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Navigating Through the Market Fallout of COVID-19

We have made some interesting observations during the last several market downturns. In
our current state of uncertainty, these observations may be helpful for commercial tenants
to navigate through the unexpected changes we are all experiencing.

1) Some businesses find that whatever real estate they had before a crisis will not be the real estate they need after it.

2) Rates drop partly due to the long-term nature of leases (5 years +/-) so rate adjustments often lag the “real” economy by 12-18 months.

3) “Blend and extend” arrangements that reduce space or monthly rental, but increase the overall obligation with a longer term may be beneficial to both landlords and tenants.

4) If you need to sublet excess space, don’t wait until the market is flooded with competition. Do it early, price it right, and get it off the books.

5) If a firm needs to raise capital for operations, a “sale-leaseback” may be a great option if its real estate is owned.

6) Construction will be impacted by both labor and supply issues. Planned projects may need to hold over or do short term extensions to manage through expected delays.

The current situation brings up several specific points to consider:

1) Outside the pending stimulus proposals and SBA loan programs, some governments may stop commercial evictions.

2) Force Majeure (“Act of God”) clauses may provide grounds for some tenants to temporarily suspend rent obligations but many Force Majeure clauses are too generalized to cover this kind of unprecedented event. Typically, rent will only abate if there is a fire or other casualty like a storm that results in the physical space no longer being usable for a period of time.

3) Business Interruption Insurance, which is called for in many commercial leases, may cover losses and pay for rent. Some even have a Civil Authority clause that could apply to government-imposed closures like those we have seen recently. The only certain remedy is to have “rent interruption insurance”.

4) There has been some talk in the commercial real estate world for an agreed-upon moratorium. This could mean a 30-60-day freeze on rent and mortgage payments.

Luckily, if you are in a difficult situation and need to free up cash, there may be some hope to get rent relief. Likewise, if you are in a good situation, a few months from now could be an ideal time to renegotiate. let’s allow landlords to focus on those tenants who need immediate help first. Keep in mind that the fallout from this and the oil markets could result in a tenant’s market later this year.

Each case will be addressed on an individual basis because every tenant, landlord, and lender situation is different. Here are the primary potential solutions:

1) Renegotiate and extend the lease term in exchange for a lower rental rate, reduced square footage, or both.

2) Abate or reduce your monthly rental without an extension, but pay it back at a later date.

3) Sublease or assign a portion of your space to a new company, almost certainly at a loss.

4) Negotiate a buy-out equal to a percentage of the remaining rental obligation.

5) Default on your lease.

 

Best wishes for you, your families, and your business teams during this interesting time.

 

Looking to move or expand your space? Contact Ryan Hartsell with questions or assistance to purchase
or lease commercial real estate in and around the Houston, Texas area.

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CGL Insurance – Our Top Advice To Save Your Business Money

Our Top Advice on CGL Insurance Policies That Can Save Your Business Money

Practically all commercial leases contain a list of insurance policies the tenant must carry. The most common type of insurance in the commercial lease is Commercial General Liability insurance, also known as CGL insurance. A CGL insurance policy will ensure the business is protected if you’re found legally liable for injury or property damage, accidents on your premises, your operation or at your client’s location. Let’s explore our top advice for managing your CGL insurance policy.

1. Make Sure Your Insurance Meets the Requirements of Your Lease

It may be an obvious point, but your CGL insurance and other insurance policies must meet the minimum coverage amounts set forth in your lease. Your landlord will review these policies from time to time, but it is the tenant’s responsibility to ensure compliance. An experienced commercial insurance agent will be very useful for review of your policies. This review is especially important when signing a new lease but also when a tenant renews their existing lease. Remember that signing a lease amendment allows the tenant an opportunity to re-negotiate certain deal points of their lease. If you determine the coverages required by your lease are not appropriate for your use of the space – fight it during your next renewal.

