Turnover Rental – Why the Consternation

Mr Marc du Toit is the head of retail, Knight Frank Uganda

By Marc du Toit

Recent trends in the East African property retail sector have seen the introduction of turnover rentals, and this has created consternation among smaller retailers, particularly in Kampala.

Some retailers are averse to adopting Turnover rentals either for fear of disclosing their turnover figures to the landlord, or just fear of change from the normal practice of paying a fixed rent.

To other retailers, they perceive landlords as being greedy because they don’t fully understand (are unwilling to understand) the concept.

Ironically, however, the trend in more developed markets, which trend is rapidly gaining momentum in East Africa as well, is a preference for turnover rentals.

International retailers and retail best practice pushes for turnover rental agreements, as it has been proven to support the trade of retailers and leads to a more transparent relationship between the parties.

These parties are in actual fact partners, not only in bad times (when tenants default), but also in good times (where market factors drive up sales revenues and rental rates).

Getting to the crux of the matter, turnover rental in its basic form is a practice where the tenant pays a percentage of their sales revenue as rental. There are various methods by which this can be done:
Straight percentage of sales: Where rent paid is derived as a fixed percentage of monthly revenue. This is common practice in developments where retail is not the core business of the development and is, therefore, seen as adding value or experience to the core business.
Examples of this is casino developments and retail units in airports. In certain cases, poorly performing shopping centres also enter into such agreements with unique retailers, thereby limiting the retailer’s risk, incentivising their entry into the shopping centre to drive footfall and performance of the development and tenant mix.

Base rental or turnover rental, whichever is the greater. This is the most widely used practice internationally and allows for the base rental to be set at the investment return that the developer requires to achieve a sustainable development, and share in a percentage of the sales above the minimum threshold, if such development or store trades successfully.

Base rental and turnover rental: Are the least commonly used and mainly for large space users such as departmental stores who have a variety of products with various levels of profitability.

The tenant pays a base rental usually calculated at the bare minimum viability of the construction of the premises, and a percentage of the revenue generated from various product lines.

The choice of method used will depend on the type of tenant, bargaining strength, the opportunity to trade and viability of both parties.

So why is this concept growing and gaining popularity among international and more astute retailers?

Firstly, they understand the property development cycle, and principle that developments need to show a return for the developer, which return is a determinant of the base rental. They also realise that should the landlord’s return be pegged to the sales revenue generated by the store, they will be incentivised and have an interest in ensuring that the shopping centre performs well, is well maintained and serviced.

The landlord will also retain tenants and market the shopping centre to the best of their ability to ensure maximum trading density and foot traffic to the mall, which in turn drives up revenues, and everybody wins. A real partnership is formed whereby both parties are looking after each other’s interests.

The sharing or disclosure of sales revenue data is to allow the landlord to manage his property with real time information, thereby analysing what impact management decisions on various aspects of mall management and marketing are having on the revenues of their tenants, and allow them to adjust their strategy accordingly for positive results.

The long-term advantage is that rental negotiations are based on objective and real information and the ability to trade versus emotional subjective opinions. The resistance to this best practice by some retailers can only be based on incorrect interpretation of the principle, lack of understanding of corporate governance and statutory requirements or the fact that they are performing better than they would like the landlord to know.

In conclusion, turnover rentals are becoming the exception rather than the norm in this region, which has been slow in adopting it. But best practice and the increased interest from foreign retailers into our market is rapidly changing the local practice, as they understand and appreciate the advantages of the concept.

Turnover rentals are a reality, and as the Kampala retail market grows and matures at the rate it is, can only be a matter of when and not if it will be fully adopted by all landlords, and tenants.

Such data will also allow us to acquire measurable performance indicators, which are critical to the growth of the retail sector. As Peter Drucker, the Management Thinker said, “You can’t manage what you can’t measure.”

Mr Marc du Toit is the head of retail, Knight Frank Uganda

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