Auction price in,
open-market price out

We run an estate agency in North London, The Good Neighbourhood. Valuing, marketing and selling homes is our day job, so we know what a property is worth on a given street and how quickly it will move.

We also know how slow the open market can be. Finding a buyer is only half of it. The legal process takes months, buyers pull out, and the seller is back to marketing a property that now looks tired to everyone who has already seen it. There is no certainty in it.

Auction is where sellers go when they need that certainty, because contracts exchange on the day. Most properties are there because they need a lot of work, or have a legal issue that makes them harder to mortgage. Others need nothing more than cosmetic work and are being sold for a different reason entirely: the seller wants speed and certainty rather than the highest price. It could be an owner who needs the money quickly, a corporate offloading stock before its tax year end, or a housing association obliged to sell openly so it can prove the property was available to anyone. The reasons vary; the motive doesn’t.

Those properties have almost no natural bidder.

So the seller trades price for certainty, taking less than market value to get it done: on the day, or afterwards if the property goes unsold. The house that would be snapped up on a Saturday viewing sells cheap at auction, or doesn’t sell at all. We buy it, do very little, and put it straight back in front of the buyers who were shut out of the auction in the first place, the ones with a mortgage offer and no interest in a project. The open market is the only place they can buy a house like this, and that is exactly where we put it.

Property auctions are largely the territory of developers and investors, typically looking for run-down properties where the profit comes from adding value through substantial works: heavy refurbishment, big spend and a long wait to sell. We buy sound houses at the other end of the same room: little to no work, big discount, a quick sale.

There is one more difference. A developer needs the highest price on the street to make the numbers work, which means competing for the smallest pool of buyers in the area. Having put months of work and a lot of money into the property, it is easy to price it on the effort that went in and hope a buyer pays top of the market for it. We do the reverse. We look at what has actually sold nearby and set our figure just under it: if the last three bedroom house on the street went for £250,000, we base our numbers on selling below that, not above. We buy ordinary two and three bedroom houses that everybody wants, and because of the price we paid, we can afford to market them cheaper than anything comparable. Ours is the one buyers look at first.

It is the same in most kinds of investing. The attention goes to the exciting names, and the dull, unglamorous ones get passed over. More often than not it is the dull ones quietly doing the work, while the exciting ones produce the losses. Property is no different. We buy the houses everybody else discards for having nothing to add, and those are the ones that perform best. The old advice is to buy the cheapest house on a good street. Ours tends to be that house, and that is a useful place to be when the market slows.

No big refurbishment. No delay. No expensive house to sell at the end of it. Small property, light work, quick sale, and then we do it again. The deals are smaller than a developer’s, and deliberately so. A developer’s capital is committed for the whole length of the build, and the property has to sell before any of it can be released. Ours goes in, and part of it usually comes back six to eight weeks later, at refinance, while a developer would still be on site. It is the length of that cycle, rather than the size of any one deal, that we compete on.

None of this means we can predict the market. Interest rates move, inflation moves, and what buyers can afford moves with them. Some projects will do better than others, and that part is not in our hands. What is in our hands is which properties we buy, the discount we buy them at, and the numbers we run before we commit to anything. That is where the work goes, and it is why a deal can still stand up when the market does not cooperate.

Your priority return accrues day by day, at 20% a year, on the capital you actually have invested. When part of it comes back at refinance, that part stops accruing and is yours to use again. So the return is measured against your average capital across the project rather than the amount you put in on day one. Refinancing early works in your favour: part of your capital comes back to you sooner, reducing the amount you have tied up in the project while you retain your share of the project’s remaining profit.

The difference between the two is where a shortfall lands. When a project makes less than we planned for, our share absorbs it first: in the second example we receive only £1,054 of the profit at the back end, while you still reach your priority return in full. If a project does not make enough to cover your priority return, you take all of the profit there is and we take nothing. We chose the deal, so if it underperforms, our profit is the first thing to reduce.

Annualised for comparison only: this shows the equivalent annual rate if the same return were repeated over 12 months, and it is not a forecast.

Plenty of people are property rich and cash poor. Most of what they are worth is sitting in the property they own, and they assume the only way to get at it is to sell.

It isn’t. If you own a property with equity in it, a bridging lender can take a first or second charge over that property and release the money to you, and that is what goes into the project. The lender’s fees, the legals and the interest are all built into the capital raised, so none of it is paid out of your own pocket while the deal runs. No need to sell the property or fund monthly interest payments.

When the project property is sold, the loan and its costs are repaid from the proceeds and the charge over your property is removed. Your share of the profit is yours. The only difference is that money which would otherwise have sat in your house doing nothing has been working instead.