Real Estate in M&A: How To Assess Property Value

Accelerating business growth and strategic innovation by consolidating companies or assets is nothing new. In Q1 of 2024, mergers and acquisitions (M&A) climbed by 30% globally to about $755.1 billion following the completion of large deals such as Capital One’s $35.3 billion takeover of Discover Financial, Synopsys’ $35 billion deal to acquire Ansys, and Diamondback Energy’s $26 billion tie-up with Endeavor Energy — to name some of the larger recent M&A transactions (source: Reuters) 

As the M&A trend continues to rise in 2024, apart from the financial and operational due diligence, one of the most important considerations is the real estate asset valuation. Almost every major M&A transaction involves some form of a Real Estate asset portfolio, so it’s crucial for buyers to accurately evaluate their entire real estate portfolio. Otherwise, the estimated value the potential buyers can gain from merging or acquiring another company (or any of its subsidiaries) could result in being significantly different from the true market value of the assets.

In this article, we will explore key real estate considerations in an M&A, the steps involved in evaluating a real estate portfolio, as well as how digital twins can be a critical tool to improve the accuracy and transparency for all stakeholders in the process. 

Top 6 considerations and challenges for real estate mergers and acquisitions

Before embarking on an acquisition or merger, the buyer will delve deep into the financial and operating details of the selling company—especially their real estate holdings. So, all involved parties should weigh in several factors to make the transaction as efficient and successful as possible. 

Although specific considerations will differ based on the industry and kind of deal, there are a handful of common considerations for M&As.

1. Real estate market conditions and trends

Global economic trends and local market conditions have a significant impact on real estate M&As. For example, investors can acquire other companies for a deep discount in the wake of economic downturns (even though traditional wisdom says M&As dip during recessions). Whereas high inflation and scarce capital slowed M&As in the early 2020s. 

Experts believe 2024 will see more M&A activity as companies try to gain more market share, drive innovation, and get ahead of competitors. 

2. Evaluations of asset quality and conditions

One of the most important components during an M&A transaction is the evaluation of real estate asset quality and conditions. This is a multi-step process and it is critical that real estate portfolios are appraised accurately during the process, as a value assessment that is off by even a margin of 15-20% could cost a company billions in value. 

3. Financial performance

Before signing on the dotted line, the buyer needs to meticulously analyze the seller’s finances. This thorough review will form the foundation of due diligence and help assess the target company’s financial health.

Some of the metrics to evaluate include:

• Historical financial performance and trends

• Current financial position

• Cash flow analysis 

• Profitability and productivity 

• Valuation

4. Legal and regulatory compliance

All companies must abide by a variety of local, state, and federal regulations. And the same applies when one company buys another, so a buyer’s team will need to ensure compliance before, during, and after an M&A deal concludes.

For example, the buying company will have to look into the selling company’s regulatory compliance. A recently established U.S. Department of Justice policy mandates companies must disclose any regulatory violations at least six months before the deal goes through. On top of that, the acquiring company has to address those issues within 12 months following the purchase.

5. Finances and tax implications

A merger and acquisition with real estate results in  major tax implications for the purchasing company. 

The buyer's finance and accounting department will have to consider and calculate:

• Capital gains tax

• Stamp duties

• Transfer tax

• Financial implications of the transfer of employees

That’s why it’s crucial for buyers to work with their M&A team to prepare for these financial ramifications, and potentially minimize tax liabilities with meticulous planning.

6. Environmental and physical due diligence

As part of M&A due diligence, buyers need to perform environmental reviews and inspections of all properties. These reports not only affect the total value of the transaction but also could have a significant impact on the buyer company’s operations down the line. 

Typically, these assessments are scheduled to happen early on in the M&A process to ensure the seller has complied with environmental regulations and evaluate any issues the buyer might need to address post-acquisition/merger. Surveyors will look for:

• Disclosure of environmental documents

• Compliance with environmental laws and permits (current and past)

• Transferability of permits, governmental consents, and filings

• Possession of all environmental permits

• Site contamination at any properties

• Hazardous substance exposure

• Asbestos liabilities (premises and product liability)

• Off-site disposal liabilities

Evaluation processes in real estate mergers and acquisitions

Real estate M&As require a robust assessment process. These types of transactions have become increasingly complicated and drawn out partially due to the lengthy evaluations required. As of October 2023, these deals take an average of 1.5 years to complete. 

