How to Approach a Lease Renewal - 6 Suggestions

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One thing that differentiates commercial real estate professionsls from our residential counterparts is leasing. Sure, residential agents can lease houses but most focus upon the higher fees associated with home sales. After all, we are paid a fee on the consideration of a deal - a fancy description of the total dollar amount of the transaction. Lease fees are a percentage of the amount of rent an occupant will pay over the term of their lease. Simply, the variables are rate and number of years. Commercial leases tend to be three to ten years in length whereas a lease for house will be month-to-month or a year. Thus, the short term creates a small amount from which a fee can be earned. Now you understand why home sales are more profitable and residential agents shun leases.

In a given year - a portion of a commercial agent’s income will be derived from completing lease deals. These come in two flavors - new leases and renewals. Yes! In many cases our clients engage us to assist with renewals. Today, I’ll focus on some suggestions as you approach your decision to relocate or renew - akin to “Love it or List it” on HGTV.

Understand your owner’s position. Is the rent that you pay sufficient to cover the owners’s mortgage? Is the building owned free and clear? Is this the only building owned? Can the owner afford a vacancy? What is the nature of the ownership - sophisticated or mom and pop? What are the owner’s plans for the building - hold or sell? All of these variables will play into your ability to craft an acceptable lease renewal. As an example - if your rent barely eclipses the owner’s costs - he may be unwilling to negotiate. Conversely, a building owner with no debt can be more flexible.

Understand your position. In many cases, you know the building better than its owner. After all, your business has lived there for a period of time and weathered roof leaks, air conditioner outages, a shortage of parking, break-ins, and truck access. You reside despite the “warts”. However, if you vacate and another occupant must be found - will the new tenant discount for these deficiencies? What sort of renewal rights - if any - are contained in your lease? Do you have an option to extend? How is the option rent calculated? Finally, has your operation outstripped the capacity of the real estate or are you swimming in excess space?

Know where you are relative to market. Lease rates have increased exponentially over the past five years. If you crafted your agreement prior to 2015 - chances are your rate is dramatically below current levels. Plus, inventory percentages - number of available buildings on the market - are at historic lows. Therefore, if you’re not prepared with this knowledge - you’re in store for a shock!

Calculate your moving costs. Moving companies will gladly visit your site and give you a complimentary estimate of the cost to move your operation. However, don’t forget other relocation variables such as electrical feeds, special permits, downtime, and key employee drive-time. An owner will bank on the disruption and cost of moving your operation in his negotiations - so know your stuff.

Do some math. On your side of the aisle - you have relocation expenses, rent in the new facility, and the goodies that accompany a new lease - free rent, fresh paint, new flooring. But, you’ll pay a market rate for these amenities. On the owner’s ledger will be the expense to replace you - building refurbishment, lost rent from the vacancy, free rent for a new tenant, possibly some special stuff like a new office or two, and transaction fees. Most of these allotments will be “lost forever” - IE: an owner will never recoup them. Many times, the cost of replacing you can amount to 15-25% of the lease consideration - the total amount of rent you’ll pay for the term.

Start early. I cannot stress this enough! Your negotiating strength depends upon it. 12-18 months in advance of your expiration is advisable.

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.