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Buying a commercial building? Don't forget about due diligence

4-minute read

When you’ve finally found the right commercial building for your business, it’s imperative buying a commercial building to perform due diligence before making the purchase, to help minimize risk to your business and ensure the building is a sound investment.

1. Due diligence

Beyond the physical condition of the building done through a building condition assessment, many intangibles have to be assessed. The building's history must be researched, with all liens and obligations examined to ensure there are no unpleasant surprises.

Building owners with commercial tenants are vulnerable to sudden economic downturns; a fully occupied building with a major tenant can become an under-occupied building if that tenant goes under. So the security of any income stream that depends on tenants must be carefully evaluated too. Payment histories and tenant credit files should be examined to determine how much risk is involved.

Insurance policies on older buildings may contain a list of claims that have been filed, highlighting defects and potential liabilities. It's well worth using the services of a lawyer or other professional advisor to help you make these assessments.

2. Take 30 days to perform due diligence

If possible, give yourself a period of thirty days after reaching an agreement with the seller before actually finalizing a deal. This will give you time to perform a detailed examination of all documents, including leases with current tenants, maintenance contracts, insurance policies and title documents, all of which should be provided by the seller.

Make that thirty-day period start when the final document in the series has been delivered to you. Your professional advisors should know which documents need to be obtained in your municipality.

If the seller is unable or unwilling to provide those documents, that increases the risk associated with the building and can provide you with an opportunity to renegotiate the price.

3. Assign tasks to your acquisition team

As you examine the documents, build a list of questions and issues to be checked. Are survey markers found where they’re supposed to be? Is there a satisfactory maintenance contract on the boiler? What kind of guarantee was issued on roof repairs? Make sure each item is assigned to either a staff member or an outside consultant such as a surveyor, building inspector, lawyer, environmental specialist, accountant or real estate agent. Make sure each has clear task-completion deadlines, and follow up with them frequently.

4. Financing your purchase

Your business plan and cash flow projections should provide the numbers that dictate what you can afford. Go over these figures with your accountant. Try to take into account all growth that could result from planned projects, as well as your future borrowing needs. Also keep in mind that a large real estate loan on your balance sheet could limit your future borrowing capacity since it will affect your firm's debt-to-equity ratio.

The next step is to prepare a brief synopsis of your financing needs, financial planning and assets for presentation to a lender. You will need to assess interest rates, repayment options and the personal guarantees required by your financial institution. It's advisable that your lawyer and, in Quebec, your notary be involved in any final agreements with a lender.

If possible, try to get a preapproved loan so that you know exactly how big your budget is before you begin your search for a building. And be realistic about those financial forecasts: Unforeseen costs can eat up profit very quickly in the year following a purchase.

You'll need to check that you have met all of your lender's conditions prior to signing an offer of purchase. For example, some financial institutions require that an environmental assessment or building inspection be produced just for them. The inspection may reveal that major work needs to be done, the cost of which can sometimes be covered by your financing package. You can further protect your cash flow during this transition period by obtaining a complete quote for moving expenses and then including it in your application for long-term financing, since moving equipment and setting up electrical and other utility connections can be costly.

Ownership of a commercial building always carries risks, but if you follow the right steps when buying the property, you can reduce that risk, profit from multiple revenue streams and grow your business.

If you need advice or financing for your commercial property investment, BDC provides flexible terms for the financing of expansions, plant overhauls, acquisitions of existing businesses and purchase of fixed assets.

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