Are Contractor Joint Ventures the next development in Development?

The construction industry is witness to some fascinating developments, particularly around trophy properties in prime US coastal cities.

Within the US –and California particularly- we’re seeing a large number of reputable, experienced contractors banding together to pitch and win construction contracts on trophy properties. Companies that once ferociously competed have joined forces under Joint Venture Agreements, looking for the synergies that will win contracts on highly valued office towers, residential buildings and mixed-use developments.

One good example of a construction joint venture is found in the San Francisco mixed-use development at Ocean Center. Major contractors Swinerton and Webcor formed a joint venture to win the contract for this landmark city project. Their success is leading both companies as well as other firms to consider JV pitches for major developments across the United States.

Construction joint ventures are not without risk. Companies considering a partnership with a competitor have several issues to consider:

  • What will be the form of the JV entity impact upon construction contracts? Who has the authority to speak for all the JV partners when it comes to the contract?
  • Does the Joint Venture have any required JV contractor licenses that are required in some states?
  • The complexities of covenants between the JV partners and how they affect the agreement between the JV and the owner/developer.
  • Who in the JV has signature rights? Change orders often require quick decisions to avoid project scheduling problems.
  • Who is keeping the books? Accounting records should be on an ‘open book’ basis, available for inspection by the partners or members of the joint venture, the owner/developer or the owner’s construction manager.
  • Will the JV self perform work through its partners subsidiary organization and how will that be priced.
  • Will the need for cost expectation bar JV partner contractors from charging the owner/developer for costs and fees each JV partner has agreed to absorb due to the terms of the JV agreement.
  • Will project insurance require policies to name all the JV entities, particularly if partner contractors use their own forces at the construction site.  How will subcontractor liability insurance work on the Project.
  • Are there to be limitations on the owner/developer requirement that the JV partners agreement to joint and severally liable for the full completion of the work and for all obligations and liabilities under the terms of the construction documents.
  • How will any requirement for owner/developer indemnity protection from the JV to extend and bind the JV partners be handled.
  • In dispute resolution which is more complex when a construction JV exists will the JV partners agree that only one firm or attorney should represent them, simplifying the dispute resolution process.

Reputations are made in the construction of trophy properties. They also carry a corresponding financial risk and bonding requirement that may be beyond the capability of a single company. Joint Ventures in the construction arena address these concerns from the contractor side of the equation.

Real World results of the PA Valley Forge reverse tax appeal decision

In early July 2017, in a case titled Valley Forge Towers Apartments N, LP, et al. v. Upper Merion Area School District & Keystone Realty Advisors, LLC, No. 49 MAP 2016, the Pennsylvania Supreme Court delivered a  landmark decision constitutionally curbing the rights of taxing jurisdictions to file selective appeals under Pennsylvania’s Consolidated County Assessment Law. Often called “reverse tax appeals,” this is a practice of a number of Pennsylvania school districts to exercise their tax assessment appellate rights solely against large commercial properties. At the same time, they excluded from reverse appeals all residential properties within the same jurisdiction.

We’re now seeing the real life effects of the Valley Forge decision.

In 2016, the Philadelphia School District filed approximately 140 selective appeals solely against commercial taxpayer properties, including a retail store operated by a Reed Smith client. To put this in perspective, the School District appealed only .025% of the aggregate properties within its jurisdiction and only .19% of the commercial properties.  

During the course of preliminary proceedings, the Philadelphia School District admitted it selectively filed appeals against only commercial properties.  The Philadelphia School District further admitted that it had a “policy” to take appeals where there was a likelihood to obtain a $7,500 increase in tax revenue.  Based on the School District’s millage rate, a Philadelphia property would have to be under-assessed by over $975,000 before subject to selective appeals.

