How To Upgrade Your Premises At The Landlord’s Expense

September 23, 2020
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Commercial Real Estate

There are plenty of ways for commercial tenants to upgrade, renovate, improve and optimise your premises at the Landlord’s expense. And the motivator might not just be to get employees back to work. It may be to improve productivity, reduce cost or enhance amenity.

Whatever the reason, it’s important to remember that the improvements you make to the asset may not just benefit your business; the landlord may also see some gains. Here’s how to approach a conversation with your landlord about getting them to chip in for some (or all) of the cost.

Step one: Learn how commercial valuations work​

Understanding Commercial Property Valuation Principles (as in, how the landlord's property is valued), will help you start the conversation with your landlord.

Here's a simple calculation you can use to work out the value of a property:

Value = Net Profit/Capitalisation (Cap) Rate

Let's break it down:

The Net Profit for the landlord is essentially the rent you pay to them, less their operating costs.​

The Capitalisation (Cap) Rate is a little trickier to define because there are so many variables. But, put simply, it's calculated by dividing a property's net operating income by its current value/appeal in the market.

Here's a working example …

Let's say the landlord receives $1,750,000 p.a. in rent (plus outgoings), and the landlord pays land tax costs of $250,000. This gives the landlord a net profit of $1,500,000.​

Now, for ease of calculation, let's say everyone in the building has exactly five years left on the lease, and the property is in a desirable metropolitan area with potential development upside. This may lead to a valuer applying a cap rate of 6.0%.​

Using our simple calculation (above), the property’s value equals $25.0M ($1,500,000 / 6.0%). Remember that number...

close up of refurbished office at landlord expense

Step 2: Provide a scope of works that appeals to the landlord​

The trick to getting your landlord to pay part of the refurb cost is to put together a works program that improves the Capitalisation Rate – the value multiplier. In your pitch to the landlord, be sure to highlight how the capital expenditure will increase value. This could be through:​

  • Increased parking around the asset​
  • Improving income streams (e.g. activating a corridor or lobby)
  • Cost-saving initiatives (e.g. Installing solar or battery power)​
  • Market-leading initiatives (that will help the building stand out from competitors​)
  • Maintaining future development opportunities (without over-developing)​
  • Continually focusing on asset presentation and maintenance.​

You can also provide a further incentive to entice the landlord to pay for all or part of the works. The easiest way to do that is to offer to sign onto a longer lease term.

refurbished office at landlord expense

Step 3: Getting your landlord onboard​

Before you approach your landlord, be sure to have a good understanding of what the project is likely to cost and get quotes from reputable licensed trades. The landlord will usually agree to pay for the works upfront; you pay them back in increased rent.

However, by preparing yourself with an understanding of how you're improving the property value, you can counter that argument and minimise your costs. ​

Here are a couple of examples of how this conversation can play out in real life. Let's say you plan to spend $1m to renovate the premises in ways that will improve the cap rate:​

  • Scenario 1: Landlord pays 100% of Capital Expenses, you (Tenant) repays over the remaining lease term as additional rent with 10% interest.​
  • Scenario 2: Landlord pays 80% of Capital Expenses upfront. The tenant doesn't repay capital (ever!) but agrees to 5 additional years on the lease - it’s an excellent financial outcome for shiny new premises!

Sell it to your landlord like that, or ask Tenant CS to assist!

Not sure how to approach a conversation about upgrading your premises at the landlord's expense. Tenant CS are negotiation experts and we’re here to represent you, the tenant. We will give you independent, expert and conflict-free guidance to save you time and money.

Contact us today!

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