Pub Companies - Business and Enterprise Committee Contents

Memorandum submitted by Karl Harrison


  1.  I have been a licensee in the London area since 1992 and have been involved in the successful ownership and operation around 25 bars, pubs, restaurants and clubs in that time. At present I own and operate five units, one of which is tied to Enterprise Inns plc and one of which is tied to Mitchells and Butler plc through its franchise business.

  2.  I am a founder member of the Westminster Licensees Association and I am a member of City of Westminster's Entertainment Forum as a representative of licensed trade.

  3.  I understand that in 2004 the Business & Enterprise Committee conducted an inquiry into those property companies calling themselves "Pub Co's" and including, inter alia, Enterprise Inns plc, Punch Taverns plc etc.

  4.  I understand that the Committee at that time made certain recommendations as to how these companies should moderate their behaviour and with the intention that the Committee would return to the issues at a later date with the current review being the result of that process.


  5.  Over the past 15 years or so the number of pubs in the UK has contracted by up to 10% but the ownership profile has changed greatly. The 1989 Beer Orders were intended to remove the dominance and control of the brewers over the pub sector. In fact what happened was that the loopholes in the legislation were exploited by venture capitalists and accountants to create the large freehold pub estates in the hands of property companies now known as "pubcos". These property companies now own more pub freeholds than were owned by the brewers. This is a significant legislative failure which should be addressed.

  6.  In practically all examples the "pubcos"—which interestingly now include many brewers—own pub freeholds but actually operate no pubs at all. The pubs are let or leased out, usually at high rents, to tenants that are often ill-informed, ill-resourced or very often, both. The tenants then have to purchase some or all of their wholesale drinks supplies from the "pubco" acting as an intermediary at prices that are very much higher than the prices at which the tenant could otherwise buy the drinks in the open market. We operate both tied and free-of-tie premises and know this to be true.

  7.  In its previous inquiry the Committee stated that "the cost of beer ties are usually balanced by the benefits available to tenants". This is untrue and I cannot imagine what evidence could possibly have been presented to justify such a statement being made. The business I own that is tied to Enterprise Inns plc would be better off by a six figure sum each year were I were able to buy beer in normal market. We receive no tangible or intangible benefit from being tied to Enterprise Inns plc.

  8.  It was a principle established in the inquiry in 2004 that the tied tenant should be no worse off than if they were free of tie. Given the above and further evidence I shall present further down, it is very difficult to see how this principle holds at present for my business tied to Enterprise Inns plc.

  9.  The "pubcos" claim that they provide support through so-called Business Development Managers. I have met several of these BDM's and have yet to meet one who has any meaningful experience at all in direct management in the licensed trade. The meetings with BDM's usually consist of the tenant being shown how much beer they have bought from the "pubco"—information which of course the tenant will already have.

  10.  It is a well known that a great many pubs are now closing or will do in the coming months as the economic slowdown beings to bite. The "pubcos" and the BBPA will consistently blame factors such as "the smoking ban" and "supermarkets" for this phenomenon. In reality the vast majority of closures will be down to undercapitalisation, underinvestment and loss of profitability. A great many pubs that are closing will be tied to the main "pubcos". Both major "pubcos" admit to needing tenants for 10% or more of their estate. Anecdotal, and including those in distress, it is likely to be many more.

  11.  The "pubco" model has not been through a period of serious economic downturn or recession such as we are likely to now experience. The "pubco" model starves small businesses of cash and profits that will be needed to survive in a downturn. In the free of tie market pubs can generate profits of between 100% and 300% more than in the tied sector. In the pub sector, with high gross margins but high costs the net profitability is often low in any event and a relatively small fall in sales can erode all profits from a pub. It does not take too much to realise that if a pub has low profits in good times because of the tie then it will be under unsustainable pressure in a downturn and if its owner cannot carry losses then it will close. We will see this downturn take its toll much more heavily from "pubco" tenants who do not have the profits available in free houses to cushion them.


  12.  The BBPA is an entirely partial organisation that claims as follows on its website:

    The BBPA is the leading organisation representing the UK beer and pub sector. Our members account for 98% of beer brewed in the UK and own more than half of Britain's 58,000 pubs.

