Category: Real Estate Best Practices

Your notice address is not a sexy topic, but it’s one that needs to be discussed. Give me two minutes.

The Set Up

• Your landlord doesn’t receive your rent check.
• Space contiguous to yours becomes available and the landlord knows you might need more space.
• You park a truck, car or horse & carriage at your building overnight and that action constitutes a default under your lease.

All of these are instances where the landlord might need to give a tenant notice.  And all leases dictate how notice is to be given.  This notice language works great when the tenant only has one location.  If notices go to the tenant at that location, the tenant is assured of getting notice and curing any defaults or exercising any option rights.

The Issue

A problem arises when a tenant has more than one location.  If each of a tenant’s different leases states that landlord must give tenant notice at that specific location and that location is a remote office which is either not regularly staffed or staffed with Billy Bob who doesn’t know how to handle such a notice, the odds of the notice being received by someone who will act on it are slim.

An Example

Suppose a landlord sends the tenant notice of a change in rent payment address and that notice goes to the local office.  Further suppose the tenant’s headquarters does not receive this information and so it sends rent to the previous rent payment address.  As a result, the landlord does not receive rent.

The landlord then sends notice of default for nonpayment of rent to the tenant at the local office.  Again, the employees at the local office (Billy Bob) don’t know what to do with this notice so they make a bunch of phone calls over a two-week period trying to figure it out.  By that time, BEST CASE, the landlord accepts a late payment with penalties and late fees.  WORST CASE, the landlord declares tenant in default and pursues its remedies up to and including lease termination.

The goods news?  This is an extremely easy problem to both fix and avoid.

Avoid the Problem

When you enter into new leases, dictate that all corporate leases have the same notice address (headquarters; not Billy Bob at the local office) with a copy to general counsel or outside counsel.

Fix the Problem

To fix existing leases, send a form letter to all of your landlords (making sure you use the correct landlord notice address) stating that going forward, all notices to tenant must go to headquarters with a copy to general counsel or outside counsel.

If you want to make sure you never miss a notice date yourself, read this!

 

Many landlords promise prospective tenants a “turnkey” buildout, meaning the tenant will show up on the date its lease commences, “turn the key” and walk into finished space.  The landlord determines the costs it is willing to incur for this turnkey buildout based on the rental rate and term length, however,  the actual dollar amount of that turnkey buildout is seldom disclosed to the tenant.

A problem arises when the draft lease stipulates a turnkey buildout and references nothing more than a simple test fit drawing indicating where offices, doors, kitchens, and conference rooms are located. The tenant may be expecting glass-walled offices, a kitchen with upper and lower cabinets and appliances, hardwood floors, and high end lighting.  The landlord may deliver sheetrock office walls, rolled carpet, fluorescent lighting, and a bare bones kitchen with holes where the refrigerator and microwave the tenant is expected to buy will go.

Also, there will usually be insufficient teledata and electrical outlets.

It is crucial that tenant advisors walk their clients through the process of  defining turnkey prior to lease execution.  It is also in the landlord’s best interest as it ensures that everyone is on the same page and there is no mid-construction conflict.

What do we need to address to define Turnkey?

Walls and Doors

Identify where walls will be located and whether or not those walls go all the way to the deck.  (Note, walls built to the deck provide much better sound insulation but also cost more to build.)  Define the locations of doors, sidelites, and glass.  Stipulate the door heights.

Lighting

Ask where the lighting is going to be located and what type of lighting will be installed.  Will it be energy efficient such that it will turn off when there is no one occupying the space?

Kitchens

Will there be a kitchen?  Will have it plumbing so that you can draw water from a faucet?  (Trust me: wash your coffee pot in one of the building’s bathroom sinks for a day or two and you will understand the importance of a kitchen sink and faucet!)  Will there be upper and lower cabinets?  What is the counter material?  Will the landlord provide appliances?

Flooring

What will the flooring be throughout the space?  If you are going to have carpeted areas, is the carpet going to be carpet tiles (MUCH easier to replace worn areas in the future) or rolled carpet?  If you are going to have concrete floors, will they be stained?  Finished?  What is the kitchen flooring?

