When doing environmental due diligence in support of an acquisition, we are a small but sometimes very important part of a larger process.  While our fee is modest, we are often supporting a very high dollar transaction.  Occasionally we find ourselves center stage at the negotiating table.  Maybe our Phase I ESA found a REC and we are asked to deliver an opinion that may kill a deal and cost several stakeholders a substantial financial loss.   Sometime we find one of our peers/competitors across the table offering an opinion different than our own. 

Situations like this, where we are put to the test, are when we really earn our money. 

Our clients are generally graceful and diplomatic when negotiating with the other side.  Real estate professionals understand the importance of relationships and future reputation.  I have benefitted from the advice of some of the best in the real estate profession. "Be measured, but firm." "Be hard on the issues and soft on the people.” "Listen before you talk.”

I think clients respect when two engineers agree on the science, but differ as we get to risk tolerance opinion.  Two environmental professionals pitted against each other can fulfill their respective missions gracefully and diplomatically by keeping the debate in a professional place.  To do this I think you need to allow the other side to have their own opinion and to look for differences in the data analyzed. 

When environmental professionals act as graceful and diplomatic extensions of their clients, they deliver quality environmental consulting service.  

Anyone in the practice of Phase 1 ESAs knows this story.  A client calls and has two properties that need a Phase 1 ESA, but they are very close to each other.  To save money the client asks to do the two assets as one Phase 1 ESA.  

So where do we draw the line?

Clearly properties immediately adjacent can be lumped into one report; although if they have nothing to do with each other operationally, this lumping can make the report read awkwardly.  

What about if the second property is directly across the street?   What if it is non-adjacent but 300 feet away?   What if it is a quarter mile away?   Where is the limit? 

If the two assets are not immediately adjacent, it becomes more difficult to deal with in terms of aerials and database reports.  At some point the environmental consultant might be forced to order two EDR packages.  

When the assets are not operationally connected, the report reads strangely.  The consultant starts talking about property A and property B and they might as well just right two reports.  I recommend doing two Phase 1 ESAs when assets are non-adjacent or not operationally connected.  

I wonder if the ASTM E1527 standard can provide some limits here to protect consultants from having to write clumsy reports.   

What is the Expected Environmental Loss (EEL) on a Vapor Encroachment Condition (VEC)?

First, what does the term Expected Environmental Loss mean?   It is a term I coined and introduced on my previous blog post.   In short, it is the mean or expected loss that an owner will experience if they own a given asset with an associated recognized environmental condition.    The term Expected Environmental Loss (EEL) is mathematically patterned after the Probable Maximum Loss product.  

A series of Loss Scenarios could be imagined and then either through real data or professional estimates, a likelihood could be assigned to each scenario.   Of course, each scenario is unique.  Comparing the liability associated with a 20-year-dry-cleaner in California when groundwater is at 20 feet below ground surface with the liability of a 5-year-dry-cleaner in Colorado where the groundwater is at 100 feet below ground surface.    However, large site-specific case variability does not stop us from opining on PMLs, so why should it stop us from opining on the Expected Environmental Loss? 

So what is the Expected Environmental Loss on a Vapor Encroachment Condition?   First, let me state that I don’t want to get too far into the debate as to whether a VEC is a Recognized Environmental Condition (REC) – VECs are often RECs but it depends on the site.  

Secondly, my argument in past blogs has been that off-site releases rarely result in a big dollar amount for the owner of a site, if none of the following are true:  1) she is developing or dewatering the property;  2) the subject site has a drinking water well on-site;  3) the subject site has also released some sort of chemical and there has been co-mingling;  4) VOCs migrate on-site and represent a VEC.

Now, let’s take the 4^th scenario where an off-site VEC would be considered a REC as the basic case study for this EEL:  

A firm does a Phase 1 Environmental Site Assessment and finds that a retail center with no on-site RECs and on city water is 100 feet from a dry cleaner with a substantial release of PERC.  After a file review of the off-site dry cleaner’s regulatory file, the EP concludes that PCE vapors likely have migrated to the site at soil vapor levels above human health screening levels (HHSLs).  Since vapor levels are likely above the HHSLs, the EP designates the Vapor Encroachment Condition a REC.   

