A Tenants' Market for Commercial Real Estate

While landlords for hurting, it's a good time for small business to move, renegotiate, or lock in some concessions

By Monica Mehta

Illustration by Yarek Waszul

Are there more for-lease signs in your neighborhood than stop signs? Maybe. Rents for office and retail space have fallen more than 40% from their highs. Over the short term, landlords are bracing for things to get even worse. In most respects, that means it's a tenants' market. Now's the time to reduce your real estate overhead by renegotiating a lease, moving, or locking in some concessions from your landlord.

Not every business owner is in the catbird seat. If you occupy a highly sought-after location or are already locked into an above-market rent for an extended period, you're out of luck. But if your lease is set to expire in the next year or two, there's a good chance your landlord will be willing to talk. He or she will often be looking for a relatively short-term renewal or extension that will act as a bridge until the rental market is stronger.

As in any negotiation, knowledge is leverage. Learn as much as you can about your landlord, his or her needs, and the building. Find out what other landlords are offering. Inquire about the building's overall occupancy and the space requirements of other tenants. A landlord will be more willing to negotiate if a change in your lease will allow for greater building flexibility in the future. Also, find out when your landlord's mortgage comes due. Many commercial mortgages are set to expire in the next few years, and a landlord will want to show a high occupancy rate when seeking new financing.

As retailers continue to struggle, their landlords have become more open to temporary rent deferrals. Some will cut pay-for-performance deals that tie rent to a percentage of sales. In the office market, more flexible-term and month-to-month space is available. To keep space filled, landlords are also increasingly willing to work with startups or companies without much of a track record. One common tactic is called "blend and extend," whereby landlords lengthen a lease in exchange for a lower per-square-foot rent. A landlord will weigh the revenue he or she gets from the renewal against possible expenses such as commissions, rent concessions, and improvements when deciding whether to grant a reduction. In this market, the savings can range from 15% to 50%, but tenants should be prepared to commit to a three-to-five-year extension.

If you're willing to make a move, a sublease can be a great deal. In a bad economy, many companies find themselves committed to a longer lease or more space than they need or can afford, and one way they can shave their overhead is to sublease some or all of their space at below-market rates. Given that most subleases require the original tenant to keep paying the landlord, a subtenant must be protected against a default by that first tenant. But don't walk away from a good deal—just get a real estate attorney.

Time benefits the tenant. If you are a larger tenant or will require a buildout, start looking at least one year before your lease expires. Smaller tenants should start negotiations no later than six months before the lease is due. In addition, try to bid on more than one space at a time. A landlord will stretch further if he thinks he might lose you.

Finally, brokers can add a great deal of value in lease negotiations. Most publish quarterly reports with market trends and can provide local examples of comparable space and lease rates. Many brokers will review your lease for free and tell you what types of concessions they think would be likely. Best of all, broker fees are usually covered by the landlord.

Return to the BWSmallBiz December 2009/January 2010 Table of Contents

Monica Mehta is managing principal of New York-based investment firm Seventh Capital. To read all of Monica Mehta's CashFix columsn, go to businessweek.com/go/sb/mehta.

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