Real Estate Legal Update : UK Real Estate Lawyer & Attorney : Reed Smith Law Firm : Corporate Property, Planning Law

The case involved a lease granted to Tenant A whose obligations were guaranteed. When Tenant A assigned its lease to Tenant B the landlord granted consent and relied on the lease clause requiring that both Tenant A and its guarantor enter into an authorised guarantee agreement. The Court decided that when Tenant B defaulted and the landlord tried to enforce against the guarantor that it could not do so. The guarantee was held to be void because of the anti-avoidance provisions of the Landlord and Tenant (Covenants) Act 1995. Leave to appeal has been granted and we expect the appeal to be lodged.

This case has serious implications for landlords granting new leases with guarantors, to investors where covenant strength and value depend on such a guarantee and to potential buyers of those investments. Here are some initial thoughts -

Granting a new lease involving a guarantor - consider now making the guarantor a joint tenant rather than a guarantor. This will avoid the dilution of covenant strength that all too easily happens on assignment. If your tenant is taking separate leases of a number of floors think again about whether this should be a single lease deal. We have a number of options for changing the lease assignments clause and suitability depends on the market place so needs individual advice.

Assignment of a lease involving a guarantor - review any applications for consent being processed to require other security for the assignee to compensate for not being able to call on the original guarantor to guarantee the liabilities of the assignee. These cases often turn on the wording of the lease and we are working with our clients to adopt appropriate solutions to manage individual risk in a situation where tenants have number of statutory rights.

Buying an investment - check that the potential impact of this case is factored into the valuation where an AGA has been given by a guarantor.

Investors suing AGA guarantors - expect some robust defences from guarantors like the one in this case. Consider all your enforcement options.

Please contact your usual Reed Smith attorney for advice.

Certain categories of expense which may be incurred by the company after it has gone into administration, and which an administrator has to pay are known as "expenses of the administration" and the assets of the company in administration must be applied towards payment of these expenses ahead of any payment to creditors under floating charges or to unsecured creditors.

The categories of expense include "expenses properly incurred by the administrator in performing the functions in the administration" and "any necessary disbursements by the administrator in the course of the administration". These two categories of expense in fact rank ahead of the administrator's own remuneration.

In December, the Court decided that, if a leasehold property is occupied by a company in administration for the benefit of creditors, the administrator must pay the rent under the lease as an administration expense because it falls into one of the two categories mentioned above. The rent is payable whether or not the landlord demands it.

Before this case, there had been no decision about whether rent could be claimed by a landlord as an administration expense for the period following the administrator's appointment. The moratorium which arises on administration prevents landlords (and other creditors) taking action against a company in administration. This means that landlords are unable to take forfeiture proceedings to recover rent without the consent of the administrators or the permission of the Court.

In practice, many administrators were paying rent on the premises the company occupied but had a discretion about what and when to pay and since landlords were considered to rank as unsecured creditors, prospects of recovering arrears were poor even for the rent that accrued during the administration only.

In the case under discussion, the company in administration was only in occupation of a small part of the premises and argued that the liability for rent should be assessed by reference to the floor space which they were actually occupying. On the particular facts, the Court felt that the administrator should pay the full rent following evidence from the landlord's surveyor that, as long as the company remained in occupation, there was no realistic prospect of maximising the return from the premises. Clearly, this might not always be the case.

A factor which is not in the landlord’s favour is whether the assets of the company are sufficient to enable the administrator to pay the rent as it arises. If the sufficiency of the assets to meet the rent, together with other priority claims, is in doubt, the administrator will be justified in deferring payment until he leaves office. As such, landlords do not have a right to immediate payment, but they are entitled to know that the accruing rent is being treated as an administration expense with appropriate priority for as long as the company is making use of the premises and that, subject to the assets being enough, it will be paid at the end of the administration. This is not ideal but there is nothing else that can be done.

Where, as in the case decided in December, the assets are acknowledged to be sufficient to meet the rent as it arises, the administrator had no justification for not paying the rent quarterly in advance in accordance with the lease for as long as the company continued to occupy any part of the premises for the purposes of the administration.

Sadly landlords facing pre-packs will not gain from this as the process involves the new company taking occupation immediately the administration and sale have been set up. The landlord is often simply left trying to negotiate the terms of the new company’s occupation. In that situation it can be helpful to agree a surrender with the administrator and to have a direct relationship with the new company and the ability to recover something for the occupation of the property direct without involving the administrator. If that is not the case then under some pre-pack sale agreements the new company is required to pay the administrator rent and landlords so sometimes claim that successfully from the administrators.

