It is a sign of the times that we live in. Each month we read of another high street retailer experiencing financial turbulence or entering insolvency proceedings. It is perhaps little wonder, given that costs such as rent, rates and fit-out expenses put bricks-and-mortar shops at such an economic disadvantage when compared with online competitors.
As we will explain, insolvency processes operate similarly throughout the UK. However, there are also some important jurisdictional distinctions which Scottish landlords should bear in mind.
Formal insolvency
Formal insolvency proceedings (administration and liquidation) operate similarly north and south of the border. It is now well accepted across the UK (following the decision in Jervis and others v Pillar Denton Ltd and others [2014] EWCA Civ 180; [2014] 2 EGLR 9) that rent must be paid as an expense of the administration/liquidation for the whole period for which the premises are occupied by the insolvent tenant. This usually means that rent (and sometimes also service charge and other sums) will be paid in full for so long as the premises are used.
Arrears
Recovery of pre-insolvency arrears is more difficult. Across the UK, a landlord’s claim will generally rank as an ordinary, unsecured claim in the tenant’s insolvency. However, in Scotland, a landlord has a right of security, known as “landlord’s hypothec”, over the tenant’s moveable property kept on the premises at the date of insolvency. Hypothec secures the landlord’s claim for rent arrears which are outstanding at the date of insolvency. Where a tenant owns valuable equipment situated on the premises, this remedy can be useful.
Hypothec needs no express provision in the lease, or formal notice to enforce, but a landlord will want to inform the insolvency practitioner of the hypothec as soon as possible, as many will be unaware of it. In practice, hypothec is usually enforced by the landlord and the insolvency practitioner coming to an agreement on how the moveable property is to be sold and the proceeds distributed.
Disclaimer of lease
Unlike in England and Wales, a liquidator has no right to disclaim a lease of Scottish premises as an “onerous contract” under section 178 of the Insolvency Act 1986. This can be of benefit to a Scottish landlord as a lease can be left in place to: (1) avoid liability for rates until a new tenant is found; and (2) allow a landlord to make a claim in the liquidation for rent up to the date on which it chooses to end the lease.
Assignation of lease
It may be that an insolvency practitioner wishes to sell the insolvent business. An example of this is the recent acquisition by Hays Travel of Thomas Cook. If the business leases premises, there must be a transfer, or “assignation”, of the tenant’s interest in the lease. Unlike in England and Wales, in Scotland there is no statutory implied obligation on a landlord to act reasonably in determining an application for consent to assign. As such, a Scottish landlord will have to check whether the terms of its lease requires it to do so, which they usually do.
Informal insolvency – company voluntary arrangements (CVAs)
A CVA is an agreement between a company and its unsecured creditors (including its landlords in respect of claims for rent) which aims to rescue the company, or to at least achieve a more equitable distribution to unsecured creditors than would be available via formal insolvency processes.
The CVA process and rules are the same across the UK, as are the potential adverse effects on landlords. The majority of CVAs in the UK so far have been English, because the majority of high street retailers are companies registered in England and Wales. However, CVAs entered into by such retailers also have effect in Scotland if there are Scottish premises.
Challenges to CVAs
In broad terms, 75% of a company’s creditors (by value) can bind the remainder to proceed with a CVA. Because of the way in which landlords’ claims are valued for voting purposes, landlords are often outvoted. Challenge is possible, but only if the landlord is able to prove that the CVA is “unfairly prejudicial” to its interests or that there has been some “serious irregularity” in the process followed. Most challenges to CVAs to date have come before the English courts.
Does the recent Debenhams case apply in Scotland?
The recent English case of Discovery (Northampton) Ltd v Debenhams Retail Ltd [2019] EWHC 2441 (Ch); [2019] EGLR 47 involved a “root and branch” challenge to the use of a CVA to compromise landlords’ claims for future rent.
Despite the challenge being unsuccessful, the judgment included two positives for landlords. First, the court suggested that a CVA may be “unfairly prejudicial” if it reduces the rent payable under existing leases to below market rate. Secondly, the CVA was found to be “unfairly prejudicial” insofar as it sought to remove the landlords’ right to forfeit their leases (forfeiture being the English equivalent of Scottish irritancy).
The Debenhams decision would most likely be followed in Scotland. This is important because it means that a CVA cannot seek to “lock in” landlords, in circumstances where they would otherwise be entitled to irritate a lease. Many Scottish commercial leases will expressly provide that the landlord can irritate in the event of the tenant being subject to a CVA.
Final words
Sadly, retailer insolvency looks set to be a trend that will continue across the UK as the purchasing habits of consumers continue to evolve, the online shopping experience continues to innovate and political uncertainty continues to undermine market confidence.
It is important for landlords to be well advised on the rules applicable to the relevant jurisdiction when presented with an insolvency situation, whatever form that may take.
Gareth Hale is a partner and Sarah Peock is a senior practice development lawyer at Dentons
