Real estate law is becoming increasingly specialized.
Today, major real estate transactions are so multi faceted that attorneys must handle a maze of topics, ranging from zoning to endangered species laws and the rights of homeowners’ associations to high-level corporate finance. Hence, there have emerged specialties within a specialty.
Meanwhile, the nature of transactions has changed — there are fewer simple sales of one building to one buyer and more exchanges of entire portfolios of properties. The Homart Development Co. portfolio of shopping centers was dispersed to Chicago-based General Growth Properties, for example. Since September, terrorism-related concerns have even crept into real estatein the form of attention to security and contingencies in the case of disrupted phone service or electricity, says Mitchell Hersh, CEO of the Cranford, N.J.-based REIT Mack-Cali Realty Corp.
On top of all that, there is the shaky economy. Corporate layoffs have pushed the national office vacancy rate above 15%. Those conditions are forcing lenders and investors to dust off legal tools they have stored since the early 1990s recession that are designed to protect their financial interest if a project flops.
With this storm cloud of concerns hovering above every conference table, dealmakers are treading carefully, and keeping their lawyers close at hand. "I find them wanting more of the protections I had to talk people into before," says Linda Lindman, senior vice president and general counsel for the New York metro region at Insignia/ESG Inc. "A lot of what was spoken (during the boom) is now on paper."
Good times, bad times
In some ways, then, these are high times for real estate lawyers. Their role has expanded and become more important, and they’re not seen merely as wet blankets. Moreover, there are more lawyers involved in deals. "We’ve had deals in the current situation where we had 100 people on a transaction," says Stanley M. Stevens, executive vice president, chief legal counsel and secretary for Chicago-based Equity Office Properties Trust. "That was just unheard of when I started practicing."
Stevens, who began practicing in 1973, and some other longtime real estate attorneys hint that maybe there’s a bit too much legal work going on, as evidenced by avalanches of documents.
Indeed, as even the minutia of transactions is exhaustively negotiated, deals that once generated a briefcase full of legal documents now create enough paper to fill a desk, say veteran real estate attorneys. Additions and notations were rarer when they had to be handwritten in the margins of typed pages, Stevens notes. "Every paragraph is fair game" for attorneys to pick apart, Stevens says. "And I’m not sure that’s a good thing."
Neither is Dan Winton, who has practiced real estate law in Southern California for 29 years. A partner with the Phoenix-based firm Snell & Wilmer LLP, Winton notes that real estate buyers and sellers are far more meticulous in allocating risk in deals than they were a few years ago. This is partly due to the economy, which is still recovering slowly. But there are longer-term factors. These include increased litigation stemming from the explosion of potentially actionable matters, such as asbestos removal and other environmental concerns, Winton says.
In California, these forces have led more sellers to seek an "as is" clause in sale agreements. The clause basically means the buyer purchases a property in its present condition, as is, and assumes responsibility for any subsequent liability or improvements.
Down by the riverside
One of Mack-Cali’s ongoing developments is an example of the endless legal tasks that follow a big real estate project. Mack-Cali is developing the Harborside Financial Center, a mixed-use project along the Hudson River in Jersey City, N.J., that includes 2.1 million square feet of Class-A office space with another 1.6 million sq. ft. nearing completion. The development and leasing of the Harborside have swept in subjects such as land use, water use, infrastructure, transportation and terrorism.
The Sept. 11 attacks on the World Trade Center have led several big investment houses such as Goldman Sachs, Morgan Stanley and Deutsche Bank to disperse critical operations around the New York metro area. In fact, Deutsche Bank and Instinet, the world's largest electronic trading network and a WTC, have leased space at Harborside.
Companies want to move employees, data centers and technical offices to a variety of sites that are not all on the same power grid in the event that one is knocked out of service. These concerns, of course, factor into lease and property purchase agreements and require a detailed legal framework.
Additional plans for Mack-Cali’s Harborside include a public park, a marina and a 350-room Hyatt Regency hotel scheduled to open in July. So on top of dealings withand tenants, Hersh says, Mack-Cali attorneys have negotiated a slew of issues with government agencies at the local, county, state and federal levels.
"Our attorneys are very adept at understanding all these issues," Hersh says, "and how those translate into business issues relative to the cost of development and various areas of responsibility, whether they’re public or public-private partnerships."
Even when built entirely on solid ground, big industrial and residential developments introduce complex legal issues absent in more straightforward projects.
Say, for example, a developer has a 300-acre master planned industrial complex with common areas and private roads. The master developer will then sell parcels to other developers on which to construct buildings. In this scenario, says Winton, there will likely be one set of covenants, conditions and restrictions — aesthetics of buildings, location of parking lots, etc. — covering the master development, and another set that applies to the smaller developers’ projects. Master developers in these cases, such as the Irvine Co. in California, often require legal provisions giving the company the right to buy property back from the secondary developers if they don’t move forward with plans for the property within a specified period, Winton says.
It is the lawyer’s job to craft documents framing the obligations of all the parties involved.