    Beer is Britain's national drink, and pubs are the home of hospitality in the UK. These major national industries are a much-loved part of our culture, and employ over 600,000 people, as well as sustaining many other UK businesses.

  13.  The above is carefully worded. There membership includes most brewers and most of the "pubcos". They may `own' 50% of Britain's pubs but they operate very few of them. The sector may employ 600,000 people but their members do not. The BBPA has no right at all to position of doing so in the media it only. The committee will no doubt be appraised of this matter elsewhere.


  14.  Members of the RICS are generally charged with providing the guidance as to how pubs are valued and how rent reviews are resolved. The RICS generally provides members of its institution to act as third parties to settle rent reviews. Much of the RICS guidance relating to pubs is steered by the Trading-related Valuation Group. The Chairman of that group is Rob May MA FRICS with "special expertise in the valuation and licensing of pubs". I understand that Mr May is an employee of Enterprise Inns plc and he has long been a consultant to that company and the Unique Pub Company which was acquired by Enterprise Inns plc. It is very hard to imagine that there is not a conflict of interest here.


  15.  The "beer tie" is the mechanism by which tenants of brewers were forced to acquire their beer from the freeholder of their pub which was the brewer. The 1989 Beer Orders were intended to remove this ill-placed dominance and control. As previously mentioned the legislation failed to do that and at this time the "pubcos" have assumed the dominant controlling position previously occupied by the brewers. "Pubco" tenants are compelled to buy their wholesale product from the "pubco" at prices far in excess of those in the open market and for the term of the lease.

  16.  I have set out below a comparative table to show the difference in pricing that exists between one of my free of tie businesses and one of my tied businesses. In both cases the products are provided by Scottish & Newcastle (Heineken):

Prices from Enterprise Inns to tenant
Productper keg per pint retailnet GP net cash margin/pint
Fosters101.72 1.163.2057.56% 1.57
Kronenbourg118.821.35 3.5054.67%1.63
San Miguel116.871.33 3.5055.41%1.65
Heineken122.631.39 3.5053.22%1.59
Guinness110.751.26 3.5057.75%1.72
Strongbow99.701.13 3.3059.66%1.68
St Austell Tribute80.27 1.113.3060.30% 1.69

Prices Direct from Scottish & Newcastle to tenant
Productper keg per pint retailnet GP net cash margin/pint
Fosters70.690.80 3.2070.50%1.92
Kronenbourg87.811.00 3.5066.50%1.98
San Miguel89.301.01 3.5065.93%1.96
Heineken96.381.10 3.5063.23%1.88
Guinness87.220.99 3.5066.73%1.99
Strongbow68.850.78 3.3072.14%2.03
St Austell Tribute69.39 0.963.3065.68% 1.84

  17.  From the information supplied above in 16 it can be simply seen that there is a very substantial discrepancy between the retail opportunities available to tied and free of tie tenants respectively. Prices per keg across real ales, lagers and ciders can be more expensive to the tied tenant by as much as £31/keg, or over £100/barrel or £0.35/pint at cost. This places the tied tenant at a severe competitive disadvantage to those pubs that are free houses.

  18.  The "pubcos" will say that the rents levied on their tenants are less than those that might be borne by a free of tie operator. This is simply untrue and is discussed more fully in the section below on Rent Reviews.

  19.  The "pubcos" will say they offer a discount. Enterprise Inns offer a sliding scale of discounts up to a maximum of £42.12/barrel for tenants with volumes over 500 barrels for annum which is a considerable volume for an average pub and not achieved by most. The sliding scale is as follows:
Annual Qualifying PurchaseDiscount Per Barrel
0-150       0

  This discount offer is very much below that which can be readily realised in the open market by an average operator. It should also be pointed out that the discount offered above only applies to the number of barrels shown in at each level. For example, should you purchase 540 barrels of beer then the maximum discount is applied only to the last 40 barrels purchased. The total discount paid would be £10,811.30. Should the maximum discount be of £42.12 be applied to the whole volume—as of course it should and as is done by direct suppliers—then the total discount paid would be £22,744.80. This is a significant difference to a small business but not even this amount is offered by Enterprise Inns in this example.


