Due Diligence Consultants, Inc. WHAT IS DUE DILIGENCE?      Whether you are purchasing apartments, vacant land or commercial property, a buyer is generally given a short period of time at the beginning of the transaction to investigate the property and information related to it, before they are obligated to complete the transaction. This time period, which usually ranges from a week to a few months is called the Due Diligence period. A TYPICAL TRANSACTION      Most of the time, a large real estate transaction will begin with either the agent representing the Buyer, or the Buyer themself, preparing a Letter of Intent (LOT), which is presented to the Seller. Even though the Seller signs the LOT, the Letter of Intent is not usually a binding contract. It merely sets forth the general terms on which the parties agree, such as: Identity of the Parties Property Identification Sales Price Financing Terms - Down Payment Escrow Period Length of the Due Diligence Period Any Contingencies      The Seller is generally not obligated to sell the property, even on these terms, until another document is prepared, called a Purchase Agreement. In larger transactions, the lawyers representing the Buyer and Seller actually negotiate the language of the Purchase Agreement, with input from their respective clients. The Purchase Agreement is binding on the Buyer and Seller, and it is more complete than the LOT. The Law Offices of Steven J. Zipperman, APC will assist you with drafting and negotiation the Purchase Agreement on your behalf.      Many things must be requested in the Purchase Agreement, so the Buyer will be able to evaluate them during the Due Diligence period. Each transaction is different, but there are some general things which the Seller should provide to the Buyer as soon as the contract is entered. These items may include: Copies of any current Leases affecting the property, along with any extensions, modifications, or options Existing contracts of any kind which affect the property Any notices from any governmental agency received by the Seller A list of any insurance claims made by the Seller with regard to the Property The Sellers’ income tax returns for the past three years Notes and Mortgages, whether you are assuming them or not The Seller’s Title Policy, along with a new Preliminary Title Policy The certificate of occupancy Seller’s insurance policies Evidence of compliance with the Americans with Disabilities Act (ADA) Elevator maintenance contracts and records Business licenses HVAC system maintenance contracts and records Security systems, fire sprinkler systems, telephone systems maintenance contracts and records Surveys Architectural Plans Environmental Reports The last risk assessment issued by the Seller’s insurance company. Etc.      Once the Purchase Agreement is signed, the parties are bound to purchase and sell the property. The next step is to see whether the property is going to be acceptable to the Buyer. THE DUE DILIGENCE PERIOD      The Buyer typically reserves the right to cancel the transaction without cost. The legitimate reasons to terminate the deal are called Contingencies. These must be present in the Purchase Agreement, or the Buyer will be obligated to buy the property, and will have no legal reason to reject the property. During this Due Diligence Period, the Buyer must evaluate the property and the documents provided by the Seller, before the Buyer is obligated to purchase the property. Due Diligence Consultants, Inc. assists Buyers in evaluating the documents and the property, so that the Buyer has much better knowledge about what they will be getting into, after the property closes escrow.      During the Due Diligence Period, the Law Offices of Steven J. Zipperman, APC will review the Leases in great detail, looking for terms which would be unfavorable to the Buyer, such as ways that the Tenant could terminate the Lease, how many Options that Tenant may have, any First Right of Refusal in the Lease which would allow the Tenant to purchase the property, and many other items. This is a very important part of the process, since the Buyer is trying to obtain an income stream, which may not be there after the close of escrow, unless the Lease is favorable to the landlord. In other cases, the Law Offices of Steven J. Zipperman, APC will be looking for a way to terminate the Leases, so that the Buyer can either occupy the property, or find new tenants so that they can increase the rents after the close of escrow. In either situation, the Buyer must have the Leases evaluated by a professional, or surely they will pay the price later. Other contracts affecting the property also may be unfavorable, such as a laundry lease with a remaining term of 50 years. All documents affecting the property must be scrutinized for problems that the Buyer will face after the close of escrow.      The Law Offices of Steven J. Zipperman, APC can also assist you in reviewing legal documents such as the Preliminary Title Report, which can have a profound effect on the transaction in question. Documents reflected in the preliminary title report will give you information regarding easements, rights of way, and other matters of record. The kind of deed under which the Buyer takes title is also important. In California, we use Grant Deeds, which contain two implied warranties: that the person owns the property they are selling you, and that the property is not encumbered with things which were not disclosed to the Buyer. Quitclaim Deeds do not contain these warranties, so they are not appropriate for ordinary purchases. In other states, sellers may try to use Special Warranty Deeds. These are like Quitclaim Deeds, and they only guarantee title for the time that the Seller owned the property. In those states, a General Warranty Deed is what the Buyer wants to obtain. Overlooking these small issues could cost a Buyer an extreme amount of money.      We can also point out what kinds of insurance are highly recommended, such as earthquake insurance, and what Tenant policies must have the Buyer listed as an additional insured on them after the close of escrow.      