Law & Order: Why due diligence matters
Total Property - Issue 6 2016
The legal due diligence process is essential for any investment in commercial property, says Alistair Law, Partner in the Property Team at Anthony Harper and a specialist in the acquisition of commercial properties.
“In the midst of a heated property market, it is timely to remind prospective purchasers of the benefits and protections provided by conducting a high quality legal due diligence before buying a commercial property,” Law says. “All too often we hear stories about purchasers entering into unconditional agreements for commercial properties without carrying out any legal due diligence.”
Law says purchasers of commercial property are primarily focused on the return, liquidity, and bankability of an investment. Key issues that will impact on the success of an investment are likely to be found in the property documentation.
He says the term ‘legal due diligence’ can appear mysterious to some people, but it simply involves a legal review of the property documentation associated with the commercial property in order to identify any issues.
The main documentation that lawyers review for a commercial property acquisition is the title, leases and council issued land information memoranda.
Depending on the nature of the commercial property, there will often be additional documentation to review, such as construction contracts, building guarantees and warranties, service maintenance contracts, body corporate information and other unregistered interests. The focus generally is on identifying errors or onerous obligations in the documentation, particularly where there could be material financial consequences for the buyer.
Most often these are matters that impact on the buyer's expected return or value, such as:
expenditure that cannot be recovered from tenants;
tenant early termination rights;
restrictions on selling, mortgaging or leasing the property;
outstanding statutory or regulatory compliance.
Quality legal due diligence requires a lawyer to apply his or her experience and expertise to the relevant issue and advise on the overall impact and materiality of that issue to the client. Ideally, the lawyer will identify commercial, pragmatic solutions to assist the purchaser in overcoming the issues, although most often this process is carried out in collaboration with the client after the initial report is prepared.
An experienced lawyer will also identify key risks that may impact on the ability to obtain bank funding for the investment. Even if the purchaser is not raising bank funding, or it is not an issue for the purchaser's current bank, the effect on subsequent purchasers being able to raise bank funding should be taken into account.
Law say there can be real value in carrying out a staged due diligence, commencing with an initial targeted review and then completing a full review once the property is safely under contract.
An effective legal due diligence should be accompanied by valuation advice from a registered valuer and a technical review of the property by a suitably qualified inspector or engineer. “A purchaser who obtains sound legal, valuation and technical advice before buying a property should be well placed to manage the risks associated with owning commercial property,” Law says.
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