1. Is Covid-19 affecting lease structures?

2. What changes are likely to happen?

3. What are the inhibitors to change (and were these happening anyway)?

Some very interesting feedback was received with just a few key takeaways, below:

• Retailers have most commonly requested rent deductions between 21–40%. Landlords anticipate rents to fall by an average of 22% on high street, 30% in shopping centres, 13% on retail parks and 34% on leisure schemes, following the Covid-19 pandemic.

• 91% of retailers who responded had existing leases with a turnover provision. According to landlords, turnover-based leases however currently account for an average of 10% of leases.

• 82% of retailers will be looking to regear some existing leases to incorporate a turnover rent provision in the future; however, 74% of landlords see current rent negotiations as being short-term solutions (<2yrs), rather than a permanent fixture.

Top five benefits of turnover-based leasing models according to retailers

• Lockdown has highlighted current traditional leasing model is not appropriate
• Allows control over property costs in relation to sales
• Removes an upward only rent review provision
• Preserves an economic operating model
• Ensures fair rent is paid relating to the revenue stream of that property

Top five limitations of moving to turnover-based models according to landlords

• Tenant transparency in sharing transactional data
• Security of income, given potential variability of performance
• Approach to valuation given this variability and shorter lease lengths
• E-commerce vs store sales being fairly apportioned and reflected
• Investor sentiment to moving to alternative lease models

Average lease lengths on landlords' portfolios are reducing

• Lease lengths have reduced significantly in recent years, with a threefold increase in leases less than two years between 2018 and 2020.

• A further doubling of leases less than two years is expected by 2022, likely to account for 30% of deals signed in that period.

• In 2016, leases of 6–10 years accounted for around 55% of deals signed. This has since more than halved for new deals and is expected to reduce further in the next two years when 90% of new leases are anticipated to be shorter than five years.

Anticipated impact on leases: What changes are expected to leases at some point in 2020?

• 72% of retailers have already approached their landlords for a deferment or rent-free period on some of their leases.

• Interestingly, almost half of leases are expected by landlords to remain unchanged by the pandemic. However, that leaves a significant number that will be impacted in some way.

• Rent-free windows, or deferment, are expected to account for around a quarter of lease changes in 2020, while rent reductions to account for 22% of leases this year.

• Despite the interest in turnover rents, they are only expected to account for 7% of lease negotiations by the end of the year.

Landlord and Tenant Comments Regarding Turnover Leases

In regards to the typical structure of turnover-based leases, retailers suggested this differed and is based on the location of the stores. Where stores are located in weaker trading locations, the majority of retailers suggested a pure turnover-based lease was more appropriate, with a base rent plus a turnover top-up more suitable in more prime markets.

Retailers and landlords also made further general comments acknowledging that both parties need to enter into a partnership. Neither party should bear the full financial burden of the current situation, so it is paramount that both sides are open-minded and prepared to compromise.

Meanwhile, landlords feel they cannot be expected to take a significant cut to rental income and therefore values without seeing anything in return. Turnover leases are widely thought to need to include a proportion of online sales generated from the store’s catchment (to be defined between the parties). If 80% of purchases are either influenced by or happen in-store then retailers have to place more overall value on stores – particularly those in prime shopping centres, high streets and out-of-town retail parks. There remain concerns on lack of transparency in approach to returns, inability to remove tenants where they underperform; and transparency and accurate turnover projections provided by retailers ahead of new lettings. However, it is clear from our discussions that both parties are keen to work together for the long-term sustainability and resilience on both sides.