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Put Up Your Dukes

Last year, a tenant exclusivity dispute that drew national attention was resolved only after a Superior Court judge heard testimony from a seasoned chef.

At issue: Did White City Shopping Center, LP, the owners of the 270,000-square-foot White City Shopping Center in Shrewsbury, Mass., violate a “sandwich exclusivity” provision in a lease with Panera Bread Co. when burrito slinger Qdoba Mexican Grill moved in to the property? Panera's management, wishing to avoid competition, argued that a burrito was a sandwich and that Qdoba should never have been allowed to join the tenant roster at White City.

To straighten out the matter, Worcester Judge Jeffrey A. Locke consulted Webster's dictionary — to no avail — before calling on local chef Christopher Schlesinger, who was able to convince Locke that a sandwich required “two pieces of bread” to make and a burrito — with its single tortilla — did not meet that definition.

Welcome to a new era in tenant disputes.

The White City example made for an easy punchline in newspapers, but the issue is no laughing matter for the retail real estate industry. Retailers of all stripes are demanding exclusivity clauses in leases for everything under the sun, including on products that might not be their core business (or in at least one case, ones the chain doesn't even sell) creating new tension between competing tenants and landlords.

An exclusivity clause is a covenant in a tenant's lease preventing the landlord from signing deals with a list of specified retailers. To be sure, in many cases exclusivity clauses are understandable. Home Depot won't want Lowe's in the same property. Small niche retailers, like gourmet popcorn shop Dale & Thomas, need exclusivity to protect against a second popcorn seller, argues Ivan L. Friedman, president and CEO of New York City-based Retail Consulting Services.

But of late, leasing pros have noted a marked uptick in tenants demanding exclusivity from stores that are not in the same merchandising category. For example, big box hardware stores often want to prohibit carpet sellers and stores that sell lawn furniture as well, according to John Delatour, managing director of operations for the Western United States with Regency Centers, a Jacksonville, Fla.-based retail REIT with 53 million square feet of space in its portfolio. And what happens if Dale & Thomas decides it wants to block a store that sells chocolates?

“The most problematic are those [cases] that cover products that make up only five to 10 percent of the retailer's business, but then means I can't make a deal with another 20,000-square-foot tenant,” says Delatour. He estimates that exclusivity clauses are sought in at least 60 percent of the company's lease negotiations. That's not a huge shift from the past, but the provisions are changing, he says.

Other examples include drugstore chains seeking exclusivity with regard to general merchandise stores because the latter now operate pharmacies (not to mention that drugstores themselves are selling more general merchandise). Meanwhile, Barnes & Noble, Borders and other large booksellers now request exclusivity against coffeehouses to prevent competition with in-store cafes.

At the heart of the matter is that many chains today fancy themselves as one-stop shops for all consumers' needs, says William A. Rowlands, chair of the real estate practice at Lang Michener LLP, a Toronto, Ontario-based law firm. That's a fine idea. But it means that chains you wouldn't think of as competitors are increasingly trying to bar each other from occupying space in centers where they have stores.

“This trend has put pressure on existing uses and exclusivity clauses and provides negotiating and drafting challenges for both landlords and tenants in new deals,” Rowlands wrote in his research paper, “What's the Use? Overlapping Real Estate Uses.”

And let's not forget the leverage big-box retailers, such as Barnes & Noble, Best Buy and Home Depot, wield. Those stores are among the handful of tenants with top-notch credit and those firms view exclusivity clauses as an inalienable right. That puts landlords between a rock and a hard place. You want those retailers in your center, but signing an overreaching exclusivity agreement takes leverage out of your hands when trying to round out the roster of tenants.

For example, Short Hills, N.J.-based Garden Commercial Properties had a national apparel retailer demand exclusive rights to operate a coffee bar within one of its shopping centers, even though the company does not operate coffee bars inside any of its stores, nor has it outlined plans to open any.

“To suggest to a landlord that they may evolve into something else and to want that exclusive today, we find unconscionable,” says Scott Loventhal, director of development with Garden Commercial.

