Turnover rent, or turnover-based rent, is a rental model where the landlord gets a fluctuating amount of rent – normally as a percentage of the tenant’s revenue.
This rental alternative aligns both tenant and landlord. It is most common in retail (where sales are generated from the premises), but can also be used for serviced offices.
It is generally handled by way of a clause in the tenant’s lease agreement.
When the retail asset performs well, and sales are high, the landlord gets a percentage of the upside. When trading conditions are either tough or the retail asset underperforms, the tenant pays less.
Assuming high integrity landlord and tenants, turnover rental provides an elegant rental solution to unusual operating conditions.
Turnover rent models
These are listed from most common, to lease common
- Hybrid rental: a baseline rental is agreed. Turnover rental is paid on top of the baseline rental – using one of the formulae laid out below.
- Vanilla case: no baseline rental. The only rental paid is turnover rental
Generally turnover rental is calculated on turnover. In other instances, and this is uncommon, landlord and tenant can agree to pay rental based on the tenant’s gross margin or other form of operating profitability metric.
More advanced turnover rent models
All examples below assume a basic rental of R30K per month.
- Rental is paid as a flat percentage of any and all turnover. For example:
- Tenant pays landlord 5% of monthly turnover
- Tenant invoices R1M.
- The turnover rental payable is R50K ( R1M x 5% )
- Total rental payable is R80K ( R30K basic + R50K turnover )
- For all turnover above a certain, mutually-agreed value, the tenant pays the landlord a flat percentage. For example:
- Tenant pays the landlord 7% on any turnover greater than R400K
- Tenant invoices R1M.
- The turnover rental payable is R42K ( ( R1M – R400K) x 7% )
- Total rental payable is R72K ( R30K basic + R42K turnover )
- The percentage of turnover is increased or decreased on a sliding scale (depending on the value of turnover). For example:
- Tenant pays the landlord 1% on first R300K, 4% on R300K to R800K, 10% on R800K upwards
- Tenant invoices R1M.
- The turnover rental payable is R43K ( (1% x R300K ) + ( 4% x R500K ) + (10% x R200K) )
- Total rental payable is R73K ( R30K basic + R43K turnover rental)
Advantages of turnover lease clauses
- Both tenant and landlord’s interests are aligned. The better the retail asset performs, the more money the tenant will make. And the landlord will receive a fraction of that upside
- During tough times
- Tenants’ overheads will decrease
- Landlords will avoid vacant units, and receive some rental income
- Tenants will continue to pay their proportionate share of operating costs, utilities, and other costs
Disadvantages of turnover rentals
- Such a revenue line item makes budgeting and forecasting more complex for both parties – particularly the landlord
- Prospective purchasers may elect not to recognise turnover rental income in their determination of a property’s net operating income.
- Turnover rentals can prove time- and resource-intensive for both tenant and landlord to administrate.
- In addition to covenant considerations, the landlord is exposed to the operations capability of the tenant. This can negatively affect the value of the commercial property
- With this clause, the tenant is incentivised to produce lower turnovers.
- Landlords may require lender / mortgage provider approval to agree to a fluctuating rent.
