What are lease negotiations like in Brazil?

What are lease negotiations like in Brazil?

In 2017 I negotiated a corporate lease in a prime building in São Paulo. At the three year anniversary of the lease execution, the landlord initiated a rent review, requesting to renegotiate rental rates. What is this, you may ask? This is a 5 year lease! What is going on?

Local Law is King

Experienced Corporate Real Estate professionals know that whatever terms may be included in a lease, local laws can supersede any contract. Although this can be true anywhere, it is especially noteworthy in Brazil. Whereas US lease negotiations focus on locking in fixed terms and durations, Real Estate Lease Law in Brazil is more fluid.

In the example above, formalized base rental rates had been negotiated in 2017, through 2022. My landlord knew that Real Estate Lease Law in Brazil entitled them to renegotiate at the three year mark, and had paid attention to vacancy rates and inventory in our micro market. They knew their rights, and that they stood to gain from exercising it. It is important to note that this law cuts both ways - tenants also can request to renegotiate if they are paying over market. Not knowing your tenancy rights under the law could lead to a missed opportunity to readjust rates in your favor, as these rights may not be expressly outlined in the lease.

Real Estate Lease Law in Brazil also gives tenants the right to terminate before the formal end date of the contract. In the negotiation I was involved with, the lessors were highly motivated to build in early term penalties into the contract to mitigate this tenant right. The Brazilian real estate market has undergone significant growth and change with the arrival of institutional investors in recent years. The access to capital markets in turn has led to construction of new buildings whose investors seek to protect their investments with a new set of expectations that are challenging traditional norms. Even as the market and associated players continues to evolve, and the São Paulo skyline fills with amazing new buildings, the legal framework within which it must operate remains unchanged. Understanding the landlord's pressures and motivations helps to understand their push for penalties on the legal precedent. In reality the landlords have invested significant capital in new buildings, so they need to protect their investment. This is why you will see certain rights such as early terminations included in the law, but also specific actions being taken to mitigate those rights.

Broker Fees

American negotiators may be surprised that they are expected to pay their own broker fees as lessee. Unlike in the US, where the landlord bears the burden of paying all brokers, in Brazil it is custom for each side of the table to pay for their own representation directly. I was presented with a proposal that included a sliding scale payment chart, motivating our brokers to secure the best deal possible by building it into their compensation structure. A word of caution - although it's understandable to solicit multiple proposals, proceed carefully with your broker selection. It is critical to choose the most competent broker who is fully vested in your success, over the lowest fees. Brokers in Brazil have more work to do than their US counterparts, since data from lease transactions are not publicly disclosed, making the gathering of comps a complicated process. Brokers must either share data from recent deals they transacted, or network to gather intelligence to share. The broker fees are just a drop in the bucket of the full investment costs and you need the best partner to secure the best overall deal.

Surrender Clauses

Also make sure you understand up front what will be expected of you at lease end. Unlike the standard “removal of Furniture, Fixtures, & Equipment and leave broom clean” surrender clause of North American leases, the default norm in Brazil is that you will be expected to bring your leased space back to shell condition. Budget for this cost up front so finance isn't surprised, and make sure to plan sufficient time to complete the work before lease end. There's always the chance you might be able to negotiate with the landlord at lease end to leave some things in place, but don't expect it. Under Brazilian customs, tenant is on the hook for the dilapidations.

Condominium style office buildings

Making informed decisions in site selection and being an effective negotiator requires a basic understanding of other differences in common practices for building ownership and landlord structures.

Unlike in the US where most corporate office buildings are governed by one landlord/REIT, it is common in Brazil for there to be multiple owners within the same building. Costs for common area maintenance are covered through a condominium agreement which is operated by a building management company. Tenants pay the rent in one invoice, and a second “condominium fee” invoice is paid to the management company. In good times this works well. It can also create challenges, however, as no one owner has a full stake or vision in the holistic state of the building. In challenging economic times, landlords who have a smaller stake may wish to defer maintenance, creating challenges for tenants who expect consistency in building operations. Smaller landlords may be less motivated or lack the staff to respond to tenant issues as the property you have leased may not be their core business. This is why, when doing site selection, it is critical to include the landlord's reputation, size and scale in to your site selection criteria. You also want to fully vet the building's shared amenities and MPOE rooms to make sure they are properly maintained.

From an operational perspective, the scope of condominium fees is very limited compared to the typical landlord operating budget in the US. It excludes your leased space, so each tenant has to arrange their own vendors for cleaning and maintenance, and if something breaks, call your own vendors to make repairs. This is a notable difference from North American norms where services like cleaning your leased space are managed by the landlord and billed back. Expect to have to source and maintain multiple vendor contracts outside the formal lease in order to achieve full operations and maintenance of your space.

Bottom Line: Don't expect US norms to apply in Brazil. When doing site selection and negotiating a lease, make sure to align with strong local legal and brokerage representation to guide you through the process. Ask questions - lots of questions - and understand the real estate market in Brazil is dynamically changing. You need to take the time to know the basic lay of the land. Don't miss out on your rights by bypassing the opportunity to learn about them.