CREJ - Multifamily Properties Quarterly - May 2016
During commercial property transactions, often it is mandatory to perform some level of environmental due diligence to ascertain the properties being purchased are not contaminated or likely to cause potential environmental concerns. However, prospective buyers can make fatal mistakes by not doing a sufficient level of environmental due diligence, resulting in having to pay significant financial damages. Many people who apply for a loan to buy a property, by their own choice, do not want to conduct an appropriate Phase I Environmental Site Assessment because they want to close the transaction quickly and, usually, are only interested in meeting a lender’s minimum requirements. To quickly close the deal, buyers and lenders typically try to guide environmental due diligence to their predetermined outcomes to minimize or incompletely identify environmental conditions. Simply satisfying a lender’s minimum environmental due diligence requirements does not guarantee protection from federal and state environmental cleanup liability. The value of an environmental site assessment greatly relies on the skill of the consultants involved. In recent years, the risk of liability, competition among firms and low profit margins for Phase I ESAs contributed to a reduction in the number of qualified consulting firms willing to perform these services. In spite of this, and even as demands on consultants increased, the price of a Phase I ESA has dropped significantly. This problem is aggravated by the tendency to retain the lowest bidder, because the differences among assessments is unknown and the real value of the environmental due diligence often is interpreted as a “necessary evil” imposed by the lender. Consequently, even consultants who would like to produce a quality work product are under pressure to complete their task as quickly and cheaply as possible. This trend presents severe risks for those who rely on environmental site assessments to make critical decisions, as well as consultants. Aside from obvious liability for remediation costs in the event that contamination is overlooked, the property’s value may be seriously undermined. Additionally, business operations at the properties could be affected by remediation activities and delays caused by such activities could result in increased holding costs and lost opportunities. Quality of Phase I ESAs varies greatly from company to company even though the same standard (ASTM E1527-13) is used as a basis. Parties who order Phase I ESAs from consultants range from large lending institutions and real estate developers to small mom-and-pop storeowners to people investing their retirement fund on properties. In addition, a Phase I ESA can cost as little as $1,000 to as much as $20,000, depending on the location, size and condition of the properties. All of these variables play a role in determining the quality of Phase I ESA. These variables also confuse prospective buyers. Among so many environmental consultants promising most cost-effective and incomparable environmental due diligence services, how should a buyer make an informed decision? From the perspective of buyer, the significance of selecting a competent environmental due diligence consultant cannot be overstressed. We provide the following recommendations to prospective purchasers: • Even if you are buying a property without going through a lender, do your diligence and hire an consultant to do a Phase I ESA. • Do not shop around for the lowest bidder. Try to avoid those consultants who promise a Phase I ESA for $1,000 within one week. Too much risk is involved with buying a property not to conduct a thorough environmental assessment. • Request a statement of qualification from the consultant you plan to hire. • Additionally, before engaging your consultant, confirm that he carries liability insurance. • Try to hire a consultant who understands your business risk. A Phase I ESA can have various recommendations based on the type of transactions and lender’s requirements. • Talk to your consultant and define clear objectives of a Phase I ESA to be conducted. A comprehensive scope of work should be developed with your consultant that focuses on the purpose of the transaction, the need of prospective buyers and is consistent with current standards. • There are Phase I ESA reports generally viewed as seller’s Phase I ESAs and buyer’s Phase I ESAs. A consultant hired by a seller may attempt to mitigate any on-site issues. On the other hand, a consultant hired by a buyer may try to be more conservative. Do not rely completely on seller-provided information and documents. • Go beyond what a typical Phase I ESA does. This can be done by hiring qualified consultants, giving them sufficient time (three or four weeks) to complete the work, requesting all regulatory agency files to be reviewed and providing them complete access to the property. When in the market to buy a used car, almost everyone uses Carfax to check the vehicle’s history. Regardless of a lender’s requirements, when you are spending lots of money on a property, why would you try to get away with doing an incomplete environmental due diligence, just to save a few hundred dollars? Take your due diligence seriously and understand the process before you buy. Most importantly, do your research before retaining an environmental due diligence consultant. This will be the most critical variable during the process.