Performance anxiety

 

propertyReal estate is one of the most misunderstood business functions for a retail chain.

Fundamentally it underpins your entire trading operations, will be your second largest expense after wages, and physically represents your brand statement to consumers.

So why do so many retail businesses misunderstand its importance?

The first step in answering this question is to understand what exactly is ‘retailer real estate’, then we can look at how to measure it and determine what success looks like for your business.

Retailer real estate primarily includes five key disciplines – negotiation/broking, lease accounting, lease administration, construction, and legal.

Even a small chain (less than 50 stores) should have resources in these areas, even as consultants. Medium and larger retailers should have at least one person in each of these five roles within the real estate department.

The majority of small and medium sized retailers I’ve seen don’t understand the value of these roles or sometimes even the need for a department at all. They think it costs too much, but without this expertise it’s costing them more than they even know.

Let’s take a look at this in some detail.

In order to quantify the value, we need to formulate a method for measuring real estate performance, and for most retailers this is where the challenge begins. I recommend the following areas of real estate performance management.

Occupancy benchmarking

Many retailers confuse the cost of occupancy with what they’re being charged, however, the two are not entirely the same.

Occupancy cost calculations should only include charges based directly on the premises, not on consumption. Commonly, in a shopping centre, this would include base rent, outgoings, statutory charges and a promotion levy. Charges like electricity, air conditioning and security are consumption based and thus an operational expense.

I would also argue that storage rent and extended trade are operational costs as they often fluctuate on performance and are as a result, not under the control of the real estate team.

Having established a measure of occupancy, let’s look at what analysis should be undertaken. It is common to measure occupancy cost as a snapshot figure, i.e. the cost today, the cost per square metre, or costs versus previous.

To enable a comparison across the portfolio, occupancy cost should be represented as a ratio of turnover performance, calculated as a percentage of the sales over the previous year of trade (i.e. Moving Annual Turnover).

Creating benchmarks is the best way to measure your real estate team’s management of occupancy. Based on dollar per sqm and Moving Annual Turnover (MAT) percentage, an occupancy cost report should highlight an acceptable performance range and the relative performance of each store.

By further analysing these benchmark reports, more detailed real estate telemetry can then be delivered, built to highlight and track occupancy performance by inputs such as landlord, location type, region, expiry profile and sales volume.

Values can vary greatly between different retail business models, however the method of analysis is consistent.

Tenancy productivity

In addition to analysing the affordability of real estate through occupancy cost benchmarking, measuring the productiveness of your floor space is just as important.

Through inferior design, mismanaged construction, and poorly negotiated agreements a retail chain can be overpaying for excessive space. In reverse, if a retailer has too little floor space store performance will be constrained.

The best measurement for tenancy productivity is MAT divided by the trading area of the store – commonly referred to as sales/sqm.

Similar to occupancy cost you should be able to report on what an optimum productivity level is for your retailing business and measure the relative performance of each store within the portfolio.

A productivity level below optimal will often identify a store which is an under trader and potentially could benefit from a reduction in floor space, whereas a high level of productivity commonly results from an over trader where either there is not enough floor space and sales are being lost, or where an additional site opportunity may exist.

Shopping centre landlords actively track the productivity of your store and will understandably use it to their advantage in negotiations – you should be ahead of the game in measuring and analysing real estate performance this way.

Transaction analysis

A strong real estate team will add significant value in negotiating lease deals and renewals. In addition to base rent, negotiation should be undertaken for other charges, lease incentives, fee reductions, and trading rebates.

Often the provisions of an agreement negotiated by your real estate team will have a significant impact on costs over the term of a lease.

If, say, a percentage rent clause is wound back or a rental rebate or kick out provision is included, then costs can be significantly reduced in both strong and weaker trading periods.

To ensure you measure the transaction value of your real estate team effectively you should not only analyse the upfront value of the deal in terms of base rent savings or incentives, but also the full impact of all commercial clauses over the lifetime of an agreement.

Tenure profiling

For a chain retailer, real estate underpins every offline sale it makes – without it there are no sales.

Each lease is finite and the expectation of renewal a luxury you should not assume.

Even small retail chains should have an active schedule of real estate agreements expiring or with an option in the next twelve months, even longer for free standing or strip locations. Negotiating a new lease with a month or two left is dealing in the red zone.

If your portfolio includes multiple sites with the same landlord it is also a smart tactic to have the complete picture of what else you could be negotiating at that time, so your expiry profiling should also be by landlord.

In assessing the performance of a real estate team, local or operational matters aside, triggers can be based on the number of expired leases, leases in the red zone (expiry period will vary by business) and the proportion of renewals completed early.

Outgoings reconciling

In terms of occupancy, outgoings are probably your largest cost next to base rent. Australia boasts some of the most expensively run shopping malls in the world and I strongly believe it’s due to the lack of questioning by specialty tenants.

Outgoings are a charge unlike other real estate charges. It is a recovery of expenses to operate a building based on the proportion you occupy of that building.

Throughout each budget period the size, composition, and costs of the centre will vary and your real estate team should know if the landlord’s reconciliation at year’s end is accurate for the entire year.

There are numerous examples in Australia and New Zealand of landlords inadvertently or otherwise including non-recoverable expenses or simply miscalculating a tenant’s proportion.

To measure your real estate team you should seek an annual audit of at least 10 per cent of outgoings statements in the portfolio, at a minimum. Using this schedule, over an average life cycle of a lease, one in two will have had an outgoings audit completed.

This story originally appeared in Inside Retail Magazine. The August/September issue, featuring exclusive coverage of the 2013 Westfield World Retail Study Tour is available now. For more information, click here.

Lee Trevena is CEO of LeaseEagle and has more than 20 years retail property management experience. He is based in Melbourne and can be contacted on 0407 711 622, via email at lee.trevena@leaseeagle.com or by visiting www.leaseeagle.com.

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