Vendors offer to top up missing rent so empty space can be priced as if let. The guarantee rarely covers the rent-free, the holding costs and the fees.
A vendor rent guarantee is worth the present value of the shortfall it will actually pay, and the buyer should compare that with the present value of the whole vacancy: lost rent until the rent-free ends, holding costs and letting fees. On an illustrative office priced at £26.92m as if fully let, two vacant units with £250,000 of rental value cost the buyer £684,869 in present value, while a two-year guarantee covers £461,936. The buyer is still £222,933 short, 0.83 per cent of the price, and that is before asking who stands behind the guarantee.
Worked in full in Commercial Real Estate Investing by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
When a property is sold with empty space, the vendor often offers to "top up" the missing rent for a period so that the asset can be priced as if fully let. It is a reasonable bargain if the guarantee lasts as long as the vacancy and its full cost. It rarely does: a new letting typically comes with a rent-free period, and the space carries empty rates, service charge and fees while it waits.
| Input | Value |
|---|---|
| Rent from let units | £1,500,000 a year |
| Rental value of the two vacant units | £250,000 a year |
| Net initial yield the vendor asks, on full income | 6.5% |
| Buyer's expected void before a letting | 18 months |
| Rent-free on the new lease | 12 months |
| Holding costs while empty (rates, service charge shortfall, insurance) | £60,000 a year |
| Letting fees, share of first year's rent | 15% |
| Buyer's discount rate | 8% |
| Guarantee: top-up of the rent shortfall on the vacant units | 24 months |
Full income: £1,500,000 + £250,000 = £1,750,000. Price at 6.5%: £1,750,000 ÷ 0.065 = £26,923,077, about £26.92m.
The units produce no rent for 18 months of void plus 12 months of rent-free: 30 months. Monthly amounts are discounted at 8 per cent a year.
Lost rent: 30 months of £250,000 a year, £625,000 undiscounted, £566,731 in present value.
Holding costs: 18 months at £60,000 a year, £90,000 undiscounted, £84,727 in present value.
Letting fee at month 18: 15% × £250,000 = £37,500, £33,411 in present value.
Total cost of the vacancy: £684,869. Price without a guarantee: £26,923,077 − £684,869 = £26,238,208.
The vendor tops up the shortfall for 24 months: £500,000 undiscounted, £461,936 in present value. It covers rent only.
Uncovered: 6 months of rent after the guarantee expires (£104,795), the holding costs (£84,727) and the letting fee (£33,411): £222,933.
Maximum price with the guarantee: £26,923,077 − £222,933 = £26,700,143.
In Excel, with monthly rent shortfall in column B, the guarantee payment in C and the month number in A: =SUMPRODUCT(B2:B43-C2:C43,1/1.08^(A2:A43/12)), plus the holding costs and fee discounted the same way.
| Void, months | Months without rent | Vacancy cost | 12-month guarantee | 24-month guarantee | 36-month guarantee |
|---|---|---|---|---|---|
| 6 | 18 | 418,450 | 178,599 | 65,420 | 65,420 |
| 18 | 30 | 684,869 | 445,018 | 222,933 | 118,139 |
| 30 | 42 | 931,554 | 691,702 | 469,618 | 263,984 |
Even a guarantee that outlasts the vacancy leaves the holding costs and the letting fee with the buyer: £65,420 on a 6-month void, £118,139 on an 18-month one. A guarantee that also covers rates and service charge removes the holding costs, leaving £138,206 uncovered in the base case. The length of the guarantee should be set against the void plus the rent-free, not against the void alone.
Pricing the building at 6.5 per cent on £1,750,000 treats the guaranteed £250,000 as if it were secure lease income. It is two years of cash from the vendor. On the income actually secured by leases, the yield on £26.92m is 5.57 per cent, not 6.50. The difference matters most at the guarantee's expiry: if the units are still empty then, the £250,000 capitalised at 6.5 per cent, £3,846,154 of the price, rests on a letting that has not happened, and the next valuer will deduct the void again.
The second mistake is ignoring who pays. A vendor selling through a single-asset company will usually distribute the sale proceeds. Unless the guarantee is backed by a parent, a bank guarantee or cash held back from the price, it may be worth much less than £461,936. The usual protection is a retention from the purchase price released month by month as the guarantee is earned, sized as in how to size a retention on a property purchase.
For the bid: state the price two ways, vacancy-adjusted (£26.24m here) and as-if-let less the uncovered cost (£26.70m), and let the vendor choose between a price cut and a guarantee that is secured.
A rent guarantee is a cash flow, not a lease. Value it at what it will actually pay, compare it with the full present value of the vacancy, and price the gap: on these figures £222,933, or 0.83 per cent. A rent-free period on an existing lease is a simpler case of the same arithmetic, worked in how to adjust a purchase price for a rent-free period. The book's income account, with its re-letting rule and a void applied to every expiry, is in the free workbooks for this book.
At least as long as the expected void plus the rent-free period on the new lease. With an 18-month void and 12 months rent-free, the illustrative units earn nothing for 30 months; a 24-month guarantee leaves six months of rent, £104,795 in present value, plus holding costs and fees uncovered.
No. The guarantee is a temporary cash flow from the vendor, not a lease. In the illustrative case the asking price of £26.92m capitalises £250,000 of guaranteed rent at 6.5 per cent, £3,846,154 of value; on lease-secured income alone the yield is 5.57 per cent, not 6.50.
Hold back part of the price as a retention or require a parent or bank guarantee. A single-asset vendor usually distributes its proceeds after completion, so an unsecured promise to pay £500,000 over two years may be worth far less than its £461,936 present value. The retention is released as each month's top-up falls due.
This article is one calculation from Commercial Real Estate Investing. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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