While master planned developments create their own land-use issues, urban and suburban office and retail developments are facing increasingly well-informed scrutiny from nearby homeowners’ groups. The influence of residential organizations has steadily risen over the past 20 years, says Jay Levin of Powell, Goldstein, Frazer & Murphy in Atlanta. For real estate firms, this phenomenon holds positives and negatives, of course. For attorneys, it often means additional time spent haggling over parking lots, lighting or the routes of roadways.
"Representatives of many neighborhood organizations have become much more sophisticated, and understand zoning and land-use regulation to a large extent," Levin says. "And that’s reflected in our practice as well."
A number of factors have complicated the job of the real estate attorney, for both in-house counsels and attorneys who represent real estate clients. Most immediately, though, high vacancy rates and other problems stemming from the recent recession are compounding the worries of real estate dealmakers. Often, it’s the lawyer’s job to try and minimize those worries.
"What we’re seeing now is people starting to talk about bankruptcy and insolvency again," Lindman says. "Can you get paid? What do you do if a company that is supposed to pay you is going sideways? Like any decent lawyer, I know when I need to ask someone else a question. I know when, for instance, I need to call a bankruptcy lawyer."
During the boom years of the 1990s and 2000, it was hard for real estate executives to envision deals souring or the demand for office or retail space stalling. Now it’s not.
The protections that she and other lawyers have been writing into deal agreements in the past year are designed to make sure people get paid. Financiers of various stripes — pension funds, banks, insurance companies — are applying lessons learned from the recession of 1990-1991. That downturn hit the real estate industry particularly hard, as the national office vacancy rate peaked at 18%, according to Grubb & Ellis.
"Lenders were burned and decided they didn’t want to go through it again," says Paul S. Rutter, managing partner at the law firm Gilchrist & Rutter in Santa Monica, Calif., of the early 1990s recession.
Lenders’ desire to avoid defaults has led to what Levin calls "a much greater sensitivity to bankruptcy prevention."
That sensitivity is making lenders more demanding. Financiers are requiring developers to set up separate legal entities to represent particular development projects. The separate entity must have its own three-person board of directors, including a director approved by the lenders. Often, the vote of that outside, lender-approved director is required for the entity to file bankruptcy and thus delay or avoid foreclosure, Rutter says.
These "bankruptcy remote" provisions are designed to ensure that borrowers can’t easily file bankruptcy and thus delay foreclosure. Part of that process involves making sure the borrower — the special purpose subsidiary — has no assets besides the project in question, and is not beholden to other major creditors.
In an uncertain market like today’s, lenders are insisting on all these and more conditions. They want to guarantee all the money they’re lending, even when dealing with sound developers with good records, says Lindman. In a more forgiving market like the one in the late 1990s, financiers were not as rigorous. Then, lenders might have asked for guarantees covering half the debt, and the provision would only become effective in the case of default.
In a bad economy, then, the real estate attorney is often perceived as a more welcome presence than in sunnier times. Nonetheless, greater caution can create a quandary for lawyers, especially those working inside a company. Lindman says she must walk a fine line between advising caution and obstructing business.
Developers, Lindman explains, want a legal counsel who will help get deals done, who understands the business and knows how to avoid legal pitfalls. Lindman says she stays on the fine line by giving the business people full disclosure of all legal risks and issues in a particular deal, including worst-case scenarios. Secondly, Lindman says she helps developers gauge the severity of those risks, and highlights points that could make a deal more favorable for Insignia/ESG.
"I am your protector"
Lawyers say the nature of their relationship with developers hasn’t changed much over the years. There are certainly instances when the aggressive, entrepreneurial developer clashes with the cautious attorney, lawyers say. "I often do spend time counseling them about the limitations of what they can do, " Rutter says.
The bottom line is that clients want an attorney they trust, who protects their interests but does not get in the way unnecessarily, lawyers say. "Our job," says Stevens, "is to point out risks when we see them, to structure around them when we can, and by and large, to fashion the deal in such a way that we achieve the business objectives."
Adds Lindman: "I tell them, ‘I am your protector and worrier. I’ll make you look good, make sure you don’t make any big mistakes, but not get in the way.'"
Certainly, attorneys sometimes bring up legal barriers that kill deals. Such barriers are most often found in loan documents, and involve such legal provisions as limitations on the amount of debt a developer can accrue. On the other hand, attorneys sometimes discover rights their clients didn’t know they had — deal makers instead of breakers.
Rutter recalls such a case involving a planned office building in downtown Los Angeles. The project was halted in 1990 because of a covenant requiring a certain number of parking spaces near the proposed building. Rutter’s client wanted to demolish a parking garage to make way for a 50-story office tower. The problem was that parking requirements meant that the garage couldn’t be destroyed until its parking spaces could be replaced.
With some legal sleuthing, Rutter discovered that his client could use parking spaces at a nearby building it owned to meet the covenants attached to the proposed tower. The project’s lender had approved such a move years before. "Sure enough, those covenants were exactly what we needed to move the parking rights from the garage that we wanted to tear down," Rutter says. "If we weren’t able to move those covenants, we probably wouldn’t have that building today."
Lawyers are not often seen as real estate heroes. But the good ones will continue untangling the legal thickets and showing clients what they need to know, as Lindman says, "even if it bores them."