Baseboards and Molding

Will the space have rubber base or wooden baseboards?  Will the offices (or even just the conference rooms) have crown molding?

Outlets

Where are your electrical outlets and how many will there be in each office?  Will the landlord install teledata outlets and just let the tenant’s contractor pull the actual cable?

System Upgrades

If the space is second generation and any building systems need to be updated, will that be done and will landlord bear those costs?

Furniture Move Costs

If you already occupy the space and the landlord is promising to provide new carpet and paint “turnkey,” does the landlord plan to cover the cost of moving the existing furniture to allow the work to proceed?  Will the landlord cover the cost of that work happening during non-business hours, i.e. when landlord’s labor costs are higher?

Is All of This Really THAT Important?

Yes.  Absolutely.

First, read this discussion of the five interior finishes that make a Class A build-out Class A.

These things matter.  Sound proofing matters.  And cost differentials are big.

Nobody like surprises.  If you take the time to define turnkey ahead of construction, everyone knows what to expect and nobody gets an unexpected bill.

Your company acquires a company in a city where you already have an office.  Your business model changes and you need less space than you once did.  You grow and need more space so you have to relocate.  Or, unfortunately, your business in a tertiary market dries up and you close that office.

All of these scenarios can trigger the need to dispose of excess space.  If that space is leased and you do not have a termination option in your lease, you will need to consider subleasing it.

I often have clients approach me about subleasing space for them – something I am happy to help them do.  I always spend time on the front end making sure they know the expenses associated with subleasing so that they have realistic recovery expectations.

Rental Rate

Because a subtenant is buying your remaining obligation, they are going to expect a discount off of your rental rate – even if that rate is already below market.  The size of the discount is often related to the term remaining on your lease.  Since relocating an existing office or opening an office is expensive,  a larger discount from market is expected on a shorter term.

Commissions

The landlord is responsible for paying both the landlord’s and the tenant’s brokers’ commissions.  This amount is market dependent but a good rule of thumb is to plan on paying 6% of the sublease value in total commissions.

Downtime

It takes time to find a tenant, negotiate a sublease, negotiate a consent with the master landlord[i], and do any construction/furniture installation required for move-in.  Downtime can easily range from three to 12+ months.

Concessions

Depending on your market, a tenant improvement allowance or free rent may be necessary incentives to induce a tenant to sublease your space.  If you do not want to come out of pocket for tenant improvements, be prepared to offer free rent in lieu of an allowance.

Legal Fees

You will incur legal fees to draft the sublease.  In addition, many leases require tenants to pay the legal fees incurred by the master landlord in reviewing the sublease and consent documents.  Plan on a minimum of $2,000.00 and know that these costs can skyrocket if your lease is large, your obligation is a longer term or the subtenant is difficult.

Demising Costs

If you are only subleasing a portion of your space, you will incur costs to physically separate that space from the space you intend to keep.  Those costs could be as small as building one wall or as large as separating an HVAC loop, relocating a server room or adding additional egress points.

Is There Anything Left?

In the spirt of “underpromise and overperform,” I advise clients to plan on a 50% recovery of their obligation through sublease.  Sometimes, depending on the market and the lease rate, we can do better.  But the costs add up – and now you know why.

 

[i] Many leases give the master landlord 30 days to consent to a sublease once it has been executed by the subtenant and sublandlord.

Have you ever read the following language in the operating expense section of a lease and wondered why it was there?

“If, in the Base Year or any Expense Year, the Building is not 100% occupied, Expenses for such year shall be determined as if the Building had been 100% occupied throughout such year.”

Wonder no more.  This is a “gross-up clause.”  It is included in a lease to ensure the landlord is fully reimbursed by a tenant for the operating expenses the tenant actually used.   If this is clear as mud to you, let me illustrate with an example.

