Struggling Retailers Use Bankruptcy to Break Leases by the Thousands

Struggling Retailers Use Bankruptcy to Break Leases by the Thousands

ABI Bankruptcy Brief

August 6, 2020

ABI Bankruptcy Brief

Struggling Retailers Use Bankruptcy to Break Leases by the Thousands

With the pandemic intensifying the plight of U.S. retailers, companies ranging from J. Crew Group Inc. to the owner of Ann Taylor are using chapter 11 bankruptcy filings to quickly get out of costly, long-term leases and shutter thousands of stores, Bloomberg News reported. By seeking court protection, firms like Neiman Marcus Group Inc. and the parent company of Men’s Wearhouse avoid the headache of protracted negotiations with individual landlords. But the moves threaten to upend huge swaths of the real estate market and the half-trillion-dollar market for commercial mortgage-backed securities. “This is now black-letter law — a debtor can cram down a landlord,” said Melanie Cyganowski, a former bankruptcy judge who’s now a partner at law firm Otterbourg PC. “If this becomes a tsunami of retailers rejecting their leases, it’s going to trigger another part of the sea change — the mortgages held by the landlords.” As bankrupt firms like JCPenney Co. and Brooks Brothers Group Inc. look to jettison leases, landlords are already feeling the consequences. CBL & Associates Properties Inc., owner of more than 100 shopping centers in the U.S., is preparing its own bankruptcy filing after rent collections cratered. And 16 percent of retail property loans bundled into CMBSs were delinquent in July, according to research firm Trepp. At least 25 major retailers have filed for bankruptcy this year, according to data compiled by Bloomberg. The most recent additions include Tailored Brands Inc., owner of Men’s Wearhouse and Jos. A. Bank, which is seeking to close about a third of its more than 1,200 stores, and Lord & Taylor parent company Le Tote, which said it could shut down all of the department store’s remaining locations.

Businesses Thought They Were Covered for the Pandemic. Insurers Say No.

Since the pandemic hit the U.S. this year, thousands of business owners have discovered that the business-interruption policies they bought, and have been paying thousands of dollars in annual premiums to sustain, won’t pay them a thing — just as they are struggling through the biggest business interruption in modern memory, the New York Times reported. Now, many of them — from proprietors of gyms and dental practices to high-profile restaurateurs including Chez Panisse owner Alice Waters, the owner of Cheers in Boston and even a National Basketball Association team — are taking their insurers to court, hoping to force them to cover some of the financial carnage. So far, more than 400 business-interruption lawsuits have been filed, according to insurance lawyers. Most business-interruption policies include highly specific language stating that for a claim to be paid out, there has to be “direct physical damage” — such as a flood that washes away a building or a fire that burns down inventory — forcing a business to close. On top of that, after SARS swept through Asia nearly two decades ago and caused widespread economic damage, many insurers began to write in language that excluded business interruption caused by viral epidemics. Insurers say they aren’t being stingy; they simply don’t have enough capital to cover all coronavirus-related claims and would suffer enormous losses if they had to pay out. The industry’s position hasn’t deterred business owners. Some plaintiffs are arguing that the pandemic calls for new interpretations of what “direct physical damage” means for their business. Others are highlighting the spillover effects of closures on local economies.

A forthcoming ABI podcast features Susan N.K. Gummow of Foran Glennon (Chicago) talking with ABI Editor-at-Large Bill Rochelle about this issue and other bankruptcy and insurance topics. Be sure to pick up a copy of Gummow's recent ABI title, Bankruptcy and Insurance Law Manual, Fourth Edition.

U.S. Weekly Jobless Claims Fall, Labor Market Struggling as COVID-19 Epidemic Spreads

The number of Americans seeking jobless benefits fell last week, but a staggering 31.3 million people were receiving unemployment checks in mid-July, suggesting the labor market was stalling as the country battles a resurgence in new COVID-19 cases that is threatening a budding economic recovery, Reuters reported. Other data on Thursday showed a 54% surge in job cuts announced by employers in July. The reports followed on the heels of news this week of a sharp step-down in private payrolls in July and continued declines in employment at manufacturing and services industries. Initial claims for state unemployment benefits fell 249,000 to a seasonally adjusted 1.186 million for the week ended Aug. 1, the Labor Department said. That was the lowest since mid-March. Claims remain well above the peak of 695,000 during the 2007-2009 Great Recession. Some economists attributed last week’s drop in claims to the end of a $600 weekly unemployment benefits supplement last Friday. They expected further declines in the weeks ahead. Industry groups had complained the supplement was discouraging furloughed and unemployed workers from returning to their jobs.

