Freehold, Leasehold or Tenancy
FREEHOLD, LEASEHOLD OR TENANCYWhat are the differences?
Freehold, outright ownership of the property and business
Leasehold, the right to occupy a property for a fixed term of years subject to many conditions and in return for the payment of rent. Most leases are assignable, which means they can be sold in the open market almost like freehold, subject to the purchaser being approved by the Landlord.
Tenancy, a short term agreement (initially 1-3 years), often with the tenant having the right to continue as tenant from year to year. The only value in a tenancy is the fixtures and fittings.
The types of tenure in greater detail.
Freehold licensed businesses are generally sold as a complete going concern. The property is owned outright and a purchaser can borrow in the region of 50% to 70% of the purchase price on mortgage as the freehold property offers a good security for a loan. A licensed premises which is owned freehold is almost always "free of tie" which means that the owner can buy beer and all other supplies from wherever he/she chooses. Being free of tie, the owner can negotiate substantial discounts with the suppliers, buying at prices which are very substantially lower than those charged to tied lessees or tenants. The profitability of the business can be much higher than with leases and tenancies.
There are effectively two markets in leasehold.
A) Sale or assignment of a lease which has already been created, which continues here:
B) The grant of a new lease by a landlord - covered at the end of this section.
A) Sale or assignment of a lease which has already been created.
Leasehold licensed businesses are generally sold as a going concern to include trade furnishings and established trade, but the lessee (the occupier) holds the property for a fixed term of years in accordance with the conditions of a lease. The lessee pays rent to the lessor and is obliged to comply with all the terms and conditions of the lease in order to stay in possession. The main terms and conditions are usually to pay the rent (!), insure the property, keep the property in good repair, trade in compliance with government/statutory regulations and to comply with the law.
Additionally, although some pub leases are free of tie, most leases are granted by Pub Co's subject to a tie, whereby the lessee (tenant) is obliged to purchase a specified range of products (usually all of its beers and lagers) from the lessor / landlord or its nominated supplier. In such cases, the lessee is generally obliged to buy beer at "list price" or with little discount from this price.
Many leases are granted for an initial term of between 5 and 21 years, and the lessee is committed to pay the rent throughout the term unless he/she can sell the interest by assignment to another purchaser. The purchaser of the lease is obliged to comply with all the same terms and conditions as the original lessee for the remainder of the term. An assignable lease can be sold in the open market for whatever price the seller can obtain, and - where a business has been taken from a level of modest profitability to a much higher profitability - the lessee can possibly sell for a much higher price than the original cost, to make a capital gain. Conversely, if a lessee takes on a successful business but then loses trade whereby little or no profit is being made, the business may have to be sold at a substantial loss or, at worst, surrendered back to the Landlord for little or no payment.
Leases change hands at prices which are much lower than equivalent freehold businesses, and the capital investment of the lessee is lower. Leases offer little or no security for a bank mortgage and it is generally very difficult to borrow to purchase a lease unless other security such as a freehold house can be offered as additional security.
B) The grant of a new lease by a landlord.
New leases are offered mostly "without premium". This means that the new lessee does not make any payment for trade goodwill or "key money / premium" for the lease. Generally, the new lessee only purchases the trade furniture, fixtures, fittings and effects, plus stock and glassware, and is usually required to pay a security deposit (equivalent up to three months rent). New leases frequently contain a clause barring the sale or assignment of the lease within the first two years, after which the lessee can sell the business.
When an existing lease comes to the end of the term it is usually renewable due to the protection of the Landlord and Tenant Act 1954. Thus renewal is without cost, other than legal fees. However the landlord can demand that repair or decoration obligations are addressed by the tenant. The renewal of the lease can be on existing terms, if the tenant insists, with the exception of the rent which is reassessed to market level which can be lower or higher than at the time the lease is renewed.
In recent years shorther term leases have been introduced, very often for 5 year terms. These agreements also benefit from protection of the Landlord and Tenant Act 1954. These shorter term leases have been introduced as they reduce, or even eliminate, the cost of Stamp Duty which can apply to a new lease.
Brewers or Pub Co tenancies are fairly short term agreements, where the tenant buys only the fixtures and fittings, bar glassware and stock at the business and pays a rent for the property. A security deposit is also frequently paid, equivalent up to three months rent as security against non - payment of rent and brewers trading accounts. It is very rare for any goodwill element to be included in the price of a tenancy. Tenancies are not assignable, so tenants cannot sell on any business interest at a profit. On deciding to leave, a tenant surrenders the tenancy after giving statutory notice to the Landlord and usually sells the trade furnishings, fittings, glassware and stock at valuation to a new tenant or back to the landlord.
Tied or Free of Tie?
Freehold pubs are usually "Free houses" meaning that they are free of tie and can buy products from any brewer or suppliers they choose to deal with. They are free to negotiate terms with their suppliers to obtain very good discounts, especially on beers and lagers. Provided they can maintain their selling prices the discounts obtained can result in greatly improved "bottom line" profit.
To help fund the purchase or improvement of a pub, an owner might obtain a loan from a brewer and become "tied" for the duration of the loan. Normally such brewers' loans are at lower rates than bank interest rates, (sometimes, no interest is payable) but the pub owner does not obtain such large discounts as would be available without the loan from the brewer.
A small proportion of leases are also free of tie, whereby the lessee has the same freedom to negotiate terms with suppliers and obtain good discounts. As this should result in a greatly improved "bottom line" profit, the market value of the lease could also be higher.