The Challenges And Answers Of Leasing Mixed-use Properties
Deborah A. Colson

Mixed-used projects may be a popular format in real estate development today, but that does not mean that documenting leases is easier than regional malls or community centers. In fact, as more of these complicated projects are built, their retailers have become much more sophisticated with respect to certain aspects of these sorts of developments.

In a true “downtown” urban environment where property is controlled by multiple owners, retailers have very little control over surrounding uses and costs. When a quasi-urban environment is created by a single owner, retailers try to gain the type of control that they are used to having in regional shopping centers. Tenants are concerned that they will be charged to maintain or pay taxes on facilities they do not have use of, in whole or in part. In addition, they often ask mixed-use developers for exclusive use provisions and co-tenancy which are not possible in a truly urban environment. All must carefully ensure that the operations of one use does not impinge on or conflict with the others. The results are protracted negotiations and more complex leases.

These concerns and demands are true whether a company is the sole developer of a project, as Federal Realty is with Santana Row in San Jose, California, or is a co-developer, as Federal and Post Properties are of Pentagon Row in Arlington, Virginia. It’s up to the legal teams on both sides to make sure that each deal has been painstakingly drafted to find a common ground that create a happy, long-term partnership between landlord and tenant.

Not surprisingly, many tenants focus on dollars and cents. Retailers understandably want to be sure that their extra charges do not subsidize the office or residential components at a project. They want to make sure charges such as CAM and taxes are based solely on components of the project that they utilize exclusively or jointly. More than one retailer has questioned how these charges are apportioned.

The simple answer is also the most complicated to explain — the stores pay only for their pro rata share of energy, maintenance and other charges for common area that is exclusive to the retail component or is shared by multiple uses. Retailers are not expected to pay for maintaining an exclusively residential building lobby. Although each component of a project benefits from the others’ activity, each only pays for what it uses.

Another request that must be handled delicately in leasing a mixed-use development concerns competitive and complementary retailers. Here, problems arise in the confusion engendered by a single entity, either one developer or a partnership, building urban streets. In traditional shopping center development, it isn’t unusual for a major tenant to try to have category exclusivity, and even the occasional product, like milk, sold only at their store.

Tenants often make those requests of mixed-use developers, as well, even though they wouldn’t, or couldn’t, do so in an urban situation where there are multiple owners. Competitors often locate near each other in a city — walk in any neighborhood in New York City, and you’ll find Starbucks and Dunkin’ Donuts successfully selling lattes in very close proximity. Most mixed-use projects are quite large, forming neighborhoods in themselves, so it simply isn’t practical for one store to be the only source of a product, be it eggs or iPods.

That said, to get some of today’s most successful retailers into a project, some concessions regarding exclusives are unavoidable. Generally they are kept to a minimum, and must be carefully drafted in the lease. We tend to permit exclusives in very defined categories. For example, a project will have only one Mexican restaurant. In other cases, we will limit the exclusive to a specific zone so that within a certain portion of a project overlapping uses will not be permitted. Service tenants such as dry cleaners will be granted an exclusive within a distinct portion of a project.

Similarly, tenants seek the same cotenancy clauses in a mixed-use development that they routinely negotiate in malls, and could never request in urban environments. For example regional mall tenants might seek the right to exit a lease if a complementary retailer or anchor does not sign onto or stay in a project. This sort of protection is not something that can be achieved in a truly urban environment.

Again, guaranteeing a certain percentage of occupancy on a specific date, or specific named co-tenants, should be avoided to the extent possible, particularly early on in the leasing process. Mixed-use projects are by definition more complex to build and lease, and therefore can be years in predevelopment. During that time, their plans can change, as can the elements of the projects themselves as markets evolve during an often-lengthy approval process.

Yet other complicating factors are the different operations and operating hours of the uses. It’s up to the developer and architect to ensure, for example, that parking is adequate and properly apportioned so that office workers don’t use too many retail spaces. In an environment that encourages 24-hour activity, town centers must be carefully designed to ensure that restaurant odors and sound don’t filter up to the residential tenants above.

To some degree, the developer does not have control over these elements. Restaurant and bar operating hours are controlled by local law, and often garages are owned and run by municipalities. But it often falls to the developer to serve as facilitator between the tenant and the local government to ensure a mutually beneficial outcome. Though not technically part of the leasing process, it is an important factor in the tenant/landlord relationship that should not be ignored.

Tenants certainly aren’t wrong to raise these and other concerns — their real estate team wants the best possible environment for their stores at the lowest reasonable cost. Developers of mixed-use projects have the same goal — a lively, profitable complex whose elements complement and enhance each other.

By working together, being reasonable in demands and concessions, and negotiating specific and careful leases, both sides of the agreement can achieve a partnership that serves their own needs, their investors’ needs and, most importantly, the customer’s needs.

Deborah A. Colson is senior vice president, legal operations, of Rockville, Maryland-based Federal Realty Investment Trust.