CVA – Another Way Forward For Distressed Retailers

by Derek Ellery and Iain McLean and Chris Noble

 Administration has been the insolvency procedure that has predominantly hit the headlines recently. However
another process – the company voluntary arrangement (a CVA) – is resurfacing as a means of rescuing a company
as a going concern. For companies who are in the retail business with multiple properties and landlords, the CVA
may offer an alternative to administration, and save more jobs in the process. Stylo, Sixty UK and JJB are companies
which have taken this alternative approach and there can be little doubt that others will follow.

In this article Derek Ellery and Iain McLean, who have been advising JJB on the Scottish law aspects of its current
CVA proposal, explain the CVA procedure and its benefits over other insolvency procedures. On the 27th April the
JJB creditors approved the CVA arrangements.

What is a CVA?
A company voluntary arrangement is a proposal made by a company to its creditors to compromise or settle its debts
in some way. If approved by 75% by value of the company’s creditors it is binding on all the creditors for so long as
the company complies with its terms. This is a flexible procedure, as there are no restrictions on what the proposals
must be in relation to settling liabilities. However, as the creditors must agree to the CVA, the directors must look to
framing a proposal which will be acceptable to creditors.

The process is usually initiated by the company approaching an insolvency practitioner who will prepare a detailed
document known as a proposal. The purpose of this proposal is to set out the financial position of the company so
that the creditors of the company can decide whether they are willing to support the CVA. Once the proposal
document has been completed it is filed at court, along with the insolvency practitioner’s report to the court and to the
creditors. The insolvency practitioner is then the ‘nominee’. Copies of the proposal and the nominee's report are then
sent to creditors, and also to the shareholders of the company, together with notices convening meeting of the
creditors and shareholders. The CVA can be for a fixed period or of open-ended duration.

Normally the nominee supervises the voluntary arrangement after it has been approved, and after the date of the
creditors and shareholders meetings is known as "the supervisor". It is the supervisor's duty to ensure that the
company acts in accordance with the terms of the proposal.
 
This ongoing supervision means that the creditor’s approval of a CVA is not the end of the process, but in some
sense the start of a new phase for the company. The supervisor and the directors will have regular meetings to
monitor the continuing trading of the company. If the company cannot meet its obligation under the CVA the
supervisor can go back to creditors to seek modifications to the proposal.

The Insolvency Act 1986 contains the statutory requirements for a CVA and applies to both Scotland and England.
However the place of incorporation of the company determines which court will supervise the CVA, so that for
Scottish companies, a CVA will be filed in the Court of Session, regardless of whether the company’s assets are in
Scotland or England.

A CVA can also be proposed in respect of a company in administration or liquidation, in which case it must be
proposed by the administrator or liquidator, rather than the company.

Why are retailers using this process?

The huge fixed cost of rental payments faced by retail chains is a particular factor affecting the ability of retailers to
trade through the downturn.  When the retailer goes into administration often the stores that are profitable are cherry
picked for sale leaving landlords of the properties that are no longer needed with vacant shops and an insolvent
tenant. 

In a CVA retailers can make proposals to keep open virtually all the retail units, but at a reduced rent and with more
flexible options for breaking or assigning the lease. The landlords in question have to balance the reduced rental
proposal against the fact their property may be one of the ones no longer required in the event of administration.  The
retailer is usually striving to achieve a better result for creditors as a whole by retaining the enlarged trading of the
group, and also protecting the employment of many more employees.
A particular benefit of the CVA is the ability to treat unsecured creditors in different ways. Other insolvency processes
require distributions to creditors to be made equally to all creditors of the same class. The CVA allows a proposal
which recognises that all the unsecured creditors are not equal in importance to a business, and the long term nature
of an obligation under a lease is different to the payment to a creditor supplying stock.

What sort of proposals can be made?

One of the benefits of the CVA route is that there are no restrictions on the proposals which can be made, other than
the practical one that the company must propose something that creditors will vote in favour of. The variety of
possibilities is demonstrated by the recent examples.

Stylo was the first major retailer to make a CVA proposal. It proposed reducing the rents on its shops to turnover
based rents, rather than fixed passing rents, whilst covenanting to keep open all properties for six months and pay
any arrears and all outgoings on the properties. There were options to break the leases. Creditors rejected the
proposal, and the company went into administration with many stores that would have stayed open under the CVA
being closed.

Sixty UK which operates Miss Sixty stores in the UK was in administration, and its administrator made a CVA
proposal, which has been approved by creditors. It had 12 retail outlets in the UK and was able to make proposals
which dealt with landlords on an individual basis based on store trading, and with limited closures.

In JJB’s current proposal properties have been categorised as being closed or to be kept open. The landlords of
those to be kept open are to be paid rent monthly rather than quarterly for 12 months. For the closed stores landlords
are to be paid outstanding rent and dilapidations plus a mitigation amount to be agreed by the supervisor of the CVA
based on a formula for loss of rent to the end of the lease, less an early receipt discount.  The proposal, which
involves both an English and a Scottish company, is two inter conditional CVAs, and will be voted on at the end of
April. Biggart Baillie are advising on the Scots law aspects of the JJB proposal.

The choice faced by creditors in considering approval of these types of arrangements is not necessarily as straight
forward as whether their lease will be continued.  Some landlords may not feel able to reduce rents if this affects their
own banking covenants. Some institutional landlords such as pension funds may consider acceptance of the proposal
may impair the value of their property assets.

Conclusion

A CVA is a flexible tool that should not be overlooked by companies in financial difficulty as a means of securing the
future survival of the company. Whilst there is no moratorium against actions by creditors, as would be the case in
administration, this has to be weighed against the flexibility of proposals which are possible under a CVA. In a CVA
the existing management are also able to carry on managing the business in accordance with the terms of the CVA,
whereas directors can no longer act when an administrator is appointed, and control of the business is lost to the
insolvency practitioner. The current challenging economic climate will undoubtedly lead to other innovative uses of
the CVA.