So the effect of this for a retailer is that Base Rent, Promotions Levies and sometimes even Outgoings (CAMS) will escalate each year regardless of performance. Take out a seven lease at 5% stepped increase and that’s 34% plus increase total – and its not like there was a discount upfront.

The significant majority of Australian Prime, A Grade and even B Grade retail space is owned through large investment funds and managed or owned by major landlords such as Westfield, GPT/Lend Lease and Colonial.

As blue-chip investment grade vehicles there is a need to ensure income from these funds grows so that investors in the funds achieve the kind of returns they expect. The CPI benchmark becomes a minimum for the fund such that the above this threshold ‘real’ returns are delivered – better than the increase in the cost of money.

The linking of CPI to retail rents is particularly flawed for the retailer as an increase in prices (wholesale and retail) most often has an inverse relationship with the performance on the shop floor – it costs more to buy and more to sell so while GP erodes consumer demand slows also because it costs more. So a larger increase in occupancy cost is basically a triple whammy for a retail business.

So with each week seemingly forcing another retailer into administration it should be frankly terrifying that today the retiring Reserve Bank board member Mr Graham Kraehe has highlighted inflation as “more of an issue”, suggesting that the introduction of the Federal Government’s Carbon Tax was “almost certainly understated”.

With the Government’s current estimates to be 0.9% then could we see an impact of 1.5% or 2.0%, on top of the board’s 24 month predicted limit of 3.0%?

What would the impact of 4.5% be on every CPI indexed retail lease in Australia? With retail sales flat and external influences on revenue like online sales and on costs, such as flexible IR regulations, we are seeing a nightmare scenario for retailers. But Wayne Swan tells retailers at COSBOA that its their fault and the Carbon Tax will be good for them.

What can you do about your Australian retail leases?

1. Don’t accept CPI as the benchmark for rental increases – there is no law to say you can’t
2. Renegotiate with your landlord – its that or a vacancy and release scenario
3. If you do have a CPI indexed review always make sure the right Index is used

A retail lease is the fundamental contract that underpins a retailer’s entire revenue. There can be tens, hundreds or even thousands, and without them there is no business, no sales and no profit.

It is also true that in most cases the annual cost of this contract is the second largest expense in a retailer’s Gross Profit, behind wages – equating to as much as 20% of total sales.

Given the criticality and the large expense of retail leases you might expect it to be a significant operational area in a retail business and that the investment in workforce and systems to manage retail leases would be commensurate.

However, in Australia and New Zealand this is rarely the case. Why? Well in working with retailers for nearly nineteen years across Asia Pacific and North America the most common reason I see for under-investment in the management of real estate is simply “not knowing what you don’t know”.

As we start a new year with a challenging trading environment, pressure on wages, threats from online and International chain competitors leading retailers are now more than even seeking productivity gains, strategic advantage and cost reduction. The answer, at least in part, may well be right at the shopfront.

Here are my Top 5 tips on what to do to manage leases better in 2012:

Fully Abstract Your Leases

Lease Abstraction involves reviewing, interpreting, summarizing and documenting lease terms and clauses. It is a highly professional skill and commonly left to do very poorly by in experienced people, causing significant problems.

Most retailers will abstract basic lease dates and term, occupancy charges, reviews, guarantees and incentives into a one page, colour coded Excel spreadsheet. A full lease abstraction however would include summaries or references to key clauses including make-good, outgoings, notices and those with commercial impact.

The most common errors I see retailers make in abstracting leases involve:
- Incorrect CPI Types and calculations
- Incorrect periods and calculations of Percentage Rent
- Notification Dates for Lease Options

Here are two examples of how profit can leak out of your business through poor lease abstracting.

Example A – Using the wrong CPI

In Australia there are generally eight CPI types used in retail leases, in NZ there is one and in North America there are dozens. There are also numerous calculation methods used including straight CPI, CPI on a base year, CPI + %, CPI x % and CPI Avg.

