Walking away from a lease negotiation deal

by FM Media
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Rodney Timm, director Property Beyond Pty Ltd, explains what you need to consider before signing a new lease or renegotiating your existing agreement.

It is no secret that commercial lease agreements expire on a regular basis. Too often the decision – to stay or to relocate – has to be made when time is precious and efforts to scour the market for alternative premises are rushed. Even renegotiating your existing lease arrangements with the landlord can be extremely time consuming.

But, if planned ahead, these opportunities offer exciting times. Lease expiration can be a catalyst for change or relocation, and better planning or restricting of existing space – in other words, the ideal opportunity to implement corporate change. It is also the time when existing landlords and market players start the seduction process. With great financial offers and other corporate enticements, all will outline how their building is the only rational and emotional choice for your accommodation needs.

Factors like securing a good commercial outcome, the right premises and a customer-focused landlord are all dependent on the preparation for negotiations and the time remaining prior to the relocation. Too often the required ‘go-to-market’ time is underestimated, which means there is not enough time to negotiate viable and cost-effective alternative premises.

Go to market

Before you start engaging with the market, you must prepare an accommodation brief – outlining your requirements and objectives. This brief will invite offers of alternative accommodations and, while most options usually comply with the brief, some may not be suitable for the requirements. Once you’ve shortlisted two or three options – possibly also including a new offer from the existing landlord – serious negotiations can begin. As discussions progress, the relevant parties will agree upon a non-binding Heads of Agreement (HoA) document, which indicates that the deal will be soon consummated. But often as the finalisation of the formal documentation commences, the first signs of landlord intransigence emerge.

What had earlier appeared to be minor lease details now appear to be major non-negotiable issues. The preferred option landlord – either existing or new – knowing the commitment to their building and that time for the relocation is very tight, often seizes the opportunity to extract maximum commercial advantage. Though it may seem a minor irritation at first, as the landlord starts reneging more openly on previously agreed terms, tough decisions need to be made.

What are the consequences of walking away from the deal? There is no easy answer. The impact will depend on the deal preparations.

Planning ahead

The essence of planning is taking the effort to prepare a well-defined accommodation brief after engaging with all key stakeholders. Most important is to have ample time to deal with any potential negotiating games by the landlord, and with a detailed negotiating and relocation program. And then stick to the plan rigidly. Landlords, particularly the incumbent, are experts in delay tactics. Delays are orchestrated to ensure there is insufficient time to consider alternative options.

As part of the planning, prepare a relocation risk register defining the corporate risk appetite with steps to mitigate those risks. Don’t get stuck in negotiating inertia. If an action is required – don’t delay, act immediately.

Key to the negotiating strategy is having a credible Plan B even once the HoA for Plan A (the preferred option) has been signed. Prepare to switch rapidly if Plan A gets stuck for some reason, such as landlord intransigence or getting leased to another party. When deciding to walk away, look at both the risks and the costs involved. If the future tenancy is exposed to unnecessary risks and obligations impacting operations, don’t accept the unacceptable obligations – particularly financial.

Most important, don’t allow the key stakeholders to ‘fall in love’ with one particular building. This makes the decision to walk away far more complex. Objectivity and rational thinking are key to the final decision.

Heads of Agreement

Typically HoA, even though usually non-binding, is a professional commitment from both sides to honour the deal. HoA should be comprehensive – covering all key terms, not only the commercial terms, protecting occupancy rights. This process will remove ambiguities in the lease documentation stage, which reduces the risk of key items being renegotiated by the landlord.

Generally, non-binding HoAs with no contractual commitment are preferable. Ideally, these will be subject to approval by the board and finalisation of lease documentation. Approval can be a two-stage process: conceptual – to progress the transaction, and final – once the lease documentation is to be signed and the capital committed. In some circumstances, HoAs may be binding on the parties. This may be required in ‘heated’ markets when the landlord’s commitment to the deal is essential, even though the lease documentation will likely be challenging. Of course, on a binding HOA, it is challenging for either party to walk away.

Agreements for Lease

If the preferred accommodation option is a building – under-construction or completed – there will also be the need to finalise an Agreement for Lease (AFL). This can be a complex document. By their nature, AFLs define that the developer will have responsibility for most actions, including obtaining the Development Application approval, constructing the building to the agreed specification and having it ready for occupancy by the agreed date. By contrast, the main obligation of the tenant will be to sign the lease agreement although there may be inputs into the standards and design of the finishes.

AFLs are often structured with ‘all care’ statements, which outline all the points of action, but do not define them as binding responsibilities. Usually, indemnities from the tenant are required that the liability of all delays is passed onto the builder, with the developer having no responsibility. There may also be an absence of clear commitment to deliver on specific performance standards such NABERs (the National Australian Built Environment Rating System) or Green Star environmental ratings. The problem for the tenant is that once these non-performances are evident, it is usually too late to walk away from the deal. Therefore, remedy provisions to be guaranteed by the developer are essential.

Honour of the deal

The landlord market tends to have long memories, so stand by the terms of the HoA once it is signed, even if it is non-binding. Avoid renegotiating conditions accepted in the HoA documentation, if you have a change of mind. If there has been a genuine mistake or difference of interpretation, be prepared to renegotiate, but don’t use this opportunity as an excuse to walk away.

If there has been a change in business direction during the negotiation period requiring key lease term adjustments, don’t attempt to withdraw from the transaction, blaming the inability to agree. It is best to be honest, explain the challenges and changes required to drive for a negotiated solution rather than expose the company to potential litigation. Walking away from the deal because the business strategy was not properly thought through in the beginning of the process, will likely cause future issues for your company. Next time you go to market, it is likely that landlords and developers will not take your requirements seriously.

Property executives seldom win friends in the market by walking away from a deal, even if justified. But they end up with fewer friends within their own company if they don’t walk away from a bad deal that has significant negative operating or financial effects.

Rodney Timm is the director of Property Beyond.

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