Mar 09

The Fixed is In

The growing appeal and prevalence of fixed CAM.

At a time when so much of the retail industry is changing in very visible and sometimes dramatic ways in response to post-pandemic pressures and opportunities, one of the most prevalent structural changes is happening entirely behind the scenes, buried in the bodies of retail real estate lease agreements. Landlords and tenants alike are increasingly gravitating toward fixed CAM (common area maintenance) payments to resolve what has become an increasingly complex, burdensome, and generally frustrating piece of the property management and ownership puzzle: how to calculate a tenant’s share of annual maintenance costs.

Growing numbers of retail owners, operators, and tenants seem to agree that fixed cam provisions resolve what has long been a recurring, contentious negotiation about what percentage and which components of maintenance costs tenants should be responsible for paying. To understand how and why fixed CAM has emerged as a simple and appealing solution, we first must appreciate how we got here.

Historically, most retail leases were gross leases, with an agreed-upon rental amount owed to the landlord, regardless of how much the landlord might have spent every year for maintenance and other operating expenses. Over time, the triple net lease (NNN) became the standard. In a triple net lease agreement, the landlord collects a set amount of base rent plus additional amounts to cover the tenant’s proportionate share of real estate taxes, property insurance, and common area maintenance expenses. This was initially viewed by both landlords and tenants as a more transparent and equitable approach by ensuring that those annual costs were not baked into unreasonably higher rents—and that tenants were contributing their fair share to the cost of expenses that benefitted all parties.

Over time, the problem with the triple net lease wasn’t necessarily in the concept, but in the execution. While real estate taxes and insurance costs are relatively straightforward and uncontrollable, CAM expenses are more fluid—and usually more controversial, with tenants pushing back against contributing to certain categories of expenses. While some expenses are both clear and relatively consistent (e.g. landscaping, electricity, trash removal) others can fluctuate significantly from year to year, especially pricier capital expenditures such as a roof or parking lot replacement. Many tenants maintain, perhaps not unreasonably, that such costs should be the responsibility of the landlord. Management fees and caps on annual increases are also common bones of contention.

As a result of those negotiations, CAM provision specifics began taking up pages worth of complex lease language. And because CAM provisions often vary from one tenant to the next,

shopping centers landlords and tenants are often faced with a situation where virtually every lease is unique. The result is that it takes an enormous amount of time and resources to calculate and agree upon the annual reconciliation figure for each lease.

The whole framework has become so complex, so tiresome, and so expensive that landlords and tenants are increasingly embracing fixed CAM, a structure under which both parties agree to simply eliminate these lengthy negotiations and cut out the complex leasing language in lieu of an agreed-upon fixed CAM figure: a set amount that increases by a fixed percentage each year.

While annual percentage increases have been a feature in leasing language prior to fixed CAM, typically addressed through a negotiated cap on CAM expenses that could only increase by a set percentage each year, they can have the unfortunate side effect of effectively punishing landlords for lowering expenses. A landlord who manages to decrease CAM costs 10% one year, for example, could find itself unable to recoup its expenses the following year if maintenance costs increase back to a “normal” level that exceeds the agreed-upon annual limit of how much they can increase CAM charges. In effect, this can disincentivize landlords from working to reduce expenses.

With fixed CAM there are no more complex and potentially contentious negotiations and no need to engage in a costly and tedious reconciliation process. Tenants generally view fixed CAM as an easier and more predictable way to manage their occupancy costs, and landlords no longer have to negotiate these provisions or engage in the meticulous tenant-specific record-keeping and reconciliation process. And neither party has to spend time and resources calculating who owes what to whom and conducting detailed audits to determine whether or not they appropriately charged.

The appeal of this popular and growing retail leasing trend is clear. At the end of the day, one party or another may come out “on top” from one year to the next, but fixed CAM agreements ultimately save so much time, money, and headaches that it’s unsurprising they have proliferated. Anecdotally, the percentage of leases being signed with fixed CAM provisions has increased precipitously, and growing numbers of retailers—including many national brands—are embracing the fixed CAM approach. It’s an encouraging sign that a side of the business that has “trended to complexity” for so long seems to be moving in a direction where there is a welcome degree of additional clarity, predictability, and simplicity.