The Pros and Cons of Kick Out Clauses in Retail Leases

Parties negotiating a retail lease will often discuss a kick out clause, which allows for termination of the lease before the expiration of the term if a specific sales threshold has not been met by the tenant. Typically the tenant requests the clause, since if it’s not reaching that threshold it may not be generating enough revenue to justify continuing operation of its business at that location. Because the lease may be structured to pay the landlord percentage rent, the landlord may want a termination right as well if it believes that a stronger tenant would lead to greater sales. As such, a kick out clause can be structured to give either side, or both, a right to terminate the lease.

If the landlord agrees to a tenant’s right to terminate, the parties should discuss what conditions would apply. For example, if the landlord has invested in improvements to the tenant’s space and those improvements have not yet been fully amortized, the parties should consider whether the tenant will reimburse landlord for the unamortized portion. Likewise, if the landlord paid a broker’s commission, then the unamortized portion of those funds could be paid by the tenant as well.

Assuming the parties agree on the financial terms, timing is another important issue. Typically whichever party is agreeing to the other having a termination right – whether it be landlord or tenant — will want to have some significant period of time elapse before the termination right becomes effective. In this way the landlord is protected from the risk of the tenant giving up too soon, and the tenant is protected from the landlord trying to replace it with another tenant. For the same reason, the party agreeing to grant the other a termination right may want that right to be a one-time election which must be made in a short period of time. Without that window, a tenant with a termination right could fail to meet the threshold, decide its business is sufficient to stay open for awhile, and thereafter have no commitment to stay open any longer than it pleases. At that point, it has a continuing right to cancel the lease. The same could be said for the landlord. If the tenant misses the threshold but the landlord is satisfied with fixed rent, it could keep the lease in place until it finds a better opportunity and then terminate at that time.

A kick out clause can be critical to a party to a retail lease. For a tenant, it may mean the difference between merely closing a failing venture with minimal personal loss or risking the loss of all of its assets. For a landlord, it allows an owner to increase revenue by finding a tenant that is better suited to its location.

For both parties, it is important to remember that the kick out clause is not just a tool, but one that may inadvertently become a double-edged sword. To avoid that risk, both the landlord and the tenant need to consider the positive and negative implications of each side having a termination right under a kick out clause and determine whether it is a good solution for them.