The recent case of K/S Victoria Street v House of Fraser (Stores Management) Limited gives some clarity about guarantees following an assignment of a lease.
In the current economic climate, landlords are more keen than ever to obtain guarantees from prospective tenant's parent companies or other group companies where they perceive that a prospective tenant may not be financially strong. The guarantees give the landlords an extra avenue for recourse in the event of tenant default.
Last year the case of Good Harvest Partnership LLP v Centaur Services Limited raised a number of uncertainties over what is and what is not permitted by way of guarantees on assignment by the relevant provisions of the Landlord and Tenant (Covenants) Act, 1995. The Court of Appeal's judgment in K/S Victoria Street v House of Fraser gives much needed clarity to several issues which have been in doubt, although it leaves several loose ends unanswered.
The Landlord and Tenant (Covenants) Act 1995 provides that, for leases granted after 1 January 1996, the tenant and its guarantor will automatically be released from all covenants under the lease upon the assignment of the lease.
The only exception is that the outgoing tenant may agree to guarantee the performance by the incoming assignee of the lease by way of an "authorised guarantee agreement" (AGA). The AGA will only last for so long as the assignee is itself the tenant under the lease. Landlords as a matter of course require that tenants give such AGAs upon assignments as a condition of the landlord giving its consent to the assignment.
The 1995 Act does not say whether the tenant's guarantor can accept similar ongoing liabilities, but it does have a comprehensive anti-avoidance clause which provides that any agreement which purports to frustrate the operation of the 1995 Act will be void.
A House of Fraser department store was sold in a sale and leaseback agreement. In order to qualify for Stamp Duty Land Tax sale and leaseback relief, the leaseback was to the original owner, which was considered to have a weak covenant strength. The agreement then provided for the lease to be assigned shortly thereafter to another group company which was an operating company more acceptable to the landlord.
The agreement required the parent company, House of Fraser plc to guarantee the performance of the lease by the tenant and the assignee.
Subsequently, House of Fraser argued that the requirement to guarantee the assignee was invalid as it was in breach of the 1995 Act and struck down by the anti-avoidance provisions as an attempt to extend the duration of the guarantor's liability.
The Court of Appeal has set out what does and doesn't work in respect of outgoing guarantors:
The Court of Appeal confirmed that the guarantor of the outgoing tenant cannot validly directly guarantee the obligations of the incoming assignee. It doesn't matter whether the landlord tries to require this guarantee in the lease or another document, or whether it is given at the landlord's insistence or is freely offered by the guarantor.
"In the current economic climate, landlords are more keen than ever to obtain guarantees from prospective tenant's parent companies... where they perceive that a prospective tenant may not be financially strong."
The Court of Appeal even suggests that an assignment by the tenant to the guarantor would be void, since it gives the guarantor liability when the act says it should have ended and is thereby on a literal interpretation arguably caught by the anti-avoidance provision of the Act. This (obiter) suggestion is not explored fully and if it were correct could cause difficulties as if a lease has been assigned by a tenant to a guarantor the assignment will be void. This is one of several loose ends remaining that suggest we have not reached the end of the saga.
There was some good news for landlords. The Court of Appeal confirmed (albeit in obiter comments) that the guarantor can guarantee the outgoing tenant's covenants in the AGA, ie, give a "guarantee of an AGA", or "GAGA" for short. There had been doubt about this since Good Harvest which had suggested that this might have been void. The decision has pleased landlords who had argued that if the landlord would only accept the original tenant when backed up with a guarantor, then why should it be forced to accept that tenant's AGA unless the guarantor stands behind that as well. This GAGA can be given in the same document as the one in which the outgoing tenant gives its
AGA (usually a licence to assign) or can be embodied in the original guarantee, or be in a new document.
On a subsequent assignment of the lease, the AGA and the GAGA will be released.
The Court of Appeal confirmed that it would be valid for the outgoing guarantor to stand as guarantor for the tenant again if an assigned lease was subsequently re-assigned by the assignee back to the tenant. Similarly, if the assignee assigned the lease on again to a different company then the original guarantor could stand as guarantor to the further assignee.
Landlords will need to consider this where a tenant wishes to undertake intra-group assignments, eg, restructurings. If the parent company has given a guarantee for the outgoing tenant, then a further guarantee from the outgoing parent company cannot be given for the incoming assignee. The original tenant can give an AGA backed up by the original guarantor's GAGA, but that will be released if a second assignment takes place. Upon the second intra-company assignment a further parent company guarantee could validly be given.
"It will be of concern to landlords that where the landlord has taken a guarantee for an incoming assignee from the same guarantor as guaranteed the outgoing tenant, the guarantee is now void."
We may well see provisions in leases dealing with intra-company assignments becoming more complex in order to deal with this, eg, the lease may specify a pool of acceptable guarantors or try to ensure that the parent company guarantor guarantees alternate tenants (eg, T1, T3, T5 ...) whilst a different acceptable guarantor has to be found for T2, T4. Will we see clauses that only permit intra-group assignments if there is a "double assignment" of the lease, firstly an assignment to a group company and secondly to the actual intended group company assignee, freshly guaranteed by the parent company guarantor, or would such a contrived arrangement be struck down by the anti-avoidance provisions of the Act? This is another loose end left unanswered.
Landlords will be pleased that GAGAs have been held to be valid. However, an AGA and a GAGA are actually less valuable to a landlord than a direct guarantee. To launch a claim against the former tenant under an AGA (or its guarantor under the GAGA) the landlord has procedural hoops to jump through, eg, first serving notice of any rents owed within a six-month timeframe.
It will be of concern to landlords that where the landlord has taken a guarantee for an incoming assignee from the same guarantor as guaranteed the outgoing tenant, the guarantee is now void. There will be situations where this has happened, particularly intra-company assignments and landlords will need to check to see if they have any void guarantees (or lease provisions to provide such guarantees) in their portfolios.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.