PPP & a Tale of Two Landlords

I own two small retail stores in Richmond, Virginia.  Like almost every other small business owner on the planet – literally the planet – the ongoing pandemic is ravaging my business.   There are at least two front lines in the global fight: 1) the first responder front where healthcare professionals and other dedicated souls are battling the Coronavirus day in and day out, saving lives. Then there is the economic front where many of us, businesses and small large,  are waging another war for survival. I intend to discuss this second front. Regarding the first responder offensive, I can only offer my thanks and respect.    

Writing this detailed account, I hope to provide a ground level perspective on what we face economically.  While my two stores are great examples of the turmoil, my two landlords are approaching the crisis in very opposite ways,  demonstrating how the Paycheck Protection Program (PPP) can simultaneously help, hurt and bamboozle a small business owner. 

I’ll start by discussing the basics of the two beer stores I own. Very much by design, my stores are unique in that we feature over fifty taps of draft beer that we use to fill growlers (sealable 32 and 64oz beer vessels).  Accordingly, the name on the front doors reads Growlers to Go (GTG). Absent a pandemic, we also serve draft beer and food to customers in the stores so they can try a wide array of beer. GTG is, in fact, both a retailer and a restaurant. The Coronavirus pandemic represents a new challenge for us all.  This post provides a detailed look into the devastation Coronavirus is inflicting upon many small businesses from the perspective of GTG. The lockdowns and stay at home orders have all but killed GTG.

Entering a Crisis on a Seasonally Weak Foundation

As a beer store, GTG and many of its retail/hospitality brethren began the Coronavirus crisis from already-weakened financial foundations.  GTG began feeling the real impacts of external limitations on Thursday March 12, the day that officials began cancelling major sporting events across the globe. For a beer store, March 12th was literally the worst day of the year for the government to begin imposing social distancing measures.  You see, beer stores and most hospitality businesses generally suffer early in the year. Inclement weather, New Year’s resolutions, Dry-uary, and similar headwinds conspire to hamper a business like GTG for most of January and February. I have to delay payment of some bills. The wind shifts favorably the weekend of St. Patrick’s Day – this year right on Thursday March 12.  With better weather we start renting our tap trailers for outdoor events, March Madness begins, and the spirit of the Irish moves many to resume lives of gluttony and partying. Then we start paying bills. 

In the absence of COVID-19, March and April would have been two of our highest grossing months in the year.  Not anymore. GTG remains operational with a skeleton crew of employees trying to salvage what we can from pick-up and delivery orders. Revenue has dwindled to less than a quarter of what we would normally see during a weekend in March.  Very few vendors and landlords have reduced their expectations for payment of bills and other obligations. In general, more local vendors have proven the most accommodating. Trust me, Verizon has not offered any assistance or leniency. Bank America has happily continued charging GTG exorbitant fees when we bounce a check.   And without visibility on cash flows or the cushion provided by St. Patrick’s day, we have bounced some checks. Funny how many emails I get from these large companies about their Coronavirus response plans. Not one of them has offered to help me, other than by sanitizing their teller windows (my cell phone screen?).  

Two stores, Two Landlords, Two Approaches

As a retail business seeking visible store locations, GTG pays very high rents, an amount of monthly cash only a bit less than our payroll.  With the backdrop of the government’s emergency financial assistance, the Paycheck Protection Program (PPP), I invite you to follow this simple logic: Without a space to conduct our business,  there is no business, no employees and, of course, no payroll. So for GTG, rent is as much a part of payroll as the cash paid out to employees in the form of wages and benefits. Needless to say, the hasty framing of the PPP (by necessity) resulted in lawmakers failure to follow this logic.  So, let’s focus on the landlords to whom GTG pays rent for its stores. Are they helping or hindering?

