Summary of Commercial Lease in Today's Market Roundtable (AUREO 2010)

(September 13, 2010)
Summary of Discussion and Practice Pointers
(28 attendees) Moderator: Gregory Ewig, Minnesota State Colleges and Universities

Disclaimer: This summary is based on the moderator's notes taken during the session, and relies on his spotty memory at times. Errors in campus attributions, facts, and such are the moderator's own. If the error is particularly bad – tell him to correct it – or just write a comment or add in on Linked in.


Renegotiation of Lease for a System Office
The conversation started about a lease restructuring at the Minnesota State Colleges and Universities in St Paul, Minnesota. About ½ way through a 10 year lease of Class A office space, Minnesota State needed to restructure the lease as a means of controlling their operating budget. Major deal points:

Original term – Aug. 1, 2005 – July 31, 2015
New Term – extends to July 31, 2022 (adds 7 years)
Original sq. ft. = approximately 103,000
New deal: ability to reduce footprint to 89,000 sq. ft. (14,000 sq. ft (1 floor)) by 12/31/11
Landlord waives prorata termination fee
Landlord provides $10 psf toward reconfiguration of space (approx $890,000)

Lessons learned:
- Sometimes it's a win when you can give back the space at no penalty.
- It's possible to reopen lease discussions more than 2 years in advance (especially when you're willing to add term)
- Time can become an enemy in lease negotiations (both too much and too little time)

Strategic Planning for Lease Portfolio
Several attendees reported that they did strategic planning in their lease portfolio (including targeting leases for early renegotiation, leveraging 1 year options to renew to apply pressure (uncertainty over continuation) on landlords to negotiate)

Leasing with the Federal Government
Depending on the agency within the federal branch, the General Services Agency (GSA) will be involved on behalf of an agency leasing space. In some cases, the Dept of Commerce will be the lease entity for certain agencies, such as the National Oceanic and Atmospheric Administration (NOAA).

University of Virginia
The University of Virginia described a renegotiation with the Army for a JAG training center on campus. The lease issues revolved around the default provisions, damages, and annual increases in rent. Ultimately, the university was able to whittle back the default provisions, limited damages to money back on the lease, and were able to obtain annual increases.

Practice points:
- University leveraged the feds desire to remain in the location to their advantage to get onerous “standard” federal lease terms modified
- Started with a shorter term lease
- Added 1 year right to terminate for health, life, safety concerns

University of Colorado

The University of Colorado had an experience with NOAA (National Oceanic and Atmospheric Administration ) where they were able to obtain a $7 psf amount attributable toward deferred maintenance.

Other Practice Pointers when dealing with the feds

- Look to the federal register – you can find valuable information (prospectus/budgets for amount the agency is able to spend on the lease)
- Feds rely on appraised lease values; one way is to counter with appraisal of own or prove out what the market is based on your own leases
- Feds want a full gross lease, which is difficult to provide. Many campuses have had success with obtaining pass through of operating costs; splits with base rent and operating expenses); and semi annual reconciliations to obtain some fairness in allocating risk of increased operating costs.
- Feds have fairly onerous requirements regarding leasing in buildings that are located in flood plains (they won't) and reporting obligations of environmental hazards (example was given regarding asbestos abatement)

Retail Leasing and Miscellaneous Topics

The University of Vermont discussed their experience with ATMs on campus and the ability to leverage current rents from ATMs out of a bank that had a special relationship with the university (“sponsor”) role.

University of California and University of Redlands attendees remarked about groups like Studley and Newmark that have leveraged information on loan refinancings to cultivate tenants from those buildings, and approaching such landlords collectively to renegotiate leases.

University of Mary and Washington operating as a landlord has been approached by a few tenants about renegotiating their retail leases. The university has rebuffed calls to renegotiate, but has been willing to increase Tenant Improvements.

UMW was willing to loan money to a proven sports bar concept to make a lease work on campus. ($200,000 for 5 years @ 6%).

The University of California (ed note: I don't recall which one) remarked about their use of a termination provision upon lack of appropriation. Historically, they have never invoked the use of the provision – until recently.

Overall Lessons:
- It's a tenants market.
- Those campuses / systems with termination for non-appropriation language in their leases might end up invoking the clauses if the budget situation continues to worsen.


Brokerage commissions on land leases

There was some discussion about whether and how much a broker should be paid on a land lease (especially when the broker “brings the deal to the University”). The common thread seemed to be that commissions are negotiable, and not mandatory.

The discussion also touched on some of the highlights of using a tenant's rep broker.

Practice pointers:
- Tenant rep brokers typically know which landlords are in trouble
- Some use a rotational basis so that no one firm or broker monopolizes tenant reprentation
- Colorado has used tenant representation very effectively for over a decade

Thoughts about the AUREO Conference - San Francisco

Despite the slump in the economy, it sounds like the Association of University Real Estate Officials (AUREO) annual conference in San Francisco this September will be well attended. At the conference, I'll be moderating a roundtable about "Commercial Lease Considerations in Today's Market."

I expect it will be an engaging discussion. Although my roundtable description leaned toward the more ominous trends, such as commercial foreclosures and restructuring leases, the news is never as bad (or as good!) as the reports make it out to be. My prediction for the roundtable is that most real estate markets surrounding universities will have remained stable or increased in rents slightly, despite the doom and gloom of their local markets.

My theory is based on three primary ideas: stalled commercial development, a temporary uptick in enrollment, and reduced appetite by legislatures to take on more debt for construction. Specifically, the nationwide markets for new commercial product has continued to stagnate. It's very unlikely any new product will be built soon, so new commercial square footage will continue to be limited. Secondarily, it seems that the recession has caused an uptick in enrollment among many colleges and universities that may translate into a temporary need for new program space. Except for some programs with long-term funding streams, capital for the construction of owned space will be limited, leaving commercial leasing the most feasible option. A further trend that bears watching is how legislatures deal with political trends against taking on more debt, even though extraordinarily low bond rates make it a perfect time to finance for capital projects. New debt service on bonds may be a bridge too far, so the trend line will continue with universities contrained from new bonds or borrowing, despite the extremely attractive cost of capital and lowered cost of construction.

We'll see if my roundtable predictions come true...