The reported confidential settlement achieved in the case of EMI Group Ltd v O&H Q1 Ltd has brought to an end a high-profile dispute that was due to be heard before the Court of Appeal after yielding a crucial High Court ruling affirming that a tenant of a tenancy created after 1 January 1996 cannot lawfully assign its lease to a guarantor of its obligations under that lease.

In January 2013, eight years before the expiration of a long lease of retail premises, the tenant (HMV) went into administration. The landlord authorised the assignment of the lease to the guarantor and parent company of HMV (EMI Group plc) in November 2014 after which the parties entered into a licence to assign and a deed of assignment. EMI subsequently maintained that it was not bound by the tenant covenants in the lease under the Landlord and Tenant (Covenants) Act 1995 (“LTCA”), which releases the tenant and guarantor from their respective covenants on an assignment. EMI based its submission on the principles held in Good Harvest, as confirmed by the Court of Appeal in K/S Victoria Street in which the court interpreted the LTCA as prohibiting the original guarantor from also guaranteeing the obligations of an assignee.

The High Court considered whether the anti-avoidance provisions of s.25(1) of the LTCA prohibited the assignment to a guarantor. This question had previously been discussed obiter in K/S Victoria, with Lord Neuberger commenting that any arrangement obliging a guarantor “to guarantee the liabilities of a future assignee should be void” in any circumstances. The judge held that assignment to the guarantor would result in the guarantor reassuming liability for the tenant covenants (in contravention of the LTCA) and as such, an assignment from a tenant to the guarantor is void with the lease remaining vested in the tenant and the guarantor still liable under the original deed of guarantee.

It has long been standard commercial practice for parent companies to guarantee subsidiaries’ obligations under leases. The prohibition of an assignment to a guarantor, even in cases where all the involved parties consented to the assignment taking place, has resulted in a commercially unrealistic outcome restricting the ability of commercial entities to contract in a way that gives freedom of movement in corporate reorganisations.

The first instance decision has been widely criticised as unsatisfactory – creating a lack of certainty in a key area of landlord and tenant law in addition to leaving the position of assignments predating the decision at best, unclear and at worst, void.

Simple but fundamental questions such as; can a landlord pursue the original contracting tenant for rent, is a landlord able to forfeit the lease and will an assignee acquire security of tenure have been left undetermined, with the result that practitioners will now need to undertake enhanced due diligence on all acquisitions to avoid the risk of taking properties subject to encumbered leases. Similarly, where a void transaction has been registered at the Land Registry this decision effectively leaves the registered title inaccurate and as such, any subsequent assignments may also be deemed invalid.

It is hoped that future jurisprudence will help seal some of the gaps left by this judgment and prompt legislative reform.