How to Lease Commercial Real Estate as a Small Business
The commercial real estate market can be daunting, especially for a business looking to lease retail or office space for the first time—and especially in metro areas like San Francisco, New York, and Seattle, where rent is pricing small businesses out of many neighborhoods. Given the many nuances involved, business owners will benefit from doing their homework ahead of time. On that note, we’ve put together a primer on how to lease commercial real estate, to help small businesses get started.
Finding a tenant broker
Although commercial tenants can go it alone in figuring out how to lease commercial real estate, being represented by a tenant broker is arguably the best way to go, advises Norm Iverson, VP of Real Estate Closers at Seattle-area Sterling, Johnston and Associates. This is especially true when considering the fact that the broker’s fee is almost always paid for by the landlord, not the tenant. A tenant broker’s job is to protect the tenant’s best interests, know what questions to ask, and ultimately negotiate a good lease.
For Iverson, finding the right tenant broker is all about relationships because, “if you go to one of the big box agencies, and you are a smaller company, you will likely get ignored.” He recommends business owners start by asking their own residential property managers for a referral.
Likewise, attorney Janet Portman, writing for NOLO, which publishes do-it-yourself legal guides across a range of specializations, suggests asking other commercial tenants for referrals. “Look for tenants who appear to be running a healthy business,” she says. “Chances are that their good business sense was at work when they chose a broker, too.”
How to lease commercial real estate: Negotiating a lease
Clint Gharib, writing for Forbes, reminds business owners that when signing a lease, it is important to be clear about what associated costs you are ultimately responsible for. Are you as the tenant responsible for paying insurance premiums? What about maintenance and repairs? Understanding the fine print before signing will help prevent costly surprises down the road.
There are three basic types of commercial lease agreements. Each type divides costs differently between the landlord and the tenant. With a gross lease, a tenant generally pays a larger amount for rent, from which the landlord then pays all of the associated expenses such as insurance, repairs, and common area maintenance. With a net lease, the tenant pays a smaller base rent and is also directly responsible for most additional expenses. A modified gross lease is a middle ground between the two, with exact terms of payments negotiated between the two parties.
Just as it’s essential to know what your financial responsibilities will be, it’s equally important to be clear about the exact space you are renting, including any use of common areas such as restrooms, loading docks and lobbies. Knowing how to lease commercial real estate means being aware of other hidden variables that include the right to put up a sign that is visible from the street and whether or not the landlord has the right to lease a nearby space to a competitor.
In Iverson’s experience, landlords often won’t negotiate on the rental rate, especially in a booming market, opting instead to wait for a business to come along who will pay what they are asking. Prospective tenants are much more likely to be able to negotiate a period of free rent (typically four to six months) and assistance with tenant improvements. His best advice for successfully making such negotiations is to work with an experienced tenant broker.
The hidden costs of tenant improvements
Although the high cost of rent may be what first comes to mind, there are many other costs associated with moving to a brick-and-mortar location. Betsy Hunter, Deputy Director of Plymouth Housing Group, a nonprofit housing provider that also owns and leases out 50,000 square feet of commercial space in downtown Seattle, points out that the high cost of rent often isn’t what keeps commercial tenants from opening up shop.
“There are a lot of hidden costs of starting up,” says Hunter. “Designing a tenant improvement plan [that small business owners] can afford is a big issue. A tenant improvement plan is, simply, the customizations needed in order to make a space usable for a new tenant’s purposes. These include anything from changes in lighting and floors to structural changes, such as adding or removing walls. During lease negotiations, a landlord and a tenant must agree upon who designs the improvements, who does the work, who pays, and an overall timeline.
Joe Skye-Tucker of Business Impact NW reminds business owners learning how to lease commercial real estate that there are often unanticipated delays involved. “The biggest surprise that most businesses have is that construction for tenant improvements takes a lot longer than they anticipate,” he says. “They might think they are going to open their doors in six months, but it’s usually more like a nine-month process.” He advises that having adequate resources to weather such delays is key when thinking about how to lease commercial real estate.
