By Stephen A. Cross, CCIM
Commercial leases are complex, legally binding contracts. While most are quite lengthy and contain a good amount of seemingly boilerplate language, every term and condition is open to discussion.
Here are the most common variables that have a direct impact on overall occupancy costs, and some of the strategies I use when negotiating the lowest price and most favorable terms for my clients.
Lease Term. The length of the lease is the foundation for all negotiations and ultimately determines the economics of the transaction. Generally, greater incentives and concessions can be expected with a longer lease term and can include free rent, a reduced rental rate and contributions from the landlord to improve the space. Of note, however, is that at some point longer lease terms yield no additional incentives. Strategy: Negotiate the shortest lease term that will enable you to extract the maximum concessions. Accomplish longer lease terms through renewal options, which provide flexibility and the opportunity to negotiate additional concessions as the market changes.
Occupancy Date vs. Commencement Date. The Occupancy Date is the date you can move into the premises. The Commencement Date is the date that rent or any free rent period begins. Both dates are negotiable. Strategy: As landlords prefer the shortest possible vacancy period, time your occupancy to be as close to the availability date as practical. While some landlords bristle at granting a period of free rent, most will grant an early occupancy period at no charge. If you’re in the space but not paying rent… it’s free.
Free Rent. Free rent serves to effectively reduce the rental rate set forth in the contract. To illustrate, achieving one month of free rent for every year of the lease term lowers the overall rental rate by 8.33 percent. Strategy: Many landlords are willing to grant generous free-rent periods in order to keep the contract rates and occupancy levels high. Also, insist that any operational expenses (commonly known as NNN, or triple net expenses) are waived during the free rent period.
Base Rental Amount. The asking rental rate is based on the landlord’s perception of the highest price a tenant will pay. However, neither the property owner nor its agents and brokers reasonably expect to achieve it. Strategy: Begin negotiations 10 to 15 percent below the asking rate.
Escalations. Negotiate infrequent rental escalations and keep them to a minimum. Strategy: When escalations are absolutely required, try to negotiate a nominal, fixed amount. If possible, place a ceiling on any increases during option periods.
Tenant Improvements. Office, medical and industrial spaces should be delivered in a turn-key condition with building standard improvements. Strategy: Help the landlord make the decision by agreeing to a configuration that will have good second-generation value – that is, be structurally usable for future tenants.
Fixturization Period. If you are performing your own improvements, keep in mind it generally takes 45-60 days to obtain building permits, plus an additional 45-60 days to build out the space. Strategy: Negotiate a fixturization period of 90-120 days from the date the space is delivered free of base rent and triple net expenses. Completing the build-out before this period expires has the effect of creating additional free rent.
HVAC Warranty. In full-service leases, the landlord maintains and repairs the heating and air conditioning systems. This is not the case in triple net leases, which are common in retail and industrial leases. Request that the landlord warrant the HVAC systems for the entire period of your tenancy, including any exercised option periods. Strategy: If a full-term warranty cannot be achieved, negotiate a cap on the tenant’s out-of-pocket expenses to repair or replace each unit ($300 to $500 per year per unit is typical.)
The Negotiation: Tenants should be mindful that even in the smallest of leases, there is a lot of money at stake. As a result, negotiations of this type are adversarial – pitting the well-informed landlord and its agents, who are experts in commercial real estate, against the well-meaning but largely uninformed tenant. Therefore, carefully consider whether you have the knowledge and experience to be an effective negotiator in this arena, or if the task is better handled by an experienced commercial real estate advisor, someone who will be a tenacious advocate and protect your economic interests above all others.
Stephen A. Cross, CCIM, owns CROSS Commercial Realty Advisors and is a licensed real estate broker. Mr. Cross advocates exclusively for tenants and buyers and, since 1984, has advised over 2,700 business owners, attorneys, physicians, facility executives, investors and corporate decision-makers on ways to lease and purchase property at the lowest cost and most favorable terms. Contact: 480-998-7998 or firstname.lastname@example.org.