Westfield and Stratford - JVs - the new form of financing?

Peter Bill, in his latest blog entry in the Estate Gazette (Westfield sells half of Stratford - more sales to come?) picks up on the announcement to the Sydney stock exchange that Westfield has agreed to sell a 50% interest in Stratford City, the part of the Olympic site which it is developing as its latest retail attraction in the UK.  The buyers are a Dutch fund and a Canadian pension fund.

This is yet another example of how developers have been turning to alternative sources of finance since the development finance market effectively dried up as a result of the credit crisis.  The truth is that joint ventures are not particularly new but they had gone out of fashion whilst developers were able to take out cheap development finance allowing them to keep significant profits to themselves rather than having to share them with partners.

What is clear now is that joint ventures are back with a vengeance and if you want to get in on the action you need to make sure you have a decent understanding of what you are getting into, what pitfalls to avoid and how to generally ensure that if the wheels come off you do not go over the edge of the cliff with your partners but can jump ship in an appropriate manner.

Some fundamental questions you need to consider when looking at entering into a joint venture include:

• how do I want to exercise control and be involved in the decision-making of the vehicle?  Depending on the type of vehicle decisions may be made at different levels and without the right controls in place you can lose control over important decisions; set the level of control too high and you risk paralysing the vehicle
• where should the vehicle be located? - there are likely to be significant tax implications depending on where a vehicle is located but beware of the effect decision-making can have on jurisdiction for tax purposes
• what are your long term intentions? - is it intended to hold the asset for a long time (i.e. as an investor) or is the intention to improve it and then dispose (i.e. as a trader)?  this can affect both the type of vehicle chosen and the jurisdiction
• Are there any deal specific issues? - some potential JV parties will have restrictions and/or preferences regarding the sorts of arrangement they can enter into.  REITs are a good example.
• Are there specific regulatory issues that make one type of vehicle more attractive? - bearing in mind the new Alternative Investment Fund Managers Directive this area needs special consideration and it will impact potentially on jurisdiction as well
• How will the vehicle be taxed and does this fit with your/partners' taxation? - some vehicles (e.g. partnerships) are generally tax transparent but this may not work for all investors

It is very difficult to change structure part way through agreeing a deal and so it is vital that you do your homework before jumping into bed.

Redefining the landlord and tenant relationship - back to being radical again

In July 2009 I wrote a blog about how we need to be more radical in relation to Commercial Leases and the Commercial Lease code (see Commercial Lease Code: Let's Be Radical).  Therefore I was most interested to read a Property Week interview with Lawrence Hutchings, Hammerson's managing director UK retail in last week's Property Week in which Lawrence clearly argued for action to be taken "to satisfy both retailers and global investors in the UK retail property arena".

Lawrence specifically makes mention of how landlords negotiate with tenants and expressed a clear belief that "Changes in the landlord and tenant relationship will be structural".  Indeed Hammerson has altered its own internal structure to improve its relationship with tenants by delivering better service performance.

I continue to hold the view that creating an industry standard lease for lower value and/or smaller units would further help improve the landlord and tenant relationship.  It would reduce deal times, deal cost and deliver certainty for both parties.  I may be doing some lawyers out of work but, as I always say to my client, my job is to identify the best way for you to achieve your commercial objectives.  If there is a cheaper and quicker option that is the route my client should take even when the result is little or no work for me.

Anyone else interested?  Please let me know.

Fee cutting is no way to emerge from recession | Analysis - print | Property Week

Fee cutting is no way to emerge from recession Analysis - print Property Week

Giles Barrie, in his editorial this week, raises some interesting points regarding the effects of fee cutting in the agency world.  The same phenomenon can be seen in the legal world for the same reasons and with the same fundamental risks to buyers of legal services.

Cutting fees is bascially an attempt to grab market share by low balling now with the hope that the client will continue to instruct you when times are better and you charge more for the same service.  Understandably many buyers are attracted by the low rates on offer but before rushing to buy the cheapest service they do need to consider what they are getting at such a cheap price.

Some issues include:

• Many of the problems that are being identified now with properties should have been spotted previously but due to time, cost and deal pressures they were not.  Taking the cheapest quote is simply repeating the mistakes of the past.  Now is the time to ensure you are getting the best advice for your circumstances as a mistake now could cost a lot more than the few pounds saved in fees.
• In order to remain profitable a firm offering a cheap quote will be forced to push the work down to the lowest level possible.  I have heard of one firm hoping to put in place data capture systems which would enable all leases reviews to be carried out by trainees.  No disrespect to trainees but no matter what technical systems you have an inexperienced trainee is unlikely to spot where a rent review clause is defective or whether there might be a Good Harvest issue in the drafting.

