NEW YORK, United States — Valentino sells $5,000 dresses and $900 pumps out of its Fifth Avenue flagship. But with Covid-19 keeping shoppers away, and nine years left on its lease, the Italian luxury brand is crying poverty.

"Even in a post-pandemic New York City (should such a day arrive), the social and economic landscapes have been radically altered," Valentino said in a lawsuit filed Monday against landlord Savitt Partners seeking to exit a lease that runs through 2029. The ability to drive sales at the store has been "drastically, if not irreparably, hindered," the complaint continued.

Valentino isn't alone in turning to the courts. About 18 blocks south, Victoria's Secret is paying nearly $1 million a month to rent a flagship store in Herald Square and has had enough. The lingerie brand, under parent company L Brands, filed suit against landlord SL Green Realty earlier this month, similarly citing a retail landscape that is "forever shattered." Landlords have made preemptive strikes of their own. On June 4, Simon Property Group sued Gap Inc. for unpaid rent and other charges totalling $66 million.

The outcome of these lawsuits will impact everyone.

A legal showdown was inevitable as soon as courts reopened, experts say. Many landlords postponed rent collection in April and May during the height of the pandemic in New York, when retailers had virtually no sales coming in. But with mortgage payments looming, and many cities easing their lockdowns, landlords have been less forgiving this month. At the same time, local spikes in coronavirus cases and a deep recession mean shoppers are unlikely to come rushing back. Many shops won't see enough revenue to cover their pre-pandemic leases for years, if ever.

Historically, landlords have tended to have the upper hand in legal battles over rent. However, retailers may be able to argue that the pandemic’s impact may be so massive, and so unexpected, that the old rules don’t apply. Cases like Valentino’s and Victoria’s Secret could set a precedent for thousands of other brands.

“The outcome of these lawsuits will impact everyone, and the first meaningful decision will send a signal to which way the law is going,” said Terrence Dunn, a founding partner at Einbinder & Dunn LLP specialising in fashion and commercial real estate. He said he is talking to about a dozen clients in the same situation as Valentino and Victoria’s Secret.

A Changed Market

Valentino could certainly make a case that the Fifth Avenue of today bears little resemblance to the street where it leased a 20,000-square foot, multi-level space for a reported $16 million a year in 2013. Back then, the brand could count on a steady flow of wealthy tourists and New Yorkers in its prime spot along one of the world's busiest shopping corridors.

Today, Midtown Manhattan is a ghost town. Many offices remain empty, and tourism has been decimated by travel bans, which bar visitors from China, the European Union and Brazil, among other countries.

In its complaint, Valentino says the value of its space has fallen from when it signed its lease. The average New York retail rent dropped 9 percent in the first quarter of 2020, according to brokerage CBRE.

That may not be enough to sway a judge.

One might think that a pandemic is wholly unpredictable, but I'm not so sure.

“One might think that a pandemic is wholly unpredictable, but I'm not so sure,” said Jeff Trexler, associate director at Fordham Law School's Fashion Law Institute. “If there's anything we've seen in the past two decades, it's that catastrophes can happen, especially in New York.”

Retailers have some leverage, however. Landlords may be willing to accept lower rents if the alternative is no income at all. The prospect of foreclosure may bring some property owners to the negotiating table.

“Both sides have the ego to puff up and get lawyers involved but deep down, everybody knows the best resolution is one that doesn’t crush any of them,” said Danielle Garno, head of the fashion, beauty and luxury goods practise at the law firm Cozen O’Connor. “Landlords don’t want tenants to default or declare bankruptcy and then have an empty space on Fifth Avenue. The lender doesn’t want the commercial landlord to go under.”

A Creative Solution

One form of compromise involves converting a lease from a fixed monthly rate to a revenue-sharing model. Many mall anchor tenants already use this model, including Neiman Marcus in Hudson Yards.

Some landlords are buying stakes in struggling tenants to keep the doors open. In May, Brookfield Properties announced a $5 billion fund to acquire partial ownership of ailing retailers. Brookfield is reportedly considering a joint bid with rival Simon Property Group for J.C. Penney, an anchor tenant at many of both companies' malls. The two have previously teamed up to buy Aeropostale and Forever 21 out of bankruptcy.

Though an extreme measure, owning an interest in these chains may stave off a cascade of store closings. If retail vacancies grow in a certain neighbourhood or mall, it reduces the likelihood shoppers will visit, hurting the remaining retailers.

“If more of these REITs (real estate investment trust) could say, ‘Hey, if you’re a retailer doing under $100 million in sales, we’ll give you free space, a payment platform and help you with e-commerce’ in exchange for some equity, it could really change the landscape of retail, big and small,” Deborah Weinswig, founder and chief executive of Coresight Research, said in an interview with BoF in May.

Such arrangements could pay off even if shopping bounces back quickly.

“It’s not as if Fifth Avenue is dead,” Dunn said. “Historically what we’re dealing with is still quite short-term.”

But retail real estate was already in trouble before Covid-19. There were too many stores already, a glut that will only worsen if the online shopping habits consumers formed during quarantine stick.

“The whole ecosystem is collapsing,” said Garno. “And landlords and tenants are in it together.”

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