Commercial tenants seek more flexibility, shorter leases post-pandemic

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The COVID-19 pandemic — which resulted in many companies having their employees work from home while their office spaces stood vacant — has impacted the way businesses are now negotiating commercial leases.

“Tenants know what they are getting into, and they are taking steps to protect themselves from the onset,” said Kristopher Vurraro, an attorney with Woods Oviatt Gilman LLP.

Vurraro, a partner in the firm’s Real Estate Development and Finance Department, with a concentration in commercial leasing, said the office market continues to be in a state of flux post pandemic, given the number of firms offering hybrid and remote work options.

Because of this work model, tenants are looking for increased flexibility with the length of their leases, he noted, especially as some firms continue to evaluate the pros and cons of in-person, remote and hybrid options.

“Some companies don’t yet know what their future needs will be,” he said.

As a result, tenants now have more leverage when it comes to surrender options in a lease, with many choosing to include an early termination clause, Vurraro said.

The changes not only apply to office space, he said, noting they are also taking place in the warehouse and industrial market and, to a lesser extent, retail.

The economic climate is further impacting commercial leases.

Higher interest rates, coupled with companies tight on cash and operating on thinner margins, are leading tenants and landlords to be more creative to make deals happen, Vurraro said.

Some landlords, for example, are willing to work with tenants on buildout costs for space improvements, amortizing the costs into the rent over the course of the lease.

“It’s becoming more common to see landlords being the tenant’s lender,” he noted.

Landlords are also becoming more cognizant of lease agreements, especially when it comes to the force majeure clause.

While many opted for boiler plate provisions when it came to force majeure in the past, landlords today are looking at leases that are more tightly drafted, spelling out the terms clearly when it comes to unforeseen events, Vurraro explained.

He pointed out that every commercial lease is unique and can vary, depending on factors such as the economic specifications, type of lease and even industry served.

Because of this, he advises that landlords work with attorneys to make sure all the details are thoroughly covered.

“A lawyer can help bring the two parties together and finalize the transaction,” he said.

Sean McCabe, senior counsel with Harris Beach PLLC, agreed that landlords and tenants are paying more attention to the force majeure clause post-pandemic and doing their due diligence on the subject.

McCabe represents businesses, real estate developers and property owners in all aspects of commercial real estate matters.

He noted that work from home options are prompting many employers to re-evaluate their office space needs.

Landlords are re-evaluating their options when it comes to building or buying new properties, as well, McCabe noted. They may also be looking more closely at things such as the quality of the air ventilation system in a building and the outdoor space available with the property.

While the commercial leasing landscape is different than it was pre-pandemic, McCabe said the market in the Monroe County area has not seen the same contraction as larger metro areas.

He believes that may be because people have an easier time commuting to work locally than they would in a big city and some employees want to go into the office, especially if their employers are flexible when it comes to work-life balance.

The type of office space that companies are looking for is also tied to incentivizing workers to come into the office these days, McCabe said.

When it comes to commercial leasing demand, there has been a decrease in those seeking Class C space, while the demand for Class A space is strong, he said.

“It’s more about the quality of the space rather than having a lot of space,” McCabe said.

John Anderson, partner and head of the real estate practice at Harter Secrest & Emery LLP, also pointed out the commercial market for office space remains in a state of flux post-pandemic.

It may stay that way for some time, he noted, given changes in interest rates and the continued popularity of remote work.

As a result, Anderson is seeing several companies holding off on any decisions related to office space.

“A lot are waiting on the sidelines to see what happens,” he said, noting a transitionary period could remain for the next few years. “We’re still figuring out the new normal.”

Tenants who are up for lease renewals or have space needs this year are looking at it through the prism of the pandemic, Anderson said.

Remote work, for example, may impact a company’s space needs.

“The square footage a business needed in 2019 might not be the same square footage they need today,” Anderson said.

Because of the current state, some companies are negotiating leases that allow for more flexibility, he said, seeking options such as ones that allow them to reduce their space if needed.

Some tenants are also looking at the term length of the lease differently than in the past, Anderson said.

While a company may have negotiated a 10-year lease pre-pandemic, they may now opt for a five-year lease with a five-year renewal option, he explained.

Because of the market instability, Anderson advises tenants to have some protections in place if the landlord gets into financial stress.

Rising interest rates and decreasing vacancy space could negatively impact a landlord’s ability to pay the mortgage and some of those costs could be passed onto a tenant, he noted.

Tenants seem to have a slight edge over landlords when it comes to negotiating favorable lease terms these days, but Anderson has not seen any dramatic drops in rental rates locally as a result.

While landlords may be more flexible when negotiating terms to get a new tenant or have an existing one renew or add space, many of them are doing what tenants have been doing – waiting it out until the market settles.

“Landlords also recognize the landscape is in flux,” Anderson said.

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