Auctioning The Lazy H Ranch A Case Study

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					Auctioning The Lazy H Ranch:
A Case Study
Marcus T. Allen*



Focus
This case study is designed to provide students with an entertaining exposure to the
auction mechanism in real estate transactions. Borrowing liberally from an actual real
estate auction, the case delves into (a) reasons why a property owner might choose
the auction mechanism, (b) strategies the property owner and the auctioneer can use
to attempt to maximize auction prices, and (c) the logistics of promoting and
conducting a real estate auction.

The case addresses several strategic issues commonly used in the real estate auction
industry, including ‘‘absolute auction,’’ ‘‘buyer’s premium,’’ ‘‘choice groups’’ and
owner financing. In the absolute auction format, the seller agrees to sell the property
at the auction without imposing a minimum bid or reservation price. Sellers who
agree to this structure bear the risk that the property could sell for a price lower than
they would accept through traditional transaction methods, but this risk is offset by
the increased number of potential bidders who may interpret the use of the absolute
format as a signal of the seller’s eagerness to transact.

Setting
The case begins by explaining how the current owner acquired the property and how
the decision to sell was reached. The property is a small cattle ranch in southwest
Florida (yes, this is classic ‘‘Florida swampland’’) that was purchased by a successful
entrepreneur as a weekend-getaway in 1989, but gradually grew into a modestly
profitable ranching operation. Upon the death of the owner some years later, the
property was listed with a local real estate broker who used traditional promotion
methods to identify potential buyers. When no acceptable offers were received after
more than a year of marketing efforts, the administrator of the owner’s estate elected
to use the auction mechanism to sell the property.

Exhibits
Exhibit 1 is a map of Florida showing the Muse community.
Exhibit 2 is an aerial photograph of The Lazy H Ranch.
Exhibits 3, 4 and 5 are pictures of The Lazy H Ranch.
Exhibit 6 provides comparable ranch land transaction prices for the area.


*Florida Atlantic University, Fort Lauderdale, FL 33314 or mallen@fau.edu.



                                                 269
270                                              Journal of Real Estate Practice and Education

Exhibit 7 is a high aerial photograph of The Lazy H Ranch.
Exhibit 8 provides the auction summary for sales of The Lazy H Ranch.


Availability
This case, including teaching notes, is available from the Managing Editor, Bill
Hardin, at the JREPE website or via email to bhardin@cobilan.msstate.edu.


Background
At the age of 45, Dan Harlin was a successful entrepreneur who had grown a fledgling
marine engine servicing business on the southeast coast of Florida into a multi-million
dollar enterprise. Having accumulated sufficient wealth for a comfortable lifestyle,
Dan decided he was ready to stop working 18-hour days and start enjoying life more.
He hired a qualified management team to run his business and gradually eased himself
out of the company’s day-to-day operations.

One of Dan’s lifelong dreams was to become a cattle rancher, even though he had
been a city slicker all of his life. On a weekend getaway trip to the southwest coast
of Florida, Dan and his wife Kate drove through a remote agricultural community
called ‘‘Muse.’’ Located about a one-hour drive from the west coast of Florida and
about a two-hour drive from the east coast of Florida, the Muse community (see
Exhibit 1) was dotted with small cattle ranches, orange groves and wetlands. Kate
suggested that they consider buying some land in the area to use as a vacation home
and a potential investment for the future.

As the Harlins drove along the narrow country road, they saw a real estate broker’s
‘‘For Sale’’ signed tucked underneath a highway sign that said ‘‘Caution—Road
Subject to Flooding.’’ Dan contacted the listing broker on Monday morning for more
information about the property. The broker explained that the property had been seized
by federal authorities in the early 1980s from a drug smuggler who was using the
land as a ‘‘drop-zone’’ for cocaine and marijuana that was being smuggled into Florida
by small planes from South America. The property had been on the market for almost
a year with very little interest from potential buyers. The broker told Dan the
government agency that owned the property ‘‘was willing to consider all offers.’’ By
the end of the week, Dan and Kate had signed a contract to purchase the 289.4 acre
tract of land for $300,000 cash.

