UK: United Estates? Property Professionals Discuss The State Of Retail Property And Make Recommendations For A Brighter Future

Last Updated: 27 September 2011
Article by Jacqui Joyce

INTRODUCTION

UK retailers are up against it. Amid the toughest trading environment for decades many retailers are fighting for survival. As each week goes by it seems as if a new household-name retailer collapses -- the victim of a slump in consumer spending and growing competition from online rivals and supermarkets.

In the past few months Jane Norman, TJ Hughes and Habitat have gone into administration, while other chains are closing stores, putting thousands of jobs at risk. Experts warn that more retail insolvencies are to come as retailers face 'High Noon on the High Street' as one newspaper put it.

Mary Portas -- the high-profile retail consultant appointed by the government to try to lead a review into the future of the high street -- faces one of her toughest challenges yet.

Property directors at retailers and their landlords will play an important role in revitalising the high street. Property costs can account for anywhere between 10% and 40% of a retailer's fixed costs, according to the British Retail Consortium, making its cost second only to a company's wages bill.

This White Paper analyses the big issues in the UK retail property market including rent costs, the impact of online retailing stores and the challenge of finding the right store.

We have talked to property directors, consultants and landlords at leading companies ranging from Evans Cycles to Subway about the state of the retail property market. What are they worried about? How can retailers manage their property assets more effectively? And what should government and councils do to help?

MAIN PART OF WHITE PAPER

The restaurant sector

Trevor Haynes, area development manager, UK and Ireland, for Subway, the sandwich chain, is concerned about rent costs. To help retailers manage their property budgets they should be allowed to pay rent monthly rather than quarterly, the standard arrangement now, he says.

"Monthly payments may enable a business to budget more accurately and ease cash flow for franchisees."

But it will take more than flexible rent payments to boost UK high streets, many of whom have lost business to out-of-town shopping centres. The government needs to find ways to generate traffic on our high streets. Reduction in parking fees may assist.

Haynes welcomes the government's recent appointment of Mary Portas to review the future of the UK high street. "It shows that first steps are being taken to re-energise our town centres and to encourage shoppers to support local traders."

The closure of banks and post offices, and the lack of free and accessible parking, have all played a role in the loss of some high street communities. The government is right to be acknowledging there is a problem and actively doing something about it."

Other property directors in the industry talk of the challenge of finding good sites for restaurants before rivals.

Take Kieran Pitcher, group property director of Gondola, the owner of restaurant chains including Pizza Express, Ask and Zizzi. He's responsible for managing a large property portfolio -- 650 restaurants in the UK -- and finding new sites. Gondola hopes to open 40 stores in the UK this year and 50 next year.

"The restaurant sector is hugely competitive at the moment," says Pitcher. "Every one of our competitors has a very aggressive [property] acquisition strategy. London and the South East are so competitive compared to the rest of the country, which is driving up rents by between about 10% and 20% a year, although rents across the rest of the country are fairly flat."

Another challenge is getting planning permission for new restaurants from councils. "New restaurants can bring vibrancy and employment to the high street but some planning authorities are quite anti new restaurants," Pitcher says.

He acknowledges that planning authorities have to balance different considerations when reviewing planning applications (for example, the amount of noise a pub could create for neighbours in a residential area), but calls on the government to make planning laws more supportive for restaurants.

Online retail transformation

Technological developments, including the rise of e-commerce, are also changing the UK high street -- and retailers' property portfolios.

The growth of e-commerce over the past 10 years has transformed the way many of us shop.

Despite the economic downturn European online retail sales grew by 18% from 2009 to 2010 and are expected to grow by 13% in 2011, Forrester Research forecast earlier this year. In the UK, 10% of all retail transactions next year will be online, Forrester has also predicted.

The UK is one of the most advanced e-commerce markets in Europe, as consumers use the Internet as an adjunct to other ways to shop -- such as mail order and shopping the old traditional way by visiting a store on the high street.

The change in consumer behaviour is an opportunity and challenge to property directors at brick-and-mortar retailers.

Steve Pearce, client services director at Green Room, a retail design and delivery practice, whose clients includes Nike, Levis, and New Look, says: "The Internet is becoming part of the shopping process. Often, shopping is not just a simple journey of researching a product online and then going to a shop to buy it. Sometimes people will go to a shop but end up buying the item cheaper online from a different retailer."

To attract web-savvy shoppers, property directors in the retail industry can refurbish stores and introduce new services. Examples of retailers using innovative store designs include grooming salons at Ted Baker, the fashion retailer and Pave -- a Barcelona bike shop in Barcelona, which displays bikes in back-lit boxes, a coffee corner with a TV to watch races, as well as a library, and showers which can be used after training.

"You need a reason to go into a store rather than buying something online," says Pearce. "Persuading customers to buy in a store is not necessarily about providing rows and rows of products. It's also about how staff treat and serve you."

