Turnover rent leases can offer welcome flexibility in a challenging retail market, but they also create real scope for dispute if the parties do not agree at the outset what income counts as turnover, how trading performance will be reported and how online sales will be treated.
As retailers continue to balance in-store and online sales channels, these arrangements are playing an increasingly important role in the retail property market by linking rent to trading performance, these arrangements can help landlords and tenants share both risk and reward, but the key commercial points should be settled before lease drafting begins.
This article considers turnover rent from a retail perspective, although we also regularly advise on turnover-based arrangements in the restaurant, café, bar and hotel sectors, where rent may be linked to room revenue, gross operating revenue or hybrid rental structures.
Under a turnover rent lease, all or part of the rent is linked to the tenant's turnover generated from the premises. While this can help align the interests of both parties, it also introduces a range of issues that require careful consideration from the outset.
Defining ‘turnover’
The definition of ‘turnover’ is the commercial core of any turnover rent lease. Seemingly minor drafting points can materially affect rental liability over the life of the lease, so key inclusions, exclusions and calculation mechanics should be agreed at heads of terms stage where possible.
A clear definition can reduce reporting difficulties, unexpected rental liabilities and disagreement over what income should properly be attributed to the premises.
Common areas of debate include the following:
- Gift cards
The lease should specify whether gift card income is counted at the point of sale or only when redeemed at the premises.
- Deposits
For deposits, the parties should agree whether turnover is recognised when the deposit is paid or when the transaction is completed.
- Click and collect and website orders
Click and collect and website orders are often contentious, with tenants seeking to exclude online sales and landlords arguing that the store still contributes to the transaction.
- Instalment and credit sales
For instalment and credit sales, parties should decide whether turnover is based on sums actually received or the full value of the sale.
- Delivery charges
Delivery charges should also be expressly included or excluded, depending on whether they’re treated as part of the sale value or a separate service.
- Grants and subsidies
Grants and subsidies should be addressed where they relate to trading from the premises but are not sales generated by the business.
‘Keep open’ clauses
Keep open clauses are often important because with a turnover rent the key point is straightforward: the structure only works effectively if the business is actively trading from the premises. Landlords will usually seek obligations requiring tenants to trade during specified hours, while tenants will want sufficient flexibility to manage genuine operational interruptions.
The lease should address what happens if the premises close temporarily, including whether turnover rent is deemed to continue during unauthorised closure, and how legitimate closures for refurbishment, staff training, emergencies or events outside the tenant's control should be treated.
Turnover certificates and reconciliation
Many leases require regular on-account payments based on estimated turnover, followed by an annual reconciliation once actual trading figures are available. Landlords may seek independent certification by an accountant or auditor, while tenants may prefer certification by a director or senior officer where appropriate.
Record keeping and reporting obligations
Robust record keeping and reporting obligations are essential. The lease should set out the frequency of turnover statements, how long records must be retained, what audit rights the landlord has and how any electronic reporting or monitoring arrangements will operate.
Seek advice early
Turnover rent leases can offer considerable benefits for both landlords and tenants, but they’re rarely straightforward. The definition of turnover, reporting obligations, certification requirements, keep open provisions and treatment of online sales should be addressed commercially before the lease drafting begins.
Key points for heads of terms
- Agree what is included in and excluded from turnover, including gift cards, deposits, click and collect orders, delivery charges and subsidies.
- Set out the reporting timetable, certification requirement, audit rights and record-retention period.
- Confirm how any closure, reduced trading or failure to keep open will affect the turnover rent calculation.]
How we can help
If you are negotiating a turnover rent lease, early legal input can help avoid disputes over turnover definitions, reporting mechanics, online sales and keep open obligations. For advice on retail leasing strategy or heads of terms negotiations, please contact Dawn MacPherson or a member of our Commercial Property team.