Subsequent to the landmark Valley Forge decision, a Reed Smith team advocated for and convinced taxpayers’ counsel to file Motions to Quash. Reed Smith moved on its client’s behalf to quash each appeal on constitutional (uniformity) grounds—asserting an “as applied” constitutional challenge to Philadelphia (all taxpayers asserted an “as applied” challenge) and a novel facial attack on the right of the School District’s to take selective appeals in the first instance. After oral argument, Judge Idee Fox of the Philadelphia Court of Common Pleas accepted the taxpayers’ “as applied” challenges, and quashed the approximately 120 appeals, including the appeal filed against our client.  The Judge also deferred ruling on Reed Smith’s facial challenge and agreed to permit a cross appeal on that issue if the Philadelphia School District attempts to take up the issue. 

Taxpayers have been bombarded with selective appeals throughout Pennsylvania over the past five years.  This is particularly true in areas where third-party “tax” consultants actively solicit school districts to utilize their services for the purposes of increasing tax revenues.  The school district compensates the consultant through a percentage of any increase revenue. Now that taxpayers have an effective tool to combat such abusive practices, Courts throughout the Commonwealth can expect to see an increased volume of challenges to reverse tax appeals by a commercial property sector that has been unfairly targeted by taxing jurisdictions.

 

 

Placemaking without Lawbreaking

Placemaking?

Mixed-used developments in and around London are in the midst of a golden era with the creation of mega-schemes such as those in Nine Elms and Old Oak. The new Wembley Park Development will see the creation of an unprecedented 7,000 apartments, surpassing the Olympic Village scheme in Stratford by some 4,000 residential units.

Key to the success of these developments will be the ability of the developer or landlord to ‘placemake’, i.e., create a sense of community or culture in sites that must be transformed from brown site to the hottest new postcode in a matter of months. An essential element to placemaking is the ability to attract and curate a roster of popular commercial tenants that in turn draw the desired crowd of residential tenants or buyers.

Anti-competition clauses, and predominantly exclusivity clauses, are of great importance in attracting desirable commercial tenants to letting schemes. However, it is essential not to fall foul of competition law.  Although originally excluded from the Competition Act 1998, since 6 April 2011 land agreements have also been subject to competition restrictions[1].

Why the concern?

Should competition law be breached, you could face:

  1. Investigations and fines: the Competition and Markets Authority (CMA) can launch an investigation and impose fines of up to 10 per cent of global turnover, irrespective of profits made.
  2. Third party claims: other tenants and competitors excluded by the provision may bring a claim for damages (i.e., losses suffered as a result of the breach).
  3. Unenforceability: the provision will be considered void and unenforceable, thereby making it totally ineffective.

How can you mitigate the risks?

When negotiating these types of clauses with preferred tenants there are a number of points to consider:

Geography and the Local Market

Can competitors occupy alternative schemes within a reasonable distance of the development? If so, a provision is less likely to be deemed anti-competitive as compared to a situation where competitors are totally excluded from operating in a local market.

Therefore, limiting a provision to allow competitors to operate either in a separate part of the same scheme or within the same local geographical market, means it is less likely to fall foul of the legislation.

Limitation in Time

Provisions that are unlimited in time are more susceptible to being held in breach of competition law. Limiting a provision to a specific time period is therefore recommended.  There is no guidance as to what the CMA will view as a ‘reasonable time’.  However, consideration should be given to the period of time to allow a tenant’s business to stabilise or for a tenant to recoup its initial investment.

Be Specific ­

Limiting the provision to a specific product, competitor or part of a scheme has a better chance of being enforceable because the adverse effect on competition is reduced. Making the provision personal to a specific tenant (rather than benefitting successors in title) may also assist in ensuring the provision is enforceable.

In conclusion

Exclusivity clauses can be a powerful tool in placemaking when done right. When done wrong, they can expose the developer or landlord to a great deal of risk.

To avoid issues:

  • Consider exclusivity clauses early on in negotiations and review the scope of them
  • Review existing clauses and amend if necessary, as the Competition Act 1998 also applies retrospectively

 

For more information and guidance on the Competition Act 1998 and its application to land agreements, please follow the link to the published CMA guidance or speak with your Reed Smith contact.

