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August 14, 2020 Comments Off on The Lease of the Future May Look Different Views: 2901 National News

The Lease of the Future May Look Different

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By Paul Bubny

The recent news that Neiman Marcus would not reopen its glitzy, multi-level store at the Hudson Yards mega-project on Manhattan’s Far West Side, although not unexpected, sent shock waves through commercial estate. The news harkened back to earlier published reports that this would mean re-negotiating leases that were contingent on Neiman Marcus’ continued occupancy at the project.

The Neiman lease, although high-profile, is by no means an isolated incident in the current environment of gradually reopening economies that had been shut down for weeks or even months by stay-at-home mandates. In fact, Abe Somani, head of MRI Software’s lease intelligence division, believes we’ll see widespread changes in how leases are structured and drafted, and not only in retail settings.

Somani has had numerous conversations with landlords and occupiers alike during the pandemic. Broadly speaking, he believes existing leasing language is often ill-suited toward the current emergency, unless it happens to include provisions specifically geared to extended—and abrupt—business interruptions caused by public health crises.

Somani says that as a result of pandemic-related shutdowns, we can anticipate seeing the following provisions incorporated into leases:

• Inclusion and expanded treatment of force majeure/”act of God” clauses.
• Higher security deposits with greater emphasis on cash rather than letters of credit.
• Stricter “go dark” clauses for retail leases.
• Waivers of trials by jury for disputes.
• Less reliance on sales-based rents. Here, Somani says, leases that are tied toward hitting certain sales targets may be seen as overly restrictive when a shutdown, and resultant loss of foot traffic, prevents those targets from being reached.
• Emergence of cross-collateralization (e.g., landlords can go to any of a tenant’s locations to collect rent for a location that missed payment).
• Specific instructions on government funding: e.g., an occupant must use funding from a PPP or EIDL loan to pay rent first before using it for business operations.
• Stronger language surrounding “quiet enjoyment” of premises. Such “quiet enjoyment,” after all, is out of the question when the occupant is shut out of the premises by a voluntary or state-mandated lockdown. 
• Provisions regarding common expenses billed to tenants when they cannot occupy a space.
• Shorter notice periods for lease terminations.

While the pandemic has been disruptive for both landlords and tenants, when it comes to space usage it’s often the landlord who’s put into a tougher position, Somani says. If a tenant decides to keep employees home and not pay rent for that month, does the landlord work with the tenant or kick them out and face a vacancy that’s likely not be to be filled for the next 12 months?

“We hope that landlords and tenants are working together to survive this thing, and that there’s a level of compassion between both of them,” he says. ”But let’s not forget that everyone’s trying to run a business and trying to generate a profit. For the past 10 or 20 years, it’s been a boom cycle and there have been tons of profits to make. Now there are some concerns around that model and whether it’s going to work for office or retail.”

One positive effect to emerge from the pandemic has been an evolution in the industry’s response to the rapidly changing circumstances. Somani puts the process into terms that a psychologist might use: “At first, it was denial: ‘oh, this is not happening, it’s not coming to my city.’ Then there was a sense that it’s starting to get real, and disruptions to our processes.

“Now we’re starting to get into the place where people say, ‘okay, there’s a pragmatic way to still get our work done with this going on in the environment and we have to better prepare ourselves for what’s happening,’” he continues.

For MRI and other proptech companies, this evolving response has also translated into an uptick in “inquiries and sales conversations,” Somani says. “Everyone is saying, ‘we have to change now, because of this pandemic and for the future.’ This has been the catalyst for something that has accelerated the proptech industry by probably five years. If the pandemic hadn’t happened, people would have continued deferring these decisions to make business transformations.”

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