APPENDIX 1
Memorandum by The Asssociation of Licensed
Multiple Retailers
INTRODUCTION
1. The Association of Licensed Multiple
Retailers (ALMR) welcomes the opportunity to submit written evidence
as part of the above inquiry. It is important to note that our
members reflect not only a diverse range of commercial perspectives
but also different operating styles. In the context of this inquiry
it is relevant to note that the lessor/lessee relationship exists
between members of the Association. Our response therefore seeks
to balance these views and provide an objective factual overview
of the industry. As the only national trade body dedicated solely
to representing the needs and concerns of licensed retailers,
the Association is well placed to provide this.
2. By way of background, the ALMR was formed
in 1992 specifically to represent the interests of those companies
which own or operate multiple estates. Currently 93 companies
are in membership, between them operating in excess of 27,500
outlets or just under half the UK pub estate. As well as pubs
and bars, our members also operate restaurants, clubs and café
bars
3. Members include major pub companies such
as Punch, Unique and Enterprise, retail pub chains such as Regent
Inns and Laurel and the retail estate of regional brewers—which
tend to maintain traditional, short-term tenancy agreements. However,
over two-thirds of our membership is derived from small independent
companies operating 50 pubs or fewer under their own branding.
These companies are neither brewer nor individual tenant but rather
Multiple Lessees—directly managing their own operations
but leasing the outlets from a range of property owners.
MARKET OVERVIEW
4. For the purposes of this submission we
have defined pubcos as companies with no brewing dimension who
own their own properties but issue leases to individuals or multiple
companies to operate them. The largest of these companies appear
to be the focus of the current inquiry, but it should be noted
that there are a large number of smaller pub-owning companies
who operate the same model. Retail Pub Chains are exclusively
managed operations whose property is either freehold or free of
tie lease. Managed pubs are operated by employees or agents of
the pub owner. Tenanted or leased pubs are operated by individuals
or companies (Multiple Lessees) not related to the pub owner.
5. Over the past decade and a half, the
total number of outlets in the UK has remained largely stable,
but the nature of pub ownership has changed dramatically. The
introduction of the Beer Orders in 1989 was a catalyst for unprecedented
and unexpected change not only in the brewing industry but also
the licensed retail sector. At the time the Beer Orders were introduced,
the national brewers owned over half of all UK pubs and the share
of the independent sector was negligible. This situation has been
dramatically reversed, with very many national brewers exiting
pub retailing and the market share of independent operators more
than trebling (see table 1).
6. This growth is accounted for predominantly
by the independent multiples, and principally the pubcos, but
also the Multiple Lessees holding pubco leases. These companies
have flourished under the new regulatory regime, usually through
purchasing the excess estate of the major brewers.
Table 1
OWNERSHIP OF UK PUBS
|
| Type of operator | 1989
| January 2002 | January 2004
| 4% change
1989-2004
|
|
| INDEPENDENTS | |
| | |
| tenanted/leased | neg
| 22,523 | 23,857
| |
| managed | neg
| 10,657 | 10,268
| |
| single outlets | 16,000
| 17,130 | 16,850
| |
| SUB-TOTAL | 16,000
| 50,310 | 50,975
| 218.5 |
| REGIONAL BREWER | |
| | |
| tenanted | 9,000
| 5,495 | 5,972
| |
| managed | 3,000
| 3,176 | 2,617
| |
| SUB-TOTAL | 12,000
| 8,671 | 8,589
| -28.5 |
| NATIONAL BREWER | |
| | |
| tenanted/leased | 22,000
| 1,110 | 0
| |
| managed | 10,000
| 1,400 | 0
| |
| SUB-TOTAL | 32,000
| 2,510 | 0
| -100 |
| TOTAL | 60,000
| 61,491 | 59,564
| |
|
Source: ALMR members and Quantum Business Media.
7. At the same time, the nature of the retail on-trade
market has become significantly more differentiated, with pubs
increasingly competing alongside clubs, bars, restaurants and
hybrid outlets. This trend will only increase with the implementation
of the 2003 Licensing Act. From a customer's view point, this
has resulted in the emergence of new, innovative venues and a
much more dynamic and segmented market place than existed before.
