Restaurant Leases vs. Retail Leases
Restaurants are now in demand in mixed-use and retail projects. Here’s what to look out for when negotiating a deal.
Irv Siegel and Nick Lillo

From letters of intent to executed leases, restaurant deals have a different set of parameters than retail deals. And the differences between restaurant leases and retail leases will grow greater as restaurants are, in effect, becoming anchor tenants with anchor-type deals.

Restaurants are the new flags or anchors of a shopping center, in kind with books, cinema and department stores. They are a patron service and a destination draw. Restaurants give the public more reasons to come to a shopping center than specialty retail, and they have the potential to build customer loyalty to a shopping center. Restaurants keep patrons on property longer, which always equates to more sales for the neighboring retail. Restaurants are demanded as co-tenants for retail. It fact, at new projects, it is becoming more the norm that many national retail tenants pay only a percentage of their rent until a negotiated number of restaurants are open for business. In many of our projects, we have seen retail tenants that will not execute the lease until the restaurant deals are completed.

The emphasis on developers’ food programs affects the lease negotiation process. Our phones ring constantly with landlords wanting help with restaurant deals. They ask us to make initial contact with restaurants just to get their property a fair look. They ask us to work with their legal departments to help them understand the restaurants’ demands and requirements in a letter of intent (LOI) and/or lease document. Topping their list of questions is “Where do we place restaurants in our project?”

To a degree, the seasoned “shopping center” restaurants already know what to ask for and what to look for in the lease. New restaurant operators — either locals coming in to a shopping center for the first time or new national startup chains — may not fully anticipate the importance of lease issues such as correct positioning in a shopping center, parking, site line protection from main roads, and accessibility to shoppers. In addition, municipal impact fees (i.e., sewer connection fees) can mean a significant expense to the restaurant.

Restaurants should also understand the danger of triple net leases that do not have an adjustment cap. Triple-net leases (NNN) are leases where the tenant pays its pro rata share of common area maintenance (CAM), taxes, insurance and promotional charges. For restaurant tenants, these ever-increasing, fluctuating costs can deeply impact the bottom line. By consolidating all these costs into a gross rent with negotiated definitive increases for the initial and option terms, the restaurant tenant can run financial models based on fixed numbers rather than guessing what the NNN charges may be for future years. Gross deals — short and sweet — will be the restaurant leases of the future. With few exceptions, the retail triple-net rent formula will no longer exist for restaurant leases.

Restaurant leases should address exclusivity to a specific cuisine and a cure for violation of this exclusivity. They should also be contingent upon the tenant’s ability to obtain liquor licenses. Other considerations important to restaurant leases include no-build zones, parking easements, ease of trash and delivery service and common area maintenance. “Kick-out” (early termination) penalties are always a point of contention.

Restaurants traditionally need reasonable “kick-outs” if the sales volume is not sufficient to sustain the business. A landlord must understand that the restaurateur’s cost of doing business is so much greater than retail. These costs include labor expense, perishable goods, cost of building and maintenance. The percentage of gross leasable area (GLA) that is utilized for the public is much greater for retail than restaurants. On average, 35 percent of a full-service restaurant area is used for non-revenue-generating back-of-house functions. A smart landlord can design the legal language that will protect his tenant allowance (TA) investment as well as a reasonable guarantee period for the tenant’s rental obligation, and a “go-dark” provision.

The national brand restaurants are being offered more sites at “loss leader” deals for the developer. The amount of shopping center product available to them is voluminous and, therefore, very competitive between developers. The “balance” for restaurants is that a landlord offering fantastic TA with fantastic low rent can lead to a failed restaurant and, similarly for the landlord, a restaurant that is willing to pay improper high rents with low TA will not be in business long. Replacing a failed restaurant is difficult and comes at great cost to both the landlord and the tenant. If the location cannot generate sales, irrespective of the attractiveness of the low rent and high TA, you are out of business. This business will always be about sales.

Some of the preferred restaurant tenants include The Cheesecake Factory, P.F. Chang’s China Bistro, California Pizza Kitchen, Brio and McCormick & Schmick’s Seafood Restaurants. The preferred restaurants are actually a required part of the developers’ merchandising as the new anchor, which is used to attract retail. Consequently, these restaurants will receive a larger TA and a lower rental obligation than other national and most of the regional and local restaurant tenants.

Other concessions included in some restaurant deals include to-go parking spaces, dominant signage, expanded exterior design, hours of operation and valet parking. Some developers also offer a different CAM structure, such as gross leases wherein the NNN charges are one number with a stated increase every 3 to 5 years for the initial and option terms.

While restaurant deals do depend on the project and the market, a “fair” restaurant with a solid financial statement may have more power to negotiate than a great restaurant with a poor financial statement. It is a difficult balancing of interest for a landlord who knows the profound effect that restaurant merchandising has on specialty leasing.

The biggest concessions we’ve seen include 100 percent turnkey build-out for a percentage of the net. Most of these deals are with Las Vegas hotels/casinos. Some restaurant tenants have come to expect the center developers to offer the same financial deal. In some instances, when the preferred restaurant tenants have a choice of sites in a trade market with comparable developments, a developer may have to step up to a Vegas-type deal. We see this type of arrangement when a developer wants to bring a celebrity chef restaurant into its development.

Irv Siegel and Nick Lillo are the founders of Siegel/Lillo and Associates, a full-service commercial real estate firm. The company’s primary focus is restaurant leasing and development as part of lifestyle/entertainment centers. They provide services, including consulting, design, and lease negotiation, to both developers and tenants.


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