Action Points for Landlords:

1. When you know the tenant is in administration but the premises are being traded from contact the administrator to persuade him to pay rent as an expense.

2. Where there is an asset sale of the business by the administrator to a new company who is trading from the premises put the administrator under pressure to cover the rent until a formal assignment is completed. Our experience is that sometimes this can be successful.

When formal notices have to be served, there is often a significant event that will happen as a result. It can be vital that the formalities of the clause specifying how notices are to be served are observed because as one case famously said if the clause had said that the notice had to be on blue paper it would have been no good on pink paper!

Three different statutes affect the service of notices in the property world and all of them will be overridden by any specific provisions written into the document under which the notice is to be served. The technicalities of this would not make interesting blog reading although they exercise real estate lawyers' minds when notices have to be served.

Taking the example of the break notice the well advised tenant will be asking:

• What does the lease say about how a notice is to be served? Is the specified method for service mandatory or is it just a permission to serve as specified? Old leases often specified that documents could or should be served by registered post which no longer exists. What is the appropriate method today?
•  Am I likely to have a dispute about whether notice has been validly served and if so how can I go about proving I served properly?
•  What is the up-to-date address for the landlord? If you now have an overseas landlord how can notice be served on it validly and how long will it take?
• Does the notice have to be received to be effective?
•  Will the notice be deemed to have been received even if it does not come to the attention of a specific individual by the deadline and if so how soon is it deemed to be received?
•  What deadline am I working to?

For Landlords the alarming message is that non receipt by the deadline is not necessarily the end of the story. Notices may still have been served validly even if never received, depending on how the notice is or has to be served. There is no easy solution to this for Landlords.

The current postal strikes add further complications. The News is all about the backlog of mail and fears that some of it may never be delivered. We have recent experience of a break notice sent by recorded delivery taking over a week to arrive.

Here are a few practical tips which might help when serving break or other kinds of notice:

•  Check carefully what the document says about service and if the required method is mandatory, stick to it by the letter and serve it in plenty of time - so much time that you could do it again before the deadline if something goes wrong!
• If you suspect that strict compliance with the service requirements will result in the notice not reaching the recipient by the deadline (whether because of the post strike or for other reasons) then consider ways of minimising the risk of future disputes. One approach will be to make contact by more practical means to make sure the right person knows what is happening within the deadline  e.g. serve by post if that is the required method but also deliver a copy/duplicate by hand.
• Make sure you can prove service of your notice.
•  Ask for an acknowledgement of receipt and chase for it if not given promptly.

Extra service might entail a bit of expense, time and effort but the costs are likely to be far cheaper than paying rent and other outgoings for unwanted space until the end of the term or until the next break date!

We know, of course, that this is a time where legal spend is being watched by many but not instructing your solicitor to serve notice could be a false economy.

The case in question was Somerfield Stores Limited v Spring (Sutton Coldfield) Limited. Somerfield as tenant had applied for a new lease under the 1954 Act and the landlord had objected on the grounds that it was intending to redevelop the property. The tenant made its Court application and then the landlord was put into administration.

As is usual the administration meant that ongoing court proceedings could not be progressed without the consent of the administrators or the leave of the court and this was the application for leave to continue the lease renewal application.

The only creditor likely to receive any money out of the administration was the bank as secured creditor. The preferential creditors and unsecured creditors were unlikely to be paid anything out of the administration whether or not the landlord company redeveloped the property.

There was no prospect of the landlord company being rescued as a going concern.

The administrators could not prove sufficient intention to redevelop at the time of this hearing and were likely to be unable to prove that even after a delay of six or even 12 months. It is common for landlords to use the period of time between serving the 1954 Act notice (objecting to a new lease and specifying an intention to redevelop) and the court hearing date getting evidence of their intention to redevelop and the courts have always required a clear and settled intention to redevelop to be proved. The tenant however wanted a new lease and had its own refurbishment plans it was keen to implement.

The High Court allowed the lease renewal application to progress. They said that the rights of third parties (in this case the tenant) should not be prejudiced by the administration. For the administrators to succeed the administrators would have to have shown that the prejudice to the tenant’s rights was truly necessary to achieve the administration objective and in this case it wasn’t. The tenant had a legitimate interest in having the court application heard and the court balanced that against the right of the administrators to conduct an orderly administration, the objective of the administration.

