COVID-19 and Business Leases – a Balancing Act for Landlords and Tenants
Ban on Evictions in Commercial Tenancies – the Design Furniture Case
While there has been controversy over the past number of weeks as to whether the temporary ban on evictions applies to commercial tenancies, it seems that the possible impact in the wider context of landlord and tenant relationships is limited.
When passing the Emergency Measures in the Public Interest (Covid-19) Act 2020 to address the obvious issues facing residential tenants, the Oireachtas prohibited “all proposed evictions in all tenancies in the State” for an initial period of three months from 27 March 2020. While the non-prescriptive language in the legislation was picked up as being potentially relevant to commercial tenancies at the time, it was considered that the intention of the legislature was to ban the termination of residential tenancies only.
This argument has been raised in the High Court in the past number of weeks, where Design Features Limited, a Dublin furniture business, was seeking access to its premises following its failure to pay rent for the month of April. It is understood that a forfeiture notice had been served on the tenant but the landlord subsequently denied that it had sought to prevent the tenant from accessing the premises on foot of the notice - most commercial leases contain forfeiture provisions which entitle the landlord to terminate the lease for non-payment of rent (and for other breaches of covenant).
While an interim order was made at the ex parte stage (when the landlord wasn’t present in court), the landlord, out of concern for the adverse publicity, has since provided the court with an undertaking not to act on foot of the forfeiture notice served, during the emergency period. As a result, the court has not had to make any determination on the question of whether the emergency legislation does ban evictions of commercial tenants.
It is possible that other tenants, who are facing eviction, may seek to use similar arguments, so the question remains open. While this will be of interest to industry observers, it seems that, even if the evictions ban is relevant to commercial tenancies, the legislation is unlikely to offer significant protection to tenants in the long run. As it stands, a considerable length of time is normally afforded to tenants in default before a landlord might be able to regain possession of the property. Given that the emergency legislation will be in place for a relatively short period and the fact that court lists are taking much longer than usual, most landlords are unlikely to seek to forfeit leases during this initial period. Instead, it is more likely that landlords will invoke forfeiture provisions many months after the crisis has formally ended, when considerable arrears have built up or where tenants may still not be in a position to pay rents given the likely difficult trading environment at that stage. If that happens, it seems that a tenant will no longer have the benefit of the emergency legislation, even if the arrears arose during the initial crisis phase.
While forfeiture and disputes around it may well become an important element in the post crisis era, there are more general considerations around the landlord and tenant relationship which deserve further analysis.
General Impact of Crisis on Business Tenancies
The extreme impact of Covid-19, on trading levels, has caused businesses in all sectors in the economy to reduce operating costs in an environment where it is still unclear when business will resume on a normal footing. These measures have, in the main, involved the elimination of unnecessary discretionary expenditure and the lowering of payroll costs through wage cuts or reductions in staff numbers.
However, most trading businesses incur considerable ‘property costs’ on an ongoing basis, including rent and local authority rates. How to deal with those costs on a reduced or zero turnover, in a way that is sustainable but also in compliance with legally binding obligations, is a difficult balancing act for all concerned.
The government has announced wage support schemes and has encouraged utility suppliers, insurers and lenders to be reasonable in how they deal with customers who are suffering financial difficulties. The government, in the case of residential tenancies has announced a freeze in rents and a ban on evictions during the crisis. Local Authority rates payable by businesses have been deferred.
However, given the complexity of the financing arrangements underpinning the ownership of many commercial buildings in Ireland, it was generally accepted that it would be inappropriate for the government to directly interfere with commercially negotiated tenancy arrangements of retail, industrial and commercial property. As a result, landlords of commercial property remain in a strong position from a legal perspective.
Different Approaches
A ‘one size fits all approach’ to these issues (which may be suitable in other sectors) does not take into account the fact that some retail (eg. supermarket) businesses are thriving but others (eg. pubs and restaurants) have been forced to close. Equally, some tenant entities have strong balance sheets and can afford to pay rent (even where turnover has dropped) but others have no ability to pay anything when not trading. On the other side of the equation, some landlords have heavily leveraged their portfolios and are answerable to lenders and investors; whereas others own their rented properties outright and can make their own decisions.
We have received numerous enquiries over the past number of weeks from commercial landlords and tenants in relation to these issues and the common theme, in the advices provided, is that ‘every situation is different’. Ultimately, the landlord and tenant relationship is a commercial arrangement and any issues which arise are usually capable of being resolved in that context.
Bewleys Grafton Street
It has also been announced in the past number of days that Bewleys Grafton Street is to close permanently, after it had unilaterally claimed a rent “holiday” from its Landlord. From what we understand, the landlord did not react favourably to this step and this is what has given rise to the decision to close.
