Phase 1 + what are we missing???

Question

Hello BP,

My business partner and I have been investing for ~4 years. We currently have 6 SFHs and an 8 unit, and our portfolio has performed a lot better across the last 4 years than we ever expected.

We're currently under contract on a 35-unit apartment building. With this acquisition, we will offload property management to a professional. We feel very confident in our underwriting, but given the jump that we made from SFH to an apartment building, we want to ensure we're not missing steps in our DD/inspection plan.

Here's our current plan:

1) Have a general inspector complete a Property Condition Assessment.

2) Have specialists complete an evaluation of the roof, electrical, foundation, and heat source (2 steam boilers).

3) Review financials, all leases, existing service contracts, rent roll, tax assessment, rental certificate, and 12 months of work orders.

Here's what I'm not sure about:

1) Are there DD items (specifically those that we would request from the seller) that are not captured within #3 above that we should be requesting?

2) Our lender does not require a Phase 1 assessment. Would you have one completed for a property of this size? Property has been there for 100+ years and is not a conversion. I pulled a free environmental report on NETR Online and it didn't show anything concerning. My hesitation is that I don't want a phase 1 that turns up nothing to lull us into a false sense of security. We're doing no development, but I've heard many stories about a Phase 1 turning up nothing and big issues (ususally underground tanks) being found once the dirt starts being moved. I'm thinking that Environmental be added as an endorsement under our general liability insurance might be a better way to mitigate risk?

Thank you all and see you in Cancun!!!

Mason

Drew Sygit · Answer

@Mason Bear how do you know the seller financials aren't "massaged"?

The majority owner should be required to sign reps & warrants at closing to be personally liable for them.

You didn't mention checking the plumbing - hidden plumbing leaks can cause more damage over time than just about anything else!

Go to city building & assessor offices to see what you can dig up about the property, including past permits and inspections, tickets, etc.

Make sure you get all tenant contact info and application info at closing. How else will you be able to possibly pursue collections without SSN, job & bank info? Also, get a "transfer of Property Management" letter from seller at closing, that you can send/show tenants so they know exactly who you are.

Chris Seveney · Answer

I would still get one, because some day you may want to get different financing and it could be required. It is also a good idea and a small cost compared to the overall project.

Gino Barbaro · Answer

@Mason Bear

DM me and I will send you over a list we use for Due Diligence.

Congrats on the 35 unit!! Have you interviewed property management companies? I would conduct a phase one. I would speak to your insurance carrier to get more clarity. An oil tank leak could be prohibitively expensive and possibly not covered all under insurance.

Gino

Ian Stuart · Answer

Recommend requesting the seller’s existing ALTA Survey, building plans & floor plans, site map, seller’s prior Phase 1 & environmental reports (easy for them to ask lender for copy), full rent roll detail (including renovated/classic unit indications by unit, sqfts, building #’s, full detail), aged receivables report (will allow you to identify hidden delinquency / bad debt yet to be reflected in T12’s), general ledgers / capex ledgers back at least 3 years to ID major capital projects or damage that wasn’t disclosed initially.

John Mocker · Answer

Mason,

From an insurance perspective I would add, getting 5 year (or more if possible) Loss Runs.  These are reports from the insurance company that issued the policy listing all losses that are attributed to that policy.  The reports should be currently dated (produced recently).  Most Commercial Insurance companies will want to see those Loss Runs to quote the Property/Liability coverage.

The loss runs are also important to you as they may indicate an ongoing problem or one that you need to make sure was properly repaired.

Mason Bear · Answer

@Ian Stuart great list - thank you!@Drew Sygit good call out - we'll ask for K-1s and tenant contact info too. We have all leases but social is not included so we will need their applications. Plumbing will be checked by our general inspector.@Chris Seveney appreciate the perspective!@Gino Barbaro thanks for the DD list and all the great content you put out!@Michael McVety we have maintenance logs but will add CapEx expenditure too. Property has hallways and laundry as common areas. 25 outdoor parking spots and 10 garage spots. Good call on having a tenant provide intel. Insurance has been crazy in our market but we received a quote we are very happy with.

Michael McVety · Answer

Hi Mason and I wish you success with this property!

To add to what was mentioned, I would look at the maintenance history of the property to see what repairs have been made that are more capital in nature (say, new counter tops or kitchen) versus an ongoing issue (plumbing backing up every few months).

How is the insurance search going for you as well.

Does the property have any common areas?  What about parking?  What about trash collection?  You mentioned getting a property manager (which is excellent) but you might consider having a good resident help the property manager/ you with getting feedback on the property activities at night.  I managed a 45 unit for years and these are some issues that you might want to look at!

Phase 1 + what are we missing???

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