Updated: Oct 5, 2020
Consciously incorporating an energy management plan into the due diligence phase of an acquisition can help create a successful portfolio.
Investment sales volume that set records in 2018 is predicted to continue in 2019. As 2018 closed with $537 billion in sales and 15% growth in annual investment volume, the final 2019 numbers and 2020 projections are still being analyzed.
While the numbers may fluctuate, what never changes is the amount of work that goes into the hundreds of thousands of annual commercial real estate transactions that occur throughout the U.S. From survey and title check, to inspections, and reviewing encumbrances, vendor contracts and zoning—it all comes down to running the numbers to determine if the net operating income justifies the purchase price.
Regardless of the investment genesis, the due diligence phase is crucial to executing a successful acquisition. That’s why it’s important to consider the energy impact while evaluating the commercial property.
Why Energy Matters
It’s no surprise commercial real estate has increasingly experienced a greater demand to reduce energy costs while improving energy performance of existing buildings. After all, according to ENERGY STAR, “energy use is the single largest operating expense in commercial office buildings representing approximately one-third of typical operating budgets.”
Yet many commercial real estate transactions occur without proper energy due diligence, even though becoming more energy efficient can reduce operating expenses, increase property asset value and enhance tenant comfort.
Energy advisors can play a strategic role in helping commercial real estate firms identify energy opportunities during the due diligence phase to help buyers determine the potential to increase net operating income after an acquisition. And, there are vital steps one can take prior to purchase that may help increase asset value pretty quickly after closing.
Three Key Considerations Before Buying a Commercial Property
Here are three areas to be mindful of before buying a building. Focusing on these prior to purchase can help to lower energy spend and optimize building performance:
Energy Contracts: There is so much information to rifle through when exploring an acquisition, and signing a blanket assumption agreement of contracts can simplify the process. However, it may not be in the best interest of the buyer. Energy advisors can evaluate energy contracts prior to the close of a sale to help buyers determine the best option, such as assuming the existing energy contract or putting a new contract in place after the sale to reduce net operating cost.
Utility Deposits: Utilities require a deposit for new accounts and can hold onto that money for years. For example, it’s not unheard of for utilities to charge $80,000 for a deposit on an office building and return it four years later. Though each utility has their own algorithm, when deposits can reach into the tens of thousands of dollars, four years is a long time to have a large amount of cash tied up. The good news is buyers have options. The first option is to place the building in an account that has a good history with the utility, therefore minimizing the utility’s risk and avoiding the deposit altogether. The other option is to put a surety bond in place that charges a small premium per year. Using the same example, a 1% premium would only put the buyer out $800 a year. So, instead of giving $80,000 to the utility to hold onto for a while, buyers are able to find other ways to use their cash.
Energy Data Access: Energy data can offer a treasure-trove of information when looking for ways to save money. However, once the account name is changed after a purchase, utilities erase the building’s energy usage history, making it difficult to ascertain its level of energy efficiency. While many buyers already gather 12-24 months of utility bills, grabbing more detailed data from utilities can be even more valuable. For example, BGE provides energy data in 15-minute intervals that can offer insight into when buildings power on or off, revealing potential savings information. Reviewing utility assessment reports on building performance is just the first step of mining and managing the energy data. Energy advisors can also use that information during a building energy audit to better guide the evaluation of the building for cost-saving opportunities.
When trying to boost net operating income, it can be easy for buyers to focus solely on increasing occupancy and raising rents. But, it’s equally important to focus on reducing operating costs, and energy offers prime opportunity to improve building performance.
At MD Energy Advisors, we’ve been empowering commercial clients to make informed decisions about energy since 2010. Over the years, we’ve seen how a bit of extra insight during the due diligence phase can pay off in the end—whether that’s savings or peace of mind or both.
MD Energy Advisors demystifies energy through education, and can help commercial real estate clients increase asset value by anticipating and solving their energy problems. Learn more at www.mdenergyadvisors.com or call us at 410.779.9644.