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Commercial Real Estate Due Diligence

By Expert Author: Pierre McLean

Due diligence as applicable to commercial real estate entails the ascribed care and thoroughness a prudent investor would apply to investigating the feasibility of a project; it ensures that an informed decision to pursue a deal is made by analysis of the data acquired through the process. There are levels of due diligence consisting of various components which assists the investors in determining the suitability of getting involved with respective CRE projects. However, depending on the experience and activity level of the investors in the submarket, asset class, etc customizes the information needed to come to a conclusion. The importance and relevancy of a community's profile and associated factors as part of the property level due diligence plays a vital role as one of the components necessary for review.

A community profile is representative of the suitability of a neighborhood for a proposed project or its current elements supportive of an existing one. These elements affect the compatibility and profitability of real estate projects and provide insights if the area has the demographic, economic, community support, etc infrastructure necessary to justify investing. The nature of the proposed or existing project will determine what constitutes a favorable community profile. In the case of a new project it can determine a "go or no go" whereas for an existing project it can highlight that a once favorable environment supportive of a project has become unfavorable diminishing its desirability. This is accomplished by acquiring community based data relevant to: - Neighborhood boundaries and land use, neighborhood economy, neighborhood occupancy rates, neighborhood infrastructure and community acceptance from which a market analysis can be conducted as part of the due diligence process. These factors provide the foundational information which helps investors perform the community profile analysis necessary to complement the property analysis and financial analysis if the preliminary conclusions warrant further project investigation.

Neighborhood boundaries and land use - the perimeter of the neighborhood determines the scope of the area under investigation with its relevant features. The land use determines the nature of allowable real estate developments with applicable zoning and community advocacy pro or anti new projects. This is also applicable to existing projects which could have lost the support of the community through negative effects from its neighborhood impact.

Neighborhood economy - the economic stability of the neighborhood is paramount to the feasibility of real estate investments. The job market outlook and business sector performance creates confidence or lack thereof in the viability of investing in commercial real estate properties. This confidence applies to investors willing to risk capital as well as lending institutions which assess the local market's robustness as part of its market analysis indirectly supportive of its underwriting criteria which is property and borrower driven.

Neighborhood occupancy rates - provide insight into the supply/demand relationship in existence in the local marketplace. The neighborhood absorption rate also highlights how current inventories are moving in relationship to time and current prices reflective of the strength of the market. It is necessary for an investor to have a grasp of the market drivers which are determining the occupancy rates and if they are symbolic of low market rents, projects on line or coming on line, changing consumer sentiments, etc.

Neighborhood Infrastructure - the efficiency of the existing neighborhood infrastructure is essential in determining if it will support proposed projects from a location standpoint, e.g. is the site for an industrial park near major highways, airports, railways, etc. How and where will the site connect to existing utilities or sewage systems and what adaptations are necessary to make the connections feasible.

Neighborhood facilities - these are part of the infrastructure which supports a community; public utilities, schools, hospitals, police department, parks, etc. They make a neighborhood functional and pleasing to its inhabitants and depending on the level of service and value attributed to the infrastructure some people may be willing to pay a premium to live and/or work in the community.

Community acceptance - the receptivity of the community to a proposed project is paramount for it to "get off the ground"; resistance can derail it before it even starts. The opinions of community advocacy groups, individual citizens that will be affected by the project, environmentalists, if applicable, etc should be considered and addressed before committing capital to a project. Developing an antagonistic relationship with community leaders, neighbors to the site, local businesses etc creates negative press and can affect the approval of the site from governmental agencies responsible as the "gatekeepers" of their local community.

These are possible elements worthy of inquiry as part of the due diligence which can encapsulate property, financial, market, etc information for arriving at a decision of pursuing a project. The timeliness of gaining access to this information can sometimes be critical in formulating a course of action within a competitive environment where time is of the essence for project execution.


Pierre A. McLean is the Managing Member of Commercial Mortgage Funding, LLC located in Forked River, New Jersey, a commercial mortgage brokerage firm. He can be contacted at Commercial Mortgage Funding, LLC, 610 Lacey Road, P O Box 202, Forked River, NJ 08731, Tel: (609)971-7171, Fax: (609)971-7144, email: info@bestcreloans.com website: http://www.bestcreloans.com

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