Homebase’s CVA- An Oddity And An Explanation

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Homebase is trying to organise a company voluntary arrangement, a CVA, in order to get out from under its rent bill. If this all sounds a bit extreme as a reaction to trading conditions there’s a good reason behind the decision and attempt. There’s also something of an oddity in the way The Observer reports on it but then that paper and business, right?

As a Homebase employee might say to a confused customer, this is not a drill. The DIY chain is approaching a crunch moment, with landlords set to vote this week on a company voluntary arrangement (CVA), designed to put the company on a sound financial footing.

CVAs have emerged as the theme of 2018 for struggling high street retail and hospitality sectors. They are designed to give businesses financial breathing space by asking landlords to agree to rent cuts, usually accompanied by the closure of some loss-making stores. In this case, that’s rather a lot of them. Around 70% of Homebase branches make a loss, according to a report in the Financial Times.

OK, yes, but what’s this?

The globe-straddling retail colossus could now benefit from the conditions it has helped to create. Amazon is reportedly keen to snap up some of the sites vacated by Homebase which, unlike town-centre retailers, owns many of its properties.

If it owns most of its properties then why such troubles with landlords? But onto the explanation, after that oddity:

The future of Homebase is hanging in the balance as a group of powerful landlords considers legal action over an attempt to slash its rents by as much as 90%.

The DIY chain has asked creditors to approve a three-year turnaround plan that would see 42 stores closed and rents cut by between 25% and 90% on 70 others.

Well, OK, we can see why landlords might not be best pleased with this. But why this entire formal arrangement of a CVA? Why not just point out economic reality to said landlords and make an agreement? That economic reality being obvious enough. Online sales are now some 16% or so of retail spending. There’s some 15% or so of commercial retail property empty. There’s an obvious enough connection between these two simple facts. Add in Ricardo on Rent and the solution is obvious. Landlords gain all of the position value of land as ever more marginal property gets used. As the process goes into reverse, as it is, they’re also the first people who should be losing income.

So, why isn’t it happening? A quirk of British property contracts. It’s not the law or anything, this is just how it has been done for decades. Upwards only rent reviews. Every so often everyone gets together to discuss what the rent should be for the next period of the contract or lease. Say, on a 25 years lease, there might be rent reviews every 3 or 5 years. Those details aren’t the important bit. What is is that in near all British leases that review can only bump the rent up. They expressly state that whatever has happened to the local property market the rent will never go down.

That’s a bit of a problem when we’ve a structural change like online shopping pushing down the value of all commercial property in the land now, isn’t it? Which is why the CVA. It’s the only method, short of outright bankruptcy, which will force those landlords to the table in order to discuss rent reductions. And thus the use of them rising as online keeps eating into retail spending.

Shrug, as online takes bricks and mortar spending then commercial property prices and rents should fall. They will, too, because that’s how markets work, markets will clear and prices will change. How difficult it all is can vary dependent upon market structure, but it will and is going to happen. Those upward only rent reviews? Well, if all insist upon them then CVAs will be used. Landlords can lower rents by agreement, can very grumpily agree in a CVA or have them forced upon them by business bankruptcy. But rents are going to get lower, we know that.

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