LEASE NEGOTIATIONS

Overview :

All activities involved in marketing rental space are directed toward a single goal-the singing of a lease agreement between the owner or manager and the tenant. As the prospect weighs the advantages and disadvantages of the property, the manager is evaluating the prospect. Several steps are involved in this evaluation.

When the manager is confident that the space meets the prospect’s needs and the prospect is qualified financially, the manager must then move to close the transaction. Negotiating the final details is a delicate act : too many concessions can hurt the owner in the long run, but being friendly, calm, and flexible is often required to convince the prospect that he or she wants to rent this facility. Basic closing techniques must be used, and these can be used singly or in combination, as the situation demands.

When the prospect does decide to act, the final step of the marketing program can be completed, that is, the terms of the lease agreement can be discussed and agreed on and the contact drawn up. The tenant signs the lease that is then referred to the owner for final approval.One the manager or the owner signs the lease and delivers the lease to the tenant, the agreement is consummated and the marketing goal has been achieved.

QUALIFYING A TENANT

The process of qualifying a tenant (called the qualifying process) is essentially the same whether for a residential, commercial, or industrial prospect. Variations required for each are dicussed in greater detail in subsequent chapter.

VISITOR REGISTRATION

Every prospect walking in the door should fill out a visitor registration. These completed forms are the starting point for dicussion. It is possible that not everyone who registers will decide to fill out an application. Atahese registration forms can be used to track leads as well as for documentation that alll prospect are treated equality.

LEASE APPLICATION

All interested prospects, whether residencia, industrial, or commercial, should be required to complete a written lease application. The manager should retain these completed applications for the term for the term of the tenancy. The forms should be saved even the tenant does not lease as they can provide writen evidence that the manager has accepted tennatsbased on sound business reasons. And not in an illegal disciminatory way. This is particularly importn in residential leasing. The lease application form is critical as the manager requires additional information making a final decision to lease to this particular applicant. The form should be clear, concise, and consistent and cover as many topics as necessary for the manager and owner to make an informed decision to accept or reject  this applicant. When dealing with a company or organization.

Figure 6.2 is an example of a residential lease application. It gathers information and also includes acknowledgment from the tenant that the landlord may verify all information found on the application. The application includes permission to verify not only rental history but also court records and criminal records.

Alll tenant must be financially sound, but especially comercial and industrial tennats bacause of the greater net worth of the lease. The question in the commercial lease application in figure 6.3 are indicative of the kind of information requested from office., retail, and industrial tenants. The application asks for business location, organizational structure, and banking references.

Space requirements and any other special needs may have been discussed before starting the lease application.

EVALUATION OF DATA

The property manager must thoroughly verify the accoracy of the lease application, not only the identity but also the financial representations. No one wins if the manager accepts a tenant who cannot pay the rental fees or who abuses the other tenants.

Identity. It is important to verify the identity of a residencial or commercial applicant. At the very least, the prospect must provide some form of identification (invidually or as company or organization), a rental history, financial status, and several references. Residencial prospects can supply a goverment-issued picture ID. Business prospects may be asked for a summary of their long-range business objectives. Most lease applications include a request to allow the manager to check not only the applicant’s credit history but also their criminal history.

In commercial real estate, particularly in retail, tenant compatibility also is vitally important. Tenant mix is especially important in retail malls. Morever, the nature of the prospect’s business will have a direct bearing  on his or her compatibility with other tenants of the property. A pawnbroker would, for example, be out of place in a building occupied predominantly by ottorneys. Morever, some existing tenant may have leases containing noncompeting tenant restrictions. This is discussed in more detail in chapter 14.

Fair Housing. Care must be taken when identifying prospects for residential properties. The manager must be vigilant in following the Civil Right Act of 1968, also known as the Fair Housing Act. This federal law makes it illegal to deny a propective purchaser or tenant on the basis of race, color, religion, national origin, sex, familial status, handicap, and other protected classes added by states and cities. Fair housing laws an exemptions are dicussed in more detail in chapter 10.

Many cities, countries, and states have added additional protected classes to those named here, making it imperative that the property manager be completely conversant with local requirements. As an example, the lowa Fair Housing Law covers not just housing, but also commercial properties.

Rental History. The stability of the tenant’s rental history will influence the manager’s or owner’s final decision. Unless there are valid for doing so, a family or a company moving frequently is often considered a poor rental risk. It is expensive to to have constantly changing pool of tenants, so the manager should seek a family or company that will stay fo a long time.

