The successful battle fought by Sir Philip Green to rearrange the debts of his Top Shop-to Dorothy Perkins fashion empire, Arcadia, has thrown a spotlight on the whole company voluntary arrangement (CVA) process.
Arcadia narrowly won the support of its creditors – but the battle raises serious questions over whether other struggling retailers will be able to use CVAs in future.
The CVA process has been deployed by a host of retailers, including Mothercare, House of Fraser, Carpetright and New Look, as well as restaurant chains including Byron and Prezzo.
The purpose of a CVA is to enable a company struggling with its debts to come to terms with its creditors by agreeing to pay them a proportion of its debts or to reach some other form of agreement with them over how its debts are to be repaid.
The theory is that this enables debt-laden businesses to carry on trading and prevents them going into administration with an inevitable loss of jobs and the likelihood that the creditors lose most of the money they are owed.
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The other advantage of the process is that it saves struggling retailers or restauranteurs the hassle of negotiating terms with each landlord individually. That is in keeping with the way in which commercial property – both office and retail space – is increasingly being let.
The growing popularity of flexible working, exemplified by the success of flexible offices provider WeWork, along with the burgeoning trend for pop-up shop and restaurant sites, means that the traditional way of letting sites – which gave commercial property companies an unusual amount of certainty over the cash flows they could expect from their assets – is less attractive to those who rent properties.
Property companies argue, however, that the process has been abused.
Take all of the companies mentioned above. The aim of the CVA in each instance was to allow these businesses to shed onerous store and restaurant leases, either by closing sites or cutting rents, with the intention of helping them claw their way back to profitability.
There are a number of reasons, the property companies argue, why the CVA process is no longer fit for purpose.
One is that, provided a business can reach terms with 75% of their creditors over a CVA, the other creditors must go along with it.
That is great news for a struggling retailer or restaurant company if it wants to get out of costly leases. But it has taken power away from commercial landlords who, in previous years, could haggle over terms and even demand rent from tenants even after they had left a site.
And, thanks to the changing nature of ownership of retail and leisure businesses, which are increasingly owned by private equity firms or buccaneers like Sir Philip, property companies argue CVAs are being used in a way for which the process was not originally designed.
Property companies feel that, in the CVA process, they are suffering a disproportionate amount of the pain compared with other creditors. It is they who suddenly suffer a big drop in their rental income while other creditors are relatively unscathed.
As Melanie Leech, chief executive of the British Property Federation, the industry body for the commercial property sector, argued last year: “It feels as if the CVA is seen simply as a tool to shed underperforming assets within a portfolio – and to enable a tenant to walk away from their lease liabilities – without that business tackling its wider challenges.
“Or, indeed, entering into a conversation which asks all its creditors, and not just property owners, to take a share of the pain. Ultimately, this tactic is likely to be self-defeating – simply cutting some rents and getting rid of a few stores will not restore the fortunes of a business.”
This latter point is certainly true. Entering a CVA process ultimately did nothing to prevent the likes of BHS or PoundWorld from collapsing into administration.
So some landlords, such as the shopping centre owner Intu in the case of Arcadia Group, have been fighting back and rejecting CVA proposals.
Intu’s concern here was that, if it were to agree to allow Arcadia to enjoy rent cuts or to walk away from some of its leases, it would quickly be fending off similar requests from other retailers currently trading out of too much space.
The counter-point to that argument, of course, is that some property companies have proved inflexible in the past – insisting on upward-only rent reviews and refusing to shorten the length of some store rents. Some of the leases for stores of BHS, the department store Sir Philip sold for £1 in 2015 to serial bankrupt Dominic Chappell, were said to extend to 30 years or more in some cases.
There is also resentment from competitors of businesses that enter CVAs. The likes of Next have complained that the process has allowed its weaker competitors to cut their overheads in a way it has not because it has chosen to play by the rules.
Yet the same process can act in reverse. The entrepreneur Hugh Osmond, who with Luke Johnson expanded Pizza Express into one of the UK’s most successful restaurant chains, has claimed that there are some landlords who, where they have persuaded a tenant in a parade of shops to agree a higher rent, will then raise the rent for the entire parade.
However, there is a growing sense that property firms are getting the rough end of the deal, which is why they have been, as with Arcadia, driving a harder bargain when their tenants propose a CVA.
One previous case where they took a stand was with the department store chain House of Fraser. A CVA was agreed in June last year between the company and its creditors that would have seen 31 stores close and rents cut by a quarter in the case of 10 others.
Landlords resisted the CVA because House of Fraser’s owners had previously extracted money from the business by selling property assets to them and then leasing the stores back. They argued House of Fraser’s owners ought to have honoured their leases once they had sold their businesses to the property firms. The business ended up being sold to Mike Ashley, the billionaire owner of Sports Direct, in a pre-pack administration.
This is partly why landlords resisted Sir Philip’s proposals for a CVA of Arcadia.
They were well aware of the huge dividends that his wife Lady Tina Green, the ultimate owner of Arcadia, had received from the business in the past. They, like the pensions regulator and the Pension Protection Fund – which voted on behalf of the Arcadia pension schemes – wanted proof that Sir Philip and his family were taking their share of the pain.
That proof came with the £100m of extra cash Lady Green agreed to inject into the Arcadia pension schemes to reduce their deficits and the extra £50m of equity – on top of £50m agreed in March – that she is pumping into the business.
But it was a close call. Intu confirmed tonight that it had voted against the CVAs.
It said: “Our rationale for the vote was clear: we firmly believe that the terms of the Arcadia CVA are unfair to our full rent paying tenants and not in the interests of any of our other stakeholders, including Intu shareholders and the 130,000 people whose jobs rely on the success of our prime shopping centres.”
And Revo, the retail property organisation, noted: “The outcome once again underlined the unfairness of the CVA process, with owners and local authorities bearing much of the pain for years of underinvestment.
“We still believe there is a need for government to intervene to avoid misuse of this procedure.”
One thing is certainly clear. Property companies have had enough.
The next retailer or restauranteur seeking to embark on a CVA had better be pretty clear that they are relying on the process because their circumstances are so extreme that the only alternative is administration.
Otherwise their landlords may reach the conclusion, as Intu did here, that they may ultimately recover more of what they are owed if their tenant tumbles into administration.
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