Commercial Real Estate Attorneys Navigate Increasingly Complex Transactions

“A few months ago when we saw that the number of deals was increasing and they weren’t simple deals, we took stock and realized that we really needed more senior help,” Neveloff said. “We thought that was an opportunity in the market, because a lot of other law firms weren’t that busy, to pick up senior talented people who are better suited for what we expect our business will be like over the next year or two.”

The bigger emphasis on more seasoned attorneys at Kramer Levin is in response to a growing number of CRE transactions that often go well beyond the typical fare between borrower and lender, or buyer and seller. Neveloff said today’s deals in many cases consist of negotiations among multiple lenders or developers who bring on limited partners and investors to acquire assets.

While CRE deals have especially turned more complicated since the Federal Reserve started hiking interest rates in early 2022, with more equity often required due to higher debt costs, Neveloff said complexity within the debt stack took hold long before that, largely with the emergence of the commercial mortgage-backed securities (CMBS) market 30 years ago. The number of portfolio loans has also increased, including senior and junior mortgages along with senior and junior mezzanine debt that can often mimic a CMBS structure. 

“When you have so many different pieces you give leverage to so many different people and parties, and they all have different perspectives,” Neveloff said. “It’s the perfect storm where you have interest rates flattening and you have people wanting to exit deals.”

The complex legal work required when there are multiple entities involved with closing large transactions was particularly evident in late 2022 when Fried Frank acted as counsel in Citadel Securities’ plans to build an office tower at 350 Park Avenue. CEO Ken Griffin acquired a 60 percent interest in a joint venture with Vornado Realty Trust (VNO) and Rudin Management Company to develop the 62-story office building at the site comprising 350 Park, 40 East 52nd Street and 39 East 51st Street.

Concurrent with this deal, Fried Frank was counsel to Citadel in executing master leases of Vornado’s 585,000-square-foot office space at 350 Park for 10 years and at Rudin’s adjacent 390,000-square-foot tower at 40 East 52nd Street. It also counseled a deal for Citadel to potentially lease 850,000 square feet of the tower for the hedge fund giant’s new Manhattan headquarters once the project is completed.

A few months later, in spring 2023, the Griffin, Vornado and Rudin partnership entered into a contract to acquire 250,000 feet of air rights for $78 million from St. Bartholomew’s Church for development of the skyscraper slated for completion in 2032.  

“There was a master lease, and then there was a joint venture to develop a building, and a development lease once the building was built, and three different parties and another parcel that was being acquired,” Jonathan Mechanic, chair of Fried Frank’s real estate department, said. “It was a complicated deal with people trying to move different parts together to accommodate what everybody needed in order to make it work.” 

Mechanic said the city’s 2017 rezoning of Midtown East paved the way for multifaceted deals like 350 Park Avenue by enabling the buildings with landmark status to sell air rights for development projects in a 78-block radius. 

The first project to take shape from the fresh zoning laws was J.P. Morgan Chase’s 2.5 million-square-foot headquarters at its 270 Park Avenue property. Fried Frank helped navigate the bank through the new zoning process and negotiated a contract in early 2018 for the transfer of up to 668,000 square feet of development rights at the site. J.P. Morgan also purchased air rights from nearby St. Bartholomew’s Church and Grand Central Terminal as part of the ongoing project.

With deals closing in 2024, Mechanic said transactions that in the past would have closed in weeks are now taking months because of more expensive borrowing costs and efforts to land preferred equity to make the financing work. Mechanic said that while deals are taking longer to wrap, activity overall has picked up much more than in 2023 given the recent clarity around interest rates along with the increased number of lenders and equity players in the market deploying capital. 

Daniel Berman, a partner in Kramer Levin’s real estate practice who joined the firm in 2006 shortly before the Global Financial Crisis (GFC), said CRE financings are taking longer to close due to the multiple parties involved and changes to structures of deals that often unfold as transactions play out from finding equity placements and lenders. He noted that another dynamic playing out in a number of deals involves owners contributing portions of properties as equity to make the economics work. 

“I have a number of deals right now where the land itself is being used as equity because the deal doesn’t otherwise work,” Berman said. “It’s not giving seller financing. It is them actually contributing the land as part of the deal to create a capital stack that a lender will lend on.”

Laurie Grasso, partner and co-head of global real estate at Hunton Andrews Kurth, said part of the reason CRE deals’ time frames are extended out is the additional pieces added to the capital stack to supplement the senior lender, from mezzanine debt to preferred and common equity. Grasso has also been involved with an increasing number of deals nationally incorporating Commercial Property Assessed Clean Energy (C-PACE) loans in the capital structure. That adds another layer of complexity to the mix since the program is relatively new, with differing rules in each state, and often requires an educational component. 

“It’s another source in the capital stack and another set of lawyers, and then the relationship between the senior lender and the C-PACE lender is complicated,” Grasso said. “A lot of senior lenders don’t understand it, so you have to negotiate a recognition agreement between the parties, and it can be a lot of learning and teaching, and it definitely takes a lot of time.”

Further fueling the complexity of the CRE legal profession in 2024 is a growing trend of developers teaming as co-general partners (GPs) on transactions for new projects or redevelopments, according to Grasso. This results in two sets of lawyers navigating the co-ownership structure while also negotiating with attorneys who may be limited partners (LPs), senior lenders or mezzanine lenders on the deals. 

Grasso said a big factor driving the co-GP structure is developers often wanting to team with another partner who has a relationship with the LP on the deal or senior lender they can bring to the table. The arrangement also enables developers to share in equity contributions to LPs while also generating more liquidity to help secure construction loans, according to Grasso. 

“That adds another layer of complexity because there’s two parties that make up the general partner or the developer, and each of those parties is going to have their concerns and interests,” Grasso said. 

Steering CRE deals in the higher interest rate climate becomes more challenging for attorneys with more parties involved in the capital stack given the individual priorities of each investor, according to Sonia Kaur Bain, partner at Blank Rome. Buyers also have more opportunities now to assume existing loans with more favorable interest rates from owners who are motivated to sell, which adds more tension for lenders, Bain noted.

While deals with multiple competing interests face more obstacles in closing, Bain said when there are fewer players there’s extra motivation to close early, especially with certain higher-performing asset classes given the market uncertainty. The financing in those cases is ironed out later on. 

“I’m either seeing deals close faster to avoid potential risks of changes in the market by parties, by lenders and terms,” Bain said. “Or I’m seeing deals closed without financing and go out for financing subsequently because it’s hard to pin down decent financing within the time period you need to lock down these deals.”

Bain said the experience from past dislocated CRE markets like the GFC is valuable for attorneys when strategizing how to respond to the headwinds clients are struggling against. She stressed that the big difference now compared to previous down cycles is that less debt is readily available, prompting more outside-the-box approaches to get transactions to the finish line.

“The leverages are shifting significantly all over the place on any given day,” Bain said. “Leverage on your typical private equity or investor may or may not have the same sort of leverage that they probably would have had in the past, and it’s forcing them to adhere to the money folks coming in and come up with these creative structures.”

Andrew Coen can be reached at acoen@commercialobserver.com.