Creating Resilience VIEWPOINT
Landlord flexibility is the key amid remaining uncertainty
MORE RETAILERS ARE KEEN TO OPEN SHOPS, BUT THEY REMAING CAUTIOUS ON LEASING TERM
CBRE RESEARCH FEBRUARY 2023
1. Introduction
While the COVID-19 pandemic has resulted in falling sales for the majority of retailers in Japan, figures have begun to recover in recent months This has led to increased demand from retailers for street- level store space in the country’s major retail areas. However, continued uncertainty about the economic outlook has prompted most retailers to remain cautious towards lease conditions for potential new stores.
Based on retailer and owner surveys periodically carried out by CBRE, this report explores how landlords can demonstrate greater flexibility to attract and retain tenants The report also identifies the key terms in contracts that serve to facilitate the signing of new leases, citing actual examples from CBRE’s monitoring of leasing activity
2．Retail sales begin to recover
Retail sales in Japan recovered strongly in 2022 , largely as a result of the first Golden Week and summer holidays to be held without restrictions since 2019 Figure 1 shows the results of quarterly surveys carried out by CBRE targeting retailers in the major retail areas*1 operating street- level stores*2 Some 86 4% of respondents replied that their sales in Q2 2022 (a period containing Golden Week) had gone up y-o-y This represented a 24 7-point increase from the number of respondents who had recorded a y-o-y sales increase in Q1 2022 While the figures for Q 3 2022 (containing the summer holiday period) declined by 4 2 points from Q2 2022, they still exceeded 80%
When asked when they anticipated their sales figures would return to pre-pandemic (December 2019) levels, the most commonly given answer was the second half of 2023, at 26 7 % This was followed by 20 0% for those whose sales had already fully recovered, and 13 3% for those who anticipated it would be the first half of 2023 or the first half of 2024 when sales would recover Over 60% of retailers were of the opinion that as economic activity has been revitalised as the pandemic wanes, sales should return to pre-pandemic levels between 2023 and 2024.
3. Retailer demand for store space recovers
Recovering sales have led to increased demand from retailers for street- level store space in major retail areas Figure 3 shows the number of enquiries from retailers and brokers received by landlords with available street- level properties The number of landlords who reported that enquiries had increased since the previous quarter reached 40 0% in Q 2 2022 , up 1.5 points from Q1 2022. This figure rose again in Q 3 2022 to 42 .4%, underscoring the steady upswing in demand for store space.
Retailer interest in available properties is evident not only by a rise in enquiry numbers but also in the increasing number of sight inspections by retailers and brokers (Figure 4) Some 44 2% of owners with available properties reported that number of sight inspection has increased q-o-q in Q2 2022, up 14 2 points from Q1 2022 While this figure slipped by 2 8 points to 41 4% in Q 3 2022 , it remained above 40%, underlining the gradual recovery in retailer activity At present, however, continued uncertainty about the economic outlook means many retailers remain cautious about committing to leases for potential new stores
Figure 4: Number of viewings in comparison to previous quarter
4．Reasons for retailer caution towards new leases
One of the major reasons underpinning concerns about the economic outlook is the fall in real wages against the current rise in the cost of living (Figure 5) According to the Ministry of Health, Welfare and Labour’s Monthly Labour Surveys*3 , real wages accounting for inflation recorded a 3.8% y-o-y drop in November 2022 . It was the eighth consecutive month of decline, and the largest since May 2014, which recorded a 4.1% drop. Should wage increases continue to fail to keep up with inflation caused by rising material prices and the weakening yen, then there is a concern that the recovery in spending may not last For this reason, retailers are somewhat conservative towards opening new stores as they may not be able to achieve their sales targets Among some retailers, there is a concern that an increasingly cautious mindset among consumers may lead to lower sales for their particular brand
2022 also saw a sharp spike in the initial costs associated with establishing a new store in comparison to prior to the pandemic. This increase was due to a rise in construction and interior design costs, again as a result of escalating material prices and the weakened yen. Consequently, many retailers are unsure that their sales will be sufficient to recoup those initial costs within the period of their lease . These factors are making a significant number of retailers remain cautious about the lease conditions Any flexibility shown by building owners, will therefore be welcomed as facilitating an environment that is conducive to the establishment of new stores
5．Flexibility demanded of building owners
Figure 6 shows the policies either being implemented or being considered for implementation by building owners in order to facilitate leasing These can be seen as specific methods for the creation of an environment conducive to the establishment of new retail stores. The most commonly considered policy was the implementation of rent-free periods, at 63.1%. Used as a means of keeping rising initial costs manageable, this strategy is among the most obvious methods to encourage retailers to proceed with new store openings. As a result of the additional time required to procure materials for interior refurbishing and decorating, the period between contract agreement and the start of the interior refurbishing process has become longer than was the case prior to the pandemic A number of retailers are requesting that owners make this period rent-free Another policy that has the effect of lowering initial costs is air conditioning installation, which was mentioned by 15 4% of respondents Rent-free periods are typically between three and four months, while the installation of air conditioning depends on the shape of the room and its use (e g merchandising, F&B and services, etc ) Retailers who put particular focus on the interior design would consult with the landlord to determine the design of the air conditioning system in parallel with the designing of the store.
