As we are living through unprecedented times, it is clear to business leaders today that what’s needed are truly experienced, knowledgeable, and imaginative counsel who not only know the law, but who understand how business and investment work. Excellent negotiating skills, particularly when dealing with landlords, are going to be critical.
Negotiating with Landlords
Last spring, when the pandemic hit, businesses typically moved to preserve as much cash as possible by trying to defer rent payments, freezing costs, cutting salaries, furloughing employees, and terminating contractors.
They drew down lines of credit to create a bigger cash cushion to ride out the storm, even as they worked to transform themselves for even more e-commerce.
In most cases, the first line of attack was to get the landlord to either lower rent or to try to get out of the lease altogether. If the former, tenants, as a negotiating tactic, told landlords they couldn’t make their rent payments until later that spring, and that they’d pay back the deferred sums along with what they owed in the fall, in equal monthly installments – to spread it out. The thinking was that the world would be back to normal by summer. That was the playbook followed by companies directly negotiating with their landlords.
What they didn’t anticipate was the current state of affairs. But here we are, ten months later, and despite a small uptick in retail revenues during the summer months, we seem to be back where we started. Revenues did not snap back, so now retailers are facing not just paying last spring’s rent, but what they owe now, an untenable situation.
Before last March, occupancy cost was in direct relationship to anticipated profit margin, but that has changed and now what retailers are trying to figure out is what to do about the lease. The fact is, you’ve signed a lease and landlords expect tenants to live by those contracts.
The initial argument tenants usually gave was that things are tough, so defer or lower the rent. But going to the landlord to say business was down by “x” percent, didn’t work. The landlord’s position was: When are things good, tenants don’t call up to offer more money.
When things go soft, tenants still have to pay the rent, they’ve signed a contract. Landlords said that they, too, have shareholders, creditors, mortgages and employees. So, in terms of negotiating power, landlords were in the driver’s seat; their view was that they had others who could occupy the space and would want to pay more – the ultimate negotiating position.
But today, circumstances have changed. And even though there’s talk of landlords re-purposing space into health care facilities, distribution centers, apartments, or call centers, it hasn’t happened yet. And even where this is possible, it only accounts for a tiny percent of the vacant space. Now, the only way they’ll agree to relief on the lease is if you, the tenant, can convince them it is in their best interest. This works in the tenant’s interest in three ways:
1. Convincing the landlord that you’re on the verge of bankruptcy or being in Chapter 11 is your ultimate negotiating leverage. Today, a tenant can say with certitude that business is suffering; sales are down without an end in sight; we are running out of cash; we can’t make payroll; we’re about to default on our bond debt.
When a landlord is approached with this scenario, he’s going to think, What’s my alternative in this dire situation? Am I willing to risk default? vacancy? So, it will be in his interest to negotiate with you. Landlords today must work to keep tenants as they face mounting financial obligations. In the last month alone, two landlords with national properties filed for bankruptcy protection, and a number of malls owned by major national landlords were turned back to their lenders.
2. If you have a lease that’s expiring, you’ll be more successful asking for rent reduction because of the environment we’re in. When a lease is coming due, that’s always opportunity to negotiate.
3. If you have a business that is actually viable (a grocery chain, or any essential service) and take the position that you, too want rent reductions, landlords may be amenable but be prepared that they will ask to see your financials. If your sales are up and you have some cash, chances are you won’t get relief.
Then, it’s a question of whether or not you want to break your lease and look for cheaper space. The alternative is that you may be able to reduce your current rent by extending term.
Finally, besides having a plan and team in place, remember to keep the lines of communication open. Being proactive in communications with lenders and landlords can lead to better outcomes. The instability unleashed by the Corona virus is unprecedented, and parties will have a vested interest in working together to preserve the enterprise, maximize value, and try to get back to “normal” as soon as possible.
Matt Bordwin is principal & managing director at Keen-Summit Capital Partners, a leader in workout and investment banking specializing in restructurings, bankruptcies and receiverships and also offering real estate brokerage and auction services.