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.