[EP 218] Lease assignments & Lease Assignment agreements – Tips and traps for buyers and sellers

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Joanna:
Hi, it’s Joanna Oakey here and welcome back to The Deal Room podcast, a podcast proudly brought to you by our commercial legal practice Aspect Legal now today we’re talking with Mark Gardiner of Aspect Legal about the tips and traps in lease assignment in the context of business sales for buyers, and for sellers. Mark deals with a lot of our clients who are buying and selling businesses, and he comes to the topic of lease assignment with a wealth of knowledge. In fact, for more than 30 years, he’s a lawyer, consultant and business advisor specializing in corporate and commercial law, and together with extensive business management experience, his advice is underpinned by an MBA. Now if that’s not a reason to get your pens out for this episode, I don’t know what it is. So without further ado, here we go with our discussion with Mark.

Joanna:
Mark, welcome onboard to the deal room podcast. It’s so good to have you on the podcast.

Mark:
Thanks, Joanna. It’s pleasure to be here. Wonderful, wonderful. Okay.

Joanna:
Now today, of course, we’re talking all about the top tips, the top things to think about when you’re buying and selling a business in relation to leases. So why don’t we kick it off just maybe by giving a little bit of background on what the difference is between retail and commercial leases, because I think this is sort of the one, you know, one area that many buyers and perhaps even sellers don’t necessarily fully appreciate that there’s this thing called a retail lease and this thing called a commercial lease, and they’re two slightly different concepts. So maybe talk us through what that is, Mark?

Mark:
Sure. Well, I guess the first thing to note is that leases are regulated by each state, it’s almost all slightly different. But every state has a retail leases act. And the Act was introduced to protect the interests of tenants from landlords who have retail premises, who might have perhaps not been completely forthcoming with all the information about the lease or any of the intricacies and so forth. So the retail leases Act requires landlords and tenants and prospective tenants of retail premises, to complete disclosure statements exchanged those statements before the lease is entered into. And those statements really summarize the lease and identify all the key aspects of the lease that the tenant needs to know. It’s a really important document.

Joanna:
Yeah, fabulous. And just to make it clear, and I guess, just restating where we are, so we have retail leases, these are the leases that are governed by this legislation that we’re talking about the retail leases act that is state-based, so slightly different in each state. And then we have commercial leases. So that’s leases that fall outside of that legislative environment. So there’s a little bit less regulation, I guess, you’d say in relation to commercial leases, to the extent that there is that regulation of retail leases. So if we’re coming back to retail leases, let’s talk about an example lives of the type of leases that are captured by these retail leases Act legislation,

Mark:
A retail lease is a lease for premises. That is first, less than 1000 square meters. It’s pretty much the measurement in every state that and what our retail premises are defined by the Act. And each act around the country has a schedule attached. And it lists the type of businesses that are retail leases, and some of them are less obvious. For example, a dry cleaner is a retail lease. So not something you automatically think about if you’re buying a dry cleaning business, but that’s a retail lease and governed by the act, the flower shop. And then, of course, there’s a whole range of other premises at a court. The other thing to bear in mind is that the retail leases Act also applies to non-retail businesses that are tenants within shopping centres. Some shopping centres have a commercial component to them. And if it’s part of the broader shopping centre, then that premise might be captured by the retail leases act. And suddenly that will need to be looked at fairly carefully.

Joanna:
Excellent. So really good point. It’s important if you’re considering buying a business to understand whether or not the business will be governed by retail is begun by the retail leases Act, or whether it’s a commercial lease and as you said, there is a whole We’ll list of types of businesses that will be included or indeed where the premises are positioned themselves might be the pointer as to whether or not they’re captured by the retail leases Act legislation. So now, if we, if we’re looking, again, at retail leases versus commercial leases, let’s talk about the assignment provision. So what is it that sellers need to be aware of, in the assignment of a retail lease? And I guess, you know, on the flip side, the buyers as well?

