Resolving COVID19 rent arrears in the UK
21 February 2022
It is estimated that at least £7 billion in commercial rent arrears is outstanding in the UK market. Restructurings of companies with rent liabilities therefore continue to be on the horizon in 2022, with implications for stakeholders. We look at some themes that may affect those restructurings: the use of CVAs and the Part 26A restructuring plan; the persistence of challenges to those processes; and the backdrop to the proposals for commercial rent arbitration.
The restructuring options -CVA or restructuring plan
Company voluntary arrangements (or CVAs) have long been used by companies as a means of restructuring leasehold liabilities. However, the Part 26A restructuring plan introduced in 2020 offers an alternative, much more powerful tool for binding creditors, since it allows for one or more dissenting classes of creditors or shareholders to be bound by a plan where those classes would be no worse off in the ‘relevant alternative’ to the plan (known as ‘cross-class cramdown’). It has also been tested: the Virgin Active restructuring plan decision involved the English High Court approving a compromise forced on dissenting landlords by the votes of secured creditors.
We expect Part 26A restructuring plans to continue to be used for larger, more complex restructurings dealing with both financial and operational liabilities. They may also be the only option for companies effecting an operational restructuring where their creditor breakdown means that the landlords’ voting power could block a CVA (in which case the ‘cramdown’ power of a restructuring plan is required). CVAs will still have their place, and we expect they will continue to be used by SMEs and mid-market companies looking to compromise leasehold portfolios.
Why might a company with leasehold liabilities consider using a restructuring plan, rather than a CVA?
| RESTRUCTURING PLAN | CVA | |
|---|---|---|
| Approval | Requires (i) 75% by value of at least one in-the-money voting class; (ii) court sanction. Dissenting classes (including landlords) can be “crammed down”. |
Requires 75% by value of creditors entitled to vote. No court sanction required. No cross-class cramdown possible. |
| Voting discount to landlords | None seen so far | Pre-2020, typically 75%. Currently 0%-50% (frequently 25%). |
| Termination rights | Crucial that compromised landlords have termination rights. | |
| Wider Restructuring | Financial creditors may be compromised within the same restructuring plan as landlords. |
Financial creditors are more commonly addressed through a parallel scheme, restructuring plan or other amendments or refinancing. |
| 'In' or 'out of' the money | Creditors who are out of the money can be excluded from voting and can also be relatively easily crammed down. |
Every creditor who has been given notice of the voting procedure is entitled to vote. Irrelevant whether ‘in’ or ‘out of’ the money. |
| Challenges | Challenge process is ‘baked-in’. Creditors may challenge the plan at the convening or sanction hearings. | A compromised creditor can only challenge the CVA after it has been approved, and within 28 days. |
Challenges to rent liability restructurings: what are the key takeaways?
On the face of it, it has been a disappointing year for landlords. In May, we saw the High Court hand down three important decisions concerning the restructuring of landlord liabilities –New Look, Regis and Virgin Active. Despite winning in Regis, it was a mostly pyrrhic victory for the landlords, and the landlords were defeated in both New Look and Virgin Active, where their legal challenges failed to gain any real traction. A few months later, the Caffè Nero CVA challenge was also unsuccessful, with the High Court rejecting allegations of unfair prejudice and material irregularity.
However, there are some positives for landlords too. The New Look decision should bring an end to landlord CVAs reliant upon the votes of a large group of truly unimpaired creditors to get them through. And, while many of the landlords’ challenges to the Regis CVA failed, the CVA was ultimately revoked because the treatment of its shareholders under the CVA was found to be unfairly prejudicial to the landlords as creditors of the company.
CVAs have to some extent been allowed to develop relatively unchecked for more than a decade, but the Regis case comes as an important reminder that the court can, and will, strike down a CVA in an appropriate case. Aside from formal challenges by landlords, the attempted restructuring plan by National Car Parks, which was suspended following receipt of an improved offer for the company, also shows that companies considering a restructuring plan will need to provide robust evidence regarding the ‘relevant alternative’ to the plan.
The increased court scrutiny of CVAs, and now restructuring plans, is to be welcomed as it provides legal rigour to a process that has been allowed to develop relatively unchallenged over the last decade. However, for the most part, recent decisions sweep away much of the landlords’ unfairness arguments and vindicate the use of CVAs and restructuring plans by companies. In particular:
- In New Look, it was held that a CVA which allows a company to remain in possession on a reduced future rent is not necessarily unfair.
- Generally, the answer to landlords’ complaints about their treatment under a CVA is provided by the landlords’ rights to terminate.
- New Look also confirms that, while a CVA cannot force a surrender on a landlord, a CVA can achieve substantially the same result through a carefully drafted ‘termination right’, by which a company can offer to give up any right of occupation in return for a release from its liabilities.
- Allegations of material irregularity (including in relation to voting procedures) will be challenging to substantiate following the failure of the Caffè Nero challenge.
However, the judgments provide some warnings for those preparing restructurings of rent liabilities:
- In New Look, the judge commented that there will be strong grounds to conclude that a CVA is unfair where it relies upon the votes of a large swathe of genuinely unimpaired creditors to compromise the claims of a sub-group of creditors, even if there is an objective justification for the treatment of the unimpaired creditors.
- In Regis, it was clear that the courts will closely analyse the treatment of shareholders as part of the restructuring, and any preferential treatment will need to be adequately justified.
- After Regis, a blanket 75% discount on landlords’ future rent claims – for so long an arbitrary feature of such CVAs – will not generally be justified.
The context: the new commercial rent arrears Bill
In November 2021, the Government announced that it expects to introduce an arbitration scheme for rent arrears accrued as a result of pandemic related closures, together with a new voluntary code of conduct for resolving all COVID-19 rent arrears. It is expected to come into force in March 2022.
The proposed legislation will extend the current moratorium on landlord enforcement (such as the restrictions on the use of winding-up petitions and the Commercial Rent Arrears Recovery Process), which has been in existence since April 2020, for a further six months after the legislation is enacted.
The proposed arbitration scheme is intended to be a last resort when a consensual agreement cannot be reached and will involve the parties applying to an arbitrator who will have power to make a binding decision with respect to the parties’ proposals.
As a final thought, as currently proposed the arbitration scheme will also affect a company’s ability to propose an alternative restructuring, since the appointment of an arbitrator will prevent a CVA, scheme of arrangement or restructuring plan from being proposed until 12 months after an arbitration award is made. It may therefore be possible for landlords to make an arbitration referral as a means of preventing a disputed debt from being compromised through a CVA or restructuring plan prior to such a process being initiated. This potentially gives landlords some negotiating leverage when attempting to agree a consensual deal.
