Planned departure or emergency exit?
03 / 10 / 2019
Paul Corren, Corporate Partner in our Business Advisory Team looks at WeWork’s recent experience and gives some useful advice for property entrepreneurs looking to exit…
The recent revelation that WeWork’s Chief Executive Officer (CEO), Adam Neumann, the company’s founder and majority shareholder, had no employment agreement with the company gives something of an insight into the approach of a number of creative and successful entrepreneurs. For many the intellectual and transactional challenges of the business far outweigh the more mundane landscape of good corporate and business practice. The perceived value of contractual terms can seem distant, even irrelevant until (of course) they impact on value.
In the case of WeWork, an embarrassing disclosure appeared in the company’s S-1 Registration Statement, stating that the company had “… no employment agreement in place with Adam and there can be no assurance that Adam will continue to act for us or serve our interest in any capacity. If Adam does not continue to serve as CEO it could have a material adverse effect on our business”. An admission pre-IPO that no-one would want to make. Following Adam’s recent resignation from his position as CEO, it is too early to measure what the impact on the WeWork business will be. Perhaps more extraordinary is that a recent Steven Hall & Partners Survey of the 200 largest US companies suggests that 23% of these organisation do not have an employment agreement in place with their CEO either. It appears that Adam is not alone.
In this article we focus on some further house-keeping issues that may play a significant role in determining how a property entrepreneur can exit an existing property structure and why these points should be considered in detail before forging the exit plan.
Property holding structures and property funds can have relatively complex structures, normally as a result of risk mitigation and tax efficiency. The fund is commonly set up as a limited partnership (LP), or overseas equivalent and the LP often owns a series of property special purpose vehicles (SPV’s). These SPV’s buy and hold properties in accordance with an agreed business plan or strategy. The fund will typically have an agreement between the fund manager and the general partner of the LP. The LP will also have a partnership agreement in place setting out the internal management and governance of the LP.
It is this partnership agreement that may well become crucial to your proposed exit plans.
If you are a limited partner in an LP structure you need to take clear and specialist advice as to your position prior to exit. A decision to exit or transfer an existing interest in a property fund is not taken lightly and often involves an exhaustive analysis of the likely return proposition or sometimes simply reflects a timely need to liquidate or divest a position. Typically the LP will represent an illiquid asset with no obvious regulated market in which to dispose and as such identifying an able and willing third party to take the investment can be a time-consuming and delicate process. In this context the basic legal fundamentals in the partnership agreement can be easily overlooked.
To avoid embarrassment, check whether any formal consents are required in order for you to transfer your interest to a third party. The partnership agreement will set out the provisions that will apply on exit and you should be aware that some LP agreements may require formal written consent from the general partner of the fund to transfer. Furthermore the general partner may be vested with a number of rights to request or call for additional information concerning the proposed transferee together with a legal opinion stating that assignment of the limited partner’s share will not have an adverse effect on the LP. In some cases the partnership agreement may provide for the general partner to demand a legal opinion on the status of the proposed assignee/transferee. In the ‘heat of the moment’ accompanying the original fundraising process, often focused on the property asset itself and potential gross development/project value, it is easy to overlook the fact that your LP agreement may reserve to the general partner a power to withhold consent in its sole or absolute discretion. To some this comes as a complete surprise and clearly can be more than a mere irritation at a time when the outgoing party is looking for a smooth and orderly transfer and transition.
The other point worth noting is that often the partnership agreement will require the incoming investor to assume the obligations of the outgoing partner and to sign up to the terms of the partnership agreement through the execution of a legal deed of adherence. This process is often worth planning from a distance. We frequently advise and assist clients in preparing an ‘investment pack’ including details of the current property holding structure, a summary of the key terms of the partnership agreement and a core bundle of due diligence material. Often the incoming partner is asked to undertake to bear all costs and expenses incurred in connection with the transfer. The existing fund, through the general partner, should be approached early for key performance indicators and a clear and written overview of the partnership costs involved in the proposed transfer/exit.
None of the above is rocket science. Your exit plan will need to take into account the specific requirements of the partnership agreement and you should not assume that the general partner will necessarily agree with you or provide consent without discussion or persuasion. Take advice from your lawyers and tax advisers before triggering any process and remember that the duties and obligations of the general partner may conflict with your exit arrangements and the ongoing obligations to the remaining partners.
As they say at WeWork – “Create Your Life’s Work” – and as we would say at Wedlake Bell, once created, “Protect Your Life’s Work” !