Understanding Reciprocal Easement Agreements

Often, an REA may be viewed as a substitute for the rights and obligations typically set forth in a lease between a developer and a major retailer. However, in most cases, the major retailer will view the two documents differently. The major retailer will view its ownership of a portion of the shopping center as giving it greater rights and fewer obligations than if it had it leased the property from the developer. For example, a major retailer may want the unilateral right to lease its property to any other user following its acquisition of a portion of the shopping center, whereas if a retailer leased the property, it would most likely allow the developer (landlord) the right to consent to assignments or sublettings.

This article sets forth those items typically covered in an REA, and discusses why they are important to the developer and the retailer. One should be mindful of the fact that the REA might be a two-party agreement (i.e., between the developer and the major retailer) or a three or more party agreement (i.e., between the developer and multiple retailers). In addition, it is possible that an REA is entered into between two or more property owners (neither or none of which is a retailer) that want to develop their respective properties jointly. This type of REA is less common and would address some, but not all, of the same issues as an REA between a developer and a major retailer. The typical two-party REA between a developer and a retailer would address the following issues.

Easements for Parking,'Access, Encroachments'and Utilities

The REA should provide both parties with the most basic rights for their respective properties to be operated in harmony with one another. Each party should have the right to access the other party's property for vehicular parking and access and for pedestrian access. For instance, the customers and employees of a major retailer's property will need to park anywhere they want within the shopping center (subject to an agreement by the parties to provide special areas for employee parking) and to walk anywhere they want within the shopping center. To customers of the occupants of the shopping center, the property will appear to be owned by one party and operated as a fully integrated shopping center.

Each party may also need to “tie into” the other parties' utility systems, which most often occurs when the major retailer “ties into” the developer's utility systems for the shopping center. Also, the parties may need certain encroachment rights if their canopies or foundations minimally encroach upon the other party's property. All of the foregoing rights would take the form of “easements,” and would have to be set forth in detail in the REA. These “easements” would effectively allow one party non-exclusive use of the property of the other party.

Construction and'Architectural Compatibility

The REA typically will provide for the developer to construct all of the on- and off-site improvements comprising the shopping center, as well as those relevant to buildings to be located on the developer's property. The major retailer will be responsible for the construction of its own building. The REA usually provides for parties to review and approve the plans and specifications for each other's work, thereby creating'architectural compatibility for all of the construction work at the shopping center. In addition, the REA typically provides for each party to construct its improvements pursuant to a mutually approved construction schedule. The REA, or a separate development agreement, will require the major retailer to reimburse the developer for an equitable share of the costs incurred by the developer to construct the shopping center's on- and off-site improvements.

Operation of Common Areas

The REA should provide for one party to operate, insure and maintain the common areas of the shopping center. The party with this responsibility would usually be the developer or a third party manager appointed by the developer. The manager would keep the common areas in a neat, clean and attractive condition, and bill the parties to the REA for their prorata shares of common area costs, plus a competitive management fee. Typically, if the developer does a poor job operating and maintaining the common area, the major retailer will have the right to “take over” the operation and maintenance of the common areas located on its property, and sometimes this takeover right may be extended to the entire common area in the shopping center.

Taxes, Building Maintenance and Building Insurance

The REA typically requires each property owner to pay the property taxes that relate to its property. In addition, each party is also required to maintain the appearance of the buildings on its property in an attractive manner. Each party may also be required to maintain first party insurance on the buildings located on its property. However, in the event of a casualty, the parties are usually given the right to raze the building improvements located on its property or rebuild them to their former condition, although most REAs require the common area improvements to be rebuilt following a casualty. While this obligation is typically the responsibility of the developer, in some cases each property owner may be responsible for the common area improvements located on its property.

Use, Recapture Rights and Rights of First Offer

Some REAs may require the major retailer to use its property for a particular use or, in turn, may restrict certain uses on the developer property to the benefit of the major retailer. In the event that the major retailer is required to use its property for a particular use and then ceases to do so for a specified period of time (usually six months, but subject to extension for remodels, casualties or other events outside the control of the major retailer), the developer may be given the right to purchase the major retailer's property for its fair market value. In theory, this gives the developer the right to “control” its real estate or to lease or sell the major retailer property to a user that will use its property for a retail use compatible with the remainder of the shopping center.

