The daily development of the COVID-19 coronavirus poses challenges for the whole economy. The economic, social and political ramifications of the virus will endure for some time. Landlords and occupiers are having to deal with the impact on every day matters.
Although clearly maintaining business as usual and protecting investments are key considerations, our expectation is that landlords and occupiers will work together in order to ensure long term stability. Taking an overly legal approach to property relationships while in the midst of this crisis will not achieve anyone's business goals. Enforcement and litigation at this stage of events may well be counterproductive to long term relationships and value.
We recognise that occupiers will be particularly concerned about their lease obligations and landlords, although obviously concerned about their occupiers' health and welfare, will also be concerned about the impact the virus may have on their tenants businesses and as a result, their investment.
Areas of concern
1. Keep open obligations
Most commonly in retail leases, tenants who have contractually agreed to keep trading may be concerned about lack of staff availability or stock.
Trading obligations in leases are generally enforceable but the remedy is likely to be limited to damages. A court order compelling the tenant to trade is very unlikely. A landlord may be able to forfeit the lease (assuming the lease allows for this) although a notice will have to be served on the tenant first requiring the tenant to remedy the breach (i.e. open for trade).
Well drafted keep open provisions usually allow closure at certain times - for example during works, before an assignment, following insured damage or if opening would result in a breach of another provision of the lease.
A tenant ceasing to trade because it has no stock to sell or because of staff shortages is likely to be in breach of its obligation. If the tenant is bound to comply with laws which relate to the premises and the government orders a lockdown similar to the situation currently in Italy - our view is that the statutory compliance trumps the keep open obligation - even if this wasn't expressly set out in the keep open clause.
If a landlord considers taking action against a tenant in these circumstances it will need to weigh up whether it will contribute towards the likelihood of the tenant's insolvency leaving it with a void which may be difficult to fill. A landlord would also be running the risk of adverse publicity.
Although many landlords would not consider enforcing under the circumstances, some might be concerned about superior lease or banking covenants to enforce occupational tenant obligations. This will depend on the nature of those obligations - but if in doubt take advice and possibly seek a dialogue with your superior landlord or lender about those obligations. Enforcement may not be in in anyone's commercial interests as things currently stand.
2. Turnover rents
The exact terms will determine the impact on rent levels. Fixed base rents would be unaffected. Some leases provide for deemed turnover during periods of no or reduced trading - possibly based on fixed amounts or average trading during earlier periods.
Generally, turnover rents exist because landlords and tenants have agreed to share the trading environment risk and we would expect many landlords to be more interested in their tenants' medium to long term success. Both landlords and occupiers should maintain an open dialogue about any difficulties.
3. Restricted access to premises
What happens if a landlord restricts access to premises or introduces rules for a building or estate to that effect prior to any compulsory Government lockdown?
Landlords need to make sure they do not derogate from their grant (that is, they can't give a tenant a right of access to their premises with one hand and then take it away with the other hand). It is possible that the rights granted to a tenant in its lease allow the landlord flexibility to change the access routes, but it is unlikely that a landlord will be able to completely close all access to the premises unless obliged to by law.
Most leases allow landlords to make reasonable rules relating to the use of a building or estate. Proportionate measures introduced in order to keep the tenant and members of the public safe are likely to be reasonable.
It is in the best interests of all parties to engage with each other on what regulation to introduce and the timing of it.
4. Cleaning services
Where landlords provide cleaning services, it is likely that the costs of any additional or more intensive cleaning will be recoverable via the service charge, even if these are over and above the usual or budgeted amounts. Services are usually required to be reasonable and it is difficult to see a tenant successfully claiming that a landlord is unreasonably increasing cleaning unless the activity is totally disproportionate in the context of the property and Government guidance.
Occupiers who think a landlord is not undertaking appropriate cleaning services will need to look at the terms of their leases to see the level of cleaning required. Claims from occupiers who test positive for COVID-19 that a landlord did not provide sufficient cleaning are unlikely. The burden would be on the occupier to prove that the cleaning was not sufficient and that they acquired the virus as a result. Meeting that requirement would be almost impossible in practice.
