4 Considerations When Selling a Business With a Commercial Lease
The commercial leasing industry has seen a downturn in recent years but is expected to rebound as the economy recovers from the COVID-19 pandemic.
Statista notes that "the merger and acquisition sector in the United States is home to tens of thousands of deals each year," with the total value of those deals potentially adding up to over $1 trillion. According to BizBuySell, 8,647 business sales were closed on the website in 2021, as part of a promising surge in the last quarter of that year.
Within all this activity, many thousands of commercial lease transfers are happening. If you rent commercial space, and you’re looking to plan your exit and sell your company, you’ll need to be prepared for some special challenges. You’ll want to avoid the potential pitfalls of negotiating with landlords and keeping engagements with potential buyers of your business on track.
Savvy business brokers understand the nuances of commercial leases, and they can walk you through transferring your existing lease to a new owner. A broker can also provide valuable assistance in tying up all loose legal and contractual ends, so you can focus on selling your business for the most money possible.
Why Commercial Leases Can Be Complex for Business Sellers
Commercial leases may or may not have terms that are friendly to selling your business.
These include stipulations about how long the landlord will take to approve a lease transfer, whether there’s an “option to renew” for new lessees, or what rights the seller has when it comes to transferring or “reassigning” their existing lease to a new party.
A lot of these matters call for negotiation with the landlord long before the sale of the business gets underway. Preferably, business owners should notify landlords as soon as they decide to sell.
Often sellers don’t know the fine print of the commercial lease they once signed. It’s worth working with a broker who can comb through the details and help unburden you from the lease while protecting you from any actions by the landlord that could threaten your sale.
Finally, sellers should know what’s in the lease so they can be upfront with buyers about all costs. With this knowledge, sellers can also position their business as a safe investment that won’t come with sudden increases in rent, uncertainties in time remaining for occupancy, or other risks.
4 Main Issues for Sellers to Consider
There are a few issues business owners should be aware of and strategize around as early as possible when selling a business with a commercial lease. Here are 4 of the most important issues:
1. Type of Lease Arrangement
The type of lease arrangement can affect how easily and quickly business buyers are able to move into the space and take over rent payments
Normally, after a business is sold, the new owner is “assigned to the lease” and starts making regular rent payments accordingly.
Lease assignments eliminate the need to negotiate a whole new lease with the landlord (which might come with a rent increase that would put off an otherwise interested buyer). Sellers normally have to pay an assignment fee to the landlord in exchange for the convenience.
According to IBISWorld, the U.S. commercial leasing industry has seen an average contraction of 4.1% per year from 2017 - 2022. That means landlords will want to maximize their income from the smaller pool of tenants available, and one of the areas in which this can happen is assignment fees. The fee can normally be negotiated, however.
A commercial lease should include an assignment clause in the lease. If one does not exist, it may be hard for a business owner to suddenly negotiate this kind of arrangement when they decide to sell.
Another type of arrangement is a sublease in which the seller is only giving up part of the business or is financing part of the transaction for the buyer. They retain their obligation to the master lease and give the seller continued access to the business as needed to oversee operations and generate income.
Sellers must be careful, however. The existing lease may contain an "excess consideration" clause which prevents tenants from earning rental profits over and above the amount they pay as a lessee — but the wording of such a clause can be used by landlords to take even more money than normally warranted. A broker can help you navigate this.
As a last resort, if the landlord does not have a lease assignment clause or does not offer reasonable terms for an assignment, a seller may have to negotiate a new lease in order to market their business to a new buyer.
2. Factors Affecting the Buyer
Sellers should prepare for how certain costs and lease stipulations can affect buyers and influence their decision to go through with a purchase.
A landlord will want to obtain a security deposit from the new tenant. Sellers can and should collect a fee from the buyers before closing on the sale in order to make matters easier for the landlord. That said, landlords may ask much more than the customary single month’s worth of rent, creating another matter you may have to negotiate on.
Length of Time to Approve Transfer
Landlords typically take 45 to 60 days to approve a lease assignment to a new business owner. However, sellers should try to get this reduced to 15 days or less, so that prospective buyers stay interested in making a deal.
Business buyers, as new tenants, will often have to prove their rent-worthiness to the landlord. Worthiness can be shown by any combination of financial statements, documented experience in running a business, and personal guarantees.
Option to Renew
Buyers favor having the option to renew the lease agreement, in order to protect their long-term occupancy of the commercial space and hedge against getting kicked out prematurely.
For example, if the previous business owner has a long-term lease with more than 12 months remaining after the transaction, the new owner benefits from the security of that arrangement. On the other hand, if the seller is already renegotiating the lease on a month-to-month basis leading up to the sale, this leaves the new owner vulnerable.
It’s important for business owners looking to sell a business with a commercial lease to ensure there’s a renewal option clause, or that the landlord will at least agree to reasonable renewal terms.
3. Negotiations With the Landlord
Landlords can be tough to negotiate with, but this step can’t be avoided. Sellers should negotiate terms that are fair and attractive to qualified buyers, and that remove roadblocks to the sale.
The Landlord-Lessee Relationship
Your relationship with the landlord will be a key factor in the success of your negotiations. With a good rapport and regular communication, you will have a strong sense of how much legwork will need to be done to sell your business and transfer your lease smoothly.
Knowing your landlord well can also help you answer some important questions like the following:
Does your landlord own the commercial space, or is the person you interact with as “landlord” merely managing it on behalf of a family member or business partner who is the true owner?
Does the landlord intend to hold on to the space long-term, or might they be looking to sell?
Has the landlord been amenable to special requests and sympathetic to your business needs in the past?
Your knowledge of these details can end up being crucial for keeping the business sale on track.
4. Associated Fees
Sellers should be prepared for several fees.
These include continued obligations to the lease, even after the closing process where business ownership has been fully transferred to the buyer. Landlords may want to keep you on the lease to hedge their bets and protect their financial interests should a new, unproven business owner come up short on rent payments.
Other fees include state processing fees for assignments, which vary by state.
Landlords will also want to benefit directly from the sale of your business and will charge a lease assignment fee in most cases.
It’s important to be prepared for these fees well in advance and to have an experienced broker as your partner in negotiations. A broker can go between the landlord and the buyer on your behalf, working to reduce your costs and secure terms favorable to the sale.
When Selling, Work With Raincatcher
If you’re selling a business with a commercial lease, don’t go it alone.
Leases can be confusing to understand, even if you have a good relationship with your landlord, and you don’t want any sudden surprises to threaten a potential deal.
At Raincatcher, our professional business brokers understand the nuances of commercial leases. They will help you understand what parts of it are most pertinent to the sale of your business, as well as any potential setbacks the lease presents.
Our brokers also know how to negotiate with landlords in a way that keeps qualified business buyers interested in making a deal with you, helping to move your sale forward.
Looking to sell your business and transfer your lease? Contact Raincatcher today to start the conversation with a certified business broker.