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Ban on reviews….its lose lose lose

The ‘on again off again’ saga of upward only rent reviews came to an end this week.  Dermot Ahern finally decided to sign a banning order on the contentious clause under Section 132 of the Land Conveyance Reform Act after suggestions the matter was being dropped.  While on the face of it this populist decision looks like progress, it is not necessarily one that is going to be applauded by either side of the deep legal divide.

The tenants lose.
The raw reality of the amendment is that it puts tenants holding existing leases with upward only provisions in an even worse position than they were before it.  As the legislation cannot be retrospective it means tenants occupying property under existing leases at over inflated rents will not only remain at the mercy of their landlord for a rent reduction, but the prospect of off-loading their now antiquated lease to another occupier is further reduced.  There can be little doubt that tenants willing to enter into leases in the current market can have almost whatever clauses they want in the lease as long as they are prepared to pay rent.

The landlords lose.
On the landlords’ side the argument has been clear, the upward only rent provision facilitates investment and development funding by providing security of income.  Without it, the cost of funding will rise, gearing levels will fall and consequently existing values, particularly development land, will be diminished even further from their currently depressed state.   Similarly, from an international perspective, at a time when the advantages of the Irish commercial property market (namely high returns, no Euro currency risk and a UK based legal structure) were finally beginning to register on mainland Europe, we have removed one of the fundamental foundations of the market.

The Taxpayers lose.
So landlords aren’t happy and tenants aren’t happy. What of the Irish state itself? Well the news doesn’t get any better there either.  It is clear that single biggest loser from the change in the legislation is the world’s largest property company, NAMA.  Due to the timing of the change in the revised legislation, the negative value implications are unlikely to be reflected in the NAMA transfer valuations meaning that the value implications will be borne by NAMA/the taxpayer.  Similarly, it will be NAMA who will be out in the market in a few years looking to attract international investors to an Irish property market with reduced security of income.  The lack of ‘joined up thinking’ between the Department of Finance and the Department of Justice is a worrying precursor to the future commercial operation of the Nama project.

Fundamentally, unless the amendment is retrospective the government is simply legislating for an event (namely another Celtic Tiger Boom and Bust) that is unlikely to ever happen again, at least in our lifetime.  In the 35 years prior to 2000 there were few, if any, five yearly rent reviews in any sector that did not result in an increase in market rent and a consequent uplift on review. Does the minister think that rents will be lower in March 2015 that in March 2010? He must do as it is only if this is the case that this new provision will be of any benefit to a tenant. If it is the government’s view that demand for real estate will be lower in 2015 than it is now, it seems somewhat at odds with the NAMA business case that was published a few weeks ago telling us it will all be fine if we wait long enough.  Those worst effected by the cataclysmic shift in rents, namely the Irish retailers and ultimately their landlords, have already begun to alter how they do business and in this regard I think this sector has changed for the better, and changed for the long term.  Turnover rents, CPI rents or base rents with performance linked top-ups are the new reality for the retail sector.  Similarly, for funders to the retail sector, headline rental levels will only be part of the funding picture.  They have seen too many retailers renege on contractually bound legal commitments over the past 12 months to limit their risk assessment to ‘a lease and tenant covenant’.  Its clear that going forward funders will demand that borrowers support the sustainability of rental levels with detailed analysis of catchment, projected scheme turnover and ultimately conversion to retailer profitability.

If this is a populist measure I, for one, am struggling to see which sector of the population it appeals to. It certainly doesn’t help anyone affected by the property market (which by the way post NAMA is all of us the taxpayers).

Rod Nowlan
Investment & Asset Management Director