I recently attended the winter national meeting of the Environmental Bankers Association in Newport Beach, CA. The EBA meetings, which are held twice per year, provide a platform to discuss environmental risk management, sustainable development lending information and technical expertise. This year, the focus was a broad perspective of leading and lagging indicators of environmental risk and their effects on commercial real estate transactions.
Here are essential takeaway points from five key panel discussions I attended and what they portend for lenders and financial stakeholders as a whole.
Eye on the Economy: What to expect in 2018
Dianne Crocker, a Principal Analyst at EDR Insight
, spoke about economic trends for 2018. She had five broad predictions for the new year:
1. Continued economic expansion will set a record. Economic recovery usually take 8 years and we are going into year 9, which is the second longest recovery in history. A significant downturn is not expected this year, which bodes well for robust commercial real estate transactions
2. Smaller deals in secondary and tertiary metropolitan areas will be the focus, with value add and repurposing buildings (especially retail)
3. The industrial sector will be a star performer
4. More pervasive cycle awareness and efficiency (green building and retrofits) being at the forefront of driving CRE transactions
5. The future of technology is here, adding to a rapid pace of change and transactions
Results of Banker Member Survey
Moderated by Richard Ferguson, US Bank
The EBA aims to set the gold standard for environmental risk management. This panel surveyed member bankers regarding their risk tolerance. Here are the results:
• 50 banks surveyed, 29 total respondents
• Majority of banks outsource reviews in overflow situations or in large participations
• Remedial cost estimates are typically prepared internally by larger banks and by consultants for smaller banks
• If a vapor intrusion issue is identified, the majority of banks required vapor sampling
• A majority of banks are conducting a Phase I on a dry cleaner that has been operation over 5 years and only for adjacent dry cleaners if a release was reported. (Please note our recent GlobeSt blog post
on recent due diligence requirement changes by the SBA regarding dry cleaning properties.)
This is largely in line with the results of a 2016 environmental risk survey
Partner conducted, in conjunction with GlobeSt. Overall, three quarters of responders (spanning the CRE institutional spectrum) had seen a deal fall through and about a quarter had lost money on a deal due to underlying environmental issues. Nevertheless, only 14% of stakeholders would walk away from a deal with a $1 Million environmental issue on a $20 Million property. Much of that shifting perspective is because the industry has become more savvy in understanding environmental risk and finding solutions to make a deal work, with the help of knowledgeable due diligence consultants. There is a willingness to take on and manage some level of environmental risk in their deals, so long as the issue can be quantified with a price tag.
Case Study on Exide Battery Recycling Plant
• Discussed the complex management of environmental issues that arose during their investigation of Exide technology’s former operations at a battery recycling facility in Vernon California
• Operations may have resulted in
the release of lead and other metals into the environment
• 10,000 homes are located in the cleanup areas
• Department of Toxic Substances Control took over closure and cleanup
• This is biggest aerial dispersion cleanup in Southern CA, and the largest of its kind
in California history
• Disproportionality affected low income neighborhoods
Seven Habits of Highly Effective Consultants, A Bankers Perspective
Moderated by Holly Neber, AEI and Dave Lambert, Wells Fargo
• Discussed what banks look for in consultants and how firms that fully exhibit the seven Habits set themselves apart
• They understand common themes that lift overall industry practices
• They understand peer perception of value provided to enterprise risk management programs and challenges faced by the consulting community
• Gain key insight on behavior that generate value to bankers
Seismic (Business Resilience) Study
Joe Derhake and Jay Kumar, Partner Engineering and Science
Michael Cole, SunTrust Bank, Brian Morith, Freddie Mac
• Seismic studies add value to society by predicting building loss and protecting lender interests
• Policies differ from bank to bank, but banks with no seismic risk policy attract high risk buildings
• Methods of calculating probable maximum loss
(PML) also differ, but that OK. It’s acceptable that reasonable people will differ. One way to establish improved consistency is for banks to specify or adopt a single methodology for all vendors to keep an even playing field. Or sole source it!
• ASTM PML standards E2026 and E2557 exist, they were revised recently. The new standard requires a PML number, that the report address collapse potential, and that a structural engineer licensed in the state of the study conduct the site visit
• Discussed the difference between identifying properties that need a PML based on seismic maps versus peak ground acceleration – terrific resource is the USGS website
• Freddie Mac switched to Peak ground acceleration
• Many municipalities (Los Angeles, San Francisco, Santa Monica) are passing retrofit ordinances, which were discussed in detail. Seismic assessments are much more cost-efficient than retrofits, which can often pose a significant expense to the borrower. Banks would be wise to implement seismic due diligence requirements for properties in risk zones.
In general, the commercial real estate sector shows a continuing, robust trend, buoyed by a healthy economy and relatively low interest rates. However, as regulatory standards continue to expand on a State and National level, and financial stakeholders become more informed about environmental risk factors, sound environmental due diligence becomes an even more critical component of a successful transaction.