CIP Blog

Some issues with leases can be solved pretty quickly so let’s clump a few lease issues together, shall we? 

Use:Easy isn’t it?  If you are taking about office space it is very easy.  Just insert language like this…

Class B Office Space

The Leased Premises shall be used by Tenant for general office purposes and for no other purpose whatsoever, without the prior written consent of Landlord.

Problem solved.  I have never gotten into a protracted lease negotiation that involved “Use” in an office lease.

Retail however, is another story.  Insurance companies don’t mind being next to each other in an office building but grocery stores don’t like it when you put there competitor next door.  Many anchors require “exclusivity clauses” that limit the shopping center’s ability to lease to a competitor.  An example is the Shops at Western Plaza.  The Fresh Market is the only grocery store allowed in the center. 

For that reason we have to write the “Use” section of the lease for new tenants carefully.  A tenant like Hard Knox Pizza will have the use listed as something like this:

The Premises will be used for operation of pizza restaurant, and associated food and beverages and for no other purpose whatsoever, without the prior written consent of Landlord. 

Without this language Hard Knox would have the ability, in theory, the change their store to a massage parlor, barber shop or grocery store (or anything else) and the landlord could do nothing about it; even if it did violate another tenant’s exclusivity.

Parking can be a big factor

Parking:

Things to watch for in lease language regarding parking:

• Is the number of parking spaces in the lot listed on the lease?  They don’t have to be but if you are tenant that has a lot of walk-in traffic you need some way to protect your employees and customers parking rights.
• Are their plenty of spots for visitor parking?  If not, ask for them.
• Do you have reserved parking?  What protections do you have from getting those taken away?
• Who has the right to tow cars?  The landlord and managing company must have the right to tow illegally parked cars.

Use of the Common Area:

This is one of those common sense things that are in just about every lease.  The lobby, restrooms, stairwells, etc…are for the use of the tenant, their employees, agents and guests.  Tenants are not supposed to use common areas for conducting business. See…common sense.

As always, if you have questions please feel free to contact me at 865-584-3967 or jcazana@ciprop.com

Next week we delve into….SIGNAGE!

Justin Cazana, CCIM

Back to our section by section review of leases.

 Assignment and subleasing. 

 This can sometimes be a contentious issue (but then again what isn’t in commercial leases?).

Here are the basics…a tenant has a lease at a certain piece of property.  The tenant wants to move out, shrink their space, or bring in another business to the property.  They can do this for any number of reasons: maybe they need someone to help cover their cost; maybe they have out grown their space and need to expand; or maybe they are going out of business and want to find another tenant for the landlord.

In general, a sublease is a legal agreement where tenants transfer their interest in the leased premises to a subtenant.

If you are tenant, read your lease. A tenant’s right to enter into a sublease may be expressly prohibited or restricted by the landlord. These restraints are usually clearly expressed in the lease/rental agreement or the courts will not enforce them. Landlords usually require written consent to subletting. 

If you are landlord, I would suggest getting this language inserted in your lease. You need to protect yourself.

A sublease is a contractual relationship between the tenant and the subtenant. The relationship between a tenant and a subtenant is essentially the same as the relationship between the landlord and the tenant. In general, the liabilities of the parties to each other are governed by the same rules that apply to the lease. From the time the subtenant takes possession of the leased premises, he/she becomes a tenant of the original tenant (I know, it’s confusing).

A tenant who subleases his interest in a leased premises to a third party (the subtenant) is not released from the obligations under the lease/rental agreement. The tenant is still liable to the landlord for rent and all other provisions contained in the lease.

There is no direct contractual relationship between the landlord and the subtenant. Therefore, the subtenant has no direct rights against the landlord under the terms of the original lease/rental agreement. This also means that a subtenant is not liable to the landlord for rent or for breach of any terms in the original lease agreement. However, the subtenant may be liable to the landlord if he/she expressly assumed the terms of the original lease/rental agreement.

In many ways an assignment is similar to a sublease except an assignment means you are transferring the total rights and responsibilities over the lease to another business. 

 Subleasing/Assignment Issues:

• Excess rent:  Some tenants will sublease their space at a rate higher than what they are paying and try to pocket the profits.  A landlord’s lease needs language to make sure the proceeds from any sublease are retained by the landlord, not the tenant.  If needed this can be a negotiating point later.

•  Use:  This is one of the reasons a landlord needs the ability in a lease to reject a sublease.  If a shopping center has a pizza restaurant (with the exclusive right to operate in the center) and a burger joint wants to sublease to a competitor of the pizza restaurant the landlord has to have the ability to reject this sublease.  If the landlord does not have this ability they could be sued for breach of lease with the original pizza restaurant.

