With Next announcing plans to demand rent cuts in line with struggling partners, this article will explore whether CVAs for retailers are truly undermining UK real estate.
What's the conversation surrounding CVAs for retailers?
There has been a spate of retailers petitioning landlords for rent reductions as part of CVA arrangements in recent months.
But, with the Next announcement, it's become clear that there are three very different perspectives on this practice:
1) The retailers' perspective
For retailers, requesting rent reductions is a common-sense move. Companies have a duty to optimise profitability, especially when performance is below expectations.
As a primary outgoing for most retailers, making savings on property rent seems like a good place to start and if they have been unable to negotiate an informal rent reduction with the landlord then a CVA is a way retailers can achieve this.
The market has worked in landlords' favour for quite some time now. As such, many retailers have become committed to leases of up to 25 years with upwards only rent reviews. These have severely limited their ability to adapt to market forces.
Landlords often protest against rent reductions and complain about receiving unfair treatment. However, it should be remembered that they are a supplier of services much like any other creditor who may lose out.
2) The 'Next' perspective
The clothing retailer believes securing rent reductions via a CVA gives an unfair advantage to companies that claim to be insolvent.
Its latest announcement also indicates that Next believes CVAs have been approved for companies that aren't yet fully insolvent.
Using a CVA arrangement, Next's competitor New Look secured rental reductions of up to 55% across a high number of its retail premises.
The company is now demanding landlords insert a 'CVA clause' before negotiating new leases. Under this clause, Next could receive a comparative rent reduction whenever a neighbouring store secures a more favourable rental package using a CVA.
3) The landlords' perspective
Landlords have complained that they are often the only creditor negatively affected by a CVA (despite having the right to vote).
CVAs were initially designed to help insolvent companies re-arrange payments for all unsecured creditors, which includes HMRC and suppliers.
However, many companies have opted for a 'landlord-only' CVA in recent times. Under this, it's only leasing agreements that are revised downwards, while other creditors get paid as originally agreed. Usually, the landlords have full knowledge of the other creditors. However, these CVAs are fraught with difficulty as anyone left out can take legal action and bring the company down. In fact, this is what happened to Toys R Us CVA as HMRC threatened to serve a winding-up petition as they were owed £15m outside the CVA scheme.
When a company severs its lease obligations before the agreed date, landlords may also have to cover business rate costs in addition to lost rental revenue. And, when landlords agree to reduce their rents, they may get stuck at this uncompetitive rate for the duration of the term.
All three perspectives have an element of truth to them.
However, retailers have shown this model works in terms of keeping companies afloat. And, this could be beneficial in terms of jobs and local economies. Landlords clearly have an interest in keeping hold of their tenants (even at a reduced rate) too.
With this and the fact that the UK commercial property market appears generally buoyant despite the recent run on CVAs, the existing model looks like the most workable option for the time being for many retailers.
However, we would argue that landlords should not be the only consistency affected by CVA schemes that appear inequitable. In the case of Toys R Us, it proved fatal for the CVA and the company plunged into administration.