Prime locations are not immune to this stress, as seen in Fitch’s recent downgrade of Intu Metrocentre Finance plc. But CVA discounts appear to reflect the circumstances of the retailer more than the quality of the property.
Landlords can claim back and re-let stores rather than accept the reduced rent in a CVA if they act quickly enough. This, in theory, should stop CVA tenants demanding materially lower rents than market levels. However, our review of CVA documents that were agreed for four major tenants suggests CVA discounts probably do overstate the rental pressure on individual locations. We do not find a correlation between CVA discounts and variables that we consider drivers of, or proxies for, changes in rental value.
In practice, there are examples of CVA tenants earmarking stores in shopping centres for vacation, while a different tenant in a nearby store is seeking to take on extra space. More broadly, the high number of stores affected by discounts or closures, and the additional bargaining power that CVAs can confer on stronger tenants, is pushing landlords to accept lower rents to contain vacancy rates.
But valuers are waiting before recognising recent leasing activity as evidence of rental value declines. Leases signed in the 12 months before the most recent valuations in the four regional destination shopping centres backing Fitch-rated single-borrower UK CMBS were between 3% and 25% below the quoted estimated rental value (ERV) on average, depending on the centre.
This lag has led us to increase certain rental value decline assumptions, and, as informed by recent leasing evidence, revise down ERV, mall-by-mall (without double-counting these adjustments). Outside large cities, the valuation yields have risen on almost all shopping centres and much high street retail space, in some cases very sharply.
In those regional retail markets in which yields are fast approaching their historical peak – to which we do not have exposure in Fitch-rated UK CMBS – the risk that yields overshoot this benchmark means we have also increased our cap rate assumptions in the higher investment-grade stresses.