TRENDS IN PUBLIC REIT M&A: 2012-2017 22 In addition, in a stock-for-stock combination the target might insist that a certain number of its sitting board members be appointed to the surviving company’s board as a condition to closing. In a jurisdiction where appraisal rights are available to dissenting shareholders, buyer may insist on a condition tied to a maximum number of dissenting shares. Our review of definitive agreements signed during the six-year period from 2012 to 2017 indicates that approximately 58% of all deals signed during this period included one or more non-standard conditions. These included (in order of prevalence): 8. TERMINATION FEES; EXPENSES. As discussed under “Deal Protection Provisions” above, there are specific scenarios where the termination of a definitive agreement requires one party (usually the target9 ) to pay a termination fee to the other. The size of a termination fee is one of the most commonly negotiated points in a public M&A deal and is significantly influenced by both Delaware case law and lore among practitioners, pursuant to which a termination fee that is “too high” may be a breach of the target board’s duties if the fee has the effect of making target so expensive so as to effectively preclude potential competing bids. How high is “too high” depends on all of the surrounding facts and circumstances, particularly the equity value of the deal and the level and quality of market canvassing that the target board engaged in prior to signing the merger agreement. Based on our survey, average and median termination fees10 in REIT M&A deals from 2012-2017 were as follows: • Expenses. When a termination fee is payable, this often represents the sum total of the remedy payable by the terminating party. In a number of the reviewed transactions, however, a terminating target was also required to reimburse the buyer for its expenses up to a specified cap. Whether to tack on expense Common Non-Standard Conditions to Closing • receipt of lender and/or other third-party consents, including joint venture partners and ground lessors • completion of agreed restructuring and/or assets sales to third parties • appointment of agreed target board members to surviving entity board • amendment of surviving entity organizational documents to reflect the agreed-upon post-closing structure • completion/delivery of target “earnings and profit” studies • settlement of specified pending litigation (unrelated to the transaction) Termination Fees (as a Percentage of Equity Value) Average Median Enterprise Value > $1B 3.14% 3.21% Enterprise Value < $1B 4.35% 3.29% All Deals 3.39% 3.22% 9 As noted above, in stock-for-stock deals with a reciprocal no-shop framework, the buyer could also have an obligation to pay a termination fee. 10 For purposes of calculating the average and median termination fees, we included the full amount of any expense reimbursement called for to be paid in addition to the termination fee. Also, in the case of go-shops or two-tiered termination fees, we used the larger termination fee. Practice Note. REIT M&A agreements typically limit the payment of a termination fee to a REIT party in any one year to the amount that the REIT can then receive without causing it to fail the applicable REIT gross income test for that year, determined assuming the fee is nonqualifying income, unless the REIT receives an opinion or an IRS ruling that the payment should not be nonqualifying income. Any resulting cut back in the amount paid carries forward to be paid in the next year, to the extent it can be absorbed in the next year as nonqualfying income, and so on for up to five years. Unpaid amounts remaining after such period are lost. Conditioning release of the fee in excess of what could be absorbed as nonqualifying income on receipt of an opinion should establish “reasonable cause” under the REIT income test cure provisions, thus allowing the REIT to maintain REIT status even if the IRS were to successfully assert that the excess fee payments received on the basis of an opinion caused the REIT to fail its income tests. Such provisions are not effective in protecting REIT status, however, unless the condition of obtaining an opinion or ruling precludes the immediate accrual for tax purposes of the excess amounts, and, starting in 2018, REITs will need to consider the application of new Code section 451(b), added as part of the Tax Cuts and Jobs Act and which requires inclusion of amounts for federal income tax purposes no later than when taken into account as revenue for financial statement purposes.