The Impact of the Property Rights Regime on Small Business in Kenya

New "malls" in downtown Nairobi offer opportunities for small business. But are their property rights being respected?
New “malls” in downtown Nairobi offer opportunities for small business. But are their property rights being respected?

By David Owiro

Over the past few years, residents of Nairobi’s central business district (CDB) have noticed an interesting phenomenon. The previously large commercial premises on the main streets and avenues have been subdivided, converting them to mall-type premises that allow for subletting to many micro, small, and medium businesses. This phenomenon is, however, not unique to the CBD. This model, I’m made to understand, was borrowed from India, where mostly fabric traders sell their wares under one roof. The concept has spread to Eastleigh estate in Nairobi and can also be observed in some of the major towns in Kenya.

The Institute of Economic Affairs (IEA) carried out a qualitative survey of small businesses who operate in such mall-type commercial premises in Nairobi’s CBD to determine the impact of the property rights regime on their businesses, and the findings point to a deeper policy problem. In spite of the recent property rights reforms brought about by the new constitution, the study found poor enforcement of property rights, agency coordination problems, and low awareness levels among small businesses, leading to exploitation, abuse of tenant rights, and a hostile business environment.

The model is that a property owner can make much more money by renting to many more individuals as the price per square foot is higher for smaller spaces. Meaning that commercial space that previously was inaccessible to small enterprises is now more accessible, albeit at higher costs. Logically, the proposition for the small entrepreneur for renting prime commercial space should lead to more prospective clients or customers, as the locations are more attractive, and thereby resulting in returns that are significantly higher than the original premium costs paid to rent for that particular space.

Naturally, this is quite an interesting phenomenon to examine in terms of whether the gains in accessing a given commercial space indeed outweigh the loss of having to pay higher rental costs, but more importantly, understanding how the transfer, enforcement, and protection of property rights, as determined by the property rights regime, affects small businesses. This is second part is what we investigated.

The property rights regime and its impact on small enterprises is very crucial to understand, because it represents the micro environment within which businesses operate. In this particular case, given that the impact of the property right regime will largely depend on the extent to which national policies are implemented, as well as, the policies and regulations that the county government adopts. If the latter in particular are sensitive to business concerns, then businesses will thrive, but if they stifle or create distortions that favour particular sectors while harming other sectors then businesses will suffer.

A telling find is that 45 percent of the survey respondents used an informal agent to access the property. This might be a pointer to the challenges indicated above. For example, in one of the cases, a landlord leases his/her building to an individual who then subdivides and sublets to individual businesses without formal agreements. Such cases result in higher abuse of tenant rights and poor enforcement of standard services as per subletting or renting agreements. The impact of this is that businesses have to dig further in their pockets to pay for services for their common or shared spaces in addition to paying higher costs due to the conflation of owners.

Secondly, did you know that the likelihood of paying goodwill (money paid to the previous occupant) is higher if a business uses an informal agent to access the property as opposed to using a licensed agent? Our survey findings show that the figure rises from 86 percent to 98 percent among survey respondents when they used an informal agent.

Third, 57 percent of the survey respondents have some form of lease agreement, including non-written verbal agreements. Indicating that a big proportion of businesses operate without formal lease agreements, with some having very one-sided, fluid, and difficult-to-enforce agreements that favour the landlord. The implication is that in cases where conflicts arise, it is often very difficult to address them, resulting in abuse of tenant rights.

Because of the significance of the challenges and their impact on small enterprises, it is important for both national and county governments to develop solutions. It is important to raise awareness among small businesses of the “do’s and don’ts” of accessing commercial space or renting commercial property. Combined with strict enforcement of the Estate Agents Act, which regulates and provides for the licensing of estate agents, this will result in significant savings.

National and county governments should also take a lead role in enforcement and protection of the property rights of small businesses, as this affects their micro-environment. There are many cases where illegal traders encroach on the premises of other legal businesses, affecting these businesses negatively. It is a major disincentive for illegal businesses or traders to be allowed to encroach on commercial space or premises where there are other legal businesses who pay taxes, county licenses, and permits to operate.

Finally, if we are to take advantage of the economic opportunities that small businesses provide and achieve the middle income status that Vision 2030 talks about, then we must begin to address the main challenges facing them. Addressing the challenges of enforcement and protection of property rights will go a long way.

David Owiro is Programme Officer for Regulation Competition Policy at the Institute of Economic Affairs in Kenya, a CIPE partner.