It would be difficult to argue that the cost of ensuring a safe environment for staff and visitors are not justified. Issues will perhaps only arise on service charge inclusive rents where any additional cost is a direct cost to the landlord. Landlords should consider the cost, lease terms, relationship with tenants and possible adverse publicity. In the meantime, occupiers may engage their own cleaning services anyway
5. Day to day property management
Although staff absence and remote working will affect asset and property management activity, most things will carry on with minimal adjustment.
In terms of managing buildings, property managers should monitor government guidance and respond appropriately.
There are concerns about serving and receiving notices, dealing with applications and consents, continuing high turnover leasing and signing documents generally.
In addition, collaboration and communication is going to be key. There may be a desire to relax formal requirements for notices or consents. With planning and collaboration, any pressure on lease events over the coming months can be managed (i.e. lease breaks, expiry, rent review etc.).
If any notices must be served, how is that going to happen and when? It would be prudent to plan additional time to comply with formal requirements or engage early with other parties to agree different processes.
For example, if there are strict timings on the service of break notices, these must be complied with if they are to be effective. It will not be possible to argue later that a break notice can be served late because offices were closed. Where there is going to be any doubt about effective service because premises are empty or postal services are disrupted, early advice should be sought.
An obligation to give vacant possession before expiry could be a challenge if staff and movers are unavailable. As long as the landlord doesn't have a tenant lined up to take the premises straight away, they may agree between them that the tenant will have more time to comply with this obligation.
Getting documents signed may be trickier. In terms of day to day asset management it may be possible to electronically sign documents - if someone is self-isolating but well enough to work from home they can use dedicated e-signing platforms or scanned signatures to approve and execute documents like licences, contracts, side letters, rent review memorandums and many short term leases. Market acceptance of the validity of these types of signatures is increasing and current events could be the stimulus for even wider adoption. Witnessing signatures will be a challenge. A witness to an e-signature needs to be physically present and this may be difficult.
The Land Registry currently requires wet ink signatures on documents that require registration (including transfers of land and leases over 5 years). It may be necessary to appoint someone who is available to sign the documents and the processes for document execution if signatories are working remotely. There are other workarounds that may be appropriate for specific transactions such as delaying completion of the registrable lease or transfer but granting occupational rights in the meantime..
Document signing logistics and completion mechanisms which are often taken for granted may need some additional thought and planning in the coming months. Many organisations are considering appointing the property managers or lawyers who produce the documents as attorneys to sign them. Where this is the case, both attorney and principal will want to agree the parameters and authorisation process for signing.
6. Contractual delay
Time periods are fundamental to most real estate contracts. The consequences of delay will depend on the individual contracts. Considerations include:
- Lease completions - contracts usually expressly provide for what happens in the event of one party not being able to complete on the specified day. Often this is compensation rather than automatic termination.
- Works obligations - obligations to complete works in a certain period in agreements, licences and otherwise will usually provide for delay beyond the control of the parties. This could be for specified reasons or by a general reference to "force majeure". The terms of contracts would need to be reviewed in the context of the particular delay (i.e. lack of materials, personnel - and whether that is due to illness or Government regulation of activity). If the delay provisions are not engaged, then the party with the obligation will have to proceed even if the cost of personnel and materials has increased.
You can read more analysis in relation to building contracts and development agreements in our article COVID-19: minimising the contractual risks in UK construction.
- Payments - contracts are usually clear about the consequences of late payment. Interest is payable at a specified rate (sometimes after a grace period). Some might waive interest due to delay because people were not in the right place to action payments but in practice we expect the approach to most regular payment activity (for example rent payments) to be unaffected as tenants have sufficient time to plan and automate payments if necessary.
7. Side letters, waivers and concessions
We anticipate dialogue and co-operation between owners and occupiers throughout the current crisis. This will inevitably lead to contracts being varied, concessions granted and obligations waived. Sometimes this will be by formal supplemental contracts and in other cases informally.
You should take care that in the spirit of collaboration, you don't inadvertently go too far with unexpected consequences. Record the detail of any side agreements or concessions and take advice on the terms of these where appropriate.
Frustration occurs when unexpected circumstances make it physically or commercially impossible to fulfil the contract, or fundamentally transforms the obligations into something different. There is no one size fits all answer to whether frustration applies to real estate contracts. It depends on various factors including the terms of the contract and the nature of the event. The impact of COVID-19 on each contract will be different.
Although leases can be frustrated, it is extremely unlikely in the light of recent case law.
If you have concerns about these or other issues, do get in contact.