Due diligence or just a minor lease issue? - Posted by Mike

Posted by ray@lcorn on September 29, 2003 at 08:04:26:


You are correct in your assessment of current leases being the main factor in stabilizing cash flow, hence increasing value, for an income property. However you’re dealing with a situation that may or may not lend itself to a standard solution. No one is going to tell you to boot out a long time tenant that refuses to sign a new lease, but neither would a potential buyer give the property the same valuation without leases that would inure with leases.

I assume that you have tried to reason with the tenants, to no avail. I would also assume that you have examined the old lease documents for remedies, and found the document silent on the point? So you’ve likely been advised that under state law the tenancy reverts to a 30-day, month-to-month, tenant-at-will relationship, providing the parties with mutual rights of thirty-day termination notice. I would guess that you are reluctant to drop the hammer with an eviction notice to a paying tenant that is in all other respects a good tenant. If the tenant cannot agree to your reasoning to stabilize the property with a new lease, and you can’t make an argument that it is in their best interest to do so, then you have a choice of either accepting the status quo, or use the only legal recourse you have available to force the issue. The alternative is to come up with some incentive for the tenant to sign. In my experience there is a point at which you have to call their bluff, or risk your position being exposed as just that.

For future reference, this situation is avoided by use of a holding over clause in the lease. The lease should provide that in the event the tenant holds over beyond the lease term, then the rent is double, or maybe 150%, (varies with the situation) of the current rent for as long as the holding over condition persists. This provides considerable incentive for the tenant to negotiate a new lease.

I don’t know all the particulars of your situation, but absent any compelling reason to accept the status quo (like a weak market for the space), I would take the position that I am the owner of the building and no tenant will be in my building without a lease. Back it up with a notice to terminate, and most likely the tenant will come to the table.


Due diligence or just a minor lease issue? - Posted by Mike

Posted by Mike on September 29, 2003 at 06:14:21:

I’ve posted this question on leases before, but received no response. Maybe it’s just too elementary for most of you, but a current lease seems to be due diligence to me, since it is the legal instrument under which the landlord and tenant do business. It also seems to be a good planning tool since it tends to stabilize and predict (to a certain degree) cash flow for a specified period of time.

My question concerns establishing new commercial warehouse/office leases in a situation where most of the tenants have been there for 5 to 10 years. Most have no current lease, but are on a hold-over basis from the original or last lease. The rent has not been raised in 3 or 4 years. I feel I need to raise the rent to reflect competitive local rates and stagger the leases to minimize the possibility of muliple vacancies at the same time.

To do this, I’ve been asking each tenant sign a new lease. Some have had no problem, while others have been very opposed to signing a new 2 year lease. I want to keep these good tenants, but feel that a current lease is important, especially since I have considerable debt repayment due on the property. Is this reasonable and prudent or should I just raise the rent and not expect these long-term tenants to sign a new lease?

Re: Due diligence or just a minor lease issue? - Posted by Richard

Posted by Richard on October 11, 2003 at 06:44:03:

I have various prices for my leases. For example I will raise the lease say $35 for six months, $20 for 1 year and $15 for a 1 1/2 years. I find most people will agree to sign a year and a half… Who says it has to be for a one year increment.

Re: Due diligence or just a minor lease issue? - Posted by Mike

Posted by Mike on October 07, 2003 at 06:57:04:

Sorry for the slow reply, but I was out of the country for over a week and just now getting back to business.

Thanks so much for both the replies. As always, you guys bring things to my attention that I am unaware of. Since I’m new to commercial real estate, I’m trying hard to impose what I feel are sound business practices to the business, even though I don’t know much about specific RE issues. Some things seem to make sense, but it’s very comforting to have experts confirm the things I’m doing.

Thanks again for taking the time to answer my questions. I truely appreciate it.

Re: Due diligence or just a minor lease issue? - Posted by RobH_WA

Posted by RobH_WA on September 29, 2003 at 20:37:07:


This is a question of when not if. The answer to the when depends on how many / what percentage of your space is involved, what the current market position is (and what it is likely to be over the next 2 years while you stagger your leases), and what is the difference between current actual and market rates.

I dont believe that legally you have to go after all the holdovers at the same time (but check this), and if not then why not start with the one who represents the biggest difference to market or the one with longest holdover period (may be the same). Once they have come to the table or left, the word will get around and the others will know that you are serious and they will become more amenable to discussions.

The above assumes that the only reason they are opposed to new leases is they have a lower than market rate now. But have you heard any other reason for opposition? Could this be addressed in a win-win way?