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Commercial Real Estate Subleasing: Pros and Cons

For commercial real estate users, the idea of a sublease is not uncommon.

When a company has excess real estate – whether due to a merger, relocation, or other changes – it will often look to sublease that space and recoup some of their obligation under the existing lease.

The other side of that equation is obviously the occupier(s) who will move into that space. For commercial tenants, space available for sublease has both pros and cons compared to a direct lease.

The Cost Question

For a company looking for space, the most important

positive aspect of subleases is often a lower cost. Because the original occupier is already obligated to pay for the space, subleases are often marketed at below the current market rate for comparable space.

Depending on the situation, sublease tenants may also be able to find a fully-built location with furnishings included (often marketed as “plug-and-play” locations).

Every layout is different, but in Boston, the cost of building out a space starts at around $100 per square foot, and goes up well into the $300 per square foot range for high-end offices. The cost of furniture, fixtures, and equipment (FF&E) alone can range from $15 per square foot to more than $30 per square foot.

For that reason, moving into a furnished sublease savings can make a big difference in a company’s real estate costs.

However, the fact that a corporate occupier is taking over someone else’s space also means they may be “stuck” with the layout and design decisions of the previous tenant.

“If a corporate tenant can find a sublease space with a layout that really fits their needs, it can really be a financial benefit to them,” says Will Foley, an Executive Director at Cushman & Wakefield.

While the subtenant may have the freedom to adjust things they don’t like, they won’t benefit from the kind of tenant improvement allowance which may have been given to the original lessee – meaning any renovations are likely coming directly out of pocket.

Shorter Lease Terms Have Both Positives and Negatives

Another aspect of a sublease which may be appealing to some companies may be the shorter terms they often carry.

For a growing company, committing to a five or seven-year direct lease may not be appropriate to support their needs. In those instances, finding a smaller space for two to three years – where the company can remain stable as it works to better understand its trajectory as a business – may be more appealing.

That reduced commitment may also make it easier for companies with less established credit to be considered, since the sublandlord may be less risk-averse than a landlord leasing the space on a direct basis.

However, that shorter term also accelerates the decision-making process regarding the company’s next real estate move, which may not be the most efficient use of internal resources. And with the cost of relocating into a new office, there are direct financial implications as well.

The Question of Control

While sublessees may save in terms of costs, they also give up some of the control they would have compared to a direct lease with the landlord.

A subtenant will be bound by whatever conditions were included in the original tenant’s lease, which may have unintended consequences.

Subtenants also need to consider the reason why a location became available for sublease in the first place. Is the company consolidating its workers into a different office? Or was the previous company reducing its headcount because sales had slowed?

In the event of the latter, any subtenant should consider the ability of the sublessor to fulfill the original lease itself.

“In the end, several factors can affect how attractive a sublease may be,” says Foley. “Understanding how to evaluate them requires a lot of communication between the broker and tenant.”

Negotiating the ability to cure any problems with the original lease, and be notified promptly in the event of any issues, may help mitigate that risk. However, it is still critical for any subtenant to perform its own due diligence.

In the end, a sublease opportunity is a trade-off. Companies moving into the space are often receiving the space at a discount compared to the current market rate. In return, they are giving up some of the control and long-term stability they may have received in a direct lease.

Whether that exchange makes sense for each tenant is a question that each of them needs to answer.

 

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