How Semi-Gross Leases with CPI-Linked Increases are Transforming Shopping Centre Economics

In the dynamic landscape of Australian shopping centre leases, a notable shift from traditional net leases to semi-gross leases impacts retail property investments. Beginning around 2018, prominent centre managers initiated this change, integrating some outgoings into the rent, providing retailers with a more predictable expense structure.

Understanding the Semi-Gross Lease Structure

Semi-gross leases blend some outgoings with the rent, typically including management fees, salaries, security, and administrative costs, thereby reducing the variability of these expenses for the lessee. Below is a typical distribution of outgoings under this lease model:

• Statutory charges: Fully recoverable, such as municipal/council rates, water and sewage rates, land tax, and other statutory fees.
• Operating expenses: Partially recoverable. Costs like everyday area cleaning, centre supervision, and car parking are included in the rent, while insurance premiums and utilities like electricity and fire protection systems remain recoverable.

Approximately 60% of outgoings are embedded into the rent under this structure.

Comparative Analysis of Lease Structures

To understand the financial impact, consider these scenarios involving two fashion retailers:

• Fashion Retailer in Centre A (Net Lease): Leases 100m² at a base rent of $150,000, outgoings at $30,000, and a promotional levy of 5%. The rent increases by a fixed 5% annually. At the end of five years, this results in a total occupancy cost of approximately $226,538, assuming outgoings grow at an inflation rate of 4%.
• Fashion Retailer in Centre B (Semi-Gross Lease): Starts with a semi-gross rent of $168,000 (including 40% of outgoings), with similar promotional levies adjusted for the higher rent. The rent is indexed to CPI plus 2.5% annually. After five years, the total occupancy cost climbs to about $240,971, a 6% increase over Centre A.

This analysis shows that Centre B, under a semi-gross lease, imposes a higher initial cost but offers landlords more protection against inflation, translating to a slightly higher total occupancy cost by the end of the lease term than Centre A.

Implications for Capital Values

The shift to semi-gross leases significantly enhances property capital values. For instance, the 19% increase in capital values by year five in Centre B, when capitalised at a rate of 4.5%, leads to a substantial uplift in the property’s market value.

The Future of Lease Structures

While semi-gross leases with CPI-linked increases benefit retail landlords by generating more cash flow from rents and promotional levies in high inflation scenarios, they pose a higher financial burden on retailers due to unpredictable statutory outgoings and faster-rising rents. The prevailing economic conditions will likely dictate whether this trend continues or if there is a reversion to traditional net leases.

This evolution in leasing strategies mirrors broader economic shifts and could herald a new era in the management and valuation of shopping centres.

Around 2018, several centre managers began transitioning from traditional net leases to semi-gross leases, where they could recover some outgoings and embed others in the rent.

The major shift was that controllable costs for the Landlord were embedded in the rent. These include management fees and salaries, security, and administration.

The table below shows the typical distribution of recoverable outgoings semi-gross.

Statutory Charges	R
Municipal / Council Rates	R
Water & Sewerage Rates	R
Land Tax	R
Other Statutory	R

Operating Expenses
Insurance Premiums	R
Air Conditioning / Ventilation	R
Common Area Cleaning	I
Centre Supervision	I
Car Parking	I
Electricity	R
Fire Protection / Public Address System	R
Gas & Oil	I
Lifts & Escalators	I
Pest Control	I
Repairs & Maintenance	I
Emergency Generators	R
Energy Mgmt / Bldg Automation Systems	I
Security / Access Control	I
Sewerage Disposal & Sullage	I
Public Telephone	I
Uniforms	I
Salaries & Wages	I
Signs	I
Gardening / Landscaping	I
Administration / Management Fee	I
Miscellaneous	I

This shift in lease structures presents a significant development for the Australian retail landscape. As the market adjusts to this new model, landlords and tenants must carefully consider the long-term financial implications and strategically choose lease structures that align with their business goals. Whether the trend towards semi-gross leases continues, this evolution highlights the dynamic nature of shopping centre economics and the need for all stakeholders to remain adaptable in the face of changing economic conditions.

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