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BRIAN ESTES — What impact will COVID-19 have on commercial real estate.

BRIAN ESTES

As I’m writing this column, my family and I have quarantined ourselves in our home with limited trips to the store, office and to see extended family. Unfortunately, both of my parents are recovering from cancer so I have not been able to visit either one of them for fear that I might possibly bring the virus unknowingly to them.  I have watched all of the national news I ever care to watch and like most, are ready for this to be over.  Unfortunately, after the virus has left us, there will be a lot financial mess to clean up, especially in the commercial & investment real estate market.  However, I also want everyone to know there are a myriad of resources out there to help until the effects of this virus and economic shutdown are a distant memory.

I have spoken with many clients over the past several weeks about the unfolding events and even though times are tough, now is not the time to panic and sell.  Most investors should be saving cash to ride out the storm and wait until the market has stabilized or normalized, whatever that might look like.  There are a lot of active investors, many of whom are clients.  However, investors buying right now are expecting discounted deals and quite honestly, they probably should. 

During my many discussions over the past few weeks, I have been asked probably several dozen times, what is the impact of the Corona Virus going to have on the commercial & investment real estate market?  I believe my answer has probably changed every few days based on the larger impact and longevity of the “shelter in place” requirement for both Mississippi and the rest of the country.  I would also add that the answers should be given in both a short-term and long-term perspective.  Below, I will discuss three points of interest that most investors and property owners are going to have to face in the short-term, well after the virus has minimized its exposure and we are all “back to business”. 

First, is Economic Stimulus:  How much of the $2.2 Trillion will actually land in the hands of the business owners who need it and will it come in time to whether the storm?  Politics aside, I don’t think the federal government had any choice but create a stimulus package to help small business owners; however, at the time this package was created, nobody realized the longevity of the virus and the fact that predictions suggest this will lasts into early summer or longer.  Will the stimulus be enough?  What impact does the stimulus itself have on the real estate market?  These are questions that will have both a short-term impact and long-term effects on the economy.  Unfortunately, only time will tell.

Second, is Economic Occupancy.  Most experienced real estate investors know the difference between physical occupancy and economic occupancy.  Basically, the difference in these terms is what is collected versus uncollected based on the contract rent or leases in place.  Quite frankly, there will be tenants who just will be unable to pay rent.  This is somewhat tied to the first point of Economic Stimulus.  However, not everyone is planning to file for the stimulus relief and there are many national tenants who do not qualify.  Further, many of these national tenants have sent letters stating they are not planning to pay rent for 90 to 120 days.  Additionally, if you are a residential or multifamily investor, there will be no evictions for at least 60-90 days or more, depending on when the courts open and start hearing cases.  I would imagine an eviction case will not be high on the radar of most judges when the courts do open.  Property Owners, both residential & commercial, are going to have to work with tenants to keep them in place until things are more stabilized.  Additionally, it is too early to tell how many tenants will not re-open when this “shelter in place” is over.

Third, is Debt Service.  I remember reading my first real estate investment book and the writer boldly stated that debt and real estate is the greatest way to wealth; BUT, it is also the fastest way to ruin.  There is no question that investors who are highly leveraged and over-leveraged are going to feel some pain through this process.  Most local banks have realized the severity of the issue and have offered some relief with various options.  However, having a lot of debt and high mortgage payments is going to prove problematic to most investors.  In some cases, property owners will be lucky to collect the majority of their rental payments which will put a lot of investors into negative cash flow.  Unless you have a plethora of cash reserves, more than likely, you will need forbearance from your lender.  Depending on your loan covenants, this could put your property on the “watch” category, especially if you have a CMBS loan.  For properties with non-recourse loans, at some point the investors will choose not to use personal cash reserves to fund the property.  This could possibly cause some investors to walk away from their properties.  Of course, all of this depends on the longevity of the virus and impact it makes on the property’s tenants.

Overall, the economy was truly thriving prior to COVID-19 impacting our lives.  In my previous article, “State of the Real Estate Market”, I mentioned that the real estate market was due for a recession and there were some national indicators that suggested we were close.  I don’t think anyone would have predicted a Pandemic, but regardless of the circumstances, it does appear that the economy and certainly the commercial & investment real estate markets will be going through some interesting times over the next 12-18 months.  I know there is a lot of buzz from national economist as to whether this will be a V-shaped recovery or a U-shaped recovery, one thing is for sure….there will be long-term consequences coming out of this event that will re-shape how we occupy and use real estate in the future. On the bright side, there will also be great opportunities in the chaos and if you are thinking of entering the investment real estate market, now is a great time to start thinking about your investment strategy. 

Stay tuned for my next column when we will discuss these long-term consequences of the virus and the macro economic impacts it will have. If you are interested in getting more detail and/or information on industry resources to help get through these difficult times, please reach out to me and I will send to you. 

» Brian E. Estes is president and investment advisor with the Estes Group and can be reached at brian@estesgroup.net.

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