There are Ways for a Business in Difficulty to Terminate Property Leases and be Fair to Landlords

Copyright (c) 2010 Alison Withers

CVAs in the retail sector use a successful model first proposed by the retailer JJB, which in 2009 successfully proposed a CVA designed to save 250 stores and 12,000 jobs.

The proposal included closing 140 unprofitable stores but made available a fund of £10m for the landlord creditors of these premises, equating to a payment of approximately six months rent.

JJB also made a significant compromise in bearing the substantial costs of the business rates of the unprofitable stores. The landlords of the open stores were offered the passing rent on a monthly basis for a period, after which the standard contractual quarterly payments would be reinstated.

No leases were "torn up" under the CVA and individual landlords were left to decide whether they wanted to accept a surrender, agree to an assignment or forfeit the lease.

As a group the landlords recognised that there was a significant risk of JJB going into administration, which would have meant their receiving no payments of rent or business rates for the stores that were closed. They welcomed and appreciated being consulted in a transparent proces and being offered a genuine compromsie.

It is often the case that the core of a struggling business is viable and if it can be restructured to focus on the parts that are profitable it need not go into administration.

This can benefit creditors too, because they will then see some return on what is owed to them as the above example illustrates. In many cases the creditors will include landlords who own the property or properties from which the business is trading.

While the landlords' rights for dealing with arrears are included in the lease they usually include both the right to seize assets from premises to cover arrears or the right to forfeit the lease and claim loss due to breach of contract.

The forced termination of a lease can only be done by a liquidator following a company's liquidation. If a company goes into administration and is sold the Administrator can also force termination of those leases no longer required.

However, in the JJB illustration above, negotiation with the landlords to terminate some leases was made possible by proving to them how much they would receive in the event of a liquidation and showing that the alternative offer set up using a Company Voluntary Arrangement (CVA) was better than liquidation.

Another way of using a CVA to deal with lease liabilities is to crystallise them and include the landlord(s) as creditors although this only really works with vacant premises.

It is extremely difficult to force a change in the terms of a lease and the courts will wish to test whether a landlord has been treated fairly or not as a creditor in a CVA, regarded as vertical and horizontal tests.

The vertical test considers whether or not a landlord's outcome is better or worse that would have been achieved in liquidation and may require expert opinion.

The horizontal test compares the landlord as a creditor with other creditors and where contingent creditors may vote but are excluded if a CVA is approved then the Court considers creditors by class as would be applied in a Scheme of Arrangement under Part 26 of the Companies Act 2006 (formerly s425 of the Companies Act 1985).

While terminating leases might logically be handled by a lawyer, assistance from business rescue advisers or insolvency practitioners can help by carrying out a business review and producing a comparison of outcomes to show the outcome for landlords in the event of liquidation to help justify them accepting an offer that avoids liquidation.