I’ve often heard that a tenant who seeks to negotiate an office lease on their own with a landlord, is like a person who seeks to represent themselves in a court of law against an opposing attorney. The person probably has limited experience in court, while the attorney has been her/his entire career.
A tenant may have negotiated one or two leases in their careers, or maybe never, while the landlord negotiates leases every day. A smart tenant will hire a good tenant advisor to help the tenant gain every advantage while making the desired lease transaction on the tenant’s behalf. Below are ten common examples of issues tenants may not know.
1. Calculating Rentable Square Feet/Usable Square Feet
Most multi-tenant office buildings use a common area factor to arrive at the square footage of a space. It’s important to understand what common area factor is being used to calculate the square footage. The common area factor, or rentable factor, is typically between 10% and 15%. Certain buildings don’t gross up space for common areas. An example is where space is represented as 4,500 Rentable Square Feet with a common area factor of 12.5%. The actual area of the tenant’s premises, or within the “four walls” of the space is 4,000 square feet (“Usable Square Feet”). The rentable factor can change in the case where a tenant leases a full floor. A tenant representative broker will compare the cost of occupancy and the cost of competing buildings by the Usable Square Feet and the Rentable Square Feet.
2. Space Planning/Designing a Space Prior to Lease
Tenants should work with a space planner to design a space and to consider the details of the construction and improvements needed for the space. A good tenant representative broker will assist in bringing the space planner and tenant together to talk about the details of the project. In a tenant’s market, most landlords will offer to provide a space plan and price construction in advance of signing a lease.
3. Understand Operating Expenses
When leasing office space, there is base or minimum rent that is based on the price per square foot, along with the tenant’s responsibility for payment of a percentage of the operating expenses of the building. Some office leases are a “triple net” or “NNN” basis, while other buildings lease on a modified gross, or true gross basis. It is important to understand the differences. In a NNN lease, the tenant pays for its pro rata share of (i) real estate taxes and community association fees; (ii) the landlord’s insurance on the building and (iii) operating and maintenance expenses of the building, such as janitorial, landscaping, snow removal, HVAC maintenance and utility bills for the building. Triple Net leases are more common in buildings occupied by a single tenant and in medical and retail spaces. Most multi-tenant office buildings use a modified gross rent structure. This means the tenant pays for only the increases of the current operating expenses of the building. The current operating expenses are express in terms of a “Base Year” or “Expense Stop.” There are also terms such as “full service gross.” It’s important to understand what expenses the tenant will be exposed to during the lease term. A good tenant advisor will understand the nuances and will quantify what these additional costs may be during the term of the lease. Also, a good tenant advisor will negotiate limitations, caps, exclusions and audit rights to what is considered an operating expense.
When considering a space to occupy, review the parking ratio for the building or the group of buildings that comprise the complex. Tenants are packing more people into less space, primarily due to the desire for open space. Most office buildings have an average of 3.5 to 4.0 parking spaces for every 1,000 square feet of rentable square feet of space. More and more businesses today are using higher density spaces, like 5.0 to 6.0 people for every 1,000 square feet of space. Pay attention if a landlord has leased large amounts of space in the building to call centers, medical tenants, or other dense users. These types of uses can make a parking lot full and not convenient for your employees or visitors. A good tenant advisor will provide the tenant with an outline of other tenants, usually in the form of a stacking plan, and will advise the tenant on any adverse conditions associated with parking.
5. Landlord’s Right to Terminate or Relocate Tenant
A tenant who has not carefully reviewed its lease may be surprised to learn that the landlord has reserved the right to unilaterally terminate the lease or relocate the tenant. A termination provision in favor of the landlord allows the landlord to terminate the lease, usually on the occurrence of some condition. A right in favor of the landlord to relocate a tenant allows the landlord to relocate the tenant to other space in the building, usually on sixty days’ notice. This can be disruptive to the tenant and may result in costs and space that isn’t exactly the same to the tenant as the current space. A good tenant representative will advocate eliminating these rights, or negotiating the outcomes, so that they are fairer to the tenant and more difficult for the landlord to exercise.
6. Tenant Improvements
If tenant improvements will be made to the leased premises prior to tenant’s occupancy, it is important to understand the economic impact of such improvements. Some common pitfalls include a) make sure the obligation to pay rent and other charges do not begin until the tenant improvements are complete. Many tenants will be put in a compromised position of having to pay rent even though tenant improvements are not completed; b) determine whether the landlord will be providing tenant improvements at its sole cost (“turn-key”) or whether the landlord will be providing an allowance (“tenant improvement allowance”). Who will be paying for the space plans, construction documents and municipal permit and occupancy fee? If the tenant is exposed to any of these costs, how much will it cost the tenant; c) the tenant should have the right to review and approve the scope of work and be allowed to select the materials in advance of signing the lease; d) be careful to understand whether any of the tenant improvement allowance is being used towards base building work, such as bathrooms, asbestos removal or sprinkler systems. A good tenant representative knows how to negotiate the tenant improvements to make sure the tenant will get the tenant improvements it needs and desires.
7. Tenant’s Rights to Expand, Reduce Space and Terminate the Lease
Flexibility in the lease term is a key component for tenants. Rarely do circumstances remain the same for a lease term of five or ten years. The ability to expand or contract space, or in some cases, terminate the lease, if desired, are rights a good tenant advisor will try to achieve. Examples of these rights include a right of first refusal, right of first opportunity, option to give back a certain percentage or certain described space and a right to terminate the lease on a fixed date for pre-determined damages. Having flexibility allows the tenant to implement change when circumstances require.
One of the most common ways landlords gain leverage on tenants is with the holdover provision. Most leases will provide that if the tenant holds over at the end of the lease term, the monthly rent will increase to 150% or 200% of the rent in the last month of the term. This situation happens when tenants who plan to relocate to a different property, fail to plan ahead and don’t give themselves enough time to move at the end of the lease term. A good leasing advisor will negotiate this provision. An example of this might be where the monthly rent is the remains the same as the rent in the last month of the term for the initial two months of holdover and then increases to 150%. Tenants will thank the advisor who had helped them negotiate this provision.
9. The Rent!
The most important issue to most tenants is the rent! Tenants who try to negotiate rent on their own typically don’t know how much rental negotiations are too little or too much. How many times in the past year has the tenant negotiated with a landlord for office space? Conversely, an experienced tenant representative is negotiating rent in office buildings every week and clearly understands the strategy of getting the tenant the lowest effective rent. There is an art to leveraging the negotiations so that the tenant gets the most and the landlord feels like the rent is worthwhile and wants to finalize the lease at those terms.
10. Leveraging Time!
A good tenant representative will save the tenant several hours in finding, negotiating and securing an office lease. Tenants who try to find, negotiate and secure an office lease are making a big mistake. How much is the tenant’s time worth on an hourly basis? Multiply this by 40 or 50 hours. Plus, the outcome will result in leaving money on the table. A good tenant advisor will be worth so much to a tenant. Tenants should work with an experienced tenant advisor.
Steve Eisenshtadt, SIOR, CCIM, JD, Senior Vice President, represents office tenants throughout southeast Michigan and companies based in southeast Michigan with office locations around the world. For more information on office leasing or services as a tenant advisor, please contact Steve.
Direct Telephone: 248-848-3535