It is especially important that the prospect have a stable past record, particularly with commercial or industrial space, which often must be heavily modified to meet the tenant’s spesifications prior to occupancy. The manager should inquire about long-range business objectives to identify plan for future expansion that could influence a choice between several qualified occupants.

If there is  a choice between several well-qualified tenants, the property manager should be particular attention to rapidly growing companies. The space that is adequate now may be too small in a year or two, unless the manager can plan or take steps to meet such a contingency. The property manager must evaluate such situation carefully and consider all the possible ramifications.

Financial status. It is in the owner’s best interest to verify references given on the application. The rationale behind validating a propect’s financial references is simple. Slow or erratic payers generally retain this pattern when making mortgage or rental payments, whereas prompt and steady payers are consistent in meeting their obligations. A prospective tenant with a history of erratic and deliquent payments should be turned down. If there are only one or two lapses in an otherwise satisfactory record, though, the prospect should be invited to explain these lapses before a final decision is made.

Residencial. Brief phone calls to banking and employment references used to be sufficient, but also today most managers rely on a credit report. To avoid any appearance of any illegal discriminatory practices in violation of fair housing laws, the manager must show consistency. In other words, the manager should require a credit report from every applicant, if required of one.

A credit report may be obtained legally only with the applicant’s consent and is a history of how a person pays his or her bills. Therefore the property manager must set up a procedure for obtaining permission (a permission form is usually completed as part of the application paperwork).  Many managers charge a non-refundable “application fee” to help defray the cost involved in obtaining a credit report.

The credit bereau will send the manager a report on the financial reliability of the prospect’s past and current account, usually identified by industry (e.g.,bank and departement store). The report will note bankruptcies, collections, charge-off accounts, and current obligations. The quantity and dates of all payments are listed on the report along with an indication of their regularity. The letter indicates the type of account (open, revolving, installment) and the number refers to the payment pattern. A rating of 1 is the highest , given for payments made as agreed; bad debts that have been turned over to a collection agency receive a rating of 9.

Managers want to know even more about the prospect. A number of companies specialize in searching public records on behalf of the owner or property manager. These searches can include past rental performance history, nationwide credit report, and outstanding bad check reports, as well as criminal history reports. Rental performence histories contain information such as evictions, past due balances, noise complaints, insufficient checks, and damagers to the rental unit.

Nonresidential. Office, retail, and industrial lease applications emphasize the profit and loss record of the company over the past several years. The economic growth pattern of the tenant is of special significance when leasing retail space in a shopping center, where cach business depends on the stength and success ofits neighbors to generate the customer traffic needed to make a profit.

The financial status of commercial or industrial tenants can be ascertained by consulting a Dun & Bradstreet reference book or report. Dun & Bradstreet is an international business information company subcribed to by many large management firms. The reference book provides information on the nature and age of each listed firm, along with a composite credit rating and estimated financial strength. Dun & Bradstreets are more detailed analyses of a single company. They are supplied to Dun & Bradstreet subcribers on request and payment of a service fee. The report list, among other things, assets liabilities, and officers of all public (and some private) companies.

When a Dun & Bradstreet report is unavailable or inadequate, a credit report can be obtained from a national credit reporting service. The local chamber of commerce  or better business Bureau  may also haveinformation relevant to the prospect’s financial standing and reputation in the community. A follow-up check of major suppliers for the prospect’s business can reveal other facts concerning the company’s payment record.

There are many credit reporting other than Dun & Bradstreet. Check your local listings to determine the one that best suits your needs.

The corporate structure of the propective commercial or industrial tenant is important when considering its financial  capability. In some cases, a prospect may give information about the owning corporation when in fact this corporation will not guarantee the lease or be responsible for loses. Commercial and industrial property managers can avoid this pitfall by finding out whether any financial relationship exists between the franchisee and franchisor or between parent and subsidiary companies.

NEGOTIATING THE TERMS

The negotiating process begins when a prospect expresses definite interest in the space being marketed. Negotiation itself consists of bringing the prospective tenant to an agreement on the lease terms that will be satisfactory to the owner. The goal is a signed lease benificial to both tenant and owner. Because lease negotiations usually involve several steps amounting to a series of compromises on terms, the property manager must monitor the process continually.

WORKING WITH OTHERS

Professionalism, the key to controlling the negotiating process, reassures both owner and tenant that the manager will effect a mutually satisfactory lease agreement. If the manager loses control, the transaction may never be completed. The process is the same whether for a residence, a retail establishment, or an industrial warehouse.

Part of the property manager’s responsibility is to avoid personality conflicts that can prolong or even ruin a transaction. In many cases, the owner and the prospect should be kept apart, at least until negotiations are concluded and the lease is ready to be signed.

