Why Due Diligence Is So Important - and How to Do It the Right Way

Posted by Mark Roman on October 16, 2018

If you’ve ever bought a house, you know a critical part of the process is the home inspection conducted by a certified professional. It’s not a 100% guarantee the inspector will find every issue. But, more than likely, any big-ticket items are going to be identified and, as a result, you can certainly rest easier when you sign on the dotted line. That’s why it is important to retain an established firm that will provide you with a thorough inspection conducted by an experienced professional. Your investment in due diligence protects you from future surprises.

If it’s important to conduct due diligence when purchasing a home, it should be quite evident that it is vital to conduct thorough due diligence whenever you buy or sell a commercial/industrial property. However, it surprises me that so many businesses are reluctant to invest in a thorough environmental due diligence assessment when buying or selling a site for their manufacturing operations, storage, or whatever else… even when millions of dollars are at stake.

One of the "secrets" to our thorough due diligence investigations is a 30-page checklist we've developed based on 30-years of experience and involvement in over $12.5 billion in transactions.  

If you’d like a copy of our Due Diligence Checklist, please call me at 609-208-1885.

An investment in a very thorough due diligence assessment always provides you with a positive return. In my experience (Envision Environmental, Inc. has been involved in over $12.5 billion worth of property transactions), our clients who have had the most successful transactions were the ones who made this extremely important investment.

As a buyer, you should hire an experienced environmental consultant to conduct a thorough environmental due diligence assessment, so you can fully understand the site you’re buying, including your potential risks and liabilities. You don’t want surprises after you take possession.

The cost of a thorough due diligence investigation is far less costly than addressing major problems after a sale has been completed. Thorough due diligence conducted by an established firm using experienced personnel protects you from post-sale environmental liabilities.

As a seller (or potential seller, even if it’s years down the line), conducting due diligence before you start entertaining offers for your property will also pay off.

By finding potential problems early, you can address them before the cost to address these problems escalates out of control. You may have issues at your facility. Let’s find them and address them now so you can correct an issue before a potential buyer does their own site investigation.

Going back to selling a home, there are parallels here, too. Say you’re looking at retirement in a few years and are ready to downsize. You’ve been in the house a long time. There are issues you know about, those you suspect, and ones you have no idea exist.

The worst thing you can do is to wait for the home inspection conducted by a potential buyer to give you a “To-Do” list of repairs. A better way is to fix the pool this year. Replace the old AC unit next year. And so on. Much easier on the bank account.

I understand the reluctance to pursue “proactive” due diligence. As a facility or plant manager, you might be worried that if problems are found… you’ll be blamed.

But it just makes good business sense to reduce risk in this way. Even if you don’t completely solve a problem, at least you know it’s there and you can take steps to limit its impact immediately.

For example, one thing we always look at when conducting due diligence are potential pathways to the environment in sumps and trenches, where released materials can impact underlying soil or groundwater. We look for these holes, seams or cracks in the sumps and trenches, and seal them – eliminating the pathway.

Whether you are selling your site or not, finding those pathways now and eliminating them will significantly reduce the potential for soil and groundwater impact at your site and other future surprises, or even limit further impact that may already have occurred.

What Makes for Good Due Diligence

So, you’ve made the good decision to conduct a thorough assessment of your site. Or you’re a buyer considering a property purchase.

What does quality due diligence look like?

The first step – and a critical part of your due diligence – is a Phase I Environmental Site Assessment, following ASTM Standard E1527, conducted by an established firm using experienced professionals. The Phase I Environmental Site Assessment industry is extremely competitive. As a result, many firms price their assessments very low by staffing the project with junior-level inexperienced personnel in order to get the job.

Please be careful when selecting a firm to conduct your due diligence simply based on price.

You want to make certain that the personnel who will be visiting the property in question, and who will be conducting the actual assessment work, are experienced in due diligence activities. This experience must also carry over into understanding the environmental issues associated with the industry that formerly and currently occupies the subject property. This knowledge base must extend into understanding the history of these industries, especially how things are/were done, what general practices are/were employed, and what materials are/were used.

Now, by retaining the low bidder to conduct your due diligence assessment, you may receive a Phase I Environmental Site Assessment that meets the minimum requirements of the ASTM Standard. However, without this experience and knowledge base, many potentially significant issues can easily be overlooked, which may result in some significant exposures and liabilities down the road for you.

This experience and knowledge base also helps in understanding a property’s history, which is one of the most critical components of due diligence and the ASTM Standard.

