The Coronavirus pandemic and the economic “Great Pause” has impacted commercial leasing across industries, as business owners shut down, reduced, or greatly altered the way they do business and serve customers, which in turn has put pressure on rent collected by landlords. Now, with California beginning the process of opening up the economy, commercial landlords and tenants are preparing for a return to work in a substantially altered landscape which may involve a restructuring of the lease.
The good news is that the pandemic is spurring strong communication between tenants and landlords, which is imperative for any lease restructuring, as landlords and tenants must treat each other as partners. There are several forms which a lease restructuring or workout may take.
Landlords can offer various concessions depending upon the property type as well as tenancy type. For office tenants in larger complexes, as an example, some landlords may waive parking fees or common area maintenance charges that are no longer being utilized, such as janitorial services.
Another option in a lease workout is to defer rent, with repayment over time, in conjunction with a waiver of late fees, penalties or interest. It is important for parties to agree to a fixed time period and amount of rent that is to be deferred and a fixed time period for repayment. Parties must be realistic as to whether the business’s revenues will support repayment as the bill will come due and can potentially be a double or triple rent payment. In some instances, for some retail tenants who are being severely impacted by the pandemic (such as restaurants that have had to shift to limited take-out service), base rent is being deferred for 2-3 months to be paid back over 12 months or is being tacked onto the end of the lease.
A few institutional retail shopping center owners have stated that national retailers who have refused to pay their rent will be sent to legal departments (rather than their leasing teams), where they are seeking to take advantage of the situation versus other tenants that are genuinely being negatively affected. In the majority of cases, landlords are requesting from tenants documentation on proof of business loss such as sales reporting and/or profit and loss statements when making decisions on a case-by-case basis. This is happening by and large although there are exceptions. One landlord who owns a small commercial building, works out of one unit, and rents the remainder, was told by a tenant that they could not pay any rent and at the same time refused to open up their books to back up their representations. In fact, the tenant subleased half their space and would not disclose whether they were still collecting rent from the subtenant. We hear a lot of entrepreneurs preaching to “never let a crisis go to waste”, however this is a time of extraordinary hardship in which landlords and tenants are operating out of goodwill, which should not be taken advantage of by profiteering by a few opportunistic actors who are not in genuine need.
Rent abatement operates similar to deferral however without the requirement for repayment. Anecdotally, we have heard of one instance in Los Angeles where a very well capitalized institutional landlord gave all tenants in the complex 3 months of free rent with no requirement of payback; however, this is the exception and few landlords are in a position to make this type of concession, as owners are under pressure to pay bank debt and other expenses during this time. Sandy Sigal, CEO of shopping center owner NewMark Merrill recently offered the example where not only did they work with a small business tenant on getting a Paycheck Protection Program loan to help pay back most of the rent owed for March and April, but they have also allowed the tenant and others to pay percentage rent in lieu of the full rent. While NewMark does not have large debt obligations, the good news is most of their lenders are also working with them during this time.
Negotiation of the above options (abatement, deferral) may include an extension of the lease term on agreed upon terms, allowing for the deferred or abated rent to be amortized over a longer period.
Early Termination/Buy Out
Another option is for the parties to agree to an early termination with a buy-out amount to be paid to the landlord, in return for a release to the commercial tenant, as well as a release of security deposits and guarantors (if any).
About the Authors
Heather Boren is a commercial leasing broker with Estate Match Realty, specializing in tenant side representation and a professor of finance and real estate at Pepperdine Graziadio Business School.
Laine Mervis is a partner at the Los Angeles law firm Eanet, PC, representing commercial landlords and tenants in out of court workouts, litigation and arbitration.