26 May 2022

Special Purpose Vehicle (SPV) Sales – The Key Issues

A significant number of property purchases continue to be undertaken as corporate transactions, with the buyer acquiring the shares in the target company (Target) which owns the property, the Target generally being a special purpose vehicle (SPV).

The parties will often agree a heads of terms which assumes an asset deal but gives the parties an option to “convert” to a corporate deal before completion if terms can be agreed.

Notwithstanding the benefits of a corporate deal, which we have written about previously, such a transaction raises various additional issues and workstreams which will need to be addressed in order to reach a successful completion and which will generally, also lead to higher transaction costs for both parties. In order to reduce the risk of time and money being wasted, we consider here some of the key issues which the parties should consider at the outset of a transaction in order to establish whether or not a corporate deal is viable.

1. Is the Target truly an SPV?

When a Target is purchased, a buyer will effectively acquire all of its assets and liabilities – not just the property which it owns. Liabilities can include obligations to pay tax or risks associated with historic contracts which have been entered into by the Target. If the Target has been in existence for a significant period of time or undertaken a range of activities in addition to owning the property, this will not only make the due diligence process more complicated but may significantly change the risk profile for the buyer. Before undertaking any significant work, a buyer should seek reassurance that the Target is a "clean" SPV and undertake a high-level due diligence exercise to verify the same before incurring any significant costs.

2. Fundamental tax issues

A buyer will be extremely concerned to understand the tax profile of the Target and what tax (if any) might be due. A high-level tax due diligence exercise should be undertaken to identify any major issues, including:

  • If the Target is offshore, has it always been managed and controlled appropriately and if not, are there any questions around its tax residency which could have financial implications?
  • Is there any "pregnant" corporation tax liability in the Target? If the value of the underlying asset has increased significantly since it was originally acquired, any transfer of the property out of the Target after completion could result in a corporation tax liability.

3. How has the price been calculated?

If the parties have agreed to consider a corporate transaction after terms have been agreed for a property deal, the price will typically have been agreed by reference to the value of the property. Thought will need to be given as to whether the price is fixed or whether an adjustment is to be made by reference to any other assets and liabilities of the Target, such as cash deposits, the right to receive historic rent arrears or tax refunds, or sums payable to third parties under existing contracts.

The parties should identify and agree in principle how any major items are to be dealt with as early as possible in the transaction process. This could require the parties agreeing to formally transfer the right to receive certain sums from the Target to the seller or for cash deposits to be distributed out or applied against any existing debt prior to completion.

It is not uncommon for there to be a formal price adjustment mechanism incorporated into the purchase agreement. The value of the property will generally be fixed, but to the extent there are any other assets or liabilities, the price will be adjusted with a balancing payment made by either the buyer or the seller. Such a price adjustment can be complicated, requiring agreement of specific accounting policies and principles between the parties and the preparation of a pro forma set of accounts. This can take a significant amount of time and will need to be dealt with in parallel to the legal transaction documents to ensure there are no delays.

4. Who will provide the warranties?

In a corporate transaction, the buyer obtains protection through the provision of warranties and indemnities from the seller. These are effectively confirmatory statements which the seller provides in the purchase agreement (for example, that the Target has no liabilities save as disclosed, that the Target is an SPV, that all tax of the Target has been paid up to date, and so on). If any warranty proves to be untrue, the buyer can bring a claim for breach of warranty against the seller.

SPVs are often part of a broader corporate structure and sale proceeds will generally be distributed out to the parent company or ultimate beneficial owners immediately following completion. The buyer needs to be comfortable that it will have recourse against a person of suitable standing in the event of a warranty or indemnity claim, with any additional security requirements (such as a parent company guarantee or cash retention) being requested as soon as possible.

5. W&I policies

The past decade has seen an almost exponential growth in the use of warranty and indemnity insurance policies (W&I Policies). These are a third party insurance policy taken out by the buyer or seller to provide insurance in the event of a warranty or indemnity claim under the purchase agreement. They are most commonly taken out by the buyer allowing it to bring a claim under the policy in the event of a breach of warranty or an indemnity kicking in, while the seller benefits from a £1 cap on its liability (unless it has fraudulently concealed information). Although W&I Policies can be a convenient device, their cost can be significant, and the parties should agree at the outset who is to take out the policy and how any costs are to be borne.

For further discussion about W&I policies, see here.

Conclusion

Although corporate acquisitions of property often present many potential advantages to the parties, they undoubtedly involve additional time, effort, and costs for all involved. Considering some fundamental questions at the start of a transaction will not only allow matters to progress as quickly and efficiently as possible but will also reduce the risk of a “fatal” issue arising at a later stage.

Disclaimer

This note reflects our opinion and views as of 26 May 2022 and is a general summary of the legal position in England and Wales. It does not constitute legal advice.

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