With many retail stores adopting a ‘multi-channel’ (online and in-store sales) strategy, tenants that pay turnover rent to their landlord need to be clear about where their turnover is coming from
A “multi-channel” strategy for sales is a buzzword now well understood by retailers as a way for both real-world and online shops to interact with each other to enhance the retail offer.
The strategy involves online purchases being collected from or returned to stores; purchases can be made from stores without the goods ever physically having entered the shop.
Turnover leases
There has been a trend in recent years to compromise landlords’ need for certainty in the rent they are to receive with retail and (to a lesser extent) hospitality and leisure tenants’ desire for the rent to reflect the trading performance of the store by agreeing a turnover rent, usually with a minimum base rent.
A typical turnover rent equation will look something like this: base rent + (10% of gross turnover – base rent) = turnover rent.
So, for example, if the store’s base rent is €40,000 per year and it makes €500,000 gross turnover in that year, then it will pay €50,000; that is, €40,000 base rent plus [€50,000 (10% of gross turnover) minus base rent of €40,000] equals €40,000 base rent plus €10,000, or €50,000.
The equation is relatively straightforward. However the problematic element of the equation in recent years, and particularly with the advent of multi-channel shopping, has been the gross turnover definition. There are also problems with auditing, as landlords often have a right under the lease to have the turnover information provided by the tenant audited.
There is also a more conceptual issue, particularly with the way that flagship stores in high-profile locations are increasing becoming more of a display cabinet for promoting goods, which customers can try on or try out but ultimately buy online.
A particularly innovative example is the concept recently introduced by Tesco HomePlus in South Korea where customers with smartphones can shop by scanning QR codes on virtual grocery shelves. Debenhams has also launched a barcode scanner as part of its smartphone app.
Inevitably, there is a time lag before new concepts filter their way through the minds of property lawyers and make their way into the world of leases. That delay is exacerbated by the fact that retail leases are usually for period of 5-25 years – and in the case of anchor tenants in shopping centres, sometimes considerably longer.
Current definitions of gross turnover
Gross turnover in a modern form of shopping centre lease of a retail unit will typically contain a general clause which covers all business conducted at, in, from or upon the unit and includes most of the following elements:
*any sales which originated, or are received or accepted at or from the store;
*sales made outside the store by those employed at the store;
*sales made by mechanical or vending devices at the store;
*any sales which the tenant does (or should) credit to the store;
*the subsidy element of any part-subsidised sales;
*any sundry charges such as postal and insurance charges; and
*a sale on credit or hire-purchase that is treated as a sale for a full cash payment.
Conventional over-the-counter sales are unproblematic. With the advent of multi-channel shopping however, this definition of gross turnover can lead to disputes in the following circumstances:
*orders are made via terminals at the store, but delivered from the tenant’s distribution centre direct to the customer;
*orders are made via the customer’s own smartphone or tablet at the store, but delivered from the tenant’s distribution centre direct to the customer;
*customers call a store to make an order, and that order is routed to a central call centre;
*goods are ordered online and delivered to the store for customer collection,
*goods are ordered online, delivered from the distribution centre direct to the customer and refunded at the store;
*goods are purchased at the store and refunded by post; and
*elements of online turnover are attributed to stores in tenants’ internal accounting procedure, often owing to outmoded accounting practices that allocate sales within the catchment area of a store.
There are no easy answers as to when the turnover is “in” or “out”, and in most cases it will depend on precisely the wording used.
Best practice
Best practice in negotiating leases suggests that tenants should be open with landlords about their marketing strategy so that both parties are clear from the outset what is and is not to be included in gross turnover. Definitions are often not carefully negotiated in leases and they tend simply to be the landlord’s standard “all-inclusive” definition. Tenants should, however, not shy away from trying to negotiate express exclusions for those elements of their turnover which they consider ought not to be included.
To ensure transparency, there should be a clear agreement as to the kind of data capture the tenant has to undertake and the accounting information which the tenant has to disclose to support its turnover calculations.
Where there are disputes, there need to be short time frames for resolution of any disputes, a binding third-party audit process and an independent expert determination process to ensure a fair resolution.
Also worth thinking about in longer leases is an agreement to revisit turnover provisions periodically to reflect current market practice or an option for the lease to revert to a standard market rent if turnover rent ceases to be appropriate.
Is a turnover rent the right thing?
And, lastly, for some retail premises, turnover rents may just not be suitable. Arguably, for flagship stores at Oxford Circus, the Kurfürstendamm, the Champs-Élysées and the Via Condotti, turnover rents are no longer appropriate and their value needs to be calculated in a different way. Their value lies in their marketing and brand visibility rather than in the sales from the store itself.
Edward John is a senior associate at law firm Hogan Lovells International
