By Andrew McIntyre

Law360 (June 19, 2020, 4:43 PM EDT) -- In this edition of Coronavirus Q&A, Allen Matkins' global real estate leader discusses the problems with a proposed California Senate bill designed to help small businesses amid the pandemic, and addresses the challenges of reopening businesses in the state.

Tony Natsis, chair of Allen Matkins Leck Gamble Mallory & Natsis LLP's global real estate group and a shareholder in the firm's Los Angeles Century City office, works on a wide range of transactional and finance matters for clients in the Golden State and across the country.

Earlier this month, he shared his views as part of a series of interviews Law360 is doing with attorneys to look at the ways the COVID-19 pandemic has created new legal questions and impacted businesses.

Natsis has been particularly focused on California S.B. 939, the most significant attempt by California lawmakers at legislation amid the pandemic. It remains unclear whether the bill will make it to the floor of the California Senate for a vote scheduled for June 26, Natsis told Law360 in a brief follow-up conversation Thursday. The Senate Appropriations Committee on Thursday failed to pass the bill.

This interview has been edited for length and clarity.

What's the situation like right now in Los Angeles in terms of efforts to start reopening?

They're trying to open some of the retail, big and small. And they're trying to open some of the salons. They're not opening the offices yet. Those will sort of be the last thing to go. Then the very last thing to go will be any kind of entertainment venue or sports venue. And then the offices right before that. I have no idea when the offices are going to open. And I don't think people are generally acting upset about whether the offices open soon or not, because they're all working virtually.

And if not for the protesting, then by [the week of June 8] the retail would have been fully open. It's given the landlord crowd a little bit of a reprieve from having to figure out very quickly what are the rules of the road on using an office building. If you're the landlord, what are you doing? If you're the tenant, what do you do? It's given them a little bit of a reprieve and so they can study other jurisdictions that are open to determine that.

And I think as this goes, you're going to see less and less being done, and [things being done] more informal[ly]. You're definitely going to have to wear a face covering from the moment you walk in the front door of the building to the moment you get up to your space, whether you're an employee or a visitor. When certain people refuse to wear their face coverings and they announce that it's because they have a disability, what would you do with that? You have no idea what to do with that. You can't deny them access based on their disability, yet you don't want to let them in because of their lack of face coverage, so that'll be a labor lawyer's dream. Or nightmare.

What types of concerns are you getting from office owners and office tenants, since that's the most challenging of the asset classes you mentioned earlier?

Well, all we've got so far — because we really haven't seen it in practice yet — is some tenants writing their landlord a 19-page email about the things you're supposed to do and, 'Please promise me no one will ever get the virus in your building,' and the landlord needing to write back and say, 'We're happy to share with you all the precautions we're taking. We're glad you have a list, but we have to do what we need to do for all the tenants. And we think that that's what we ought to be doing. If you have some adds, you want to have a discussion, you want us to do something specific for you, we can have that discussion. But we can't get 28 different letters.' If you're the only tenant in the building, then send us your really long letter because we'll probably do almost everything you want us to do. We won't cross over to your duties as an employer. And by the way, you're going to pay for it.

And also that is the bottom line, unless the landlord spends some capital money on capital improvements to the building, all this is going in the operating expense pool. Because after 9/11, we hired more security guards that went into the operating expense pool. And insurance became more expensive because people paid off on terrorism policies which liquidated their cash holdings if you're an insurance company. So you had to raise your premiums on everything.

And so the biggest challenge for the landlord is doing stuff on a uniform basis, which you and I would think was sensible, and then the tenant taking on their own responsibilities in their premises. And I think the second biggest challenge will be something going wrong. I don't want to wear my face covering. I don't want to socially distance. I want to run in the elevator even though there are four people already on it. Or someone comes down with the virus in the building. What do you do? We really didn't have a lot of that, because before we could have a lot of that, everybody moved out of the buildings.

What's your sense of how subleasing might play into this as tenants look to get rid of some of the space and aren't able to get out of their leases? What are you seeing in the subleasing market right now and what do you expect to see?

Well, I think those tenants that are going to have extra space are going to be doing two things. They're going to be using their satellite offices more, for more people to go to. So like a big tech company has multiple offices that aren't just their headquarters office. And they're going to have people work virtually. 

I'm already starting to see that with some law firms, that are starting to tell people when they're going to come back to work, and telling other people much later times as to when they're going to come back to work. When that happens, there will be some extra space, and it'll be on the sublease market. Interestingly, a lot of this space is not well set up to be subleased. If you have big chunks of space where you've put in a gym, conference centers, lounge areas, a yoga room, a huge cafeteria, you've got to kind of keep all that. You can't really get rid of any of it. And the other floors you have might be all open-bay or might be lab areas or R&D areas, so it's going to be interesting to see how they can chop it up.