At the time of purchase by the Harlins in 1989, most of land was covered in trees
and brush and was subject to frequent flooding from a stream called Jack’s Branch
that flowed across a portion of the property through a stand of cypress trees. Dan and
Kate decided to leave the stream and the cypress wetlands in their pristine state, but
to clear most of the other trees and build a flood-control system of shallow canals to
create pasture land for grazing cattle. With the help of a hired farm manager and
some heavy-duty earth-clearing equipment, the land gradually became a modestly
profitable cattle ranching operation that also produced hay for sale to other cattle


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Auctioning The Lazy H Ranch: A Case Study                                           271

ranches in the area. Dan and Kate christened the property ‘‘The Lazy H Ranch’’ and
soon began spending much of their time living in the ranch’s small, 15-year-old house
rather than their elaborate oceanfront home in Fort Lauderdale (see Exhibits 2–5).

In 1994, Dan and Kate bought an adjacent parcel of land containing 160 acres for
$125,000 and added it to The Lazy H Ranch for a total of 449.4 acres. Most of this
parcel was also wetlands, but some of the land was suitable for pasture land. For the
next several years, the ranch generated a small profit each year from its cattle and
hay operations, but its main purpose was to provide Dan and Kate with a quiet retreat
from the fast-paced life of the Florida’s ‘‘Gold Coast.’’ In 1999, Dan and Kate hired
a contractor to extensively renovate the ranch house at a cost of just over $150,000.


The Decision to Sell
Late in 2000, both Dan and Kate died separately from natural causes. To settle their
estate among their beneficiaries, the estate administrator listed The Lazy H Ranch for
sale with a local real estate broker who suggested a listing price of $1,250,000 and a
commission rate of 10%. While the farm manager of The Lazy H Ranch continued
to operate the ranch, the broker placed a ‘‘For Sale’’ sign on the property, advertised
it on his company’s website and ran a regular ad in the local weekly newspaper. When
no acceptable offers had been received for The Lazy H Ranch after more than a year
of marketing efforts by the real estate broker, the estate administrator decided to hire
a real estate auction company to sell the property.


Planning the Auction
The estate administrator chose KDA Real Estate Auctioneers, Inc. (KDA) to handle
the auction based on the company’s long track record of successful real estate auctions
for estate-owned properties throughout Florida. One of the defining strategies used by
KDA in the auction business is the use of ‘‘absolute auctions,’’ which means that the
seller is legally obligated to accept the highest bid received auction without
establishing a minimum or reservation bid. While this strategy may initially seem
risky to a property owner considering the auction marketing method, KDA maintains
that its use greatly increases attendance at the auction because bidders know the seller
is serious about selling and because they know the transaction price will be determined
solely by competition between interested buyers who make the effort to attend and
participate in the auction. KDA has built its reputation as a leader in the absolute
marketing market by designing and implementing aggressive promotion campaigns
prior to the auction that bring in large numbers of bidders and thus minimize the risk
that the auctions will result in deeply discounted transaction prices.

In exchange for promoting the auction to potential bidders and conducting the auction,
KDA and the estate administrator agreed that the auction company would receive a
10% ‘‘buyer’s premium.’’ For example, if the winning bid for an auctioned item is
$10,000, the winning bidder must actually pay $11,000 for the item, with $10,000
going to the owner of the item and $1,000 going to the auction company.
272                                        Journal of Real Estate Practice and Education

                                  Exhibit 1
                Map of Florida Showing the Muse Community




                                  Exhibit 2
      Low-Altitude Aerial photograph of The Lazy H Ranch (looking west)




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Auctioning The Lazy H Ranch: A Case Study                                          273

                                     Exhibit 3
                          Ranch House at The Lazy H Ranch




Before beginning to promote the auction, KDA performed an extensive market
research study and concluded that demand in this market was greater for smaller
parcels than for larger parcel. This conclusion was supported by the fact that few
large tracts of land (100 acres) had sold in the previous two years in this area,
though many transactions had occurred for smaller parcels in recent years.
Investigating the most recent transactions, KDA discovered that the new owners of
each tract had built a home on the tract soon after purchase. Further investigation
revealed that each of the larger tracts sold in recent years contained mostly wetlands.
Exhibit 6 identifies all the recorded land transactions that occurred in the Muse area
in the twelve-month period prior to the planned auction date.


