Revenue Sharing or Profit-Sharing in NYC Commercial Leases

Revenue-sharing and profit-sharing in NYC commercial leases remain fashionable even though the recent pandemic is beginning to recede. During the pandemic, because of mandated closures and other factors, many landlords and tenants looked to revenue/profit-sharing arrangements as a method to prevent lease defaults and permanent business closures. However, revenue/profit sharing is not particularly new and is not something created as a pandemic necessity. Indeed, revenue/profit-sharing in commercial leases has been common for years with regard to properties like retail shopping malls and hotels. Profit sharing also became somewhat common here in NYC for commercial space about 15-20 years ago. See this TheRealDeal media report from 2010.

How is it calculated?

To begin, let’s distinguish between profit-sharing and revenue sharing commercial leases. As the terms suggest, profit sharing requires the tenant to pay — as rent — some percentage of the monthly profits from the business. By contrast, revenue sharing requires rent as some percentage of monthly sales revenues. NYC landlords typically prefer revenue-sharing rental arrangements if only for ease of calculation. A tenant’s revenue is relatively simple to determine and audit. Further, there are only a few things that might impact monthly revenue numbers, such as consumer returns and charge-backs. With revenue-sharing arrangements, straightforward calculations eliminate large areas of potential dispute between the landlord and tenant. This is not true for profit-sharing arrangements since profits are defined as revenues minus expenses. What “counts” as expenses can become quite controversial, and auditing becomes very complex and cumbersome. So, going forward, we will speak in terms of revenue sharing.

Mixed Model of Base Rent and Profit Sharing

Next, note that revenue-sharing relates to the base rent part of commercial lease tenant obligations. A typical NYC commercial lease is a triple-net lease. That is, the tenant pays a base rent plus the tenant’s share of the annual real estate taxes and insurance and the tenant’s share of common area maintenance and repairs/upkeep. So, if the tenant occupies half of the rentable space, the tenant pays the negotiated base rent plus half of the other items listed. Essentially, a revenue/profit-sharing commercial lease will define “base rent” as a below-market monthly amount based on the square footage being rented plus a percentage of the tenant’s monthly revenues (“revenue-related rent”). However, under a triple net lease, the other payments required by the tenant will be unaffected by revenue.

Practically, revenue sharing is based on the prior month’s revenues (or the revenues from the month before last). The tenant must provide the revenue numbers to the landlord, and there are generally rigorous audit rights given to the landlord. Tenants also generally negotiate threshold revenue numbers where no revenue-related rent is due unless revenues reach a certain amount.

Pros and Cons

There are obvious advantages for a tenant in signing a revenue-sharing commercial lease. The base rent is generally much lower and any “extra” rent only becomes due if revenues are sufficient. Tenants benefit if economic conditions worsen. Landlords may also benefit from signing a revenue-sharing commercial lease because such can help fill rentable space that might otherwise remain vacant. Landlords also benefit from the success of their tenants but also maintain a base revenue stream when economic conditions take a downturn.

Contact the NYC Commercial Lease Negotiators at Wright Law Firm NYC Today

For more information, call the experienced New York commercial lease and real estate attorneys at Wright Law Firm NYC. We provide top-tier commercial real estate legal services and legal services for the NYC business community. To schedule a consultation, contact our office by e-mail or call us at (212) 619-1500.