Tools to Make Deals Happen in the 90's: Strategies for Leasing Brokers in a Soft Market

BEITLER COMMERCIAL
14724 VENTURA BLVD.
SHERMAN OAKS, CALIFORNIA

August 5, 1993

I. Introduction

II. Early Termination Rights

A. When to consider asking for

1. If tenant is concerned about rents dropping significantly over the lease term

2. If tenant is concerned about its continued ability to stay in business over the lease term

3. If tenant is older or concerned about his or her health

B. Negotiating alternatives

1. Most aggressive: If tenant is smaller and/or relies on key individual who is older, tenant should ask for right to terminate at any time after 50% of the lease term if he or she becomes disabled or for other medical reasons, upon reasonably short notice (60-120 days)

2. Next most aggressive: Tenant may terminate at any time after 60% of the base term is expired, upon reasonable notice (90-150 days)

3. Next most aggressive: Same as #2, but with tenant paying a termination fee

a. Calculation of fee

(1) Simple method: The number of months the parties agree it will take for the landlord to re-let the premises (3-6 months)

(2) Sophisticated method:

(a) Unamortized portion, as of the termination date, of the monetary concessions granted by the landlord in connection with the transaction, including:

(i) abated rent

(ii) tenant improvement allowances

(iii) brokers' commissions

(iv) moving allowances

(v) lease takeover payments

(vi) signing bonuses

(vii) any other out-of-pocket monetary concessions

(b) May also include an amount equal to rent during the estimated time it will take landlord to release the premises after tenant's default.

(c) Tenant should ask that these elements be calculated at their present value as of the date of payment by the tenant of the termination fee.

(d) While the above-calculated fee may sometimes exceed the amount of damages a landlord would be entitled to under state law and the lease for a default by tenant, this is not necessarily the case if the operative period involves a declining rental market and a significant amount of time remaining on the lease term.

C. Notice

D. Time for payment of fee

1. Landlord perspective: at time of notice, and as condition precedent to successful exercise of termination by tenant

a. May have chilling effect on exercise by tenant of option to terminate.

b. If landlord does not collect fee at time of exercise and tenant does not pay the fee or the rent at the time of termination, landlord may only be entitled to damages under state law which are not always as much as a termination fee.

2. Tenant perspective: either at time of termination or, if landlord won't agree to wait that long, structure over period of time between giving notice and termination date.

III. Personal Liability Issues

A. Applicable situations

1. Where partnership is the tenant and, accordingly, the individual partners are effectively "guarantors"

2. Where there is any guarantor (as a matter of contract) who wishes to limit liability

3. In either situation, the "de facto" guarantor or the contractual guarantor, that individual will be referred to herein as the "guarantor"

B. Conflict exists between

1. Landlord's desire to have partners of a partnership guarantee the lease obligations, and

2. Guarantor's desire to avoid the "joint and several" liability for the partnership's obligations under the lease

a. "Joint and several" means the landlord may sue one or more of the parties to the lease separately, or all of them together, at his option.

C. Objectives of compromise positions

1. To provide landlord with security for some portion of lease obligations beyond the partnership assets

2. To provide tenant with limitations on personal liability of the partners

D. Negotiating Alternatives:

1. Cap on personal liability in event partnership assets insufficient to satisfy lease obligation. Cap based on aggregate value of the out-of-pocket monetary concessions granted to tenant in connection with the lease (see list of possible items to include above).

2. If tenant is partnership, individual partners should attempt to restructure personal liability of each partner from "joint and several" for the full amount of the partnership liability cap to "several liability" for each partner.

a. Partner will be liable only for portion of the liability based upon the total number of partners in the partnership or each individual partner's percentage ownership interest in the partnership.

b. Landlord's perspective: some partners may be judgment-proof based upon incapacity, jurisdictional limitations or lack of financial resources. Methods of dealing with these concerns include:

(1) Increase security by requiring each partner to be responsible for his or her proportionate share plus some additional share (for example, 33%)

(2) Require key partners to be jointly and severally liable

(a) small partnerships

(b) local offices of national partnerships

3. Reduction of liability cap

a. Tenant's perspective: negotiate for reduction on monthly or annual basis commencing at designated time during the lease term

b. Landlord's perspective:

(1) No reduction of cap amount should commerce until all free rent or substantially reduced rent has expired

(2) Any reduction in liability cap revoked if tenant defaults

(3) Notwithstanding any liability cap, partners should remain liable for certain items:

(a) Interest and late charges on amounts due under the lease

(b) Costs incurred in any efforts to collect delinquent rent

(c) Amounts based on tenant's fraud or negligence

(d) Waste of premises

IV. Securitization of Landlord Concession Packages

A. Hypothetical: Lease transaction includes following landlord concessions:

1. 10 months of free base rent

2. T.I. construction allowance of $45 p.s.f.

3. $100,000 payment to tenant as offset for tenant's existing lease obligations which will continue after commencement of new lease term

B. Why tenant should seek some kind of security

1. Quicker and less expensive than lawsuit to specifically enforce

2. Judgment may not be fully collectible

C. Negotiating alternatives

1. Require landlord to deposit funds in escrow to ensure that amounts will be available to satisfy landlord's obligations for lease concessions due to tenant

2. Right of offset of sums owed but not yet paid to tenant by landlord

3. Non-disturbance agreement to protect tenant in event of foreclosure

4. Financing of tenant improvements (see Attachment #1)

V. Americans with Disabilities Act Compliance (see Attachment #2)

A. Signed into law in 1990

B. Comprehensive civil rights law prohibiting discrimination against disabled individuals in areas of, among other things, "public accommodations"

C. Federal civil rights legislation

1. At least initially, those provisions of ADA which relate to commercial properties will not be enforced as part of building code by building inspectors.

2. Enforcement available by private suit or by suit by Attorney General

D. Relevance to existing structures: sets forth affirmative obligations for "public accommodations", including removal of architectural and communications barriers where such removal is "readily achievable".

E. Relevance to new construction and alterations to existing property: establishes accessibility standards

F. Effective dates: generally after January 26, 1992.

G. New leases:

1. Allocation of responsibility between landlord and tenant may be determined by the lease.

2. Legislative Guidelines

a. General prohibition against discrimination applies to "any person who own, leases (or leases to), or operates a place of public accommodation."

b. Under this definition, both landlord and tenant will be liable for compliance obligations.

c. Length of remaining term will not be a factor in whether the landlord or the tenant is liable, but it will be relevant in determining what is readily achievable for a tenant.

d. Party undertaking new construction or alterations will be responsible for compliance.

3. Drafting recommendations for landlords. Include clauses which:

a. Require tenant to comply, on an ongoing basis throughout the lease term, with all requirements of ADA at least with respect to non-structural elements in the tenant's own premises and tenant's activities in the building.

b. Provide indemnity from tenant for all costs of any kind incurred by landlord with respect to tenant's failure to so comply

c. Allow landlord to pass through, as part of operating expenses, any costs incurred by landlord in complying with ADA.

d. Modify alterations clause to permit tenant to do ADA compliance work in premises.

e. Eliminate all discriminatory provisions

(1) No prohibitions against parking van in the building garage with relation to disabled individuals

(2) No prohibitions against service animals

4. Drafting recommendations for tenants:

a. Request a representation and warranty from the landlord that the building and all its common areas comply with the requirements of the ADA and an indemnity from landlord with respect to all costs incurred by tenant as a result of any such non-compliance.

b. Provide that any increased costs and/or delays encountered by tenant in building out its space because of failure of building or common areas to comply with ADA will be landlord's responsibility.

c. Provide that any future alterations to common areas of building, to the structural portions of the building or to any tenant space that is required in order to comply with ADA will be the responsibility of the landlord and, preferably, should not be included in the operating expenses that are passed through to the tenant.

H. Existing leases for places of public accommodation.

1. Landlords should not rely on typical "compliance with law" provisions found in most leases in order to establish tenant's responsibility to comply with ADA.

a. California cases clearly support proposition that where alterations or improvements are substantial, a tenant's covenant to comply with applicable law, standing alone, will not shift the compliance burden from landlord to tenant.

I. Regardless of how responsibility for compliance is allocated under the lease, both parties should keep in mind that they may be ultimately liable to all third parties for compliance.