Commercial leases in the COVID-19 environment – The code, regulations and case law

With the ever changing COVID-19 landscape, most retailers (aside from the obvious exception of supermarkets), have either significantly reduced their in-store trading hours, chosen to cease trading due to the current climate, or have been forced to close their stores due to government restrictions.  With so many retail shutdowns, the Federal, State and Territory Governments, as well as the Courts, have imposed temporary arrangements to address rent payments for commercial leases.  

Federal approach to rent payments for commercial leases

On 3 April 2020, the National Cabinet released a mandatory code of conduct for commercial tenancies to support small and medium sized enterprises (SMEs) affected by COVID-19 (Code). The aim of the Code is to impose “good faith leasing principles” for certain commercial tenancies so that tenants are better able to manage their cash-flow to meet the economic challenges the COVID-19 pandemic poses. 

Application of the Code to Victorian commercial leases

The Victorian Parliament passed enabling legislation on 23 April 2020, namely the COVID-19 Omnibus (Emergency Measures) Act 2020. Since then, the Minister has prescribed Regulations under that Act. It is these Regulations in which the detail of the temporary arrangements for Victoria’s commercial tenancies is found, not the Code on which those Regulations draw. The Regulations generally reflect the Code but diverge in several important aspects. Victoria has picked and chosen and diverged from the Code. There are differences from the Code in other States and Territories too. 

The Regulations apply from 29 March 2020 until 29 September 2020 (Relevant Period).  

The Regulations apply to a tenancy if the tenant:  

• has an annual turnover of less than $50 million; and 
• is eligible and participating in the Commonwealth Government’s JobKeeper program.  

To be eligible for JobKeeper, the turnover of an enterprise needs to have fallen by 30%.  

Under the Regulations, for the purpose of ascertaining whether the annual turnover of a tenant does not exceed $50 million, the turnover of a group, of which the tenant is a part, may be the appropriate test.  

Obligations of cooperation and good faith

A tenant may make a written request for rent relief from the landlord accompanied by:  

• a statement that the tenant is eligible for the relief available under the Regulations; and 
• information that evidences that the tenant 
  • has an annual turnover of less than $50 million, subject to the group exception; and  
  • qualifies for, and is a participant in, the JobKeeper scheme.  

A landlord is then obliged to offer rent relief to the tenant within 14 days or other agreed timeframe. 

A landlord’s offer of rent relief must be based on all the circumstances of the lease and  

• apply to the relevant period; 
• relate to up to 100% of the rent payable under the lease during the relevant period;  
• provide that no less than 50% of the rent relief offered is by a waiver of rent, unless otherwise agreed, with the balance to be deferred until after the relevant period; 
• take into account: 
  • the reduction in a tenant’s turnover;   
  • any waiver by the landlord of the recovery of outgoings; 
  • whether insufficient rent relief would compromise a tenant’s capacity to fulfil its obligations under the lease;  
  • a landlord’s financial ability to offer rent relief, including any relief it may receive from any of its lenders; and  
  • any reduction to any outgoings charged for the premises.  

The tenant and the landlord must then negotiate in good faith with a view to agreeing on the rent relief to apply during the relevant period.  

If the parties are unable to agree then a mediation procedure and, if necessary, VCAT or Court proceedings will follow to resolve the issue.  

Other protections for Tenants

Provided a tenant: 

• complies with its obligations to cooperate and act reasonably and in good faith in its negotiations with its landlord; and 
• pays that part of its rent that is not waived or deferred 

the lease may not be terminated and the landlord may not enforce any security it holds under the lease, be it in the form of cash, a bank guarantee or a personal guarantee, during the relevant period. 

Also, under the Regulations, during the relevant period: 

• despite the terms of its lease, a tenant will not be in breach for failing to open for business during the hours required under the lease or for closing the premises; 

• no rent increases are to take effect; 
• if payment of any part of the rent is deferred until after the relevant period, the landlord must offer to extend the lease for the period of the deferral. 

Where rent is deferred, the tenant will have a minimum of 24 months to pay it back in equal monthly instalments whether or not the lease term has expired. 

Court approach in circumstances where an administrator has been appointed

Although somewhat prescriptive, the Federal and State approaches to commercial leases do not appear to apply to SMEs in administration or liquidation. This is because the schemes require the SME to be eligible for the JobKeeper program. By nature of some administrations and/or liquidations, companies will be ineligible for the JobKeeper program as they are not standing employees down for the duration of COVID-19 restrictions with their jobs on hold pending the business reopening for future trade.  

In the recent Federal Court decision of Strawbridge (Administrator), in the matter of CBCH Group Pty Ltd (Administrators Appointed) (No 2) [2020] FCA 472 (Strawbridge Case) (judgment was delivered on 1 April 2020), the Court considered the liability of administrators of the Colette Group (a bag, accessory and costume jewellery retailer) in paying rent for the groups 93 retail stores (of which 27 stores had already been closed by the administrators due to poor performance), during the COVID-19 pandemic (noting the group also trades, and has retail stores, in New Zealand).  

Until 26 March 2020, the administrators had continued to trade and operate the stores. On this date, the administrators determined that due to the COVID-19, all of the Colette Group stores were to close. However, the administrators were still in possession of the stores.    

