If a lease is granted for a long period and for a substantial premium, should the landlord still be able to forfeit for breach of covenant? That was the key question in one recent case, as Mathew Ditchburn and Ben Willis explain.
In the current tumultuous retail climate, the right to forfeit a lease for breach of covenant is a key remedy for landlords faced with a defaulting tenant.
The case of SHB Realisations Ltd and GB Europe Management Services Ltd v Cribbs Mall Nominee (1) Ltd and Cribbs Mall Nominee (2) Ltd (Bristol County Court, 1 April 2019) concerned a landlord’s right to forfeit a long lease of a former BHS department store where only a peppercorn rent was payable but the tenant was in breach of a keep-open covenant.
Background to the case
This case concerned a large shop unit at The Mall at Cribbs Causeway, Bristol, previously occupied by BHS Ltd (now in liquidation and known as SHB Realisations Ltd). The premises were let in 1998 on a 125-year lease for premium of £7m and a peppercorn rent.
There were some rather restrictive provisions in the lease, including:
- landlord-only breaks at 25-year intervals (the next being in 2023);
- an absolute prohibition on subletting;
- a landlord’s right of pre-emption on assignment;
- service charge and other holding costs of approximately £750,000 pa; and
- a keep-open covenant requiring BHS to trade from the premises during normal opening hours.
The landlords had a right to forfeit the lease in the event of any breach by BHS of its covenants.
In early 2016, BHS’s lender advanced it the sum of around £10m to assist with its turnaround plan, secured by way of a charge against BHS’s lease of the premises.
Later the same year, BHS entered into administration and, in August 2016, vacated the premises. BHS was subsequently put into liquidation.
In July 2017, as the premises were still unoccupied, the landlords served on BHS notice of forfeiture under section 146 of the Law of Property Act 1925, specifying BHS’s breach of the keep-open covenant as a ground of forfeiture. In response, BHS and its lender jointly issued proceedings for relief.
The landlords counterclaimed for possession and objected to relief being granted – at the very least, without there being any conditions requiring BHS to remedy the breach.
The court has a very wide discretion to grant relief against forfeiture and will generally impose a condition that the tenant remedies the breach. When exercising its discretion, the court will take into account a number of factors, including the nature and severity of the breach in question, the conduct of the tenant and any value in the tenant’s lease.
In this case, the court had to grapple with a number of important issues before deciding whether to grant relief and, if so, on what terms.
Market for the lease
BHS and its lender claimed that the lease was very valuable and that they would be able to assign the lease to a buyer for a significant premium. That buyer would then be able to resume trade and remedy the breach of covenant. The landlords pointed to the fact that the tenant had failed to assign the lease for more than two years, suggesting that there was no market for it.
Part of the problem for BHS was that the lease terms (see above) were very restrictive. The court considered that these restrictions would deter potential assignees and this left BHS “in a rather poor bargaining position”.
BHS and its lenders argued that a number of retailers were interested in taking an assignment of the lease; however, on the evidence, the court found that only Sports Direct had any potential interest in it. The judge commented: “There is no evidence, factual or expert, on which any finding can be made that there is a real prospect of finding someone else. The reality is at the conclusion of the trial that only Sports Direct is a potential assignee.”
The judge went on to say that the market for the lease was weak and there was “no evidence… to suggest that the market is likely to get any stronger”.
Value of the lease
As the court concluded that there was a market for the lease, albeit an “extremely weak” one, the court went on to consider what this meant in terms of value. BHS and its lenders pointed to the fact that the lease had been granted for a substantial premium and maintained that it still had significant value.
The court decided that “there can be no doubt that the value of the lease has depreciated considerably, given the new retail world and its terms”. On the basis that there was some interest in the lease, the court concluded that the lease had a value of more than £1m.
Windfall to the landlords
BHS and the lenders claimed that if the landlords obtained possession of the premises, this would represent a windfall for them as they would be able to relet and charge a market rent, potentially as part of a wider reconfiguration of the space to increase value.
On this important question, the judge decided that if the lease had no value then any windfall to the landlords was irrelevant. However, in the current case, having concluded that the lease had some value, the judge acknowledged that the windfall to the landlords was relevant and, in this case, would be “material”.
The parties’ conduct
Another relevant factor that the court took into account was that BHS claimed to have received an offer for the lease in the sum of £8.65m and served notice on the landlords requiring them to decide whether to match this offer pursuant to their pre-emption right. When the landlords requested further particulars, BHS withdrew the notice for “commercial reasons”.
It became apparent in the course of disclosure and on cross-examination of witnesses at trial that the pre-emption notice had been a strategic device to encourage the landlords to buy the lease and there had in fact been no underlying offer. The judge was highly critical of this conduct, which he described as “exceedingly questionable”.
The landlords’ plans
The claimants sought to argue that the landlords had adversely affected the market for the lease by engaging with possible retailers who may have been interested in a new lease of the premises, in anticipation that the BHS lease would be forfeited or surrendered.
In considering the relevance of this, the court said that “the landlords cannot be criticised for vibrantly and efficiently running their business by constantly considering potential options and permutations”, especially with “an eye to the solvency and stability of their tenants”. The court clearly grasped that a commercial landlord must actively manage its centre and it is entitled to do so.
It was also claimed that the landlords’ plan to build an extension at the centre, for which they had sought planning permission, had hampered BHS’s ability to sell the lease of the premises. The judge concluded that “the impact of the planning application on the market for the lease has been greatly exaggerated”.
“Litigation blight”
Finally, BHS and its lenders asserted that the landlords’ counterclaim for possession, which technically forfeited the lease pending the grant of any relief, had hampered a sale.
The court dealt swiftly with this suggestion, stating that “there is no evidence that the litigation is a blight”.
The decision
When exercising his discretion, the judge concluded that relief should be granted, but on condition that BHS completed an assignment of the lease within a short period of time – three months. If it failed to do so, then the lease would remain forfeit for all purposes. The court was clearly swayed by the fact that an assignment of the lease to a retailer capable of remedying the breach of keep-open covenant was not beyond the realms of possibility, but if the proposed sale to Sports Direct could not be achieved quickly then this was an indication that the market for the lease was all but dead.
The case provides a timely reminder for landlords and tenants in the current retail market of what factors a court is likely to take into account when exercising its discretion to grant relief.
It also confirms that the widely held belief that a tenant will inevitably get relief against forfeiture of a long lease is something of an over‑simplification, and each case ultimately turns on its own facts.
Mathew Ditchburn is a partner and Ben Willis is an associate in Hogan Lovells’ real estate disputes team. They acted for the landlords in the case
