Although accounting for a significant proportion of rents in parts of mainland Europe, turnover rents are by no means a straightforward alternative to UK upward-only, market-based rent reviews, with few deals being identical and the terms agreed are very retailer, subsector or location-specific. Analysis of Savills rent negotiations in the UK shows that turnover rents requested by retailers range from 1–15%, with an average of 7%. However, the detail is far more complex. Almost all deals are in some way unique, either from the turnover percentage, or baseline with ratchet top-up, or inclusion of service charges, or for lease term.

Furthermore, the agreements need to consider the percentage of turnover to be classified as rent, the length of the lease and other costs such as service charge. Turnover rents may be separate from service charges, or be higher and include service charge provision. The advantage of the latter is that the retailer then has a clear view on their affordability. However, for a landlord where service charges are fixed, this can put further pressure on income from rents collected.

It could be argued that a margin-based rent makes more sense as margins vary so significantly across the sector and could therefore be a fairer approach for each type of retailer, regardless of the products they sell. Two retailers with the same turnover can have very different levels of profitability depending on what they sell and their price point. The problem is transparency. Many retailers are now prepared to share their turnover with landlords, but not their full P&L. And yet, if they did, landlords could make more informed decisions about their assets and could invest accordingly to help secure the long-term future of the schemes.

In many European markets retailers already share effort ratios with landlords, where all property costs as a proportion of turnover are considered. This provides a degree of transparency on rental affordability and insolvencies rarely come as a surprise. The system clearly benefits both parties, but can see weaker retailers being removed for the better vitality of those that remain. Landlords need to think about who they want in their schemes and offer a fair rent accordingly, which might even mean a different tenant line up. This is essentially the model that works in the outlet market already.

Another added complication of turnover-based rents is how a sale is attributed to a store. Some brands have a significant proportion of online sales, but use the stores for showrooming, click & collect, or returns. While a lot of work has been done on the ‘true value of the store’ in a multichannel world, no one has yet worked out the true value that a specific store in a specific location has in an e-commerce transaction. For F&B/leisure measuring the performance of a specific property is much more straightforward and hence we already see quite a few tenants within this space on turnover-based arrangements. In countries where turnover rents are prevalent, transparency of multichannel sales remains limited; a problem that will only increase in line with the proportion of retail sales that are online.

A secure income will always be a preference for a landlord, and therefore many will consider fixed-rate leases over a long term to remain the preferred option choice. Of course, in the current environment, this does not mean landlords will get what they want. However, we may also start to see more landlords opting for a hybrid model with a base rent plus a turnover top-up. This can be preferable for a retailer compared with a fixed-rate lease, and also still provides the landlord with some level of income security.

The biggest challenge for the property sector of turnover-based leases is with asset valuation. Firstly, valuation based on turnover leases typically reviews the previous three years sales evidence, and asset values become closely aligned to the volatility of market economics and consumer confidence, rather than based on landlord guaranteed income over the long term. Secondly, in many markets where there is little history of turnover-based leases, there is no comparable evidence. Thirdly, property value becomes heavily weighted to the turnover of a specific store rather than the benefit that store has in the retailer’s supply chain.

_{Read the articles within Spotlight: Impact of Covid-19 on European retail below.}