Example A: The Fully Occupied Building

Tenant A leases 10,000 square feet in a 20,000 square foot building.  Tenant A’s proportionate share of the total operating expenses is 50% because they occupy 50% of the building.  If the other 10,000 square feet (or 50% of the building) is occupied by another tenant (Tenant B), operating expenses for the building are split 50/50 between the two tenants.  If total building operating expenses are $100,000, with each tenant paying 50% (or $50,000), the Landlord is being fully reimbursed for all expenses by the two tenants.

Example B: The Partially Occupied Building (No Gross-up Clause)

What happens if Tenant B moves out of the building?  The Landlord doesn’t have to clean the vacant space and may adjust the temperature setting on that half of the building to save money on electricity while it is unoccupied. Also, less electricity is being used because computers are not plugged in and lights do not need to be on all day.  So, in this instance, the total building operating expenses go down to $75,000.  Without a gross-up clause, Tenant A only has to pay 50% of the total (or $37,500).

As you can see, without a gross-up clause, Tenant A is getting a windfall because we already know from Example A that it costs $50,000 to run Tenant A’s portion of the building.  The landlord is not only foregoing rent on the vacant half of the building, but also losing $12,500 in operating expense recovery from Tenant A.

Example C: The Partially Occupied Building (Gross-up Clause)

The tables can easily be turned with a gross-up clause. If the landlord grossed up all operating expenses, the landlord would calculate expenses by dividing $75,000 by 50% (the portion of the building occupied by Tenant A) to get to $150,000 for total building expenses.  Since we have already seen that the operating expenses for a fully occupied building are only $100,000, we can see that the gross-up results in an artificially inflated total.  Tenant A would be responsible for its proportionate share (50%) of this grossed up number (or $75,000) and the landlord would have a windfall because Tenant A would be paying all of the expenses for its own space and the vacant space.

Moral of the story?

Not having a gross-up clause can be detrimental to the landlord but grossing up all operating expenses is detrimental to the Tenant.

So, how do you protect your client in a multi-tenant building?

If you are representing a tenant in negotiating a new lease or are reviewing operating expense statements from a landlord on behalf of an existing tenant, make sure the lease allows for the gross up of variable expenses only.  Variable expenses are those that fluctuate based on occupancy such as utilities and janitorial.  Non-variable expenses include taxes and insurance.

If only variable expenses are allowed to be grossed up, the net result should be a grossed-up number closer to the $100,000 in expenses actually incurred when the building was fully occupied.  After Tenant A pays its proportionate share of the grossed-up number, or $50,000, the landlord is responsible only for the balance of the actual expenses ($75,000 less Tenant A’s $50,000 reimbursement) or $25,000.00, a more equitable result.

Not all leases start and end at the same time. Landlord’s plan for building vacancies; tenants should too.

 

According to Peter Zeughauser of the eponymous consulting firm, law firm partners should always have a plan for their downtime.

“Every partner in every firm should have a career development plan that’s consistent with the firm vision and the firm’s plan that should have kicked in when demand is low. If they don’t have a plan, that’s a good time to create one.”

I love this advice, yet when I recently had the opportunity to take a short sabbatical, I didn’t heed it.  I had no plan for my down time.

While some would argue that sabbaticals are supposed to be a rest from work and thus “plan-free,” the intention of my sabbatical was to figure out what I wanted to do next in my career.   I also had high hopes of accomplishing a few other things along the way.

Instead, I binge-watched four seasons of Younger.  I worked out two hours a day.  I spent time with the graduating high school seniors I adore.  I bought my daughter a kitten.

Things I did not do that I wish I had:

Publish the update to my C Suite survey.  [It’s coming.  Just not quite yet.]

Write and film a video for my website.

Go hiking in Park City.

Despite this unfulfilled wish list, ultimately, I consider my sabbatical a success because I figured out what I want next in my career.

The Why Behind the Downtime Plan

So… now I am back at work and I spent a good chunk of this first weekend after returning to work planning for my downtime (although I don’t foresee having much of it).  When I do have a free fifteen minutes, I am not going to waste any time figuring out how to spend it.

