With COVID-19 exacerbating the challenges facing the retail and hospitality sector, landlords and tenants are increasingly looking to lease models based on turnover rent to help them weather turbulent times.
Whereas under traditional commercial leases tenants typically pay a fixed annual rent subject to periodic upward-only reviews, turnover rent varies to reflect a unit's commercial performance, easing the rent burden on a tenant during challenging periods, while allowing a landlord to share in the tenant's success when times are good.
In the event of a CVA, replacing fixed rents with a turnover model may enable a tenant in distress to continue trading sustainably. Even where the situation is not so severe, some landlords are now offering the model to existing tenants to aid them through periods of cash flow pressure - last month it was reported that both Capital and Counties and the Crown Estate were offering forms of the turnover model to struggling London retail / hospitality tenants.
However, landlords are increasingly now considering turnover rents as more than a fallback for emergencies. In recent weeks, Legal & General and Hammerson have announced turnover rent models for new leases. The L&G model requires relatively limited data from the tenant to calculate the turnover rent, whereas the Hammerson model is more extensive, taking into account a wider variety of performance measures, including "click and collect" sales and footfall.
It remains to be seen to what extent tenants will take to these models. Some retailers may not be able (or wish) to provide the relevant metrics to their landlords, and there is scope for disagreement as to how a unit's performance is valued and wariness as to the accuracy of the data being provided. Anticipating such issues, one data consultancy, CACI, has proposed a system in which it would analyse and process data provided by the landlord and tenant to independently assess a unit's performance.
In any event, when negotiating turnover rent provisions in a lease, certain issues require special attention. How turnover is defined and how the underlying performance data is collected is key, but special consideration also needs to be given to factors such as confidentiality (e.g. in respect of the tenant's data), whether/how alienation should be permitted, the ability for the parties to break where desirable, and the inclusion of appropriate keep-open provisions.
With the potential for further volatility in the sector, we shall closely monitor the ongoing shifts in rent models so as to ensure our clients can adapt effectively and securely to new models where appropriate.
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