Tenants caught by their landlords insolvency may take comfort from this judgment which shows that the landlord’s administration need not necessarily frustrate their business plans.

Administrators of companies with investment properties cannot assume that the moratorium on court proceedings will give them the ability to defer any lease renewal cases indefinitely. In the absence of ‘fire sales’, we may start to see more situations where administrators and banks are holding properties and are prepared to invest in their redevelopment. If so, administrators may want to think about more imaginative solutions than simply pursuing the strategy of the landlord company, such as short term leases to existing occupiers whilst the redevelopment market picks up.

As ever the solution to each problem will depend on the detailed facts but administrators cannot have it all their own way.

It is quite usual for tenants who are taking on big commitments in terms of fitting out costs and lease rents and term, to require a covenant from their landlord not to let to a competitor. With the existence of the Land Agreements Exclusion and Revocation Order 2004 it has been assumed that such provisions are exempted by competition rules. What the supermarkets’ investigation showed was that these types of provision could be anti-competitive, depending on the relevant market. If the exemption is formally removed, land agreements will have to be assessed to ensure compliance with the Competition Act 1998. Consequently parties to quite usual pre-let agreements would have to assess whether or not their agreement was going to restrict competition, check their market share and know whether their market is affected by similar agreements.

The Government’s preferred option is to repeal the exemption and expose land agreements to the full effect of competition law. While many pre-let agreements would not have a significant impact on competition, in some markets they could have anti-competitive effects. If the exemption is removed, potential anti competitive effects will need to be taken into account when drafting such agreements. Similarly if the exemption goes, existing agreements will become vulnerable to challenge if they contain anti-competitive provisions that could have an effect in their particular markets. Some clients might want to review any vulnerable agreements now to try to maximise the chances of re-negotiating agreements before the law changes.

If the exemption is repealed the Office of Fair Trade will be required to produce guidance on how land agreements should be assessed under competition law. This Guidance would aim to help businesses assess whether or not their agreements were anti-competitive.

The consultation deadline is 4 November and it remains to be seen whether there is support for the Government’s preferred option. However given that it comes on the back of the CC’s in-depth investigation of the supermarkets and the planning process, it seems likely that the proposal will go ahead.

Anyone wanting to read the consultation in full can link to it here and anyone wanting to reply to the consultation should note that the deadline is 4 November 2009.
 

A CVA can be used by a company in financial difficulty to make an arrangement with its creditors to cover the payment of all or part of its debts. It is a powerful tool if used correctly as it can bind individual landlords and vary lease terms even where a landlord did not approve the CVA or did not know of it at the time.

A CVA can only be put in place if it has been approved following a formal process governed by the Insolvency Act 1986. Each CVA has to be approved by a simple majority of the shareholders and by 75% (or more) in value of the company’s  creditors who attend the relevant meeting and vote.  Once approved by the relevant majorities, the CVA creates a binding contract that affects all the creditors referred to in the CVA. Individual landlords can find themselves with no say over how the terms of their lease are affected. The impact on investment value can be significant.

Leases can be varied by a CVA. Rent can be reduced and the lease term can be shorted. Some leases may just be brought to an end. The landlord is bound by the changes.

The 2007 case of Prudential v Powerhouse  created the recipe for CVAs effectively releasing a parent company guarantee where its subsidiary is a tenant and is in difficulty although the CVA in that case failed because it unfairly prejudiced the landlords of stores that were closed when compared to landlords of stores that were to continue trading. As long as there is no unfair prejudice to a group of creditors, lease guarantees can effectively be removed by a CVA leading to falls in investment value.

This year we have seen a case involving the surrender of a lease following the tenant, Cotswold Company’s CVA. The landlord needed to mitigate its loss and to re-let the premises. The deed of surrender specified that the landlord could still claim for any payment due to it under the CVA even though the lease was brought to an end. If Cotswold’s landlord had not clearly reserved the right to make a full claim under the CVA then the deed of surrender would have ended the lease liabilities as normal and removed the landlord’s right to claim for loss of future rent.

All landlords need to consider the terms of any CVA presented to them very carefully to see what claims they may make and to vote accordingly. Some unfortunate CVA wording about future liabilities under any leases may have unfortunate consequences.

