Why Do people Conduct Due Diligence Inspections?Conducting due diligence on a building allows you to uncover all the critical information that may affect the buyer’s investment decision. From a buyer’s perspective, due diligence is considered a ‘saving grace,’ it can save you from making a bad investment, and provide you with negotiation material that can impact the sale price.
For owners, Due diligence determines if its the right time to buy, sell, renovate, or refinance. Due diligence can be used to find the best investment property to match for your needs or can be used to evaluate a pre-selected property.
Who Perform’s Due Diligence ActivitiesTypically, both buyers and sellers are involved in the due diligence process. However, the responsibility falls heavily on the buyer to uncover risks and provide an outcome that aligns with the property owners’ goals.
As a multi-family property manager, you can expect to be involved in the due diligence process in two ways:
- Lead the evaluation and due diligence process for the property owner (common for smaller companies).
- Assist a broader due diligence reporting team. Commonly you will be assigned specific responsibilities within the operation (common for larger companies).
Risk AnalysisMeasuring risk is not an easy task. Over time, you will find that some properties are more impacted than others. These factors can include:
- Inflation trends
- Interest Rates
- Management Capability
- Current Market Condition
- Physical Renovations
- Out of date issues
- Employee performance
- Community & Local changes
Overview Of The Due Diligence ProcessBefore beginning the due diligence process, a clear set of investment goals, defined by a prospective buyer. Typically the process will look like the following:
Rent Roll AnalysisThe purpose of analyzing a building’s rent roll is to determine whether rent information, lease term durations, charges & prices, rent delinquencies, and write-offs are accurate.
Process:Compare and contrast resident leases and lease file contents to rent roll data. You should evaluate rent roll data using an in-house/ on-site audit. Do not rely on the seller for your information
Service and Maintenance AgreementsThe main reason you should review the service and maintenance agreements so that you can get a solid understanding of what obligations you have. This includes the price and period of the contract. You should also review cancellation and renewal clauses.
Process:Examine and review all terms and pricing grids for service and maintenance agreements. This should include services such as; landscaping, elevators, rubbish removal, general cleaning, electronic maintenance, mechanical services, and more depending on the requirements of your building. Check the fine print – can you cancel each agreement? How much notice do you have to give? What are the terms for cancelation?
Once you have reviewed all terms and prices, check for regularly occurring performance issues that happen with service providers, you need to ask yourself is the persisting problems indicate future costs?
Comply With Local And Government LawsAs part of your multi-family due diligence process, you need to ensure that the building in question is under compliance with local laws and regulations.
Detail and review the legal requirements and regulations associated with owning and maintaining a large multi-family building. You can assess your compliance and understanding by asking yourself these questions:
- Are local building codes permitting of current and future building state and use?
- Are the surrounding areas (roads, streets, utilities, etc.) causing property boundary compliance issues?
- Have you considered the environmental issues associated with the multi-family building’s location? (It’s common for inspection firms to provide an opinion report on the ecological issues surrounding the property.)
- Are your current areas not in compliance “grandfathered,” which means they are protected by age and do not require fixing?
- Is the building a new build? Ensure that new construction projects variants such as building height, floor area aspects, parking space regulations, etc. are all inspected and within compliance locally and nationally.
Physical Inspections For Multi-Family Due DiligenceThe goal of any due diligence physical inspection is to assess the entire condition of the building, its whole mechanical components, structural integrity, required renovations and other aspects that will impact the cost and sale of the building in mention.
- Obtain and inspect the history of building repairs, maintenance, and compliance checks.
- Carry out and inspect each element of the multi-family building. Exterior, Apartment Mechanical, Common area, unit, and building inspections are all crucial when doing physical due diligence inspections.
Inspect And Review Insurance Policies/ Risk Management ClaimsAssessing your insurance policies and risk management claims allows you to understand a property’s genuine liability risk.
- Obtain and review the buildings current insurance coverage
- Asses claim information if the current owner allows you to view them
- Do a risk analysis that details the chance of incidents and impacts to the multi-family building
- Confirm the properties recorded value
- Compare and contrast the recorded value to similar, comparable properties to uncover potential tax evasion
- Check and confirm there is no expiring tax abatement
Additional Property Associated With The PurchaseWhen conducting a due diligence check on your multi-family property, you need to check and confirm what personal property will stay within the property. Typically, personal items with their combined value get included on a UCC -1 form.
- Request the seller’s inventory of all the personal property. Check to see if this includes each apartment unit’s appliances.
- Ensure that the sellers’ inventory list is correct by performing an additional physical inspection checking the personal property before closing the deal.
Carry Out A Market StudyThis final step is used to confirm the building’s market value and to check that it is relative to similar properties.
- Review the current strength of the local economy, rental prices, policies, absorption rates, and growth trends and predictions.
- Detail the potential impact of each of the above items on the property.
- Do not rely on a market study given to you by the owner and or broker. Use a qualified management company to complete the study, whether you use an in-house team member or hire a third-party contractor.
Closing Questions To Ask Yourself
- Was there a specific situation that you remember the most when you were conducting your multi-family due diligence inspection?
- Did your due diligence process uncover any red lights that are about the above situation?
- Of each inspection process (Physical, documentation, compliance, etc.) which area presented the most obstacles from an investment standpoint?
- What else gave you hesitation to move ahead with purchasing the property? How will you navigate that to eliminate doubt and ensure your purchase is smart?