Greater clarity needed on exclusive lease agreements in grocery retail sector

10 July 2017

The Grocery Retail Market Inquiry (GRMI) is a crucial step towards finding much-needed clarity on the ongoing problems with long-term exclusive lease agreement provisions between landlords and supermarkets.

The current standing of exclusive lease provisions is unclear. All those involved - landlords, supermarkets, competitors and the public - would benefit from a set of clearly defined guidelines or rules on whether long-term exclusive lease agreements are legal, and whether they can be enforced.

Leases may contravene Competition Act

The Competition Commission initiated the GRMI to assess anti-competitive practices in the South African grocery retail sector. One of the issues which the GRMI is looking at is investigating concerns that these leases may contravene the Competition Act, particularly where supermarkets have market power.

Of the six issues the GRMI is investigating, long-term exclusive lease agreements are probably the most controversial. These lease agreements pit landlords and supermarket chain groups against each other, often leading to costly legal action.

The GRMI is only expected to conclude in March 2018, but the current process will help to gauge public opinion and the views of interested parties on exclusive lease agreements. Public hearings have been held in Cape Town, Pretoria and Johannesburg and more are taking place in KwaZulu-Natal this week (3 to 7 July).

Exclusive operating rights

An exclusive lease agreement is generally a long-term lease agreement between a landlord (usually an owner of a shopping centre) and a tenant, that grants the tenant exclusive rights to operate in the specific shopping centre. The tenant, usually one of the big four national retail supermarket chains (Pick n Pay, Spar, Shoprite and Massmart), obtain 'exclusivity' in a particular shopping centre. The exclusive agreement ensures that no other supermarket, bakery, chemist or butchery, for instance, may do business in the centre.

While excluding any possible competition for the retailer, an exclusive lease agreement also ensures the centre's financial viability and sustainability. The supermarket serves as an anchor tenant, drawing large numbers of feet to the centre. At the same time, it provides funding security as the long-term lease agreement can be registered against the title deed against which a mortgage bond could be registered.

The construction of a shopping centre and fit-out of a supermarket is an expensive exercise and requires substantial capital outlay. Without exclusivity, it would be difficult for both the retailer and the developer to recover their costs.

Competition stifled

On the other hand, exclusivity provisions make it extremely hard for small firms to enter the retail sector as competing bakeries, butcheries and other stores are restricted from trading in the affected centres. As there is no competition between similar stores in the centre, consumers are denied the lower prices, better product quality, variety and innovation driven by rivalry.

The current investigation into exclusive lease agreements is the second one of its nature. It follows from, amongst others, complaints made by the South African Property Owners Association (SAPOA) to the Competition Commission, after some of its members needed clarity and guidance following the findings of the commission's previous investigation.

The first investigation into the four major supermarkets - which hold a 90% share of the market - was concluded in 2011, when no evidence of anti-competitive behaviour and price fixing were found.

At the time, the commission had concerns about long-term exclusive leases and its analysis to date indicates that these may possibly contravene the Competition Act, particularly where supermarkets have market power.

After the Competition Commission's previous investigation, a number of landlords thought there was an understanding that long-term exclusive lease agreements would not be enforced as they may not be legal. This led some retailers (notably Pick n Pay and Shoprite) to turn to the courts to enforce their contractual rights aggressively and successfully.

Perpetuation of restrictive practice

On the other hand, in several merger applications involving commercial or retail property that appeared before the Competition Tribunal, the tribunal imposed a condition on the merger approval that the parties to exclusivity clauses in leases must negotiate in good faith to seek an end to the relevant exclusivity clauses upon termination of the lease agreement. In most of these cases the retailer did not agree to the cancellation of the clause, or the lease agreement would only terminate after a long period, which led to the perpetuation of this restrictive practice.

There are practical ways to deal with the current uncertain position of exclusive lease agreements. One way would be assessing in each case how long a retailer would require exclusivity in a centre to make its investment worthwhile, while at the same time establishing how long the centre would need a lease agreement to secure sufficient rental income to justify the building of the mall.

As a guide, the similar Competition Commission Market Inquiry into the liquid petroleum gas sector recommended a 10-year limit on the duration of supply agreements.

Looking abroad

Regarding the enforceability of exclusive lease agreements, it might be worth looking abroad at what other countries and regions did to solve similar matters.

In the EU, parties may not enforce exclusivity five years after the date of opening the store.

In Australia, parties are required to provide undertakings that they will not give effect or threaten to give effect to a restrictive provision in an existing lease after a period of five years. They can also not enter into a future lease which includes restrictive conditions.

Closer to home, in Botswana, parties have to agree to remove restrictive clauses.

The lack of clarity in the retail sector on exclusive lease agreements is untenable. It will continue to lead to major costs for all parties until the GRMI makes a clear, unambiguous ruling that would then lead to clear rules to settle the issue.

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