1. Due Diligence Real Estate

2.  Written on-the-job with support of REAG GmbH – Real Estate Advisory Group Germany Master Thesis on due diligence real estate Source: The Economist; May 16th, page 55

3.  Born October 12, 1986 in Frankfurt am Main/ Germany  High School Graduation 2004 in Indiana/ USA  Abitur 2006 in Frankfurt am Main / Germany  German Navy 2 Years Military Service on board of the Frigate Hamburg  Master of Science Bachelor and Master Studies in Münster/ Germany and Bilbao, Spain  Investment Consultant at REAG GmbH – Real Estate Advisory Group Germany  Member of the Society of Property Researchers, Germany  Board Member of the Urban Land Institute Germany Young Leaders Committee  Fluent in German, English and Spanish My Background

4. Research Question:  To what extent does real estate due diligence, in light of the Transaction Cost Theory and the Principal-Agent Theory, reduce the existing information asymmetries in the form of hidden characteristics before signing of contract (ex-ante) between vendor and buyer? In other words: How strategically relevant is such an analysis? Strategic relevance of due diligence Source: Adapted from: Rottke (2004) p. 209

5.  Real estate markets recovered quickly after sub-prime crisis  High number of examinations of real estate assets  Thus, practice of due diligence real estate is gaining in importance  Literature is exiguous and lacks theoretic approaches  Transaction Cost Theory and agency-relationships offers assumptions and approaches  Parameters such as bounded rationality, opportunism and uncertainty help describing how to  Reduce information asymmetries,  Uncover hidden characteristics,  Prevent adverse selection. Background of thesis’ topic

6.  Problem of Information bias/information asymmetry within a transaction  Akerlof explains the problem of quality uncertainty using the example of market for used cars  When parties are unsure of the product quality; forced to assumptions based on price  Buyers assume that goods are of poor quality if their price is low and vice versa  Asymmetric information due to the fact that no one can assess the real value of the product  In an increasing complex world, individual decision making relies on advice given by experts  In real estate markets, due diligence examinations conducted to avoid information failure  Goods of inhomogeneous characteristics, distribution of the knowledge plays an essential role Daily experience: Market for Lemons Note: Akerlof is an American economist and professor of economics at the University of California, Berkeley. He is well known for his article: “The Market for Lemons: Quality Uncertainty and the Market Mechanism" and beyond winner of the Nobel Memorial Prize in Economic Sciences. He distinguished between different problems and characteristics concerning the level of information within a transaction: information asymmetry. Source: Akerlof (1970) p. 488

7.  Real estate markets is particular characterized by:  immobility,  heterogeneity,  durability,  the long-term project development  high transaction costs.  Due diligence is an instrument to fill in the information gap between vendor and buyer  Benefits of due diligences within transactions are:  Reduction of transaction costs, and supervision of transaction process,  Equal level of information and minimization of information asymmetries,  Fast, cost-efficient and transparent presentation of the real estate,  Increased attractiveness of the vending process. Contextualizing the information failure to real estate markets

8. Assumptions and transactional factors leading to information bias Source: Adapted from: Williamson (1985) p. 45; Source: Williamson (1973) p. 317; Williamson (1985) p. 47; Wil-liamson (1973) p. 317

9. Transaction climate characterized by information asymmetry and uncertainty Source: Adapted from: Picot (1991) p. 143

10.  Importance of Due Diligence within Real Estate Transactions: The interview experts noted that the due diligence analysis is obligatory A crucial tool for removing information asymmetries Due diligence has become a standard procedure, simply out of liability reasons Investors often use due diligence as a form of insurance to give weight to their decisions Many experts claimed that due diligence real estate will gain increasing importance in the future Results of expert survey (1/4)

11.  Outsourcing of Due Diligence In the past analyses were performed in-house; today outsourced due to possible lack of know-how Unfeasible for companies employing specialists, so due diligence services are outsourced Since the subprime crisis the question of liability since then has gained remarkably in importance  Challenges during the Due Diligences Different areas intersect and overlap – e.g. legal, commercial etc. Clear and quick communication is essential to prevent time constraints and bottlenecks consulting companies face challenges such as imperfect information flow, increasing costs and time pressure due to short deadlines Results of expert survey (2/4)

12.  Buy-side and sell-side Due Diligence Vendor due diligence is not as a much market standard as the buy-side due diligence If a vendor due diligence is conducted then it is normally less comprehensive than a buy-side due diligence A vendor due diligence is rather a legal and technical update  Information Asymmetries between Vendor and Buyer Due diligence contributes to reducing information asymmetries between vendor and buyer A due diligence reduces information asymmetries considerably. Documents are examined and approved. However, there is always an information gap which cannot be closed the experts emphasize that it is mainly used for price reductions properties always possess hidden defects and characteristics which cannot be ascertained Results of expert survey (3/4)

13.  Strategic Importance of Due Diligence Real Estate Experts reiterated that due diligence is essential and strategically for purchase price reduction It is true that the due diligence analysis makes up a big part of the transaction costs Strategic element considering the trend of real estate assets functioning as commodities Real estate as an asset is becoming a trading-good Many investors are jumping on the wagon, thus increasing importance of due diligence real estate Results of expert survey (4/4)

14.  Due diligence not only reduces information asymmetries but also contributes to exposing unexpected problems  Ex-ante opportunistic behavior leads to screening by to a third party can relieve these uncertainties and uncover hidden characteristics  Research is limited in the results, it provides only a view of ex-ante contractual relationships  Further specialization of value, e.g. relevance for principal/ buyer side, ex-post considerations  Complexity and heterogeneity of real estate call for a more remote, macroeconomic analysis  First steps made, increasing strategic relevance of due diligence seeks for further theoretical research in order to pave the way for further practical steps Summary and Outlook

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16. www.reag-aa.com COPYRIGHT © REAG GmbH Real Estate Advisory Group Germany 2015 (REAG) This presentation is the sole property of REAG and must not be copied, reproduced or transmitted in any form or by any means, either in whole or in part, without the prior written consent of REAG. The information contained in this presentation has been obtained from sources generally regarded to be reliable. However, no warranty is given in respect of the accuracy of this information. REAG does not accept any liability in negligence or otherwise for any loss or damage suffered by any party resulting from reliance on this presentation.