Articles
Lease Restructuring & Forbearance
With the downturn in the economy, many retail stores are losing revenue. This in turn hinders their bottom line and ability to pay rent. Landlords are trying to maintain occupancy and tenants are looking to stay in their leases. As a result, there is a trend among landlords and tenants to enter into Forbearance Agreements. The tenants stay in the premises and the landlords do not evict the tenants. However, the tenants do not pay their rent or their rent is reduced. The landlords agree to either extend the lease to incorporate the payments that are being deferred or create a sliding scale adjustment moving forward to recoup the payments that are being lost.
Restructuring a lease is not a new concept. This practice has existed for many years and for a variety of circumstances. The need arises whenever a disparity exists between market rents and existing rents. The restructuring of lease is also an option if the property value declines.
In a recessionary market, landlords can be hit very hard by competitors under pricing their rent. If they were to lose their tenants entirely, it would create a double-hit to their bottom-line. Not only would they lose the revenue, but they would also have to market their vacant unit and probably pay to re-fit a property for a new tenant to move in. Not only does this affect the landlord, it affects the bank that may be holding a mortgage on the property. If vacancies increase, it can impact the cash flow available to service debt. Lenders would have to be a part of the process to ensure they will not have to start foreclosure proceedings.
By entering into a restructure agreement, both sides of the party generally benefit. For the tenant, leases can be restructured to: lower the rent, reduce the amount of space, extend the lease, induce improvements, create flexibility or defer payments. For the landlord, leases can be restructured to: avoid tenant relocation, avoid tenant bankruptcy, avoid remodeling, diminish but not lose cash flow, maintain equity and avoid foreclosure. The banks that hold mortgages generally benefit as well, as they can avoid foreclosure. They can also avoid the need to hold the property if foreclosed. The costs could be never ending.
Several factors need to be addressed by the tenant in restructuring a lease:
(1) understanding their own position,
(2) understanding the market,
(3) compare/analyze their position to the market,
(4) analyze landlord’s position,
(5) evaluate landlord’s exposure,
(6) develop/submit offer to landlord,
(7) negotiate the offer and
(8) obtain landlord approval.
The landlord’s restructuring generally works in reverse order.
A restructuring is generally a favorable option in a down economy. Today, courts are flooded with numerous real estate litigations from landlord/tenant matters to foreclosure. By restructuring, the market can make an effort to police itself. The court system can be utilized to assist in the process. This will help the tenant maintain its location and goodwill in the community. It will also keep the landlords in possession of the ownership of their property. Banks will also benefit even if they must make concessions to their mortgage during the downturn. It can be seen as a win-win for all parties and avoid unnecessary negative exposure and ramifications for all.