2. Pay Attention to the Details

Insurance policies can be difficult to understand and there are plenty of details that can be overlooked. This can be true for your CGL insurance as well as the other policies you may be carrying. Below are a few examples of what to watch for:

a) If your agreement includes wording such as “Pay on behalf of”, for example, you may be agreeing to insurance claims being paid directly to your landlord. This saves your landlord out of pocket expenses but means the tenant will carry the cost burden. As mentioned in our article on auditing building operating expenses, a landlord will often slip expenses into the lease agreement to avoid having to pay higher outputs themselves. 

b) Your landlord may also include verbiage like “additional insured” in your lease. The additional insured might include the landlord, his employees, managers, affiliates, and anyone else he chooses to name. His eccentric Aunt Ethel probably doesn’t need to be included here. That may seem funny, but you may be surprised at the “others” who end up in these agreements! Pay attention and don’t assume anything.

c) You may receive a rude awakening if you find your company in the precarious position of having to file a claim and the reality that your CGL insurance includes a “waiver of subrogation” in favor of the landlord. In this case your landlord’s losses are the priority and your company will only receive a payout to cover its losses if there is enough left over after payout to the landlord.

3. Beware Umbrella Policies and Excessive Coverage Limits

Each tenant’s insurance needs will be different so there is not going to be a one-size solution for all businesses. However, we have found that for most office tenants a CGL insurance policy with coverage of $1 million per occurrence and $2 million aggregate is a sufficient safety net. We advise tenants to beware umbrella policies required by their landlords. These policies can be quite expensive and are often unnecessary for a general office use. For industrial users and for larger companies with multiple locations an umbrella policy may be advisable.

Occasionally it will make sense for a tenant to carry CGL insurance in amounts exceeding $3 million aggregate, but this will be a case by case determination. The key is not to blindly accept the coverages requested by the landlord in your commercial lease. It is key to understand the insurance requirements outlined in your lease and negotiate changes to those coverages when needed. A mutually beneficial agreement about the coverages your company will carry could save you thousands of dollars every year.

4. Keep Insurance Policies Active At All Times

Keep in mind that commercial tenants must maintain their CGL insurance and other insurance policies throughout their lease term. The landlord will require proof of insurance from the tenant prior to move in. If a tenant cannot demonstrate they have the appropriate CGL insurance policies in place they could be in default under the lease. No tenant wants to default on their lease obligations so this is crucial to remember. We recommend setting an annual reminder to review insurance policies with your agent. This will allow an opportunity to review the premium expenses, confirm your policies meet the requirements of your lease, and shop for alternative policies.

Don’t Overlook the Tenant Insurance Requirements of Your Lease

We advice our clients not to overlook the tenant insurance requirements of their commercial lease. It is important to consult with your commercial insurance agent, especially when negotiating a new lease agreement or lease renewal. You don’t want to pay for CGL insurance coverage you don’t need, but when you need the coverage you want to be paid out first. Ideally potential claims will be filtered through your company to cover your losses and costs incurred as the priority. We encourage you to reach out to our team today if you have questions about your insurance requirements or any other provisions of your commercial lease.

We work every day to solve the toughest challenges in commercial real estate. Learn more about our recently negotiated deals.

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The Benefits and Drawbacks of Subleasing

The unique circumstances of the parties and space on offer combined with a landlord’s position within a market can make for an amazing deal when subleasing.

But subleasing can also be a risky move. Let’s look at the benefits and drawbacks.

The Benefits

Price

In a soft market sublease space almost always trades below market rates.

Flexibility

Subleases are often available for shorter-than-typical terms and may allow for finishes that would otherwise be out of price range.

Furnishings and equipment

Sometimes, the sublandlord will leave furniture or communications equipment. This could add up to significant upfront savings for a company whose requirements are suited to what is left behind.

Location

Access to a building can sometimes be found with a sublease situation that might not otherwise have an ideal space or be within cost parameters.

Leverage

Negotiating leverage with a sublandlord exists by default. The company offering the sublease is doing so for a reason. And that’s not usually because they are in a positive situation. Often, any relief is welcomed and this puts the subtenant in the driver’s seat.

 

The Drawbacks

T.I. Money and Modifications

The sublandlord is likely hurting for money already. They are not likely to provide a generous allowance, if any. Time is probably of the essence so they won’t want to wait around while the subtenant completes a build-out. The master landlord has no obligation to the new tenant, either, so likely won’t front any cash now in anticipation of a return years in the future.

