A friend of mine is thinking of taking a property to auction. And like most people she hasn’t done this before i.e. been the vendor deciding to sell her place via auction, tender or the normal process (which is hardly ever seen these days) whereby you put a price on the property and sell it that way (this is usually called ”private treaty”).
And over the years I’ve posted on various forums what I think are the good and bad points about auctions. So I thought I’d put it here so that it’s in a place I and others can find it again for reference.
OK, so it’s my contention that auctions primarily benefit agents. Not buyers, not seller, but the agents themselves, and here’s why:
Why Auctions are Good for Agents
- Time frame: The auction process normally runs for 4 weeks leading up to the auction and then 2 months afterwards (yep they tie you up for 90 days, exclusively). So this means all going well the agent gets an unconditional sale in 4 weeks. NO more mucking around for months and months taking people through a property, it’s wham bam thank you mam. So this means agents just sell more properties, 4 weeks sold, on to the next one and so on.
- Unconditional Sales: All the bidders are bidding unconditionally to purchase the property, so as soon as the reserve is passed, wahoo, the agent earns a commission. No mucking around with conditional agreements that go on and on for weeks or months and then fall over for a million and 1 reasons.
- Payment: At the end of the auction, the winning bidder sits down and pays 10% of the purchase price to the agent then and there. This is more than enough to cover their commission, so again it’s all about saving time and hassle for the agent. They don’t have to spend their time running around collecting a deposit on multiple agreements that may or may not go through.
- Tying up the property: If you own a real estate agency, what you want to do is control the vendors and their properties, and if you can do this, then all the buyers must come through you. So listing these properties for auction (which is automatically a sole agency) is a huge step towards getting paid. This is because the vendor can’t accept an offer via anyone else within 90 days without having to pay the agency a commission.
- Advertising: Under normal auction terms, the vendors pay the advertising fees! Yep, so good for an agency, no more money wasted advertising properties that may or may not sell! Goes straight to the bottom line. And of course, they charge you $x but it costs them less than that, so agencies make a profit on the advertising. Of course they’re not supposed to, but they do. Another spin off of this for the agency is that the vendors are paying for the agents to advertise themselves! Brilliant really, the agency gets miles and miles of advertising copy, promoting their agency, at no cost to them!
- Vendor Motivation: This comes directly from the point above. If a vendor has just spent say $4000 advertising their property (not to mention paying for the auctioneer, and an admin fee, all plus GST) then they are very motivated to sell. So this works on 2 levels, firstly when as an agent, you have them signed up to go to auction, you know they are serious because they are going to be spending their own money to get a sale and then when the auction is undertaken you know you have a committed vendor when it comes to setting the reserve etc.
- Vendor Motivation 2: So what happens if the property doesn’t sell on the day? Well agents don’t mind this. Why? Because they now have a super motivated vendor. The vendor has spent the last 4 weeks or so imagining what they will do with the money once they have sold. Buy their next dream property, move overseas, pay off their debts, whatever, they have plans and those plans can’t be realised until the property is sold. Plus, they’ve spent a fair bit of money, as mentioned above, so they’re are often really crestfallen at this time. Which puts them in a position of weakness, which is what agents want. The process has worn them down. And so, many sales are negotiated in the few days after a property fails to sell on auction day. The vendor has been put through an emotional blender and just wants it over. Which leads nicely to:
- Vendor Conditioning: What is this? Surely the agent is getting paid by the vendor so is working in their best interests right? No. Absolutely not. They are in business for themselves. And what they want is sales. At any price. That’s worth repeating: At any price. To them it doesn’t matter if the sale price is $350,000 or $450,000. They just want the sale because right up until then they are working for free. The difference in commission between those 2 prices is $2000 – 3000 but the difference between having a sale and not, at those mentioned prices is around $12000 – $15,000. So what agents do is spend the 4 weeks leading up to the auction ”conditioning” the vendor. This is euphemistic talk for getting the vendor to lower their expectations and set a low reserve, thus making a sale on auction day that much more likely. How do they do this? Well they give lots of negative feedback to the vendor of course! So if say a house is being taken to auction and it’s worth around $400,000, if a purchaser comes through and says “Geez this place is really nice, it’d get $450,000 wouldn’t it?” do you think the agent passes this on to the vendor? No, they don’t. And if someone else comes through the property and says “Oh man, they’ll be luck to get $350,000 for this.” do you think the agent passes on this information? You betcha they do! And in spades along with other rubbish about the market not being very strong, their not being many buyers interested in the place etc, etc. etc. for the entire 4 weeks of the auction campaign. By which time, if the agent is good (good in inverted commas) the vendor is so worried about their place not selling and not being worth what they thought it was, they succumb and set a low reserve, and are crossing their fingers they get a sale at all.
