Friday, November 21, 2008

The Office Lease: Practical Considerations

In addition to running my law practice, I own a business that is the leading provider of professional office space for solo attorneys and small law firms ( I was recently signing a lease with my landlord for additional space, and I thought I would share some of the concerns I had from an entrepreneurial perspective rather than a pure legal one.

In addition to the obvious things like price per square foot and term, here are some key business items that were important to me:

Option to Renew. I was getting a 10-year lease. However, if I end up selling my business, it will be far more valuable to the buyer if there is an option to renew the space. If the commercial real estate market is hot when the lease expires, the landlord could ask the business to leave after the lease expires. If suitable space is not available, there's no business. The option buys the business another 5 years.

Landlord's Obligation to Pay Build-out Expenses. The landlord is paying for the build-out (well, actually, I'm paying for the build-out over time, he's fronting the cash). I needed to make sure all the work I needed him to do (and pay for) was in the lease. Also, I wanted to make sure that my payment obligations under the lease began when I could take possession, not when he started contruction (and thus be at the mercy of his construction crew. I know from experience, there's no renegotiating after the lease is signed.

Limited Personal Guaranty. My landlord won't rent to a closely held corporate entity (LLC or Corporation owned by a small group of people) without a personal guaranty from the owners unless he gets six months security deposit. Not exactly the best use of cash. That being said, what I guaranteed was that I would (personally) pay the rent if the business stopped paying the rent and didn't vacate the premises under the "Good Guy Clause".

Good Guy Clause. Without getting technical, it's a clause in your lease that lets you surrender the space without further personal liability to the landlord under your personal guaranty if the business is unable to continue to pay for it. The business is still “on the hook” for the full term of the lease, but I am not personally.

Relocation Rights. If we grow rapidly and need more space, our lease permits us to relocate a smaller tenant to a similar space in the building at our own expense. Of course, this right is usually reciprocal. Another tenant bigger than us may like our view better!

Assignment Rights. Again, if the business is sold, I don't want hassles with the landlord about lease assignments to the buyer. I have a good relationship with the management company and they are very flexible. But buildings get sold and you're always just end up stuck with your lease terms. I couldn't negotiate assignment without the landlord's consent (no sane landlord would permit this), but I got terms that won't hold up a deal if I find a buyer.

One more thing--and this was a surprise to me when I signed my first commercial lease--when you rent commercial space, you rent bricks and glass. Literally. When your landlord calculates the square footage of your space, they measure from the outside of the building not from the interior wall, plus, you pay for your space's pro rata share of common spaces, like the lobby, corridors, restrooms, elevators, mechanical rooms, etc. The percentage of the space that you are renting that is not the physical space in your office is called the "loss rate". The loss rate in my building is around 33%, I've heard about some buildings where the loss rate is 65%.

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Tuesday, November 04, 2008

Organize Your Business Where in The State Where You Are Located

Entrepreneurs starting businesses frequently have notions about organizing their companies in distant jurisdictions. Delaware and Nevada tend to be the jurisdictions of choice for many large companies and start-up entrepreneurs sometimes follow suit.
If you are a large business with many shareholders, or maybe even a public company, there are some legal advantages management may have by organizing in one of these states. However, for most businesses, there is no discernable advantage to organizing elsewhere.
For most businesses, the effect of organizing in a state other than the one where your business is located merely increases your costs. For example, if your business is organized in Delaware as an LLC but it is operating only in New York, not only do you have to pay filing fees, franchise taxes and fees for a registered agent in Delaware, you are also required by law to file as a foreign entity in New York, which includes meeting New York’s publishing requirement (approximately $1,300 in New York County). Essentially, you’ve doubled your start up fees for no appreciable advantage.
If down the road your business grows and there is a material advantage to organizing in a different jurisdiction than your home state, you can change the businesses’ organization state inexpensively through a simple migratory merger. At that point, your business should be in a better position to absorb the extra costs.
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