Why Real Estate Investments Should Start From Property Due Diligence?

Real estate is a great asset to accumulate wealth as it has much broader social meaning in our society.  We as human are dependent on a living space and conditions, no matter how small or big, cheap or expensive it is and that’s the main incentive to invest into this. Our population is growing at a speed that even most pessimistic authorities could not predict that a decade ago, land and properties based in central locations become scarce and competition to purchase them has increased.  More and more sophisticated investors becoming aware of the privileges owning real estate assets and incentives to own more scarce properties will increase over time further.  Real estate is the asset that will survive and drive no matter what global economic conditions we will face: recessions, natural disasters, war or global warming we are still dependent on a living space. On one hand of explaining all this is to draw investor’s attention on scarce properties that are still available on the market and on the other to be vigilant in acquiring them.

The role of due diligence:

The major objective of due diligence is to “prove the lie” by finding worst-case problems with the acquisition property, and if discovered, develop a strategy to mitigate any significant negative aspects that might adversely affect the investment. It is not enough to discover problems; there also have to be solutions. If there are no solutions, or they are inadequate, then the transaction should be terminated.

Managing the process:

Most due diligence activities are performed by independent, third-party authorities focusing on a core areas to be scrutinized (will discuss this below). No matter how big or small the investment deal is some personal due diligence on the asset must be carried upon. In some cases the terms of the Purchase Agreement can be negotiated to compensate the buyer for problems unearthed by the diligence process. This might be in the form of a lower price, a holdback of a portion of purchase funds until a problem can be corrected, a guarantee or warranty by the seller, or some other provision outlined in the Purchase Agreement. Changes in the Purchase Agreement obviously require approval of the seller, so it becomes entirely a negotiated situation.

Due diligence check list:

Due diligence process can be grouped into three core groups (physical, legal and business) on which accuracy and investment decisions will be based on.  Each group consists of a number of subgroups which needs be assessed individually to finalize transparency of the deal. I will discuss some of them very briefly. If you seek for more extended version of due diligence phases please contact HELIOS GROUP.BIZ for consultations, asset management, economics, portfolio management and property investments available.

Group Nr – 1:  Physical due diligence:

1.     Photos- property photos should include not only the subject property but surrounding land users as well. Investor’s attention should fall on actual property look and how it fits into the area, power lines condition, parking congestions and etc.

2.     Maps – master plan of the development or the area is very useful in determining your occupancy levels. This will give a clear view for investor on private and public institutions operating in the area, transport links, population density.

4.     Plans and Specifications – as built building plans and specifications, land use and circulation plans. This information will reinforce your understanding how it was constructed, what materials were in use, capacity layout, and service lines.

5.     Government authority approvals – building planning permission for off plan properties, designated parking locations for the property, Health and Safety compliance certificates. These documents tend to prove the sufficiency of the property to current government standards.

6.     Warranties – especially for new construction units. Completed concrete parts tend to have ability to deform to minor level; however exceptions are common where major cracks may occur on load bearing walls caused by foundation subsidence. Investor should pay close attention to a length and content of warranties for building structural parts and service systems.

Concluding this concise article on due diligence I would like to leave some tips that any investors can apply to his personal due diligence process:

1.     Check the property you have intention to buy on a different time period. Morning, daytime and evening. You need to be sure that’s going around your asset in neighborhood. If you agreed with a seller specific meeting date, arrive a day or two earlier and check the area. Check the buildings around for their condition, graffiti levels, business operating, traffic and noise levels. This will give you an insight what type of tenants will be occupying your property and what possible consequences may be.

2.     Talk to the neighbors in local grocery shop or apartment reception. Ask what are the good signs living in this area, is there any problems during the nighttime, who was living in your property, why they are selling it, what average running costs, what improvements are essential. Try to speak as many different people as you feel you have to. Arrange an appointment in local area council; explain your concerns about wellbeing of the area, what looks good and what needs to be improved.

3.     Carry on your own structural survey; you do not need engineering degree to identify major cracks in wall, foundations overall condition of the building.

4.     When meeting a seller ask for a summary of running costs for entire year or more. You need to compare this data with similar properties to understand how far or how close you are from the benchmarks. If running costs are extremely high, that should alert about poor condition of the service systems.

5.     Never sign any agreement when you are on inspection trip. That’s a trick that some desperate developers may use on reluctant investors. They will create an aura of happiness with wine and music, will try to take your focus away from important items you need to get details before you leave your signature on the contract.

It is important that aspects of future property ownership considered negative could be mitigated in some fashion, either before or after closing of the transaction. Having such a strategy prior to close is an important factor in the acquisition process.

To Be Continued…