The art of a lease negotiation can sometimes turn into a game. Who will blink first, meaning who will give in to what the other wants?
In times like these we are being asked to do everything we can to save money. Do not spend cash, defer maintenance and cut as much capital expenditure as possible.
I know a few of my IAMC peers heard around this time from their C-suites that significant rent reductions were almost a foregone conclusion. As head of Corning’s real estate department, I soon began to feel a bit of pressure to secure lease reductions, concessions, etc. After all, if the government says you cannot occupy your leased workplace, can you really be required to pay the full rent? But in fact, that can be the case.
The legal device called force majeure says if a catastrophic event prevents a tenant from occupying the facility, the tenant is due an agreed-on remedy for the period of his exclusion. But this is applicable only if that event is written into the lease and both tenant and landlord sign off on it. Prior to the coronavirus pandemic, most U.S. commercial leases did not include pandemics as specified force majeure events. So, most tenants were still expected to pay up.
Today, most companies’ sales are substantially down. Working capital from operations is insufficient to cover the previous totality of salaries, debt service, lease payments, etc. The companies of course have reduced expenses and sought temporary government assistance, which came in the form of the CARES Act.
While the government acted quickly to help consumers and companies, commercial property landlords are still faced with difficult issues. Their lenders expect timely payments on all their properties. Some very large landlords also are subject to share price declines when the equity markets see threats to timely mortgage payments. And often, landlords cannot reduce or defer rents without the pre-approval of their lenders.
When commercial real estate markets are working well, companies have access to leased space at market rates. And landlords have access to strong-credit space users to lease their space at market rates. But to realize these benefits, companies and landlords need a healthy leasing marketplace.
Companies can demand rent relief; landlords can require timely lease payments; and commercial mortgage lenders can insist on their loan payments. But fully meeting all three requirements is difficult today. The system does not have enough cash flow.
So, who gets paid? How much? And when? The answer to these questions will come about from negotiations. I believe these need to be tempered with a realization that maintaining a well-functioning marketplace will best serve us all in the long term.
When this economic adjustment is complete in two to three years, the property marketplace may need less office space and a different mix of industrial. There will likely be other changes that follow. Large companies will certainly come through this fine, as will the landlords and their lenders. The adjustment will work best if we all take the high road.
Colleen Caravati
Chair, IAMC Board of Directors