Mark:
Sure, well, the first thing a seller needs to be aware of is that they need the landlord’s permission to assign the lease. Even though the buyer wants to buy the business, they need to buy the business, generally speaking, on the premises that have been operating out or for whatever time this seller has had the business and the landlord’s consent is required. And there are formal steps that need to be taken to make sure that the landlord’s consent is obtained. And it’s a procedural requirement regarding disclosure statement obligations, then a formal consent from the landlord, and then a formal document assigning the lease. So it’s quite a process. And there is a timetable set out in the Act, which outlines when disclosure statements need to be given. And it will impact the timing of the sale. So it’s one of the things that need to be taken into account. When the completion date of a sale or purchase, often these things need to be done quickly. And there’s generally a desire, particularly on the part of a seller not to notify the landlord until they have a signed contract of sale. But if the seller and buyer want to then complete the transaction quickly, it might well be impacted by the timing of the requirements of the act, and how tardy or otherwise the landlord may be in giving their consent.

Joanna:
Do you know that that is such a good point because that’s an issue that I think many buyers and sellers don’t appreciate in relation to the timeline of the transaction, that there there are these required timeframes to enable a disclosure document to be given in a time before they are to be effective? So that means, you know, the period of time that they must be given prior to the date that the matter completes, and the business passes over to the buyer. I think that’s such an important point. The other thing that I see, done wrong from time to time is the lack of realization of the need for a disclosure document from to be provided as part of the transaction. And there are some real consequences for this Mark, do you want to take our listeners through what those consequences can be, particularly for the seller for a failure to provide those proper disclosure documents?

Mark:
Well, Joanna, the problem for the seller is that if the disclosure documents are not given and formal consent is not obtained, then the seller can remain liable for the obligations of the lease for the duration of the lease term. So it’s been significantly impactful. Yeah, yeah,

Joanna:
absolutely. And then I guess the next issue that I see come up regularly, regularly in the consideration of, you know, the best way for a seller and a buyer to deal with this whole issue of assignment of a lease is bracing the fact that a landlord doesn’t necessarily have any reason to want to agree to an assignment of the lease if they have a concern about the buyer who’s coming in and their ability to run the business. So maybe we’ll start off with what does the retail leases act say in relation to any obligations a landlord might have in relation to the assignment,

Mark:
or the landlord must act reasonably. That’s the first and foremost consideration, but the landlords are entitled to take into account the ability of the prospective tenant to run the business and is able to compare the financial position of the seller and the buyer so that the landlord can make an informed decision as to whether he believes the buyer of the business is a suitable tenant for his property matches they do an assessment of a prospective tenant when leasing for the first time when the lease has been assigned. They will undertake a similar assessment process. The Act outlines what they can and can’t take into account. But it is important to note that landlords can refuse on certain grounds to grab that grab their consent.

Joanna:
And then, you know, if we’re thinking about, well, how do we arm our buyers and our sellers with, you know, the highest likelihood of being able to get a landlord to consent to the assignment? Do you have any tips that you provide to our clients in this area mark?

Mark:
The key is that the seller needs to really encourage the buyer to share with the sellers their financial circumstances, and their background. Now, it may be too much to ask for bank statements as the seller but the landlord may well ask for them. And I think it’s important to really engage in a dialogue with the buyer, perhaps through a broker who’s assisting the sale. As to the situation you may have with the landlord, you may have a difficult landlord, you may have a landlord who was very exacting through the initial leasing process, which might impact upon his desire to consent quickly and cooperatively in the sale process. So timing is critical and a free flow of information is very helpful.

