Top Commercial Real Estate Due Diligence Mistakes to Avoid
Any purchase in the commercial real estate industry is a huge investment. To the contrary, due diligence in commercial property investment is rarely talked about. Other factors such as raising money and negotiating the deal are mostly given more attention. Whether you’re a commercial real estate professional, tenant, buyer or seller, understanding the importance of due diligence is vital. Conducting due diligence helps you avoid costly mistakes and improve your skills as a real estate investor. Investors who focus on other aspects of the deal and fail to do the essential research most make expensive mistakes at the end. Below are the top due diligence mistakes from a 31-year investor that you should avoid.
Mistake #1: Incorrect Property Valuation
Do your own research. Be conservative when it comes to the underwriting of your deal. Look for multiple sales camps and other available properties on the market. Refer to experts like active commercial brokers for property values. You can then proceed to adjust your valuation according to what you find out during due diligence.
Mistake #2: Not Understanding Your Lender’s Underwriting Requirements
Before you begin the due diligence process, you should have a discussion with your lenders about the amount they will put on your property. You may waste your time, money and energy conducting due diligence only to be surprised later by your lenders. Nowadays lenders are very conservative and will want to consider the physical condition, leases in place, intended use, your creditworthiness among other aspects.
Mistake #3: Assuming the Property Complies With All Current Municipal Codes
This is a common mistake buyer make and realize when it is too late. Have a contractor or architect inspect the property to ensure it meets all the building codes. The last thing you want is to find out a property is not code compliant when a city inspector visits to review your new space.
Mistake #4: Assuming There Are No Issues within the Existing Tenant Leases
Though checking tenant leases can take a significant amount of your due diligence time, it’s worth it. Leases can have many “loopholes” such as contraction provision, cancellation provisions, fixed option rents, caps on pass-through expenses and many more. To stay safe, check these provisions because they can devalue your property if a tenant ends up exercising them. For proper due diligence, work with an experienced real estate attorney who understands the commercial real estate leasing process.
Mistake #5: Assuming Lenders Will Accept All Third Party Reports
Don’t spend money on third-party reporting unless you check and ascertain that your lender will the report. This includes Property Condition Assessment, Environmental Reports and any other specialized reports like geological studies. It is expensive and time-consuming as well to pay two different vendors for the same information.
Mistake #6: Trusting the Sellers to Disclose All Problems with the Property
It is unfortunate that not all sellers are willing to reveal all the issue of a property. This is the reason you need to be skeptical when performing due diligence on a commercial property you want to purchase. Ask all the relevant questions in writing and don’t assume anything.
Mistake #7: Expecting the Closing Statement to Be Without Issues
Be sure to scrutinize all the items listed on the closing statement and note any items that might have been omitted. Sellers often itemize credits to their portion of the closing statement but far less diligence as for buyer credits.
Mistake #8: Not Checking Out the Competition During Due Diligence
Remember to check out the competition especially if you’re not familiar with the area. You should be the expert in the area you want to invest in. if the other properties have rent specials or any other concessions, you should be aware and understand the reason for it. They might influence your underwriting and deal valuation in general.
Mistake #9: Not spending time at the property
Being around a property you’re interested in allows you to learn more about it. Learn about the traffic patterns, parking lot and speak to the tenants. It might even change your mind on the investment.
Mistake #10: Not Walking Each and Every Unit As You Perform Due Diligence
Even if you feel you’re a nuisance, it is important to see every unit of the property you want to invest your time, money and energy. It is not easy to know there’s a problem with a unit until you find out yourself. From building issues, mold issues to fire hazards, there are many things you can only fond out for yourself.
Although sometimes overlooked, thorough due diligence is one of the vital considerations for a successful commercial real estate deal. It is better to pass on a deal that to hold to it and discover later a big mistake you made.