It’s a lot to manage and so when reconciling the latest rent review notice from the Landlord and your tenancy spreadsheet review type simply says “CPI Increase” then you you’ve got some work to do to identify exactly how it’s calculated.

I had one Client who had been paying a CPI increase every year based on the local Darwin All Groups but their lease actually said to use the Weighted Capital City Average. On a rental of nearly $200,000 the extra they had paid over the lease term was nearly $10,000. Replicate this mistake across 100 stores and that’s $1,000,000 ‘out the door.’

Example B – Using the wrong Percentage Rent Calculation

Within a Retail Lease it is plausible to have three or four unique lease calculation periods. A Lease Year for reviewing Base Rent; a Calendar Year for reviewing Promotions or Outgoings, and a Financial Year for calculating Percentage Rent Charges.

A costly scenario I’ve seen was when a Client received Percentage Rent invoice for nearly $20,000. When they compared the Landlord’s calculation with their system they found the Landlord had used a sales threshold based on the base rent at the beginning of the year not the total rent paid over the year, resulting in an $15,000 over-charge for that one year. Ouch!

Desktop Audits on CAMS/Outgoings

If you see Outgoings (CAMS) as a fixed charge that can’t be negotiated then think again. You should consider Outgoings more like a tax and know that you have every right to question how the Landlord is spending “your money”. Using a simple desktop audit process you’ll almost always find some savings.

There are three principle areas you should focus on in your audit:
1. What types of Charges are included in the Outgoings Budget under your Lease?
2. Are the expenses incurred by the Landlord/Agent operational or capital by nature?
3. Have the correct areas been used for calculating your pro-rata share?

In your draft lease there will be an Outgoings clause trying to cover off every imaginable expense item. Review these items and negotiate out those that your business shouldn’t pay. An obvious one would be for a fashion retailer not to pay for cleaning grease traps or supplying 3-phase power. Less obvious might be mall cleaning if you are located in an externally facing tenancy.

In your review of Landlord Outgoings reconciliations, start with the ‘low hanging fruit’ and choose the stores in centres with the largest budgets or the less sophisticated Landlords. Remember, these budgets are not rental and MUST, by common law, be justified to all who contribute.

The Landlord’s audit statement of outgoings for the previous year will simply confirm that what the Landlord said it spent it did. Go back three years look for large fluctuations in the annual spend on each line item. That will be a flag to look further.

As an example, Security is up 30% in one year OR Repairs and Maintenance is down 20% in another. FLAG! You read the latest Centre Newsletter which boasts about the new Security desk that was opened. Was the build on this new facility listed as a capital expense or was it included in the Security line item or in R & M and you only noticed when it went back down a year later.

Finally, triple check the Landlords calculations of pro-rata share. Even a simple administrative mistake at their end can cost you thousands. Is it the same as last year? Was there new retail space created in the car park? Has all office space been excluded or just the leased component?

So in summary, negotiate your outgoings clause, do a desktop audit every three years and check the Landlord’s calculations. Also, be sure to talk to your mall neighbours and check if outgoings are being calculated consistently for all!

Benchmark To Compete

One of the greatest business assets you have is the intelligence you have stored within your own business information. How will your next store perform? What rental should we pay? The questions can be answered most simply by what’s going on right now in your portfolio.

All retailers compare comp sales, unit sales and gross profit/margin. They are basic fundamentals of retailing. Most retailers look at Occupancy Cost as a percentage of Annual Sales and then Annual Sales on a rate per square meter. Why? Is this enough?

A 25% Occ. Cost on $5M sales generates an entirely different profit to 25% on $500K, as does Sales Productivity of $5,000/m² for a 20m² kiosk versus a 500m² fashion shop. A low Percentage Occ. Cost or a high Sales Productivity may mean with more floor space you would do more sales.

So when doing your internal Annual or Quarterly portfolio review detailed benchmark analysis can lead you to unlocking organic sales simply by having the right information and intelligence at your fingertips?

Then, when negotiating new lease deals or undertaking portfolio reviews with Landlords if you want to achieve the best deal you need to be able to prove your case objectively. The Landlord will have done their benchmark analysis for their portfolio and if you haven’t done yours negotiating effectively will be a challenge.

