Environmental Due Diligence Critical to M&A Risk Mitigation – TriplePundit | Region & Cash

Mergers and acquisitions (M&A) hit a staggering $2.4 trillion in 2021 — something not seen since 2015. While 2022 may not see this level of activity, significant mergers and acquisitions are still expected. As these transactions proliferate, the organizations involved will face new mitigation challenges as investors become increasingly concerned about the potential impact of climate-related risks on businesses.

Looking more closely at the industry drivers for the second half of 2022, the acquisition of commercial space will continue at a relatively strong pace, especially as many companies are sticking to a hybrid working model and no longer have to or want to bear the costs of large offices. In addition, many companies are suffering from ongoing global economic turmoil and significant supply chain restrictions. For many, profitability is falling beyond the point of survival, and building owners may be looking to cash out while they still have equity in their organization. As construction costs rise and home prices remain near record highs, there is an opportunity to renovate or retrofit a company’s existing properties to accommodate the shift from large commercial or industrial spaces to smaller, more flexible commercial or residential spaces suitable for the hybrid designed are workers.

As companies navigate a landscape where potential transactions may be impacted by global economic headwinds and an environment of rising interest rates, they must also consider the need to update and prepare their risk models and mitigation processes to better incorporate risk profiling into environmental due diligence record. However, meeting these new risk requirements will be a daunting task for many companies, but at the same time is something that should not be ignored in this new deal environment.

Hidden environmental risks can affect your company’s reputation and bottom line

The last thing an organization wants is to acquire another business or property that has a tarnished compliance history or is tied down with unnecessary or overly restricted permits. From an environmental compliance perspective, companies must now consider risk factors for current and future operating conditions of the potential acquisition. This is imperative to ensure that all parties involved are compliant with the necessary regulations and have the capacity to allow for expansion of production.

A prime example of this can be seen in the design and development. Changes from commercial or industrial use to residential development may trigger more stringent environmental remediation standards. When remediation work is undertaken on an acquired building or property, it is important to understand whether there may be contamination in any of the areas that the work could affect. In many cases, these areas may not have been previously surveyed as they have historically been under existing infrastructure and inaccessible, but may be exposed as demolition or new construction begins. A key part of environmental due diligence is a better understanding of any type of contamination and how to deal with it correctly and efficiently, with a focus on the future use of the property.

Improper environmental due diligence could turn the acquiring organization into a black eye, and the lack of operational flexibility due to permitting restrictions could reduce the investment’s profit margins. However, as organizations reevaluate their due diligence processes, they need to take a closer look at their risk models to ensure they meet any new risk mitigation challenges.

Updating environmental risk models for the New Deal environment

Given our collective experience over the past few years and an overall increased focus on sustainability initiatives, the pre-2020 risk models and strategies that primarily focused on adverse real estate impacts or operational compliance may no longer be adequate for future transaction assessments. As companies ramp up their M&A activity, it is important to ensure that risk models are updated and ready to go.

Issues such as environmental impacts, supply chain instability, community acceptance, permit transfer or termination, and surprises related to operational health and safety obligations could all have an impact and become costly later if not factored into the models from the start. Depending on the parameters of the transaction and how liabilities are or are not transferred with the assets, organizations will often find that the cost of doing business associated with these risks can far exceed the cost of the initial due diligence.

However, many companies limit their due diligence to simple Phase I Environmental Site Assessments (ESAs), which do not provide the full picture needed for a thorough assessment. The importance of considerations not included in the Phase I ESA process becomes even more critical with recent changes in how sustainability initiatives must be documented and reported and the shifting focus of most global brands. By shifting focus and risk models beyond Phase I of the ESA, firms can aim to further protect the interests of both parties involved in the transaction

Ultimately, working through historical data in the due diligence process requires a great deal of upfront commitment. There is a multitude of documents and data that need to be analyzed and companies should work with a third party that understands a buyer’s strategic goals, then manages, organizes and interprets the data to best meet a buyer’s goals – and these fully realize and articulate risks associated with the investment.

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Photo credit: Pavel Danilyuk via Unsplash

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