SmartREIT/OneREIT/Strathallen -- summary under REIT Mergers

Overview

OneREIT is proposing to sell a substantial portion of its rental assets (held through subsidiary LPs) in a taxable sale to a third party (Strathallen) and then, as part of the same Plan of Arrangement, to be merged into SmartREIT (which is an Alberta unit trust and REIT) under s. 132.2. Those OneREIT unitholders who elect to receive cash for their units, will have their units redeemed immediately after the closing of the Strathallen sale, with all the recapture of depreciation of around $0.15 per unit (as well as capital gains) from that sale being allocated to them. Those electing to receive their consideration as SmartREIT units, will have this result effected through the usual s. 132.2 mechanics. The projected value of the SmartREIT units to be received is estimated to be somewhat lower than for the cash alternative ($4.20 v. $4.275 per unit). All the properties of OneREIT are held through subsidiary LPs. Applications are being made to CRA for approval of a stub fiscal period in order that the LPs can allocate their capital gains and recapture from the Strathallen sale, and other income to date, to OneREIT for allocation, in turn, to its current unitholders. Unitholders can avoid this allocation by selling on the TSX. Since the cash part of the transaction is structured as a redemption, non-residents will be subject to Part XIII.2 and XIII withholding on the full proceeds if they elect to receive cash. There are no corporate steps in the Ontario Plan of Arrangement other than an amalgamation of, and $10 unit subscription by, the corporate trustee for the general partner of a subsidiary LP.

The REIT

The REIT is a TSX-listed open-ended real estate investment trust that is governed by Ontario law and owns 56 income-producing properties comprising approximately 6.8 million square feet located in B.C. (3), Alberta (3), Saskatchewan (6), Ontario (28), Quebec (7), New Brunswick (3), Nova Scotia (3), and one property in each of the Yukon Territory, Manitoba, and Newfoundland. There were issued and outstanding 77.6M REIT Units (“Units”), 19.2M Special Voting Units (of which 8.2M Special Voting Units were issued in 2008 in order to increase the voting rights of Mr. Mitchell Goldhar to 25% of the total and are not related to Class B LP Units of ONR LP and ONR LP1), 98,079 Deferred Units, and $40M and $36.3M of 2011 and 2013 Debentures. Mr. Mitchell Goldhar directly or indirectly through Class B exchangeable units owns or exercises control over approximately 18% of the outstanding Units and, as noted, has the right to exercise 25% of the aggregate votes. He also directly or indirectly owns approximately 22% of the Units of SmartREIT on a diluted basis.

SmartREIT

SmartREIT is a TSX-listed REIT governed by Alberta law. It holds its rental proeprties directly and through two subsidiary Alberta limited partnerships in which there are other partners.

Strathallen

Strathallen is a wholly-owned acquisition entity of Strathallen Capital Corporation. Strathallen Capital Corporation is a fully integrated Canadian real estate management company.

ONR LP

ONR LP, an Ontario limited partnership, owns and holds directly, and indirectly through ONR LP I, all of the properties and property interests owned or held by the REIT. The general partner of ONR LP ("GP Trust"), is an Ontario trust (having a 0.01% partnership interest) whose sole beneficiary is 1090992 Alberta Inc., an Alberta corporation that is wholly owned by the REIT. The sole trustee of GP Trust is 1606906 Ontario Inc. (“GP Trustee”), which is wholly owned by the REIT. All the Class A units, which hold 99.99% of the votes and are fully participating, are held by the REIT. The Class B LP Units of ONR LP are exchangeable into REIT Units (“Units”) on a 1:1 basis pursuant to an Exchange Agreement, and each is accompanied by a Special Voting Unit of the REIT.

ONR LP1

ONR LP I, an Ontario limited partnership, owns four properties acquired from Walmart Canada Realty Inc. and SmartCentres in 2013 and 2014. Its Class A and B LP Units have essentially the same attributes as for ONR LP. Its Class C LP units are convertible into Class B units on the occurrence of a specified earnout event.