When we review Phase I Environmental Site Assessments for clients, we can often tell when the due diligence work was conducted by inexperienced personnel, especially if that inexperience is with the type of industry occupying the subject property. We find areas of concern typically associated with the type of manufacturing facility occupying the property are often overlooked. Not knowing that history, and the typical issues associated with that history, can often come back and haunt clients years, or even decades, after the completion of a property transaction.

We recently reviewed a Phase I Environmental Site Assessment that was conducted by another firm for the current property owner in preparation for the sale of the property. The property owner retained us to review the Phase I Report to make sure it met ASTM Standards and that potential environmental issues were identified. Although the report met the minimum requirements of the ASTM Standard, we did identify some overlooked issues that turned out to be rather significant.

The report included historical aerial photos from the 1960s to the 1980s that showed storage areas located outside of the facility that are not there today. These areas were never mentioned in the report and were never identified as a potential concern.

Based on our experience, these exterior storage areas immediately jumped out at us as potential areas of concern that should be further evaluated. What was stored in these areas? Given the era, who knows what?! This issue was further heightened as a concern since we understood the types of industry that historically occupied this property and the types of materials that were used onsite. These materials, which included chlorinated volatile organic compounds, if released, may result in significant and costly contamination issues.

Our clients agreed to take a closer look. We did some sampling based on the information found in the historical aerial photographs and based upon our experience at similar sites. We found some significant contamination in the former exterior storage areas that needed to be remediated. Our client and the purchaser agreed on an approach to address this issue, prior to completion of the property transaction. If we were not involved, this issue would more than likely have gone unrecognized, and possibly have been discovered years, if not decades later, pulling our client back into the issue.

You Need to Know Where Things Used to Be

Experience and historical resources also help to fill in data gaps during due diligence when trying to determine if a property has been impacted by releases.

A few years ago, my team and I were conducting environmental due diligence on a property for a potential buyer. Based upon the site’s manufacturing history, we recommended doing sampling around the onsite building. There was only one building onsite, half of which was used for manufacturing, the other half, a warehouse.

The sampling results showed contamination in the warehouse side but nothing in the manufacturing area. It’s usually the other way around.

I double-checked with the sampling crew to make sure there was no mix-up in the sample identifications and asked the facility manager if there had been a spill in the warehouse area. Those inquiries came back negative on both counts.

So, we dug a little deeper into the site’s history. Our experience has shown that many facilities change the orientation of production line equipment or relocate processes over time. When we discussed this with facility personnel, we were advised that the manufacturing and warehouse operations were always located in the areas they were situated in at the time of our sampling activities. Based on our experience and since the existing facility personnel were not considered to be “long-time” employees, we kept researching the issue. Eventually, an employee in the Human Resources Department remembered some archived files that might be helpful to us in figuring out site history.

We started to look through these archived files and eventually discovered an old figure that helped explain our sampling data. This figure showed that the onsite building was originally smaller and was only used for manufacturing – that’s more than likely when the release that we discovered had occurred. As the business grew, they added on to the building to create a new manufacturing area and the former manufacturing area became the warehouse.

In this case, experience, depth of knowledge, and old-fashioned persistence helped to explain the sampling data we collected without the need to repeat the sampling effort or to conduct additional unneeded sampling, which would have resulted in additional (and unnecessary) costs for our client.

Upcoming Trends in Due Diligence to Keep in Mind

Many buyers and sellers haven’t been that focused on due diligence over the last decade or so because so many properties have been sold through a bidding process, where the properties are sold “as is.”

That scenario doesn’t leave enough time for due diligence. Often, buyers find problems and that’s reflected in the final price. One client we’re working for previously bought an organization with sites around the globe. Now they’re engaged in costly remediation efforts at many of these locations.

As a result of these issues with the bidding process approach, many property transactions are returning to the traditional negotiated approach, where time for due diligence is afforded. As a result, we will see the bidding process approach decrease as buyers realize that the money they save in the purchase is usually lost (and then some) in remediation costs.

Embrace the Due Diligence Process

Due diligence is important because, as the seller of a property, don’t think that your responsibility ends when the buyer gets the keys to the front door. If an environmental liability pops up, even decades down the road, they may come back to you for restitution.

You must fully characterize your site, whether you are buying or selling, so there are no surprises down the line. It’s a small investment now to avoid a potential costly cleanup in the future.

Conducting thorough due diligence by an established firm, using experienced personnel ensures that when a property transaction is completed you know your potential environmental issues have been identified, whether you are a purchaser or seller.

One of the "secrets" to our thorough due diligence investigations is a 30-page checklist we've developed based on 30-years of experience and involvement in over $12.5 billion in transactions.

If you’d like a copy of our Due Diligence Checklist, please call me at 609-208-1885.

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