NUTS & BOLTS THE BIG PICTURE
STRATEGIES: REITs DUE DILIGENCE
No Stone Unturned METICULOUS DUE DILIGENCE IS THE CORNERSTONE OF INVESTOR SUCCESS.
by Elie Rieder
he due diligence process is criti- cally important in any commer- cial real estate transaction. Although developing a meticulous process is consistent with the best practices in the industry, it is surprising how many companies are less than thorough. Experienced investors in commercial property leave no stone unturned in order to limit the possibility of post-transaction surprises and increase the likelihood of investment success. Employing a multi- disciplinary approach to evaluating each potential transaction requires financial, operational and technical expertise as well as an in-depth understanding of local, regional and national markets. The strategy in the multifamily sector is to be proactive, and complete as much of the due diligence as possible up front. Time is of the essence, especially when there is an active bidding process. By doing your homework well in advance, many due diligence items that other buyers have yet to complete become more confirmatory, even before moving on a deal. This includes an in-depth study of operations, market funda- mentals and tax analysis that will position your firm “ahead of the curve” by the time a bid to purchase a property is made. TAKING AMARKET AND ASSET-DRIVEN APPROACH Due diligence includes analysis of the quality of the property and of the market, as both affect the returns on an investment. A high-quality property rarely overcomes the headwinds of a bad market, and even in a strong market, a property with signif- icant unexpected repair requirements can result in significant losses. T
The due diligence process must take into account not only what is, but what may be. This includes the review of financial and operational performance, the consider- ation of environmental and legal concerns, the exploration of various financing options and the completion of a sensitivity analysis. Consider how the property would perform on an unlevered basis and account for possible downside scenarios such as negative rent growth, rising interest rates or a drop in occupancy. An in-depth property due diligence pro- cess requires: personally visiting, walking through and inspecting every unit in every building; executing complete engineer- ing assessments; and hiring third parties specifically to examine the plumbing, roofs and other building systems. Providing on- site teams with state-of-the-art technology such as iPads with apps to input data will help improve efficiency and reduce time spent both on-site and in collating the due diligence information. Solicit bids from local contractors for any repairs that may be required. Armed with this information, aggressive bidding begins knowing there is a fully vetted capital budget. ADAPTING THE APPROACH TO FIT THE MARKET The approach to due diligence often dif- fers from market to market. For example, in stable markets, due diligence is focused more on the property. In growth markets, the emphasis is more on understanding what’s driving that growth and the poten- tial for continued development. Defining and classifying a market as growing, stable or otherwise involves studying transaction volume and what
properties are trading for. The goal is to identify fundamentally sound markets that have the necessary attributes to support long-term rent growth and sustained market appreciation. Key value and growth drivers include supply-demand imbalance, positive income and population growth, strong corporate presence, favorable busi- ness climate, diverse local economy and high living standards relative to price. In a “hot” market where there is a tremendous amount of investment ac- tivity and strong competition, buyers are typically willing to bid aggressively for the market exposure. The ability to successful- ly complete deals in this type of market is a result of several competitive advantages, including the willingness to put up a signif- icant nonrefundable deposit very early in the process and deploy a large team quickly to begin outside due diligence. This allows the firm to get comfortable with the risk involved and offer terms that are more competitive than other buyers. EXPLORING SECONDARYAND TERTIARYMARKETS While primary markets have histori- cally accounted for the majority of deals and volume, economic momentum
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Elie Rieder, who founded Castle Lanterra Properties (CLP) in 2009, has been a real estate owner, operator and investor since 1998. CLP is a privately held real estate investment company focused
on the acquisition and management of quality income-producing multifamily properties within strategic growth markets throughout the United States. The firm currently owns and manages 16 multifamily communities comprising 8,292 units and a value in excess of $1.5 billion
38 | think realty magazine may :: june 2017
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