History of REIT

The REIT’s IPO was in 2004. In 2008 it closed the acquisition of SmartCentres properties for $55 million from a vendor group lead by Mitchell Goldhar of Penguin Investments, as a result of which six limited partnerships having Mitchell Goldhar as the president of each general partner (the “SC/MRR Group”) acquired a 38% effective interest in the REIT using Class B LP Units. In 2014 it acquired two Walmart-anchored properties from Walmart Canada Realty Inc. and SmartCentres Realty for approximately $67.9 million, and in 2014, it acquired seven retail properties from SmartREIT for approximately $111.1 million.

Sale to Strathallen

Strathallen or its assigns will purchase 44 properties and assume related property debt and liabilities from subsidiaries of the REIT for a purchase price of $703.5 million, as adjusted., The purchase price for the Strathallen Sale Transaction will be satisfied by the payment by Strathallen and its assigns in cash of approximately $319 million and by the assumption by Strathallen and its assigns of the debt related to the Strathallen Properties.

Consideration for Units

Under the Arrangement, Unitholders may elect, subject to certain proration provisions described below, to receive for each Unit:

(a) $4.275 in cash (the "Cash Consideration");

(b) between approximately 0.1283 and 0.1376 of a SmartREIT Unit, as determined by an exchange ratio based on the five-day VWAP of the SmartREIT Units (as described below) (the "Non-Cash Consideration"); or

(c) a combination of Cash Consideration and Non-Cash Consideration,

The exchange ratio will be calculated by dividing $4.20 by the VWAP of the SmartREIT Units on the TSX for the five trading days immediately preceding the date which is three Business Days prior to the meeting to approve the transaction, subject to a minimum of $30.51 and maximum of $32.73 and resulting in an exchange ratio ceiling of approximately 0.1376 and a floor of approximately 0.1283.

Consideration for Class B LP Units of ONR LP and ONR LP1 (the “Class B Units”)

Each holder thereof will have the opportunity to elect to receive the Cash Consideration for each of its Class B LP Units…LP Unitholders who do not make a valid election prior to the Election Deadline, will be deemed to have elected to retain their Class B LP Units….those Class B LP Units will become exchangeable into the number of SmartREIT Units the holder would otherwise have received under the Transaction had those Class B LP Units been exchanged for the underlying Units prior to the closing of the Transaction…

Debenture holders

Each holder of Debentures will have the opportunity to participate in the Transaction as a Unitholder by validly exercising its conversion rights on a timely basis.

Plan of Arrangement

1. The governing documents for the REIT and its subsidiaries including partnerships (“Subsidiaries”) will be amended to provide inter alia for the allocation to the REIT and the Unitholders of the taxable income arising from the Strathallen sale.
2. The Partnership Agreements for ONR LP and ONR LP1 and the Exchange Agreement for the Class B LP Units will be amended inter alia to provide that the Class B LP Units will become exchangeable into SmartREIT Units and the terms of the Class C LP Units will be adjusted as necessary to reflect this.
3. The Strathallen sale transaction will become effective.
4. The vesting of all Deferred Units and of all amounts owing by a holder in respect of any outstanding LTIP Units will be accelerated.
5. Each trust or partnership REIT Subsidiary will allocate and make payable to its beneficiary, or allocate to its partners, all taxable income other than from the Strathallen sale and then do likewise with the taxable income from the Strathallen sale.
6. Cash will be distributed by the REIT Subsidiaries in successive steps.
7. If the amount of taxable income allocated and made payable by each REIT Subsidiary that is a trust to its beneficiary exceeds the amount of cash distributed by such trust, it will satisfy its obligation to pay to its beneficiary the balance of the taxable income so allocated by issuing units to its beneficiary.
8. To the extent that the Plan of Arrangement requires an exchange of Class B LP Units or an LP Unitholder has elected to receive Cash Consideration pursuant to the Plan of Arrangement, such Class B LP Units of such LP Unitholder will be exchanged for Units in accordance with the terms of the applicable Exchange Agreement.
9. SmartREIT, and then the REIT, will make a special distribution equalling its bona fide best estimate of the amount of its taxable income for its taxation year deemed to end by s. 132.2.
10. The previously-announced monthly distribution will be cancelled and the REIT will pay a special distribution of $0.025 per Unit per month (pro-rated for part months) from October 1, 2017 through to the date of filing of the Articles of Arrangement.
11. Dissenting Units will be transferred to the REIT in consideration for debt claims against the REIT.
12. Each Unit entitled to receive Cash Consideration will be redeemed by the REIT.
13. The 2011 and 2013 Debentures and their Indentures will be amended so that the Debentures will be convertible into SmartREIT Units.
14. The REIT will transfer to SmartREIT all of its remaining property in exchange for: (A) SmartREIT Units whose number equals the Non-Cash Consideration multiplied by the number of outstanding Units; (B) SmartREIT Special Voting Units whose number equals the Exchange Ratio multiplied by the number of all liabilities of the REIT.
15. The REIT will redeem all of the outstanding Units for consideration per outstanding Unit consisting solely of the Non-Cash Consideration.
16. The REIT will redeem all of the outstanding Special Voting Units in consideration for its SmartREIT Special Voting Units.
17. SmartREIT Sub (a numbered Ontario corporation) and GP Trustee will amalgamate.
18. Amalco will subscribe for one Unit for consideration of $10 and will cause its nominees to become Trustees of the REIT.

