Investors, Insolvency and necessary Investigations - steps for landlords

First this year we had Quiz’s (second) round of calling in the administrators. Next, Poundland’s ironic asset sale for…£1. Now River Island is the next big name of the High Street considering their options in corporate insolvency. Whenever a large chain like this announces their “review of options”, it feels like an inevitable gift to investor landlords will follow, with restructuring plans involving shutting stores and reduction of rental liabilities.

When a landlord finds themself in the unfortunate position of being between a rock and a hard place on tenant insolvency, we counsel considering the following initial questions:

What do the tenant’s restructuring plans entail?

Tenants may seek an early surrender of some of their properties and pay the landlord back a proportion of their rent arrears in the process. Or they might identify those existing leases where they propose renegotiating lease terms. This strategy might involve: 

• adding in additional break clauses 
• setting future rents where there are upcoming rent reviews
•  seeking rent concessions and/or lower rents to see them through the initial pain of the administration.

This is usually still a bargaining exercise, with the landlord’s position of negotiation depending on the nature of its portfolio and how implementing changes to the tenant’s lease will impact their financial position (e.g. their income stream and/or the value of the underlying asset and/or those around it). These factors will affect the landlord’s ability to be flexible in these arrangements, and where possible a balance will usually need to be struck.

Is forfeiture an option?

Most commercial leases allow the landlord to forfeit the tenant’s lease where an insolvency event takes place. As a primary step in the process of ‘triaging’ a potential forfeiture, landlords should check this option is actually included in the lease in question, and what the precise insolvency ‘triggers’ are. There are a number of limbs (no pun intended) that are likely to be included in the definitions/lease provisions and care needs to be taken to assess these – examples might include the tenant: 

• taking the first step towards a voluntary arrangement
• making an application for an administration order or 
• applying for a bankruptcy order. 

What the landlord’s next step will be depends heavily on how appealing they think the unit would be to a new occupier. 

Forfeiture – next steps

• If the unit is particularly marketable, and/or another tenant can otherwise be identified, the landlord might pursue lease negotiations with a third party. 
• The landlord might seek to conclude these arrangements whilst at the same time keep the current, cash strapped tenant on the hook, until ready to proceed. 
• An agreement for lease and agreement for surrender structure requires all parties to be on board with the situation on the ground, including the (near) insolvent tenant. However, it could be in the existing tenant’s interest to offload a property as soon as possible and it will certainly be in the landlord’s interest to keep rent arrears to a minimum, before entering the lottery of an insolvency financial distribution. So a more nuanced approach might be called for. 
• Forfeiture without a new tenant in the wings will leave the landlord with a void unit which could lead to it taking on liability for business rates in respect of the premises. If the landlord believes it is likely that the unit will be empty for some time (because of marketability and/or other factors), an option might be to abandon forfeiture and keep the insolvent tenant’s lease in place for as long as possible, including as a rates mitigation exercise. This approach may be of benefit in terms of negotiations with a new tenant, as and when an opportunity arises. 

Have you backed yourself up with security?

Now is the time for a landlord to think about the tenant’s covenant strength once more and consider whether, at the start of the lease, it took additional security. This might have been in the way of: 

• a rent deposit deed which can now be drawn upon to settle some of the tenant arrears
• a personal guarantor (generally a company director), who could be pursued for any debt or 
• a parent company guarantor, who might not be going into administration and could be pursued.

Where the main tenant forfeits the lease, a guarantor could become even more useful if, under the terms of the lease, they are required to take on the lease themselves (as principal tenant). Where the parent company is solvent (and otherwise represents an attractive option to become the new tenant), this could mean that, by following the proper steps, a landlord is able to leave the insolvent former tenant company in the past.

Time to close one door and open another?

When taking decisions, it is the responsibility of a prudent commercial landlord’s board of directors to step back and consider the bigger picture. How they see that picture can then be fed back in to the mix, in terms of their strategic objectives and risk appetite etc. In this instance, the first tenant to go into administration might be perceived to be the portent of further storms on the horizon. Other nearby tenants may have breaks linked to occupation of a certain number of units and/or neighbouring units continuing to trade, or may be falling upon hard times themselves. 

Especially where the landlord has considered repurposing the asset in the past, this could be the perfect time to (further investigate and) crystallise things - in practice, by offering the tenants early surrenders, thereby freeing up vacant space for the landlord to deliver a new vision for the asset.