One of the basic questions that tenants need to ask themselves (or discuss with their tenant rep) is whether to look at traditional direct leased space, subleased space offerings, or both as part of their search for a new location. COVID-19 has tweaked the equation, though. Due to a shift in the power balance in many markets toward the tenant, both options have become more attractive, but the benefits of both have diverged.
Direct vs. Sublease Space: The Basics
When you think of leasing commercial real estate, you're probably thinking of direct leasing. This is when a landlord, usually through a commercial real estate broker, offers space in their building for prospective tenants to lease. When you lease the space, you form a relationship directly with the landlord who chooses what he or she will charge for the space, what the terms of the lease will be, and what concessions, if any, he or she will offer. Usually, since you're dealing directly with the landlord (or his or her team), you will have the ability to extend your lease on relatively familiar terms. You will typically also get some help with configuring the space for your needs, and the knowledge that you're dealing with "the" boss.
When you sublease space, you take over a space that someone else is already direct leasing. It's much like the difference between renting an apartment (direct) and renting someone else's apartment for a month while they're on vacation (sublease). In this case, the original tenant has the relationship with the landlord and pays the landlord their rent. This leaves you dealing with the original tenant.
Sublease space comes on the market for a simple reason. Leases are contracts that are extremely hard to break, but, sometimes, businesses' space needs change. If a direct tenant is stuck in this situation with a space that they cannot use but still have years' worth of rent to pay, subleasing it out allows them to recoup some of that cost.
Why Take Sublease Space?
Sublease space has two key benefits for you if the general concept suits your needs. First, most sublease agreements are relatively short, since they're for the remaining portion of the initial lease term. So, if a tenant executed a seven-year lease and decided to move out after four years, you'd be looking at a three-year term. If you're looking for flexibility and willing to accept the risk that you could have to move or could face a significant rent increase at the end of the lease, this can be valuable.
Second, subleasing is usually less expensive than direct leasing space. Some of this is because the original lease rate is set in the past, so if you're in a market with increasing rents, you could end up starting from a lower base. The rest comes from the fact that the tenant is stuck with an expensive and useless (to them) space that they are usually well-motivated to fill. Add in the fact that sublease space usually comes with little to no tenant improvement money, and your tenant representative can typically find very attractive pricing for you.
Subleasing and COVID-19
As with many other aspects of the commercial real estate economy, COVID-19 hasn't really changed the benefits and drawbacks of subleasing. It's amplified them.
If you have short-term needs and can find suitable space, subleasing is especially attractive today. The sublease structure, by its nature, gives you the flexibility that you might desire in these uncertain times. At the same time, because tenant traffic is down in most markets, sublessors are typically especially willing to fill their space, making your negotiating position extremely strong. After all, if you own a building and it sits empty, you still have the building. For a subtenant with 3 years left on their lease, every month without a tenant is just wasted money that they'll never get back.
On the other hand, if you have long-term needs and can make a commitment, it's a great time to be a traditional direct tenant. The decrease in tenant traffic is hitting everyone, so direct landlords are motivated to work with you, as well. Taking a sublease means that you'll be back on the market in an uncertain future that could be less favorable to you. Traditionally leasing direct space lets you take today's market conditions and build them into a long-term lease so that you can keep benefiting from them long in the future.
The Decision
Ultimately, the best strategy vis-a-vis direct or sublease space varies from company to company. Your tenant representative can help you weigh the pros and cons of both options in this unique COVID-19 economy and help you build the right strategy to find the best space at the lowest price. Reach out to us today to see how we can help!
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