February 12, 2016

Tips for Successfully Negotiating a Commercial Lease

Charlotte Lacroix, DVM, JD provides tips to help you successfully negotiate commercial leases for your veterinarian practice.
By Charlotte Lacroix, DVM, JD
According to the American Veterinary Medical Association, there were over 65,000 veterinarians in private clinical practice in 2014.1 As a veterinarian in private practice, chances are, unless you own your own facility, you will need to sign a commercial lease for your veterinary practice. Here are some tips to help you successfully negotiate commercial leases for your veterinarian practice.

Examine the Premises Carefully
A careful examination of the premises includes inspecting the heating, ventilation, and air conditioning, and the electrical and plumbing systems—although even careful due diligence may not reveal hidden defects, such as an ineffective heating system (when checked in August), a flawed air conditioner (checked in February), or roof leaks during heavy rains. Do not assume that everything the landlord tells you about the premises is 100% accurate; requesting the right to have a private inspection conducted makes good sense.
 
Specify Terms
A typical veterinary practice lease ranges between 10 and 25 years. Therefore, when you find a suitable facility, prepare and invest for a long-term relationship. Ask the landlord for options to renew the contract when the lease is up and make sure you are clear about when you must give notice to renew. (Remember: there are also benefits to long-term relationships for your lessor, given the costs associated with finding new lessees and negotiating commercial leases.)
 
Two Forms of Rent: Base and Additional
Actual rent payments are usually the sum of the two types: base rent and additional rent:
 
Base rent is what tenants pay to occupy the premises and can be determined in several ways. Be aware of comparing rentals based on dollars per square feet, as “square feet” can be defined in more than one way. Landlords can quote a dollar/square foot rent using “rentable square feet,” but because only a portion of space is actually usable by the tenant, true rent is higher. Base rent can also be based on a percentage of the tenant’s gross revenues, but this will complicate contracts as both parties need to determine how gross revenues will be calculated and how disagreements will be resolved.
 
Similar to a housing lease, commercial property leases typically include annual rent increases. If a tenant has a 10-year lease with a $60,000 flat annual rent, the cost would be $600,000 over the lease term. However, with a 3% escalation clause, the total rent paid will be $687,832.76, an increase of approximately $87,833.
 
Additional rents are also part of most commercial leases. These cover amounts outside of the base rent, such as the security deposit (often 1-3 months’ rent) and reimbursing the landlord for property taxes on a monthly or quarterly basis.
 
Maintenance, Repairs, and Other Expenses
In multitenant facilities, landlords are responsible for common area maintenance (CAM), which includes sidewalks, stairways between tenant premises, parking lots, outdoor maintenance, etc. There is no commonly accepted definition of CAM, however, so it is open to negotiation. However defined, the landlord will look to pass on CAM expenses while you will want to negotiate to minimize them. As a lessee, be aware of the phrase, “Including but not limited to” as this allows the landlord to add new expense categories under CAM that tenants cannot typically audit. Single tenant leases, fortunately, are more straightforward with most expenses paid directly by the tenant. Keep in mind that structural repairs are usually listed as a landlord expense.
 
Insurance
Tenants must maintain general liability insurance and casualty insurance covering their furnishings, equipment, and other property. In addition, tenants may be required to keep business interruption insurance sufficient to pay the rent for a year (or more). Tenants must also maintain fire and other casualty insurance on the facility itself in single-tenant facilities, whereas multiple-tenant facility landlords insure themselves and pass costs to tenants via CAM.
 
Premises Destruction and Condemnation
If premises are destroyed or damaged by fire or other casualty, the landlord will need to use insurance proceeds to repair the facility within an established deadline. If the deadline cannot be met, the lease can be terminated. A critical issue to discuss and negotiate before signing a lease is whether or not the tenant can terminate the lease in this instance or if only the landlord can do so. Be sure to negotiate these terms.
 
General Rule for Tenant Improvements
The landlord’s prior consent is typically required prior to making improvements to the property. Critical issue: for example, as the tenant, if you add additional islands for animal examinations, can you remove them when the lease ends or must they remain? Again, negotiate wisely.
 
Lease Assignment and Subletting
Most lease agreements state that tenants cannot assign their lease, or sublet the space, without the landlord’s consent; however, tenants can try to prohibit unreasonable withholding or delaying consent. Tenants should negotiate with the landlord to get more freedom to assign the lease if they are selling the practice.
 
Indemnification and Liability Limits
Property leases usually require tenants to hold landlords harmless from injury or damage suffered from acts and omissions of tenants—or from the premises being defective. Savvy tenants (with leverage) will try to stipulate that the disclaimer does not apply when the landlord was negligent. For example, if the landlord knew of a weakness in the flooring but did not disclose that fact, and then a floorboard gives way, injuring someone, you have a much more difficult situation on your hands if your lease gives the landlord blanket immunity when injuries occur. Although proving negligence comes with its own challenges, it makes sense to request that the landlord be responsible for situations arising from their own neglect.
 
Breach and Punishment
Commercial leases usually include lengthy provisions defining default triggers, notice requirements, and remedies. It is important to understand that lease termination and eviction do not suspend the tenant’s obligation to pay rent and CAM for the remaining term of the lease. The tenant’s obligation is reduced if the landlord re-rents the premises to a new tenant, but the landlord is not required to do so. That is, the landlord must make a reasonable effort to find a new tenant to rent the space, but if they cannot, or the space is rented for less than originally agreed in the original lease, the original tenant may still be obligated for the difference. Tenants should try to negotiate the insertion of a general clause into the lease requiring the landlord to mitigate damages.
 
A Note about Tenant Owners
Many leases stipulate that a guarantor’s bankruptcy triggers a tenant default under the lease, which then allows landlords to evict tenants. Tenants may want to try to soften this provision.
 
Dr. Charlotte Lacroix owns and manages Veterinary Business Advisors, Inc., a consulting firm which advises veterinarians and attorneys nationwide on veterinary business and legal issues. Dr. Lacroix received her doctorate in veterinary medicine in 1988 from the University of California at Davis. After completing a large animal internship at the University of Guelph (Ontario, Canada), she worked for several years at an equine medical and surgical referral practice serving northern New Jersey’s large equine community. In pursuit of her goal to make greater contributions to the veterinary profession, Dr. Lacroix attended law school and received her juris doctor from the University of Pennsylvania Law School. She is licensed to practice law in Pennsylvania and New Jersey. Dr. Lacroix is a regular contributor to JAVMA, Veterinary Economics, DVM Magazine, Partners in Practice, and AAHA publications.
 
References
  1. Market research statistics - U.S. Veterinarians – 2014. American Veterinary Medical Association website. https://avma.org/KB/Resources/Statistics/Pages/Market-research-statistics-US-veterinarians.aspx. Updated April 2015.


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