September 8, 2014 Hurdles Of Shopping Center Outparcel Redevelopment By Kathleen Dempsey Boyle, Pircher Nichols & Meeks A fast-growing element of shopping center redevelopment is the conversion and refurbishment of shopping center outparcels from outdated uses. Investors are enticed by well-located outparcels on the outskirts of existing shopping centers. Anchor stores in regional malls may want to convert their underutilized parking lots into a revenue source by carving out and leasing part of those lots to new users. However, decades-old restrictions governing the use and operation of shopping centers and outparcels may hamper outparcel redevelopment in unexpected ways. Monitoring those restrictions closely are the shopping Kathleen Dempsey Boyle center developers wanting to protect their occupancy rate and tenant mix (and perhaps having their own redevelopment plans). Lenders also consider the scope and interpretation of these restrictions when underwriting loans. Most retail developments operate under recorded agreements that manage and restrict the development, construction and operation of the shopping center that will be referred to in this article as “REAs.” A variety of REAs govern outparcels. The regional shopping center developer may have folded all outparcels into the definition of the shopping center so that each outparcel is subject to every obligation under the REA. Alternatively, a shopping center developer may have created a subset of less onerous restrictions within the original REA that apply only to outparcels, or a developer may have recorded a separate REA against individual outparcels that imposes restrictions while preserving access across shopping center land to public streets. Traditional Outparcels — Traditional Restrictions REAs traditionally restrict the height of outparcel buildings, their signage, their use and parking. However, the REAs did not necessarily contemplate modern features such as drive-through lanes and special architectural elements. Height restrictions. Older REAs may have stated height restrictions as a “plain vanilla” linear footage limitation or as a limitation tied to building stories (onestory, two-story). Now restaurant and retail operators want to incorporate architectural features such as steeples or decorative front entrances as part of their branding efforts, which was not anticipated by the REA drafters. The shopping center developer may successfully assert that all building elements are subject to the height restriction. Parking. The last thing shopping center or anchor store owners want is overflow parking from an outparcel encroaching onto the center’s parking lots. Parking restrictions may require that an outparcel be self-parked at a certain ratio or a ratio tied to the zoning applicable for the building’s size and/or use. This limits the ability of an outparcel owner to expand the building or convert to a parkingintensive use. Other styles of parking restrictions impose overall ratios on a center, which may create ambiguity as to whether such ratios also apply to outparcels. Signage. Many outparcels have buildings that are awkwardly sized for current uses, and an owner may want to fit multiple tenants into one outparcel building. However, REAs may limit exterior signage to one sign on one side of a building, one sign per building side, or to no more than one sign per main entrance to a store. For example, signage restrictions may prevent an outparcel owner from dividing an obsolete restaurant building into two fast casual restaurants with separate exterior signage. Site Plan Restrictions. The shopping center owner (and other REA parties) may have the right to approve any changes to a site plan previously approved in an REA. This occurs most often in REAs for regional centers. If an outparcel owner wishes to change a building’s footprint, reconfigure parking, add a drive-through lane or change curb cuts, all such changes affect the site plan and often must be approved by the REA parties. Use Restrictions. An REA affecting an outparcel might preclude non-retail uses, thereby constraining an outparcel owner from operating office or service uses such as medical or dental offices. Uses with heavy parking requirements, such as theaters, health clubs or churches, might be precluded on larger outparcels. Grocery-anchored centers may have REAs that dictate uses according to the locations of outparcels within a center. The definition of “retail” may either be undefined or so narrowly defined that uses that consumers may now consider to be retail (optical shops, spas, restaurants) are precluded under the REA. Control Areas — A Shadow Restriction A shopping center owner may have agreed to maintain existing restrictions on land that includes one or more outparcels, giving a tenant who is not an REA party control over an outparcel. For example, protection of sight lines from roadways is of prime importance to shopping center tenants with exterior signage, such as anchor stores and big box tenants, and a shopping center owner may agree to enforce an existing height restriction on an outparcel to protect that tenant’s visibility. Having control areas constrains the ability of a shopping center developer to agree to an outparcel owner’s request to change a restriction. Anchor Store Outparcels — New Challenges A recent trend is the efforts of anchor store owners to create value by developing and leasing an outbuilding in its parking lot. Ironically, given their location within the shopping center ring road, such areas are likely subject to the full force of regional shopping center REA restrictions rather than REA restrictions applicable solely to outparcels. The new outparcel building causes all of the traditional REA issues described above to come into play. Adding an outparcel to an anchor store’s property brings up other interesting challenges under the REA. Sometimes an REA places more comprehensive restrictions on the shopping center developer’s parcel than the anchor store parcels, as the developer will be leasing the center to multiple tenants selling a variety of goods and food as well as managing the common areas of the center. Will less comprehensive restrictions on an anchor store parcel inadvertently benefit an anchor store outparcel as compared to the developer’s property? It depends — and will be a factor for the other REA parties in evaluating any request seeking a change from the existing REA. In any event, the anchor store owner is placed in the position of a mini-developer who must seek the approval of all of the other REA parties to permit the new outparcel or risk litigation. In its new role, the anchor store likely must engage in a protracted approval process, which will require endurance and a willingness to trade its approval of another REA party’s development request for approval of its desired outparcel. The extensive REA regulations that may have been demanded by an anchor store decades ago now constrain rapid outparcel development on anchor-owned land. The traditional outparcel owner and anchor outparcel owner must run a gauntlet in attempting to redevelop outparcels in a manner that may be precluded by existing restrictions. When contemplating approvals, the outparcel owner must determine which owners have the right to approve changes to outparcel restrictions as well as the scope of those approval rights. In the background are shopping center developers who want to preserve the viability of their centers, non-REA party tenants with control areas, and lenders underwriting loans who seek clarity as to the scope of their borrowers’ development rights. Kathleen Dempsey Boyle is an of counsel with national real estate law firm Pircher, focused on leasing and development in the Chicago office.