  20.  The largest of the all party parliamentary groups, this group is, to my knowledge, the largest of such groups with 350 members. It purports to take an objective view of the beer and pub sector and yet it is funded and effectively managed by its patrons, the brewers and "pubcos". Its chairman, John Grogan, MP for Selby, is well known for previously having written articles for Enterprise Inns' in-house magazine, being remunerated at a rate of around £200 per article. As for my comments in relation to the RICS above, it is hard to imagine that the members of this group are able to achieve a wholly objective and impartial view.

Has the Licensing Act 2003 had an effect on the competition within the Market

  21.  Local authorities have in some cases formulated quite restrictive policies on licensing which has limited the actual extent and impact of the new act in many areas. Notwithstanding that fact most pubs have found it relatively simple to extend their licensed hours to midnight during Monday to Thursday and a little later on Friday and Saturday. This has resulted in a negative impact on those operators with late night venues that were reliant on traditional pub trading hours turning large numbers of customers onto the street after 11pm and who would still be prepared to pay admission fees to enter late night venues to continue their evening.

  22.  I would contend that the greater flexibility in licensing has had an overall benefit to pubs in terms of helping operators to more easily manage customers and to make closing time a less strenuous affair. It was never a good idea to close at 11pm and then to tell people to drink up in 20 minutes before making them leave the premises. For those operators that have chosen to extend hours to midnight or so the process of closing is better for customers and management alike.

  23.  There is a possibility that with the current downturn, the cost of the operation of extra trading hours for little financial benefit may place pressure on the finances of some pubs.


  24.  I have notice no effect or implementation of any Code of Practice. Only now as I face a forthcoming rent review have I even see a copy of a document entitled Code of Practice—The Letting and Operating of Leased and Tenanted Pubs. I have been told that this document is prepared by the BBPA and the "pubcos" and so it is no surprise at all in reading it to see that it simply seeks to reinforce the existing operation of the "pubco" model with little or no recognition of the interests of the tenants.

  25.  The Code of Practice is apparently endorsed by the British Institute of Innkeeping although it is very unclear as to what purpose such nepotistic "rubber-stamping" should serve. The BII does not operate pubs and does not represent publicans so who is it endorsing the code for? The Code I have seen is, frankly, questionable. Take the section on grievances for example. This advises that a tenant should take its grievance in the first instance to the company ("the pubco") with which it has the grievance and beyond that implies that a third party could be involved if both parties agree. The "pubco", a property company, want that third party to be a member of the RICS, whose members largely represent, of course, property companies!

  26.  In truth, the `pubcos' know, as I do, that a lease is a contract in property and that document is an entire agreement not subject to outside influence except where specifically provided for in the document or elsewhere by the Court. Unless it is made so by statute the Code of Practise is not going to be binding on either party to the lease.


  27.  The position regarding the Machine Tie remains as inequitable now as it was in 2004 when the inquiry concluded that it remained unconvinced of the benefits of the tie. There is little, if any, transparency regarding the sharing of the revenue and the true cost of the tie to the tenant. The tenant is certainly not able to have direct access to details of the revenue that is actually taken from the machines and has to rely on information given by others. There is considerable scope for "leakage".

  28.  The "pubcos" take 50% of the machine income but as the income is also included in the calculation of profit used to set the rent then the "pubco" will effectively take a share of 75% and this is totally unfair and further evidence of the contempt in which the "pubcos" hold their tenants.

  29.  Additionally, many "pubcos" charge machine suppliers a "royalty" (or kickback as it is more usually known) for being on the approved list of suppliers. This money is pocketed by the "pubco" in addition to the share of income from the machine and is not used at all, as some "pubcos" claim to subsidise machine rents which are much higher through the "pubcos" than in the open market. The same as for beer as previously demonstrated. Why, you will no doubt ask yourself, should a tenant pay over the odds to rent a machine when it then has to hand over 75% of the takings to the landlord?


