When you represent a tenant in an office lease, you will spend most of your time negotiating the numbers: lease term, base rent, free rent period, tenant improvement allowance, security deposit. The numbers drive a great deal of the value that you bring to a client, but there are other lease and premises matters that can have a significant impact on your client’s bottom line. A little due diligence on these matters during lease negotiations can help ensure that the lease process is successful for you and your client.

Getting in on Time

Can the landlord deliver the space on time? If it is unable to deliver on time, then this can cost your client in holdover rent and increased tenant improvement construction costs. Delivery delays generally arise from one of two situations – the existing tenant fails to vacate on time, or your client’s TI build out takes longer than expected. Talk to the landlord to better understand the existing tenant’s move out timeframe, particularly the risk that the existing tenant’s new space will not be available or completed on time, which will then delay when the landlord can deliver your client’s space. Your client’s ability to control TI delays depends in part on whether the landlord or the tenant performs the construction. In either case, you should work with the general contractor to get a realistic sense of how long the TI build out will take, particularly in an older building where the landlord may not know the exact location or condition of building systems or other building elements.

In order to protect your client from delivery delays, consider the following three things: first, compensation for late delivery by the landlord (e.g., one day of free rent for each day that the landlord fails to deliver the space by a target delivery date); second, a “drop dead date” that allows the tenant to terminate the lease if the landlord cannot deliver by some outside delivery date; and third, explore holdover options with the tenant’s existing landlord or have other fallback plans if the tenant can’t holdover in its existing space before its new space is ready for occupancy.

Do the Building Systems Work For You?

Determine if the existing building systems (HVAC, electricity, water, data/telecom) are adequate for your tenant’s proposed use. Class A office buildings should have building and utility systems that support general office use, although if your tenant has a server room and needs supplemental cooling, then you will need to talk to the landlord about the cost and availability of additional cooling units.

The condition and functionality of utility systems in older buildings, or buildings that are being repurposed as creative office space, can be more problematic. In particular, the HVAC, electrical or data/telecom capacity may require upgrades in order to satisfy your tenant’s requirements, so you will need to factor in the time and cost to make these upgrades. Your client’s engineers and IT consultants need to investigate the condition and capacity of all building systems before the lease is signed.

Design and Use of the Space

Generally, schematic and construction documents will not be prepared until after the lease is signed. However, a tenant does not want to sign a lease and then discover that the landlord objects to its buildout. A preliminary space plan and, to the extent available, proposed specifications and finishes should be included in the lease in order to lessen the ability of the landlord to reject the tenant’s proposed buildout. The landlord should be required to approve any schematic or construction documents that are conceptually consistent with the preliminary space plan and proposed specifications and finishes.

Also, landlords sometimes impose maximum occupancy requirements because they are concerned about the impacts on the building and its common areas and facilities (like elevator and restroom capacity and HVAC loads) from too many occupants in a space. Make sure that your proposed occupancy levels will be permitted under the lease.

Finally, determine if there are any local zoning limitations that could restrict your client’s use of the space. For example, many parts of San Francisco’s south-of-market and eastern neighborhoods are restricted to PDR uses (production, distribution and repair) in an effort to preserve those neighborhoods’ manufacturing and industrial heritage. While office use is permitted in a PDR zone as an accessory use, usually at least two-thirds of the space needs to be used for traditional PDR uses. The tenant’s architect needs to incorporate PDR concepts in its construction drawings so that when the drawings are submitted for plan check, they reflect the appropriate mix of PDR and office uses.

Haz Mat and Compliance with Laws

If your tenant is moving into an older or repurposed building, it needs to ask the landlord whether there are any pre-existing hazardous materials in the building and if the building complies with laws, particularly laws governing handicap access. If either of these conditions exist in your tenant’s proposed space, it can delay the construction of your client’s TIs and increase the cost of this construction. And even if these conditions don’t impact your client’s space, if they exist elsewhere in the building then the landlord may, in the future, be required to remediate or correct the conditions, which could disrupt your tenant’s occupancy and might also increase your tenant’s operating expense pass throughs.

Growth and Exit Strategies

If your client is a startup or growth company, it may take on future financing rounds, be acquired by a strategic buyer or a private equity company, or go public. Any of these events may constitute a deemed assignment under the assignment and sublease clauses of a lease, which can trigger landlord consent requirements or even landlord recapture rights. See if you can negotiate a carveout where these sorts of events will not require landlord consent or trigger any recapture rights, because you don’t want a landlord to impede your client’s financing or exit strategy.

Also, it can be challenging for a company to accurately predict its future growth, which means it may either outgrow its space or find that it has too much space. Expansion rights can be one way for a company to meet its growing space needs. And make sure that the assignment and sublease clauses of the lease are fair, because the company may need to either assign its lease if it has to move to larger space elsewhere, or it may need to sublease its space in order to cover some of its overhead if it has too much space.

Is There a Lender?

If there is an existing lender for the building, then evaluate whether your tenant wants a non-disturbance agreement from that lender. If the landlord defaults on the loan, the lender can foreclose on the building and then (absent a non-disturbance agreement with the lender), your tenant’s lease will become a month to month lease, terminable by either the landlord or the tenant on 30 days’ notice. Lenders and landlords may be reluctant to give non-disturbance to smaller tenants, but if your tenant occupies a large amount of space or is making a significant investment in its TIs, then it should seek non-disturbance from the lender in order to protect its occupancy and the value of its TIs.

What happens if the landlord is required to provide a large TI allowance or to make significant TIs but runs into financial trouble, fails to fulfill these obligations and the lender ends up foreclosing on the building? Will the lender be required to perform these obligations, or can the tenant perform the TI work and offset rent to recoup its TI allowance or the cost of the TI work? If you are concerned about the financial strength of the landlord, then you should consider how to protect the tenant and discuss these issues with the landlord and lender.

Conclusion

Negotiating competitive economic terms is a vital part of a broker’s job, but it is also important to evaluate other lease matters that can have a financial and operational impact on your client. Before your client signs its lease, look into these matters in order to lessen the risk of unpleasant surprises and to ensure that your client is happy with its new lease, its new space, and your representation of it on the deal.

For more information, please contact Leon Tuan.