No ties necessary
The Monopolies and Mergers Commission report into the tied trade system, published in 1989, was intended to tackle the perceived problem of vertically integrated brewery companies which manufacture, distribute, wholesale and retail their products through wholly owned properties.
It dictated that by November 1992, the major brewers should sell or lease free of tie 50% of their pubs over the 2,000 mark.
This resulted in thousands of pubs being sold or leased to companies such as Pubmaster, Enterprise Inns and a host of others.
It also insisted that the tenancy agreement should become more "arm's length" and be substituted by full repairing leases that could be assigned by the lessee.
The major brewers' new leases became only partly tied for their beer supplies as they are allowed to purchase a cask-conditioned beer from a supplier or brewer of their choice.
It was argued that because there would be value in these new leases, the original tenanted rent was often doubled or even trebled.
The result of the Monopolies and Mergers Commission report into the tied trade system meant big breweries were forced to free thousands of tenanted pubs from their ties to create a more competitive market for beer. A spin-off of this has been the rapid expansion of a new type of pub tenure - full repairing leases.
These leases are usually for 20 years, rather than the three years or so typical of the old-style pub rental tenancies. Their aim was to give the landlord time to get a return on his investment, resulting in better quality pubs.
During the two years before the full implementation in November 1992 of the commission's report, over 5,000 tenancies in Allied-Domecq (formerly Allied Lyons), Bass and Whitbread were offered as full repairing leases.
Grand Metropolitan had earlier started converting its tenanted estate, amid a torrent of bad publicity, through its leasing company, Inntrepreneur.
These new lease deals were being negotiated against a background of personal anxiety among pub tenants. Most had been issued with 12 months' notice to quit their tenancies. Although this was largely a technical move by the brewery companies to come into line with new landlord and tenant legislation, it added to the pressure on tenants to sign agreements.
Advice and counselling
Specialist advice was often lacking. Solicitors argued individual lease clauses with little success, and some accountants counselled against the level of rents being asked. Many tenants, however, faced a bleak choice: accept the new deal or give up their business and home.
The new lease rents were often based on the more buoyant trade of the late 1980s. Although the rents were high, business was still good and the new lessees initially looked to the future with some optimism. But the beer market has steadily declined throughout the recession years. Competition from the growth of quality operators such as Wetherspoon and Yates's Wine Lodges has hit many pubs. As a result, some lessees found that their volume trade had fallen significantly.
Most leases have five-year rent review clauses and one could be forgiven for thinking that a rent based on a previously buoyant trading environment would be reduced when trade declines through no fault of the lessee. Sadly, this is not the case: nearly all lease agreements have an upwards-only clause.
Better on balance
Moray Reid of the London and South East Licensed Victuallers Association thinks that, on balance, leases have been a good thing. "There have been far too many sad cases where the brewery company has demanded far too high a rent for the pub to sustain. It has, though, been good for some who now have a longer- term agreement and the chance of making a profitable assignment when they decide to leave," he says.
Tony Rutter, operations director of the Licensed Victuallers Trade Association (West), agrees that pub leasing has been beneficial on the whole. Lease rents were initially too aggressive, he thinks, but finds recent signs encouraging. "Even Inntrepreneur has become more reasonable recently," he says.
Rutter believes that because of the commission's report, leasing was rushed into. Many good landlords were lost because they were not experienced enough businessmen and were unable to cope with the new efficiencies that lease rents demanded. If leasing had been allowed to evolve more slowly it would not have damaged so many people.
"With a few exceptions, the problems are in the past. Breweries are being more realistic on rent and as a consequence fewer licensees are going broke," says Rutter.
Major brewers still retain the upwards-only clause in their leases, however, despite the pressure on them to abandon this unfair practice.
Reid believes the brewers are wrong to maintain this clause. His group, together with the Federation of Licensed Victuallers Associations, attempted to get an early day motion through the House of Commons in 1994. This failed to get the necessary support.
An extract from the submission reads: "The impact of upward-only rent review clauses has been particularly damaging to licensed trade tenants during the recent recession. Unlike other premises in the commercial sector, the turnover and profitability of public houses is taken into account by the brewery companies in assessing the rent, and licensed trade tenants are required to provide access to their accounts.
"This means that in times of profitability the tenants are penalised by a substantial increase in rent, but in times of recession they are not compensated by a pro-rata reduction."
The upwards-only clause will only affect a small percentage of lessees, so why is it being maintained? Allied-Domecq Inns's leasing company, Vanguard, links annual increases in rent with the Retail Prices Index (RPI) and offers a formal review at five years. Its leases have an upwards-only rent clause.
"All commercial leases, not just pubs, have an upwards-only rent clause. If trading has been particularly difficult, we are sometimes able to help by reducing some or all of the RPI increase," says Bruce Jones, property director of Allied-Domecq Inns. But he will not be drawn on whether rents could be reduced below their initial level.
About 60% of Allied-Domecq tenants took a lease on their pubs. Several have since sold, or assigned, their lease, some with a reasonable premium, but others at stock and inventory value or less. Jones believes that most lessees are reasonably pleased with their lease deal.
Peter Batty, national lettings manager for Whitbread Pub Partnerships (WPP), takes a positive view. "We take the partnership part of our deal very seriously. We give full business and marketing support to our licensees.
"Last year we invested £10m in 100 of our partnerships and this year have increased this to £14m. When assessing rents to cover alterations we take a small slice of the extra profit but leave a larger slice for our licensee.
"Our business development managers look after only 35 pubs and therefore have time to understand each business. This helps us to target our support."
Batty says that WPP has already completed 700 rent reviews, none of which has had to go to arbitration. WPP, too, has an upwards-only rent clause, but usually looks at each case on its merits. About 50% of its tenants originally converted to lease and many of these have found the switch worthwhile.
"We try to add value to our leases," Batty says. He confirms that, so far, 120 leases have been assigned at an average price of more than £50,000. This is £30,000 above the average inventory value that would have been received as a tenant.
Maureen Heffernan, marketing and communication manager of Bass Leasing, says its lease was launched after the other major brewers so the five-yearly rent reviews have not yet started. Bass intends to be flexible in its approach to these reviews, taking into account the lessees' income and what the business can sustain, as well as the company's financial return.
There was a large take-up of the Bass lease by tenants, with about 70% making the switch. This dropped to 50% as lessees moved to other pubs, other breweries or left the trade. Heffernan confirms that the situation is now much more stable, and shares the widely held view that Government interference brought about these changes too rapidly. She is a fan of leasing and believes it is a cheap way (often less than £20,000) of getting one's own business. Bass now offers a three-year "foundation lease" so that newcomers to the trade do not have to commit to 10 years initially.
Regional brewers up and down the country now offer leases. The lease terms vary, but compared with major brewers the product tie is usually more onerous and the repair obligation less. This means rents are usually lower but assignment more difficult.
The major brewers' pub leases clearly got off to a bad start. Many tenant licensees were financially damaged, several terminally. Others, though, have done well and prefer the new system. Some will need their brewer landlords to take a sympathetic look at their rent on review and look at each case genuinely on its merits, regardless of the upwards-only rent review clause.
All will concur that great care needs to be taken when agreeing the lease terms, especially rent. If lessees get their initial financial projections right, increase their turnover beyond the level used in the rent calculation and run the business efficiently, then the chance of making reasonable annual profits and a possible future capital gain are good.
Get the sums wrong, and bankruptcy may be the only option.