Our suburban store is located in a shopping center owned by a large, national real estate investment company that I will refer to as ASCAM (pr. “ass-cam”). Shortly after the shutdown began, ASCAM kindly sent me a formal notice of default by certified mail, because I had only paid half of my March rent.  The date on the notice reads – you guessed it – March 12. I easily would have paid the balance (plus late fee) on Monday March 16 after the St. Patrick’s weekend. As the crisis began, did ASCAM indicate any leniency or understanding? They did not. Upon receipt of the notice, I gave my lease a hard read.  The lease author, wrote it to thoroughly brutalize the tenant. It does include a so-called Force Majeure section outlining what happens should external forces prevent the tenant or landlord from upholding obligations: 

The provisions of this section shall be applicable if there shall occur during the Lease term…iii) Acts of God, adverse weather conditions, governmental restrictions….If Landlord or Tenant shall, as the result of any of the above described events, fail punctually to perform any obligation on its part to be performed under this Lease, then such failure shall be excused and not be a breach of this Lease by the party in question…

In all, the paragraph containing the above passage covers twenty single spaced lines.  When you read these first five lines, you might quickly conclude as I did: GTG does have to pay rent until this shutdown ends.  But then you compel yourself to keep reading down and through the end of the paragraph. At line 19 you encounter the following disheartening reality:  

Notwithstanding anything herein contained, however, (a) the provisions of this section shall not be applicable to Tenant’s obligations to pay minimum rent or additional rent or any additional charge…

Here is my paraphrasing of this Force Majeure section in lay terms:

If Coronavirus shuts down the country and prevents your business from operating successfully, then don’t worry, you don’t have to do anything.  Oh except… dang, we forgot… you do have to pay your exorbitant rent in full no matter what. If you do not pay, you will be in default.

From my lowly vantage point, this language exemplifies poor business behavior. Clearly ASCAM is not sharing good intentions here.  Ironically, it is ultimately inflicting an economic wound upon itself, too. Some ASCAM tenants will be forced to close forever, rendering them unable to pay rent in the longer term.  ASCAM attorneys may somehow squeeze dry stones and April rent may drip out, but I’d rather use the money on vendors or employees who act in good faith in times of crisis. ASCAM will assert its contractual right to collect a full month of rent, and both they and their tenants will eventually feel the detriment of this one-sided world view.  After the March 12 notice, ASCAM sent no further correspondence until they emailed all of their tenants instructions for obtaining government loans that could be used to pay rents. Kind of them to instruct us how to put forth huge effort in order to satisfy their draconian lease requirements. Effort – and a long term financial obligation…. 

Now I’d like to contrast ASCAM with the behavior of the landlord of our Boulevard store.  It is owned by a local entity controlled by an individual who owns many buildings leased to restaurants and retailers in central Richmond (as opposed to suburban sprawl).  On March 24, barely a week into the crisis and a week before most rent was due, the Boulevard landlord sent out an unsolicited email to all tenants, starting with the following: “to our valued tenants… we are in this with you…we are suspending April rent if you are unable to pay it… be prepared to hear from us in mid to late April about May rental payments.”  What a huge difference! The email is proactive, unsolicited, responsive to reality and not grounded in murky legalese that serves only himself.  Numerous follow-ups regarding governmental action and programs available to small businesses followed. ASCAM approached delivery of similar information as an order from on high: you must pay us. The local landlord has taken a longer term view through alternate semantics: don’t worry about paying now because we want you to survive this difficult time.  From the perspective of small business, the local landlord is demonstrating how to aid the economy, and he states a desire to to share in the effort to save jobs.  The national real estate investment company seeks only short term gain at the cost of jobs on the ground.

