A Shift in the Market – Recent trends in the letting of commercial property

Until recently the commercial leasing market retained the characteristics that it displayed when I first became involved in the letting of commercial property back in the 1970s.  In crude terms landlords had it all their own way, particularly when “negotiating” new leases and even to a degree when dealing with the renewal of leases protected under Part II of the Landlord and Tenant Act 1954.  This bias in favour of landlords, particularly as against small to medium size businesses negotiating for premises, arose from the comparative lack of experience and financial clout of the tenants and their advisers when set against the specialised experience and market knowledge of the landlord and its team.  The relevant law, whether statutory or at common law, often assisted the tenant but that did not necessarily mean that the tenant had the financial muscle and/or the patience to achieve a successful outcome.  One might also postulate that the enterprise and acumen which went toward setting up and running a successful business did not always transfer itself easily into the specialist world of lease negotiation.

The recent shift in this bias is probably due to a number of factors.  The first and most obvious would have to be the current downturn in the economy which inevitably leads to an oversupply of property to rent and puts the tenant in a stronger negotiating position.

However there are two other initiatives which have had an effect on how the letting market functions and which have helped to bring about this sea change.

The Code for Leasing Business Premises in England and Wales was first promulgated in 2002 and is now on its third revision.  Reviled and mocked when it first appeared by a large section of the property industry, mainly because it had then, and continues to have now, no element of legal enforceability, it has arguably at last started to have an effect on the way in which leasing deals are set up.  It has the great virtue of accessibility and if you are thinking of leasing premises for your business visit www.leasingbusinesspremises.co.uk and download the three elements of the Code.  The Occupiers Guide is most useful in alerting prospective tenants to those areas where they may unwittingly be at a disadvantage when the basic terms negotiated with the landlord’s agent are translated into the draft lease by the landlord’s lawyers.  If potentially contentious areas are addressed early in the negotiation then time and expense is likely to be saved on both sides.  Otherwise these issues will not arise until you are some way down the road and your solicitor has tried and failed to persuade the landlord to remove the offending provisions, by which time weeks may have elapsed and you may have laid out substantial sums in set-up costs and legal costs which you will have to abandon unless you accept the dictates of the landlord.

It is the very fact that the prospective tenant has potentially contentious issues set out for him in an accessible and comprehensible way which is the great strength of the Code.  In this the ability to access it from the internet is invaluable.  The lack of a legal framework to enforce its provisions may derogate from the Code in some eyes but the more widespread its use becomes, particularly in today’s market, the more it is likely to influence practices in the market and bring about a change in attitudes which will then spread into the field of statutory lease renewals as the general concept of what constitutes “reasonable terms” in such circumstances changes.

The second initiative has been the simplification of  formalities for the creation of tenancies outside the statutory compensation and security of tenure provisions of the Landlord and Tenant  Act 1954.  Whereas before 2004 an order of the Court (albeit in the main by a “rubber stamp” procedure which required no attendance at court by the parties) was obligatory there is now a simplified procedure by which notice in writing warning that the tenancy is to be excluded and a declaration made by the tenant to the effect that this fact has been noted and understood is all that is required.  The result is a cheap, speedy and simple way of creating (generally) short fixed-term tenancies of premises where the landlord has full confidence that it will, at the end of the contractual term, have the options of recovering possession or of negotiating a renewal on favourable terms.  There is little in this for the tenant on the face of it but the effect seems to have been to free up the market and encourage short term flexible leasing arrangements in line with the needs of many businesses in today’s leasing market.

As a corollary of this trend recent surveys have shown a steady decrease in the term length of leases entered into since the start of the new millennium with an average lease length now of little more than six years and with less than half of all such new leases containing rent review provisions.  Additionally many leases now contain tenant “break” options which (provided they are well-drafted) allow the tenant to terminate the lease on a rent review date, thus allowing the tenant the luxury of walking away where the rent is already, or is likely to be after the review has been implemented, higher than the proper market rent for the premises.  This is particularly important where (as in the vast majority of cases) the rent review provisions in the lease allow for the rent to increase but not to go down!  Reducing rents on review is one area which the Code highlights although it may be some while before the property industry embraces such a radical concept.  However there is clearly a greater awareness amongst tenants that getting tied in to a long term lease is not necessarily the enormous benefit that it was once thought to be.  Similarly landlords seem to be accepting that flexible leasing arrangements are here to stay and that the era of the “institutional lease” may be coming to an end.

The market is clearly changing and the deeper we go into recession the more radical those changes may become.

For advice in relation to the letting of commercial property please contact Elizabeth Edmonds or Lakshmi Ramani.