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By: Daniel P. Adams, Gilbert G. Menna, and Ettore A. Santucci Goodwin Procter LLP
LIKE ALL IPOS, THE FUNDAMENTAL PROCESS FOR A REIT IPO involves the preparation of a registration statement (albeit on a Form S-11 instead of a Form S-1), including a prospectus, and a roadshow to be used to market the offering, as well as numerous corporate governance documents necessary to prepare the company to be a public company and qualify its stock for listing on one of the stock exchanges. However, there are a number of issues that commonly arise in REIT IPOs that are either unique to REITs or less common in non-REIT IPOs. Below are ten practice points that can help you run a REIT IPO like a pro.
Completing a REIT IPO is a complex and timeconsuming process. As a result, it is critical to understand your client's goals when evaluating the benefits of an IPO as compared to other alternatives. Different clients will have different motivations for completing a REIT IPO. These may include obtaining liquidity for themselves or private equity investors, raising equity capital to pay down debt, enhancing the risk-reward balance by rolling up assets into an operating company, or opportunistically accessing the public markets to facilitate future growth. For some clients, running a dualtrack process for a REIT IPO or a sale of the portfolio may make sense. For others, obtaining access to the public equity markets through means other than a traditional IPO (such as through a merger with an existing public company or an entity spun off from an existing public company or through an exchange listing without a concurrent offering) may present more attractive alternatives. The better you understand your client’s goals, the better you will be able to assist with completing a successful transaction, whether that is ultimately a traditional IPO or an alternative transaction.
A REIT IPO will stretch the resources of even the most sophisticated private real estate operator. You should help your client focus on the right tasks at the right time. Initial submissions of the registration statement for the IPO typically have limited or preliminary information on certain topics, including board members, executive compensation, founders’ rights, distribution policy, new credit facilities, technical details of formation transactions, corporate governance documents, and exhibit filings. Other disclosures need to be more fully refined from the beginning, including the primary business discussion, the financial statements and related disclosure, the property tables, and the industry disclosure. Prioritize the right tasks, minimize false deadlines, and establish realistic timelines.
You should understand which companies will be considered peers of your client. Fundamentally, your client is seeking to attract investor dollars that would otherwise be invested (or may already be invested) in peer companies. Having a good understanding of where your client will fit in the existing REIT market is critical in preparing the prospectus for the offering and helping your client make important structuring decisions. Peers are typically determined based on asset class (e.g., office, retail, residential, industrial, hotel, etc.), asset quality, market and sub-market focus, and the expected size of the company. Your client and its underwriters will likely have a good sense of the most relevant peers, but easily accessible public resources can also be helpful to point you in the right direction. These include the lists of REIT index constituents (organized by sector and subsector and market capitalization) and historical REIT IPO listings on the National Association of Real Estate Investment Trusts’ website.
You should help make certain that the accounting analysis is an early focus. In a REIT IPO transaction involving the roll-up of separate private real estate funds or other pools of assets, it is not always straightforward to determine the accounting predecessor whose financial statements are required to be included in the registration statement. Often the first formal submission regarding the IPO will be a preclearance letter to the Securities and Exchange Commission’s (SEC) accounting staff regarding the anticipated accounting presentation. This submission, if necessary, will first require a clear understanding of the formation transactions in the roll-up, discussed below. Understanding how the financial statements will appear will also inform other disclosures. Financial statements for pre-IPO periods are often very dissimilar from financial statements for post-IPO periods. Adjustments to create financial statements on a combined pro forma basis are commonplace in REIT IPOs. These can get extremely intricate and require extensive footnoting and sensitivity analysis. Supplemental information may be useful to provide investors with more coherent historical data to demonstrate positive trends. Joint ventures are also commonplace. Supplemental disclosures such as pro rata financial information may be important to help investors understand the true financial impact of these arrangements. You should review these supplemental disclosures carefully to comply with the SEC’s rules regarding financial measures not in accordance with generally accepted accounting principles (GAAP).
The tax impact of pursuing various structures can significantly impact REIT roll-up transactions, including which assets may be rolled up in a tax-efficient manner, whether certain operations need to be held in a taxable REIT subsidiary or completely separated from the REIT, and what type of equity should be issued in the roll-up transaction (e.g., common stock vs. units in an operating partnership). You should focus on tax structuring at the outset of the transaction concurrently with the initial accounting analysis. Tax effects can be a powerful undercurrent in pre-IPO planning. Miscues regarding which structural or economic features could motivate key pre-IPO constituent owners to change their behavior are dangerous, particularly when investors’ consent is required for the roll-up of material assets.
No one likes unpleasant surprises, especially when investing untold hours of time on a project. There is a natural tendency for clients to underestimate the differences between existing public companies focused on the same asset class (who may be trading at attractive prices) and their company. Additionally, the IPO discount is a real phenomenon in the REIT space. Clients should expect that they will have to articulate compelling post-IPO trends and strategies and offer valuation concessions to make the IPO attractive to institutional investors. Encourage your clients to obtain a realistic assessment of likely pricing and sensitivity analysis around key variables as early as possible to help minimize unhappy clients and busted deals.
