WEBVTT - When Commercial Tenants Refuse to Pay the Rent

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<v Speaker 1>This is Bloomberg Law with June Grasso from Bloomberg Radio.

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<v Speaker 1>Major US retail and restaurant chains like Subway, the Cheesecake Factory,

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<v Speaker 1>and Urban Outfitters are not quibbling about it. They will

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<v Speaker 1>not be paying rent while their restaurants and stores are shuttered.

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<v Speaker 1>The threat of a ripple effect across the real estate

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<v Speaker 1>sector is looming, with the worst case scenario being banks

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<v Speaker 1>calling in loans and repossessing assets. Joining me is Andrew Rossman,

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<v Speaker 1>a partner a Quinn Emmanuel. How bad is the situation

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<v Speaker 1>from what you're hearing from your clients. Well, for retail clients,

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<v Speaker 1>it's pretty severe. They have no foot traffic obviously, their

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<v Speaker 1>stores are shuttered, and they are looking to the question

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<v Speaker 1>of whether they can get complete relief or some relief

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<v Speaker 1>from their landlords or if necessary, from the government or

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<v Speaker 1>other sources. Tell us what usually happens when a commercial

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<v Speaker 1>tenant can't make the rent? What did the landlord and

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<v Speaker 1>tenant usually do? Well. Leases are frequently written to be

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<v Speaker 1>pretty protective of landlords, so the landlords have a variety

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<v Speaker 1>of means to get the rent paid. Sometimes it can

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<v Speaker 1>be drawing down on a letter of credit for example,

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<v Speaker 1>and It can also include eviction of the tenant for

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<v Speaker 1>failure to pay, and it can happen pretty quickly in

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<v Speaker 1>the event of a non payment of rent. And here

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<v Speaker 1>what we've got is a situation where the tenants may

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<v Speaker 1>have some pretty unusual and potentially strong excuses under the

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<v Speaker 1>law for paying or for forbearing. How often do landlords

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<v Speaker 1>negotiate with tenants in commercial situations and commercial leases when

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<v Speaker 1>tenants aren't able to pay the rent, Well, it depends

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<v Speaker 1>on the size of the lease and the term. So

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<v Speaker 1>what we've seen here recently is it was publicized so

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<v Speaker 1>I could say it. Taubman has been telling all of

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<v Speaker 1>its tenants that they expect them to pay because they're

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<v Speaker 1>going to have to pay their lenders and pay utility

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<v Speaker 1>bills and so forth, and hold them to it. In

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<v Speaker 1>other circumstances where you've got a dominant tenant that makes

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<v Speaker 1>a building otherwise not commercially viable and that tenant camp pay,

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<v Speaker 1>than I would very much expect that the landlord would

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<v Speaker 1>try to work with them. The circumstance here is unprecedented

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<v Speaker 1>because it potentially impacts not every tenant, but of a

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<v Speaker 1>vast majority of tenants. When you look up and down

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<v Speaker 1>Fifth Avenue and Madison Avenue, and all the closed stores,

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<v Speaker 1>all the vacant office buildings throughout the city. Its situation

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<v Speaker 1>no one's ever seen before. Wendy's is deferring rent payments

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<v Speaker 1>on properties least to franchises by half over three months.

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<v Speaker 1>Can other businesses afford to take that kind of a hit?

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<v Speaker 1>Is that a solution for some businesses but not others?

