Ask the tough questions

10 Replies

There's nothing like the feeling of getting that "slam-dunk" deal under contract. The perfect property at the right price, that checks all the boxes. This past week I felt I had such a scenario. After competing with 2 other offers, I finally got under contract a commercial property in a prime out of state location that was fully leased with a diverse tenant mix, and was offered at a reasonable cap rate. All seemed to be lining up beautifully so I decided to hop on a plane, then rent a car for a 2 hour drive, and finally spend some time at the property in person. 

When I first arrived, I was pleasantly surprised that the building was more or less as advertised, and the location was even better than I thought. As the meeting with the brokers and property manager continued, I made sure to not let the excitement and emotion get the better of me. Thinking back to what I've read in various books on due diligence and experiences running my current commercial property, I made sure to ask the tough questions, and persist on getting clear answers to statements. This paid off in a big way. There was a discrepancy in the age of the building as stated in the OM vs. what the property manager had mentioned during the meeting. I ask him to clarify and at first he dismissed the question, saying everything is up to code. I then asked why wouldn't everything be up to code? Is there something that would be in question? He then proceeded to give a chronological account of the structures on the property and said that there was a building built in 1962 that was formerly on the property before the current structure. At first, I assumed asbestos and maybe a small heating oil tank but since that structure had been torn down, it'd be a non-issue. But I kept pressing, and asked what kind of building was built in 1962. Come to find out, it was a gas station. 

I didn't have any experience with gas stations before but I know the clean up can be messy and expensive. And since this property was across the street from a very prominent destination lake, governmental action would be swift and strong should any environmental contamination issues come up in the future to protect the lake. So I dug deeper into the city, county, and state records. It was confirmed that indeed a gas station was on the property, and two of the three tanks had been removed. During their removal soil samples were taken and dirt was removed until the readings were within permissible levels. The third tank (a 10,000 gal tank) was left behind, and there was no documentation stating that it was officially "decommissioned". Furthermore, despite the soil sample reports being within permissible levels, there was no "NFA" documentation. 

Of course rules and regulations may change, but if a property that was once "contaminated" was cleaned up and receives an NFA designation, then the risk of expensive remediation in the future is greatly reduced. Now some BP members may have experience with environmental cleanups of former gas stations and would consider this a non-issue. Given the property was a prime location, it may be worth the investment and risk. For me however, it was not. If ever I was required to remove that remaining tank and/or contaminated dirt, my pockets aren't deep enough to absorb those costs.  

The take home lesson for me with this experience was to always press for clear and concise answers, assume nothing, and don't let excitement cloud your judgement. As a bonus, this was my first out of state property that I've had under contract so if anything, it was a great experience beginning to build a team in a city far from home. At least on the next deal I'll feel a lot more confident with the idea of long distance investing and the logistics involved!   

@Will Kenner I’m still learning, and something caught my interest in Your post—you visited the property after your offer was accepted? If that’s true, what contingencies did you put in the offer? What if it needed a lot more repairs than you could tell in the pictures?

Living in LA, I’ve been to dozens of rental properties and most look worse in person than online. I’m interested in out of state rental properties, but worry often about this being the case.

So, when is the right time to fly out without accumulating too many airline miles? 🤔

Originally posted by @Eric Ippolito :

@Will Kenner I’m still learning, and something caught my interest in Your post—you visited the property after your offer was accepted? If that’s true, what contingencies did you put in the offer? What if it needed a lot more repairs than you could tell in the pictures?

Living in LA, I’ve been to dozens of rental properties and most look worse in person than online. I’m interested in out of state rental properties, but worry often about this being the case.


So, when is the right time to fly out without accumulating too many airline miles? 🤔

 

I'm sure he had a DD period to terminate. He was only out maybe $1-2k tops.

@Eric Ippolito , @Ronald Rohde is correct in that I was in the Due Diligence period when I decided to back out. In all I was out the cost of the flight, rental car, and inspection.

