Commentary

5 flexible lease options for high-growth companies

Coworking isn’t your only option if you’re looking for flexible space. Consider options like a ROFO, ROFR, fixed expansion or must take to support your budget and growth needs.

September 21, 2017

The path to a modern, productive workplace isn’t as simple for small tech companies as it was in years past. Cost pressures from leadership mixed with talent pressures across the industry are shifting the way they build and lease office space.

In short, costs are up and capital is down. Building an engaging workplace today is 30% more expensive than it was 12 years ago due to rising construction costs. At the same time, more companies are wielding the office as a tool to recruit and retain talent.

For small to mid-stage companies, the pain is particularly sharp. They’re looking for room to grow, but also need to accommodate more employees. Capital isn’t flowing as freely because boards and executives are hesitant to sink money into the workplace without a sure return. Competition is even stronger up against tech giants and corporates who pour resources into state-of-the-art spaces.

What’s a young company to do?

Coworking isn’t your only option. If you’re cost conscious but eager for engagement, there are ways to structure your lease and accommodate growth on a budget. Consider: where are you today, what’s your expected growth, and how confident are you about hitting those projections?

Depending on your answers and need for flexibility, here are five options for securing flexible office space on a budget.

5 flexible lease options

1. Sublease

Subleasing is one of your most important tools for protecting flexibility, whether you’re growing or contracting. And it comes in several forms.

Shedding space

If you need to contract, certain elements will make your available space more desirable.

  • It must be separate—separate entrance, separate IT room, separate break room and so forth. You may find a subtenant who’s willing to co-habitat, but if you want to maximize the pool of prospective subtenants, think separate!
  • Make the space plug-and-play. The easier it is for someone to move in and get to work immediately with little to no capital expenditure, the greater your chance of finding a match.

Warehousing space

If on the other hand you’re looking to grow eventually, consider taking on a larger space and subleasing a portion of it short-term. This strategy, called warehousing, is common for high-growth companies in landlord-favorable markets. Even if your current headcount will fit, this is a strategic plan for any company’s future.

Lay out your space with a sublease strategy in mind. As you’re going through preliminary space planning, ask yourself, if I were forced to sublease, how could I separate areas without overspending or completely disrupting my business?

Looking for space

You won’t have much, if any, ability to make significant changes, and the process won’t move as fast as you think. There are three parties involved and one of them has little-to-no incentive to focus their attention on you (that’s the landlord). But that’s why you get discounted pricing. Finding subleases that are plug-and-play will help limit your capital expenditure on furniture. 

One important piece of advice when sublease shopping is to bring your IT person and/or a data cabling vendor to assess the IT infrastructure. Is the cabling live? Where does it terminate? Usually the longest lead times with subleases come with getting your IT set up and waiting for the landlord consent process.

2. Must-take space

This is real estate layaway. You reserve more space now—no one else can lease it—but pay in increments. Say you find a building that has three vacant floors, but you currently just need one. You know you’ll grow into it but don’t want to pay for empty space nor risk losing those floors and having to move when you grow later.

A must-take agreement lets you stage your takedown. For example, you start out paying for one floor, then pay for two floors after a year, then three floors at 18 months. The negotiated schedule depends on market conditions and how much a landlord desires your tenancy. The key thing to remember is that this is a commitment, not an option.

3. Fixed expansion option

A fixed expansion option requires your landlord to not lease a (usually adjacent) space for a certain period of time. During the time that it’s off the market, you have the right to exercise your pre-negotiated option to expand. If you’re able to secure this option, which is difficult, the terms for the expansion will typically align with the terms of your initial lease on a pro-rated basis.

This strategy is almost impossible in new, speculative construction unless you have stellar credit and the landlord is hungry. Your highest probability of success is in second-generation, existing buildings where large vacancies sit next to smaller tenants who do not have renewal options.

From a flexibility and protection perspective, this is as good as it gets. A prudent negotiator will establish the request for a fixed expansion option early on. That will lay the foundation for a growth plan that can be converted into a must-take conversation if the landlord is not ready to concede.

4. Right of First Refusal (ROFR)

A ROFR is another option to expand into additional space in the building. Typically the space sits adjacent to your existing premises or floor. It could be vacant or leased by a third-party tenant. Your ROFR is triggered when a third party negotiates and agrees to lease terms on the space you have a right on. At that point, the landlord will send you notice of those mutually agreed upon terms. You’ll have a specified amount of time (usually 5-10 business days) to step in and lease the space by matching the terms already negotiated.

On the plus side, you know the terms have been negotiated so they’re likely better than a landlord’s initial offer. Your second benefit is the time it takes for the landlord and third party to come to an agreement—between 3-10 weeks in some cases. While it may not seem like much, in general it elongates the time you have before you’re compelled to commit.

The drawback is you must accept the terms as they are. And a quick timeline to accept may also be a pain point if your leadership needs a longer approval process. That’s why it’s helpful to have a local broker with their finger on the pulse, letting you know weeks in advance that things are heating up on their ROFR space.

5. Right of First Offer (ROFO)

In most cases a ROFO is less desirable than a ROFR, but that’s not to say you should exclude it from your growth strategy. It can be used in combination with a ROFR for a “belt and suspenders” effect. The subtle difference between a ROFO and ROFR lies in the triggers.

Whereas ROFR is triggered by an outside offer on available space, a ROFO is triggered by an existing space becoming available. At that point the landlord will send you notice of terms they are willing to lease you the space for. If your relationship isn’t great, neither will be the terms. And even if you are on good terms, the best you can expect is the landlord’s determination of market price, which from a tenant perspective is often too high.

As with a ROFR there is a short window to accept or decline. However, it’s far more common to negotiate the terms presented in a ROFO notice. The risk is that if you don’t accept the terms in the notice, the landlord is not obligated to negotiate. They might if they don’t have a better offer, but if they do have an alternate tenant you may not hear back until those terms are flushed out. Hence also having a ROFR in place ensures that you get a second bite at the apple.

When considering these options, the biggest thing to remember is that sublease and must-take are firm commitments, whereas fixed expansion, ROFR and ROFO are options, not obligations.

Local market dynamics and landlord-specific circumstances will ultimately dictate what’s available to you. A savvy negotiator will be your best first step to exploring these options so you can preserve flexibility, maintain your budget and minimize risk. Otherwise, you’re operating from a disadvantage.

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