The risks and rewards of flexible leasing

COVID-19 has taken its toll on the retail and leisure sector, resulting in greater demand from occupiers for flexible lease terms and turnover-based rents. Therefore, while recent announcements from commercial landlords L&G and Hammerson to introduce new turnover-based lease models across their portfolio may seem a bold step, they may simply represent an acceleration of the inevitable. 

The flexible lease model is nothing new. Turnover-based rents and short-term leases have always been an option, but the intent of both Hammerson and L&G is a clear long-term commitment to flexible leases. There has been a desire for some time from both landlords and tenants to move away from the traditional relationship, with tenants more like customers instead. The pandemic and associated lockdowns have simply accelerated the process, since good communication between both parties has been critical throughout this period. 

Landlords and managing agents are now introducing a consultation process to fulfil the key performance indicator (KPI) for customer satisfaction, which will enable them to identify customers' common concerns and find ways to ameliorate them; for example, by simplifying lease terms or making better use of technology in administration. 

Flexible leasing puts landlords in a position to support the development of new businesses or brands – like the 'incubator model' employed by the likes of WeWork and Regus. Providing the tenant with low-commitment accommodation, the landlord gains a better understanding of their turnover and trade, and the potential to nurture a fledgeling business into an established brand. The business then has the potential to reciprocate the benefit by expanding its commitment to the landlord on a more permanent basis.  

The difficulties for landlords are of course manifold: a heavy reliance on accurate data from the tenant or others, the cost implications of measuring footfall and car park use, which usually involves a third-party supplier, forecasting tenants' annual turnover – which can be volatile – and ensuring consistency in what is accounted for, such as click and collect or online ordering by the tenant's own customers. This approach is labour-intensive, and with shorter lease terms comes a higher churn of tenants. 

Turnover-based rents require a schedule in the lease that governs how the rent is calculated, what is included in the turnover e.g. online orders, shop orders, VAT etc. This schedule also provides the calculation and percentage of turnover rent payable. The tenant then supplies a turnover certificate to the landlord on a set date or frequency as governed by the schedule, which confirms the amount of turnover generated by that tenant over that period of time. The managing agent can then use this to calculate the turnover rent due. 

As my colleague Georgina Grazebrook wrote in Property Week at the end of 2020, a well-balanced relationship between landlord and tenant that aligns their respective interests is the way forward. Having the arrangements in place to deal with this inspires confidence in all parties that the transition to turnover-based leasing – when executed well – can be a smooth one.  

Related competencies include: Landlord and tenant, Leasing and letting