Tenant Improvement Decisions

Tenant improvement Decisions

Let’s go over how a Landlord will or will not consider TI allowances for a warehouse space: There are 3 primary factors to consider.

Cost:

An owner will typically calculate the total consideration of the lease by multiplying the monthly rent by the term of the lease. The result of the calculation is the gross amount of revenue that the owner will receive from you as the tenant over the full term of the lease. Using the figure, the Landlord has calculated, they will make a determination whether to invest a small percentage of this future income to secure a tenant.

Tenant improvement decisions such as painting and carpeting the office areas re- painting the warehouse and office walls are standard finish out. Also damage to dry wall would be a standard finish out to make the space ready. Some tenants want improvements over and above normal turnover renovation.

Here is an example: a tenant requests that new lighting in the warehouse at a cost of $10,000 and the total gross income of the lease was $1,000,000. Chances may be good that the owner would accept this TI request. Tenant improvements

On the flip side, if the tenant requests that the power service to upgrade to 3 Phase power at a cost of $100,000 and the lease income was $750,000 it would be a tough negotiation. The negotiation aspect is tougher because the upgrade cuts into revenue too much for the owner.

Resources:

The Landlord has to assess the amount of cash they have on hand to fund tenant improvements. Most owners have a tenant improvement “savings” from the rents received in the past for (paint, carpet, etc.). If there is a mortgage on the property, most commercial real estate lenders will require a reserve for replacements.

Reserves for replacements allows the owner to not spend all of the income received jeopardize his ability to re-let the space when a tenant vacates. Would a tenant be required to pay for improvements? Yes, if the Landlord does not have the funds they may provide an abatement concession to wash out the tenant expense.

Types of Tenant Improvements:

Some tenant improvement decisions provide value to the tenant occupying the space and no value to the landlord. Some improvements such as adding a dock to the warehouse may provide value to the landlord for marketing the property down the road. Specialty improvements defined as interior type improvements that are re-done after the tenant moves out.

Title Insurance

by Steve Shire

Title Insurance – What does it really do?

When talking about title insurance the question arises , what does it really do for a buyer? When you purchase an Austin office property such as a condo or building, you will be receiving Title Insurance. In a nutshell title insurance provides the buyer with assurances that the property they are buying has no impediments against it such as mechanics liens, judgments against the seller, restrictions on the property etc. That the property would convey to the new owner without any issues and if there are the title company may be liable.

Digging a bit deeper

Under a lender’s title policy the buyer has no protection. Purchasing an owner’s title policy is an option not a requirement which would be of personal benefit. The cost of the owner’s policy is dependent on the purchase price of the property. If the owner’s policy is purchased first then the title company will issue a lender’s policy for alot less money as long as the loan amount does not exceed the sales price of the property. So if the sellers provide the buyer with an owner’s policy then the buyer can purchase a lender’s policy for around $100 which does not include any endorsement charges. The savings is significant enough on a lender’s policy to do it this way.

Next Steps?

Next the buyer should ask the seller for a survey that provides information for amending the title policy to read “shortage in area” only. By doing this the policy insures against discrepancies, conflicts, encroachments or overlapping improvements provided on the survey. Unless a specific endorsement is purchased, it will not provide for coverage in shortages in the area. The current cost (as of this blog writing) of an amendment when purchased by a person and not a business is 5% of the base premium for the owners policy or approx $72 on a $200,000 owner’s policy. Hopefully, the seller will accommodate the buyer’s requests for this , or the Buyer can purchase these items.

Breaking an Office or Warehouse Lease

by Steve Shire

Breaking an office or warehouse lease

Long term leases, may have provisions in them for a tenant to leave early. Maybe your landlord is looking to relocate you as a tenant in essence breaking an office lease in place , or maybe you as the tenant is looking to move into a new space that is more suitable?

There are times in Austin commercial real estate when the usefulness of the lease has run its course before the term has ended. As a tenant, there are some actions that can be taken to protect yourself before executing a lease so that during the lease term you will maintain some flexibility.

