Implementing the new ASTM Environmental Due Diligence Standard

New categories of Recognized Environmental Conditions mean that financial institutions must adjust their risk appetites

It’s been several months since ASTM released its new standard for Phase I environmental site assessments, E1527-13, and most consulting firms have completed their transition to the 2013 standard that replaces the 2005 version.  How are things going so far?

• Use of different Recognized Environmental Conditions categories is inconsistent among consulting firms.  I review a lot of Phase I reports from a wide range of consultants. The most common issue I encounter is that consultants don’t apply the REC, Historical REC, and Controlled REC designations consistently with the ASTM standard.  ASTM attempted to fix this by making a more clear definition of “release” and distinguishing between conditions that are a current issue (RECs), those that are historical and no longer present a risk to the site (Historical RECs), and those that are undergoing remedial action with responsible parties and do not present risks as long as the remedial action proceeds (Controlled RECs).  Unfortunately, environmental consultants face a two-fold problem. First, the commoditization of the Phase I and very competitive pricing means they have their most junior staff completing the inspections and writing the reports, with only cursory review by the senior environmental professional who signs off on the report. Second, their customers want clean reports, with no issues that will affect a property’s value or prevent a transactions from occurring, so any REC findings require aggressive defense.  The temptation to call out a REC but label it historical or controlled is a strong one.
  

• Large institutional investors have not yet made it clear whether the new Controlled REC or vapor intrusion risks will significantly affect their decision making.  At this point, the large investors I work with are still getting used to the new standard themselves. The process for evaluating reports and addressing potential issues varies tremendously from one institution to another, but a general rule of thumb is that only sites that have identified issues or are anticipated to be complicated are reviewed in detail by a specialist in the environmental field.  Financial institutions will apply a more strict set of risk tolerances to single asset transactions than they will to large portfolios, because large portfolio risks can be managed with environmental insurance policies and by cross-collateralizing the assets so that contaminated sites can be excluded from foreclosure in the event of a loan default. Because consultants tend not to identify contamination issues, and because financial institutions filter the Phase 1 report reviews, I think it will take a period of years before any problems with the new standard percolates through the system and becomes evident during a loan workout or foreclosure.
  

• The new requirement to conduct local records searches will be nearly impossible for clients to verify or evaluate in terms of quality added to the Phase I reports.  Many of the top tier consultants were already conducting local records reviews in places where these records are easy to obtain from internet sources and accessible regulatory agencies.  This step can add a significant amount of cost, effort, and time for the consultant if it’s being done correctly, all of which are the enemies of competitive pricing and fast turnaround times for Phase Is.  In a state like California, where there could be hundreds of state and local documents available for review, it takes an experienced and savvy environmental professional to sort through it and identify the key issues that could lead to a REC.  But the lack of review is not easy to see in a Phase I report, and in many states access to records cannot be achieved in the few days available to complete the project.
  

• In practicality, financiers and equity owners will continue to use the Phase I not only to identify potential liability under the federal Superfund law, but they will continue to expect the Phase I to fulfill a larger risk management role.  The Phase I has taken on an all-purpose risk management role for a lot of clients. They expect the Phase 1 report to identify not only possible contamination issues that could lead to cleanup liability, but they also want consultants to review site compliance with all environmental regulations and to identify a wide range of possible risks to owners and site users, all without paying more for the report.  What is more concerning to me as a consultant is that Phase I assessments are usually done by a group of consultants who do nothing but Phase Is. Even the more experienced assessors don’t seem to have sufficient experience in other areas, such as compliance auditing, permitting, and operations, to adequately assess risks beyond the scope of the ASTM standards. A customer should never confuse a Phase I assessment with a specific evaluation of a site’s environmental compliance and risks.
  

On December 30, 2013, U.S. EPA issued a federal register notice (hyperlink http://www.epa.gov/brownfields/pdfs/fr-notice-recognize-astme.pdf), formally recognizing this standard to meet its All Appropriate Inquiries regulatory rule that provides liability protection from federal Superfund cleanup programs when an innocent landowner conducts the appropriate due diligence prior to acquiring a property.  EPA intends to update its All Appropriate Inquiries rule in the near future to formally recognize the E1527-13 standard, but in the meantime both the 2005 and 2013 standards are acceptable.