                                        Exhibit 4
                              Cattle at The Lazy H Ranch
274                                           Journal of Real Estate Practice and Education

                                   Exhibit 5
                      Jack’s Branch at The Lazy H Ranch




                                    Exhibit 6
       Ranch Land Transactions in the Muse Area (7/2001 through 7/2002)
                                  Average Price       Distance & Direction from The
Date         Acres    Price ($)   Per Acre ($)        Lazy H Ranch

7 / 2001      20.2     53,000     2,624               Less than 1 mile, north
8 / 2001      20.0     44,000     2,200               Less than 1 mile, northwest
1 / 2002      20.0     43,000     2,150               Approximately 2 miles, east
1 / 2002      48.7    120,000     2,464               Approximately 6 miles, southeast
3 / 2002      38.4     96,200     2,505               Approximately 2 miles, northeast
3 / 2002      39.1     88,000     2,251               Approximately 6 miles, south
5 / 2002     121.8    237,000     1,946               Approximately 2 miles, south
6 / 2002      20.0     48,000     2,400               Approximately 7 miles, west
6 / 2002      21.1     46,500     2,203               Approximately 2 miles, west
7 / 2002     130.0    230,000     1,769               Approximately 5 miles, southwest




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Auctioning The Lazy H Ranch: A Case Study                                            275

                                   Exhibit 7
            Dividing The Lazy H Ranch via High-Altitude Photograph




  Jack’s
  Branch
  main
  channel




After checking the local zoning ordinances, KDA understood why 20-acre tracts were
so popular. To be eligible for a building permit for a house, agriculturally zoned
parcels of land in this county were required to have a minimum lot area of 20 acres
and 300 feet of public road frontage. Thus, KDA proposed dividing The Lazy H into
smaller parcels that took into consideration the wetland areas, the 20-acre minimum
lot size requirements, and the 300 feet of road frontage requirement. The estate
administrator agreed to this arrangement, even though he had rejected offers from
buyers who wanted to purchase only portions of The Lazy H when it was listed with
the local real estate broker.

With the help of a land planning firm, KDA devised a plan for dividing The Lazy H
Ranch into ten tracts that ranged in size from 20.7 acres to 140.1 acres with the goal
of increasing the desirability of the property in the market. Each tract has its own
legal description and carries the full bundle of ‘‘fee simple’’ ownership rights. Because
each tract in the plan was designed to afford access to existing public roadways and
no zoning changes were necessary, no formal subdivision approval process was
required by local governmental authorities. Additionally, the presence of wetlands on
VOLUME 6, NUMBER 2, 2003




                                                                                                                                                                    276
                                                                                        Exhibit 8
                                                                           Auction Summary for The Lazy H Ranch
                                                                                                                         Initial    Winning    Total      Winning
                                                                                                                         Bid        Bid        Contract   Bidder
                           Tract    Acreage     Road Frontage                         Description                        ($)a       ($)a       Priceb     Number

                            1        21.4       1,615 feet (636 feet on paved road,   50% wetlands, 50% pasture            2,500      $3,000    70,620    81
                                                1,015 feet on shell / rock road)
                            2        31.1       300 feet on shell / rock road         70% wetlands, 30% pasture            1,000      $1,850    63,289    203
                            3        21.2       350 feet on shell / rock road         60% wetlands, 40% pasture            1,000      $1,850    43,142    203
                            4        24.2       400 feet on shell / rock road         50% wetlands, 50% pasture            1,000      $1,850    49,247    57
                            5        30.3       400 feet on shell / rock road         50% wetlands, 50% pasture               500     $1,700    56,661    105
                            6        58.7       465 feet on shell / rock road         10% wetlands, 90% pasture            1,000      $1,950   125,912    81