Joanna:
Yeah, I, I sometimes look at it as though it’s almost like you’re pitching a marketing document to the landlord, isn’t it? You know, you what you’re doing is you’re pitching this buyer, as a good tenant, or landlord moving forward, you know, you’re trying to create a good story behind the buyer as to why the landlord shouldn’t be nervous about taking onboard the buyer as the tenant in that assignment of lease. That’s exactly

Mark:
right. Because from the landlord’s perspective, he has a tenant, he has someone who’s paying the rent every week or every month, and he’s very happy with that. He doesn’t necessarily want to deal with somebody else. So the seller has to almost convince the landlord that this is a suitable sale, that this tenant is going to keep paying the rent, and keep complying with the lease obligations exactly as this the seller has up to that point,

Joanna:
I guess we need to also then consider Well if we run into troubles if we if a landlord takes the position that the experience perhaps of the buyer coming in, is significantly different to that of the seller that they have as the tenant right now on the hook. Let’s sort of talk about the sorts of things that a buyer might potentially look at to make the landlord more comfortable. I guess the first thing, obviously, is that security,

Mark:
okay, well, to help the landlord make the decision, the buyer might perhaps offer more security, a retail lease may have a three-month security bond might be four months, the buyer could offer a greater bond period, and the lease may or may not have a personal guarantee, the buyer might offer a personal guarantee. So that kind of top ups of security to give the landlord some comfort in the position they’re taking.

Joanna:
And Mark we’ve discussed in the past, you have a great story in relation to this area, maybe take us through because I love all stories, you know, they’re the best, everyone that you know, it certainly helps drive home the points I think best when we can talk about actual examples. So talk us through your war story in this area,

Mark:
We were retained to assist a buyer of a business. When the landlord was refusing he was refusing to consent to the assignment of the lease. It was a restaurant, I think it was Hurstville in Sydney, and the restaurant that was selling a business to his head chef who had worked with him for five or more years was really the key to the success of the restaurant. The owner wanted to retire the head chef wanted to buy it, everyone was happy. The landlord was not convinced that the head chef had the financial circumstances behind him to take on the lease obligations, and the landlord actually refused to grant consent, which was problematic for all. So there are some protections. We argued that the landlord was being unreasonable in refusing, and under the retail leases out in New South Wales, an application can be made to the Small Business Commissioner’s Office for a decision in the matter. And the matter went to a hearing before the Small Business commissioners delegate on deciding the merits of the refusal. And in that instance, the refusal was found to be reasonable. Because the chef hadn’t been in Austin A long before he started working at the restaurant, he didn’t have a lot of assets behind him. All he had was his skill as a cook. And the Small Business Commissioner found that the lack of financial security was a reason was a reasonable ground for refusing to grant the consent. Now, what can happen, of course, in matters is that it’s unusual to take a matter to hear because quite often, the sale will simply fall through before that. So it’s really important when buyers and sellers are thinking about their obligation in relation to the lease, that they consider that security aspect, financial backing, and whether or not it’s likely or otherwise, that the landlord is going to be difficult because we don’t ever really want to the time and, and investment of energy and emotion into selling or buying a business for to fall through because of something like that.

Joanna:
Oh, absolutely. Absolutely. And I think I think you’re 100% Spot on there in that, you know, I think the lesson here is understanding the difficulties that potentially can be there, and preparation, getting prepared with your approach to the landlord so that you’re making the approach in the right way. And also, make sure you’ve considered what you’ll do if the landlord doesn’t consent. If you feel that there might be some sort of, you know, question mark over whether the landlord may have, you know, a right to refuse consent to the assignment.

Joanna:
So, you know, lining yourself up with those alternatives in terms of, you know, looking at additional security. And, you know, in some instances, there may be other ways around in a few instances, we’ve had to come up with creative solutions. We’ve managed to organize, for example, perhaps a sublease, where the weather where the current tenant might actually stay on until the end of the lease term. If that’s not a particularly long period of time and sublet to the new business owner, if indeed that’s allowed under the lease, sometimes the lease will prevent the ability for the tenant to sublet, but sometimes that will be allowed.