Some owners and managers worry that in situations where multiple tenants have exclusivity clauses, it could end up hurting the value of the property by limiting the pool of potential new tenants, says Glen Rosenberg, vice president and general counsel with Menin Development Companies, Inc., a Palm Beach Gardens, Fla.-based firm that owns and manages 2.4 million square feet of retail space, with another 1.1 million square feet under development. “They are absolutely getting out of hand. For example, if Starbucks were to say that they wanted an exclusive on tea, coffee and breakfast food, how do you prevent a full-service restaurant on your property from serving coffee?”

Deal or no deal

Rather than walk away from the negotiating table, shopping center owners can employ a variety of tactics to get deals signed without jeopardizing the viability of their center.

If the property is one million square feet or larger, the landlord retains some leverage in being able to say no, says Lance Taylor, development manager with the Irving, Texas-based Archon Group, a full-service, real estate firm with 3.5 million square feet of retail projects in its portfolio.

“The larger the project, the harder it is to manage exclusivity demands,” he says.

Archon is employing a “no exclusives” policy at its Alamo Ranch development, a 960,000-square-foot shopping center in San Antonio, Texas. To make the policy palatable to tenants, the firm is promising not to sign up specific retailers. So while a store such as Barnes & Noble wouldn't be protected from every other bookseller, Archon would agree not to bring in a direct competitor, like Borders.

“Most retailers primarily want to eliminate their direct competition, so that would work,” says Friedman.

To date, 70 percent of Alamo Ranch is pre-leased and Archon has yet to receive any resistance from its tenants.

Landlords can also protect themselves by being specific in the language of the lease, according to Rosenberg. Instead of granting blanket exclusivity, they should define competing uses as narrowly as possible to have legal standing in case of a sandwich-versus-burrito-like dispute.

Menin, for example, recently signed an upscale baby and children's apparel retailer at its Palm Beach Gardens property. The owner granted the retailer the exclusivity it coveted, but the lease specifies the tenant as “upscale,” limiting the agreement to children's stores in the same high-end category.

Another tactic is to have leases with stipulations allowing other stores at the center can sell the same products — as long as those products don't exceed a certain percentage of the store's revenue, notes Rowlands.

In addition, it is a good idea to define exclusivity in terms of the tenant's business model, i.e., “a retail operation that has as its principle business the sale of coffee for consumption on the premises” for Starbucks, rather than its merchandise. That way, the supermarket and the donut shop will be able to sell coffee.

“You have to differentiate what the tenants are selling,” says Rosenberg. “That's what a crafty landlord does.”

A little give-and-take

Loventhal says that sometimes it's possible to engage in a bit of give-and-take with the tenants, asking for a continuing operation clause or a promise from the retailer not to sublet the space to another company in exchange for exclusivity rights.

Some chains might agree to work out a multistore lease agreement. “We [always] enter into lease negotiations with a mindset that we are going to grant no exclusives,” he says. “Unfortunately, the personalities of many major retailers prevent us from sticking with that [resolution]. The question is how narrow can we, as landlords, make those exclusives.”

When all else fails, owners can try to pit one retailer against another in their quest for space, threatening to bring in a Lowe's if a Home Depot insists on broad exclusivity. Since market share often takes precedence over the need for exclusivity, the retailers might soften their demands under pressure, says Friedman.

But, ultimately, retailers might realize that being located near one's competitors might not be a bad thing, says Jeff Green, owner of Jeff Green Partners, a Mill Valley, Calif.-based consulting firm. Among the examples he cites are women's apparel stores and restaurants. When stores in either of these categories are located within a well-known hub, their collective appeal brings in more traffic than they would have attracted in stand-alone locations. “People cross-shop constantly, so competition isn't necessarily bad,” notes Green.

This is the philosophy adopted by some of the United States' largest retailers, including Wal-Mart and Target.

Instead of exclusivity clauses, Delatour notes, those stores often demand tenants-in-common agreements because they want to locate in fully functional shopping centers. “They feel that more is better,” he says.

TAGS: News Leasing
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