HC 1369 Pub Companies

Written evidence submitted by Simon Clarke

Rental valuation guidance, company codes, rent reviews

Necessity for genuine free of tie option and open market rent

1.0 SUMMARY

1.1 The RICS have fulfilled the recommendation to redraft the rental valuation guidance.

1.2 The BBPA, perhaps inadvertently, have committed their members to follow the RICS guidance and individual Company codes confirm the same.

1.3 With effective compliance of the RICS guidance tied rents could be redressed to appropriate, fair and reasonable levels.

1.4 Tenant representatives are now seeing mass non compliance with RICS guidance.

1.5 My own rent review demonstrates non compliance with the RICS guidance and therefore potential Company code breaches.

1.6 The time offered to pubcos to implement reforms has been used to reinvent their agreements to offer alternative revenue streams in the event rents are set fairly and/or the profit from tied product prices is put under pressure.

1.7 SUGGESTED RECOMMENDATIONS

l Mandatory, statutory code requiring compliance with RICS rental valuation guidance

l A free of tie option, with open market rent, capable of third pa rty referral if the parties can not agree

2.0 PERSONAL INTRODUCTION

2.1 My name is Simon Clarke

l Tied publican

l Chartered surveyor

l Steering group member of Independent Pub Confederation (IPC)

l Steering group member of Fair Pint Campaign (FP)

l Called to both Business Innovation and Skills (BISC) and Business and Enterprise (BEC) Select Committee Inquiries to offer oral evidence

l Presented various submissions to both Inquiries published in the subsequent Committee reports

l Participated in the failed industry mediation attempt in 2009

l Represented the interests of the IPC in the Royal Institution of Chartered Surveyors (RICS) working group assigned the task of rewriting rental valuation guidance on public houses

l Select Committee chairman, Peter Luff MP , and Louise Whitley, Inquiry Manager, attended a demonstration of Brulines equipment in my pub the Eagle Ale House, Battersea. I, together with my co-director have become a source of much of the evidence currently being used in active court cases relating to Brulines

2.2 I wholly endorsed the findings of the previous Committees.

3.0 RENTAL VALUATION GUIDANCE

3.1 It was recognised, not least by the David Rusholme, Director of Valuation at the RICS at the All Party Parliamentary Beer Group debate two years ago, that previous RICS rental valuation guidance was being manipulated by some and as a result tied pub rents were being over inflated, leaving tied tenants at a disadvantage to free of tie tenants.

3.2 The former guidance was written by the RICS, Trade Related Valuations Group, chaired by Mr Rob May, the National Rent Controller for Enterprise Inns.

3.3 The RICS committed to consult the industry and undertook to re write the guidance. Given that previous guidance was sufficiently unclear, allowing manipulation and a great deal of latitude in interpretation, and the pubcos had influential representation in the group writing guidance, they had little to fear from a redraft.

3.4 To negate the risk of perception of conflicts of interest, the RICS, quite rightly, invited additional surveyors and industry experts to participate. Individuals representing IPC members and the BII were included in the forum to offer membership views and therefore impartiality overall.

3.5 The resultant new guidance is much clearer than the previous paper. The acid test of its success will only be demonstrated if it is followed. Whilst the phrase "the tied tenant should be no worse off than the free of tie tenant" is not expressly included, the general principle is addressed within the new guidance.

4.0 COMPANY CODES

4.1 During mediation t he BBPA committed their members to abiding by the revised RICS rental valuation guidance. The BBPA were not aware, at that time, that tenant representatives would be invited to participate in the process. Subsequent individual Company codes commit the pubcos and brewers to compliance with the new guidance.

4.2 I am already seeing evidence of systematic non recognition of the new guidance, not least in my own rent review. Failure to follow the guidance seems to indicate that the pubcos are dissatisfied with the possibility that, if adopted properly, falsely inflated tied pub rents may be redressed. As long as the new guidance continues to be ignored or manipulated nothing will change.

4.3 Policing of the Codes, and enforcing mandatory compliance with RICS rent valuation guidance, is now essential and the current enforcement or penalisation options available to the BII are insufficient to undertake such a task. No one has any powers over pubcos ignoring rental guidance.

