to close. The Agreement of Purchase and Sale (APS) typically includes:
- physical inspections;
- environmental assessments;
- regulatory approvals;
- title checks; and/or
- financing approval.
Buyers cannot assume that they can negotiate more contingencies/conditions or other issues in the APS than what was agreed upon in the original LOI. The APS cannot be more restrictive than the LOI to purchase unless both parties agree to the changes.
Three items make the offer to purchase binding:
- specific consideration (deposits) – enough to entice the seller to take the property off the market for a given period;
- proper identification of the property; and
- a time to close or to enter into the purchase and sale agreement.
It’s important to remember that purchase and sale agreements are a subject with vast implications. There is no one-size-fits-all APS.
Agreements of Purchase and Sale will be further discussed in subsequent blog articles.