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2018 has been described as “the year of the CVA”, especially in the retail and casual dining sectors. Although company voluntary arrangements (CVAs) can be a useful tool to compromise portfolios of leasehold obligations, there are certain situations where a CVA may be unsuitable. Mark Lawford, Adam Plainer, Kate Stephenson, Andrew Wilkinson and Alexander Wood of Weil, Gotshal & Manges LLP examine the practical issues.
Many leasehold CVAs fail where the restructuring is not sufficiently radical in scope and/or there is no cash injection. To succeed, the CVA must be tied into other aspects of a wider financial and operational restructuring—as in the case of Mamas & Papas.
Parallel CVAs would be required, and may need to be inter-conditional. Practically, this makes consent harder to obtain (given the requirement to obtain consent from 75% by value of those creditors voting in each CVA). See the narrow failure of the CVA of Mothercare’s subsidiary, Childrens World; fortunately, Mothercare’s CVA was not conditional on that of Childrens World.
All of the company’s creditors will be entitled to vote on a CVA, including financial creditors, intercompany creditors, employees, HMRC and potentially the Pension Protection Fund (PPF)—even where the CVA only compromises leasehold obligations. The support of such stakeholders may mean the difference between success or failure in reaching the requisite 75% consent (by value, of those creditors who vote). See the critical role played by the PPF on Toys R Us’ CVA, and the narrow failure to reach 75% consent in the Childrens World CVA.
Appropriate valuation of landlords’ claims for future rent for voting purposes has been questioned. The ability to compromise future obligations with a CVA beyond its termination has also been questioned, especially where the underlying leases were granted by deed. This is particularly important where—as with House of Fraser’s CVA—the CVA is only intended to operate for a short time. Landlords are increasingly co-ordinating their response to CVAs and demanding a share in the post-CVA upside. See ongoing action by House of Fraser’s landlords, and calls by the British Property Federation for the government to conduct an urgent review into CVAs.
CVAs, as formal insolvency proceedings, will often trigger insolvency events of default and termination provisions in the company’s contracts, including financing arrangements and most supplier contracts. This necessitates thorough due diligence and careful management of waiver requests.
Counterparties may require fees or improved terms as a condition to consenting to waiver requests, which the company and its other stakeholders will need to assess carefully. See the conditions to the waiver granted by New Look’s bondholders ahead of its CVA: introducing a restriction on the company’s ability to strip out its intellectual property (thereby closing the so-called J-Crew trapdoor), reducing the size of the restricted payments baskets, introducing a liquidity test and requiring enhanced reporting.
An attempt to strip landlords of the benefit of guarantees from a solvent parent (or sister) company via a CVA will be vulnerable to challenge on the grounds of unfair prejudice. See the successful challenges to the Powerhouse and Miss Sixty CVAs. Although these are not recent cases, this consideration remains highly relevant.
Although CVAs are less public than other insolvency processes, the current wave of high-street CVAs are highly-publicised. See the especially high profile of House of Fraser’s CVA.
There is no moratorium on actions against the company whilst the CVA proposal is prepared and considered (absent parallel administration proceedings, or use of a moratorium available only for small companies). Creditors may therefore frustrate a possible CVA by enforcing their rights before approval of the CVA. A recent report for R3 called for reforms to improve the effectiveness of CVAs, including for a pre-CVA moratorium to be expanded to all sizes of companies. The moratorium would give companies and their stakeholders more time to plan a CVA free from the pressure of potential disruptive creditor action.
A pre-pack administration process may offer advantages over a CVA, including the ability to “cherry-pick” the most profitable leases out of administration (stranding unprofitable leases in the old company, transferring profitable leases over to a new tenantco, and injecting new money directly into the new tenantco). See the pre-pack sale of Henri Lloyd to Aligro Group. Transfer of the leases will usually be subject to landlords’ consent (although often, not to be unreasonably withheld), so this route may have difficulties—but the working assumption is the buyer will be a better covenant.
Administration also offers a moratorium, as discussed above.
Most CVAs include the right for landlords whose rents are compromised by the CVA to terminate the relevant leases, on anything from 30–180 days’ notice (whilst landlords whose rents were not compromised usually have no such right). Such landlords may therefore seek a replacement tenant post-CVA, aiming for rent higher than that imposed by the CVA. See recent developments with New Look and Carpetright, where certain landlords have agreed with other retailers to take over affected leases (or are in discussions to do so).
Unless the company is an English company, or has its centre of main interests (COMI) in England, it would need to shift its COMI to England in order to use a CVA (at least pre-Brexit). COMI shifts are achievable but subject to the familiar downsides: they are time-consuming, expensive, more difficult for operating companies than holding companies or finance companies, and may trigger adverse tax consequences. They are also vulnerable to challenge: see ongoing efforts to prevent a COMI shift by Noble, the Asian commodities trader (ahead of pursuing an English scheme of arrangement/potential pre-pack administration).
This article was originally published on 21 June 2018 in Weil’s European Restructuring Watch. The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
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CVAs—landlord issues and remedies (subscriber access only)
The CVA proposal and procedure—the position under the Insolvency (England and Wales) Rules 2016 (subscriber access only)
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