Rent arrears: Landlords 2 Tenants 0
COVID-19 Market Update – 23/04/2021
10 minutes to read
Introduction
This is the 38th of a series of weekly notes analysing the state of the UK retail market in the light of the COVID-19 pandemic. This note focusses on two key themes:
- What we learned from the ONS Retail Sales release for March
- Landlord vs tenant: the Courts ruling more in favour of the former
Please do not hesitate to contact myself or any of my retail colleagues if you require any further information.
Key Messages
- Y-o-y retail sales values +7.7% in March
- Best monthly performance since October
- Food sales +0.1% against huge y-o-y comp (+10.6%)
- Y-o-y non-food growth of +4.5%
- Best monthly performance since March 2019
- Albeit against a very soft comp (-21.3%)
- DIY (+47.5%) and garden centres (+38.7%) stand out
- Clothing trend improving but still down -12.3% y-o-y
- Online penetration declines by 150bps to 34.7%
- Major upswing in retail sales inevitable from April
- Two High Court rulings on landlord:tenant rent arrears
- Both rule in favour of the landlords
- A precedent is emerging, the law being on side of landlord
- But will not necessarily open the floodgates
- More progressive landlords will seek compromise solutions
- Good landlord – tenant relations vital for retail renaissance
1. What we learned from the ONS Retail Sales release for March
The last figures (hopefully) to represent a full month of lockdown. A surprisingly upbeat release from the ONS reflecting more the current post-lockdown zeitgeist than the pretty grim picture that the actual lagging numbers actually paint. And as we annualise against Lockdown V1 last March, many of the figures are all over the place, as they will be for many months. The challenge of deciphering the big picture from weird numbers ‘the new norm’ for those of us in the retail analyst community.
The single most important figure in the release was indeed one of the most positive. Year-on-year retail sales values (exc fuel) grew by +7.7%, the best monthly performance since Oct 2020 (+8.0%). Year-on-year volume growth was higher still at +7.9%, hinting at price deflation. In times other than these, this may be a cause for concern, but clearly the retail sector currently has far bigger challenges to address at present.
As ever, the month-on-month trends and figures are those most widely reported. For what they are worth (given the seasonality of retail and the fact that Feb is the slowest month in any retail calendar), m-o-m retail sales values (exc fuel) grew +4.8%, with volumes ahead +4.9%. Not much to read into this, other than a very general trend that momentum was definitely building ahead of lockdown being lifted in April.
What to make of the y-o-y headline numbers? Growth of +7.7% was against a backstory of a full month of lockdown in 2021 versus just over a week of lockdown in 2020 (from 23 March), plus growing concerns ahead of the implementation of Lockdown V1. But 2021 did include the prelude to Easter, the data running to 3 Apr (the day before Easter Sunday). Such strong growth in this context is highly positive, but, of course, the devil is in the detail of the performance of the various sub-sectors.
All eyes were on the grocery sector in March. For once, headline growth was not driven by food, with grocery sales inching up by just +0.1% year-on-year. Strictly speaking, this was the worst monthly performance since Nov 2015 (-0.5%), but the fact remains the comp base was ridiculously high – food sales soared +10.6% in March 2020 as consumer stockpiled ahead of Lockdown V1. Although some factors remained in the grocers’ favour this time around (notably the ongoing enforced closure of the hospitality industry, plus the partial inclusion of Easter) +0.1% growth is nevertheless a fairly remarkable performance.
March 2021 marked the long-awaited turnaround in non-food sales – a trend that will undoubtedly accelerate significantly in the coming months. Despite a full month of lockdown, non-food sales grew by +4.5% y-o-y in March. On paper, the first month of positive growth since Oct 20 and the best monthly performance since Mar 2019, albeit leveraged against a very undemanding comp (non-food sales having collapsed by -21.3% in March 2020).
In terms of the performance of individual product categories, largely more of the same. A positive (+17.4%) m-o-m trend maybe, but a y-o-y decline of -12.3% in clothing sales is hardly worthy of celebration. Some comfort in this being ‘the least bad month’ in over a year, but this was in the context of a soft comp (-37.2%). But I have every confidence that the clothing sector will swing into positive growth from April, by simple virtue of being ‘open for business’ and against the softest y-o-y comp imaginable (-69.8%).
Accelerating the trend seen in previous months, retail sales growth was driven by home-based sub-sectors, by no coincidence many of which qualify as being “essential”. DIY sales surged +47.5% y-o-y, while household goods generally grew by +22.7%. Garden centres and pet stores (+37.8%) had a strong month, as did Furniture (+13.5%) and Carpets (+16.5%), but electricals (-4.2%) proved more challenging.
A challenging annualised comp base derailed y-o-y figures at chemists. Sales in March were down -14.7%, compared to average monthly growth ca. +45% over the last year. Sister category cosmetics remained tough (-21.1%), but will undoubtedly improve now that lockdown has been lifted and people return to high streets. A similar expectation for jewellery (-1.5%), a sector that can only operate to anything like its best in times of non-lockdown.
