Denver’s Booming Multifamily Sector: Due Diligence Guidance for Deals with “Lender TBD”

Colorado’s population growth, spurred on by a booming economy and a gorgeous landscape, have made the Front Range a highly desirable location. In addition to Colorado’s world-class universities, metropolitan hot spots Denver, Fort Collins and Colorado Springs are attracting young professionals, students and families. So much so, that Colorado’s population is spreading beyond the Front Range! Naturally, multifamily housing is a very hot sector to accommodate such high demand. In Denver alone, record housing adsorption was reached for the first quarter of 2018, with low vacancy rates, high demand, a robust construction pipeline and high growth confidence. To boot, many expanding universities in Colorado are either replacing or building new infrastructure, especially student housing. As such, the multifamily sector in the Denver/Front Range area is sizzling!

To make deals and find opportunities in a highly competitive market, developers and investors are looking to multiple available sources of lending. The biggest is Fannie Mae, as well as other agency lenders. But a rising number of multifamily projects are funded by alternative lenders and small banks. Indeed, local and regional banks are the fastest-growing lenders in the commercial real estate industry.

In situations like this, with many funding options amidst an urgent need to close on an opportunity, clients will often engage our consulting services seeking due diligence for projects and portfolios where a lender is yet to be identified. Perhaps the client is in the process of entertaining several possible sources, perhaps they aren’t sure which way their financing will go. But they want to begin the process of producing environmental assessment and physical building assessment reports that encompass a broad range of due diligence requirements. If you start your due diligence before you know where your funding is coming from, the most economical and efficient solution is to engage with a highly experienced consultant that understands different lending platform requirements and risk tolerances to produce flexible reports that can then be adapted to the necessary scope. This saves clients the headache of having to potentially start the due diligence process over again, and prolong or jeopardize closing deals.

As a minimal requirement, most lenders will need a basic Property Condition Assessment (PCA) and Phase I Environmental Site Assessment (ESA). Scope requirements and risk tolerances are nuanced and tend to vary. Certain lenders or platforms may place emphasis on a specific environmental issue and prefer an aggressive remediation timeline, while another may be comfortable with a longer-term passive approach. Likewise, for PCA reports, one lender’s approach may be insistent on an item like a roof replacement simply based on useful life, whereas a different lending platform may place more emphasis on observed and reported conditions. For PCA reports, we recommend performing the most stringent scope in the field to produce an equity-level report, then converting our report once we know where the funding is coming from.

As a market leader in Environmental and Engineering due diligence, Partner Engineering and Science works with numerous sources of capital, many of which are home to multiple lending platforms. Knowledge of platform tolerances, paired with the physical and environmental attributes of a variety of property types, is integral to our ability to consult a client or borrower while providing the flexibility in a deliverable that will be acceptable to multiple sources of capital. Lender specific requirements could require modification of reports and additional backend work in some form. However, utilizing forethought and detail in assessment scopes, knowledge of what is essential to potential capital sources and communication with your consultant can go a long way in addressing lender-specific requirements or multiple-lender specific requirements.

When working with a consultant on “lender TBD” due diligence, back end work could be required at an additional cost and requiring additional time. Ask your consultant to provide as much information as possible about these potential add-ons up front, so that there are no surprises, delays or unforeseen additional costs. Allow for enough time when discussing any change of scope of work with your due diligence service team to manage timing and additional cost.

While this feels like a complex situation to navigate, it doesn’t have to be if you ask the right questions, manage your expectations, and engage with an experienced, knowledgeable, local consultant who knows the Colorado financial and CRE landscapes. In turn, they can guide you toward the product that helps you ensure an ultimately successful transaction.