Provide for 5 Contingencies in Your Assignment/Sublease Clause
Boilerplate leases don’t usually address these scenarios.
Provisions that set out the tenant’s rights to assign or sublease are a must for any commercial lease. It’s a simple dynamic: Tenants want maximum leeway to transfer their lease rights to a third party while landlords have a vital interest in controlling who can occupy the space. Accordingly, typical boilerplate clauses generally allow tenants to assign or sublease, provided that they get the landlord’s prior written consent. For their part, landlords agree not to be unreasonable in withholding consent. While adequate from a legal perspective, in practice, these minimal provisions often prove rigid and ill-suited to the parties’ respective business models and relationships.
That makes it advisable to apply some imagination and advance planning in deciding on an appropriate assignment and sublease clause, suggests New York leasing attorney Mark Morfopoulos. Specifically, he advises that landlords create express language to deal with five assignment or sublease scenarios that boilerplate lease clauses may not address.
1. The Assigning/Subletting Tenant Decides to Pull Out
Deals between tenants and their would-be assignees can be intricate, and it’s not unusual for negotiations to break down before closing. For example, tenants may be concerned that landlords will seek to exercise a lease right to terminate the lease and recapture the space in the event of assignment or sublease. “Landlords should recognize this potential volatility and ensure there’s a pathway for tenants who’ve obtained consent to return to the fold in case their assignment or sublease deals don’t come to fruition,” notes Morfopoulos. Here’s a very basic provision you can show your attorney:
Model Lease Language
Nullification of Assignment or Sublet: Notwithstanding the foregoing [tenant assignment/sublease provisions], in the event Tenant notifies Landlord of its election to withdraw its request to assign the Lease or sublet the Premises and such notification is delivered to Landlord prior to the date Tenant receives written notice from Landlord that Landlord elects to terminate this Lease, Tenant may notify Landlord (“Tenant’s Vitiating Notice”) that it elects to withdraw its request to sublet or assign this Lease and this Lease shall continue in full force and effect as if no such request had been made.
2. Tenant Is Taken Over by a Successor Corporation
In a time of corporate consolidation, landlords must be prepared in case their tenants are acquired by or merge with another company. In all likelihood, the tenant will dissolve and the successor company will seek to take over the lease. And that begs a question: Should the landlord insist on retaining the right to the resulting lease assignment or sublease? From the landlord’s perspective, there’s no way of knowing in advance whether the successor will be an upgrade or step-down from the current tenant, or that it will be an appropriate fit in your current tenant mix. By the same token, tenants are apt to regard landlord demand for consent to successor corporation assignments and subleases as hindering their business flexibility and diminishing their potential value as an acquisition target.
Morfopoulos suggests a median position in the form of a lease clause allowing for such assignments and subleases without consent, but only if certain clear conditions are met:
- The tenant must provide the landlord timely notice of at least 10 days—five days where shorter notice is required by law or the terms of the M&A transaction;
- The tenant can’t be in default under the lease;
- The successor corporation must have a net worth, determined in accordance with generally accepted accounting principles, at least equal to that of the tenant at the time of acquisition.
You should also define the kind of company that qualifies as a “successor corporation” allowed to take over the lease without consent, including a company or entity:
- Into which the tenant is merged or consolidated;
- That acquires the tenant and/or substantially all of the tenant’s corporate assets; and
- That emerges as the successor company as a result of such a merger with or acquisition of the tenant.
Model Lease Language
Successor Corporation: Notwithstanding anything to the contrary contained elsewhere herein, (including [insert numbers of Sections relating to recapture and profit sharing] hereof, which shall not be applicable to an assignment or transfer pursuant to this Section), Tenant may, upon not less than ten (10) business days’ prior written notice to Landlord (or within five (5) days after the consummation of the transaction if Tenant is prohibited from providing prior notice based upon applicable law or the terms of the transaction), assign or transfer its entire interest in this Lease and the leasehold estate hereby created to a “Successor Corporation” (as such term is hereinafter defined) of Tenant, provided that Tenant shall not be in default in any of the terms of this Lease beyond notice and the expiration of any applicable grace period.