It will definitely cause sublease space to go on the market. If you use supply and demand economics, that will cause some disruption with landlords that are leasing direct space. Not necessarily the super-high-end stuff. Not the stuff coming out of the ground or the A+ office space buildings, because people want to be in those, and that's where they're going to go. But if it's sublease space in a nice building versus direct space in a nice building but none of the super A+ [amenities], it'll cause some disruption. But we historically have seen that before. We saw that in the dot-com bust. And it does have the effect of pushing the rental rates down, but it gets taken up pretty quickly. So I personally think, and a lot of industry leaders think, it's not going to be as disruptive as advertised, and the people who are advertising it of course are the tenant brokers who would like to drive pricing up. So I don't think that'll be that disruptive.

I wanted to ask your thoughts on the response from California lawmakers, particularly S.B. 939, which, as I understand it, would give retail tenants some options to get out of leases. What's your thought on S.B. 939 and your thoughts generally on what California lawmakers have done?

Well, that's really the big thing they've done, was S.B. 939. In its current state, it breaks into two pieces. It proposes two civil code section amendments. One would be 1951.9 and the other would be 1951.10, so I'll refer to them as .9 and .10. Point 9 is available to all commercial tenants. Its tests in order to be qualified as a commercial tenant are some COVID tests about how much should your revenue go down and/or did you have to close or reduce your occupancy dramatically. There are these COVID tests. [Nearly] everybody qualifies for the COVID test. Latham & Watkins qualifies for the COVID test. Exxon does. Tesla. Disney. Ninety percent of the tenants in the world are going to qualify for .9 protection. The ones that aren't are health care providers, grocery stores, maybe somebody who did an enormous amount of take-out business.

So 90% of everybody's rent roll is going to qualify. Even the retailers. And so now you're going to have 90% of the tenants qualifying for .9 protection. Point 9 protection is two-fold. One is you can't evict anybody until three months after the state of emergency is over. Well, that sounds like, OK, when is the state of emergency over? September? No, the state of emergency isn't going to be over for a long time. When we had the California droughts, the state of emergency was still in effect up to one or two years after the droughts were over. Finally people had to bring a lawsuit to have the state of emergency repealed. And the reason you keep the state of emergency in full force is you get federal aid, it gives you some political cover, and you also get to make all sorts of rules and give directives if you're at the governor's level. And if you're at the mayoral level. So there's no reason to take it down.

So my thought is, the state of emergency's going all the way through 2021. So that means if you and I owned an office building, 90% of our tenants if they wanted to could fail to pay us rent until 90 days after that, so April 1st, 2022. So we'd be sitting around for [nearly] two years with no rent from those people, unless they've already paid some, because they're not in fear of getting evicted. And then when it comes time for us to evict them, the rent that they owed during the COVID period, what I'll call it — so that would be until the end of the state of emergency, so that's not 24 months. It's 21, 22 months. They get 12 more months to pay that back. So the state of emergency ends on Dec. 31, 2021, they've got until Dec. 31, 2022, to pay back 22 months or so of COVID rent. So if I've got to wait 33 months to get rent from people that they owed me during the COVID period, and it's almost two years worth of rent, and I've got to wait a total of 33 months to get it all back, I'm pretty much out of business.

So on that part, .9, it's got too broad of a protected class. It needs to be reduced to small businesses, and they need to adequately define small businesses by revenue generation. Are they all in California? Are their officers here? Right now, they have no test. And then they need to have an end date for the eviction moratorium. I don't know, the end of this year? That sounds like a long time from now. Until April 1 of next year, you've got [nearly] a year to pay rent. Maybe that's too long. And then they need to put an end date on how long you get to pay the COVID rent back for. It can't be a year after the state of emergency ends, because that would take you all the way to the end of 2022.

The other part of the bill is 1951.10. That basically gives small businesses that are restaurants, bars and performance venues and entertainment venues — so the Oakland A's playing at the Oakland Coliseum — it gives those people the ability to wait until between now and Dec. 31, 2021, and after the state of emergency is over, either the later of Dec. 31, 2021, or I think it's after the state of emergency is over, which could be that date also, to go to their landlord and say, 'Hey, I want to renegotiate my lease.' And if they spend 30 days and they don't get it done to the tenant's satisfaction, the tenant can then terminate their lease, walk, and out of all the COVID rent they owed for that period of time, which could be almost two years, pay only three months of it. And oh, by the way, when they terminate the lease, if they have any guarantees up, those are extinguished. And you've got a year to pay back your three months of COVID rent. So now the state of emergency's over Dec. 31, 2021, you engage your landlord in a discussion, it doesn't go well, you terminate at the beginning of '22, and you've got until the end of '22 to pay three months of rent back.

So, you're going to get a lot of people qualifying for .10. They're going to terminate their lease, escape from paying any rent at all because they'll dissolve their entity. That won't be difficult to do. You've got a long time to plan that exit strategy. No recourse liability. And it could be a big part of your rent roll if you're a landlord.

--Editing by Kelly Duncan.

Check out Law360's previous installments of Coronavirus Q&A.

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