The principal reason cited for the closure is the rent payable at the premises and while the impact of the crisis seems to have worsened matters, it is important to remember that there is considerable historic context to the lease in question which has included negotiations around a redevelopment and a seminal court case on upwards only rent reviews. The lease was also due to expire in the next few years so one can only speculate as to the motivations of the parties in reaching this juncture. What can be said however is that this is a prime example of how every landlord and tenant relationship will have to be assessed on its particular circumstances.
Lease Documentation
The written lease agreement provides the basis of the landlord and tenant relationship; this should be reviewed carefully before taking any steps.
The lease should be checked for provisions in relation to the payment of rent, service charge and interest, keeping the premises open for business during specified times, the right of the landlord to forfeit the lease for non-payment of rent/breach of covenant, the provision of landlord services and any force majeure/suspension of rent provisions.
It is extremely rare to find lease provisions which would envisage a suspension or reduction in rent during a pandemic but, where a premises has been closed, it may be argued that the landlord’s covenants to provide services or for quiet enjoyment have been breached. That said, these are mere ‘arguments’ and, invariably, the landlord will have the ‘whip hand’ in cases of non-payment of rent; as these leases are generally weighted in favour of the landlord on these issues. Ultimately, the ability of the landlord to sue the tenant for the non-payment of rent or to exercise its rights to forfeit the lease (assuming any temporary ban no longer applies) will put the landlord in a position of legal strength in any negotiations.
There may be concessions in the lease such as an imminent break option which might be of assistance to a struggling tenant, who could break the lease early. It should be noted that most break clauses are dependent on the tenant being in full compliance with its lease obligations - so a tenant seeking to invoke a right to terminate, would have to continue to pay the full rent up to the break date. If the break option is not imminent, the tenant may be able to surrender the option in exchange for a rent concession/deferral – subject to landlord agreement.
‘Hail Mary’ Arguments/Tenant Strategies
It is possible, against the backdrop of the extraordinary situation that has occurred, that tenants will seek to invoke common law/equitable legal doctrines such as ‘frustration’ or ‘non derogation from grant’, or variants of them, in an attempt to defend landlord actions for non-payment of rent. Against this, landlords will argue strongly that these concepts have always been confined to very specific circumstances and are intended to go the root of the contractual relationship rather than to be a temporary sticking plaster for tenants during a crisis. Also, the evidence, from the financial crisis, is that the Irish courts are extremely reluctant to embrace radical changes to landlord and tenant law, even where tenants have found themselves in difficult financial circumstances.
Of course, some corporate tenants may themselves seek the protection of the courts where they are insolvent or facing insolvency, but their underlying business is sound but for historic liabilities or unsustainable rents. Subject to satisfying the Court that they have an undertaking that is capable of survival as a going concern, corporate tenants can seek court protection from creditors (including landlords), for a period, to allow them to restructure and survive as a business. This is known as examinership and, if successful, will result in a scheme of arrangement which will require court and creditor approval. The scheme may include provision for the write-off/down of rent arrears. The scheme cannot unilaterally vary the terms of the lease or deny the landlord the right to act on a future breach of the lease.
Depending on the situation, and with the court’s leave, the company could repudiate a lease or the examiner appointed could disclaim an onerous lease, if an acceptable rent could not be agreed with a landlord. The landlord would then rank as an unsecured creditor for the consequent damages as agreed/assessed by the court and receive a dividend in full and final settlement of that claim. Where this is a possibility, the landlord will need to carefully consider whether a reduced rent with the restructured tenant is a better outcome than the lease being repudiated/disclaimed or the tenant business going into liquidation.
Negotiation and Agreements
Ultimately, these issues will be resolved commercially between the parties in most cases. The above is merely a selection of legal issues/factors which may be relevant in those negotiations. Landlords will be conscious of the likelihood of recovery if no deal can be done but may also be concerned about the long-term viability of a tenant, once the crisis is over. Other landlords may have little sympathy for otherwise strong businesses, which are suffering temporarily during the emergency period, and will point to the fact that they expect blue chip tenants with strong covenants to perform their obligations.
When agreement is reached, it will usually be documented as either a variation or side letter to the main lease agreement. This agreement should specify the duration of any concession provided; whether rents are being deferred or forgiven; whether interest is payable on any arrears and when it is to be paid; the withdrawal of any break option or other tenant concessions which may have to be surrendered in favour of a rent reduction; and, from a landlord perspective, it is advisable to ensure that any temporary concession is not taken into account on a future rent review.
The key message for landlords and tenants is to keep the lines of communications open and, having considered the lease terms and the commercial background, reach a sustainable and enforceable commercial agreement.
If you have any queries on the above please contact Killian Morris, Real Estate Partner or your usual AMOSS contact.
