September 19, 2019 | CAPEX
One of the largest and most diverse sectors of the commercial property market is retail real estate. In the last decade, this segment has undergone a significant transformation. Retail real estate is primarily available in three key formats — high street retail, community shopping centers and retail malls. These retail properties, situated in multiple locations, help increase a company’s visibility and create a diversified business.
Setting up a Store
The first step in setting up a store is deciding whether to lease or buy a property. This decision is taken after performing a cost-benefit analysis that considers multiple parameters such as the opportunity cost, the upfront costs, the duration of the need, and the fixed and variable components of the cost. Leasing retail spaces is preferred as it involves fewer upfront costs and multiple tax deductions in the form of lease payments, property taxes, insurance, utilities and maintenance. In addition, as lease terms are in the range of 10 to 20 years, lessees have greater flexibility to change locations in the future.
Sub-leasing retail spaces is another practice being adopted by leading food and retail chains around the world as it is an effective way to earn additional revenue. In such situations, the company acts in the power of a tenant as well as a landlord. A sub-lease agreement is signed between an original tenant and a sub-tenant.
The Decision-Making Process
At the end of a contract’s tenure, companies have to take a decision on whether to renew the lease, terminate it, buy a store or sub-lease the property to another company. The decision is ultimately taken depending on specific factors that a company has to keep in mind.
Companies take the decision to renew a lease in the following circumstances:
Companies can decide to sub-lease a store in certain circumstances, such as:
In the following situations, retail chains find it a more prudent decision to end a lease:
Retail chains sometimes find that purchasing the property is a better option that renewing the lease. This can be due to a host of factors, some of which are:
As retail is dependent on the overall performance of the establishment, it is a relatively riskier asset class for investments. However, these high risks are also accompanied by high returns when compared to a residential asset. Globally retail stores continue to face difficulties due to the growth of e-commerce and it is incumbent for companies to look at the long-term and strategize their retail real estate decisions more carefully. Nevertheless, the impact and value of a brick-and-mortar retail location cannot be understated, and a well-positioned store can continue itself not merely successful, but a valuable asset to the company.