How to Avoid Deal Breakers in Commercial Real Estate

Commercial real estate deals, no matter how promising, sometimes fall apart. Some deal breakers can be spotted from a mile away, but curiously, the developer fails to see them.

In the midst of the recession in Santa Rosa, CA, a developer dreamed up a massive project that would have delivered not only a great magnet business—a 40,000-square-foot food and wine center—but also office space and 272 units of affordable housing.

The developer tore up his first plan, ultimately pitching a drastically scaled-back senior housing project. Facing only shaky support and experiencing outright opposition from the mayor and other board members, he walked away after investing five years in the project.

That’s a sad story, but it’s not an uncommon one. Last month in Poughkeepsie, NY, a developer threatened to abandon a retail and residential project on the waterfront because the planning board had taken longer than 18 months to review the project. Furious with the months-long delay, the developer reported to local newspapers that he was on the verge of packing up and leaving.

Meanwhile, a project in Chattanooga, TN that would have developed more than 200 acres of riverfront property was abandoned under mysterious circumstances. The developer abruptly turned his back on a $10.2 million purchase deal after the owner placed “additional commitments” on him before closing.

Deal Breakers Can Cost More than Money

All the previous stories are examples of once-promising projects that fell apart– and at a significant cost. Obviously, developers want to avoid busted deals; it costs money to hire professionals to work up plans and legal documents, pay application and inspection fees to local governments, and to negotiate financing and put down earnest money. It also costs the developer their time that they could have spent on another, more lucrative project. Those lost hours–which often amount to thousands of hours and months of work–ultimately amount to nothing.

While it’s never pleasant to dwell on the negatives, misfires are part of the commercial real estate game and the best we can do is to learn from them. Deals sometimes fall apart because a developer does a good job of evaluating a property but finds serious environmental problems with the land or structural issues with the building. Problems like these don’t necessarily have to kill a deal, and the owner is sometimes willing to negotiate. In other cases, problems can be insurmountable.

Developers Make Mistakes

Deals can fall apart because developers make mistakes. If the developer has shaky financing or has failed to get the needed tax incentives that will push the project over the hump, then there is a substantial chance that the deal may never see completion. In the case of the Santa Rosa project, it could be argued that the developer didn’t read the board well enough early in the process; he couldn’t get the majority of the board to buy into even a drastically scaled-back version of his vision. In the case of the Poughkeepsie project, the developer misjudged the review process and probably started with an unrealistic timeline.

Some developers come to projects with unrealistic expectations. A developer may fall in love with a property or a project. If a developer allows that enthusiasm to cloud their judgment, they may fail to recognize potential problems and end up wasting time and money on projects that have little chance of approval. This seems to have been the case for several proposed projects on bank-owned land on the coast near Santa Barbara. Although the local board approved a large residential project there in 2008, an independent coastal commission also needed to agree to it. Reportedly, any potential project in this area ends up facing overwhelming opposition from the community for its potential environmental impacts. As a result, several developers have attempted to complete projects in this area before finally giving up.

Clearly, developers shouldn’t go into projects thinking that they are going to fail. However, it is advisable that they approach each project with a brutal realism. A perceptive developer can evaluate their chances of success with reasonable accuracy, thereby avoiding years of wasted time and effort and tens of thousands of dollars in expenses. This evaluation simply requires a little more study and analysis on the front end of a project. An experienced commercial real estate consultant can also help a developer analyze a project’s potential obstacles.

If your company has a project in mind and wants to avoid pitfalls or evaluate the obstacles, you don’t have to go it alone. You can get a thorough analysis of potential deal breakers from a consultant whose community values align with your own. Contact DCG Real Estate today to learn more.