Premise Lease Negotiations

Pandemic Effects on Tenancies


Ian D. Toms


October 21, 2020

October 21, 2020

Welcome to today! If anyone had told you six months ago that you would be in your current position, you would have thought they were out of their mind. The changes associated with the pandemic have caught us all by surprise. Yet, here we are. And where exactly is that?

Bricks and mortal – the evolution of the commercial real estate problem
Commercial property has been an investment craze for the past two decades. During this period, government bond yields dropped from 6% to 1%, so fund managers, pensions and private people invested heavily in commercial real estate. Globally, institutional investors have placed some $11 trillion USD in commercial real estate. The global stock of investable commercial real estate – hotels, shops, offices and warehouses has quadrupled since 2000 and is currently $32 trillion USD with more than a third owned by institutional investors.
Throughout the world, beginning in mid-March and continuing through June, the economic effect of the lockdown led to anarchy; millions of tenants stopped paying rent. Up to 90% of tenants in some developments (typically enclosed malls) did not pay rent. Landlords’ offices spiraled into chaos. Tenants, landlords, creditors (banks, shareholders and pension funds) and governments pushed and shoved each other to see who would fall down first.
What have tenants and landlords done to ease the financial pain? In most cases, they deferred rent payments. Very few landlords forgave rent. Our government offered financial assistance to tenants under the Canada Emergency Commercial Rent Assistance (CECRA) which reduced tenants’ rent to 25% in exchange for the landlord paying 25%, and the government paying 50%. No program, including CECRA which is expected to end September 30, is a long-term solution because the fundamental problem has not gone away. The rent is still owed, and it will need to be re-paid either directly as deferred rent or indirectly as increased taxes at a time when the economy, tenants and landlords are impaired.
The effect of being closed for months, then re-opening at reduced capacity is having and will continue to have direct and indirect effects that we are only beginning to see. Income ceased for 3-4 months and now many businesses are operating under pandemic protocol at break-even points or at a loss, saddled by the accumulated debt from the complete shut-down.
There are no precedents. It’s impossible to clearly and completely understand all of the implications at this time; however, it is helpful to survey the landscape and assess our position.
How big is the problem? Well, consider that Google told 200,000 employees not to return to their offices until July of 2021 which leaves an estimated 7,200,000 sq.ft. of office space empty. Similarly, CRA told employees in Ottawa they will not return to their offices until July 2021. If Google and CRA, as examples, can function well with their employees working at home, why would they renew their lease terms?
One large landlord - RioCan REIT - is processing 5,400 CECRA applications. Think about this. 5,400 tenants of one landlord alone are financially impaired enough to qualify for a government subsidy. RioCan owns approximately 220 developments; therefore, on average about 25 tenants in each development require government assistance.
Local media reports that Queen’s University in Kingston is expected to receive 6,000 students this fall compared to 24,000 from the previous fall. This amounts to a difference of 18,000 people who would normally buy pizza, beer and rent accommodations and contribute to the local economy.
The problem, now, is that tenants are locked into decades long leases with many terms and conditions including rent agreed to in pre-Covid times. We will see the first wave of obvious repercussions this fall when CECRA expires since landlords agreed not to lock tenants out during the program. When the program expires, tenants will be locked out.

Business as unusual – time to move forward
It’s time to wake up from the dream. Our society was and is, in large part, accustomed to the bricks and mortar concept both as investments and as places to live and work. The fabric of society which we took for granted has shifted dramatically, and with it, so has commerce.
The problem only remains a problem if we continue to behave in the same way we were prior to this pandemic. Tenants and landlords need to change to adapt to the new circumstances. We need to re-think and restructure leases.
A lease is an agreement written at a certain time based on a number of assumptions that attaches the operation within the premises to a location. Many of these assumptions are now incorrect, and in some cases irrational. For example, tenants whose sales have dropped 30% can no longer afford to pay the same rent. Setting the rent aside, maybe sales will return, but consider the myriad of other lease promises. For example, most tenants are required to carry business interruption insurance which is now no longer available. Landlords also have the same problem; most leases require the landlord to maintain rental income insurance – let me know when you find an underwriter.
As a tenant, right now, you need to look carefully at and understand your lease as well as how the obligations affect your operation. There are solutions. No response is not a correct approach. If you cannot pay the rent right now, why do you think you can pay the rent plus increased debt service later? If your location is no longer appropriate given customer activity patterns or spending habits, why plan to remain instead of relocating into newly vacated premises?
The correct plan is no plan at all and being flexible. Look for and create lease opportunities to adjust to your current situation, and circumstances.

Empty UnionStation, 12:03 pm,WednesdayJuly 29, 2020
The correct planis no plan at all andbeing flexible.