Tuesday, March 16, 2010

Lease Renegotiation From Your Landlord’s Perspective – Improving Chances of Reducing Leasing Costs

During these difficult economic times there is an excellent opportunity for firms leasing industrial space to reduce their occupancy costs in the near and long term.

In the Chicago industrial real estate market where I specialize, there is an 11.4% vacancy rate for the Chicago metropolitan area for the first quarter of 2009. We are experiencing the highest vacancy rates in years, and this trend will probably not improve until later this year, or some time in 2010. This trend of increasing vacancy rates for industrial properties is playing out in virtually all major industrial real estate markets in the U.S. and North America.

If you have two years of term or less left on your lease, this is an excellent opportunity to approach your landlord and competing properties in the area to discuss how you can lower your leasing costs. You may wonder why a landlord would want to talk to you about reducing their income stream from your lease, especially in these difficult economic times, so let’s look at this from the perspective of a landlord and the industrial investment sales market to better understand.

Industrial investment properties owned by a landlord who does not occupy any of the space are valued differently than property sold to an end user who will occupy the property for their own operations. The income stream and remaining term left on the lease(s) are key factors in determining the value of industrial investment real estate.

Industrial real estate investment markets use capitalization rates to value properties. The basic formula is I/R=V, referred to as IRV. This is income (the net rent your landlord receives from you, not including money you pay for taxes or common area maintenance fees), divided by the sales price which gives you a capitalization rate. For example, if you had a property that had net rent income stream of $100,000 annually and you sold the property for $1,000,000 your capitalization rate would be 10%.

Industrial real estate investors apply a capitalization rate to determine what they will pay for a property. If a tenant is willing to extend their lease in exchange for a lower rental rate, your landlord could improve their capitalization rate and get a better sales price for their investment.

The industrial investment market is hurting so capitalization rates are climbing. Many landlords are sitting on the sidelines hoping to sell their properties in a couple of years when the markets recover. If they currently have a tenant(s) with a couple of years of term left on their lease, and they can extend them for example, for five years, they will have an investment property with five years of term left on the lease(s), putting themselves in a excellent position to sell when the markets recover.

A second area that landlords consider is carrying costs and tenant improvements in the event that you move out when your lease expires. Carrying costs are the expenses while the space is vacant. Currently many landlords are projecting a years worth of carrying costs for vacancy. Tenant improvements and free rent will likely be incurred by your landlord to attract a new tenant for your space. If a landlord can avoid this costly risk by giving you a better leasing rate and extending your term, they will be much better off.

Another important issue for landlords is financing. Maintaining a strong income stream is critical to procure financing. If they can mitigate the risk of your space going vacant, this puts them in a better position with their lenders.

Finally, we need to look at the current leasing market. Landlords are being very creative by offering free rent and other incentives to lure tenants away from their existing property prior to their lease expiration. It is crucial to use competing buildings for additional leverage when renegotiating with your landlord.

Using a broker who specializes in industrial real estate in a particular market enhances your chances of reducing your short term leasing costs. Your broker tracks the market on a daily basis monitoring current lease deals/investment sales activity, and understands your landlord’s situation in order to give you a clear and concise scenario to begin your negotiations. Your broker’s fees are paid by the landlord (who in many cases will have their own local broker representing them).

If you have any questions, or if I can be of any assistance, please contact me. You can also visit my website to get local market reports for industrial real estate.

(Original article, by Jim Cummings, can be viewed on ezinearticles.com)

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