• Liability:  The landlord needs to be protected in the event that the tenant tries to assign a lease to a tenant with poor credit.  You don’t want a Fortune 500 what may be in one of your office buildings to assign their lease to a shell holding company that can easily go bankrupt at any minute.  In many cases language is inserted in a lease that states the tenant can assign the lease so long as the new tenant (assignee) has a net worth greater than or equal to the first tenant (assignor) at the time the original lease is executed.

 Lots of details but very important ones.  As always, feel free to contact me if you have any questions. jcazana@ciprop.com or 865-584-3967.

 Sincerely,

 Justin Cazana, CCIM

Surely paying rent is easy, right?  All you do is write a check at the first of every month.  Piece of cake.   Yes it is easy. 

Rent:

In most leases, rent is paid to the landlord on the first of every month.  The language is very specific in the lease document as to how it is paid, when it is paid, to whom it is paid and what happens when you don’t pay it.   To make sure you don’t forget to pay your rent many landlords suggest, or require, automatic draft of all payments from your account. 

A couple of things to watch for…

• When you are starting a new lease make sure the rent commencement date is negotiated.  Rent rarely starts the day you sign the lease.  Do your best to make sure that rent does not start until you open for business or until your construction is complete.  Nothing can put a crimp in a business plan like paying for construction and rent at the same time.
• Negotiate free rent periods.  In this economy many landlords are giving incentives. Free rent is one of them.  Two to three months of free rent is not uncommon.
• Pay attention to late fees.  Rent is due the first but most late fees are not charged until the 5th of the month.  This is not a hard and fast rule but something to watch for.  Also, late fees can be as much as $25 per day. Those can add up quickly. 
• Load factor:  You may notice you pay rent based on “Rentable Square Feet”.  This is based on the amount of “Usable Square Feet” you occupy, multiplied by the load factor.  This is the percentage of the building taken up by the common area (restrooms, hallways, lobby etc…).  This varies from 0% to 20% depending on the building.  Learn your buildings load factor before signing the lease to make sure the rent is properly calculated.

 Operating Expenses:

These costs are defined as the amounts paid to maintain property, such as property taxes, utilities, insurance, repairs, maintenance, legal fees etc…These have more than a dozen names.  They can be referred to as CAM (Common Area Maintenance), NNN charges (known as triple net), operating expenses, pass throughs…you get the idea.  They are handled differently depending on the type of lease but to simplify the process we will look at basic retail and office leases.

Admiral Pointe-Common Areas

Office Operating Expenses:  In typical Class-A office leases the tenant pays a full-service rent.  The tenant writes one check each month to cover rent, utilities, CAM, etc…However, in the lease there will be what is called a “Base Year” or “Expenses Stop”.  This defines the amount of annual payments that goes towards operating expenses.  For example, if you pay $20.00 per square foot in rent in a full service lease your “expense stop/base year” may be $6.00psf.  At the end of the fiscal year the landlord will reconcile all the operating expenses.  If the operating expenses exceed $6.00psf the tenant will be required to cover the difference (Example: if it ends up at $6.05psf, the tenant will have to pay $0.05psf to reimburse the landlord).  But it goes both ways, if costs come in under your expense stop/base year the landlord is sometimes forced to writes the tenant a check for the difference.   

There are some leases that do not have operating expense stops; these are typically called Gross Leases.  There is no year end charge to the tenant; however, these leases typically include annual rent increases to cover the increase costs of services.

The Gallery on Kingston Pike

Retail Operating Expenses: In most retail leases these are called NNN pass through or Triple Net Charges.  It is the same scenario as offices lease only the rent and NNN charges are broken down into separate categories.  The tenant usually rights only one check per month for rent/NNN but the NNN charges are more volatile and fluctuate more year to year than an office lease.  Remember the retail leases often don’t include things like janitorial service, HVAC repair or light bulb replacement that you might find in office lease.

Protect yourself:  There are ways both the tenant and landlord can protect themselves from outrageous increases in operating expenses in both office and retail leases.  

