Give Me A Sentence That Uses Both “Due Diligence” And “Letter Of Intent”

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We needed to think about Letters of Intent because we’ve been asked to join a panel discussion in June and tell all we know. Certainly, we’ll recycle our thoughts from some earlier Ruminations blog postings, notably the ones you might want to revisit or see for the first time by clicking HERE and HERE and HERE. But, what about some fresh thoughts?

Those of us who try in earnest to Get The Deal Done, usually don’t see “the” Letter of Intent until it is signed, sealed, and delivered. (That is, if there even is such a document.) And, when we write, “Letter of Intent,” we’re thinking of those broadly – term sheets, email messages, (literally) jottings on a napkin – whatever.

So, today we’ve decide to Ruminate about some “missing” business terms. To keep it short, we’re going to limit our words to what we frequently see missing when an occasional entrant into the leasing market shows up at our doors – the small tenant who has, after many years, finally found the only, yes the only, space that could possibly be right for her or his business. David Hannum, the (generally assumed) source of the phrase, “There’s a sucker born every minute,” might have been thinking of these finders of lost space when he penned those thoughts. In his presumed response, P. T. Barnum might have reflected on those prospective tenants a little differently when he said, “Many people are gullible, and we can expect this to continue.”

Please take us at our word; we aren’t knocking this class of prospective tenant. As a class, they possess no character flaw, just inexperience. Think: first time car buyer. Then, groan.

After finding their “dream” location, most first-time commercial tenants want to know about the rent and the length of the lease’s term. From there, it is often downhill. We know that because the common “Letter of Intent” they bring to us usually focuses on those terms plus some items the landlord has added, such as requiring a personal guaranty, setting forth the amount of the security deposit, and stuff like that.

[TIP: Here’s a pretty good rule: expect that it will be harder to get something from a party’s negotiator after the Letter of Intent is signed than before it is signed.]

One often missing major item is a description of what work will be done by the landlord to prepare the space, other than when the Letter of Intent slips in the concept of “as is.” We know this because we always ask: “What work does the landlord need to do before you move in” or “What work did the landlord promise would be done before you move in?” We have a variant of those questions: “Did you look at the place carefully to see if anything needs to be fixed? Does the plumbing work? How’s the HVAC? Are any windows broken?” Our astute readers get the idea. These aren’t classically rhetorical questions (ones that express a viewpoint in the guise of a question), but might as well be. In almost all cases, the hot-to-trot new business owner hasn’t examined the space carefully and rarely, rarely has ever brought an expert or a contractor to look before telling the landlord, “I’ll take it.” Sometimes, some superficial or blatantly obvious items are identified. Even then, they rarely show up as “landlord’s work” on the Letter of Intent.

Ruminations might be quick to urge brokers to do this work for their clients, but for the fact that those clients should intuitively know to do a thorough, pre-handshake inspection. But, as Will Moss put it when writing about first-time tenants, “Love is not blind – It sees more and not less, but because it sees more it is willing to see less.”

How much will the space really cost? Base rent is only the starting point. If the point of that statement is unclear to any reader, click HERE for our earlier Ruminations about “It’s The Occupancy Cost, Not Just The Rent, Stupid.” Yes, the Letter of Intent should set forth what the pass-through “additional rent” costs will be.

Our most risk-adverse tenant clients would prefer a one day lease with 10,000 automatic one day extension options, cancelable on 10 days’ notice. Well, that ain’t goin’ happen. What does happen, all too often, is that novice business owners, fearful of failure, shake hands on a 2 year to five-year lease term. At the same time, “hope springs eternal” [from the poem by Alexander Pope] for many of these entrepreneurs, as they picture themselves, Uncle Scrooge McDuck-like, into their cash vaults filled with the profits sure to come. So, why don’t most of these Letters of Intent list the renewal options such a tenant surely needs? And, while we’re at it, when they do, why don’t they list concrete renewal rents instead of just saying, “one 5- year renewal option?”

