Subscribe

Why disputes over pandemic commercial rents are seeing little court action

The owners of the historic Borreo Building in central Napa are in a legal battle with the tenant, Southern California-based Stone Brewing Company over rent payments during the coronavirus pandemic.

The ownership, West Pueblo Partners, sought to evict, claiming that the chain of brewpubs owes over $211,000 in unpaid rent, including $40,000 not paid since November, according to the Napa Valley Register. Stone Brewing sued in Napa County Superior Court, claiming that capacity restrictions cut its revenue.

Stone Brewing CEO Maria Stipp said the company proposed multiple solutions that recognized that pandemic realities call for tenants to “equitably share the burden” with landlords.

“We’re hopeful that we can work this out swiftly, just as many of our industry peers are doing, so we can all get back to the beer,” she said in a statement.

This case, which area real estate attorneys say is the rare time legal action has been filed during the pandemic, comes as government protections for commercial tenants against court filings over unpaid rent have ended in recent months and as legal arguments for continued nonpayment also are becoming more challenging with reduced government restrictions on businesses.

“Most of these things are either going to mediation or settling outright,” said Daniel Dersham, who specializes in real estate and corporate cases at San Rafael-based Lerman Law Partners. The Business Journal asked him to search local court filings and check with other legal sources for similar cases. “That's been the preferred route.”

Dersham said he has worked with roughly three dozen pandemic-related rent-payment cases in the past year for commercial tenants or landlords, ranging from brief consultations to settlements and to near litigation.

While a few of those cases are on the verge of court action, as many as 15 have settled.

And those settlements have been a mix of terminations of leases in exchange for some form of payment or renegotiation of the lease, sometimes including spreading out the deferred or unpaid rent over future rent payments and potentially extending the length of the lease.

Commercial property owners have employed that “blend and extend” tactic in previous economic downturns to keep tenants that are having trouble making the rent, according to local real estate agents who declined to be identified because of sensitive ongoing negotiations.

The move toward more lease-renegotiation conversations is a departure from six months ago, when a number of tenants simply wanted to get out of their leases, Dersham said.

“The turnaround has come in the past two months, because in January the coronavirus cases were still exploding,” he said.

But a lot has changed since then.

Since vaccines started rolling out in the Golden State in December, as of last week, 64.5% of the estimated 1.26 million residents over age 16 in Sonoma, Solano, Marin, Napa, Mendocino and Lake counties had received at least one dose of a COVID-19 vaccine, and 45.4% had been fully vaccinated, according to state figures.

Infection and hospitalization rates for North Bay counties have fallen to the point that all but Solano have moved to the second-least-restrictive tier — orange — of California’s four-color reopening plan, but Solano remained in the second-most-restrictive tier, red. Mendocino County on Tuesday went into least-restrictive level, yellow, and Marin and Sonoma counties are poised to make that move in days.

This matters for the lease disputes, because if a restaurant is limited to no indoor capacity, 25% or 50% in the purple, red and orange tiers, respectively, then there could be legal room to maneuver, according to Dersham.

“Is that really frustrating the purpose of the lease if you're basically forced just to reduce your business but not shut it down completely?” he asked "There were a lot of counties where they didn't really shut down everything for that long.”

And as the counties themselves or officials in Sacramento as of August started allowing certain industries in certain counties to reopen under guidelines, such as how to operate outdoors or a hybrid of inside-outside, then the legal argument can be different than with a total shutdown, Dersham said.

Landlords have been looking to commercial lease “force majeure” (“superior force” or “act of God”) clauses for situations in which it would be contractually impossible to perform what was agreed to, particularly for counties and industries under the strictest limitations during the pandemic. California Civil Code section 1511 also offers contractual protections for situations where it’s impossible for the parties to perform.

“One good strategy to hang the hat on is in the language in the lease stating (that) the landlord is not warrantying suitability for use,” Dersham said. “The tenant has the right to use the space, regardless of the tenant’s ability to use the space.”

But tenants have been turning to the longstanding legal theory of “commercial frustration,” looking to cases dating to the World War 2 era, Dersham said. Different from force majeure and CCC 1511, such frustration depends on the destruction of the commercial activity that is the primary purpose contemplated under the lease, such as a bowling alley, independent of a party’s ability to perform other aspects, such as make rent.

The ability-to-pay-rent arguments get complicated when tenants resort more to alternative revenue sources such as take-out, delivery, off-site or online sales that may not involve the tenant’s ability to open the leased property to the public, he said. And whether the tenant and the landlord have received pandemic economic relief such as grants or loans also adds to the settlement conundrum.

At least one local hospitality property owner has been proactive in lease force majeure clauses to address COVID-19 capacity restrictions and rent forgiveness, according to Michael Corrigan, a senior counsel focusing on real estate transactions in Dickenson Peatman & Fogarty’s Napa office.

“The landlord recognized that revenue is based on the number of people the tenant can bring in,” Corrigan said. “If that is limited, the money isn’t there to pay the rent.”

That’s different from an office tenant, which could be able to operate remotely, he noted.

There also have been big changes in recent months to legal protections for tenants that governments imposed early in the pandemic.

The first weeks after California and local governments issued restrictions on economic activity in mid-March 2020 to slow the viral spread saw a flurry of legal inquiries as businesses, their landlords and the property owners’ lenders sought to figure out how to proceed when rent, mortgage and property-tax payments came due that first of April, according to Dersham.

But then the California Judicial Council and officials at county and city levels stepped in with moratoriums on residential and commercial evictions as well as on court filings on unlawful detainers for nonpayment of rent. The council’s order ran from April through Sept. 1, 2020. That was replaced by residential eviction and rent protections in Assembly Bill 3088, which includes the COVID-19 Tenant Relief Act of 2020.

Some North Bay jurisdictions have allowed commercial tenant protections to expire, while others such as Vallejo, city of Sonoma, Vacaville and Solano County have pegged them to lifting of statewide emergency orders. For example, Vallejo’s order, adopted March 18, 2020, is effective through the entire period of the locally declared emergency and does require residential and commercial leaseholders to pay back rent, with the repayment period starting March 1 of this year and running through the end of March 2022.

One notable Bay Area exception to the phase-out of commercial moratoriums is San Francisco, which on Dec. 1 enacted a new ordinance, effective Jan. 11, that gives certain businesses the right to terminate leases after a 30-day notice and paying due rent, or those tenants can defer rent for up to two years, depending on the number of employees.

Jeff Quackenbush covers wine, construction and real estate. Before the Business Journal, he wrote for Bay City News Service in San Francisco. He has a degree from Walla Walla University. Reach him at jquackenbush@busjrnl.com or 707-521-4256.

Show Comment

Our Network

The Press Democrat
Sonoma Index-Tribune
Petaluma Argus Courier
North Bay Business Journal
Sonoma Magazine
Bite Club Eats
La Prensa Sonoma
Sonoma County Gazette