In related news, Sens. Mitt Romney (R-Utah), Susan Collins (R-Maine) and Martha McSally (R-Ariz.) introduced legislation yesterday that would extend the currently expired extra unemployment benefits (UI) through the end of the year, reported. “Unemployment benefits have now expired, and millions of unemployed workers are facing extreme financial uncertainty while Congress continues to negotiate the next relief package,” Romney said. “Our solution extends the supplemental benefits through the end of the year and incentivizes states to update their UI processing systems.” The proposal comes as Republicans and Democrats struggle to find common ground on a new stimulus package, as millions of jobless Americans will not receive any unemployment benefits beyond what their states allow. July 25 or July 26 was the last time most workers got the extra $600. The new legislation would allow states to extend $500 in extra UI per week for August (or $400 per week if the state prefers not to change the payment amount again in September), provide $400 per week in September, and provide 80 percent wage replacement or seek a waiver for $300 per week in extra UI for October through December. The same group of senators previously proposed legislation that would have allowed states to choose between reducing the unemployment benefits to an 80 percent wage replacement rate or gradually reducing the extra benefits to $500 per week in August, $400 per week in September, and $300 per week in October.

Additionally, a study from the National Bureau of Economic Research found that more generous unemployment insurance (UI) benefits help workers find better jobs, The Hill reported. "Longer UI benefit durations decrease the mismatch between workers’ educational attainments and the educational requirements of jobs," wrote the study's authors, Ammar Farooq, Adriana D. Kugler and Umberto Muratori. Critics of more generous unemployment benefits argue that receiving cushy benefits for months on end dissuades people from going back to work. The paper, however, found that having a better safety net let people find jobs that were more in line with their skills and education rather than rushing to take the first job that comes along. That, they argue, is better for the worker, the employer and the economy overall. Minorities that have less of their own access to credit were particularly helped by additional benefits. "We also find this effect is greater for women than men, for minority than white workers, for less educated than more educated workers and for older than younger workers, all of whom are more likely to be credit-constrained," the authors wrote.

U.S. Household Debt Falls Amid COVID-19 Spending Cutbacks

A New York Federal Reserve survey released today showed that U.S. households cut their debt for the first time in six years in the second quarter, led by a record drop in credit card balances as consumers cut back on non-essential spending during coronavirus lockdowns and paid down what they owed, Reuters reported. The $34 billion drop in overall household debt to $14.27 trillion in the three months ended June 30 was the largest since the second quarter of 2013, the New York Fed’s Quarterly Report on Household Debt and Credit found. By far the biggest driver was plunging credit card balances: The $76 billion decline to around $820 billion — the lowest since the first quarter of 2018 — was more than twice the previous record set in the first quarter. The series dates to 2003. Combined with the first quarter’s $34 billion reduction, consumers shaved their credit card debt by an unprecedented $110 billion, or roughly 12 percent, in the first six months of 2020. About a third of the decline in credit card debt is attributable to the big drop in consumer spending in the second quarter, with the rest coming from households paying down balances.

Click here to read the report from the New York Federal Reserve.