Standard Practices Influence Landlord Behavior 

One should not simply interpret these differing approaches as good versus bad.  It is worth noting a few explanations. First is the local landlord is simply smarter than the national player.  He will generate economic benefit for both tenant and himself in the long term because he is playing the long game.  Before we trample on ASCAM too heavily, we must acknowledge mitigating circumstances that likely guide their behavior.  Like most companies, ASCAM is beholden to its sources of capital. It is not a publicly traded company, but it is large enough to be financed through a likely combination of equity investors and mortgage debt used to fund real estate purchase. I cannot speak to the specifics of ASCAM’s capital structure, but I can speculate with some knowledge of traditional real estate investment vehicles.  I own commercial real estate, too. And by the way, my mortgage lender called me within days of March 12 to ask me if I wanted to defer payments on the mortgage for two months; Boulevard landlord is not a unicorn in his honorable, team approach behavior.

ASCAM’s Investors like most investors, whether debt or equity, love certainty.  In particular, they crave reliable cash flows generated by their investments. Such cash flows can reward equity investors or pay back loans.  Therefore, investors’ lawyers demand draconian cash flow guarantees in contracts like leases. When you seek a commercial mortgage, lenders will review underlying leases to ensure that the lease guarantees cash flows from the property.  That makes sense for the bank lending money. However, the world is not a certain place – a lesson we are all absorbing during the COVID-19 crisis. When society and the economy operates as it normally functions, the real estate market demands two-way certainty that benefits both landlord and tenant. Tenants benefit from a guaranteed period during which they can occupy a property, and landlords benefit from the corresponding cash flow certainty.  But in times of unexpected crisis, one-sided leases shift the economic toll onto the small business employee. In the crisis confronting us today, the money flows would indicate that the tenant created the situation (and should pay for it). We must find ways to pair cash flow certainty with an element of flexibility during unexpected crises. And there’s always the opportunity for people to act with decency and fairness, no matter what a contract might dictate.  If ASCAM had been flexible as demonstrated by the Boulevard landlord, my conclusions about them would change. 

To ASCAM’s credit, their investors are likely influencing their less-than-decent behavior.   The problem is systemic: from investors at the top of the food chain spilling all the way down to the rent GTG pays and the people it employs.  As it turns out, ASCAM only represents a connecting link in this chain. If I were the investor, I would much rather that my investment ensure the long term viability of cash flows than place a priority on one month’s rent, demanded during an international crisis.  I would certainly sleep better then they must. To each his own, I suppose.  

PPP Drill-down

PPP legislation is now in effect, so let’s discuss how it is affecting Growlers to Go.  One acronym torrent surely applies: GTG would be dead without PPP. Despite waging some political combat, congress managed to pass and enact the PPP quickly, a necessity as the face of the economy morphed from Jekyll to Hyde almost overnight.  Kudos to them. The problems ensued for GTG as soon as I read the PPP application. It is plagued by lack of clarity, a sin we can forgive because of the time constraints. With no time to unravel some vexing bits of the application, I sent my completed, best-effort app in by 10 AM on April 3rd, the day the SBA first began accepting applications.  Stepping back for a moment; the application dictates the amount for which a business is eligible by asking the applicant to multiply average monthly payroll by 2.5, likely an attempt to cover a company’s payrolls for roughly 2.5 months. The formula itself implies that I should use the proceeds for payroll.In fact, if a recipient spends more than 25% on rent or non-payroll expenses, that amount will not be forgiven, thus saddling the borrower with a long-term debt. The dynamics of my business dictate that I will violate the 25% threshold for forgivable loans. I will be paying the Coronavirus bill long after the health crisis abates and well after my Short Pump lease ends.  Keep in mind, the revenue we’ve lost during this shutdown is not going to magically reappear in sequence with debt service required on PPP or other disaster relief loans.  

PPP Math

In normal times, GTG’s two store wages total about $17,000 per month plus another $3,000 in employee benefits, a $20,000 monthly payroll.  So I used $20,000 X 2.5 as the amount of loan requested from PPP. However, combined rents at my stores run over $10,000 per month. It will be hard to maintain payroll/benefits of $20,000 for 2.5 months and also pay rent on a place to continue business.  The PPP created an inherent conflict here. And since landlords are approaching the pandemic crisis very differently, I quickly found myself in a PPP conundrum. In the immediate term, PPP ensures support for the foot soldiers of our economy. But without funds for rent, GTG will be short lived, as will the financial buoyancy of its employees. Therefore we must ask whether temporary payroll protection (support) is the only solution necessary.  I am sure glad it is there, but the reality is that GTG needs more than just payroll money to keep compensating its employees. 