Keep Information Relevant and Accessible

Managing a store leasehold portfolio for a retail business involves the administration of a significant volume of information. Regulations, legislation, contractual obligations, contact details, projects, financials – the list is virtually endless.

Like almost no other department the real estate team becomes significant a ‘gatekeeper’ of information for the business, relied and demanded upon by many from the CEO to the Store Manager. To many times I have seen the volume and depth of information requests create a major bottleneck, causing massive process inefficiencies, stress and leading to painful errors.

Due to the volume, complexity and criticality of information for a store portfolio it must be maintained accurately so people can trust it. Also important is for information to be accessible when the business needs it. Whether it’s as simple as a contact number or as complex as a Financial Forecast even accurate information is worthless if it cannot be accessed on demand.

So, always ensure that your real estate portfolio information is kept up to date, at least on a weekly basis, that is securely controlled to avoid inadvertent or malicious errors and that the people in the business who need to access the information can do so whenever they need to.

Systemize and Invest

Whether you are National chain retailer or a small franchise group you need to systemize and invest in your Real Estate team if you want them to deliver you results. Even the smartest people need the skills, training, tools and applications to do the best job.

Why not do a quick comparison between how much your company is investing in its real estate people, training and systems compared to other departments. Now overlay the total cost and importance of real estate and make the call – are you underinvesting in this team?

Higher productivity and greater efficiencies, more-with-less are key objectives in a low growth highly competitive market as exists in retail right now.

An experienced and properly resourced real estate team can deliver your business hard cost savings, strategic and decision support as well as the productivity and efficiency gains.

So remember to make sure you employ experienced resources, accurately capture all of the information you need, keep up to date, make it accessible, do your own analysis, negotiate objectively, question the Landlord and invest in your real estate team for smarter lease management in 2012.

How long will it take?

Whilst open to vehement defence, most of all by the participants, it might be hard to argue that a team of professional services experts could meet a project deadline, without the influence of their client.

That is NOT to say that intentional dawdling is at play, nor could you suggest an ‘timesheet harvesting’ at play. No, primarily the professional services experts are there to make sure it is absolutely 100% correct, whilst the client is keenest to drive a result – “We have a deadline you know!”

So what pray tell can you expect when the professional services experts are left unsupervised or without ‘Client X’ to keep the timesheets in check?

1. Absolute attention to detail;
2. Zero appetite for disruptive behavior; and
3. Extensive Consultation

This appears to be exactly what we are seeing with the combined FASB/IASB ‘Lease Accounting Standards’ project, following the latest announcement about further and significant delays in its implementation.

I have said for some time that for retailers the move from operating to capital lease accounting for real estate will be a bigger project than what was put in place for protection against the anti-climax of all time, Y2K.

Some, particularly in IT and Finance, would argue that in fact the anti-climax of it all was its success – that so much work had been done to prepare and protect that the non-event in terms of interruption was the justification. Perhaps but I doubt it.

Once implemented the new Capital Lease changes proposed by FASB and IASB will require any retailer with tens, hundreds or thousands of real estate leases and professional investment or lending facilities to transition tax and guidance reporting to the new standard.

Administratively it could be thousands of hours of work. Financially it could cost tens or hundreds of thousands of dollars. Markets will want comfort from Audit & Risk that corporations are on top of it.  Guidance on earnings and balance sheets may well be spun up or down.

Whilst day to day retailing is not impacted, like the threat of Y2K presented, the financial cost could be similar and the corporate and financial risks are greater.

It appears that these considerations are somewhat behind the decision by FASB/IASB to reissue a new Exposure Draft, delaying implementation for up to 4 years.

With discussion having commenced in March 2007 and the expectation of clarity by end 2011 with transition to commence in 2013 the project was already set to outlast two Presidential Elections – it appears that now it will see three and be near on a decade in total.