Small Bets

My downtime plan includes short projects that can be started and stopped easily.  These include:

• Clean up/out my Outlook contacts.
• Update my blog mailing list.
• Work on the “ugly first draft” of articles.
• Build a Hootsuite backlog.

Big Chunks

My plan also includes work on more time-consuming projects:

• Draft client plans that identify ways I can add value to each individual client. To do this, I start with a solid understanding of each client.  (More on that here.)  Next, I identify topics that are of specific interest to each client so that I can be knowledgeable about those topics and share specific and relevant information with my clients.  Finally, I schedule, implement and track my actions related to each plan.
• Brainstorm article topics and research projects.

Lunch Hours

Finally, my down time plan includes a “lunch hour plan.”  First, I need to qualify this bullet: every day, my plan is to spend lunch with a client, prospect, or new acquaintance, building relationships.  Since that might not be feasible every day, my downtime plan is:

• Spend time getting to know each team member at my new company and understanding their roles. If I don’t have a client lunch, I should have a co-worker lunch.

Your Turn

If you don’t already have a plan for your work downtime, maybe you should spend the next bit of downtime that comes your way creating one.  I promise it will alleviate some of the angst associated with wasted time – especially if you work in a billable hour world.  It also may improve your business development efforts.

 

In 21 years of tenant rep brokerage, I have had the privilege of working with some exceedingly smart real estate lawyers reviewing leases.  [Tom Aggen, Linda Warren, Vytas Petrulis, to name a few.]  I have learned so much from them and think it only fair that I in turn share that knowledge with you.  So, bookmark this page and pull it up next time you need to review and redline an office lease.  Hopefully, it will save you some time.

Entities and Definitions

When I receive a draft lease from a landlord, I start at the beginning, checking to ensure that the entity names are correct.  This blog post goes into depth about why it’s important that the landlord entity matches the tax records for the building and how to make sure that is the case.

Next, in leases, the drafters will frequently define terms that will be used repeatedly within the document. Those terms will be capitalized.  Make sure that there are no “defined terms” that are left undefined.  You can do this quickly by comparing to a “definitions” page in the document or by searching the defined terms to find the corresponding definitions.  If one does not appear, note it in your comments so that the drafting attorney can address.

Business Terms

Have the letter of intent or most recent proposal reflecting the terms to which the parties agreed handy while reviewing the lease.  Check that each of the business terms, i.e. term length, rental rate (including any monthly or annual rent payment calculations), space size and location, rent escalations and operating expense base year, is thoroughly addressed and comports with the negotiated agreement.

Commencement Date

This subject is a whole blog post unto itself and, unfortunately, not one that I have yet written.  Suffice it to say that you must verify that the commencement date occurs when you bargained for it, whether that be a date certain or upon completion of improvements.  Also ascertain who bears the risk for failure to deliver by the commencement date.  You do not want your company or your client paying rent for space they are not using.  Now is the time to make certain that does not happen.

Operating Expenses

In initial lease drafts, some landlords try to include every possible expense in the definition of Operating Expenses that may be passed through to tenants.  Click here to download my “go to” list of operating expense exclusions that I add to every landlord-generated lease I review.

Insurance Language

Insurance lease language can be full of landmines.  This will help you avoid them.

Assignment and Sublease

All leases address the rights (or absence thereof) of the tenant to assign or sublease the leased space.  This post details the five must-have lease terms relative to assignment and sublease.

Build Out

If your lease anticipates any kind of construction in the premises prior to occupancy, it will include, at a minimum, a workletter detailing the parties’ respective obligations for construction of the space.  Start by asking the person who will be responsible for overseeing the buildout on the tenant’s behalf to review it.

This blog post discusses all of the lease exhibits that should be included along with the workletter to ensure a smooth build out process.   Also, make sure these five interior finishes are addressed to guarantee a Class A appearance.  If you happen to be moving into a newly constructed building, this is a must read.

Expansion Rights and Rights of First Refusal

Always secure renewal rights and document them in the lease.  This post explains why.  In light of the new FASB regulations, read this to understand whether you want those renewal options to be at below-market rental rates.  Also, if your renewal term creates a total lease term in excess of 20 years and your lease is in Alabama, you must read this.

