CVAs – last chance saloon or mere delaying tactic?

Written By:

Stephen Springham, Knight Frank

23 Mar 2018

5 minutes to read

Categories: Retail UK

• The Good. February’s retail sales figures from the ONS were strong (as they have been for some time). Year-on-year retail sales values were up 3.6% and volumes (i.e. stripping out inflation) were up 1.1%. Very strong trading updates from Ted Baker (annual group revenue +11.4%, pre-tax profits +12.3%), Dreams (total sales +7.2%, like-for-likes +3.3%, profits +7.2%) and ScS (H1 gross sales +1.5%, order intake +2.2% and profits +3.0%). On par performances from Kingfisher (FY UK sales +0.5%, retail profit +5.0) and Next (annual group sales -0.5%, operating profits -8.2%).

• The Bad. Moss Bros has warned that profits for the current financial year would be "materially lower" than expected. The menswear retailer blamed the warning on stock shortages, sluggish demand for suit hire and lower consumer confidence. Mothercare has drafted in KPMG to help its financial restructuring, as its lenders agreed to defer financial covenant testing from 24 March until further notice.

• The Ugly. Neither Toys ‘R Us nor Maplin have secured a buyer and both look destined to disappear from the retailing scene completely. The CVAs proposed by both New Look and Prezzo were approved by creditors. Carpetright secured emergency capital to tide it over as it explored the feasibility of launching a CVA. Conviviality launched an emergency £125m fundraising in an attempt to recapitalise the business on the back of three profit warnings and the discovery of a ‘surprise’ £30m tax bill. Poundstretcher’s owner, Crown Crest Group, had its credit cut as insurers continue to tighten terms for high street retailers. 

Stephen Springham, Head of Retail Research:

CVAs are probably the most contentious issue in retailing. They bring to a head many of the simmering grievances of both landlords and tenants, while also laying bare many of the structural failings of the wider retail industry. And also give the ghouls in the media plenty to feast upon in their constant endeavours to write off the high street.

For retailers, CVAs buy breathing space, if not a stay of execution. Rather than be liquidated outright, they can significantly reduce their cost base by ‘renegotiating’ their financial obligations, not least by cutting their rent roll and shuttering stores they no longer want. As part of its agreed CVA, New Look is to close 60 stores (ca. 10% of its portfolio) as part of wider goal of reducing its property costs by up to 60%. 

Store closures always provoke disproportionate consternation in both the media and among the general public. However, few people outside the property industry will ever have been privy to any retailer’s full store list of P&Ls. These always show huge variances in trading performance across the estate, but the common denominator for high street retailers is an ‘ugly tail’ of severely under-performing stores, some of which may be heavily loss-making.

They may not always have been so, but trading patterns can change dramatically over the length of a lease term (10/15/25 years). To put it bluntly, there is not a single established high street retailer that wouldn’t want to jettison at least 10% of their store portfolio, if they were given half the chance.

This is why CVAs are met with such cynicism from landlords – they regard a CVA as ‘a get out of jail free’ card for the retailer, a way of worming its way out of legal and financial agreements that it previously signed up to of its own free will.

But given the current state of retail occupier markets and far from rampant retailer demand, landlords are effectively held over a barrel and have few alternatives other than to agree to whatever is proposed. Less a compromise, more blackmail on the part of retailers – if you don’t agree to these terms, we’ll go bust anyway and you won’t get any rent at all.

Taking a step back from the two key protagonists, CVAs also permeate other retailers and set a wider negative tone. Why should they pay a full rent, when their adjacent tenant is going cap in hand to the landlord on account of failings of their own making?

Expressed another way, why are successful retailers effectively being ‘penalised’? By way of parallel, one ‘A’-level student is gifted, works hard, passes the exams, get the grades. Another is less gifted, doesn’t bother working and fails the exams. But is still awarded the same grades by default. Hardly fair.

CVAs may be a necessary evil in retailing, but they are still deeply unsatisfactory. If they prove the turning point in a retailer’s fortunes and that retailer goes on to prosper, then fine. If they just delay the inevitable and are the first in a string of subsequent failures, then absolutely not fine.

A couple of final points. Firstly, the general public curiously seems to side with the retailer in the event of a CVA and blame ‘greedy landlords’. Few seem to realise that many of said ‘greedy landlords’ are institutions or funds.

Presumably many members of the general public own investment vehicles, such savings accounts, ISAs and pensions. Presumably, they also want to see their savings grow, one day pay off the mortgage and own the house they live in and have the means to live when they retire? Just saying…

And secondly, the creditor that often pushes a retailer into administration / CVA is HMRC. I’m not one to point the finger, but…