We
have previously discussed the ways in which you can extract yourself or your
company from a lease obligation. As a quick recap. Leases are contracts which allow
occupancy for a certain period of time (term) and for consideration (rent). As
an inducement for your tenancy, an owner (landlord) may offer some goodies -
free or abated rent, an allowance to fix up the place, or a right to extend
your lease or buy the premises (options). In return, you agree to pay on time,
stay the full period of the lease, and take care of the building. Easy, right?
Not so fast.
Sometimes
circumstances arise whereby the agreement must be tweaked. In the extreme - a
dramatic decrease in revenue - leading to bankruptcy. Conversely, an uptick in
sales could cause the need for more space. If a competitor is acquired or if
the operation is sold - another shift occurs. Now, you have redundancy - too
many facilities serving the same purpose. What to do with your lease(s)?
Remedies
abound. You can sublease the building, buy-out, allow the term to expire,
reject the lease through a bankruptcy, or default. Clearly the last two are not
recommended as there are legal consequences - but they are a way clear.
Most
opt for one or a combination of the first three - sublease, buyout or term out.
But what are the differences and when should they be used. Please allow me to
dive a bit deeper.
Sublease. Simply, you locate a surrogate. A group to replace you.
But, don’t forget, there may not be another you readily
available. Did your operation lease the first building you toured? Probably
not. You considered multiple locations until you found the perfect fit of lease
rate, landlord motivation, amenities, concessions, and term. Now, you
are the landlord and must meet the nuances of tenants in the market. All, while
having little flexibility. Your goal is to get out - with as little downtime
and expense as possible. Remember, your rent and term are known. Where is that
rate compared to comparable availabilities - above, below or right at market.
If you’re below - count yourself fortunate! You’ve something to offer. But, how
do you deal with an enterprise seeking a three year lease when you’ve committed
to ten. Plus, you’ve consumed the inducements. By that, I mean your free rent
burned off or the new carpet is old now. To compete, you may have to consider
offering some giveaways. Subleases are messy! I’ve found the the most success
when the rent is below market, a lengthy term remains - 5 years+, and the
building is in pristine condition.
Buy-out. An owner of commercial real estate spends significant
dollars to originate your occupancy. First, he sat vacant while his agent
marketed the availability and searched for a tenant - all while continuing to
pay the bank and operating expenses. Secondly, that free or abated rent is
another cost. Third, painting the offices and adding new flooring isn’t cheap.
Finally, he paid professionals to negotiate the lease. All told, an owner will
outlay 15-25% of the lease term’s rent in origination costs! He then recoups
the expense over the term. Therefore, if you approach your landlord with the
question - “what’s it going to take to let me walk?” - he will account for all
of the above. Generally, tenants find the price too steep and opt for another
avenue. But, I’ve encountered situations where buyouts make sense. Typically, a
spread exists between the stated rent and current market. A mid term remains -
2-3 years. And little cleanup is necessary.
Term. Clearly, the easiest. But seldom used. Why you might ask?
Because the ends rarely meet. Sure, if you could time your company’s demise
with the expiration of your tenancy - boom! Problem solved. Unfortunately, the
dangling participle of term generally must be severed.
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial
Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
