Successful multifamily investment requires consideration of a variety of areas supported by carefully prepared information, research, and analysis for these areas. This is known as the due diligence process. A well executed due diligence assures appropriate funding, strengthens the total financial plan and therefore potential returns, and finally leads the way to completing a fruitful investment.
This informative article does not seek to offer all the mandatory steps to effective due dilingence. The idea of this information is to highlight in as a good of detail as you can what all the due diligence areas are and the importance or intent behind the particular area.
Due diligence could be divided in to some key general areas:
- Sales contract negotiation and details,
- Financial needs including the appraisal, debt & equity structure, budgeting, and distribution & exit plans,
- Operational expense needs,
- Physical infrastructure needs and inspection including associated reports,
- Legal and title requirements,
- Market factors,
- Management and staffing,
- Operating agreement / investors contract,
- Resident issues and analysis
All these areas is multifaceted bringing information demands, investment opportunity, and risk management requirements. We will explore each one of these in limited detail below as a foundational comprehensive consider the due diligence discipline required evaluating multifamily projects for investment or acquisition.
The sales contract isn't normally considered a due diligence item by most investors. Nevertheless, we recommend reviewing the contract specifically focusing on:
- What to be provided during due diligence,
- Requirements to keep up occupancy, revenue, and quality of residents in position and being added,
- Requirements to allow ongoing inspection by the purchaser,
- Requirements to fix day-to-day maintenance,
- Processes should an insurance company repair occur through the contract period in addition to guidelines for value adjustments should units be lost to acts of God and other insurance addressing repairs,
- Requirements regarding background and credit check of the prevailing residents and new residents added while under contract, and
- Pre existing liabilities
The sales contract should have specific financial considerations protecting the integrity of the investment post closing.
Financial requirements will include past utilities costs, recent property improvements, dates of roof replacement, dates of paving and sealing, overview of the appraisal, project budget, historical income and expense statements, and project pro forma financials. Additionally, the investment must be supported by a fixed investment management, exit, lending, and banking service plan.
Operationally and physically, the keys inspection areas are type of electrical wiring, HVAC, roofs, termite inspection, metering, trash, age of appliances, acreage, unit by unit inspection, building inspection, grounds inspection, paving and sidewalks inspection, amenities facility inspections and punch list development, development of and overview of environmental and property condition reports. This should include photos showing the most effective of the property for marketing, investor development, and lender support purposes. Also, photos should capture and record major structural and physical issues.
The operating agreement must be reviewed for budgeting, capital expenditure management, sales and acquisition rules, status with state and local authorities, occupancy certificates if applicable, status of tax payments, survey encroachments, survey parcels, and other legal guiding documents and forms.
The market and submarket studies are critical elements for due diligence. The study should cause a detailed marketing plan that flows down to some actions designed to:
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- Improve client satisfaction,
- Improve retention,
- Drive traffic,
- Close leases,
- Increase revenue
Developing the marketing plan and market information includes collecting these:
- Economic trends,
- Major employers,
- Economic demographics including per capita income, industrial employment breakdowns, etc,
- Lists of local businesses, shopping and restaurants of interest to residents,
- Lists of local churches and religious categories of interest to residents,
- Lists of clubs, schools, government facilities, colleges, universities, points of interests,
- Ethnic, racial, education, and age demographics,
- Comparable rents and amenities,
- Comparable sales,
- Housing inventory, price, and rental information
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Additionally, the marketing information should include photos of nearby shopping, schools, points of interests, signage, comparable properties, etc. These photos combined with other information will be a area of the larger plan for the investment, part of property websites, ILS website info, etc.
Today marketing should include a definite and detailed management plan for online marketing plans.
The Company should have an articulated proven plan for screening and managing resident issues from initial contact, to day-to-day operations, and finally to eviction or move out.
The management company must demonstrate proven accounting, reporting, leasing, property maintenance, improvement management, resident screening, resident management, expense management, and investor reporting capability. Also, the management company should a definite concrete resume of skills, education, and experience strongly related delivering all of the above items. Further, the management company should have articulated plans for acquiring and maintaining management skills needed to aid the investment.
Finally, the investor should spend enough time with the principals to assure comfort and trust regarding communication and management capacity to assure the success of the investment.
In summary, the above article provides a general outline of the major due diligence issues. While by no means, conclusive and totally comprehensive this information can serve as a good starting place for a successful due diligence process.
