LSI 2010 Real Estate Joint Ventures conference materials.pdf

More documents

Recommendations

Info

John W. Hanley, Jr. of Davis Wright Tremaine LLP Speaker 20a: 2 KEY LEGAL ISSUES IN REAL ESTATE FUND FORMATION John W. Hanley, Jr. Davis Wright Tremaine LLP January 15, 2010 1. Introduction. The last decade saw an explosion in the use of private equity funds to pool global capital for investment in U.S. real estate. Indirect investment in real estate assets through large, private, co-owned vehicles became commonplace for many institutional investors. In a short six-year period (2002 through 2007), at least 850 high-yield real estate funds were formed, which raised approximately $400 billion for investment in commercial real estate on behalf of public and private pension funds, endowments, insurance companies and other investors. 1 However, this ever-growing use of “blind pools” to aggregate capital for investment in U.S. properties came to a crashing halt at the commencement of the current recession, in the fall of 2008. The year 2010 may not appear to be an auspicious time to raise a new real estate investment fund. However, the commercial real estate markets face a massive deleveraging challenge during the years 2010-2013, when an enormous volume of first mortgage loans on highly leveraged commercial properties will mature, and it is apparent that new mortgage debt at recent lending levels will not be available. There will be a widespread need to replace mortgage debt with equity, and one of the principal tools for accomplishing that will be the real estate blind pool. Despite the lack of transaction volume in the current markets, this may be exactly the right time to focus on the process of structuring and capitalizing a new real estate investment fund. The object of the real estate fund is to aggregate investment capital and make it available to a local real estate developer or operator for use in completing equity investments in target asset classes under a set of rewards and requirements that incents the local manager to produce high profits for the investors. When creating a real estate fund, it is important to align the interests and objectives of the fund manager, charged with placing the capital and managing the fund’s assets, with those of the passive investors in the fund. The structure typically used for a real estate fund will provide tax-advantaged financial incentives to the manager that will not be fully realized unless the fund achieves exceptional economic performance. Fund documentation can also impose requirements and limitations on the manager to protect the investors from abuse and to reinforce the investment objectives. Naturally, both the prospective fund investor and the local real estate operator should consider alternative arrangements before casually embarking on creation of a real estate fund to invest in multiple real estate assets. One possibility is the classic real estate joint venture, by which the investor directly invests its capital in a real estate asset specifically identified by the operator, or a series of related joint ventures. Historically, the mix of duties, rights and potential rewards for the capital source, and for the local developer/operator, in the real estate joint venture have been different from those in the private equity fund for investment in real estate 1 B. Gale and S. Hason, A Principled Approach to a Commingled Fund Documentation, PREA Quarterly, Fall 2007. DWT 13620946v1 0000099-071219 Law Seminars International | Real Estate Joint Ventures and Funds | 02/09/10 in Seattle, WA 1
John W. Hanley, Jr. of Davis Wright Tremaine LLP Speaker 20a: 3 assets. Typically, in the real estate joint venture, the investor approves the selection of the target asset in advance, and it has a greater voice in development, management, financing and sale of the property than does an investor in a real estate fund. For the investor, use of a series of singleasset joint ventures, even if they are all with the same operator, may be more time-consuming and expensive than a single bulk investment in a multi-asset fund, and that strategy may lead to less diversification than would be the case if the investor deployed its capital through a largescale blind pool. For the local operator, the joint venture may provide more attractive economic terms than those typically found in a fund. Real estate joint ventures can vary widely in economics, but historically the typical joint venture offered the investor only a preferred return of 6%-8% (as contrasted with a typical fund’s preferred return of 8%-10%), and the split of residual profits between developer and investors was as rich as “50-50”(in contrast to a 