8. The 2000 review of the Beer Orders carried out by
the OFT concluded that the overall entertainment experience, rather
than just the presence and price of different types of beer, is
now far more important to those visiting pubs. As a result, the
retail pub market now competes more strongly on the level and
type of amenity rather than on price which it did pre-Beer Orders.
It is the change in ownership within the sector which has indirectly
prompted this—it has allowed independent entrepreneurs to
create a niche, to thrive and to develop their business by taking
on multiple leases from a variety of property owners.
NATURE OF
PUB OWNERSHIP
9. Consolidation in the UK brewing and pub retailing
sectors has resulted in a concentration of outlets in the hands
of a small number of players. Around a third of all pubs in the
UK are owned by four major pub retailers—none of these has
ownership of or connection to any brewing capacity nor do they
operate vertically integrated business. Indeed, less than 15%
of the UK pub estate is now owned by brewers.
Table 2
PUBLICAN STATS ON PUB OWNERSHIP (APRIL 2004)
|
| Company | Total Outlets
| Market Share |
|
| Enterprise and Unique (subject to regulatory clearance)
| 9,093 | 15.3%
|
| Punch | 7,400
| 12.4% |
| Spirit | 2,470
| 4.1% |
| Mitchells and Butler | 2,077
| 3.5% |
| Greene King | 1,684
| 2.8% |
| Wolverhampton and Dudley | 1,605
| 2.7% |
| S&N Pub Enterprises | 1,119
| 1.9% |
| Innspired Pub Company | 1,066
| 1.8% |
|
10. However, this is a concentration of ownership rather
than operation. The growth in the pubco estates in particular
has enabled a large number of small, entrepreneurial multiple
lessees—independent retail pub chains—to develop by
providing new access to a wider range of premises. It is estimated
that there are now 65 companies with an estate of 30 or more pubs
which have no connection with brewing. Concentration of pub-ownership
is expected to continue in the future, as retail pub chains seek
to rationalise cost and maximise buying power.
11. The OFT's review of the Beer Orders in 2000 noted
that the emergence of the pubcos and their growing market power
provided real competition to the brewers and had had a positive
effect on competition within the market as a whole.
LEASING ARRANGEMENTS
12. Around a third of UK pubs and bars are operated under
lease from a brewery or pub company. The lessor retains ownership
of the premises and provides both it and the business as a going
concern in return for rent and often purchasing obligations. It
is the nature of this agreement which is the subject of the current
inquiry.
13. During the 1990s, two distinct models of leasing
arrangements were refined: the traditional short-term tenancy
agreement developed historically by the national brewers and still
favoured by many of the regional brewers; and, the long lease
developed initially by Inntreprenneur and adapted by the pubcos.
The difference between the two was essentially the length of the
term and the degree of involvement of the property owner in the
repair obligations of the outlet. Longer leases also have the
benefit of accruing value to the tenant enabling it to be assigned
or used as a means of raising finance for further investment or
expansion.
14. In today's marketplace, the type of leasing arrangement
available is as diverse as the range of outlets operating. A variety
of terms are offered not only by different pub owning companies
but within the pubcos themselves. Flexible and varied terms are
available and the ability to negotiate bespoke agreements is considerable—short
or long term, and with various degree of tie depending on the
nature of the agreement and the rental value paid. There is arguably
now a wider choice of types of pub, landlord and tenancy agreement—but
obviously this flexibility is reflected in the cost of the agreement.
15. The ALMR recently conducted a survey of its members
looking at the nature of pub leasing arrangements as part of its
submission to Government on the introduction of Stamp Duty Land
Tax in the autumn of 2003. The survey was circulated to multiple
lessees and respondents were asked for information about their
shortest, longest and average length of lease as well as rental
values. The terms ranged from one to 999 years and a whole variety
in between, with the typical lease terms being between 15-30 years.
The lowest rent payable was £25,000 per annum with the highest
being £155,000 in central London, with an average of £60,000.
This is somewhat high for the pub trade as a whole, but is consistent
with a sample of multiple lessees. An average annual rent of £35,000
is more common for singleton lessees of pubcos.
16. The same survey went on to ask respondents why they
had chosen to lease in the first instance. The overwhelming reason
was because they were unable to buy the freehold—either
because it was not available or it was too costly to do so. The
second reason was a preference not to tie up capital in property
but to have it available for investment in the business—refurbishments
or improvements to the outlet—and also for expansion.
