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Six Reasons to Direct Your Own Due Diligence

Here are the top 6 reasons why you should direct your own environmental and engineering due diligence.

Are you an equity or institutional owner/operator of a commercial real estate asset?  Or are you an investor considering the purchase of an asset?  During commercial real estate transactions, many rely on due diligence directed by other parties in the transaction – but it is risky to put your interests in the hands of others. Of course, a report from a reputable consultant can be a valuable resource to provide preliminary information about at asset. But regardless of what side of the transaction you’re on – whether you’re the seller, buyer or lender – it pays to control your own due diligence assessments. Here are the top six reasons why it is in your best interests to hire your own team to perform environmental (Phase I Environmental Site Assessment) and physical (Property Condition Assessment) due diligence.

1) It is confidential.

The information gathered by the professionals you hire will be provided to you directly, rather than via a third party. This keeps you in a proactive, rather than a reactive, position. For an added layer of protection, you may wish to establish attorney/client privilege via your legal counsel. If as the seller you elect to provide your due diligence reports to a potential buyer and/or lender, your team would provide reliance to that party. This provides enhanced liability protection to you as opposed to being in the second position if the lender contracted the consultants and reliance was issued to you secondarily.

As the client, you will get a heads up from the consultant on issues identified before the report is published and potentially made available to others. That advance notice provides you with a critical opportunity for considering and managing any issues proactively, and likely minimizing any hiccups that could slow down the deal process.

Susan Phillips, an environmental law partner in the law firm Mintz Levin, advises “I don’t recommend that a client rely on an environmental investigation done for another party. Relying on the work of others can mean you fail to qualify for certain legal defenses, and you are accepting the level of investigation done for a party whose risk tolerance and goals are different from your own."

Furthermore, you have no recourse if the reports are deficient without a reliance letter from the consultant. And, even with a reliance letter you are subject to the same terms of the contract under which the work was done that may have, among other things, a limit on the consultant’s liability. The risk of relying on work done for someone else can be far greater than any money saved; you are much better served by doing your own investigation with a consultant who understands your goals and has a contract directly with you.”

2) It is your scope of work.

By taking ownership of your due diligence, you determine the scope, schedule, and budget. That means your interests are served first. You may have particular risk tolerance concerns that are unique to your business. For example, are the tenants sensitive regarding mold? How concerned are you with chain of title and/or liens? How tight is your timeframe? If you are calling the shots, the scope will be developed to reflect your needs and objectives, and no unnecessary or costly scope items will be dictated to you by a third party.

Consider an example where the client is already the owner/operator of a property and is used to equity-level work, but in this instance, the client goes through a lender who does debt-level reviews that do not typically provide the same level of detail and information that they use in their underwriting. The lender PCA cost table includes just flat costs, such as replacing a single window, which is not customized to the building type, condition, grade, energy efficiency, etc. This limited window replacement cost won’t help the client with their capital planning process in the long run as they own and operate this asset. Accurate costs, gathered from a variety of sources, including RS Means and direct contractor quotes specific to the subject property, would better serve this client’s interests. Term table costs are typically incorporated into the Argus Model will readers know what this model is? by the asset management team. These estimates can use union rates and/or weekend/overnight rates as needed, and are verified and corroborated to ensure accuracy.

3) It is your risk tolerance.

The lens through which an owner/operator and/or equity investor views the onsite environmental and physical condition of the subject property is different from that of a lender or financing entity. Your risk tolerance and point of view in a transaction is what determines whether any potential concerns fit within your risk profile.

This may help explain why lighter due diligence could be warranted work if the “user” is a lender but insufficient detail for an equity investor to make a smart decision in an adequate timeframe. An illustrative example would be a client who went through outside counsel to a debt side consultant, but they are an institutional investor. The Phase I scope is “light” and they may have an issue such as identification of a closed UST with a No Further Action (NFA) letter, which is identified but not “closed out” during thorough due diligence. Similarly, there was an NFA but the lender claimed it may not be valid over time, and the consultant didn’t take the time to call the state to ascertain how they would review similar conditions today. Instead they just took a shortcut and proposed a Phase II with an existing MSA, rather than conducting thorough due diligence. A consultant who works for equity firms would understand that with further research, appropriate documentation, and discussion with the state agency, no further action is needed, and the Phase II could be avoided, saving the client time, money and aggravation. It would be more constructive for the equity firms to have their own consultant performing the work, who understands their risk profile and is working to serve their best interest.

4) It is your timeline.

In a rush? Or is this part of ongoing range capital planning? You control the schedule for site visits, draft and final report deliverables, that best work with your business plans. When you have a direct relationship with your consultant, you set the schedule from the outset and the team is adhering to your timeline.

5) It is your asset.

As an owner or investor you can be proactive to meet your business needs: prepare for divestiture, refinance, or insurance underwriting—the entire real estate life cycle. Working with an assessment team that understands your business objectives and risk tolerance can save a lot of headaches during the due diligence process. Keep an ongoing line of communication so that as your business needs change, your consultant can evolve along with you.

As always, caveat emptor, or buyer beware, so it is mission-critical to self-direct your pre-acquisition due diligence.

6) It is your butt on the line.

Seriously, it is your liability as investor, owner or operator. For lenders too, thorough due diligence helps protect against risky deals. Working with your consultant directly, as early as possible, from the beginning of a potential acquisition, divestiture and/or financing, means that your consultant team can provide the most direct benefit to you. Let your team help you to secure the most information during due diligence to minimize your risk of losses or liability.