Published August 2004

When managing retail space, trend watching is key

He walked into the office with a sense of purpose I hadn’t seen before. Stan was always good about paying his rent on time — even during the off-season months when sales were predictably slow for his modestly appointed Everett-area restaurant. All of 900 square feet, it occupied a corner space within a multi-tenant complex with what could be best described as an awkward layout.

A self-described “hillbilly” from east Kentucky, Stan wound up buying the restaurant some years after retiring from the Army. Except for adding a Southern delicacy or two to the menu, he carried the hamburger theme for over a decade of his ownership.

I met his wife and kids while I managed the property because at one time or another all had worked there. I knew the books, too, because he was on a percentage rent retail lease and, as is common in these leases, there was a sales level per quarter over which he would have to pay an additional rent.

He’d never come close to that sales level, though, suffering through off-season challenges and “the dad-gum health food craze” that seemed to cut into his Southern-rooted deep-fry approach to cuisine in a decidedly health-conscience Pacific Northwest market.

I greeted him at the front desk personally this time and gave him a moment to put out his non-filtered cigarette before extending my hand. He never smiled when he paid rent. No one ever hands the property manager rent with a smile.

Today was different, though. Stan ran the numbers and determined that he had just cracked the sales break point where, in addition to his base rent, he paid an additional $67 for that quarter.

It was clear that this was a big moment for him. He smiled. He had decided, apparently, that paying on his percentage rent was a goal line over which he would one day cross, and today he was scoring a touchdown of sorts. He paid me more rent, but he was validating his success while doing it. We shared in that success.

The retail property business is full of such stories. From the mom-and-pop restaurant to Fortune 500 anchor tenants, retail properties are unique. Success for the investor or manager of retail properties requires knowledge of the nuances of a family business and the sophisticated nature of national franchises.

One has to know the difference between gray water and black water, parking ratios for a chiropractor and a convenience store, and signage requirements for greeting card shops or men’s clothing stores.

At the end of the day, a retail development’s success is determined by the security of the income stream from each of these varied business models, whether the rent check originates with a parent company in Los Angeles or begins and ends with the cash register on site. It requires, to some degree, that the investor and manager understand the retail business and, in particular, the retail businesses of his tenants.

What is the level of sales per square foot that a particular tenant must achieve to be able to comfortably pay the rent? What percentage of its total gross revenue ought a healthy retail business of this type pay? Are there other businesses within the same center with competing business lines? Are there some with exclusive rights over certain products that will limit product sales for others? Often, the answers to these questions can make or break the investment.

It serves the investor’s interest, therefore, to lease space to healthy businesses with healthy prospects for the future. Dealing with delinquent rent because one of these issues was overlooked is unpleasant enough. Watching a tenant’s business go under because they failed to build a solid business plan is worse.

But the retail business is fickle. Just when the retailer and, by extension, the property owner or manager think they have their market cornered, it changes. Restaurateurs know this very well. They’re changing and poking their menus all the time. What worked today may not work tomorrow.

Developers try to respond to the fickle nature of the retail world with changes that start from the presentation of the product right through to the store shelves. After all, a retail customer really doesn’t care who owns the mall, who owns the parking lot and who owns the business. They just want to buy shoes. So it’s the symbiotic relationship among developer/landlord, tenant and consumer that has to work together. Retailers will tell property managers and developers what’s working and what isn’t with their rent dollars, so it’s not all a guessing game.

A strong trend today, for example, is the shift in shopping malls from the large indoor type to a more outdoor, pedestrian-friendly layout in some markets. Alderwood is undergoing a metamorphosis along these lines right now. With a change in ownership at the Everett Mall, there’s talk that a new look could transform the shopping experience there as well.

Opening up malls in this way creates a different experience, goes the theory, than the traditional indoor mall that has prevailed for the past 30 years. Will it work? Who knows? But developers are essentially responding to their tenants and what they think will ring their cash registers by trying this new approach to the retail shopping experience.

The basics of screening tenants, structuring sound leases, working with tenant mixes, balancing parking requirements, securing adequate signage, etc. are all “have tos” for the successful retail complex. It’s being able to deal with industry trends that can be the difference-maker any more. And those trends manifest in many forms.

The reality, of course, is that we can’t always be perfect and we can’t always attract perfect tenants into our retail centers. Property managers and investors have a budget to hit and an occupancy level to achieve. The retail market can be strong in some sectors and anemic in others at the same time. So when retail tenants fail to fit the ideal category, property owners and managers need to make absolutely sure nothing in their control contributes to the risk already inherent in these businesses.

Making bad decisions with the parking demand for tenants, for example, can create problems for even the strongest retailers. Nothing handicaps a business like the inability of customers to get to them.

Retail properties, perhaps more than any other product type, require that the owner or property manager get to know their tenants and understand their businesses in a unique way. If you’re considering investing in a retail property, keep in mind that you may need to be a little bit country for that self-described “hillbilly” restaurant owner and a little bit Wall Street for your national anchor.

Tom Hoban is CEO of Everett-based Coast Real Estate Services, a property management and real estate advisory company specializing in multi-family and commercial investment properties. He can be contacted by phone at 425-339-3638 or send e-mail to tomhoban@coastmgt.com.

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