John Cook and Mathew Ditchburn consider how far company voluntary arrangements can go to reduce rental obligations
With one or two notable exceptions, the landlord community has broadly supported the series of company voluntary arrangements (“CVAs”) seen in the retail and leisure sectors since the start of the downturn – despite the fact that landlords are often the class of creditors most badly affected.
What is a CVA?
A CVA is a formal insolvency mechanism which allows a company in financial difficulties to settle its debts by paying only a proportion of the amount owed, or put in place an arrangement with creditors to reorder its affairs going forward. The company puts forward a proposal which is voted on at a creditors’ meeting. If approved by a 75% majority (by value), the CVA binds all creditors irrespective of whether or how they voted, whether they attended the meeting or were even aware that one was taking place.
They have become particularly relevant to landlords because they allow considerable flexibility in reordering the company’s affairs. The process has been adopted by companies as a means of restructuring leasehold liabilities and reducing rental obligations. By contrast, an administrator or liquidator appointed to a company cannot unilaterally change the terms of an existing lease and is in a “take it or leave it” position.
Reducing the rent
Is this how CVAs were meant to be used? Arguably not. In Thomas v Ken Thomas Ltd [2006] EWCA Civ 1504; [2007] 1 EGLR 31, Neuberger LJ (as he then was) said:
“at least normally, it would seem wrong in principle that a tenant should be able to trade under a CVA for the benefit of its past creditors, at the present and future expense of its landlord. If the tenant is to continue occupying the landlord’s property for the purposes of trading under the CVA… he should normally… expect to pay the full rent to which the landlord is contractually entitled”.
If that is true, then clearly it is more honoured in the breach than the observance. The CVA of retailer Flannels in 2009 may have involved only 20 stores but it was a watershed moment in reducing the rent for stores it continued to trade: to 80% for a year and then 90% for a year. Previous successful CVAs had either kept stores at full rents or closed them down completely. The trend continued with the Speciality Retail Group CVA in 2010, where stores were kept open at 60% rent, and Textiles Direct in 2010, where rents were reduced to an incredible 10%.
The second JJB Sports CVA in 2011 saw the model being adopted on a large scale, with 89 stores traded for a year on half rent. Landlords needed some persuading to back the proposal and a “claw back” was introduced to enable them to claim against a fund, linked to the future performance of the company.
Rent repayment
There was a further evolution in the use of CVAs earlier this year with proposals made by retailers Austin Reed and Country Casuals. Stores were divided into three categories. Those in the first were kept at the contractual rent, those in the second saw rent reduced by 20% and, in the third, by 50%. All rents became payable monthly in advance. Landlords unhappy with this arrangement were given the option to determine the leases.
Of concern was the fact that rent was reduced from the date of the creditors’ meeting, rather than the next rent payment date. Any rent paid in advance by the company over the discounted rate was carried forward and set off against future rent. In effect, this meant that landlords lost the value of rent they had properly received before the CVA was approved. Landlords are wary of a dangerous precedent being set and it is not inconceivable that future versions of this model could require them to repay advance rents where stores are closed immediately – a very challenging proposition to accept.
Even so, the CVAs were approved, most likely because the individual sums involved for the companies’ landlords (few of which had exposure to more than one store) did not justify voting against them.
Guidance from the courts in connection with the Game Station insolvency (Jervis and others v Pillar Denton Ltd and others [2014] EWCA Civ 180; [2014] 2 EGLR 9) has confirmed that administrators should pay a daily rate of rent from their appointment for as long as they use the property, but that does not entitle them to get back any advance rents paid by the company before they were appointed. In other words, CVAs are once again, in this respect at least, putting landlords in a worse position than would be possible in administration or liquidation.
Unfair prejudice?
This comparison with other insolvency processes is a pertinent one. If a landlord is unable to defeat a CVA by voting against it, then the next step may be to challenge it at court on the ground of unfair prejudice.
What is unfair in this context was considered by the court in connection with the Powerhouse CVA in 2007 (Prudential Assurance Co Ltd and others v PRG Powerhouse Ltd and others; Luctor Ltd and others v PRG Powerhouse Ltd and others [2007] EWHC 1002 (Ch); [2007] 3 EGLR 131). Etherton J (as he then was) said that unfairness could, in part, be assessed by comparing the position under the CVA with that in liquidation. Where any CVA put a creditor in a worse position, then that suggested unfairness and put it at risk of being overturned.
On that analysis, any CVA that reduces the rent for leasehold premises which the company continues to use is potentially open to challenge. What it would take for a landlord to bring such an action remains to be seen, but an improving economy and increasingly audacious CVA proposals keep that question very much alive.
John Cook is revenue manager at Capital & Regional and Mathew Ditchburn is a real estate disputes partner at Hogan Lovells. They are chair and vice-chair respectively of the British Property Federation’s Insolvency Committee.
