As the COVID-19 economic fallout continues to play out in many areas of the country, there’s little doubt more retailers will follow Pier One, Neiman Marcus and others into bankruptcy.
Noah Shaffer, senior director of asset management for Confidant Asset Management, estimates that 25% or 35% of businesses will not be able to recover from the economic fallout of COVID-19.
For landlords who own the properties inhabited by these struggling retailers, the bankruptcy process can be dangerous.
“As more of those [retailers] go through Chapter 11, the creditors are just going to come in and assume control of the company,” Shaffer says. “It’s not necessarily the best option. But this is where we’re at. There are not a lot of investors willing to jump into that space right now.”
The fear with creditors is that they start flat out rejecting leases during the bankruptcy process, which could leave landlords in a tough spot. “They may just want to let it die and recoup their investment if there are no bidders,” Shaffer says. “That would be the worst outcome. We’re going to start seeing that across the board if the investment environment remains depressed.”
If leases are rejected, properties would go vacant at the worst possible time. “There’s going to be a significant increase in the supply of retail space—15% to 20% of vacancy—coming up in the next 18 months,” Shaffer says. “So do you want to be part of that vacancy during that time when rates are lower? The answer is no.”
Usually, the landlord is paid out from the bankruptcy proceedings as an unsecured creditor when a tenant rejects a lease during the Chapter 11 process. “If there’s any money left over, which is not likely, you’ll get pennies on the dollar,” Shaffer says. “But you get control of the property back. That usually happens pretty early on in the bankruptcy process.”
But massive closures across retail the last couple of months have changed the equation for the worse. “The bankruptcy process is challenging at the moment because the retailers that are failing were in a bad position liquidity wise,” Shaffer says. “Now, they have zero cash flows from revenue coming in.”
With plummeting sales, Shaffer doesn’t think retailers will be able to navigate the usual three-month bankruptcy cycle. So now they’re asking the court for adjustments and extensions.
“The retailers who filed pre-COVID-19 shut down, such as Pier One and Modell’s, are petitioning the court to extend the bankruptcy proceeding and for the courts to release them from their obligation to pay their expenses and bills during the pandemic,” Shaffer says.
In some cases, the courts have complied with these requests, which has landlords in a rough spot. Shaffer says the courts’ logic is that if they don’t grant some relief, landlords ultimately won’t see anything.
“It has essentially allowed retailers to avoid paying,” he says. “Pier One filed a few months back, and they haven’t paid April or May rent. The courts have allowed them not to pay June, July and potentially August as part of that.”