As with previous changes the key element of the latest efforts is to ensure that corporations fully report and account for their real estate costs so that financial stakeholders are able to presented with a more accurate and inclusive statement of costs and liabilities.

As with any regulatory change there will be costs and pain to implement, no matter when. As ultimately the outcome is targeted for the benefit of the ‘customer’ why to their detriment is this being delayed by FASB/IASB.

Not to mention the confusion and cost that this stop/start approach is costing business. Certainty is critical in this area and I fear we are perhaps seeing the result of too many consultants and not enough leaders. Are the inmates taking over the asylum?

I would like to recommend to you an update document prepared on the latest changes, written by Bill Bosco, a fellow Member of the National Retail Tenants Association in the United States. It is a far more detailed and less emotive piece than I could write and a very worthwhile contribution for you and your CFO to review.

Paper: Lease Accounting Project Update and Commentary (11/29/11)

That’s actually the detail on a set of minutes I recently saw from a retailer’s Real Estate Meeting with regard to the upcoming changes to FAS 13 / IAS 17 / CICA 3065 – the lease accounting changes that will result from treating real estate leases as Capital and not Operating leases.

In July 2006 the Financial Accounting Standards Board (FASB) announced an agenda to look at changes to the accounting treatment of leases. In coordination with The International Accounting Standards Board (IASB) there would be a move towards aligning accounting standards in this area.

In March 2009 both boards releases for comment from the market a discussion paper on these matters – Leases: Preliminary Views

Then in August 2010 the boards released the Exposure Draft on leases and gave an extensive period for responses and comment until December 2010.

During this period 15 workshops were held in in Brazil, Toronto, London, Norwalk (CT), Seoul, Tokyo and Melbourne.

From the end of this period and through to early 2011 a series of public roundtables were held in London, Hong Kong, Chicago (IL) and Norwalk (CT).

Now, in July 2011 both Boards have agreed to rexpose the revised proposals the new lease standards and released this statement MEDIA RELEASE

Now while I don’t profess in any way to be a qualified accountant nor provide accounting advice the R & D that we have undertaken to develop new tools in www.leaseeagle.com to meet these coming changes has been based on work undertaken with WHK Accountants.

Your CFO, or if are in fact in that role, should be familiar with these changes now in preparation for their implementation. More detail is available at the project update pages for the FASB and the IASB

I was, and still am, extremely skeptical of the push for a National Lease Register as the support resource for retailers in negotiating ‘market deals’ with major Landlords.

Landlords already utilize auxiliary documentation to reflect incentives – which would not be included in the register, any sales based rebates or rental claw-backs could not be tracked and the exposure of such commercial sensitivities may well see Landlord’s less willing to ‘deal’.

The result being that such a register would potentially form a false standardization of rental, only ever support face rents, not reflect incentive levels and claw-backs and disadvantage tenants who are doing good deals.

I am also not sure that restricting the Landlord’s ability to collect sales data from tenants is the ‘silver bullet solution’ it has been flagged to be. In fact reducing the amount of information a Landlord has on the performance of a shopping centre to offer incoming tenants would be detrimental.

Moreover, in every market, Landlord’s collect sales data as part of Percentage Rent, Overage Rent, Rebate and Kick-out clauses. To reverse this legitimate commercial approach through legislation would not be practical nor, again, always in the best interests of the Tenant.

However I would be pushing for restricting a Landlord to only be able to collect sales data on an annual basis, rather than monthly. It is an administrative nightmare, and forms little value for anyone but the Landlord.

No, rather than these approaches, I am a strong advocate for Landlord disclosure provisions to be significantly increased beyond what is frankly the rubbish that is reported under legislation today.

Retailers make multi-million dollar decisions when they take on a lease in a centre – occupancy, fit out, stock, staffing and marketing would easily equate to $2.5M plus for an average chain retailer over a five to six year lease. And on what information are these decisions based?

Legally, things like the number of car parks, any plans for redevelopment, the number of retailers, food court seating and a series of other perfectly useless information that any savvy retailer would be able to derive for themselves.