5.0 RENT REVIEWS

5.1 Having consulted with David Morgan, founder member of Fair Pint Campaign, and Garry Mallen, of the ALMR, both of which have given oral evidence and sat on the RICS redrafting forum, we agree that there seems to be universal non compliance of the the RICS guidelines. Messers Morgan and Mallen will no doubt present their individual views and findings in separate submissions.

5.2 My own rent review has just started. In the spirit of openness and transparency, I offered some trading information in exchange for evidence of comparables from Enterprise Inns, they have chosen not to disclose the latter, making a sham of their 'open and transparent rent review' claim in their code. Enterprise Inns have offered a proposed rent assessment based on the information I have provided.

5.3 In order to establish open market rental value, the RICS guidance clearly requires a valuer to undertake a shadow profit and loss calculation by estimating a hypothetical turnover (fair maintainable trade - FMT) using comparables NOT relying solely on a tenants trading information. Costs should reflect benchmarking evidence and the rental bid should reflect the tied tenant considering their circumstances if they were free of tie.

5.4 Enterprise Inns appear to have estimated hypothetical turnover (FMT) and sales mix based on my pubs actual beer volume sales and known sales mix (which reflect my individual goodwill and occupation – not the foundation for RICS rent valuation and specifically required to be excluded under the terms of the lease).

5.5 Enterprise Inns estimated costs make no reflection of the ALMR benchmarking (which averages costs at 42% of turnover). Even Enterprise Inns have their own 'in-house' benchmarking surveys indicating an average of around 42%, from 'Milestone' their tenants open book accountants. The RICS guidance requires the valuer to reflect benchmarking findings yet still Enterprise Inns continue to fly in the face of the evidence seeking 35% or less as a cost allocation in valuation.

5.6 I realise this may make little sense to a non valuer, but rent is extremely sensitive to fluctuations in the estimation of valuation variables. To demonstrate the implications of under estimating costs in valuation, getting it wrong by 7% (42% minus 35%) has the effect of at least halving the tenants earnings, whilst increasing the rent by the lost amount.

5.7 Enterprise Inns estimated rent bids on the net profit before rent (divisible balance), are still based on a 50:50 split which would be ludicrous if tenants were to consider the lost profit as a result of being tied. Case law (the Brooker case) and now RICS guidance both require the valuer to consider that the tied "...tenant may compare his own property with the circumstances of being free of a supply tie and consider the profit they might otherwise achieve under those circumstances." Free of tie gross profit results in a higher tenants earning. There is nothing to indicate a tied tenant would not expect to earn the same amount, all other things being equal. In view of the latter, it is implausible that any tenant would consider a 50:50 split unless they were free of tie. In a tied relationship the pubco have already undermined the gross profit achievable in by demanding high tied product prices, the rent as a result should be lower to reflect the consequences of product pricing and a tenants rent bid weighted to maintain the same tenants earnings if they had been free of tie, for example, in the case, mentioned above, Brooker was a tied tenant, the split of net profit before rent was 35% rent, 65% tenant earnings. I should add lower rent is consistently cited as a benefit of being tied by the pubcos themselves.

5.8 In my opinion, Enterprise Inns' use our trading information to suit their argument, over estimating turnover and gross profit, under estimating costs, failing to reflect benchmarking and tied my expectations, had I been free of tie, are all non compliance with the RICS guidance.

5.9 A Code breach complaint has been registered with the BII, I do not anticipate the they will have the necessary enforcement or penalty powers to effect a remedy.

5.10 The RICS have stepped up to the task set out to them in recommendations requiring they reconsider rental valuation guidance. The new guidance is capable of delivering the required adjustment if complied with. We now need to enforce compliance with the RICS guidelines.

6.0 EFFORTS TO CIRCUMVENT RICS GUIDLINES

6.1 Clearly the pubcos run the risk of RICS guidance becoming mandatory in the future and therefore the simplest method to avoid such an eventuality is by altering the agreements with tenants in order to impose new terms that have no need to refer to RICS guidelines.

6.2 Shorter agreements, potentially with no rent reviews but instead subject to inflationary increases are one such way to avoid any reference to RICS guidance.

6.3 Removing security of tenure by offering tenancies instead of leases means the tenant has no lawful right to renewal and no right to refer the rent at lease renewal to a leasehold valuation tribunal, who would be obliged to follow RICS guidance.

