Due Diligence Includes Reviewing Operational Efficiency

How many times have you witnessed an operation and thought to yourself, why are they doing it that way or could that procedure could be done a lot easier? Sort of like removing the middleman or better yet, removing unneeded links from a chain. Terms to keep in mind are LEAN and Six Sigma. Now while many of us are familiar with the terminology, most of us leave the implementation to the experts. 

LEAN and Starbucks

Ben Root, a LEAN consultant and friend of mine spent some time in Seattle helping Starbucks to increase efficiency in their stores by reducing the number of steps a barista would take in making something as simple as a cup of coffee. Keep in mind, Ben, who has been the director of manufacturing for a multi-state bakery practices these concepts every day, even if it's ensuring the proper labeling of bakery ingredients. Because what can go wrong will go wrong! For example, baking soda versus baking powder. The results and tastes can be very different.

Ask Questions

The same concept can be applied to commercial real estate. If you've been asked to conduct due diligence on a factory seeking funding, wouldn't it be wise to conduct a walkthrough of the operation in addition to examining financial statements? Experience has taught me that missed opportunities are everywhere. Don't be afraid to ask questions. What are their markets? Why not ship out of state or across the ocean? The answer could be as simple as low demand, high shipping costs, or I never thought about it that way.

On my trips here and abroad conducting due diligence for lenders on real estate projects I've learned not to assume. No, that person doesn’t have a third-party license to manufacture. Or the borrower wants to build 5,000 units for Barter Dollars (trade) without thought to loan repayment. Or why is restoration planned for a dilapidated building which blocks an awesome view of the ocean? By asking, I've heard various answers. Some good and some out in left field.

Lesson Learned

In the case of the borrower not having a third-party license, I did not learn of that specific until I had traveled across country and spoke with the patent holder. The fact is, I had failed to ask! But when I did speak to the borrower about his plans for repayment, the question was met with silence.

Found - New Sources of Revenue

In Mexico, the borrower/developer on a big project wanted to bring to life an older resort, but did not realize the new sources of revenue right in front of him! I provided ideas that included a change in the project vision. One of which, was the tear down of a dilapidated building and the construction of a covered outdoor reception/conference area. The changes would save in renovation costs and enhance the overall beauty of the resort. In addition, the new structure would create additional revenue streams and a venue for weddings, receptions and outdoor business conferences! The restaurant, hotel, bar, conference center already existed and could easily benefit from the new business.

So, while conducting due diligence, don't be afraid to do a walk through and ask questions. One never knows in the beginning what they're going to see or hear. And maybe a suggestion or two could add value influencing the borrower's bottom line, making the loan request a successful one.