Exclusive Use Provisions: Practical Considerations for Landlord's Counsel

Part One of a Two-Part Series

Today, most large tenants and many small tenants require that their core business be protected in a power or community shopping center by obtaining an agreement from the landlord that grants the tenant the exclusive right to sell the items considered by that tenant to be its core business. This 'exclusive' is considered sacrosanct by most retailers and, in most circumstances, will need to be agreed to by a landlord in order to consummate a lease with that tenant.

In addition to considering the particulars of a given exclusive use provision, landlord's counsel needs to consider the effect a given exclusive use provision will have on existing tenants and the leasing of the balance of the shopping center, as well as how all of the exclusive use provisions, when taken together, will interact with one another. These considerations are especially critical when the landlord is 'leasing-up' a new shopping center where the landlord expects to enter into multiple leases over a relatively short period of time. This article describes some of the main points that landlord's counsel should consider with respect to exclusive use provisions when handling the leasing of a new power or community shopping center. These main points are:

1) The scope of the exclusive use provision;

2) Reasonable exclusions from the exclusive use provision;

3) The effect of future exclusives on prior leases;

4) What happens if the tenant ceases to sell some or all of the protected items;

5) Whether assignees or subtenants will benefit from the exclusive use provision;

6) What remedies will apply in the event of a violation of the exclusive use provision.

Most tenants of note will have their own lease form from which landlord's counsel will have to work. Accordingly, landlord's counsel will need to review and consider each tenant's lease carefully as it relates to these key points as described below.

Scope of the Exclusive

Typically, landlord's counsel will not be successful in limiting the items covered by a tenant's exclusive use provision to the extent such items represent that tenant's current primary business. Rather, the focus of landlord's counsel should be to limit overly broad exclusive use provisions that go beyond the tenant's current primary business. This would include limiting provisions that would expand an exclusive use provision to cover as-of-yet unidentified items that represent either an 'evolution' of a tenant's current primary business or a new merchandise category, which the tenant believes complements its core business.

The problem with these expanding exclusives is that a possible future expansion of a tenant's exclusive may limit the landlord's future leasing possibilities and increase the possibility of a future violation of one or more exclusive use provisions, where no violation had previously existed. The existing and expected tenant mix in the shopping center will often dictate the specific points of concern.

Landlords are best served when they limit the scope of exclusive provisions to the items that represent the tenant's core business at the time the lease is signed. If a landlord must allow for a future expanded exclusive, the landlord's counsel should try to limit the potential for future conflict by requiring advance notice from the tenant prior to the tenant's commencing to sell a new exclusive item so that the landlord can account for the expanded exclusive in new leases.

In addition, the landlord's counsel should exclude from the application of the expanded exclusive those tenants then at the shopping center whether or not such tenants are, in fact, selling the new item. It should be noted that one important exception to the proposition that a landlord will not be able to limit exclusives covering a tenant's core business is with respect to a general apparel exclusive, which landlord's counsel should avoid granting. The reason for avoiding such an exclusive is that the general sale of apparel is often considered by many tenants, regardless of their primary business, as key to their 'exit strategy' by increasing assignment or subleasing options. Accordingly, a tenant would be very reluctant to enter into a lease that does not permit or that limits significantly the sale of general apparel.

Exclusions

In addition to considering the scope of a given exclusive use provision, the landlord's counsel should provide for certain general and specific exclusions from its application. The general exclusions, which are usually applicable to most shopping centers, should cover large anchor tenants such as department, discount, home improvement, and supermarket tenants occupying a minimum square footage (eg, 40,000 square feet). These tenants typically will not agree to be subject to another tenant's exclusive. The general exclusions should also cover smaller tenants or incidental uses by larger tenants where such use will not have a material effect on the tenant's primary business. In turn, the tenant will usually want to limit the amount of square footage that could be used by another tenant for the sale of the exclusive items (usually expressed in square feet or as a percentage of the other tenant's premises).

