Episode 01: Environmental Regulations & M&A Transactions

Ron Reed, CEO and Managing Director at Cascade Partners, and Michael Kulka, Founder and CEO of PM Environmental, Inc. discuss the role of an environmental consultant in an M&A transaction.

If you are a business owner or considering buying a business, what are the topics you should be thinking about relative to environmental opportunities?

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Transcript

00:00:00:11 - 00:00:15:12

Announcer

Welcome to Cascade Conversations. Join the team at Cascade Partners and their network of trusted advisers as they work to demystify details terminology and strategies in the world of acquisitions, divestitures and financings.

00:00:17:03 - 00:00:39:15

Ron Reed

Mike, thanks for joining us today and thanks for the lunch on and we just went through. You and I just went through a pretty interesting transaction. And today what we wanted to talk about to educate are both our current and prospective clients would be what are the types of customers, what types of businesses should think about using an environmental consultant like you when considering a transaction?

00:00:40:00 - 00:01:07:02

Michael Kulka

OK, well, thanks for having me, Ron, and I am honored to be participating in this conversation. The the transaction we worked on had a very industrial flavor and a couple of century old portion of Detroit. So that seems blatantly obvious. But you'd be amazed how many don't look quite so ominous on the surface. We've done apartment complexes that were built in the sixties on what used to be an industrial area.

00:01:07:13 - 00:01:34:21

Michael Kulka

So it's it's hard to pick a class of business type or class of property use that is like automatic. You must or must not. There's low level due diligence product products that can identify those lower risk by perception, that can answer those questions with relative ease at a very minimal cost. So I would really say I've worked on every type of property that you would think is contaminated.

00:01:34:21 - 00:01:39:23

Michael Kulka

And as that and ones you would be sure are clean that are not you know, so it's just it's a wide range.

00:01:40:05 - 00:01:56:24

Ron Reed

So if I'm a business owner or I'm buying a business, what are the topics I should be thinking about? Relative to environmental, knowing that I've probably performed some level of environmental if I purchased property historically, what should I be thinking about now as I'm preparing for a transition?

00:01:56:24 - 00:02:27:02

Michael Kulka

So most business owners are aware of doing an annual review of their financials, meeting with their CPA, doing tax planning, knowing what the tax liabilities are, because you have to file a tax return every year. When you look at environmental, really the things that drive an hour a day action that drives the regulatory issues. So a forklift had some drums in, it spills or something happens, you react and then you compare it to Lars because you have to react to that incident.

00:02:27:12 - 00:02:55:10

Michael Kulka

If nothing happens and you bought a property 15 years ago and everything was fine, you may not know that regulations have changed two or three or four times in that timeframe. So if you have anything you know that's got a E in front of it on a report that you've done, and in a V after that, you probably really are wise to have that reviewed and make sure there's nothing in there that, you know, may raise red flags to a potential purchaser and could delay the diligence on your transaction.

00:02:55:10 - 00:03:14:19

Ron Reed

So give me an example of that. So again, I just want to drill into that a little bit. So I purchased a property, say, 15 years ago. I've been running my business on that property for 15 years. I did environmental work when I purchased it. The bank made me do that and we have all the reports, what can I do now as I'm preparing to do to go through a transaction?

00:03:14:19 - 00:03:27:12

Ron Reed

Do I need to do a full environmental drilling? Do I have to go out and do soil samples, or is there something I can do just to kind of check my data against the modern.

00:03:27:12 - 00:03:54:18

Michael Kulka

Regulations on a buy side? You're always going to do a full phase one due diligence that's a prerequisite and deal flow. If they're using any one with a modicum of intelligence and a legal team or really any investment banker and society have a little bit more latitude to use some hybrid products because you already own the properties and and you've already established, hopefully in the past, all appropriate and we're going to innocent landowner defense.

00:03:55:04 - 00:04:23:18

Michael Kulka

So if there is a problem later, you're already as they say, eight, eight months pregnant. So now how do we deal with that delivery? So it's a matter of looking at this and if there's prior reports, you can do a technical review. We oftentimes will do limited historical review to just see if there's any reason to believe that there could be other issues there might be a property they've owned for 30 years and they didn't even know they needed to do environmental back then.