Due Diligence, Inc. will assist the Buyer with many other aspects of the Due Diligence process. We will go to the City Hall or County offices to find all of the public records related to the Property. These may include development plans, approvals, agreements of the developer with the government to do certain things in the future, or building permits. Many different things can be learned about the property from the City records and from talking with City personnel about the property. Proximity to major active earthquake faults may also be determined from speaking with the City. The police department can usually provide information about the crime statistics in the area. A website search can provide information about the demographics of the City. Our staff will drive the area in which the property is located. We can assist in conducting a rent survey, if necessary, to verify that the rents paid by tenants in this property are typical for the area, are low, or are high, when compared to other available properties. Due Diligence Consultants, Inc. can look for records of the Fire Department, regarding sprinkler systems and smoke alarms.      One of the most important areas of inquiry is environmental assessment. We can meet with environmental consultants who will perform a Phase I study on the property. A Phase I study consists of the environmental consultants looking through the public records of the water department, the fire department and several environmental databases to find any evidence of hazardous materials contamination on or near the property. They will look for the presence of underground storage tanks, both those which are present now, and those which may have already been removed, and they will look for other likely sources of contamination, such as dry cleaning establishments. Sometimes, there are monitoring wells on or near the property. The records related to those wells will be reviewed. Due Diligence Consultants, Inc. will meet with the environmental consultants and will walk the property with them, asking relevant questions as they go. A Phase I report will be prepared by the environmental consultants. That report may say that there are no problems, or that there are minor problems which do not require further investigation. If there are problems which require further investigation, the Phase I report will suggest that a Phase II study be implemented. The Phase II study will require drilling of core samples, and water and soil samples will be chemically tested for the presence of contamination. As a result of the Phase II study, if one is necessary, the Buyer should know the full extent of the contamination, where it is located, and how it will impact the property, if at all. Most, if not all lenders on commercial property will require at least a Phase I study, and if it recommends a Phase II, the lender will likely require that also. If there is serious contamination, Phase III requires remediation of the contamination. This can be very expensive, so it is better for a Buyer to know the full extent of their liability before being fully committed to complete the purchase.      We can meet with surveyors, architects, engineers, or contractors on behalf of the Buyer. All documents related to the property and its operation should be scrutinized, looking for red flags of things which could negatively impact the Buyer after the close of escrow.      There are many aspects of a due diligence investigation. Due Diligence Consultants, Inc. assists Buyers to the extent requested by that Buyer on each property. Sometimes, the Buyer wants to do parts of the due diligence investigation. Other times, the Buyer will accompany the Due Diligence Consultants, Inc. representative. Some Buyers may want a written report, others may not. The cost associated with the investigation will depend on the degree of investigation required by the Buyer, and the individual circumstances of each property. Due Diligence Consultants, Inc. is not a guarantor of the condition of the property or the documents reviewed. The purpose of the due diligence investigation is to assist the Buyer in evaluating the property for purchase. The nature of the investigation is that information obtained from many sources may not be complete or may contain errors. Due Diligence Consultants, Inc. intends to assist the Buyer in making their own decision regarding the propriety of the investment in question. As a result, any opinions expressed by Due Diligence Consultants, Inc. are not intended to be promises or binding in any way on that entity or its staff members. THE LOAN      The Buyer will have to submit a loan application in an effort to obtain financing to complete the purchase. Our staff can interface with the lender(s) in order to assist the Buyer obtain the loan on time, and will point out detrimental terms, such as prepayment penalties. Sometimes, the loan is the most important part of the transaction, and it cannot be left to chance. Coordination of the timing of obtaining the loan may be critical to preventing a breach of the Purchase Agreement. THE CLOSING      In order to get the escrow closed, it may be necessary to coordinate all of the pieces. We can assist in that effort too. Whatever the Buyer needs, we can help the process along.      Many of the items listed above may be done by the real estate agent involved in the transaction. But we have observed that real estate agents are better at putting together the Buyer and Seller and negotiating the basic terms, than they are at performing the due diligence on behalf of the Buyer. Most of the time, the Buyer does the due diligence themself, and most of the time, that Buyer really doesn’t know what they are doing. Many times, they overlook basic things which come back to haunt them later. We are there to assist the Buyer so that fewer things get past them and have to be dealt with after the close of escrow. Killing the deal is not our goal. Making sure that the Buyer is aware of what they are buying is our objective. If we can assist you, please feel free to give us a call at your convenience. DUE DILIGENCE CONSULTANTS, INC. (949) 709-2900