Covid and Commercial Real Estate Leases

Mike Carlson
Template Specialist
Mike Whelan
Chief Community Officer

Commercial real estate leases are usually dull, uninteresting documents – until now. Because of Covid, a large percentage of the workforce works from home and may not be heading back to the office anytime soon. Landlords are losing some negotiating power, and Attorney Mike Carlson uses a Westport Park Lease to show contract drafters what areas to look for when drafting future leases.

Questions in this Episode:

  1. How has Covid affected commercial real estate lease drafting?
  2. What is a triple net lease?
  3. Can mask wearing be a rule of the lease?
  4. Should you have a list of “horribles” in the force majeure clause?
  5. What is “ejudsem generis” and why is it important?

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Leasing in the Time of COVID

Commercial office space leases are often extremely long documents, and this one is no exception coming in at 91 pages plus ten exhibits.

This Westport lease is a relatively standard triple net lease, meaning the tenant pays their rent and utilities plus a percentage of all the expenses on the property like real estate taxes, building insurance, and maintenance.

The idea of a triple net lease is for the tenants to pay for all the operating expenses of the building, so the rent payments to the landlord are essentially pure profit.

When the economy is booming, and business owners are scrambling to find quality commercial space, lessors have the negotiating power on their side.

“The general idea is that the tenant will be paying for operating expenses and everything after that for the landlord is gravy.” Mike Carlson

But COVID has cast a shadow of uncertainty over the commercial office space world. Now landlords are trying to figure out how to keep the properties full and who pays all the expenses when the buildings are only partially occupied.

Now Everyone Wants a Force Majeure Clause

The business world changed over the past two years because of COVID, and it affected not only the owners of commercial space but their tenants also. As supply chain problems continue, business owners and landlords are worried about what other unforeseen things could happen that might impact their businesses.

And because of that, contract drafters feel pressured to put in strong force majeure clauses in their agreements. Force majeure is now the “clause du jour.”

But, what makes a force majeure clause effective for the client?

The force majeure clause in Article 10 of this contract uses the kitchen sink approach. It lists the usual: “…strikes, lockouts, labor disputes, acts of God, adverse weather, acts of war, terrorist acts…” and more. 

But it also lists “…disease, epidemics, quarantine, emergency or other governmental orders…” which appears to be a direct response to the realities of a COVID world.

But sometimes, the kitchen sink approach to drafting a force majeure clause may backfire on your client.

“I don't love this laundry  list of horribles being listed in a force majeure provision.”  Mike Carlson

Typically, when you have a long list of “horribles” in your force majeure clause, the reason the court allows you to rescind will be for one of those listed reasons. But often, if the force majeure reason is not among the items on your long list, the court may rule against you.

The Supreme Court in Adams, 532 U.S. 105 (2001), defined the term “ejusdem generis” as a situation in which “general words follow specific words in a statutory.”

The term ejudsem generis means “of the same kind” and is used by the courts in contract interpretation.

So when you draft general words in your contract after a list of particular things, the general words will be restricted to matters of the same kind as those specifically listed. 

In these commercial lease agreements, the other important note is that almost always the rent is not forgiven. -Mike Carlson #ContractTeardown Click To Tweet

Your general words will be restricted to the items on your list. And, if the force majeure reason you are using for the rescission is not on the list, you may have a problem. It may be better to keep your force majeure shorter and more generic than the lengthy one in this lease. And force majeure clauses notwithstanding, historically, rents in commercial leases are not forgiven.

Rent Adjustments When the Building is Not Full

Like Article 5 in this lease, a rent adjustment clause is standard in commercial leases. But this is one area where a savvy business owner or their attorney will likely negotiate.

This rent adjustment clause is entirely one-sided in favor of the landlord. In a triple net lease, the tenants pay the property’s operating expenses. And, if your business occupies .02% of the property, you will pay .02% of the operating expenses for that year.

But what happens when the property is only 90% occupied, or 80% or 65%? How much of the operating costs is each tenant obligated to pay?