- Removal of Price Objection: A long long time ago, like say 7 or 8 years, properties used to be advertised with prices! Yep, people would actually get agents around (and perhaps even a valuer) to tell them what their property was worth (and the agents would give an actual answer! Try getting one to do that now) and then they’d decide on a price and sell it on that basis. So what’s the problem with that? Well it doesn’t work so well for agents. Why? Well for several reasons, basically it throws a lot of confusion into the whole process, in a number of ways:
- Removes purchaser’s ability to exclude a property from the list of ones they may consider buying. And example: Say you’re wanting to spend $400k on a house and they all have prices, you go through the ads in the paper, on the internet etc. and you can just instantly cut out any that are $450k and higher and just move onto the ones that are $400k and below. So the agency won’t be able to sell this property to that purchaser. What the agents want is for the purchaser to come through the property, fall in love with it and pay over their budget of $400k.
- Removes the vendor being able to stick to their price. Say the agency tells you your house is worth $400,000 and then they bring you an offer of $370k, are you going to be impressed with that offer? No, of course not. But what if instead of giving you a price they do the whole auction thing, say they will ”bring you the market, yadda yadda, yadda” and then the highest bid on auction day is $370k and you the vendor having been beaten around the ears for 4 weeks have set your reserve at $350k, would you be happy then? Well yes you probably would! You’d feel like you got $20k more than you were expecting and that man, the agent did a good job! Just as well you took it to auction!
- Creates a whole lot of confusion around what houses are worth. In the old days if you wanted to sell your house, you could have a look through the listings for properties for sale, get some idea of what houses similar to yours are being advertised at and get a fair idea of what yours might be worth. And the same for the purchasers, they could see photos and descriptions of properties and see what they’d have to pay for a property of a particular standard in a particular area. They could then decide which areas and which properties to focus on. But nowadays, there is no information out there, unless you go to the auctions of course! And see what the places actually sell for. But even then you often don’t get to see what a house finally sold for or even what the reserve was. So it’s all murky, which makes for uninformed buyers and sellers – just what is required by agents.
- Agents are absolved from any criticism around the sale price. If say an agent manages to get a bid of $370k on auction day, you can’t really complain. They never said they’d get you $400k or any price. They only promised to get you the best price the market would pay. And no one knows what that is ahead of time, so you can’t say “My house is worth $400k” because the easy counter from the agent is “We advertised it to the whole market and the market is saying it’s only worth $370k.” Sounds so fair and transparent right?
- Confusion on Auction Day: Going back to the old days again, if you were selling a place and an agent brought you an offer, you’d have time to talk about it, maybe think about it overnight even, and come to a sensible decision. Or as a purchaser, you could think very seriously before putting in an offer, after all there was no fixed time frame, (although there was always the possibility that someone else would move faster and buy a property before you did) so you could think clearly, take advice etc. before making an offer. But, contrast that with the auction process: Both parties will have had the opportunity to make up their minds about how much they will accept or pay prior to the auction, but then the auction itself takes place and people are put under all sorts of pressure to make decisions in a loud, confusing situation with almost no time to do so. Now remember your average person (or couple) buys a house around every 7 years or so. Whereas agents sell properties at auction every week. So you’ve got inexperience people put in a highly confusing situation and made to make decisions around what is usually their most valuable asset in a matter of seconds… Is it any wonder people bid a bit more than they said they would? Or take a lower figure than they thought they would going into it? No, of course it’s not.