The REA may also provide that, in the event that either party desires to sell its property to an unaffiliated third party, the other party will have a short “right of first offer” to purchase the selling party's property. The right to purchase would be for a price mutually agreeable to both parties. In the event that the parties are unable to reach such an agreement on price within a short period of time, the party desiring to sell its property would have the right to sell it to the unaffiliated third party. However, the REA might require the selling party to offer the property for sale again to the other party if it is unable to sell the property within a specified period of time for a price equal to or greater than 95% of the purchase price offered by the other party

Covenants Running with the Land, Term and Amendments

The REA should specifically provide that the rights and obligations set forth in the REA “run” with the land of the property subject to the REA. In other words, whoever owns the property subject to the REA will be subject to the terms and provisions set forth in the REA. In addition, the REA should specifically provide for the term of the REA and the method by which the REA may be amended. The REA should provide that the easements necessary for a party to access the public streets surrounding the shopping center and to use the shopping center utility systems run in perpetuity. This will most likely be required by the governing body with jurisdiction over the property as a condition to the recordation of the map creating the parcels that are subject to the REA. In some REAs, the parties agree that the easements for parking will “run” in perpetuity. Typically, the REA cannot be amended without the approval of the developer and the major retailer. However, the REA must be clear as to who has this approval right if one party's property is subsequently subdivided into multiple properties or owned by multiple parties.

Mortgagee Protection Provisions

The REA should contain provisions for the benefit of the lender of either party to the REA. In the event of a default by one party to the REA, the non-defaulting party should be obligated to notify the defaulting party's lender, if known, and allow such lender to cure the default. In addition, the REA should provide that a breach of any of the covenants or restrictions contained in the REA will not defeat or render invalid the lien of any lender made in good faith and for value as to the shopping center or any part thereof.

Conclusion

As stated above, shopping center REAs are quite straightforward when viewed as a substitution for a lease between a developer and a major retailer. Although an REA will not contain all the provisions found in a lease, many of the concepts will be the same. As with a lease, the REA ensures that the developer's property and the major retailer's property are operated as one integrated shopping center so as to maximize the success of the shopping center for both parties.

Gary A. Glick is a partner in the Los Angeles office of Cox, Castle & Nicholson LLP. He specializes in shopping center development and retail and office leasing, generally representing clients such as shopping center, office and commercial landlords, as well as major tenants.

Typically, reciprocal easement agreements (REAs) are used when a property is owned by more than one person or entity, and the persons or entities wish to develop the property as an integrated shopping center.

In the case where more than one owner is interested in developing a shopping center, the most common scenario is that one of the owners acts as the developer and the other owner is a major retailer (for example, Target or Wal-Mart) in that shopping center. Often, the developer will lease a portion of the property to the major retailer, in which case an REA is not necessary, since the lease will provide for construction and operation of the shopping center. If, however, the major retailer desires to purchase a portion of the property, it will be necessary for the developer and the major retailer to enter into an REA. If not, there will be no contractual agreement between the developer and the major retailer governing such things as the construction of the shopping center, the architectural compatibility of the buildings, and the use of the common area. Without an REA, the developer or the major retailer could build whatever and whenever it wishes and could conceivably prevent the other party from using its parcel for parking, access or utility lines.

In the event that the developer and the major retailer enter into an REA, it will be recorded by the parties in the county in which the property is located and will create certain contractual obligations between the developer and the major retailer that will enable a shopping center to be constructed. Once constructed, the shopping center is operated as one integrated retail project. These contractual obligations will “run with the land” of the property that comprises the shopping center. In other words, the owner, and any subsequent owner, of all or any portion of the shopping center will be subject to the obligations contained in the REA and will benefit from those rights.

Often, an REA may be viewed as a substitute for the rights and obligations typically set forth in a lease between a developer and a major retailer. However, in most cases, the major retailer will view the two documents differently. The major retailer will view its ownership of a portion of the shopping center as giving it greater rights and fewer obligations than if it had it leased the property from the developer. For example, a major retailer may want the unilateral right to lease its property to any other user following its acquisition of a portion of the shopping center, whereas if a retailer leased the property, it would most likely allow the developer (landlord) the right to consent to assignments or sublettings.

This article sets forth those items typically covered in an REA, and discusses why they are important to the developer and the retailer. One should be mindful of the fact that the REA might be a two-party agreement (i.e., between the developer and the major retailer) or a three or more party agreement (i.e., between the developer and multiple retailers). In addition, it is possible that an REA is entered into between two or more property owners (neither or none of which is a retailer) that want to develop their respective properties jointly. This type of REA is less common and would address some, but not all, of the same issues as an REA between a developer and a major retailer. The typical two-party REA between a developer and a retailer would address the following issues.

Easements for Parking,'Access, Encroachments'and Utilities

The REA should provide both parties with the most basic rights for their respective properties to be operated in harmony with one another. Each party should have the right to access the other party's property for vehicular parking and access and for pedestrian access. For instance, the customers and employees of a major retailer's property will need to park anywhere they want within the shopping center (subject to an agreement by the parties to provide special areas for employee parking) and to walk anywhere they want within the shopping center. To customers of the occupants of the shopping center, the property will appear to be owned by one party and operated as a fully integrated shopping center.