Since the landlord is not paying the operating costs, the rent adjustment clause allows them to recalculate the amount you owe. The landlord would calculate the expense as if the building was 100% occupied and then factors in “variable components” based on the occupancy of that year. 

If the building is not 100% occupied, your rent is going up. The question of how much depends on how this clause is drafted and the pre-execution negotiations. And today, tenants are in a better negotiating position.

Can Mask Wearing be a Rule of the Lease?

The Rules and Regulation clause in Article 27 is also fairly standard. All commercial properties have rules for their tenants like how the trash is handled, the hours, what type of signage is allowed, and more.

Usually, the landlord is allowed to make any reasonable and non-discriminatory changes they deem necessary.

But with COVID, suddenly, the property owner was forced to interpret a network of rules and guidance. Some states required a preparedness plan. The CDC and other agencies issued ever-changing guidelines about mask-wearing, and more. And all of these included proper notification to the tenants, who either did or did not comply.

“You see this in the case law as well, that a failure to abide by the rules and regulations is essentially equivalent to a breach of the lease.”  Mike Carlson

Many property owners updated their rules regularly, but this was different. These rules are essential terms of the agreement. If a tenant violates them, they are most likely in breach of the lease.

The Big Picture – Lease Drafting Lessons

Standardize: One of the biggest challenges in drafting a commercial lease for your client is standardization, especially if the landlord plans to scale the business. You can draft accordingly if you know what areas will most likely be negotiated and why.

Automation: Contract automation is partially here and growing every day. You can use many low-coding and no-coding contract automation software programs to automate part of the lease process.

One significant benefit is you can embed the calculations into the automation and avoid the mistakes often made with hand calculations. You can manually make changes, but the default setting will do the automatic calculations for you.

Force Majeure Clause: Even if industry standards show you that force majeure clauses may not be vital, your client will most likely want them because of their tenants’ fears. Be mindful of “ejudsem generis” and draft accordingly.

“It's a consumer-facing product and we can't ignore that, and we want to make everyone comfortable.”  Mike Carlson

Speed Up: As a contract drafting lawyer, it’s important to think about how you can speed up the contracting process for your client.

Leases have not changed much, but how we use them has. Today there is more negotiating, and much of the power has shifted to the tenants. Remember that a lease is a consumer-facing document, and you are drafting for two audiences – your client and their tenants.

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Show Notes

THE CONTRACT: Westport Office Park, LLC Commercial Lease Agreement

THE GUEST: Mike Carlson has worked for the Minnesota State Bar Association for over 6 years as an attorney editor and recruitment director. Most recently, he has become Lawyaw’s template specialist. He has helped to improve connections between Minnesota attorneys, worked on document and workflow automations, and run his own practice focusing on copyright and trademark law. He has reviewed and drafted a wide variety of business agreements including franchise, licensing, lease, asset-purchase and others. He can be found on LinkedIn and Twitter (@MikeRCarlson).

THE HOST: Mike Whelan is the author of Lawyer Forward: Finding Your Place in the Future of Law and host of the Lawyer Forward community. Learn more about his work for attorneys at www.lawyerforward.com.

If you are interested in being a guest on Contract Teardown, please email us at community@lawinsider.com.

Transcript

Mike Carlson [00:00:00] The research on Law Insider did show in the last two years something like 60 instances of the term pandemic just in the last two years, the 20 years prior to that of, I think, 15 references last two years, you’ve seen a ton of.

Intro Voice [00:00:16] Welcome to the Contract Teardown show from Law Insider, where legal experts tear down contracts from some of the most well-known companies and high profile executives around the world.

Mike Whelan [00:00:30] In this episode, State Bar editor and commercial attorney Mike Carlson stares down a common commercial lease agreement. The context has changed here a bit after a global pandemic, including bargaining power and some substantive language expectations. So let’s tear it down.

Mike Whelan [00:00:48] Hey, everybody. Welcome back to the Contract Teardown show from Law Insider, I’m Mike Whelen. The purpose in the show is exactly what it sounds like. We take contracts, we beat them up. We’re mean to them occasionally. Nice, but not usually because that’s not as funny. I hang out with smart friends like my buddy Mike Carlson here. Mike, how are you today?

