Download 1 Build-to-Suit Leases Pre-Construction and Construction

Build-to-Suit Leases
Pre-Construction and Construction Issues
Loretta M. Kelly1
A. INTRODUCTION
A build-to-suit lease is the transaction structure by which a real estate owner-developer (the
“Landlord”) constructs a building to the specifications and needs of a particular tenant (the
“Tenant”) with the agreement that the Tenant will lease the building from the Landlord upon
completion.2 Although the term “build-to-suit” can be used to describe any lease in which the
Landlord agrees to perform work to ready space to the Tenant’s occupancy, the most
comprehensive form of build-to-suit scenario is that in which a Tenant has a business need for
the construction of a building from the ground up. A build-to-suit transaction can arise in a
number of contexts. A distributor may require a warehouse and distribution center adjacent to
major highways and population centers. A growing firm may decide that it needs a distinctive
office building to house new headquarters. A retailer who commits to lease a store in a
shopping center needs its store to be built. A government contractor may need a building to
accommodate staff to perform a long-term contract. All of these are common scenarios, and
while each deal is unique, all build-to-suits have basic core issues that are in addition to those
that present themselves in a standard lease transaction. In a conventional commercial lease
transaction, the Landlord owns a building and the Tenant tours the space and decides whether
or not to lease that space. The building was built by the Landlord to commercial standards
chosen by the Landlord, such that it would be attractive to lease in the marketplace, capable of
being utilized by one or multiple tenants, efficient to operate and attractive in the investment
market. The parties agree on the space to be leased and the rent that will be paid. In a ground
up build-to-suit transaction there exist several additional, highly interactive, phases in the
Landlord/Tenant relationship. The Landlord/Tenant relationship exists well before
construction begins, and extends through the construction period before becoming a traditional
landlord/tenant relationship. This discussion focuses on those additional interactions that are
unique to a ground up build-to-suit transaction; the pre-construction phase and the construction
phase.
A build-to-suit transaction is attractive to a Tenant because the building to be constructed will
match its needs and provide an efficient, up to date and attractive place of business. For their
part, Landlords who own development sites are extremely happy to eliminate lease-up risk
from development pro-formas and turn vacant land into leased, income producing assets. The
evolution of a Tenant’s initial conception of its need for a new building to the grand opening of
a new facility is a complex transactional journey presenting countless challenges along the
1
Loretta M. Kelly is General Counsel of Equus Capital Partners, Ltd. in Philadelphia, PA., and can be contacted at
[email protected]. The materials included in this paper are provided only for educational purposes and
do not constitute legal advice.
2
This paper has been prepared in coordination with articles written by Michael E. Rothpletz, Jr. and Martin F.
Dowd, each of which is also included in this volume of the ACREL papers.
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way. Many issues present themselves before a shovel is put in the ground. Careful planning is
the key to successful execution.
A build-to-suit transaction is unique because of the particular relationship of the parties and
because the parties’ contractual relationship evolves during the course of the project from the
joint planning stage, to the construction phase, to completion. Generally, the
Landlord/developer will own the land and the building built on that property, or will acquire
land designated by the Tenant. The building will be designed and built specifically for the use
of the Tenant. The architect and contractor are in most cases retained by the Landlord, but may
have been brought into the transaction by the Tenant. In either case, the professionals will be
obligated by the Landlord to satisfy the needs of the Tenant. The transaction includes, in
addition to all of the issues related to the Landlord/Tenant relationship that must be addressed
in the lease, all of the problems and challenges of a construction job. In construction, the
mantra “measure twice, cut once” illustrates the importance of planning before acting. The
concept applies in a larger context in the planning phases of a build-to-suit transaction. The
consequences of failure in the process can be costly to both parties, and precision in
communication is essential to avoid adverse consequences.
The ultimate success of any such process is a function of whether the developer and the
prospective occupant can communicate well and work together effectively, particularly in the
early stages, when errors or lapses in understanding can have a domino effect and create bigger
issues in later stages of the project. Once the building is built, errors are costly to correct.
Extensive planning, effective communication, experienced teams, and patience and discipline
all play a role in a successful project.