                                                                                                                                                                    Journal of Real Estate Practice and Education
                            7        21.2       300 feet on shell / rock road         house, shop, barn, shed, pasture   100,000    $182,500   200,750    81
                            8        20.7       900 feet on shell / rock road         100% pasture                         2,500      $3,000    68,310    81
                            9        80.5       650 feet on shell / rock road         10% wetlands, 90% pasture            1,000      $1,950   172,673    81
                           10       140.1       300 feet on shell / rock road         80% wetlands, 20% pasture               500      $950    146,405    81
                           Total                                                                                                               997,007

                           Note:
                           a
                             Per acre, except Tract 7.
                           b
                             Includes 10% buyer’s premium.
Auctioning The Lazy H Ranch: A Case Study                                           277

agriculturally zoned land in this area does not preclude the use of the tracts for
development with one single family residence and any additional structures incidental
to agricultural use. The tracts are displayed in Exhibit 7.

To further enhance the marketability of the tracts, KDA recommended that the estate
administrator agree to offer seller financing to any winning bidder who could pay at
least 30% of the total purchase price at the time of closing and 9% annual interest
with annual amortization payments over twenty-five years and a balloon payment for
the amount outstanding at the end of year five. The loan would be secured by a first
mortgage and would have no prepayment penalty. The estate administrator rejected
this idea at first, but KDA convinced the estate administrator by explaining that the
availability of seller financing might attract more demand to the auction. Furthermore,
KDA explained that the estate could convert any notes generated by the auction into
cash by selling them to a lending institution. KDA helped the estate administrator
locate a lender willing to purchase these notes at a discount rate of 8%. The market
interest rate for similar loans from traditional mortgage lenders at the time of the
auction was 7%.

Promoting the Auction
KDA scheduled the auction for 10:00AM at The Lazy H Ranch on Saturday, August
10, 2002, regardless of weather conditions. In advance of the auction, KDA
aggressively promoted the auction statewide to potential bidders via the company’s
website, newspaper and magazine advertisements, radio advertisements, personal
phone calls and direct mailings. The promotion efforts emphasized the sizes and
characteristics of each tract (especially the tract containing the renovated home) and
fully disclosed all the bidding procedures and the financing arrangements being
offered by the estate administrator. KDA contacted several thousand potential bidders
who had placed their name and address on the company’s mailing list by regular and
electronic mail. KDA also contacted hundreds of real estate brokers in the southern
half of the state of Florida in the area and invited them to bring potential bidders to
the auction. (While some auction companies offer to ‘‘protect brokers’’ by sharing the
buyer’s premium with any real estate broker who represents a winning bidder at the
auction, this auction company elected not to offer such an arrangement for this
auction. Instead, real estate brokers representing buyers at this auction would have to
arrange their compensation from the bidder as a ‘‘buyer’s agent.’’) Anyone interested
in inspecting the properties could do so in advance of the auction day by appointment
or on the auction day beginning at 8:00AM. Detailed legal descriptions of each tract,
photographs, maps, zoning information, and sample purchase contracts, promissory
notes and mortgage instruments were mailed in advance of the auction to any party
who requested additional information.

Auction Day
On the day of the auction, KDA had a large event tent installed on the front lawn of
the home located on Tract 7, complete with seating for 120 bidders and portable
restroom facilities. While the crowd of attendees grew, a high quality sound system
278                                               Journal of Real Estate Practice and Education

played upbeat country music while a cowboy (with a cell phone on his belt!)
performed rope tricks from the back of his horse. All of the cattle on the ranch were
to be auctioned immediately after the real estate auction was complete and were
corralled near the auction tent for inspection. The presence of a hotdog vendor (a
subsidiary of KDA) helped create a lively, carnival-like atmosphere on this beautifully
sunny and breezy Saturday morning.

