2018 – The year of the CVA
The evident distress in the retail and leisure sector is of little surprise to those of us in the insolvency industry. For retailers, increased cost of imports due to declining exchange rates, rising labour costs resulting from increases to the minimum wage and long term structural changes to spending habits have all contributed to current difficulties. In addition, for restaurant operators, a marked under supply of skilled labour, increased business rates and over-supply of similar offerings have been factors causing a long predicted downturn.
Typically, one would see businesses trading up to Christmas and then falling into an insolvency process following the December rent quarter. However, the quarter day has become significantly less important because:
- Many leases have been varied to move away from quarterly to monthly payments and/or are tied to revenue.
- Case law has moved us away from administrators having effectively a rent free period where an administration commences post quarter date, to a situation of 'pay as occupied'. This means that the timing of the administration (and payment of the rent during that occupation) is of a much bigger consideration in the planning of any business restructuring.
- Landlords are becoming increasingly conscious of the likely void that would result in the failure of a tenant retailer and consequently many are willing to compromise, negotiate on revised terms of continued occupation and/or provide forbearance when a tenant is in default.
Despite the potential alleviation of pressure on tenants from their landlords, falling sales and the huge investment that is required to turn around tired brands has resulted in some high profile retail casualties. It is of note that we are seeing significantly less business rescue i.e. sales to a new equity owner, and depressingly more complete collapses. In 2017 118 retailers collapsed, an increase of 28% on 2016 according to analysis by Deloitte. High profile failures included Feather & Black, Multiyork and more recently Toys R Us, Maplins, Carpetright and Conviviality (Bargain Booze).
Into this firmament comes the CVA (Company Voluntary Arrangement) insolvency process, the choice for retailers and restaurant groups seeking to rationalise a property portfolio. Those with longer memories will recall the innovative use of CVA's for such businesses between 2005 and 2010. Barratt Shoes, JJB Sports, Miss Sixty, Travelodge, Powerhouse and La Tasca resulted in some success stories, some commercially unsuccessful restructurings and some CVA's being challenged. The experiences of this time led to the clarification as to the extent that creditors can be bound by the CVA.
2018 is seeing a marked return to CVA's particularly in the restaurant sector with Jamie's Italian, Prezzo and Byrons having already entered into CVA's. KPMG have reported that 25% of companies in the casual dining space have operated at a loss in at least one of the two last quarters and thus a raft of other chains are predicted to join this tide. In retail, we have seen CVA's for New Look and Select and restructuring negotiations being entered into by stakeholders for House of Fraser and Debenhams.
The payment of all creditors bar the landlord and then a different treatment of landlords within particular classes has always stretched the concept of unfair prejudice, one of the two legislative ground for challenging the CVA.
The reasons however why challenges have not been mounted are that:
- The CVA offers a commercially expedient way in which a tenant business can restructure with a large number of landlords.
- Institutional landlords, with the bargaining power and ability to negotiate successfully the scope and nature of tenant's leasehold portfolio restructuring, can take some comfort that within the confines of what is collective process, post CVA the business has a better prospect of succeeding (and thus provides a better covenant).
- For individual, non-institutional landlords, where typically individuals might have acquired commercial property as part of a pension plan, the risks of the challenging the CVA are high and the result potentially uncertain.
As a result it was always felt that CVA's in these circumstances make good commercial sense but do not necessarily fit easily into the legislation as drafted, and dare one say envisaged. A more radical solution might be the introduction of some form of Scheme of Arrangement type procedure that distinguishes between the differing classes of creditors including secured creditors. There are distinct moves in Europe to provide debtor companies with something akin to this, under a 'Chapter 11 type umbrella'. In the UK however, with the potential for any significant insolvency reform pre-Brexit being absolutely negligible, the insolvency world will therefore need to continue to make extensive use of the CVA as an effective formal process in restructuring where company as opposed to business rescue is desired.
If you would like more information on how the points raised could impact you, please contact Vernon Dennis.