A.CRE

Occupancy Cost Percentage

Also referred to as the Tenant Health Ratio, Occupancy Cost Percentage represents a retail tenant’s total annual occupancy cost as a percentage of total annual tenant sales at the property. This metric is used by investors in retail real estate to better assess the financial health of the tenant at a given location. The lower the occupancy cost, the higher the probability the tenant will remain at the property long-term. The higher the occupancy cost, the more likely a tenant will vacate.

Occupancy Cost Percentage = Total Tenant Occupancy Cost ÷ Total Tenant Sales

A healthy occupancy cost depends on the tenant type. While a healthy Occupancy Cost Percentage for a grocery tenant might be 2.5%, a similarly healthy Occupancy Cost Percentage for an apparel tenant might be 12%+. The variance in what is considered healthy largely depends on the profit margin of the products sold by the tenant. The higher the margin, the higher the occupancy cost a tenant can support.

See also Tenant Health Ratio.

Putting ‘Occupancy Cost Percentage’ in Context

Apex Realty Partners, a prominent real estate investment management firm, recently acquired Vista Ridge Lifestyle Center, an upscale retail hub located in the affluent suburbs of the Southwestern United States. The center spans 150,000 square feet and hosts a mix of tenants including high-end apparel shops, a gourmet grocery store, and several dining establishments.

Tenant Health Analysis at Vista Ridge Lifestyle Center

Apex Realty focuses on ensuring the long-term success of its tenants by maintaining a favorable Occupancy Cost Percentage. This percentage indicates the health of the tenants financially and their ability to sustain operations at the center. The calculation is straightforward: it’s the total annual occupancy cost divided by the total annual sales of the tenant.

Example: Gourmet Grocery Store

The Gourmet Grocery Store at Vista Ridge occupies 20,000 square feet with an annual rent of $1,000,000. Additional occupancy costs (maintenance, taxes, and insurance) amount to $200,000 per year, bringing total annual occupancy costs to $1,200,000. The store’s annual sales are reported to be $48,000,000.

  • Occupancy Cost Percentage = (Total Tenant Occupancy Costs / Total Tenant Sales) × 100
  • Occupancy Cost Percentage = (1,200,000 / 48,000,000) × 100 = 2.5%

At 2.5%, the grocery store falls within the healthy range for its category, indicating a strong likelihood of sustained operation and minimal risk of vacancy.

Example: Apparel Retailer

Conversely, an apparel shop in the center, occupying 10,000 square feet, has an annual rent of $500,000 and additional costs of $100,000, making the total $600,000. Their reported annual sales amount to $3,000,000.

  • Occupancy Cost Percentage = (Total Tenant Occupancy Costs / Total Tenant Sales) × 100
  • Occupancy Cost Percentage = (600,000 / 3,000,000) × 100 = 20%

This percentage is considerably higher than the typical healthy range for apparel tenants, suggesting a higher risk of turnover and vacancy. Apex Realty will need to assess strategies to either reduce occupancy costs or increase sales to enhance the tenant’s sustainability.

These hypothetical scenarios illustrate how Apex Realty uses the Occupancy Cost Percentage to make informed decisions about tenant relationships and property management, aiming to foster a thriving retail environment that benefits both tenants and investors.

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