Marks & Spencer’s recent announcement that 60 stores will close over the next five years is a further blow for retail landlords, at a volatile time for shopping centres following the Brexit vote and in the wake of the BHS collapse.
When retailers make this type of restructuring announcement, a casual observer might understandably assume that non-viable stores can be closed unilaterally.
But this would be misinformed, as store closure is not really a decision which can be made without reference to the shopping centre owners/landlords.
Shutting up shop
Unless retailers have freehold ownership of their stores (which is relatively unusual) retailers will generally have entered into binding contracts with landlords, in the shape of commercial leases. Retailers will have agreed to remain in occupation as tenants for a pre-agreed period and under pre-agreed rent structures, as well as agreeing to pay for repairs, insurance, etc, and using stores only for a certain purpose, eg sale of clothing.
For store closures to take place, retailers generally wish to end these leases early. They not only want to “shut up shop” and walk away, they want to get out of the conditions which they have signed up to under the leases. This can leave landlords with big gaps in their shopping centres, adversely affecting footfall as well as seriously denting rental income. It is drastic from the retailer’s perspective too – closing stores is clearly not a decision they will have taken lightly, and they may have invested heavily in fit-out and other operational costs.
But a lease is like any other contract – it can only be ended early where both parties agree to do so. It cannot just be set aside by one party because it is no longer convenient or fit-for-purpose. The same applies to changing lease terms – this can only be done with mutual agreement. Sometimes, leases contain break options in favour of tenants, allowing leases to be terminated early, but it would be relatively rare for a break option date to coincide precisely with a retailer’s ideal closure date.
The balance of power
So retailers that want to bring leases to an early end usually need to negotiate with landlords, to persuade landlords to let them go. Most retailers will not assume that they can simply tear up any unwanted leases and move on. But sometimes there can be an attitude that landlords will probably agree to a retailer’s restructuring proposals to preserve the wider relationship.
Some retailers may take the approach that if landlords want them to continue as tenants in some of their shopping centres landlords will show flexibility. This could mean landlords allowing tenants to surrender leases for failing stores early and/or allowing tenants to change the use of some stores. However, sometimes landlords may have exclusivity arrangements with other tenants in place – for example, that a supermarket elsewhere in a shopping centre will not have a competing food store – which could make agreeing a change of use tricky.
Landlords may be faced with a challenging balancing act. Landlords who show understanding to retailers during tough times may find that they remain popular with these retailers when new stores are planned in the future. But landlords are under pressure to keep their centres fully occupied and generating as much rental income as possible.
Many landlords will wish to explore their legal position, as well as being mindful of the customer relationships they have with these retailers as tenants. It may be that landlords can negotiate early surrender settlement payments from tenants which mitigate the impact of store closures, or vary leases in a way which benefits the landlord’s position – for example, agreeing a change of use of a store from clothing to food, but only where a tenant agrees to a longer lease length in exchange.
It is also worth mentioning that many leases will contain “keep-open” clauses obliging tenants to remain in occupation and trading for the duration of their leases. But where a lease contains a keep-open clause and a retail tenant wants to close a store early (even if they are prepared to keep paying rent) then stopping trade is an immediate breach of the lease, in respect of which the landlord could in theory take court action to force the tenant to remedy. The remedy might be continuing to trade (which can apply to Scottish stores) or paying financial damages (which generally applies in England). Where a landlord opts not to take court action, this may generate goodwill with retailers.
So landlords should not be too quick to assume that they have little option but to agree to whatever tenants may want. Even in the context of preserving wider relationships with retailers, leases often have clauses which can potentially be advantageous. Similarly, retailers contemplating store closures should look critically at leases to assess whether these contain risks that could affect the likelihood of achieving early surrender or variation.
Darina Kerr is a real estate partner at CMS Cameron McKenna LLP
