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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.

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6 Reasons to Audit Your Building’s Operating Expenses

Prevent Overpayment of Your Company’s Leasehold Expenses

Real estate and leasehold expenses are among the most impactful upon your company’s bottom line. It is an essential element of any company’s fiscal management to ensure that it does not overpay. Auditing your landlord issued expenses is your right. Lease auditing has become a common and expected practice. Here are 6 indicators that suggest your business may benefit from conducting a lease audit.

1. Increases to the Building’s Operating Expenses 

Perform a basic trend analysis of annual operating expense obligation if you notice a significant increase. Inflation and changing market conditions can contribute to increased operating expenses but if there is a significant jump issued to you, ask questions. A large increase may be due to an impermissible capital project, expense categories not reflected in your base year, vendor changes, or above standard services.

2. New Property Owner

A change in property ownership might trigger a lease audit.
Management fee levels, new vendors, and changing service levels are common issues when a building changes ownership or management. Another concern is the tenant estoppel which, if not carefully worded, has the potential to sign away rights or leverage.

3. Building Renovations or Upgrades

Renovations and capital projects may be subject to your lease operating expenses exclusions. Every project should be audited for permissibility under your lease. While you are most likely obligated to reimburse the landlord for a genuine building operating cost, you probably are not obligated to reimburse your landlord for increasing the value of his or her building if it does not reduce building operating costs in the future. If your building underwent renovations and/or capital improvements in the past, those costs were most likely amortized across future years. You may still be able to avoid ongoing expenses if they prove to be impermissible per your lease exclusions.

4. Your Lease is Commencing or Expiring

Perhaps the most valuable times to perform a lease audit are at the commencement and expiration of
your lease. If you occupy under a base year lease, the valuation of your base year will have a material impact
on your leasehold expenses throughout the remainder of the term. It is in your interest to validate all
charges and to validate expense levels in year one so as to not undervalue your base year. Likewise, lease
audits should always be performed as a standard practice at any lease expiration. Not only might you lose
rights to recoup any overcharges after vacating the premises, but you may lose significant leverages after
relocating.

5. Dramatic Change in Building Occupancy Levels

Accounting for accurate building occupancy levels can have enormous implications for your operating
expense obligation. This can be magnified with regard to fixed versus variable expenses. If the vacancy
rate in your building is sizable, it benefits the fiscally conscious tenant to ensure that occupancy shifts are
accurately reflected within a given expense period.

6. Limited Support for Operating Expense Increase

A lease audit should automatically be triggered whenever an annual reconciliation is provided without sufficient back-up to verify expenses and calculations. Year-end reconciliations can carry significant financial impact. This is particularly true if your lease terms include caps or index-driven escalators. Any failure to timely challenge a landlord’s computations and/or inclusions may forfeit your rights thereafter. Accepting a rudimentary reconciliation is to trust your company’s finances to an outside party with a vested interest in maximizing its profits.

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

Ryan J. Hartsell , SIOR, MRE, Principal, and Managing Partner of Oxford Partners LLC, focuses on reducing the cost and risk associated with leasing and purchasing office and industrial property. 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.  

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Purchasing with an SBA Loan: How to Lower Your Rent and Create an Investment

Dramatically cut your company or professional firm’s “effective” lease rates. An SBA 504 loan could be the answer to saving a significant amount of money compared to the high costs of leasing.

If a creditworthy tenant can find a viable building or commercial condo space to purchase, then buying with an SBA 504 loan could mean reduced costs and increased income potential.

A couple of important points to note:

  • The upper limit for most buyers on an SBA 504 loan is $5,000,000, except for manufacturing companies, for which it is $5,500,000.
  • The new Financial Accounting Standards Board (“FASB”) rules for lease accounting will force tenants that use Generally Accepted Accounting Principles (“GAAP”) to show the entire value of their multi-year leases, plus all renewal option periods, on their balance sheets. This means it may make sense for smaller to mid-sized, privately held companies and professional firms to seriously consider buying or constructing their own buildings.

If your firm has fairly stable space needs, owning your own building and paying rent to yourself can make a lot more sense than continuing to lease.

Not to mention that owners can also take advantage of tax depreciation and, hopefully, gain appreciation of the property value on their investments.

Case Study for Buying with SBA 504 Loan

A client received a national landlord’s offer to renew its lease for five (5) years at $11.04/SF triple net (“NNN”) per year. While the representing brokerage initially objected to the landlord’s proposal, their research and multiple forays into the market ended up validating it as a fair market lease renewal deal in their area.

They didn’t accept the landlord’s proposal or tight market options without a fight. They persevered, broadened search parameters, toured more buildings for lease, and eventually found an excellent opportunity for the client to purchase. The client’s commercial banker supported the decision by offering an SBA 504 loan.

Buying effectively lowered the client’s annual rental rate by 37.4% to $6.91/SF NNN, versus renewing for five (5) years at $11.04/SF NNN.

