Between PBS reforms, wage costs, a downturn in retail and high-cost new drugs, pharmacies are being squeezed more than ever… but do landlords understand or care? Megan Haggan investigates
Rents in retail are “overcooked,” says Phillip Chapman, director of Brisbane-based Lease1 and co-author of the Pharmacy Rental Report 2016 update.
Pharmacy has its own pressures which don’t apply to other retail sectors, that landlords don’t understand as well as they could: and as landlords have traditionally seen pharmacies as a steady source of income, these pressures bite all the more.
“The landlords do get it but reluctantly,” Mr Chapman told the AJP.
“Pharmacy usage is an integral part of the tenancy mix, it’s a very strong part of their investment and value proposition as far as the values and the capitalisation rates of their investments.”
But whether or not a landlord is willing to work with a pharmacy which needs help, or to recognise these pressures in negotiation, is by no means a given.
“In general the trend is they remain overcooked, and the pressures of margin compression (which is happening in a lot of retail sectors but more so pharmacy because of the interventions by government, particularly with accelerated price disclosure) have changed the landscape there considerably,” Mr Chapman says.
Rough times in Rocky
His businesses survived the 2010-11 floods, Cyclones Oswald and Marcia, $120,000 in unpaid debts from a former business partner and his own serious illness… but in the end, it was the rent which lost Brendon Reck his two Rockhampton pharmacies.
Administrators were appointed in February 2017 to handle the liquidation of Terry White Chemists and Priceline in Stockland Rockhampton, prompting customers to take to Facebook to express their support for the owner and staff.
The local Morning Bulletin speculated that rental costs of $70,000 per month, in addition to price disclosure, were a significant issue, and Mr Reck confirmed that “my February invoice was in excess of $70,000 for rent, outgoings and electricity”.
One Nation’s Pauline Hanson cited the pharmacies’ misfortune in an appearance on Insiders, telling the program’s Barrie Cassidy that she supported the Fair Work Commission’s decision on penalty rates.
“What needs to be debated here—small business, Barrie, they’re struggling,” she said. “If you can actually help them out with rising electricity costs, rent prices—I know of a chemist shop in Rockhampton, $70,000 a month in rent.”
Brendon Reck told the AJP that both his pharmacies were in a healthy financial state by 2012, despite the impact of floods and cyclones, government decisions and his having undergone surgery for an artery blockage relating to his type 1 diabetes.
The two pharmacies also lost approximately $120,000 as a result of offering the $1 co-payment discount.
“Rent and the unwillingness of the landlord to assist in any way proved to be the tipping point in breaking the businesses,” he says.
“Every time one of those things happened, it was a shock to the business, and that had implications with respect to cash flow and trading losses. When you start adding those on top of each other and then throw in an economic downturn and the changes to the PBS, your revenue versus cost lines don’t end in a good situation.”
He says he approached Stockland to talk about the viability of the Terry White store, against a background of economic decline in the Rockhampton area: mines and other businesses have closed, leaving a real-terms unemployment rate of 25-30%.
“Initially Stockland verbally said that yes, we’re happy to look at things and work with you, but none of that was supported with anything of substance.
“The only offer that came back to me was for one of the pharmacies giving up a significant amount of frontage facing the food court, and losing half the frontage to Woolworths on the other side, leaving me with the dead space in the middle and charging me more per square metre.”
He says he feels that Stockland wasn’t able to come up with a viable solution for his two pharmacies – and his aren’t the only businesses in the mall to have suffered.
“As of the week after Easter the number of tenants in Stockland Rockhampton that have either gone broke, not renewed leases or have handed back the keys to their franchise company, is over 40 in 18 to 24 months… you tell me nothing is wrong!
“Within the town there’s probably over 200 businesses that have gone under in the last year. And there’s a lot of anger.”
It’s impossible to discuss how any single one of the various pressures on a pharmacy affect it without considering other factors, as “they’re actually dovetailed together,” Mr Chapman says.
“You can’t really talk about one part of the business without the other. What we touch on is, leasing is only just the foundation stones.
“We’re not seeing pharmacy wages reduce. The front of shop wages, we may see some changes there with penalty rates—it’s still being debated as we speak but it’s the cost of goods issues as well.
“Pharmacy needs to review their entire supply chain. They need to understand that the Government’s part of their supply chain as well but so is their landlord. Their staff is a supplier of labour to them but also their wholesalers et cetera, they’ve got to be negotiating.”
The appearance on the market of high-cost new medicines such as the curative breakthrough Hepatitis C drugs have also had a massive impact.
“Sometimes that has been a pressure point that has created a precipice. A tipping point for some pharmacies in relation to their community service obligation on providing those is huge. What that has brought into play is that one of the real legacy issues out there is the amount of debt pharmacies are carrying in their businesses long term and not dealing with it, so when they see that they want to go back to the bank and say, ‘Listen, I need to increase my overdraft to cover these new molecules,’ and the money is not there, it’s sending people certainly to a situation of high stress because they have an obligation contractually with the Government but also morally as health professionals.
“When we explain to landlords some of the intricacies of how a pharmacy actually works and the layer cake of what they do within those four walls of what’s perceived as just a retail shop, they’re astounded. When we tell them that there’s a $19,641 product in their store their eyes light up, and I say they only get $70 for it!
