The High Court has delivered clear guidance on the “do”s and “don’t”s of CVAs

United KingdomScotland

The CVA challenge

The landlords’ claim against the Debenhams CVA was put forward on five grounds:

  1. Future rent is not a “debt” and so the landlords are not creditors, such that the CVA cannot bind themREJECTED: The definition of “debt” is broad enough to include pecuniary contingent liabilities, such as future rent.
  2. A CVA cannot operate to reduce rent payable under leases: it is automatically unfairly prejudicialREJECTED: CVAs modify obligations. Modifying the obligation to pay rent is not prima facie unfair (see further comment below, however).
  3. The right to forfeiture is a proprietary right that cannot be altered by a CVAUPHELD: The right of re-entry is property belonging to the landlord. It cannot be modified by a CVA.
  4. The CVA treats the landlords less favourably than other unsecured creditors without any proper justificationREJECTED: Treating the landlords differently was necessary to secure the continuation of the company’s business.
  5. There is a material irregularity: the CVA fails to adequately disclose the existence of potential “claw back” claims in an administration REJECTED: Disclosure of relevant facts was adequate and creditors had an opportunity to ask further questions. However, even if there was an irregularity it was not material, as it would have meant a less than 1% shift in the vote.

So what has changed?

Landlords can exercise their right of re-entry even if the CVA attempts to compromise that right. This essentially lifts the moratorium against landlords exercising their ultimate remedy and taking back the property. It is perhaps not particularly compelling news for the applicant landlords in the case, who were not inclined to forfeit, but it does expose the company to the risk of losing its more valuable premises.

Questions left open?

Ground 1: In relation to the question “is future rent a debt?”, Norris J noted that he was bound by precedent to follow the previous decisions of the Courts in Re Cancol Ltd [1995] BCC 1133 and Doorbar v Alltime Securities Ltd (No.1) [1996] 1 WLR 456 (albeit that he was persuaded that those decisions were correctly decided). A higher court could yet revisit this question.

Ground 2: The Court’s finding that a rent reduction was not prima facie unfair was based on a finding that the new CVA rents were “market value” i.e. all the properties whose rents were reduced were already “over-rented”. Therefore, said the Court, landlords were getting “full value” for the use of those properties. That seems to be an assumption open to challenge.

Ground 4: The “horizontal comparator” analysis looks at how each class of unsecured creditor is treated in comparison with the others. Norris J highlighted the distinction between (i) suppliers on short-term contracts, that might easily be spooked by the retail rumour mill, such that they could cut off supply without notice to the company and (ii) landlords who all benefitted from long leases at above market rates. The need for business continuity was held to justify the differential treatment. As with ground 2 however how far would the balance of fairness shift if it can be shown the landlords are left with “under-rented” properties? That remains to be seen.

Article co-authored by Dominic Pugh.