Lease Negotiation Tool Kit: Practical Information & Key Principles

TITLE

TARGET AUDIENCE

Any Tenant, Franchisee or Prospective Tenant of a Retail Property (particularly in Australia but the principles apply to overseas leases as well).

SUMMARY

This 30-page document is an absolute “must have” for any Tenant who is negotiating a retail lease. It is designed to help you overcome the substantial negotiation and information disadvantage that ordinary (SME) business people face when dealing with Landlords/ Lessors who work with leases every day.

The document provides practical information in the form of a typical Landlord ‘Lease Offer’ with recommended responses and detailed explanations as to why each item is important. It also provides definitions of key lease terms and terminology and sample letters that you can use to communicate with your Landlord to ensure that you get the best possible result, even if that means walking away from the lease and keeping your capital intact.

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Lease Negotiation Tool Kit

Practical Information & Key Principles

Table of Contents

INTRODUCTION 2

AUSTRALIA’S AGGRESSIVE LANDLORDS – 4

KEY PRINCIPLES OF LEASE NEGOTIATION 5

CONCLUSION 7

SAMPLE LETTERS 8

Initiating a Lease Negotiation or Lease Renewal 8

Response to Landlord/Agent’s Genuine Offer of Lease Terms 9

SAMPLE LETTER – Full Text 9

SAMPLE LETTER – Explanation 13

Sending a Counter Offer In Response to Landlord/Agent’s Genuine Offer 14

UNDERSTANDING & RESPONDING TO A TYPICAL LEASE OFFER 15

Contents of Typical Lease Offer Made by a Landlord 15

INTRODUCTION

Annually, thousands of Small to Medium Size Enterprises (‘SME’) Business Owners lose personal assets, including their family homes, because they enter into retail leases on terms and conditions that are unsustainable. Avoid this costly mistake! A poorly structured lease or one that has lease terms that are inappropriate to your business/intended business or specific situation can actually cause business failure, despite one’s best efforts.

A sound lease agreement, which includes fair terms and conditions, a reasonable rental and security of tenure – to name just a few important factors – adds real “value” to a business. A sound lease is a valuable asset that allows one to reap the full benefit of one’s Business Capital, time and energy that is invested into the business.

This document is a summary of thirty-plus years of hands-on, practical experience in the property industry (the last twenty five in Australia) much of it focused on the retail property market. It is designed to give one the information and understanding that you need to negotiate a sound lease agreement; or to walk away from a particular lease, premise or landlord if you cannot do so! After all, walking away from a bad lease (and/or business opportunity) with one’s capital intact means that you can seek a business opportunity elsewhere.

Signing a lease agreement is an enormous commitment of resources that may affect one’s family for many years; even a life-time. For example, if the initial rent payable on the face of a 6-year lease is $80,000 and it has an annual cost of living increase, the total outlay for the lease itself will be over $525,000 dollars. Add to that the cost of fitout, initial stock, professional fees etc. needed to open one’s doors – perhaps another $250,000 - $500,000 of capital – not to mention operating costs, especially wages for employees including working proprietor(s),and one can begin to realise the magnitude of starting up a retail business.

Business failure can be devastating. It affects the Landlord, suppliers, employees, the local community, etc., and for a typical SME operator, one’s family. Over my career I have come to realise that the most important function of a lease agreement is actually to match Business Capital (the Tenant’s investment) with Property Capital (the Landlord’s investment). Sound leases, ones that strike the right balance of risk/reward for BOTH the Landlord and the Tenant, do this efficiently and effectively, thus leading to fewer business failures and, in the bigger, macro-economic picture, greater overall economic continuity and prosperity for all concerned including for the country’s entire economy.

Many ordinary SME businesses face substantial negotiation and information disadvantage when dealing with most (large) retail Landlords/Lessors who work with leases for a living. Leases are often one-sided and have contributed substantially to a large number of business failures. On-line shopping is also changing the retail landscape for many business models.

Lease agreements are also meant to provide the Tenant with “quiet use and enjoyment” of the leased shop. However, many leases allow the Landlord to interfere with the management, operation, control and ownership of a business through intrusive means, including collection of sales data (for no real reason other than to charge higher rents at a later stage) and by imposing onerous conditions if one wants to sell the business and assign the lease. Many Landlords also seek to invade one’s personal “space” by “requiring” one to disclose personal financial details.

