What's the Purpose of a Leasing Letter of Intent?
When prospective commercial Tenants are looking to lease space, there are many questions to answer and unknowns to contemplate. How much space is needed? How many offices, workstations, and conference rooms are desirable? What is the monthly rent? When will it be ready and how long will this space be suitable for my business? These are all critical questions.
The purpose of the letter of intent is to assist a prospective tenant ferret out these answers in a simple and efficient manner. Its goal is to outline the basic business terms, which will ultimately become the framework for a lease document. Many Landlords construct space for Tenants on a regular basis and should have a good understanding of construction costs and timing. It also provides a prospective tenant insight into the Landlord’s process and experience to prepare a space for your business to function and grow.
The letter of intent should generally include the following basic business terms.
- Rent. This will specify the amount of basic rent due. It is most often expressed as rent per square or as a monthly amount due. Sometimes, this amount is all-encompassing, meaning there are no additional charges that the Tenant would owe. This is frequently seen in office building leases where the Landlord performs and pays for all or most of the typical services, such as janitorial, HVAC and utilities.
The letter of intent should also specify any other charges which a Landlord may not cover. This is frequently experienced with retail and warehouse leases. In these situations, tenants directly engage and pay for many of their own services – such as janitorial, HVAC maintenance and utilities. As a result, the basic rent due only covers a portion of the overall expenses that would be incurred by a tenant each month.Tenants often don’t understand why a Landlord requests to review its financial statements. When a tenant provides its financials to a Landlord, one item that is often focused on is how will the tenant’s new rental obligation compare to the tenant’s previous rental payments. If a tenant is going to experience a significant increase, then a Landlord would generally want to understand how the additional rent cost is going to be covered.
- Rent Increases. Generally, basic rental rates will increase with each lease anniversary date. This could be in the form of a fixed, specifically stated, increase or based on a change in the cost of living index (CPI). As a tenant prepares its annual budget or multi-year business plan, it should account for these increases.
- Use Provision. Landlords want to understand how each tenant plans to use its space. This is important for several reasons. First, commercial properties generally have zoning ordinances that specify the types of businesses that are acceptable in each location. Second, some leases provide for exclusive uses and would preclude other tenants from performing a similar business. Third, buildings are designed with certain limitations on parking and HVAC capacity. Each of these items is specifically correlated to the number of people who will be occupying the space at any one time. If the capacity is exceeded, then there will be insufficient parking or the temperatures within the space will not be capable to remain comfortable. This scenario ultimately doesn’t work for either the Landlord or the Tenant.
- Tenant Improvements. Customizing your space to fit your business needs will help you and your employees function more productively and efficiently. Often Landlords will provide some contribution to assist in making your space work best for you. Generally, a space plan will be developed that will outline the changes and improvements to be performed. This plan can then be provided to a contractor for pricing. Typically, a Landlord may offer a construction allowance based on a quoted basic rental rate. However, if the construction budget exceeds that allowance, then the base rental rate will likely need to be increased. The lease term may also need to be adjusted. Landlords are typically amortizing the improvement costs over the specified lease term. As a result, the longer the lease term, then more funds can be potentially provided.
- Lease Term. This will address the period of time that the lease will be in effect. A lease should be considered as a contact. A tenant is obligating itself for the time period specified by the lease term. Often the longer lease term, the more flexible a Landlord can be with a basic rental rate or tenant improvement allowance. Shorter lease terms are generally less than five years. Longer lease terms range from 7 to 10 years.
- Anticipated Lease Commencement Date. Depending on the amount of work that needs to be performed, the delivery date can range from immediate to upwards of 4-6 months. Generally, work that involves only paint and carpet can be completed in a few weeks, if the carpet is readily available. If the improvements involve adding restrooms, rearranging or building new walls, or installing a new kitchen, then architectural and engineering plans will likely be required, and a permit will need to be obtained. Preparing the necessary plans will generally take 2-3 weeks and potentially up to 8 weeks to secure a permit, depending on the governmental jurisdiction. These necessary steps will all occur before a single hammer is utilized to improve the space.
- Renewal Options, if any. If a tenant desires a renewal option(s), this should be specified in the letter of intent. Typically, renewal options will range from 1 year to 5 years and specify the rental rate, rental rate increases, and any additional improvements. For example, the rental rate may be determined by the Landlord based on current market conditions, by an appraisal or by fair market determination from competent sources or can be predetermined. It is not uncommon for the annual rental rate increase specified during the initial lease term, to continue during the renewal period(s).
Kenwood is here to assist. We can help you find the right office or warehouse space, secure the best lease terms for your business, and advise you throughout your office transition process. Reach out to us. We’d love to learn more about your business and your future goals.