Question
February 17, 1995
Patrick Sharpe
Premerger Notification Office
Bureau of Competition
Federal Trade Commission
6th & Pennsylvania Avenue, NW
Room 303
Washington, D.C. 20580
VIA FACSIMILE
Dear Patrick:
Pursuant to your conversation with our counsel, (redacted) I am writing to you because the unanticipated decline in the performance of certain estate has led to a debt workout and I want to confirm that none of the transactions incidental tot he workout are reportable pursuant to the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (HSR).
Specifically, we believe that each acquisition involved in this transaction would either: (i) fall below the HSR jurisdictional thresholds; or (ii) be exempt from the filing requirements as a bona fide workout by a creditor in its ordinary course of business under 16 C.F.R. Sec. 802.63.
Background:
In 1989, a group if institutional clients of (redacted) entered into a financing transaction with respect to two shopping centers under common ownership. For your ease of reference, I have attached a diagaram showing the initial investment structure. You may find it useful to refer to the diagram when reviewing this letter. (Redacted) formed two general partnerships, Loan Partners and Land partners, each with identical beneficial ownership, to enter into the financing transaction. The beneficial ownership of each of the general partnerships is broken down as follows:[note 1]
Ownership Interests will mean (i) the leasehold estate and the improvements comprising Center No. 1, (ii) the leasehold estate and the improvements comprising Center No.2 and (iii) the land underlying the leasehold improvements comprising Center No.2.
Owners will mean the three entities which own all of the Ownership Interests, all three of which are under common ownership and control. For further ease of reference, these Owners will be specifically referred to as Owner No. 1, Owner No. 2 and Owner No. 3.
Center No.1" will mean those portions of one of the Centers which are owned by Owner No. 1 exclusive of any portions owned by the deparatment store anchors at that Center.
Center No. 2" will mean those portions of the other Center which are owned by Owners Nos. 2 and 3 exclusive of any portions owned by the department store anchors at that Center.
The investment was structured as: (i) two non-recourse loans one in the principal amount of $175 million and the other in the original principal amount of $10 million (two loans were used because the interest rate on each of the loans differed) (collectively the (Redacted) and (ii) a sale and leaseback of the land underlying Center No. 1. The (redacted) were secured by two mortgages encumbering the Ownership Interests in Center No. 1 and Center No. 2 which were granted by Owner No. 1, Owner No.2, Owner No. 3 and Land Partners (the (redacted) Land Partners joined in the execution of the (redacted) so that Loan Partners would have a first priority security interest in all of the real property interests in Center No. 1. The land underlying Center No. 1 was sold to Land Partners and Land Partners entered into a non-recourse long term ground lease of this land to Owner No. 1 (the (redacted )) (The portion of the financing transaction involving the (redacted) hereafter called the Loan Transaction and the portion of the financing transaction involving the land purchase and leaseback is hereafter called the Land Lease Transaction). Loan Partners was formed for the sole purpose of making the (redacted) Land Partners was formed for the sole purpose of entering into the Land Lease Transaction.
After the consummation of the transactions in question, the ownership and debt position of the two Centers was structured as follows:
Center No. 1
1.The land under Center No. 1 is owned by Land Partners and leased to Owner No. 1.
2.The improvements in Center No. 1 are owned by Owner No. 1.
3.Center No. 1 is encumbered only by the (redactaed).
Center No. 2
1. The land under Center No. 2 is owned by Owner No. 2 and leased to Owner No. 3.
2. The improvements in Center No. 2 are owned by Owner No. 3.
3. Center No. 2 is encumbered by a first mortgage securing a loan held by an insurance company (the Center No. 2 First Mortgage), which entity is unrelated to the Owners and the (redacted) well as by the (redacted) which are subordinate in priority.
The (redacted) documents and the (redacted) and Lease documents collectively provide, in part, that:
1. the return on the investment of the (redacted) would be received partially through interest payments under the (redacted) and paratially through ground rents from the (redacted) and
2. during the first four years, a portion of the return on investment would be accrued, added to the principal of the (redacted) and repayable only upon retirement of the (redacted)
Current State of Affairs
As a result of an unanticipated general decline in the economy where the Centers are located and an inrese in competition from other retail alternatives, the cash flows generated by both Centers, after payment of all property related expenses (including principal and interest payments on the Center No. 2 First Mortgage), have been insufficient for some time to cover the total payments due to the (redacted) under the (redacted) and the (redacted) Land Lease. Nevertheless, (redacted) Advisory believes the Owners have subsidized those payments with more than $17,000,000 of their own capital through and including the September 1, 1994 payments.
In the spring of 1994, the Owners advised the (redacted) investors that at some point in the near future they would no longer continue to subsidize the regular debt service and ground rent payments to them. As announced, the Owners defaulted in their obligations with respect to the required debt service and ground rent payments for the month of October, 1994 and each subsequent monthly payment. The Owners have continued to make some payment each month but each such payment has been less than the amount required to be paid under the (redacted) Mortgages and the (redacted) and Lease. Those defaults have not been cured. Since the (redacted) Loans were secured by both Centers, without any allocations being made, a default under the (redacted) Loan was a default under the (redacted) Mortgages for both Centers.