This document seeks to keep one’s personal assets separate from one’s business assets and to help you negotiate a lease that draws a clean line between the Landlord’s return on their Property Capital/Asset (risk/reward; which is sunk cost) and your return on Business Capital/Asset, time, expertise and effort (your risk/reward). Achieving this balance is critical not only to the Tenant and Landlord but to the local community and broader economy.

Whether starting out or already in a going concern, give yourself the best possible chance of success by employing the suggestions in this document or your (next) lease negotiation. Even your professional advisors should benefit from the specialised, practical knowledge it contains.

Very importantly, this document is not a LEGAL document! ALWAYS have a solicitor with practical leasing experience and other professional advisors review a lease agreement before you sign it to ensure it conforms to legislation and will contribute positively to your business. In regard to multi-store operators; engage knowledgeable staff.

If you have purchased this document from the Australian Lease & Property Consultants web site, you may use the format, sample letters and wording in your negotiations as they appear here or as modified but incorporating the general principle(s). However, you cannot give it to anyone else without violating copyright law. If you found it valuable and want to share it with business associates or use it with clients, please direct the other party to our web site so that they can legally purchase their own copy.

AUSTRALIA’S AGGRESSIVE LANDLORDS

With twenty five years of experience in the Australian retail property industry, I can attest to the fact that the predominant culture among landlords is “very aggressive”. This stems partly from the inequality (under the Law) between Landlords and their Tenants, but also from the quasi-monopolistic nature of the Major Shopping Centres.

Unfortunately, most Tenancy Law Reforms in Australia have not amounted to much in key areas that might have addressed this imbalance. State and Commonwealth Governments have “tinkered” around the edges without making important changes in these key areas (except in the ACT). And there is no doubt that this lack of action is actually bad for ALL of the stakeholders involved, including landlords, tenants, financiers and both the franchise industry and superannuation industry, as well as for the economy as a whole.

For example, many “Disclosure Documents” that the parties have to complete during the lease negotiation process simply reinforce the stronger party’s negotiation position and, in Australia, the “stronger party,” at least in large shopping centre situations, is ALWAYS the Landlord.

Here are four lines that many aggressive Landlords and their representatives use to knock one down or deny any responsibility for what’s happening in a shopping centre:

“There is a long queue of people waiting to take this shop. If you don’t move quickly, you’ll lose this great opportunity!”

“The rent is not too high; your sales are too low!”

“Everyone else is trading well. What’s wrong with you?!”

“The landlord is not responsible for the under-trading of your business.”

Most of these representations are not based on fact; they are bluffs, designed to intimidate you. Insist that the Landlord/representative presents you with the actual facts behind these statements before you make any decisions relying on them.

In regard to negotiating one’s lease, insist on the lease terms you want and stand your ground. If you can’t negotiate what you want, WALK AWAY, particularly if you do not yet have capital invested in the property! There are many other shops/opportunities out there.

Major Shopping Centres and Malls are quasi-monopolistic environments. With inadequate laws/legislation and weak or ineffective enforcement bodies (who have also been intimidated by aggressive Landlords) it is up to the Tenants – the owners of the Business Capital – to invest more time and effort into getting their leases right. This is critical from both an operational standpoint and an accounting standpoint, now that the value of your lease (positive OR negative) must now be quantified on your business Balance Sheet.

In effect, at this point in time, rents are stuck at unsustainably high levels. Major or structural adjustments are needed to address the imbalance. Leases in large Shopping Centres in Australia are designed to marry the Tenant’s personal assets, including the family home, to the Shopping Centre. These leases are written so that the Landlord has a claim against ALL of your personal assets if you go into arrears. In my opinion, this type of lease is not in the spirit of Free Enterprise and it should be illegal. Unfortunately, it is not. DO NOT ENTER INTO ANY LEASE WITH SUCH TERMS! WALK AWAY!

The power of Major Shopping Centre landlords in Australia has grown largely unchecked for many years now; hence a structural adjustment is necessary. Since about 1997, the average lease for a Specialty Shop in the average Shopping Centre contains terms and conditions that will likely lead to business failure unless the Tenant is extremely savvy (or lucky) or has multiple stores that allow him to balance unprofitable shops (paying too much rent) with profitable ones.

In the long run, everyone loses; but in the meantime, the SME sector, along with communities and the taxpayer, have been the primary groups to “prop” up this “Retail Property” investment class. Thousands and thousands of SME’s have lost everything. AVOID BEING ONE OF THEM by following the advice in this document!

