Staying put? Treat any refurbishment and the lease renewal as one deal

For commercial tenants approaching lease expiry, staying put is increasingly a genuine alternative to relocation. There may be good reasons for it. Avoiding the cost and carbon associated with a move, retaining a location that works, and using refurbishment to create a substantially different workplace without changing address all makes sense.

But there is a trap in thinking of this as simply a lease renewal followed by a refurbishment.

Where significant works are contemplated, the better approach is to negotiate the occupational deal and the physical changes to the building together so that the cost of the refurbishment can be taken into account as part of the renewal deal. Otherwise, a tenant can agree the commercial terms of its new lease only to discover that the workplace it intends to create is more difficult, expensive or restrictive to deliver than expected with no contribution from the landlord.

A renewal is an opportunity to renegotiate the physical building, not just the rent

Lease renewal negotiations naturally concentrate on the familiar headline terms: rent, term, break rights, rent review and incentives. For a tenant intending to invest substantially in its existing premises, the list extends far beyond these basic considerations.

The negotiations should also establish what the tenant needs the building to be capable of over the next lease term. That might include changes to mechanical and electrical services, improved energy efficiency, alterations affecting common parts, new interconnecting stairs, upgraded cycle and shower facilities, additional power or cooling capacity, revised access arrangements or changes to the way particular areas are used.

Some of those works may be within the tenant’s demise, but may still require landlord’s consent. Others may require the landlord to carry out works, procure rights elsewhere in the building or consent to alterations that the existing lease would prohibit.

That distinction matters. A landlord may be very willing to retain a good tenant while the discussion is about another ten years’ rent, but the negotiating dynamic can look rather different once the tenant has committed to the renewal and subsequently asks for substantial concessions over the building.

The point at which the landlord wants the tenant to stay is therefore often the best point at which to settle what ideally the tenant will want in order to stay.

For a longer renewal, the assessment should also look beyond the tenant’s immediate refurbishment plans. If further investment in the building’s energy performance is likely to be required during the new term, the tenant should understand both the potential disruption and how the lease allocates the cost of those works.

Landlord contributions need more than a headline figure

The same applies to the cost of the works.

A landlord may be prepared to contribute to improvements that preserve or enhance the building, such as new plant, upgraded services or works that would otherwise form part of a future refurbishment programme. Meanwhile, the tenant may be prepared to fund elements specific to its own occupation.

Energy efficiency can make that allocation particularly important. The Minimum Energy Efficiency Standards (MEES) currently restrict the letting and renewal of relevant non-domestic property in England and Wales where the EPC rating is below E, unless an exemption applies.

A refurbishment may therefore include improvements to plant, services or to the fabric of the  building that suit the tenant’s occupational requirements but also improve the energy performance and future marketability of the landlord’s asset. Where that happens, the parties should distinguish between works being carried out for the tenant’s benefit and works which the landlord needs, or are likely to benefit  the owner of the building.

A tenant should not automatically assume responsibility for the latter simply because the works can conveniently be carried out as part of its refurbishment.

It is tempting to reduce the wider discussion to a contribution or incentive figure. The more important question is what that figure buys and who carries the risk around it.

Where landlord works are required, a standalone works agreement, or a detailed schedule of landlord’s works annexed to the lease, needs to set out their specification, timing and responsibility for delay. Where the tenant is carrying out works from which the landlord will obtain a lasting benefit, the licence for alterations should record whether the landlord is contributing and on what basis. VAT, professional costs, overruns and the mechanics for drawing down contributions can all materially affect the value of an apparently generous package.

There is also a wider lease question. A tenant should be wary of paying to improve a building and then assuming obligations that effectively require it to pay for the same improvement again through service charge or future repair. The same scrutiny should be applied to future energy-efficiency works: the renewed lease should make clear the extent to which the cost of improvements to the landlord’s building can be passed back to the tenant.

The service charge provisions in the renewed lease are the place to close off that risk, typically by excluding relevant works from recoverable costs, restricting particular categories of expenditure or capping recovery for a defined period.

Consent to the works should not be tomorrow’s problem

A tenant planning a major refurbishment will usually require the landlord’s consent under the alterations provisions of its lease.

That process is too important to leave until after the renewal has completed. It should be very much part of the discussions and part of the renewal package.

An existing lease may prohibit certain alterations altogether, and the new lease may preserve those restrictions. Structural works, changes to external appearance, penetrations through slabs, alterations to building services and works affecting common parts can all require a level of landlord involvement that goes well beyond approving drawings.

The practical solution may be to negotiate the licence for alterations alongside the lease renewal, or at least to agree the relevant principles and consent position before the tenant becomes committed. Where the refurbishment is agreed and largely designed before the lease itself completes, an agreement for lease, with the works specification attached as a schedule and completion made conditional on defined milestones, can bring the two processes together properly rather than leaving the licence to follow afterwards. We are never in favour of leaving the licence for later discussions, that is too high risk for the tenant.

There is little commercial value in negotiating a substantial rent-free period to fund a refurbishment if the tenant cannot obtain permission for an important part of the scheme.

Think about reinstatement before installing anything

Refurbishment also creates a question that is easily deferred. What happens to the works at the end of the new term?

A tenant may spend heavily installing features that improve both its workplace and the building. Without reinstatement provisions addressed in the licence for alterations at the time consent is given, it may nevertheless face an obligation years later, under the yielding up clause in the lease, to remove them and reinstate the previous configuration.

That can produce an unattractive result twice over. The tenant pays to install an improvement and then pays to take it out.

Not every alteration should be permitted to remain, and landlords will understandably want flexibility over the condition in which premises are returned. Significant renewal works provide an opportunity to identify, within that licence, which elements will become part of the building, which may have to be removed and how reinstatement obligations will be determined.

That conversation is considerably easier before the works have been carried out.

An occupied refurbishment changes the legal mechanics

Remaining in occupation while works take place adds another layer.

The project may require temporary occupation of other space, phased possession of parts of the premises, access through common areas, temporary changes to entrances or services, contractors working outside normal hours and carefully controlled shutdowns of building systems.

Those arrangements cannot always be dealt with satisfactorily through the standard wording of a lease or a conventional licence for alterations.

Where business continuity depends on a particular phasing programme, a side letter or a bespoke access and works licence, sitting alongside the lease and the licence for alterations, should support that programme directly. It may need to record temporary rights, landlord obligations, access protocols and responsibility where landlord-controlled services or works affect the tenant’s programme.

For an operationally sensitive occupier, these are not administrative details. They form part of the risk allocation for the project.

Staying can be a transaction in its own right

The traditional distinction between renewing and relocating is becoming less useful.

A tenant taking new premises expects its lawyers, surveyors, project managers and workplace advisers to work around the same transaction. An occupier undertaking a transformational refurbishment of its existing building should expect the same.

The advantage of staying is that the tenant already knows the building. The danger is that familiarity encourages everyone to assume the existing legal arrangements can simply continue around a new workplace.

Sometimes they can. Frequently, the refurbishment exposes matters that are better renegotiated while the landlord and tenant are already discussing the future of the occupation.

For tenants approaching lease expiry, the question is therefore not only whether to stay or go. If the answer may be to stay, the next question should be asked early: what does the lease, and the suite of documents that sit alongside it, need to say to make the next version of this building work? What does our future demise look like? Understanding these dynamics is key for all tenants.