Environmental due diligence is the process that evaluates the environmental conditions and risks associated with a property. The process is typically carried out at the request of land developers, lenders, attorneys, or private owners, who usually initiate an environmental due diligence process due to an intention to purchase, refinance, lease, develop, or occupy a property.
With more and more attention given to the environment over the past several years, performing proper and thorough environmental due diligence is more critical than ever, and may not necessarily be connected to a real estate transaction. Publicly-traded companies, whether they own their own real estate or not, have been given strict mandates to ensure that they are complying with environmental, social, and governance (ESG) standards. This could mean performing environmental due diligence at regular intervals to ensure compliance.
Categories and Examples of Environmental Due Diligence
Environmental due diligence is typically split into two categories: traditional and natural resources.
- Traditional environmental due diligence ensures that hazardous materials and pollutants are properly found, handled, permitted, and mitigated.
- Natural resource environmental due diligence ensures that natural resources, such as waters, wetlands, endangered species, historical sites, and even air quality are properly identified and permitted, with risks mitigated.
Whether traditional or natural resource, environmental due diligence can include reviews of multiple situations, properties, and assets. Let’s look at a few.
Proximity to Sensitive Habitats
A real estate developer might want to consider this before applying for permits to excavate land. By performing environmental due diligence, the development group can demonstrate how their intentions will not disrupt the natural habitats of particular species.
Working with Historical Structures and Materials
Real estate buyers or contractors would want to understand the history of a property and any potentially hazardous materials used years ago in construction. With due diligence, the buyers will have a clear idea of what needs to be removed and disposed of, such as asbestos or lead paint.
Safe Handling and Disposal of Hazardous Materials
For industrial buildings, such as those used for manufacturing and power generation, buyers and even sellers would want to perform due diligence to ensure that there are no potential liabilities.
Potential Soil and Groundwater Contamination
Due diligence must be performed when real estate buyers or sellers believe that there might be liability involved with potential contamination. For commercial buildings, there might be issues with waste disposal for particular business types, such as dry cleaners. For residential buildings, verification of proper sewage, water, and even electrical systems can uncover issues that must be addressed in order to prevent dangers and lawsuits in the future.
Environmental Due Diligence Reporting
An Environmental Site Assessment (ESA) is a type of due diligence that takes the form of a report that is prepared for any real estate asset, identifying possible or existing environmental contamination. This analysis of a real estate asset analyzes the underlying asset and the physical improvements to that asset or what the asset needs to operate moving forward.
Specifically, the ESA is a method of performing any reasonable review of the land’s past or current use to decide if the land is impaired by the Recognized Environmental Condition (REC).
The ESA is a critical component of due diligence when buying a commercial property, and it should be performed before closing the deal. The purpose of ESA is to ensure that the environmental contamination liability of a purchaser — or even of a seller, especially if the seller was aware of known risks — is limited.
Actions that Trigger Due Diligence Reporting and an Environmental Site Assessment
The following events can trigger environmental due diligence and an environmental site assessment.
1. A Property or Business is Being Sold, Purchased, or Refinanced
To mitigate risk, buyers want to determine whether the property or the operating businesses on the property face any current or potential environmental liability, including lack of proper licenses, hazardous material contamination, violations of permits, and enforcement deficiencies.
Understanding the requirements allows the purchaser to assess the possible restrictions, obligations, and hazards associated with the land or buildings. Even if the property is being refinanced or ownership is being transferred, such as between family members, an environmental site assessment will be required to assess the property for possible environmental contamination risks.
2. A Regulatory Agency has Mandated it
If a regulatory agency suspects that toxic conditions prevail on the property or land, it may order the owner to perform an environmental site assessment. Moreover, in case of a municipal body request for a change of authorization related to property usage or other discretionary land usages, the municipal body will require an environmental site assessment to be performed.
3. Existing Owners wish to Remove Liability
In their interest to appeal to buyers — and remove liability that they knowingly sold a risky asset — the existing property or business owners may want to perform an environmental site assessment in order to identify the toxic history of the real estate asset. If amendments to the structure or some type of cleanup is needed before a transaction can take place, the buyer and seller can agree to an adjustment in the price.
Streamline Your Environmental Due Diligence Process with CapLinked
Due diligence does include hundreds, sometimes thousands, of documents that need to be reviewed. Indeed, for environmental due diligence, there might be a whole new set of participants delivering documents for the assessment.
The due diligence process needs a document hosting and digital access management service to support the transaction. With a trusted virtual data room (VDR) partner like CapLinked, transaction participants can have the right access to the right documents at the right time — ensuring that the deal closes on time.
Start your free trial today to see how CapLinked can help streamline all aspects of an M&A or private equity transaction.
Jake Wengroff writes about technology and financial services. A former technology reporter for CBS Radio, he covers such topics as security, mobility, e-commerce and the Internet of Things.
CCIM Institute – Environmental Due Diligence
Corporate Finance Institute – Environmental Due Diligence
Investopedia – What is ESG Investing?