Leasing
Coping with Marketplace Shifts
By Bill Scarpino |
With the economy no longer on a
long-term growth trajectory, retail real estate users and providers must
reassess how they do business. Several significant changes already have
occurred. For example, lenders
are now more actively involved in transaction approval. They are less willing
to fund tenant build-out allowances. As a partial result, tenants are finding
expansion cash either hard to get or expensive, and landlords are finding
tenants less willing to accept “build-it-and-they-will-come” projects.
Landlords
and tenants share one common threat: lenders who want to control the
negotiation process to protect their interests. Typically lenders are risk
adverse. This is an anathema to landlords and tenants for whom risk is
calculated into their business models. This dichotomy presents an inherent
disconnect in how the three entities approach a business opportunity.
Exploring
Options
Both landlords and tenants should
fight lending practices that hinder their ability to conduct business. Increased
government oversight has forced lenders to actively avoid risk. Lenders will
want more control over borrower’s activities, but these restrictions can force
poor decision making on the part of both landlords and tenants. The end result
can be mediocre performance or outright failure.
To
effectively fight unduly restrictive lease clauses, tenants always can walk away from the table. If a lender is forcing
the issue, ask the landlord if the tenant representative can meet with the
lender personally to present the tenant's case. If the tenant is financially
able, there might even be the possibility for the tenant to provide the
landlord financing to circumvent the lender.
When the lease is signed and has commenced,
landlords have little incentive to provide additional help to a tenant. This
has always been the case. Today this is aggravated by the fact that landlords
have little left in reserve. Since 2008, tenants have repeatedly leaned on
their landlords for help just to keep the doors open. And landlords have
helped.
Now
many landlords are literally tapped out. Moreover, they are close to violating
their loan covenants. Facing such strong headwinds, can tenants expect to
solicit support from their landlords when such help is needed? The simple
answer remains ”yes.” Landlords and tenants have a vested interest to work
together. But the process is more difficult now. The success rate will be lower
and the tenant consideration for relief will be more costly. And tenants must
be creative with incentives to enable landlords to work with them and justify
their actions to their lenders.
Tenant
Approach
When tenants run into difficulty,
they need to adjust their way of operating to make ends meet before approaching
anyone for assistance. And landlords must do the same thing. After the last two
years of adverse economic turmoil, real estate practices have changed. The tactics
and techniques of real estate practitioners on both sides of the table must
evolve to meet today’s new challenges.
Before
tenants approach landlords they should:
- Get their house in order. Tighten
their operations and be able to demonstrate that they have taken such steps to
the landlord.
- Study the landlord's situation and develop
scenarios illustrating how they will be impacted by a closure. Then use this
information to forge compelling proposals for assistance.
- Think outside the box. One creative
option is to consider buying the property back at a discount, thereby
monetizing the asset for a struggling landlord. The property can then be resold
on better lease terms or placed in inventory.
- Before making an offer to extend a
lease or exercise an option, always review the lease terms that impact the long-term
value of a leased parcel with an eye to negotiating more flexible terms. Upgrade
those lease terms that facilitate redeployment if the site becomes operationally
marginal.
Landlord
Actions
Similarly, when tenants approach
landlords the landlords should:
- Determine if the tenant has made
significant changes in operations to warrant outside help. Review profit and
loss statements. Tenants should be willing to provide them on a confidential
basis. One objective in this review is to see if tenants are viable.
- Before responding to a proposal,
study the tenant's corporate situation to see if there are other locations in
trouble in your portfolio or if they may want to occupy vacant space you may
have in other locations.
- Think outside the box. Are there
concessions this tenant can make that will help you with other vacancies or
tenants, either in this center or any location?
Tenants
seeking rent concessions will likely meet with strong resistance. But there is
no reason not to approach landlords for concessions to assist in remodels or
refurbishments, compensate for lease extensions or the exercise of options, or any
other lease change that adds value to the leasehold estate or the center as a
whole. More than ever before, this is the time that landlords and tenants
should find ways to work together to strengthen their relationship.
Bill Scarpino is a principal with
Huntley, Mullaney, Spargo & Sullivan, a lease and debt restructuring firm. Contact
him at wscarpino@hmsinc.net. For more on how corporate real estate users must
adjust to new market realities, read Scarpino’s Investment Analysis column,
“The Big Picture,” in the March/April 2011 issue of Commercial Investment Real Estate.