Analysis: Life and Debt at a Private-Equity Hospital

Steward Health Care has long been heralded as a bold experiment in using Wall Street financial engineering to save community hospitals, according to an analysis by Bloomberg Businessweek. A decade ago, Cerberus Capital Management, a private-equity firm, bought St. Elizabeth’s Medical Center in Boston and five other Catholic hospitals in Massachusetts. The buyout created Steward, which has become one of the largest U.S. chains of for-profit hospitals, with $6.6 billion in annual revenue in 2018. When Cerberus bought them, they were in a precarious financial condition and had substantial pension obligations. Cerberus’s ownership wasn’t only supposed to spruce up old buildings; its intent also was to revolutionize health care. Steward would build an “accountable care organization” under Obamacare, which passed the same year as the buyout and brought the sense that big reforms were possible. Steward’s network of family physicians, specialists and hospitals could work together seamlessly to manage every aspect of a patient’s health, offering better care at a lower cost to the working-class communities many of the hospitals served. As the U.S. faces an uncertain economic future linked to the relentless coronavirus, providing affordable health care has never been more urgent. Steward says it has taken steps toward that goal and points to improvements in mortality and other measures at its hospitals since the Cerberus purchase. Yet for all of Steward’s impressive growth, the company, like so many created through buyouts, remains on a financial knife’s-edge. To pay off Cerberus and its investors as well as finance the health system’s growth, Steward has sold off some of its most valuable assets — the real estate its hospitals occupy — and is now saddled with debt. In May, as St. Elizabeth’s was dealing with its electrical glitch and the crush of COVID-19 patients, it faced another upheaval. In response, Cerberus transferred control of the company to a group of the hospitals’ doctors. Private-equity firms see health care as a growth opportunity, in part because of the graying of America, and they’ve been buying like crazy. As a whole, they made a record $78.9 billion worth of medical investments last year, according to consultant Bain & Co. Along with hospitals, investors have bought doctors’ offices, surgery centers and drug-treatment clinics.

U.S. Treasury Expects Borrowing Needs to Remain Elevated Amid Coronavirus Spending

The Treasury Department said yesterday that it expects the government’s borrowing needs to moderate somewhat this quarter but remain elevated amid an unprecedented surge in federal spending to combat the coronavirus pandemic, the Wall Street Journal reported. The Treasury plans to increase auction sizes across all securities, particularly 7- and 10-year notes and 20- and 30-year bonds, as part of a broader effort to shift government financing to longer-dated maturities. Treasury officials also said they are taking a precautionary approach to government outflows and expect to maintain a higher cash balance for the foreseeable future until the uncertainty around government outflows diminishes. The Treasury on Monday estimated that the cash balance would fall to $800 billion by the end of the current quarter. “The extent of the decline will depend on several uncertain factors, including the pace of outflows under current law and the potential for additional legislation,” Brian Smith, Treasury’s deputy assistant secretary for federal finance, said. The Treasury has borrowed a record $1.462 trillion since May 1, as the government pumped billions of dollars to households and businesses to help cushion the economy through emergency small-business loans, expanded jobless benefits, and aid to state and local governments. Officials estimate net marketable borrowing of $947 billion through the end of the current quarter, compared with $2.753 trillion from April through June, though that depends on the size of the economic relief package that the White House and Congress are still negotiating. The Treasury on Monday estimated total borrowing for fiscal year 2020 at $4.5 trillion — more than triple last year’s $1.28 trillion and well above borrowing during and after the 2008 financial crisis. (Subscription required.)

Risk Coronavirus or Default: Ride-Hail Drivers Face Tough Choices as U.S. Aid Expires

Thousands of drivers for Uber Technologies Inc. and Lyft Inc. across the U.S. are choosing between physical and financial health risks as the $600 in additional weekly unemployment assistance expires, Reuters reported. While drivers are not the only workers struggling, they are particularly vulnerable, as their work puts them in close proximity to many strangers. Also, as independent contractors, they have none of the formal protection or benefits that employees enjoy. Federal pandemic pay offered a lifeline to many gig workers not eligible for ordinary unemployment insurance. Uber and Lyft lobbied U.S. lawmakers to include gig workers in the taxpayer-funded March coronavirus relief bill, and workers remain eligible for state-based assistance. Uber and Lyft have provided drivers with masks and disinfectants. They also pay two-week financial assistance to drivers infected by the virus or ordered to quarantine. Trip requests dropped 80 percent in April and remain significantly below prior-year levels.

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New on ABI’s Bankruptcy Blog Exchange: Biggest U.S. Banks Have More than $150 Billion of Deferred Loans

The four largest U.S. banks had at least $151.5 billion of loans with payments in deferral at midyear as borrowers from small businesses to homeowners sought debt relief amid the coronavirus pandemic, according to a recent blog post.

To read more on this blog and all others on the ABI Blog Exchange, please click here.

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