Governments forced many non-essential businesses to close to help slow the spread of the COVID-19 outbreak, including fitness centers. That caused significant financial strain for many gyms. Because of that, several are turning toward bankruptcy to help ease their financial burdens. Gold's Gym has already filed, while 24 Hour Fitness is preparing to do so.
One of the financial weights that fitness centers are hoping to lift in bankruptcy is their lease obligations. That's already starting to have a significant impact on commercial real estate companies that lease space to these fitness center operators.
A devastating blow
Real estate crowdfunding startup BRIX REIT is one of the many commercial real estate owners feeling the effect of fitness center bankruptcies. This real estate investment trust (REIT) formed in 2018 with the mission of acquiring and operating properties leased to companies widely used by younger consumers, including student housing, fitness centers, and quick-service restaurants. The company has only made a handful of real estate purchases in its brief history, including paying $12.8 million for a gym leased to 24 Hour Fitness in Texas.
That acquisition has proved disastrous because 24 Hour Fitness stopped paying rent on that location -- as well as more than 400 others -- due to the shutdown of non-essential businesses. With 24 Hour Fitness likely filing for bankruptcy, BRIX REIT's appraiser now values this property at $6.1 million, which is less than the mortgage owed. The company is actively working with the restructuring agent of 24 Hour Fitness in hopes of salvaging this facility from any future bankruptcy proceeding. If it's not able to, BRIX REIT might also find itself needing to restructure since that one property represented a significant portion of its rent and net asset value.
A potentially meaningful hit
Meanwhile, several large publicly-traded REITs have meaningful exposure to troubled fitness center operators like 24 Hour Fitness. For example, leading retail REIT Kimco Realty (NYSE: KIM) has leased 11 properties to 24 Hour Fitness. Overall, those locations currently account for 0.7% of its annual base rent (ABR), making it Kimco's 30th largest tenant.
Fellow retail REIT Weingarten Realty Investors (NYSE: WRI) currently has six properties leased to 24 Hour Fitness. These locations provide 1.06% of the company's ABR, making them an even more meaningful contributor to the company's rent roll as its ninth-largest tenant. Urban Edge Properties (NYSE: UE) only has one location leased to 24 Hour Fitness; however, that single property contributes 1% of its ABR, which makes the struggling fitness center its 20th-largest tenant.
Several other REITs have meaningful exposure to 24 Hour Fitness as well as other troubled gym operators. For example, Kimco also counts Fitness International as one of its larger tenants, at approximately 0.8% of its ABR. That company's credit rating is as low as that of 24 Hour Fitness, suggesting it's at a high risk of defaulting on its financial obligations.
The concern for these REITs is that their struggling fitness center tenants could receive rent relief in bankruptcy in the form of canceled leases on locations they close and reduced rental rates on those they keep open. That would weigh on occupancy, rental income, and property valuations.
The trickle-down effect
The COVID-19 outbreak has had a devastating impact on the fitness and health club industry, which could see its revenue shrink from $85 billion to $45 billion. That's cutting deeply into the financial resources of these companies to meet their obligations, including paying rent. This issue is starting to affect commercial real estate owners that lease space to these companies, as they're not receiving rent and might see their leases altered in bankruptcy. The result is an impact to their income and ability to pay dividends.
Disclosure: Matthew DiLallo owns shares of BRIX REIT.