The Great Comeback Series: Commercial Lease Negotiations – What Now?
March 3, 2021
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The government has announced our return to normality this summer, meaning an inevitable end at some point soon to the various support packages – the most relevant for the commercial lettings market being furlough (which has just seen what is probably its final extension in the budget) and the protection of tenants from eviction.
This article considers what we believe will come next in the new normal for the occupation of leasehold commercial premises. The relaxation of lock down will have huge potential implications and opportunities for a property sector which over the past 12 months has been radically reconstituted.
Victims of coronavirus
There have been many economic casualties in the property sector. Various factors have caused such casualties – some were simply victims of the circumstances and/or in the wrong place at the wrong time, for example hospitality operators. Others were poorly equipped pre-coronavirus and did not have time to adapt to the changes in circumstances. Successful operators were either already well geared up or have been able to evolve and maximise opportunities by harnessing the online distance selling marketplace.
Thankfully a lot of what we have seen during the pandemic has involved give and take – resulting in mutual agreements between the parties. Unfortunately where people have fallen out, landlords are especially pleased that they will soon be finally free of the shackles that have prevented them from evicting their tenants. On the other hand, we believe most tenants have been pleased to find landlords willing and able to nurture them through this horrific period.
Unless the relationship has totally broken down, occupiers and owners usually have very closely aligned interests and this includes the success and longevity of what is a symbiotic relationship. Landlords want to see tenants operate and be profitable and tenants want to pay the rent and benefit from the space. It is such a shame that we have witnessed some instances in which the parties have not come to mutually acceptable solutions during the past year and we expect that unless steps are now swiftly taken to rectify those situations, it is those cases that will unfortunately (for clients!) keep our property litigation colleagues busy this summer. In any relationship, trust is key. How people have behaved / behave now will undoubtably impact on the future. It will also impact potential deals going forwards.
Our experience and expectations for the future
We act for landlords as well as tenants and have seen the situation play out from both sides. Sometimes we see (and assist) landlords taking a firm stance against tenants who will not engage. Whereas sometimes it is the tenants on the front foot. Some occupiers have threatened or indeed taken out insolvency proceedings to rationalise their portfolio and minimise outgoings or have even been trading strongly throughout the pandemic without engaging properly with the landlord about a mutually acceptable rent solution. Some landlords have been trying to force their tenants to accept no deferment or rent holiday arrangements – or have been calling in various guarantees from previous tenants whilst not enforcing against the incumbent tenant.
There is no doubt that this has been a very difficult time for everyone involved and it will take time for everything to settle back down.
Prior to the pandemic, things had bounced back from the credit crunch and we had ceased an ‘unprecedented use of the word unprecedented’ and moved back into a growing property market in which transactions could once again flow freely. Transactions were driven by the commercial strengths of each party on a site-specific basis. In sectors such as outlet centres, shopping centres and railway stations, turnover rent leases were quite common to see – albeit in the context of commercial leasing generally – turnover rent leases were in the minority, with most leases having a fixed annual rent with periodic market rent reviews. Leases have traditionally made allowances for closures due to insured and (more recently) uninsured risk events.
There have been noticeable new trends in that employers have realised that it is very efficient to allow their employees to work from home, and that with the new software in place they can trust and monitor work being done. This greatly reduces office requirements and will see city centres turn into more residential and mixed use. This means that leases and other property documentation will need to ensure flexibility for those spaces to allow changes of use and perhaps subletting to users of small spaces such as lockers and safe deposit companies who are providing click and collect services.
The coronavirus crisis means that a typical commercial lease will need to change in the future. As a firm we have seen a rise in turnover rent leases and believe that many tenants will be unwilling to accept terms to occupy spaces unless such terms allow flexibility on uses, as well as a degree of shared pain / shared gain such as that which comes with a turnover rent arrangement. Interesting questions arise such as ‘what happens to my rent-free period if there is another lockdown or insurance event’; and ‘how is turnover rent calculated in a digital age’. We can help with these questions.
We expect (if or when the insurance industry catches up – or is forced to catch up) to see more leases that will treat events such as a pandemic or forced lockdown in a similar manner to insured and uninsured risk events- i.e., a suspension of rent and potential termination rights if things do not change over a set period. Institutional lenders and investors need to begin to recognise these factors in more detail going forwards – and to accept them.
The question for all this being ‘where does the buck stop’ because lenders and insurers have been slow to pick up the slack during the past twelve months – leaving many landlords to pick up the pieces unfortunately. Insurance companies and lenders have not covered themselves in glory during the past twelve months in the eyes of both landlords and tenants. Thankfully the reality of a lack of trade and ability to pay has meant that the parties have generally agreed to things which their leases did not and could not ever have imagined. Going forwards as practitioners and as an industry we need to do our best to work together to properly equip our clients with the ability to be protected in these situations.