Mike Carlson [00:01:06] I am fantastic. Thanks for having me.

Mike Whelan [00:01:08] Absolutely. I’m excited as excited as someone can get because we are talking about leases. It’s not a sexy topic, but this is what we’re doing. We’re going to go through this document, and I feel like this is going to really help lawyers who deal with this a lot. This is a lease agreement by in between Westport Office Park, etc. and Talis Biomedical Corporation. This is coming from Law Insider will make sure that you guys have the link. But Mike, before we dig into it, tell me what this document is. When are lawyers seeing this kind of thing?

Mike Carlson [00:01:39] This is your standard run of the mill. Triple net lease agreement just means that the tenant is going to be paying for taxes, for insurance and for maintenance. The general idea for these kinds of agreements is that the tenant pays for the operating expenses and then after that, everything else for the landlord is gravy. So the base rent the the smaller rent amount that the tenant pays is all gravy for them, for the landlord after the tenant pays the operating expenses.

Mike Whelan [00:02:13] Got it! Well, very cool. I’m sharing it again here so that you guys can see sort of the length of it. We’re not going to go over this whole thing because dadgum this thing is long, but we do want to hit on a few high points as we get into that. Mike, tell us a bit about you. What’s your background? Where are you running into documents like this?

Mike Carlson [00:02:30] Yeah. So my day job is one thing, and my other day job is another thing. I work for the Minnesota State Bar Association. I’m the editor of the Practice Law Library, which means right now what we’re doing is automating the forms, the documents, the checklists and making those available to our members so that they can access those and maybe process, you know, in a tenth of the time we used to take them and one hour what used to take them, you know, 10 hours. So we’re trying to build in those efficiencies for our members. And then my my other day job is is working for the Center for Performing Arts, where I manage the leases for this organization. Center for Performing Arts sounds like a nonprofit organization, but we’re actually a limited liability company. We serve mostly artists and local individuals and what some folks might call the tertiary lease market. But I had draft our leases and process or leases.

Mike Whelan [00:03:25] Got it. You know, we were talking about this beforehand. My sense of leases with a lot of lawyers who are dealing with these things, especially, you know, on the tenant side is, you know, a lot people will hand these things to us and say, Hey, look at this, and it’s not something we deal with a lot. And yet it’s something that we have to see a lot, right? Like, I don’t know that there’s a lot of deep analysis with documents like this. And so I feel like people sort of stumble into things. And you know, as I always say, when I signed a lease, I’m like, Hey, your lawyers are better than mine, just give me a place to sign. The joke being, of course, I am our lawyer. So what we’re going to do is look through this and be with a little bit more of a critical eye knowing that these things are fairly standard, but to see where the bargaining power is, especially post-COVID, so. So let’s get started. I’m going to start just in this preface. This is the lease agreement between Westport and Talis. Tell us about this. This particular document, this kind of document, what can we pull from sort of the intro to the to this contract?

Mike Carlson [00:04:23] And so this agreement I grabbed because I had some of the commonalities of of sort of a post-COVID world in it. So the force majeure provision here, for example, accounts for it specifically lists disruptions to the supply chain as part of their pandemic is a part of it. One of the things I did that sort of prep for this session was to do some research in a law insider to see how these things might have changed over time. I love looking at these material agreements as samples. I think they’re quite helpful. But they do change over time. The force majeure provisions in the last couple of years have really flourished. I know that when I was, you know, in the in the last year, I got a lot of practice to why don’t we have a force majeure provision in our lease agreement? What’s going on? What’s the matter with you? You didn’t anticipate this, this problem. So I got I got defensive. And so this is sort of not my main goal, but it’s my my defense of why why we don’t have this.