• Put a cap on controllable expenses:  Landlords have the ability to bid out many of these services, landscaping, janitorial, insurance etc…this allows them to keep operating expenses lower.  In your lease try to negotiate a cap on year to year increases.  Most landlords can agree to around 7% per year.  Note:  Landlords can not control some expenses like taxes and utilities so these are excluded from this type of cap.
• Carefully read the section of your lease regarding operating expenses (it may be called Additional Rent, Operating Expenses, Rental Adjustments or Excess Operating Costs).  Some landlords reserve the right to charge administrative fees on top of the operating costs.  Try and negotiate these out of the deal if you can (its tough).
• Make sure the landlord provides you with a reconciled record of the operating expenses for each year and review it.  If expenses went up 10% make sure there is a reason for it.  
• Negotiate the ability to audit the landlord’s records, but be reasonable about it.  The tenant is paying the rent and the operating expenses so they deserve the right to review the costs.  This is done at the landlord’s or managing group’s office during normal business hours.  Depending on the way the audit rights are negotiated, if the operating expenses are incorrect the tenant can be reimbursed for the excess cost as well as the cost of the audit.

You might have noticed I used the words “typically” and “usually” often in this blog, this is because every lease is different.  Just about everything in a real estate lease is negotiable, these factors are no different.

Be diligent when reviewing these sections of the lease.  A property negotiated lease can save your business thousands of dollars per year.

As always, if you have questions please feel free to contact me at 865-584-3967 or jcazana@ciprop.com

Justin Cazana, CCIM

Opening new retail in these economic conditions is a 50/50 proposition.  Most importantly, the unsteadiness of the economy has many people worried but there are opportunities to get great deals on retail space for lease.

Finding the ideal space in the ideal location

I will let individual business owners make thier own decsions about the economy, but there is a plethora of retail space available all over Knoxville.

Almost every center from Strawberry Plains to Turkey Creek has some type of space available.  Some property owners are in more dire situations than others.  A older center may not have the debt service of new construction so the owners may not be as motivated to deal.  But some centers that were once asking $28.00 per square foot in popular location are down below $20.00.  Those are pretty serious concession.

Even if you are getting a “deal” there are many details to consider before choosing a location.

1.   Of course, Location, Location, Location: Walk in traffic is the best way for a new retailer to be discovered. Spend time in the neighborhood, learn the flow of traffic, the demographic, etc.

2.    Type of space: What side of the street is the space on? Do you get afternoon sunlight? Is the space deep and dark? Is there a lot of wasted square footage in the space? Notice as much as you can on the first tour and make sure to come back several times at different times of day.

3.    Neighbors/competitors: What businesses are located in the area?  Will their customers see value in your merchandise or service? Ask other merchants about the pros and cons of the area.

4.    Crime:  Being in a neighborhood that is gentrifying or potentially has some crime issues is fine for a restaurant or office, but potentially disastrous for a retail outlet. Your most valuable asset is your inventory and although insurance will help make up for losses, it is a major distraction from your business. Do a little research and see how many police reports have been filed within a mile of your potential location.

5.    Parking: How far away is the nearest parking lot? Do your customers need parking or will most of them be walking to your location?  The ability to have your customers park close by and affordably is extremely important.

6.    Signage: How big of a sign do you need to attract attention? What are the regulations of the landlord or the city as it relates to signage? Make sure to check out the neighbors and ask them how they got through the system if the regulations limit what you are hoping to do.

7.    Foot traffic: How busy is the street during the daytime? How busy is the street during evening hours? What types of people seem to be walking around? Is their a bus stop or school nearby. Take note of who walks by and what percentage of people seem to be window shopping because the more people looking the higher likelihood you’ll find a new customer.

8.    Brokers: Most shopping centers will have a broker to negotiate the deal…you should too.  They are experts in finding you the proper space, picking out the details and getting you the lease you need.

What works best for you may not be ideal for others

Potential hidden cost:  NNN Pass thrus.  We have discussed these before.  Shopping centers are not trying to hide these numbers from potential tenants but they are calculated differently than rent.  They are CAM (common area maintenance), taxes and insurance; also know as pass-throughs or NNN charges.  They are different at every center.  Some NNN charges are as low as $2.50psf in older centers or neighborhoods.  NNN charges in lifestyle centers such as Turkey Creek can be between $5 and $8 per square foot!  In many cases these charges are passed through directly from the property owner to the tenant without mark up.  But they can still add a considerable amount to your monthly rent check so pay attention to these.

Basically, if the time isn’t right don’t force the issue.  Find a good broker who is experienced in the field to guide you along and make the decsion when all the pieces fit properly. 

Commercial & Investment Properties manages and leases more than 350,000sft of retail space in the Knoxville market.  If we can be of assistance please let me know so you business has the proper headstart. 

www.ciprop.com   //  865-584-3967   //  jcazana@ciprop.com

Justin Cazana, CCIM