Before you execute an office lease

We always suggest that you have an attorney review your office or warehouse lease

Here is what is important , make sure you hire a commercial real estate attorney that is familiar with Texas based lease contracts, you will want to ask an attorney for review if your office lease seems complex or the language in it is hard to comprehend. There can be large office leases or relatively short leases that have easy or tough language within the lease. Potential problems can be avoided with some by having your attorney translate and offer modifications regarding the details of your office or warehouse lease. Simple straight forward leases tend not to need the oversight, but it is always the tenant’s decision as to engage with an attorney or not.

Buyout or termination provisions in breaking an office lease

During the negotiation process, if a tenant feels they are going to expand or need to move , your Broker can help you find a way to work in buyout or an out clause into the lease. When negotiating a lease is making sure there is a termination option if it applies, let’s be straight forward on this , they are not easy to attain unless there is a legitimate reason to have this. Tenants with office or warehouse leases longer than five years may want this clause in their lease. A right to terminate will not be offered voluntarily by your landlord, rather, it is something your broker will need to establish before singing.

During your office lease

Record all the issues you have had

Keep records in an organized manner regarding issues with the space you have been leasing and how long management (landlord) took to repair or fix the issue. Perhaps this can be used as leverage if you need it, however don’t bank on this being the pivot point to allow breaking an office or warehouse lease.

Sublease as an option?

A tenant should be able to sublet their space , this typically happens when the space is no longer suitable due to downsizing requirements or up-sizing requirements. They key is your broker will help you review your sublease language, be careful some leases have heavy fees involved in them and the landlord will get paid extra if you elect to sublease your space to another tenant called the sub-lessee.

Other Options to breaking an office or warehouse lease?

Ask your broker to have a conversation with the landlord

Your broker may have a greater understanding of how leverage your termination.

Rent reduction towards the end of your term?

This option has teeth in a tough market, with good markets it is not a high probability option unless you as a tenant have been very good about paying your rent on time for most of the term of your lease. Of course this is a win-lose option in a good market because it does not benefit the landlord and the tenant, only the tenant benefits in this situation.l

City of Austin Permitting

by Steve Shire

City of Austin Permitting

The permitting process in Austin is a bottleneck for some and an easy transition for others. How do you navigate thru the ups n downs for commercial real estate with the City of Austin and its permitting process?

Overview

It depends on what you have to do these include :

Commercial Tenant Finish-out Permits
Commercial Shell Permits
Quick Turn Around Permits
Demolition Permits
Apartment Building Permits – New Construction
Apartment Building Permits – Renovations
Phased Franchise Permits
Mobile Vendor Permits
Health / Industrial Waste Permits
Business Change of Use Permits
Site plan exemptions / corrections
Restaurant Permits
Bar Permits

Zoning and Site Plans

When a property has renovation or finish out, a tenant or buyer has to make sure the property is properly zoned. Zoning is for the usage they intend to have when they occupy the property. Most properties have an existing site plan in place unless it is a to be a construction property. If there is a “change of use” to the existing commercial space , the City of Austin will have to verify the property meets zoning. This includes parking and ADA accessibility as well as ingress and egress. Starting from a development standpoint, the developer will have to provide a site plan to submit to the City of Austin for permitting review.

More on City of Austin Permitting

There are different types of permitting , electrical, HVAC , plumbing etc..

When there is work that requires 2 or more contractors to work on the space permitting from the City of Austin is required. There are also Quick turn permits which are 5,000 SF or less for office and retail sales occupancies where hazardous materials are not being utilized. Quick Turn permits require no exterior remodels that increases the square footage of the commercial property. A phone call can be made to the Development Assistance Center for quick information about the permit process before a tenant signs a lease.

Inspections & Certificate of Occupancy

Once the plans are approved and the contractors commence work, the City will send an inspector out to check compliance with City codes. After the improvements are inspected and verified a certificate of occupancy is issued by the City of Austin. A C of O is given so that a business can start operating. There are stories of inconsistencies and bottlenecks with the City of Austin permitting process. Be prepared, permitting takes time even though the City is trying to re-write the development codes. As of the writing of this blog article, typically it is 60-90 days for major changes to a property.