What kind of personal guaranty? [Click HERE for a blog posting about what might be available besides the “unlimited kind” or click HERE to read about the “Good Guy” kind.] Well, we’ve gotten this far in today’s posting without pulling out one of our old saws: “People seem to be more flexible as to the business terms while the courting is still taking place and before the engagement or marriage.” Or, before the Letter of Intent is signed, as the Johnny Mercer song is titled, “I’m gonna love you like nobody’s loved you come rain or come shine.” Make sure the Letter of Intent spells out the kind of personal guaranty you’re talking about.

How about when the rent will start? This is also something that needs to be discussed up front, and openly. If there’s a line around the block for the space, there might not be a lot of room here and the newbie tenant (no disrespect intended) might have to suck it up. On the other hand, if the space, itself, is sucking wind, the prospective tenant should strive for enough time as is reasonable to get up and running. As good a dose of advice as that might be, the point of today’s posting, however, remains to “get it in the Letter of Intent.”

Exclusive use rights, i.e., protection from having competition right next door after you’ve attracted a crowd of customers, is much more easily obtained before the Letter of Intent is signed. ‘Nuf said.

Who repairs what? Say it in the Letter of Intent, especially when it comes to HVAC and expensive things like that. And, just because one party is responsible for maintaining and repairing something, doesn’t mean it is also responsible for replacing that thing. So, for those who forgot how we started this list with the advisability of doing a due diligence physical inspection of the space to be leased, this is a good place to remind you (by way of an example). If the tenant is going to maintain and repair the HVAC, shouldn’t the tenant know whether it is on its last legs? How will it know?

What happens if the space can’t be used for the intended purpose? Who is going to bear the risk? Perhaps the Letter of Intent should say whether the tenant or the landlord is responsible for assuring that the space is properly zoned for the use and what happens if it isn’t. Perhaps the Letter of Intent should allow the tenant to bail out within a short period of time if its costs to adapt the space exceed a certain threshold.

IT WAS NOT OUR INTENT, today, to list all of the items that a Letter of Intent “might” contain. Basically, we just wanted to give some examples of common, key concerns a “small” tenant should want to think about and then get into the Letter of Intent. Just remember that Johnny Mercer, the landlord, may have been singing about his feelings BEFORE the Letter of Intent was signed. After it is signed, his lust may have faded and even the most talented lease negotiator may not be able to overcome: “That was the deal.” Experienced tenants might walk away, but we’ve been talking about the “This is the only place in the world where my business will succeed; don’t lose the deal” prospective tenant.

Careful readers will see that we didn’t use “Due Diligence” and “Letter of Intent” in the same sentence. We just gave enough information for you to do so yourselves.

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  1. floridalegal says:

    Ira: The article gave a general indication that the pitfalls were primarily those of the novice tenant or new business. I agree that they rarely know what they are getting into and our landlords might not want to educate them. A provision/condition that I know is in every regional or national retailer’s LOI is “management approval” or “real estate committee approval”. The landlords expect this to be in the LOI of prospective tenants who are not local one off stores. That second level of approval is used by almost every real estate manager I know to give them some room for renegotiations. The typical non local’s LOI is going to be 4-5 pages. It is rare for the real estate committee to not come back with some change to the deal.

  2. As a commercial real estate agent for over 20 years that specializes in leasing, the obligations of the preparation of the Letter of Intent depend on the client we are representing. A Tenant representative situation will require significant thought to the details in advance including the offer of options for renewal periods, options to purchase, maintenance obligations, deposits (if any) and guaranty (if any). If a Landlord situation, then truly we are looking at limiting their exposure and requiring the maximum obligation by the Tenant. Honesty and integrity are the highest requirement in any deal and in no way would would I willingly subject myself to a situation wherein this is compromised. That being said, the preparation of the Letter of Intent and all the contents therein depend upon the representation obligation that the broker has to the party they are working with. The reality is additionally that a Letter of Intent is not legally binding, but a good faith letter that the parties reach agreement to on basic terms. Negotiation is always a part of the fine art of real estate.

  3. ^Certain portions of the letter of intent may be binding

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