NorthWest Stir For Culinary Professionals

Easy steps: lease review and negotiation time

By Stuart Heller

Anytime is good for planning and laying the groundwork for new projects.

Negotiating a new commercial lease or renewing an old one may be one of those projects on your own to-do list or that of one of your clients. It is at this point that you remember the cruel facts that such leases are generally drafted by the landlord and significantly slanted in its favor. Then other thoughts come to the rescue: it's only "boilerplate" and in situations where both the landlord and tenant are happy it matters little what is in the lease. Ah, but you are a lawyer and know that the reality is when they are not happy or when one of the parties wants to know exactly what it's rights are the provisions of the lease become very important. My best clients are those who have been stung once by signing a lease the provisions of which it had paid little or no attention. What to do? What follows is an outline of what works for me (previously published Keys are below):

Key No. IV: Keeping a good location and keeping a location good

Here you might attempt to negotiate:

- options to extend the lease term and favorable conditions applicable to such extensions

- an exclusive giving your client the right to be for example the only coffee shop in the development

- elimination or limitation of any proposed landlord right to relocate the tenant’s space

- elimination or limitation of any “recapture” provision allowing the landlord to terminate the lease when the tenant requests its consent to an assignment of the lease or a sublet of the premises, and at the least permit the tenant to withdraw its request for consent should the landlord notify the tenant of its intent to exercise such a right of recapture

- eliminate or limit the landlord’s right to materially interfere with the tenant’s business by detrimentally changing access to the tenant’s space, its visibility from nearby roadways, and/or convenient parking for its customers or vendors

- eliminate or limit the landlord’s right to place its own or third party signage on or adjacent to the premises or its building, in order to avoid confusing the public about the business carried on in the premises.

An interesting though unpublished Michigan Court of Appeals decision concerning options to extend the term of the lease is found in Driftwood Saloon, Inc. V. Gauthier (No. 292896, September 21, 2010). There the trial court found that the plaintiff failed to timely exercise its option to extend its restaurant-bar lease, and would not invoke its equitable authority to order the defendants to renew the lease. The Court of Appeals affirmed stating that “an option is simply an offer, [the] acceptance of which must be made within the time allowed and in minute compliance with its terms, otherwise the optionee's rights are lost.” It went on to say that while a lease can constitute an interest in real property, an option to lease cannot.

Key No. V: Approaches to due diligence and limiting tenant risks

(a) Warranties - since the landlord is in a much better position to know these things than the tenant, get it to make at least best of knowledge warranties about the absence of things that could hurt tenant’s business, such as:

- threatened or current labor unrest and legal actions

- existing code violations

- exclusive rights given to other tenants

- existence of contamination or hazardous substances

- ability of the soil to support tenant’s planned structure (I had a case once in which one of the landlord's employees had dumped fill material that would not support the tenant's planned restaurant building; this required removal and replacement of the fill at a cost of about $80,000 for which the tenant would have been responsible but for such a warranty which we had included in the lease)

(b) order a preliminary title report to learn about ownership, easements and encumbrances (e.g., no outdoor sales permitted, which had we not discovered would have been a significant problem to my restaurant client whose concept included an outside dining area)

(c) do a UCC search if the tenant is buying existing furniture, fixtures & equipment (in Washington this can be done online at http://www.dol.wa.gov/business/UCC/ucconline.html)

(d) the tenant or its contractor should check on the local zoning as well as the requirements and timing for securing necessary licenses and permits

Key No. VI: Being efficient and maximizing your leverage

- start with or convert the proposed lease to MS Word

- use Word's track changes feature to redline the lease with proposed changes as well as questions for the tenant and landlord

- prepare a new redlined draft after review of the first with your client to identify the changes to request and questions for the landlord (e.g., is there a master lease and if so would you please supply us with a copy, what exclusive rights have been given to other tenants)

- ask for ALL of those changes (I generally find that more than 80% of them are accepted)

- use franchisor or third party (e.g., lender) approval as leverage (e.g., my lender insists that . . . .)

- direct the requests for changes first to the landlord’s lawyer; for big remaining issues have the tenant talk directly to the landlord and explain why the requested change is so important

- do not ask for changes that are clearly inconsistent with the mutually executed letter of intent

Paying attention to these 6 Keys is likely to result in a happier tenant now and as the lease runs its course, and more clients as well as increased income for you which will permit you to take that planned vacation and check one more big item off of your spring to-do list.