20%- 25% residual interest for the manager of a fund). However, for the developer, the tradeoff for better economics in the real estate joint venture was typically greater restrictions on authority and discretion (e.g., investor voting rights) than in a fund structure. Another possible alternative for the investor is to invest through a public or private real estate investment trust, which, like the typical real estate fund and typical joint venture, is a taxadvantaged form of investment (i.e., no federal income taxation at the asset level). However, with this alternative the investor will typically have less control than in either a private real estate fund or joint venture structure. The principal distinguishing benefits to the prospective investor from use of a public REIT to place its capital in real estate are greater liquidity and more assured diversification, but at the cost of greater volatility. Real estate and capital market conditions in the United States have dramatically changed from those seen between 2001 and late 2008. During those heady times, capital from all corners rushed into U.S. commercial real estate, and fund sponsors enjoyed the upper hand in setting the terms for each successive fund. Investors motivated by potential eye-popping investment returns had little interest in, or little bargaining power to require, protections in governance, transparency, disclosure, and other measures to limit excess risk or operator abuse. Then the bubble burst. Today, real estate investment capital remains relatively scarce, and the dynamics of negotiating a fund structure may be quite different. Real estate fund terms will be affected by many considerations, including the prevailing conditions in the capital and real estate markets, the track record and demonstrated capabilities of the fund sponsor, the stated objectives of the proposed fund, and the sponsor’s proposed investment guidelines. However, all of the legal issues implicit in fund formation remain, but perhaps now with different emphases. This paper will identify and briefly discuss the most important of those legal issues. 2 2 A private equity fund may solicit investments from foreign or domestic entities which have specialized federal and state tax and reporting requirements. There are at least three categories to be considered: (a) foreign investors, that is to say, non-U.S. persons. The presence of such investors will trigger requirements on the fund manager under OFAC, RAFC and, in connection with distributions, “effectively connected income” and federal tax withholding laws; DWT 13620946v1 0000099-071219 Law Seminars International | Real Estate Joint Ventures and Funds | 02/09/10 in Seattle, WA 2
Page 1:
L A W S E M I N A R S I N T E R N A
Page 4 and 5:
Monday, February 08, 2010 Real Esta
Page 6 and 7:
John W. Hanley, Jr., Ste
Page 8 and 9:
Table of Contents Topic Speaker # L
Page 10 and 11:
Faculty for Real Estate Joint Ventu
Page 13:
Page 16 and 17:
John W. Hanley, Jr. of Davis Wright
Page 18 and 19:
Steven L. Wood of Century Pacific,
Page 21 and 22:
Tracy B. Edgers of Wells Fargo Bank
Page 23 and 24:
Page 25 and 26:
Page 27 and 28:
Page 29 and 30:
Page 31 and 32:
Steven L. Wood of Century Pacific,
Page 33:
Page 36 and 37:
Gregory K. Johnson of Wright Runsta
Page 38 and 39:
Page 40 and 41:
Page 42 and 43:
Page 44 and 45:
Page 46 and 47:
Page 49:
Page 72 and 73:
Joseph P. McCarthy of Stoel Rives L
Page 74 and 75:
Page 76 and 77:
Page 78 and 79:
Page 80 and 81:
Page 83:
Page 86 and 87:
David E. Myre, Jr. of Hillis Clark
Page 88 and 89:
Page 90 and 91:
Page 92 and 93:
Page 94 and 95:
Page 96 and 97:
Page 98 and 99:
Page 101 and 102: David E. Myre, Jr. of Hillis Clark
Page 103: L A W S E M I N A R S I N T E R N A
Page 106 and 107: Brian Todd of Davis Wright Tremaine
Page 132 and 133: John W. Hanley, Jr. of Davis Wright
Page 141 and 142: John M. Parker of Kennedy Associate
Page 146 and 147: Quentin Kuhrau of Unico Properties
Page 148 and 149: Rodney A. Bench of RA Bench, Inc. S
Page 151: John W. Hanley, Jr. of Davis Wright
Page 190 and 191: James E. Wreggelsworth of Davis Wri
Page 193 and 194: Erin Joyce Letey of Riddell William
Page 203:
Erin Joyce Letey of Riddell William
Page 207 and 208:
John Orehek of Security Properties
Page 209 and 210:
Matthew G. Paddock of Metzler North
Page 211 and 212:
Stephen P. Latimer of ING Clarion P
Page 213:
Page 216 and 217:
John W. Hanley, Jr. of Davis Wright
Page 218 and 219:
Donald E. Percival of Davis Wright
Page 220 and 221:
Page 222 and 223:
Page 224 and 225:
Page 226 and 227:
Page 228:
show all

LSI 2010 Real Estate Joint Ventures conference materials.pdf

Create successful ePaper yourself

Delete template?

Save as template?