Pop-up shops

One way to get customers through the door is through "pop up" shops -- temporary shops, whose leases can last for weeks or up to a year. Pop up shops have become increasingly popular with small and large retailers. Pop up shops, often in vacant premises on high streets, can be a good way to test a new product or service, says Pearce. Brands without a high street presence, such as online retailers, can also find pop-up stores useful.

"Pop up shops have been around for about the last six years and are now getting quite ubiquitous," says Pearce. "They are cheaper and a relatively low risk way of launching a product. People feel like they are getting something quite rare and exclusive when they visit the store."

Leisure

Leisure retail has always played a key role on the high street and two directors in this distinct retail sub-sector offer their views on what real progress could look like.


Neil Mackenzie, is a director of real estate for an international retailer, with over 30 years experience in retail property management. He oversees a portfolio of approximately 100 stores throughout Europe including UK, Spain, France and Italy.

Speaking in a personal capacity about the UK retail sector, Mackenzie says that the main problem is not a shortage of retail space in the UK "We don't need to keep adding to retail space," he says. "The problem is that many available units are too small, have restricted headroom or are held on historic high rentals, which is why they're being left empty.

Big shopping centres such as Bluewater in Kent or the Trafford Centre in Manchester are going from "strength to strength", while many high streets are in decline with a large number of vacant shops, he adds.

If property units are not attractive to retailers, the government should encourage property developers to convert or demolish and rebuild the units so they can be used for another purpose, Mackenzie says. "If a unit has no sensible retail future and cannot be regarded as a retail or commercial development, then it needs to be converted into something else such as a local community facility, or even back into residential homes, as many town centres started off."

Landlords could do more to support retailers by agreeing more rents based on turnover, as is common in Continental Europe, Mackenzie adds. Turnover-based rents mean that retailers and landlords share the risks and rewards of retail, he says. "Some European retailers are suffering worse than UK retailers due to higher unemployment, but you generally don't see the same number of empty units in continental shopping centres as you do in the UK," Mackenzie says. "This is partly because the rents and taxes tend to be lower than in the UK, and based on turnover. Struggling to engineer ways to maintain historic rental levels and keeping upward only rent reviews does not help to bring retail back into use."

Mackenzie welcomes industry codes of practice for leases and service charges which have been agreed by retailers and landlords. But he notes that the codes are voluntary, which can mean that they are of limited benefit as many landlords merely pay lip service to them. "Retailers have no way of legally enforcing the codes," he says.

Andy Hall is finance director at Evans Cycles, a bike shop with about 44 UK stores. Property accounts for about 10 to 12% of the group's costs.

Evans' turnover is about £100m. About a quarter of its sales are online -- mainly from clothes and accessories, such as locks and pumps.

Evans has about 25 stores in London but finding new locations in such a crowded market is a challenge.

"We don't need prime sites such as major shopping centres like Bluewater, Hall says. "In London many of our stores are in unusual locations. People come to where we are and get some help finding us from our web site."

"Because we have so many stores in London there is a risk that we cannibalise sales from our existing stores. Cities outside London such as Reading or Leeds offer more opportunities for expansion."

Growth in online sales may mean that Evans needs fewer stores in the five or 10 years.

"Historically we may have thought we needed 100 to 150 stores but in five or 10 years we may only need 75 stores to get national coverage," Hall says. "We can use our web site to supplement stores. It's very much a multi-channel business model."

Financial change also looms over retailers such as Evans as regulators finalise a new global accounting standard for leases. The new accounting rule will put an estimated $1 trillion (£620 million) of leased assets, including shops, on corporate balance sheets.

Retailers, who will be heavily affected by the accounting change, have raised concerns that the new rules are too complicated and will increase their compliance costs.

Hall says that complying with the new accounting rule may be time consuming but does not think that its business costs will be too onerous.

Landlords and property advisers

For their part, landlords say that they are doing everything possible to help retail tenants. Many landlords are struggling too, of course. Increases in retail insolvencies and empty shop units have meant less money for landlords.

Some of the property from failed retailers can be sold or re-let but the recent spate of administrations is still expected to cost UK landlords up to £393 million of rent payments during their leases, according research published in July by PwC, the professional services firm, and Investment Property Databank (IPD) a property information company.

Multiple retailers closed an average of 20 shops per day in the UK between January and the end of May this year as lower consumer spending takes its toll on the high street, the research also found.

Retail insolvencies increased by 9% per cent to 375 in the second quarter of this year, with clothing stores, jewellers and bookshops among the hardest hit, according to figures from PwC.

Tenant default is a major problem for property companies. When a tenant goes out of business it can take two years or more to find a replacement tenant, who will probably demand a rent-free period or a capital contribution for their shop fit-out when they sign their new lease, experts say. Vacant properties mean landlords have no rental income, but will also have to pay out on empty rates, service charges, insurance and security of the premises.

Mike Jervis, PwC insolvency partner and retail specialist, says: "Retailers cannot afford to bury their heads in the sand, and must think about surgery before the problem becomes terminal.