Informally, they will be provided turnover ranges for major tenants, counts for foot traffic, centre sales and perhaps some trading numbers for the retailer’s category.

As a result of the failure of the Trade Practices Act (in Australia Section 51A & C) and other consumer styled laws to be more than mildly useful in helping drive honest disclosure the totality of this informal information will come with a YCS (you can’t sue) statement.
So in effect the very legislation designed to assist retailers is the same law which is preventing complete, valuable and honest disclosure.

As generally large companies, often listed multi-national, Landlords should be required to provide much more relevant and significantly valuable information to prospect and sitting tenants and BE HELD TO ACCOUNT FOR ITS ACCURACY.

The idea that a 22 yr old leasing agent can hold all of this information at their whim to a tenant spending millions of dollars in that centre is outrageous and highlights again the inequity and imbalance that exits in the relationship between Mall Landlord and Mall Tenant.

Monthly foot traffic numbers, door counts, sales by category, monthly and yearly comparable sales, sales productivity, investment levels, number of tenants terminated, number of non-renewals, number of relocations, expiry profile, annual percentage increases in rental, outgoings (CAMs), marketing and so on. THIS, is valuable information!

None of it threatens commercial privilege, all of it is important in making the right site selection decision and ALL OF IT is recorded today by every major Landlord in the world and virtually never disclosed formally or without prejudice so as not to threaten a misrepresentation action by a Tenant.

These Landlords are billion dollar companies, their systems are some of the best in the world, their people are some of the most highly trained and experienced people in their industry yet there is no holding them to account over details about their investments that they would consider basic.

To protect the Landlord’s from ‘time-wasters’ the provision of this information could be provided under a formal NDA as part of a 14 day exclusive cooling off period, allowing the Tenant to undertake some final due diligence at no risk before entering into formal lease execution.

At that point, if the information was of sufficient concern the Tenant can retract any offer and should they still proceed then that information is then subject to all of the normal business transaction provisions existing under ASIC/SEC, ASX, NYSE, TPA, Consumer Law and standard contractual and business law.

Better and more transparent disclosure is the key to leveling the playing field for retailers in mall negotiations, not creating false benchmarks for the lowest common denominator. And the disclosure of sales has advantages, like other forms of performance data.

And at the end of the day, a retailer, you can just say no to the deal. You might lose a poorly trading shop or two but at least you’ll be serious.

For a multi-store retailing business operations are, by its very nature, distributed across multiple locations and involve numerous individuals.

The fragmentation of a retailer’s information under this distributed model is one of the greatest businesses risks they will face.

So much time and money is invested by retailers into improving business functions yet the criticality of being able to find and manage information across the business is often left to individuals to chance it with tools like Excel^®.

Whilst one of the most commonly used tools in business the humble spreadsheet is not an adequate information management tool and eventually leads businesses into kaos!

Smarter retailers are experiencing the financial gains and improved efficiencies that come from a single information management source across their store portfolios.

So what are some of the benefits in a dedicated information management solution?

1. Secure collaboration between staff and departments across the entire business
2. Automated email alerts for critical dates like lease expiries, option exercise periods, rent reviews, kick-outs, insurance renewals, incentive payments and
3. Improved data security, business compliance and governance standards
4. Interactive reporting and charting of portfolio and performance data
5. Single data source with accessibility anywhere and anytime

Smarter retailer real estate means – saving money on occupancy costs, investing more time in strategy than administration and analysing the performance of their network. So when you are next in kaos updating your spreadsheet or preparing for the next Landlord portfolio review don’t hide under the cone of silence, get smart and get a dedicated retail tenant information system.

Pollution is described at www.dictionary.com as the introduction of harmful substances or products into the environment. There is no doubt that the Carbon Tax as an economic device is a “harmful substance being introduced into the environment.” The Carbon Tax is just economic pollution full stop.

It’s toxicity is defined by the fact that it will tax Australian’s at a level more than 400 times the level of Europeans and ultimately be nearly 18 times larger and more expensive on total revenue basis.

