March 2019

Drapers – Emily Sutherland 260319

As conditions on the high street heap pressure on retailers, they are looking to landlords to help ease the financial burden. Drapers investigates the changing balance of power between the two

The often adversarial relationship between retailers and landlords is under pressure. As changing consumer behaviour reshapes the fashion landscape and spending shifts online, retailers are left lumbered with expensive stores that no longer guarantee the return on investment they once did, and landlords with dwindling rental income.

Clashes between the two have dominated the headlines of late. Mike Ashley, owner of Sports Direct and, as of last year, House of Fraser, has done battle with what he labelled “a small number of greedy landlords” after the department store fought to prevent stores from shuttering. Debenhams chief executive Sergio Bucher has stressed repeatedly that the floundering retailer will need the support of landlords when it comes to “rents, rates and leases commitments” , and it has already earmarked 50 stores that have been earmarked to shutter. And in January, Marks & Spencer revealed the next 17 of the “more than 100” stores it intends to close.

Meanwhile, high street stalwarts New Look and Mothercare have used company voluntary arrangements (CVAs) – a method of offloading underperforming or loss-making stores that is famously unpopular with landlords – to stem losses.

High rents have been held partly responsible for the struggles of LK Bennett, which has gone into administration, and Arcadia is rumoured to be weeks away from a CVA.

Existing cracks are being exaggerated by market headwinds, including the impact of discounting, fierce competition and Britain’s looming departure from the European Union.

The executive director of one real estate company, who preferred to speak to Drapers anonymously, explains: “Whenever people are under pressure, so are relationships. Pressure creates strain. If you were to ask people if retailers are finding the market easy, the answer is clearly ‘No’. And if you were to ask if landlords are prospering, the answer is also ’No’. Retailers are reacting to their own business challenges by imposing some unpalatable choices [such as CVAs] on landlords. And landlords are sitting on potentially outdated business plans.”

Dan Hildyard, executive director of retail property consultancy Harper Dennis Hobbs, adds: “The relationship is strained. There’s a mixed bag of landlords out there: some are becoming more responsive to retailers’ needs, but there’s a general feeling that many are not.”

Power shift

Retailers and landlords rely on each other for success. Some of the challenges facing the once all-powerful landlords – including lower rents and a limited amount of business to go around – have the potential to work in retailers’ favour. Fashion bosses told Drapers they are now able to negotiate increasingly competitive deals.

“It is something of a buyer’s market if you’re a retailer looking to expand, [because landlords are eager to fill space],” argues the founder and chief executive of one high street retailer. “A few years ago, we might have had to pay a premium to get into a good location. Now we’re far more likely to be offered a package or an incentive to move into a development. As the retail climate has become trickier, landlords have become more receptive to supporting tenants.”

Retailers are increasingly global, and they don’t need to open as many stores as they once did

Dan Hildyard, Harper Dennis Hobbs

Another retailer told Drapers that opening new stores had become more financially attractive thanks to better proposals from landlords and greater availability of prime retail sites.

Retailers’ more international outlook is further influencing the power dynamic, says Hildyard: “The balance of power has shifted. Retailers are increasingly global, and they don’t need to open as many stores as they once did. If a retailer now doesn’t get the right deal in Birmingham or Manchester, they’ll go to Madrid or Hong Kong.”

Legacy leases

Long, expensive and inflexible leases are a well-worn issue in the relationship between retailers and landlords. Two of the industry’s biggest names – Lord Wolfson, chief executive of Next, and Marks & Spencer CEO Steve Rowe – have been vocal about the need for change.

Wolfson has outlined plans to push for lower rent bills and shorter lease lengths on the 240 Next stores that are due for renewal over the next three years. Rowe argued last year that upward-only rent deals “are not going to work in the future”.

Rowe’s views were echoed by a report published in February by the housing, communities and local government (HCLG) select committee, which is investigating the future of UK high streets. It concluded: “Upwards-only rent review clauses in long leases have artificially increased rents to a level that no longer reflects commercial reality.”

 

The chief executive of one property firm agrees: “The problem is leases that trap you for 15, 20 or 25 years and, even worse than that, tie you to a rent that, most of the time, only ever goes up. This is at the same time as an unbelievable seismic shift in consumer shopping habits. Now 24% of spend is going online and we’re asking customers to pay us the same rent they were in 2005, when internet penetration was at 7% [of spend]. We’ve also been through a global financial crisis. It is inconceivable that many retailers can afford the same rent they did ten years ago.”

Martin Foster is the managing director of independent Lakeland Leather, which has 15 stores around the UK. He also gave evidence to the HCLG committee, and tells Drapers legacy leases are still an issue for retailers: “Ten or 15 years ago, high streets were much stronger. Over the past three years, vacancies have meant market rents are coming down, but businesses are still locked into higher rents that reflect a different economic model.”

Flexible friends

As an antidote to lengthy leases, retailers are increasingly calling for a more flexible approach from landlords to ease some of the pressure on their businesses.

“The risk of operating retail stores is certainly higher than it was ten years ago, so a degree of shared risk and flexibility is important – otherwise, landlords will struggle to find retailers,” argues the director of one fashion chain. “Retailers want flexibility in terms of a turnover provision on the lease and the length of the lease. Those two things are critical. Look how much retail has changed over the last five years – no retailer in their right mind would commit to a lease longer than five years and ideally, less.”

Whether landlords are willing to grant that flexibility is something of a mixed picture.

