Top 10 Mistakes Made When Leasing Office Space

After payroll, office lease expenses are generally the second highest expenditure for a company. The impact office leasing has on a company goes far beyond the bottom line; it plays an important part in employee retention, the level of productivity, and workplace morale. It is for these reasons that companies should work on ensuring that their office lease allows a business to thrive.

The following is a list of the top 10 mistakes that business owners frequently make when they do not have professional assistance with regard to leasing office space:

1. Not Understanding that 1 square foot does NOT always equal 1 square foot.
2. Not Designing the New Space Prior to Lease.
3. Not Understanding the Expenses.
4. Not Reviewing any Restrictions or Limitations with Regard to Parking.
5. Not Asking Questions about Signage.
6. Not Anticipating Future Growth or Contraction.
7. Not Contemplating the Need to Assign the Lease or Sublet the Space.
8. Not Understanding the Work Letter.
9. Not Reviewing the Building Systems.
10. Failing to Hire the Right Professionals.

1. Not Understanding that One Square Foot is Not Always One Square Foot

There are a host of square foot measurement techniques that are vastly different, the most common being rentable square feet, usable square feet and gross square feet. A company may be renting 4,000 square feet in an existing building and looking to move to a new building and lease 4,500 square feet and end up with less usable square feet. Since rentable square footage includes usable square footage plus a share of the "core area" (i.e. hallways, common bathrooms, main lobby, etc.), it is important to ensure that the measurement system (i.e. rentable square feet v. usable square feet) is consistent. However, even if both buildings use rentable square feet, it is still likely that 1 square foot will not equal 1 square foot as the buildings may have a different core factor. It is also important to understand what a building's core factor is with regard to comparison shopping.

2. Not Designing the New Space Prior to Lease.

Similar to not understanding the different measurement systems used, many prospective tenants fail to have a space planner lay out their office or do a test-fit. In a tenant's market, many landlords will allow a prospective tenant to have the landlord's space planner design space on behalf of the prospective tenant at the cost and expense of the landlord to ensure that the space will be sufficient for the prospective tenant's needs. Failing to do this in advance of signing a lease may cause a tenant to end up with space that does not meet its business needs.

3. Not Understanding the Expenses.

When leasing office space, there is typically a base or minimum rent that is based on a price per square foot, along with the tenant's responsibility for payment of a percentage of the operating expenses of the building. Some office leases are on a "triple-net" or "NNN" basis, which means that the tenant pays its pro rata share of (i) real estate taxes and any community association fees; (ii) the landlord's insurance on the building; and (iii) operating & maintenance expenses of the building that frequently include janitorial, landscaping, snow removal, HVAC maintenance and utility bills used for heating, lighting and providing water to the common areas of the building. Some office leases also provide "base stops" for some or all building expense items, meaning that the tenant would only be responsible for its pro rata share of expenses that exceed a certain designated base year (i.e. the year that the tenant began occupancy of its space in the building). When signing a lease on a NNN basis without any "base stops", it is very important for a tenant to understand what these expenses were in the previous year or two.

There are several other types of leases including "full service gross" and "modified gross" leases. A full service gross lease is one in which the landlord is typically responsible for the payment of taxes, maintenance, insurance and utilities, and the tenant is typically responsible for any excess utility consumption beyond building standards and its proportionate share of any increases in operating expenses over base stops. A modified gross lease is typically similar to a full service gross lease other than the fact that some of the base services are paid for by the tenant, such as building maintenance, janitorial and electrical.

4. Not Reviewing any Restrictions or Limitations with Regard to Parking.

Not only is it important to review the current parking ratio for the building and whether there is a reserved parking space regime in effect, but also assess what type of parking space users may be in the building and whether there are any limitations or restrictions on certain types of heavy parking space users from locating in the building in the future. Telephone calling centers, medical offices, sit-down restaurants and health clubs are sometimes located in office buildings and typically need many more spaces than traditional office users. It is important to understand whether any of these users could lease space in the building in the future from a zoning and parking space perspective.

5. Not Asking Questions about Signage.

A prospective tenant should be sure to ask questions and understand what signage is allowed, what signage will be prohibited and what approval rights the landlord will have in this regard. Will there be any exterior building signage allowed and if so, what are the limitations? Is there a marquee sign outside the building that lists the names of each company in the building? Is there an interior building central directory or electronic tenant display? With regard to signage, it is wise to have the landlord agree in the lease or letter of intent to any specific signage requirements instead of waiting until after the lease is signed.

6. Not Anticipating Future Growth or Contraction.

In a large office building or office complex, it is sometimes possible for the landlord to completely relocate a tenant that needs more space to accommodate its needs, however it is more practical for a tenant to grow without having to move. As part of the lease negotiations, it is sometimes possible for the tenant to have a right of first refusal to lease some or all of the adjacent space when a neighboring tenant leaves. To the extent that the tenant is requesting a right of first refusal, then it is also wise to understand the length of the remaining lease term for the adjacent tenants along with any lease renewal or extension options. Sometimes the landlord has the right of relocation to move existing tenants in order to accommodate a new tenant or an existing tenant that is growing. It is important to understand whether the landlord has this right and how often it has been exercised in the past.

