I’ll start by welcoming everybody to today’s digital panel session on Investing in UK Real Estate for Family Offices & Private Clients. I’m Joanna Lampert. I’m a Partner in the Property Litigation Team at Mishcon de Reya and I will be your host today. In today’s session, we’ll be discussing some of the key challenges that may arise when dealing with commercial or residential property in the UK. Our first speaker is Susan Freeman, a Partner in our Real Estate Department, who will kick off the session with an overview of the market focusing on some of the high-level trends accelerated by the Covid-19 pandemic. I will then talk about likely trends in real estate disputes as we emerge from Covid-19. My colleague, Sabrina Furneaux-Gotch, a Managing Associate in our Property Litigation Team, will discuss the considerations for a landlord, who is looking to extract maximum value from investments by developing property with tenants in situ. Anita Revera, who heads up our Planning Team, will look at navigate the UK’s complex planning regime and in particular focus on the areas of Permitted Development, changes to the Use Class Order and what the future may look like. And last but not least, Nick Strutt, who heads up our Real Estate Finance Team, will look at distressed debts and points of entry into the market. So, without further ado, I will hand over to Susan.
It’s early days but quite clearly there’s going to be a reset in a number of areas. I think we’ll start with retail. As Dror Poleg, one of my podcast guests said, “Commercial real estate as a whole is undergoing a tectonic shift and retail assets are the first to feel the tremors.” So, for years, we’ve relied far too heavily on retail in our high streets and shopping centres and to put things into perspective, our high streets lost £17,500 chain store outlets last year and other household names have already gone this year. In contrast, some of our smaller towns and suburbs, which had been in decline at the expense of cities, have been enjoying a bit of a renaissance, as we’ve discovered the joys of shopping locally. One thing’s for sure; we’re going to see a lot of repurposing of retail assets to residential, to office, leisure, community uses but we’ve all been part of a global working from home experiment for a year now and there’s been a lot of talk about the future. Some saying the office is dead. The office isn’t dead but it’s early to say with any certainty how the office sector is going to be affected in the longer term. There will be a more flexible way of working but offices are going to continue to be absolutely vital for collaboration, for mentoring, for team-building, all the things that we haven’t been able to do working from home. I think the conclusion is that offices will need to be better and more enticing and there’s going to be a race for quality. Some of the pre-Covid office densities just won’t be acceptable and some corporates are going to find they need more space and better space in order to provide the right sort of environment. So, we’re going to see more office space going into shopping centres, as I said, out of town locations, to meet the growing demand for what we’re calling, ‘Working Near Home’ which is possibly going to be more acceptable than working at home. So finally, hospitality. Hospitality has had a gruelling year with all the closures but I was on a call this morning with the manager of one of the top central London hotels, who says they have been absolutely inundated with bookings and we’ve heard the same from some of the top London restaurants. So, it may well be that the pent-up demand, as we are finally released from lockdown, means that we can look forward to something of a roaring twenties. And I certainly hope that that’s what’s on its way. Thank you.
Thank you, Susan. As always, you’ve given us plenty to think about. There can be no doubt that the pandemic has hit the real estate sector really hard. At times it’s felt like landlords were under attack, as Government efforts to protect jobs has resulted in a series of restrictions on the ability of landlords to enforce tenant obligations to pay rent. The moratorium on forfeiture, together with the ban on commercial rent arrears recovery or CRAR via Bailiffs and changes to the insolvency regime, has proved to be a green light for many tenants to stop paying rent, including those who are able to pay. The Government has said that the previous extension of the forfeiture moratorium to the 31 March would be the final one but yet another extension has been announced to the 30 June.
The other main line of attack on landlords has been CVAs and we continue to see retail tenants pushing the boundaries with CVAs that allow them to strip out unprofitable stores and reduce rent on other stores for prolonged periods. Reversing the trend of CVAs is going to be an uphill struggle, which requires real engagement between landlords and representative bodies to persuade Government that CVAs are being abused for purposes for which they were never intended. Where leases are coming to an end, tenants may try to use the 1954 Act to engineer lower renewal rents. Whilst upwards-only rent reviews are common in most commercial leases, rents can go upwards or downwards on renewal and retail and leisure tenants in particular may try to benefit from a currently depressed market by serving short notices and trying to get renewals determined sooner rather than later.
Finally, an economic downturn often gives rise to an increase in professional negligence claims, especially against valuers, where security proves to be insufficient as a result of over-inflated valuations. In relation to any type of dispute, it’s important to keep an eye out for tell-tale signs that an issue could be on the horizon and to take legal advice early. I’m now going to hand over to my colleague, Sabrina Furneaux-Gotch, who’s going to talk about how to avoid disputes in the context of exercising development rights.
