Why not drop the rent

[Snnipe_70E]

@Fear_Itself

Because the hardware store has the choice of moving to a different location with lower rent. The landlord can’t move his property to a new location where tenants pay higher rent.

Supply and demand apparently do not apply in commercial real estate.

Oh they do apply. Rents are down about $1.00 a sq ft with the landlord paying some of the TI before move in. They were above $2.30 a sq ft as is, that is tenant paying all the TI".

[DrFidelius]

@figure9

… Also why are they still building new malls when other malls are mostly vacant?

Because the people who make money by building the new malls are not the same people who make money by renting out the storefronts.

[Joey_P]

@tellyworth

Why didn’t the hardware store drop their prices, in order to increase sales so they could afford the higher rent?

(If they could have, they would have. Perhaps the mall is in the same position.)

It looks like you answered your own question, but more then likely the owner of a hardware store in a mall isn’t getting rich. He’s probably running very thin margins. Lowering his prices might mean not being able to afford other things, like insurance or payroll taxes, or having to layoff workers and work longer hours. There comes a point where owning a business becomes too much work and some people would rather close up shop and work for someone else where they don’t have to deal with this crap day in and day out.

[tumbleddown]

@Exapno_Mapcase

Most business leases are long term. Owners don’t want to lock themselves in for 30 years at a rate set during a recession.

I actually used to be responsible for typing up the leases (usually about 50 pages long) for space in shopping malls for a corporation that owned 27 of them in 8 different states. It was before the recession, so terms might have changed, but given the economy I doubt that they’ve changed too substantially in favor of the mall owners.

In any case, the usual lease term was closer to 3 years than 30. A 7 year lease was the exception and typically only offered to big national names that are mall draws like The GAP and its subsidiaries, Abercrombie & Fitch and the like. Endcap stores, (the ones with their own doors to the outside rather than just a door onto the mall concourse) were reserved for big regional or national chains like Macy’s, Sears and JC Penney, and they could get a 12 year lease but there was usually a clause for renegotiation of terms every fourth year. Food concession leases were always year-to-year even for national chain restaurants.

[Exapno_Mapcase]

Sorry, guys. I was exaggerating for effect to show the power of future losses vs. short-term gains. Strip mall leases are usually for lesser lengths, although commercial buildings could easily have double-digit leases.

The principal is the same, though.

Empty Storefronts

If prevailing leases are low, or tenants hard to find, the developer will quite rationally choose to keep the property empty. Leasing at a low rate will lock in a loss, while keeping the property empty has significant option value: at some point in the future, rents might well rise, and the developer can at that point lock in a profit instead. This is why successful property developers generally need very deep pockets: anybody who needs immediate cashflow, in the form of rent today, is in an invidious bargaining position and is likely to lose out over the long term.

Short-term leases may be an answer but not a previaling one.

Marcus Westbury has manged, in Newcastle, to implement the obvious solution to this problem: short-dated leases, often just 30 days long, which roll over so long as the landlord hasn’t found a permanent tenant. That’s good for the neighborhood, and helps drive up prevailing rents, so everybody wins — except, of course, for the commercial real estate agents, who are disintermediated and who in any case are never going to make any money brokering 30-day deals. But many businesses are never going to find that kind of deal acceptable, even if they’re already in the space in question — remember that Kenny Shopsin, for instance, refused to extend his lease on the space he had occupied for years in the West Village by one year. “A one-year lease,” explained Calvin Trillin with no further elucidation, “is obviously not practical for a restaurant”. Yet somehow a brand-new teahouse in Newcastle manages to operate on a shorter lease yet.

And some commentary on that first column.

The economics of shopping malls

Matt Yglesias buys my argument that the phenomenon of empty storefronts is a function of long commercial leases, “but only to an extent”:

If you look at suburban strip malls, the same long lease dynamic applies, but widespread strip mall vacancies are normally a sign of specific economic distress. The current recession has less to a lot of them, but in normal economic times you tend not to see this. Instead, even depressed areas reach a low-rent equilibrium. Possibly this is because strip mall property is less speculative in nature than urban property. But I think the specifically urban nature of the problem probably has something to do with the level of regulatory uncertainty surrounding new retail endeavors in most American cities combined with the reluctance of many neighborhoods to play host to the sort of “uncool” national retail chains that could better manage the risks involved.