The leasing agent works directly with the prospect and recommends action to the owner. This allows more response time to analyze prospect requests and negotiate favorable compromises on major points. Many times the leasing agent can avoid a concession by simply stating, “Oh, the owner will never approve of that!”.

Cooperating brokers. An outside-leasing agent often is involved in leasing office, retail, and industrial property. In some markets, real estate agents will refer residencial prospects. This third-party interest can complicate the negotiation process unless the property manager coordinates efforts with the outside agent. Very early, the manager should attempt to be the party who communicates with the prospect in order to expendite direct negotiations with the prospect without affrontingthe cooperating booker. It is worthwhile to cultivate the loyalty of the prospect, especially in a tenant’s marker. For the cooperating broker will have no special allegiance to the manager the owner, or the space in question. Cooperating brokers should be instucted to avoid qouting price and terms.

Role of attorneys. The attorney’s task is to formalize the agreement by translating it into legal terms after it has been established. Attorneys for the parties should review or draft leases that carry out the intentions of their client. It is in the property manager’s best interest to try secure agreement on basic terms and conditions of a lease  (for example, rent, years, and percentage) in negotiations between the owner and the prospect or between their agents before the lease goes to the attorneys will monitor each step in the negotiating process and will not act without their attorney’s guidance.

SECURITY DEPOSITS.

Often a security deposit separate from the actual rent is held by the owner or manager to be used in the event that the tenant failt to pay the rent or causes expensive damage to the property. The amount of the security deposit is negotiable and depends on the length of the lease and the total dollar amount.

Many states require that the security funds be deposited in a trust or escow account in a bank in the state, although in some states, exceptions are made for owners who hold the money. Because the money does not belong to the property manager under any circumstance, security amounts should be deposited directly into a trust account.

CONCESSIONS

A concession is a benifit or boon to the tenant bacause the owner agrees to less than the original terms. Every concession costs the owner money and affects the total economic value of the lease to the owner. Concessions are granted in order to influence a prospect to become a tenant. A worthwhile concession alleviates a basic problem or spesific financial pressure felt by the prospect. Nothing is gained by giving away something of little or no value to the recipient, regardless of its importance to the owner.

On the other hand, many concessions that may appaear valuable to the tenant are in fact rather inexpensive to the owner. Thus, the importance of qualifying the client and the knowing his or her needs is stressed. The manager should keep the owner’s position in mind and must not negotiate for more than owner can afford to deliver. Concession should be granted reluctantly in all cases; this increase their value in the eyes of the tenant. In addition, a concession granted to one may have to be given to all, including existing tenants.

A general rule to follow for industrial and commercial lease concession (termed inducements in some markets) is that the larger the tanant and the longer the lease, the more acceptable the rent concessions. The owner’s costs for preparing and altering the space to suit a new commercial or industrial user must be figured into the rental rate. These costs may even include interest on the money borrowed for tenant alterations. The rental schedule also should be such that the expense to the property owner will be completely amortized over the term of the lease, but no longer. Alteration costs for new tenants will be explained more fully later this chapter.

Almost every item of the leasing contract is open to discussion. Depending on the relative strength of the manager’s and the prospect’s positions, any number of concessions might be made to induce the prospect to sign a lease agreement. Three factors can help a manager decide how far to go in granting concession to attract tenants :

1.                  The owner’s financial and strategic position (long-range goals and urgency to lease)

2.                  Competition in the are market

3.                  Urgency of the prospect’s need to move

The following topics are possible concessions, with relative costs and advantages discussed.

Rent schedules and rebates. The rental rate is one of the most important and complex issues to negotiate. Although deviations from the basic rental schedule are undesirable from both a manager’s and an owner’s standpoint, they may become a necessity in a competitive market. In every situation, however, the manager must analyze the advantages and disadvantages of making a significant concession on rent.

All negotiations regarding rent reductions and rebates should be made on an individual basis. Not all tenant expect, nor do all deserve, the same rent concessions. Unfortunately, compromises with one tenant often necessitate compromises with the others as well. Rumors spread quickly throughout multitenant buildings (whether commercial or residencial), creating ill will and an array of management problems. Failure to enforce the basic rental schedule, the manager soon learns, can result in a general downgrading of the rental  structure and significant income loss.

Graduated rental structures calculated on a base standard rental rate are often used for office space, where the base standard rental is assessed on a per-square-foot basis. For example, standard rental rates in a high-rise office building usually ascend with each floor. Space on the quieter 35th floor might rent for $23.80 per square foot, whereas similar units on the less desirable  14th floor would go for $21.20.