EEL estimate for an off-site VEC

Here is my EEL estimate on this VEC/REC case.  Suppose that I have had 100 clients in this exact situation.  Let’s say that all 100 clients purchase the property anyway and owned the office building for the next 20 years.  Here is my supposition on the resulting scenario likelihood:

50 Office Buildings           Zero Loss
29 Office Buildings           Minor Loss; forced to do Phase IIs during financing.  $10,000
20 Office Buildings           Does an investigation, a risk assessment, installs a venting system.  $40,000.
1 Office Building               Conducts active remediation on the on-site fraction of the plume.  $100,000

Total Loss =  (50x$0) + (29x$10,000) + (20x$40,000) + (1x$100,000) = $1,190,000

EEL = Total Loss/Sample Size = 1,190,000 /100 = $11,900.

If we look at the past 10 years, I think loss rates on this issue are far lower than the above estimates.   However, the EEL is intended to be forward looking. 

I think someone could argue that as awareness of these issue rises the third category will grow, but even so I don’t think that the EEL is going to get larger than $25,000.    

Some might argue that this data is all made up and arbitrary.  Well, that is how predicting the future goes.   We must use the best data and experience we have, and extrapolate that to estimate what the future might look like.  VEC loss data from the 1990s would not be very meaningful.   If our client is a buyer, she needs to know what the next 10 or 20 years will hold in liability. 

An off-site VEC is typically a Soft REC

The REC represented by a VEC from an off-site source is a soft REC compared to that of an on-site gas station.  The difference between EELs of an off-site VEC, $11,900, and a gas station, $164,000, is huge.    See my previous blog on Expected Environmental Loss for a discussion of the gas station EEL.

I wonder if some users would be willing to post their view on how such a data set would look in the future.  What do you think?  

My mission statement came from a conversation with my father.    My father was 5 years retired and he was reflecting on his career.   He was an automotive engineer for Cadillac and Buick.   He had a fine career getting promoted up the ladder as an engineer and as an executive.  When I asked him what was the most meaningful achievements in his career, he said:  “the people”.  

I was surprised by this answer.  Car companies produce cool products….or at least a lot cooler than a Phase I Environmental Site Assessment.    I asked him: what about the cars?    He said no, it was the people that he managed, mentored, and worked alongside.   Hmmm?

It is normal to compare yourself to your father and as a civil engineer doing Phase I ESAs and PCAs, I always felt like less of an engineer than a man who designed cars.   True as this may be, I found an opportunity to be successful in the arena that my father thought most important:  the people!

I set out to do something great:  build the best firm for talented employees.   I have more control over the work environment in my consulting firm than my father did at GM, and this has been our mission from day one.

I even kicked around a tagline of “Clients 2nd, Employees 1st!”   I think sophisticated clients would realize that happy, talented employees yield good service and high quality.   

Values are critical to attracting and retaining quality professionals.   A company must stand for something other than making money.   Staying true to values, even when difficult, has helped us create an environment where people work together and like each other.  We spend too much of our life at work to not get along with the people on your own team.   In the end, we might struggle to tell our grandchildren why our work was so important – we might end up like my father and talk about the PEOPLE.     

Non-Residential Energy Performance Disclosure and Energy Audit Requirement Summary

On February 8^th, 2011, the city of San Francisco adopted the San Francisco Existing Commercial Building Energy Performance Ordinance, requiring owners of non-residential buildings in San Francisco to obtain energy efficiency audits, as well as to measure and disclose energy performance annually.

Energy Performance Disclosure Requirement

The owner of every non-residential building in the city of San Francisco shall annually file with the Department of the Environment an Annual Energy Benchmark Summary report (AEBS) for each covered building using ENERGY STAR^® Portfolio Manager.  The AEBS shall be based on assessment in Portfolio Manager of the entire non-residential building and related facilities and must use 12 continuous months of data ending no earlier than two months prior to submittal to the Department of the Environment.