  30.  Much has been made by the "pubcos" of the fact that their rents can go down as well as up. My lease with Enterprise Inns contains an upward only rent review provision and even though we now face a rent review, there has been no mention from Enterprise of any attempt to remove that provision. I do not believe at all that the "pubcos" have any intention of honouring the commitment regarding rent reviews as the UORR provisions are enshrined in the UK commercial property system and probably form an intrinsic part of the "pubco" business model.

  31.  The rent review model for pubs is deeply flawed in that it is based on a calculating a divisible balance split 50/50 between landlord and tenant, removing the "pubcos" effectively from the normal laws of supply and demand that apply to every other part of the property market. Interestingly, bars and restaurants, selling the same products as pubs and competing in the same market, have rents calculated entirely differently and on the basis of per square foot comparables. The rent review clauses in my lease with Enterprise are no different to those in my free of tie leases and yet Enterprise want to use method to which no reference at all is made in my contract with them. We intend to test this in Court. The current system fails to take account of the standard disregards in relation to goodwill that are explicit in the contract. The system I have seen used in the pub sector for tied pubs results in rents that can be as high as 15% of more of the tenant's net sales. In my experience in the free of tie sector we operate usually with rents that equate to around 10% or our net sales. A lot of tenants are subjected to financial intimidation by the `pubcos' such that they feel unable to involve a third party to determine the rent review.


  32.  The current system of arriving at rateable values for pubs was "agreed" by the Valuation Office, the BBPA and a firm of surveyors acting for the main "pubcos". Neither the BBPA nor the "pubcos"—neither being pub rate-payers, or representatives of publicans had any right to "agree" anything with the tax authorities on behalf of the pub sector and this position has recently been supported by the Court. The Valuation Office is very guarded on this issue and we are challenging them in the UK courts and at the European Commission.

  33.  The system relies on the VO requesting detailed trading information from the rate-payer and then applying a percentage to the sales that are revealed in order to arrive at a rateable value. The higher your sales, the higher the rateable value so quality operators are disadvantaged and can end up paying rates for the same property that are far higher than those paid by a poor operator. The system purports to relate to the same system as used in rent reviews but in fact the system has been manipulated by the "pubcos" and their representatives to enable low turnover "pubco" tenants to pay less rates whilst allowing the "pubcos" to charge higher rents for the same property effectively disengaging the pub rating system from the law. Effectively, the tax payer is subsidising the "pubcos" rental stream as were the law to be applied properly then many tenants could not afford to pay the "pubco" rent as well as rates based upon that rent. The rating system for bars and restaurants, selling the same product and in the same market relies on the rateable value being based on the rent as provided for in the Local Government Finance Act 1988 upon which the rating system is based.

To What Extent have the Pubcos met the concerns of the Committee from the 2004 Inquiry?

  34.  I would say that with the exception of lip service being paid to the Committee through the Code of Practice, the "pubcos" and their representatives and lobbyists have worked hard to avoid changing anything and to ensure that it was "business as usual".

  35.  The only thing starting to compel the `pubcos' to take a different approach at the current time is that the city, city analysts and financial journalists are rightly starting to question not only the "pubco" model but also the precarious financial structure that lies behind them, based on high debt and good times. The current downturn might force them into commercial changes but this should not prevent the Committee from subjecting the "pubco" industry to further scrutiny.

Is further Regulation required?

  36.  The Committee should make the necessary recommendations to initiate legislation that will remove the beer tie from the pub industry.

  37.  The Committee should make the necessary recommendations to initiate legislation that will remove the machine tie from the pub industry.

  38.  The Committee should recommend an investigation into the calculation of pub rents using the Profits Method and including an investigation into the role of the RICS.

  39.  The Committee should recommend an investigation into the agreement reached by the Valuation Office, the BBPA and the surveyors acting for the "pubcos" in relation to the rating system as applied to pubs.

  40.  The above will have a positive effect on the entire pub sector and the same for the independent brewing sector releasing back into the pub sector's economy the hundreds of millions that is currently sucked out by property speculators otherwise known as "pubcos".

  41.  The main beneficiary of the above will be the public at large whose pubs will see further investment and improvement and competition.

29 September 2008

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