Canadian tax consequence

Income from Strathallen sale

The income of the REIT (including recapture of depreciation) and net taxable capital gains arising from the Strathallen sale will be allocated to Unitholders receiving Cash Consideration on the Cash Redemption and to Dissenting Unitholders. Such income and the capital gains will be excluded from the determination of their proceeds of disposition on redemption. CCA in respect of properties disposed of on the Strathallen Sale Transaction will not be available in the related fiscal period of the ONR LP and ONR LP1.

Qualifying s. 132.2 exchange

Provided that the REIT and SmartREIT file a timely election under s. 132.2, the transfer of the assets to SmartREIT will be part of a "qualifying exchange," as a result of which they will be transferred to SmartREIT for proceeds of disposition equal to the greater of their and the assumed debt. Taking into account the potential application of loss carryforwards, there should be no taxable income to the REIT arising from the transfer. On the same basis, a Unitholder’s proceeds of Units and its cost of SmartREIT units should equal the ACB of its Units.

CRA approval for stub partnership years

The REIT and SmartREIT are seeking approval of the CRA to change the fiscal and taxation year end of certain Subsidiaries in order to ensure that substantially all of their income for the period up to and including the effective date of the Arrangement (the “Effective Date”), including from the Strathallen sale will be allocated to those whose units are redeemed on the Cash Redemption and to Dissenting Unitholders.

Capital gains treatment on pre-Arrangement dispositions

Resident Holders who dispose of Units on the TSX with a settlement date prior to the Effective Date will not receive any distributions or other payments under the Plan of Arrangement and should not be allocated any income from the REIT in respect thereof.

SmartREIT status

SmartREIT has represented in the Arrangement Agreement that SmartREIT has, at all relevant times, qualified as a "real estate investment trust" for ITA purposes and that each partnership and trust in which it has a direct or indirect interest is an excluded subsidiary entity.

Redemption of non-residents

A Non-Resident Holder who disposes of a Unit to the REIT for Cash Consideration will be subject to Part XIII tax of 25% on the recapture of depreciation (currently expected to be $0.15 per Unit) or other income that is paid on the redemption, and to Part XIII tax of 25% on the TCP gains distribution received on the redemption (subject to the 5% de minimis rule), subject in either case to Treaty-reduction. In addition, a Non-Resident Holder will generally be subject to Canadian withholding tax under Part XIII.2 at a rate of 15% on the full amount of the redemption proceeds that is not subject to Part XIII tax.

Sales by non-residents

A Non-Resident Holder will not be subject to capital gains tax on a sale of Units (or SmartREIT units) unless they are TCP.