Mike Whelan [00:05:24] Hey, everybody, I’m Mike Whelen. I hope you’re enjoying this episode of the contract teardown show. Real quick, I want to ask you to do me slash you really a quick favor. Look down below. You’ll see a discount code to join the Law Insider Premium subscription. When you do that, you get access to more content like this. You’ll see webinars daily tips on contract drafting, not to mention access to the world’s largest database of sample contracts and clauses, it will help you write better contracts faster if you want to do it right now, there’s a code below, so get there. Also, if you’re part of a larger team, if you’re in-house or in a law firm, just email us we’re at  sales@lawinsider.com, we’ll make sure you get a deal as well. Come join us in the community. The code is below. Let’s get back to the show. Yeah.

Mike Carlson [00:06:11] Well, I mean,

Mike Whelan [00:06:13] like a point you raised is obviously the our nature. The nature of our relationship, particularly with commercial spaces, has changed over the last year or so where a bunch of companies are trying to figure out, let’s not go back to work. And so these leases really become problematic and something to pay attention to. So to the point that you made. Let’s jump down to ten point one. This is the force majeure clause. Its long and at least it does the bad thing that people do where they just throw the kitchen sink at all the things that can go wrong. I’m pretty sure there’s like like Ant-Man is. And what if Ant-Man has to fight off an alien or something and steps on your bill? I mean, it just includes everything. What do you think about this force majeure clause and 10 one?

Mike Carlson [00:06:53] I don’t love this kind of, as I indicated, probably, and I don’t love this sort of laundry list of horribles being listed in a force majeure provision for a couple of reasons. And here I’m quoting Ken Adams. You may be familiar with the contract drafting blog has got a great blog post on this, and I rely heavily on him as part of my research for these kinds of things as well. But there are a couple of challenges for this. One is in. Ken cites a case in his blog post from a New York case that said, Look, typically ordinarily the the reasons you can rescind an agreement are for the reasons are outlined in the force majeure provision, right? So if it’s not listed, if you forgot to mention ant man plodding through your your space, you’re out, you’re potentially out of luck and citing a case from from New York. So the problem then, is your your your tendency might be your inclination might be to list them all out, you know, get everything in there. The research on Law Insider I did showed in the last two years something like 60 instances of the term pandemic just in the last two years. The 20 years prior to that, I think 15 references last two years you’ve seen a ton of them and thrown for the same reason. You’re getting pressure to try to draft that clause because they’ve sort of become the cause to here. But no, I don’t love it because of that case law. The other the other problem is you get this idea that it becomes a sort of a categorical setup, which is that the doctrine ejusdem generis if I am pronouncing that correctly. Where have you got a list of your horribles? And then something truly horrible happens, and it’s not of the same category that you’ve listed in your in your parade of horribles, then you’re also out of luck. So I, if these things need to been in here, I strongly prefer to keep it as generic as possible and much, much, much shorter than this paragraph here in these commercial lease agreements. The other important note is that almost always rent is not forgiven as a part of the agreement that I have seen a few in my review, but almost never is rent forgiven. Anyway, there are other obligations in the lease agreement, of course, but but for the landlord and for the tenant who may be looking for forgiveness, it’s not going to apply for the biggest liability under the agreement.

Mike Whelan [00:09:41] Yeah, and I would point people to a webinar we did with Professor Farshad Ghodoosi, where he talked about like, Do you even need one of these clauses? Can you just lean on the common law when you start to your point listing out things, are you messing with the foreseeability, which is a factor in how judges rule on those things? So we’ll make sure the link to that webinar is included. It’s a real interesting thing, but to your point, when we get post-pandemic and these buildings start to empty out now, the landlord doesn’t have the power that they used to have. Would you know, how does that impact these kind of contract negotiations that usually you just sign because you have to let’s jump down to five five where it talks about that. You titled this lease up or gross up. What do you think about this section?

