CVAs - Pride Or Unfair Prejudice For Landlords?
When originally introduced, company voluntary agreements (CVAs) were conceived as a constructive mechanism for the restructuring of struggling companies. In this blog we examine CVAs from a landlord’s perspective and consider whether their use creates unfair prejudice, or whether a well-advised landlord may be able to derive some benefit from the alternative resolution a well structured CVA can offer.
Some would argue that a landlord’s position under a CVA is prejudiced from the outset, and that the process is misused, under regulated and, at an extreme, and according to the British Property Federation, may even serve to undermine the UK’s global reputation for secure property investment. To trigger a CVA 75% in value of a company’s creditors must vote for it. However, since in this equation future rental liabilities are usually valued at a discounted figure, the requirement for independent valuation evidence to ensure fairness for a landlord may be compromised from the start.
Once a CVA has been voted upon, this has a unique effect on a landlord’s ability to deal with their own property assets, enabling a tenant to benefit from not only drastically reduced rents, but even abandonment of unprofitable premises altogether - as seen in the recent cases of House of Fraser, Byron Burger and New Look. A CVA can also trigger unintended consequences for the unsuspecting landlord. A compulsory rent reduction has the potential to increase Loan to Value ratios, triggering a possible breach of a landlord’s banking covenants and resulting in a potential enforcement action by a landlord’s bank - adding insult to injury.
Even if a tenant is not in financial distress, the shadow of the CVA is being cast long with many a landlord viewing these as mechanisms to manufacture early exits from unprofitable leases. Retailers such as Next are now advertising their intention to introduce rights to reduce rents in leases where reductions have been granted to neighbours through CVA deals. Even if the bid to introduce such rights is unsuccessful, such demands may still serve as a device to position Next and similar retailers in future rent reduction negotiations. According to Next’s accounts last year it achieved a 29% reduction in rent across 19 store locations. M&S has also indicated its intentions to reduce rents across stores, and it seems likely others will follow.
The picture is not entirely one of doom and gloom. Some CVAs can and have been structured to attract support from creditors - including those landlords able see their potential. Careful structuring and good insolvency advice can mean that a CVA is a sensible restructuring tool, provided there is some share in the risk and reward if the CVA is successful in fulfilling the original purpose to rescue an ailing business.
Generally considered to be one of the best examples of this is the Travelodge CVA. In 2012 97% of creditors voted in favour of the CVA proposal - including 96% of landlords. The analysis showed a return to creditors of 23.4p in the pound under a CVA - as opposed to a 0.2p in the pound for an administration or liquidation. Undoubtedly a key element in the persuasion of many creditors to support the Travelodge CVA was a clawback allowing landlords to share in the business restructuring if Travelodge eventually returned to profitability (as indeed it did). There was also an assurance that Travelodge would pay business rates on any leases which were terminated until replacement occupiers were found and, perhaps remarkably, an option for landlords to extend their lease terms.
Whatever a landlord’s view it seems likely that along with other challenges such as the boom of online shopping and the consequential reduction of the bricks & mortar retail experience, it is likely that CVAs are here to stay. What therefore can be done to assist the landlord’s seemingly prejudiced position?
One mechanism could be to look at lease irritancy (forfeiture) provisions, amplifying these to allow for an early termination on commencement of any voluntary arrangement with creditors - including CVAs. This could be effective as, unlike an administration where a moratorium is imposed, creditors impacted by a CVA are not bound by its terms (which may prevent enforcement) until creditors have voted to approve the CVA. Another alternative could be to introduce a landlord break right in similar circumstances – although careful consideration of notice periods and triggers for enforcement will be required to avoid challenge.
Such mechanisms presuppose a landlord is looking to recover their property. However, in a reducing retail sector a struggling landlord may choose to accept the risk of a reduced rent, if there is no other willing party waiting in the wings.
Parent company guarantees could be considered although these are often hard won and would not have been helpful in some of the more recent examples - such as House of Fraser.
Perhaps the real lesson that landlords (and tenants) need to learn from the current prevalence of CVAs, and indeed other insolvencies, is that a more adaptable approach to retail and restaurant premises would be beneficial to all concerned. Looking at flexible solutions such as turnover rents (ignoring for a moment internet shopping and the resultant use of physical stores as showrooms – which can make calculations difficult), and shorter, more flexible leases - such as we have seen in the office market - may well be the way forward, especially if this is combined with a restructuring of the CVA process itself, as called for by the British Property Federation (who are seeking to codify good practice through engagement with insolvency professionals).
Outside the CVA we continue to see restructuring and store closures as the retail market adjusts to new consumer retail demands.
Reform and a more flexible approach to leasing may result in a more positive view of CVAs, allowing a landlord to reflect on their position and accept a reasonable compromise, rather than viewing the CVA as unfairly prejudicing their position.
