Morguard REIT‘s (MRT-UN-T) recent announcement of a significant rent abatement for Obsidian Energy Ltd. at its Penn West Plaza tenancy in downtown Calgary could be just the beginning of how building owners and managers will deal with the unprecedented economic impact of COVID-19 and the collapse in oil prices.
Morguard said in a release Obsidian will receive a rent abatement which adjusts its obligation to $833,333.33 per month as of Feb. 1, 2020, net of sublease obligations; and the trust will indemnify Obsidian in regard to the sublease income.
“It is estimated that this will represent an annual reduction in the trust’s net operating income in the range of $6.5 – $7.0 million,” said Morguard in the release.
Penn West Plaza is a 636,500-square-foot class-A office complex consisting of two towers, located at 207 and 215 9th Avenue S.W. Both office towers are fully leased to Obsidian until January 2025.
More abatements to come in Calgary
Greg Kwong, executive VP & regional managing director for commercial real estate company CBRE in Calgary, said the downtown office market will see more rent abatements going forward as companies scramble to reduce overhead.
“Every deal will be different. At the end of the day, there’s been a focus on retail tenants obviously, but office tenants as well are saying, ‘Look, we need a break, too, because we’re effectively shut down’,” said Kwong. “Alberta has gone through the last five years of a really crappy time.
“It’s not like companies had 100 per cent extra employees and they were brimming, growing like gangbusters. We’ve gone through a five-year contraction. The bigger issue now is the oil prices.”
In these turbulent times, particularly for Calgary’s already hard-hit energy sector, discussions are taking place between owners and tenants.
“The overarching motivation (for landlords) is basically landlord-tenant relations. They want to keep a good relationship with the companies that they house, because when they do come up for lease renewal, it’s just basic good PR,” said Kwong.
“In some instances, they may not have a choice. The tenant might go, ‘Hey look, here’s my financials. I’m living month-to-month. And if you don’t give me a break unfortunately I’m gone and the remaining term of my lease is of virtually no value to you anymore’.”
Downtown Calgary office vacancy 26.5%
CBRE data shows Calgary’s downtown office market had a vacancy rate of 26.5 per cent in Q1 2020, with 11.3 million square feet of vacant space, but a positive absorption of 213,234 square feet.
In Q1 2019, the vacancy rate was the same at 26.5 per cent with 11.2 million square feet of vacant space and positive absorption of 289,515 square feet.
Kwong said vacancy is now expected to increase in the downtown office market. He expects many companies with leases up for renewal could seek renewals for shorter terms.
Todd Throndson, principal and managing director of Avison Young’s Calgary office, said there are many different discussions going on between owners and office tenants.
“A lot of companies are not only being affected on their revenue streams, but they’re also just scared about what the future is going to look like,” he observed. “They’re scared about what’s happening with the oil and gas world, and they’re scared about employment overall and what that’s going to mean to all businesses in Calgary.
“In the office side, what we’re seeing is some are open to discussion, some aren’t.”
Throndson said many building owners/operators which are willing to work with their tenants do want some proof of their financial situation. They also want to understand what other measures the companies are taking to reduce expenses – so real estate isn’t the only area being affected.
Owners offer relief . . . for assurances
“We’ve got landlords downtown that have built out different programs, where one program is a rent deferral,” he said, laying out several possible scenarios. “You can have a one-month abatement and that will just get amortized into your rent to be paid back before the end of the year. Another landlord has said if you want two months of gross free rent we’ll give that to you, but we’re extending your lease term by one year.
“And if you want three months of gross free rent we’re going to extend your lease term by two years.
“There are other landlords that have come and said we’ll work with you, but the only way we’re going to work with you is you’re going to have to sign a renewal right now for another five years.”
Throndson said the market is seeing the full range of approaches by owners, from an unwillingness to offer much in the way of concessions, to others who are being very aggressive in efforts to keep existing tenants, to everything in between.
“Due to the extraordinary times, landlords are willing to deal with tenants on a case-by-case basis. As with tenants, some landlords in Calgary are in less of a position to be flexible due to their own significant financial obligations on their property,” said Michael Gigliuk, vice-president, associate with Devencore.
Morguard remains confident
In Morguard’s case, a March 31 release to stakeholders said its strategically diversified asset portfolio and healthy, conservative debt ratios and financial resources provide strength against economic and real estate cycles.
The release projected confidence in Morguard’s ability to mitigate the impact of COVID-19 on all its stakeholders.
“Property management is clearly at the forefront of addressing our tenant and resident concerns,” the release said.
“With direct responsibility for tenant and resident relations and with accountability to the bulk of our employees, property management is driving our COVID-19 response activities, including adjusting to an altered service model and reviewing all non-critical services and projects.
“Communications have taken place with critical service providers to ensure continuation of services as well as to ensure compliance with Morguard’s health and safety protocols. Asset management is working closely with property management.
“Despite the recent volatility, our core philosophy remains strong: Real estate is a defensive position during economic uncertainty; the strength of our diversified real estate portfolio provides greater stability during volatility.
“Historically, this diversification has helped make our financial performance more reliable over time, providing insulation from downturns. We will shift away from the risks and towards the opportunities as we move ahead.”
Morguard did not immediately respond to requests for comment from RENX.