Karl Smith then cuts through all the wild guesses and nails the real real reason why strip malls don’t have empty storefronts:

The difference is that a mall has a single owner who internalizes all of the externalites associated with vacant storefronts (and trash and crime, etc). An ugly mall is a less popular mall and thus commands lower rents overall. Typically its worth for the mall owner to take a hit on one store if he can make it up in higher rents for the others. This, of course breaks down when demand for the whole mall declines.

[Oldeb]

@Markxxx

Is there any kind of tax deduction they can get from leaving it empty? Or is is better to leave it empty and take the loss so it benefits them that way on their taxes?

There is in my area. Or at least there’s at least one strip mall owner who thinks so; I have no idea if he’s correct.

A friend of my parents use to run a small, specialty store and was looking to move to a new location, one of the places she checked out was a slightly out of the way strip mall. This strip mall has been empty for at least 10 years now. The building always seems in good repair, at least from the outside, so she inquired about taking a look at the property with an eye towards renting space.

The owner gave her a quote for an absurdly large, non-negotiable rental fee. When she asked why he explained that he did better claiming the building as a loss and if he was going to lose out on that he’d need a large rent to make up for it.

He must give the same speech to everyone because despite having a sign out front advertising rental space and a number to call for information the place is still empty.

[Hari_Seldon]

There was a store that I went to regularly in a mall not far from me. It sold imported foods and you could find ingredients there that you could find nowhere else. He had a large store in that mall. The mall was never upscale, but sort of middling. One day, the food store moved to a smaller place in the mall. I had gotten friendly with the owner over the years and asked him. He said they doubled his rent, so he moved into a smaller place at presumably his original rent. A few years after that, he closed, explaining that a big rent hike was simply beyond him and he was ready to retire anyway. But he couldn’t sell the business, not at that rent. Now I virtually never go into the place except to go to movies. It has become a schlock joint. A couple of dollar stores, a nail establishment, a pool hall, many empty storefronts, and a food court. I am sure his attempt to raise rents has driven away many good tenants. There used to be a supermarket, but it is gone. I guess the main stores are a Canadian Tire and a Zellers (a lot like K-mart).

[Spoke]

Some landlords use a strategy of offering a low rate to get a tenant into a space, and then really jacking up the rental rate when the tenant has built a thriving business at the location. When the lease comes up for renewal a game of chicken ensues. The landlord has the tenant over a barrel to some extent: how much will it cost the tenant to pick up and move its business? Will the tenant’s customers follow it to a new location, or will the tenant have to build the business all over again. The landlord, of course, runs the risk of an empty space.

Particularly in down economies, the landlord can find itself losing the game of chicken. This can happen three ways: the tenant simply closes and goes out of business, or the tenant takes its chances at a new location, or the tenant agrees to the exorbitant new rent only to realize that it can’t maintain a profit margin and winds up in bankruptcy.

Then too, some landlords (even the ones who aren’t playing the “chicken” game) are just rigid and unrealistic. Some get locked into the idea that the rent will rise x% each lease term. They make absolutely no allowance for changing market conditions.

[anson2995]

There are two plausible explanations which haven’t been offered.

1. The landlord is trying to drive existing tenants out, for a variety of reasons I can thin of.

2. The rent really hasn’t gone up, but the hardware store would rather tell that story than “sales have gone down.”

[Really_Not_All_That_Bright]

@Exapno_Mapcase

Sorry, guys. I was exaggerating for effect to show the power of future losses vs. short-term gains. Strip mall leases are usually for lesser lengths, although commercial buildings could easily have double-digit leases.

The length of a lease is also typically contingent on the type of business. Non-chain restaurants and boutique stores like long leases because they rely on return customers.

Conversely, a Pizza Hut or Radio Shack can pull up sticks any time it wants and suffer much less because of their wider brand awareness.

If Mario’s Pizza or Johnson’s Hattery move more than a couple of miles, they’ll lose nearly all of their occasional customers and many of their regulars, depending on the level of competition in the area.

It’s also a function of the type of lessor. Simon, the mall operator, is probably not going to be listening when you try to negotiate a 20-year lease. A smaller, local property manager probably is.

So your original claim is accurate, to a point.