Bear in mind many of staff working for aggressive Landlord Companies are decent people; they are just following their orders. That said, some Landlord representatives are hired because they fit a particular profile and are trained in “hard sell” tactics. Most rely on bluff and bluster. In fact, I estimate that less than 5.0% have sufficient knowledge, skill, etc. to fully understand or analyse any Tenant’s business model. Don’t be intimidated. Stand your ground. Start your business with as sound a lease as you can get.

KEY PRINCIPLES OF LEASE NEGOTIATION

A negotiation must start with the Landlord making YOU, the Tenant, a bona fide (genuine) Offer, and not the other way around. A bona fide Offer is one which lays out all of the terms to be included in the lease (see table below).
Some Landlords will send the Tenant a letter requesting that the Tenant make the Landlord an offer. This is not a genuine Offer; it is simply an “offer to do business” or, in legal terms, an ‘offer to treat’. Do NOT respond to this type of letter by providing the rental amount, essential terms, etc., that you would like because, if you do so, some Landlords will take your offer and shop it around the market place looking for a higher “bid”. If the Landlord gets one, he’ll come back to you for more money, then back to the other bidders, and so on. In short, the whole process becomes a “Dutch Auction” (also known as Gazumping) in which the “winning” bidder/Tenant will also pay far above market rates. This is particularly damaging for a “sitting Tenant” with a vested interest in the shop (i.e. fitout investment, customer good will, etc.). In sum, change the wording on the Original offer letter so that it reads that the Offer is from the Landlord to the Tenant (refer to the Sample Letter below). Initial the change and send it back.

3. There is no such thing as a “Standard” lease agreement. Don’t believe anyone who tells you that there is. If a Landlord says they have a “Standard Lease Agreement,” get a copy and review it carefully; it will tell you a lot about the Landlord with whom you are dealing. In any case, it is a starting point and can (and likely should) be modified.

NEVER give a Landlord a Statement of one’s Personal Financial Assets. This information should only ever be given to the closest Professional Advisors/ Banker. Many Landlords request this information, but it is not because they actually need it. In many cases, it is because the Landlord wants to see how much money (and other assets) you have so that they can “steal” your money via disproportionate, above-market rent. If a Landlord asks you for this information, have your banker reply as follows: “To whom this may concern. Our client, XYZ Company, a tenant or prospective tenant for your property, is good for 3 months’ rent provided he is paying the current market rent” or similar words.

5. NEVER sign a lease that gives a Landlord access to your Personal Assets if you default on the lease. Your liability (or Personal Guarantees) should be limited to say three month’s rent, as detailed above.

If possible, pick your Landlord. There are many good Landlords. This is not a substitute for negotiating a sound lease. One’s good Landlord could always sell the property to someone who is not so fair, but any new relationship will be governed by the lease.
I suggest that you keep a copy of all correspondence; if it is in reply to previous correspondence, refer to the previous document so that you link one to the other; the final lease must incorporate all pre-lease negotiation documents that go into the “making” of the final lease.
Take a witness / advisor to any important meeting and take notes; also take photos of the empty premises if it looks like a lease is likely to proceed; a picture tells a 1,000 words.
Where any previous “term” or essential term in a lease document is changed, or altered, or not agreed to during negotiations, change it back to what you want. Do it over and over and over until you get what you want.
Make sure that what has been agreed upon in your negotiations and correspondence gets “married” into the lease, exactly as you want. There is no such thing as a “standard lease agreement”. Pay close attention to the wording / details.
Make sure that any representations you are relying upon are written into the lease, usually under the Special Conditions section, e.g. “The Landlord has represented that 80% of the centre, both in terms of total lettable floor area and by number of shops, has been leased up.”
Disclosure Documents might be “married” to one’s Special Conditions in your correspondence by cross-referencing and signing them, linking one with the other.
If you are not happy with every single aspect of the deal as a new tenant for a new business opportunity that the Landlord is offering, WALK AWAY! You can keep the door open with the Landlord by letting them know that you want to do business, but on your terms. Keep hounding them. Be assertive.
Include an End-of-Lease “Rent Negotiation” or “Rent Dispute Resolution” clause in your lease (see example provided at the end of the Sample Lease Offer below); this could be invaluable. not immediately, but at lease end. This clause also adds value to the lease, by ensuring additional tenure if needed and lease rent flexibility.
File the lease and all associated documents in a safe place for easy referral. Know what is in the lease, know critical dates and build reminders into one’s business systems to make sure you don’t miss critical dates. Keep backup copies of the lease and associated documents and store them in a separate, safe place (at home or with an advisor).

16. ALWAYS get appropriate professional and legal advice before signing any lease.