In our last post, we provided recommendations for tenants when negotiating office leases. Here we take a look at leases from the opposite perspective, discussing several considerations for landlords to keep in mind before finalizing an agreement:
- Start with a Letter of Intent. A letter of intent is a short and typically nonbinding document that can precede a lease, setting forth the key business terms, and which is signed by both the landlord and tenant. Typical terms include a description of the leased premises, the rental rate, the term, any additional rent owed, whether there is a renewal option(s), and any other provisions of particular concern to either party. Once a letter of intent is signed, the next step is for the landlord to prepare and circulate a draft lease for the tenant’s consideration. Utilizing a letter of intent ensures agreement on certain primary terms before the parties prepare and negotiate a lease.
- Check Tenant Financials in Advance. Property owners can reduce the risk of future tenant defaults by reviewing at least two years of such prospective tenant’s financial records to ensure they generate sufficient revenue to satisfy their financial obligations under the proposed lease. If a tenant has weak financials or is a relatively new business, landlords should seek a personal guaranty from the ownership team ensuring all the obligations of the tenant under the lease. If a landlord requires a guarantor, they should assess the financials of the guarantor(s) to confirm they have the financial resources to satisfy those obligations. Alternatively, a letter of credit may be utilized in place of a guaranty.
- Spell Out Build-Out Obligations in Detail. Landlords frequently agree to build out the space prior to lease commencement to suit the specific needs of the tenant. The cost, timeline and specifications need to be spelled out in detail, including the implications of one party’s failure to act. It’s also imperative to provide a detailed scope of work and to ensure that all necessary permits are secured, including a certificate of occupancy.
- Be Specific on Maintenance and Repairs. Leases vary greatly regarding how they allocate the responsibility and cost for maintenance and repairs. Some allocate all responsibility to tenants, others to landlords, while most have some combination thereof. It behooves both parties to have these responsibilities clearly set forth in the lease – countless lawsuits have resulted when leases are vague or unclear in this regard. Landlords should also work with their insurer to confirm the coverage is aligned with their repair obligations.
- Read and Understand Form Leases. Various groups in Georgia publish standard “form” leases, many of which are widely used and well done. However, that does not mean they are right for every situation. Typically, form leases need to be amended in at least several areas to reflect the agreement between the parties or to provide additional protection to one or both parties. Landlords need to understand what a form lease provides and whether it is appropriate for the property. Landlords with multiple properties will often invest in having their own lease drafted, which can then be utilized as a form lease for future tenants.
- Carefully Craft Renewal Options. Many commercial leases contain an initial term and an option for the tenant to renew it for an additional term, with rental increases occurring annually for both the initial term and the renewal term. However, continuing the rental for the renewal term in this manner can be problematic in times of inflation and rising property values, essentially leaving money on the table. This can be avoided by inserting a provision which specifies that rent for the renewal period will be reset to fair market value at the time of renewal (as opposed to a predetermined number). This clause will serve as a hedge against market volatility while keeping your rates competitive.
- Tread Carefully When Offering Tenant Exclusives. At multi-tenant properties,many businesses will seek an exclusive use provision, allowing them to be the only tenant providing a particular service or selling a specific product (i.e., the sole dentist, the sole grocery store). These clauses can be useful in attracting and retaining tenants, but care needs to be taken in drafting them. First, landlords must ensure any proposal does not conflict with existing exclusives given to other tenants. Next, the wording of these provisions needs to be narrowly tailored so they do not unnecessarily restrict a landlord’s ability to attract a wide array of other tenants. For example, having a pediatric dentist should not preclude also having an orthodontist or adult dentist. So, drill down and get specific on what the use does and does not include.
- Specify Tenant’s Assignment and Subleasing Rights. It is important that leases specify whether a tenant has the right to sublease all or part of the space, or, assign the lease to another party. Landlords typically seek to maintain the authority to approve or reject any such assignment or subleasing, a decision that often hinges on the financial stability of the potential assignee or sublessee, as well as the intended use by that party. Landlords may also wish to require the original tenant to stay on the hook for all lease obligations in such situations, reducing risk for the landlord. Moreover, landlords should actively review the actual sublease or assignment agreements to ensure they do not alter the terms of the lease.
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