Each party may also need to “tie into” the other parties' utility systems, which most often occurs when the major retailer “ties into” the developer's utility systems for the shopping center. Also, the parties may need certain encroachment rights if their canopies or foundations minimally encroach upon the other party's property. All of the foregoing rights would take the form of “easements,” and would have to be set forth in detail in the REA. These “easements” would effectively allow one party non-exclusive use of the property of the other party.

Construction and'Architectural Compatibility

The REA typically will provide for the developer to construct all of the on- and off-site improvements comprising the shopping center, as well as those relevant to buildings to be located on the developer's property. The major retailer will be responsible for the construction of its own building. The REA usually provides for parties to review and approve the plans and specifications for each other's work, thereby creating'architectural compatibility for all of the construction work at the shopping center. In addition, the REA typically provides for each party to construct its improvements pursuant to a mutually approved construction schedule. The REA, or a separate development agreement, will require the major retailer to reimburse the developer for an equitable share of the costs incurred by the developer to construct the shopping center's on- and off-site improvements.

Operation of Common Areas

The REA should provide for one party to operate, insure and maintain the common areas of the shopping center. The party with this responsibility would usually be the developer or a third party manager appointed by the developer. The manager would keep the common areas in a neat, clean and attractive condition, and bill the parties to the REA for their prorata shares of common area costs, plus a competitive management fee. Typically, if the developer does a poor job operating and maintaining the common area, the major retailer will have the right to “take over” the operation and maintenance of the common areas located on its property, and sometimes this takeover right may be extended to the entire common area in the shopping center.

Taxes, Building Maintenance and Building Insurance

The REA typically requires each property owner to pay the property taxes that relate to its property. In addition, each party is also required to maintain the appearance of the buildings on its property in an attractive manner. Each party may also be required to maintain first party insurance on the buildings located on its property. However, in the event of a casualty, the parties are usually given the right to raze the building improvements located on its property or rebuild them to their former condition, although most REAs require the common area improvements to be rebuilt following a casualty. While this obligation is typically the responsibility of the developer, in some cases each property owner may be responsible for the common area improvements located on its property.

Use, Recapture Rights and Rights of First Offer

Some REAs may require the major retailer to use its property for a particular use or, in turn, may restrict certain uses on the developer property to the benefit of the major retailer. In the event that the major retailer is required to use its property for a particular use and then ceases to do so for a specified period of time (usually six months, but subject to extension for remodels, casualties or other events outside the control of the major retailer), the developer may be given the right to purchase the major retailer's property for its fair market value. In theory, this gives the developer the right to “control” its real estate or to lease or sell the major retailer property to a user that will use its property for a retail use compatible with the remainder of the shopping center.

The REA may also provide that, in the event that either party desires to sell its property to an unaffiliated third party, the other party will have a short “right of first offer” to purchase the selling party's property. The right to purchase would be for a price mutually agreeable to both parties. In the event that the parties are unable to reach such an agreement on price within a short period of time, the party desiring to sell its property would have the right to sell it to the unaffiliated third party. However, the REA might require the selling party to offer the property for sale again to the other party if it is unable to sell the property within a specified period of time for a price equal to or greater than 95% of the purchase price offered by the other party

Covenants Running with the Land, Term and Amendments

The REA should specifically provide that the rights and obligations set forth in the REA “run” with the land of the property subject to the REA. In other words, whoever owns the property subject to the REA will be subject to the terms and provisions set forth in the REA. In addition, the REA should specifically provide for the term of the REA and the method by which the REA may be amended. The REA should provide that the easements necessary for a party to access the public streets surrounding the shopping center and to use the shopping center utility systems run in perpetuity. This will most likely be required by the governing body with jurisdiction over the property as a condition to the recordation of the map creating the parcels that are subject to the REA. In some REAs, the parties agree that the easements for parking will “run” in perpetuity. Typically, the REA cannot be amended without the approval of the developer and the major retailer. However, the REA must be clear as to who has this approval right if one party's property is subsequently subdivided into multiple properties or owned by multiple parties.

Mortgagee Protection Provisions

The REA should contain provisions for the benefit of the lender of either party to the REA. In the event of a default by one party to the REA, the non-defaulting party should be obligated to notify the defaulting party's lender, if known, and allow such lender to cure the default. In addition, the REA should provide that a breach of any of the covenants or restrictions contained in the REA will not defeat or render invalid the lien of any lender made in good faith and for value as to the shopping center or any part thereof.

Conclusion

As stated above, shopping center REAs are quite straightforward when viewed as a substitution for a lease between a developer and a major retailer. Although an REA will not contain all the provisions found in a lease, many of the concepts will be the same. As with a lease, the REA ensures that the developer's property and the major retailer's property are operated as one integrated shopping center so as to maximize the success of the shopping center for both parties.

Gary A. Glick is a partner in the Los Angeles office of Cox, Castle & Nicholson LLP. He specializes in shopping center development and retail and office leasing, generally representing clients such as shopping center, office and commercial landlords, as well as major tenants.