When a deal goes bad

If you make enough deals, eventually one goes sour. Here’s one that went sour on me…

We were looking into developing some small-lot sub-division homes in Silver Lake. We found a lady selling a house on a properly-zoned  piece of land. We contacted her next door neighbor, whose duplex wasn’t for sale, and convinced him to take godfather offer for his property. By joining the two parcels, it looked like we could develop 14 small homes on the two parcels, enough to make it worthwhile to buy them.

Once we got both properties under contract, we jumped into the due diligence. We spent a lot of money on soil testing and bringing in an architect to figure out how to lay out the homes on the land. We got some bad news: Because of the slope and some other factors, we could only build 12 homes, not 14.

Once we lost two of the 14 units, the deal stopped making sense. We were within our contingency period, so we went back to the sellers, told them the deal didn’t work for us anymore, and signed escrow cancellation instructions. The first lady was fine; she signed the cancellation instructions and we got our deposit back.

Property owner number two was different. He refused to sign the cancellation instructions. Without them, we couldn’t get our money back from escrow. He had a two-bit lawyer write me a letter alleging that we had cancelled the deal for illegitimate reasons and that he therefore deserved to be able to keep our deposit (which was around $20,000).

I was enraged. I called all the lawyers I work with and explained the situation. They were unanimous in telling me two things:

  1. I was right, and
  2. I should just negotiate a settlement and move on
We ended up going to mediation, as called for in the standard real estate purchase agreement. They put you in separate rooms while a retired judge beats on you to accept a settlement. He tries to undermine your confidence by getting you to imagine what would happen if you actually went to arbitration and the other guy won.

Now, I knew the other guy would lose in arbitration. We were CLEARLY without our rights to cancel the deal. And he was acting totally in bad faith by refusing to sign the cancellation instructions. But my time is valuable (and, because he’s an under-employed jerk, his isn’t), so I wasn’t inclined to fight it out, even though I knew I would win. We settled. I seethed as this guy walked away with some of my (and my investors’) money.

What did I learn? A few things:

  1. I should have fought that guy through to arbitration. It wouldn’t have made economic sense. But sometimes you need to act on principal, even when it hurts you in the short term. I won’t make that mistake again;
  2. Some people are jerks. (This one I already knew but sometimes manage to forget); and
  3. Make sure, if you’re planning to buy for potential development, to include a clause in the contract specifically giving you the right to cancel unilaterally during the contingency period if you determine that the parcel is unfit for the development you had in mind. (Not that this would have helped much with this seller, but it’s good housekeeping, anyway).

I know you’re supposed to let these kinds of things go to avoid spending your life embittered. And, mostly, I have. But I’m not above fantasizing, when I drive up Hyperion sometimes, about something bad happening to the guy who owns the duplex on the left.