One of the best methods to become a sharper investor is to make your checklists your best friends. The focus of this post are topics to include in your due diligence checklist.
The first list to consider is the Financial Due Diligence Checklist.
Income and Expense Statements
These statements document the seller’s income from tenants and expenses to operate the property. Based on this information and the quality of the information, as a prospective buyer you should be able to determine if the performance of the property matches your yield requirements.
Rent Rolls
The rent roll has been described in some investment books as the attendance sheet for the tenants, when analyzing multi-tenant properties whether strip center or multi-family project, this should provide you with some essential information. Ask for move-in dates, expiration dates, current rents received, security deposits and then compare to the income statement to determine if the cash flow matches.
Lease Agreements
It is always good to review the lease documents, and important to have qualified professionals to review them. Estoppel Certificates are usually issued prior to closing and confirms the lease is accurate and the only one made between the tenant and the current owner.
Utility Bills
Obtain the past two year’s utility bills including water, sewer, electric, gas, phone, cable, internet and compare to the P&L for accuracy. By re-evaluating, you can determine if the deal is still worth pursuing.
Property Tax Bills
Verify the past two years of property tax bills and compare to the P&L and review for discrepancies. Also, contact the tax assessor’s office and find out if you become the new owner if a property tax reassessment may affect you. If an increase is anticipated then make adjustment to your calculations in your pro-forma.
The next list to consider is the Physical Due Diligence Checklist…
It may not always be possible or probable, but ask the seller for the following.
Site Plans and Specifications
This group of documents includes the building plans, schematics, floor plans, and land use documents when the building was first built and may prove helpful in better understanding the original purpose of the property and how modifications can fit your purpose.
Photos of the Property
Photos of the exterior, interior and all the surrounding land and structures should be taken. Also aerials are quite helpful to understand the placement of the property in proximity to area retail districts, competitors, residential neighborhoods and the entire vicinity. This may aide in assisting you in determining what obstacles you may be facing now or in the future.
Interior Systems Inspection
Inspection the interior of the property for wear and tear, inquire about the age of the roof, and building code violations and governmental compliance issues.
Mechanical and Electrical Inspection
Make sure every mechanical and electric system is inspected including the HVAC, plumbing, electrical power and gas equipment and systems.
Obtain a list of Capital Improvements
Any confirmation of improvements completed in the past five years to be provided from the seller would be helpful to assess the condition of the property. Also this documentation would serve as a guide for future maintenance or replacement costs to be incurred.
This may not be necessary for all structures, however may be a lender requirement, most multi-family properties would have records on hand, and if termites or other pests are found, then it is appropriate to have the property treated.
A final due diligence checklist to consider is your Legal Due Diligence Checklist. As a commercial investor, it is worthwhile to employ the services of a qualified attorney who has experience with real estate transactions.
An Environmental Inspection
In today’s lending environment, most lenders will require a Phase I Environmental Assessment and it is important to employ the services of a reputable environmental consultant, as well as having an attorney versed in understanding the basics of the issues related environmental issues and law. Although these reports are sometimes quite cumbersome, make sure you read through the report thoroughly, if you do not understand everything, make sure you find someone who can help you, usually your consultant is the best bet. You want to make sure the property is free of potential problems, find out now or pay later.
Survey and Title Inspection
Again, most lenders will require an up-to-date survey to be completed on the property. The title company will verify the legal description matches the survey, also they will check for liens, judgments, easements, encroachments on the property which could adversely affect the use or value of the property.
This is a matter of traveling to the city’s planning department and verifying with the local officials there are no issues of concern.
Zoning Code
Every property has a specific use permitted, you need to review the city’s zoning ordinances to make sure it complies with what it is legally zoned for. Most lenders will not extend a loan on a property unless they know it is properly zoned for the intended use.
Insurance Policy
Ask to have a current copy of the property insurance and investigate the claim history. The property’s claim history serves as a report for prior issues, e.g. roof leaks, fires, flooding, lapse of coverage or policy cancellations.
Licenses, permits and certificates
Some of these items are necessary to operate a business, so make sure you get them from the seller. If not, check with the city officials and make sure you are in compliance with all local codes to avoid future fines.
Service and Vendor Contracts
Review all service and vendor contracts to make sure you have the right to choose, discontinue services if desired and review charges.
Personal Property Inventory
Obtain a list of all personal property such as tools, equipment, computers, furniture, supplies and appliances to remain, document all of them to ensure they stay. In most transactions, a bill of sale form is prepared to document the personal property transferred to the new owner. This should be addressed in the purchase agreement.
Police Reports
Finally, you want to check with the local authorities to determine if the property you are seeking to acquire has a quiet or active record. This is definitely something you want to know before you purchase. This is quite common when especially when evaluating multi-family projects.
I hope this list provides you a summary of what to consider when making your purchase. It is always good to work with a professional Realtor familiar with this process to assist you to make your transaction smooth and hassle free. The assistance of a professional will help guide you through the bumps and curves in the road to hopefully achieve a successful close and the beginning of a new venture. If you have questions or comments, please call me at (812) 528-3028.
