Co-tenancy clause in commercial real estate
The co-tenancy clause in commercial real estate is referenced from time to time in media, yet plenty of people who own, rent and lease commercial property do not understand what this clause is really all about. The commercial real estate co-tenancy clause has the potential to prove quite important as the a contract plays out in the months and years ahead. Here is an in-depth look at what the co-tenancy clause in commercial real estate really means and why it is so important for both property owners and renters.
Consider the Overarching Commercial Ecosystem
Use your mind’s eye to envision a large retail space in which several tenants operate businesses. These tenants each make up a key component of the retail center as a whole. Oftentimes, such retail shopping centers and malls prove successful when there is an initial attractive anchor tenant. This anchor tenant draws in even more businesses as there is an assumption that the anchor tenant will steer people toward the area. The anchor tenant and the smaller surrounding businesses both benefit from the traffic they generate, ultimately boosting revenue for all businesses in the retail space.
Commercial Real Estate Ecosystems are not Inherently Stable
There is the potential for a commercial ecosystem to be upended. As an example, if the anchor tenant does not renew its lease or ends the lease early, the rest of the surrounding businesses will suffer after the vacancy. Even an exodus of several of the smaller stores positioned near the anchor business can cause that company and the rest of those still open for business to suffer a significant decline in revenue.
The potential for an individual setback at a single point in the ecosystem can prove quite disruptive for the collective. This is precisely why more and more tenants are attempting to negotiate commercial real estate leases with the addition of a co-tenancy clause.
The Basics of the Co-Tenancy Clause
A commercial retail lease agreement that contains a co-tenancy clause has language that provides remedies such as rent relief for current tenants in the event that the ecosystem is not maintained. If a break down occurs when several tenants leave the retail center, mall or other shared commercial space, the party that suffered financial harm will be compensated, likely through some form of rent relief. This means the amount of money the commercial real estate tenant in question pays for monthly rent will be reduced to offset the loss in business resulting from the disruption of the commercial ecosystem. In other words, the co-tenancy clause for commercial real estate contracts is a form of insurance for prospective tenants providing a windfall of financial compensation should the ecosystem eventually break down.
Mind the Threshold and Cure Period
The co-tenancy threshold differs from one commercial real estate contract to the next. No matter what, the language of the contract should establish a threshold for which a tenant can invoke the co-tenancy clause. For example, the language should detail exactly what percentage tenants must have vacated the space in order for the co-tenancy clause to kick in so the business owner can receive financial compensation to make up for the loss of business.
In certain instances, the owner of the property used for commercial activity will have a cure period in which new tenants can be brought in to move above the threshold for co-tenancy. This is precisely why an experienced commercial real estate attorney should review the language of every contract. In some such contracts, property owners have upwards of six months or longer after the last tenant’s departure to return the occupancy rate above the threshold necessary to prevent the activation of the co-tenancy clause.