An Expert Look at COVID’s Lasting Effect on Retail Leasing

During the darkest days of the COVID-19 pandemic, brick-and-mortar retailers — and by extension their landlords — were absolutely pounded, as lockdowns took effect and people moved away from brick-and-mortar purchases toward online buying. This abrupt transition caused a significant increase in online sales and a corresponding decline in revenue at numerous brick-and-mortar establishments.

According to the Estimated Quarterly Retail Sales Report, published by the U.S. Department of Commerce, online retail sales rose from $156.39 billion in the fourth quarter of 2019 to $206.66 billion in the same quarter in 2020, a 32.1% year-over-year increase. For context, annual e-commerce sales for the five years prior to the pandemic had been increasing by roughly 15%.

As in-store purchases declined and uncertainty persisted, mere survival for many retailers required that they break with long-standing commitments to their landlords, that were codified in their commercial leases.

To understand which lease provisions were modified during COVID, and to learn which changes seem to be carrying forward, LoopNet spoke with Ellen Sinreich, founder and managing principal of the Sinreich Group, a New York City-based law firm specializing in commercial lease negotiations for both landlords and tenants across the U.S.

Conveying the intensity of the period, Sinreich said that there were likely “thousands or perhaps hundreds of thousands of individual negotiations [carried out] to modify existing retail leases,” between March 2020 and December 2021. “What was unprecedented was the sheer volume of these amendments within such a short and chaotic time period,” she added.

Even after the lockdowns were lifted, “retail foot traffic was slow to return because COVID had a lingering and chilling effect on in-store sales,” Sinreich said. And during this unparalleled time, when just essential workers left their homes, “almost no retail landlord or tenant could rely on their lease to provide a roadmap for how to move forward.” What she meant is that many of the obligations contained in retail leases were nearly impossible to honor, such as requirements for retailers to continue to pay rent and remain open for business, and for landlords to meet construction deadlines and co-tenancy thresholds.

In contrast, she noted that office and certainly industrial leases, did provide a path that could continue to govern how their landlords and tenants should interact. “While I received numerous calls from office clients about what to do, my answer was always the same: business as usual; tenants would have to continue paying rent even though they might not be permitted to occupy their offices [because of lockdowns], or their employees might not want to [go in].”

As business activity and revenue generation continued online, most office tenants found that “they were able to conduct business virtually and for the most part, they paid their rent,” Sinreich said.

Based on the many COVID lease amendments that Sinreich worked on, she noted that the most important issues in these amendments were rent relief and temporary suspension of leasehold obligations.

Rent Relief. Rent relief was the big item, Sinreich said “whether it was in the form of an outright abatement or a deferral. If rent was deferred, it was typically for a year or so and then the tenant had maybe 18 months to pay it back.” The specifics varied and were tailored to each tenant/landlord situation.

In some of these COVID lease amendments, tenants were relieved from paying their base rent for an agreed period of time, with landlords accepting a percentage of their sales in lieu of the base rent after the tenant was able to re-open their premises.

Sinreich explained that converting a fixed base rent to a variable percentage rent gave the retailer flexibility: in tough times their financial obligations were reduced in keeping with decreased sales volumes and in good times, as their sales improved, their obligation to pay rent increased accordingly.

Temporary Suspension of Leasehold Obligations. Complying with other leasehold obligations, such as the requirement to open and operate, was worrisome for some tenants both during and after the lockdowns. In some cases it was impossible and in other cases, even if theoretically possible, it wasn’t practical. Thus, the tenant could, without fault on its part, be thrust into a leasehold default for failure to meet lease commitments, which in turn, could trigger lease termination. In this unchartered pandemic environment, working through the situation with a landlord in the form of a lease amendment was the best possible outcome.

In many of these lease amendments, to avoid the possibility of a default, tenants were able to negotiate temporary suspensions of leasehold obligations impacted by COVID and the lockdowns. Opening and operating requirements were a critical concern. One example Sinreich gave, illustrating flexibility around operations, related to a currency exchange provider in New York City that was able to remain closed until the number of international passengers in the region returned to 2019 levels.

Sinreich added that “in many retail leases, the failure to be open and operating, even if the tenant continued to pay rent, was a default that triggered liquidated damages even if the lease wasn’t terminated. For every day that you don’t open and operate you could be obligated to pay 150% of the daily minimum rent, in addition to the daily minimum rent.”

Deadlines for completing construction and for delivery of the premises were relaxed as construction supplies and construction labor became difficult to obtain. On the landlord side, the co-tenancy requirement was often eliminated, temporarily relieving landlords of the obligation to keep certain complementary tenants in place and operating.

Sinreich negotiated about 20 new retail leases between the summer of 2020 — when leasing activity began to pick up a little — through the fall of 2022. “What was already a tenant-friendly market before COVID became a completely lopsided, pro-tenant market. Those tenants that were able to take advantage of this will be enjoying the results for years to come.”

She added that retail leases negotiated during this period gave retailers the flexibility that they've always craved. A greater portion of their rent, which had previously been fixed, was now percentage rent which varied based on sales; the lease durations were shorter, giving tenants the option to move or renegotiate sooner rather than later; and tenants had early lease termination rights that could be exercised if sales thresholds were not achieved.

Tenants obtained concessions that no landlord had ever considered before COVID, Sinreich said, adding that opportunistic tenants of every size and shape — from luxury apparel providers to value shops and everything in between like vape stores, financial services providers and gourmet food purveyors — were generously rewarded for leasing new space during this time.

At the start of the pandemic the force majeure clause was looked to as a possible mechanism that would relieve tenants of their rent obligations. However, as Sinreich noted: “Every single force majeure provision that I've ever seen provides that, despite the occurrence of a force majeure event that would trigger suspension of a tenant’s other leasehold obligations, the obligation to pay rent is never suspended.

So, the explicit terms of virtually all commercial leases require tenants to pay rent no matter what type of force majeure event may occur, except perhaps in a casualty situation.” She added that if there are other exceptions, they are few and far between because she has never seen any in the leases she has worked on.

So, during COVID, there was no force majeure protection for tenants against their obligation to continue to pay rent even though they could not conduct business at their premises. “And in those cases where tenants thought they were transferring the risk of having to pay rent when they were not able to occupy their premises by purchasing business interruption insurance, they were wrong,” Sinreich said, adding that “business interruption insurance [was not and] is not triggered by pandemics, lockdowns or any other situation that does not involve physical damage to the premises.”

In the past year or so, Sinreich noted that the market has recalibrated, and retail tenants are no longer in the extraordinarily favorable bargaining position they were in during and after the lockdowns. To her knowledge, most retail leases being written today do not have clauses that protect tenants in advance against the draconian ramifications of future pandemic-like events.