**The Lease Offer**
You’ve found an excellent area to start-up in and tenancy to lease. Now what?
The landlord or its agent will provide a lease proposal or heads of agreement. This covers the key terms of the lease and is negotiable. However, it is important to note that any lease proposal or heads of agreement state that it is not binding until the parties review and sign the formal lease documents. Your lawyer will assist you in this regard. We will discuss some of the key terms below.
Tenancy Size: This is quoted in square metres. As a general rule, for a standard rectangular shaped tenancy, 55 SQM will fit 1 dental room, 75 SQM 2 dental rooms, 95 SQM 3 dental rooms, 120 SQM 4 dental rooms (this assumes 3m x 3.3m dental rooms and adequately sized sterilisation room, staff room, OPG room and waiting room given the number of chairs). However, this is very general and depends on the shape of the tenancy, location of the entry/exit points, other unusual features and location of services.
Rental Rate: This is quoted as dollars per square metre plus outgoings plus GST. It usually ranges from $200/SQM to $1000/SQM. It is generally lower in regional or rural locations compared to metro locations. Developers and landlords commonly will want to keep this figure high due to the yield they can expect when selling the building. They offset this buy providing an incentive in the form of a fitout contribution and/or rent-free period.
We aim to have overall rental rates under $600/SQM. This is also dependent on landlord incentives and if they’re providing a rent-free period or fit-out contribution. If they’re providing either of those then the rental rate is adjusted by taking that into account. For example, if the landlord is providing a 100K fit out incentive for a 5-year lease then the rental rate is reduced by 20K/year.
For a practice to be profitable from a business sense, rent including outgoings needs to be under 10% of total turnover. Further, in terms of benchmarking and in comparison, to other profitable dental surgeries, annual rent costs should fall between 5% and 10% of total turnover. That is, if a practice is billing 500K/year, rent needs to be less than 50K/year. One exception to this is for start-up practices in growth areas with practice turnover increasing year on year. The other is when purchasing an underworked or under marketed practice. Initially, the rental percentage will be high but as turnover increases it will become more in line with benchmarks.
Outgoings: The usual outgoings include rates (water and council), building insurance, body corporate fees, management fees, repairs, cleaning, gardening and maintenance. The landlord and agent will either quote a whole number for outgoings or provide a rough schedule or quote it per SQM. The outgoings should not include capital improvements or the landlords land tax and management fees for other properties they may hold.
Term: This is quoted in years with options. 7 + 5 means a 7-year initial lease period followed by a 5-year option to lease. 5 + 5 + 5 means a 5-year initial lease period followed by 2 5-year options to lease. The option is favourable for the tenant as it is their choice to renew the lease or not. The landlord has to comply with the tenants wishes.
Generally, for start-ups with recommend a 5 + 5 + 5 lease. It allows the flexibility to move if you outgrow the tenancy and, on the flipside, not to take a major hit (compared to say a 10 year lease) if things do not work out.
An important note here for current owners. Many leases will have a time frame for when this option has to be exercised by or it lapses. For example, it may say the tenant must notify the landlord at least 6 months prior to the lease expiring on its intention to exercise the option or it forfeits the option. It is important you know your lease comprehensively.
Incentive: Generally, the longer the lease you sign the more the fit out contribution/rent free period the landlord provides. Incentives/rent free periods for desirable tenants such as dentists are usually a percentage (~15-25%) of the total rent payable over the initial term. A 10 year initial term should come with double the incentive/rent free period compared to that of a 5 year initial term.
Annual Rental Review/Increases: This is the amount the base rent is increased every year. The norm is probably between 3% to 4%. The lower the better. However, we attempt to link it to CPI.
Market Review at Option: This point refers to the rental rate if the option to extend the lease is exercised. It means the rent will be reviewed by an independent valuation company. Some leases have it so that the rental rate cannot decrease (although this is illegal if your lease is captured by certain state legislation). This is not ideal as a tenant. The rental rate may have become exorbitantly high after yearly increases and a market review will bring this back to normal levels.
Lease Commencement Date: This is the expected commencement date of the lease and may or may not be after the fitout period. It is ideal to have it after the fitout period. However, this may not be possible.
Carparks: This is the number of carparks allocated to the tenancy. If it’s a large retail centre then this point may not apply as there will likely be a large communal carpark. However, smaller retail centres may have allocated carparks for each tenancy. Further, these smaller tenancies may charge additional for these allocated carparks. Ideally, we strive for 2 carparks per dental chair for patients and 1 carpark for each staff member.
Security: This is either in the form of cash or a bank guarantee and somewhat protects the landlord incase you as the tenant default on your obligations under the lease (they can use this money to offset unpaid rent). It is usually 1 to 4 months’ worth of rent on a 5–year lease and potentially more on longer leases. You will be returned this amount at the conclusion of the lease.
Personal Guarantee: This means that you as the director are personally guaranteeing the lease and if the business fails to adhere to its obligations under the lease then the landlord can come after your personal assets. We attempt to remove any personal guarantees from our leases. However, it may not be possible in some cases.
Exclusivity: Having exclusivity over dental and dental specialist in the centre means another dentist/specialist can’t come in. If we’re in a large shopping centre then we may also add that if the anchor tenant (say Woolworths or Coles) leaves then we’re able to break our lease.
No Demolition or Relocation Clause: Having no demolition or relocation clause ensure the landlord can’t move you or demolish your tenancy when/if upgrading the centre etc.
Tenancies in large shopping outlets such as Westfield’s may appear quite attractive. However, the landlords may not be open to negotiation and leasing costs may be too high for a dental practice to ever be profitable.
The most common factor we see in practices that have gone bust is that they have setup in a highly competitive area. However, another common factor is the majority have exorbitant rental rates or have taking a very large tenancy when half or a quarter of the size would have been enough.