Negotiating a Letter of Intent (LOI) as a Tenant

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On today's episode of The Restaurant Realty in 10 host, Michael Carro, explains how to negotiate a Letter of Intent (LOI) for a restaurant tenant.

He walks you through the different portions of a Letter of Intent and the special considerations a restaurant user should keep in mind. Clear negotiations in the LOI stage allows for you to get what you need most as you move forward and sign the lease.

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Rather Read? Episode transcript below:

Michael Carro 0:01 Welcome to The Restaurant Realty in 10. Ten minutes of uncensored straight talk for restaurant entrepreneurs twice weekly The Restaurant Realty in 10 dives into restaurant operations facilities, real estate and investments.

Michael Carro 0:14 Welcome to The Restaurant Realty in 10. I'm your host, Michael Carro. And one of the most important things we do as restaurant brokers is provide Letters of Intent. Now Letters of Intent can be between a landlord and a tenant, a seller of a piece of property and a buyer. But today, we're going to act as if we represent the tenant and we're going to try to identify things that you would want to pay attention to as a tenant in areas that you want to secure to your benefit.

Michael Carro 0:39 We'll first start off talking about some basics that you would find in an LOI a Letters of Intent. You're always going to have who the landlord is, property owner, who the tenant is whether it's an LLC, a restaurant name, an individual name, you're going to have a tenant.

Michael Carro 0:55 And then what is the tenant looking to do? And we want to make sure that there is no exclusive that the landlord of maybe a larger shopping center that may have multiple restaurants, you do not want to be competing with other restaurants that sell the same types of products. So if you're dealing with a landlord that there's four restaurant spaces within a multi-tenant facility and you're a burger shop, well then the landlord has to get creative and not have any other burger shops in there. You want to create this exclusivity for your type of use.

Michael Carro 1:26 So we're also going to talk about the leased premises in your letter of intent. So this is where you identify which space you're looking at, what's the square footage of the space, whether or not there's a patio or a drive-thru window or things of that nature that are part of the premises for your use.

Michael Carro 1:44 And then a real important factor is how is the space to be delivered to you. If it was formerly a restaurant property or restaurant space with all of the infrastructure such as a hood system, the grease traps are in place maybe there's already a lot of plumbing in place. Complete with the restrooms and plumbing for three compartments sinks, hand sinks, maybe a complete bar setup has already been plumbed in. So there's a big difference between a second generation restaurant space and what might be considered a "cold dark shell" where there's never been a tenant occupying that specific space. So depending on how that space is going to be delivered will determine how your offer or Letters of Intent is made.

Michael Carro 2:24 In your LOI you'll discuss the lease term, one restaurant may have a 10 year initial lease term with two five year options so they control the space for 20 years. So I'll exaggerate the point of what's better for you as a tenant versus the landlord. If you're a tenant, you may want a one year lease with (20) One-year options that way at the end of every year, you can decide whether or not you want to bail. However, if you're the landlord, you may want a 20 year lease with no options. So it just depends on what side of the fence you're on to determine what's best for you. Options are something that are controlled by the tenant and therefore have value to the tenant when negotiating lease rates. Again, as the tenant you want a low lease rate to start with no increases. And as a landlord, maybe you want a fair market lease rate to start with annual increases. And again, we're always looking to create a win-win scenario. But as the tenant, you want to keep your lease rates as low as possible. If you can get yourself locked into a lease rate and only have bumps every five years. That's certainly better than having annual escalators every year if you started off at a fair lease rate to begin with.

Michael Carro 3:34 In addition to the lease rate, you have triple net fees, which are your property taxes, property insurance and common area maintenance fees. Now, the landlords are not meant to make a profit off of those but they are allowed to include administrative and management fees. So maybe when you're negotiating your LOI you put restrictions in there as to how much they can increase those admin and management fees. Even though they have no control of property management, and property insurance.

Michael Carro 4:04 For my tenants, we try to negotiate no percentage rent. And if you're having to do a lot of work to the space, then that's a great opportunity to reduce the security deposit down to zero to allow all of your working capital to actually work for you.

Michael Carro 4:18 The rent commencement date can be a big factor, and this is where tenants have to be very organized. So it's not uncommon if you have work to do to have this free rent or no rent period while you're completing your construction. However, if you have a set time of 120 days is when your lease rate is going to start. That's when you'll actually start paying rent. You need to have all of your ducks lined up with your contractors so you're not starting to pay rent before you actually open for business. This is a good reason to have your kitchen designer, as well as a contractor, do site visits with you before a lease is actually signed. So you can get some semblance of the time that they will need to complete your project. It's also very helpful if you can get the landlord to deliver good drawings in CAD or Computer Aided Design format that you can give to your kitchen designer and architect because this will greatly reduce their need to get on site and take specific measurements themselves.

