COVID-19 and Commercial Leases, what is next?

Beyond the forfeiture moratorium and possible options available – negotiations, break clause, surrender, force majeure and frustration.

Social distances and the nationwide lockdown introduced to tackle the spread of COVID-19 are undoubtedly putting small and mid-sized businesses in the leisure and retail sectors under financial strain. The difficulties of fulfilling obligations under commercial contracts and leases have led tenants, landlord contractors and lenders to reconsider their business model to guarantee business continuity and cash flow management.

Art. 82 of the Coronavirus Act sets up temporary measures to protect commercial tenants from aggressive rent collection practice as well as any action for evictions (i.e. forfeiture moratorium). However, these provisions do not waive landlords’ rights arising from leases and, it is uncertain whether they will remain in place long enough to allow businesses to recover from the crisis.

Whilst waiting for the events to unfold, both commercial landlords and tenants should consider engaging in meaningful and constructing discussion to preserve their relationship and avoid any disputes. As a matter of fact, if commercial tenants are not having an easy time, landlords are surely not in a better place with repayment of existing mortgages and loan commitments as well fiduciary obligations towards their investors.

Concessions that landlord would grant and agree, in the form of rent suspension or reduction, should be clearly and unambiguously recorded in short-term agreements or side letters to the lease to ascertain parties’ intention and avoid any dispute in the future. But, as we do not live in an ideal world and therefore, both parties to review leases and consider any other options available.

Although very rare in modern commercial leases, tenants might consider relying on the force majeure clauses, which usually is associated with the occurrence of an unexpected event leading to a material change of circumstances and allowing the suspension or the delay of the performance of contractual obligations. Given its contractual nature, the party seeking relief should carefully analyse and interpreting the wording of the clause as its enforceability depends mostly on how it is drafted. In this respect, force majeure clauses may generally refer to any event, which is beyond the parties’ reasonable control. Alternatively, they can include a specific list of disrupted events. In the latter case, any references to “pandemic” or ‘epidemic’ should be sufficient to enforce the force majeure clause, but references to actions of the government or local authority might also trigger it as a second-order of events. Furthermore, the party seeking to rely on the force majeure clause may have to prove to have taken all reasonable steps to mitigate any loss flowing from the disrupting event as well as to complying with any notice requirements set out within the Lease.

A more drastic approach leading to the termination of the Lease might be possible if a break clause is provided within the Lease. The problem associated with this option is that break clauses are usually enforceable after 5 or 10 years from the beginning the Lease together with the requirement of giving the landlord 6 or 12 months’ notice. Reliance on this clause might be subject to the payment of all rent and sums due as well as the performance of all covenants provided in the Lease. Alternately, if a break clause is not provided, the tenant may consider approaching the Landlord to seek an agreement for bringing the Lease to an end. This is known as Surrender of the Lease and it would be the result of a concession granted by the Landlord who might require the payment of a premium. The terms of the surrender negotiated by the parties should be clearly recorded in a deed to show the intention of the parties during the relevant time.

In the absence of a force majeure clause, it might be possible to consider the non-contractual, common law principle of frustration. This legal principle has a high threshold requiring contractual obligations to have become physically or commercially impossible to be fulfilled or completely different from what initially envisaged by the parties. The High Court, in the case Canary Wharf (BP4) T1 Ltd v European Medicines Agency (EMA) [2019] EWHC 335, has even narrowed the scope of the frustration doctrine making it even highly unlikely to apply when there is long term (around 25 years) remaining on the lease and the tenant is in a position to assign or sublet the premises.