If your new lease includes a right of first refusal, make sure your lease addresses these 5 things.

Signage

If you negotiated signage, make sure the lease addresses these issues.

Almost Done

When you finish the steps above and a thorough read-through of the lease, make sure that these No Go Lease Terms are not included in the draft lease.  If they are, delete them.  Read the blog post so that you understand why you need to do so and can convey that position to the landlord’s attorney.

Lastly, while I am an attorney, I am licensed under the California Bar and currently inactive and therefore cannot give legal advice and do not have malpractice insurance.  Consequently, in a perfect world, you will go through the process I detail above and then send your redline to your actual lawyer who will then love you forever and sing your praises because you have saved him/her so much time.

When I was in college and grad school, I waited tables to pay my tuition bills.  At that time, my nightmares were either about tests for which I was not prepared or endless tables of customers waiting inordinately long for their food.

Fast forward to the present.  As a tenant broker, my work-related nightmares are about missing my clients’ lease renewal or termination notice dates.  It can be truly catastrophic for a tenant to miss a notice date and risk forgoing an option to renew or terminate a lease. And, landlords are not likely to let the lapse slide and honor the late notice — especially where tenant-favorable option language is concerned.

An example

You lease 10,000 square feet in an office building in Austin, Texas.  You have the right to renew for five years at a 3% increase over your then-current rental rate.  Because you originally leased your space before the market skyrocketed, your rental rate is currently $10 per square foot below market and this option will enable you to enjoy that below market rate for five more years.  If your lease says that you must give landlord 270 days prior notice to exercise this option and you don’t realize until too late that 270 days does not equal nine months, you just missed the notice deadline.  If you then end up with a market renewal rate, you just cost your company $500,000.  Ouch.

How do you ensure you never miss a date, whether you are the tenant or the broker representing the tenant?

My solution has been to abstract every lease into a lease administration database licensed by my company.   I then set ticklers to alert me in advance of approaching notice dates.

Some larger companies already have their leases in lease admin systems, however, I find this is the exception rather than the rule.  Further, often the broker does not have access to the system.  I will happily duplicate the client’s system in order to sleep well at night knowing that I am not going to miss a date.

How does this work?

After a lease is fully executed, I make sure it is abstracted into our database.  As part of that process, I set reminder ticklers to give me sufficient advance notice so that I have can notify my client of the approaching deadline and help them figure out how they wish to address it.

If my client leases 100,000 square feet and they have a right to renew for five years with twelve months’ notice, I am going to set my tickler for at least 18 months prior to the notice date to ensure the client has time to evaluate renewal versus relocation scenarios prior to giving notice.  For smaller spaces and/or shorter terms, ticklers are set closer to the notice dates.

What do I do when I receive a tickler notice?

On a renewal, I will look at:

• My client’s density in the location: Do they have enough space? Too much?
• My client’s rental rate vis a vis market
• The availability of relocation options in the market

I will synthesize the information above into a memo to my client so that they can evaluate their current situation and begin to formulate a strategy with regard to the renewal.  If my client is not yet ready to make a decision, I will reset the tickler for a month or two later so that I am not in danger of forgetting the notice date.  I keep resetting the tickler until my client has exercised or waived whatever right is concerned.

There are other benefits to having access to my own lease admin files.  I can answer any client questions regarding previously negotiated leases very quickly and accurately.  I can facilitate speedy review of any estoppel forms received by my clients and also monitor their leases for renegotiation opportunities.  For these reasons, my clients readily agree to let me abstract their leases.  And, because this is an application to which only the broker working on the deal has access, there are no privacy concerns as to other brokers or clients.

If my approach has piqued your interest, I am happy to recommend lease admin programs or discuss my process.  You can contact me here.

In leasing, when a landlord agrees to give a tenant a right of first refusal (“ROFR”), the landlord is committing that when the landlord receives a proposal from a third party for available space that is subject to the ROFR, the landlord will offer that space to the tenant at the terms offered to third party.  The tenant has the right to accept the offer and lease the space or refuse the offer, at which time the landlord may proceed to lease the space to the third party.