Joanna:
So, you know, I guess the point is, there might be creative solutions that you might be able to come up with. But in the first instance, if you prepare well, the whole idea is to use preparation to try and ensure you have the highest likelihood of having the landlord consent to that assignment. Now, of course, we’ve been talking about retail leases here. So next, very, very quickly, if we just look at commercial leases, I guess the one thing to point out is in commercial leases, it’s all about what is contained within the lease itself. So here, we don’t have the same protections and legislation that we do in the retail leases act, we are more required to go and look under the terms of the lease itself.

Joanna:
So I guess in those instances, for a commercial lease, it’s super important to understand what the lease says, in relation to each of these areas. And I guess one area Mark that we might sometimes see provisions in the lease itself, that talk about a landlord’s requirement to act in a certain way on assignment. So what are those sorts of things that we’d be looking out for

Mark:
Hopefully, and ideally, Elise has a clause that talks about assignments, some don’t, some don’t. So you threw on to the good graces of the landlord to consider an assignment. But as a seller, a key watch out would be if the clause about consent says the landlord can grant consent in its sole discretion, which means it doesn’t really have to have a reason to consent to release assignment.

Mark:
So you’d like to see words that say that the landlord acting reasonably or the landlord acting reasonably and in good faith that’s a key area to look at. I know you like war stories, Jo. And we had one instance where a landlord was refusing to grant an assignment of the lease because he planned to redevelop the building. And the existing lease did not have a redevelopment or demolition clause in it. And this was his opportunity to remove a tenant and then undertake a redevelopment say you didn’t have to act reasonably and didn’t have to give his consent. He chose not to.

Joanna:
Oh, look, I tell you what, it’s some it’s a wild world out there in our land over been preparing sellers and preparing buyers, isn’t it? You know, and it just comes back to that reminder. You know, you need to understand what your lease says before you’re moving to market to sell your business, if you have the opportunity to tighten it up, you know, look at these assignment clauses look at the term, you know term can be a really important thing for buyers to ensure that they have a significant enough turn that they can rely on upon under the lease. What are other things that you think a seller should be mindful of in terms of understanding their lease, and perhaps if they have the opportunity to renegotiate lease terms as they come to market ultimately, with the sale of their business?

Mark:
One, of the key things to look out for, is the permitted use of the premises, there are some instances where the permitted uses are quite narrow, it’s something to look out for when taking out a lease generally, and the permitted use of the premises is not it’s not too narrowly defined. I came across a lease a while ago, which defined the permitted use as being the retail premises of a convenience store, with very narrow permitted to use and the buyer. Sorry, there was a non-non-business sale that really mattered where the tenant was closing down his business because it wasn’t successful in that location. And wanted someone else to take on the lease. Who was not going to be running a convenience store? And so we then had to go to the landlord and seek not just consent to assign the lease, but his consent to vary the lease to change the permitted use. So that’s another kind of little watch out.

Joanna:
Really good point. Well, look, a huge thank you, Mark, for coming on to The Deal Room podcast today. I think what we’re talking about today, is a super important issue, for sellers in the preparation of getting their business to market, but also for buyers in terms of understanding the process and the timelines involved. So huge thank you, for you coming on the show today Mark.

Mark:
Pleasure, Jo. Anytime

Joanna:
Wonderful.

Joanna:
Well, that’s it for this episode of the deal room podcast where of course Mark and I have discussed lease assignments in the sale of a business. Now if you’d like more information about this topic, head over to our website at www.thedealroompodcast.com where you’ll be able to download a transcript of this episode. If you’d like to read it in more detail there. You will also be able to book a call with our Legal Eagles that aspect legal if you’d be interested in getting some assistance in buying or selling a business. Of course, as we covered in today’s episodes, there are lots of things that you should be thinking about in preparing from the sell side and in understanding on the buy side to ensure that you’ve dealt with lease assignments properly in that sale of the business. Well, I hope you enjoyed what you heard today. Thanks again for listening in. You’ve been listening to Joanna Oakey and The Deal Room podcast, a podcast proudly brought to you by our commercial legal practice Aspect Legal. See you next time.

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