Energy Disclosure Schedule

Annual Energy Benchmark Summary reports from Portfolio Manager shall be filed with the Department of the Environment according to the following schedule:

1. For buildings greater than 50,000 square feet in gross area, the owner must complete and submit the initial Annual Energy Benchmark Summary report on or before April 1, 2011, and annually no later than April 1 thereafter.
2. For buildings greater than 10,000 square feet but less than or equal to 49,999 square feet in gross area, the owner must complete and submit the initial AEBS on or before April 1, 2012, and annually no later than April 1 thereafter.
3. For buildings greater than 5,000 square feet but less than 9,999 square feet in gross area, the owner must complete and submit the initial AEBS on or before April 1, 2013, and annually no later than April 1 thereafter.

Energy Efficiency Audit and Report Requirement

The owner of any non-residential building with a gross area of 5,000 square feet or greater shall conduct a comprehensive energy audit for each such building not less than once every five (5) years.  The energy efficiency audit shall meet or exceed standards set forth by the American Society of Heating, Refrigerating, and Air-conditioning Engineers (ASHRAE) Procedures for Commercial Building Energy Audits (2004).

1. Buildings greater than 50,000 square feet in gross area shall receive a comprehensive audit of the whole building which meets or exceeds the Level II Audit standard as defined by ASHRAE.
2. Buildings greater than 4,999 square feet and less than or equal to 49,999 square feet in gross area receive a walkthrough audit of the whole building which meets or exceeds the Level I audit standard, as defined by ASHRAE.

The energy professional performing or supervising the energy efficiency audit must have one of the following qualifications:

1. Licensed Professional Engineer (PE)
2. Association of Energy Engineers Certified Energy Manager (CEM)
3. Association of Energy Engineers Certified Energy Auditor (CEA)
4. A person with similar professional credentials as determined by the Department of the Environment

Energy Efficiency Audit and Report Schedule

The owner of every non-residential building shall file a Confirmation of Energy Efficiency Audit for each covered building with the Department of the Environment.  The Department of the Environment shall establish a schedule such that:

1. Due dates for all covered buildings shall be staggered over a five year rolling deadline, with subsequent energy efficiency audits and energy efficiency audit reports due every five years thereafter.
2. All buildings required to undertake an energy efficiency audit shall be assigned a specific date when a completed energy efficiency audit is due.

Buildings owners may comply with the first assigned due date for an energy efficiency audit by submitting records of audits, retro-commissioning, and retrofits performed not more than three (3) years prior to the effective date of this ordinance.

The new San Francisco Existing Commercial Building Energy Performance Ordinance will force building owners to benchmark their buildings via EPA's Energy Star, which they really need to anyway to comply with Califronia Energy Disclosure Law AB 1103.   AB 1103 requires property owners to disclose their buildings Energy Star Portfolio Manager ratings during lease, sale, and financing transactions.   So on some level, building owners were required to do their energy benchmarking work anyway. 

2011 should be an interesting year.  Email me if you have further if you have further quesiton:  joe@partneresi.com.

The commercial mortgaged-backed security (CMBS) industry has been reborn in 2010.  CMBS underwriters call their new underwriting paradigm CMBS 2.0.   Providers of third party reports such as Phase I Environmental Site Assessments, Property Condition Assessments and Probable Maximum Loss reports ask: What does CMBS 2.0 mean to our trade?   

The Phase I Environmental Site Assessment and the Property Condition Assessment are rather standardized and in my opinion are being provided to CMBS lenders with great reliability.   The Probable Maximum Loss report needs standardizing.   In 2007, ASTM published two new standards for Probable Maximum Loss Reports:  ASTM E2026-07 Standard Guide for Seismic Risk Assessment of Buildings, and ASTM E2557 Standard Practice for Probable Maximum Loss (PML) Evaluations for Earthquake Due-Diligence Assessments.

