Appendix 3
Notes on Appendices
1.Appendices contain selected language adapted by me from two PSAs from non-real estate M&A transactions.Both were “bid deals” in which due diligence was to be completed before the buyer submits its “highest and best” bid. Appendix 1 is for an entity transfer and Appendix 2 is for an asset transfer. These notes are intended to point out certain real estate issues, a few of which will be discussed in the program.
2.Appendix 1:
a.Section 1.1: Some of the property needs to be stripped out of the entity (the “Company”) prior to closing. The Seller or an Affiliate will need to assume obligations relating to the assets being transferred. This isn’t necessary for an asset transfer transaction.
b.Section 2.1(a): Representation regarding all of the real property interests owned by the Company. Buyers wants to know that these are the only real property assets of the Company. Contrast Section 2.1.2.1 of Appendix2regarding these being all of the real estate assets being used primarily in connection with the Business.
c.Section 2.1(b): Representation regarding title to the Real Property. Contrast Section 2.1.1 of Appendix 2.
d.Section 2.1: Knowledge qualifier: Generally the “knowledge group” consists of high level officials who are unlikely to have much personal knowledge of the Real Property. Often this is tempered by a duty of reasonable inquiry.
e.Section 2.1: Permitted Encumbrances qualifier: See the very broad definition of Permitted Encumbrances.
f.Section 2.1(c): This is only representation regarding condition of Real Property, with a high Threshold Amount qualifier.
g.Section 3.1: Indemnification from Losses is the only remedy other than specific performance and injunctive relief, excluding indemnification regarding liabilities assumed by the Seller relating to assets stripped out of the Company.
h.Section 3.1: Losses is an aggregate concept as to all of the Assets and the Business. It is not property specific.
i.Section 3.1(b): De Minimis Amount: Losses below the De Minimis Amount are not entitled to any indemnification and don’t count toward the Threshold Amount. The De Minimis Amount is for each individual item or aggregated items that arise out of the same or related facts, events or circumstances.
j.Section 3.1(b): Threshold Amount: Aggregate Losses below the Threshold Amount are not entitled to any indemnification.
k.Section 3.1(b): Maximum Amount: Aggregate Losses above the Maximum Amount are not entitled to any indemnification.
l.Definition of Permitted Encumbrances:
A.Stark contrast to the very specific approach in a typical real estate transaction.
B.Subparagraph (ii): Exclusion for laundry list of items that do not materially detract from the value of the Property as currently used or materially interfere with the current operation of the business of the Company. Note emphasis on “currently” or “current”.
C.Subparagraph (iv): Items described in title commitments:This is typical of “bid deeds” where real estate due diligence is done before signing PSA. Buyer should have limited this to items in Schedule B (Texas) or Schedule B—Section II (ALTA).
D.Subparagraph (iv): Items posted to the data room: Contrast subparagraphs (iv) and (v) of the definition of Permitted Encumbrances in Appendix 2, which refers to specific places in the data room, where one would expect to find real estate assets.
E.Subparagraph (vi): Any matter of public record: Contrast subparagraph (viii) of the definition of Permitted Encumbrances in Appendix 2, which excludes real property records.
3.Appendix 2:
a.Section 1.1: In an asset deal, need to describe the assets being transferred. Note need to distinguish from the landlord’s and tenant’s interests in leases and the grantors and grantee’s interests in easements. Pipeline easement rights are very important to energy related assets.
b.Section 1.2: How to deal with leases, contract rights and the like that are non-transferable without consent of the counterparty. The “back-to-back” contract approach often used for material non-real estate contracts generally doesn’t work in the case of real property leases and easement rights that are non-transferable. NOTE: In entity deals, where the assets themselves are not being transferred, “change of control” provisions in underlying leases, easements and contracts often trigger a need to obtain consent of the counterparty.
c.Section 1.3: Title and survey matters: Different approach for certain assets for which title commitments and surveys had been obtained vs. assets added to the transaction shortly prior to the PSA and for which Buyer had some title objection rights (with limited termination rights).
d.Section 1.3.2(c): Here, Sellers and Buyer negotiated a division of the cost of the title policy premium, but they failed to clarify whether the split applied to the entire premium or only the premium for the base title policy. Division of cost for title insurance is typically negotiated and local custom does not play the same role as it does in typical real estate transactions. In the entity transaction in Appendix 1, there was no condition relating to issuance of title insurance and no agreement on the part of the Seller to bear any of the cost.
e.Section 2.1.1: No representation regarding title to Real Property and Easements. Here, the parties agreed to have title insurance and split the cost. No such provision in the entity transaction in Appendix 1 regarding title insurance, and a representations regarding title was viewed as necessary.
f.Section 2.1.2: Representation regarding these being the only Real Property interests used PRIMARILY in connection with the Assets and the Business. Where Sellers retain assets in the general vicinity (or even adjacent), it is often difficult to determine in what business are they primarily used. Buyer wants to know that these are the only Real Property interests it needs to acquire in order to operate the Business. NOTE: In this case, the Sellers retained an adjoining tract on which they operated a business that was somewhat co-dependent on the line of business that was sold. Therefore, it was necessary to create a Reciprocal Easement Agreement for the myriad of easements back and forth that had never been documented.
g.Section 3.1: General indemnification provisions. Similar to Section 3.1 of Appendix 1.
h.Section 3.2: Limitations on indemnification: Note that here, in contrast to Section 3.1 of Appendix 1, the De Minimis Amount can be applied in determining whether the Threshold Amount has been reached.
i.Section 3.2.4: Materiality Qualifiers: Essentially materiality qualifiers are disregarded in determining the Buyer’s entitlement to indemnification. The higher the Threshold Amount, the easier it is for the Sellers to agree to dispense with the materiality qualifiers.
j.Section 3.3: Exclusive Remedy: Similar to Section 3.1(e) of Appendix 1. Note here that the parties specifically addressed environmental liability because these are energy-related assets.
k.Definition of Permitted Encumbrances:
A.Subparagraphs (i) and (iv): Liens for taxes and inchoate liens: Note the focus on absence of a pending foreclosure sale. An item may be contested in good faith and yet the asset could be lost through a foreclosure proceeding.
B.Subparagraph (iv): See comment re Appendix 1.