Retail CVAs - an M&A Opportunity
Throughout the length and breadth of the UK, chains of retailers have been closing their doors and making swathes of redundancies as part of these CVAs, many of which fail to ever result in the business recovering.
In fact, more than half of the retail CVAs out in place since this procedure was introduced in the mid 1980s have failed to lead to the retailer escaping eventual collapse. Some argue that the fact that CVAs allow the existing (and often flawed) management team to remain in place is the problem.
So why are they still such a popular option for struggling retailers and does buying a business from a CVA present opportunities?
A Company Voluntary Arrangement (CVA) is a legally binding agreement struck with a company’s creditors to allow it to pay back all or some of its debts over an agreed period of time, usually 3 - 5 years. A company can’t just decide to enter into a CVA - it must be approved by 75 per cent (by value) of voting creditors.
The popularity of the CVA
Since 2016, the number of CVAs being struck by retailers has doubled, according to figures from PwC. Big names like Mothercare, Carpetright, Jamie’s Italian and Homebase have all opted for the CVA route in recent times. These are household names that were once the mainstay of our town centres, but a deadly combination of right rents and business rates, lower footfall and rising online shopping have led many of these retailers to fail.
The retail industry has long-been one that operates on relatively low margins and any variation in either consumer behaviour or overhead costs can result in chains collapsing. The CVA has become the most obvious solution for most, as a result.
Why are CVAs popular with retailers?
Crucially, CVAs are insolvency proceedings that allow retailers to renegotiate their debts with their creditors. Retailers are homing in on their commercial landlords for a better deal as they are aware that these landlords risk sitting on huge empty lots if they fail to reduce rents and help their tenants survive. In this climate of online shopping and low margins, it’s not as if there are lines of retailers queueing up to jump into vacant stores as soon as they become available.
Having said that, there has recently been talk of retail landlords wanting to fight back against the impact that the rise in the CVA has had on their own profits. Shopping centre owner, Intu, was considering declining the June 2019 offer from Arcadia Group’s Philip Green to throw in a £9.5m sweetener in exchange for approving a round of CVA his team had drawn up.
To proceed, a CVA needs to be approved by at least 50 per cent of the landlords affected and 75 per cent of creditors, more generally. In the run up to the Arcadia Group vote, it looked like Green might have to throw in the towel once and for all when Intu threatened to vote against the deal.
However, despite the wavering, there was enough support for the CVA, largely from another influential landlord in the vote, Land Securities.
The opportunities for business buyers
Now this is where it gets interesting. It’s fairly evident that a large number of retailers are currently operating on very slim margins. And as the margins are so slim, it doesn’t take much for a retailer to tip over the edge into insolvency.
Savvy entrepreneurs are looking at opportunities for investment in retailers who are verging on insolvency. A retail business that is not making any trading profits is not likely to command any goodwill premium.
Based on its forecast cashflows, its net present value could well be close to zero.
Buying a retail business in this situation is certainly an opportunity if the buyer immediately presents a CVA that forces the hand of the landlords who are partly responsible for the low margins the retailer is being forced to operate on. If landlords are predictably agreeing to heavily discounted rents to protect themselves from the loss of tenants, then the buyers could find themselves with significantly lower fixed costs as soon as the CVA is agreed. With the added impact of other cost-cutting and revenue-enhancing turnaround tactics, the retail business in question is likely to once again trade profitably, with the end-game being a subsequent resale at an appropriate earnings multiple.
Some industry insiders believe that the closure of department stores could lead to smaller brands looking to move out of the large stores and onto the high street. Tim Vallance, Director and Head of UK Retail & Leisure at JLL, argued: “While retail landlords rethink their strategies, the high street may also benefit longer-term. Without the vessel of a department store, more brands will be looking for space on the high street”.
Conclusion
It’s fair to say that the news that news that Arcadia Group’s landlords had agreed to the terms of the CVA, allowing many sites of stay open, will be celebrated in the retail industry as a whole. Landlords, alongside consumers and retail employees, are bearing the brunt of the changing shopping behaviour and it remains the case that any tenant is better than no tenant at all.
For entrepreneurs with turnaround expertise, a retail CVA is looking like a reliable bet when searching for an opportunity - and if the result is a profitable store returned to its former glory by some much-needed turnaround expertise, then maybe this is a perfectly viable option.
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