The administrators submitted evidence that they were not willing to reopen the stores until the threat of COVID-19 to employees had subsided. Accordingly, the administrators sought orders from the Court that:  

• pursuant to section 447A of the Corporations Act 2001 (Cth) (Act) the Court alter the operation of sections 443A and 443B of the Act (relating to an administrator’s liability for general debts and payments for property used, occupied or in the possession of the company respectively) so that the administrators were not liable for the rent payments; and 
• pursuant to section 90-15 of the Insolvency Practice Schedule (IPS) (which provides the Court with the power to make any orders in relation to the external administration of a company), the administrators were justified in their decision not to pay rent for the relevant period. This was to protect them from potential claims that they acted unreasonably or inappropriately in not paying the rent. 

The Court considered the prejudice that the landlords would suffer in becoming unsecured creditors for the rental payments in the period, if it were to grant the orders the administrators sought. However, as: 

• no rental payments were due during the period of 1 April 2020 to 14 April 2020 (by which time a new hearing would be held);  
• making the orders sought would allow the administrators to better assess the company’s position and that of its creditors in the COVID-19 environment; 
• making the orders would allow the administrators to pursue alternative action which would not involve an immediate shut down;  
• if the orders were not made and a shutdown occurred, it is unlikely that the landlords would be able to re-lease their premises in the current environment (so the landlords would not be in a worse position if the orders sought were granted); and  

• the administrators had given notice to the landlords of the orders they would be seeking, 

the Court granted the orders sought by the administrators. Accordingly, pursuant to section 447A of the Act, the Court provided the administrators with relief for a two-week period from their obligations to pay the rent. The Court noted that this would allow the administrators to further consider the effects of the COVID-19 pandemic which was said to be in the interest of the Colette Group’s creditors as a whole.  

By making this order, the Court acknowledged that the landlords of the 93 stores would become unsecured creditors in respect of the rent payment owing to them in the two-week period.    

The Court’s approach to the Act and IPS in the Strawbridge Case, has been adopted in the following recent cases:  

• Eagle (In their capacity as joint and several voluntary administrators of each of Techfront Australia Pty Ltd (Admins Apptd) Screencorp Pty Ltd (Admins Apptd) And Techfront Infrastructure Solutions Pty Ltd (Admins Apptd)) v Techfront Australia Pty Ltd [2020] FCA 542 in which the Court agreed that section 447A of the Act provided it with the power to alter the operation of sections 443A and 443B of the Act,  Therefore the timeframe for the administrators to give notice, as to whether they would retain or give up equipment and motor vehicles the subject of leases pursuant to section 443B of the Act, was extended: and  

• Strawbridge, in the matter of Virgin Australia Holdings Ltd (administrators appointed) [2020] FCA 571, in which the Court adopted the Court’s reasoning in the Strawbridge Case to extend timeframe under section 443B of the Act and so, granted the administrators further time to consider whether Virgin should remain in possession of both real property and chattels the subjects of various leases. 

On 15 April 2020, the issue of the rental payments in the Strawbridge Case was again considered as the two-week period had lapsed. At this time the administrators brought the Code and JobKeeper payment to the Court’s attention and indicated that they believed, although were awaiting formal confirmation, that the administration was eligible under both schemes as employees had been indefinitely stood down pending potential future trading. Further, the administrators had begun negotiating with the landlords, however, no agreements had yet been reached.  

The Court noted that the prejudice the landlords would suffer in becoming unsecured creditors for rent payments in that period was weighed against the fact that if the orders were not granted the administrators would have to vacate the stores (and it would be unlikely that the landlords would be able to obtain new tenants) or begin a shut down in which there would be no value for the landlords. By granting the orders, the Court considered that unsecured creditors would be in a better position, particularly if a Deed of Company Arrangement could be entered into or a post COVID-19 sale was the result. Further, as several landlords had call on bank guarantees in support of the leases, the Court acknowledged that they now likely had some priority.  

Considering those circumstances, the Court ordered that the administrators were not personally liable for rent, pursuant section 447A of the Act and section 90-15 of the IPS, until at least 6 May 2020. We will update you on developments as they come to hand. 

Key Takeaways

• Although the Code allows landlords and tenants to negotiate on rental arrangements during this uncertain time, retail SME tenants should be comforted by the fact that they will not have their leases terminated for non-payment of rent (subject to the Code being enacted in their jurisdiction);  
• The Victorian Government has enacted the Omnibus (Emergency Measures) Act 2020 and prescribed Regulations which draw on the Code, however, the State has diverged from the Code in some aspects 
• If administrations and liquidators do not fall within the Code and the relevant state or territory schemes, then they may be able to draw on section 447A of the Act and the IPS for relief from liability for rent payments in accordance with the Strawbridge Case;  
• However, it appears that administrations are likely to be fall within the Code and/or the Victorian scheme, if the businesses trading on meet the threshold tests of annual turnover and eligibility to participate in the JobKeeper program.  

Queries

If you have any questions about this article, please get in touch with an author or a member of our Property or Litigation & Dispute Resolution teams.

Disclaimer

This article is general commentary on a topical issue and does not constitute legal advice. If you are concerned about any topics covered in this article, we recommend that you seek legal advice.