Lease Agreements: Protecting Your Downside

What I love about restaurant owners and operators is their ability to see problems through and envision success. Whether it’s a new restaurant concept or a proven approach, operators always are excited about the opportunity to open and run a restaurant. Then the 50-page lease gets dropped in their lap. Most restaurateurs check to see if the rent, common area maintenance (CAM) charges and tenant improvement (TI) dollars are correct and leave the legalese to the attorneys. 

But just as you wouldn’t trust all the details of running your restaurant to someone else, you must wade through the lease to be confident it protects you from undue competition and reduces risks that accompany a decision to close. While nobody goes into the restaurant business thinking about anything but success, we know closing is a possibility. A properly worded lease may limit your losses.

You Want to Be the One and Only

One of the first things to consider in a lease is an exclusive rights provision, which means you want to be the only restaurant in the building or shopping center. The last thing you want is to have a competitor open next door. If you can’t get this provision, then ask for exclusivity in your category. One “Thai” restaurant should be enough, and most landlords will agree to such a provision.

This provision won’t do much to protect you, however, if your lease doesn’t specify a penalty for violations by the landlord. I suggest a complete abatement of rent for violating this clause. If you can’t get that, ask for something substantial such as a 50 percent abatement. This is not unreasonable because the landlord is hurting your business by inviting in a competitor. Some landlords will counter by giving the tenant the right to terminate the lease, but this is not a good remedy. Why should you have to move and disrupt your business because the landlord violates the lease? 

Protect Your Personal Assets

It is common for a landlord to require a personal guarantee, but this should not be an indefinite obligation. Tenants should request that the guarantee terminates or “burns off” within a stated time. For example, if you signed a 10-year lease, I recommend that the personal guarantee expire after five years. Ask your attorney to change the heading of the guarantee to “Limited Guaranty” and add a date for when it expires.

Don’t Let the Landlord Make Your Decisions

You also should examine any lease provision that requires you to be open a certain number of hours or any requirement that intrudes on your freedom to manage your restaurant for maximum profitability. Many leases contain these provisions, but they can be modified to suit your business. Make sure the landlord’s required hours are a match for your business. For example, a restaurant operator may not want to open for lunch initially. A compromise that addresses the restaurant owner’s desire to control startup costs with the landlord’s need for a full-time restaurant in a shopping center might be to allow reduced hours for the first six months.

Hedge Your Bets

Inevitably, some restaurants will close. To protect your downside, I suggest negotiating a gross sales kick-out clause. This gives you the right to terminate the lease if sales fall below a certain level. Negotiations may result in various conditions being attached to this right, such as a requirement for the tenant to stay for a certain number of years or to reimburse the landlord for improvements.

If the landlord will not agree to such a provision, try negotiating a go-dark provision that says if sales are below a stated figure, you have the right to close the restaurant. You likely will be required to pay the rent and common area maintenance (CAM) fees but will reduce losses.

While not every lease will be complex at the outset, as with every contract, the final document often is the product of negotiation and compromises on both sides. Your lawyer may not be an expert on operating a restaurant, but he or she knows all about risks. Don’t sign without first seeing if your lawyer can help negotiate the downside.