For landlords in retail sectors, a continuous operations clause is a way to protect their investment. Here’s how it works.
It’s common in the retail sector of commercial real estate to lease a storefront to a business. This is the basis of shopping centers and malls across the country. It can be beneficial to landlords who want to introduce a revenue stream to the land they own, and to tenants who can conduct their business without buying land and a building. But this system only works as long as the tenant is making money. Otherwise, the tenant has no means to pay their rent. To solve this dilemma before it starts, landlords often include what’s called a continuous operations clause in their lease.
The Continuous Operations Clause
A continuous operations clause is a legal requirement in a commercial lease. It states that a tenant must keep their business in operation for the duration of their lease. These clauses can be specific, outlining the exact size of a storefront, operating hours, and so on. Or it can state in general terms that the business must stay open and let the tenant conduct business in a way that suits them best.
This is common in the retail sector, especially in large shopping centers. It’s no coincidence that every store in a mall keeps the same hours, opening and closing at the same time every day. Continuous operations clauses in a shopping mall often require the storefronts to keep the same hours to control the flow of traffic within the mall. But there may be some exceptions, with extended hours during holiday times as an example.
With outdoor shopping centers such as strip malls, these continuous operations clauses can be more general. For this reason, you may see more storefronts keep different operating hours or even days in the same shopping center.
For a retail landlord, the continuous operations clause in lease agreements gives some protection from risk. Leasing a storefront always carries some risk that the tenant may not pay their rent in a timely manner. This is especially true if the business is often closed. Requiring the tenant to stay in business throughout the term of the lease helps to ensure some return on their investment, as the business will presumably have an income from which to pay the rent.
The tenant should review the terms of the continuous operations clause. If their business happens to do best at night, it wouldn’t do well to open up in a shopping mall where they’re forced to work during daylight hours. On the other hand, a clause that specifies certain operating hours can be a hint to the tenant that there will be optimal foot traffic during those times. This is especially true for smaller retailers that rely on the foot traffic of a mall’s anchor stores. A continuous operations clause placed on the larger retailer can be a boon to the business of the smaller tenant.
Sometimes, it happens that the retail space leased to a business isn’t profitable or favorable to the tenant. In circumstances like this, a “go-dark provision” is sometimes available. This clause allows a tenant to close up shop if the business isn’t profitable enough to cover the terms of the lease. A go-dark provision will allow the tenant to vacate the space, but still pay the rent until the end of the lease term. In these cases, the landlord often reserves a landlord recapture right that allows them to terminate the lease early with no fault to either party. Because this will ensure the landlord earns no income from the tenant, this will often not be invoked unless the landlord finds a new tenant to take their place.
With the rise of e-commerce and the events of 2020, brick-and-mortar retail stores are in trouble. As more customers opt to order what they need from online retailers, they’re less likely to make the trip to a shopping center. The rise of local delivery services offers some relief, especially for grocery stores and restaurants, but adds a middleman to the mix.
With this in mind, landlords are ever more wary about leasing their spaces to retailers. They’ll need the assurance that a business will stay in operation long enough to cover their rent, so the landlord can make good on their investment. That being said, changes in consumer shopping patterns may mean retailers need to adjust how they do business. Tenants may benefit from continuous operations clauses that are more general and less restrictive as a fair compromise. To ensure the best lease agreement terms, both parties should consult with a lawyer prior to signing.
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