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In part 2 of this article, we examine the remaining provisions of a lease negotiation and documentation that can be improved upon. In this article we look at the following:
- Options to Renew,
- Environmental obligations,
- Bank Guarantees,
- Redecoration clauses, and
- Agreements for Lease.
No one likes to lose a customer or a client and one would expect that every Landlord would be keen to keep a Tenant and renew a lease upon expiry. There are, however, circumstances when the Landlord may not want to grant a new lease. These circumstances would include the following:
- The Tenant is continuously in breach of the lease,
- The Landlord is able to provide suitable alternative accommodation,
- The tenancy is a subletting a direct lease is preferred,
- The Landlord intends to demolish/redevelop, and
- The Landlord needs the premises for their own occupation.
Some landlords refuse to include an option to renew because they want to maintain flexibility or want to strengthen their negotiating position or not provide market incentives on renewal. However, it will force the Tenant to look in the market for alternative space in parallel with negotiating a renewal.
An option to renew, with a fair notice period and the rent being reviewed to a market rent with market incentives and no cap or collar will normally result in the Tenant renewing, so long as the space continues to work for them and the fit out will survive the further term.
There are stories of Tenant reps deliberately negotiating ineffective options to renew (or no options to renew) so there is always a go to market at expiry giving them another engagement. Tenant reps do not get work from exercising an option to renew and there being a true adjustment of rent to market.
Always including an option to renew which is fair to both parties, providing a true adjustment to market (rent can go up or down and a market incentive provided) will incentivise Tenants to stay. Landlords who want flexibility can be protected by denying the exercise of an option to renew along the lines of the grounds detailed above, so long as sufficient notice is given to the Tenant to relocate, and in some instances maybe compensation paid.
Everyone wants to do the right thing, but Landlords get more kudos from owning and marketing for lease a five-star NABERS and five-star Green Star building, even to the extent they can command a higher rent and protects value through future proofing the building. Tenants tick some corporate responsibility boxes by doing the right thing.
With Landlords benefiting more the following should apply:
A Tenant’s obligation to invest in improving the environmental performance of a building should be discretionary even if it provides a financial benefit and a payback. Every Tenant has different hurdle rates of return and different priorities for their investments and should not be forced to invest in someone else’s building if that is not their investment priority.
Bank Guarantees are an essential tool for a Landlord to provide financial security in the event of a default. The greater the risk for the Landlord the higher the bank guarantee. For many smaller Tenants,the bank guarantee is provided by placing money on deposit to fund the bank guarantee. The weaker Tenants therefore have to place more money on deposit if the bank guarantee is higher. This places the Tenant under even more financial pressure as it constrains their working capital. Greater sophistication is needed in assessing the extent of a bank guarantee required to ensure their adoption is equitable and gives the Tenant the best chance of success and never being in default.
When the lease ends and all lease obligations have been complied with by the Tenant, including make good. Then the bank guarantee should be released by the Landlord immediately. Too often Landlords insist on 90 days to return the bank guarantee. This causes financial harm to a relocating Tenant who will have had to already provide a new bank guarantee for their new premises. It is only a case of taking it out of the safe and handing it back. Three business days tops.
In some leases the definition of redecoration is expanded to include recarpeting, repainting and new window blinds. Let's start with carpets. The lease over a brand-new office premises would have new carpets, freshly painted walls and sometimes window blinds, if required. The carpet has a natural life of about 10 years, maybe longer if looked after, and therefore it is reasonable for the Landlord to incur the cost of recarpeting every 10 or so years. If the Tenant has damaged the carpet, shortening its life then the tenant should replace that portion of the carpet they have damaged. It is totally unreasonable to expect a tenant to have a full obligation to replace a carpet at the end of a 10-year lease. Carpets are base building and should never become the tenant’s obligation to replace. However, if the Landlord installed a brand-new carpet before a lease commenced and the tenant during their fit out removed all or part of the carpet and installed a different floor covering then if the lease expires before the expected life of the original carpet (i.e., say after 5 years) then the Tenant should put back the original carpet or similar.
Tenants should only replace blinds if they have damaged the blinds beyond fair wear and tear. If the blinds are secondhand at the commencement of the lease, then the Tenant should prepare a schedule of condition. General redecoration should not include replacement of blinds.
At the end of a lease there is often a clause to repaint a premises. That obligation may be reasonable if it was handed over in a newly painted condition. However, be careful in the adoption of the words ‘usually painted surfaces. This should be limited to walls and doors and not extended to include painted warehouse floors or painted roof trusses. If a Tenant has painted the walls with their branded colours, then the Tenant should repaint at the end of a lease. Keeping a premises in good decorative order is reasonable. Parties should be mindful of redecoration dates so there is not an obligation to repaint in the last year and then again at expiry.
Where there are obligations on either a Landlord or Tenant to undertake certain actions before a lease can be granted then an agreement to lease is normally entered into. This normally sets out the obligations on the party performing the acts and then upon completion the Tenant agrees to enter into a lease in the form attached to the agreement for ease. Primary example is when a Landlord is developing a building for a Tenant to then lease upon completion. Heads of terms too often omit obligations associated with the agreement to lease and instead only include the lease obligations. When lawyers are instructed to draft documentation, the lease is easy yet the agreement to lease is what takes the time. There needs to be greater focus on Agreement to lease terms in the heads of agreement rather than leave it to the lawyers. Agreement for lease heads should include the following as a minimum:
- Scope of works or PPR,
- Variations to base building works,
- Role of a Project Control Group and/ or private Certifier,
- Definition of practical completion,
- Defect liability period,
- Integrated or non-integrated fit out,
- Programme,
- Key milestones,
- Early access for non-integrated fit out,
- Events of Delay/ Extension of time,
- Damages, and
- Sunset Date.
Property Beyond can provide specialist advice with regard to negotiating leases, interpreting leases and lease disputes. If you are a Tenant seeking to minimise risk and cost then please contact Property Beyond on 02 8094 1999.