[1] Planning obligations (including section 106 agreements) are still excluded from the competition regime.

 

Reverse property assessment appeals: Commercial properties owners have a friend in the Pennsylvania Supreme Court

In a landmark case titled  Valley Forge Towers Apartments N, LP, et al. v. Upper Merion Area School District & Keystone Realty Advisors, LLC, No. 49 MAP 2016, issued July 5, 2017, the Pennsylvania Supreme Court (the “Court”) constitutionally curbed the rights of taxing jurisdictions to file selective appeals often called reverse tax appeals under Pennsylvania’s Consolidated County Assessment Law. This law is applicable to all counties in the commonwealth except Allegheny and Philadelphia Counties. At issue in Valley Forge was the practice of a number of Pennsylvania school districts to exercise their tax assessment appellate rights solely against large commercial properties, while excluding from reverse appeal all residential properties within the same jurisdiction. Typically under this practice, the school districts employ a third-party tax consultant who selects the commercial property targets and receives compensation based on a percentage of the increased tax revenue gained under the reverse appeal.

In Valley Forge,  a group of apartment owners filed a declaratory judgment action seeking to establish that the Upper Merion Area School District’s practice of exclusively targeting high-value, commercial properties selected by their tax consultant, Keystone Realty Advisors, LLC, violated the Uniformity Clause of the Pennsylvania Constitution. The trial court dismissed their complaint. The apartment owners saw another setback in the Pennsylvania Commonwealth Court. That court reasoning that the school district’s economic desire to increase taxes provided a rational and lawful basis for exercising its appellate rights selectively against commercial taxpayers.

The apartment ownership group then appealed to the Pennsylvania Supreme Court. In Court, both sides sought out other interested parties to file briefs in support of their positions. Reed Smith represented a client supporting the apartment owners.

The Court unanimously reversed, finding that under the Uniformity Clause, all real property within a taxing jurisdiction of the commonwealth of Pennsylvania is a single class, and the Uniformity Clause does not permit the taxing jurisdictions, including school districts, to treat different real property sub-classifications within their jurisdictions in a disparate manner. The Court found that the Commonwealth Court misapplied the law in allowing taxing jurisdictions to disparately treat sub-classifications of real property if a rational basis for such treatment existed. The Court clarified that prohibition against disparate treatment of any sub-class of real property applies to any intentional or systematic enforcement of the tax laws and is not limited to wrongful conduct, as the Commonwealth Court had previously suggested.  The Court agreed with the apartment owners that a Uniformity Clause violation exists if the taxing jurisdiction intentionally or systematically subjects only commercial property within its jurisdiction to a reverse tax assessment appeal. The Court also held that a taxpayer aggrieved by such conduct is not limited to raising the constitutional violation as a defense to an appeal. Rather, a taxpayer may bring an affirmative action to curb the unlawful conduct of a taxing jurisdiction.

This is big. Under this decision, a number of taxing jurisdictions in Pennsylvania are in violation of the Uniformity Clause, as they have also targeted large commercial properties for reverse appeals.  For property owners in Allegheny and Philadelphia Counties, it is likely that the rationale of Valley Forge will be equally applicable.

This decision doesn’t mean that taxing jurisdictions are giving up their efforts to raise tax revenue from commercial properties. The Court left open the possibility that a taxing jurisdiction may set a monetary threshold applicable to all classes of real estate for filing a reverse appeal. That said,  a monetary threshold that disparately impacts a sub-classification of real property, such as large commercial properties, may be equally suspect under the Uniformity Clause. Still, the decision reached by the Pennsylvania Supreme Court is a victory for fairness in assessments, an area where that term is often found lacking.

If you feel that you have been unfairly targeted, Reed Smith has a large experienced group of Pennsylvania attorneys who handle real property tax assessments appeals. We’re happy to talk to you about your rights.

