Business Lease Issues When Starting or Selling
A lot of times I have a new client come to me excited to have made the decision to start a business or to sell the business they have built over the years. It is an exciting time to start or its finally time to exit. Perhaps the client has a copy of a proposed lease or even has a buyer in mind.
Regardless of whether you are starting your new business or selling your business, your lease is a crucial document that can and should make or break a deal. Typically, the new tenant just signs but I would recommend you at the very least have an attorney look for any problematic terms.
If you need your lease reviewed, Tim Sutherland reviews and negotiates commercial leases for retailers, service providers, restaurants, bars, nightclubs, and all sorts of other entrepreneurs in Houston, Austin, and Dallas, Texas and the surrounding areas. Send us an email from the Contact Us page or feel free to call at 713-300-1946 to discuss your lease and business plan.
THE TIME TO NEGOTIATE EXIT PROVISIONS IN YOUR LEASE IS BEFORE YOU SIGN.
If you are starting a business, always assume at some point you may want out or need out. Life happens. Maybe a change in family or health. It could also be that you were at one point very interested in being the next great cookie business but now, after constant employee turnover and having to fill in the gaps as pretty much every role imaginable (baker and janitor included), you’re over it.
Assume you’ll either burn out or you’ll build an empire and receive an offer you can’t refuse.
It is worth having an attorney review your commercial lease prior to signing to determine whether the terms are favorable or unfavorable in the event you want to sell. Typically, the provision at issue is the assignment terms. At times, even proposing assignment can allow termination or the clause could allow the landlord complete discretion in granting your request. The term can also be incredibly vague and state that the landlord can’t reasonable withhold consent, but of course this could lead to a dispute about what is “reasonable”. The time to flesh these issues out is before signing the lease. This is especially true if your business venture is a Texas restaurant, bar, nightclub, or other food or drink related business such as desserts, juices (these are popping up frequently), or bakery. Food trucks are also expanding into brick and mortar locations, business is good. However, in all that excitement, the business owners typically neglect the legal side and focus on what they do best which is take action. I would caution you to take a minute and make sure you understand your contracts before you sign and see whether you can negotiate favorable terms and plan for everything.
THE EXCESS CONSIDERATION CLAUSE
The clause can appear in the lease in this form: 1. “Excess Consideration” — “In the event of … assignment, Tenant shall pay … Landlord any rent or other consideration received by Tenant … in excess of the … rent ….”. The landlord wants this clause because in a long term lease the market may increase rental rates and the tenant could profit by assigning and leasing the space for double or even triple the rental rate it contracted for with the landlord for the remainder of the lease term. Thus, the landlord is thinking that whatever you lease the property for as far as rent goes will be turned over to the landlord and will not be an additional profit from the assignment which will go to the tenant. Of course, on the flip side if you lease to a new tenant by assigning and are taking a loss for whatever reason, the landlord isn’t absorbing that loss and you are the one that will be upside down while the landlord collects the rent you agreed to. Sounds fair, right?
Ok, so here is the real problem. Sometimes, the deal you make for the sale of the business is a lump sum. This language is very broad and can be a real problem if the relationship between the landlord and tenant is sour. For example, picture this common scenario where the deal goes through and then things escalate. The new purchaser takes into account your great location as part of the price paid. Maybe your business wasn’t doing well at all, but you have a great spot and the buyer is thinking … I have a vision to properly use this space in light of the current market and can make this spot profitable. This is not a knock against you, but it is a realty that things change between the date you open a business and the years as they pass for your lease term. Imagine you open a restaurant that serves donuts and breakfast and a national craze for fasting erupts and people skip breakfast opting instead for “bullet proof coffee”. This is obviously a problem. Hey, we have seen low carb, no carb, no fat, etc… Or, you may have opened a country western bar and now the area is full of trendy nightclubs so you aren’t exactly profiting from the foot traffic. I digress.
The sales price for the business will likely take into account the value of the lease and the assets of the business. The landlord may claim he is entitled to the entire purchase price for the business. Keep in mind this is probably after the sale. If the issue comes up before the sale, you can at least start discussing amendments to the lease to specifically address what the rent will be, perhaps negotiate an extension of the lease term, and spell out the price for the actual business versus the rental payments.
In the lease negotiations, a tenant should look for the excess consideration clause and make sure it is drafted clearly or deleted entirely. At the very least, the clause should not include lump sum payments for the sale of a tenant’s business, with exception of a payment made by the assignee due to below market rent which should be clear to all involved.
THE TERMINATION RIGHT CLAUSE
The clause appears in this common form: “Termination Right” — “If Tenant desires to assign this Lease or to sublet all or a portion of the Premises, Tenant shall deliver to Landlord a summary of the proposed terms of such sublease or assignment . . . [and] Landlord shall have the right to terminate this Lease.” This provision allows the landlord to terminate the lease based on the an assignment request. In essence, the landlord can enter into a new lease directly with your proposed assignee. Obviously, we want to delete this clause because it has unintended effects and provides too much leverage to the landlord. Another way to draft the clause is to allow the tenant to bring the request to the landlord and allow the tenant to rescind the request to assign rather than allow the landlord to terminate the lease.
These are just a couple of issues to look for before signing a lease and also if you are considering selling your business. Of course, locations pop up and time is of the essence to lock down the deal and it may be that there is not much time to get the deal done so you don’t miss out on the location. If you need your lease reviewed, Tim Sutherland reviews and negotiates commercial leases for retailers, service providers, restaurants, bars, nightclubs, and all sorts of other entrepreneurs in Houston, Austin, and Dallas, Texas and the surrounding areas. Send us an email from the Contact Us page or feel free to call at 713-300-1946 to discuss your lease and business plan.