Commercial tenants, under pressure of the current economic recession, are renegotiating rents in unprecedented numbers. This is an opportunity for owners to cleanup leases, preserve value, and prepare for the next round of financing or sale. We continue to see leases that require significant amendment to facilitate financing or sale. Owners should seize the chance to address problems during rent renegotiations.
Owners, unwisely, are giving rent concessions without any mechanism for recovering lost revenue and preserve property value or for rescuing the owner from unprofitable tenants. Owners are spending significant time and money on amendments, only to be faced with repeated requests and ongoing problems.
The following bullet points highlight some areas of concern that we see repeatedly and that cause significant cost, delay, or other problems during refinancing or sale:
- Clarity of obligations: Leases are often vague with regard to pass-through charges, common-area maintenance obligations, calculation of rent, and so on, with only informal protocols or agreements available to deal with these matters. Rent rolls should be addressed with certainty on the face of the documents. Is the term clearly stated, together with renewal terms?
- Estoppel, attornment, and nondisturbance provisions: Do your leases include them?
- Financing subordination: Does the tenant subordinate to any deeds of trust or mortgages, blanket or otherwise, including renewals, modifications, consolidations, replacements, or extensions, then existing or thereafter placed on the property?
- Relocation: While this may not apply to all situations, a lease provision allowing the owner to relocate a tenant can add value to a purchaser.
- Does the lease include environmental indemnities from the tenant for the benefit of the owner?
- Is the lease nonrecourse, i.e., are the tenant's remedies limited to the owner's interest in the real property?
- Does the lease address the use of insurance, damage, and condemnation proceeds?
- Does the lease include an owner-assignment provision?
- Do the various tenants have similar leases, or do you have a variety of lease forms, terms, conditions, and financial structures that are difficult to manage consistently?
In addition to the above concerns, if rent concessions are renegotiated, position yourself for recovering the rents in the future. While extending the lease seems to be a popular approach, it will not recover the funds, and it builds in free rent for the tenant. Some owners agree to delay partial rent payments with makeup payments to be made at some time in the future, but those later payments are also being renegotiated, since the ability to pay depends on the financial success of the business. You may want to consider another approach, which is to tie the recovery of rental funds to the eventual increase in profits of your tenants, and to build in owner opt-outs if certain milestones are not reached. This approach gives your tenants time, does not waive the obligation, provides the owner with monthly monitoring of tenant activities, and provides for immediate recovery when the tenant's business improves.
If you take action now, when the opportunity presents itself, you may preserve your existing property value by protecting the current rent structure and by providing an opt-out to eliminate unprofitable tenants. By positioning the leases now, you will be in a better position for refinancing or sale when the recession is over.
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