It is too early to forecast the length of the COVID-19 pandemic, the local recovery, and the long-term impacts of the pandemic on our local real estate market. Whatever happens, a speedy and sustained recovery will require the cooperation, creativity, and flexibility of landlords, tenants, lenders, and state and local governmental agencies. These efforts must be geared toward supporting the recovery and stability of affected businesses, maintaining demand for real estate products and services, and reducing barriers to supplying that demand.
Relationships between Retail Landlords and Tenants Should Remain Flexible
Perhaps the most acute economic impact of COVID-19 has been felt by the estimated 158,000 Oregonians working in the food and beverage industry, including those in Portland’s acclaimed bar and restaurant scene. With most establishments shuttered, sales have plummeted such that market rents are not currently sustainable. Other traditional retailers have also seen a sharp decline in sales such that many temporary retail closures may become permanent.
Space and location are intrinsic to the success of retail and food and beverage tenants. For retail landlords and lenders, occupancy is paramount. Without a pool of prospective tenants to backfill empty spaces, landlords and lenders should continue cooperating with tenants and crafting short-term abatements, restructurings, and deferrals of rent. The pandemic’s uncertainty means that short-term retail lease restructurings may have to be extended, and landlords and lenders should be prepared for a slow retail recovery. On April 1st Governor Brown enacted a 90-day moratorium on all commercial lease terminations and evictions, lending some certainty to tenants that terminations and evictions will be delayed and perhaps avoided.
Office Demand Faces Uncertainty
Office tenants are generally less dependent on a specific location or space to function, and with most office employees now working from home, tenants with effective remote workforces may desire less space. Other tenants with higher occupant densities that strain building services and parking may keep existing space while encouraging or requiring remote work by portions of their workforces. Still others may yearn for the in-office camaraderie of yore and perceive remote work as a necessary but infrequent evil. Regardless, any long-term trend in the demand for office space may not be apparent for some time.
While current business disruptions for many office tenants undermine their ability to pay rent, the need for short-term rent deferrals and abatements in the office sector is less obvious than in retail. As such, landlords and lenders are subjecting rent relief requests to greater scrutiny and doing so on a case-by-case basis, typically requiring detailed financial information and asking tenants to explore governmental financial assistance. For new office leases, governments can reduce uncertainty by allowing construction to continue and fast-tracking permits for tenant improvements.
Industrial Demand Requires Flexible Accommodation
With shelter in place orders here to stay, the need for a stable and reliable supply chain to deliver essentials of daily living to our doorsteps has never been more obvious. While some industrial tenants face uncertainty and have requested rent relief or expressed reluctance to commit to longer-term leases, users in the grocery, e-commerce, and third-party logistics spaces have immediate need for additional space, ideally with surplus trailer parking. In addition, construction companies have sought short-term storage space for materials in anticipation of possible supply shortages. Metro Portland has a well-documented shortage of industrial land for development, and COVID-19 underscores the need for local governments to act quickly to plan for and accommodate near-term industrial land growth and the jobs that come with it, while simultaneously streamlining, reducing, or eliminating bureaucratic processes that slow development and increase costs for owners and users.
Recovery of Residential Construction Will Require a New Approach by Local Governments
COVID-19 has not reduced in any way the structural deficit in available homes in the Portland metro area. However, it has made paying rents and mortgages simply impossible for many, and has induced hesitation for those who would otherwise be looking for a new home. Financial market losses will complicate the ability of many to buy a home and will directly impact the availability of construction financing. Even through the fog of COVID-19’s unpredictable effects, it is almost certain that many in need of a place to live will have substantially less buying power and less will to use the buying power they do have.
At the same time, local government policies that directly increase the costs of housing remain in place. Over the last 40 years, most local governments in the region have sought to pay for infrastructure and services through development fees of all kinds. Land use reviews, system development charges, frontage improvement requirements, increasing demolition expenses, and even tree removal permits significantly increase the costs of infill development and redevelopment. These fees and related permitting processes have evolved into a delicate counterbalance against housing production, and only when production reaches unacceptably low levels have local governments generally been willing to reduce artificial cost pressures.
However, in the immediate post-COVID-19 world, the counterbalance will be upended. Local governments will have to respond, but instead of looking at housing recovery as something that requires the grudging surrender of sacred policies, processes, and revenue sources, local governments must simply do whatever is necessary to get housing production back to an acceptable level.
This may require reducing or even eliminating the numerous artificial barriers to housing production, even if only for a time. The good news is that this is entirely possible: System Development Charges (SDC) can be waived, most land use reviews can be conducted administratively unless appealed, permit fees can be reduced, and local governments can usually supplement their building and planning departments with general funds to keep projects moving. Procedures and requirements related to secondary public policies, such as deconstruction and tree preservation, can also be streamlined or eliminated.
Our Region Must Take a Flexible Approach to COVID-19
With shelter in place rules, individuals are being asked to endure unprecedented short-term disruption to normal life and financial security in order to preserve life and the long-term stability of our society. Landlords, lenders, property managers, and local governments are now asked to make similar sacrifices. There are signs of hope: many commercial landlords have been very willing to take steps to keep tenants who are temporarily unable to pay, and local governments have shown great tenacity in fulfilling ongoing public needs.
However, as the crisis abates, institutions of all kinds will feel pressure to return to the status quo. This impulse must be resisted for our region to thrive because any acceptable real estate recovery will require a re-think of short- and medium-term priorities to ensure the sector’s long-term health. If we fail in this, we could see a long period of slack demand and production in commercial real estate sectors and a worsening of the region’s existing housing underproduction. However, in crisis there is opportunity, and measures designed to stabilize and preserve businesses affected by COVID-19, foster job creation and real estate investment, and remove artificial impediments to growth may make Portland a stronger real estate and business market in a post-pandemic world.
Column first appeared in the Oregon Daily Journal of Commerce on April 17, 2020.
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