How to Win & Not Lose with Small Business Commercial Real Estate

How to Win & Not Lose with Small Business Commercial Real Estate

Navigating commercial real estate can significantly impact your small business’s journey. It offers immense potential but also carries substantial risks. At the Michigan SBDC, we partner with small businesses like yours, helping you understand and seize commercial real estate opportunities that drive pleasure, profit, and purpose.

The Power of Commercial Real Estate

Commercial real estate’s power stems from its ability to provide a strong foundation for your services and operations. This power grows when your space attracts and mobilizes clients and reinforces the culture that fuels your team. It reaches its peak when the property supports your current cash flow model effectively and nurtures long-term profitability, empowering your vision for financial freedom for years to come.

The Pitfalls of Commercial Real Estate

Commercial real estate’s pain often surfaces unexpectedly, revealing hidden costs or inconveniences that hinder your growth, cash flow, and operations. Here are some common pain points:

• Terms: Lease terms vary significantly. You must understand all costs associated with your lease from the outset.Some leases, known as GROSS leases, involve one fixed monthly payment that includes utilities, lawn care, maintenance, property taxes, property insurance, and more.
  
  Conversely, a NNN lease makes you responsible for all auxiliary expenses, meaning your lease payment only covers access to the space. You pay all other expenses, including current and future repairs, and even pre-existing costs from deferred maintenance.
  
  Most frequently, you’ll find a MODIFIED GROSS LEASE, a hybrid of the two. With this, you typically handle your utilities, water, trash pickup, and space cleanup, while the landlord covers property taxes, insurance, grounds, and maintenance.
  
  To understand your lease’s terms. I recommend seeking counsel, like an attorney or an experienced commercial real estate broker, to ensure all terms are documented, serving both you and your business while honoring the landlord’s requirements. You may find value in consulting both.
• Buildout: People often refer to commercial space renovations as tenant improvements or build-outs. Tenants usually manage and fund renovations to adapt the space to their business’s unique needs. This often requires obtaining landlord approval for your plans and written authorization from the municipality to confirm your business use aligns with their zoning and planning guidelines. You’ll likely also need to engage the building department, especially if your renovations require permits, architects, or other forms of compliance and approval. Remember to clarify your flexibility regarding signage inside and outside the property. Ask these questions before finalizing the lease and making your first payment.
  
  It’s common to use a simple memorandum or “letter of intent to lease” with a modest deposit to affirm terms and define a reasonable timeframe for due diligence. Most landlords appreciate your proactive pursuit of clarity. A letter of intent is typically non-binding, giving you the option to decline and receive a refund of your deposit if due diligence results are unsatisfactory. Once satisfied, all parties confidently proceed to drafting, reviewing, and signing the formal lease agreement.
• Costs: Double-check who bears responsibility for specific repairs. Sometimes the landlord consistently covers the HVAC system, electrical, plumbing, and outdoor repairs. Other times, this responsibility may be for a defined period, such as the first 90 days or 12 months of your lease term. Confirm these details in advance, as well as any other property responsibilities you might undertake. After establishing general lease terms, we encourage you to proactively obtain historical data on typical tenant expenses so you can accurately incorporate those costs into your operational budget.
• Renewal: You control your business’s destiny. Understand your business’s anticipated growth and trajectory. If you secure a location you believe will serve you well for the next five to ten years but only offer to sign a two- to three-year lease, negotiate lease renewal terms from the beginning. This proactive approach allows you to secure your space now while only obligating you to the current lease term. Conversely, if the landlord agrees to renewal terms, they must honor them if you choose to stay. Without renegotiating, you leave yourself vulnerable to economic shifts where market drivers or the landlord’s preference can drastically increase your rent and hinder future growth.
• Scope: As you grow, maintain a clear vision for your personal goals, business aspirations, and business model. For example, avoid the temptation to lease the most impressive space hoping you’ll eventually generate enough revenue to afford it. Instead, focus on becoming operationally proficient, then evaluate expanding into a larger space once cash flow becomes sustainable. I strongly advise you to create, revise, and consult your business plan to ensure your enthusiasm does not outweigh your strategic fiscal responsibility. This is an excellent conversation to have with your staff and your Michigan SBDC consultant.
• Clarity: Starting, growing, and eventually exiting a business requires courage. You need clarity regarding your stage of life and your business’s life cycle. I highly recommend clearly understanding your anticipated scalability and personal business capacity in three to five years to align your commercial space accordingly. If you plan to close your business and retire in a few years, you likely won’t want to commit to an unnecessarily long lease. However, if you plan to sell the business, negotiate lease terms that provide the geographic stability necessary to optimize the sale for a future owner.

Purpose

You became a business owner for many reasons, including an inevitable desire for financial freedom. Consider real estate ownership as a viable asset. You can map out your business journey to transition from a loyal renter to a dedicated real estate owner and robust investor. Let’s discuss your business strategy to understand how and when to potentially convert your monthly rental payment into the foundation for purchasing your building and possibly even generating supplemental revenue from your own tenants. This powerfully builds equity over time and creates an asset you can repurpose for additional income when you retire.

Reach out to the Michigan SBDC for a no-cost consultation. Learn how to master your current space and scale into the space and lifestyle you desire.