As Tony Ginty, head of public affairs at M&S, told an HCLG hearing: “We continue to have the conversation in terms of trying to get landlords to recognise the changing shape of the high street, and the changing demands and challenges faced out there. In some cases, they are prepared to have that conversation and think about it and in some cases, they are not.”

Sir John Timpson, founder of the multi-service retailer Timpson and high streets adviser to the government, takes a more positive view: “Landlords, in general, are being more realistic. One or two are stubbornly hanging on to to their rental values, but retailers and landlords are probably working together much more than ever before. They need us, and they realise they’ve got to have realistic rental values. No one is going to sign up for long leases. There’s much more of an incentive for landlords to offer rent-free periods or do things like contribute to refurbishment costs.”

The chairman of one high street retailer argues that a creative, collaborative approach between retailers and landlords is paramount: “In order to get the best out of each other, retailers and landlords need to think together about how and where value can be created in stores. Retailers can’t just hang around waiting for landlords to come up with all the solutions, but, equally, landlords need to listen and do things a bit differently. There’s no question that the model needs to change,1 and that requires a new way of thinking.”

 

Good landlords must be willing to trial different solutions and work with retailers to find answers, the property firm chief executive says.

“I take the view that tenants are my customer. You’ve got to try and give each other what you want,” he explains. “We can look at transferring rent [cost] for term [length]. So if, for example, you’re on a five-year lease paying £100 a foot, I’ll happily reduce that to £80 for a 12-year lease. Another thing we could look at is buying the rent down or saying, ‘Well, if we reduce the rent in this location, will you look at taking this store in another location?’ It takes two to tango.”

The retail industry never stands still. Given the ever-increasing rate of change, it is understandable that fashion businesses are prioritising flexibility. But as Richard Scott, director at retail property practice Nash Bond, points out, there are good reasons why landlords can only bend so far. Balance is key.

“Yes, landlords understand that retailers need flexible leasing because the industry is changing at a rate of knots, but retailers have to understand that landlords have a lot of considerations,” he argues. “It is very difficult for landlords to allow retailers to break clauses whenever they feel like it and walk away, potentially leaving landlords with considerable voids. Finding a new occupier can be a lengthy legal process and the cost of reletting is quite considerable.”

Communication breakdown

During Drapers’ conversations with both retailers and landlords for this feature, the importance of communication between the two came up time and time again.

“The times we’re in are testing and hard for both parties, and the reality is that the only way through that is sharing information,” argues Matthew Reed, head of retail asset management at British Land, which owns Sheffield shopping centre Meadowhall.

British Land launched an app at Meadowhall last year that gives businesses access to segmented sales data. “In an environment where CVAs are increasingly common, it is easy to take an entrenched, defensive position and say all landlords hate retailers and all landlords want is higher rents. There needs to be trust, and the only way to achieve that is working together.”

Timpson agrees: “Being honest with each other is the key for a successful relationship between retailers and landlords. Good interpersonal relationships also help. It is stupid to play games with other – open and direct conversations need to be had.”

 

Edward Cooke, chief executive of commercial property body Revo, also believes that sharing trading information is a way retailers and landlords can build better trust. Later this year, the organisation will hold its first CEO summit, which will bring together leaders from within the retail and property communities to foster closer relationships.

“There has historically been a lack of transparency around trading information, for understandable reasons,” says Cooke. “But increasingly, sharing information means there are things property owners can do to support retailers, whether it’s a marketing campaign or a promotion, or even moving a retailer to another part of a centre. It comes down to trust and a genuine understanding of one another’s businesses.”

The executive director of one real estate firm argues that declining store performance could be nipped in the bud by better communication between relevant stakeholders: “For me, listening to both sides and understanding both sides is important, as is taking a less confrontational tone in negotiations. People also need to be more connected. Problems occur when a centre manager says to a shop manager, ‘You need to improve this element of what you’re doing’ and that doesn’t get escalated to the right person, or the message goes through so many people that by the time it does get to the right person, it’s a case of Chinese whispers.”

However, he adds that retailers must wake up to the fact that there are often flaws in their businesses, aside from high rents, that are behind poor performance: “When a retailer submits a request to go through a CVA, very often there isn’t accompanying structural change from that retailer. They say, ‘We need to do this CVA because rents are too high,’ not, ‘We need to do this because rents are too high, and sales are too low, or our product is wrong, or the visual merchandising is wrong, or our social media isn’t up to scratch.’”

A closer relationship between retailers and landlords could also help both parties develop stronger multichannel strategies as consumer shopping habits continue to rapidly evolve.

“Exchanging more information could be massively beneficial, particularly when it comes to really understanding the impact the physical store has on online sales,” Nash Bond’s Scott argues. “Currently, [most] retailers don’t know if a customer tried a dress on in store on a Saturday afternoon, but went on to purchase that item online. As a result, they might say to a landlord, “We don’t need a store in a certain location [because sales are low],” while the landlord is saying “Well, it always seems busy.” It’s about understanding the role of the store beyond just the sales going through the till.”

The relationship between retailers and landlords is set against a backdrop of myriad challenges – on both sides. Tough times can lead to tough negotiations. But retailers and landlords need each other for success, particularly given the changing role of bricks-and-mortar stores. Open dialogue, flexibility, an understanding of each other’s businesses and a willingness to trial new solutions are the key to strengthening this all-important relationship.

As Revo’s Cooke concludes: “There’s more that unites us than divides us.”