12 IMPORTANT TERMS FOR F&B LEASES
Restauranteurs rarely do well on their first lease negotiations. A restaurateur has spent a decade perfecting the craft of food service, but not negotiating contracts. The common wisdom is to hire a trustworthy broker and a good lawyer, but usually both of these relationships are fresh for both parties. And, the restaurateur is typically an uneducated client, making the job harder. This article is a cheat sheet for a purveyor negotiating their first commercial lease:
Choose the longest term you think you might want to operate that business. Avoid short durations, because if you are successful, your landlord will absolutely index your renewal rent to your sales volume taking over a chunk of the speculative profit you worked for.
Negotiate for termination clauses. Do this through real-world examples that might cause financial peril. A lot more detail on this below.
Negotiate for exclusions. The landlord should not expect to lease to a competitive business.
Negotiate the ability to sell your business in certain scenarios without requiring the landlord's approval.
Keep Tenant Allowance requests reasonable or avoid them altogether. Use the SBA for a loan before your landlord. They will be far cheaper and Landlords really don’t want to be lenders.
Spend time preparing the terms that are important to you. Then stick to them. Landlording is competitive, so be firm on the things you need.
Eliminate or minimize charge backs. Put guardrails on the Landlord’s ability to invoice you at random. A lot of landlords make it so they don’t have to disclose what these charges are used for. Ask why. If there isn’t a disclosure process, ask for a maximum threshold.
Realize that your landlord will likely change during the lease, so make sure everything important is in writing, even if you are encouraged to trust the relationship to get the deal over the finish line.
Insist on a mechanical warranty for second generation spaces.
Include signage exhibits in the lease; don’t ever save it for later approval.
Don’t agree to timeframes that may be out of your control. More on this below.
Avoid and meticulously negotiate personal guarantees. More on this below, too.
We are choosing a few points to deep dive below, but if you have further questions, use the links below to email us. We don’t charge purveyors for consults.
Termination/restriction clauses are your best defense against a downside scenario and there are very real world scenarios that happen and will be out of your control. For example, let’s say your shopping center shares parking and business is very good. The landlord decides that all that parking would make a lot more money if he started charging $10/hr when it was previously free. Now your customer’s visit just became $20 more expensive. How will that affect your business? In another scenario, let’s say the city decides to implement a 2-year infrastructure project on the main access point to your restaurant. Traffic is horrendous and your sales drop by 40%. How will that affect your ability to pay rent?
Termination/restriction clauses allow you to protect yourself from the things that might affect your business’s ability to be viable and continue paying rent. A well negotiated set of rights protect the purveyor from uncontrolled financial peril. You should spend at least 60% of your entire lease negotiation on these items. They don’t all have to result in a lease termination. In fact, most of the time, you can simply negotiate for something that excepts you from the behavior. In the parking scenario, the landlord could charge for parking, but you could require them to give you 3 hours of free validation for your customers. In the infrastructure scenario there is a real identifiable impediment to business. Corresponding sales dropped suddenly, but consumer reviews don’t also fall. A reasonable landlord will understand this and be able to discuss it openly. A similar popular termination right is an “anchor tenant termination right.” For example, if the shopping center is anchored by a traffic-driving main tenant that leaves, overall traffic might fall dramatically. This is your opportunity to prepare for scenarios and avoid uncomfortable future negotiations.
I encourage everyone to negotiate hard for a “sales kick.” This is what happens when you’ve tried everything, but it’s just not working. It’s never easy to determine why, so the contract should cover what happens when your sales number underperforms your proforma by more than 20%. If you read our article on multi-unit expansion, this is how you free up time when a deal doesn’t perform. It won’t be cheap, but it doesn’t also have to be impossible.
The biggest financial strain we see on first leases is that the landlord convinces the restaurateur to an unconditioned fixed date upon which rent will start. The problem is that the restaurateur can’t guarantee when they will get the regulatory approvals. The restaurateur just negotiated a lease, but they might also have to build the restaurant and navigate permits, which they have often never done before. Sometimes the contractor slows things down or the Landlord, himself, delays the process with tedious layers of approvals. The restaurateur has accidentally agreed to be responsible for all of this and ends up owing rent while they aren’t generating sales. This is never a good idea. One reasonable way around this is to commit to hiring a local licensing attorney (to comfort the landlord), and only agreeing to rental commencement after all final inspections are complete and permits are in hand.
Finally, and most importantly, the concept of a personal guarantee is usually the most misunderstood aspect for restaurateurs. The language of guarantees is complex and confusing. The entire purpose of the agreement is to protect the landlord if something goes wrong. Essentially they say one simple thing: you will give them any asset you have to fulfill the remaining value of rental payments. “Any asset” might be your kids college fund or the roof over their heads, so you need to be careful.
Firstly, you should ask yourself, “Is a guaranty even appropriate?” And, if so, “In what quantity?” The Landlord made a risk-based investment decision in that they own the shopping center and, likely, took on a great deal of debt to do so. But, that was before you got to the negotiating table. That risk is not yours to bear. However, if you ask the landlord for financing capital (tenant allowance), then they’ve taken an additional risk on your business: some amount of guaranty is likely appropriate. Many attorneys will negotiate what is called a “limited guaranty” in that the amount or type of guaranty is “limited” in some capacity. Naturally, you will want to avoid “unlimited guarantees” altogether. Make sure that your guaranty accurately matches the additional risk you are asking the landlord to take. For example, if you lease a second generation space for a ten-year term and the landlord gives you $100,000 in tenant allowance, you shouldn’t be signing an unconditional guaranty. You should sign a limited guaranty for $100,000. If you are feeling polite, you might say the greater of $100,000 or a year of paid rent. There’s also a common term called a “rolling guaranty” which is where you might guaranty some payment if you break the lease. This is also called a “breakup fee.” Think about what is reasonable for both business owners and start there.
One parting note, a lease negotiation begins with an LOI (“letter of intent”). We typically encourage purveyors to write this themselves as an offer. Controlling the start of the conversation has its benefits, but it does go against the conventional wisdom to allow the other side to make the first offer. Whatever you decide, you will likely find that an LOI will include the following phrase at some point: “to be further defined in the lease.” If and when you see this phrase, you should realize everyone (but you) knows this is a sticky subject and they want to wait to negotiate it until later, when you are spending money on attorneys. Don’t do that. Use this phrase to show you where you should be asking questions. The conversation will go like this:
Purveyor: “Why do we need to wait to talk about that?”
Broker: “It’s complicated and it will take too long to talk about now. It’s easier to just wait and let the lawyers deal with it.”
Purveyor: “Why is it complicated?”
Broker: …
Spoiler alert: it’s not complicated. It’s a clue.
Purveyors are welcome to email us their specific questions via the consulting portal. We do not charge purveyors for email responses that take less than a half hour to respond to. Additionally, the first phone call is free.