Articles Posted in Commercial Leasing

There are numerous challenges facing San Diego business owners especially in today’s economic climate. Fighting for a share in an ever tightening market makes it difficult to keep up with monthly outlays not the least of which are lease payments and common area maintenance expenses (CAMS). Commercial lease lawyers in San Diego regularly receive calls from tenants struggling to stay afloat and wondering whether they have other options short of closing up shop. There is also a common misconception among commercial tenants throughout California regarding the legal consequences of defaulting on their lease and/or being evicted. They imagine that if they get evicted they will owe monthly lease payments from the date of eviction to the end of the term of the lease. This is because most commercial leases expressly identify all future rent (including CAMS) as recoverable by landlord as damages resultant from tenant default. If a tenant with a five year lease finds itself unable to keep up with its lease payments (say $5,000 per month), it may believe that it owes the landlord $180,000 in future rent payments along with any current past due monies owed. This is true from a purely technical standpoint. However, because California law requires parties to contracts to take reasonable steps to mitigate damages, in most cases the damages that would be awarded via litigation would be much smaller.

glass-elevator-1-1522751-225x300In the landlord/tenant context, landlords cannot let a property languish while the prior tenant continues to pay rent or worse re-lease the property and collect double rent. In essence, the previous tenant is only liable for the landlord’s actual losses (the rent while the premises are unlet and/or the difference in rent if the later tenant is not paying as much). The landlords duty is to take reasonable steps to re-lease the premises. In commercial lease lingo, Landlords are entitled to the rent that they would have earned to the end of the lease term less those damages a tenant can prove could have been reasonably avoided had the landlord made an effort to re-lease the premises. This writer has consulted more than once with tenants who have paid in excess of twelve months in lease payments for premises that are sitting empty because they did not know about their landlord’s duty to mitigate. As long as the tenant is paying rent, the landlord has no incentive to do anything. Tenants having trouble making their lease payments should consider other options before simply accepting their landlord’s representations. Landlords of course have a legitimate interest in being made whole once a tenant defaults. In most cases, they will work with tenants towards an early termination agreement that takes into account their ability to re-lease the premises. See “Early Termination of a Commercial Lease”.

There is one important exception with respect to mitigation. Under California Civil Code §1951.4, a commercial landlord may continue the lease in effect after the tenant breaches and abandons the premises and recover rent as it becomes due. In order for landlords to take advantage of Civil Code §1951.4, the lease must specifically provide for this remedy and the tenant must have the right to sublet and/or assign the lease. Essentially, the burden of mitigating damages shifts to the tenant who maintains the right under the terms of their lease to sublet and/or assign the lease to a third party. Landlords should and do regularly insist on the appropriate §1951.4 language in their leases. The lesson for tenants is simply not to abandon the premises. Doing so allows a landlord to take advantage of the Civil Code §1951.4 remedy. Landlords should consider whether serving a three day notice to pay rent or quit (thereby assuming the duty to mitigate) is a good idea at least until consulting with a commercial lease lawyer regarding the Civil Code §1951.4 option.  This is particularly so where the tenant is clearly solvent.

Most new businesses are required to enter into a commercial lease of one form or another. The owners of the business are typically presented with thirty to forty page leases set out in fine print on legal size paper. These standard leases are comprehensive and contain provisions that inexperienced business owners usually don’t fully understand. With proper scrutiny and research it is possible for the inexperienced owner to sufficiently navigate their commercial lease. However, this type of scrutiny (in essence due diligence) takes significant time and effort. Ideally, new business owners will instead consult with an experienced commercial lease lawyer before moving forward. Whether or not legal counsel is sought, it is important for all new lessees to be aware of certain pitfalls. This articles summarizes on the most common areas of concern:

967963_escalators_in_shopping_centre-224x300Common Area Maintenance (“CAM”) Expenses: In shopping centers and office buildings where numerous tenants share common space Landlords typically require their tenants to share the costs of maintaining these common areas. Shopping center leases are usually triple net (NNN) leases. Office leases are typically base leases. Either way, landlords are looking to pass on the costs of maintenance to tenants in one form or another. Common area expenses may include expenses associated with landscaping, sidewalks and parking lots, sprinklers, public address systems and music, bathrooms, signs, garbage collection, security and utilities for the common areas such as parking lots, hallways, food courts and any other areas where customers and clients gather or walk through. Most landlords also include an administrative and/or management fee. In addition to base rent, tenants will usually have a monthly CAM bill which represents a twelfth of the tenants pro rata share of the estimated CAM expenses for the year. At the end of the year, if the landlord underestimated the CAM expenses, the tenants are required to pay the difference to the landlord upon receipt of an invoice (the opposite is true if the landlord overestimated –tenants are refunded accordingly). It is vital that new tenants know precisely what these CAM expenses are, how they are calculated and the process for reconciliation of said expenses at the end of the year. Tenants should try and negotiate with the landlord towards ensuring that only legitimate expenses (expenses directly related to common area maintenance) are included. It is helpful to ask the landlord to provide CAM reconciliations for the last three years. This allows prospective tenants to better understand what these expenses are and how they grow over time. It’s also important to seek the right to audit annual reconciliations to ensure proper accounting. Finally, in some cases, tenants may be able to seek a cap on annual CAM expenses. The ability to negotiate for better terms of course depends on the parties’ relative bargaining positions.

Repair and Maintenance Obligations: It is not uncommon, particularly in retail leases, for landlords to require tenants to assume the obligations of all repairs and maintenance to the premises including repair and maintenance of plumbing systems, mechanical systems and equipment such as boilers and HVAC (Heating and Air Condition) systems. In a triple net lease, the entire obligation is shifted to tenants including sometimes full replacement of unrepairable equipment. The average business owner may first learn of this only after a major system breaks down and the landlord points them to the repair and maintenance provisions of the lease. An HVAC failure can have a devastating impact on a tenant’s business. The HVAC system must be repaired (or replaced) and the costs can be prohibitive. It’s important that tenants fully understand their repair and maintenance obligations before entering into a commercial lease. While it may not always be possible to negotiate better terms, it is important to at least try. If you fail, you at least have a better understanding of precisely what your obligations will be. For instance, it is not unreasonable to ask the landlord to warranty the premises mechanical systems and equipment for one or two years. It’s also not uncommon for landlords to agree to replace major equipment at its expense and to capitalize the expense over time so that the tenant pays only the annual capitalized portion of the total expense.

There are a number of reasons why a business owner might be motivated to end a commercial lease early.  The most common reason is that a business is not doing well enough to keep up with the lease payments.  Other reasons include changes in the local market, the need for larger or smaller space, or the simple desire to move on to other endeavors. Whatever the circumstances, a tenant desirous of terminating its commercial lease early faces an uphill battle.  Commercial landlords count on tenants to maintain their lease obligations.  They enter into long term leases to avoid the costs associated with continually looking for new qualified tenants and more importantly to avoid the loss of revenue associated with empty space.  For this reason, landlords typically demand strong lease language discouraging tenants from early termination.  See “Assignment Clauses and Related Terms in Commercial Leasing”.

sky-reflection-1453027 (1)Once a tenant decides, for whatever reason, that it wants to terminate a lease early, it should proceed cautiously.  The best approach of course is to seek the assistance of an experienced San Diego commercial lease lawyer.  Whether or not you consult with an attorney, it’s important to review your lease terms carefully so that you have a clear understanding of the options available to you and/or the consequences of early termination. What are the necessary steps for assignment of the lease to a new tenant?  Does the lease give the landlord unfettered discretion in deciding whether to accept an assignee (a new tenant)?  How does the lease define damages for early termination?  Is there a recapture clause (a clause that allows the landlord to terminate the lease merely because the tenant asks the landlord to approve an assignment).  Of course, tenants may also seek other ways to avoid early termination such as proposing flexible payment options to catch up on rent, proposing temporary reduced rent, asking to be moved to a smaller space on the same property or seeking assignment approval.  It is of course best if you can successfully avoid early termination via one of these proposals.  However, they are easier talked about than accomplished.

In most cases, a tenant terminating a lease early is liable for any unpaid rent and the unpaid rent due for the balance of the lease term less mitigation.  Mitigation is the amount a tenant can prove could have been reasonably avoided had the landlord made an effort to re-lease the space.  From a practical standpoint, tenants without the resources necessary to hire an attorney and litigate the case most often find themselves facing default judgments for the full amount of the damages requested without any mitigation.  This is why ignoring the problem isn’t an option.  At the same time litigation is extremely expensive.  However, landlords are sometimes willing to informally discuss early termination terms that factor in mitigation so long as tenants are communicating an intent to find a fair resolution.  A fair resolution unfortunately does not mean that the tenant is going to like the outcome.  Objectively, fairness would require a tenant to be responsible for the actual costs associated with the landlords quest for a new tenant (past due rents owed including common area maintenance expenses (“CAMS”), all rents and CAMS to the date of a final agreement, all costs associated with finding a new tenant, the costs of rent and CAMS while the space is empty and if the new tenant pays less rent, the difference the landlord would have earned had it received the higher rent.  These costs can be considerable.  Moreover, landlords don’t always know how long it will take and they err on the side of benefiting themselves when negotiating early termination terms.

