A Phase I recommends a Phase II, and the seller wants an as-is close in 30 days

Take a contract on a 21,000 square foot neighborhood strip center, seven bays, 78 percent leased, contract price 1.44m, in-place NOI about 139k, a 9.65 in-place cap rate. A buyer at 1.61m contingent on clean environmental represents an 8.6 in-place cap for that buyer, still workable because two leases are 30 percent under market and roll in 19 months. One bay operated as a dry cleaner until roughly 2011. A Phase I comes back with a recognized environmental condition and a recommendation for a Phase II, running 14 to 22k and four to six weeks depending on the lab. Due diligence expires in 12 days, and the seller has stated in writing he will not extend and will not contribute to environmental work, as-is, 30 days, take it or leave it. The buyer will not close without the Phase II, and his lender will not fund without it either. The options in a spot like this: pay for the Phase II out of pocket and absorb the timeline risk, which rarely fits inside a 12 day window; terminate and absorb the sunk cost of the Phase I and survey; find a buyer willing to take environmental risk as-is, which usually means a much wider cap rate and a compressed spread; or assign the contract now at a reduced fee and let the end buyer negotiate the extension directly with the seller. That last option is tempting but carries a real trap. If the seller will not extend for the original contract holder, there is no reason to expect he extends for someone new, and an assignment into a deal that then dies burns the buyer relationship for a small fee. A dry cleaner REC from over a decade ago is not automatically fatal to a strip center deal. It is the kind of environmental issue that regularly gets priced through remediation cost estimates and indemnity language rather than killing a transaction outright, but only when there is enough time in the contract to actually run the Phase II.

tonyv88 PU4APRO 10

Answer

Rena Expert

Two mechanics matter here and both cut against options 1 and 4.

First, environmental liability on contaminated property can attach to owners regardless of who caused the contamination, and the protections that exist for buyers generally depend on having completed appropriate inquiry before acquiring, which is what the phase I and any recommended follow-up work goes to. A phase I that recommends a phase II and a buyer who closes anyway is exactly the fact pattern that puts those protections in question. How that plays out is specific to the site, the state program, and the federal framework, so it's a question for environmental counsel and a qualified consultant, not a forum. The practical consequence is the one you already found: institutional lenders will not fund into an unresolved REC, which shrinks your buyer pool to cash buyers who price the unknown at the top of the range.

Second, the phase I report itself is usually licensed to the party who commissioned it and often can't be relied on by anyone else without the consultant issuing a reliance letter. If you're planning to hand your report to a buyer or to a future buyer six weeks from now, ask the consultant now what reliance costs and whether the report has a shelf life for lender purposes, because these reports are commonly treated as stale after a period and lenders set their own limits. Confirm that in writing with the consultant.

On the decision itself, the thing carrying your whole spread is 19 months of below-market rollover, and that value survives whether you close now or not. The environmental unknown does not survive contact with a lender.

Rena Expert

3 replies

joe_delgado5ActivePRO

Dry cleaner RECs get priced, they don't automatically kill deals, but the pricing is wide and slow and neither of those helps you in 12 days. Perc and its breakdown products migrate and the remediation range on a small site runs from a monitoring plan that costs almost nothing to six figures of soil and groundwater work. Until phase II you're guessing inside that range and no lender is going to guess with you.

Option 4 is worse than you think. If the seller won't extend, your buyer inherits a hard 12 day clock on a deal he can't fund, and he'll know within a day who handed him that. I'd terminate, keep the phase I, and go back to the seller in six weeks when nobody else has closed either. He'll have found out what the market thinks of an as-is dry cleaner site by then.

joe_delgado5ActivePRO

gregpowell66 AC4BPRO 19

One more angle before you terminate. Ask the consultant whether a limited phase II scoped just to the former cleaner bay, a few soil borings and one groundwater sample, can be done faster than the full recommendation. Site work of that scope can turn around in under three weeks with a rush lab fee. That leaves the seller's refusal to extend untouched. If the answer is 17 days rather than six weeks, though, the conversation with the seller changes from "give me six weeks" to "give me 17 days and I will pay for it," and sellers say yes to the second one far more often. Option 4 still stays off the table.

gregpowell66 AC4BPRO 19

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