How to Gain More Flexibility in Long-Term Commercial Real Estate Leases

For most businesses, agreeing to a long-term financial commitment is only positive if it means additional and sustained income. But a commercial real estate agreement is the opposite – a monthly expense that needs to be paid in order to keep the lights on. 

Spanning anywhere between 3-20 years, a commercial real estate lease agreement is a significant investment. While most leases include clauses for early termination (for a fee), it’s important that companies pursue the greatest amount of flexibility in a long-term real estate commitment to protect themselves from changing market and economic factors. 

Why Landlords Refuse Short-Term Lease Agreements

Despite the fact that most companies can’t accurately predict business cycles further than 2-5 years, property owners always seek a longer lease term in order to maximize the value of their real estate asset and secure a predictable cash flow. 

There’s also the financial burden of taking on a new tenant. Taking into account cleanup costs, architectural fees for new buildouts, and landlord improvements to make the space suitable for a new tenant, it doesn’t make financial sense to commit an upfront investment for a short-term tenant. 

Exploring the Different Options in the Lease Negotiation Phase

Established businesses with long-term projected growth and prosperity can benefit from longer lease terms, which tend to offer more agreeable monthly terms, additional perks, and more generous tenant improvement allowances. But there’s always a chance that things will change, which is why you’ll want to protect your company’s interests with the following conditions during the lease negotiation phase:

Right to Assignment and Sublets

In the event of a rapid expansion, merger, acquisition, or if the absolute perfect property comes onto the market midway through your lease agreement, having a right to assignment (in which the original tenant would assume responsibility for a sub tenant) or sublet (where the landlord assumes responsibility for a sub tenant) clause in your contract will allow you to sublet the property to another company without breaking the terms of your lease agreement. 

Renewals and Extensions

Renewals and rights to extensions built into your lease agreement allow you flexibility in retaining a space after the term of your lease expires. Due to the hefty costs of relocating, not to mention the logistical nightmares of moving offices and maintaining continuity of business, it makes more sense to provide yourself the ability to keep the same space. Even if the market demonstrates more favorable properties, your landlord is always seeking more attractive tenants with deeper pocketbooks. After all, if it isn’t broken, don’t fix it. 

Early Terminations and Contractions

Early termination options give tenants the ability to end their lease agreement after a certain point, but requires them to give the landlord written notice in advance of the termination date – usually between 6-12 months. But these termination clauses won’t come without a cost. Landlords will demand, at a minimum, a certain percentage of the remainder of the lease and for leasing commissions and tenant improvement allowances. 

Contraction clauses allow companies to downsize their square footage in advance of the conclusion of their lease agreement. This allows companies to pare down their occupancy in the event of layoffs, changing market conditions, or in preparation of moving a company to another more suitable location. 

Flexibility in Expansions

Every business hopes to grow and expand their operations. In the hopes that it happens, it’s important to anticipate a growing staff over the course of a long-term commercial lease agreement and avoid stacking desks atop one another. Building owners usually grant a certain version of an expansion option to tenants, which are commonly chosen from the following:

Right of First Offer

Including a “right of first offer” clause in your commercial lease agreement mandates that the landlord must present a newly available space or expansion to the tenant before putting it on the market to third-parties, allowing tenants the ability to expand their square footage under the same roof. 

First Right of Refusal

This clause requires landlords and building owners to provide the same deal made with a potential third-party tenant to the current tenant for equal space. Triggering this clause would preempt any third-party deal and allow the current tenant to expand into the space advertised for the same terms agreed upon by the landlord and the third-party. 

Fixed Expansion Options

Also known as hold options, these stipulate that a tenant has a predefined amount of time to exercise an option on an adjacent or neighboring space once it becomes available before the landlord places it on the market for third-party availability. 

Other Alternatives to Space-Related Issues

Thanks to the democratization of the workplace and the reach of connected business communication systems, companies have begun holding off on an expansion of office space in return for flexible working conditions, shifting employees to remote or work-from-home situations to avoid overcrowding and in order to save money on expansions. 

Temporary or shared office solutions have also been a major advantage for companies with space shortages. Monthly plans through shared office providers give companies the ability to remain in contact with their employees, give them adequate desk space, and even schedule meetings in these shared conference rooms. For companies with space requirements or looking ahead to a major expansion, these short-term alternatives can prove invaluable to businesses on the move. 

Negotiating for more flexibility in your lease agreement can be a major hurdle in the process, but protecting your company’s interests in the long-term makes the effort well worthwhile. When you sit down with the landlord’s representatives, try and incorporate some of the above options in order to limit your risks and protect your company against uncertain market conditions and unforeseeable economic circumstances. 

 

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.