The specific exclusions from a given exclusive use provision will require a degree of thought as to the landlord's leasing plan for the shopping center. As a general matter, they should cover those existing tenants that the landlord is unable to subject to the exclusive use provision as well as those named tenants the landlord expects to have at the shopping center, to the extent subjecting that tenant to such exclusive use would be problematic. For instance, if a landlord is finalizing a lease with a tenant whose exclusive may be violated by the operations of another tenant that the landlord hopes to have at the shopping center, the landlord should require the current tenant to agree to permit the landlord to enter into a lease with such future tenant without its being in violation of the first tenant's exclusive provision. Depending on the tenants involved, that agreement on the part of the first tenant may take the form of the first tenant's agreeing to enter into its standard 'treaty' letter with the future tenant, which would permit the two tenants to co-exist, even though their respective exclusive use provisions would otherwise prevent the two tenants from operating in the same shopping center.

Future Exclusives

An issue related to how future tenants will be affected by a prior tenant's exclusive use provision is how the exclusive use provisions of future tenants should affect prior tenants. Initially, one might think that since the prior tenants were in place first, they should be excluded from the effect of any future tenant's exclusive use provision as described above. However, many tenants, especially national tenants, that are part of the initial lease-up of a shopping center will expect that the landlord has, in fact, caused prior leases to be subject to such future tenant's exclusive use provision. Though this may seem unfair to a landlord, this advanced planning is sometimes necessary.

Accordingly, the landlord's counsel should consider whether a given lease will need to contain a provision that will subject the tenant to a future tenant's exclusive use provision. In these situations, the landlord's counsel should negotiate a provision that would subject the tenant to the exclusive use provision of a future tenant by naming such specific future tenant or, if the situation dictates, by generically referencing any future tenants with whom the landlord may enter into a lease. This type of provision, when obtainable, will usually apply only to leases entered into for a limited period of time (eg, within 12 months after entering into the subject lease) and will usually provide that such future tenant's use will not be in direct competition with the tenant's primary business.

Next month's installment will discuss ceasing operations, assignees and subtenants, and violation of the exclusive use provision.

Dominic J. De Simone is a partner in the Philadelphia office of Ballard Spahr Andrews & Ingersoll, LLP, and is a member of the firm's Real Estate Leasing, Real Estate Development, Real Estate Finance, and Transac-tional Finance practice groups. He practices general real estate law and has extensive experience in real estate finance, acquisition, sale, development, and leasing transactions, including retail development and leasing transactions on behalf of both landlords and tenants.

Part One of a Two-Part Series

Today, most large tenants and many small tenants require that their core business be protected in a power or community shopping center by obtaining an agreement from the landlord that grants the tenant the exclusive right to sell the items considered by that tenant to be its core business. This 'exclusive' is considered sacrosanct by most retailers and, in most circumstances, will need to be agreed to by a landlord in order to consummate a lease with that tenant.

In addition to considering the particulars of a given exclusive use provision, landlord's counsel needs to consider the effect a given exclusive use provision will have on existing tenants and the leasing of the balance of the shopping center, as well as how all of the exclusive use provisions, when taken together, will interact with one another. These considerations are especially critical when the landlord is 'leasing-up' a new shopping center where the landlord expects to enter into multiple leases over a relatively short period of time. This article describes some of the main points that landlord's counsel should consider with respect to exclusive use provisions when handling the leasing of a new power or community shopping center. These main points are:

1) The scope of the exclusive use provision;

2) Reasonable exclusions from the exclusive use provision;

3) The effect of future exclusives on prior leases;

4) What happens if the tenant ceases to sell some or all of the protected items;

5) Whether assignees or subtenants will benefit from the exclusive use provision;

6) What remedies will apply in the event of a violation of the exclusive use provision.

Most tenants of note will have their own lease form from which landlord's counsel will have to work. Accordingly, landlord's counsel will need to review and consider each tenant's lease carefully as it relates to these key points as described below.

Scope of the Exclusive

Typically, landlord's counsel will not be successful in limiting the items covered by a tenant's exclusive use provision to the extent such items represent that tenant's current primary business. Rather, the focus of landlord's counsel should be to limit overly broad exclusive use provisions that go beyond the tenant's current primary business. This would include limiting provisions that would expand an exclusive use provision to cover as-of-yet unidentified items that represent either an 'evolution' of a tenant's current primary business or a new merchandise category, which the tenant believes complements its core business.

The problem with these expanding exclusives is that a possible future expansion of a tenant's exclusive may limit the landlord's future leasing possibilities and increase the possibility of a future violation of one or more exclusive use provisions, where no violation had previously existed. The existing and expected tenant mix in the shopping center will often dictate the specific points of concern.

