What is a CVA?
A CVA is a legal rescue process to enable a company to make an agreement with its unsecured creditors to compromise its existing, future and contingent debts. In its simplest form, a CVA can result in a legally binding agreement where payments to unsecured creditors are deferred or reduced for a prescribed period of time. There is no limit on exactly what kind of arrangement can be proposed by a company.
If a company has only a small number of creditors, it may be possible for the company to strike a deal with each creditor on a one to one basis. With multiple creditors, this is unlikely to be practicable, in which case the CVA has proved to be a very useful tool.
A typical CVA will last for three years. It gives the company a breathing space after which, if all goes to plan, the company will emerge in better financial shape. The CVA should typically be part of a wider turnaround plan for the company.
Landlords and CVAs
Landlords are just one category of unsecured creditor. If the company attains the requisite majority of the unsecured creditor vote in favour of the proposal then a landlord can find that its legal rights under its lease have, in commercial terms, been altered against its will.
This note focusses on the typical retail CVA that is prevalent in the current market - a CVA proposed by a corporate tenant with multiple landlords. Typical features of this type of CVA are:
- The tenant considers (upon advice) that a CVA is required to avoid the company going into administration and that the financial return to creditors will be higher in a CVA than it would be in an administration;
- The CVA will last for three years;
- Suppliers and other trade creditors will continue to be paid in full;
- In the proposal, properties are categorised into three groups i.e. performing stores; underperforming stores and non- performing stores; and
- Landlords with non-performing stores are invited to take their stores back; no change is proposed for lease arrangements in respect of or performing stores and for underperforming stores, rental is proposed to be reduced/linked to turnover.
No two CVAs are identical. Whilst some typical terms are set out above, the commercial content of the CVA proposal is a matter for the corporate tenant. Traditionally CVAs have compromised rent alone but they can also be used to modify provisions relating to dilapidations, service charge, user etc.
The CVA has been popular with tenants in the retail sector from well before the start of the pandemic. With the rise in online shopping, rents to maintain large property portfolios can be a significant and often unnecessary drain on tenant resources.
On top of this trend, the pandemic has put thousands of normally profitable businesses at risk of collapse. When the Government support runs out, even healthy businesses will need to consider wider support to trade out of the current situation. Many sites are over-rented and will not be sustainable under current rental agreements. The CVA is the preferred way to move the rent to market rent or turnover rent and to allow the tenant to come out of non-performing sites. This trend is likely to continue.
For a business that was trading well pre pandemic but then took a catastrophic hit during the pandemic, the CVA could work well as a reliable rescue tool.
Pre-pandemic, large numbers of CVAs (approximately 50%) have ultimately proved to be unsuccessful in the sense that the CVA was no more than a "sticking plaster" and the tenant shortly thereafter went into administration (e.g. Debenhams and Arcadia). Critics say that some tenants have been taking advantage of a short-term solution that did not tackle the more complex underlying issues that the business faced.
In general terms, the landlord community has to date, been hostile to CVAs. The perception is that the retail CVA is being used to provide financial support to the tenant to the detriment of landlords but without management, shareholders or other creditors shouldering their fair share of the pain. There is also a concern that tenants that are not on the verge of insolvency are abusing the CVA option with a view to divesting themselves of legacy debts on underperforming stores.
Some commentators argue that by, for example, forcing turnover rents on landlords (i.e. an allocation of risk so fundamentally different to the negotiated terms of the lease), the CVA is being used in the market in a way that the legislature never originally intended.
The British Property Federation has written to the Government requesting that the legislation relating to CVAs should be overhauled. However, there are no current signs that any changes are in the pipeline. The pandemic has fortified the Government's resolve to have robust job saving, "debtor friendly" restructuring options available to companies .The CVA is considered by Government as a successful part of that restructuring toolkit. The legislation in this area is unlikely to be changed in the near future but the law will continue to develop as challenges to CVAs, on a case-by-case basis, come to be decided by the courts.
Practical advice for landlords
- Act promptly. A company proposing a CVA only has to give 14 days’ notice to creditors of the meeting at which the creditors will consider and vote on the CVA proposal.
- Carefully review the CVA terms. Landlords should analyse the impact of the CVA in comparison with alternative insolvency regimes, such as liquidation or administration. Every CVA will (to some extent) be unique, so careful scrutiny of its terms is key.
- Consider the tactical pros and cons of acting alone or in concert with other like-minded landlords/creditors with whom it might be possible to reject or seek modifications to a tenant’s proposals.
- The tenant company needs a 75% vote (in value) in favour of the CVA. Failure to achieve this will almost certainly result in administration and so the stakes are high for the tenant. It is always open to the landlord to use this leverage to seek to renegotiate. The tenant and nominee will want to minimize the number of votes against the CVA.
- This dialogue with the nominee is a common approach typically where landlord doesn’t like the category that its stores have been put in (e.g. they are an exit store or they are being reduced to turnover rent) and instead want to be in a higher category, whereby they maintain their contractual rent. Depending upon the value of that landlords vote and the importance of the particular store, it may be that the tenant is prepared to consider changing its categorisation.
- Not only does the tenant want to minimize the "no" vote but it also wants to avoid the delay and the uncertainty of outcome of a post approval challenge. The threat of challenge unless changes to the proposal are made, may provide the landlord with additional leverage in negotiations.
- Obtain the maximum value of any claim for the purposes of voting. In respect of a claim for future rent that has not yet fallen due and dilapidations, landlords should be prepared to submit evidence to the nominee. For example where it is proposed that the tenant will vacate the premises, consider filing evidence addressing how long it is likely to take for the landlord to be able to re-let the premises; for dilapidations claims, consider filing a schedule with an independent assessment of the remedial costs.
- A CVA can, under limited circumstances, be challenged within 28 days of its approval being reported if there has been a procedural material irregularity or if the CVA unfairly prejudices a creditor (in the context of the overall effect of the CVA).
- Consider and interrogate whether the tenant is right to say that a CVA is the tenant's best option. The Caffé Nero CVA is one example where talk of a takeover bid for the company prompted questions as to whether the CVA really was the company’s best option.
- Consider and interrogate the supposed downsides of the ‘insolvency counter-factual’. To rebut any unfair prejudice challenge, a CVA needs to satisfy the “vertical test” (demonstrating that creditors will do better under the CVA than under the most likely alternative - either administration or liquidation).
- Consider (where possible) taking action against the tenant to recover possession of premises before the CVA is approved. (This will not be possible while the pandemic restrictions remain in place or where the tenant is already in administration and the CVA is being proposed by the company’s administrators).
- Inspect carefully the conduct of the CVA process and the creditors’ meeting. A "material irregularity" in relation to the conduct of the creditors’ meeting or the CVA process could form the basis of a challenge.
- CVAs are certainly not always successful, so it is important that landlords know their rights in the event of a failure of the CVA and/or the tenant subsequently entering liquidation or administration.
- A landlord’s attitude to a particular CVA will differ from proposal to proposal and will depend (amongst other factors) on (a) the scale of the proposed changes; (b) the market for its property; and (c) the likely rental levels which may be obtained on a re-letting. However, to get the best protection and outcome when a CVA proposal is made by a tenant, landlords should consider and participate in the process and fully exercise their rights to make representations and vote.
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