Shopping Centers Today is the news magazine of the International Council of Shopping Centers (ICSC)
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98 S C T / D E C E M B E R 2 0 1 6 BLAME THE RECESSION Regional mall tenants are showing more flexibility about anchor co-tenancy clauses, but a different dynamic often prevails among chains that favor open-air shopping centers, observers say. "We're starting to see these types of clauses creep into the leases of local and regional tenants, or even into their letters of intent," said Dan Samulski, senior vice president of retail services in the Newport Beach, Calif., office of CBRE. "It's not across the board, but letters of intent that used to be three pages are now about 20 pages. Leases that, back in the day, would be 15 or 20 pages can now be 60 or 80 pages or more." As Samulski sees it, leases and letters of intent are growing more complex in part because legal language naturally evolves. "All of these protection mechanisms just end up getting built in," he said. "It's the same for landlords as it is for tenants, which is how we get to 80 pages." Greater access to information could also be part of the picture: In today's marketplace, all it takes is a Google search for inexperienced operators to learn more about how top retailers protect themselves in their leases. Other startups might find out about such clauses by hiring lawyers who have worked for big chains. "As I get offers, I'll look at them and I'll be like, 'Boy, this is a startup operator, and yet they have clauses in here that look like those of a national tenant,'" Samulski said. "They get an 'A' for effort, but if it is a regional or local mom-and-pop trying to get co-tenancy provisions in that lease, they are less likely to get that." Tenants with more leverage, though, can and do succeed. The challenges this can create became clear in the aftermath of the financial crisis, says Dave Cheatham, president of Phoenix-based Velocity Retail Group, an affiliate of the X-Team International network. "During the Great Recession, there were significantly more retailers consolidating and filing for bankruptcy," he said. "Coupled with some of the co-tenancy clauses negotiated for the larger tenants in the center, this caused a double negative: The loss of a major anchor tenant allowed some of the other major tenants to go into alternative rent scenarios. Not only did the landlord see their anchor go out, but they suffered from some remaining tenants having reduced rent, which caused the landlord's net operating income to drop very significantly." During the recession, anchor co-tenancy clauses contributed to downward spirals at many open-air properties — so much so that Cheatham wondered whether such protections would be phased out or eliminated by lenders once the economy recovered. In fact, the language has proliferated, he says. "What we are seeing today is [that] smaller national tenants and many regional tenants are demanding co- tenancy clauses that only the major tenants used to be able to obtain," Cheatham said. "These co-tenancy clauses create a complex web of legal agreements that increases the possibility for a landlord to have their net operating income drop when one box tenant vacancy occurs. The risk for owners and investors is greater today for sure." Some national anchor tenants routinely use co- tenancy provisions to their advantage in negotiations with landlords and count on pursuing this option as part of their overall operating strategies, Cheatham notes. "The retailer might know that at any given time, 10 or 15 percent of the shopping centers it is in will have some sort of co-tenancy default by an anchor," he said. When chains win lower rent through these clauses, it can cause owners and investors to lose hundreds of thousands or even millions of dollars over the life of a project. This is why many landlords are pushing retailers — before they can take advantage of an anchor co-tenancy clause — to show that the vacancy has caused their sales to decline, Cheatham says. As in the mall sector, where REITs have replaced dozens of department stores with new uses, the loss of an open-air anchor can, at times, be an opportunity for landlords, says Samulski. "It might be an anchor that is an older, tiring concept," he said. "You could turn the asset around with a redevelopment that would be for the betterment of everyone, including those in-line shops." — JG Thanks to a push in this direction by landlords, today's new or renegotiated leases are indeed more likely to offer flexibility on how to replace lost anchors at malls, according to Spencer Bomar, an Atlanta-based principal of the national retail group at Avison Young. These rewritten clauses are drafted to allow landlords to bring in tenants like H&M;, Forever 21 or Dick's Sporting Goods even as they court such uses as supermar- kets, theaters, gyms, restaurants and cafés. "That replacement language is one of the big changes," Bomar said. "It is really moving forward. A few years ago a retailer would come in and say: 'OK — there are four anchors; if two of them leave, then we get rent reduction, and that's it.' Now if the anchor leaves, landlords can get creative. They might be able to replace it with x amount of retail from different tenants. It is creating oppor- tunities for things like these new, really cool food halls, which everybody loves." To give themselves more freedom to carve up anchor spac- es as they see fit, landlords are persuading in-line tenants to accept such phrases as "quality replacement uses" as opposed to "national department stores" in new or renegotiated leases, says Jim Bieri, a principal of Michigan brokerage firm Stokas Bieri Real Estate/X Team International. Bieri is also an attorney with law firm Bieri & Ames, which has negotiated leases on behalf of Ann Taylor, Coach, Gymboree and Movado, to name a few. "Let's face it, the mall industry is changing dramatically, and the symbiotic relationship between the department store and the developer is becoming less important," Bieri said. "Driving traffic is the developers' new mantra. You need to get >> W E I G H I N G A N C H O R S