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Key Lease Provisions to Consider in Due Diligence
uring the due diligence process, whether an attorney represents the lessor or the lessee, the attorney will want to consider numerous lease provisions when advising the client. Although every situation is different, the following are some key lease provisions that often arise during due diligence. Please note that in this article “due diligence” is being used somewhat loosely to encompass everything from considering a particular property to the terms to include in a letter of intent, in the initial lease draft, provisions to include (if representing the lessor, the typical drafting party) and provisions to pay close attention to during the initial review (if representing the lessee, the typical reviewing party). The intent of this article is not to offer a comprehensive guide to reviewing leases or negotiating leases, but instead to provide an overview of some key provisions to consider during the due diligence process. At the end, a checklist is included to aid attorneys in their due diligence efforts. Basic Information First, who is the lessor and who is the lessee? It sounds simple and basic, but perhaps because this is simple and basic, sometimes people gloss right over this. Ensure that you have all parties’ complete names. For example, if a party is an entity, the lease must include the entity’s full name and jurisdiction of formation. If a trust, the name of the trustee and the full name of the trust must be included in the lease. If there are multiple parties, all owners must be included. One of the authors conducted due diligence for a lease in which the lessee was a defunct entity. Because the entity did not exist at the time the leases were entered into, corrective Amy Lawrenson is a partner at Baird Holm LLP in Omaha, Nebraska. Imran Naeemullah is an associate at Cades Schutte LLP in Honolulu, Hawaii. Karen Nashiwa is deputy general counsel at Triple Oak Power in Portland, Oregon.
By Amy Lawrenson, Imran Naeemullah, and Karen Nashiwa documents ratifying the leases and changing the lessee’s name were necessary before the deal could move forward. The Premises The lease must describe the premises with particularity, to the exclusion of all other real property. This benefits the lessor and lessee alike. Consider whether there are any obstacles to doing so. For example, is the square footage of the premises readily available? Is there a valid legal description of the premises? Is there a clear map of the premises (and does it include any extraneous information that may potentially lead to confusion or conflict with the written description of the premises)? Identifying missing information or potential problems can help to avoid issues in closing the transaction. Including a proper legal description and depiction of the leased premises in the lease helps to ensure that the parties agree on the described premises. Use of the Premises Use is a perennial issue in leases. What is the intended use of the premises? Many leases require that the lessee use the premises only for purposes allowed by applicable law and zoning regulations. Such a provision requires a two-step review. First, is the intended use permitted under applicable zoning regulations, and second, is the intended use allowed by other applicable law? For example, applicable zoning regulations may allow a medical marijuana dispensary on the leased premises, but state law might prohibit the sale of medical marijuana. When considering use, the attorney should also contemplate what the lessor wants (if representing the lessor) and what the lessor will allow (if representing
the lessee). For example, if the prospective lessee wants to open a music studio the lessor will be concerned about a potential nuisance to its other lessees. The lessee will want to ensure that the lease allows for it to operate its business without having to worry about lease violations. Use also extends to other issues. For instance, the lessor should consider what type of businesses it will allow in the premises; and the lessee should consider whether the lessor’s allowed use will be compatible with its intended use. Exclusive use provisions should also be considered. For example, a lessor must consider whether an exclusive use provision is necessary to protect an existing lessee’s business (whether contractually or as a practical matter to preserve revenues from percentage rent), and a lessee must consider whether an exclusive use provision is acceptable. Both sides should give careful consideration to exclusive use provisions, particularly as the exclusive use provision may not be tested until well into the lease term. For example: Is a hamburger (e.g., at a fast-food burger restaurant) a sandwich for purposes of an exclusive use provision in favor of a deli? Will the permitted use of a new tenant cause issues with existing tenants or at the end of the lease term? In the event a lessee abandons the premises, the personal property left behind is usually deemed abandoned, and lessors often have the right to remove or dispose of such personal property without liability to the lessee. But what if the personal property is a type of property with which a lessor does not want to be involved? One of the authors represented a lessor who leased space to a gun store. The lessee stopped paying rent and abandoned the premises, so the lessor evicted the tenant. Although the matter was straightforward, what to do with the guns and ammunition left behind was not. Thankfully, the Bureau of Alcohol, Tobacco, Firearms and Explosives was in charge of handling what was left behind.
Published in Probate & Property, Volume 36, No 4 © 2022 by the American Bar Association. Reproduced with permission. All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.
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July/August 2022
