Vital Commercial Real Estate Strategies To Protect Your Practice During The Pandemic
The COVID-19 pandemic has impacted every measurable economic factor around the world. Of the industries and business verticals impacted, commercial real estate is surely included in this narrative.
However, a positive outcome of navigating in a turbulent and uncertain business climate is that it allows all professionals to exercise greater scrutiny when structuring business deals that impact both the short- and long-term benefits for healthcare professionals. The related upheaval in political, economic, and healthcare arenas has especially forced commercial real estate agents to produce better (and oftentimes innovative) solutions to get lease and purchase deals over the finish line for their clients.
While the impact and lessons of COVID-19 continue to unfold, below are some business considerations that can help improve a healthcare real estate transaction while protecting a practice well beyond the pandemic.
1. Limit Your Future Liabilities
The threat of coronavirus and its related consequences have become a part of the global conversation. As the societal narrative changes, people consider their health and future more seriously. For practice owners and those on the journey towards practice ownership, this heightened awareness can bring many hidden and oftentimes overlooked business points to the forefront. This is especially true when it comes to protecting a business, practice, assets, and the practice owner from avoidable risk and liability.
To limit a practice owner’s liability, two specific issues should be addressed in any long-term lease: (1) lease assignability and (2) death and disability. Often, both are commonly omitted or overlooked during lease negotiations.
Lease assignability: A primary goal of most doctors is to sell their practice as part of an exit strategy. Should that sale occur as planned at retirement or earlier for unexpected reasons, it’s critical that the office lease does not prohibit assigning that lease to a new owner. Additionally, it’s important to ensure that when the new practice owner assumes the lease, the former owner is released of the personal guaranty.
Ideally, the assignability of lease and release of personal guaranty are permitted without the need for a landlord’s consent (as long as they are notified in advance of the assignment and the new practice owner doesn’t operate outside of the permitted use of the space and are of equal or greater creditworthiness than the seller at the time they executed the lease). Many landlords push back on this concept without consent, but it can be achieved in many cases. At a minimum, assignment and liability release should not be reasonably withheld if consent is required.
Going one step further, an even more desirable assignability clause is one where the purchaser of the practice does not need equal or greater financial strength compared to the seller. This concept requires specialized legal language and is predicated on an informative conversation with the landlord as to why this concept is both achievable and can make sense for all parties involved in the transaction.
Death and Disability: If a primary or sole practitioner in a healthcare practice were to die or become disabled and can no longer practice, a death and disability clause allows the tenant to be released from the commercial lease. This type of clause can protect the doctor’s spouse and/or estate from further liability after having lost their primary source of income.
Typically, this is achieved by allowing the lease to be assigned to a new practice owner, waiving the previous owner from any further liability. Furthermore, in the event that the practice will not continue, the tenant may be released from fulfilling the lease’s term without a breach of contract. The latter option may require a buy-out equal to a specified number (usually a set amount in months) of the tenant’s gross monthly rent costs.
While a Death and Disability clause can be more challenging to secure on a new lease where the landlord extends a considerable amount of concessions to make the deal, this clause is often more achievable on a lease renewal or expansion where a significant amount of the landlord’s investment into the space has already been paid back and ample profit has been realized.
Lease assignability and death and disability clauses are fully negotiable. The basic business points of each can be determined during the initial stages of negotiation with your real estate agent. Additionally, a real estate specific attorney should be consulted in preparing the legally binding lease document that further articulates and protects the finer and more complex points of these clauses.
2. Plan For The Long Term, Brace For Impact In The Short Term
With the uncertainties created by the pandemic, some tenants have become wary of making long-term commitments that were easier to imagine prior to March 2020. Questions and concerns have now replaced where confidence once resided. What if my production and revenue drop significantly? What if my construction or permitting timeline is delayed due to mandated shutdowns? What if I can’t make rent for a brief period? Or payroll? What if I’m forced to close my practice or retire before my lease expires?
These and other concerns can be effectively mitigated with a few commercial lease strategies.
Early Termination (i.e. Kick-Out) Clauses: Long-term leases are advantageous for both healthcare tenants and landlords. Healthcare professionals are less likely to relocate their office space once established, so 10-year leases or longer can make the most sense. Landlords also prefer to lock in healthcare tenants for long periods and are often willing to offer more concessions in the form of higher tenant improvement allowances, lower lease rates, longer free rent and free build-out periods, and more. When this happens, it’s a win-win scenario.
Even though the odds are that a healthcare tenant won’t have any issues with a long-term lease, there are some circumstances that may warrant early termination.
To reap the benefits and concessions of a long-term lease while still protecting yourself against unforeseen circumstances (like needing to relocate or terminate your lease), including an early termination clause within the lease is a great way to protect yourself. Many landlords are opposed to this clause, but those who concede require that a specific set of conditions are met before early termination is allowed. These conditions will often limit when early termination can be executed to a certain period within the lease term and only after a certain number of years have passed. There will likely be financial penalties associated with termination that fall upon the tenant—having to pay for the unamortized portion of the tenant-improvement allowances or other concessions, for example.
In conclusion, addressing issues such as lease assignability, death and disability, and early termination options can better protect your practice and your real estate from unforeseen circumstances and market conditions, especially during a pandemic. It’s best to negotiate these business points during the non-binding process of working through a letter of intent. Waiting until a lease is drafted and relying solely on attorneys to prescribe solutions to these issues can limit your success in achieving them.