These new ASTM Standards improve the process, but are too flexible.  For example, the standards do NOT specify how an engineer should calculate a PML and some engineers perform calculations that are out of the mainstream or worse, do no math at all—they just call it based on their judgment.  Of course my colleagues may be very good engineers, but what the industry needs is an objective measurement of seismic risk.   The process should be transparent and peer reviewable.  

Objective reliable Probable Maximum Loss Reports are easily achievable; we just need some help from our clients.  Yes, the clients must do their part.   If clients require the following we will be more than half the way there:

1)      Only order reports from firms with registered engineers on staff;

2)      Require the engineer to show his/her math;

3)      Require that the engineer call the Scenario Expected Limit as the PML, but also report the Scenario Upper Limit. 

I have participated in writing the Probable Maximum Loss Scope of Work for several lenders and my rational for my recommendations is presented more thoroughly in my RMA Journal article titled Managing Seismic.

Happy Holidays,
Joe Derhake, PE

The SBA published their latest update their environmental policy in SOP 50 10 5 (C).    The SOP revisions take effect on October 1^st, 2010 we should all bone up on a few of the new elements of SOP 5010 5 (C) (pages 199 – 206 & 310 – 317).

One now technical but important point is that the Reliance Letter has had a revision and the Reliance Letter from SOP 5010 5 (B) will no longer be accepted by the SBA.   Lenders should make sure their environmental consultant knows of the new Reliance Letter before ordering an SBA Phase I Environmental Site Assessment.   

Overall the Environmental Requirement changes in this latest SOP were minor and summarized below.

• For loans less than $150,000 where the Environmental Questionnaire comes back showing further investigation is required, you may now have a Records Search with Risk Assessment (RSRA) performed instead of having to go to a Transaction Screen Report.  SBA believed that this was more with the natural progression of reporting and therefore made this change.
• When reviewing the NAICS Codes of Environmentally Sensitive Industries the code 8123 LAUNDRY & DRY CLEANING SERVICES it now will state if dry cleaning operations have ever existed on-site.  Prior to the revision it stated if dry cleaning operations on site.
• In Section f) Mitigating Factors that SBA will rely upon to disburse before completion of remediation or monitoring, for section f) titled Escrow Account the new SOP clarifies two issues.  The first being that the money put into the escrow account can’t come from funds from the SBA loan itself.  The second clarification answers the question if the money in the escrow account can be used for the actual remediation itself or if it needs to stay in the escrow account until the remediation is completed.  Yes, it can be used for the remediation costs—similar to a construction loan.
• In Section g) Groundwater Contamination Originating from Another Site, the revision to the SOP eliminates the sentence, “and lender can demonstrate that the contamination has not caused significant damage to the collateral value and marketability of the Property”.   They made this change understanding the lender really couldn’t demonstrate or comply with this requirement.
• The Reliance Letter in appendix 3 has been modified by adding the words “as it impacts the property” at the end of the last sentence in regards to a Phase II Environmental Site Assessment.
• Special Use Facilities (Section H), when a Phase II is required for a dry cleaners in operation for more than five years the Phase II Environmental Report must be conducted by an independent Environmental Professional who holds a current Professional Engineer’s or Professional Geologist’s license and has the equivalent of three years of full-time relevant experience.
• Appendix 5: Requirements Pertaining to Gas Station Loans, Phase I’s no longer need to be conducted by an Environmental Professional who holds a current Professional Engineer’s or Professional Geologist’s license and has the equivalent of three years of full-time relevant experience.  It can now be conducted by an Environmental Professional meeting the requirements as outlined in Appendix 2: Definitions. 
• Appendix 5: Requirements Pertaining to Gas Station Loans, Phase II’s must be conducted by an Environmental Professional who holds a current Professional Engineer’s or Professional Geologist’s license and has the equivalent of three years of full-time relevant experience.

Much of the information in this Phase 1 Environmental Site Assessment blog was provided by my partner, Gary Reynolds, our SBA Expert.