CVAs make a comeback as landlords change their tune

In the UK last year, retailers were faced with an unprecedented fall in consumer demand as the country went through recession. Locked into long and onerous agreements with landlords over rents and facing lump-sum quarterly payments, retailers looked for ways to restructure their finances. In the process, restructuring specialists revived a little used tool of UK insolvency - the company voluntary arrangement.

"Large retailers using company voluntary arrangements as a last chance attempt to prevent administration was one of the hot insolvency trends of 2009," says Richard Fleming, UK head of restructuring at KPMG . "CVAs have become a kind of social welfare for companies on the verge of administration. An effective and much less destructive 'last chance saloon' now exists for companies, their creditors and their stakeholders - not least their employees and the communities within which they operate."

A CVA is a structure under UK insolvency laws that allows a company to negotiate a plan to restructure its unsecured debts with, for example, landlords or suppliers.

The first to make use of it to attempt to secure a deal with creditors after the credit squeeze was Stylo, which owned shoe retailers Barratts and Priceless.

After sales dropped precipitously in the final months of 2008, instead of trying to negotiate individually with its 270 landlords, or use a pre-packaged administration in order to exit some stores immediately, Stylo proposed a CVA that would see the chains, which had been placed into administration to protect them from creditors, emerge unscathed if their landlords agreed to cut rents by accepting instead a percentage of each store's turnover.

Ultimately, the landlords, fearing it could set a dangerous precedent, voted the deal down, forcing Stylo into administration.

The failure of this first attempt did not dissuade insolvency professionals from trying again. "Stylo was the first high-profile retail business during this recession to attempt a CVA as an exit from an administration," says Lee Manning, partner at Deloitte, which presided over the Stylo CVA.

Mr Manning says: "It offered a turnover rent-based solution to landlords, with the better performing stores offering more generous percentages. The landlords, being unfamiliar with this concept, rejected the proposal and rapidly thereafter 240 shops were closed and the remaining half of the portfolio sold, leaving approximately 2,000 people out of work.

"The speed of this surprised landlords and, when the next phase of retail CVAs came out, landlords adopted a more pragmatic approach and voted in favour of them."

JJB, the sportswear retailer, was the next high-profile business to attempt a CVA. It took a different approach. JJB asked its landlords for permission to pay rent monthly rather than quarterly on its 250 open stores and pay less rent than was due on the 140 stores it wanted to close. It offered £10m compensation to landlords of closed stores, equivalent to on average about six months' rent.

It became the first UK-listed company to avoid administration through a CVA since the financial crisis began. As part of the deal its banks, Barclays and Lloyds, offered additional debt facilities.

"JJB's proposed changes to the terms of its leases were less extreme than in previous attempts, such as in Barratts," says Ian McDonald, head of restructuring at Mayer Brown. "JJB's open stores were not subject to a reduced rent, and the six months' rent offered on the closed stores was attractive compared with the returns that some of its landlords would have being seeing as unsecured creditors of companies subject to pre-packaged administrations.

"Subsequent CVAs, such as Focus DIY and Blacks Leisure, followed the same model, and likewise found landlord approval," Mr McDonald adds.

The use of CVAs has spread beyond traditional retailers.

Despite the trend for Britons to take holidays in the UK, the five-store Discover Leisure caravan retail chain, had been hit by plunging vehicle sales and cutbacks in discretionary spending. Unlike JJB, the company used a CVA to appeal primarily to its suppliers, landlords were a smaller proportion of their unsecured creditors. Under the terms of the deal agreed last June and arranged by KPMG, Discover's creditors, which include the UK tax authorities, accepted 22p for every £1 they were owed rather than see the company collapse.

"The wind has changed. Creditors might now approve a CVA when they might not have in the past," says John Alexander, insolvency practitioner from Carter Backer Winter, who says landlords had their fingers burned with the collapse of such retailers as Woolworths and Borders. "They perhaps realise that a CVA might be a better option than putting tenants into liquidation or administration. HMRC is also being more supportive of CVAs where they have confidence in the management team."

Mr Alexander says, however, that CVAs can only work for viable businesses. "They need to generate profits in order both to invest for growth and pay off their debts."

Restructuring specialists expect the popularity of CVAs to rise after a recent legal decision concerning the administration of Nortel Networks UK. The case confirmed that companies in administration which utilise leasehold premises must pay the full rent due as an administration expense, making traditional trading administrations potentially less attractive, according to Mr MacDonald.

Mike Jervis, a partner at PwC Business Recovery Services, says: "Managing businesses with large numbers of outlets in traditional insolvency processes such as administration will become more difficult if the recent Nortel judgement on rent is upheld."

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