PROPERTY JOURNAL

Does property stall mergers and acquisitions?

Issues with real estate can slow down mergers and acquisitions deals – or even cause them to collapse. What are the main risks for buyers, and how can they be avoided?

Author:

  • Anjana P. Dahya

05 May 2023

Façade of an office building

When a buyer wants to purchase a target company that owns or rents a property important to the latter's business – and which, therefore, would usually become a business asset for the buyer – property issues can arise.

These can occur whether it is a share or asset purchase. In both cases, it is important for full and complete due diligence to be carried out by the buyer on the real-estate matters.

Typically, this would involve a comprehensive review of the title register, plan and other title documentation relating to the property – whether it be freehold or leasehold – as well as examining the results of property searches and reviewing replies to standard enquiries from the seller.

The planning position of a property should also be carefully scrutinised to ensure that its use is properly authorised by the planning authority. Along with the due diligence process, the property warranties in the relevant share or asset purchase agreement would need to be carefully reviewed to ensure that they provide the confirmations that are required by the buyer. 

Typical warranties may, for example, include statements to the effect that:

  • the property is the only land or building that is owned by the seller that is used in connection with the business
  • the current use of the property is properly authorised by and in compliance with all planning consents and building regulations
  • there are no outstanding claims or potential enforcement actions in relation to the property.

The buyer (or often the buyer's lender) may also commission a valuation report or a buildings survey which may highlight specific issues that need addressing through the raising of further enquiries with the seller. 

Typically, there may be identification of items of disrepair at the property or discussion of the surrounding area, amenities and location and the impact of such factors on the property's value. Valuation reports and buildings surveys can take time to be completed, which should be factored into the overall timescale for the transaction.

Information gaps can expose buyer to risk

Problems and delays to the progress of a transaction may arise if the due diligence material provided by the seller is insufficient. For example, there may be missing title documentation or out-of-date search results or the results of newly ordered searches may not be expected until after completion is due.

Such gaps in the due diligence information can expose a buyer to risk. For example, missing title deeds may mean that the nature of ownership, and therefore the prospective seller's ability to dispose of the property, cannot be properly confirmed.

A lack of recent search results means that the buyer will have little or no knowledge of, for example, environmental risks, connections to utilities, consents from the local authority, the accessibility of the property and perhaps unregistered portions of the land.

Insufficient planning information also means that a buyer cannot confirm that the current use of the property is authorised by the relevant planning authority – or whether any planning breaches may give rise to any enforcement action that could be inherited once the target company or its property asset is purchased by the buyer.

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How tenant issues may cause delays

Target companies may occupy a business site pursuant to a lease, the terms of which should be scrutinised carefully to avoid any pitfalls after completion.

For example, if the buyer commonly looks to assign business leases between members of its own group of companies then the alienation provisions should be checked carefully in case there are any prohibitions on group company assignments. When a target company has breached its lease then, on completion of the wider corporate transaction, the liability arising from that breach will effectively be a problem that is passed on by the seller to the buyer. 

This is particularly relevant, for example, in the context of rent arrears or a lack of compliance with the tenant covenant to repair which may potentially give rise to disputes with the landlord, or claims for dilapidations.

The target company's lease may not have been correctly registered or noted at the Land Registry as well, or there may be uncertainty over whether the correct stamp duty land tax (SDLT) was paid to HMRC when the lease was granted. 

Again, examining the property warranties in the transaction documents is important here, together with any disclosures against those warranties from the seller, particularly in respect of any tenant breaches or unpaid SDLT that is a financial liability.

If there are any subleases or other occupational interests in place, the buyer may also require confirmation that those will be terminated on or before completion.

'If the buyer looks to assign business leases between members of its own group of companies, the alienation provisions should be checked for prohibitions on group company assignments'

Indemnities and due diligence packs offered

A buyer could look to address issues such as missing title deeds, a lack of or delay in search results and planning breaches, by way of indemnity insurance. There may though be limitations to the cover that is available, for example if a planning breach or enforcement action was relatively recent, which would probably make an insurer fairly reluctant to provide cover at all or may cause an insurer to offer a policy at a very high premium due to the increased nature of the risk.

Another potential way of addressing such concerns is by negotiating bespoke indemnities in the transaction documents; for example, an indemnity for the benefit of the buyer in respect of potential liabilities arising from unpaid SDLT sums. 

Indemnities may be difficult to settle with the seller, however, if the buyer requires them to be very wide in scope. Potentially, such negotiations could cause a transaction to become further protracted. 

To avoid prolonging a deal, sellers should in general aim to provide a full and complete due diligence pack at the outset, to minimise enquiries and concerns about the property from the buyer's side.

'Indemnities may be difficult to settle with the seller if the buyer requires them to be very wide in scope'

Seller checklist helps assets appeal to buyers

The title register and plan and all current tenancy documentation – including ancillaries such as licences to alter, rent deposit deeds and side letters – should all be provided by the seller.

If the sellers have searches that are say, less than three months old, these may also be offered to the buyer to speed up the due diligence process. Normally, replies to standard enquiries would be required on any transaction involving a property acquisition.

Full and informative replies should be given, together with supporting or management information such as the building's insurance policy, service charge information, energy performance certificate, option-to-tax documents, fire risk assessment, asbestos report, and health and safety file.

It would be of benefit to the seller if it initially spent some time collating such documentation so it has a full pack ready to go once the transaction commences.

Problems can arise on distressed acquisitions

Particular investors may regularly seek out 'distressed properties', which is a phrase that is typically used to refer to properties that are or may be on the brink of being repossessed and so are commonly sold well below the usual market value in order to encourage a fast sale. The owner of a distressed property may be experiencing financial difficulties and so may want to sell swiftly; for example, to avoid the risk of actual repossession by its lender.

However, a lack of sufficient information about the property may again mean delays, and result in the buyer having to take a fairly substantial risk on certain aspects that it has insufficient detail about. It may be difficult for the buyer to inspect the property properly before the purchase, and so the current state and condition may not be clear before the sale completes.

A distressed property may require certain repairs if, for example, the owner has been unable to properly maintain the property, which would mean further expenditure for the buyer after completion.

Negotiations on the sale price to account for outstanding repairs could be difficult for the buyer, though, if it has no clarity on the full scale of the work required – especially if the seller is already facing financial hardship and does not want to be swayed on its asking price. 

A buyer may also be unpleasantly surprised by the actual length of time it takes to conclude a distressed property acquisition, particularly if lenders, liquidators and similar parties are involved.

A buyer may well require coordinated advice from its specialist property and insolvency legal team, accountants and tax advisers if that is the case. Some buyers, though, might relish the challenge of purchasing a distressed property with the aim of quickly effecting any necessary repairs and then renting it out to generate an income or selling it on to make a profit.

'A buyer may be surprised by the time it takes to conclude a distressed property acquisition, particularly if lenders, liquidators and similar parties are involved'

Anjana P. Dahya is an associate in the real-estate team at the law firm Collyer Bristow 

Contact Anjana: Email

Related competencies include: Ethics, Rules of Conduct and professionalism, Legal/regulatory compliance, Purchase and sale

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