Online sales grew y-o-y by +62%, a reflection of a full month of lowdown this year vs just one week last year. M-o-m growth slowed to just +0.6% and online penetration declined by -150bps to 34.7%, a function of overall retail sales starting to grow again. With overall retail sales growth accelerating from April onwards, coupled with “non-essential” stores re-opening, online penetration will fall significantly in the coming months.
Those still peddling the 36%+ online penetration figures do so at their peril. It was a high water mark that could only be achieved in exceptional circumstances bought about by a global pandemic. Whisper it if you like, but annualised online penetration of 30%+ is unlikely to be achieved this side of 2030.
With the March release, we obviously also derive the Q1 figures. These present very mixed messages on a quarter-on-quarter versus year-on-year basis. Q-o-q retail sales values (exc fuel) were down -5.7% (volumes) -6.0%. But to point out the blindingly obvious, Q4 2020 included Christmas and Black Friday, Q1 2020 didn’t. But Q1 y-o-y retail sales values were up +0.9% (volumes +1.4%). Quibbles about deflation aside, arguably a stellar performance given that “non-essential” stores were closed for the whole quarter.
The ONS retail sales data is, by its nature, lagging. At best, it highlights what we always believed – that pent up demand was building and the UK consumer was raring to go. And so it is proving now that lockdown has been lifted and April’s figures will reflect this, albeit with a whole host of weird and wonderful numbers. But as I said last week, it remains a marathon, not a sprint.
2. Landlord vs tenant: the courts ruling more in favour of the former
What the lord giveth, the (land)lord taketh away? Any euphoria amongst retailers at being finally able to reopen is already being tempered by the spectre of unpaid rent rearing its ugly head. And a number of High Court rulings have already served as a reminder that the issue remains a real one and is not going to go away. And that, by and large, landlords have the upper hand.
This week, the High Court ruled against Sports Direct, Cineworld and Mecca Bingo in a COVID-19 test-case battle over unpaid rent and service charge arrears - the second such decision to go against tenants in a week, after a ruling in favour of Unibail-Rodamco-Westfield last week in relation to a similar dispute with The Fragrance Shop.
In each of the cases, the tenants argued that they were not liable to pay all or part of the rents. The arguments focused on a range of issues, including lease "frustration", landlord insurance, and implied terms in the lease that suggest the landlord or its insurer should cover the rent. The tenants in part argued that the rent cesser clauses in the leases should mean that if the landlords had insured against the event of the pandemic and the regulations, the rents ceased to be payable, at least whilst the premises had to be closed. They also argued that this should in any case be implied into the lease terms, whether it was specifically stipulated or not.
But the Judge ultimately concluded that the tenants have not shown "any real prospects of success in defending the claims brought against them for rent due to COVID or the COVID regulations […} I do not consider that the tenants being unable to trade in accordance with the Permitted Uses is really a “partial failure of consideration”, but rather simply an unexpected occurrence which means that the leases are not as beneficial as the tenants expected”. I suppose the equivalent of “an act of God” blocking a personal insurance claim.
If not a trend, then most definitely a precedent is starting to emerge. And while it is impossible to be blind to the trials and tribulations of retailers and leisure operators over the past year, the letter of the law in more cases than not will side with the landlord. Unpaid or withheld, outstanding rent is still a legal obligation.
Will it open the floodgates to other landlords pursuing rental arrears through the courts? A trickle could conceivably turn into more of a flow, but hopefully not all disputes will be resolved this way. Further instances of landlords taking retailers to court can’t be ruled out, but really it should be an absolute last resort rather than first port of call.
The moratorium on forfeiture has kept some of the more aggressive action on the part of landlords at bay, but the prospect of this being lifted from June, coupled with the lifting of “non-essential” retail lockdown is likely to give renewed impetus for resolution over the coming months. We tentatively estimated that around 50% or all retail rent from 2020 was unpaid going into the new year. This would have been exacerbated in March off the back of another three months of lockdown.
At the moment, the arrears are “sitting in the ether” – unpaid, but not necessarily crystallized or reflected on landlords’ balance sheets. A situation which cannot continue indefinitely and one that is now starting to come to head. But one that doesn’t have to have black or white resolution.
The two extremes of resolution are pursuit of arrears through legal means, the other of landlords simply writing off any unpaid rent as an act of goodwill. Between these, there are a number of compromise solutions that could be reached. For example, more tenant-friendly landlords may agree to write off arrears that have built up over the last year, on the firm proviso that tenants recommence full rent payments from June, possibly with some sort of lease re-gear (e.g. term extension). Other landlords may offer staggered repayment terms over something like a two-year period.
The course of action will depend on the both the landlord and the tenant and, crucially, the relationship between the two. A reflection not just of any relationship in the past, but also of the one they want to build going forward. Media coverage of the court rulings to date reinforces the somewhat hackneyed stereotype of “greedy landlords”. Many are, however, more flexible and progressive in their thinking.
More than anything, this serves to highlight how many unresolved issues there are between retailers and landlords – and, above all, the importance of ongoing, adult, two-way discussions. Please can that be part of any “new norm” in retail?