Assignment clauses are an important part of commercial leasing. They provide successful tenants an opportunity to sell their businesses and provide failing businesses the possibility of finding replacement tenants in order to avoid breaching their leases. Generally, landlords retain significant control over the process. This article focuses on lease terms that facilitate the assignment process and/or early lease termination for new and growing business owners interested in testing the waters. While landlords are resistant to the concept of “testing the waters”, they will sometimes work with new business owners in order to secure their tenancy.
Ideally, commercial tenants, especially new and growing businesses, will seek more favorable assignment and early termination terms when negotiation the lease. Depending on the circumstances (some tenants will have more bargaining power than others), landlords may agree to be more flexible. While favorable assignment and early termination language is hard to come by for tenants generally, the following concessions are worth pursuing:
- A cancellation clause that allows tenants to cancel their lease if specific income projections are not met within a certain time period such as on the six-month or one-year anniversary of the lease commencement date.
- Assignment language that requires landlords to approve replacement tenants that is less restrictive. Landlords normally retain significant control over a tenant’s right to assign the lease to another tenant. This is important because less strict assignment terms facilitate a tenant’s ability to sell its business which is one of the cleanest ways to terminate a commercial lease early (although the tenant will normally retain some liability if the buyer/assignee defaults on the lease). The assignment language in a typical commercial lease is lengthy and specific. Tenants should review the proposed language carefully and look for ways that make landlord approval simpler and more likely. At the very least, tenants should seek language that restricts landlords from unreasonably withholding consent to assignments. It’s important to keep in mind however that landlords have a legitimate interest in ensuring that any approved assignee is viable.
- A shorter lease term with options to extend. Consider your business’s financial projections when deciding what lease term options you want to negotiate and include in the lease. In general, short term leases with more options to renew are best for new and growing businesses. The costs associated with early lease termination are simply too high. With shorter lease terms, a tenant can ride out the shorter period if its business is failing. A successful tenant on the other hand will exercise its option to extend the lease term and continue to profit.
- A termination provision that specifically provides for an agreed-upon early termination penalty. If a tenant is evicted, technically the landlord is entitled to damages that include future rent for the remaining term of the lease less mitigation. The mitigation is an important factor. Since it is most often likely that landlords will be able to lease the premises to a new tenant within three or four months of eviction, their damages are limited accordingly (limited to those damages that the landlord could have reasonably avoided – mitigation). However, the costs to both sides of litigating the dispute are significant. Agreeing in advance to an early termination penalty of three or four months’ rent plus the landlords actual costs in seeking a new tenant avoids this headache and ensures landlords that they will be reimbursed for the reasonable costs associated with the early termination.
- Removal of recapture clauses. Recapture clauses are harsh landlord favorable clauses that allow landlords to terminate a lease merely because the tenant requests an assignment. This type of language effectively prevents tenants from exploring the possibility of assigning the lease to a new tenant.
Whether or not a tenant is able to negotiate more favorable terms, it’s important that tenants clearly understand the early termination process as governed by their lease. It is of particular importance that tenants understand how damages are defined.
The scope and complexity of a standard commercial lease today can be daunting, not only for new tenants and business owners, but for landlords themselves. Assignment clauses and other terms associated with early lease termination are an important part of any commercial lease and are illustrative of the complexities involved when negotiating a commercial lease. The best way to navigate this complex process of course is to consult an experienced San Diego commercial lease lawyer. If you would like to schedule an initial consultation, contact San Diego business attorney Donald R. Oder at (888) 900-9002.