As part of due diligence, the buying company will often perform one or all of these assessment methods to inform their decision-making and bids during the deal. Buyers can designate an in-house team to conduct these evaluations or lean on a third-party expert like JLL, CBRE, C&W, and more to tackle the nitty gritty details of asset condition assessments and facilities inspections and valuations.

Comparable sales analysis

In real estate, doing a comparable sales analysis helps you determine a property’s fair market value by researching sales of similar properties. This kind of comparison also provides deeper insights into the local market.

Let’s say ABC Co. is acquiring XYZ Co., including XYZ’s commercial office building. To understand the true value of that property, ABC Co. will look up recent sales of office buildings with similar square footage in the same postal code. That way, they can better understand the fair market value of XYZ’s real estate and adjust the transaction’s terms accordingly.

Income approach

The income approach is often used to determine the value of commercial real estate. The market value is based on the net operating income of the property (think revenue from rentals) and the capitalization rate (i.e., the ratio between annual rental income and a property’s current market value).

This ongoing cash flow is factored into the price using this formula:

Net operating income / Market capitalization rate = Market value

So, let’s say a commercial property brings in $500,000 in net operating income and has a cap rate of 4.3%. Based on our formula, this property would have a market value of $11.6 million.

$500,000 / .043 = $11,627,906 (rounded to $11.6 million)

Cost approach

This method is a more straightforward way of determining real estate value during a merger or acquisition. Rather than leaning on complicated calculations, you can set the price of a property based on the cost of building a similar property.

Let’s go back to our two example companies. Let’s say XYZ Co. has done some research and found it would cost $500,000 to construct a building like their head office. They would then add that to the value of the land. Maybe their office is located on two acres that’s worth $50,000 on its own. So, with this approach, XYZ Co. would price its real estate portfolio at $550,000 (minus any accrued depreciation). 

Market analysis

Remember when we said that market conditions and trends are the top factor to consider in a real estate M&A? An acquiring company can complete a market analysis to factor current economic realities. Having relevant economic, real estate, and market data at your fingertips means you have the details you need to determine the value of a real estate portfolio and whether it’s a good deal.

With a comprehensive market analysis, businesses will learn broadly about:

• Current supply-demand dynamics

• Industry trends

• Economic climate 

And for real estate specifically, a market analysis can help you drill down to understand:

• Comparable property sales

• Historical rents and expenses

• Lease and renewal terms

• Neighborhood assessment

• Demographic trends

• Absorption data

To ensure you don’t miss anything during the M&A research process, use a due diligence checklist.

How Matterport digital twins support the valuation of real estate in mergers and acquisitions

As aforementioned, M&A due diligence can be a lengthy, time-consuming process—particularly with all the research required for real estate assets. And one of the common challenges companies encounter during this process is obtaining accurate data. Fortunately, the right tools can help buyers and sellers gather and share property data to streamline this process. 

With Matterport’s digital twins, it’s easy to move an entire real estate portfolio online. So, rather than buyers spending hours making multiple site visits and orienting themselves with a real estate portfolio, they can simply “walk through” a 3D replica of the space with just a few clicks.

Reducing site visits alone can make real estate M&As more efficient. Matterport customers using digital twins saw an annual cost savings of 53% for site travel while helping both buyers and sellers evaluate properties faster.

​​“Even when everyone is local, Matterport reduces the time it takes to understand a property—from multiple days and site visits to a couple of hours on a call. Frankly, in today’s environment, I don’t see how an advisor can have an effective conversation about real estate without Matterport,” said Patrick McGrath, the CIO of Savills, a British real estate services firm.

No more worrying about unreliable property data that could impact an ongoing deal. These virtual versions of properties provide accurate details of every space, including precise measurements and square footage, dollhouse views, and even schematic floor plans. 

Digital Twin Features | Matterport

Digital twins also capture the current conditions of a property, so potential real estate buyers can navigate the space online to assess any existing issues to address after an acquisition.

What’s better is that Matterport digital twins serve as a central hub for all this detailed data—buyers and sellers can find all the crucial info about their entire real estate portfolio in one place. This alone can increase efficiency during the property valuation process, and create more transparency into the details of each property.

Learn more about using Matterport’s digital twins as an evaluation tool during real estate M&As.