Beware of Retail Boilerplate in Leases For Mixed-Use Projects
The scenario is simple enough to imagine. For years now, the developer’s retail center has been deteriorating. Tenants have been leaving as customers increasingly shop the competition. Hoping to rejuvenate the center, the developer now seeks to introduce a mixed-use component.
The developer’s gut instinct tells him, or her, that it should not be a problem. After all, the subject of mixed-use was never discussed, much less negotiated. Reviewing the first few pages of the anchor’s lease, the developer finds no problem. Then it happens. Tucked away deep inside the miscellaneous section of the lease is the following provision: “Landlord covenants that all of the Shopping Center shall be used only for retail sales and services.” This simple provision, once dismissed as superfluous “boilerplate,” may very well prevent the introduction of a mixed-use element to the property.
While perhaps overly dramatic, this scenario may serve as a cautionary tale of the impact of “boilerplate.” Boilerplate provisions may prove to be problematic in a new mixed-use project but are less likely to be ignored if mixed use is contemplated up front. The greater problem is that some seemingly innocuous provisions may completely preclude the conversion of an existing retail project into a mixed-use project.
This article identifies some “boilerplate” restrictions often present in retail leases (especially if the tenant’s form is utilized) that can be significant hurdles to effecting a mixed-use development. The article also suggests some real world compromise solutions for the problems raised by each restriction.
No residential or office use allowed anywhere in the project.
- Problem: May preclude any kind of mixed-use conversion.
- Compromise Solutions:
- Permit residential and office in designated areas or on upper levels.
- Permit offices serving the public (for example, professional and other service offices), either without limitation or subject to a maximum percentage of retail uses.
- Provide for “permissible development areas” rather than the more limited “permissible building areas.” The concept is that a building can be located anywhere within a specified development area subject to complying with parking ratio, height limitations and any negotiated site plan constraints. Each development area can be subject to use limitations — preferably described flexibly — for example, office and/or retail. This solution is particularly important for phased projects since the location of each building and each use often cannot be fixed in advance.
No movie theater/health club/game room/restaurant allowed anywhere in project.
- Problem: Although not strictly non-retail uses, these uses are more likely to appear in mixed-use and lifestyle projects and are frequently subject to substantial restrictions in traditional retail projects.
- Compromise Solution: Provide for geographical, size and number limitations rather than blanket prohibitions.
No pay parking or reserved parking.
- Problem: Retail tenants want to ensure that their customers have easy access to free parking. However, the introduction of a residential, hotel or office element may necessitate more flexible parking programs.
- Compromise Solutions:
- Allow for charges if developer pays for validations.
- Provide for charges only to non-retail users and provide for a comprehensive parking management plan that includes anti-poaching elements (for example, physical barriers, signs, card keys and time of entry limitations), special arrangements (for example, off site parking with the use of shuttles) for employees during major retail seasons and grand opening.
- Provide for exclusive residential parking areas.
- Provide for reserved office parking in upper levels of parking structure or other distant parking fields. Prohibit reserved parking in other retail parking fields or limit to non-peak retail hours.
- Limit but do not exclude valet drop off, pick up and parking areas in addition to car pool areas and public transportation drop off areas.
Retail oriented parking ratio.
- Problem: Particularly in urban areas, cost of land and limited supply of land may require expensive structured parking.
- Compromise Solutions:
- Provide for lower ratios because of shared parking (for example, different peak usage of movie theater and office) and availability of public transportation, if applicable.
- Specify separate (lower) ratios for non-retail uses.
- Exclude residential space from parking requirement calculations if it has exclusive parking for residents (notwithstanding possible use of shared parking by residential visitors).
- Problem: Many mixed-use developments entail the construction of residential and/or office on top of retail.
- Compromise Solution: Limit height restrictions (if they are necessary at all to satisfy view corridor concerns) so that they are geographic in nature or otherwise provide flexibility for non-retail uses.
No assessment districts.
- Problem: Many of the larger urban mixed-use projects contemplate public-private partnerships or other governmental involvement.
- Compromise Solution: Allow for assessments but indemnify strong retailers against assessments or, if the retailer owns its site, try to exclude the retailer site from the assessment district.
Minimum floor area requirements or co-tenancies that only work in retail context.
- Problem: Introduction of a residential or office component to the retail project may not be feasible.
- Compromise Solution:
- Provide for flexible floors and ceilings for each type of use instead of a minimum square footage requirement that approximates full build out of each contemplated use.
- Do not provide for non-retail co-tenancies.
Operating expense cost sharing.
- Problem: Different uses may result in different operating expenses. Therefore, a single formula for calculating a user’s share of operating expenses for a mixed-use project may result in unfair allocations (or subsidies by developer).
- Compromise Solution: Tie calculation of proportionate share of specific operating expenses to different variables (or more than one variable), including square footage, parking spaces and other indices of intensity of use (e.g., truck dock usage frequency). Consider fixing predictable expenses for certain types of users (subject to CPI or other escalation formula).
Landlord liability as to entire project for violations of exclusives and other restrictions.
- Problem: In order to create a successful mixed-use project, the developer must retain flexibility to sell portions of the project to non-retail occupants or developers and not be liable for violations relating to portions that are conveyed.
- Compromise Solution: Limit enforcement to area owned by the landlord or, if not feasible, provide that landlord is no longer liable as to conveyed portion if CC&R’s are created (can provide for enforcement by landlord and/or tenant).
In most cases, the battle can be won if the early discussions and letter of intent contemplate mixed-use, either initially or in a later phase, and make it clear that standard provisions in the tenant’s form lease will be reworked in a mutually satisfactory manner to permit this. On the other hand, problems can also arise if a major mixed-use component is marketed early on but the realistic intent may be to provide retail initially and to provide mixed-use in later phases only if the market allows. The anchor tenant may remind you of the marketing blitz when the lease is negotiated.
Sheldon A. Halpern is a partner and Tan N. Nguyen is an associate at Pircher, Nichols & Meeks, a law firm that represents real estate clients nationwide through its offices in Los Angeles and Chicago.
This article appeared in the August 2008 issue of Shopping Center Business. ©2008 France Publications, Inc.