It's time for shop landlords to get real about rents in troubled times

Black Friday may have come and gone, but it has focussed minds on the retail sector once again. Anyone with even a casual interest in the UK high street cannot have missed the turmoil felt by many retailers over the past 12 months – among them, the landlords of high street properties across the country.

It was not so long ago that when a tenant came to a break in, or the end of, their lease the landlord could expect to increase the rent and offer few, if any, incentives – usually rent-free periods – to new or potential occupiers. However, those circumstances have changed tremendously for landlords and retailers alike.

In the current market, it’s likely rents will fall – or, at best, remain static – and significant incentives could be offered to entice retail occupiers to commit to a long-term lease. The alternative is to find a new tenant – a tricky prospect for many in the current climate making it, perhaps, more important than ever to retain existing occupiers.

There are, of course, distinctions to be made. Firstly, not all areas of the market have been affected equally. Prime sites, such as Buchanan Street in Glasgow and George Street in Edinburgh, have largely been resilient and, even within these areas, the best pitches are still performing well and seeing rents rise.

Another important difference to consider is the nuances of the legal regimes within the UK. For one, under the Landlord and Tenant Act 1954 tenants in England have the legal right to remain in a property beyond their lease expiry date, subject to agreeing a new rent.

By contrast, Scottish tenants are not afforded the same rights. They have no security of tenure beyond a lease; although, the Tenancy of Shops (Scotland) Act 1949 has in the past provided some protection to retailers in negotiations with landlords. Previously, this saw rents rise as occupiers competed for the best space.

Another complication to throw into the mix is the financial strength of tenants. By Black Friday, as the origins of the name suggest, retailers should have a good gauge on their financial position. This is an important part of any negotiations between a business and a landlord, known in property circles as the ‘strength of covenant’.

Andrew Hill of Knight Frank Edinburgh

If a retailer appears to be in a shaky financial position, a landlord may be less inclined to offer rent-free periods. The reverse also holds true: if an occupier can demonstrate a robust balance sheet, it will be more attractive as a tenant and it could even help the retailer to negotiate lower rents or other incentives, should the landlord seem them as a secure long-term prospect.

The complex situation for retailers and property owners has led to considerable changes in the structure of leases. Perhaps most notably, while it was once typical to secure a tenant on a 15-year lease, it is now much more likely for that to be closer to five years and, in some cases, with greater flexibility.

Likewise, while a conventional lease might include upward only five-yearly open market rent reviews, or index-linked annual RPI increases in line with the retail or consumer price indices, alternatives are being explored. One increasingly popular example is the use of turnover-based rises, linking rent to an occupier’s turnover with uplifts triggered when pre-agreed targets are achieved.

While to date this has largely been done in shopping centres in Scotland, it is a more accurate reflection of what is happening in the retail world and could begin to become more prevalent on the high street.

There is undoubtedly an acceptance that the retail world has shifted significantly in the past year or so – vacancy rates and a wave of Company Voluntary Arrangements (CVAs) and restructurings are unfortunate testaments to that fact. Nevertheless, both the businesses themselves and landlords need to be mindful of changing circumstances and reflect what is happening their leases – for the good of the whole retail sector.

Andrew Hill is a lease advisory partner at Knight Frank Edinburgh


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