Promise Tenant Reduced Rent, Not Lease Termination, for Low Gross Sales

Issue to Negotiate

A retail tenant demands a “performance kickout” right—that is, a right to terminate the lease if its gross sales during a certain period fall below or don't reach a certain dollar amount. Should you give in to this demand?

Owner's Perspective

You don't want to give the tenant a performance kickout right for several reasons, notes Dallas attorney T. Andrew Dow: Lenders hate performance kickout rights because terminated leases don't generate rental income and may reduce the value of your center. Also, you may wind up with dark space for a while because finding a replacement tenant can be tough these days, when many retailers have gone out of business or are filing for bankruptcy. And if the tenant terminates the lease under the performance kickout right, it could end up triggering other tenants' cotenancy remedies.

Tenant's Perspective

A retail tenant—especially one that's entering a new market or location—will typically argue that it needs the performance kickout right to protect its interests. A performance kickout right gives the tenant the security of knowing that it can close a store quickly if the new market or location doesn't meet gross sales expectations and becomes a financial drain.

Compromise: Reduce Rent Until Gross Sales Goal Is Met

In today's tight real estate market, where tenants have more and more negotiating power, you may be forced to give the tenant some kind of protection. That's why Dow suggests that you and the tenant agree to this compromise: Instead of letting the tenant terminate its lease, give it the right to reduce its rent until it meets its gross sales goal. To do this, say in the lease that the tenant gets this rent reduction right if its gross sales during whatever lease year or years you agree to—say, during the second or third lease year—are less than a set threshold. Also say that the tenant can reduce its minimum rent (but not its additional rent) to an amount equal to a percentage of the minimum rent or a percentage of its gross sales. And because a retail tenant's sales may vary widely during the year, it's reasonable to agree that the reduced minimum rent will remain in effect until the tenant's gross sales meet or exceed the set threshold for an entire lease year, Dow says.

This compromise can be a win-win situation for you and the tenant, says Dow. For the tenant, terminating the lease may not make sense if it spent a lot of money building out and stocking its space, he says. Plus, if the tenant has another store nearby, it has an incentive to protect its market share by staying open and operating at your center, blocking its competitors from taking over the space, he adds. And the tenant won't find its minimum rent obligation such a financial drain if that rent is more proportionate to its actual sales.

You'll benefit from this compromise because although you might get less minimum rent than you hoped for, you're less likely to get left with a dark space or face cotenancy worries, says Dow.

Add Lease Language

To get this compromise, add the following language to your lease, says Dow (you'll need to define “Minimum Sales Threshold” elsewhere in the lease): CLLI0056

Model Lease Language

If Tenant's Gross Sales during [insert time period, e.g., the second Lease Year] are less than the Minimum Sales Threshold, Tenant shall have the right to reduce the Minimum Rent payable hereunder to an amount equal to [insert %] of [choose one: the Minimum Rent otherwise payable during such period/Tenant's Gross Sales during such period] until such time as Tenant's Gross Sales have met or exceeded the Minimum Sales Threshold for an entire Lease Year.

Practical Pointer: Make sure that this rent break will terminate if the tenant defaults during the reduced minimum rent period, advises Dow. Put that in the lease wherever you include the Model Lease Language.

CLLI Source

T. Andrew Dow, Esq.: Member, Winstead Sechrest & Minick PC, 5400 Renaissance Tower, 1201 Elm St., Dallas, TX 75270-2199; (214) 745-5400; ADow@winstead.com.