Juggling Dynamite

Levered speculation in Canadian real estate fuelled the economic and asset price boom from 2008 to 2018, just as the tech sector drove the 1995 to 2000 expansion, and commodities, subprime debt and US home prices the 2003-07 expansion.  These prior bubbles (and centuries more of them) ended in asset drops of 50 to 80% along with a surge in bankruptcies and capital shortfalls.  This time is unlikely to be different.

Yesterday’s edition of CBC’s podcast Front Burner examines the prospects in ‘Too big to fail’: COVID-19 and Canadian real estate.

Here is a direct audio link.

With some 95% of those in office towers working from home over the past 6 weeks, the pandemic has given an opportunity to test decentralized work arrangements in real-time.  Many companies, especially in the service sector, have been pleasantly surprised and are now envisioning cost-saving work-from-home arrangements for well beyond COVID-19.  See:  BMO says 80% of employees may switch to blended home-office work.

I have long argued that a debt-heavy, aged, climate-challenged, slower-growth world must be focused on improving efficiency, wasting less–time, money, resources, pollution–to have more–savings, quality of life, sustainability and productivity.

If workers are spending less time travelling to and from work and meetings, they too tend to spend less–transportation, parking, restaurants, clothing, even child care–and have more time for essentials like exercise, preparing food and maintaining family and home.  Spending less allows us to pay down debt and build up savings faster, and most people are very much in need of both.

This won’t be a win for everyone of course.  The past decade of credit abuse helped to fuel a massive overbuild in commercial space and proximate housing.  Less demand in concentrated centers should lead to lower rents and property prices, but even that may not be enough to sop up all the superfluous supply in some places.

In a highly levered world, this is set up to be a tough transition for present owners, investors and lenders.  Rethinking and repurposing space will be part of the solutions needed.

In March, when COVID-19 shutdowns were just starting, 46% of Canadians polled said they were on the brink of insolvency and less than $200 away from not being able to pay all their bills each month (MNP by Ipsos).  Since then, one-third of Canadian workers have applied for government income support and many are unable to make their debt and rent payments.

Lenders, landlords and tax collectors have responded with forbearance:  a temporary postponement of payment and collection efforts.  You can’t collect where there’s no money to be found, and seizing property and equipment when there’s a dearth of buyers is unlikely to yield the quick cash sought.  As a result, payment pressures have subsided and bankruptcy filings have fallen sharply in April.   However, payment deferrals quite literally add up and much of the revenue and income that has been lost will not be recouped later.

Doug Hoyes, a licensed insolvency trustee and co-founder of Toronto-based Hoyes, Michalos & Associates points out that the present bankruptcy calm is likely to end as soon as collection efforts resume.  See personal and business bankruptcy surge expected this fall:

“We need one domino to fall. And that may be at the end of August, when the CRA is, in fact, starting to seek payments for income tax or arrears of tax…By the time we get to the fall, the collection agencies are back at work. The banks want their money. The emergency benefits have stopped. So if in September and October, we saw a 20, 30, 40, 50 per cent spike in bankruptcies, that wouldn’t surprise me.”

A similar great deferral period is playing out in small businesses at the moment, even as a third of Canadian owners recently surveyed say they are unlikely to reopen after the shutdown.  Lou Brzezinski, a partner in the Toronto-based legal firm Blaney McMurtry that specializes in business reorganization, insolvency, liquidation and bankruptcy sees lenders ending up with pennies on the dollar and grim prospects for many sectors:

“How many small retail stores, how many restaurants, how much of the hospitality industry has been struck down for good that we will never see again?  I’d say it’s just short of catastrophic…I see the majority of the small businesses not surviving the bankruptcy. I see them ending.”