April 10, 2009
“Lease renegotiations create win-win solutions benefiting tenants and landlords.”
A business owner’s need for improved cash flow to remain a solid, sustainable entity often is not aligned with the lease terms and conditions agreed upon when the market was at its peak 2 to 4 years ago. As the economy drives more businesses into red ink and the commercial leasing market continues to soften, the opportunity for business owners to renegotiate their leases well before their expiration date has never been more critical. The key to these negotiations is to create lease terms benefiting both the leaseholder and the tenant, i.e., creating a “win-win” scenario. For example, the leaseholder may benefit from:
· Extended guarantee of cash flow.
· Improved occupancy rates.
· Reduced rollover risk.
Know Who You are Dealing With
Knowing the leaseholder and how they are invested is the first step in renegotiating a lease. There a several types of leaseholders and each have distinct needs. For example, a single asset owner dependant upon monthly income to make their mortgage payments will have a totally unique approach versus an REIT wanting to create a stream of income for investors. Another example may be a leaseholder who sold the business and not the real estate. The business owner may be better off to look at purchasing the real estate under the business versus renegotiating rent.
Create the Appropriate Story
A successful lease renegotiation requires the leaseholder to obtain an appropriate assessment of risk. The story the business owner tells is critical to ensure a win-win solution. If the story is too optimistic, the leaseholder will believe it is only a temporary concern and may only offer temporary relief. If the story is too pessimistic, the leaseholder will believe the business is about to fail and they must squeeze every last dollar out of the business. Neither of these are win-win solutions. The best story is one balancing pessimism, i.e., if costs are not reduced the business will not survive, with optimism, i.e., if rent is reduced and we accomplish these other three cost cutting measures, we will return to break-even within three months. Besides the financial condition of the business, other key events with potential positive impact on negotiations include:
· Present rate and/or renewal rate is well above or below market levels.
· You have a termination clause for a fixed amount.
· The leaseholder has invoked a relocation clause.
· Downsizing or outsourcing has created unused space.
· Acquisition or new product development has created the need for more space.
· The building requires a major infrastructure improvement to meet business needs.
· The business model has changed significantly.
· Availability/access to credit has changed.
· The asset has sold or is presently being marketed for sale.
Understand Your Options
Everyone’s primary concern is cash flow, and certainly it is important; however there are many other terms and conditions to trade off in order to create a win-win outcome. A leaseholder will be most interested in trading off reduced income for:
· An extension term.
· Return of space to the leaseholder.
· Targeted rental rates, especially in REITs.
· Tax deferrals.
· Purchase options.
· Future expansion options.
· Deferred maintenance or repairs.
· Transfer of responsibility for maintenance or repairs.
· Ownership transfer options.
· Future space adjustment options.
· Security agreements.
Know the Market and Building History
Having sound, current data to back up your position is critical in a lease renegotiation. What you know about the market, and your building in particular, going into the negotiation will help you set appropriate expectations. This knowledge is highly correlated to completing a successful negotiation. Things you should know before renegotiating your lease:
· Building history including lease rates, trends and vacancy rates.
· Market history including lease rates, trends and vacancy rates.
· Building ownership and recent changes to ownership.
Market and building information is readily available from many commercial real estate data providers for a reasonable monthly subscription. I highly recommend you have this information in hand prior to any negotiation as hard data diffuses emotion and leads to reasonable expectations and outcomes for both parties.
Know Your Present Financial Capability
It is very important to understand and to be able to explain your company’s present financial situation, the revenue and cost cutting measures being undertaken, the amount of rent you can or will be able to afford at any given time, and the capability to make future renegotiated payments. The leaseholder will ask for this information to better understand tradeoffs and assess their risk. Specifically, they will want answers to the following questions:
· Is the business sustainable if a rent reduction is negotiated?
· Will the business fail if a rent reduction is not negotiated?
· Are there lower priced options in nearby buildings?
· How will cash flow be impacted if the business fails or moves?
· How quickly can the space be leased to a new tenant?
· Is there another tenant in the building looking to expand?
Approaching the Leaseholder
Knowing how to approach the leaseholder is critical to set the tone for the negotiation. Usually, the best approach is to write very positive, non-confrontational letter detailing the financial situation of the company, the strategy for recovery, what is expected from the leaseholder to contribute to the recovery, and a request to discuss potential win-win solutions. Once a suitable date and time has been established for this discussion, the best step is to guide the leaseholder through the letter, educate them on their building and local market, answer their questions, then politely ask for the terms and conditions you believe acceptable for a win-win solution. A market educated leaseholder may very well agree to terms quickly; whereas, others will need time to study their present situation as well as the marketplace. If an agreement is not reached, schedule a follow-up meeting to ensure the negotiation continues in a timely manner.
Every lease renegotiation is different. They can take many different roads, so the more prepared you are in advance, the more in control you will be. Some surprising responses could include a landlord eager to see you terminate the lease as they have an existing tenant wanting to expand or a new tenant wanting to move in, leaseholders not willing to negotiate because they are out of touch with the marketplace due to lack of interest or they are based overseas, an interest in selling the building to the tenant(s), or complete lack of interest due to the relative impact on the leaseholder’s overall portfolio. Whatever the response, the key is to remain persistent in your strategy and objectives.
Know What You are Signing
Once the leaseholder has agreed to the revised terms and conditions, be sure to carefully study the new lease agreement. It is not uncommon for the leaseholder to make alterations to the agreement not discussed such as revising payment terms, adding personal guarantees, or creating large pass through charges
Conclusion
Lease renegotiations have a high likelihood of success in a soft market given you know how to present your case. You must be willing to open your books to the leaseholder so they understand their risk and there is no substitute for knowing the history of the building and the market. It is not uncommon for leaseholders to drag direct tenant negotiations out two or three months to see how desperate the tenant becomes – a game of “lessor-lessee chicken” if you will. Therefore, you may consider using a third-party negotiating firm as it may end up saving you money in the short-term as well. I offer my services on your behalf for $1500 or one-twelfth the annual savings I negotiate, whichever is greater, guaranteed. Remember, lease renegotiations are intended to create win-win solutions for both tenant and leaseholder.
by
Eric J. Gall
Principal
Blue Chip Business Solutions, LLC
239-405-8818 or 800-599-0503
eric@bluechipbizsolutions.com
www.LeaseAdjuster.com
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