Commercial Real Estate Sector: Corporate Insolvency

This article provides an overview of the insolvency procedures most relevant to Chinese commercial real estate companies operating in England and Wales. It covers three insolvency procedures: liquidation, administration, and prepack administration. Additionally, it explores receiverships, a further consideration for real estate investors navigating financial difficulty.

Introduction

Corporate insolvencies in England and Wales have risen significantly in the past year. This trend has been attributed to end of COVID-19-related support schemes, an increase in energy prices, as well as a continuous rise in interest rates and accompanying inflation. The real estate sector has been particularly affected, due to rising costs and falling demand.

Liquidation

In July 2022, a Chinese-owned real-estate investment group saw 23 of its companies enter liquidation proceedings. These companies were behind the development of a 35-acre plot delivering 56,000 square feet of London office and retail space. However, following construction, most of the completed units remained unoccupied, and the group's companies failed to meet their repayment obligations to various creditors. Eventually, several of these creditors successfully placed the companies under the control of liquidators, appointed to sell the companies' assets to satisfy the debts owed to the creditors. The liquidators now in control of the companies aim to find new investors that are willing to resume development of the site and purchase the companies' assets.

Whilst liquidation can be initiated by creditors, it is more often commenced by the insolvent company itself as a means to address significant financial challenges that cannot be overcome, and terminate the existence of the company itself. This is known as a creditor's voluntary liquidation (CVL). Entering a CVL can be a cost-effective way of writing off debts. Liquidation costs are met through the sale of assets themselves and further obligations are terminated when the company is liquidated. The company is no longer liable for subsequent payments that comprised part of its original agreements, and future legal proceedings from creditors can be avoided once the company's legal existence is terminated.

Administration

Administration is another formal insolvency procedure which may be suitable for Chinese real estate investment companies operating in England and Wales. It is appropriate where the insolvent company can still be reorganised and saved as an operating business, or where a period of further management would increase asset value prior to a sale and distribution of assets. It provides the company with temporary protection against legal actions from creditors, enabling an appointed administrator to focus on stabilizing the business without immediate pressure from creditors. A successful administration can allow for a debt restructuring plan to be agreed with creditors, offering the potential to save both the company and its assets.

In June, a major London and Southeast contractor became the largest real estate construction firm in England to enter administration since 2021. Despite achieving significant growth in recent years, an overexpansion and a fall in demand meant that the company failed to fulfil its repayment obligations to certain creditors. As a result, the developer was the subject to legal action from nine suppliers and subcontractors in the year preceding administration. The company has since ceased trading and most staff has now been laid off.

Pre-pack Administration

Pre-pack administration is a specific type of administration which allows for the swift sale of a company's business to another company, which can then continue to operate the business debt-free. First, the selling company negotiates the sale of its business to a proposed buyer. Once an administrator is appointed, the business is then sold to the proposed buyer immediately, ensuring uninterrupted trading. The purchasing company is often newly formed and typically consists of the same directors as the selling company, which allows for business continuity.

This type of administration is most relevant where the selling company is facing significant financial challenges but there is still a viable business that someone is willing to finance. Prepack administrations are subject to specific rules and regulations designed to protect creditors' interests.

Receivership

Banks offering loans to companies that invest in commercial real estate will inevitably require some form of security over the properties, which is known commonly known as a charge. Depending on the type of charge which is given, and the details of the security document, the security may give the bank the right to appoint an entity to take control of property in the event that the borrower defaults on its repayment obligations. In this circumstance, the bank becomes entitled to appoint a receiver to assume control of the property, and potentially sell it.

This was the case for a Chinese-owned real estate investment company which in June this year witnessed a second of its properties in London's prestigious Canary Wharf seized by receivers. This followed the company's inability to fulfil its repayment obligations, citing short-term cash flow problems. Whilst the appointment of receivers is not expected to affect the day-to-day operations of the properties, the receivers now hold the company's shares, which significantly curtails the developer's control of its investment.

It is important to note that in England and Wales, a right to appoint a receiver is not only granted by written agreement between the parties but may also be granted to a bank unilaterally, through the operation of law. This type of receivership is known as an LPA Receivership. It allows a bank with a fixed charge over property to appoint a receiver without the consent of the borrower, making it a powerful tool for banks which lend to commercial property investors.

Conclusion

With markets anticipating an interest rate hike of up to 6% by the end of the year, corporate insolvency rates are likely to continue to rise before they fall. A practical understanding of the insolvency procedures available is therefore crucial for commercial real estate investors to navigate potential challenges and safeguard investments.

With the guidance of experienced legal professionals, real estate investment companies facing insolvency can ensure compliance with legal requirements, proactively address financial difficulties, and ultimately achieve more favourable outcomes.

Author: Kieran Costello

For further information, please contact: Zhong Lun Law Firm, London Email: info@zhonglun.co.uk