CRE DUE Diligence

CRE is currently seeing an unprecedented trend in how fast due diligence needs to be performed. This is especially true in core gateway markets to some extent. There is an increased appetite by investors to deploy capital into real estate that is putting pressure on them to do deals more quickly. This increasing need for speed creates a greater chance of investors being burned on real estate deals, as when times are good in the industry investors are sometimes blind to past failings.

There is no doubt investors have a decreasingly short period to make investments, as right now these gateway markets are hot and more and more equity is available for deployment, causing prices to rise as demand outstrips supply. The fear is that in order to meet expected returns, investors will be required to either move up the risk spectrum or to diverge from their usual investment strategy while on the hunt for attractive assets. Some investors may also face additional risk by moving away from their core property strengths and taking on assets they are less experienced in managing.

In past years it was not uncommon for an investor to have anywhere between 30 to 45 days to complete their due diligence.  However, we are seeing time lines as short as five to seven days for a buyer to either complete their due diligence or waive contingencies. We have heard of several cases where our client released hundreds of thousands of dollars in order for the seller to allow them the opportunity to sign the purchase and sale agreement. The drive for these expedited time lines and deal constraints is simply the competitive nature of the market for these core cities and the class-B+ to class-A quality assets within these markets. 

We are seeing this trend in assets of varying sizes. As the number of potential buyers increases, so does the market demand for fast "go hard" decisions. While the trend is most evident on larger assets in the $100-million-plus range, it is becoming increasingly common on $10 million to $100 million properties. For these properties, it is extremely difficult to get exclusive due diligence periods without leaving some "walk away" money on the table.

There is an obvious, inherent risk with these deal structures, but aligned with a qualified and experienced consulting team a client can often offset this risk.

We are often asked, “How quickly can you prepare a report for my acquisition?” This approach is flawed from the outset. Only after a clients’ risk profile is assessed can an appropriate due diligence scope of work and schedule be established, provided a report is actually even required.

The purchaser’s familiarity with an asset type and market help establish the baseline for review. Flexibility in reporting and communicating findings is essential oftentimes enhanced post-site visit debriefings, detailed conference calls with the team, and preparation of complete summaries with opinions of probable costs may be all that is needed to give meaningful guidance to clients.

Qualified consultants respond to this need for increased speed in due diligence with condensed deliverable, prepared by skilled architects and engineers. The focus is a "get to the point," numbers-driven analysis tailored to a client’s needs, which provides them with the critical data they need to make the best business decision possible.

Creative report delivery strategies must be explored, but nothing can replace the trained eye of a highly experienced due diligence advisor supported by a network of seasoned experts. Having a well-rounded generalist who is a registered architect or professional engineer lead the process is invaluable, especially when specialists are added to the team to review specific building systems and components. And when there is time pressure surrounding the review of real estate, this makes all of the difference.

Shared by: SHANNON MURPHY 

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NEW LAW TO INCREASE EFFICIENCY AND LOWER COST FOR ARIZONA BUSINESSES

Many prudent real estate professionals form a business entity such as an LLC or PLLC for their business.  On January 1, 2015, Arizona introduced a more business-friendly legal framework for entity restructuring transactions. Thanks to this new law, these transactions will be more efficient and available at a lower cost.

Background: What is an Entity Restructuring Transaction?

It’s not uncommon for a business to reach a point in its life where it needs to undergo an “entity restructuring transaction” – a transaction to change its form or location. There are five reasons why a business entity transaction may be required.  For example, you might have started your family-owned business as a partnership, and now the business has attracted new members or investors.  Or perhaps your real estate investment company needs to divide into one or more new limited liability companies to diversify or to help manage risk. 

Here is a brief summary of the five different entity restructuring transactions: (1) a merger – this occurs when two entities combine into one surviving entity; (2) a conversion – this occurs when a single entity changes form — for example, when a limited liability company converts into a corporation; (3) an interest exchange – this occurs when owners trade their ownership in one company for ownership in another company; (4) a domestication – this occurs when an entity formed in one state changes its state of incorporation to another state; and (5) a division – this occurs when one entity divides into two or more entities.

The Problem: Obsolete Law Governing Intricate, Multi-Step Transactions

Historically, entity-restructuring transactions have required multiple steps to accomplish, ratcheting up risk and expense. Your business may have even needed to dissolve to change its form or location. In that case, you would have needed to wind down the business and satisfy creditors and interest holders, potentially incurring adverse tax consequences. Those consequences erode profitability. And those consequences are counterproductive to a company that simply wants to continue in another form or location.

Compounding the problem, Arizona has not had a comprehensive statutory framework for these transactions. Arizona’s entity restructuring laws were hard to find, scattered throughout Titles 10 and 29 among the twenty-two types of Arizona business entities. And Arizona’s entity restructuring laws were incomplete, leaving out domestications and divisions. And those laws were procedurally inconsistent, imposing different requirements for the same transaction on different entity forms.

The Solution: The Arizona Entity Restructuring Act and its One-Step Transactions

The Arizona Bar and Arizona lawmakers recognized the above problems and have been working over the last four years to implement a solution: the Arizona Entity Restructuring Act (“AERA”), effective January 1, 2015.

In sum, the AERA universally applies to all kinds of business entities. And the law allows your company to change form or location, without dissolving and winding down. Cross-entity transactions are available. And the statute fits with Arizona’s existing laws for business entities, meaning that Arizona’s current corporate and partnership statutes will remain intact. Moreover, these new procedures will not extinguish creditors’ interests as a debtor-entity changes form. Therefore, the AERA allows for seamless, non-disruptive transitions between the old and new companies. Entity restructuring transactions will be more efficient and available at a lower cost.

Here is the simple process for changing an entity’s structure under the AERA.

First, each kind of transaction requires a written plan, one approved by the company’s interest holders. The plan will describe the details and effect of the transaction. You approve that plan according to your company’s organizational documents, such as its bylaws or operating agreement, or AERA’s default rules. Second, once the plan is approved, a statement concerning the transaction must be filed with the appropriate filing authority, which is the Arizona Corporation Commission for corporations, business trusts, and limited liability companies, and the Arizona Secretary of State for limited partnerships and limited liability partnerships. That statement notifies the public of the transaction and identifies the surviving business entity. 

To round out this discussion, the AERA does not apply to government agencies, trusts, or estates — and does not displace relevant regulatory statutes, dissenters’ rights, or appraisal rights.

Application

Prudent investors and business owners should wisely chose the correct business entity structure to limit liability and to aggregate capital and assets, such as real estate. Thanks to the AERA, businesses will be better equipped to stay nimble and restructure as needed.  The AERA is straightforward and comprehensive. Overall, it encourages new businesses to incorporate or organize in Arizona and simplifies the process for existing out-of-state companies to relocate to Arizona.

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