"They need to engage with their stakeholders early, especially banks, landlords, credit insurers and their staff. Through our work, we have seen a number of successful turnarounds involving the use of consensual arrangements and early engagement with banks, landlords and shareholders which have saved retail businesses."

Nilesh Joshi, an asset manager at Deutsche PWM Global Real Estate, which manages shopping centres across the UK, says both landlords and their tenants are working together to get through tough trading and economic conditions.

Landlords at Deutsche's real estate business are giving retail tenants support in two main ways: by allowing tenants to pay rent monthly rather than quarterly and by filling empty shop units by waiving rent charges.

"If tenants are struggling we are happy to let them pay rent monthly after talking to their accounts departments," Joshi says. "Retailers find this easier to budget for. It's a tough market and we're here to listen."

In order to fill empty shops landlords can allow temporary tenants to use the shops rent-free, but pay business rates and services charges. "Landlords want to get people through the door of their shop unit, so temporary rent-free agreements like this are quite common," Joshi says.

Bradley Smith, retail warehousing and leisure agent at DTZ, a property adviser, says: "It should be in a landlord's best interest to help struggling tenants where it is feasible, to avoid incurring a void. However, clearly each case has to be judged on its own merits.

"Every landlord's aim is to maintain but also maximise their rental income, so any financial concessions in favour of a tenant could reduce the landlord's financial return. Therefore, the balance between keeping a tenant who's in financial difficulty afloat by offering greater flexibility on lease terms and losing a tenant needs to be found."

Landlords can provide financial support to tenants in various ways, including "stepped rents" (a reduced rent is agreed for the first year of a lease and is increased annually until it reaches the market rate); rents based on turnover; and rent-free periods.

Smith says that landlords have had to increase financial incentives to tenants over the past few years. The incentives are an effort to attract retailers to properties and keep them there for the duration of the lease.

"Retail tenants are seeking longer rent-free periods to help them justify the cost of acquiring new stores at a time of economic uncertainty."

Big retailers are asking landlords for up to two years rent free or a capital sum to the equivalent value in many cases, which then is used to offset the expensive set-up costs of opening new stores, he adds.

How can the government help property directors? Many retailers would welcome longer leases, with less frequent rent reviews, any increases in rent to be agreed when the contract is signed.

James Burt, director, national markets, at GVA, a retail property agent and property adviser and the largest independently owned property consultancy in the UK, says: "Competition for retail space is fierce, but what I think retailers are finding hardest is finding space at an affordable rent.

Many retailers would welcome more flexible leases, with less frequent rent reviews, Burt says. Ideally any increases in rent to be agreed when the contract is signed.

"Rents only tend to go up, probably by an average of two to three per cent a year for the best locations. Many retailers are finding it difficult to meet any increase in rent because of tough trading conditions on the high street. Consumer confidence is low so it's a struggle to get consumers to spend more money, particularly for retailers that sell discretionary products."

Burt, who finds property for retailers and leisure companies, adds: "Retailers value certainty when it comes to rent. Some retailers prefer to negotiate rent that goes up by a certain percentage."

Business rents, which are linked to rental values, are another worry for many retailers. "One international retailer that I act for was shocked by the level of business rates in the UK. Business rates are in effect another tax on property," Burt says. "Retailers and property owners find it onerous if they have to pay a full business rate for a period of time on an empty property."

Post-recession, however, landlords and tenants have been more willing to make to make concessions in order to agree a rent that it economically viable for both parties.

"Much of the way the property market works hasn't really changed for decades or even centuries," Burt says. "However, in the past few years I've seen the introduction of more flexible leases of about five years. Fifteen or 20 years ago it was not uncommon for landlords to only let a property for a 25-year lease. Now 10-year leases are more the norm."

The last word

Head of Retail at Thomas Eggar LLP, Jacqui Joyce, suggests that retail property directors and landlords are trying to steer their businesses through a perfect storm of weak consumer spending, high unemployment, growing competition from online retailers, and increasing company insolvencies.

Fortunately, retail property professionals are a resilient bunch, Joyce adds. They are finding new ways to reinvigorate the high street --whether through flexible rent terms, pop-up stores and investment in online sales -- and make best use of their property portfolios.

Joyce concludes. "The economic downturn has highlighted weaknesses in the retail property market. The challenge for retailers, landlords and government is how to learn lessons from the downturn and rebuild the high street."

The contents of this article are intended as guidelines for clients and other readers. It is not a substitute for considered advice on specific issues. Consequently, we cannot accept any responsibility for this information or for any errors or omissions.

Thomas Eggar LLP is a limited liability partnership registered in England and Wales under registered number OC326278 whose registered office is at The Corn Exchange, Baffin's Lane, Chichester, West Sussex, PO19 1GE (VAT number 991259583). The word 'partner' refers to a member of the LLP, or an employee or consultant with equivalent standing and qualifications. A list of the members of the LLP is displayed at the above address, together with a list of those non-members who are designated as partners. Regulated by the Solicitors Regulation Authority. Lexcel and Investors in People accredited.

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