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.

time-flies-away-801503-mIdeally, 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.

Percentage rent allows a retail landlord to benefit from a tenant’s success.  In addition to the base rent, tenants will pay an additional rent based on some percentage of the tenant’s gross sales typically triggered by what is termed a “breakpoint”.  New tenants asked to pay percentage rent are typically troubled by the idea mostly because they see it as a way of being penalized for success.  Clearly, landlords benefit significantly from percentage rent reaping additional profits in times of economic boom while losing nothing during downturns. However, there is a synergistic effect that can benefit tenants.  Most landlords aggressively seek to maximize profits and creating the right tenant mix and shopping center atmosphere aids in increasing the revenue stream for all tenants thereby increasing the landlords rent.  In such cases, the landlord at least arguably is creating something of value for tenants.  The value of a landlord’s labors in this scenario is of course difficult to measure, but with an earnest effort it can unquestionably have a dramatic impact on shopping center sales. 


Percentage rent is typically set at five percent (5%) of gross revenue but usually doesn’t trigger until some “breakpoint”.  The breakpoint can be arbitrarily set by the parties as a stipulated breakpoint (for instance at $1,000,000).  In this case, a tenant would be obligated to pay 5% of all gross sales in excess of $1,000,000.  If gross sales were $1,500,000, the tenant would owe as additional rent of $25,000 (5% of $500,000).  Many retail leases set the breakpoint at what is termed the “natural breakpoint”.  For the natural breakpoint, you divide the base rent by the set percentage (the typical 5%).  The natural breakpoint results in a percentage rent applicable to sales over and above the point in which the base rent would equal 5% of gross revenue.  In other words, the tenant is paying 5% of gross sales or the base rent whichever is higher.  If the breakpoint is not reached, the base rent is higher than 5% of gross sales.  If the base rent in the above example was $120,000 ($10,000 a month), the breakpoint would be $2,400,000 resulting in no additional rent due.  The landlord is then guaranteed a minimum rent no matter how bad sales are, but benefits when sales are good. Tenants benefit if the stipulated breakpoint is above the natural breakpoint but not if it is below the natural breakpoint.  In the above example, if the stipulated breakpoint is $4,000,000, the additional rent would be zero.  If the stipulated breakpoint is $500,000, the tenant would pay the base rent ($120,000) plus a percentage rent of $50,000 (5% of $1,000,000).

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Landlords desire radius restrictions in commercial leases for two main reasons: where the landlord is entitled to percentage rent, a competing business within the restricted radius may dilute the landlord’s income; and more generally a competing business within the restricted radius can have a negative impact on the exclusive nature of the shopping center.  For example, a national fashion chain with a significant lure draws shoppers to the center – shoppers attracted to that particular chain.  Opening the same chain too close to the center threatens to dilute the landlord’s traffic.  Retail landlords take great care to manage the shopping center’s mix to maximize foot traffic.  For either reason, reasonable radius restrictions are legitimate in San Diego commercial leasing.  However, tenants should take care to ensure that these clauses are carefully worded to limit the restrictions.  Particularly, it’s important that the “radius” of the restriction, the term of the restriction and the scope of the restriction are all specifically defined.  


Defining the Radius:  Most commercial leases tend to broadly define the distance covered by a radius restriction – usually to about a five mile radius.  In such cases, the parties may have different understandings as to how the radius is measured.  A five mile radius might mean five miles as the crow flies in any direction from the store’s precise location or it could mean five miles in any direction from the boundaries of the shopping center.  In addition, five miles as the crow flies in a specific direction could fall on the edge of a competing shopping mall.  In that case, opening up shop just feet away from the maximum distance would still have the negative impact the landlord was attempting to avoid in the first place.  Landlords and tenants can avoid this type of confusion by clearly defining how the radius is determined.  Stating where the radius is measured from is a good start.  Defining the area more specifically on a street-by-street basis or using particular landmarks is even better.  
The Term of the Restriction:  The term of a radius restriction typically coincides with the term of the lease.  However, problems can arise when a lease is terminated prematurely.  If the tenant has an early termination right, it’s important that the radius restriction terminate simultaneously.  It’s also common for tenants to start developing new opportunities in anticipation of the end of a lease term.  This would be a problem if the radius restriction broadly defines the restricted activity as “running, operating, investing in or developing” a competing business.

