Decision

Award Summary – October 2019 - 2

Published 11 June 2021

Applies to England and Wales

Award Issued: 2019

Publisher’s Note: The Pubs Code Adjudicator encourages openness and transparency in the operation of the Pubs Code etc. Regulations 2016. Publication of awards made in Pubs Code arbitrations, or summaries of those awards, enables the industry to better understand previous decisions and consider how the Pubs Code is being applied in individual cases. Neither the Pubs Code Adjudicator nor an arbitrator is bound to follow published awards in applying the law, but such awards can be used to support the industry’s consideration of the proper interpretation of the Pubs Code. Parties are encouraged to take independent professional advice about their situation.

The outcome of an arbitration is based on its own facts and the evidence produced in the case and is not binding in other cases where the landlord and tenant are not the same. The Pubs Code Adjudicator does expect a regulated pub-owning business to consider its understanding of the law in light of each award that makes a finding on the interpretation of the statutory framework and to adjust its behaviour towards tenants as appropriate. The publication of an arbitration award or an award summary does not mean the Pubs Code Adjudicator endorses the decision and it does not form legal advice about any issue.

This summary is provided to assist in understanding the arbitration decision. It does not form part of the decision or reasons for the decision.

1. Summary of the findings

The arbitrator found for the pub owning business (“POB”) in relation to both (1) the widening of the user cause to an A3/A4 use as well as (2) the alteration of the rent payment period from monthly in advance to quarterly in advance.

2. Factual background

The tied pub tenant (“TPT”) made a referral to the Pubs Code Adjudicator in February 2018 for a Market Rent Only (“MRO”) free of tie tenancy pursuant to regulation 32(2) of the Pubs Code etc. Regulations 2016 (“the Pubs Code”) alleging that the proposed MRO tenancy was not compliant. With the consent of the parties, the arbitrator exercised their discretion to approve the instruction of an expert pursuant to article 29 of the rules of the Chartered Institute of Arbitrators and section 37 of the Arbitration Act 1996 in relation to whether the terms in the revised response were compliant. The expert report was prepared in August 2019.

3. Issues in dispute

The TPT argued that the POB had not provided a full response in accordance with regulation 29(3)-(6) of the Pubs Code as the tenancy was not MRO compliant. The TPT’s claim was that the proposed tenancy sought to vary the terms of the lease to a greater extent than was necessary, and because the POB had not provided good enough reasons for the proposed variations. The TPT also argued in the alternative that the terms in issue were not ‘common terms’ in free of tie tenancy agreements, contrary to regulation 31(2)(c) of the Pubs Code.

The issues in dispute were:

• Widening the permitted user clause to A3/A4 use; and

• Altering the rent payment period from monthly in advance to quarterly in advance.

4. The parties’ submissions

The TPT objected to the proposed clause which defined the permitted use in wider terms than those required by the TPT and which the TPT considered was likely to increase the rent payable under the lease.

The POB argued that the distinction between an A3 and A4 or mixed use between restaurants and pubs had become blurred over time. Moreover, the POB argued that the proposed use change would not affect the MRO setting and, in any event, the TPT’s website made it difficult to distinguish whether they were a pub or a restaurant.

The second proposed clause the TPT objected to defined the rent payment days as quarterly in advance whereas under the previous lease, rent was payable monthly in advance. The TPT argued that they would be worse off in moving to a quarterly in advance payment schedule as it would adversely affect their working capital. The TPT also argued that whether or not other tenants had accepted such payment terms was insufficient reason to dictate that the TPT should pay quarterly in advance merely because they sought a release from their tie.

The POB argued that quarterly in advance payment schedules are to be found in most free of tie leases. The POB submitted a spreadsheet with data from three large pub-owning businesses which showed the free of tie leases granted in the preceding year, and that most of them stipulated that rent was payable quarterly in advance. The POB also argued that monthly in advance payment schedules were far less common, with only 8 of the 37 example leases having such provisions, and that those leases were largely one-off agreements which were unlikely to be repeated. The POB believed that quarterly in advance payment schedules were common in free of tie leases because they avoided the need for a greater level of monitoring and chasing.

5. The expert’s conclusions

The expert was instructed to consider the two issues in dispute.

In relation to the first issue, the expert explained that under the Use Classes Order 1987 as amended, class A3 consists of one use, namely premises which are to sell food and drink either to be consumed on site or off site, whereas class A4 relates to drinking establishments such as public houses, wine bars etc. The expert concluded that the use of this property was to sell food and drink and also to let bedrooms, and that the proposed change did not alter what was originally permitted.

In relation to whether the change of use to A3/A4 would affect the value of rent and the reversion, the expert noted that the TPT’s concern was that the rent would increase because the proposed user clause was wider. The expert observed that while public houses (A4) are valued on a profits method approach, restaurants (A3) are generally valued on a floor area approach. The expert stated that the pub’s dominant use was a public house that also served food and provided accommodation as an ancillary service. The expert noted that pubs with significantly higher proportion of food sales still trade under A4 and that there are many examples of restaurants operating within public houses. Although extending the use to A3 could in certain circumstances lead to an uplift in rental value because an A3 corporate restaurant operator may bid more than a pub operator, the expert concluded that he would not expect the extended user clause to affect the value of rent or reversion in respect of the pub in this case.

The TPT’s business was described as a privately owned pub, restaurant and hotel. The expert concluded that the nature and location of the property and the changing market were conductive to the proposed change in the user clause.

In relation to the rent payment frequency, the expert stated that it was common practice under long-term leases to pay rent quarterly in advance, which had been the case since 1996 when the first free of tie sale and leaseback transactions entered the pub sector. The expert conceded that more recently the free of tie agreements, where the properties were smaller and business trade was at lower levels, included monthly in advance payment schedules which were practical for tenants wishing to avoid cash flow issues. Nevertheless, the expert concluded that quarterly rent payments were common.

6. The arbitrator’s findings

The arbitrator was persuaded by the expert’s conclusions and in relation to the widening of the permitted use to A3/A4, the arbitrator found that the TPT would not be worse off because of the proposed change to the user clause. The arbitrator found for the POB and upheld the widening of the user clause within the Deed of Variation.

In relation to the rent payment frequency, whilst the arbitrator noted the TPT’s point that rent payable quarterly in advance may adversely affect the TPT’s working capital, the arbitrator also observed that no evidence was provided showing the TPT would in fact be worse off. The arbitrator was not persuaded by the TPT’s argument that considering comparable evidence on a new letting or renewal was insufficient reason to dictate that the TPT should not become worse off.

The arbitrator was persuaded by the POB’s arguments. The POB provided numerous examples of free of tie leases where rent was payable quarterly in advance and argued that the fundamental purpose of the drafting of commercial leases was to make them suitable as financial instruments where common terms follow the requirements of investors for clarity, security and operational efficiency. The arbitrator was also persuaded by the expert’s conclusion that quarterly rent payments were common. Therefore, the arbitrator found for the POB and directed that the Deed of Variation would include the alteration of the rent payment period from monthly in advance to quarterly in advance.