Property Finance Jargon and Legal Documentation

1. Property Finance Jargon and Legal Documentation Monday 14 September 2009 Jonathan Lawrence, Partner, K&L Gates LLP

2. UK Real Estate Finance Market – 2009 Savills research • Some 22 banks currently willing to lend, out of which 10 are German and 8 are British • £20m now considered “big ticket” • H1 2009: • 26 deals with a value between £50m and £100m • 63 between £20m and £50m • 64 between £10m and £20m

3. Overview • Pack documentation introduction • Property finance glossary • Investment loan term sheet • Development loan term sheet • Loan documentation • Parties • Provisions

4. The “Finance” in Property Finance • Equity • Debt • Senior • Mezzanine • Intercreditor

5. Borrower(s) • Borrower • Trading entity • Special Purpose Vehicle (SPV) company • Single/Multiple • Multiple borrowers for multiple properties • Cross-collateralisation

6. Obligors or Borrower Group • Obligors • Guarantees may be required from shareholders in B / other entities in B’s group • Especially relevant where B is an SPV • Sponsor • Individual or entity “behind” the real estate acquisition, B and management of real estate • Not usually a party to loan documentation

7. The Finance Parties • Lender • Lends / Advances the funds • Identity of original lender may change • Lender may reduce exposure to loan through syndication or sub-participation (and, before the crisis, securitisation)

8. The Finance Parties • Facility Agent • Day to day administration of loan • Security Trustee • Holds security on trust for all Secured Parties • Controls enforcement process • Intercreditor issues • Hedge Counterparty • B enters into a hedge with respect to all or part of its interest rate exposure under the loan with the hedging counterparty • e.g. fixed-to-floating interest rate hedge

9. Documentation • Term sheet • Loan agreement • Security documentation (next session) • Hedging documentation • Fee letters

10. The Loan Agreement • No standard format • Long form / short form

11. Purpose of the loan • Should always be set out in loan agreement • L not obliged to monitor the loan to make sure it is used for the purpose advanced • BUT Quistclose Trust established

12. Interest • Usually based on aggregate of: • 1. Floating rate of aggregate of LIBOR/EURIBOR; • 2. Margin (interest rate) agreed between L and B (fixed or variable); and • 3. Any Mandatory Cost • Paid on each interest payment date (end of interest period) • Interest period generally 1, 3, 6 or 12 months • Interest may be capitalised

13. Representations and warranties • Statements of fact made by B or Obligors about certain matters of fact relating to themselves, their status and the underlying real estate • If untrue, L may call an Event of Default • Standard reps e.g. that it is solvent, that security has not been granted in favour of another party • Specific reps e.g. property specific concerns re environmental issues

14. Covenants • General • General obligations imposed on Obligors • Additional covenants for SPV • Negative pledge

15. Covenants • Property • Ensure that property will not fundamentally change during the term • Restrict development, granting of leases etc. • Insurance covenant • Application of insurance proceeds • Damage • Loss of rent

16. Covenants • Information • Delivery of information • Financial statements, annual accounts • Proceedings • Property reporting requirements (rental income, tenant details etc.)

17. Covenants • Financial: Loan to Value (LTV) • Day 1: L obtains credit sanction to lend up to a maximum percentage of the value of a property • Ongoing: Measures the ratio of current market value of a property against the then principal amount of the loan outstanding • If max % is exceeded due to fall in property prices, B will have to bring the loan into compliance by prepaying proportion of loan/disposing of property/renegotiate terms

18. Covenants • Financial: Interest Cover • Ratio of net rental income (gross rental income less certain deductions e.g. insurance premiums, tax) versus B’s interest payment obligations • Test measures the ability of B to comply with its interest payment obligations • B’s interest payment obligations usually serviced from rental income • Can be “look back” or “look forward”

19. Covenants • Financial: Debt Service Cover (DSC) • Used when loan is amortising • Ratio of net rental income received versus B’s interest and principal payment obligations • Can be “look back” or “look forward” • Must be more than 1 to ensure B meets interest and principal obligations under the loan

20. Covenants • Financial • Remedy a breach of financial covenants by B paying additional funds into blocked reserve accounts • Funds will be deemed to reduce outstanding balance of the loans (LTV) or to supplement net rental income (Interest Cover and DSC) • May be released if B complies with financial covenants or applied to prepay loan if financial covenants not complied with • Restriction on number of times can remedy a breach in this way

21. Events of Default • Trigger events which may mean L cancels commitments and declares all amounts owing and immediately payable - Acceleration • L under no obligation to accelerate loan following event of default – may waive/renegotiate • B often allowed grace period • e.g. insolvency of obligor, non-payment of sums, misrepresentation, breach of covenant, material adverse change

22. Term and Prepayment • Term = length of lifespan of loan • L cannot prevent B repaying the loan prior to end of term • Prepayment not favourable for L as misses out on interest, therefore L imposes prepayment fees • L may require mandatory prepayment e.g. proceeds of sale

23. Principal • Loans are interest only or amortising • Interest only – B pays interest on each payment date and principal paid as bullet repayment on maturity date • Amortising – B repays specific amounts of principal on regular basis during term of loan

24. Payment mechanics • Property Managing Agent • Gross rental income paid into segregated trust account/held on trust by Managing Agent • Managing Agent responsible for paying net rental income into Rent Account • Duty of care agreement – Managing Agent owes L direct contractual duty of care • On interest payment date funds are applied in order – “waterfall”

25. Default interest • Additional interest which accrues on overdue amount in event that B or Obligor fails to make a payment under the loan • Usually around 2%-3% above the interest rate usually payable on the loan • Rate must not be set too high as it may be considered a penalty and non-recoverable

26. Conditions Precedent (CPs) • Prior to advancing funds, L will insist on receiving certain documents and/or B satisfying other requirements • Corporate documentation and authorisations • Financial information • Property documentation and due diligence • Legal opinions • Miscellaneous

27. Utilisation / Drawdown • Specific procedure for drawdown • Notice to lender required • Likely that initial drawdown must be made during an agreed availability period • Overall number of drawdowns likely to be limited • CPs must be satisfied prior to drawdown

28. Assignment, transfer and Qualifying Lenders • L usually reserves right to freely transfer its interest in the loan provided that B does not incur any tax liability on its interest/other payments due to change in status of transferee – “Qualifying Lender” concept • Crucial that L can assign interest freely if it intends to syndicate the loan • Often prohibited for B and Obligors to assign rights and obligations without written consent of Ls

29. Amendments and waivers • Amendment usually allowed with written consent of Majority Lenders and Obligors • Some amendments e.g. a decrease in margin will require consent of all Ls as they fundamentally affect the loan terms