B. PRE-CONSTRUCTION ISSUES
1. Tenant Team. Businesses that do not frequently engage in real estate
transactions will find themselves in unfamiliar territory when embarking on a built-to- suit
transaction. Management teams for non-real estate firms, even those with staff familiar with
asset or facility management, may find it difficult effectively to provide the interactions and
make prompt and informed choices necessary to fulfill the Tenant’s role in the design and
construction phases of a building project. For these organizations, real estate planning and
expertise are typically outsourced. In addition to legal advice, a Tenant will need specialized
advice in many other aspects of the design and construction phases of the job. A Tenant
representative (a “Tenant Rep”), in most cases a broker with experience in build-to-suit
transactions and familiar with the many aspects of the development process, can be very
helpful in acting as the “translator” between the Tenant and the Landlord relative to the
planning and construction project. To be effective, the Tenant Rep must have real estate
development and leasing expertise while also having the capability to understand the Tenant’s
business and its operating needs. A Tenant Rep can be an invaluable presence in the
transaction if the Tenant’s real estate objectives are properly and clearly communicated to the
Tenant Rep, and if that representative can efficiently work with the rest of the Tenant’s team,
including counsel, to accomplish their mutual customer’s needs. A first issue for counsel
representing a Tenant is likely to be the negotiation of the Tenant representation agreement
pursuant to which the Tenant Rep will be engaged to assist the Tenant in real estate matters
surrounding the lease, to assist in the preparation of the Tenant’s overall plans, to review the
various options available to the Tenant in the market, to assist in the choice of developer, to
assist in the negotiation of the Lease, and to review the plans. It is important that a Tenant Rep
agreement reflect clearly and unambiguously the scope of the representative’s authority, the
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chain of command and communication, and compensation arrangements (a complex topic; the
Tenant Rep’s compensation should be structured to incentivize efficiency). Because the
relationship between the Tenant and the Tenant Rep is highly interactive and service-oriented,
the Tenant must have the right to terminate the agreement at any time while retaining
ownership of all files related to the project in the Tenant Rep’s possession. The Tenant Rep
should be prohibited from assigning or delegating duties without the Tenant’s consent. The
Tenant Rep’s interest must be protected so that it is compensated properly for work performed
even if a termination right is exercised. Landlords working with a Tenant who has appointed a
Tenant Rep will want to know: (i) the full extent of the Tenant Rep’s authority; (ii) the Tenant
business contact to whom the Landlord can address questions the Tenant Rep declines or is
unable to answer; and (iii) the timeframes within which the Tenant decision-makers will
respond to questions or issues. Once the agreement is in place, an effective Tenant Rep will
spend time getting to know his or her client’s business operations, and will need a
comprehensive understanding of what objectives will be met by the new building. A sample of
a tenant representation letter is attached as Exhibit A.3
The Tenant, together with its Tenant Rep, should also include counsel and may include other
experts, such as an engineer, architect, space planner, and contractors, depending on the
complexity of the building, and the extent and nature of work to be performed by the Tenant on
its own behalf once the Landlord has completed its portion of the work.
2. The Request for Proposal. Once the Tenant has appointed its representative and
otherwise staffed its transaction team, the processes of choosing a developer and site will then
lead to designing, constructing and completing a building to the Tenant’s requirements and
specifications. The process can be as long, or as compressed, as the Tenant’s schedule dictates.
Regardless of the time available to complete them, there are steps and processes to be
completed prior to commencement of construction, the successful and competent sequencing
and fulfillment of which are key to the ultimate physical and financial success of the project.
The critical need for Tenant and Landlord to communicate with each other begins at the first
stages of the project, before the parties have met. In most cases the process begins with the
Tenant, who will work with its Tenant Rep on producing a formal Request for Proposal
(“RFP”). An RFP is a document that describes the Tenant’s business and its space needs, and
requests information about the qualifications of those developers who are interested in being
considered for selection by the Tenant as Landlord. The RFP and is an organized and
standardized means, recognized in the industry, by which the Tenant can request information in
a standardized fashion regarding potential developers, their sites, and each developer’s vision
for the design, planning, financing and construction of the Tenant’s facility. RFPs vary in
length and requested detail. Some, particularly those for high-profile projects, can go so far as
to include draft documents or lease provisions, with a request for review and comment to allow
the Tenant insight into how the Landlord will address issues. Most are structured generally as
follows:
•
A description of the Tenant and its business.
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The form of Tenant Representation retainer letter has kindly been provided by Tactix Real Estate Advisors, LLC
of Radnor, PA.
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• A description of the building requirements; its proposed use,
approximate size, required schedule for completion, and proposed lease term and other special
lease requirements, if any. In some cases a preliminary budget, providing the Tenant’s initial
view of what the project will entail, may be included.
• A request for a description of the developer, including relevant
experience in similar projects, expertise, staffing and references.
• A request for a description of the developer’s team of experts who could
be called upon to participate in the project, including architects, engineers, land planners, and
attorneys.
• A request for a general description of how the developer would
undertake the project; the main contact person, means of communication, frequency of
meetings, and general procedures and protocols to be employed throughout the process.
•
A description of the developer’s funding sources.
•
A deadline for submission of a response.
Further, an RFP document should contain confidentiality provisions, and an acknowledgement
that it is non-binding and may be withdrawn or modified at any time. The preparers of the RFP,
the Tenant business representatives and their legal advisors, want to craft a document that will
elicit complete and informative responses. The description of the project must be clear.
Specialized needs should be highlighted. The RFP should provide an opportunity to
respondents to describe how they would address the particular needs of the project, and to
make their best case as to their qualifications.
The RFP is the first document that provides the basic outlines of the business deal that is
contemplated by the parties; the same agreements that will later be governed solely by the lease
document. Legal counsel is not always involved in the drafting of the RFP; that task may be
performed by a Tenant Rep or a broker, but counsel for Landlord and Tenant both are wellserved to be familiar with the RFP and the responses submitted by developers in anticipation of
the lease negotiation process, in order to gain insight into the Tenant’s needs, requirements,
and future plans for use of the building, as well as the prospective Landlord’s statements made
regarding the project at the “pitch” phase. For counsel drafting the lease, issues of particular
import to either party, or circumstances in which a communication failure may have occurred,
can frequently be gleaned from the RFP documents and highlight issues that should be
discussed at the planning stage rather than mid-construction, or worse, post-completion. A
form of a typical RFP is attached hereto as Exhibit B.
3. Review of RFP Responses; Developer and Site Selection. As discussed above,
responses to the RFP assist the Tenant in evaluating the available options for the proposed
project. After the RFP is exposed to the brokerage and development community, and response
packages are submitted, the presentations of each developer will be vetted by the Tenant and
its real estate advisors for the closest fit to the Tenant’s requirements. Developers will take care
to craft a response that shows its site and development capabilities as best suited for the
project. Tenants must evaluate each response package critically and carefully to eliminate sites
or developers that do not fit the job’s requirements. The information provided in each response
to the RFP must be examined critically by the Tenant in light of its most important goals for
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