Think again! Completing recommended due diligence for the purchase, sale or leasing of a commercial property can provide peace of mind, satisfy your investors, lenders and insurers and can save you money.

The purpose of this blog is to refocus and remind ourselves of the benefits of conducting environmental and building due diligence during a commercial real estate transaction.

Due diligence during a commercial real estate transaction is common

We complete due diligence (whether we realize it or not) for just about everything in our lives; from purchasing clothing to buying a car. The same applies to the purchasing of property whether developed or not. Property transactions in the past were relatively simple and likely included a walk of the property and an agreed upon transaction price. Much has changed since those simple times – guidelines, regulations, standards, protocols, databases have been developed to provide a standardized industry review process for environmental and building condition assessment during real estate transactions.

Due diligence during a commercial real estate transaction is common

Due diligence may include:

• A Phase I Environmental Site Assessment (ESA);
• A Baseline Property Condition Assessment (BPCA);
• A Phase II ESA (usually based on the conclusions of the Phase I ESA); and
• Remediation or completion of a Risk Assessment if the property is contaminated.

As a minimum, the Phase I ESA and the BPCA should be completed and be conditions for a property transaction.

Phase I/II ESA

Typically, a Phase I ESA is completed using a standardized approach to identify and document potential environmental impairment, risk or potential liability. In 2001, the Canadian Standards Association (CSA) developed a guidance document for completing Phase I ESAs known as CSA Z768-01 (November 2001, reaffirmed 2012). The purpose of CSA Z768-01 stated that a “Phase I ESA is to identify actual or potential site contamination” and was developed to:

• Assist in reducing uncertainty about potential environmental liabilities;
• Assist in making informed decisions about property transactions;
• Identification of baseline environmental conditions;
• Assist in meeting regulatory requirements (not a compliance audit); and
• May be a basis for further investigations on a property.

As part of the Phase I ESA, a review of current and historical records is completed to evaluate the environmental status of a site based on an examination of past and current land use practices and activities conducted at the property. The records review typically include, fire insurance maps, aerial photographs, Property Underwriters reports/plans, Municipal directories, title searches, any previous environmental reports, and should include regulatory searches such as Ecolog ERIS (utilized for identifying hazardous waste generators in the surrounding area), Technical Standards &Safety Association (TSSA) and the Ontario Ministry of the Environment and Climate Change (MOECC) database.

The Phase I ESA may identify that past or current operations have or have the potential to contaminate the property. The MOECC has a list of over thirty property uses/activities that can result in property contamination included in their Brownfield Regulation (Ontario Regulation 153/04). Some activities have a greater probability of resulting in property contamination such as retail fuel outlets, dry cleaners, chemical storage, fuel oil storage tanks, and operations that generate waste. In this case, a Phase II ESA may be recommended to assess the quality soil, surface water and groundwater conditions at the property. The CSA has develop a guidance document (CSA Standard Z7769-00) for completing Phase II ESAs. Samples of surface and the sub-surface soil, surface water, groundwater and other materials are collected and analyzed for contaminants related to current or past site activities. The analytical results are evaluated and assessed in the context of relevant environmental legislation regulations, guidelines or specific client requirements to determine the need for mitigation either remediation or risk assessment.

Baseline Property Condition Assessments

Similar to a Phase I ESA, a BPCA provides a comprehensive assessment of building systems for building owners, purchasers, financial lenders, insurers and facility managers since all are stakeholders that have an interest in the value of a real estate asset. A BPCA consists of an on-site inspection of the building(s) which is used to gather information and record on-site conditions and deficiencies. The collected data is analyzed and systematically documented in the BPCA report outlining the typical lifespan of building components and repair and replacement recommendations complete with estimated reserve costs over the course of a pre-determined term. These costs can be substantive and can affect the value of a property.

BPCAs are conducted in accordance with ASTM E 2018 – 15 “Standard Guide for Property Condition Assessments: Baseline Property Condition Assessment Process” and include evaluation of the following building systems:

• Roof Systems
• Wall Systems
• Structural Elements
• Vertical Transportation Systems
• Interior Finishes
• Site Features
• Mechanical Systems
• Electrical Systems
• Fire Protection and Life Safety Systems

A BPCA typically provides a visual examination of accessible components of a building, however, the scope of work can also be combined with a Specialist Review which offers an in-depth assessment of selective building components. Intrusive or destructive testing may be used to verify the condition of complex or concealed building systems by technical specialists with expertise in fields such as roofing, glazing, structural, mechanical, electrical, fire and life safety code compliance.

Knowing if large capital expenditures are required to keep the building in “good working order”, now or in the near future, can affect the proforma and return on investment. Having the knowledge of a BPCA means a plan can be developed for these expenditures that will help with forecasting cash flow, tenant disruption, and expectations for investors.

A BPCA and a Phase I ESA provide a clear understanding into the current condition of assets and property and are essential to limit risk and make informed decisions on real estate purchases.

EA and BPSA due diligence should be undertaken only by a highly trained consultant and as always, a competent Property Manager can help with this process.

Acknowledgements:

Paul McVeigh, Director of Finance, The Armadale Group
Elizabeth Whitton, Director of Marketing and Leasing, Armadale Property Management
Robert Daciw, Director, Real Estate Due Diligence, Pinchin Ltd.
Robert Tossell, Director, National Remediation Services, Pinchin Ltd.