If you are a business owner who is looking for new office space, you may have come across the term “blend and extend lease agreement.” But what does that mean? And is it the right choice for your business? In this blog post, we will discuss the pros and cons of blend and extend lease agreements so that you can make an informed decision about whether or not this type of lease is right for you.
A “blend and extend” agreement is used in commercial leasing. It lets a tenant extend their lease and negotiate a new rate by combining, or “blending,” the new and old rents. In times when there are a lot of empty commercial spaces, landlords will often agree to a “blend and extend” amendment that lowers a tenant’s rent in order to maintain their property busy for a long time.
Key Takeaways
- In order to help businesses meet their immediate lease obligations and reduce costs in the short term without damaging their relationship with their landlord, a blended and extend lease amendment is one option.
- In commercial leasing, a “blend and extend” contract is common. Blending the new and old rents allows the tenant to extend the lease and negotiate a new rate.
- A landlord may not approve of a blend and extend the lease agreement.
Table of Contents
What Is a Blend and Extend?
“Blend and extend” is a phrase that connotes the practice of extending a tenant’s lease period and “blending” the current rental rate with a newly negotiated rate. The phrase “extend” refers to the lengthening of the term, while “blend” signifies combining the two rates.
Because it can be beneficial to tenants as well as landlords, blending and extending is typically viewed as a situation in which everyone involved comes out ahead.
How Can a Blend-and-Extend Lease Agreement Help
Here is how a blend and extend lease agreement can help both Landlords and tenants:
Blend & Extend for Landlords
A landlord can eliminate two different types of vacancy risk with a scenario that involves blending and extending. To begin, they increase the likelihood that your company will be able to continue operating and paying rent by assisting you in resolving a short-term cashflow issue by saving you money and helping you save money.
Second, because they postpone the possibility of vacancy for a significantly longer period of time into the future, they also boost the income that the landlord receives from the building.
Because the value of a commercial building is directly proportional to the income it generates, reducing or eliminating that income can result in an increase in the owner’s equity in the property.
Because of these factors, a blend and extended period may appeal to landlords as a desirable real estate strategy.
Blend & Extend for Tenants
A smart strategy for you could be to combine your leases and extend them over a longer period of time. A well-priced space that is tailored to the requirements of the buyer is essential to the conclusion of a successful transaction.
If it is a great space at a decent price and you intend to renew it anyway, blending and extending allows you to effectively get paid for executing a contract that you previously planned to sign. This is the case if it is the case that you would renew it anyway.
In addition, because of the uncertainty caused by the COVID crisis and the willingness of many landlords to work with their tenants, you may be able to reach more favorable terms or special deals with a blend and extended arrangement that you would be willing to bargain when your lease is up in a possibility stronger economy. This is due to the eagerness of many landlords to work with their tenants.
How a Blend and Extend Can Help Tenants with Short-Term Rent Relief
If the following apply to your business, you should consider whether or not a blend and extension would be beneficial:
- Could be searching for relatively brief rent relief
- Have less than two years left on your current lease commitment.
- If you can find contentment with what you have, will you then see that staying put (or even downsizing) is the better option?
If you agree to stay in your apartment for an extra term, your landlord might give you a tenant improvement allowance. This is money that could be used to make changes to your home so that it’s more comfortable during your tenancy.
The rent reduction incentive (TI) could be especially helpful if you decide to downsize your business and need to renovate the space you currently occupy. The abated (or free) rent period could solve your immediate need to save money.
It is essential to keep in mind that the credit history of your company will have a significant influence on the degree to which a landlord is willing to engage in these negotiations.
Why Landlords Will Consider Blend-and-Extend Negotiations
Landlords often consider blend-and-extend negotiations when their tenants are looking to move out of their space. This can be a great option for landlords who are willing to work with their tenants since it gives them the chance to keep their property occupied and profitable.
Blend-and-extend negotiations involve blending the current lease term with an extended lease term. This gives both parties more flexibility in negotiating a new contract, while still providing the stability of a lease agreement.
A blend and the extended transaction can provide a number of advantages to a landlord, particularly in the current uncertain economic climate.