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<v Speaker 1>It may have to be. I mean, people can only

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<v Speaker 1>pay what they can pay, and the law can step in,

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<v Speaker 1>and some circumstances legal doctrines, I should say and try

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<v Speaker 1>to help folks out. So if your cash flow is interrupted,

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<v Speaker 1>then it may be that doctrines like temporary and practicability

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<v Speaker 1>make it impossible for you to continue to pay on

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<v Speaker 1>down the stream. So if you're relying on a tenant

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<v Speaker 1>paying you to pay your lender, for example, that may

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<v Speaker 1>be a circumstance that excuses your payment or at least

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<v Speaker 1>gives you some basis for a forbearance. What other legal

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<v Speaker 1>concepts might come into play here? A variety of different

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<v Speaker 1>legal concepts that apply to circumstances when a contract unexpectedly

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<v Speaker 1>can't be performed or is extraordinarily difficult to perform. So

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<v Speaker 1>impossibility is the extreme where you can't perform the contract

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<v Speaker 1>at all. The example is where an opera house burns

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<v Speaker 1>to the ground and the opera singer can't perform. Impracticability

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<v Speaker 1>is short of that. It's one where in theory you

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<v Speaker 1>could because you can always in theory pay money. It's

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<v Speaker 1>not impossible, but you don't have the money to pay

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<v Speaker 1>because the way that the contract is structured, it's coming

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<v Speaker 1>from a particular source. Courts can be sympathetic to that,

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<v Speaker 1>particularly if it's a temporary situation. The other one that

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<v Speaker 1>comes into play here as a broad legal doctrine is

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<v Speaker 1>called frustration of purpose, which is where you engage in

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<v Speaker 1>a contract for a particular purpose so that everyone understands

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<v Speaker 1>and you can no longer achieve that purpose. So the

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<v Speaker 1>idea is, you know, you're renting Masison Square garden to

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<v Speaker 1>put on a concert and can no longer occupy the

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<v Speaker 1>garden because of government regulations. Well, the entire purpose of

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<v Speaker 1>the contract can't be fulfilled. So those are the legal

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<v Speaker 1>doctrines that can step in quite apart from particular clauses

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<v Speaker 1>and leases. Is this a time when courts might be

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<v Speaker 1>more sympathetic to tenants rather than landlords. It's a great question, June.

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<v Speaker 1>The courts are very accustomed to seeing commercial lease disputes,

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<v Speaker 1>and it's the landlords. They're typically repeat players, so they

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<v Speaker 1>have their game well owns and and leases that are

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<v Speaker 1>crafted to protect them. Here, I do think courts are

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<v Speaker 1>going to be unusually sympathetic. The courts themselves are really

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<v Speaker 1>under tremendous strains, So in New York, courts are closed

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<v Speaker 1>for everything except what's deemed essential business, and they're handling

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<v Speaker 1>cases on a remote basis. So I think you've got

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<v Speaker 1>a circumstance where courts are going to be quite sympathetic

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<v Speaker 1>to tenants, particularly if what the tenant is looking for

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<v Speaker 1>some kind of temporary relief until the crisis abates, at

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<v Speaker 1>least into some degree. Another question I have is if

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<v Speaker 1>there are, you know, mass defaults on commercial leases, how

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<v Speaker 1>much can the courts do during these times? Might overwhelm

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<v Speaker 1>the courts at a time, and they're not really doing much.

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<v Speaker 1>I think you're absolutely right. What you've got courts really

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<v Speaker 1>with judges not showing up, with lawyers not appearing, they're

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<v Speaker 1>doing what they can to try to handle essential disputes,

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<v Speaker 1>and I think, um they will expect parties to be patient. Certainly,

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<v Speaker 1>if what I read in the Wall Street Journal a

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<v Speaker 1>couple of days ago is that half of small businesses

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<v Speaker 1>in the US haven't paid their rent uh made their

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<v Speaker 1>mortgage payments for April, I think that problem accelerates into May,

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<v Speaker 1>because which you've got is people who are paying now

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<v Speaker 1>to avoid what are sometimes pretty draconian penalties in their leases. Um.

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<v Speaker 1>But they're just not going to be able to continue

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<v Speaker 1>doing that, And the courts can't handle that kind of volume. Uh.

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<v Speaker 1>And and there are going to in in uh, in

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<v Speaker 1>New York, in California. Uh, they've both either authorized local

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<v Speaker 1>governments to do it or or indicated that they're not

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<v Speaker 1>going to proceed with commercial evictions in the short run. UM.

