For commercial property tenants in South Africa, understanding rental escalation is crucial to maintaining a stable business environment and managing expenses effectively. “Knowing how escalations are calculated and what factors influence them can help tenants plan financial strategies and even open the door for negotiations,” says Craig Mott, National Business Development Manager for the Rawson Property Group.
Here is everything you need to know.
How Are Commercial Rental Increases Structured?
In South Africa, all the details of rental increases for a commercial property should be stipulated in the lease agreement. According to Mott, the terms are usually fixed for the lease duration, but can sometimes be structured to deliver different results depending on a variety of external economic factors.
These are some of the more common escalation calculation methods:
Fixed Increases – A fixed percentage increase (usually around 8-10%) is agreed upon in the lease. This is typically implemented annually, on an agreed date, giving both landlord and tenant the benefit of complete predictability.
Consumer Price Index (CPI) Adjustments – Some leases tie rent increases to the CPI, which reflects inflation rates. This means the rent will increase in line with the cost of living, ensuring that the landlord’s income remains stable in real terms.
Market-Related Increases – This approach adjusts rents based on current market conditions, potentially benefiting landlords in a rising market but also posing risks for tenants if rents rise sharply and/or without warning.
Combination of Methods – Some leases use a combination of fixed and CPI adjustments to balance predictability with economic conditions.
Factors Influencing Rental Increases
According to Craig Mott, there are a number of factors that influence how high rental increases may be in a particular commercial property. “Location is always a big one,” he says. “Properties in high demand areas like Cape Town or Johannesburg CBDs are likely to see higher rental increases than those in small towns or outlying areas.”
Market conditions also affect the rate of rental escalation, with economic downturns often resulting in rental growth stagnation or even decline. “The property itself plays a role, too,” says Mott. “If the landlord has made significant improvements or upgrades, it’s likely that rental growth will accelerate. If a property has been deteriorating, on the other hand, rental growth is likely to be slow.”
“The duration and type of business conducted within the premises may affect rental increases, too,” he adds. “The longer the lease and more reliable the tenant, the more opportunity there is to secure favourable escalation terms.”
Negotiating Rental Increases
Mott says commercial tenants do have the right to negotiate rental terms, but negotiations may not always be successful. “Generally speaking, tenants have a stronger footing in competitive markets and during economic downturns,” he says.“When commercial rentals are thriving, landlords may not be as receptive.”
Here are some strategies that can lend weight to tenants’ efforts:
Understand Lease Terms – Tenants should thoroughly understand the terms of their lease agreements, including any clauses related to rent adjustments. This knowledge is crucial for negotiations.
Know the Market – Conducting research on current market conditions and comparable properties can provide tenants with leverage during negotiations. If other similar properties are experiencing lower increases, this information can be a powerful negotiation tool.
Consider a Long-term Lease – Tenants might negotiate longer lease terms in exchange for more favourable rental increase terms. This can provide stability for both parties.
Leverage Lease Renewal – When it comes time to renew a lease, tenants can use this opportunity to negotiate better terms, especially if they have been reliable tenants with a good payment history.
Engage a Property Expert – Hiring a real estate professional with expertise in commercial leases can provide tenants with valuable insights and negotiation strategies.
Potential Challenges
Despite the potential for negotiation, Mott cautions tenants that there can be challenges when dealing with commercial rental increases. “Realistically, if you’re in a high-demand location or a property with high occupancy rates, you’re not going to have a huge amount of bargaining power,” he says. “Some leases are also less flexible than others, with stringent clauses that favour landlords.”
“Ultimately, you need to know exactly what you’re signing up for from the outset” he concludes. “Approach rental negotiations with a clear understanding of lease terms and market conditions, but don’t rely on the possibility of future negotiations to maintain the viability of your business. And, if in doubt, always get a commercial real estate professional involved.”
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Tshego Sefolo and Londeka Shezi from Agile Capital – In 2015, after 13 years in the investment industry, Tshego Sefolo went to the market to raise hundreds of millions to launch his own private equity firm, Agile Capital. It took him and his business partner Londeka Shezi, less than a year to secure the investment, for not one, but two private equity firms. Londeka Shezi, is a director at Agile Capital, but her journey started when she completed her articles with Pricewaterhouse Coopers in 2009. She then joined Standard Bank where she worked in the Leverage and Acquisitions team, and went on to become a senior associate at Zico Group.