Guaranteed to blow your mind

We have posted previously about the case of EMI Group Ltd v O&H Q1 Ltd, in which the court was asked to decide whether a tenant can assign its tenancy to its guarantor.  In this case, EMI Group were the guarantor of original tenant HMV, and were arguing that the lease had been validly assigned to it by HMV.

Somewhat controversially in the EMI case, the deputy judge decided that such an assignment could not happen, as it would frustrate the purpose of the Landlord and Tenant (Covenants) Act 1995 which, fundamentally, was to release the tenant and its guarantor on an authorised assignment of the lease (“the Act”).

The problem is that this interpretation of the Act goes against the concept of freedom of contract. Why should a tenant be denied the ability to assign a lease to a company that has guaranteed its obligations, if in all other respects it is an acceptable assignee to the Landlord?

The decision has been hotly debated and most in the legal profession hoped that the position would be clarified on appeal or by legislative reform. It would seem however that, for now, we are left with a very unsatisfactory and unresolved position.  Until this is addressed, the advice is that tenants remain unable to validly assign their lease to a guarantor.  All of the uncertainties we highlighted previously remain and if such an assignment has already happened, unscrambling the legal position is difficult.  Investment sales  and new assignments of leases are being held up where an assignment to a guarantor has previously been permitted.

 

Public Register of Overseas Companies – Now You See Me…..

If you are an investor currently using overseas entities to hold UK property you should be aware that the UK Government is putting together proposals for greater transparency of the beneficial owners of UK properties owned by overseas entities.

The regulations will have implications for:

  • the risk management, timing and due diligence in real estate investment transactions;
  • overseas entities who will need to ensure compliance is planned well ahead of closing;
  • sellers and mortgagees who will also need to ensure the overseas buyer has complied with the regulations; and
  • existing overseas landowners who are seeking to dispose of or grant a charge over their UK property.

How will the new register work?

The UK will be the first country to have such a register and if these proposals are implemented we will see –

  • overseas entities being prohibited from selling their existing properties or creating long leases or charges over the property without compliance with the new regulations. This will be enforced by automatic entries being added to the Land Registry’s title register; and
  • overseas entities buying property facing the complete reversal of any transaction if they cannot prove compliance at the time they register the land transfer or lease with Land Registry.

The UK Government are working to fulfill the promise they made at the International Anti-Corruption Summit in May 2016. We are in a consultation period at the moment as they look to ascertain how the proposals might influence those planning to invest in the UK and any impact on the UK economy. Should you wish to have your say, you only have until 15 May 2017 to submit your feedback. A link to the response form is here.

We in the Reed Smith Real Estate group will continue to follow and report on the development of these proposed regulations, so watch this space.

 

One year to go. Are you ready for the MEES Regulations?

It’s now less than one year to go until the Energy Efficiency (Private Rented Property) (England and Wales) Regulations 2015, commonly known as the MEES Regulations (minimum energy efficiency standards) come into effect. It is time to act if you haven’t already.

The MEES Regulations (the Regulations) provide that:

  1. From 1 April 2018 landlords of commercial property will be subject to penalties (subject to some exemptions) if they grant a tenancy where the property has an EPC energy efficiency rating of F or G. This will apply to the grant of new tenancies and lease renewals.
  2. From 1 April 2023 these penalties will extend to continuing tenancies (subject to certain exemptions) even if there has been no change in tenant. The UK Government has recently issued guidance on the Regulations but there is little of significance in the guidance although not all of it is clear.

We previously posted a more comprehensive summary of the Regulations and the above exemptions in May 2015 which can be found here.

