For some struggling companies, there may be a lease renegotiation strategy that can help alleviate the financial stress their leased office space is creating. In many cases, these challenged businesses are weighed down with the burden and cost of unused office space, whether it’s because they’ve let people go, they’ve had to accommodate their employees’ desire for hybrid or work-from-home arrangements, or they’ve had employees quit due to a back-to-office mandate. As these business leaders consider their options, they should realize that their landlords also are feeling pain in this economy … and this opens the door to a solution that can help both parties make the best of their respective bad situations.
Presently, many tenants are downsizing their footprint, and some are going fully remote, leaving leased office space unused (a financial burden for tenants). And if a struggling company ultimately fails due to this or other reasons, previously leased space is now unoccupied and not generating income (a financial problem for landlords).
As of the date of this posting, office vacancy rates in the Greater Denver office market hit 16.1%. By this time next year, the rate is expected to top 18%. At that point, 10 consecutive quarters of slowly increasing rental rates will reverse, and rents will slowly start declining for the foreseeable future as inventories of office space increase and asset values decrease.
How can tenants remain in business and pay only for the space they need? How can landlords keep their buildings occupied and avoid defaulting on their loans?
They can come together using a strategy called early lease re-structure and re-forecast.
Here’s how it works. When a company is facing economic challenges, and paying for unoccupied space is a contributing factor, a landlord may agree to renegotiate and downsize the tenant’s existing space during the current lease term, before the natural lease termination date. After all, if a landlord sees that a tenant is in danger of closing its doors, in most cases they would prefer to get something rather than nothing. For them, finding a new tenant for that space is time consuming, not to mention expensive when they consider all the deal costs incurred as a result of re-leasing a vacancy.
Whether or not there’s a reduction in the rental rate itself, the company will save big money by paying for fewer square feet and paying a smaller share of the building’s operating expense charges on that reduced footprint. In return, to benefit the landlord, and as implied in the “re-forecast” element of the deal, the new lease extends the date of the previous lease expiration as agreed upon, ensuring continued occupancy and, more importantly, continued income. The landlord and their lender know that should a sale need to occur, this additional lease term will support a higher market sale price for that property than if the space was vacant.
Tenants should be aware that in an early lease re-structure and re-forecast negotiation, they won’t be in a position to seek additional financial concessions in the same way they could if they were negotiating a new lease or renegotiating a lease extension according to the originally agreed upon lease termination date. Even so, this scenario can create a “win-win” situation for both the business owner and the building owner.
If you’re wondering whether an early lease re-structure and re-forecast can be arranged for your business, contact our team to review the numbers and discuss the pros and cons.