6.4 The introduction of 'stealth rent'. Minimum Purchase Obligation (MPO's) were voluntarily abolished during the days of EU block exemption compliance. Pubcos are now seeking to reintroduce MPO's attaching them to agreements. An MPO requires the tenant to purchase a fixed amount of tied products every year and penalises them if they do not. In a declining market, inflationary increases or MPO's could cripple a tenant but a combination of the two would be devastating.

6.5 Many new agreements require the tenant to agree to additional onerous terms, tied services at the tenants expense, open book accounting, stocktaking, maintenance and Health and Safety charges and decorating, repairs and maintenance funds, to name a few. These are simply pubcos building in the flexibility of charging unregulated sums for services which the tenant would otherwise source themselves, another stealth rent. Historically, pubcos have had the luxury of two income streams commercial rent (dry rent) and profit on tied products (wet rent), MPO's and tied services are examples of efforts to open up new uncontrolled or unregulated revenue streams in the face of fair rents returning and pressure on tied prices (in the form of FOT pricing options). These will be the subject of Select Committee Inquiries of the future if allowed to slip by unhindered.

6.6 The pubcos are 'selling' these new agreements as if to offer some sort of concession and the unwitting prospective tenant may well be convinced by the purported virtues. An agreement with one, or a combination, of these onerous terms would successfully negate any progress that might be made in rent redress by RICS guidance.

6.7 Simon Townsend recently confirmed, at the Save the Pub Group debate, Enterprise Inns are offering limited free of tie options but the tenant is required to surrender their existing lease in exchange for a new agreement which includes many of the features listed above. Their Retail Partnership Tenancy and Retail Partnership Lease agreements, available online (using the link below) outline these additional charges and funds, inflationary increases and, in the case of RPT's no security of tenure.

http://www.enterpriseinns.com/Applicants/Pages/LeaseTenancyAgreements.aspx)

6.8 In reality, the majority of existing leases are perfectly acceptable in all but one respect, the tie obligations. In the event of statutory intervention resulting in a mandatory provision for tied tenants to be offered genuine a free of tie option, this could easily be documented in the form of a deed of variation to the lease. It is considered the Committee and governments message was that a genuine FOT option should be accompanied by an open market rent and most leases accommodate the eventuality of such a change should it be implemented by statutory intervention (Appendix 1, clause 3.2 – a page from my lease which is a standard tied lease dated 2001)

6.9 The pubcos bleating gives the impression that the eventuality of statutory intervention is an unheard of concept but, as can be clearly seen above, it has always been considered a possibility and indeed that possibility has been accommodated in the standard lease terms.

7.0 COMMITTEE RECOMMENDATIONS TO CONSIDER

7.1 A statutory, mandatory code for all companies operating the tied tenanted model, subject to independent enforcement and penalties for non compliance needs to be implemented. The code should require all to strictly adhere to the RICS rent valuation guidance.

7.2 Even the distant hope of fair and reasonable rents is undermined in the face of pubcos being able to alter tied product prices, or introduce stealth rents, to compensate their rent losses. A free of tie option to tied tenants with an open market rent and independent referral, in the event the parties are unable to agree, is fundamental to avoid the unintended consequence of tied product prices spiralling out of control and unregulated tied service charges in the future.

18 June 2011

APPENDIX 1

3. The Landlord may at any time give written notice to the Tenant requiring the rent to be reviewed:-

3.1 at the end of each Review Year and on the day before expiry of the Term (the date of the end of each such years or the day before such expiry being called "the relevant anniversary") a notice given under this sub-paragraph being hereinafter referred to as "a periodic review notice";

3.2 at any time after the happening of any event (whether a decision of the court of competent jurisdiction or the enactment of legislation and whether of the United Kingdom or the European Union) whereby all or any part of the provisions of Clause 11 and the Third Schedule (or the fifth Schedule, as the case may be) may in the opinion of the Landlord be or become unenforceable by the Landlord (hereinafter called "a tie termination review notice");

3.3. at any time in the event of the Landlord giving notice under clause 15.3.4 (hereinafter call "a Type ‘A’ trading review notice");

3.4 at any time in the event of the Landlord giving notice under Clause 15.3.7 and that notice has expired (hereinafter called "a Type ‘B’ trading review notice").