Implications of Breach 

  • Where a breach of the Regulations exists for less than three months, the penalty is up to £5,000 or, if greater, 10% of the rateable value (subject to a maximum of £50,000).
  • Where a breach of the Regulations exists for three months or more, penalties increase up to £10,000 or, if greater, 20% of rateable value (subject to a maximum of £150,000).
  • Non-compliant landlords’ details can also be published. Tenants, too, should be aware of the implications if they underlet non-compliant property. In that situation you are the “landlord” under the Regulations.

What should you do?

As we said before, if you are a landlord (or a tenant wanting to sub-let) you can –

  • Audit your portfolio to identify how many low rated buildings you have.
  • Investigate suitable improvements that can be made – the EPC Recommendation Reports make suggestions on how to improve energy efficiency.
  • If possible incorporate energy improvements into planned refurbishments.
  • Know whether the terms of the leases permit you to carry out any necessary energy efficiency works during the term of a lease and who pays for them.

 

Time for Plan B? Amending a planning scheme.

In today’s volatile markets the commercial viability of a project can change in the time it takes to implement a hard-won planning consent and even after works have begun.

It may therefore be necessary to amend a scheme to maintain its profitability and viability. To accommodate such changes, planning schemes are often amended or a new application made.

The case involving Vue Cinema’s challenge to York Council is a reminder of how difficult it can be for development to proceed smoothly when the consented scheme needs to be changed in order to ensure viability of the project. Developers have two choices if they can avoid a fresh planning application and the one they use depends on how significant the change is to the consented scheme.

Option 1: Apply for a “non-material amendment” under Section 96A of the Town & Country Planning Act 1990 (“TCPA”); or

Option 2: Apply under Section 73 of the TCPA to “develop land without compliance with conditions” that were previously attached to the consented scheme and/or to make “minor material amendments” to the consented scheme.

The differences between these processes are:

Non-Material Amendment (s96) Removal of Conditions/Minor Material Amendments (s73)

Administratively easier, standard form application and a relatively simple process reflecting the fact that the change is not material.

The application is treated as new planning application with all the usual time limits and processes including consultation, EIAs etc.
Local planning authority must have regard to the effect of the change on the planning permission as originally granted. The local authority consider the application against the development plan and usual material considerations as well as the original planning permission conditions and make their decision based on national and development plan policies which may be significant if any have changed significantly since the original grant.
The planning permission is amended so the existing permission with all its deadlines and dates remains unchanged and existing Section 106 and 278 Agreements continue to apply. A new planning permission is granted as a result which means new Section 106 and 278 agreements are required and although there are processes to re-state the  s106 agreements already in place, this is never as fast as developers really want it to be if the existing s106 is affected by the variation.

Crucially there is a right to appeal.

 

In R (on the application of Vue Entertainment Ltd) v City of York Council Vue Cinemas challenged a permission for the development of a community stadium.  Vue operated a (different) nearby 12 screen cinema and had commercial concerns about the cinema to be operated from the stadium development.

A s73 application was made to enable the development to proceed without compliance with the condition that required development in accordance with specified drawings. Those drawings showed a 12 screen and 2,000 capacity cinema.  The changed plans showed a 13 screen 2,400 capacity cinema.  Vue objected that this “minor amendment” should be permitted.  The court found –

  • the permission as a whole had to be considered to see if the change was so fundamental that the terms of the permission itself was changed by the variation;
  • this change was only to the part of the permission that related to the cinema;
  • Vue had been consulted and made representations. They were not prejudiced by the change; and
  • the planning authority had the power to grant this new permission.

In conclusion, developers are well advised to try to obtain a workable and malleable consent that has the capacity for minor (preferably minor non-material) variations in order schemes can be amended and altered to cater for ever changing market demand and volatility.

Dilapidations Claims: Repair or Despair?

How can landlords make sure they can claim for the diminution in the value of their reversion when the lease of a dilapidated property comes to an end? Doing no work but hoping to claim was not a successful strategy for the landlord in the case of Car Giant Limited and Acredart Limited v The Mayor and Burgesses of the London Borough of Hammersmith.  Landlords who elect, for whatever reason, not to carry out some or all of the works of repair for which a tenant is properly liable at the end of a lease term, run the risk that their claim for diminution to the value of the reversion will be lost.