Definition: A “Successor Corporation,” as used in this Section, shall mean:
(a) A corporation into which or with which Tenant, its corporate successors or permitted assigns, is merged or consolidated, in accordance with applicable statutory provisions for the merger or consolidation of a corporation, provided that by operation of law or by effective provisions contained in the instruments of merger or consolidation, the liabilities of the corporations participating in such merger or consolidation are assumed by the corporation surviving such merger or consolidation; or
(b) A corporation, partnership, or other business entity acquiring this Lease and the Term and the estate hereby granted, the goodwill and all or substantially all of the other property and assets (other than capital stock of such acquired corporation) of Tenant, its corporate successors or permitted assigns, and assuming all or substantially all of the liabilities of Tenant, its corporate successors or permitted assigns; or
(c) Any corporate successor to a Successor Corporation becoming such by either of the methods described in subsections (a) and (b) above, provided that: (x) immediately after giving effect to any such merger or consolidation, or such acquisition and assumption, as the case may be, the corporation, partnership, or other business entity surviving such merger or created by such consolidation or acquiring such assets and assuming such liabilities, as the case may be, shall have a net worth, as determined in accordance with generally accepted accounting principles, at least equal to the greater of (i) the net worth, similarly determined, of Tenant, immediately prior to such merger or consolidation or such acquisition and assumption, as the case may be, or (ii) the net worth, similarly determined, of Tenant as of the date of this Lease; and (y) reasonable proof of such net worth, as evidenced by a statement from a certified public accounting firm or corporate officer of the transferee reasonably satisfactory to Landlord shall have been delivered to Landlord at least ten (10) days prior to the effective date of any such merger or consolidation, or acquisition and assumption, as the case may be (or within five (5) days after the consummation of the transaction if Tenant is prohibited from providing prior notice based upon applicable law or the terms of the transaction). “Net worth,” for purposes of this provision, shall be deemed to mean an entity’s equity, as reported in such entity’s annual financial statements (prepared in accordance with generally accepted accounting principles and audited by an independent accounting firm reasonably acceptable to Landlord), less the intangible assets of such entity, including but not limited to, copyrights, trademarks, trade names, licenses, patents, franchises, goodwill, operating rights, and deferred financing costs.
3. Tenant Is Taken Over by a Related Entity
The assignment and sublease clause should also provide for a merger or acquisition involving the tenant and a “related company”—that is, one that the tenant controls, is controlled by, or has the same controlling owner as the tenant. Again, make the right to assign or sublease to the related company without your consent contingent on the tenant’s not being in default under the lease and require the same five to 10 days’ prior notice necessary for assignments and subleases to a corporate successor. Also clarify that the assignment or sublease doesn’t relieve the tenant of its obligations under the lease, assuming the tenant still exists after the transfer. If not, the provision should apply to any guarantors.
Model Lease Language
Related Entity: Notwithstanding anything to the contrary elsewhere contained herein (including [add numbers of Sections relating to recapture and profit sharing] hereof), provided that Tenant shall not be in default in any of the terms of this Lease beyond notice and the expiration of any applicable grace period, Tenant may, without Landlord's consent but upon not less than ten (10) days' prior written notice to Landlord (or within five (5) days after the consummation of the transaction if Tenant is prohibited from providing prior notice based upon applicable law or the terms of the transaction), sublet to any corporations or other business entities which control, are controlled by, or are under common control with Tenant (herein referred to as a “Related Entity”) all or part of the Premises or permit any Related Entity to occupy the same for any of the purposes permitted to Tenant, subject however to compliance with Tenant’s obligations under this Lease. Such subletting or occupancy shall not be deemed to vest in any such Related Entity any right or interest in this Lease nor shall such subletting or occupancy relieve, release, impair, or discharge any of Tenant’s obligations hereunder. Tenant shall deliver to Landlord a copy of any such sublease or occupancy agreement for all or any portion of the Premises.