In general however, the Due Diligence (DD) period is the time when you "kick the tires" and look at every aspect of a property - order your inspections, get trades to bid on CapEx, review leases, look at expenses, city/county records, property line surveys, etc. If anything, for any reason, doesn't look right, you can back out of the deal. If the HVAC is "beyond its useful life", and the bid to replace it is more than you want to spend, you can back out. Or it could something as simple as once you actually see the property, you don't like the neighbors, you can back out.

Obviously you don't want to waste your time, or the brokers' time, nor money on flights and inspections, so you should get as much information as possible before going under contact and committing to a site visit. Otherwise, if you're getting under contract and backing out when you have no practical ability to proceed, you'll find it hard to find anyone who wants to work with you. 

Once you're past the DD period then, that's when your earnest money "Goes hard" and becomes non-refundable if you back out. If you're looking at out of state, or even within state but far away like NorCal is to LA, it's important to know the logistics of how and when you can get all your DD done, and give yourself enough time accordingly when you write the offer. For example, if a property is in the same city and has only two tenants, asking for 7-10 days for DD is reasonable. In contrast, if the property is out of state, has 5 commercial tenants, an elevator, and a more complex HVAC system, then you may be looking at 15-30 days.

Hope this helps! 

@Will Kenner thanks for the detailed reply. I’m still unsure at what point is ideal to fly out and see a property. For example, sometimes I run across what looks like a great property in an area but what if I put in an offer and show up in town and it’s awful and there aren’t any other locations to look at? I’m not quite sure what the best logistics would be in cases of out of state property inspecting

@Eric Ippolito I too share your concerns as it can become very expensive traveling to various properties that end up not being good deals. Perhaps some other BP members who have more long distance investing experience could shed some light for us, or there's always Long Distance Investing by @David Greene (which I haven't read yet, but it's in the queue). 

But based on this last personal experience, I'm going to modify my approach by capitalizing on whatever resources are available to have the property scoped out first. This would be having the local agent I'm working with do a drive-by, maybe walk the grounds if possible, or if I know someone in the area, have them check it out for me. Then there's the option of calling a Property Management company in the area and asking them if they are familiar with the property and if they'll take a look. Who knows, they may be eager to help since if the deal does go through, they could be the PM to manage it!  

On retail centers I ask if they have a recent updated phase one on file. Additionally buyers sometimes mistakenly assume OM's are correct or that they are completed by the listing brokers.

Lot's of times they use hourly employees or VA's and they have all kinds of errors on them. Additionally ( I am not kidding ) I have seen owners and brokers not even know what are in the leases! Heck one large company that owns millions of sq ft bought larger buildings around one of my clients smaller retail buildings. When we went to sell we went to get the association estoppel like last time when we bought years back. The larger company did not even know there was an association and that they were the controlling declarant responsible for it! lol

I do not like tanks left in the ground. You can have future potential litigation. Another item to check for is if the state has a super fund for clean up. Sometimes they offer money to help clean up contaminated sites.  

Originally posted by @Eric Ippolito :

@Will Kenner thanks for the detailed reply. I’m still unsure at what point is ideal to fly out and see a property. For example, sometimes I run across what looks like a great property in an area but what if I put in an offer and show up in town and it’s awful and there aren’t any other locations to look at? I’m not quite sure what the best logistics would be in cases of out of state property inspecting

I think its an easy decision if you're not able to find properties locally. If you live in a VHCOL, you have to budget to spend 2-3 trips to target markets. If you plan well, you can fly in and out in a single day.

 

@Will Kenner Question 1

Thanks for sharing your experience. There’s just one thing that caught my attention in your post — you mentioned that you asked the property manager to clarify on the discrepancy with the age of the building, and he responded that everything was ‘up to code’.

If the conversation was to end there and for some reason your judgement was clouded that day, leading to the purchase of the property and later uncovering that a gas station was previously on site. What would be your next cause of action? Would there be legal action?

I understand that it is our responsibility to perform our due diligence, but would this sort of information need to be disclosed by the property agent/manager.