Mike Carlson [00:10:25] Know these are these are very common. You almost always see these. It’s a point of negotiation. It’s something that of a savvy tenant is going to be, you know, one that should be represented by an attorney will be negotiating with their with their tenant. It’s an important piece and it can have significant impact on the wealthy. In both parties, the basic idea here is because in these leases, the the tenant is paying its percentage of the or eight percentage of the of the overall operating expenses of the of the of the property. So they’re occupying point zero two percent of the property. Their obligation to pay the operating expenses is point zero two percent of the operating expenses. It’s just a match. But what happens if that you can’t share that among all the tenants because there aren’t all the tenants that the building is not 100 percent leased? And so these gross up provisions allow the landlord to say, Well, we’re going to build you as if we were 100 percent leased and it’s you, you can negotiate around that. Oftentimes you’ll see this at ninety five percent rather than 100 percent. Not often do you see it in a situation where it’s pro-rated for the area actually occupied, which would be much more favorable to the tenant? I put that. But but certainly that’s something that you can negotiate with the tenant and tenants. Of course, right now are as you, as you noted, in a much better bargaining position. So you may be, you know, having your your office space because half your workforce is now working remotely. But are you still liable for 100 percent of your portion of the of the operating expenses?

Mike Whelan [00:12:24] Yeah, yeah. I know a lot has changed there. And before we get to that as a big principle, I wanted to jump you down to 27 seven one where it talks about the rules and regulations. I mean, especially when we’re talking about COVID requirements, you know, a lot of this seems to depend on what state and what city you live in, whether you know, local areas even have COVID requirements. But but what do you think about 27 one in these rules and regulations and how that’s changed in the last year?

Mike Carlson [00:12:50] Yeah. So a lot of states have required for businesses that are reopening to create a preparedness plan. And if that’s the case where you were, but you know, that’s hard to stay on top of it changes every week. The CDC guidance is never the same, you know, and it’s it’s this network of guidance that you have to stay on top of. So our rules and regulations here have been updated regularly. You know, many, many times, and there’s a process by which we have to notify our tenants to let them know that there’s rules and regulations have changed, but there are essentially terms of the agreement. It’s often and you see this on the case law, as well as failure to abide by the rules and regulations, is the equivalent to a breach of the lease. And so it’s something that we often lead with when we talk to our tenants will say because our day to day with them is kind of what matters, right? So how they handle trash and parking and whether or not they’re masked up within our space? All of that is is our day to day with them. And that’s that’s something that I think is in attachment at the end of the lease. It’s an exhibit, but often a starting point for for our purposes. So yeah, it’s a it’s a hugely important. It’s the day to day, right? It’s how you interact with your tenants.

Mike Whelan [00:14:16] Yeah. My daughter got mad at me in a text last night because I told her, Hey, we’re not actually going to go see my family for Thanksgiving. And she was like, But I asked for all this time off, why do you keep changing your mind? I’m like, I don’t know. We’re trying to follow the guidelines, and they just keep changing. Yeah. So anyway, my daughter’s mad at me. And so it’s a day ending in Y and it’s fine and I’m adjusting. But I did want to get to sort of the big picture idea here, especially, I’m trying to think of how to overlap, you know, your different jobs and what you’re doing to try to standardize and then also to deal in the real world with, you know, clients who who have these tenants as you’re doing this work where you’re standardizing, particularly in a document like this in a contract like this, how do you deal with that balance of I want to standardize something I want to lease that’s mostly the same for the next 20 years, you know what I mean? So that I’m not rethinking this every time. How do you balance that with the fact that in fact, there’s a totally different negotiating position for, you know, tenants and landlords now? Have you guys updated the, you know, beyond just changing the rules and the force majeure? Or have you substantively changed like the negotiating power that’s assumed when you’re drafting this thing?

Mike Carlson [00:15:28] The the agreement itself hasn’t changed much. The way we use it has had to change. We doubled our space in the last year. We actually I mean, the benefit of COVID is that we did a construction project and with little disruption to our existing tenants so that that actually worked out pretty well with the standardization is just so. So important so that we could scale, you know, if we’re going to double our space. We don’t want to be in a world where we’re, you know, doing this bespoke every lease. Yeah, yeah, every lease and the, you know, there’s so much room for error in each of those. So, you know, if we don’t. And that has serious consequences for either party if if you mess up the calculations in the agreement. So the standardization the and the automation of these agreements means that all of that calculation is baked in doesn’t mean we can’t edit it. I don’t hire a developer. These new no code or low code operating systems like After Pattern or Law Yaw are there a whole host of them now. Documate. They’re great and they enable me someone with very, very, very limited coding experience to edit that process. And I’m, you know, we’re the ones with the expert on the business process, and I’m the attorney, so I understand the legal side of things. So it’s it’s a it’s a great mixture. I can jump in and edit that as I need to without disrupting the entire.

