5-Year Lease Terms: Who, Why, & What

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When leasing commercial space companies must decide on the length of lease term. This decision is influenced by a number of factors, including but not limited to, growth projections, continuity of operations, build out needs, economic conditions, etc. Market conditions, outside the tenant’s control can also have an impact. For example, retail landlords generally require minimum 5-year leases and during the early years of the Great Recession landlords were willing to agree to nearly any length of lease term (sometimes as short as 1 year) just to get their spaces leased.

In this series I will be discussing the most common/traditional lease terms: 3-year, 5-year, and 10-year, but will also touch on less conventional terms shorter than 3 years, between 5 and 10 years, and longer than 10 years. I will touch on the What (you can expect in concessions as a result), Who (generally prefers which), and Why (tenants may choose one over another).

5-Year Lease

Why?

Five year leases are the most common lease terms and, in many cases, the reason is simply because it’s the default lease term. Many landlords require a minimum 5-year lease term (retail particularly). In addition, 5 years is both short enough and long enough for companies to forecast and make accurate projections. Finally, if a company wants or needs to modify/customize their space a 5-year lease generally provides enough term over which improvement allowances can be amortized.

Who?

Most (established) businesses lease commercial space for 5 years. As previously mentioned, retail tenants are generally required to enter into a minimum 5-year lease.

What?

Depending on the asset class, nature of the tenant’s business, and extent of the build out (and finishes), a 5-year lease can get you a brand new, turnkey space. This applies mostly to office space where layouts/office configurations are relatively uniform, reusable by subsequent tenants, etc. Due to the uniqueness of retail and industrial tenants’ uses and associated infrastructure and build out needs the amount of money in the deal may or may not be sufficient to cover the cost of their improvements. Retail rates are relatively high compared to office and industrial rents in the same market, which in theory would afford a higher improvement allowance, but because each retail tenant’s business has proprietary specs their build outs are generally more expensive. Industrial spaces are generally leased in larger square footage blocks with a relatively small portion of the space actually being built out. Thus the impact of the improvement allowance is magnified. For example, an industrial tenant that leases 20,000 sf at $10 per square foot (triple net) and receives a (meager) $5/sf tenant improvement allowance has $100,000 to spend towards build out. If they only require a 2,000 sf showroom/office space that improvement allowance actually equates to $50/sf ($100,000/2,000 sf).

It’s always recommended to seek the advice and services of an experienced commercial real estate broker when leasing commercial space. For more more information on representation, please contact me at Ryan@RealMarkets.com

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