It is well established that landlords can successfully claim for losses where they do carry out repair works for which a tenant was liable and the cost of those works is a very real guide to the recoverable loss. If the landlord hasn’t yet done the works, but can prove that he really intends to do works, then claims can succeed but often the tenant tries to prove that the recoverable cost is less than the landlord’s estimated cost of the works.

In the Car Giant case, which concerned 35 units on a secondary industrial site in Willesden, some works had been done by the landlord after the tenant’s 25 year lease expired and the court was able to value the loss in respect of those works, but no explanation was given as to why other works had still not been carried out even 6 years after lease expiry. Crucially, no evidence was given as to when or if they would ever be carried out.  The units had been let in the meantime, all of which strengthened the court’s view that the works could not have been important or necessary to maintain the value of the asset.

The judge was not impressed by the landlord’s valuer’s argument that the hypothetical purchaser would have derived a value for its bid based on the cost of remedying all defects, especially in light of Car Giant’s actions and inactions, which threw more light on the value of the reversion than pure hypotheses. The judge also noted that allusions by counsel to the reasons for Car Giant not carrying out the works could have been helpful to their case if only they had been supported by evidence.  On the limited evidence, the court was only able to award damages based on the cost of the works actually carried out and nothing at all in respect of the disrepair that still remained.

Landlords who wish to bring a claim for loss where they have elected not to do some or all of the repair works must ensure that they have robust evidence to substantiate and justify that decision.

(US) Payment and Performance Bonds vs Completion Bonds. What’s best for your project?

Several types of bonds exist in the development world. So, which type of bond is best for your project?

A payment and performance bond is a combination instrument. It’s first a payment bond that guarantees that the contractor will pay the labor and material costs they are obliged to pay. But it’s also a performance bond that guarantees satisfactory completion of a project by the contractor.  By design, a payment bond is designed to provide security to subcontractors and materials suppliers, ensuring payment for their project work, labor and/or materials.  A performance bond (also called a surety bond), is issued by an insurance company or a bank. It protects the owner from the contractor’s failure to perform in accordance with the terms of the contract.

A job requiring a payment and performance bond may require a bid bond just to bid the project. A bid bond (often required on public construction projects, but not exclusively) is designed to protect the owner in the event the bidder refuses to enter into a contract after the contract is awarded or if the bidder withdraws the bid before award. In short, a bid bond is an indemnity bond. When the job is awarded to the winning bid, a payment and performance bond is issued.   

Bid bonds, performance bonds and payment bonds are all indemnity bonds. Let’s be clear; these bonds are not insurance policies. If a claim arises and is paid out on a bid, performance or payment bond, the surety (the party issuing the bond) will look to the contractor to indemnify and defend it. If a claim is asserted against a contractor performance bond, the surety is going to look to the contractor to defend the lawsuit and to pay any damages.

A completion bond (sometimes called a completion guarantee) is a form of insurance offered by a completion guarantor company. In return, the guarantor receives a percentage fee based on the project budget.  The parties to the completion bond agreement are typically the developer/owner, the financier(s), the completion guarantor company and the contractor. If the bank requires one, a completion bond can be provided to give the lender the required level of security against the risk of non-delivery of the project by the developer or owner. The bond fee itself is negotiable depending on the risks as assessed by the completion guarantor.  The completion guarantor will require a regular flow of project schedule paperwork. Under the bond agreement, the completion guarantor has the contractual right to “take over the project” (which will include wide “hire and fire” rights over any personnel) since they are financially liable if the project goes over budget.

With several options available, what is the best bond choice? Cost is a consideration, as the premium for a payment and performance bond is about half the cost of a completion bond. We recommend clients pursue a payment performance bond linked where appropriate to a sub-guard insurance policy.

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