It's high time UAE’s retail lease agreements went in for a change

Amid the global pandemic, many retailers experienced a demand shock after the travel and movement restrictions.

Landlords, however, have provided relief measures to accommodate these retailers, ranging from temporary rental holidays and rent reductions to deferments, with some exploring lease restructuring and fit-out subsides.

While the short-term situation for retail is challenging, the disruption is expected to be positive for some, with essential retailers, such as grocery and home stores, experiencing a surge in online purchases. However, we expect fashion and F&B retailers to continue to struggle for the medium term.

In addition, the COVID-19 is pushing organisations to streamline supply chains. Retailers are leveraging existing infrastructure – using a designated area of the retail store to co-ordinate delivery and collections and investing in platforms to enhance digital channels. This has been successfully demonstrated in mature retail markets, which are acting quickly in this change, but we have yet to see this come through within this region.

Moving forward, the pandemic is expected to accelerate the restructuring of retail lease agreements, potentially shifting agreements to:

* Shorter lease lengths, allowing landlords to “refresh” shopping centres and cater to customers’ ever changing demands.

* Turnover rents, possibly becoming the prevailing structure in retail lease agreements. While this income is not fixed, landlords will benefit from the retailer’s performance and can work together to improve the offering of the unit and the mall to benefit equally.

* Apportion online sales to landlords. Amid COVID-19, this topic is currently the most notable discussion point among landlords and retailers, globally.

* Include pandemic clauses.

If standard malls are going to take the route of these restructured lease agreements, landlords can look to the success of some of the strongest global outlet malls, such as La Vallee Village in France and Roermond Designer Outlet in the Netherlands.

In the UK, Bicester Village is an outlet destination shopping centre, providing luxury goods and designer clothing, and considered to be one of the top tourist attractions. The outlet is primarily driven on a turnover-only model (with base rents becoming fixed as income received ratchets up).

Many leases include tenant and landlord break options, based on the performance of the retailer, which allows for offerings within developments to change to suit the interests and demands of customers.

Restructuring of retail lease agreements, is anticipated to become increasingly popular during COVID-19 and beyond, helping to support the resilience of retail developments to future shocks, while at the same time promoting sensible rental growth and visibility on tenant performance. We are yet to see these restructured lease agreements within the Middle East, and would hope to see this become more of a focus for retail landlords.

From a global perspective, landlords remain reluctant to move to the turnover model mentioned above. However, they are having to weigh up the potential opportunity cost of retailers potentially defaulting and subsequently vacating their premises prior to lease expiry.

With overall occupier demand reducing for the short term as a result of the pandemic, finding a replacement tenant in this market will become increasingly challenging. This in turn is forcing landlords to consider greater flexibility with their existing tenants for both the commercial and non-monetary terms.

From a valuation perspective, as retail markets move towards more of a turnover-only rental model, it is essentially for the valuers to have sight of the sales figures and performance of retailers to understand the risk surrounding the income, but also the potential for rental growth.

While the income is not fixed, and therefore more of a risk to investors, there is also the potential for an upside when retailers are performing strongly. The landlords will benefit from increased turnover and will not be capped by a base rent. This has been successful model for the “outlet villages”.

- Nicola Milton is with CBRE.