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Exclusive use clauses in commercial leasing are important to both landlords and tenants, especially in the retail context.  Landlords need to focus on the right tenant mixture, ensure that obligations to existing tenants are met and maintain the ability to attract new tenants. Prospective tenants need to know that a direct competitor won’t be setting up shop in the same shopping center or worse right next door.  In every new lease, exclusive use clauses come into play in two ways:  exclusive use clauses applicable to existing tenants and the new tenant’s desire to obtain its own exclusive use.  With respect to existing exclusive use clauses, new tenants are simply excluded from using the premises for such uses.  Language in the lease will typically refer to an exhibit itemizing the unpermitted uses based on exclusive uses already granted to existing tenants.  Whether an exclusive use is granted to a new tenant will depend on a host of factors including but not limited to the size of the new tenant in relation to the shopping center, the new tenant’s negotiating power, the current mixture of existing tenants in the shopping center and potential conflicts with existing leases (particularly with respect to anchor tenants (national chains) who maintain significant control over their operations).  


All commercial tenants are subject to “use” restrictions. Before even entering into a lease, the parties generally have a firm understanding of just what is a tenant will be permitted to sell or serve on the premises (“Permitted Use”).  Whether this Permitted Use will be exclusive is a separate matter (but of no less importance to both landlords and tenants).  While it might seem intuitive that landlords would prefer not to be bound by exclusive use clauses, Landlords in fact benefit from a diverse tenant mixture.  First, the shopping center is generally more attractive to customers looking for the mall experience.  Second, it would be hard to attract new tenants if the landlord has a reputation of installing competitors right next door.  Finally, a significant number of prospective tenants will look elsewhere if they cannot be reasonably certain that the landlord will not lease space to competitors.   Moreover, in cases where the landlord receives a percentage of a tenant’s sales, exclusive use clauses become even more important. Because of these factors, most landlords will entertain the idea of granting an exclusive use to even the smallest tenant.  The real issue then becomes the scope of the exclusive use. 

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Commercial tenants are often perplexed when they realize that under the terms of their lease, they are responsible for damages that occur on the leased premises even if caused by the landlord’s own negligence. In most cases, the landlord’s liability for just about any scenario is limited to gross negligence and willful misconduct. Landlords typically insist that all liability shift to tenants because tenants have control over the leased premises. Tenants are then required to adequately insure against all liabilities whether or not it’s the landlord’s fault. The idea that tenants should be responsible for a landlord’s negligence seems counter intuitive. Landlord’s simply argue that they do not want to get caught up in battles over who may or may not be negligent. In their view, the simpler solution is for tenant’s to indemnify landlords for all liabilities while maintaining adequate insurance coverage (including insurance covering the landlord’s negligence). Whether or not one buys into the argument, the practical reality is that most landlords in California will insist on indemnification clauses requiring tenants to defend, indemnify and hold landlords harmless except in cases of the landlord’s gross negligence or willful misconduct. As a practical matter, excepting gross negligence and willful misconduct from indemnification clauses is not problematic for landlords because under California law they are already unable to contractually shift liability for their own gross negligence or willful misconduct. Willful misconduct is intentional misconduct. But what is “gross negligence”?

shopping-palace-by-night-3-273308-m.jpgIn layman’s terms, negligence is often referred to as carelessness. In legal terms it refers to the failure to meet an accepted standard of conduct. For example, a surgeon that accidentally leaves a sponge in a patient would clearly be careless thereby breaching the “standard of care” expected from surgeons generally. Gross negligence refers to a level of negligence that is greater than standard negligence but falls short of an intentional act to harm. Leaving the sponge in the patient on purpose because the surgeon didn’t like the patient’s constant complaining would be an intentional act. In California, gross negligence is defined as misconduct that demonstrates either a want of even scant care or an extreme departure from the ordinary standard of conduct. Gross negligence falls somewhere between a careless accident and an intentional act. Perhaps a nurse reminded the surgeon twice that the sponge was still in the patient but the surgeon decided to respond to a text message. Being warned about the sponge and texting while operating reflects a more careless act and in this case arguably rises to the level of gross negligence. Defining the contours of what is and what isn’t gross negligence however is easier said than done. Proving gross negligence then, at least in California, depends on making a factual determination as to what is scant care and/or an extreme departure. This is a highly subjective standard. The finder of fact (the jury in most cases) is tasked with determining what the standard of care is and then what level beyond this standard rises to gross negligence. In short, proving gross negligence is difficult in almost any circumstance.