This sounds simple but in application, it is anything but.  To ensure that there is no confusion after the landlord gives the tenant the right of first refusal option, the following five things should be considered and documented in the lease.

#1 Term Length

Landlord and tenant must determine whether tenant may exercise the ROFR at the terms offered by the third party but for a term that is co-terminus with the tenant’s current lease, or whether the ROFR must be exercised for the term length agreed to by the third party.  This can be critical to both parties.  For instance, if the tenant has only two years left on its lease but needs additional space, may the tenant exercise its right on the space for only a two-year term when the third party was prepared to commit to a longer term?

Or, if the landlord requires that the tenant exercise the right for the same length of term agreed to by the third party, is there a mechanism in the ROFR by which the tenant can extend its existing lease term to be co-terminus with the ROFR space?

When I represent the tenant, my approach depends on the length and size of the tenant’s initial commitment.  If my tenant is leasing 100,000 square feet of space for a ten-year term and has a ROFR on the balance of a partial floor it occupies, I will push hard to ensure that the tenant has ROFR rights reflective of its importance to the landlord, i.e. extremely favorable.  If my tenant leases 5,000 square feet on a five-year term, I will push to ensure that the tenant has the right to extend its lease to be co-terminus with any expansion space it leases by virtue of a ROFR.

#2 Applicable Space

The parties must determine and document which space is subject to the ROFR.  For instance, if tenant has the ROFR on contiguous space and there are 10,000 square feet of vacant space adjacent to tenant, does the tenant have to exercise the ROFR as to the entirety of the space the third party desires to lease?  Or may the tenant exercise the ROFR as to a portion of the space in the third party offer?  Again, this negotiation is influenced heavily the tenant’s relative size and term commitment to the building.

#3 Continuing or One Time Right

Is the ROFR ongoing for the entire term of the tenant’s lease, or is it a one-time right?  Consider the situation where the tenant commits to a ten-year term and has a ROFR on contiguous space that happens to be vacant at the time the tenant signs its lease.  If the landlord receives a third party offer one year into the tenant’s term and the tenant does not yet need the space, will tenant’s ROFR endure through the third party’s five-year term such that should the same space become available in five years, the ROFR will reattach?

Similarly, if the tenant has the ROFR to all space on the same floor as tenant’s premises, if tenant turns down one space, that space is leased to a third party, and another space on the floor becomes available, does the tenant have the ROFR on the second space to become available?

Another thing to consider in this area is whether the landlord must present the ROFR to tenant again if the terms of the third party offer improve in the tenant’s favor after the tenant turns down the ROFR.  I like to negotiate language stating that if the third party negotiates a deal which is “materially better” than that presented to my tenant originally, the improved deal must then be presented to my tenant.  I will then negotiate the definition of “materially better” but usually I am content with “the effective net rent is >5% lower than the offer initially presented to tenant.”

#4 ROFR Notice Response Time

This is key to both the tenant and the landlord.  From the landlord’s perspective, time kills all deals.  If the landlord has to wait fifteen business days after offering the space to tenant on the third party’s terms, there is a very high risk that the third party will get spooked and look elsewhere.  On the other hand, if a tenant is getting close to needing expansion space but is not aware that some may be coming available, the tenant may need some time to evaluate the offer and secure internal approvals to move forward.  The tenant is going to want as much time as possible to evaluate and respond to the ROFR.

#5 ROFR Space Start Date and Condition

The landlord and tenant should agree as to whether the third party’s offer terms will govern the commencement date for the ROFR space and the allowance offered by the landlord to build it out, or whether the ROFR language in the lease between landlord and tenant will define these terms.  Allowance needs to be similarly considered as it is largely dependent on the term question addressed in paragraph one above.

Addressing these five points takes time and effort, however, your client – landlord or tenant – will be immensely grateful to you later when the ROFR process is efficient and conflict-free.  At the end of the day, the negotiated language has to work for both parties based on the needs/leverage each has at the time the right is negotiated.