Andrew Zeck

  by Andrew Zeck
     Andrew Zeck is a consultant with Keystone Development Advisors and can be contacted at

January 1, 2010

 Lease Renegotiation

Rent rolls are crumbling faster than conventional wisdom would have suggested.  Lengthy lease terms, once highly sought for their security, are anything but.   Shopping Center owners (and buyers) used to run Income models based on lease expirations.   This is a reasonable when rents are rising.  New tenants replace expiring tenants at a higher rate…plug in lease up time, leasing fees, free rent and TI…presto!  Even in small downturns rent steps wouldn’t occur until respective lease end dates…plug in lease up time, slightly lower rent, leasing fees and TI…presto again.  Now owners are looking for the presto button.  Many are starring into the abyss.

In markets with large vacancy rates or large rent declines, shopping center owners are compelled to restructure leases, regardless of how much term is left.  Many observers don’t understand why.  The prudent shopping center owner isn’t sleeping well.  He knows why.

·         Rents may be cheaper across the street and tenants will move to cheaper (smaller?) space and need to commit to relo early.

·         Vacancies reduce consumer traffic in the shopping center causing tenants to fail.  Vacancy breeds vacancy.

·         Tenants complain / renegotiate when a neighboring tenant leaves causing a landslide of requests or threats.

·         Renew the tenant early in exchange for lower rent.  Keep the tenant and make the mortgage payment!

·         Numerous bankrupt tenants controlled by court trustees will reject leases unless rents are reduced.

·         “Sales are way down…unless you lower my rent, I will go bankrupt!”

·         Retailers are consolidating stores.   High rent = store closure candidate.

·         Lower tenant rents so they can remodel or advertise in order to increase sales and survive

·         Tenant may close store and operating covenants are impossible to enforce unless you can prove damages.

·         Lender pressure.  They would rather you lose equity than foreclose on a vacant center


The end result is that shopping center NOI’s are not stepping down in sync with infrequent lease end dates rather they are sliding down an immediate and steep slope.  In some instances, 50% of the leases are being restructured in the current year, regardless of when the leases actually mature.  Many of the most talented and displaced corporate acquisition and development professionals are now keenly advising tenants on processes and strategies for restructuring lease obligations.  Unfortunately tenants aren’t contacting landlords and making “blind threats” in every instance as the number of failed retailers and store closings is staggering.   Rest assured that the mark down on rents isn’t just on vacant spaces these days.


The shopping center owner should be prudent in the structure and terms of any concession or lease modification.  Understand each tenant’s challenges.  The best decision may be to modify 50% of the leases right away.  The best decision may be to not modify any.  Just make sure you objectively asses the market correctly as well as the tenants challenges and alternatives.   This may the most important time to be a “hands-on” owner.   Seek and reward advice if you need to.  Engage now and remember that denial or paralysis won’t calm the fears that keep you up at night.

August 1, 2009

Developer's Reality
In good times of sinking cap rates, the developer made HUGE profits in excess of what his initial pro-forma indicated.  The party got even better when the small shops rented at much higher rates than anticipated and lower vacancy was used in underwriting deals.  A deal that was expected to net $2M in 2000 might have actually resulted in a $8m profit when sold in 2007 after cap rates fell 2 points and rents increased 30%. 
In the “good ‘ol days” cap rate declines, increasing rents and lower vacancy made millionaires out of those with the wisdom or dumb luck of perfect timing.  Pretty soon the rich and jubilant development industry, spurred by greed, bid up land values and attracted more players until the fat windfalls became less, but retailer demand, low equity requirements and low interest rates kept the party going. 

Optimistic about the future, developers hoped that there was always potential for a repeat of windfall profits, but in the meantime they were still happy with multiple deals that netted $2M each, (a typical profit for a grocery anchored shopping center.)  Trust me when I tell you that this handsome profit is justifiable when one considers the myriad of risks and costs associated with running a development business.   Add in the equity requirement and a typical 3 year cycle and it doesn’t look that impressive any more.
Furthermore, profits are generally governed by the anchor tenant that typically approves the pro-forma and structures its rent to ensure that the developer does not make an obscene profit that is only possible with the long term commitment of the anchor tenant. 

Nonetheless, $2M with hope of future windfall was good enough for many.  Little did they know that they really needed to structure a deal with $5.5M of projected profit to ensure against the horrible storm they are battling now.
But surely you are still in the money as a developer with a pipeline of  “bread and butter” grocery anchored shopping center developments… right?  Wrong. 
Even these venerable real estate investments are getting bludgeoned, albeit less than other retail product.  Besides the increase in cap rates there are 3 other important elements that are sharpening the opposite edge of the blade right now… lower rental rates, higher vacancy, and lower out parcel values. 

Seemingly shallow cuts into the solid pro-formas for these shopping centers make their rock solid investment foundations seem like brittle chalk.  The truth is that Johnny Economy slapped the erasers together and returns have vanished in a cloud of dust. Cuts like a 1 point move in cap rate, a 20% reduction in small shop rent, a 5% increase in vacancy, and a 35% decrease in out parcel values seem hurtful but not disastrous when considered individually, but taken together these demerits drastically change the developer’s position. 
 A typical grocery anchored shopping center might have required a total investment of $15M equity of $3M and generated a profit of +/- $2M for the merchant developer.   Today, the developer that engaged in this project has lost all of his anticipated profit ($2M) and all of the cash equity ($3M).  To pour salt in the wounds, he needs to bring about half a million dollars of his own money to the closing.
Developer’s Investment Summary
Time Spent:  3 years
Soccer Games Missed:  18
Grey hair increase:  20%
Profit from hard work:  $0
Money Lost : $3,500,000
My Conclusion:  The older I get, the more willing I am to seek advice.  Not because I am falling behind the peloton of practitioners, but because I can learn so much from their mad paced pedaling. 
Staying at the head of the pack means I can hear the real wisdom in the breath of a figure ahead of me wearing the yellow jersey.  Never assume you have earned the yellow jersey because then you have fallen to the rear of the pack. 

The real estate development and investment industry is very precarious right now.  Losses are terrifying but discounts are enticing. 
You may be stuck in the race and pedaling faster than ever or maybe you are conserving strength for the next stage.  Regardless, I encourage you to ask for advice and listen carefully.

Author Bio

Author Bio

After receiving his MBA from Emory University in 1989, Andrew worked in corporate real estate for 13 years with Taco Bell, Starbucks, TGI Fridays, and Winn-Dixie in many major markets in the U.S.  He conducted site acquisition and development for several retail developers for 6 years and is currently providing development consulting services including lease restructuring for regional and national retailers.

He has 19 years of experience in site acquisition, contract negotiation, strategic analysis, leasing and practical development experience.  As a practitioner, he understands the nuances of real estate development and the benefits of informed problem solving.

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