Retail Lease Changes
As inflation in New Zealand hits levels of 30 years ago, it is affecting retail leases for both small and big landlord owned properties, as Sally Lindsay explains.
31 August 2022
Inflation has increased to 7.3 per cent and landlords want a corresponding rise in rent, but all retailers see is the cost of their products rising while they are still making the same margins.
Although inflation is the highest since 1990, it is still relatively modest when compared with the tumultuous 1980s when inflation hit 17.6 per cent, but it means lease agreements are having to be restructured, says Bayleys national director retail, Chris Beasleigh.
“Rents can’t keep going up as a percentage of turnover in the existing high inflationary environment. Hopefully, inflation is just spiking but nobody knows how long it will last.”
Beasleigh says the most common rental arrangements in recent years have been fixed-growth increases in the order of 2.5 per cent to 3 per cent, with market periodic reviews, or on renewal of the term.
This has given more certainty to both landlords and tenants. However, with consumer price index inflation (CPI) now more than 7 per cent, landlords are keen to push towards this level of rental increase.
As a result, market reviews during the term of the lease are becoming more common as landlords and tenants negotiate flexible arrangements.
“Over the past decades of low inflation, a fixed-cost increase was popular. However, market reviews are now coming back in greater favour to take account of where inflation is tracking in future during the term of a lease,” says Beasleigh.
His team is leasing several big retail developments and the leases now have a market rent review half way through the term. “We are having in-depth conversations with prospective tenants to explain the need for a market review. Landlords also have increasing costs and some will negotiate caps on the market rent review making it more palatable for tenants.
“A market review half way through the tenancy may not be achievable on a shorter-term lease, but if it’s a 10- year lease it offers the chance to make adjustments in case inflation gets out of control, or the opposite.
“We’ve been having discussions like that in the past three months as things change quickly,” Beasleigh says. This has been particularly apt as landlords and retail tenants are eager to open for business at several new big developments.
The developments include Pinehill Central on Auckland’s North Shore, East Coast Heights further north at Silverdale, Ormiston Town Centre in South Auckland, and Timaru Showgrounds in the South Island.
Beasleigh says anything in the suburbs or near a supermarket in growth areas is popular with developers, landlords and retailers.
“In Auckland around the edges of the city, and in high-spending places like Tauranga where there are more houses there is more retail spending. People working partly from home is still quite strong which boosts suburban shopping. Among the corporates, there is very much a three-day week with two days working from home.”
However, putting together deals is a different prospect from a few months ago thanks to Covid-related supply chain logjams and inflation.
“There’s a double whammy at the retail end because of rising fitout costs for the landlord and retailer plus delays in materials when parts come from overseas.
“The biggest thing is making sure everyone works out the numbers and the construction costs. Costs used to be largely determined by the land but now it’s the inflationary construction costs.”
The recent Cordell Construction Cost Index (CCCI), shows annual construction costs have risen to 7.7 per cent - the swiftest rise in the index for a decade.
Rapid recent cost growth has impacted a range of different trade categories. Metal prices continue to be affected with further rises to reinforcing, fixings and fittings. The cost of metal also has an impact on fencing, as well as the aluminium window industry, with substantial increases for those products, too.
The effect of higher timber costs also continues to flow through the market. There are knock-on effects into different industries, such as landscaping supplies and kitchen cabinetry. Imported products, particularly metal based items and tiles are rising, as well as cost hikes from consultancies, affecting preliminary costs.
Other pressures are at play in the industry, with labour availability and overheads impacting costs. Labour availability can also affect build times, and can leave builders more exposed to market changes and holding costs.
Already this year, 92 construction companies have been put into liquidation.
CoreLogic’s chief property economist Kelvin Davidson says he wouldn’t be surprised if cost pressures get worse in the next quarter or two, potentially pushing up towards double-digit growth, before they start to slow later as builders’ workloads potentially ease off next year.
In the retail sector developers have resorted to providing more of the shell fitout to save time, Beasleigh says.
“It used to take about three months for a handover to the landlord from building consents stage; now people are looking at five months for handover. During that time the retailer can’t open, so it’s been a major hurdle.
“We explain to landlords before they develop what they need to do to mitigate problems so everyone knows from the beginning of a project. Sometimes it’s made deals harder to put together. For example, franchisees need to go to the bank and go through the approvals, and things are changing rapidly all the time.”
Beasleigh says good designers and consultants make all the difference.
“There are a lot of boxes to tick and a lot of hurdles but we’re aware of them. We can tell the developer, landlord and retailers what’s happening and navigate them through it. We understand the difficulties and the issues and can give sound advice to get through it.”
The completion date for East Coast Heights neighbourhood centre at Silverdale adjacent to the soon-to-be-developed large format retail centre is mid-2024. Asking rentals are $450/m2 to $650/m2 with flexible-designed spaces available.
Retail units at Pinehill Central on Greville Road on Auckland’s North Shore have become available with asking rentals from $500/m2 to $670/m2 or by negotiation.
‘We are having in-depth conversations with prospective tenants to explain the need for a market review’ Chris Beasleigh
The master-planned Ormiston Town Centre in South Auckland is spread over 1700 hectares with a number of tenancy agreements already concluded.
Asking rentals at the Timaru Countdown and Bunnings-anchored mixed retail Showgrounds development are about $550/m2.
However, despite the difficulties faced by the construction industry, the major sectors of non-residential buildings still see a steady increase in the number of building consents, as reported by Statistics New Zealand