What are Tenant Improvements?

by Steve Shire

What are Tenant Improvements and what can I expect?

Tenant improvements are commonly called “TI” for short or “tenant improvement allowances”. As a tenant, you have the potential with any landlord to have your space be it Retail, Office or Warehouse property be improved. The mistake most tenants make fall under the following categories:

Expecting the landlord to do too much of the improvements
Under-estimating the true costs of the improvements
Not understanding how the allowances work
What is meant by “move in ready space”

Let’s tackle each of the bullets above to provide some clarity on what is expected. Let’s shine some light on the true reality for a tenant leasing a commercial property.

Managing Expectations for Tenant Improvements

For all commercial properties a property owner has exposure, or risks. These risks equate to money, dollar and cents- meaning if a landlord dedicates funds to finish out a space depending on the cost. The owners have to measure their exposure. It is just being smart about how they mitigate their risk with a new tenant. The higher the allowances to make the space ready for a tenant, the more the money gets amortized into the base rent.

You can also use more term from the tenant to absorb the costs. Keep in mind , as a tenant you want a good deal, but the landlord wants to make positive cash flow. Any type of fixture that is not permanent does not stay with the property. This is usually on the tenant’s nickel , this bodes especially true in Retail situations.

Costs of construction and improvements

Typically, all estimates are approximately 15-20% under quoted. Unfortunately it is not usually in the favor of the tenant. The construction process has be managed whether the tenant is using the landlord’s contractors or their own. You do not have an inordinate amount of time to get your tenant improvements done. If you are using your own contractors and they delay your construction it could eat into your operational period. Highest costs are always HVAC, re-routing electrical and plumbing .

Allowances and how they work – Move in Ready

A commercial property is made move in ready when tenant finish out is “substantially complete” that means a tenant can take possession of the space and start running their business fairly quickly. Again, all non permanent fixtures are the tenant’s responsibility, if it does not stay with the commercial property then it is not the landlord’s concern. If a landlord dedicates funds to finish out your space that means the ceiling is what they offer. As an example if $10,000 is dedicated that means that is all you have , if a tenant can provide the finish out at a lower cost, they do not get to keep the money left over. Also, the landlord never cuts a tenant a check and says go ahead and finish out your space , it is always controlled.

Business interruption during a lease

by Steve Shire

Business interruption during your lease

As a tenant and a business owner you want to protect yourself from potential risks that can interrupt your business. Broken building equipment as well as faulty building equipment may compromise you ability to run your business. What happens when your business is interrupted during your lease term? In Central Texas is can be caused from extreme weather or the equipment that is not serviced for a long period of time.

Perhaps the HVAC is on it’s last leg and needs replaced. If there is any property damage it will keep your business from operating correctly. These types of instances would include hail storms, wind damage, fire etc.

Business Interruption during an Office Lease

What is in a lease to protect my business?

Most but not all leases “standard” office leases drafted by the landlord state that if essential building services such as (electricity, HVAC, etc.) are interrupted, your lease payments continue as if nothing has gone wrong. Tenants should be aware of this and negotiate this to make sure they are covered and not stuck since the office you are leasing has services incorporated into the space that are a fundamental part of the lease and the landlord should be responsible , or at least attain part of the risk of business interruption.

Solutions for service interruption?

Tenants should negotiate a provision in their lease which provides some type of relief in the case of business interruption that lasts more than 3 to 5 days. If there is a service interruption that is much longer then a cancellation of the lease may be in order if the issue lasts more than 60 to 180 days.

One way to ask for a concession is by asking for it to be in the form of rent abatement. Most landlords will be acceptable to these modifications to a tenant’s lease. The key element is that the provision should give the landlord a reasonable amount of time to repair and restore essential services. But if the business owner does not raise this issue in the negotiation, they are unlikely to receive any concessions for a long period of service disruption. Keep in mind, free rent and lease termination for extended service interruptions are fairly common and generally acceptable practices.