By Gregg M. Mielke, Attorney at Law
The following is provided for informational purposes only and is not, nor should it be construed as legal advice.
The cost of physical facilities is often one of the largest expenses a business has. Due to the high initial cost of buying and building, plus the uncertainty of future needs, a lease is often the preferred route, particularly for smaller and newer ventures. A business lease is usually a multi-year obligation involving tens or even hundreds of thousands of dollars. A mistake many tenants make is to focus almost exclusively on the monthly base rent ($/sq. ft.), and once that is agreed to, to sign the lease agreement without understanding, contesting or questioning the numerous other provisions of the lease. It is important that these other issues are addressed to prevent surprises and misunderstandings down the road.
Additional Rent often catches tenants off guard. Additional Rent may include percentage rent (a share of revenues); tenant association fees; advertising fees; management fees; and common area maintenance (“CAM”) charges among others. CAM charges are the expenses of owning, maintaining and operating the building, grounds and common areas that the landlord passes along to the tenants, and consists of insurance, maintenance costs, repairs, landscaping, utilities, etc. How are these costs allocated among the various tenants? If by pro rata sharing, how is the measurement made? Can the CAM be raised, and if so, by how much? When? Does the tenant have the right to audit the charges?
The tenant needs to fully understand (and if possible, limit) the scope of expenses that go into CAM and how much CAM can rise (both yearly and over the term of the lease). The landlord will also pass through its real estate taxes, and often any other taxes on the rent that it gets from the building. Other considerations include understanding which services the landlord will provide and which ones will be the responsibility of the tenant. How are electrical, gas, cable, water, trash and other utilities calculated and who is responsible for paying them?
Terms other than rent and expenses can also represent large financial concerns to the tenant. Some of these include: What is the current condition of the premises? Who pays to construct the tenant’s improvements? What quality level of improvements are included (do you get wood floors or linoleum)? When will the premises be ready and who absorbs the cost if it is not completed on time? How much parking is available and allocated to the tenant’s space? Is expansion space available? If the lease premises (or even a substantial portion of the common area) is reduced or destroyed by a casualty (or made unavailable for an extended period – such as by a flood) or condemned, can the tenant get out of the lease or must it make do with less space? Can the landlord force the tenant to relocate or move if it desires to use the premises for something or someone else? Can the landlord lease another space to the tenant’s competitor two doors down? Are tenants prohibited from opening a competing location within a certain distance? When can the landlord enter the premises? For what reasons? Is prior notice required? Is the tenant allowed to sublease, assign or share space if it becomes necessary? Are there any options to renew or extend the lease? If so, when must they be exercised and what is the cost?
What, other than failure to pay rent, is considered a default under the lease? How much notice (if any) must be given? Is there a time to cure? What remedies are available? While almost all leases go into detail on the defaults of the tenant and the landlord’s remedies, many are silent about or limit the rights of the tenant in the event of landlord’s default.
The above questions illustrate just some of the issues that can arise during a multi-year lease term. To the extent possible, these issues should be addressed at the initial stages of lease negotiations as the answers can make a significant difference on whether a lease space can be used profitably. In doing so, it is important to understand that both parties have legitimate interests to protect in the lease. The landlord wants to assure a certain return on its investment in the property and the tenant needs know what its rental obligation will be and to avoid surprises. If the other party’s concerns are kept in mind and addressed during discussions, an outcome acceptable to both parties is often possible.
While the outcome of negotiations depends in part upon the market and the relative strengths of the landlord and tenant, there are almost always some items that can be changed in a lease. As such, it is recommended that leases be reviewed with your attorney to fully understand the rights and obligations of the parties before execution.
Gregg M. Mielke is admitted to practice before all Texas courts and the Federal Courts for the Southern District of Texas and the Fifth Circuit Court of Appeals. He is a fellow member of the College of the State Bar of Texas and has been practicing for over 30 years concentrating his practice in the areas of business formation and operations, construction and commercial real estate. Mr. Mielke is a Member of the firm, Currin, Wuest, Mielke, Paul & Knapp, PLLC (“CWMPK”) located at 800 Rockmead, Suite 220, Kingwood, Texas. In addition to the areas in which Mr. Mielke practices, attorneys at CWMPK concentrate their practice in areas of estate planning, probate, family law (including divorce and custody issues), employment law, bankruptcy, and commercial litigation. For more information, please call 281.359.0100 or see the CWMPK website at www.cwmpk.com.