They are able to prevent vacancies in their building if you agree to extend your lease. At the bottom of the commercial properties cycle, landlords are especially likely to avoid unneeded vacant positions because requirements can be an expensive expense for them in any market. The vacancy can be costly for landlords in any industry.
Retaining Tenants
Tenant retention is the primary consideration for landlords in all types of markets when making decisions regarding blend and extend agreements.
In some cases, a tenant may be considering leaving their current space but decide to stay and renew their lease after a blend-and-extend negotiation. This can be beneficial for the landlord because it helps them keep a good tenant in their building.
Blend and Extend Situation 1: No Transaction Costs
A lease has been signed for the next two years starting at a base rent of $100,000 per month. Foundation rent escalations will be 3% annually, which is today’s market base rent escalation. This scenario is based on current market conditions.
The market rent is $125,000 a month as of now, and it is expected to rise by 10% in the next year and 9% over the course of the lease’s final year. This combination and extension do not include any fees associated with any kind of transaction. The following are the monthly rent and cash flow figures for this blend-and-extend:
The landlord, who is seeking short-term financial gain, seeks to combine the tenant’s leases and extend them by another five years.
The landlord will utilize a blended cash flow to give the landlord more short-term money and correspond with today’s market rental escalations over the course of the seven-year lease term. This will allow the landlord to start considering what terms it should propose to the tenant in order to determine which ones it should offer to the tenant.
A blended cash flow column will be added above the monthly cash flows for the current rent and market value of the property. They’ll fill in the combined rent column with the existing monthly rent for the first two years, then market rent for the next five years on a seven-year lease to establish a baseline.
In a nutshell, the baseline cash flow is the cash flow that would assume if the lease was reissued at the end of the term with market rents and conditions. The landlord will then utilize the total baseline cash flow as a target, and financial engineering will be used to synchronize the blended rent with current market base rent escalations over time. The following is an illustration:
Table from Chuck Berger
This type of rent cash flow is beneficial for both landlords and tenants. For the landlord, they are able to get a higher rent sooner which can help offset any potential losses if rents drop before the lease expires. The tenant also benefits from this as they effectively pay less overall in rent.
In addition, the net present value of the blended rent cash flow is more than the net current value of both the combined rent cash flows at a discount factor of 6%. This further helps to support renewing the lease for a longer duration within this scenario (supposing that 6% is an appropriate discount rate for the transaction).
The predictability of the tenant’s rent in years 3-7 would be the primary benefit for the tenant in the example scenario above when compared to a 5-year clause and an extension option.
When confronted with situations like this one, tenants may find it easier to calculate a blended rent based on the NPV of their combined rent rather than their cash flows; nevertheless, the discount rate they choose will have a significant influence on the outcome of this calculation.
Blend and Extend Situation 2: Landlord has Transaction Costs
The first scenario provides a step-by-step guide on how to calculate blended rent cash flow for a blended and extend lease renewal.
Although, the landlord will often have to pay agents’ commissions and other fees associated with the property if they renew the lease.
In the second situation, the landlord is prepared to pay a brokerage charge of $100,000. The first payment is due upon completion of the lease amendment, while the second payment is due after 24 months have passed since signing a new lease.
Furthermore, the landlord has agreed to pay a one-time tenant improvement allowance of $100,000 before the new lease begins. This will take place directly before the start of said term. Most times, landlords use a straightforward method to spread out and ultimately cover the costs related to this type of transaction.
The landlord will start creating a blended rent cash flow prior to submitting a proposal to the tenant. This cash flow will allow the landlord to recoup its transaction costs over the course of the lease term.
In order to fulfill the landlord’s request, the merged rent and blended rent cash flows that were generated in Scenario 1 are used as a model to generate the cash flow that is presented below:
Advantages and Disadvantages
Here are some of the advantages and disadvantages of blend and extend amendments:
How to Blend and Extend Amendments Work in Practice
Take, for instance, the case of an office tenant who signed a lease for a period of 5 years but still has 2 years left on the contract. They are currently paying $50 per square foot on an annual basis for a 5,000-square-foot office, which comes to $250,000 per year.
On the other hand, as a result of an increase in the number of vacant office spaces in the region, average office rents have fallen to $40 per square foot. The landlord may be willing to “blend and extend” the tenant’s lease for another 5 years.
