Mastering the Lease Negotiation
The lease negotiation has the potential to provide several, lucrative concessions and rights for the tenant, as long as they are requested and properly defined. What most tenants don’t realize is that most landlord’s are sitting on a pile of money that is available to be allocated towards the incoming tenant in the form of lower rent, free rent, tenant improvement dollars or a combination of the aforementioned concessions. How that money is distributed is determined by the terms stipulated in the lease.
Many believe stronger financials will equate to a more expensive deal. However, the lease revolves around the landlord’s risk of the tenant. A company with a strong financial history represents less risk, which means the landlord will offer better terms to entice the potential tenant. The lease negotiation process is similar to how a bank assigns a loan- the terms are based on the amount of risk. Since the landlord is investing in the tenant, the landlord will often spend money upfront to secure a tenant with the highest probability that they’ll pay rent throughout the entirety of the lease. (If a business goes bankrupt mid-lease, the landlord has the potential to lose a significant amount of money.)
Where many inexperienced commercial real estate negotiators miss opportunities in the lease is by not building in provisions for flexibility. This becomes a critical factor for rapidly growing businesses that often take on far more space than necessary to account for projected growth. While it is smart to plan ahead, at Tenant Advisory Group, we recommend you take on the space you need today with a moderate amount of excess room for planned growth. The reason being is that the office is often the second largest expense of a company. Paying for space that is not being used will unnecessarily burden the financial statements and inhibit a business’ ability to grow. Building in flexibility through rights of first refusal or rights of first offer is a far more effective and economical way to foster a company’s growth. Rights of first refusal and rights of first offer create the opportunity for a business to expand at a future time, if and when necessary.
An extremely valuable piece of negotiation leverage is the right to terminate. This assures a growing business can leave a small space, and move into a larger one when the timing is right. How it works is it provides an opportunity to renegotiate the lease while setting a cap on the rental rate. It can extend the terms of the lease to keep the rent lower than the market rates, and if the market prices drop, you can leverage it to lower rent. Another great piece of leverage is the right to renew, though to be most effective it must stipulates cap on how high the rental rate will be at renewal. Similar to the right to terminate, it allows the company to renegotiate the rent down and prohibits the landlord from renegotiating the terms back in their favor.
In order to obtain the largest concession package, demonstrate strong financial security; request a right of first refusal and/or right of first offer, a right to renew and the right to terminate. When combined, these facets of the lease will significantly improve the quality of life for a business while reducing the strain on the company’s financials.