Today's soft commercial real estate market has created many opportunities for savvy companies, yet, with opportunity comes risk. And it's a situation that most managers will soon face. Because every year seven percent of the nation's commercial real estate leases expire; and according to a recent NACORE study almost 80 percent of major US companies are planning to relocate or expand their facilities within the next three years.
Even companies not looking for space must be careful. Many buildings that are now renting for less than $25 a square foot were built based upon projected rents of $30 to $45 a square foot. Forcing landlords to become increasingly creative in finding ways to maximize their cash flow.
A common trap for tenants is the annual increase in operating costs or "pass throughs." Originally designed to protect the landlord against increases in utilities, property taxes and operating expenses. Now, landlords see pass throughs as a profit center.
While operating costs vary by geographic area, in most major U.S. cities they run from $7 to over $9 per rentable square foot per year. Overcharges of a $1 or more per rentable square foot are common.
When multiplied by the term of a tenant's lease and the number of leases in a landlord's portfolio this amount can grow to an astonishing figure. As we uncovered for one client. Their landlord had understated the base year operating expenses by $250,000. Then overstated the building's square footage by 25,000 square feet when adjusting the operating costs to 100 percent occupancy. A nickel here, a nickel there and presto - an extra million dollars in the landlord's pockets!
Even for small tenants this can mean substantial extra costs. During a lease review for a 3,500 square foot branch office, we found the landlord had overcharged $9,500 for operating costs in the first two years of their five year lease. Overcharging tenants 10 to 15 percent is not uncommon, but here it was 38 percent! In the audit, we found another item that allowed us to negotiate a rent reduction of $60,000 for the remaining three years of their lease.Pitfalls, land mines and booby traps
Lurking inside almost every tenant's lease are loopholes, traps, major ambiguities, and dozens of issues that were never discussed. Buried among the legal rights and obligations are hidden costs, unreasonable risks and outright mistakes that could have expensive consequences. From the tenant's standpoint they are poorly drafted. The language is unclear and important clauses omitted.
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