Thereby allowing the tenant to pay a transitional rate of $45/PSF for the residual 2 years of the lease contract and allowing the tenant to pay the prevailing market rate of $40/PSF for the next five years of the rental agreement. If the landlord agrees to this, the tenant will be able to pay a transitional rate of $45/PSF for the residual 2 years of the current contract.
In this hypothetical situation, the tenant would rack up a total savings of $50,000 over the course of the two years left on their lease while simultaneously locking in the current rate for an additional five years.
In most cases, a landlord will not provide this option unless they anticipate that the monthly rent will either remain the same or decrease over the course of the remaining time on the extended lease. On the other hand, this is not the only circumstance in which a blend and extended amendment could be utilized.
Blend Extend and Lease Expiration Schedules
If many of a landlord’s tenants’ lease agreements are set to expire during the same time, the landlord may profit from a blend and extend even if vacancies are not relatively high. By accepting a small decrease in current payment in exchange for a longer lease term through a blend and extend, landlords can greatly reduce their risk. Landlords can try to keep occupancy rates above a minimum by staggering lease expiration dates.
Why would a landlord agree to a blend and extend?
There are two ways in which landlords can raise the market value of their commercial properties:
- By hiking upfront rates
- The number of empty properties in their portfolio was cut in half.
Since landlords are unlikely to be able to negotiate rent increases in a weak market, we will be looking at vacancy rates instead. Landlords lose money in every market when units sit empty. However, in the current climate, landlords will go to great lengths to avoid them, even if it means accepting a lower rent, in order to ensure a steady stream of income over a longer period of time.
Pros and cons of the “blend and extend” approach
Here are some pros and cons to look out for:
Pros of Blend and Extend
- Long-term stability in rent payments.
- The landlord may be amenable to offering incentives, tenant-friendly terms, or concessions at the halfway point of the lease term.
- It can protect against potentially large rent increases when the lease term ends, depending on the market.
Cons of Blend and Extend
- If your lease has more than two years to go, your chances of getting the landlord’s approval are slim.
- You’ll be bound for an additional term. Consequently, it is the responsibility of the tenant to ensure that the premises will continue to serve their needs as they evolve.
When would this strategy be suitable?
If you want to lower your rent, change your lease terms, or get a concession from your landlord, this tactic will help.
- There are fewer than two years left on your lease.
- You’re either completely content where you are and confident that your current home will continue to serve your needs as you grow older or you’re hoping to downsize without leaving your neighborhood.
How would you go about negotiating a blend and extend?
Landlords run the risk of their property being empty for months, or even years, in a weak market. To compensate for their move and the costs of fitting out their new space, new tenants will likely request more generous incentives than current tenants are offered. Thus, you should talk to your Landlord and show them why the deal you’re proposing is better for them in the long run than the alternative.
- Upon the expiration of your lease, you must vacate the premises.
- Use your right to terminate early so you can move to a newer, less expensive place.
Tenants can gain bargaining power and a better understanding of the total savings by canvassing the market and seriously considering the possibility that they will not renew their lease.
If you are looking to negotiate a mid-term lease, hire a Tenant Representation Specialist
A tenant representation specialist will help you through the process of negotiating a mid-term lease. A tenant representation specialist can help you get the best price for your space and make sure that everything is in order before the deal is signed.
Blend and Extend Lease Agreement FAQs
Can you extend the term of a lease?
Yes, you can extend the term of a lease. You will need to negotiate this with your landlord.
Is blend and extend a good idea?
It depends on your situation. If you are looking to lower your rent, change your lease terms, or get a concession from your landlord, this tactic will help.
Can a landlord refuse to renew a lease?
Yes, a landlord can refuse to renew a lease. If you are looking to negotiate a mid-term lease, hire a Tenant Representation Specialist.
Conclusion
Blend and Extend Lease Agreements are a great way to keep your business running smoothly. The added flexibility not only makes it easier to manage but also allows businesses to take advantage of the most favorable terms and conditions throughout the contract’s term. With any lease, there are pros and cons to consider before proceeding with the deal.
Of course, every situation is different so it’s important to consult with an experienced commercial real estate adviser to get tailored advice for your specific needs. Our team at Tolj Commercial would be happy to provide a free consultation – simply give me a call or schedule online today.
