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In commercial property, the retail sector in the UK is changing. In the past 12 months, we have seen an increase in Company Voluntary Arrangements (CVAs) with a number of high profile retailers entering into these. This is an issue which doesn’t look like it’s going away anytime soon, with Debenhams having had theirs approved, they are set to initially close 22 stores by January 2020 with the number rising to 50 thereafter. Arcadia are also considering entering into a CVA as part of their recent restructuring. For both landlords and tenants, these raise practical issues in respect of rent, dilapidations, termination of Leases and Notice requirements.
If a CVA is agreed, a tenant can walk away from a lease altogether, continue the lease with reduced rent, or see leases continue on the same basis. Leases will generally be put into one of these three categories with different effects on Landlords depending on the terms of the CVA.
Landlords and removing a tenant under the terms of a CVA
Some landlords may be open to a lease continuing on reduced rent. This ensures some level of income and avoids liability for business rates on empty properties. However, some landlords with popular sites may feel they can now get a better rental deal at market rates. What steps can they take to remove a tenant under the terms of a CVA?
Review the terms of the CVA
Each CVA is unique and it is important that the terms of the CVA are reviewed so that a landlord knows where they stand. Many CVAs will allow for a lease to be brought to an end if the appropriate Notice is served within a certain period of time. For example, a CVA may allow a Notice to Vacate to be served within 180 days of the CVA starting, giving 60 days’ notice.
From the outset, landlords should review the terms of the CVA carefully and note any key dates such as these, to ensure they can take action to remove the tenant as necessary. The Notice periods are likely to be considerably different to the usual 40 day notice period used to bring a lease to an end at its end date.
Check for the inclusion of an irritancy procedure
In addition, the question arises: does the lease contain an irritancy procedure which allows the landlord to bring the lease to an end in the event of a CVA? If so, this is another potential route for a landlord to bring the lease to an end. However, this may not be straightforward depending on the terms of the CVA. In the first instance a landlord should review the terms of the CVA and the Lease carefully to see what provisions are included for bringing a Lease to an end. A landlord may find that the provisions within the CVA are more straightforward than proceeding with the Irritancy route.
Dilapidations
Dilapidations are another issue which can be affected by a CVA. The CVA will often cover a sum being paid in lieu of dilapidations and this may ultimately not amount to the level of repairs required at the end of the lease. Landlords should ensure they are on top of dilapidations issues before a tenant enters into a CVA, and should consider serving interim schedules (if the lease allows) and taking steps to ensure that these are complied with.
Tenants and CVA’s
Tenants who have entered into a CVA should be aware that, on leases where they have agreed a rent reduction, they may have reduced security of tenure. Tenants must carefully review their property liabilities generally before engaging with creditors in order to identify such issues. A tenant should also consider the CVA carefully to identify sites where they may be at risk of being served with a termination notice. A tenant should also review their leases to identify where entering into a CVA could leave them open to being served with an Irritancy Notice.
Putting a CVA clause in the lease?
In spite of this, various struggling retailers in the UK have been forced, through a CVA, to approach landlords in order to seek a rent reduction in an attempt to reduce outgoings of the company. Indeed, there has been a 30% increase in retailers entering into such agreements since 2015. This has had a knock on effect, angering other retailers who are unable to obtain similar breaks from their landlords.
Indeed, this has even led to some tenants demanding a “CVA clause” to be inserted when negotiating leases. Such clauses allow tenants to demand a rent reduction from their landlords similar to that offered to neighbouring stores who have benefitted from such a reduction in rent through a CVA. One such retailer to do this was Next, who claimed that such a clause “levels the playing field”. Primark is also understood to be in discussions with landlords for rent to be reduced at premises where leases are nearing the renewal stage.
The British Property Federation (BPF) is less positive about these clauses. Director of Real Estate Policy, Ian Fletcher, stating that it is “nonsense” to suggest that a process designed to save struggling companies should be applied to businesses who are not suffering from financial hardship. Mr Fletcher further noted that such requests by Next largely “undermine the CVA process” as a whole.
While landlords may agree to rent reductions out with the CVA process, this generally ties in with the current market difficulties faced by retailers, and may be pre-emptively sought by tenants. While it may not be favourable to the immediate cashflow concerns of the landlord, offering tenants rent reductions may be preferable to the cost of re-letting the property if the tenant is forced to vacate the unit. Additionally, if the tenant is forced to vacate, the landlord will be required to meet the inevitable rates and service charge shortfall.
Summary
The recent spike in CVAs in the retail sector creates difficulties for both landlords and tenants, as well as having a detrimental effect on relations with the industry as a whole. In spite of this, this recent increase speaks to the overall fragility of the retail sector in the UK, and it is unlikely that this will change any time soon.
As a result, the traditional relationship between landlords and tenants is likely to change notably in the coming years, as will the wider business plan of retailers throughout the UK, as they seek to remain both influential and profitable in a challenging market.
For more information on CVA's, you can contact our Commercial Property team, or Stephen Moffat.
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