Running Your Business
Limited options when rents rise
Rent reviews are common in pharmacy leases. They allow landlords to make periodic changes to ensure a rent is achieved which reflects the true value of the property.
The most common types of rent review seen in pharmacy leases are open market rent (OMR) review clauses and clauses linking the new rent to the increase in an index (usually the Retail Prices Index (RPI)). Other types include fixed/stepped increases, which are determined by the parties before the lease commences, and turnover clauses, which are linked to the pharmacy business’s turnover. It is common in pharmacy leases to have an OMR review every three or five years, combined with an index-linked review annually or every two or three years.
Historically, rent review clauses have been drafted to be upwards only. However, the Royal Institution of Chartered Surveyors Code for Leasing Business Premises recommends that rents be adjusted downwards too. Unsurprisingly, landlords are reluctant to agree to this, but it is something pharmacists should consider requesting when agreeing new lease terms.
Most rent reviews are not time critical; even if the rent review date has passed, it can usually still be implemented. Landlords will often try to delay carrying out a review if there has been no movement, or a downwards movement in the rent, as a later review might provide the best chance at an increase.
OMR REVIEW CLAUSES
An OMR is determined by looking at similar premises in the area. Rent review clauses of this type usually allow for the parties to try to agree the new rent between themselves in the first instance, before being referred to a surveyor for expert determination or arbitration.
A surveyor is directed to make certain assumptions about the terms of the letting – for example, that the pharmacy is in good repair or that the tenant has complied with the lease obligations – and to disregard matters which might otherwise distort the open market rental value, such as improvements made by the pharmacist (at their cost), initial rental discounts/rent free periods and the goodwill built up in a pharmacy business.
Several clauses within a lease can affect rental value. The ‘use’ clause can have a significant effect. If the lease allows the premises to be used for a variety of purposes, the OMR is likely to be higher than if the use was restricted. Pharmacists should therefore ensure when negotiating lease terms that they can use the premises for every purpose they require, but not beyond that.
Indexed rent reviews are linked to inflation and are calculated using a formula. Although RPI is most commonly used, some will refer to the Consumer Price Index (CPI). A collar and cap method may be used, capping the maximum increase, or bumping a lower calculated rent to the level of the collar.
Turnover rent reviews are also becoming popular. Rent is based on either pure turnover or a reduced base rent topped up by a turnover rent (an agreed percentage of the tenant’s turnover). No rent or only the base rent would be payable if the business stopped trading.
INFLUENCING A REVIEW
Prior to an OMR review, it’s a good idea to gather information on similar premises locally, to get an idea of what the rent of a pharmacy should be. This will facilitate direct negotiation with a landlord and avoid a (costly) determination by a surveyor. Pharmacists are likely to be in a stronger position to negotiate directly with the landlord if they have been observing and performing the lease covenants and paying all rents on time.
As indexed rents follow a formula, they cannot be influenced, although pharmacists should check calculations.
In advance of turnover reviews, pharmacists should collate all the financial information on the business and ensure they understand how turnover is calculated. What ‘turnover’ encompasses will differ from lease to lease.
CAN YOU DISAGREE?
The lease will dictate the method and time frame for disputing a reviewed rent. If the review has been referred to an expert or an arbitrator, however, their decision is usually binding, except when there has been a significant error.
The above is a general overview. We recommend seeking independent legal advice for any specific concerns.
Michelle Noble is a solicitor in the real estates team, Charles Russell Speechlys LLP firstname.lastname@example.org
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