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<v Speaker 1>Looking at that on like a three month basis, That

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<v Speaker 1>may continue, And certainly you can't expect courts to handle

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<v Speaker 1>thousands of cases on anything like an expedity basis. There's

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<v Speaker 1>so many unknowns here. But even if landlords succeed in

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<v Speaker 1>evicting someone, how do they get tenants in this environment?

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<v Speaker 1>It's a great question. Uh. Look, that's that's a commercial question.

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<v Speaker 1>They're going to have to be thinking about what do

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<v Speaker 1>they replace it with um, you know, sort of at

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<v Speaker 1>some point they may turn from being landlord's demanding rent

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<v Speaker 1>to being partners trying to figure out the best way

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<v Speaker 1>to restructure a difficult situation. And it's often better to

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<v Speaker 1>get some rent then to get none. Governor Cuomo has

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<v Speaker 1>said that tenants can't be evicted for the next few months.

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<v Speaker 1>Does that apply at all to commercial tenants or is

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<v Speaker 1>that just residential tenants? Now? Uh, my understanding is that uh,

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<v Speaker 1>commercial tenant evictions have been paused. It doesn't mean that

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<v Speaker 1>that they have gotten governmental real leaf in terms of

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<v Speaker 1>um actually paying their rent um. But I think courts

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<v Speaker 1>are minderstanding. Executive orders of courts are not going to

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<v Speaker 1>be uh conducting commercial evictions over the next ninety days,

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<v Speaker 1>and so those disputes will just continue to brew. Um

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<v Speaker 1>So in some instances, because as I mentioned, their penalties

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<v Speaker 1>and leases, tenants may continue to pay as long as

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<v Speaker 1>they can under a reservation of rights. We're seeing some

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<v Speaker 1>of that um in others like the cheesecake factory and

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<v Speaker 1>H and M examples that you gave, Uh, they're not

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<v Speaker 1>They're not gonna pay, and they're going to take their

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<v Speaker 1>chances and see what happens, but I don't think any

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<v Speaker 1>of those will result in immediate term evictions. Is there

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<v Speaker 1>any relief from the federal government or the state government

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<v Speaker 1>for example the Cares Act? Is there any relief there? Well,

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<v Speaker 1>I understand that there's three fifty billion dollars that has

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<v Speaker 1>been devoted to small business loans. Obviously they're a lot

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<v Speaker 1>of devils and those details. Um, but uh, I don't

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<v Speaker 1>I don't know that it's directed specifically towards um towards

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<v Speaker 1>payment of rent, but I think that's the The idea

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<v Speaker 1>is it's to keep small businesses afloat so they can

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<v Speaker 1>pay their rents. And some landlords are taking the view

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<v Speaker 1>that well, you know, you can either look to the

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<v Speaker 1>government for help that you can't afford the rent, or

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<v Speaker 1>you can look to business interruption insurance, which is a

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<v Speaker 1>source of recovery for some businesses if if they're fortunate

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<v Speaker 1>enough to have it. Um. But you know, we expect

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<v Speaker 1>that our rents do because we have our own obligations.

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<v Speaker 1>So uh if that's um. You know. What I've also

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<v Speaker 1>read is that only something like a quarter of landlords

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<v Speaker 1>or banks are offering any kind of rent reduction or

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<v Speaker 1>deferral to the small businesses that can't pay. That's a

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<v Speaker 1>pretty big looming collision. You know, half the half the

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<v Speaker 1>businesses aren't paying, and only um you know half of

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<v Speaker 1>those involve landlords who are willing to compromise with them. Uh.

