Assignment, Subletting and Selling Your Business Later

In an ordinary lease, the assignment and subletting clause is a contingency plan. In a sale-leaseback it is closer to a core business term. You are committing to a long lease on the building your company runs from, and over that period the company itself is likely to change hands, bring in investors, merge, reorganize or outgrow part of the space. Each of those events can run into the transfer clause.

When you owned the building, none of this required anyone's permission. After closing, the investor who bought it has a say, and how much of a say is set by a few paragraphs negotiated alongside price and rent. Owners who treat those paragraphs as boilerplate tend to discover them years later, in the middle of a company sale, when the landlord has all the leverage.

Leases usually treat three things separately, and it helps to keep them apart when you negotiate.

• Assignment: the tenant transfers its entire interest in the lease to another party, which becomes the tenant. This is what happens when a buyer acquires your business through an asset purchase and takes over the premises.
• Sublease: the tenant stays on the lease and rents all or part of the building to someone else. The original tenant remains fully responsible to the landlord.
• Change of control: the tenant entity stays the same, but its ownership changes, for example through a stock sale, a merger or a new majority investor. Many leases say that a transfer of a controlling interest is treated as an assignment and needs the same consent. Whether yours does depends entirely on the drafting.

The third item is the one owners most often miss. A seller who plans to exit through a stock sale may assume the lease is unaffected because the tenant's name does not change. If the lease defines a change of control as a transfer, the landlord's consent is required anyway.

A sale-leaseback buyer is paying for a stream of rent backed by a specific company. The price reflects that company's financial strength and the likelihood it will stay and pay for the full term. An unrestricted right to hand the lease to anyone would let the tenant swap a strong credit for a weak one after the price has been paid, so investors resist it.

That concern is legitimate, and acknowledging it makes the negotiation easier. The goal is not unlimited freedom. It is a set of objective tests that protect the landlord's credit position while letting your business do the ordinary things businesses do. Most investors will accept transfers that leave them no worse off, provided the tests are clear.

• Permitted transfers without consent: assignment to an affiliate, to a successor by merger or consolidation, or to a purchaser of all or substantially all of the business or its assets, subject to an objective financial test.
• A measurable test: for example, that the successor's net worth or other agreed financial measure is at least equal to the tenant's at a stated date. Avoid tests that depend on the landlord's judgment.
• A reasonableness standard for other transfers: consent not to be unreasonably withheld, conditioned or delayed, with a response deadline and a rule for what happens if the landlord does not answer.
• A narrow change-of-control definition: carve out public offerings, transfers among existing owners, estate planning transfers and investments that do not change who runs the company.
• No recapture right, or a limited one: some leases let the landlord terminate the lease instead of consenting. In a single-tenant building you operate from, that right can be used as leverage in the middle of your sale.
• Clarity on sublease profits: if the landlord shares in any rent above what you pay, define the calculation and allow your costs to be deducted first.
• Confirmation that renewal options and other negotiated rights pass to a permitted assignee. Some leases make those rights personal to the original tenant.

Ask for these rights at the letter of intent stage. Once a single buyer has exclusivity, transfer rights that were not in the term sheet are much harder to add.

Assigning a lease does not usually end the original tenant's responsibility. Unless the lease or the landlord says otherwise, the company that signed generally stays liable if the assignee defaults, and so does anyone who guaranteed the lease. For an owner who has sold the business and moved on, that is a liability with no control attached.

A release has to be negotiated. Investors rarely agree to an automatic release for any transfer, but many will agree to release the original tenant and guarantor when the assignee meets a stated financial standard, or when a replacement guaranty of equal strength is delivered. If you have given a personal guaranty, the conditions for ending it on a sale of the company deserve as much attention as the rent. Your attorney should confirm how the release language works under the law that governs the lease.

Anyone acquiring your business will review the lease during due diligence, because the building is where the business they are paying for operates. They are looking for anything that lets the landlord delay, reprice or block the deal. A consent requirement with no standard and no deadline is exactly that. It can add time, invite a request for a fee or a rent increase, and in a competitive sale it can reduce what a buyer is willing to pay or how certain they are about closing.

• ✓Does a stock sale, merger or new majority investor require landlord consent?
• ✓Can the lease be assigned to an asset buyer without consent if the buyer meets a financial test?
• ✓Is there a deadline for the landlord to respond, and a consequence if it does not?
• ✓Can the landlord terminate the lease or take back space instead of consenting?
• ✓Do renewal options, expansion rights and any purchase rights transfer with the lease?
• ✓Is the seller released, or does it stay liable for the buyer's performance?
• ✓Does any personal or parent guaranty end at the sale, and on what conditions?

If you can answer each of these from the lease itself, a future buyer's counsel can too, and the real estate stops being a risk item in your sale.

Operations change. A production line moves, a practice loses a partner, or a warehouse runs at half capacity. If you lease back the whole building for a long term, the ability to sublet part of it is the main way to recover cost on space you are not using.

Check that the lease allows partial subleases, that the permitted use clause is broad enough for a realistic subtenant, and that you may make the alterations needed to separate the space. In a single-tenant building, also consider access, parking, utilities metering and signage for a second occupant. We raise these points when we negotiate a leaseback for an occupier, because our role is to represent the company that will live under the lease, not the investor who will own it.