Malls · Retail leases · Shopping Center · Uncategorized

The percentage rent unicorn

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There are a few percentage rent calculation issues that make me happy (from a landlord perspective. If you are a tenant, you hate these!). True partial lease years – where a sales for a portion of a year are compared to the breakpoint for a portion of the year, and the tenant pays sales on the excess. National and regional tenants typically no longer have true partial years, negotiating the extended partial (12 months of sales from commencement over a 12 month breakpoint, calculate any percentage rent on the excess and then prorate the result). True partials typically result in much higher percentage rent, but since the tenant is there for the busiest months of the year and did not have to pay rents during the slower months, it actually is a fair method.

Next is when there is a change is percentage rent rates during the year. While breakpoints can be blended when there are changes mid lease year (and no change in percentage rent rates), percentage rent rates cannot be blended. Therefore, you end up with two partial lease years.

Another is where there is an abatement of rent and the boilerplate breakpoint language remains – if minimum rent is abated, the breakpoint shall likewise be abated. Think about a lease commencing 1/1 and the tenant has 9 months of abated minimum rent. If the lease year ends 12/31, you have 12 months of sales over a three month breakpoint. Landlord’s recapture a good bit of that free rent. Along those same lines, when, for one reason or another, a tenant goes to percentage in lieu for a portion of the year, that has the same exact effect as minimum rent abating and the breakpoint likewise abating.

But, there is one percentage rent method that outshines them all (again, from a landlord perspective!) – monthly breakpoints with no annual reconciliations. These are few and far between, but unlike unicorns, they really do exist. We have actually worked on properties where the majority of tenants have this requirement. In these cases, in months where the tenant is over the breakpoint, the tenant pays percentage rent, but there is no annual reconciliation, meaning the tenant’s percentage rent is not reduced for months when sales are less than the breakpoint. As an example, a tenant pays 5% of sales over its breakpoint of $100,000 per month (the equivalent of $1,200,000 per year). In 9 months, the sales are $80,000. In three months, the sales are $150,000. For the three months of $150,000 sales, the tenant pays $2,500 per month, or $7,500 for the year ($150,000-$100,000= $50,000 x 5% = $2,500; $2,500 x 3 = $7,500. For the other months, the tenant has sales less than the breakpoint and they pay no percentage rent. They paid $7,500. Had there been an annual reconciliation, the tenant would have not have paid percentage rent ($80,000 x 9 = $720,000; $150,000 x 3 = $450,000; $450,000 + 720,000 = 1,170,000; sales would then be less than the $1,200,000 annual breakpoint).

This is a tame example. We have seen tens of thousands of dollars due from tenants when there are extreme monthly variances, where percentage rent may not have been due if an annual reconciliation was required.

They are few and far between, but these percentage rent unicorns will provide a material boost to your cash flow if you find one.

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