Choosing a location: Seattle’s changing landscape
As is the case with residential real estate, when commercial vacancy rates are low, developers start moving in on a city’s traditionally less expensive neighborhoods, and this in turn drives up commercial leasing prices in those areas. As the economy continues to recover, business communities in cities like Seattle are seeing this trend firsthand.
Although Seattle’s commercial real estate market isn’t increasing as rapidly as its housing market, it has still seen steady gains. As of May, the average rental rate for retail spaces was $28.36 per square foot. This represents a 4.1 percent increase from the previous year. Rent for office spaces is slightly lower at an average $27.89 per square foot, but saw a larger increase of 8.8 percent over the past year, making it the fifth-tightest office market in the country.
However, when it comes to leasing commercial real estate, not all neighborhoods are created equal. It’s no surprise that Seattle’s downtown retail core and adjacent South Lake Union have seen the strongest gains over the past few years, thanks in large part to the flood of tech companies that have moved in. But even other areas once seen as bargains are steadily becoming less so.
“Trying to keep the local businesses [here] is a real challenge
because of how expensive things are.”
With the commercial landscape changing so rapidly, business owners considering setting up shop for the first time, or expanding from current locations, should keep a close eye on leasing trends in less expensive neighborhoods, as well as what might be their first-choice areas.
As Skye-Tucker puts it, “Pretty much everyone understands that the downtown core is now out of reach for small businesses. But even out in the Central District, the Rainier Beach area, and the International District, things are changing rapidly. Trying to keep the local businesses there is a real challenge because of how expensive things are.”
Nonetheless, hidden gems can still be found. Townsquared merchant Mark Diefendorf, owner of Corporate Promotions, has been located in a converted warehouse in SoDo for over twenty years. Instead of the current economy pricing local businesses out, he sees the revitalization of the neighborhood, especially conversions of old warehouses, as creating great opportunities for small businesses. New owners recently acquired the property where he is located, and the remodel will result in lots of new spaces that he thinks would be perfect for small businesses.
Meet your residential neighbors
Unless you decide to open a business in a strip mall, chances are you will be located below a residential property, be it apartments or condominiums. This can come with its own set of challenges, from showers flooding a restaurant kitchen, to a bar being saddled with noise complaints from residential tenants. Getting to know your residential neighbors is an important, but often overlooked, element to success.
Hunter tells the story of a commercial tenant who opened a restaurant below an apartment building that housed formerly homeless individuals. The tenant had a soft opening during which she invited neighboring businesses to enjoy food and get to know her restaurant. She asked Hunter if she could also have another event to feed the residents of the building. This small gesture went a long way.
“The nicer you are, the more neighborly you are to the other users in that building, the more they are going to look out for you,” says Hunter. “No matter who lives upstairs, no matter how much money they earn, if you take out your trash, if you pay attention to your noise, if you look out for them, they will look out for you.”
Local help with the nuts and bolts
Whether you are just beginning the process of looking for a commercial space or are seeking to expand, the technical issues associated with commercial leasing can be daunting. The good news is that there are resources available to small business owners who want to learn how to lease commercial real estate. In the Seattle area, organizations such as Business Impact NW and Greater Seattle SCORE provide mentoring and workshops to help business owners understand the nuts and bolts of elements like business plans, cash flow projections and marketplace trends. SCORE and other similar resources exist in most major cities.
Although it may seem unmanageable at first, the commercial leasing landscape is not an unsolvable puzzle. Asking lots of questions, accepting guidance when it is offered, and persevering in the search for that perfect space can put a business owner on the right track toward making their brick-and-mortar dreams a reality.
Local resources for how to lease commercial real estate
- San Francisco Small Business Development Center (SFSBDC)
- Alameda County Small Business Development Center (ACSBDC)
- Silicon Valley Small Business Development Center (SVSBDC)
- San Francisco SCORE
- East Bay SCORE
- Silicon Valley SCORE
- North Coast SCORE (Sonoma, Napa, Mendocino, Lake and Humboldt counties)
- San Francisco Office of Small Business
- Oakland Business Assistance Center
- La Cocina (for food entrepreneurs)
- New York Small Business Development Center
- New York City SCORE
- NYC Department of Small Business Services
- Empire State Development Small Business Division
- New York Public Library NYC Small Business Resource Center