Property: what can I do about the 'double compounding' RPI rent review clause in my lease?

The effect of a DCRR is to "cumulatively compound" the annually revised rent, with the result that over the term of the lease the annual rent increases far in excess of inflation, before becoming unaffordable at a point long before the end of the term. A DCRR can have a significant, and in some cases, catastrophic impact on the value of the affected asset.

In the recent case of Woden Park Limited v MonSolar IQ Limited the Court of Appeal found that a DCRR contained in a solar lease was the product of a clear drafting mistake, which the court ordered should be corrected so that the annual rent increased (and decreased) in line with RPI.

Osborne Clarke represented Monsolar, a solar farm tenant and the successful party in the dispute. We set out below some key asset management takeaways from the dispute.

Check the formula

In order for rent to increase in line with RPI, a properly drafted RPI rent review clause should correspond with one of the following two formulas, both of which produce an identical result:

If the rent review formula in your lease does not correspond with either of the above, there is a risk that it could be a DCRR. By way of example, the DCRR in the MonSolar case was based on the following erroneous formula:

Run the numbers

DCRRs are not always obvious and are easy to miss, meaning that they can be overlooked during drafting or during a due diligence exercise. The best way to establish whether an RPI rent review clause is in fact a DCRR is to model the revised rent for the full term of the lease based on a fixed indexation rate (for example, 2%). If the modelled revised rent calculations for the term of the lease show the revised rent increasing at a rate far in excess of the indexation rate increase over the same period, the lease may well contain a DCRR.

Signs that a DCCR is a drafting mistake

In a unanimous verdict, the three judges in the Court of Appeal agreed that the DCRR in the MonSolar lease was "about as a plain a case of such a mistake as one could find". The judgment in the MonSolar case sets out a number of tell-tale signs which can indicate that a DCRR is the product of a drafting mistake, including:

• It is a reasonable starting assumption that the inclusion of an RPI linked rent review clause in a lease shows that the parties intended passing rent to increase in line with RPI. It is hard to understand why the parties would go to the trouble of including an RPI linked rent review clause in the lease, if they actually intended rent to increase in a way which was not linked to RPI increases;
• The fact that a DCRR produces a nonsensical or absurd rental increase, which is in no way reflective of increases in RPI, further supports the fact that a drafting mistake has been made. It is reasonable to assume that the parties did not intend to enter into a lease which contained a nonsensical or absurd provision; and
• Where other provisions in the lease indicate that the parties intended that rent increases were to be linked to RPI, this can reinforce the conclusion that a DCRR was not intended.

The court can correct a mistake in a lease

While a number of landlords have been sympathetic to tenants whose leases contain DCRRs, and have agreed to vary those leases so as to remove DCRRs, some landlords have sought to hold tenants to the strict terms of the lease, often on the (potentially false) premise that "the lease means what it says". The decision in MonSolar makes clear that where a lease contains a DCRR then, rather than the lease meaning what it says, the lease might actually contain a drafting mistake and mean something different.

And as the MonSolar case demonstrates, the court can, and will, correct erroneous DCRRs where appropriate.

Relying on the MonSolar decision to de-risk your asset

If you are managing a portfolio that contains a lease which includes a DCRR, the MonSolar decision provides you with strong grounds to approach your landlord to seek a variation to the lease. The decision gives asset managers a number of robust arguments to rely on in order to persuade landlords to accept that a DCRR would not survive a legal challenge and, therefore, to agree to vary the lease so as to replace the DCRR with an index-linked rent review clause.