17. The pub leasing model is by no means perfect and
the terms of reference of the current inquiry highlight some of
the issues of greatest controversy and debate—the price
at which beer is bought and sold, profit margins and rental values.
On the one hand, tenants resist direct costs and constraints and,
on the other, the landlord needs adequate compensation to reflect
the nature and level of risk taken on as a property owner.
18. What is beyond doubt is that the business model for
leases has to work for both parties—without stable and successful
lessees the pubcos arguably have no business. The ALMR
has sought to provide a factual commentary on these matters: where
different viewpoints are expressed these have been recorded, but
the ALMR has not sought to draw any specific recommendations,
nor should the inclusion of any point be taken as expressing a
collective industry position.
EXCLUSIVE PURCHASING
OBLIGATIONS
19. Tenancy and leasehold agreements still invariably
contain a clause that restricts the tenant or leaseholder to buying
their beer and other drinks from the pub-owning company or its
nominated supplier. In general, the tied portfolio offered through
brewers and pubcos has widened since the introduction of the Beer
Orders.
20. pubcos buy their total beer requirements centrally
and either sell it direct through their managed outlets or on
to their tenants at a mark-up. Most of the agreements between
national brewers and pubcos are long-term supply agreements, and
most national brewers continue to supply their divested estates
through agreements with the new owners. These agreements however
tend not to be exclusive: pubcos multi-source their product portfolio.
As a result, tied pub company tenants typically have access to
a wider range of products than the average brewer tenant. Nevertheless,
many lessees would undoubtedly welcome a yet wider choice and
a less restrictive tie.
21. These arrangements have been considered at some length
by European and UK competition authorities. It is worth noting
in this context that whilst the European Commission concluded
that whilst all the major brewers' agreements were found to be
in breach of Article 81 of the European Treaty—that is they
restricted competition—the same Article was found not to
apply to any of the non-brewery pubco agreements with single or
multiple lessees: that is they were not, in themselves, anti-competitive.
This is largely because they do not involve any degree of vertical
integration. Notwithstanding that, even the major brewers' agreements
were eligible for exemption because of the countervailing benefits
they were deemed to provide to lessees.
BEER PRICING
22. Centralised beer purchasing allows pubcos to maximise
the wholesale discounts they receive and thereby sustain a separate
profit stream over and above rental income to offset levels of
capital expenditure and market capitalisation costs. The pubcos
argue that they need critical mass in order to negotiate attractive
supply prices for their lessees, and this has, in no small part,
driven recent retail consolidation. pubcos reserve their right
to keep the commercial secret of their own purchasing arrangements
but nevertheless some concern has been expressed at the level
of mark-up retained by them when the beer is sold on to lessees.
Whilst they operate discount and/or incentive schemes, these often
do not match the opportunities available to free-of-tie lessees.
23. It is difficult, however, to assess the question
of beer prices, wholesale or retail, in isolation. They are part
and parcel of the overall lease agreement and the price at which
tied product is sold often reflects the flexibility of other terms.
There is a fine balance to be achieved between wholesale profits
and rents. In some cases, the discount is used to maintain rents
at a lower level, particularly amongst the tied estate of the
regional brewers, and to fund investment in premises. This has
been acknowledged by the OFT. Any requirement to pass on the greater
discounts would inevitably lead to commensurate changes in rent
and thus higher fixed costs.
24. The OFT's review of the Beer Orders in 2000 found
that increased independence and buyer power at the retail level
had forced a reduction in average net wholesale prices of beer
of some 15% in real terms between January 1992 and 2000, largely
as a result of the increased discounts given by brewers to retail
pub chains—something they felt had had a positive effect
on competition within the market. This fall had not translated
into retail prices, however, which had risen over the same period
by just over 4.2%. It concluded that the discrepancy was primarily
accounted for by the increase in the gross margins applied by
retail outlets to draught beer to offset higher running costs
eg. direct and indirect wage costs, government imposed red tape
and legislative burdens and the ongoing programme of investment
in outlets. In the case of the pubcos, higher profits may be required
to offset the capital invested in the estate and to make a reasonable
return on the securitised business model.