On the other hand, some landlords may agree to provide tenants with an automatic ability to terminate their lease if certain changes happen in the industry or in the tenants' business after a certain period of time. For example, if a government contracting tenant loses its prime contract, then the landlord may agree to include a provision that provides the tenant with the option to terminate its lease. Or, if legislation is passed that puts health care brokers out of business, then the landlord may also agree to include a provision that provides them with the ability to terminate their lease.

7. Not Contemplating the Need to Assign the Lease or Sublet the Space.

To the extent that a landlord will not agree to provide a tenant with the automatic ability to terminate its lease if certain changes occur in the industry or in the tenant's business after a certain period of time, then it is very important to negotiate the assignment and subletting provisions of the lease.

To the extent that the tenant intends to sell the company or its underlying assets or merge with another company during the lease term, or to the extent that the tenant is in an industry where it may receive an unsolicited offer to purchase, then it is wise to determine what type of approval is needed by the landlord to permit an assignment of the lease to another party and whether any guarantors of the lease may be released from their obligations. Is an objective standard provided for by the landlord such as the assignee having a net worth at least equal to or greater than the tenant at the time the lease was signed? Can the landlord refuse to grant its approval in its "sole and absolute discretion" or must the landlord use "reasonable discretion"? Is there a review fee and/or attorney's fees that the tenant will be charged by the landlord or the landlord's attorney for reviewing the request and preparing any necessary documents?

With regard to a sublease, it is equally important to understand what type of approval rights the landlord has and whether there is an objective standard for granting a sublease or whether it is subjective on the landlord's part.

8. Not Understanding the Work Letter.

To the extent that the space is not ready for the tenant and needs to be built out to suit the tenant's needs, then the landlord typically provides a work letter that specifies what work the landlord will be doing and how much of a tenant improvement allowance will be provided for the tenant's benefit in this regard. If the landlord or landlord's contractor is performing the build-out, then it is important to understand whether the build out allowance will be sufficient or whether the tenant will need to expend additional funds. It is important to understand whether the landlord is charging overhead, profit or supervision on top of its general contractor, or if the landlord is self-performing the work then what "soft" costs will be charged to the tenant. If the landlord or landlord's contractor is performing the build-out, then the tenant will still need some time after the build-out is complete to install its phone system, computers, furniture and other items. The tenant should negotiate sufficient time to complete this additional work before it is obligated to begin paying rent under the lease.

If the landlord is not providing a contractor to perform the build-out work, then the tenant needs to understand what type of approval rights the landlord has in this regard and how the improvement payment mechanics will work. To the extent that the tenant has received a $100,000 tenant improvement allowance and the tenant hires its own contractor to perform the work, will the landlord pay the first $100,000 directly to the contractor? Will the landlord reimburse the tenant within 30 days of the tenant paying the contractor or will the landlord only reimburse the tenant once the build-out is complete and the tenant has occupied the premises and begun paying rent?

9. Not Reviewing the Building Systems.

Prior to signing a lease, it is important for a tenant to ensure that the building's capacity for electrical, networking, and heating, ventilating and air conditioning (HVAC) are sufficient to support the tenant's needs. What type of internet connection is currently available to the building and what bandwidth is available on this network? To the extent that the tenant is looking to use a voice-over-internet-protocol (VOIP) for its telecommunication needs, then it is important to understand whether the building can support this or whether additional communications lines will be required. To the extent that the tenant has special equipment for its industry (i.e. medical tenants) or has more electrical equipment than is standard for a traditional office user (i.e. computer data center), then it is important for the tenant to ensure the sufficiency of electrical and HVAC systems. If these systems are not sufficient, then the tenant may need to spend significant sums in upgrading the building's electrical system, installing supplemental HVAC systems or back-up generators or redundant power supplies.

10. Failing to Hire the Right Professionals.

A business owner that hires a commercial real estate broker and a knowledgeable legal advisor who regularly represents tenants in leasing office space can help prevent all of the mistakes identified in this article along with many others. A business owner should hire and consult with these advisors in the early stages of its search for office space.

At the Law Offices of Kirk Halpin & Associates, P.A., our experienced lawyers are committed to providing each client with the personalized attention and counsel that is necessary to achieve a favorable legal result. Our skilled attorneys are leaders in the central Maryland legal community, and they stand ready to assist you with your real estate, general business, contract and other legal needs. Contact us today by calling Kirk Halpin at (410) 531-1700 or by emailing him at [email protected] or learn more by visiting our website at www.halpinlawfirm.com.