Today’s blog features an interview I had with Doug McDowell of McDowell & Associates regarding the increased focus on using abandoned industrial sites for business incubators in urban areas. Although these sites are attractive to low-budget, start-ups because they can be purchased or leased for next to nothing… there are a number concerns that entrepreneurs should be carefully addressed when looking at these properties.
McDowell & Associates you could say was a “startup” itself about 34 years ago, and it is now a mid-sized company with offices in Ferndale and Midland, Michigan. McDowell & Associates is a geotechnical and environmental engineering, geotechnical, and construction testing firm which serves developers, construction companies, and industrial clients. One of the company’s specialties is environmental and geotechnical due diligence. Doug McDowell, who oversees the company’s environmental assessment division, is an environmental engineer who has been with the company for about 20 years.
Q: Doug, as you know, there has been a move toward creating cheaper urban space for entrepreneurs who are starting companies and don’t have the financing for expensive rent. With all the vacant buildings around (especially in urban areas like Detroit), there is a huge supply of buildings and land that could serve that need. What has your experience been in Detroit with some of these older buildings?
A: Over the last 5 years or so, we have assisted clients who have purchased over 10 industrial buildings in SE Michigan with square footages between 150,000 and 750,000. Most of the buildings were historic manufacturing facilities. Environmental issues have included abandoned underground storage tanks, waste fill areas, residual PCB contamination, asbestos, lead paint, to name a few. In some cases, Brownfield funding sources were used to offset these environmental expenses. Geotechnical issues have included areas with failed foundations and areas where failure to maintain the sites resulted in building damage.
Q: Many entrepreneurs are eyeing these types of properties because they are so inexpensive. What is your number one recommendation to these perspective buyers/tenants when they look at a building?
A: Do not put significant faith in seller provided environmental information. As with any business deal, time and money are metrics that control the final calculation of success or failure. Establish a relationship of trust with an environmental due diligence team that blends scientific and legal resources. Start environmental due diligence early in the transaction timeline, and provide as much time in the purchase agreement as you can so that you do not get boxed into a corner.
Q: What can a good environmental/geotechnical consultant offer to these prospective tenants/buyers?
A: A good consultant will deliver practical opinions based on its reasoned inquiry and experience. Many consultants get lost in the research project and fail to connect the dots in a manner that allows clients to make well-informed decisions.
We provide environmental assessments ranging from the Phase I Environmental Site Assessment (or history report), the Phase II Environmental Site Assessment (sampling and testing of soil, groundwater, surface water, soil gas, building materials) through the Baseline Environmental Assessment (documents contamination on the property to the State of Michigan and limits liability after purchase.) We incorporate geotechnical investigations into our environmental assessment process in a way that provides cost savings to our clients.
We start every project with our client’s goals in mind. I mean this both in terms of how we endeavor to protect our clients from unforeseen circumstances as well as how we focus on the final development and ultimate site users at the outset of the project.
For example – we were retained to consult on a project where a “pure” environmental consultant had previously conducted significant evaluation of a property to demonstrate that contamination in shallow groundwater would not present a health threat to future users of the property once a building was constructed. What they had failed to consider was how to build a building on the property with a contaminated groundwater table that would have to be temporarily depressed in order to support footing construction. The high costs associated with disposal of dewatering fluids were such that the transaction fell apart, well after the completion of an involved indoor air study.
Q: Is hiring a consultant expensive for a prospective purchaser?
A: Costs vary significantly depending on site conditions, client objectives, future use, and historic uses. However, these costs are typically a very small fraction of the overall development or acquisition cost, even in the depressed real estate market we live in today. In situations where a client attempts to limit scope significantly during the due diligence process to reduce cost, then that client is taking on more risk due to uncertainty.
With the advent of Brownfield funding mechanisms to offset due diligence expenses, we have found that our costs become even less of an issue to a deal if Brownfield funding is being considered. The most important part of a transaction is to kick that process off very early and to allow time for everything to be approved by the appropriate government agency prior to spending significant funds.
