Renegotiating Rentals

Just two years ago,retail chains did not stop complaining how hard it was to get quality space at reasonable rent. Today,the quality space is available at reduced rentals but there are hardly any takers.....

Written by Praveen K Singh | Published:February 28, 2009 2:08 am

Just two years ago,retail chains did not stop complaining how hard it was to get quality space at reasonable rent. Today,the quality space is available at reduced rentals but there are hardly any takers.

With many of the mall projects started during the real-estate boom of 2003-2007 reaching completion,today there is no dearth of supply of organised retail space in the country. At the same time,consumer spending is slowing down in the current economic scenario as customers,fearing job losses,prefer to conserve their cash rather than spend it. This has in turn led to large retail chains putting their ambitious expansion plans on hold. The outcome: plummeting rental rates at malls and at high streets.

A recent survey by real-estate consultancy Cushman & Wakefield (C&W) has revealed that certain pockets of Delhi,Gurgaon,Chandigarh,Kolkata,Mumbai,Pune and Bangalore have witnessed a decline in rentals. The NCR,which received the highest quantum of mall space in Q3,saw rental correction of approximately 30 to 60 per cent in locations such as Noida and Gurgaon. Likewise,high streets like Linking Road and KempsCorner in Mumbai,Cathedral Road and R K Salai in Chennai,and Ganesh Khind Road in Pune witnessed a 13 to 20 per cent drop in rentals.

Meanwhile,nearly 100 million sq ft of mall space is still under development in major cities across the country. With so much more supply coming into the market,rentals could plummet further.

While new brands and market entrants are willing to take up space at current rental rates,many established retail chains have put their expansion plans on hold,citing lower revenue growth in the third quarter of 2008 on same store basis and high rental costs.

AREA-SPECIFIC RATIONALISATION

While retail rentals are indeed headed for further rationalisation,the degree of decline will depend on local micro-market specific factors. According to Magazine of CBRE,well-planned malls in established locations are not likely to witness much change in demand or rentals. For example,in Mumbai,demand for rental space has remained strong in the established locations,but low in new locations as retailers have been rather reluctant to test new waters. This trend is likely to continue,he says,and it will be some time before strong demand leads to a firming up of rentals in the suburbs. With more supply lined up,the pressure on rentals,especially in peripheral areas,is likely to continue.

DEVELOPERS ON THE BACKFOOT

This whole phenomenon of slowing demand,oversupply,and hence softening rentals has had an adverse impact on the realty companies that developed malls. “The return on investment (RoI) is diminishing for developers,” says RK Mittal,CMD,CHD Developers.

From a landlord’s perspective,it makes business sense to offer properties at rational rents,as this will lead to retailers occupying their properties for longer durations. In the past,the high rentals imposed by developers (or whoever the landlord is – it could also be an independent investor) caused many retailers to shut shop and ship out of malls. But now with occupancy levels within malls falling,space-owners are more amenable to adopting the revenue-sharing model (i.e.,while a base rental is fixed,the balance is a percentage of the total turnover of the retailer). “In the long run,the revenue-sharing model is the only one that will prove sustainable,” says Sanjay Dutt,CEO-business,Jones Lang LaSalle Meghraj. Where a 15-20 per cent cut in rentals does not suffice,developers are doling out further incentives to retailers,such as six months rent-free offer.

This should lead to a turnaround in demand for organised retail space. According to Sunil Jindal of SVP Group,“By April 2009 we see a lot of brands re-strategise their expansion plans. They will work out rentals that differ from city to city. One will see a lot of brands come up with the idea of revenue-sharing model.”

ADVANTAGE RETAILERS

For retail chains,the current slowdown in real estate is an opportunity to wrest back some of the advantage that they had conceded to developers at the height of the real estate boom. Earlier,retailers had bought or rented properties at very high rates. The high rentals they agreed to pay dented their bottomlines severely. Now most retailers are renegotiating rentals in order to pare their operating costs.

Aditya Birla Retail,with over 660 outlets across the country,had to close down over 50 outlets last year. High rentals were then cited as one of the reasons for their decision. “Now,renegotiation of rentals has led to our costs dropping substantially. We hope to see good times ahead as this will lower the rental to sales ratio,” says Thomas Varghese,CEO,Aditya Birla Retail.

Adds Manmohan Agarwal,CEO-corporate affairs,Vishal Retail: “We initiated a process of rent renegotiation with a number of property owners. The process has been productive with owners of around 40 stores consenting to reduce rentals.”

MARKET CONSOLIDATION

Contrary to popular belief,experts are of the view that there is considerable potential for the Indian retail sector to revive over the next 12 to 24 months. “The current negative sentiments are a result of extreme job insecurity and uncertainty regarding cash flows in the urban centres. The return of security on these fronts is a function of holistic economic revival,of which the first signs are already visible. Meanwhile,value retail will continue to thrive during the slowdown,” says Mittal of CHD Developers.

Dutt explains,“Rates on high streets have already corrected. There is certainly more scope for further rationalisation and adoption of collaborative revenue-sharing arrangements. This model also increases the commitment levels of mall managers and developers. The time for it is now.” He explains that currently both retail businesses and real estate portfolios are consolidating. On the one hand,retailers are welcoming the fall in rentals as it will improve their profit margins this year,with rental costs dropping to around 3-4 per cent of sales in the third quarter of 2008,from an average of 10-15 per cent early last year.

While a drop in retail rentals could provide an incentive to retailers to revive their expansion plans,in all probability they will wait for the economy to pick up and demand to revive. But with rentals reaching more rational levels,one cause for retailers’ distress is getting addressed. l

praveen.singh@expressindia.com

Video of the day

For all the latest News Archive News, download Indian Express App

    Live Cricket Scores & Results