Trade Retailer's Right to 'Go Dark' for Your Right to Recapture Space
Many, if not most, retail tenants hesitate to sign leases containing continuous operation clauses. Of course, this dogged determination to maintain the right to go dark and not be forced to operate no matter how bad business becomes is nothing new. But there can be no doubt that the COVID-19 pandemic has made it harder than ever for landlords to get tenants to accept a continuous operation clause.
But maybe they don’t have to. Wouldn’t it be nice if there were another way for landlords to secure something like the assurance of a continuous operation clause without actually forcing tenants to give up their right to go dark?
In fact, there is an approach that a Maryland attorney tells us has worked well for his landlord clients: Trade tenants’ right to go dark for your right to recapture the space at any time. Under the arrangement, the tenant remains liable for rent and charges on the space unless and until you actually exercise your rights and take it back. This way, you get to keep collecting rent from the current tenant while seeking a suitable replacement tenant.
Although anchor tenants are unlikely to accept it, the arrangement is ideally suited for medium and small tenants in both malls and strip centers. Here’s a leasing strategy to use to implement such an arrangement at your own property.
The 5 Nonnegotiable Lease Elements
Needless to say, the go-dark-for-recapture approach won’t work and may backfire if you don’t have the right lease language. There are five essential elements that both sides should treat as being nonnegotiable:
1. Tenant’s right to close down. First, the clause should say that the tenant has the right to close the store if its continuous operation “cannot be economically justified.” While tenants will insist on the right to exercise sole discretion to determine whether continued operation is “economically justified,” you can protect yourself by requiring them to exercise that discretion “reasonably” [Model Clause, Sec. a].
2. Tenant’s duty to provide notice of closing. Require the tenant to provide advance notice of closing so you’re not caught off guard and have time to start looking for a replacement tenant [Clause, Sec. b].
3. Tenant’s duty to keep store lit. Require tenants that decide to close down to keep the store’s windows and signs lit during business hours. In addition to minimizing potential harm to the center’s appearance, curb energy, and reputation, ensuring that tenants leave the lights on after going dark is an essential security measure at strip centers where dark stores are particularly susceptible to vandalism [Clause, Sec. a].
4. Landlord’s right to recapture. State that after the tenant provides notice of closing, the landlord has the right to take back the space at any time upon 30 days’ notice. Exception: The one situation in which the landlord shouldn’t be allowed to exercise its recapture rights is in the event that the tenant properly sublets or assigns the space after notice of closing and before landlord recapture. The landlord should also have the right to advertise, market, and post “For Rent” signs at the space as soon as it receives the tenant’s notice of closing [Clause, Secs. b and c].
5. Tenant’s duty to pay rent and charges on space. Last but certainly not least, make it clear that the tenant is still responsible for rent and charges on the space until the landlord takes it back. This assures you of a continuing stream of rent revenues on the space and may even discourage the tenant from exercising its closing rights altogether by upping the price of going dark [Clause, Sec. a].
The 3 Negotiable Lease Elements
As long as you have all five of the things listed above, you have room to negotiate on some of the other provisions, including:
1. Definition of ‘economically justified’ trigger. In addition to requiring tenants to exercise their discretion to determine whether their business has sunk enough to activate the “economically justified” trigger for closing down by exercising it “reasonably,” you can impose further limitations by establishing some agreed-to benchmarks and metrics for measuring “economically justified.”
2. How much advanced notice tenant must provide. Another key point to negotiate is how far in advance the tenant must notify the landlord of closing down. The more notice required, the better the landlord’s chances will be of finding a replacement tenant before the store actually shuts down. Six months is about the maximum notice a landlord in a strong bargaining position can command, according to the Maryland attorney. Forty-five days is the minimum when the shoe is on the other foot and the tenant has the leverage. Most arrangements settle somewhere in the middle of the two extremes, the attorney adds.
3. Who pays for improvements. Tenants that close early in the lease term may incur additional costs in the form of the portion of improvement costs attributable to the unused lease time. Tenants may ask you to reimburse them for these unamortized improvement costs, especially if they spent a lot of money constructing the space. Based on his own experiences, the Maryland attorney says that unless the tenant is very powerful, landlords typically refuse these demands. And in some cases, the landlord has enough bargaining clout to actually require the tenant to pay the costs the landlord incurred in making improvements to the property.
Final Caveat: First Check with Your Lender
Check with your lender before entering into a go-dark-for-recapture deal, the attorney cautions. Your lender may object to these arrangements and may even have the right to bar you from letting tenants out of their leases, especially in a new shopping center.