So how will it affect Retailers? Largely they do not emit a lot of carbon directly however when you look at their inputs you have obvious ones like:

• Transportation costs
• Lighting
• Electricity
• Air-conditioning

Will they receive compensation? Even the Government says it won’t be enough!

Before we even answer those simple questions let’s consider the impact of a Carbon Tax on Mall Retailers, or as I am sad to say – “the triple CO2 whammy”.

Other than the cost of stock, the largest cost for ‘non-food’ retailers, the two major costs a retailer incurs are Wages and Occupancy (i.e. Rent, CAMS/Outgoings, Promotion Levies).

So over and above the cost of stock and smaller consumable costs increasing, for the reasons highlighted above, what might the impact be on Wages and Occupancy?

Well firstly, it is acknowledged by all that there will be a spike in the CPI upon the introduction of the Carbon Tax, and then continued pressure from the ‘slow burn’ effect of input costs for businesses rising from the passing on of costs from manufacturer, to distributor to wholesaler, through the channel and on to the retailer.

The Government says there will be some compensation for low-income families, pensioners and fixed income groups. For most retail staff, who are generally not in these groups, the Carbon Tax driven increase in prices will therefore not be compensated.

Retailers, the largest employer group in the country, will be the ones required to do the compensating as employees backed by Labor Party aligned trade unions bash down the door for increased wages.

So whilst it will be understandable when they do the real question is why should these businesses, already struggling as it is, fix the Government’s problem of creating real wage equilibrium? Why? There is isn’t a good reason obviously.

Now occupancy, how can that be impacted by a Carbon Tax? Bricks and mortar, well that doesn’t produce any emissions! True, but the cost of occupancy could be the single largest impact on retailers, and in particularly Mall and Shopping Center retailers.

Here’s how:

1. Greater rental increases through higher CPI based increases;
2. Increased CAMs/Outgoings budgets as a result of higher Landlord operating costs – HVAC, Security, Cleaning, Electricity, Wages etc; and
3. Increased asking rents as Landlords seek to compensate for operating costs in point 2 which are non-recoverable under Major/Anchor tenant leases.

So how much extra could it cost?

Let’s consider a 200 store retail chain which on average has stores of 150sqm/1,550sqft, five year leases and base rentals of $200,000 per annum.

Of the 200 stores in their portfolio half of them on average might have a rental increase with a CPI component. That’s an annual rental bill of $20m at risk of a CPI blow-out. Even a 1/4 percent (5% VAR) increase will increase occupancy by $50,000 per annum.

Let’s then assume average CAMs/Outgoings charges are $30,000 per annum so that’s a $4,000,000 annual bill. The same 5% increase from Carbon Tax would then cost an extra $200,000 per annum.

Finally, and it isn’t easy to assess I admit, but let’s assess at least what the impact to the Landlord might be on non-recoveries from Major/Anchor Tenants within the chain retailers portfolio.

We know there are 200 sites and so let’s assume average size of Majors/Anchors in each center/mall is 30,000sqm/320,000sqft – perhaps a bit on the light side. Using the same outgoings rate above that’s a shortfall in operating costs of $4M annually. So the same 5% increase from the Carbon Tax will increase the Landlord’s shortfall by $200,000 PER SITE.

Given the size of the centers/malls our tenant is in we could say there would be perhaps 200 other specialty tenants so the Landlord will have to get back $1,000 per annum from each new lease deal – not much you say.

Well, here’s the result. Over the first five years of the Carbon Tax, which is due to begin next July, our retailer will pay an extra $1,850,000 in occupancy costs. That’s a staggering number for a tax which is supposed to only be paid by “400 of the top polluters”.

So, back to the original question, will there be sufficient compensation? Well unless the government is going to start writing out seven figure cheques to Aussie retail businesses – or any foreign retailer with stores in Australia the answer will be not nearly enough.

The Carbon Tax is simply just “Economic Pollution for Mall Retailers” and could be the final straw that breaks the back of retailing and will result in the loss of hundreds, perhaps thousands of Australian jobs.