Kwik-Fit has tested this in the past year in both England and Scotland, and the result was the same.  In the case heard by the English High Court Heronslea (Mill Hill) Ltd v Kwik Fit Properties ltd, the Kwik-Fit unit had been a petrol filling station at one time, so the potential for soil contamination was high.  The landlord wanted to drill 13 boreholes to a depth of five metres and one 20-metre deep borehole.  The potential for disruption was high so Kwik-Fit refused access.

The lease granted in 2000 reserved for the landlord a right to enter onto the premises to inspect and make surveys and drawings.  The landlord hoped this would cover its intrusive environmental survey.  The High Court held that it could not, saying:

• No reasonable person would have thought that a right granted in the year 2000 to enter to survey would have expected that to cover the drilling of boreholes and taking of samples
• The ordinary meaning of a right to enter ‘on’ to property to ‘survey’ dating back to 2000 did not include a survey of what was under property
• The tenant had a right to quiet enjoyment, which the investigations would disrupt

Given the significant due diligence now required when potentially contaminated land is sold or financed, landlords of land that may be contaminated need to think ahead.  Do they want to keep quiet when granting a lease and hope that the usual tenant covenants cover any liability for historic contamination; or do they want to raise the issue and reserve the right to carry out environmental investigations?  If they do that, they will have to expect the tenant to exclude liability for historic contamination.

In our opinion, it is appropriate for landlords to reserve rights and consider all the issues at the outset.  Hoping that contamination is covered by implied lease terms may be simplistic and might lead to trouble if a tenant cannot pay the costs in any event.

Tenants of leases drafted some time ago may receive requests from their landlords to allow them onto the property to investigate, but do not have to consent unless they have a very unusual lease covering the point.  Tenants may be able to use this as a bargaining chip.  They certainly should require the work to be undertaken in line with a pre-agreed method statement containing provisions to minimise disruption, consider requiring a rent cesser, and obtain an indemnity from their landlord for loss or damage suffered as a result of the investigation.  They may want an exclusion for any historic contamination discovered there (unless they caused it).

Landlords facing a refinancing requirement to produce environmental investigations before a loan can be made, may have some difficult negotiations either with the lender or the tenant.

First of all, the case: Ansari v New India Assurance Ltd. The facts are unlikely to be repeated, but a less extreme set of facts could cause a similar problem.

• The building owner took out insurance declaring that the building had a sprinkler system
• The occupier turned the sprinkler system off to avoid water damage to his goods, and ‘fixed it’ by jamming a filing cabinet under the control handle so it could not be turned back on
• The water supply to the building was later cut off
• The owner saw the building at regular intervals
• The use of the building changed from the storage of kitchenware to mini-motorbikes without the insurers being made aware
• The building was damaged by fire
• The owner claimed on the insurance
• The insurers rejected the claim and cancelled the policy
• The Court of Appeal agreed with the insurers. The owner was not entitled to any compensation for the fire damage.

As ever with insurance, the insurer has to be provided with all material facts that might influence its decision to insure or the amount of the premium. There was a clause in the insurance policy obliging the owner to notify the insurer of any change to the facts stated in the proposal form, and to give notice to the insurer if it became aware of any act or neglect that increased the risk of destruction or damage.

The owner did not notify the insurers about the new use or the non-functioning sprinkler system.

How is this relevant to well-organised property investors in this market? Insurance contracts containing these clauses are common. Sadly, we are seeing an increase in the number of tenants vacating premises as businesses go under in this economic climate. Sometimes the leases are brought to an end in an orderly way, but often there is a legally untidy situation where no tenant occupies or pays the rent, but the landlord is not in control of the premises. Landlords would need to notify the insurers that the property had been vacated, as this could increase the risk of damage to the building by trespassers.

How many landlords are checking that no other material changes need to be notified once premises are vacant, like the disconnection of a water supply to a sprinkler system by a tenant who has failed to pay its water bills (as well as the rent)?

Agents inspecting properties on behalf of landlords need to provide their clients with clear reports of any issues that need reporting to the insurers. Investors need to ensure that they know enough to do this.

Where leases remain, even though the tenant is not in occupation, the landlord may think it can rely on the lease clause requiring the tenant to notify them of anything that could invalidate the insurance. But the tenant may be away from the property for a long time, may not know themselves, and ultimately may not be worth suing for any loss that their landlord suffers if the insurer fails to pay out.

So landlords:

• Do make sure the tenants you have know what they need to notify you about to keep the building insured
• Brief your agents to notify you of any concerns they have following inspections
• If in doubt, notify the insurers of what you think might be a material change in circumstances