Terms

You probably need to live with the terms that the sub-landlord negotiated with the master landlord. Options to renew or expand are not usually transferable. If the term is short, the master landlord has little incentive to extend a sub tenant’s lease now at today’s rates. This is especially true if they anticipate that the market may be better (for them) at lease expiration.

Amateur Landlord

With rare exception, a sublandlord will probably experience a learning curve. This can mean additional time to resolve potential issues and come to an agreement with otherwise simple negotiations.

Trust

In a sublease situation, there is always a risk that the sublandlord could default or declare bankruptcy. A subtenant may also be subject to significant pass-through charges starting the day possession is taken. It is pertinent that the small print is clearly defined and appropriate addendums included to protect the new tenant.

Companies tend to “upgrade” when subleasing. They’ll often take a class of space or finishes that would rent for rates above what they would otherwise be willing or able to pay. Unfortunately, when the sublease expires, they’ll have to either pay the higher market rates or incur the cost of moving. Doing due diligence prior to accepting a sublease agreement could add up to saving a lot of time, money, and frustration in the long run.

Looking to move or expand your space? Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Good Real Estate Business In A Bad Economy

The economy ebbs and flows.

The real estate market is particularly vulnerable to its changes. But there are a couple of things about a ‘bad” economy that we can be thankful for as real estate professionals.

Income and Appreciation

Property investors know that the value of their property is created as much by the income stream provided by their tenant as it is the value of the bricks and mortar and the land it sits on. This makes a leased building very attractive to a potential buyer looking to score a deal in a struggling market and hold onto it for the long term.

Availability and Lower Rental Rates

In a “bad” economy, there are generally more options available for tenants who are in the market to expand. As tenant representatives, this puts our clients in a powerful negotiating position. Most landlords will take a lower rental rate over long-standing vacant space any day of the week. During a downturn in the economy, a tenant may be
able to secure space at a reduced rate because the property owner has no competing offers and doesn’t foresee any in the near future.

So how do we make the most of a “bad” economy?

Realize there is no such thing. The economy and real estate markets change and develop in cycles. So, it stands to reason that we as real estate professionals must do the same. Attempting to operate in a hot market the same way you do when the market is cold just sets you up for struggle and frustration. Go with the flow. Learn how to identify and predict market changes and adjust your strategy accordingly.

 

Looking to move or expand your space? Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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The Build-Out Process : One Simple Way to Save Time and Money

For years, the process of planning a commercial build-out has been a slow moving and somewhat tedious game of guessing and waiting.

It consists of handing off an idea to one professional who might make a few changes before sending it off to the next one. This typically results in a great deal of time spent and gaps in communication that could have prevented unnecessary work, frustration, and expense.

When your company is preparing for a move or expansion, make the build-out process as efficient as possible by doing one very simple thing.

Get all of your professionals into a room at the same time. With modern technology, this could mean a video conference if an in-person meeting is too difficult to schedule. Have an open discussion with your company VP’s, your real estate professional, architect, contractor, and any other relevant people who may be involved.

Come to an agreement at the start about timing, expectations, and money.

This puts everyone on the same page and gets the ball rolling in the right direction. Rather than only focusing only on their own small piece of the puzzle, the bigger picture is known to all. Honest feedback and discussion can take place to establish workable parameters and, ideally, everyone’s part becomes a little easier.

An added bonus.

Collaboration is a great networking opportunity. It is to your advantage and theirs that they each come to this meeting with their best feet forward. Rather than hiding behind a desk and noting a name on the paperwork, they get to shake hands, talk, expand their knowledge and co-create a great working environment. Win-win.

Looking to move or expand your space? Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Explaining Tenant Improvement Work Letters

What Is a Tenant Improvement Work Letter?

The tenant improvement work letter is essentially a contract to complete construction work in a commercial space. It is generally an addendum to the lease agreement involving third parties, architects, and commercial general contractors. Unless a tenant occupies a space “as-is”, there will be a work letter defining the condition of a space when the tenant moves in. The work letter also explains how that condition will be achieved. A work letter specifies the design of a space and materials to be used. It clearly outlines who is responsible for carrying out the work as well as who will pay for it. It should specify who controls the design and construction. This can include an architect’s fees, insurance, permits, and other incidentals.