So, the typical situation that we’re looking at involves a landlord building on top of the premises. So, putting more storeys on, changing the layout of part of the interior of the premises, or building on land that it owns next door to the premises. Where a lease has been granted for a particular purpose for example say, so that the tenant can run a shop, the landlord can’t use his retained land in a way that renders the tenants premises not fit for that purpose. And then tenants will also all have the benefit of an implied covenant for quiet enjoyment and then on top of that, a tenant will have the right to bring a claim in nuisance, just like any other neighbour would under common law, if it can show you that the landlord’s actions have unreasonably interfered with its use or enjoyment of the premises. So, then we need to look at what rights a landlord will have. Almost all modern commercial leases, will have reserved to the landlord specific development rights and they can be quite extensive and they can be quite prescriptive and they might include things like the right to put up scaffolding; the right to make a noise whilst doing works and that type of thing. And so obviously then, there is a conflict between the rights that the tenant has and the rights that the landlord has reserved to itself and there will need to be a balancing act between them. So, the landlord will have to take all reasonable steps to minimise the disruption that the development will cause to the tenant and otherwise, he may be in breach of those covenants and he may be liable to the tenant for that breach. There’s a number of practical steps that can be taken and things that a landlord should consider before it’s going to develop with a tenant in situ. The first and most obvious one is just to look at the terms of the lease and look at the development rights that have been reserved to the landlord. Secondly, communication is key. The landlord should tell the tenant what it’s going to do. So, if you take the example of scaffolding, the landlord should look at the different ways in which it can put up the scaffolding and then pick the one that’s going to be the least intrusive to the tenant. Obvious things like carrying out noisy works in hours that are not the tenant’s busiest hours of operation. Where the landlord has reserved to itself, rights to carry out a development, the prospects of the tenant obtaining an injunction to completely prevent the development are extremely low. It might be that a Court would grant the tenant an injunction which imposes restrictions on the way the works are going to be carried out but the Courts don’t really like imposing injunctions that are difficult to Police. In most cases, the most likely outcome is that the tenant, where there is a breach, will be awarded a sum of damages in lieu of an injunction. So, that’s a quick sort of overview of the issues there and some practical steps.
We’re moving onto Anita, if you’re there.
Over the past year, the Government has brought in a number of changes to the planning regime, not only in response to the pandemic but also to cut down on bureaucracy, to increase flexibility and to respond to market forces. These initiatives really reflect the reality that planning should not be static. It needs the ability to kind of ebb and to flow and to respond to changing circumstances. It needs much greater speed than currently exists because we know that getting things through planning takes much longer than we’d like. I’m going to start with changes to the Use Class Order. Now, the Use Class Order essentially categorises different types of property and land into different classes and until September 2020, there were four main categories. But from the 1 September last year, a lot of the old Use Classes were removed and some new ones were created. And the two aspects of the recent changes that I’m going to focus on are the creation of new Class E, which is commercial business and service and moving some uses out of the previous use classes into what’s known as Sui generis.
Now, Class E brings together a mix and match of uses formerly in other classes such as Class A, B and D. Now, in normal talk that’s shops, restaurants, offices, R&D, gyms and what they did was they put it into a single class. The thing with use classes is, you do not need planning permission for changes of use within a single use class. So, you can swap from a gym to an office to an industrial purpose, in a residential area, if it doesn’t cause harm to local amenity. It also means that it’s going to make things easier for commercial property owners and businesses to rent out shops and also premises because the number of potential tenants will be that much greater. PD rights and changes on the horizon, they’re pretty radical and the biggest one is to allow the change of use from that new Class E that I mentioned, to residential. This is major. It’s all about, it’s building new houses, creating new homes and the consultation response to this change has been really mixed. There’s obviously an acknowledged need for more homes and to support the struggling high streets but there’s a lot of doubt about whether the Government’s approach to PD rights as the best vehicle to achieve this, is the correct option. So, just a quick canter, lots of changes, it’s really messy, it’s complicated, it’s hugely exciting, lot’s of opportunities now and probably in the future too.
Over to you, Nick.
So, as Joanna said, I’m going to do a bit of a whistle-stop tour today about distressed acquisitions. Clearly, we live in an environment currently where there is a hunt for yield and participation in debt activities is an increasingly attractive option for those sitting on cash with a bit of a question mark as to how to best deploy that cash. And we’re seeing a lot of non-traditional lenders and planning offices, engaging currently in lending activity, particularly with high-yielding bridge finance for sponsors that need tiding over at a moment. And with the increasing difficulty of sponsor to get funds from traditional sources, such as high street banks, I can only see that activity increasing and coming quarters. To date however, we haven’t seen much, if any, distressed acquisitions or distressed activity in the same way as we saw after the credit crunch. That said, I think in the coming year or eighteen months with the prevailing head winds of the paring back of the Government’s fiscal protection; the easing of the litigative measures to protect debtors and increasing pressure from stakeholders in the financial institutions which will then feed into pressure on sponsors, my view is that in the next few quarters we’re going to see an uptick of distressed deals coming to market which will be attractive to those with the funds and capabilities to get involved in those types of deals.
There are various different points of entry, legally, when it comes to distressed acquisitions, each with their own merits and pitfalls and the weapon of choice is going to be driven very much by the dynamics of a particular deal. The most common form of entry, from experience is debt-related but debt-related distress investments can take various forms in themselves. It could be acquiring the debt wholesale, it could be refinancing out a distressed position or JV-ing with a current lender. In the last downturn, debt acquisitions were most prevalent and that strategy takes one of two forms. It’s either immediately followed by a loan to own structure or waiting for a redemption and making a turn on the delta between the acquisition price, which will be lower than the debt amount and the redemption value for that debt. So, in terms of how to get access to these deals, I mean fundamentally it’s about staying in touch with your professional network to find out what’s out there in terms of opportunities. Debt brokers and debt advisors are a particularly good source of referrals in this regard so again be in constant dialogue with lenders and banks and in terms of what’s causing them concern on their books at the moment and they’ll be liaising with sponsors in terms of the pressures that they may have.
All that remains is for me to thank each of our speakers for their fantastic contribution to this afternoon’s session and thank all of you, our clients and contacts for joining us this afternoon. We look forward to being able to see you again in person, very soon. Thanks very much.
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