By: Brian Rossi Follow us on Twitter @ROSSICRE
Many companies lose significant amounts of their revenue to the cost of their leased facilities, not due to market conditions, but due to poor strategic planning when it comes to their lease renewal. There was a small IT services business in Bethesda, Maryland that was experiencing very healthy growth in their bottom line. Like many small businesses, this came at the sacrifice of a lot of dedication and hard work by the executive team (owners) putting in nights and weekends at the office, pursuing the American Dream! It did not seem all too long ago, though it was now years past, in which a few people took the risk of leaving their jobs to pull resources and investments and formed something brand new, working out of a house. Now they had real office space, employees, good clients and some not so good, and the business was really prospering! With the focus on providing service to clients, signing up new clients, HR, taxes and regulatory compliance issues, the upcoming lease expiration didn’t make it very high on the priority list as weeks turning into months. Then one day they received a lease renewal amendment. Given the 20% increase in rent they figured the landlord must have made a mistake. But it was not a mistake, and with too little time to consider relocating, not to mention the business distraction to pull it off in less than 3 months, there was no negotiating leverage to be found in order to get a better renewal deal. So, just like that, one renewal notice becomes the blow to fully enjoying the fruits of their initial entrepreneurial risks and hard work. They originally looked at that office space and leased it with smiles on their faces, envisioning the hustle and bustle of progress that would occur there as they steward their company into significant prosperity and greatness. Now that same office space represented “rent”, the painful line item reminder on the books for the next 5 years of not taking more seriously the 2nd largest business expense they have after their labor costs.
Starting the negotiations with your landlord with some successful strategy tips in mind can put a company in the driver’s seat. While there are many more tips I can share on this matter, which will be covered in another article, there are 3 I will highlight in this article.
One thing to keep in mind before getting into the 3 tips is the following: Realize that just as you and your firm are experts in your field of work, your landlord is likely an expert in the field of commercial real estate. Therefore, unless you are also a commercial real estate company, they have an advantage in the negotiating process. The landlord is not the enemy, despite some real estate brokers and attorneys that may talk this way. However, the landlord is in the business of getting the highest ROI for their investment in the real estate your company occupies. While that puts you at odds in the lease negotiations, realize that your business is no different. You are also concerned with receiving the best ROI and you value your clients and most likely hope they don’t consider you the enemy or a necessary evil, but a valuable service or product they not only need, but want and choose over your competition. And most likely, if conditions favored you charging more for what you do over a long term contract, you would want to lock it in too. Well, you are your landlord’s client and that gives you great leverage when being a smart shopper.
These steps are crucial in order to begin to level the playing field and making the best out of your landlord/tenant or landlord/client relationship coming up to renewal time.
When negotiating a lease renewal, here are 3 tips that will save your company money:
1. Start Early
Let the example above be reason enough to convince anyone that having time on your side can pay off big time. Too many times I have been called in to help a company negotiate their renewal when there is less than 6 months until their lease expires. That is not the end of the world for an office leasing pro that knows the market activity, the area and building vacancies and particularly that landlord’s issues, a negotiating solution is often found. However, many companies renew on their own. Their negotiating strength and alternatives to renewing become diminished with time, so it is not advised. Ideally, a successful renewal consideration begins at least one year in advance. Be sure to review the lease for the expiration date and put a reminder in your calendar one year prior. Also, be sure to read your renewal rights and any other important dates regarding renewal notices.
2. Create Negotiating Leverage
This starts with keeping your business confidential. A non-profit organization recently announced on their social media channels an invitation to anyone interested to come listen and weigh in on their consideration to expand operations into a second facility, a 30,000 square foot space in an office/flex building. They posted pictures of the building and its address for all to see. The result of the meeting was that they had decided to move forward and lease the facility. The only problem is that they had not leased it yet. Not doing so now, would look like a failure, publicly speaking and possibly from an HR morale standpoint. Lease negotiations were not over and now the landlord knew that all his competition had been rejected and he was sitting in the winner’s seat. Although this non-profit group did lease the building, that maneuver cost them dearly because they lost negotiating leverage throughout finalizing that lease. On the flip side, consider if the landlord had been also negotiating with another prospective tenant they preferred, but was dragging feet. This certainly would have been great fuel to light a fire under them to get off the dime, and the non-profit would miss out.
While this is not a lease renewal example, just think of how much more likely it is for you or one of your employees to slip and spill the beans with the landlord, or landlord’s broker or property manager when there are so many opportunities to interact as a tenant. A few probing questions, and a seasoned negotiator has the info he needs to figure out if a tenant is really considering moving out.
In order to create negotiating leverage, let the landlord know that you know the market and your options. You will want to learn what the going market rent is currently for your type of building in your area. Also of great importance, what incentives are being offered by landlords in the area to entice you to relocate to another building? These incentives could be some free rent, a full turn key construction build out of your new space and even moving expense reimbursement. You may absolutely not want to consider moving out of your current space, but only you and your broker need to know that. A good broker is going to provide you this market information so you can make the best business decision and begin asking for these same incentives when renewing. Perhaps you don’t need a complete new build out. Compensating for these incentives in a manner that results in a below market rental rate for your renewal is reasonable considering that if you do move out, the landlord no only has to now compete with other vacancies, they also have the added risk of an unknown period of time without rent revenue on the space until some company does lease it and moves in.
3. Establish a New Base Year
Establishing a new base year in your “Full Service” office lease amendment may eliminate a significant unexpected rent expense. This is an easy one to miss, and far to often, tenants forget this one much to the landlord’s delight because it does not have to be mentioned in the renewal amendment for the original lease base year to remain valid for operating expense pass-throughs. There are many hidden costs it takes a trained eye to catch, so it is not advisable to negotiate the lease renewal without expert representation from a broker and a commercial real estate lawyer.
It is customary for the landlord to pay your tenant broker’s fee and it is already in their calculations for lease renewal expenses just as their attorney’s fees or property management likely are. Typically, the landlord broker’s listing agreement stipulates an increased commission rate paid to their firm should a tenant not use a tenant broker when leasing a space or renewing their lease. A tenant not availing themselves of the services of a tenant broker is simply not going to result in additional savings to the tenant, and can prove a costly mistake. Imagine the disappointment after signing a lease renewal amendment at $20 per square foot, thinking you got a good deal and then being billed for an extra $2 per square foot for the above base year operating expenses of the building. You may have thought the base year started over, zero’d out, with the new lease renewal, but not unless that is stipulated in the lease renewal amendment. It happens a lot.
An Attorney’s Tips For Lease Renewals:
I recommend clicking on the link ahead and reading this short article called “Renewing the Right Way”, written by commercial real estate attorney, Bruce Rosen, with the law firm, Real Estate Counselors.
For more information regarding tenant improvement allowances or for assistance with any commercial real estate requirements, please contact ROSSI Commercial Real Estate at 301-355-0070.
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