From the suppliers' side such low balling also creates issues:

• It creates the impression that little or no skills are required for the work - if this was the case then law firm's indemnity insurance would clearly not be as high as it is!
• It demoralises staff who know that they are effectively providing a service for which the clients are not paying.  They constantly feel under pressure to cut corners to improve profitability further increasing the risk of negligence and resent the fact that they cannot do a proper job as the fees do not allow it.
• Do you honestly believe that a client having instructed you because you were cheap will stick with you when you hike your prices on the basis that you are going to offer the same service?

Therefore, as Giles notes in the agency world, fee cutting in the legal world is damaging for both customer and supplier in the long run although I suspect will continue to be the case as many fail to recognise the risks.

Contracting with a UK REIT - does it make a difference?

REITs hit the UK landscape in January 2007 and now many of the best known names in the UK property world are REITs - Land Securities, Hammerson, Great Portland Estates, British Land to name a few.  As a matter of course there are certain questions one always considers in terms of the party with whom you are contracting.  It is important to consider whether they are executing the documentation correctly and, indeed, their power to enter into the transaction.  If it is a foreign entity the obtaining of a legal opinion is advisable.

REITs add something different to the mix and the risk to a party contracting with a REIT is that without knowledgeable legal advice one can be exposed to unnecessary risks or, indeed, lose out on potential advantages.

The rules governing REITs are complex and affect not only the REIT itself but also those with whom it contracts.  A REIT's business is split into a Property Rental Business (PRB) (which must be at least 75% of its total income) and the remainder being its Residual Business.  PRB income is effectively tax exempt (there is 20% withholding tax which exempt investors can reclaim) whereas the income from the Residual Business is taxable at 28%.

It is beyond the scope of this blog to go into detail (nor would I wish to give away trade secrets quite so easily) on the potential issues and pitfalls that can arise when dealing with a REIT but some highlights include:

• the sale of shares in an SPV property company by a REIT will be a Residual Business which may have negative tax consequences
• the base cost of a property in an SPV once owned by a REIT may be higher or lower than the SPV paid for it
• the sale by a REIT of a development within 3 years of practical completion is likely to be a Residual Business which again has negative tax consequences
• whilst the PRB part of the REIT does not pay tax it still benefits from capital allowances to reduce the dividend payments it needs to make so REITs will not simply give these up
• Joint Ventures with REITs raise all sorts of governance and tax issues and potential advantages

As mentioned the REIT legislation also provides potential opportunities as well.  Therefore it is key that when you are getting into bed with a REIT you know what those opportunities are and how to exploit them for both parties' benefit.

"Why do lawyers exist?", by Tim Bratton

In his first ever blog, Tim Bratton, GC of the FT says it all when he says ". . . successful lawyering is all about getting clients from A to B over whatever hurdles might lie-in-between" and not, as some lawyers believe, to put the hurdles in the way of the client!

You can read his whole blog here:

thelegalbratblawg: The First Post

Thanks Tim for reminding all of us of the important facts.

Good Harvest Take 2

As many of you know on 23 February 2010 Mr Justice Newey shook the foundations of Landlord and Tenant relationships with his first instance decision in Good Harvest Partnership LLP v Centaur Services Ltd. In that decision he held that certain provisions in the lease in question which sought to require the tenant's guarantor to guarantee the obligations of the incoming assignee were in breach of the anti-avoidance provisions of the Landlord and Tenant (Covenants) Act 1995. This limb of the decision was, in the large part, unsurprising.
However, in that decision he also cast significant doubt as to whether any obligation on a guarantor of a tenant to guarantee the obligations of the tenant pursuant to an authorised guarantee agreement (AGA) would be enforceable; this was not expected and has worried landlords and their lawyers.
There was, and is, a large body of opinion that the statements by Newey J were simply wrong and do not stand up to scrutiny. Hopes for a clarification from the Court of Appeal were dashed when, having appealed against the decision, Good Harvest settled just before the appeal was heard leaving the doubts unanswered.
On 1 November 2010 Mr John Randall QC sitting as a deputy High Court judge issued summary judgment in K/S Victoria Street v House of Fraser (Stores Management) Ltd and others ([2010] PLSCS 278) regarding the enforceability of provisions which provided that on an intra-group assignment the current parent company guarantor must stand as guarantor of the assignee. In line with the Good Harvest decision Mr Randall QC held that this requirement was in breach of the anti-avoidance provisions of the LTCA 1995 and should be struck out of the document.
However, interestingly, Mr Randall QC stated that he had come to the decision to follow the ruling in Good Harvest notwithstanding that the reasoning in Good Harvest was flawed.
Once again success for a tenant regarding the unenforceability of a provision seeking to keep a guarantor on the hook post assignment but once again a case which does not reflect the more common situation whereby a guarantor (as part of its original guarantee or as a condition of an assignment) guarantees the tenant (not the assignee's) obligations pursuant to the AGA. The view remains that certainly where the guarantee is contained in the original guarantee and probably where it is entered into at the time of the assignment such an arrangement should not fall foul of the anti-avoidance provisions of the LTCA 1995 and should survive a challenge. Of course the devil is in the detail.
Any ruling to the contrary would have a significant detrimental effect on the ability to rely on guarantors to prop up weaker covenant tenants.