CAVEAT: 

The Client was very wise and avoided the #1 mistake that most commercial occupiers make: starting their evaluation and search process too late. In this case, this client started the lease renewal process eleven (11) months before its lease expired, not thinking at all that it would end up buying a building. Starting early enough enabled time to explore all of the lease options available and evaluate the “what if” scenarios of buying.

 

Here are some important details to know about many lenders’ SBA 504 loan programs:

  • Down Payment: 10% down payment. Tenant improvement (“TI”) costs and upfront expenses incurred by the Buyer, up to 10% of the Purchase Price, can count towards the down payment.
  • Interest Rate: Low, fixed interest rate (blended rates from the lender and SBA).
  • Loan Term: Five (5), seven (7) and ten (10) year loan terms are available, fifteen (15) years in some instances.
  • Amortization Period: Most SBA lenders allow a 25-year amortization period for the buyer’s monthly payments of principal and interest. (These monthly payments, in effect, are the NNN rent.)
  • Origination Fees: Some SBA lenders do not charge origination fees. Some banks will pay a 0.5% “Participation Fee” when an SBA 504 loan closes.
  • Personal Guarantee: No personal guarantees are required. This is a huge benefit to a well-qualified buyer with good credit.
  • Occupancy Requirement: Buyer must occupy at least 51% of the floor area of the subject building or condo space, as per SBA 504 loan program requirements.

 

SUMMARY & CONCLUSION

If your privately held company or professional firm has good credit and is experiencing sticker shock over today’s rental rates, then buying a building or condo space with an SBA 504 loan might be the perfect way to beat your landlords’ high rates.
Other major benefits of buying space include depreciation for tax purposes and, potentially, appreciation in the value of the property. Even if your company or professional firm comes to an end in the future, there may be the opportunity to lease the building or condo space to someone else and turn the investment into a valuable vehicle for retirement. An SBA 504 loan can make buying an ideal alternative to paying high lease (renewal) rates.

 

 

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

Ryan J. Hartsell , SIOR, MRE, Principal, and Managing Partner of Oxford Partners LLC, focuses on reducing the cost and risk associated with leasing and purchasing office and industrial property. 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.  

 

Note: Portions reprinted with permission of William Gary, MBA, MIM,  based on Canonical Reference to MacLaurin Williams Worldwide’s blog article How to win with SBA Loan and rent from yourself, posted at http://www.maclw.com/blog?post=How-to-win-with-SBA-Loan-and-rent-from-yourself&xid=040700-01

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Why Most Tenants Overpay

Landlords know that the overwhelming majority of commercial tenants renew their leases.

There are common and understandable reasons for this. First, let’s face it, it’s a hassle to move. It disrupts business and it’s stressful for everyone involved, including employees. Besides that, evaluating options requires an investment of both time and money. And then there’s the additional expense of making a move. Without actually quantifying and verifying these potential woes, and choosing instead to remain in a current lease situation based on an assumption that they exist, a tenant is said to be suffering from “Captive Tenant Syndrome”. This is the mistaken belief that they are, in a way, stuck in the space they currently occupy. What if those issues could be minimized or mitigated entirely? Consider the possibility that improved efficiency of the new office may offset the required effort to move. What if the excitement of a new workplace improved morale and increased employee productivity? Perhaps the potential new landlord may be willing to incentivize the agreement. This might mean absorbing the cost of the move or paying to outsource coordination of logistics to make it happen.

When considering a move, it is important to understand the position of both the current landlord and a prospective landlord.

For instance, what would a move cost the existing landlord? And, how motivated is a potential landlord to gain a new tenant? Landlords know that a tenant will consider the negative impact a move may have on their business when facing a lease expiration. Many will count on it to achieve higher profits on renewal leases compared to attracting a new tenant and negotiating at a slightly higher rate. For an existing landlord, there can be significant losses when a tenant vacates. Depending on the type of space and its location, a landlord faces months or years in lost rent while carrying the property tax, insurance, and other expenses. Once a new tenant agrees to move in, there are usually additional costs to get the deal done like improvements, and discounted or deferred rent payment. Both the tenant and landlord have significant considerations when it comes time to negotiate a lease-end extension or renewal. This should be a collaborative effort that acknowledges any challenges and benefits for both parties.

So how does a tenant avoid leaving money on the table when a commercial lease expiration is approaching?

  • Be honest with the current landlord and any prospective landlord.
  • Conduct a serious evaluation of relocation options to get the best terms:
  • Search spaces
  • Tour
  • Meet with prospective landlords
  • Get construction estimates
  • Issue formal requests for proposals
  • Prepare a fully loaded financial analysis
  • Get feedback from employees and the people who will be affected by the decision.
  • Get to know the motivations of the landlords in question.
  • Learn the history of any new space being considered.

In other words, go in with eyes wide open and know where you stand. Putting in the effort to evaluate a situation is the only way to determine the true cost of relocation versus renewal. Weighing the pros and cons creates an opportunity to negotiate a lease that makes sense for both sides.

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

Ryan J. Hartsell , SIOR, MRE, Principal, and Managing Partner of Oxford Partners LLC, focuses on reducing the cost and risk associated with leasing and purchasing office and industrial property. 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.