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What Your Landlord Knows That You Don’t

When it comes to lease negotiations, business owners should evaluate their leverage as tenants before deciding whether to renew.

A real estate lease is often one of the largest recurring, fixed expenses for any business. Adding insult to injury, most leases provide for the rent to increase every year so that, even if the starting rent was reasonable, it often ends up being above market by the end of the lease term. The situation is worse for tenants who have remained in the same building and simply renewed their lease each time. Invariably, tenants in lease renewals pay higher rental rates and receive fewer economic concessions than tenants negotiating a new lease for vacant space. Does this mean that a landlord will give better terms to a new, untested company than to a loyal, repeat customer? Typically, yes, unless you know how to navigate through those waters. For most companies, the opportunity to renew a lease and potentially improve the deal comes around once every three to five years.

No one likes to relocate their business when their lease expires, unless it is absolutely necessary. Moving causes downtime, frustration, loss of income and time away from the core business. Most business owners feel this way, and landlords know it.

Lease-renewal negotiations are ostensibly about determining a fair price for space, or the “market rate.” In reality, there is no such thing as “market,” and real estate pricing is subject to dramatic swings depending on perceived leverage. Who has more leverage, the tenant or the landlord?

Let’s take a look at a few points that influence how landlords evaluate their leverage when renewing a tenant’s lease.

Statistics

Approximately 70% of all tenants renew or extend their lease on expiration, sometimes even sooner. Chances are that the existing tenant will renew.

Timeline Crunch

Tenants who start negotiating too late often have no choice but to renew the lease. Waiting too long to evaluate relocation alternatives always places the tenant at an extreme disadvantage. If relocation is the preferred alternative, a typical 10,000 square foot tenant needs to start planning 12 to 15 months before the scheduled lease expiration. Companies need to allow sufficient time to compute internal space projections, evaluate market options, visit desired properties, negotiate proposals and lease documents, obtain city permits and construct tenant improvements. A tenant can do all of this in less time, but it creates stress and limits options. Ultimately, when you are out of time, you are out of luck.

Telegraphing the Punch

Business owners understand the concept of leverage, and yet, ironically, most companies initiate lease renewal negotiations by informing their landlord that they want to renew! They have basically just told the landlord that there will be no competition from other buildings. When relocation is the preferred alternative, the tenant brings competition into play from various buildings and locations to find the best deal. Why not on renewals? What would you do if you wanted to relocate? Hire a real estate professional. The message is clear. Every time your lease comes up for renewal you should treat it as an opportunity to consider your relocation alternatives in earnest.

Unrepresented

Some tenants engage a real estate firm when they plan to relocate their business, but not when renewing their office lease. This saves money for the landlord in two ways: 1) They won’t have to pay a real estate commission, and 2) they won’t have to compete with other vacancies in the market. If they tell you they are willing to share the commission savings with you, beware. The commission savings are a small percentage of the higher rent that they are hoping to extract by negotiating with you in isolation. In reality, most landlords will pay themselves if there is no outside representative. Someone always gets paid.

Knowledge

Landlords lease space day in and day out. They are well-advised, it is their primary business, and it is how they make money. Conversely, most tenants are not in the real estate business and carry out this process once every three, five or ten years. It is not their core business, and it’s not how they make money. Consider it a pro-am match up if you plan on handling this yourself.

Bluffing

Is the tenant in the market considering and negotiating on relocation alternatives, or is all this talk just a smoke screen? Never bluff. The stakes are too high.

Maximizing a tenant’s leverage in lease negotiations is part art and part science. Understanding the points I discussed in this post is a good start. But many other factors about the tenant’s existing office space and building should also be understood and evaluated, such as current building cash flow and future rental projections, tenant improvement costs to rebuild the space for a new tenant, downtime for vacancy and risk with a replacement tenant. Trust your real estate partner to help you understand all the pieces of the puzzle and make the most of every lease renewal so you can focus your energy on your core business where it belongs.

Scot Ginsburg is a senior vice president of Hughes Marino, an award-winning commercial real estate company specializing in tenant representation and building purchases with offices across the nation. Contact Scot at 1-844-662-6635 or scot.ginsburg@hughesmarino.com to learn more.



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