Q: How long does it take to perform the type of site assessments that you’re talking about?
A: We can complete a site assessment (Phase I through BEA) as quickly as 30 days, but 60 – 90 is comfortable. If Brownfield funding is a consideration, the timeline is driven by local and state agencies that can easily exceed those time periods. We can sprint, but when we do, our client takes some risk of encountering a surprise at the last minute due to the amount of time required to get government agencies to respond to information requests. As a result of our extensive experience in the Southeast Michigan, we have an in-house library of historical resources, copies of MDEQ files, USEPA files, and thousands of boring logs. The information helps us cut down the timeline and uncertainty
Q: Once the site assessments have been performed, is that it or is there more work you would recommend?
A: If a site is contaminated, the purchaser takes on some obligations even with the BEA process. CERCLA has continuing obligations of which an owner of contaminated land must be aware. In Michigan, the purchaser has due care obligations toward future site users and innocent third parties.
We have several clients for whom we complete annual due care compliance visits to help make sure they are on top of the requirements. Though they are in the minority, we have found situations where these follow-up visits are of value.
Q: Can you describe a few of the most common environmental issues that are encountered in these former industrial sites?
A: There are relative easy issues to deal with – asbestos, underground storage tanks, historic fill, surface contamination from historic spills, etc., basically issues that can be handled under the Rules developed to implement Parts 201 and 213 of Act 451.
The more complex issues are those that cross into other regulations such as PCBs (regulated by TSCA), waste fills (where hazardous waste and landfill regulations can be brought into play), clean-ups where materials that might be considered hazardous waste are generated like lead paint or fugitive dust.
Q: Many of these entrepreneurs and startup companies are on tight budgets and may view environmental due diligence as a deal killer so they are tempted to skip the due diligence step. Are environmental issues deal killers? Also, what’s the downside if they don’t perform due diligence?
A: Every purchaser of property, particularly historic industrial property with complex environmental issues, needs to go into the transaction with a due diligence team that he or she trusts. The environmental consultant, environmental legal counsel, and transactional attorney need to be working hand in hand so that the timing and stipulations of the transaction match the issues at hand. In my experience, the deal killers happen when those items are not well orchestrated and a “surprise” during environmental due diligence disrupts things.
Purchasers of suspect land/buildings that view the due diligence process as a box to check, miss an opportunity to identify environmental issues before they get into trouble during development, construction, or refinancing. We view our role in the process as problem solver, not problem identifier. Virtually every environmental problem has a solution. The key is creating a scenario where time is available to solve the problem. While Michigan has a very useful law with the BEA process, there are a few environmental issues that can kill a deal. These typicaly involve extraordinary levels of contamination for which there are no funds available in the deal, or environmental issues are present and the purchaser cannot use the BEA for protection.
Q: What about geotechnical issues?
A: For properties with historical industrial buildings located on them, geotechnical issues that affect foundation support are not normally the driver of the due diligence process. In fact the historical building allows us to look at how the building has performed over its lifetime and get an idea of how the structure will behave in the future. However, in situations where building additions are required to support plans for future use, there can be significant geotechnical issues. Matching an addition to a building that has sat and settled for 50 years or so can be a bit complicated if soil conditions are not ideal.
Q: Last, but not least, you’re a West Point graduate. Does that background help when you are at these sites?
A: West Point was founded by Thomas Jefferson in 1802 to produce critically thinking engineers and leaders at a time when our nation was just beginning to grow and develop. The educational and leadership training was founded on the honor code. That foundation of integrity affects my practice every day. Clients learn very quickly that while they may not like what they hear from McDowell & Associates about their property, they are not going to be sold a bill of goods. We strive to help our clients understand the costs they are going to incur on a development project related to real environmental problems at the outset so that they are not surprised at the end. We bracket our cost estimates with a low estimate (relatively optimistic) and high estimate (relatively pessimistic). Our clients are rarely surprised by the outcome.
We thank Doug McDowell of McDowell & Associates for taking the time to provide his insight on due diligence associated with industrial property reuse.