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<v Speaker 1>Then then there's gonna end up being quite a lot

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<v Speaker 1>of disputes. What kinds of calls are you getting from

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<v Speaker 1>your clients? Sure, so we're we're talking to uh, you know,

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<v Speaker 1>commercial tenants. UH. So we're talking to you know, I

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<v Speaker 1>won't have old any client names. We're talking to household uh,

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<v Speaker 1>you know name retailers. We're talking to um, fortune five

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<v Speaker 1>type companies, you know, large employers that have a need

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<v Speaker 1>for massive office space. UM. Candidly, we also talked to

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<v Speaker 1>uh landlords, we talked to reachs, we talked to um

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<v Speaker 1>uh commercial brokers, UM, you know, across the landscape of

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<v Speaker 1>what they can do. UH. And you know, these are

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<v Speaker 1>uh frequently very tailored situations. UH. And it depends, you know,

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<v Speaker 1>how much their cash flow is hit it and how

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<v Speaker 1>much their business is hit, and whether there's any degree

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<v Speaker 1>to which the property can be salvaged or put to

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<v Speaker 1>other use during this time period. So it's a it's

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<v Speaker 1>a case by case circumstance. Um. But we're seeing it

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<v Speaker 1>as a problem from every direction. Lenders, uh, you know,

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<v Speaker 1>the actual commercial landlords, and of course the tenants whose

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<v Speaker 1>businesses are completely disrupted by this. You have this reverberating

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<v Speaker 1>effect or cascading effect. So the landlords are any of

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<v Speaker 1>them already coming up against problems because they can't pay

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<v Speaker 1>their loans. Well, I can't say I have seen that

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<v Speaker 1>quite yet. They've talked about it as a potential problem, um.

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<v Speaker 1>And you know, the large commercial landlords may be well capitalized.

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<v Speaker 1>A lot of buildings are structured in a way where

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<v Speaker 1>they're held in special purpose vehicles. So it's sort of

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<v Speaker 1>a self contained economic unit which relies on uh, you know,

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<v Speaker 1>relies on rent to be paid. Uh. That's going to

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<v Speaker 1>be funding in turn, what the commitments are to the lenders,

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<v Speaker 1>what the commitments are too if there's a master lease

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<v Speaker 1>on the property on the ground lease owner, what the

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<v Speaker 1>commitments are for utilities, for taxes and so and so forth.

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<v Speaker 1>So there may be circumstances where, despite the health of

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<v Speaker 1>the uh commercial landlord, that the particular property has business

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<v Speaker 1>risk associated with it, and that all depends on um,

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<v Speaker 1>how tight the economics are of that property, and and

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<v Speaker 1>you know, how long this crisis goes on for buildings

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<v Speaker 1>makes you know, certainly survive. I'm on for two or three. Uh,

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<v Speaker 1>you know, at some point the building is you know,

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<v Speaker 1>the building economics itself may not survive. How do you

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<v Speaker 1>handle this when you don't know how long this could take?

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<v Speaker 1>I mean, every day it seems like they're any another

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<v Speaker 1>week and their month onto how long will be you

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<v Speaker 1>know shuttered, which means that business activity is low or nil. Yeah, no,

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<v Speaker 1>it's it's an impossible situation because you know, one has

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<v Speaker 1>a crystal ball in terms of how long this crisis

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<v Speaker 1>is going to keep everyone sheltering in place. So it

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<v Speaker 1>seems like the markets are you know, frankly paying more

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<v Speaker 1>attention to the daily press conferences of Governor Cuomo than

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<v Speaker 1>almost anything else because they're trying to get a handle

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<v Speaker 1>on how long we're gonna we're gonna live like this,

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<v Speaker 1>um you know, all hermited to ourselves and our homes,

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<v Speaker 1>and and they're being you know, no commerce on a

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<v Speaker 1>lot of sectors of the economy, at least none remotely

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<v Speaker 1>like what we're used to. So that's you know, that's

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<v Speaker 1>almost impossible for folks to predict and you know, it's

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<v Speaker 1>a circumstance where I don't know, frankly, either landlords and

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<v Speaker 1>tenants are going to be working with each other, um,

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<v Speaker 1>and working with lenders to try to come up with

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<v Speaker 1>short term resolutions or there there's gonna be a lot

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<v Speaker 1>of brewing disputes. And where push is going to come