To learn more about landlord liability and indemnification clauses, contact a San Diego commercial lease lawyer today.

The terms of commercial leases vary significantly depending on the type of commercial property being leased and the specific business goals of both landlords and tenants. “Option clauses,” also known as “renewal terms,” are provisions in a commercial lease agreement that allow a tenant to extend the term of the lease for an additional term after the initial term has expired. Tenants prefer option clauses because they reduce the risk of having to relocate an established business after the expiration of the initial term.

nightshopping-130418-m.jpgWhile option clauses are prevalent in commercial leasing, most landlords would probably prefer not to have to deal with them. This is especially so where the rental rate during the option period is fixed. Option clauses prevent landlords from leasing the premises on the open market and ultimately obtaining the highest possible rent. Options give tenants a choice which necessarily reduces a landlord’s flexibility. Once a tenant exercises its right to the option term, the terms of the option clause govern regardless of how good the market is at the time. That is why most landlords prefer that the rental rate during the option period be determined by the actual market rate for the premises at the time the option is exercised. This is generally a fair approach for both landlords and tenants because each side is equally exposed to the vagaries of the market.

A market rate would benefit tenants if the leasing market is especially soft when it comes time to exercise the tenant’s option. Moreover, in soft markets, tenants may be tempted to explore better options leaving landlords with empty space. To hedge against this uncertainty and in exchange for including an option clause, landlords will usually require that there be a floor to the new rental rate during the option period (usually no less than a 3% increase over the rental rate immediately preceding the option period). This provides landlords with the best of both worlds – a minimum increase in rent even if the leasing market is dismal or an increase in rent equal to the higher market rate should the market be strong. In such circumstances, tenants are better off with predetermined fixed increases in rent usually consistent with the annual increases in rent during the initial term of the lease. Either way, option clauses are inherently valuable to tenants and how the rental rate is determined during any option period under the terms of the lease will depend on the tenant’s bargaining power during commercial lease negotiations.

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Indemnity clauses in general are designed to shift liability for claims asserted by third parties from one party to another. In the commercial lease context, tenants typically agree to both indemnify landlords and to defend and hold them harmless for all claims arising out of tenant’s operation of business on the leased premises, tenant’s maintenance of the premises and the negligence and/or misconduct of the tenant or its representatives, employees, agents and contractors (and sometimes even the tenant’s customers). In essence, the tenant agrees to defend the landlord for specified damages or claims. While it may seem absurd to a prospective tenant, commercial leases sometimes contain language requiring tenants to indemnify landlords for claims for liabilities arising out of occurrences in the common areas controlled by landlords and even for those liabilities arising out of the landlord’s own negligence.

outlet-center1-52397-m.jpgMost importantly, under California law, these types or indemnification clauses are generally enforceable, at least in the commercial lease context. Of course, there are public policy considerations even where commercial leases are concerned. For instance, landlords cannot contract against future claims for their own intentional misconduct or gross negligence. It is advisable, given this limitation, for tenants to seek reciprocal indemnification language for any intentional conduct or gross negligence by landlords. Moreover, depending on the parties’ relative bargaining power, some landlords may be willing to indemnify tenants for their own negligence and even the negligence of those under their control where the damages arise from occurrences in the common areas.

From the landlord’s perspective, the idea is to shift liability to the tenants who conduct business on the premises daily. This reallocation of risk is guided by the parties respective insurance coverage. From a practical standpoint, the shift in responsibility is a shift in insurance obligations. If the lease shifts liability for “any and all” claims arising out of anything to tenant, it becomes incumbent upon the tenant to insure against “any and all” claims. In fact, most commercial leases specifically require suitable coverage. As such, allocation and the actual procurement of adequate insurance coverage is essential for both landlords and tenants.

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