Commercial Lease Review Hints and Tips for Business Owners and Managers
- Make sure the Lease describes the premises you have inspected.
This may sound basic, but it is the basics which count the most when you are leasing your business premises. Your business premises, particularly if you are selling or manufacturing from the premises, are extremely important.
Make sure the lease properly describes the premises you have inspected – including any parking that is included. Try to ensure a plan of the premises, including any outside areas and parking which is included as part of the premises.
- Does the Landlord Own the Property they Are Leasing?
Another basic, but do your due diligence. You should make sure that the Landlord mentioned on your lease is the actual current owner of the property, the entire property, which you are leasing.
At the same time you can check that the property you are leasing is not currently leased to someone else. You never know – possibly there was a dispute between the previous Tenant and the Landlord, you do not want to get mixed up into disputes which could impact on your ability to run your business from the property. Your lawyer can help you with these searches.
Is the lease term appropriate for the capital investment you are making in the fit out? Remember certain bits of fit out simply cannot be taken and moved to another premises.
How long should you look for when negotiating a lease? How long do you want to stay in that location? It depends on how certain you are that your business will be successful. If your business is successful then you don’t want to be able to be forced out by the landlord.
If you are pretty certain that you will be successful then rather than going for a long term lease, I suggest you look at securing consecutive options in your favour. That way you can either exercise an option or not, it also gives you the ability to sell your business and give the new buyer the comfort that they can stay in that location and utilise the goodwill of your business that they have just paid you for.
The rent is only part of the money that you will generally have to pay the landlord – see outgoings hint below. Generally rent should be payable monthly in arrears, don’t allow the landlord access to your bank account to withdraw the rent, you never know when you might need to manage these payments as part of your cash flow management processes.
Make sure the rent is as per your business plan. At the end of the day you are in business to make a profit. A good way to share the pain with landlord is to agree a turnover rent, that is the landlord gets paid a percentage of your audited revenues each month (audited at the end of the financial year by your accountant).
However, not a lot of landlords will just agree to a turnover rent. So, try agreeing a turnover rent with a minimum rental payment of $X per month being payable by you, this will give the landlord some certainty of a financial return.
- Rent Reviews
Make sure that your rent reviews are not structured in such a way that the increases in rent are going to result in your costs increasing greater than your revenues. The typical types of rent reviews are inflation index increases, market reviews and fixed percentage increases.
If you are confident that your revenues are going to increase more than the inflation rate that inflation index increases are probably okay for you, if you are in a country where inflation is out of control then they obviously aren’t for you.
Market Reviews are probably okay on exercise of an option, provided you know what the rent will be before your option window expires. Make sure your lease document doesn’t make you exercise your option before you know what your rent will be. You then have the ability to negotiate the landlord down – everything is always negotiable.
Fixed rental increases give you certainty. If that is what you need then go for it – but make your business growth and profitability can fund such increases, particularly if you have a long term lease – 5 years of 3 or 4% increases adds up – will you get that growth from your business top line?
- Commencement Date
Check the commencement date of your lease. If you have negotiated a rent free period, perhaps 3 months, then the lease should clearly state that rent doesn’t start until the end of the rent free period.
Make sure the lease commencement date doesn’t occur until you have possession of the premises. You don’t want to lose the benefit of any rent free period nor do you want to potentially be exposed to
- Rent Free Period
A lot of landlords will give you a rent free period. Take what you can get, but you should make sure that you have sufficient start-up capital to get through your first 6 months of trading while your business takes off – hopefully.
- No Ratchet Clause on Rent Reviews
A trick that landlords use is to ensure that the rent can never go down when it is being reviewed – this is commonly known as a ratchet clause.
When your rent is reviewed to market, or is subject to an inflation index change, you should remove any clause which stops or implies that the rent cannot go down.
It is crucial that for both, particularly the market review, that your rent can drop, otherwise you may end up paying more than market rates – which defeats the purpose of a market rent review.
If you are leasing, then you want options. An option in your favour gives you the right but not the obligation to extend your lease of the premises. If you business is successful in the location you chose then you want to right to stay there longer or you might want to sell your business and assign the lease to the new owner.
If you don’t have options on your lease and the right to assign it, the landlord should not be able to unreasonably withhold its consent, then you won’t have anything to sell. All that effort you have put in to growing your business would be for nothing.
- Permitted Use
The permitted use should be broad – it then makes it easier for you to assign or sub-lease the lease should you no longer wish to operate business from those premises.
For example, try to avoid a specific permitted us, such as “Subway Store” instead aim for something broader like “Retail Store” or even better, “Any legally permitted use”.
- Check Development Approval Requirements
Don’t take this lightly – if you cannot use your premises for the business you want to operate then you have really stuffed up. If you are being pressured to finalise the lease – then a condition precedent that says the lease is subject to you obtaining a development consent for the business you want to conduct at the premises.
The landlord will generally not guarantee this, even is the permitted use implies or explicitly states that the premises are to be used for a purpose – if that purpose cannot be approved by local government then you have to wear the consequences – which can be years of rent!
- Make Sure You Get the Fully Signed Lease
Your lease should clearly be in writing, don’t do any verbal arrangements your lease is too important for that.
Make sure it is fully signed by the landlord and you as well before you commit expenditure on the premises or your new business venture.