As an entrepreneur, one of the key decisions that will help determine the success or failure of your young business is your real estate leasing decision.
How much space will you lease and for how long? Will you have to pay for Tenant Improvements? (TI's) Do you want options to renew or expand? All of these questions are important. Nothing I say here is a substitute for getting a lawyer to review your lease before you sign it. In many cases you will want to work with a broker to help you get into your space.
However, in this article I hope to familiarize you, the entrepreneur, with the key levers that a landlord will focus on when leasing you space. By learning these levers you can negotiate your space more effectively, and avoid making a poor decision. After all, lawyers are fine with a lengthy and difficult negotiation process (hourly fees!), and brokers make more if you pay more in rent (and will disappear before the ink dries on your signed lease!). So ultimately you need to learn these levers and focus on them yourself to negotiate an effective lease. In this installment we will discuss the first two levers:
1. Credit Quality of Tenant
As an entrepreneur, and in many cases a start up, there's not much you can do about this. You should be aware that unless you are venture-backed you will be viewed as a significant risk by most Landlords. A good Landlord will likely request audited financial statements (if available) to view your strength.
As a result of being a young start up company a Landlord will probably try to force you into taking a space "as-is". This means that you will move in to the space without the Landlord making any improvements to it. As we will discuss later, this is not a bad option for you if available. In addition, be aware of the Landlord trying to stick clauses in your lease that allow him to move you from your space in order to accommodate larger or more lucrative tenants. These are called relocation clauses, and should be avoided or used to negotiate a more favorable rate with your Landlord.
2. Length of Term
In general, a Landlord will want a longer term. If they don't offer you at least a three year term, you may want to consider finding a different space. Remember, unless you have an extension option, a Landlord has no obligation to allow you to stay in your space once your lease is up. So think about the costs you will incur by moving. Not just the moving truck, but re-educating all your clients, customers, and colleagues on your whereabouts. Month-to-month leases can be tempting for a risk-averse entrepreneur, but try to avoid that temptation as it will put you at the whims of your landlord. Often times a landlord offering month-to-month leases has plans to make big changes at his property. He may just be looking for temporary cash flow while he prepares to make a big change.
On the flip side, be wary of a lease term that is too much longer than five years – especially if you are a young, high growth venture. You may need flexibility and want to avoid buying out your lease at all costs. Your space may not accommodate you as your venture matures.
The best solution is to negotiate a 3-5 year term with some options for renewal and expansion (which will be covered in Part II of this article).