(Redacted) Advisory and the Owners have been engaged in attempting to negotiate an amicable resolution of the problem as an alternative to foreclosure and consequent litigation. The results of those negotiations have led to the following agreement in principle:
In return for the payment by the (redacted Investors to the Owners of a negotiated sum of money less than $2,500,000 in total the Owners will voluntarily convey title to all of the Ownership Interests to the (redacted) Investors or their nominees. After this conveyance, the Owners will have no interest in the Centers. With respect to both Centers the Owners will convey their interest subject to the (redacted) Loans and the Center No. 2 First Mortgage remaining in place. In addition, at Center No.2 the existing ground leases will remain in place. The (redacted) Loans will also be modified in certain respects.
In order to shelter the (redacted) Investors from potential liability after stepping into an ownership position with respect to the above-described interests in the Centers, the following steps will be taken:
1. Three new (redacted) limited liability companies will be formed to take title to the respective Centers (let us call them LLC-2", LLC-2" and LLC-3" individually and the LLCs collectively). The beneficial owners of each LLC will be the (redacted) Investors. The members of each limited liability company will be some combination of: (i) the general partners of Loan Partners and Land Partners, i.e. Loan Corporation, Land Corporation, Land Group Trust and Loan Group Trust; and (ii) possibly, instead of Loan Corporation or Land Corporation, a new wholly-owned corporation formed by Investor A. There may be changes in the beneficial interest held by each (redacted) Investor, but in no event shall such change exceed 1% of any (redacted) Investors interest in the investment. Since no other person will hold 50% or more of the voting securities of each new LLC, each LLC shall be its own ultimate parent entity.
2. A portion of the (redacted) Loans will be assigned to LLC-1. Owner No. 1 will convey to LLC-1 its Ownership interests in Center No.1 by a deed-in-lieu of foreclosure subject to the (redacted) Mortgage encumbering Center No. 1 and LLC-1 will assume liability for the payment of the debt secured thereby. Land partners will also convey to LLC-1 its interest in Center No.1 by a deed-in-lieu of foreclosure subject to the (redacted) Mortgage encumbering Center No.1 and LLC-1 will assume liability for the payment of the debt secured thereby.
3. LLC-2 and LLC-3 will purchase form Owner No.2 and Owner No.3, respectively, their Ownership Interests in Center No.2 subject to the Center No.2 First Mortgage and the (redacted) Mortgage encumbering Center No.2 and LLC-3 will assume liability for the payment of the debt secured thereby.
The two transactions which require analysis as to reportability are:
1. the acquisition from the Owners of the Ownership Interests in the Centers: and
2. the formation of the three limited companies to take title to the Ownership Interests.
The Acquisition Transactions
It is also our belief that the formation of each of the three limited liability companies should be exempt from reporting because in each case it fails to meet the size of transaction test and also because it fails to meet the special size of person set forth in 16 C.F.R. Sec. 801.40. Our analysis is as fofllows:
1. The Size of Transaction Test
Under 16 C.F.R. Sec. 802.20, no filing is required unless a contributor acquires voting securities which:
(a) are valued at not less than $15 million; or
(b) confer control of an issuer which, together with all entites it controls, has at least $25 million in annual net sales or total assets.
Because the membership interests (i.e. Voting securities) in the three new LLCs are not and will not be publicly traded, and the acquisition price has not been determined those interests should be valued at their fair market value (FMV) as determined, in good faith, by appropriate officials for each acquiring person (16 C.F.R. Sec 801.10(a)(2)(ii), (3)).
Under the HSR rules, it is assumed that the amount of any indebtedness with respect to the underlying assets of a corporation is taken into account in arriving at the FMV of its voting securities. One means by which the (redacted) Investors may in good faith determine the FMV of the voting securities they are acquiring in the new LLCs is by valuing the interests that are being acquired by the new LLCs anc will be their sole assets.
The three new LLCs will be formed to acquire the aggregate interests of the Owners in the two Centers. Those interests have no economic value whatsoever inasmuch as the outstanding principal balance of the existing (redacted) Loans exceeds by more than $60.000.000 the fair market value of all of those interests combined. However, the (redacted) Investors have determined to pay approximately $2,500,000 for all of the interests in question as an alternative to engaging in costly and time consuming foreclosure litigation with the Owners. It could therefore be argued that the total value of the interests in question is at most $2,500,000. Not surprisingly, it is anticipated that each (redacted) Investor will make a good faith determination that the fair market value of the membership interests that each investor will acquire is substantially less than $15 million, and these fair market determinations will not collectively exceed $2,500,000.
Because none of the (redacted) Investors will, individually, or in the aggregate, acquire $15 million or more in the voting securities from any of the new LLCs, the size of transaction test under 15 U.S.C. 802.20, will not be met for any of the (redacted) Investors acquisition of interests in the LLCs.
In addition, the alternative size of transaction test under 16 C.F.R. 802.20 (b) is not met because the issuers, the new LLCs, will not control any other entity and because the new LLCs will not have annual net sales or total assets of $25 million or more.
2. The Size of Person Test
Under the special size of person rules applicable to the formation of corporate joint ventures (as set forth in 16 C.F.R. Sec. 801.40), a formation transaction is not reportable, regardless of the size of the contributors to that venture, unless the venture itself will have at least $10 million in assets.
As stated above, the value of all assets which will be owned by all three new LLCs as a result of the Formation Transaction will be less than $10 million. As a consequence, none of the three joint ventures will meet the special size of person test under 16 C.F.R. Sec 801.40.
I would appreciate your telephoning me after your receipt of this letter to confirm verbally that my conclusions as stated in this letter are correct and that this letter will e placed in your business files.
Very truly yours,
(Redacted)