Company Voluntary Arrangements in the UK – a longer tail than Covid?
17 / 03 / 2021
Oscar Wilde wrote “There is only one thing in the world worse than being talked about, and that is not being talked about”. I don’t think landlords have the same view about Company Voluntary Arrangements (CVAs) in the UK. Landlords would rather CVAs crawled back under the rock from whence they came.
That may be a bit harsh but some argue that CVAs had started the damage to rents that was then exacerbated by the pandemic. But in the long run, is a CVA (still) a valid restructuring tool for struggling businesses or does it just delay an inevitable terminal event for a business? Landlords argue that the real estate sector has had more than its fair share of the impact of CVAs over the last few years.
What are CVAs and things to keep an eye out for?
CVAs were introduced in the UK as a cost-effective and flexible restructuring tool for a struggling business as they avoided an expensive scheme of arrangement and a more formal and perhaps terminal insolvency process. A CVA is essentially an agreement between the company and its creditors to compromise existing debts to allow the company to continue to trade, and creditors to get a better return than if the company went into a form of insolvency process. The directors of the company remain, but under the supervision by an insolvency practitioner. CVAs usually last five years and usually typically involve compromising creditors; reducing future payments (such as rent) and paying sums from ongoing trade or a payments from supporting shareholder into a pot for the benefit of creditors. The company therefore has to convince creditors (or at least enough of them) that underneath there is a good business that can continue, it can pay its debts going forward and perhaps also contribute extra from trading receipts.
Recently CVAs have taken on a new lease of life, particularly in the multi-site retail and hospitality sectors. That has been a very unpopular resurgence with landlords. The reason is the possibility of structuring a CVA in such a way as to restructure the ongoing obligations of the company, in particular to its rent, for the period of the CVA. This has typically manifested itself in detailed and lengthy CVA proposals where the pool of landlords is treated differently in the CVA proposal in accordance with the profitability (or not) of a particular site. The CVA may seek to relinquish certain underperforming leases whilst reducing rents by perhaps 25%-75% across other sites or switching to a rent based on turnover of a site. The British Property Federation (BPF) says “CVAs are making investing in town centres more difficult and undermining the UK’s reputation among international investors.” Affected landlords can find a list of “red flags” on the BPF website, proposals which property owners will generally find objectionable
In many CVAs the landlords are singled out for reductions of future rent if the premises remain with the company. This has led to a number of well publicised legal challenges over the terms of the CVA and has resulted in the development of a more defined analysis as to whether a CVA is appropriate and legal. This analysis is driven by the two mechanisms available to challenge a CVA by creditors: (1) that there has been a material irregularity in the CVA procedure (often an anomaly in the formal voting process); or (2) that the CVA is unfairly prejudicial to a particular creditor or class of creditors (i.e. are certain creditors prejudiced by the CVA proposal and is that prejudice justifiable in the circumstances?). It is the latter that landlords have focussed on in recent challenges.
In short, when preparing a CVA there must be a “vertical” comparison of whether there is a better projected return to creditors by entering a CVA as opposed to another form of insolvency process (it effectively sets a bottom line) and also a “horizontal” comparison as to whether specific categories of creditors could be seen to have been treated differently and whether that treatment is unfair. One of the benefits of a CVA as a restructuring tool is that there is nothing wrong with treating creditors differently so long as it is fair and there is a justification for that treatment.
For a CVA to be approved by creditors it must have 75% by value of the creditors who vote. Another benefit of a CVA is that if the company receives the requisite number of votes, the CVA binds even those that voted against it. This enables the company to proceed without constantly defending against dissenting creditors and gives the company the space to facilitate a successful outcome at the end of the CVA. It can be frustrating for landlords to discover that a tenant who negotiated a long lease for an “essential” location can now, through a CVA, effectively compel a surrender or unilateral change to those lease terms.
Don’t tar all CVAs with the same brush
That said CVAs, used in the right way, with appropriate planning and advice (including in relation to the property aspects – proposed reductions, whether the new proposed rent is below market value, and the realistic impact and options for landlords of affected sites) – and ideally this is done at an early stage – can represent a very useful tool to avoid the detrimental consequences of a formal insolvency process. The directors continue to manage the company and would typically have forced some concessions from certain creditors (landlords in particular) to give a lifeline to ongoing trade and normal trading after the period of the CVA. However, it doesn’t end with the approval process: the management need to engage with creditors and stakeholders to ensure that the CVA is successful and avoid wasting funds that would otherwise have been available to pay creditors. Importantly, the return to landlords and other creditors should, in theory, be better: whilst they are fact specific, returns to creditors in liquidations may be around 1-10% and CVAs perhaps around and possibly over 25%. With the distress on the UK High Street – which has filtered up to the landlords – and the changing dynamics of British cities in particular, CVAs are still particularly relevant and can be a viable restructuring option.
The popularity of CVAs in the hospitality and retail sector, and the associated legal challenges in relation to the treatment of landlords has also led to changes in the way that that CVAs are proposed. It is not unusual to now see a “fighting fund” set aside in order to deal with a legal challenge. Perhaps if that fighting fund were to be returned to the pot for the benefit of CVA creditors it may actually incentivise creditors to think twice before challenging a CVA as they may actually enhance their overall return.
Now firmly established, CVAs will continue to be used and progressively adapted to suit the prevailing environment. The continuing distress in the retail and hospitality sectors has been further exacerbated by the pandemic with what might be a short, medium and even long-term impact on the way people live, shop and work, and the knock-on effect on the way we use UK cities. That is going to cause further issues with multi-site operations especially those dependent on commuters and city centre trade. Government support for those affected by the pandemic cannot last for ever, meaning plans need to be formulated to ensure that those with underlyingly viable businesses survive and CVAs can, with careful thought, play a vital role in that recovery.
- A CVA can change lease terms, whether or not the landlord votes in favour of the proposals
- A CVA doesn’t affect the landlord’s right to forfeit the lease
- Some CVAs are established with a “fighting fund” to deal with any legal challenges to them