Due Diligence for Buying a Business with Real Estate

Commercial Real Estate Toolkit

When purchasing an existing business, the business being acquired may own real estate that must be purchased at the same time as the other business assets.  Often in these business transactions, critical real estate issues are overlooked.  The purchaser should negotiate due diligence, representations and warranties, title, survey and other critical real estate transaction clauses into the definitive sale agreement or have a separate purchase and sale agreement for the real estate. In order to avoid overpaying for the real estate or taking on unnecessary risks, the purchaser should do its due diligence on the real estate as if it were a separate and distinct transaction and consider the following recommendations: 

1. The purchaser should obtain third party reports, including an ALTA/NSPS Land Title Survey, Phase I Environmental Site Assessment, Property Condition Assessment, Zoning Report, and an appraisal from an MAI certified appraiser. If the Phase I Environmental Site Assessment identifies recognized environmental conditions, obtain a Phase II Environmental Site Assessment to determine the extent of the problem.
2. Complete any required municipal inspections during the due diligence period. When a business changes hands, a new business license or certificate of occupancy may be required by the local municipality. The municipality may require an inspection of the premises (usually for fire and life safety compliance) prior to issuing the license or certificate. Contact the local municipality and ask that it perform required inspections during the due diligence period. If the purchaser skips this step, the inspection will be performed after the closing and the purchaser may have no recourse against or may have to chase the seller if the municipality requires expensive upgrades to the facility, such as a new fire alarm and suppression system or accessibility features.
3. Raise issues with the Seller promptly. If the purchaser finds deficiencies during the due diligence period, the purchaser should raise the deficiencies with the seller and request that they be addressed prior to closing. Alternatively, the purchaser may ask the seller to provide a credit at closing or escrow funds sufficient to cover the anticipated cost. For example, if the purchaser finds that there is a underground storage tank that leaked toxic chemicals into the soil, the seller should be responsible for the cost to remove the tank in compliance with applicable law, remediate contaminated soil and obtain a no further remediation letter from the Illinois Environmental Protection Agency.
4. Confirm the real estate is a good long term fit. The purchaser should tour the property with its favorite architect and contractor and get estimates on what it will cost to renovate the property to meet the purchaser’s objectives into the future.  If the property is not a good long term fit, the purchaser should discuss with the seller a short term lease instead. The lease should provide for sufficient time to evaluate relocation options and consummate the move.         

By following the recommendations above, the purchaser can reduce expensive unforced errors that occur when the real estate purchase is treated as an afterthought. If the purchaser determines that there are significant problems with the real estate, the purchaser can terminate the contract, renegotiate the price, or try to switch from a sale to a lease, before the end of the due diligence period.

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