Retailers sign more short-term lease contracts in a risky bet for mall owners

Retailers and their owners are involved in a high-risk game right now. And it will take a few years to find out which party is on the winning side.

As thousands of retail leases are renewed, their life span is increasingly shortening, as companies face an unpredictable future and look for ways to cut costs, remain flexible and maintain the advantage over their owners, even after the crisis decrease in health.

Risk is a two-way street, however. Because, on the one hand, in two or three years, the owners of malls and malls could have the chance to turn the tables in their favor, increasing rents or exchanging tenants for another tenant. But more short-term deals can also leave homeowners with even greater vacancies in the future.

Best Buy chief executive Corie Barry said on Thursday that the big retailer’s average lease term is definitely decreasing.

She said the company has about 450 lease contracts for renewal over the next three years, or an average of 150 a year. The electronics retailer has closed about 20 of its large-format stores in the past two years, but expects to close even more in 2021, she said.

“When we look at the short term, there will be higher limits on renewal of rentals, as we evaluate the role that each store plays in its market, the investments necessary to meet the needs of our customers and the expected return based on a new scenario of retail, “Barry said during a conference call with analysts.

The trend is spreading across the retail scene and in shopping malls. Clothing companies are increasingly rethinking whether it makes sense to be in a closed shopping mall, anchored by department stores that are struggling to attract customers and increase sales.

VF Corp., the owner of Vans and Timberland, said the rent on its stores has been declining for years. But they will be even shorter out of the pandemic, according to the company’s chief financial officer, thanks to recent and ongoing negotiations. VF Corp. is changing to allow the freedom to close stores more quickly.

“The way we structure our leases now allows us to be very agile, very agile and … we can rotate as consumer behavior changes,” said CFO Scott Roe in a recent telephone interview.

The retailer’s average lease term is about four years, Roe said, and will soon be even shorter as new contracts are signed.

“The owners have been cooperating and working with us,” added VF Corp. CEO Steven Rendle. “We both have the same goal, which is to be viable and to be productive.”

While traditionally it is in the owner’s interest to sign a long-term lease – lasting 10 or 20 years – to limit risk and keep a space filled for as long as possible, many are succumbing to the pressures brought in the past 12 months.

With plenty of vacant spaces in many markets across the country, tenants like retailers and restaurant owners are finding themselves in a position of greater power. It is a trend that many real estate experts hope will only proliferate and become the norm from here.

Rentals for about 1.5 billion square feet of retail space in the United States are expected to expire this year, according to a tracking from real estate services company CoStar Group. That is about 14% of the retail market. So either these rents will not be renewed and more stores will be closed, or these contracts will be renegotiated.

Certainly, while short-term leases can pose a greater risk to homeowners, who then have to deal with unpredictable waves of tenants coming and going, that goes both ways. Retailers can sign a short-term lease and rents may have an upward trend in the future, if the market strengthens.

David Simon, CEO of shopping center owner Simon Property Group, told analysts during a conference call in early February that there is interest among tenants in “a slightly shorter timeframe”. Simon is currently signing more three-year lease contracts, he said.

“We are fine with that, because I prefer to negotiate in two or three years” rather than having a full store, he explained. “I think it may actually be in our interest as well, because … we don’t have the ability to target sales as a way to increase rent,” he said.

“It’s actually a two-way street and it’s working well for the vast majority of our retailers,” said Simon.

Beth Azor, CEO of retail property development and management company Azor Advisory Services, said she worked on a number of short-term businesses during the pandemic. Azor, often referred to as “Canvassing Queen” on social media by her colleagues, helps rental agents fill the vacant space across the country, working with a range of publicly traded real estate investment funds, or REITs.

She recently took her service to the emerging social network Clubhouse, where it hosts rooms for entrepreneurs to present their business and owners with vacant spaces can hear. Rentals are from three months to a year, and sometimes this is free. She calls it “Space Tank”, an ABC piece “Shark Tank”.

According to Azor, homeowners should not see short-term leases as negative, mainly due to the state of retail. Having a tenant – period – increases occupancy, she said, which can be useful when other companies knock on the door asking for rent relief.

Businesses at national and local levels have been coming to malls and mall owners during the health crisis to try to renegotiate their rents down, explained Azor. And if a property is full, albeit with some short-term leases, it is more difficult for a company to argue that rent should decrease. Therefore, the occupation can literally pay off.

Tanger Factory Outlets, owner of the Outlet, has also been doing more short-term business. Currently, about 7% of its tenants’ rents are classified as temporary, when they typically ranged between 4.5% and 5.5%, CEO Stephen Yalof told analysts during a conference call earlier this month.

“A series of businesses that actually started out as pop-up or short-term leases … we have extended the terms of those leases,” he explained. “So this looks like a trend.”

He went on to explain that REIT favored maintaining high occupancy, with more short-term deals, rather than charging rent in 2020.

“We will see many more places and [temporary] lease probably in the first half of the year, “he said.” But we are very proactive with our long-term leasing to replace this contract and increase our permanent leasing base. “

However, not all properties appear to be ideal for pop-ups.

The upscale Fifth Avenue neighborhood in New York, for example, is still largely populated by tenants with long-term lease agreements, according to the president of the Fifth Avenue Association, Jerome Barth.

“These will be premium leases, no matter what … because this is still the number 1 market in the world,” said Barth. “I think rents will evolve, and that will be a constant. But people know that the Avenue will be an exciting place to be in the years to come.”

Disclosure: CNBC holds exclusive cable rights off the network for “Shark Tank”.

– CNBC’s Melissa Repko contributed to this report.