Short-Term vs. Long-Term Leases

Business owners and entrepreneurs must choose between short-term and long-term leases when venturing into the CRE market. While short-term leases have traditionally been uncommon, the growing popularity of pop-up businesses has sparked increased consideration for this option. These store types saw a significant increase in popularity after the pandemic as owners saw a rapid increase in rent growth and were stuck in long-term leases, making them under market value.

Each choice comes with its own pros and cons, and owners must comprehend the implications of both. By clearly understanding these factors, business owners can make informed decisions aligning with their goals and objectives.

What are Short-Term Leases?

In CRE, a short-term lease is defined as a lease agreement that lasts one year or less. It enables firms to use a facility for a shorter amount of time, allowing them to test the market, accommodate growth, or respond to changing business conditions. In markets with stringent eviction laws and a high demand for space compared to availability, opting for a short-term lease is a more practical choice.

Short-term leases are an excellent way to fill a space that would have remained empty otherwise.

Benefits

A short-term lease offers advantages for both landlords and tenants, primarily in terms of flexibility. The key benefit is that due to the shorter duration and typically higher rental rates compared to long-term leases, landlords can more frequently adjust terms, conditions, and rental prices to cater to their evolving requirements. Simultaneously, tenants who are unable to commit to a long-term agreement for various reasons can find short-term leases more suitable. Consequently, this expands the potential tenant base and prospects for landlords.

Short-term leases also enable businesses to adapt to growth or downsizing quickly. As their space requirements change, they can negotiate a new lease or explore alternative options without being locked into a long-term agreement.

A substantial benefit to this lease type is the minimized risk and commitment for both parties. For tenants, it allows them to test a location or market without a long-term commitment. Assessing the location includes understanding the client base of the area while also seeing the other surrounding tenants. This will help tenants know how to fit their consumers’ needs best. Additionally, landlords can mitigate the risk of having a non-performing tenant by having the option not to renew the lease if the tenant does not meet expectations.

Experience-based tenants with short-term leases who attract people to the area offer several benefits. For starters, they promote foot traffic and activity within the area. Pop-up shops, interactive exhibitions, and temporary events, among other things, attract people and create a lively atmosphere. This increased activity can boost the location’s overall appeal, enticing both local inhabitants and visitors.

Challenges

Though short-term leases may sound ideal, this may not also be the case. Some key risks associated with these leases include:

• Uncertain Income: Because of the higher turnover rate of tenants, short-term leases generally result in a less predictable income stream for landlords. Because of this uncertainty, landlords may find forecasting and planning for their financial needs difficult.
• Higher Tenant Turnover Costs: Landlords may pay additional costs due to frequent tenant turnover, such as marketing, advertising, screening new tenants, and preparing the facility for occupancy. These costs can reduce the property’s profitability.
• Lack of Landlord Commitment: Tenants may face a problem with the landlord if they have a preference for the space and wish to extend their tenancy, but the landlord secures a long-term replacement tenant in the interim.
• Reducing Negotiating Power: Landlords may have less leverage when negotiating lease terms with tenants on short-term leases. Tenants can seek out other spaces more frequently, giving them bargaining leverage.

What are Long-Term Leases?

Long-term leases refer to leasing arrangements that are longer than one year. These leases require an extended commitment from the landlord and tenant, ensuring a stable and predictable tenancy arrangement for an extended period. The length of a long-term lease can vary depending on several factors, including the specific market, property type, and the terms agreed upon by the parties involved.

Benefits

• Stability and Predictability: Businesses seeking stability and continuity in their operations will seek long-term leases, which provide them with a secure place for a lengthy period while limiting interruptions associated with repeated relocations.
• Cost Effective: Long-term leases frequently have lower rental rates than shorter-term leases. Landlords may provide cheaper rates or incentives to tenants who commit to a longer term. Tenants may benefit from cost reductions during the lease.
• Improved Planning: Tenants can better plan their operations and finances with a long-term lease. They have a fixed occupancy cost for a longer period, allowing them to deploy resources and make long-term strategic decisions efficiently.
• Reduced Relocation Hassles: Tenants can avoid the regular disruptions and costs of relocating their business by signing a long-term lease. They can establish a consistent presence, develop customer connections, and save time and resources that would otherwise be spent on relocation.

Challenges

Long-term leases come with some challenges despite their higher sense of stability. One of the most significant challenges is the lack of flexibility for landlords and tenants. Being contracted into a long-term lease can limit the ability to react to changing conditions as the market advances, such as rental rates and business demands change. It can be challenging to keep up with market rates if the economy continues to fluctuate. Economic risks can also have an impact on the feasibility of long-term leases.

Furthermore, tenants may experience difficulties if their company outgrows the rented space or is forced to downsize due to unanticipated circumstances. Renegotiating lease conditions or terminating the lease prior to the agreed-upon date can be complicated and may result in financial penalties or legal consequences.