Building owners that lease their property using a turnover rent (or “percentage rent”) structure to retailers are facing an important challenge relative to capturing revenue from online sales.
Turnover rent lease arrangements entail a base rent payment to which is added a percentage of a tenant’s sales, or the higher amount between a base rent and a sales percentage. This structure allows landlords and tenants to share in a business’ risks and rewards. In Canada, there is no legislation or formal guidelines regarding the calculation or inclusion of online sales with regards to the computation of a turnover rent structure.
Issues can arise with turnover rent from the ominchannel environment. For example, tenants’ clients and customers may browse stores and peruse inventory, only to leave the physical store with a list of items to purchase online from that store’s website. There may be price differences between online and in-store purchases, some stores’ discount coupons apply only to online sales or only to in-store sales, and many stores conveniently deliver inventory directly to customers’ doors free of shipping costs.
The issues experienced by landlords with turnover rent lease clauses in the context of online sales can be twofold. First, online sales often do not count towards the sales percentage according to standard turnover rent lease provisions. As a result, landlords can lose the percentage of rent that they would have otherwise received had the purchase been made in the store. The second issue manifests itself when a customer returns merchandise purchased online to a physical store for a refund. In such instances, the landlord is not only deprived of the corresponding percentage of profit, but in fact loses profit, as the returned product counts as a debit (which reduces the turnover rent amount) despite having never received the credit for an in-store sale.
With e-commerce on the rise, this issue will become increasingly relevant for both landlords and tenants. As such, parties to retail leases should examine the turnover rent provisions in their leases. Some ways to avoid the potential problems associated with online sales include adapting the language of turnover rent lease provisions accordingly, for example to include provisions that allocate income from online purchases to physical stores, and to draft the definitions of “turnover” and “sales” to clarify whether online sales are included as turnover for the purposes of the lease.
Particular attention should also be paid to tenants’ disclosure obligations relative to online sales data and the related accounting information. Landlords should consider disclosure sufficient to verify the accuracy of the turnover generated online, and retailers should ensure they are able to provide this disclosure.
As online sales become increasingly relevant, prudent landlords and retailers should examine the impact of turnover rent structures to understand how to best negotiate and structure them to respond to a changing retail landscape.