Commercial Leases

1. Commercial Leases

2. Why invest in real estate? CASH FLOW APPRECIATION DIVERSIFICATION TAX BENEFITS

3. Total Return Breakdown: Institutional Real Estate Since 1978 Appreciation Income 22% 78%

4. What is a lease? A contract by which one conveys real estate, equipment, or facilities for a specified term and for a specified rent. Landlord Conveys specific space for a specific period of time Promises to pay rent Tenant

5. What lease provisions directly affect value?

6. 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

7. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

8. Base rents and bumps List How are rents measured for…

9. Base rents and bumps List Office

10. Base rents and bumps List How are rents measured for…

11. Base rents and bumps List Industrial

12. Base rents and bumps List How are rents measured for…

13. Base rents and bumps List Retail

14. Base rents and bumps List How are rents measured for…

15. Base rents and bumps List Apartment

16. Base rents and bumps List How are rents measured for…

17. List Base Rents Quoted rent The primary rent owed over the lease term May include initial abatement “3% per year” likely refers to year-to-year changes in starting base rents (i.e., market rent) 3% “bumps” refers to pre-negotiated increases over the term of a lease Rent “bumps” ≠ market rent increases

18. Base rents and bumps List Base rent increases or “bumps” are contractual increases Example: “Base rent shall escalate 3% per year on each anniversary of the commencement date”

19. Base rents and bumps List Market rents in a strong growth scenario Strong market rent growth scenario (e.g., Austin)

20. Base rents and bumps List Market rents in a recession scenario Recessionary scenario (rent declines) Recession

21. Base Rents and Bumps List Rent “bumps” ≠ market rent increases below market rent above market rent contract rent (at market)

22. Key Takeaway List Differences between contractual rents and market rents drive future income growth/declines Example 1 Below Market Rent Example 2 Above Market Rent

23. Revenue will trend up List Below Market Rent Example

24. Revenue will trend down List Above Market Rent Example

25. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

26. List Lease Term Example: 10 year lease

27. List Lease Term Example: 10 year lease • Two types of start dates: • Lease commencement date • Rent commencement date

28. List Lease Term Example: 10 year lease Lease End Date is the scheduled expiration of the lease.

29. List Lease Term More Volatile

30. List Lease Term Rank the properties in order of highest revenue growth over the five year hold period?

31. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

32. Expense Reimbursements List Expense Reimbursements In addition to base rent, tenants often bear the burden of operating expenses related to their tenancy.

33. Expense Reimbursements List Lease types define reimbursement method: Gross lease Modified gross lease Net lease

34. Expense Reimbursements List Lease types define reimbursement method: Gross lease Modified gross lease Net lease Gross leases impose all burdens related to operating expenses on the landlord. Example: “Tenant shall pay $35/SF, increasing by 2% per year, and has no additional operating expense burden.”

35. Expense Reimbursements List Lease types define reimbursement method: Gross lease Modified gross lease Net lease Modified gross leases share operating expense burdens between tenant and landlord. Landlords pay expenses up to the “base year” amount, and tenants pay their pro rata share over the base year amount.

36. Expense Reimbursements List Lease types define reimbursement method: Gross lease Modified gross lease Net lease Net leases impose operating expense burdens on the tenant. The tenant pays its base rent and all operating expenses related to its tenancy.

37. Expense Reimbursements List Frequently negotiated topics: Reimbursable vs. non-reimbursable Caps on reimbursable expense growth Cumulative vs. non-cumulative caps

38. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

39. Expense Reimbursements List A Tenant Improvement (TI) allowance is a concession from the landlord to offset the cost of building a tenant’s interior space. AKA “work letter” Heavily negotiated TI vs. turnkey finish out Example: $50 / SF

40. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

41. List Renewal Option Example Big Law Firm LLP 15,000 SF Leased 2020 through 2030 15,000 SF can be renewed by tenant for 5 years (at fair market rate) with notice by 2029

42. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

43. List Fixed Expansion Example Big Law Firm LLP 15,000 SF Leased 2020 through 2030 Fixed Expansion Space 5,000 SF Must be Delivered by LL in 2025

44. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

45. List Right of First Offer (ROFO) Example Big Law Firm LLP 15,000 SF Leased 2020 through 2030 ROFO Space 5,000 SF Big Law Firm LLP has a “first look” at leasing 5,000 SF of adjacent space when it becomes available (could be on-going)

46. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

47. List Right of First Refusal (ROFR) Example Big Law Firm LLP 15,000 SF Leased 2020 through 2030 ROFR Space 5,000 SF Big Law Firm LLP has a “last look” at leasing 5,000 SF of adjacent space by being able to match any legitimate offer from another user

48. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses

49. List Termination Example Example: 10 year lease with termination option in year 7 Tenant has the right to prematurely end the lease at a pre-specified date, often must pay penalties.

50. List 10 Major Lease Terms Base rents and “bumps” Lease term (start and end dates) Expense reimbursements Tenant improvement allowance Renewal option Fixed expansion option Right of first offer (ROFO) Right of first refusal (ROFR) Termination/contraction option Exclusive uses