Landlord-focussed Company Voluntary Arrangements (“CVAs“) have been in the headlines for retail and casual dining throughout 2018 and the trend seems set to continue into 2019.
In that regard it is crucial that landlords understand how to deal with CVAs, what to look for and red flags that may give rise to grounds for challenge which, in turn, may give them a negotiating platform with their tenant/the supervising insolvency practitioner (“IP“).
Aims of the proposals
A well advised tenant with properly drafted proposals should be aiming for:
- the CVA to pass;
- a measurable economic benefit to the tenant in doing the CVA; and
- the tenant to be able to continue to trade for the long term.
However, in reality as many landlords will be all too aware, some proposals simply seek to see what the tenant can get away with in terms of cutting their real estate bills.
How it should be done…
Each CVA should start with the tenant:
- preparing a list showing the contribution of each site to the business (usually ranked in bands); and
- obtaining an ERV report (estimated recovery value) from a reputable agent on each of the sites. The report should include the estimated time period to re-let each site and any rent free period the landlord would be expected to grant on a new letting.
Using the list and reports, the tenant and the IP should start considering what level of rent and dilapidations reductions to each site would ensure the site making a positive contribution to the tenant’s EBITDA (earnings before interest, tax, depreciation and amortisation). The tenant/IP will also consider whether there are other wider strategic/commercial considerations which affect a site’s value to the tenant’s business (e.g. a flagship in a prime location may make no or little financial contribution but a significant contribution to brand awareness). The combination of the numbers and the wider considerations will result in the tenant ranking sites into bands. At the top – must have sites where the rent is still paid at contractual rate and at the bottom – leases which the business no longer wishes to operate, the leases of which will terminate immediately or shortly after the CVA commences. In the middle, there will usually be several categories of rent reduction.
Once the CVA proposals are issued, landlords only have a short amount of time (usually 14-21 days) to consider their position, get advice and attempt to negotiate. Once the proposal is approved, affected creditors have 28 days to challenge it in court.
Grounds for challenge
There are two grounds for challenge of a CVA which has been approved:
- material irregularity; and
- unfair prejudice.
Material irregularity challenges are principally concerned with errors of process which are increasingly rare as recent CVAs tend to follow a well-trodden path.
Unfair prejudice, or an allegation of it, occurs more often. The following list provides some recent examples of red flags for unfair prejudice to look out for when reviewing a CVA – they may form the basis of a successful challenge or provide landlords with a useful negotiating platform. Either way it is vital to get advice quickly given the time constraints.
- If the CVA seeks to compromise the landlord’s rights to call on a guarantee without adequate compensation
- If a landlord is subject to a rent reduction without a right to terminate the lease;
- The tenant’s rights to terminate the lease may be unfair if accompanied by a full and final release of the tenant’s liabilities;
- If there is no proper justification for the lease categories;
- If the post CVA rent is unfairly calculated;
- If the CVA includes a fetter on the landlord’s right to enforce breaches of other (non-rent) covenants by the tenant during the term of the CVA;
- If the CVA includes attempts to fetter other rights outside the term of the CVA, for example, abolishing rent reviews;
- Proper calculations of dilapidations should be open to inspection and the methodology should stand up to scrutiny;
- Valuations of landlord claims for voting purposes (including a 75% discount) is the subject of some controversy and may be open to challenge; and
- If the CVA terminates early (i.e. fails) and the tenant seeks to still retain the benefit of the compromises in the CVA proposals.
Ultimate question for consideration by landlords when thinking about CVAs:
Is the company going to tip into administration/liquidation if the CVA is not approved – if so, what are your rights on failure? At first blush a CVA may seem difficult to palate but it may also provide you with breathing space during which to put in place a contingency and/or provide a better financial option than a complete (and immediate) failure of the company.
It’s also possible to negotiate at every stage so it is imperative that landlords have a clear view of their site’s relative worth to the tenant’s business, and potential pressure points which may ensure they get a better deal.