CVAs and the shape of the high street

Matthew Weaver, barrister at Radcliffe Chambers, says:

“CVAs can be a valuable tool to help struggling companies restructure and, hopefully, trade out of their financial difficulties. It allows the business to continue (something which, save for relatively few administrations, cannot be achieved via formal insolvency – be that liquidation or administration). It is more flexible than formal insolvencies in that the company and its unsecured creditors can agree terms for repayment of debts to suit the business and keep it trading.

However, landlords are becoming restless in the face of numerous CVAs proposed and entered into by retailers in which they are faced with significant decreases in the rent being charged and, in some instances, closure of stores which still have significant lease periods left on them – thereby reducing or removing income for the landlords. Typically, landlords of profitable stores are treated reasonably well in CVA proposals but those of loss-making stores are offered very little. This flexibility to treat different landlords differently (i.e. repaying the majority of some landlord debts under a CVA but very little of other landlord debts) has angered landlords generally as has the fact that CVA proposals often treat other creditors (suppliers for example) much better and do not impact on the rights of secured creditors (such as banks or other funders).

In addition, other businesses (most notably Next) have indicated that they are now sick and tired of competitor businesses using CVAs to reduce overheads, giving them an obvious competitive advantage. Next has stated that it will begin to negotiate a “CVA clause” into its new leases whereby its rent will be reduced in keeping with any reduction under a CVA of a business trading nearby to their stores. This will only increase the anger of landlords. There is a view that retailers are using CVAs to gain a commercial advantage and there is a growing air of cynicism about them. This is not helped by the subsequent administration or liquidation of a number of high-profile retailers that have entered into CVAs which have failed, asking the question of whether the CVA was ever an appropriate step to attempt in the first place.

That said, CVAs are a well-established mechanism to preserve a business and keep it trading. Other insolvency options are unlikely to be able to achieve this without a “white knight” purchaser in the wings but even a purchase of a business from formal insolvency almost always leaves creditors behind and largely unpaid.

The alternatives also have to be considered. House of Fraser has recently confirmed that unless its CVA proposals are approved (which includes closing 31 of its 59 stores and making 6,000 staff redundant) “it does not have a viable future”. Landlords therefore have to grapple with the question of whether taking something in a CVA (albeit significantly less than they are entitled to) is better than seeing its tenant go into formal insolvency, exit the premises and provide no ongoing rental income and a likely small percentage of any arrears through the insolvency process. With the commercial rental market as it currently is, the prospect of an empty premises does not fill commercial landlords with any sense of joy.

Whether to approve a CVA is plainly a difficult (and often painful) decision for creditors but the alternative may be even more problematic. One only has to see the number of retailers that have gone into formal insolvency after trying to approve or deliver on a CVA to see that whilst some companies may be abusing the CVA process, many are using it as a last resort to try and rescue a failing business.”

Lance Ashworth QC, barrister at Serle Court, says: 

“A Company Voluntary Arrangement (“CVA”) is a useful way of a company seeking to avoid liquidation or administration. It allows a company to keep trading while it seeks to sort out short-term cash flow problems, by allowing the company to pay off only a part of its indebtedness and over a substantial period of time (frequently for 3 to 5 years). A proposal for a CVA comes from the directors of the company. Although the process involves supervision by an insolvency practitioner, who will receive funds on trust for creditors entitled under the CVA, it leaves the directors of the company in place to carry on running the business, hopefully to return it to profitability and a cash flow positive position. To be passed a CVA requires approval by more than 50% of the shareholders and by at least 75% of the creditors of the company. Once approved, it creates a “statutory” contract between a company and its creditors, all of whom are bound by the CVA if they were entitled to vote at the meeting considering the CVA or would have been entitled to vote if he had notice of the creditors’ meeting considering the proposal.

CVAs have been fashionable in respect of high street retailers who hit financial difficulties. There were a number of high profile CVAs in 2009 – Stylo, Focus, JJB Sports, and Blacks Leisure. At the time, Martin Chase head of retail at DTZ, complained that CVAs were “an absolute disaster for the [property] industry. It’s a blatant abuse in terms of the retailers getting off the hook in terms of their property commitments.”

CVAs have continued to be popular among retailers. In recent times, CVAs have been entered into by BHS, New Look, Byron and today one has been proposed by House of Fraser. In each of these (and many others), it is the landlords who continue to complain most bitterly. The apparent terms of the proposed CVA for House of Fraser (on which creditors are due to vote on 22nd June) show why.

Under this proposal, House of Fraser plans to shut 31 stores in 7 months’ time. However, landlords of those properties are being asked to accept a rent reduction of 70% during that 7 month period. Of the stores which are to remain open, landlords of 10 of them are being asked to accept a 25% rent reduction. Presumably that means that House of Fraser will carry on paying the passing rent on the remaining 18 stores.

The landlords are almost certainly powerless to resist the passing of the CVA. Even if they vote against it, if 75% of House of Fraser’s creditors vote in favour, the landlords will be bound regardless.

Is it fair that landlords should have the terms on which they let their properties varied against their will? It may be felt that the terms of such a CVA would be unfair to a landlord, and therefore a landlord would be entitled to complain about the CVA is approved and seek an order within 28 days of its approval from the court revoking or suspending the decision to approve the CVA and there is some case law which might be thought to support this. However, such challenges are always difficult and the court will usually look at the commercial realities of the situation. In this day and age, the commercial realities include that retail properties are not easy to re-let, so that even if the landlord could somehow bring the lease to an end, it might be left with an empty property.

Further, following the recent decision in the BHS litigation that there is nothing unenforceable about a CVA providing for a landlord’s full entitlement to rent to be restored in the event of the CVA failing and such entitlement may well take effect as an expense of an administration if the company goes into administration, a landlord who obtains the inclusion of such a clause in the CVA is at least partially protected.

In an era of failing high street businesses, should landlords be entitled to more protection? If a company enters administration but continues to trade during the period of administration, the landlord will be entitled to be paid the rent falling due as an expense of the administration. It is in a much better position than under a CVA of the type proposed by House of Fraser. However, the requirement to pay the full rents on an ongoing basis can prevent the survival of the company and therefore be a bar to a successful administration. Under a CVA proposal, all creditors are likely to be taking a hair cut of some sort.

While the current schemes for CVAs does disadvantage landlords as compared to their position under other insolvency arrangements, in the end it might be said that it ends up spreading the effects of a business running into financial difficulties more fairly among all creditors. The need for reform is not as pressing as landlords and their agents would have it.”

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