00:04:23:18 - 00:04:48:09

Michael Kulka

And maybe their operations are fairly benign. They're doing light assembly, some welding. They're not really using chemicals. They have a great business humming, but you might want to pull some historical aerials or historical Sandborn maps that might show it was a player in the thirties to the sixties, and then there's potential for chlorinated solvents, and vapor regulations largely didn't exist 15 years ago.

00:04:48:17 - 00:05:18:27

Michael Kulka

They've changed four or five times in Michigan since then. And then you have, you know, emerging contaminants. So there's a new they call it a forever cam or chemical device, which is used in bonding. So it's used in plating. It was used and waterproofing very, very powerful tool very, very low clean up criteria. So my 33 year career, I've always dealt in parts per billion as a minimum threshold for detection.

00:05:18:27 - 00:05:38:11

Michael Kulka

We now deal on parts per trillion. So that's a significant difference. So it's being aware that these problems may exist that may not necessarily have any liability tied to them as an operator or their operations, but it's going to affect the transaction, it can affect the collateral value of the real estate that's tied into the business.

00:05:38:17 - 00:06:02:22

Ron Reed

When I want to drill into that one, because you and I have seen this together in a transaction where the our client did everything right when they purchased the property. They'd been they didn't do anything further to pollute the property in any way at all. However, underneath them, the regulations changed. So when we went to market, knowing the regulations changed, actually changed the dynamics of their environmental due care.

00:06:02:26 - 00:06:05:26

Ron Reed

Correct. Maybe you can talk a little bit about due care. And in those.

00:06:06:07 - 00:06:29:29

Michael Kulka

Well, they become sensitive sellers because they did do everything right. And it's not like if you paid a 10% income tax rate in 1970, you're going to find out they changed that rate and you have to now pay 15% because they increased the rate. We kind of do that backwards. They, we don't grandfather things so you really have to hold their hand and let them be aware of that.

00:06:29:29 - 00:06:52:20

Michael Kulka

You know, this is an issue and you now need to deal with this and you also need to be aware you should have been dealing with this three, four or five years ago and the regulation changed. They don't know it, the regulators don't send them anything. But if another event occurs, such as that forklift hitting a drum and the regulators get on site and they pull their files, huh?

00:06:53:16 - 00:07:14:28

Michael Kulka

You guys should have done all this stuff. So it's not policed as heavily as you would think it would in the environmental world. And how sensitive, especially in Michigan, with the Flint water crisis, you would think there'd be more resources on it. And there's they're spread pretty thin. So when a transaction occurs, a buyer becomes aware of that.

00:07:15:09 - 00:07:39:16

Michael Kulka

This really could be an issue. And as much as the seller kind of feels, you know, why, why am I now being told I could have a a six or seven figure problem? Well, now, even if they walked away, they're aware of it. So I always told the sellers, you know, if you want to hire us to do some preliminary you better be prepared to deal with whatever we find because it's going to serve us well.

00:07:39:16 - 00:07:54:12

Ron Reed

And as we talked about your responsibilities for due care aren't served by ignorance. So just because you are ignorant of the fact that you should have been delivering due care doesn't change the fact that you are still responsible for due correct.

00:07:54:20 - 00:08:10:27

Michael Kulka

And it is unfortunate that yet when they do change some tax law that you pay more or less, you use something in the tax code. You're not going to know what your CPA is going to know it, and you'll be happy if you get more money back and you'll be mad if you got to pay more. You don't get mad at the CPA.

00:08:11:07 - 00:08:32:26

Michael Kulka

That's just the system. And I find people get very emotional about it differently than taxes. And I draw that analogy often because environmental consultants are to the EPA or you know, Eagle. These regulatory agencies similar to what a CPA is to the IRS when it comes to pleasing the IRS. Everyone knows that you don't want to mess with the IRS.

00:08:32:26 - 00:08:48:29

Michael Kulka

Well, guess what? You don't want to mess with these regulators either. They have a tremendous amount of power, and there are letters that go out documenting do care or they threaten fines and penalty, and then they impose fines and penalties. And you just don't read about it a lot.

