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Quick Guide to Debt obligation forbearance for 2020

Have your tenants paid their 2020 Q2 rent? Our expectation is that 95% of tenants paid Q1 rent, 50% paid Q2 rent and less than 70% will pay Q3 rent. Debt interest payment, and financial covenant test, dates are looming in mid-July so what are your options if you are about to be in default on your debt obligations?

Landlord loan defaults are inevitable

At a time when business for property occupiers has fallen off a cliff, most landlords will have debt facilities in place in respect of which they are about to start being in default through no fault of their own. Enough income should have been achieved to meet Q1 debt interest payments but this will be impossible for many in Q2 and still very difficult for a large proportion in mid-October following the September rent quarter day with the Summer months expected to be a time for focusing on the restructuring essential if businesses are to survive at all on the other side of the pandemic shockwave.

Realistically, interest and debt service cover ratio financial covenants (which will be in most real estate loan agreements and typically require, on a 12 month look forward basis, net income representing 200% of finance costs) will be defaulted for most of 2020 so a simple interest payment holiday for July 2020 would represent nothing more than a collective burying of heads in the sand.

The time for sustainable restructuring is now

Landlords now need to actively work with their lenders to agree sensible restructuring options covering, both (1) effectively a suspension of obligations for the remainder of 2020 and (2) the consequential changes to map a gradual return to profitability post 2020. Lenders do appreciate that there is little point in them taking enforcement steps that will only crystallise losses at a time when values are depressed. Equally, landlords, not lenders, are best placed to judge what will be needed in their buildings to achieve the quickest and most sustainable recovery for all stakeholders. Landlords know allowing tenants, that are temporarily unable to pay rent, to remain in buildings is a less risky position to be in than having vacant buildings (in any case, tenants are currently statutorily protected from eviction until late August and likely more permanently with new insolvency related legislation currently making its way through Parliament). Landlords will also be keen to retain particular tenants that they consider to be important to the fabric of a location and, therefore, key to a recovery strategy.

Solutions

Bank lenders have flexibility (through a combination of deposits and access to wholesale markets) that they can easily share with borrowers in the form of sensible, consensual amendments to debt obligations creating the breathing space for landlords to work on restructuring strategies that target arriving into 2021 in a position
of strength. Similarly, investors in private debt fund lenders will need to accept taking a longer term view on their returns profile than was originally committed to. The answer to institutional lenders that have annuity payments to meet (such as insurance companies and pension funds) will be that this is exactly what Bank of England quantitative easing should be there to support.

Present circumstances are also ripe for new investors, prepared to be committed to UK real estate over the medium to long term, to inject new capital into businesses, both tenants and landlords, that are fundamentally sound and will be a successful driver of the UK economy long beyond the relative blip that this virus hiatus will ultimately prove to be. A recession, and related end to the current property cycle, was already overdue regardless of the virus so now is the time to start investing in UK real estate for its next 10 year cycle, the starting gun for which will be firing in Q4 2020 / Q1 2021.

July 2020

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Bankside Office

240 Blackfriars Road
London
SE1 8NW
DX 53 Chancery Lane

Telephone: +44 (0)20 7629 7411
Fax: +44 (0)20 7629 2621
Email: bh@boodlehatfield.com

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