4. Tenant Wants to Enter into Desk-Sharing Arrangement
It’s become increasingly common for tenants, particularly smaller service businesses, to make arrangements that allow a person or entity with whom they have a business relationship to share or occupy part of the leased premises. So, Morfopoulos suggests that you may want to add language to your lease assignment and sublease clause that provides for such “desk-sharing arrangements.” His approach: Allow for use by such “Permitted Users,” as long as stated conditions are met:
- The tenant notifies the landlord of the name, address, and proposed use of each Permitted User using the space;
- The Permitted User (or its affiliate) may not be somebody with whom the landlord has opposed in litigation within the past 12 months;
- The Permitted User must be subject to the laws of the landlord’s jurisdiction and can’t have diplomatic or sovereign immunity;
- There won’t be any separate entrances or separating walls or barriers for the Permitted User;
- There are caps on the amount of the leased space the Permitted User can use—for example, 20 percent;
- The tenant can’t receive any rent, fees, or other payments from the Permitted User in exchange for using the space;
- The Permitted User must use the space in compliance with the terms of the tenant’s lease; and
- The tenant must accept responsibility and liability for the Permitted User’s acts and omissions.
Model Lease Language
Desk Sharing: Tenant may from time to time permit one or more business associates of Tenant (each a “Permitted User”) to use the space in the Premises, provided that it notifies Landlord in advance of the name, address, business, and proposed use of each Permitted User. Notwithstanding anything to the contrary in this Lease (including [insert numbers of Sections relating to recapture and profit sharing] hereof), each Permitted User shall be allowed such use space within the Premises without Landlord’s consent upon the following conditions:
(i) Landlord shall not be litigating against such proposed Permitted User or affiliate thereof within the prior 12 months;
(ii) The Permitted User shall not be entitled, directly or indirectly, to diplomatic or sovereign immunity and shall be subject to service of process in, and the jurisdiction of the court of, the State of [list];
(iii) There will be no separate entrances and demising walls for the Permitted User;
(iv) The aggregate number of rentable square feet used by all Permitted Users at any one time shall not exceed 20 percent of the then rentable square footage of the Premises; and
(iv) Tenant shall receive no rent, payment, or other consideration in connection with such occupancy in respect of such space other than nominal rent payments (in no event greater per rentable square foot than the Minimum Rent payable hereunder per rentable square foot) or other consideration for actual services rendered or provided by or for such occupant.
With respect to each Permitted User, the following shall apply: (A) each Permitted User shall have no privity of contract with Landlord and, therefore, shall have no rights under this Lease, and Landlord shall have no liability or obligation to the Permitted User under this Lease for any reason whatsoever in connection with such use or occupancy, which use and occupancy shall be subject and subordinate to this Lease; (B) each Permitted User shall use the Premises in conformity with all applicable provisions of this Lease; and (C) Tenant shall be liable for the acts of such Permitted User in the Premises.
5. The Original Guarantor Wants Out
Last but not least, provide for releasing—or not releasing—the tenant’s guarantor in the event of assignment. Morfopoulos’ approach: Release the original guarantor and accept a substitute guaranty from a principal of the assignee, provided that:
- The substitute guarantor furnishes the landlord “reasonably satisfactory” evidence that its net worth is equal to or greater than that of the original guarantor;
- A reasonably satisfactory credit check is performed on the substitute guarantor; and
- The release of the original guarantor is limited to the obligations arising from and after the date of the release so that the guarantor remains on the hook for any and all obligations before the assignment.
Model Lease Language
Release of Guarantor: In the event of a permitted assignment of the Lease, Landlord agrees to accept a guaranty in the same form as the Guaranty attached to this Lease as Exhibit __ from the principal of the permitted assignee (the “Substitute Guarantor”) and to release Guarantor from his/her/its guaranty hereof, provided (i) the Substitute Guarantor has, and provides Landlord with evidence of, a liquid net worth equal or greater than the Guarantor as of the date hereof; and (ii) a credit check of the Substitute Guarantor is reasonably satisfactory to Landlord (as confirmed by Landlord in writing), and (iii) such release shall be limited to Guarantor’s obligations arising from and after the date Landlord receives the guaranty from the Substitute Guarantor.