The subdivision of available units was considered by 30 0% of respondents and is a way of lowering the overall rent burden on tenants by restricting the floor space for which they have to pay, which naturally lowers running costs Several cases have already been observed in which subdividing available units has led to an increase in retailer interest This reflects the fact that many retailers are already sufficiently cost-conscious to be looking to reduce costs by keeping floor space to a minimum Recent quarters have seen landlords secure tenants after subdividing larger street-level units of in excess of 100 tsubo into two or even three smaller units While specific requirements differ by location, a space of 30 to 50 tsubo is generally well suited to wristwatch or jewelry brands, while spaces between 50 and 80 tsubo are likely to attract fashion, outdoor and sporting goods, and recycled goods retailers. Subdividing units for lease can also benefit building owners. Smaller units generally mean that retailers are more willing to pay higher per- tsubo rates, while increased retailer interest helps mitigate the risk of losing income through units left standing vacant CBRE believes it will become increasingly important for building owners to gain a more thorough understanding of the characteristics of the area in which their properties are located; thereby deciding on the most effective subdivision of space ; and implement leasing strategies based on those new unit sizes
An analysis of the contract provisions being considered by tenants also reveals the specific types of flexibility that retailers seek (Figure 7) The most common consideration made is a shortening of the lease period (36 9%) This suggests that some retailers are looking to sign the shortest possible lease that will still allow them to recoup initial costs Since the advent of the pandemic, five-year fixed-term leases with a no-cancellation period of three years have become more common Such contracts have the merit of allowing tenants to cancel the contract without being bound to a longterm lease if they find that their sales figures fail to meet expectations For owners, such contract structures have the advantage of allowing them to raise rents to higher levels more quickly if and when the retail market recovery gains momentum The two next most selected contract provisions were those relating to early cancellation (31 5%) and the shortening of the no-cancellation period (29.7%), which both have the same mutual benefits for tenants and landlords.
Contract provisions concerning percentage rents were also considered by a relatively high 29 7% of respondents Almost unheard of prior to the pandemic, percentage rents have been introduced in selected case for street- level units as a means of keeping fixed rent burdens to an absolute minimum Most percentage rent provisions stipulate somewhere in the range from 5 to 8% of sales above a certain threshold Such contract provisions carry a risk for the owners in that they lower income stability However, the establishment of a baseline of the fixed rent plus a certain amount makes it easier for a landlord to recommend their tenant terminate their lease should sales fail to reach targets, allowing them to replace the current tenant with a new retailer more easily. Provisions concerning mid- lease rent adjustments ( 24.3%) were also never seen in fixed-term contracts prior to the pandemic. This gives both tenants and landlords the opportunity to apply for rent adjustments midway through the contract period, based on sales for the former, and on market fluctuations for the latter
Provisions pertaining to early cancellation
Shortening of no-cancellation period
Provisions pertaining to percentage rents
Provisions pertaining to mid-lease rent adjustments
Provisions pertaining to subleasing
Provisions pertaining to state of emergency declarations
Provisions pertaining to liability exemptions for force majeure-related payment defaults or delays
6．Conclusion
CBRE’s surveys of tenants and landlords clearly indicate that greater flexibility is being demanded of owners Considerations such as rent-free periods and air conditioning installation, previously rare for street- level properties, have begun to be observed with greater regularity. In terms of lease contracts, shorter contract periods and provisions relating to early cancellations and shorter no-cancellation periods are also on the rise.
As properties in highly sought-after high street locations are attracting considerable interest, leading to a tightening of the supply-demand balance, landlords of such properties may not need to consider the adoption of the provisions outlined above For much of the rest of the market, however, landlord flexibility will be key to securing new tenants amid an increasingly uncertain economic climate
Appendix
Retailer survey parameters
Survey respondents
Survey method
： Retailers with street-level stores leased in major commercial high streets and secondary areas (refer to maps for details)
： Internet survey
Survey period ： Q1 2022 : April 6th to April 22nd ：
2022：July 6th to July 20th ：
October 11th to October 25th
Landlord survey parameters
Survey respondents
： Landlords of buildings with street-level properties for lease in major commercial high streets and secondary areas (refer to maps for details)
Survey method ： Internet survey Survey period ： Q1 2022 : April 6th to April 22nd
July 6th to July 20th
Kaoru Kurisu
Director
Retail Team Leader
kaoru.kurisu@cbre.com
Kumiko Ninomiya
Analyst
Retail Team kumiko.ninomiya@cbre.com
Hiroshi Okubo
Head of Research hiroshi.okubo@cbre.com
