Since Christie’s and Sotheby’s introduced the buyer’s premium in 1975 in England, and soon after (1977) in the United States, the buyer’s premium has been part of the auctioneering landscape in the United States.

We wrote about the buyer’s premium some time ago, and today wish to evaluate how the buyer’s premium translates, as a net effect, into seller commission and net to the seller.

Our work centers on this question — if one auctioneer charges 15% seller commission and another charges 15% buyer’s premium — how can we compare these two pricing structures to find which results in more net to the seller.

Some work was completed on this topic by Jonathan K. Wu (Wu), Director of Liquidity Services, Inc. in 2008:

Wu concluded that:

“A sales commission of 1% reduces the seller’s revenue more than a 1% buyer’s premium. In fact, as the sales commission increases, its negative impact on the seller’s revenue accelerates when compared to the buyer premium.”

An example of Wu’s analysis would be as follows:

• Seller A hires Auctioneer A who charges Seller A 15% seller commission and no buyer’s premium. The auction totals $10,000 and Seller A nets $8,500.
• Seller B hires Auctioneer B who charges Seller B no seller commission and 15% buyer’s premium. The auction totals $10,000 + 15% = $11,500 and Seller B nets $10,000.

Using Wu’s formulas, the “net effect of the buyer’s premium” in terms of seller commission can be calculated as follows:

• Seller A pays a net seller commission of 15.00%
  [(10,000 – 8,500)/10,000]
• Seller B pays a net seller commission of 13.04%
  [(11,500 – 10,000)/11,500]

Further, to demonstrate Wu’s assertion that as the seller’s commission increases, it has an accelerated effect on the net to seller compared to the buyer’s premium.

Let’s say Auctioneer A charges 30% seller commission (instead of 15%) and Auctioneer B charges 30% buyer’s premium (rather than 15%). For that $10,000 auction, we see the following:

• Seller A pays a net seller commission of 30.00%
  [(10,000 – 7,000)/10,000]
• Seller B pays a net seller commission of 23.08%
  [(13,000 – 10,000)/13,000]

As Wu might suggest, when we double (100%) the seller commission from 15% to 30%, the equivalent buyer’s premium increase from 15% to 30% only affects the seller by an actual increase of about 77%.

However, this analysis begs another question … for our Seller A, do those bidders only bid up to $10,000 when for Seller B they too bid up to $10,000 knowing they will be surcharged?

Why would Seller A’s buyers not bid higher than Seller B’s buyers since they pay no buyer’s premium? Wu’s analysis suggests that the hammer price is the same, regardless of the use of a buyer’s premium.

Is Wu’s analysis flawed? Selling at auction is not a one-sided picture, where we can adjust costs associated with buying, and not expect buyers to modify their behavior. If Wu’s analysis was correct, there would be no limit to what auctioneers could charge as a buyer’s premium. Why not 5,000%?

Taking a stab at correcting Wu’s analysis, let’s assume that buyers do modify their bidding given a buyer’s premium compared to no buyer’s premium.

• Seller C hires Auctioneer C who charges Seller C 15% seller commission and no buyer’s premium. The auction totals $10,000 and Seller C nets $8,500.
• Seller D hires Auctioneer D who charges Seller D no seller commission and 15% buyer’s premium. The auction totals $8,695.65 + 15% = $10,000 and Seller D nets $8,695.65.

Using this revised view, the buyers in Seller D’s auction bid less than $10,000 to compensate for the 15% buyer’s premium, thus bidding just as much in total as Seller C’s buyers; the “net effect of the buyer’s premium” in terms of seller commission can be calculated as follows:

• Seller C pays a net seller commission of 15.00%
  [(10,000 – 8,500)/10,000]
• Seller D pays a net seller commission of 13.04%
  [(10,000 – 8,695.65)/10,000]

Further, to demonstrate if Wu’s assertion remains correct that as seller’s commission increases, it has an accelerated effect on the net to seller compared to the buyer’s premium.

Let’s say Auctioneer C charges 30% seller commission (instead of 15%) and Auctioneer D charges 30% buyer’s premium (rather than 15%). For that $10,000 auction, we see the following:

• Seller C pays a net seller commission of 30.00%
  [(10,000 – 7,000)/10,000]
• Seller D pays a net seller commission of 23.08%
  [(10,000 – 7,692.31)/10,000]

What appears here to be clear is that indeed the buyer’s premium has a less than “face value” effect when expressed as a net seller commission — just exactly as Wu stated — but the actual net to seller is not adjusted upward nearly to the extent as Wu suggested if buyers adjust their bidding according to total cost of purchase.

Looking back, let’s compare Sellers A & B against Sellers C & D.

• Seller B earned $1,500 more than Seller A by employing a 15% buyer’s premium instead of a 15% seller commission.
• Seller D earned only $195.65 more than Seller C by employing a 15% buyer’s premium instead of a 15% seller commission.

Lastly, how do bidders actually calculate the buyer’s premium into their bidding? I asked a long-time auction attendee the other day about an item worth about $1,000.

I asked him what he would bid if we charged him a 15% buyer’s premium. His reply? “Well, I could only bid $850 as I would have to deduct the 15% you’re making.” Actually, he could bid up to almost $870 ($20 more) but that calculation is not overly obvious.

If this is the actual behavior of bidders — that they deduct the buyer’s premium from the total they wish to pay — then the actual net to seller is the same for a 15% seller commission and a 15% buyer’s premium.

If buyers miscalculate the buyer’s premium effect — from the gross rather than the net — then our comparison looks like this:

• Seller E hires Auctioneer E who charges Seller E 15% seller commission and no buyer’s premium. The auction totals $10,000 and Seller E nets $8,500.
• Seller F hires Auctioneer F who charges Seller F no seller commission and 15% buyer’s premium. The auction totals $8,500 + 15% = $9,775 and Seller F nets $8,500.

Using this further revised view, the buyers in Seller F’s auction bid less than $10,000 to compensate for the 15% buyer’s premium (but calculate it based on the gross, rather than the net) thus bidding less in total than Seller E’s buyers; the “net effect of the buyer’s premium” in terms of seller commission can be calculated as follows:

• Seller E pays a net seller commission of 15.00%
  [(10,000 – 8,500)/10,000]
• Seller F pays a net seller commission of 13.04%
  [(9,775 – 8,500)/9,775]

In this last view, Auctioneer E receives $1,500 in commission (15%) and Auctioneer F receives $1,275 in commission (13.04%). In other words, if bidders behaved in this fashion:

• Charging a 15% seller commission results in the seller receiving $8,500 in net proceeds, and the auctioneer making $1,500 in commission.
• Charging a 15% buyer’s premium results in the seller receiving $8,500 in net proceeds, and the auctioneer making $1,275 in commission.

In this case, the buyer’s premium results in lessening the auctioneer’s commission, while keeping the seller’s net proceeds the same.

So, what have we discovered:

• If bidders disregard the buyer’s premium when bidding, the same buyer’s premium nets the seller and auctioneer more.
• If bidders correctly calculate the effect of the buyer’s premium, the seller nets a bit more, and the auctioneer earns a bit less.
• If bidders miscalculate the effect of the buyer’s premium, the seller nets about the same, and the auctioneer earns less.

Mike Brandly, Auctioneer, CAI, AARE has been an auctioneer and certified appraiser for over 30 years. His company’s auctions are located at: Mike Brandly, Auctioneer, Keller Williams Auctions and Goodwill Columbus Car Auction. His Facebook page is: www.facebook.com/mbauctioneer. He serves as Adjunct Faculty at Columbus State Community College and is Executive Director of The Ohio Auction School.