Real Estate Litigation: Hospitality & Leisure Sector Update

Despite the COVID-19 pandemic seemingly having come to an end in recent times in the UK, uncertain times remain in the hospitality and leisure sector.

However, this has led to an interesting property litigation trend in the landlord-tenant relationship.

The backdrop

The state of the property market in the hospitality sector at the turn of the year was rather gloomy after it was reported that nearly 18 licensed premises closed down on a daily basis throughout Q4 of 2022.

This net closure of 1,611 licensed premises during the period brought the total drop to 4,809 in 2022, more than the loss sustained in 2021, which saw greater COVID-19 restrictions.

Over 75% of these 2022 losses came in the latter half of the year, with the blame being placed upon the unprecedented energy bill inflation alongside the increase in food prices that were being faced at the time.

It was particularly noteworthy that almost 90% of the Q4 closures took place in the independent sector.

Unfortunately, the leisure industry in the UK in 2022 also appeared to take a hit, with a YouGov poll conducted in September 2022 revealing that, since November 2021, 29%, 17% and 8% of sampled adults in Great Britain had been forced to make cutbacks in terms of their household spending on making day trips, going to the cinema and on their gym memberships respectively (72% of those questioned were not spending money on the latter in the first place).

Meanwhile, a separate study found that 4.4% of individuals who had cancelled a gym membership in 2022 and early 2023 did so for cost and financial reasons.

Nonetheless, consumer spending on recreational and cultural services in the UK rose by just under 20% in 2022 compared to 2021.

The sombre end to 2022 for the hospitality industry appeared to continue into the new year, with the sector making up 10% of administrations in the first half of 2023.

A total of 79 hospitality businesses filed for administration during this period, with the finger being pointed at economic uncertainty, high interest and inflation rates, and a tougher stance being taken by HMRC.

Indeed, earlier this year, it was revealed that just 29% of hospitality businesses felt optimistic about the coming 12 months.

Moreover, August 2023’s rise in interest rates would have hit many hospitality businesses particularly hard, given the number of loans that such companies were compelled to take out during the COVID-19 pandemic.

Further, the numerous expenses involved in running hospitality venues, such as energy bills, food costs, insurance payments, and rent or mortgage repayments, tend to rise and fall independently of each other but have recently increased at the same time.

Food inflation has an obvious effect, but the impact of rising energy bills is also particularly damaging to companies operating in the hospitality industry, with restaurants requiring high energy expenditure for appliances such as ovens and fridges, as well as lighting.

Additionally, organisations in the sector usually have very narrow profit margins, and so they are particularly exposed to the consequences of rising costs, as well as unexpected economic events in general.

Furthermore, in October 2023, it was announced that the Consumer Price Index (CPI) increased by 6.7% in the 12 months to September 2023.

Although this represents the same level as August, Sacha Lord, the Night Time Economy Adviser for Greater Manchester, has warned that this news will see the continuation of the challenges being faced by small hospitality businesses, given the reduced spending in the sector that inflation sees.

For example, an ONS survey has revealed that 67% of people surveyed between 4 and 15 October 2023 are spending less on non-essentials due to increases in the cost of living.

Consequently, it is easy to see why Lord has pointed out that plenty of sites have changed their business plans, shortened their opening hours or pulled out of planned expansion or investments.

Nonetheless, in September 2023, it was revealed that 59% of large businesses in the UK were feeling positive about the broader UK economy, with such optimism partly being down to the increase in ‘active leisure’ tourism.

Indeed, 65% of surveyed business leaders reported that such trips have grown in popularity recently, with 71% of hospitality businesses witnessing a rise in foot traffic thanks to active leisure.

Rising costs have also hit businesses in the leisure industry. For example, the average cost of a gym membership in the UK increased from £42.99 to £44.92 per month from 2022 to 2023. However, it appears as though this rise has been accepted.

Indeed, in 2023, it was reported that 15.1% of people in the UK hold a gym membership, whereas 2022’s figure was 14.6%.

Further, the increase in membership fees has contributed to the market value of the fitness industry hitting an all-time high.

More broadly, the spending in the hospitality and leisure industry in September 2023 increased by 8.5% in September 2023, which is above the 7.3% year-on-year growth that was witnessed in August 2023.

The rise is substantially attributed to greater spending in bars, pubs, and clubs, propelled by the warmer weather and the Rugby World Cup.

In the hospitality industry, landlords have responded to tenants’ troubles with flexibility in 2023.

For example, COVID-19 arrears have been forgiven, and fixed rents have been altered to turnover rents for a time period. Indeed, it is in the interests of landlords for tenants to survive, as this allows the former to steer clear of liability for business rates and the frustration of holding an empty property.

Tenants have also been able to offer benefits to landlords in return, such as through waiving break clauses, which grants landlords greater income certainty, and agreeing to longer leases. This interesting trend has seen a ‘quid pro quo’ relationship emerge between landlords and tenants.

As a result, we have seen fresh leases, based purely on turnover rents, being proposed. These provide support for tenants during dubious periods whilst simultaneously allowing landlords to feel assured that not only can the tenants survive troubling times but that they can even gain a slice of their success when times are more prosperous.

Leases may even be structured in a combined model, whereby rent is payable via a basic, fixed figure alongside a proportion of turnover.

Furthermore, some tenants have been able to negotiate a limit on service charges and even secure a suspension of rent payment in the event that there is another pandemic in the future.

Additionally, tenants may find that they are now able to pay rent on a monthly rather than quarterly basis, which may ease financial pressure.

However, a great deal of the agreements above are being carried out on an ad hoc basis, with landlords being alert to the danger of these changes being deemed a norm that is expected to be an option for every new tenant.

As a result, the industry has seen the use of side letters in order to ensure that the formalities are not present on the lease, as well as the redaction of leases at the Land Registry, to hide the relevant terms from those viewing the lease.

The latter tends to be the favoured choice of tenants, given the negotiation battle that can erupt from the use of the former.

Conclusion

Overall, although there have been worrying statistics for the hospital and leisure sector revealed recently, we have also seen the publication of more positive figures.

Additionally, an interesting trend has emerged in the landlord-tenant relationship, which may see landlords and tenants help each other through this uncertain period.