Previously released Keys

Key No. I: Start with a good letter of intent

A letter of intent is prepared by one of the parties and addressed to the other. It sets out all of the business terms that are particularly important to you or your client and includes every "must have" item which the drafting party believes is required for its success. It is probably the fastest, cheapest and most efficient way to learn early on whether mutual agreement is possible. Some examples of what to include are below. Here they are listed in rough priority order, though priority will vary from case to case:

- the rent, any free rent, and any timed increases and related formulas

- the tenant’s share of the landlord's operating expenses which are often referred to as common area maintenance charges (“CAM”)

- the use or activity to be permitted in the leased space

- the duration or term of the lease

- any options to extend the term

- occupancy date

- exact location to be leased

- the square footage of the leased space and how it is to be measured

- expansion rights

- early termination rights

- the security deposit, if any, when it is due, when and how it is to be used and the balance returned, and who gets any related earned interest

- the parking available for tenant, its clients, vendors and employees, its location(s), any related charges and validation rights

- tenant improvements and who is to pay for them

- any contingencies to be satisfied (e.g. financing, satisfactory release from any current lease, approval of any master lease, obtaining required permits or licenses, and inspection/feasibility study issues)

- existing furniture, fixtures and equipment, if any, that are to come with the space

- the signage which the tenant may use and its location

- any necessary storage space external to the premises and its location

- access to the premises and the building in which it is located (e.g., use of loading dock, keys, after hours)

- the utilities to be provided to the premises, by who, related meters and hookups, where they are located and who pays for them

- any real estate agent(s) commission, who pays for them ,and to whom and when they are paid

The letter of intent is signed preferably by both the would-be landlord and tenant. Is it binding? Generally no and particularly if it clearly says it is not. However it should and usually says that it sets out the parties’ good faith intentions to make it the basis of a yet-to-be-negotiated lease. An interesting case on point is Keystone Land & Development Co. v. Xerox Corp., 152 Wn.2d 171, 94 P.3d 945 (July 22, 2004, WA Supreme Court). Keystone claimed Xerox breached two separate mutually executed letter of intent "agreements": one to sell its Tukwila facility to Keystone and one to negotiate in good faith a purchase and sale agreement for the facility. The court stated that (i) agreements to agree are unenforceable in Washington, (ii) an agreement with open terms can be enforceable if clear that the parties intended to be bound by the key points agreed upon with the remaining terms “supplied by a court or another authoritative source,” such as the Uniform Commercial Code (“UCC”), and (iii) a contract to negotiate which defines a course of conduct to be followed (e.g. negotiating in good faith, exclusively with each other, or for a specific period of time) can be enforceable but is breached only if the agreed upon process is not followed.

Key No. II: Get as much pre-approved by the landlord as possible

Doing so can avoid subsequent confusion, disagreement and delay. It is best to spell out the pre-approved items in the lease and attach them as exhibits. For example, if you are or represent the tenant and have sufficient details available prior to signing, you might seek pre-approval of tenant’s:

- prototypical buildout plans, or its particular plans for that location

- proposed storefront and trade dress

- proposed signage

- the location of any exclusive parking for tenant’s customers, suppliers and/or employees

- the location of storage and/or trash and recycling containers for tenant’s use

Key No. III: Negotiate escape provisions

If you are or represent the tenant you would do this so the tenant can sell, transfer or terminate its interest in the location and eliminate or limit its post transfer liability. This can be valuable if the tenant's business in that location is bad and it wants to get out of the lease, or if it is good and it wishes to implement an exit strategy by selling its business or that location when they are most valuable. Here I suggest you:

(a) attempt to negotiate broad rights for the tenant to assign or sublet the premises

- to a third party that buys tenant’s company or substantially all of its assets

- to a third party that meets pre-set criteria (e.g. particular net worth and/or years of experience)

- to tenant’s own subsidiary or parent company

- to another company with same owners as tenant or with which tenant merges

- to tenant’s franchisor, if any, or to another franchisee of the franchisor’s concept

(b) escape criteria might include

- failure to achieve preset gross sales by a preset date

- occupancy of the shopping center never reaches or drops below a preset level

- tenant paying a preset escape price (e.g. 4 month’s rent)

- destruction or other loss of roadway access or preset percentage of tenant’s space, the shopping center or parking area

- failure to satisfy any applicable contingency

(c) limiting Tenant’s liability if it leaves prior to the expiration date

- eliminate or limit the time the tenant has to remain on the lease

- eliminate or limit the term of any personal guaranty

- based on negotiated pre-set criteria (e.g. new tenant’s net worth and/or years of experience; permitted assignments)

(d) when computing the landlord's damages in the case of a tenant default require the amortization of the landlord’s recovery of its investment in the tenant improvements, leasing commissions, and the like, so that, for example, if the tenant is evicted in the fourth year of a five-year lease the landlord’s damages for such items should be limited to 1/5 of its initial investment.

With over 35 years experience Stu Heller helps his clients understand and improve their business and real estate transactions. His blogs on leasing can be found on Blogspot, WordPress, and Hubpages, and his “Superb” attorney rating and profile on AVVO.com. He is an allied member of the Washington Restaurant and the Washington State Hotel & Lodging associations, as well as a member of the King County and Washington State bar associations. Contact him for a free initial consultation or to get his Legal Tips emailed to you or others you work with. Be sure to consult your lawyer before applying any of the above to a particular situation. Reply with “Unsubscribe” to stop receiving these emails. Contact info: Stuart A. Heller, 1325 Fourth Avenue, Suite 940, Seattle, WA 98101, 206-623-0579, fax 206-682-7972, heller@theleasinglawyer.com, hellerlaw@aol.com, www.theleasinglawyer.com. ©2009, Stuart A. Heller, all rights reserved.