The Covid-19 pandemic has put many businesses, large and small, under immense operating, legal and financial pressure. The fixed cost structures of various businesses have been a large source of the financial and operational challenges, and these will not go away in the wake of the coronavirus.
The lockdown in response to the pandemic has ensured that many sectors will cease to operate in the way they did pre Covid-19. Sectors such as real estate, hospitality, tourism, construction, transport and retail have been particularly severely affected.
The transport and retail business models face a real prospect of structural remodelling. The real estate industry is taking a huge hit, with many businesses unable to pay rentals due to the shock their businesses are experiencing on the back of the Covid-19 pandemic. Property sales have also dried up.
On March 24, trade, industry & competition minister Ebrahim Patel gazetted the Covid-19 block exemption for the retail property sector, which will allow landlords exemptions from competition restrictions regarding sharing information to minimise the impact of the pandemic on tenants’ ability to pay rentals. This is likely to result in an augmentation of fixed-costed lease agreements and result in some combination of variable, fixed and means-adjusted lease agreements.
Our expectation is that in commercial property the result will be more “pay as you use” pricing models as shared office spaces become more prominent, in addition to more businesses expected to continue remote working as a way of doing business. Microsoft reported that the jump in the use of Microsoft Teams conferencing software jumped from 32-million to 44-million daily active users in the week to the end of March, while meeting minutes per day increased from 900-million to 2.7-billion over the same period.
Augmentations in lease agreements are also likely to affect how new property developments will be priced, given that expected cash flows are modelled into the pricing of such developments. This is likely to increase the cost of capital for property developers, given that larger portions of their cash flow projections will be variable-costed. Contracting in this environment may move towards value-sharing schemes, which by definition potentially make the agreements incomplete contracts (in terms of the technical definition).
Incomplete contract theory will bring complexity to the design of development agreements and subsequent lease agreements as issues of contractibility of value and contractibility of rights in a variable-costed real estate industry become less clear.
We have already seen the extent to which Airbnb has disrupted the accommodation subsector in hospitality. Airbnb brought a more variable-costing model to accommodation bookings, also offering travellers options for the kind of accommodation they seek. The Tourism Amendment Bill, which was published in the Government Gazette on April 12 2019, proposed the introduction of thresholds in short-term home rentals to “level the playing field”, to make the sector more competitive and limit the proliferation of unregistered accommodation establishments.
Uber Eats initially brought a similar challenge for fine dining restaurants, and over time we have seen them pivot and join the delivery service for selected portions of their menus as more consumers transition towards at-home dining.
There are still many unknowns about what a new normal will look like in a post Covid-19 economy, but early signs are already pointing to a shift already having taken place. The reality is that nothing will ever be quite the same when it comes to how the economy and its participants operate.
• Skenjana is chief economist and thought leadership executive at IQ Business.
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