“We use that as a core support for our continual push on the reporting of sales figures, that they should not report any activity of the dispensary. The true and only measure of real estate and the performance of the land as a marketplace is the retail front of shop sales.”
Mr Chapman says that there’s some evidence that owners are paying attention to the tools available to them, such as the Rents Report: “We are seeing a softening of if not rents as a whole, we are starting to see a softening in rental increases. They’re listening to the Guild as far as transformation and understand that their lease is part of that.
“I think that trend will continue, as long as everyone’s prepared to keep up the hard work.”
Part of the problem is that the relationship is not an equal one, Mr Chapman says: and nothing highlights this more than the “very misguided” changes of 2011/2 to locality rules, which he calls “the elephant in the room”.
“There was a wholesale shift in the perceived leverage of the relationship from the pharmacist who owned a number and a territory to providing it to a facility, being the landlords.
“That has changed the landscape entirely, and has made particularly in the more high profile properties, has made it a very difficult risk management process when negotiating.
“The landlords can now kick a pharmacist out and get another one in. And it’s by right of the shopping centre, not by right of the pharmacy. So the people who made those changes didn’t think it through. They thought that they were going to block Chemist Warehouse and all they did was empower the landlords even further.”
So how can pharmacies navigate their landlord relationship in such trying time?
A spokesperson for the Pharmacy Guild says that pharmacy transformation is key to survival.
“There are some costs over which community pharmacies have little or no control – including rent – so in a continuing difficult trading environment it is vital that pharmacy businesses transform their businesses to ensure viability in the future,” he says.
“The Guild has a range of business support tools to help pharmacies do this. We also support the use of leasing experts at lease renewal time to make sure the pharmacy’s capacities and interests are correctly represented.”
Mr Chapman says pharmacies need to consider whether they’re occupying more real estate than is good for them.
“On the whole there is far too much space being let, which is a consequence of high rents. It’s also a consequence of high capital in shopfittings et cetera, but it’s also an ongoing operational cost in relation to stocking those premises.
“We see proportionate merchandising and display being affected we see stock turn being eroded and that has a direct effect on the equation of cash flow.”
It’s vital to get both the occupancy/cost ration and the turnover per square metre benchmark right, he says.
And some large, branded pharmacies are beginning to do this by reducing their footprint by 30 to 50%, “and with no effect to sales but enormous and layered effects on bottom line”.
The 80-20 rule – to have 80% of sales from 20% of products – still rings true.
“But to have the push, whether it be from the brands, franchises et cetera to have this enormous width and depth of ranging, which doesn’t meet the market pitch for that particular pharmacy, is driving people to the wall.
“So they need to be very brutal and very honest about their business. If that stock is sitting on the shelf and it hasn’t turned in a couple of months, you’ve got to question whether you actually need it.”
Likely contenders to stay on the shelf include gifts and cards; Mr Chapman says pharmacies which have downsized may only stock perfumes during key promotions such as Mothers’ Day.
“Landlords are always going to drive them to say they want a bigger store. They want to drive as much pharmacy space as they can, because they pay higher rates.
“In getting the footprint right, I don’t really care what the rate per square metre is, I care what it’s going to turn over and what percentage the rent is to those sales. What the landlord achieves out of that as a rate is insignificant.”
He also warns that owners need to leverage time.
“They need to be engaged in the research and establishing their capacity going forward and planning their lease at least 18 months before a major lease event, whether it be an expiry or an option. Leaving it till six months out or waiting until the landlord contacts them is just playing to their hand.”
Talk about it
Brendon Reck called for a wider discussion of high rents and pharmacies’ relationships with landlords in the sector more generally.
“Both the brands I’ve been a franchisee of have been very, very supportive through the whole process – by no means have I been left out to dry by either of them.
“But no one from either of the major parties have contacted me to try and understand why this has happened. The simple fact that Pauline Hanson is able to draw people’s attention to the very real issues facing the viability of pharmacy in Australia is critical. Many people often making decisions don’t have a single cent of their own money on the line.
“I have had phone calls from countless pharmacists who are in similar situations [to me]. Unless the major landlords are willing to take a cut, many more successful and well run businesses like mine will be forced to close their doors.
“At the end of the day the speed at which many of the changes have been made to the PBS, for example discounting of the co-payment, have been made have not allowed for businesses to adjust,” Mr Reck says.
“All stakeholders including the landlords have to take some of the impact.
“But they just don’t seem to care.”
We spoke to Natalie Sirianni, of Attain Business Brokers, for some helpful hints
- In relation to pharmacy rents, the most important thing is that the site is productive for the pharmacy – that, is it brings in customers! Therefore, it’s good to look at rent over a number of key measures including rent per square metre and as a percentage of turnover.
- In the case of a pharmacy business sale, low rent is attractive to the market and is a key requirement for a number of buyers.
- Shopping centre rents can sometimes be a deterrent in the market, but it is important to look at the effectiveness of the site. We see some pharmacies paying close to and even over $1 million in rent, but they are achieving great return on their rent paid.
- When considering rent, it is also important to consider other lease terms such as length of lease, rental review method, option periods and outgoings etc.