Building Standards Should Be Clearly Defined  in the Work Letter

All building standard finishes and items should be clearly defined in the work letter. This ensures a buildout is sufficient to meet code requirements. All work must be completed in accordance with construction drawings, and the work must comply with all laws and ordinances. It is also wise to include a caveat that covers liability if a latent defect is discovered during the buildout process.

Tenant Improvement Allowances Are Negotiable

Generally speaking, a tenant improvement allowance for construction is based on the square footage of rentable space. Note that commercial contractors should be calculating material needs based on the usable square footage of the space – not the rentable size. Limits need to be clear and include a buffer for the punch list. A punch list is a list of items that a contractor will include in a project. The items listed may not necessarily be part of the outlined work but are necessary in order for him or her to complete it. This list can be loosely estimated early on but by its very nature won’t be well defined until near the end of the project. All things considered, it is important to be clear about the what’s, who’s, when’s, and how’s in a work letter. This helps everyone to plan and it protects all parties against potential misunderstandings and unexpected costs.

Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Two Ways To Save On “Pass Through” Operating Expenses

A property owner decides what expenses get passed through to his or her tenants. Understandably, they want to get as high a return as possible on their investment. The following two methods can protect you from inappropriate pass-through expenses and save you big on your lease costs.

Ownership Expense Exclusions:

Most commercial leases say something to the effect that the landlord may pass through all expenses (or the expenses over a base year) related to the ownership, maintenance, and operation of the project. The costs of maintenance and operation may make sense to pass through to a tenant. Ownership costs are another story, however. These could include costs of refinancing, marketing the property for sale or lease, legal costs related to the ownership structure, accounting fees for ownership tax returns, income tax, and even executive salaries. Tenants should usually try to exclude ownership costs. It is wise to have a prepared list of specific items that are not allowable pass-through costs. Of course, read the details in your landlord’s lease documents. You might be surprised to find that he or she expects you to cover certain items. If it doesn’t make sense, don’t agree with it.

Annual Operating and Maintenance Expense Reconciliation Audits:

If you have excluded ownership costs to modify your lease, check that provisional changes have been notated. Be sure that negotiated caps or limits have been honored and ownership costs haven’t (mistakenly) been added. Do your due diligence! Know whether other items being charged are in line with the current market. Hire someone to do it for you if you don’t have the time or resources to audit the reconciliations yourself. Also, do it in the first year of your lease. This will establish with the landlord that you are paying attention. It demonstrates that you will not tolerate inappropriate charges. Besides, leases will commonly prevent you from challenging expenses or auditing prior years after a certain period. Insert language into the original lease that prohibits pass-through of ownership costs. And audit the operating and maintenance expense reconciliation to enforce your rights.

For additional information about lease language and audits, please refer to our blog post titled “6 Reasons to Audit Your Building’s Operating Expenses”.

 

Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Four Strategies Landlords Use to Maximize Lease Renewal Profit – And How to Respond

Effectively planning and timing your company’s real estate transactions can mean the difference between whether your money stays in your pocket or ends up in your landlord’s pocket.

Leverage in the negotiation of rent is directly proportionate to market competition. A landlord will charge you the highest price they think they can charge in the current market. Lease renewals are desirable and profitable transactions for a landlord. Costs related to vacancy, major construction, and marketing are eliminated when a tenant renews.

A landlord can employ many strategies to maximize their renewal profit. Here are four examples and suggested responses:

1. Landlords may approach tenants early to negotiate a renewal before the tenant has thought about options or professional representation. If this happens, tell your landlord that you’re
considering a move. Of course, moving is disruptive, so if he makes it worth your while, you’ll consider staying.

2. When a tenant needs expansion space, the landlord may offer space contingent upon a new long term extension. Even if you have an expansion option, it pays to consider other options as well. Treat any expansion as a new lease. Evaluate the market and compare. Approach your current landlord with the same scrutiny as every other possible option he is competing against.