00:08:49:06 - 00:09:10:09

Ron Reed

Well, one thing I think that was also valuable that you've helped us educate here, helped educate us here at Cascade is just how many pools of money there are for entrepreneurs and owners for taking care of some of these issues. So, you know, once you learn about them, doesn't mean you're completely on the hook depending on the nature of the situation for all the funds.

00:09:10:17 - 00:09:34:27

Michael Kulka

That's a that's a great point. I'm glad you absorb that other presentation. They don't always work. They don't help prior perfect the parties that cause a contamination. But if there are residual legacy issues, the example I gave of the player that that went out of business in 1960. There are some good tools out there to proactively identify the problem get your arms around it and see what's the best way to solve the problem.

00:09:35:02 - 00:09:48:18

Michael Kulka

Whether if there is some assistance or not, how can you spread expenses that you didn't know about for a 15 year time period that maybe should have been done ten years ago. You know try to figure out the best way to soften that blow.

00:09:49:01 - 00:10:14:02

Ron Reed

Right. And so we are in southeastern Michigan and you and I deal with this a fair amount. The types of businesses that we routinely work with are benign. They wouldn't they don't use solvents. They wouldn't think of themselves as having environmental issues. You know, they may be doing assembly, as you describe what are the kind of things they really need to be thinking about as they go into preparing for a transaction.

00:10:14:20 - 00:10:15:10

Michael Kulka

And it's also.

00:10:15:25 - 00:10:16:07

Ron Reed

On the sell.

00:10:16:07 - 00:10:40:04

Michael Kulka

Side, while they don't know what they don't know. Right. So an environmental is the one that's probably the worst, especially most of these business owners that you're going to represent started their business 15, 20 or 30 years ago. So a lot has changed and you know, circle and environmental due diligence that law passed in 1980 and no one really knew much about what it was or what it did until the late eighties.

00:10:40:04 - 00:10:55:10

Michael Kulka

So there's a lot of businesses that fall into the establishment of kind of the new normal today and they just don't know any better because they haven't had a transaction occur that brings them awareness to what and how much has changed.

00:10:55:16 - 00:11:12:10

Ron Reed

So help me. So I have a business, it's an assembly, it's 50,000 250,000 square feet of space that I either own or that I'm dealing with. What's the budgetary price for getting you involved or B pre transact and just help me think through what issues I may or may not have.

00:11:12:15 - 00:11:29:28

Michael Kulka

It's hard to put a price on a per square foot or a per user because you never really know what that's current use that doesn't you know, you could have a cell phone store that was a gas station or a donut shop or the manufacturing light assembly that was just a warehouse and the light assembly was well done.

00:11:29:28 - 00:11:58:15

Michael Kulka

They didn't really use any chemical. So, you know, the low end of a property like that could be 1500 to $2,000 to really get a handle on knowing you're not going to get T-boned in the middle of an intersection. Whereas other property is, you know, I have a portfolio of 20 properties that are 50 to 100,000 feet and you know, I just throw out $20,000 could go a long ways to do some, you know, pile on some layers back and see if there's a problem.

00:11:58:26 - 00:12:09:23

Ron Reed

So it's a manageable number. I think that's, I shouldn't be afraid of it. The number that would be the concern is when I find something, that's when things can get expensive but ignorance is really not bliss in this case.

00:12:09:24 - 00:12:34:15

Michael Kulka

Yeah, unless it's a very heavy industrial user that is really poorly managed, their process, whether it's got a lot of issues or not, or our percentage of a deal is less than, you know, it's in fractions of a percent. Not, not that that I'm trying to downplay the importance that's really my point is it's not a lot of money for something that really will add significant value and save a lot of time.

00:12:35:08 - 00:12:48:01

Ron Reed

Well, I'm really appreciative and grateful that you showed up again today. We've enjoyed working with you, Mike, and and I'm grateful that we put this together and we look forward to working with you. Many years in the future.

00:12:48:07 - 00:12:50:13

Michael Kulka

I look forward to it as well. Thank you. And thank you for the gift.

00:12:50:22 - 00:12:51:02

Ron Reed

Bro.