As noted above, REIT IPOs often involve the rollup of separate private real estate funds or other pools of assets that the REIT will own following the IPO. As a result, a REIT IPO can effectively involve the structuring of multiple concurrent acquisition transactions in addition to the IPO. However, the structure of these transactions often differs from typical private real estate transactions. For example, roll-up transactions that require the REIT to acquire real estate assets for a fixed dollar amount in shares or cash (which are the norm for private real estate transactions) introduce levels of risk that are often unacceptable in a REIT IPO. This is particularly true for assets that are to be part of the REIT’s core portfolio. Properly structuring these transactions and managing the third-party consent process are among the most critical aspects of a successful REIT IPO.
Successfully navigating the corporate governance landscape for any IPO requires consideration of many factors, including stock exchange rules, state organizational law, peer analysis, client specific considerations, and the views of dedicated investors and advisory firms. For a typical REIT IPO, there are a number of unique considerations, including the structure of the REIT ownership limit, potential pass-through voting for unitholders in the operating partnership of an UPREIT (i.e., an umbrella partnership REIT, which is a common structure for REITs where substantially all of the REIT’s assets are held indirectly through an operating partnership owned and controlled by the REIT), the corporate governance analysis of Green Street (an independent research and advisory firm in the commercial real estate sector), and the handling of unique Maryland-specific governance issues (where most REITs are organized). Governance choices can impact the REIT long after the IPO is complete. As a result, to help your client make the best choices, you will need to consider the longer-term impact of various corporate governance choices as well as the structure that will give the IPO the best chance for success.
Even more so than some other industries, the REIT industry has its own unique set of non-GAAP financial measures and other operational metrics that are key focal points for investors (e.g., funds from operations (FFO), adjusted FFO (AFFO), net operating income (NOI), net asset value (NAV), annualized base rent (ABR), and many others). You should invest in understanding these terms, if you don’t already, including important definitional subtleties to help ensure consistency, collective understanding, and accurate and compliant disclosure.
You do not want to have to tell your client that a delayed launch of their IPO is necessary because you are concerned about clearing SEC comments prior to pricing. To avoid this result, you should ensure that early submissions of the registration statement or supplemental submissions include sufficient information to draw out SEC comments. Also, closely review the roadshow presentation to make sure key information is included in the IPO prospectus and identify non-GAAP financial measures and adjustments to GAAP numbers that are important to convey to investors well before numbers for the final quarter prior to the launch of the IPO are completed. Finally, ensure that a completed version of the distribution policy disclosure (commonly referred to as the magic page) is produced and shared with the SEC early in the process.
Daniel P. Adams is a partner in Goodwin Procter’s Business Law Department, where he is a member of the REITs and Real Estate M&A Group and Capital Markets Group. Mr. Adams focuses primarily on public and private offerings of securities, corporate governance, securities law compliance for public companies, executive compensation, and other matters of general corporate and securities law. Mr. Adams’s experience in corporate finance includes representing public and private companies, including publicly traded REITs, and underwriters in transactions such as IPOs, follow-on and shelf offerings, and 144A offerings of equity and debt securities. Gilbert G. Menna is a co-chair of the firm’s REITs and Real Estate M&A Practice. Mr. Menna also participates in the firm’s Mergers & Acquisitions, Capital Markets, Public Companies, Real Estate Tax, and Private Investment Funds Practices. Mr. Menna represents many of the nation’s leading publicly traded real estate operating companies in connection with their merger and acquisition, corporate finance, and corporate governance matters. In addition to his extensive knowledge of the public REIT industry, he also has significant experience representing a variety of real estate investment managers in connection with their private equity capital, merger and acquisition, and portfolio acquisition transactions. Ettore A. Santucci, a partner in the firm’s Business Law Department, chairs the Capital Markets Group and co-chairs the REITs and Real Estate M&A Group. He focuses primarily on public and private securities offerings, corporate governance, securities law compliance, cross-border transactions, and mergers and acquisitions. Mr. Santucci has extensive experience in equity and debt capital markets transactions. He has special expertise in structuring leveraged transactions for enterprises with complex capitalization strategies seeking to access the capital markets.
RESEARCH PATH: Capital Markets & Corporate Governance > IPOs > Conducting an IPO > Practice Notes
For a primer on real estate investment trusts (REITs), see
> BASIC REIT STRUCTURES AND ENTITY TYPES
RESEARCH PATH: Corporate and M&A > Real Estate Investment Trusts > REIT Transactions > Practice Notes
To learn about drafting a REIT transaction, see
> REIT TRANSACTION DRAFTING CONSIDERATIONS
For an outline of factors to consider when setting up a REIT deal, see
> REAL ESTATE INVESTMENT TRUST (REIT) DUE DILIGENCE CHECKLIST
RESEARCH PATH: Corporate and M&A > Real Estate Investment Trusts > REIT Transactions > Checklists
For information on avoiding pitfalls in REIT M&A deals, see
> 5 DO’S AND DON’TS FOR CRAFTING M&A DEALS IN HOT REIT MARKET
RESEARCH PATH: Corporate and M&A > Real Estate Investment Trusts > REIT Transactions > Articles