Landlords are best served when they limit the scope of exclusive provisions to the items that represent the tenant's core business at the time the lease is signed. If a landlord must allow for a future expanded exclusive, the landlord's counsel should try to limit the potential for future conflict by requiring advance notice from the tenant prior to the tenant's commencing to sell a new exclusive item so that the landlord can account for the expanded exclusive in new leases.

In addition, the landlord's counsel should exclude from the application of the expanded exclusive those tenants then at the shopping center whether or not such tenants are, in fact, selling the new item. It should be noted that one important exception to the proposition that a landlord will not be able to limit exclusives covering a tenant's core business is with respect to a general apparel exclusive, which landlord's counsel should avoid granting. The reason for avoiding such an exclusive is that the general sale of apparel is often considered by many tenants, regardless of their primary business, as key to their 'exit strategy' by increasing assignment or subleasing options. Accordingly, a tenant would be very reluctant to enter into a lease that does not permit or that limits significantly the sale of general apparel.

Exclusions

In addition to considering the scope of a given exclusive use provision, the landlord's counsel should provide for certain general and specific exclusions from its application. The general exclusions, which are usually applicable to most shopping centers, should cover large anchor tenants such as department, discount, home improvement, and supermarket tenants occupying a minimum square footage (eg, 40,000 square feet). These tenants typically will not agree to be subject to another tenant's exclusive. The general exclusions should also cover smaller tenants or incidental uses by larger tenants where such use will not have a material effect on the tenant's primary business. In turn, the tenant will usually want to limit the amount of square footage that could be used by another tenant for the sale of the exclusive items (usually expressed in square feet or as a percentage of the other tenant's premises).

The specific exclusions from a given exclusive use provision will require a degree of thought as to the landlord's leasing plan for the shopping center. As a general matter, they should cover those existing tenants that the landlord is unable to subject to the exclusive use provision as well as those named tenants the landlord expects to have at the shopping center, to the extent subjecting that tenant to such exclusive use would be problematic. For instance, if a landlord is finalizing a lease with a tenant whose exclusive may be violated by the operations of another tenant that the landlord hopes to have at the shopping center, the landlord should require the current tenant to agree to permit the landlord to enter into a lease with such future tenant without its being in violation of the first tenant's exclusive provision. Depending on the tenants involved, that agreement on the part of the first tenant may take the form of the first tenant's agreeing to enter into its standard 'treaty' letter with the future tenant, which would permit the two tenants to co-exist, even though their respective exclusive use provisions would otherwise prevent the two tenants from operating in the same shopping center.

Future Exclusives

An issue related to how future tenants will be affected by a prior tenant's exclusive use provision is how the exclusive use provisions of future tenants should affect prior tenants. Initially, one might think that since the prior tenants were in place first, they should be excluded from the effect of any future tenant's exclusive use provision as described above. However, many tenants, especially national tenants, that are part of the initial lease-up of a shopping center will expect that the landlord has, in fact, caused prior leases to be subject to such future tenant's exclusive use provision. Though this may seem unfair to a landlord, this advanced planning is sometimes necessary.

Accordingly, the landlord's counsel should consider whether a given lease will need to contain a provision that will subject the tenant to a future tenant's exclusive use provision. In these situations, the landlord's counsel should negotiate a provision that would subject the tenant to the exclusive use provision of a future tenant by naming such specific future tenant or, if the situation dictates, by generically referencing any future tenants with whom the landlord may enter into a lease. This type of provision, when obtainable, will usually apply only to leases entered into for a limited period of time (eg, within 12 months after entering into the subject lease) and will usually provide that such future tenant's use will not be in direct competition with the tenant's primary business.

Next month's installment will discuss ceasing operations, assignees and subtenants, and violation of the exclusive use provision.

Dominic J. De Simone is a partner in the Philadelphia office of Ballard Spahr Andrews & Ingersoll, LLP, and is a member of the firm's Real Estate Leasing, Real Estate Development, Real Estate Finance, and Transac-tional Finance practice groups. He practices general real estate law and has extensive experience in real estate finance, acquisition, sale, development, and leasing transactions, including retail development and leasing transactions on behalf of both landlords and tenants.