Managers’ critical role in the due diligence process

Laura Cain, LEED Green Associate
General manager, M & J Wilkow Properties LLC

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Buying and selling commercial properties can be a chaotic process. Current owners painstakingly craft the best narrative to sell the asset while brokers study market trends in order to prepare an eye-catching offering memorandum. During due diligence, which is the analysis period during which prospective real estate buyers carefully inspect the fundamentals of a property, questions are frequently fielded by the management team. While many investors keep a “war room” of key digital document, the majority rely on their management team to keep all records organized and readily available. When the idea of a building sale is looming over the team, ask yourself, “Could I produce an accurate rent roll, stacking plan or list of current service contracts within a few mouse clicks?”

Planning the tour. Due diligence will present many opportunities to tour the asset, interview tenants and possibly meet with key vendor partners. If a predetermined tour path is part of the agenda, reach out to the janitorial provider and request a walk through. Are there fingerprints on the light fixtures? Can scuffs on the walls be removed? As a manager, this is the moment to shine. You are potentially interviewing for a position. Highlight successful tenant events and specific feedback received from tenants. Make it known through each interview that you value the relationships with your tenants and vendors.

Don’t forget the back of the house. Consider the mechanical rooms. Investors who opt in for a tour of the back-of-the-house areas may learn the most about the team and the building just by the condition of these areas. It speaks volumes to an investor when mechanical areas are free of clutter, labeled, routinely painted and maintenance logs are visible. These areas can reflect the overall feel for the maintenance program, the asset and the team in place. This also may be a great time to discuss the preventative maintenance program and any cost-savings measures the team has adopted. Ensure the team walks the tour path prior to all scheduled appointments and allow enough time to tend to any issues that arise on the walk through.

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Bring in your team. The chief engineer may have an alternate perspective that will come of great value throughout the due diligence process. While these people may not be front and center with the investors, they often have a greater understanding of the mechanical equipment and the value future projects can bring to the asset. Walk the tour path with the chief and ask questions about equipment when uncertain.

A tour folder or “cheat sheet” should be readily available and contain, at minimum, a current stacking plan, rent roll, floor plans, three-year history of operating expenses, large capital and repair and maintenance projects and associated costs, sustainable measures, specs on mechanical equipment and life expectancy. Because of his unique perspective, ask the chief engineer to review the tour folder. He may have insights on a project or nuisance that was overlooked.

Thinking ahead. Prepare a wish list of capital items to be completed over the next five years. Can any of the suggested projects be amortized into operating expenses? Share the five-year capital plan with the asset manager and ask for feedback. Explain any items that were deferred due to the building sale so as the tour takes place, the asset manager is aware of any conditions that may be encountered.

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During due diligence, brokers will request income statements, rent rolls, common area maintenance reconciliations and other financial documents. It is the manger’s role to ensure all deliverables are accurate. If there are red flags, report them to the asset manager and request direction. During monthly reporting, take a few extra minutes and audit these reports. This way, when the day comes to enter due diligence, the reports are familiar and there is more confidence in the review.

Communicating with tenants. Due to the sensitive nature of a building sale, most tenants will be unaware that the building is on the market until they are invited to an interview with the potential new owners. Prepare a narrative to explain the situation to tenants and offer to make the introduction on behalf of the current owner. Inform major vendor partners of the upcoming sale and the expectation of the building’s appearance.

Tenants will execute an estoppel to acknowledge that ownership is changing hands, their lease will be assigned to the new owner and the terms outlined in the estoppel match what they believe to be true under the lease. Prior to sending the estoppel to tenants for execution, verify that all information is accurate to eliminate any revisions in the process.

Making the transition. When the time comes to transition to the new owner, request a meeting to review the transition expectations. Whose role is it to inform tenants, vendors, utility companies and others? When will updates on payables be sent to vendors? Who will obtain new insurance for tenants and vendors? Be ready with a key list of items to allow for a smooth transition for both the new owner and the on-site team.

By being proactive prior to due diligence, the skill level and organization of the team will be highlighted by the chaotic building sale process. Taking time up front to organize and strategize will alleviate some pressure throughout the process.

As Abraham Lincoln once said, “Give me six hours to chop down a tree and I will spend the first four sharpening the axe.”

Featured in CREJ’s April 2019 Property Management Quarterly

Edited by the Colorado Real Estate Journal staff.