Mike Whelan [00:17:00] Yeah, sure. But I guess what I’m asking is like, take take the force majeure clause, for example, you as the drafting attorney, I mean, you, you are representing the landlord, and that’s usually who’s drafting in this situation. You, as the drafting attorney, know that that force majeure clause probably is not necessary, probably does not make a big difference. You’re probably creating more problems for yourself than you really want. But practically, you know that the other side has heard of this thing called a pandemic. They read in some blog and you know, from some link on Facebook that force majeure is a thing. And so they better put that one of those stupid disclaimers on Facebook that do absolutely nothing but their mom told them they should. And so, you know, you know, this is part of the the zeitgeist right now. Do you change? Do you go ahead and include a force majeure clause even if you don’t think it’s necessary because you’re just trying to speed up the contracting process with all of these tenants?

Mike Carlson [00:17:54] Yeah, the short answer is yes. There’s considerable nuance to that, of course. Right into the mind, force majeure clause looks much different than the one that’s in this agreement. Simply because it is it’s meant to be a generic, you know, I can tell my client so there are multiple audiences here, right? So there’s my client and then there are my clients, customers, the tenants. So we’re sort of speaking to multiple audiences and we accommodate that to the best that we can. But but it’s it’s two separate audiences, to be sure. You know, I can take that that the real estate institute that is occurring here next week, I think really great. They produced this this fantastic annotated commercial lease agreement. You know, I can tell my client, look, there’s no force majeure clause in the standard agreement that’s been drafted by, you know, but but my my client is saying, well, my tenants are asking for it. So let’s let’s make sure that we’re we’re drafting something that sort of meets all of our needs. You know, that’s it. It is. It’s a it’s a consumer facing product, right? And you know, we can’t ignore that and you want to make everyone comfortable.

Mike Whelan [00:19:07] Yeah, yeah. The weird environment where Facebook misinformation campaigns actually impact the way you contract. Well, I mean, it’s an interesting context, and obviously a lot has changed post-COVID. And you know, for lawyers who are drafting these kind of documents, it’s really important for them to think about, you know, how they’re going to speed up the contracting process, but also be smart about it. So it’s it’s an interesting thing if people want to reach out to you, Mike, and learn more about your work, especially this standardization work you’re doing with the bar, which is really interesting. What’s the best way to contact?

Mike Carlson [00:19:36] You can be reached at my Gray Paper Legal account. I’m at Mike@graypaperlegal.com that’s gray with an A

Mike Whelan [00:19:46] because we don’t do that and British nonsense here.

Mike Carlson [00:19:48] OK, yeah. Oh, it’s a bridge. I don’t know how I even so accidentally settled on gray with graypaperlegal.com. Send me an email! My direct dial phone number is 612-666-7300. Sign of the Devil. I get a lot of trouble from my members who

Mike Whelan [00:20:07] say it’s Minnesota, the godless world of the Twin Cities. I appreciate you. I appreciate you joining us. We’ll make sure to have your contact information. This document all of this information accessible to people over at lawinsider.com/resources, where we’ll post a blog with some downloadable resources for you there. Also, if you want to join the contract tear down show, be a guest, be a contributor, beat something up to feel better about yourself. Tear down a contract, just email us. We’re at Community@LawInsider.com. We’ll see you guys next time. Mike, thanks again for joining us. Have a good day.

Mike Carlson [00:20:43] Thank you. Great fun.

Contributors

Mike Carlson
Template Specialist
Mike Whelan
Chief Community Officer

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