Voting on CVA proposals – Is it time to level the playing field for landlords?

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Reading news reports on a succession of company voluntary arrangements (CVAs), a layperson would be forgiven for believing that a CVA proposal affected only a company and its landlords, with almost every report focusing on the impact of the proposed CVA on landlords, and efforts to secure their support for the proposal. This is because, although a CVA proposal is made to the company and all its creditors for a composition in satisfaction of its debts, its impact is felt most keenly by landlords.

A remarkable feature of many CVA proposals is the stark contrast between the treatment of the unsecured debts of trade creditors and the continued business relationship with suppliers on the one hand, and, on the other, the treatment of landlords. Many CVAs propose business as usual in respect of existing debts, paying the debts of unsecured trade creditors in full, or subjecting them to only small discounts, and making only minor changes to payment terms. Contrast that with proposals to terminate some leases and substantially reduce the passing rent on others, for the duration of the CVA (which can typically last between 3 – 5 years).

That said, it is not surprising that many CVA proposals focus on rent, since a reduction in this fixed cost can result in an immediate improvement in company performance.

However, landlords have not been silently accepting of their lot, and in the Debenhams CVA, a consortium of landlords sought to challenge the CVA pursuant to section 6(1) of the Insolvency Act 1986 (the 1986 Act), on a number of grounds.

Landlords fight back – the recent case of the Debenhams CVA

We are looking in this note at the first of the grounds considered in the judgment of the court in Discovery (Northampton) Limited and others v Debenhams Retail Limited and others [2019] EWHC 2441 (Ch), namely the landlords’ argument that they are not “creditors” for future rent within the scope of section 1 of the 1986 Act, which provides for the directors of a company to “make a proposal… to the company and to its creditors for a composition in satisfaction of its debts…”.

Mr Justice Norris, in Debenhams, rejected the landlords’ argument, finding that they are indeed “creditors” for the purpose of Part 1 of the 1986 Act and are therefore bound by the CVA.

The term “debt” is not defined in the 1986 Act in the context of CVAs. In Debenhams, Mr Justice Norris instead relies on the definition of debt for the purposes of administration in Part 14 of the Insolvency (England and Wales) Rules 2016 (the 2016 Rules), which includes any debt or liability to which the company is, or may become, subject. The court found therefore that ‘future rent’ comes within this definition of “debt or liability” and consequently landlords are “creditors” who can be bound by CVAs.

Despite this (and bearing in mind CVA proposals invariably impact landlords’ interests more than those of other unsecured creditors) landlords have comparatively little influence over the voting process relating to a CVA proposal. This is because all unsecured creditors are bound by a CVA proposal if 75% by value of those unsecured creditors cast their vote in favour of that CVA proposal. However, a landlord’s future pecuniary liability is treated differently to a crystallised debt when determining the voting value of each.
Rule 15.31(3) of the 2016 Rules provides for a voting value of £1 to be attributed to debt of unliquidated or unascertained amount, unless the convenor decides to put a higher value on it. Therefore, future rent obligations, regardless of their sum may be attributed a value for voting purposes of as little as £1.

Moreover, where the CVA proposes variations in the lease obligation, including by reducing the passing rent, the financial detriment to the landlord is disregarded for the purposes of calculating the value of the vote.

A practical example – How the assessment of voting value in CVA proposals impacts upon landlords

To illustrate: the voting value of an unsecured trade creditor owed the sum of £100,000 who is, under the CVA proposal, promised full payment of that debt and no change to future trading relations, is £100,000.

By way of contrast, the voting value of a landlord who is fully paid up in respect of rent, but who, if the CVA is approved, will receive £100,000 less in future rental income for the duration of the CVA may be attributed a voting value of as little as only £1. The future loss of rental income arising from a variation in the lease obligations does not constitute a “debt” for voting purposes and is therefore irrelevant to the calculation of the value of the landlord’s vote.

In this scenario, the unsecured trade creditor has an obvious interest in voting in favour of the CVA proposal. The landlord may wish to vote in opposition to the CVA proposal. However, because of the differential in the value of the votes, the landlord has little power to prevent its approval.

What next?

This imbalance could be redressed through a relatively simple revision to the voting provisions in Part 15 of the 2016 Rules, to provide for creditors (including landlords) to be ascribed a voting value equal to the value of their crystallised debt and/or equal to the reduction in the contractual sums receivable by a creditor pursuant to the terms of the CVA, which would include the rental income lost by reason of revised lease terms imposed by the CVA. In our example above, such a revision would see the landlord ascribed a voting value of £100,000 due to the loss of rental income he would suffer, rather than merely £1. Such a change in the voting provisions would achieve more fairness but may have little support outside of the landlord community.

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