Michael Carro 5:16 Based on how the space is being delivered will ultimately determine the tenant improvement allowance or TIA. The tenant improvement allowance is the amount of money a landlord will provide to a tenant to get the building into leasable condition. So if you were taking over a space that doesn't have any air conditioning or restrooms, you might negotiate enough tenant improvement allowance to where you can put in a new system for HVC including one or two restrooms, just getting it to the basic rentable condition even though those will be new to you and designed to your specifications. It still is something that a landlord should pay for what landlords will resist when those dollars are then turned on making the space special to your needs that nobody else can use. Obviously, any tenant can use air conditioning, any tenant is going to have a need for restrooms, however, you might have some unique eclectic design that will not be functional to the next user.

Michael Carro 6:10 So some examples of additional landlord work that we include would be how the ceilings will be delivered, how the demising walls will be delivered and how they'll be built and what power and electrical will go between the studs. And are there any sound dampening systems that will go in place to help reduce the noise between you and your adjacent tenant? In addition, how is the storefront going to be delivered? What type of glass? Is it gonna be tinted glass. Which I personally don't like? Or is it going to be clear? So you always look open when your lights are on? How is the floor what's the condition of the floor going to be? If it was an old restaurant and there's a bunch of crap on the floor. It could be very expensive to chisel up old ugly tile so you need to take things like that into consideration when you're modeling out your space. Also how much electrical is currently being delivered to the space and based on your kitchen design. How much electrical do you need for the space? How much water is coming into the space? Do you have enough gas? Is there enough BTU's coming in? Is this an all electric building where there is no gas that's going to be allowed? These are some of the things that need to be identified early on, because this is going to either make or break your budget.

Michael Carro 7:16 We can also dive into telecommunications, all of your POS systems are going to need a certain amount of cable or at the very least internet service. So what is currently there? How much can you use? And how much do you have to bring in on your own?

Michael Carro 7:29 We also mentioned outdoor patio a moment ago. So if you're going to have an outdoor patio, where is it going to be? How is it going to be built? And who's going to pay for it? And also, if I'm negotiating for my tenants, I do not want to pay any rent for that patio. It's outside. It's not conditioned space, but it does bring value to the landlord.

Michael Carro 7:47 The next important factor will be your signage, what kind of signs will be represented for you in that specific building? Will you have a sign on the building? Is there a pylon sign on the street that can help direct customers in. All of these things need to be identified in your Letters of Intent and negotiated because we want top billing for you to draw in customers from the road in our LOI, we will also identify who's going to provide the lease document. Will this be the landlord or the tenant providing that document? So whoever provides it, the other party will have the initial big expense from their attorney for negotiating the red line of that lease. So then it'll go back and forth between the attorneys. It can be very fast or it can drag out. The key is there's two types of attorneys, there's deal-makers and deal-breakers. You need to find yourself a deal-maker attorney. You can pick apart any lease if you want to prove how smart you are. Your goal is to get a lease done and still make sure that you're protected. So we need to find an attorney that is a deal-maker that knows what's really important and what they can give in on.

Michael Carro 8:54 Moving over to the parking lot, if you're a restaurant, having one or two designated or reserved parking spaces for takeout or pickup orders can be very, very important. It also is an identifier. I like to think of it as another little marketing sign. Any impressions that you can make for your restaurant are always important.

Michael Carro 9:11 Finally, I like to finish my Letters of Intent with exhibits. It would be a site exhibit that shows a site plan of the property and where your space is located. There will also be an exhibit for the signage if there's a nice pylon sign, I like to highlight exactly where we want your sign to be. And also whether we want the signs on the building. Get creative! Signs are really important. So if you can have a sign on the front of the building, the side of the building and the back of the building, then you ask for it. Even if you don't pay for it up front, you should always have the option to add as much signage as you possibly can. Of course, there's a lot of municipal codes that may restrict that, but don't let it be the landlord that restricts it from you.

Michael Carro 9:49 At the end of your Letter of Intent negotiation. You should have exactly what you want and be happy with it and the landlord should have exactly what they want and be happy for it. You guys are entering into a long term relations Ship he will not be adversarial but your success is their success and vice versa. Good luck.

Michael Carro 10:08 Thank you for listening to The Restaurant Realty in 10. If you're interested in restaurants, whether operations, facilities, buying, leasing or investment, The Restaurant Realty in 10 is for you. Please subscribe to this podcast and you can also visit TheRestaurantRealty.com for show notes, topics and additional information.