Pre-letting. Advantages and disadvantages

Pre-letting. Advantages and disadvantagesPre-letting usually provides developers with easier and cheaper finance to complete the construction of the project while the occupier might benefit of financial incentives, such as free-rent periods, cash incentives, discounted rents etc, according to Maria Florea (photo) senior broker at Colliers International.

An occupier might take leases prior to development also to cut fit-out costs and have some degree of influence over the partitioning of the building. Occupiers may also choose a pre-let to create a bespoke building, tailor-made to their requirements, instead of totally changing the existent design in another building.

“In 2006-2007, pre-lets have been in the limelight, because there wasn’t sufficient space available in the existent buildings, and taking a lease prior to the completion was the only solution. But now, 2009 hasn’t brought any pre-let, both because of the low take-up rate, and the low visibility of the economy, that would have been very helpful for companies when making decisions about their future”, Maria Florea told Wall-Street.

The flagging take-up rate, the completion of large-scale developments, steep drop in rents that forces landlords to constantly tack on incentives to fill vacant space, coupled with the poor economic conditions and companies’ uncertainty about their future such as whether or not to expand operations, have been the main reasons why large companies couldn’t afford taking a pre-let, said Lori Collin, senior consultant at Jones Lang LaSalle.

Among the advantages of a pre-let, as listed by Jones Lang LaSalle consultant, are: discounted rent, a tailor-made construction of the office space to meet occupier requirements, better contract terms, such as preemption clause and exclusivity clause.

“The disadvantage is also obvious: the risk the occupier takes, risk incurred not only by the tenant’s long-term plans, but also by the developer’s execution terms and the uncertainty on the development timescale, or on the actual completion of the construction. As we have already seen, there have been projects announced that never began construction let alone completed, due to a lack of pre-lets”, Lori Collin added.

The risk of delay in the delivery of the building is as high in case of office space as it is for shopping centers. Even if to retailers, pre-letting a space in a shopping center can bring about better financial terms and the option to choose the best location, they will not have the certainty that all the other tenants will open on time, said Georgiana Andrei, Head of Retail Colliers International.

The lease. Pros and cons

The lease. Pros and consAs for the advantages of space leasing compared to pre-letting, Georgiana Andrei (photo), Head of Retail at Colliers gives the example of a shopping center, where there are accurate traffic data and sales data from tenants. If the space was pre-let earlier by another retailer, the investment would be significantly lower.

“As for disadvantages, the rent is higher for a lease than a pre-lease most of the times, and the best locations in the building may not be available”, Colliers specialists stressed.

The big advantage of leasing is that what you see is what you get, said Viorel Opait, Head of Industrial Colliers. “The tenant will not have any unpleasant surprises at the delivery, and the space is available upfront”, said Opait.

“The biggest disadvantage when leasing an industrial space is that most of the times, the space needs to be repartitioned to meet occupier requirements and needs, which involves more time and more money”, said Catalin Prichici with The Advisers/Knight Frank.

Another advantage of leasing a space as mentioned by Cristina Mihai, senior attorney at bpv Grigorescu, the terms of the lease contract, such as rent, cannot be modified, unless agreed otherwise. Furthermore, in case of a breach of contract by the tenant, he will be liable for the damages as set forth in the agreement which are usually more substantial in case of a lease than in a pre-lease.

When and how to negotiate rent

When and how to negotiate rentRent is crucial in a lease agreement, but we want to focus not only on rent as a standalone cost, but on the entire cost of leasing a space, because if we want to ‘negotiate’ just rent, we’re wrong, said Lori Collin, senior consultant at Jones Lang LaSalle.

“Rent is as important as are all the costs associated with the maintenance of the property, the financial incentives hidden in the fit-out category, in extra fit-out, free parking or flexible terms to rescind the contract. The notifications on lease contracts termination are getting shorter, and the benefits can even lower the monthly rent even by €2-3/sqm/month”, said Lori Collin.

Every rent is negotiable, said Maria Florea with Colliers, adding that the landlord can offer a variety of incentives to keep the tenant, such as free-rent period, free parking, or free fit-out costs.

In the industrial sector, less affected by the financial crisis, rents are 10-15% below year-ago level, but the last few months had seen the market reach a relative stability, as landlords continue to tack on incentives to lure tenants, according to Catalin Prichici. According to the surface, location and quality of the space, the rent in the industrial sector averages €3.40-5/sqm/month.

“Rent is usually reviewed before the end date of the heads of terms. And even if the heads of terms are not usually legally-binding, a review of the rent is very difficult although not possible during the agreement conclusion period”, the lawyer from bpv Grigorescu said.

The moving process and lease contract

The moving process and lease contractIn the office space market, both in the northern area – Pipera, Barbu Vacarescu – and in the central area, office rents in the completed developments are a bargain, said Lori Collin (photo). Even if in Pipera, where the take-up rate is at rock-bottom, we’re still seeing landlords paring their asking rents and offering different incentives, such as rent-free period, discounted or free fit-out or moving costs. Even in Bucharest CBD locations, rents are low given the core-location, accessibility, space quality and occupier requirements, representative of Jones Lang LaSalle added.

As for the leasing contract, it should include the surface and location of the rented space, as well as the measurement methods used, said Cristina Mihai.

A leasing contract should also state the value, calculation of rent or indexation of rent and other duties stated in the contract, such as services and utilities for common space, for rented space rent-free period or discounted fit-out costs. The indexation of the rent in euro is made once a year, depending on the agreed index, most commonly MUICP (Monetary Union Index of Consumer Prices).

Rental income tax

Rental income taxCompanies earning rental income, these revenues are included in the company tax base for the calculation of profit tax, after subtracting deductible expenses. The profit tax is 16%.