In an effort to procure or retain retail tenants in a shopping center, many landlords are agreeing to base rent based entirely on gross sales from the tenant’s operations in the premises. This has raised an interesting problem concerning the availability of sales records and the timing of the payment of rent based upon such sales. In many cases, sales records are not available for 30 days after the month in which such sales take place. Thus the possibility exists that a landlord may have to wait three months between rent payments during the conversion process from fixed base rent to rent which is based only upon gross sales. For example, following such a modification or extension of the lease effective May 1, the landlord would be required to wait until July 1 for its next payment. If the landlord was receiving fixed base rent on the first day of every month, the landlord may have received a rent payment on April 1 and then, because May gross sales (the first month under the new rent structure) won’t be known until June 30, landlord would not receive any payment until at least July 1. Payments will thereafter lag two months through the balance of the percentage rent period. This could prove problematic if the tenant is a large portion of the landlord’s rental stream and the landlord is relying on rent payments to make its mortgage payments every month.
Using the example above, several alternatives are available to remedy this situation:
- Tenant can be required to make a rent payment on May 1, and each subsequent month, based upon gross sales for the period two months earlier (for example, March sales information would be available on April 30 and used to determine May rent) and a rent payment could be made on May 1 without any interruption of cash flow to the landlord. As an alternative, gross sales can be based upon the prior year’s sales during the same month (assuming this is not a new lease). The parties can then agree to a reconciliation of the relevant rental period on either a monthly basis (when actual sales are available) or annually.
- Tenant can be required to pay a minimum base rent every month, beginning on May 1, which minimum is based upon an estimate of gross sales for the month in question. The tenant may want to suggest a lower base to hedge against possible sales concerns, but even in this scenario, the landlord continues to get a steady flow of income. Again, the parties can reconcile monthly or annually after actual gross sales are determined.
- Tenant can be asked to “prepay” the last two months of the term upon executing the lease or amendment, or the last two months of the period when only percentage rent is payable (if fixed rent kicks in again at a later time), based again upon an estimate of gross sales for those two months. Landlord would therefore have current funds available for use when deposited, instead of being two months in arrears throughout the term. There would be a reconciliation after the end of the percentage rent only term, comparing actual rent calculated upon gross sales during the final two months of percentage rent to the prepayment amount previously paid.