McGoldacre: A Scottish lilt on rent and admin expenses

In January 2010 I posted a blog on the decision in Goldacre (Offices) Limited -v- Nortel Networks UK Limited (in administration) in which the High Court ruled that where an administrator uses a leasehold property for the benefit of the administration on a rent payment day then the whole quarter's rent is payable as an expense of the administration.
Now a court in Scotland has produced a carbon copy in slightly different circumstances. In its decision in Cheshire West and Chester Borough Council -v- Springfield Retail Limited (in administration) the in the Outer House of the Court of Session Lord Menzies held that the fact that the person in actual occupation was neither the administrator nor the company in administration but rather a licensee of the company in administration, was not relevant and that since the licensee had been let into occupation by the administrator as part of a sale of the business then the rent was due as an expense.
Frankly the decision does not come as a surprise. It would be strange if the court had held that administrators could allow a third party into occupation of a leasehold property and that in doing so they would not be liable for the rent as an expense. To do so would create a significant arbitrage opportunity whereby third party licensees could run businesses out of leasehold property of companies in administration where the landlord had no contractual right to rent from the licensee and only an unsecured claim against an insolvent company.
Therefore, in reality the case tells us nothing new and does not answer a number of fundamental questions which the decision in Goldacre raise including:

1. If the administrator goes into occupation the day after a rent payment day will none of that period's rent be payable as an expense?
2. Are dilapidations arising during the period of administration an expense of the administration?
3. If there is a sub-tenant in occupation who carries the credit risk of that sub-tenant defaulting? Does it affect the analysis if the company in administration does not continue to use the remainder of the premises?

Carbon Reduction Commitment: Another victim of the austerity budget

The Spending Review 2010 found some innovative ways to increase the Government's revenue by using the CRC Efficiency Scheme.
One of the tools to be used was a statutory scheme whereby all participants would initially buy their annual Allowance through a bidding process. Initially the number of Allowances was to be unlimited but then it was to be capped thus encouraging participants to reduce the Allowance they require and save them money.
The second part, and what might be called the carrot, of the scheme was that the revenue generated by the auction of Allowances would be recycled to the participants so that, as you might expect, the best performers would receive the reward in the form of cash back.
In the Spending Review 2010 two major decisions were revealed:

1. The first sale of Allowances will be in 2012 rather than 2011.
2. Revenue from the sale of Allowances will be used to support public finances rather than recycled back to Participants.

The second decision is a significant change as it means that the league tables to be produced will now only have a reputational impact as opposed to a financial and reputational impact. Whilst many owners and occupiers will be concerned regarding their reputation and green credentials the cost-benefit of reducing emissions becomes much harder to justify on a reputation only basis unless one is significantly behind ones peers.

A knock on effect for Landlords is that whereas before there was some possibility of recouping some of the costs of compliance by moving up the league tables and receiving the reward of "revenue" from the sale of Allowances; now compliance is a fixed cost with no direct financial return. Depending on the terms of service charge provisions in leases it may not be possible to recover the cost of compliance from tenants. This will create an irrecoverable cost which must be deducted from the "bottom line" meaning values will suffer.

All landlords should instruct their lawyers to review the terms of their service charge drafting to ascertain whether or not the cost is recoverable. If it was before the change announced in the SR2010 then nothing will have changed. If it was not it may be now.