Landlords
provide financial incentives to tenants in the form of work
and free rent . In general,
landlords want to provide tenants with an incentive to lease
space in their buildings. In general, landlords want to provide
tenants with an incentive to lease space in their buildings.
Landlords' willingness to provide these incentives depends on:
- The strength of the market
If there are few availabilities in a given market or
submarket, the landlord has greater leverage in
negotiations.If there is a lot of vacancy in a particular
market or submarket, the tenant has greater leverage in
negotiations.
- The tenant's financial position
The landlords' desire to have a particular tenant lease
space in its building for reasons such as tenant's financial
position or "credit", or the tenant company's
stature in a particular industry that the landlord wants in
the building (i.e. focus on telecommunications or e-commerce
companies).
- The landlord's financial position
The landlord's ability to grant concessions is often
governed by the money that it has financed to grant as
concession dollars.
Work
This discussion focuses primarily on space that requires
moderate to significant construction, particularly raw space.
If the landlord is leasing the space as pre-builts or
"as is", you should not expect much, if any, in
financial incentives to make alterations to the space. If
you take space "as is", you may be able to negotiate a
minimal cash allowance for "paint and carpet" which
may equate to something in the range of $5-$8 psf in the
Manhattan office market.
Landlords quote work incentives in different ways and using
different lingo. The basic issues that should concern you are:
(1) who is responsible for the doing the work; (2)who bears the
construction risk; and (3) how much of the total cost of all of
the work required is the landlord offering in cash and/or in
actual work.
The most typical ways and language used by landlords in
offering incentives for tenant work are as follows:
Cash Allowance
A common way for landlords to provide work incentives is for
the landlord to agree to provide a specific amount of money
typically quoted as a per square foot allowance. While the
most common way is to offer cash, landlords may offer free
rent in lieu of cash allowance (see below). The tenant would
be responsible for any costs in excess of the cash allowance.
An example is as follows:
| $/psf |
| Landlord
cash allowance |
$30.00 |
| Total
tenant construction cost |
$70.00 |
| Amount
tenant will pay |
$40.00 |
For a 3,000 square foot lease, the tenant outlay in the
above example would be $120,000.
Responsibility for construction.
With this type of arrangement, the tenant is then generally
responsible for building the space including hiring the
general contractor or construction manager. Tenants can of
course hire appropriate consultants such as a project manager
to help them, but this method will generally require a much
greater time and effort commitment on the part of the tenant
regardless of which consultants are used.
Payment process.
Landlords typically pay the allowance in arrears upon receipt
of agreed-upon documentation or invoices. The tenant therefore
may initially have to come out of pocket for an even greater
amount than the $120,000 in the example above, and then be
repaid after some period by the landlord.
Use of Funds.
The landlord will typically require that a majority of the
cash allowance be applied to "hard costs". Hard
costs are longer-lasting improvements to the space such as
HVAC equipment and ducting, walls and plumbing. These types of
expenditures help benefit the long-term value and viability of
the space. Landlords prefer that as much of the cash as
possible they give you go to improve the value of the
building. In contrast, tenants prefer that the cash given by
landlords be applied to all cost expenditures including
consultant fees, furniture, artwork, refrigerators, etc. that
do not necessarily bring long term value to the space.
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Free Rent in Lieu of Cash Allowance
In this instance free rent is given to the tenant to offset
money it commits to spend to improve the space.
Pre Built
As the name implies, the landlord has already built out the
space to general specifications that it thinks will meet the
requirements of most small businesses. In the recent tight
market, landlords have begun building out space before they
have specific tenants in mind. Pre-builts are typically for
smaller spaces in the 2,000 to 7,000 square foot range. With
pre-builts, landlords will generally offer no work, except for
possibly very minor modifications. Pre-builts obviously offer
the advantage of being able to move-in quickly and begin
business if the already completed build out meets the
company's needs.
Landlord Workletter
Landlord workletters were common in the 1980's but are
infrequently offered today. With this method, the landlord
delivers a letter that lists the work it will do (i.e. provide
so many feet of drywall, number of doors, yards of carpet
etc.). This method requires a good understanding of all of the
construction needs of the space. It also requires extensive
negotiations during the lease process because it requires the
attorneys to carefully craft the language and appropriately
reflect what quantity is received.
The issue in this process is to insure that the landlord
does not substitute materials of lesser quality. Someone from
your company or an outside consultant/project manager needs to
be closely involved with the construction process to ensure
that you receive the materials and execution for which you
bargained.
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NBI (New Building Installation)
As initially coined, this term implied that the landlord would
deliver a build-out based on its pre-determined specifications
(i.e. certain HVAC capacity, light fixtures, carpeting, wall
finishing, etc.) However, you should inquire about the
specific intentions of the landlord because the provision of
the NBI could be: (1) the landlord builds out the space and
delivers it to you - like "Turnkey"; (2) the
landlord provides you with a Cash Allowance that covers what
the landlord thinks a build-out to its pre-determined
specifications will cost you.
Turnkey/Build-to-suit/Design build
These terms of art imply that the landlord bears all of the
construction risk and delivers completed space to you based on
agreed upon specifications. As with the Landlord Workletter
method, these methods require negotiations with the landlord
and may require coordination and oversight to ensure that you
receive the build-out to which you agreed.
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Free Rent
Free Rent is typically quoted as a number of months of
abatement in base rent at the beginning of the lease term. Free
rent abatement does not typically include abatement of electric,
operating or tax costs and escalations. Less common is abatement
of months of rent later in the term. Free rent is market-driven
but usually is intended to cover at least the construction time
period, if any, required to build out the space. Additional free
rent after move-in is negotiable. With pre-built space, the
landlords will less likely want to give free rent because they
have invested money up front and want to begin receiving a
return quickly.
