For most businesses, an Offer to Lease will be one of the most important business contracts that they sign. This is not surprising when one takes the time to calculate the hefty financial obligation of the rents payable over a customary five or ten year term. However, what is surprising for most business owners is that what they perceive to be merely an “offer” is more often than not a binding and lengthy lease arrangement. Even worse, a business owner that just signs the landlord’s standard Offer to Lease form without asking for reasonable business changes will often lose out on the opportunity to later negotiate more favourable lease terms. It is at the Offer to Lease stage that a landlord is more amenable to tenant-friendly concessions in order to persuade the tenant to lease the space. For these reasons, and many others, business owners should always proceed with caution when presented with an Offer to Lease by a landlord. A prudent business owner will treat the Offer to Lease as the lease itself and ensure that it is thoroughly reviewed and negotiated prior to signing to ensure that his or her interests have been properly protected and that onerous terms have been appropriately amended or, better still, removed.
A discussion of all of the considerations at play when a tenant is presented an Offer to Lease is outside the scope of this article; however, the following are a few important points that should be addressed prior to signing on the dotted line. The list below is by no means exhaustive and a tenant should always obtain proper legal and financial advice before proceeding with an Offer to Lease.
Standard form lease
Most Offers to Lease will contain a clause that states the tenant agrees to be bound by the provisions of the landlord’s “standard form of lease”. This provision often proves problematic for tenants as it requires a tenant to agree to provisions in a lengthy agreement they have never seen before. A tenant should therefore always insist that the landlord make its standard form lease a schedule to the Offer to Lease and ensure that its legal counsel be given an opportunity to review it before the tenant signs the Offer to Lease. If the landlord is unwilling (or unable) to do this, a tenant should, at a minimum, ensure that this clause is amended to provide that the standard form lease is “subject to review by the tenant’s lawyer and to changes agreed upon by the parties acting reasonably” or, better still, “subject to such amendments as the tenant or its lawyer designate”.
To best protect his or her personal interests, a business owner should consider incorporating a company to act only to hold the lease with the right to have the operating entity be separate. Utilizing a leasing company will insulate the business owner (and his or her operating company) from any liability arising out of the Offer to Lease and protect their investment in the business should it fail. If a company cannot be incorporated in advance of signing the Offer to Lease, the Offer to Lease should provide that the business owner is signing on behalf of a corporation to be incorporated and without personal liability. Holding the lease under a separate company can be expected to result in landlords insisting on a personal guaranty or indemnity from the business operator or beneficial owner. If that is the case, a business owner should attempt to limit the guaranty or indemnity in both duration and amount, e.g., his or her personal guarantee or indemnity is only valid for 2 years and for no more than $50,000.
Most Offers to Lease will include a clause that requires the tenant to pay its share of what is commonly called “TMI”, “CAM”, “Operating Costs”, or “Additional Rent”. This provision relates to operating and common area maintenance expenses incurred by the landlord in servicing the entire complex and requires a tenant to pay a proportionate share of such expenses. A tenant should be wary of a landlord using this provision as a profit centre by including and passing on all possible expenditures rather than limiting the expenditures to legitimate expenses relating to the operation and maintenance of the common areas. For example, many Offers to Lease permit a landlord to include in its operating costs an administration fee equal to 15% of all operating costs that were incurred by the landlord to operate the complex. The tenant should ensure this administration fee is only levied on expenses that required the landlord’s involvement, i.e., where the landlord had to arrange and secure snow removal, general cleaning and up-keep of the entire complex, etc. The administration fee then represents reasonable compensation to the landlord for its time and effort in arranging these items. On the other hand, a tenant should ensure that this administration fee is not levied on any realty taxes that the tenant is ultimately responsible for paying as the landlord has done nothing to justify (or earn) such a fee – it has merely passed on the invoice to the tenant.
To avoid this problem, a tenant should ask the landlord to amend this provision to specifically set out which expenses will be included in the basket of operating costs and which expenses will specifically be excluded. If a tenant does not take the time to work his or her way through the wording of these provisions, and understand the costs that he or she will have to pay, the tenant may end up paying for things that are unreasonable. Not sure what is reasonable versus what is unreasonable? Generally speaking, a tenant can expect to pay for its proportionate share of the following expenses:
- utilities and water consumed in the common areas of the complex;
- realty taxes relating to the entire complex; and
- landscaping, snow removal, etc. for the common areas of the complex.
On the other hand, a tenant should be cautious of a landlord’s attempts to pass on to the tenant, the costs for:
- its acquisition and financing costs and charges, income, capital and corporate taxes;
- any insurance proceeds received by the landlord to the extent that such proceeds relate to operating costs;
- brokerage and leasing commissions relating to the leasing of any units in the complex; and
- amounts chargeable to specific tenants of the complex by reason of their excess consumption of utilities.
If the landlord is unwilling to negotiate inclusions and exclusions to operating costs at the Offer to Lease stage, a tenant should be wary about signing the Offer to Lease as it will have no control over what operating costs it will be paying.
Landlord’s work and tenant’s work
In some instances, the Offer to Lease will be for a space not yet constructed or a space in need of substantial refurbishing. In such cases, the Offer to Lease will contain provisions (or schedules) relating to what are commonly called “Landlord’s Work” and “Tenant’s Work”. As may be gleaned from the name, these provisions allocate the responsibility and expense of building out the space as between landlord and tenant. A tenant should review all of the content of this provision (or schedule) with its general contractor very carefully because the landlord will only be obligated to perform and to pay for the items specifically described under “Landlord’s Work”. Anything else will be at the tenant’s expense. A general contractor will be able to provide the tenant with advice on whether there are any construction-related requirements that may need to be changed in the Offer to Lease as well as to assist the tenant in understanding what will be provided by the landlord and what the tenant will need to do to build out the space for its needs.
Removal and restoration
Some Offers to Lease will include a clause that requires the tenant to remove all of its leasehold improvements and/or restore the premises to their original condition at the end of the term. This means a tenant would need to remove all of his or her equipment and improvements from the space; for example, kitchen stoves, walk-in freezers, counters, partitions, walls, etc. Depending on the business, this provision could end up being quite costly for a tenant. If the landlord is unwilling to delete the obligation in its entirety, a tenant should ask that it be amended to allow the tenant to surrender the premises “with all alterations made thereto and in good repair, reasonable wear and tear and damage excepted”.
Other issues that may be relevant include the following:
- No demolition or termination on sale clause
- Rent free period
- Leasehold improvement allowance
- No security in tenant’s personal property
- Option(s) to renew/extend
- No relocation clause
It goes without saying that as with any agreement, Offers to Lease will vary and the issues identified above may not be relevant to every Offer to Lease. A tenant seeking concessions (including those discussed above) should be mindful that his or her ability to obtain amendments to the landlord’s standard form documents will depend largely on his or her bargaining power. Irrespective of bargaining clout, however, a tenant should always have the Offer to Lease reviewed by legal and financial counsel before signing.