All bidders were required to register on the morning of the auction by displaying
either cash or cashier’s check for $5,000 for each tract they intended to bid on. A
total of 312 bidders registered and received a bid paddle that displayed their unique
bidder number and the number of tracts they were qualified to bid on. Winning bidders
would be required to pay 10% of their contract price (bid amount plus buyer’s
premium) on the day of the auction in cash or cashier’s check and the balance within
30 days (either cash or seller financing). Winning bidders were required to pay all
closing costs, with current property taxes to be prorated to the date of the auction.

Promptly at 10:00AM, the auctioneer welcomed everyone to the event and reviewed
the rules of the auction and announced the ‘‘order’’ of the auction. The auctioneer
explained that Tract 7 (with the house and barns) would be auctioned first. After that,
Tracts 1 and 8 would be auctioned as buyer’s choice, followed by Tracts 2, 3, 4 and
5 as buyer’s choice, Tracts 6 and 9 as buyer’s choice, and, finally, Tract 10. Bids for
all tracts other than Tract 7 would be on a per acre basis. ‘‘Buyer’s choice’’ means
that the winning bidder would have the option of buying one or more of the tracts in
the choice group at the same price per acre. If the winning bidder does not wish to
buy all of the tracts at that price per acre, then the next highest bidder is given a
choice to buy at that price. If this bidder declines to pay that price for the remaining
tract(s), the tract(s) is (are) auctioned again until all tracts in the choice group are
sold.

The auctioneer also explained that after all the tracts had been auctioned individually,
the winning bids for each tract would be tallied and that one final auction segment
would be held to see if any bidder was willing to pay more for the combined bids
for the entire property. If so, the winning bids of the individual tracts would be
declared null and void and the property would be sold as a single tract to the high
bidder.

After hearing questions from bidders who were not familiar with the buyer’s choice
format, the auctioneer and his associates conducted a mock ‘‘buyer’s choice’’ auction
to demonstrate the auction process and to introduce the bidders to the auctioneer’s
style. The items on the mock auction block were a pair of toll booths on the main
highway nearby that entitled the owner to collect tolls from passing motorists. Bidding
opened at $500,000 and rose quickly to several million dollars before the gavel fell
and the auctioneer sang ‘‘Sold for Eleven Million to Bidder #175!’’ The auctioneer
then gave the winning bidder the choice of either or both toll booths for $11 million
each. The winning bidder chose the booth on the westbound lane. The auctioneer then
asked the second highest bidder if she wanted the booth on the eastbound lane at the
same price, but she said no. The auctioneer then began his song again to sell the


VOLUME 6, NUMBER 2, 2003
Auctioning The Lazy H Ranch: A Case Study                                          279

booth on the eastbound lane. The winning bidder in this second mock auction segment
bought the remaining toll booth for $9,500,000.

Conducting the Auction
With the mock auction finished, the auctioneer began the real auction by asking for
an opening bid for Tract 7. A voice in the back of the room shouted ‘‘Fifty Dollars!’’
As the crowd laughed, the auctioneer joked that the property was ‘‘for sale, not for
rent by the hour.’’ The first legitimate bid came from Bidder #81 who bid $100,000.
As the auctioneer sang, bids popped up all around the tent and from the standing-
room-only crowd outside until the price reached $182,500. After three ‘‘final calls,’’
the gavel fell and the property was sold for $182,500, plus the buyer’s premium of
10%, for a total of $200,750 to Bidder #81.

The next auction segment paired Tracts 1 and 8 in a buyer’s choice format on a price
per acre basis. The opening bid was $2,500 and the winning bid was $3,000. The
winning bidder was Bidder #81, who opted to take both tracts at the same price per
acre for a total of $138,930, including the buyer’s premium.

The next auction segment included Tracts 2, 3, 4 and 5 in a buyer’s choice format on
a price per acre basis. The opening bid was $1,000 and rose to a high bid of $1,850.
The high bid was made by Bidder #57 who opted to purchase only Tract 4 for a total
price of $49,247, including the buyer’s premium. The next highest bidder was Bidder
#203, who opted to take Tracts 2 and 3 at a total price of $106,431, including the
buyer’s premium. Neither Bidder #57 nor Bidder #203 was willing to pay $1,850 for
Tract 5, so the auctioneer conducted a separate auction segment for this tract. The
opening bid was $500 and the final bid was $1,700. Bidder #105 purchased the
property for a total of $56,661, including the buyer’s premium.

