With the June quarter date having just passed and many tenants now having traded for a full quarter following the start of lockdown in March, the true impact of Covid-19 on tenants and landlords for the last quarter will become apparent.


The focus for many landlords will now inevitably be on those discussions to be had with their lenders, their ability to service interest and principal repayments on loan facilities on the upcoming July interest payment date (IPD) and, depending on the sector those landlords find themselves exposed to, the need to seek (potentially further) waivers and/or amendments to their existing loan facilities.

Investment loans with their IPDs in late March and April were already impacted to some degree, with that impact largely being subject to particular sector exposure. Despite steps being taken by the Government to ease out of lockdown over the last few weeks, for many sectors that relief won't come until 4 July and rental payments received on the June quarter date will inevitably reflect a very difficult quarter.

The ability, or willingness, of certain tenants to pay their rents in full on the June quarter date will also be influenced by the Government, in the interests of supporting tenants through the Covid-19 pandemic, extending the forfeiture moratorium for tenants to 30 September 2020. See our latest update on the moratorium extension here.

To date we have seen both lenders and landlords responding to those challenges in varying ways, in part, driven by the outlook for the sector(s) to which they are exposed. 

In this update we will take a brief look at the key sectors and their outlook for the July IPD. 

Office

The office sector has generally fared well to date with rent arrears remaining limited and landlords, on the whole, able to service their loan liabilities on the April IPD.  We would expect this trend to continue for the July IPD. The main exception to this is for landlords of serviced or flexible office space providers, some of whom needed waivers and covenant amendments on the April IPD and we would expect this trend to continue for the July IPD as many will have now traded for a full quarter under lockdown.

For further analysis on the outlook for the London office sector see part 3 of our Live, Play, Work webinar here.

Retail & Consumer

With an estimated £2.5 billion pounds of rent falling due in this sector on 24 June, industry experts predicting only 10% to 20% of rent being paid and, at the time of writing, Intu teetering on the brink of administration, the July IPD will undoubtedly present a significant challenge for landlords and lenders exposed to this sector. Landlords will undoubtedly struggle to meet amounts due to their lenders on the July IPD and, along with hotels, we are expecting landlords in this sector to be making widespread covenant waiver and amendment requests of their lenders for the July IPD.

For our latest bulletin on the retail & consumer sector, looking at the June quarter date, please see here.

Hotels

With the mandatory closure of hotels (along with many other businesses) since March, this is perhaps the single hardest hit sector. With little to no revenue or trading income for the whole quarter (other than limited instances where hotels have been used by local councils or the NHS), we are expecting low levels of rental payments to have been made on the June quarter date by hotel tenants at best and many to have paid nothing at all. To the extent that waivers and amendments of financial covenants and interest payment obligations were not dealt with between landlord and lender following the April IPD we are expecting extensive waivers and amendments to be required, with discussions likely covering the period until the end of the year when there will hopefully be greater visibility on the recovery of the hotel trade and tourism and international business travel generally, which are such key drivers for the success of the sector, following the re-opening of hotels from 4 July 2020. It is anticipated that hotels in the regions may (initially at least) see more activity than their city counterparts, whilst the ability to travel internationally remains uncertain and business travel is virtually non-existent.

For our latest insight into the hotels sector, part 2 of our Live, Play, Work webinar can be found here.

Logistics

With continued trends of limited supply and increasing demand for logistics space, we are expecting the impact of Covid-19 to be minimal with the majority of rents being paid on the June quarter date and landlords in this sector able to meet their continued financial covenant and interest payments obligations.

For further analysis on the prospects for the logistics sector, following what was described as the third best quarter on record for the logistics sector in Q1 2020, see part 3 of our Live, Play, Work webinar here.

Student Accommodation 

With the last term of the 2019/2020 academic year disrupted by Covid-19 and uncertainties remaining as to how and when students will return to campus for the 2020/2021 academic year starting in September, the immediate outlook for the sector remains challenging. An expected fall in overseas students and many first-years potentially deferring their start to the 2020/2021 academic year, so they can return the following year and hopefully make the most of their first year experience, is also likely to make the short term outlook for the sector more difficult.

To the extent landlords have rental shortfalls, either as a result of refunds to students for their last term's rent or as a result of students simply not having paid their rents for the last term, where there are, as a result, corresponding covenant breaches with lenders on the July IPD, we expect lenders to be supportive in the short term, agreeing waivers and amendments as necessary. A weather eye is likely to be kept on the outlook for the start of the new academic year and whether occupancy levels will be sufficient to meet liabilities to, and financial covenant levels with, lenders on the October IPD. In addition, with the development of student accommodation sites having stalled, those required to be completed prior to the start of the next academic year will breach milestones and fail to meet the financial covenants required in order to access the investment loan tail of their development facilities.

For our recent update on the student accommodation sector, see here, which discusses whether this is a one term problem or a longer term problem.

Conclusion

Landlords' abilities to meet payments due to lenders on the July IPD will be driven by sector performance, with the biggest difficulties expected to be seen in the retail & consumer, hotels and, increasingly, student accommodation sector. 

Sentiment is that lenders need to be, and in most cases are, willing to support their customers particularly in the short term. We expect both financial covenant waivers and resets, as initially seen following the April IPD, to be much more widespread for the July IPD.  In some cases, where landlords have the resources those waivers and/or covenant resets are being supported by the requirement for interest service reserves to be held with lenders for the period of those financial covenant waivers or until landlords are able to meet their original financial covenant obligations. With the economy slowly beginning to open back up, whilst lenders may, in certain cases, again be willing to accommodate the rolling up of interest and further capital repayment suspension for the July IPD, it is unlikely that the same willingness will be shown at the end of the next quarter if rental income is flowing again, unless there are truly compelling reasons as to why debt service obligations will be unable to be met.

That said, the Government's decision to extend until 30 September the moratorium on evictions, statutory demands and winding-up petitions against commercial tenants for non-payment of rent, removing any leverage a landlord has to recover rents, potentially exacerbates the problem for landlords and lenders both for the July IPD and even into the September quarter date and corresponding IPD in October. 

Once short term cash-flow issues are resolved, lenders' and landlords' attentions will no doubt move to the implications of, and emergence of, structural changes to the lettings market as we move out of the Covid-19 pandemic. Landlords who are able to adapt with progressive or innovative letting strategies for the most affected sectors are likely to have the most support from their lenders. For those landlords less able to adapt to a changing world, they may well find the support of their lenders waning and the focus turn to their lenders' exit strategies and, in the longer term, enforcements in the most affected sectors increasing.

 

Key Contacts

Andrew Whittaker

Andrew Whittaker

Managing Associate, Real Estate Finance
London

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Zoe Maurer

Zoe Maurer

Partner, Real Estate Finance and Hotel Finance
London, UK

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