- Agents Can Buy Into People’s Greed and Fear: So given that auctions are good for agents, why do people sign up for them? Why do purchasers play the game, going along a bidding etc.? Agents use a suite of pre-prepared tools such as dialogues with their customers (vendors and purchasers). Yep they practice what to say and how, so that they can get you around to their way of thinking:
- With vendors they tap into everyone’s natural desire to get as much as they possibly can for their property. All agents have sophisticated and practised (you can take seminars on this) dialogues and personal gestures etc. they use to achieve this. For instance most agents would have a suite of tales (some true, some not) of how they took certain properties to auction and got way above the vendors expectations. This taps into the vendors greed. Their property might be worth $400k they are thinking, but they might get $450k wahoo! That’s $50k more, surely it’s worth a shot! And the converse of this is fear. Fear of loss. Which is actually an even stronger motivator. Basically the agent does his/her best to instill in the vendor’s mind the idea that if they were to put a price on the property and sell it that way, they could end up giving away a lot of money because someone may have paid a lot more at auction. How much more? No one knows – unless you go to auction!
- With purchasers agents again use fear and greed. And again they have a suite of dialogues and other tools to use to do this. On the greed side, what most agents do is give a low price indication for the property, so they might well tell people a property might go for $300k (when it would normally sell for $400k say) and the buyer thinks “Cripes that’s cheap, I’d better look into this!” at which point they start spending money on reports, getting the parents along to look etc. and so then they are hooked. On the fear side agents will do the reverse! They’ll state how the market is moving quickly, how much interest there’s been in this one and if the purchaser is really interested then they’d better get their skates on or they’ll miss out. At which point the purchasers (perhaps having missed out on a number of properties at auctions already) start to think “Man if I don’t get my stuff together I’ll miss out on this one too. And houses seem to be going up in price rapidly! If I miss out and take another month to find a property I like I’ll be paying another $30k…” Again, the fear of loss…
Why Auctions are Disadvantageous for Purchasers
The section above contained a number of reasons why auctions are bad for purchasers but there are a couple of important additional ones:
- Time and money wasted: Because you want to by a house and because there’s not price to go on (apart from what the agent tells you when you enquire about the property which is usually BS) if you want to buy a property you’re going to have to bid at auction. But you will be bidding unconditionally so you really need to have various things lined up, like a LIM report, a valuation, finance arranged with the bank, a builder’s report and so on. All of this costs money and can mostly only be done with a certain property in mind. So if you go to the auction only to miss out (which could be because the vendor has an unrealistic idea of what the property is worth and so it gets passed in, or someone bids way above what you wanted to pay – an all too common experience these days) you might have just wasted say $1000. And a bunch of time too. And then you have to start all over again!
- Over Paying: Well how do you know that you are not paying too much for a property? Have you had it valued? Are you familiar with prices for properties in a given area at a given time? Many people paid top dollar for properties in 2007 which they’d be happy if they could sell for that much now. Basically you just don’t know where you’re at and you don’t want to have to spend your entire life researching properties and going to auctions trying to buy them. You just want your weekends back! So you bid a bit more than you should, thinking “What the heck, it’ll be worth that in the near future anyway” or “I don’t want to lose this one and have to start all over again!
Why Auctions are Disadvantageous for Vendors
Again, the section on why auctions suit vendors contains many reasons they’re bad for those selling, but here are some others:
- May get a lower price: There is quite a lot of evidence to suggest that properties taken to auction actually sell for less than they would if they had just been marketed with a price. Why is this? Well see the section below entitled “Why Auctions May Work for Purchasers”. But in a nutshell, there will only be a limited pool of buyers for your property at any time, many people hate auctions and basically bypass any ads for properties being taken to auction, people know they are bidding unconditionally so they have a lot of fear of overpaying and so on.
- Vendor Conditioning: I’ve talked about this above, but basically the person you will end up paying very handsomely to sell your property is actually working both ends, in order to get a sale, so you can’t trust a damn thing they say. And again there is evidence for this, via hidden cameras etc. So you are being mentally prepared to sell your house for less than you want to by the person you are paying…
- Expensive: You are paying for everything. The sign out the front, the advertising, the auctioneer, an admin fee (if anyone can tell me a good justification for an admin fee, I’d love to hear it). You pay all this regardless of whether the property sells. And then if it does, you pay a full commission. All plus GST.
