Summary: The High Court rejected four of the five grounds that the landlord Applicants put forward to dispute the validity of Debenhams Company Voluntary Arrangement (CVA). The case provides clarification on the requirements for enforceable CVAs.
The CVA in question: Like many retailers recently, Debenhams fell into financial difficulty. To resolve this issue and try and stay afloat, Debenhams entered into a CVA. CVA’s are a contractual option through which a company can restructure its debts and liabilities so that it can continue to trade with a view to reviving itself.
Debenhams’ CVA focused on reducing its liability under various leases. They split the various leases into six categories to stipulate how each lease would be treated during the course of the CVA. For example, landlords of category one leases would receive 100% of the contractual rent whereas landlords of category four leases would only receive 50% during the CVA. They also removed the right for the landlord to forfeit the lease.
The challenge and decision: The Applicants challenged this CVA giving five grounds for disputing its validity. The High Court dismissed four of the five grounds and upheld one other.
Ground 1 – Future rent is not a debt but an unearned future payment as landlords are not creditors
The Court rejected this argument. The term creditor should be given a wide meaning but in all cases creditors must have a debt. Future rent would not be a provable debt in liquidation cases but future rent is a liability which Debenhams would be subject to under an existing lease notwithstanding the landlord’s right to forfeiture. As such, it was a debt and the landlord was a creditor for the purposes of a CVA.
Ground 2 – Reducing rent due under the leases fails the basic fairness test in section 6(1)(a) of the Insolvency Act 1986
The Court disagreed with this. They held that reducing the rent under a CVA is not unfair where the reduction is “limited to what is necessary to achieved the purpose of the CVA” and where landlords can end the lease (see Ground 3 below). Furthermore, the CVA in this case varied existing obligations rather than create new ones. The Court added that this does not mean all CVAs are fair and they would need to be assessed as a whole on an individual basis.
Ground 3 – A landlords proprietary right to forfeit the lease cannot be altered by a CVA
The Court upheld this. A CVA cannot vary a right of re-entry as this was a property right not a contractual one. It was therefore beyond the scope of the Insolvency Act. The CVA was not invalid in itself though as the Court made a declaration that the relevant provisions of the CVA, which sought to prevent a landlord forfeiting, were deleted.
Ground 4 – The different categories in the CVA means applicants are treated less favourably than other unsecured creditors without any justification
The Court dismissed this Ground. Justification was satisfied as there was a need for a CVA for business continuity. Landlords and suppliers could be treated differently as varying obligations to suppliers could have had a detrimental effect on cash flow that would prevent them from trading. The Court did say that a CVA could be unfair where landlords were expected to accept reductions in rent below market value. This was not alleged by the Applicants, so this ground was rejected.
Ground 5 – There were material irregularities in the CVA
The Applicants claimed that an administrator of the company may have claims under sections 239 and 245 of the Insolvency Act 1986, which were material and should have been included in the CVA. The court disagreed that the potential claims under sections 239 and 245 were material as they would have had no effect on the outcome of the approval of the CVA so the fifth ground failed.
What are the practical implications of this case?
Debenhams’ CVA was held to be valid and enforceable. That being said, it would appear that this judgment hands some of the power and leverage back to landlords who, up until now, have been unable to forfeit leases during the course of a CVA. Certainly some landlords will now consider whether it makes commercial sense for them to require the deletion of a forfeiture restraint provision in their tenants CVA and then invoke their right to enter. It remains to be seen whether the tenant would have grounds for obtaining relief from forfeiture in such cases and much of that will depend on the facts of each individual matter.
The judgment also allows landlords to demand that all CVAs ensure that they receive nothing less than the market value rent for their properties.
As the judge noted in his summing up though, this case is likely to be appealed. We will update you accordingly.
Case citation: Discovery (Northampton) Ltd and others v Debenhams Retail Ltd and others [2019] EWHC 2441 (Ch)