Beware! Lowballing is back. Did it ever leave?

I feel deflated.

Perhaps it never went away, but I am hearing more and more stories recently around the practice of 'lowballing'. Consumers and developers alike need to be aware that this will come back to bite them. I previously wrote about it in 2013 in response to the OFTs scoping document here: http://davidclarks.blogspot.co.uk/2013/12/response-to-ofts-residential-management.html

Lowballing is the practice of setting an artificially low service charge to either win a contract (agents) or to assist the sales process (developers). In some parts of the world it is illegal but in the UK not expicitly so. There is some legal sanction that service charges must be reasonable (works both ways, although I am not sure anyone has ever challenged a charge on the basis that it is too low...) and regulatory requirements set out in the ARMA Q Consumer code:

2.1 New Business & Tendering When seeking new business the Managing Agent: 

d) Must make it clear what services they are proposing to provide and at what cost, as well as the extent and limit of any additional services available; 
e) Must not purposely underestimate costs or provide misleading estimates of future Service Charge contributions required; 
f) Should quote their Management Fee as a fixed fee, unless the Lease specifies otherwise; 
g) Should pre-agree charges; 

Lowballing may take the form of artificially low prices for maintaining the development but often is more sophisticated and may involve ignoring areas of future costs and removing them as a line item. Health and Safety, mechanical and engineering costs as well as artificially low reserve/sinking fund allowances mean that charges are initially set to look very reasonable but quickly grow in the first few years to meet both large deficits and increased ongoing costs. Poor, or deliberately low, estimation of insurance costs often lead to significant hikes in later years. The use of phased and void costs to support an artificially low service charge. On estate schemes freehold house owners do not want to pay for managemenof the open spaces and charges sre often set innapropraitely low to offset this. Some stakeholders will want ot pay nothing, particularly housing associations buying under S.106. Anecdotally I am advised that we are increasingly asked to reduce overall costs despite the loss of quality.

Developers have a responsibility to check that each item of M&E in the specification is correctly priced and that there is a full health and safety regime. Is the manager likely to provide a worthwhile service for the fee proposed? 30 flats at £100 per year does not deliver many hours of service to leaseholders. Where there is an initial guarantee in place (for example lifts) then a note to the effect that there will be a significant future maintenance cost should be added to the estimate.

All agents have experienced a failure of the developer to provide all of the correct information upfront and the consequence of finding previously unmentioned plant at a scheme. Both parties must ensure real diligence in providing and obtaining all details that might lead to contractual, insurance or replacement costs.

We are in a competitive industry that is prepared to win work through artificial pricing and without more care on the part of developers then it is only consumers who will lose. Agents are still relying on the fact that initial management periods are often longer and more complex - allowing for a degree of stickiness and little consumer pressure for change.

I am pleased to be working with developers who recognise that their relationship with purchasers and the communities they create are not just transient. The best developers talk of whole life relationships from student accomodation to retirement villages and all homes in between. It pays them dividends to ensure that service charge budgets are set with honesty, that managing agents are rewarded appropriately as professionals and that cthe clear benefits of transparent management are set out clearly at the point of sale.

It pains me deply that I still lose work for being too 'expensive' by comparison to an agent who has not, for example,  had his engineer look at the M&E specification and whose insurance team haven't commented on the insurance reinstatement costs. Increasingly we pick up those schemes 3 or 4 years down the line when residents have tired of paying huge deficits every year whilst enduring massive hikes in costs. Personally I would like to see a requirement for managers to proveide three years of estimate for new devleopments with an element of  risk attaching to their fees. This would quickly ensure accuracy for consumers and fewer unpleasant surprises.

In summary:

• Developers must provide all development details accurately up front
• Agents must undertake to deliver accurate budgets and revise them when new information comes to light
• Notes must be added to explain missing or future costs
• Notes must explain how adequate reserves will be collected
• Fees should reflect the cost of management
• Other fees arising form the lease should be clarified
• Consumers should look for comparables and be wary