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<v Speaker 1>shove is you know, where you've got the tenants who

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<v Speaker 1>absolutely don't have the ability to pay, Um, we'll just

0:14:30.320 --> 0:14:33.560
<v Speaker 1>stop paying and um, you know, and then the dominoes

0:14:33.600 --> 0:14:37.360
<v Speaker 1>fall from there. When can landlords claim their property has

0:14:37.480 --> 0:14:41.040
<v Speaker 1>been effectively taken by the government? You know, there is

0:14:41.160 --> 0:14:44.560
<v Speaker 1>this concept that's embedded in the system endment of the

0:14:44.560 --> 0:14:48.200
<v Speaker 1>Constitution of a taking by the government. The government cannot

0:14:48.200 --> 0:14:51.440
<v Speaker 1>take your property without giving you just compensation. So the

0:14:51.480 --> 0:14:55.920
<v Speaker 1>classic example of eminent domain, they decide that they're going

0:14:56.000 --> 0:14:59.680
<v Speaker 1>to uh condemn your house since they were building a

0:14:59.760 --> 0:15:03.440
<v Speaker 1>high way that's needed for public use, and then they

0:15:03.560 --> 0:15:06.040
<v Speaker 1>have to pay you the market value of your house.

0:15:06.600 --> 0:15:10.800
<v Speaker 1>So what happens if you have uh some government restriction

0:15:11.200 --> 0:15:14.160
<v Speaker 1>that diminishes the value of your property but doesn't quite

0:15:14.160 --> 0:15:17.680
<v Speaker 1>destroy it, or that temporarily makes it unavailable. There are

0:15:18.280 --> 0:15:22.960
<v Speaker 1>concepts in some jurisdictions of regulatory takings. So the idea

0:15:23.000 --> 0:15:26.160
<v Speaker 1>of the government puts a constraint on your property that

0:15:26.400 --> 0:15:31.440
<v Speaker 1>greatly diminishes its value or its use, and those have both,

0:15:31.520 --> 0:15:35.480
<v Speaker 1>you know, potential effect of making claims against the government

0:15:35.600 --> 0:15:37.600
<v Speaker 1>in certain circumstances. I would think this would be a

0:15:37.600 --> 0:15:41.040
<v Speaker 1>difficult one, since this is you know, the government exercising

0:15:41.080 --> 0:15:45.880
<v Speaker 1>its police power, or it can be ones that trigger

0:15:46.680 --> 0:15:52.240
<v Speaker 1>rights under the lease. So casualty clauses under leases have

0:15:52.440 --> 0:15:57.520
<v Speaker 1>language frequently that allows for non payment of rent in

0:15:57.560 --> 0:16:01.480
<v Speaker 1>the event the property is uh to froid. Uh. Some

0:16:01.560 --> 0:16:05.640
<v Speaker 1>of them have much more broad language that includes the

0:16:05.680 --> 0:16:10.560
<v Speaker 1>properties impaired or that the property has restricted use by

0:16:10.600 --> 0:16:15.520
<v Speaker 1>a virtue of a government regulation. Uh. And in those circumstances,

0:16:16.040 --> 0:16:19.920
<v Speaker 1>that may well be a basis for tenants to not

0:16:20.080 --> 0:16:23.080
<v Speaker 1>have to pay, at least on a temporary basis. Thanks Andrew.

0:16:23.320 --> 0:16:28.800
<v Speaker 1>That's Andrew Rossman, a partner at Quinn Emmanuel. Thanks for

0:16:28.880 --> 0:16:32.120
<v Speaker 1>listening to the Bloomberg Law Podcast. You can subscribe and

0:16:32.200 --> 0:16:35.440
<v Speaker 1>listen to the show on Apple Podcasts, SoundCloud and on

0:16:35.520 --> 0:16:40.240
<v Speaker 1>Bloomberg dot com slash podcast. I'm June Brasso. This is

0:16:40.280 --> 0:16:44.440
<v Speaker 1>Bloomberg ye