Finally, what, may I ask, prevents ASCAM or other commercial real estate owners from receiving funds from PPP or other government sources of disaster relief?  Take a theoretical scenario in which I, as a tenant, use some of my PPP funds to pay ASCAM its rent and ASCAM receives its own government bailout for rent it claims to have lost.  I have no knowledge that ASCAM or any other entity is perpetrating this fraudulent scheme, but I am concerned that the SBA lacks the protective measures to prevent double dips.   

PPP Treats the Symptom and Not the Cause

Following the tale I have told above, you might begin to see that government is unfortunately providing a remedy for symptoms rather than a cure for the cause.  The symptom: affected small businesses are laying off workers en masse to save money. Remedy: provide funds as an incentive for employers to re-hire them. Regrettably, the workforce reduction tactic often presents the easiest way for a small business to curtail expenses when revenue dries up.  We would be better off economically if small businesses enjoyed other avenues for cost reduction. As we have explored, leases and other financial obligations carry many more restrictions and guarantees that cannot simply be ignored or laid off. What a shame.   

In this crisis, rent is the factor determining whether GTG remains viable, so let’s focus on it as a good example of a vendor relationship that most small businesses must manage.  If GTG pays rent, we reduce the likelihood of our viability. Writing its leases and enforcing them as it has, ASCAM is contributing to, if not creating, an economic virus. As vendor contracts are structured today, they are first infecting the small business employee who supports the majority of our economy.  Imagine our economy as a highrise in which each link in the economic chain occupies a single floor. Without a stable small business foundation, the economic tower immediately begins to topple. All floors above come crashing to the ground eventually. Contrastingly, a failure to pay rent damages the upper floor of the tower where ASCAM lives.  But the whole building does not come crashing down in a catastrophic failure. A few higher floors without revenue for a two-three months might require much less government intervention.

The real culprits of our current demise are the ingrained demand for and reliance on economic certainty from inherently uncertain small businesses. It turns out that contract law and common practices of upper floor residents often destabilize the foundation underneath all of us, themselves included. Therefore, economic participants on all floors have an economic incentive and (in my mind) ethical imperative to create leases and other contracts that reduce risk for the larger economic edifice.   Unfortunately, PPP fails to address the true cause of our current dilemma. There must be a better way – a method of guaranteeing cash flows for investors in normal times but providing flexibility when events spiral beyond normal boundaries. 

Conclusion

As it turns out, my landlords, who are taking vastly different approaches in this crisis are literally determining whether PPP is going to save my business or not.  GTG may not die a sudden jolting death In April, but the extra burden of debt service may slowly choke the life out of us. I hope not. If we, as economic participants, take a long term view of ongoing events, I hope we ultimately treat the underlying causes rather than the symptoms PPP is addressing.  Let’s accept that lessors are unlikely to stop demanding onerous leases. But what if, in a crisis, landlords simply agreed to share in the financial pain rather than squeeze dry rent stones, inflicting damage to foundational levels of the economy. In times of crisis and uncertainty, that rent money often spawns layoffs and jarring economic downturns.  Like a first date in crisis, landlords could just split the rent bill fifty-fifty. In an outrageous situation like we are experiencing now, landlord and tenant could both pay a share. If necessary, government could pitch in too. Simple modifications to ASCAM’s Force Majeure section would go a long way, but I doubt they or their lawyers will ever take that step on their own. Only when we legislatively or through our own behavior change the way we manage small business uncertainty, will we find a true vaccine for this economic virus…

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