25. It should also be noted in this context that under
UK Competition law high prices and profits are not in themselves
anti-competitive. Concerns arise only where key players within
an industry are able to exploit their dominant position so as
to earn supra-normal profits or otherwise distort competition.
It was this situation that the Beer Orders were designed to rectify
and recent scrutiny of mergers within the retail sector has not
concluded that there is similar cause for concern in the current
market place.
26. The Beer Orders required the publication of the brewers'
wholesale price lists. This requirement remains in place despite
the decision to revoke the Beer Orders. The obligation only provides
information on the price at which beer is normally sold at the
wholesale level. It does not indicate the price at which it is
actually bought and sold on. It does not apply to the pubcos in
their intermediate role as the exclusive supplier (by virtue of
the lease agreement) of product to the lessees.
27. There is now far less transparency surrounding the
nature of product discounts obtained by pubcos and the degree
to which they are passed on to their lessees. Lessees are obliged
to purchase product from the listed producers and at a price advised
by the pubco. These prices may be tempered by incentives and perhaps
by negotiation, but nevertheless lessees often find it difficult
to ascertain with any accuracy what is the real wholesale price,
much less to compare wholesale prices between different agreements
and thereby work out the "value equation" that balances
the rent, the wholesale prices and any countervailing benefit.
Greater transparency in this area would undoubtedly be welcomed
by lessees, but pubcos and regional brewers would equally expect
to preserve the commercial confidentiality of their deals with
suppliers.
RENTS
28. The basis on which annual rents are set is the subject
of a complex formula taking into account market and trading conditions,
the degree of flexibility in the other terms of the lease, the
nature and extent of the tie and the degree of risk being undertaken
by both parties. Principally, however, rents are related directly
to the anticipated trading levels expected from a particular outlet
and the net margins the lessee is likely to be able to achieve.
29. This is an imprecise science, but pubcos are increasingly
willing to enter into detailed negotiations, to consider additional
factors and to review rents accordingly. Examples of existing
best practice include removal of upward only rent review clauses,
use of review panels and arbitration, as well as concessions for
struggling tenants. These are not yet widespread and scope exists
for wider use and the development of benchmark arrangements. It
is also incumbent upon tenants to take responsibility for ensuring
that the agreement they freely enter into is fair and meets their
needs. A recent survey quoted by Deutsche Bank highlighted that
40% of new lessees fail to take independent advice before committing
to a lease arrangement. But the price for this flexibility is
a higher initial annual rent or further restrictions on the lease.
30. The same is true of any commercial or business agreement
and disagreements about the level of rent and the issues to be
taken into account in its setting are common. We note that this
matter is already subject to a Code of Practice which is now under
review by the Office of the Deputy Prime Minister. We believe
that this broad-ranging public consultation is the most appropriate
means of airing and dealing with these concerns rather than on
a sectoral basis.
CONCLUSION
31. The Beer Orders resulted in major restructuring within
the pub and brewing industry and served to define the parameters
within which the licensed retail industry has developed over the
past decade and a half. Acting as a catalyst, they arguably (but
unintentionally) allowed smaller, independent multiple businesses
to develop and thrive, not least as a result of the emergence
of pubcos. In particular they have transformed the nature of pub
visiting for consumers, offering better amenity, a better quality
of service and a broader-based appeal.
32. The ramifications of this are still being worked
through in a commercial sense and we do not, therefore, believe
that further wholesale restructuring of the industry or formal
scrutiny of the sector is required to secure effective competition.
Just as with the Beer Orders, the Association believes that there
would be unexpected and unsatisfactory outcomes that would destroy
confidence and disrupt an industry that is still in a state of
flux. Moreover, in an industry which continues to function through
small business units, it is the imposition of new legislative
and regulatory burdens which impact on the competitive position
of tenants, and indeed all companies within the sector, far more
than the competitive structure of the industry.
33. The pub leasing model is by no means perfect and
there will always be tensions inherent in this relationship as
both sides seek to extract the maximum value and to obtain minimum
risk to themselves from the arrangement. The key is achieving
an acceptable balance to enable all sides to achieve commercial
success. The different priorities are not necessarily mutually
exclusive and can, with goodwill, be aired and resolved within
the industry.
June 2004
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