Increasingly common in commercial lease negotiations, especially with respect to retail tenants, is the request for a kick-out clause. This can be a useful lease provision when parties are considering a long-term lease, but the tenant or a landlord want the flexibility to terminate early for any number of reasons.
For anyone starting a new business, the concept of entering into a lease can feel like a daunting commitment, and having a kick-out clause can create some ease of mind. Even for a tenant with a proven concept that is venturing into a new territory or altering its proto-type, the opportunity to terminate a lease early may be desirable. Most often, a kick-out clause benefits the tenant and is measured based on a specific financial threshold. This contingency would allow a tenant to opt out of its lease only if the business is struggling, as landlords want to keep successful businesses in place and paying rent.
In some instances, a landlord may want the benefit of a kick-out clause, giving the landlord the opportunity to terminate a lease early based on signs that the tenant’s business is not thriving so that it can seek tenants better-suited for the space. This may be especially true if a landlord is collecting percentage rent, so its profitability is directly linked to having a successful tenant in the space.
A kick-out clause in the lease should set an objective standard that triggers the right to terminate. For example, this may be based on a minimum level of gross sales during a specified time period. In that case, retail tenants may prefer not to include the early months or years of the lease when the location generates higher than average traffic because it is “new and exciting.” For non-retail tenants, landlords may not want to include the early periods because they may not be an accurate measure of a business’s success before it gains some traction. It can also be important to avoid measuring only partial years if a specific tenant has certain busy periods (such as summer months for construction contractors or the holidays for retail tenants).
One of the challenges in negotiating and drafting a solid kick-out lease provision is how the parties determine if the objective standard has been met. Even if the parties agree on the economics, they should also carefully consider what information will be used to determine whether those thresholds have been met, clear reporting requirements (if any) and the process for sharing that information (i.e. whether and how often records will have to be provided).
Timing is also an important element to address. The lease should establish the period of time within which the tenant or landlord may elect to terminate, and the amount of time following the election before the termination becomes effective.
Your Real Estate attorney can assist you in tailoring a lease to fit a tenant or landlord’s rights with respect to early termination.