Now Having said all this, so many properties are being sold by auction (or tender, or price by negotiation and a number of other similar methods) if you want to buy or sell property these days, you will quite likely have to go through the auction process. So can you turn it to your advantage? Well actually you can…
Why Auctions May Work for Purchasers
- Smaller pool of buyers able to or prepared to bid: Several aspects of the auction process mean that oftentimes, if you know what you are doing, you can pick up properties cheaply at auction. Now this probably applies to investors or other buyers who are buying on a regular basis, know their markets well and have the finances lined up to be able to move quickly. The reasons you may be able to buy cheaply are primarily these:
- At auction you have to bid unconditionally: So this means a lot of people are simply not in a position to bid. They might have to sell their house first, be waiting on a settlement (which are not always guaranteed to go 100% smoothly) or have some concerns about the property – is it a leaky property? What does this bit on the title mean? Or they may not have their finances sorted to the degree that they know 100% that if they bid $400k for this property the bank will definitely give them the money. So this all just means the number of purchasers is limited. So if you know this…. then you know you will may be one of only a few people in a position to actually buy on auction day. There might be many people who could pay more at a later date, or enter into a conditional contract that allows them to get their ducks in row and then buy, but there will often be very few people interested in a particular property who can stick their hand up and buy the thing right now. So what all that means, if you know what you are doing, you can go along to the auction and bid and basically hope to get it cheaply. If that doesn’t work, you move onto the next one and try again. I have personally seen properties go cheaply, and thought to myself “Bugger, I should have looked into that one, it must be worth more than that, they got a bargain!”
- Time frame Part 2: This is quite a biggy. As mentioned above the auction process is usually only 4 weeks long. So what happens if you first see the property with only 10 days to go? Do you rush around trying to decide if this is the one for you, arranging your inspections, reports etc.? Or do you say “I can’t be bothered with this one, I’ll have to miss it.” Or you might simply not quite yet be ready, you might still be selling your place (you might have a conditional offer that you don’t find out about for another fortnight) or still arranging finance with the bank or waiting to hear if you’re keeping your job under your company’s restructuring plans or a million other things. But all of this feeds back into part a above. At any particular point in time there will only be a few people in the position to buy unconditionally on the day. And so if you are one of them, then again, you may be able to buy cheaply.
- The agent has done your work for you: Yep the agent has spent the last 4 weeks ”conditioning the vendor”. So the vendor may in fact be quite desperate for a sale.
- What if it gets passed in?: A tactic used by many seasoned buyers is to go along to an auction for a property that they’re interested in and simply not bid, hoping that there won’t be much interest, no one else will bid strongly and the property will fail to sell at auction. You then have a totally crestfallen vendor to deal with, as per ”Vendor Conditioning Part 2” above. So then you do what you want with them, like put in a low unconditional offer 2 days later and refuse to budge. Or put in a highly conditional offer that lets you tie up the property for a fair while, while you decide if you in fact want it or not.
Why Auctions May Work for Vendors
As mentioned already, agents are very very good at getting vendors to sign up to auctions. It’s their job, they are under instructions to do so from their bosses and it pays off personally for them as well.
But of course if auctions worked terribly every time, then they simply wouldn’t be able to get vendors to agree to doing them. Sometimes they can go well:
- Hot market etc.: Ok so sometimes, some of the stories the agents tell are true. This might happen for a number of reasons, like the property is a particularly desirable one, the property market is running red hot with everything selling quickly and prices increasing rapidly, there are 2 bidders who really want the property – at any cost, the property is particularly valuable to someone like a neighbour or relative or perhaps a tenant (in a commercial property). And there would be many more reasons besides.
- Timeframe (yet again): The auction process is quick. So if you have a desirable property and the market is hot, you may be able to sell your property very quickly at a good price. And because you’re selling unconditionally, bam, that’s it. It’s gone. The agent will collect the deposit, forwarding you the balance (which you can then spend straight away) and you can move on with your life.
That’s about it. So if you have a really nice property in a good area and there is very little else out there for people to buy, then an auction could in fact work very well.
But if you have an average property, in an average area, it’s the middle of winter and buyers are exercising restraint then you will get nailed by an auction. Now don’t expect agents to tell you this. They are not going to come along and say “This property is not suitable for an auction” Why not? Because, as per part 1 above, auctions are good for agents. They work for them in so many cases, so they will apply them to just about any property.
It mightn’t work out well for the vendor or the purchasers, but who cares? They’ll get a sales and move on to the next one.
I know several lots of people who have been put through the auction ringer and come out feeling very sorry for themselves. So think very carefully about whether it’s right for you and your property.
All the best.