Company Voluntary Arrangements, Landlords and Business Rates
Why do Landlords Often Agree to CVAs, When Doing so Doesn’t Offer Them a Great Return?
2018 has seen a large number of Company Voluntary Arrangements in the retail and restaurant sector, especially amongst bigger retailers with large numbers of outlets. Toys “R” Us, BHS, Prezzo and Byron Burgers have all entered into a CVA, with House of Fraser set to do so, until changed circumstances forced it into administration. Payments to landlords represent one of the biggest overheads of retailers, and a Company Voluntary Arrangement allows the tenant company to negotiate with their landlords and restructure (reduce) its lease obligations on a broad and significant scale, without the need to negotiate with each individual landlord.
As such, a CVA can allow the company to significantly reduce its rental and other property overheads and facilitate the closure of its unprofitable stores even if an individual landlord does not approve the CVA. More often than not, Company Voluntary Arrangements are agreed to by landlords, even though by accepting reductions in rent payments on remaining outlets and no rental payments on stores that close, the return is not great. This article, by Steve Illes, a partner in our London office, looks at why this is the case.
It’s Better to Have Some Tenants Rather Than no Tenants at All
This is the obvious answer. In the case of House of Fraser, the original CVA proposal was approved (subject to other provisions) for the closure of 31 of the 59 stores and for negotiations to reduce the rent on those that were to remain open, despite opposition from a group of landlords who filed a legal challenge. The premise here is that it is better to have a tenant than no tenant, especially in this market.
A CVA, therefore, represents a compromise. But what else drives landlords to accept such compromises and what are the potential costs if they don’t? It comes down, in part, to business rates.
There is no exemption now on Paying Business Rates on Vacant Properties
Previously when a property was left vacant due to insolvency, the landlord was able to obtain an open-ended exemption from the local authority, subject to some preconditions, from paying business rates. Over time this open-ended exemption was reduced to allow for a 3-month exemption from business rates, after which most vacant properties become fully rateable.
This 3-month exemption has meant that landlords are becoming liable for business rates on vacant properties immediately. This can amount to £500,000+ per annum on prime sites in and around London and the South East, for example. A restaurant chain, such as Prezzo, Pizza Express or Nandos could be paying between £40,000-£50,000, if not potentially more, in business rates, per annum per outlet on a typical South East High Street.
In other words, when the huge cost of paying business rates on vacant properties across the entire estate of a retailer that could otherwise be closed is factored in, the alternative of a CVA where some stores remain open – and therefore the tenant is paying both rent and business rates – is the better one.
A Word About Business Rates – from the Tenant’s Perspective
There are lots of reasons why so many high street retailers are facing difficult times right now, but one of the key issues is business rates. Business rates are payable on all commercial properties, and it is estimated that even a business employing fewer than 10 people in London will be paying £17,000 per annum in business rates. Add this to rent and salaries and businesses have to sell a lot to cover all this before they can start to make money and trade profitably.
Unlike most of the other taxes a business faces, business rates are not related to profits, number of employees, etc. They are fixed, regardless of how well a business is doing or how much it is selling. More to the point, they only apply to physical premises, meaning the big on line retailers, such as Amazon, with only one or two distribution centres pay a lot less in business rates than a high street business with many high street outlets.
Apart from anything else, this puts the high street at a significant disadvantage to the on line only, or mainly on line retailers, and helps explain the pressure that the high street is under. Add this to the fact that business rates largely doubled in London this year and it is easy to see why the Federation of Small Businesses has recently called the system as being “outdated, unfair and not related to the ability to pay.” Seen from the tenant’s perspective, perhaps it is no surprise that landlords are prepared to approve CVA proposals rather than carry the burden of business rates themselves.
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