Are ‘Turnover Rent’ Leases The Future For The Retail Sector?

The Covid-19 pandemic has affected the United Kingdom in unprecedented ways, and the retail sector is no exception. It is not surprising, therefore, that the landlord-tenant relationship and various lease obligations have been placed in the spotlight.

Whilst landlords and retailers had started moving towards ‘turnover rent’ leases over the past few years, the pandemic has accelerated the shift, with a recent report finding that 82% of UK retailers have sought to incorporate turnover rent provisions into their leases. It is argued that a shared pain/shared gain approach to business occupation in such a challenging economic climate is the way forward.

When demand for premises mirrored or bettered supply, landlords generally insisted on leases granted at market rent with ‘upward-only’ rent reviews to the passing market rent and tenants were happy to accept. However, with the present demand for retail premises being so badly hit following economic effects and pandemic-related usage restrictions, landlords are more willing to consider alternatives.

That said, we suggest caution before taking the plunge.

Are turnover rent leases actually beneficial for landlords?

Turnover rents are seen as one way of achieving a rent level that more accurately reflects what can be earned from the premises and, therefore, achieves a fairer outcome for the landlord and the tenant alike. By linking the level of rent to the income of the premises, the deal can be beneficial to both parties.

It all sounds great and makes us question why such arrangements haven’t always been more commonplace in retail leases. However, turnover rent arrangements are not without potential problems:

• They are trickier to get right. Types of tenants and their businesses can vary enormously. Some earn all their income from the turnover at the shop. For others, the shop may only be a physical presence for most of the turnover being done elsewhere (i.e. online – mobile phone shops are a good example of this). With the rapid rise of online shopping, many retailers use their premises for both – direct sales and an advert for online sales. At the time of a letting, all of the tenant’s turnover may be generated from the premises (resulting in a good turnover rent for the landlord); though with the growth of online sales, soon after completing the lease, the tenant’s business may change and a substantial part of its income arrives from online sales – causing a low turnover at the shop and low turnover rent for the landlord. Our Commercial Property experts possess the skills to ensure that turnover rent arrangements are flexible to capture physical and online sales within the rental calculation so landlords are properly remunerated.
• What happens if a tenant’s business must close for a period of time? A business can close for any reason, such as for repairs and alterations, let alone when the country enters into a new lockdown. There must be a mechanism in place for determining the level of rent when the premises is closed and not generating income. This must be considered by the parties when a turnover rent lease is negotiated and drafted.
• Even where the tenant’s business is known to be stable, the lease needs to strictly govern the landlord’s prompt collection and verification of turnover data. A landlord cannot simply relax and wait for a pre-agreed and definite amount of rent to arrive (knowing any rent can always be chased up later, plus interest for arrears). If the landlord is not adept in a turnover rent situation, it may be very difficult to collect and verify all the turnover data later, resulting in a loss of rental income. This is where we can assist by soundly advising landlords on the key provisions and processes relating to the arrangements with their tenants.
• The drafting of the lease needs to cover all eventualities. Should the tenant seek to assign the turnover rent lease to a new tenant, the landlord may find that the lease, which was suitable for the original tenant’s business, may be entirely unsuitable for the proposed assignee’s. The answer may be to insist on the landlord having the right to accept a surrender of the lease, if the tenant wishes to assign.

It is evident that, if drafted properly and competently, turnover rent leases are beneficial for both landlords and tenants. If a turnover rent lease is being considered, allow extra time and expense to fully explore if it is a good idea and how to do it.