Surviving the Retail Shift

Manage Expectations And the Legal Process

One of the last things a shopping center landlord faced with a struggling tenant wants is a dark space with a large account receivable that continues to accumulate each day. When it becomes clear that a retail tenant is sure to fail, the landlord's goal often changes. The shopping center's goal becomes obtaining control over the leased space quickly, and recovering as much of the account receivable as possible. A landlord can often achieve the most efficient results by understanding the legal process and using it to drive a desired (but realistic) outcome.

A prudent initial step before commencing any type of lawsuit is to consider the goal and the likelihood of success, and then to evaluate the fast path to that goal. This analysis is particularly acute in the context of a defaulting tenant because, unfortunately, a defaulting tenant can often conduct business in its leased premises for many months without paying rent. A shopping center owner will almost always achieve the best outcome by jeopardizing a defaulting tenant's income stream.

When evaluating how to proceed, many landlords look to asset reports, which are compilations of publicly available information, including the tenant's ownership of real property, titled personal property, UCC filings, pending lawsuits or judgment, and addresses. Asset reports do not tell you where tenant's money is hidden, however. They cannot tell you where a tenant holds bank accounts, and they certainly do not reveal how much money is in those bank accounts. Privacy laws protect this information from public disclosure. Ultimately, asset reports are good at giving bad news, but bad at giving good news.

The best source of accurate financial information is from a tenant itself. Many struggling commercial tenants try initially to negotiate rent relief or an early lease termination. These negotiations might be the only time a struggling retail tenant has incentive to cooperate with its landlord. Shopping center owners should seize the opportunity to get updated operating financial information from the retail tenant, including bank statements, balance sheets, profit and loss statements, recent tax returns and a marketing/business plan for the next year. A tenant's willingness to provide, and its timeliness in actually providing, this information is often a good indicator of whether or not an amicable resolution is likely.

Be forewarned, however, that some tenants use the delay of this negotiation process to slow down the commencement of legal action and continue operating without paying rent. For this reason, we recommend that owners and managers act quickly and resist the temptation to delay legal proceedings while the parties are engaged in negotiations. There is no rule against negotiating an outcome while a lawsuit is already filed and pending.

Commencing Eviction Proceedings

A shopping center landlord's most powerful tool to compel a defaulting retail tenant to pay its rent is to commence a lawsuit that will quickly stop that tenant's ability to remain in possession of its leased premises unless it pays rent. An unlawful detainer (i.e., eviction) action is precisely that tool. It is a summary proceeding that generally restores a commercial landlord's right to possession of a retail premises within a matter of weeks. The practical result is that it shuts down a retail tenant's business quickly. In contrast, an action for breach of lease is a slow process that does not jeopardize a defaulting retail tenant's right to possession of its leased premises; it adjudicates only whether and how much money the tenant owes.

While shopping center owners faced with increasing vacancies may be hesitant to commence an eviction action for fear of having more dark spaces, defaulting retail tenants tend to negotiate more quickly and offer more money when an unlawful detainer action is pending. The fast pace of an unlawful detainer action and the likelihood that it will result in the retail tenant being forced from its (revenue producing) leased premises combine to offer a commercial landlord with perhaps the best negotiating power. A landlord can (and should) use the narrow window of time provided by an unlawful detainer action to leverage the tenant to provide any requested financial information and to negotiate either an amicable tender of possession, a payment plan for the past due rent or a reduction of rent going forward. If a resolution cannot be reached, the pending unlawful detainer action gives a shopping center landlord the best chance of quickly regaining control over its space.

Be Careful

The trade-off for the efficiency of an unlawful detainer action is hyper-technicality. The landlord must comply strictly with the requirements of the lease — often found in multiple lease provisions; as well as with applicable state law requirements — which are sometimes redundant or in conflict with the lease. Failure to satisfy these requirements will stall an unlawful detainer case or result in its dismissal altogether. Shopping center owners and managers trying to navigate these requirements on their own often stumble through them. For example, a prerequisite for almost any landlord commencing an unlawful detainer proceeding is to serve the notice required under the lease and state law.

Courts across the country almost universally hold that it is proper to dismiss an unlawful detainer action when the requisite default notice fails to comply strictly with the lease. To compound the problem, the default notice — and proof of its service on the tenant — must be admissible into evidence or they provide little or no value. Delivery receipts from Federal Express or United Parcel Service are often inadmissible into evidence without live testimony from a person with knowledge of how these receipts were created and maintained. A proper notice that is not admitted into evidence is akin to no notice at all.

Brick and mortar retail is not dying, but as the retail industry struggles, commercial landlords have difficult decisions to make and often must make those decisions without perfect information. Shopping center owners and managers can often improve an already bad situation by acting quickly and using the leverage created from an unlawful detainer proceeding to achieve better results, whether that means obtaining a negotiated resolution or gaining control over the leased space. Landlords should be careful not to veer from the hyper-technical requirements of many retail leases and most unlawful detainer acts, however, or they risk squandering this leverage and worsening the already bumpy road of the retail apocalypse.

In the second part of this five-part series, we will address a commercial landlord's rights and obligations with respect to a retail tenant's personal property.

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Kelly D. Stohs is a shareholder at Polsinelli, who has focused the last decade of her practice on real estate litigation. She represents shopping centers, national property management firms, property owners and investors, and high-volume residential investors. David P. Vallas is also a shareholder at the firm. He handles complex commercial foreclosure cases, commercial lease disputes and other matters for business entities of many kinds.