In order to encourage a tenant tospace in a shopping center, a landlord sometimes will agree to give the tenant some protection from competing businesses by granting the tenant an "exclusive" right to operate its business in the center. Tenants will want a broad exclusive provision, which bars the landlord from allowing any other space at the center to be used for the sale of any of the items or services sold by tenant. However, the better approach for the landlord is not an outright prohibition, but rather the grant of a remedy to the tenant if a competitor operates in the center.
The remedies crafted commonly are tied to the loss of business the tenant would be expected to experience if the competing business operated at the center. The parties often agree to a specific percentage reduction in base rent as long as the competing business operates. Landlords usually require a corresponding decrease in the gross sales breakpoint.
Another approach is to permit the tenant to pay a straight percentage rent on all sales from the premises in lieu of minimum rent and percentage rent. A landlord will seek to condition the remedy on a material decrease in the tenant's gross sales during a specific time period after the competing business opens for business. This way the right to a remedy is contingent upon a proven loss of business over time. If the tenant's sales are not significantly affected, then the tenant should not be entitled to a remedy.
Tenants often counter that a reduction in sales should not be the determining factor. Instead, since the tenant expects its business to grow each year, flat sales after the competing business opens actually reflect a loss to the tenant and should permit a remedy. The difficulty with this position for the landlord is how to determine what the tenant's expected sales growth would have been but for the competing business. One method is to compare the sales growth of the tenant's similar stores in the same marketplace with the tenant's sales growth in the shopping center where the tenant seeks a remedy.
Tenants with leverage will sometimes negotiate the right to terminate the lease if the competing business operates at the center, while landlords should seek to limit the termination right to situations where the competing business operates past an agreed upon time period. Such a termination right also should be based upon a percentage loss of sales over a significant period.
One of the most important aspects of drafting exclusives is defining the term "competing business." Tenant will seek a broad definition to cover all similar potential uses, or at least primary uses, while landlords attempt to limit the definition to a specific, precise list of items. The absence of any one of these items would deny the remedy. Landlords also will attempt to exclude any competition from major tenants (such as department stores or specialty retailers that occupy large spaces), existing tenants, and other stores owned by the tenant or its affiliated companies.
Since it is difficult for a landlord to control the day-to-day operation of a tenant, the landlord will want to limit the exclusive to an outright leasing of space to a competing business. The landlord will not want to entitle the tenant to a remedy if another tenant operates in violation of a use clause in its lease, or if a change of use is beyond the landlord's control, e.g., the order of a bankruptcy court. If a landlord does not make this stipulation, tenants are likely to argue that a landlord should take necessary action, including litigation, to enforce use clauses to prevent other tenants from engaging in the competing use. This could be costly for a landlord and should be avoided where possible.
Landlords usually seek to deny a remedy if the tenant has changed, or ceased operating altogether, the primary use for the which the exclusive was granted. Also, the tenant's rights under the exclusive clause should be prohibited if the tenant is in default.
Another drafting concern is possible restraint of trade: two parties contractually agreeing to exclude certain third parties from a specific marketplace. Both state and federal anti-trust statutes prohibit restrain of trade. Courts considering the validity of exclusive provisions have used a "rule of reason" approach, examining, among other things, the motives and business purpose of a given exclusive to determine its reasonableness. Although a clear majority of courts have upheld the right of a landlord and tenant to exclude a competing business from a shopping center, both parties should be careful to draft the provision in the least restrictive manner.
M. Rosie Rees and Philip M.J. Edison are lawyers in theoffice of the Los Angeles-based Law firm of Pircher, Nichols & Meeks.