Commercial leases set out all of the rules and requirements that will govern a business relationship for a long period of time. Real property location and costs are significant elements of any successful business operation. In spite of their significance, many times commercial leases are negotiated and prepared in only a few days. This accelerated schedule opens the door for negotiation and drafting mistakes and omissions. This article will explain six common commercial lease drafting and negotiation pitfalls and will provide recommendations for avoiding them.
- Compare "Apples to Apples" when Measuring the Premises. Many tenants do not fully understand the differences between "rentable square feet" and "usable square feet." Particularly in office building leases, the actual space that a tenant can exclusively use may be significantly less than the square footage listed in the lease. The "usable square footage" of a premises making up only part of a floor of a building includes all of the floor space within the tenant’s suite, together with the space occupied by columns, recessed entries and any other architectural features within the suite. For full-floor tenants, the usable square footage also typically includes all space on that particular floor, except ingress/egress features such as stairs and elevators. In contrast, "rentable square feet" includes the usable square footage, together with a pro-rata share of all common areas within the building, such as elevators, stairs, lobbies, restrooms and corridors. When comparing different building options and negotiating leases, it is generally in the best interest of tenants to obtain a full understanding of the square footage calculations for the prospective premises. Tenants are wise to consider getting competing proposals from several landlords that not only describe the rent per rentable square foot but also state what the common area factor is for the building so a true cost of the space can be compared.
- Use Restrictions. Especially in retail and restaurant leases, use restrictions should be carefully negotiated and drafted. Typically referred to as the "permitted uses," landlords should explain in very specific detail exactly what the premises may be used for and care should also be taken to describe the prohibited uses. If the prohibited uses are intended to be a list of uses that are prohibited throughout a shopping center and attached as an exhibit to all leases, the landlord should carefully scrutinize the list to make certain that the prohibitions will not adversely impact the potential future development of the property, including any applicable outparcels. For instance, many types of office uses are commonly found in retail shopping centers, such as real estate brokerage offices and urgent care, medical or dental offices, not to mention pure office uses which may find a future home on an outparcel, so a retail landlord may eventually regret prohibiting "all office uses." Also, any proposed exclusive uses should be narrowly-tailored as much as possible so as to avoid unnecessary conflicts with potential future tenants. Choice of words in this context requires precision, experience and foresight. For example, in the past it was common for restaurants to seek an exclusive for a regional/cultural food type. However, in recent years many national restaurant chains have expanded their menus to include these varied food types as a part of their menu. It makes sense to try to limit the exclusive by using words to give quantitative dimension to what portion of sales others can devote to the food type, otherwise a potentially lucrative broad-based restaurant tenant may be eliminated from consideration. Landlords with retail properties should strongly consider maintaining a central listing of all exclusive rights that have been granted to existing tenants (as well as prohibitions) in order to avoid unwittingly negotiating a new lease which violates previously-granted use restrictions.
- Exhibits. In the rush to finalize and execute a lease, all exhibits should be attached and legible. A detailed depiction of the leased premises (including measurements) should be attached to the lease, particularly when the premises are of a type that can fairly easily be expanded or contracted, such as a suite within an office or retail building. In such cases, the depiction of the premises is the best way to clearly identify the exact space intended to be leased. The best practice is to have a professional architect or qualified general contractor prepare the depiction of the space to be used as the exhibit.
- Subordination. In order to avoid issues with respect to obtaining future financing of a property, landlords should include language in their leases regarding the lease being subordinate to all present or future senior and junior mortgages. Sophisticated tenants will usually ask for non-disturbance language to be included which will provide protections to the tenant in the event of a foreclosure. The best practice is to include a provision requiring tenants to promptly execute a Subordination, Non-Disturbance and Attornment Agreement (SNDA) upon Landlord’s request and to possibly include the form of the SNDA, which experience has shown will work for sophisticated tenants and lenders, as an exhibit to the lease.
- Watch "Standard Remedies". Most landlord lease forms have what a landlord will describe as "standard remedies" for a tenant default. However, remedies in many states that may be viewed as "standard" can be harsh on a tenant. Accelerated rent is a remedy that many landlords would like to have which requires a defaulting tenant to pay all future rent at the time of default. Consideration should be given by a tenant to make sure that the calculation for the future rent takes into consideration the time value of the accelerated payment as well as an offset for rent from a replacement tenant. Not all states deal with this issue in the same manner, so careful drafting can avoid a surprise result to a defaulting tenant. Likewise, not all states impose an obligation on a landlord to find a replacement tenant to lessen the damages it suffers when a tenant defaults and is no longer in the space. Tenants should consult with qualified counsel as to whether local law will require a landlord to "mitigate its damages".
- Get Legal Feedback Before a Letter of Intent is Signed. The letter of intent (LOI) to lease space may be legally binding without careful drafting, so advice of counsel is recommended before it is signed. Further, even if the LOI is made legally non-binding, experience has shown that the parties tend to use the terms as already agreed or "set in stone" for purposes of the lease drafting. Attempts to change the wording or alter concepts in the drafting of the lease after the LOI is signed can be met with significant resistance, and even cause the parties to walk away or re-trade other terms. Involvement of a qualified attorney at the LOI stage can help to avoid problematic terms from becoming ingrained into the lease or having to seek other available space.
In conclusion, since the lease will govern the relationship between a landlord and tenant for years or even decades into the future, careful consideration and ample time should be allowed for all stages of the lease negotiation and drafting, from the LOI to the lease itself. A real estate attorney with significant leasing experience can assist landlords and tenants with efficiently overcoming many of the potential pitfalls that lurk within commercial leases.