3. The common “Option to Renew” in a lease can provide a false sense of security.
Exercising this option without the benefit of comparative market analysis could end up costing your business. If your option provides a “Market Rate” do some research and know what the current market rate is. Don’t worry about losing your option. If the only one you have is not beneficial, you won’t lose anything but your money if you choose it. Remember, if you stay, you save your landlord the trouble and cost of vacancy and improvements.

4. If a landlord perceives that you plan to get a renewal number from him first then shop around if needed, he may stall to create urgency and leave you without adequate time to do any comparison shopping. Meet with, and get proposals from, other landlords early on. You can tell your landlord that you’re doing this and also request a proposal from him. Let him know that you’ll consider his proposal, along with other options, and make a decision.

Research and negotiation take time. Plan accordingly and start this process at least a year prior to the end of your lease. If your company footprint is large or if the market is tight, two years is not too early to begin the process. Work with an experienced and competent tenant rep. Hiring the right person to help you through the process will save you valuable time and money and probably alleviate some of the stress.

For more information on lease renewals, you can also refer to our previous blog post titled “Renegotiate Your Lease Terms – Create A Win-Win With Your Landlord”.

Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Three Ways to Improve the Efficiency of Your Company’s Real Estate

Today’s digital world demands that most companies focus their real estate on maximizing utilization and efficiency while trimming costs.

Here are three areas to consider to make the most of your space:

1) Utilize second-generation space

This alone could save your company and/or your landlord a significant amount in build-out costs and time. It is also an opportunity to negotiate a reduction in the lease rate if the landlord expects to shoulder the cost of a build-out for a new tenant.

2) Share space and/or create co-working areas for employees

Sharing space with another division, branch, or a different company altogether can be a highly effective way of reducing cost while maintaining a standard that is in alignment with your brand. Co-working areas within your space eliminate the need for additional equipment and square footage. With so many businesses now encouraging remote working and collaborative environments within the office, this makes perfect sense and creates a win-win for everyone.

3) Shorten the timeline for your company real estate processes and establish standard communications protocols for all departments.

This is especially important in your operations and finance divisions where the greatest communication challenges tend to happen. Market trends require that companies act quickly and shorten the due diligence process to see a deal through.

 

Contact Ryan Hartsell with questions or assistance to purchase or lease commercial real estate in and around the Houston, Texas area.

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Defining Reasonable Wear and Tear

What is the “reasonable wear and tear” condition of a premises?

It is important to understand your landlord’s definition of this term when signing a new lease or renewal. This can prevent unexpected costs and stress when it’s time to move. A landlord wants to preserve as much cash as possible when a tenant vacates. Finding a replacement tenant and preparing the space can be a significant cost. If a landlord can pass those costs on, he or she probably will. That can mean that “reasonable wear and tear condition” includes at least a portion of the landlord’s costs to prep for an incoming tenant.

“Reasonable wear and tear” is a matter of opinion.

A tenant can save money, frustration, and potential legal issues when they leave by outlining and agreeing what the specific expectations are in the lease. In some cases, a tenant will receive a landlord improvement allowance upon taking occupancy. That doesn’t mean they are obligated to reimburse those costs when they move or cover those same costs for the next tenant. This is especially true if a tenant has occupied a space for a significant period of time.

 

Companies can be so focused on what is entailed to move into a new space that considerations about vacating it are overlooked.

A landlord should certainly have recourse when it comes to property damage. It is essential to Agree on what is considered damage and what is normal wear and tear. It is to everyone’s benefit to ensure there is a fair balance and that all parties agree about the defined terms.

 

Any questions? Contact Ryan at [email protected] or (713) 840-8528.

Ryan J. Hartsell, SIOR, MRE, Principal, and Managing Partner of Oxford Partners LLC, is the architect of a highly successful career in the commercial real estate industry. He is recognized by his clients for his attentiveness, market knowledge, and negotiation prowess. He holds a master’s degree in commercial real estate and a bachelor’s degree in finance. As a third generation Houstonian and Principal of Oxford Partners, he has a unique appreciation for the business owners’ challenges by way of his own personal experience, which translates into better representation and empathy for his clients. Contact Ryan to discuss your commercial real estate needs.