Earlier this year the English High Court considered the issue of rent and administration expenses (for more information on the decision in Goldacre (Offices) Limited v Nortel Networks UK Limited, please click here). This decision involved an interpretation of rule 2.67 of the Insolvency Rules 1986 which only apply in administrations of companies incorporated in England and Wales. Given that the Scottish rules are worded differently, and given the criticism of the Nortel decision in England, there has been some uncertainty as to the position in relation to Scottish companies.
In Cheshire West and Chester Borough Council v Springfield Retail Limited (in Administration) the Scottish courts considered for the first time the question of rent and administration expenses.
The application was brought by the owner of an English property that had been let to Springfield Retail Limited. Springfield had gone into administration in March 2008. The administrators initially traded the business from the property, and had paid rent in respect of the period during which they occupied it. In May 2008 the administrators sold the business and assets of Springfield.
As part of the sale arrangements the purchaser was to receive a licence to occupy the property for a period of 6 months. Under the licence, the purchaser was to pay rent to the landlord of the property directly. Due to oversight, the licence was never executed.
Following completion of the business sale, the administrators wrote to the landlord advising that the licence had been entered into, and that the purchaser would be responsible for the payment of rent and would be looking for consent to assignment to it. The landlord wrote to the administrators requesting further information in relation to the purchaser. No response was provided. The purchaser failed to make any rental payments to the landlord. When the licence came to an end in November 2008, the administrators notified the landlord that the licence had terminated and recommended that the landlord take immediate steps to recover possession. The purchaser continued to trade from the property until April 2009. In May 2009 the landlord changed the locks, thereby terminating the lease.
The landlord raised an action against the administrators alleging that they had caused it unfair harm, and sought an order for payment of the rent for the period between May 2008 and May 2009 as an administration expense.
The court decided the rent in respect of the period between May 2008 (when the purchaser starting to occupy the property) and November 2008 (when the licence the terminated) should be paid as an administration expense. It was conceded by the landlord that rent falling due after the end of the licence period would not be treated as an expense. Accordingly, the Court did not have to make a decision on this point.
The court was heavily influenced by the reasoning of the English High Court in Nortel. In particular, it agreed that the decision as to what is or is not an administration expense is not at the discretion of the court, but should be the result of the proper application of the Insolvency (Scotland) Rules 1986. It also agreed that the "Lundy Granite" liquidation expenses principle should apply in administration. This principle provides that, where property is used for the benefit of a liquidation, pre-liquidation liabilities that accrue during the period of that use (such as the requirement to pay rent) should be paid as liquidation expenses.
The Court decided that occupation by a third party under a licence to occupy granted by an administrator will constitute use of the property for the benefit of the administration (and so engages the "Lundy Granite" principle).
The decision in the Springfield case appears to bring the position in Scotland into line with the current position in England and Wales, with all of the difficulties that that brings. Two issues arise in particular.
When rent is an administration expense.
The court did not specifically address the question of whether the full amount of a rent payment which becomes payable during the use of the property is an administration expense, notwithstanding that the property is only occuped for part of the period to which that payment relates.
The fact that the order was made only in relation to the period of occupation might suggest that the it is only the portion of rental relating the period of occupation that should be treated as an administration expense. However, given that (i) the period of the licence in this case seem very similar to the Scottish quarter dates, the dates on which rental payments normally fall due, and (ii) the Court expressly approved the reasoning in Nortel, it would be prudent for an administrator to assume that it is the full amount of rent which becomes payable when calculating the costs associated with occupation.
Licences to occupy.
It is often essential to grant licences to occupy in order to obtain the full value from the sale of the business of a company in administration. It is therefore unlikely that administrators will cease to give them.
Administrators will, however, now have to consider licences to occupy even more carefully. Licences on terms that provide for the purchaser not to pay any rent or other amounts under the lease which fall due during the period of the purchaser's occupation are now highly unlikely to be given. Administrators may also be more likely to require that lease payments that will become due during the period of occupation should be paid to them up front by the purchaser at the time of the sale or that escrow arrangements should be set up.
To ensure that any potential unfunded claim of landlords for administration expenses is kept to a minimum, the length of any licence and the methods by which the purchaser can be ejected from the property if the required payments are not made will also need to be considered.