The next auction segment included Tracts 6 and 9 in a buyer’s choice format on a
price per acre basis. The opening bid was $1,000 and the final bid was $1,950. The
winning bid was made from Bidder #81 who opted to take both tracts at a total price
of $298,584, including the buyer’s premium.

The auctioneer then opened bidding for Tract 10 on a price per acre basis. The initial
bid was $500 and the final bid was $950. The winning bid came from Bidder #81 for
a total price of $146,405, including the buyer’s premium.

With all ten tracts sold on an individual basis, the auctioneer then announced that
the total bid price (not including the buyer’s premium) for the property as a whole
was $906,370. The auctioneer asked for a bid higher than this amount, but heard
none and, after three ‘‘final calls,’’ pronounced the real estate auction complete (see
Exhibit 8).

The auctioneer then auctioned off the cattle one beast at a time (1 bull, 18 cows, 10
calves), ranging in high bids from $150 to $850 paid by several different winning
bidders. The auctioneer then tallied the winning bids for all the cattle and asked for
280                                                 Journal of Real Estate Practice and Education

any bid higher than $14,150. Several bids were heard until the price reached $15,500
and the auctioneer sang ‘‘Sold to Bidder #81 for Fifteen-Five!’’

Discussion Questions
       1. What do you think was the estate administrator’s primary objective for
          choosing the auction mechanism?
       2. Why do you think the marketing efforts by the real estate broker who
          initially listed The Lazy H for sale for twelve months were
          unsuccessful?
       3. What would you think about a bidder who pays more for the second
          item in a ‘‘choice group’’ than the price of the first item in the ‘‘choice
          group?’’
       4. Why do you think Tracts 1 and 8 sold for the highest price per acre
          (except for Tract 7)?
       5. What specific actions or strategies taken by the auction company do
          you think enhanced the total price obtained for the property?
       6. What suggestions can you offer that might help the auction company
          obtain higher prices at future auctions such as this one?
       7. How do you think the results of this auction might have differed if the
          estate administrator had set ‘‘minimum reserve prices’’ for each parcel
          or for the whole ranch instead of being willing to accept the highest
          bid?
       8. Based on the transaction data provided in Exhibit 6, what is your
          estimate of value of The Lazy H Ranch as of August 9, 2002 (the day
          before the auction)? How reliable is your estimate of value for Tract 7
          given the information provided? What other information would help you
          improve your estimate of value for The Lazy H?
       9. Based on your answers in Question #8, do you think the property sold
          ‘‘at a discount’’ compared to the price that would have been obtained
          in a non-auction transaction? What major factors contribute to your
          opinion on this issue?
      10. Suppose the buyer for Tract 5 elects to take advantage of the seller
          financing by making a 30% downpayment based on the total contract
          price (including buyer’s premium) and agreeing to make annual
          payments for 5 years at 9% annual interest based on a 25-year
          amortization period with a balloon payment at the end of year 5.
          a. What is the loan amount?
          b. What is annual payment amount?
          c. What is the balance on the loan at the end of five years?
          d. If the estate sells this loan to a lending institution immediately upon
              origination at a discount rate of 8%, what price will the estate receive
              for this loan?

References
Allen, M. T. and J. Swisher, An Analysis of the Price Formation Process at a HUD Auction,
Journal of Real Estate Research, 2000, 20:3, 279–98.


VOLUME 6, NUMBER 2, 2003
Auctioning The Lazy H Ranch: A Case Study                                               281

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De Boer, L., J. Conrad and K. McNamara, Property Tax Auction Sales, Land Economics, 1992,
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Lusht, K., Order and Price in a Sequential Auction, Journal of Real Estate Finance and
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Mayer, C., A Model of Negotiated Sales Applied to Real Estate Auctions, Journal of Urban
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Special thanks to Karlin Daniel of Karlin Daniel and Associates for making this case
possible.

				
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