How Leasing Brokers are Paid

Question

I was wondering how leasing brokers are paid based on finding a commercial tenant for retail/restaurant space?

I'm trying to figure out if I should go the commercial broker route in listing some nice, hip retail spaces.  I was also contemplating just listing them myself and throwing them up on loopnet/costar/MLS etc and just test the market

I've heard 6% commission is paid on total rents for the length of the lease term-- but is that capped and is that total amount paid upfront on lease signing? I mean for instance if I sign a lease at $4500 a month for a 5 year lease that is $4500 rent x 12 mo x 5 years = $16,200.
It seems like a lot if for instance the tenant breaks the lease 6 months into the lease for example.

Are there standard or common clauses or anything I can put in the Listing Agreement to guarantee I would be able to pay reduced commission based on uncertainties with certain potential tenants?

Mike L. · Answer

You are right in the way that you calculated the way brokers are paid.  If the lease is longer than 5 years, sometimes they are paid on a percentage of the second 5 years, as well (such as 4% of the total rents for years 5 through 10).

Most established brokers would not accept if you tried to put in a clause to pay a reduced commission, or some sort of commission contingency.  Their argument is that they will be bringing you tenants, and it is up to you to qualify the tenant and decide if the tenant is a good, strong tenant for you.  You can choose to reject the tenant if you don't think they can make it through the lease.  Some brokers may offer to re-lease at a reduced cost; you could always ask.

One commission structure that we use is half upon lease signing, 25% at the second month of rent payments, and 25% after 6 months of rent payments.

How good your space is will determine what type of broker would be willing to work on it.  Very busy brokers will (or at least SHOULD) only take on assignments that they will actually do work on to lease.  A good broker won't just post it on Loopnet and CoStar.  He (or she) will also call on tenants who he thinks would be a good fit.  If you have a strong "A" location, they could have relationships, and be calling on McDonald's, Taco Bell, Panda Express, etc.   Your chance of those tenants leaving 6 months into the lease are very low.

If your location is more of a "B" location, then you will probably be dealing more with mom and pop independent retailers/restaurants.  You will have to evaluate the tenant's financials carefully, and take a large security deposit if necessary.  Require the tenant to personally guarantee the lease.  Hold a large enough deposit that you can pay the broker in case the the tenant leaves.

Chris Gentzkow · Answer

A couple of thoughts on this topic, commercial brokers hate delayed commissions. The theory is that their work is done up front and its the LL job to figure out the risk. Also, while brokers don't participate in the downside (tenant leaves early) they also don't participate in the upside such as if a tenant is a huge success and becomes the next Starbucks or something and your property becomes a lot more valuable. Industry standard here in Southern California is 50% of the commission is paid on lease execution and 50% upon tenant opening or commencing rent. You will have a tough time finding a good broker that will agree to something different.

Believe it or not, LL's investing in tenants is much more common today in retail. With consumers (especially in LA) preferring the mom and pops over the national chains, some of the most successful retail developments have substantial LL investment. This can take the form of a tenant improvement allowance or an actual equity position in the company. That said, do you want to be in the LL business or the restaurant (or whatever) business?  Maybe both.

Also, it is very common to get a % rent clause in retail if you are investing or providing a substantial TIA. That way if the tenant is crushing it, you will participate in some of the upside.

I would love to hear more about the project. I'm available anytime for free advice, and I promise I won't try to sell you on CBRE.

Joel Owens · Answer

California might be different. I don't do projects there.

I still stand by not giving TI for a weak tenant. A landlord paying out leasing commissions and TI's for a weak tenant just doesn't make sense.

The tenant simply isn't proven. I wouldn't generally accept a tenant under such circumstances as a landlord but that is just me.

Now if debt was so low but their net worth was very high with a personal guarantee that is a different situation. If It is a franchise concept I would try to get the corporate parent company to guarantee the lease and take over if the franchisee failed.

Some landlords will give lower rent per sq ft and no TI with free months of rent if tenant spends the money building out. If the tenant is a Starbucks it's a whole other ball game. It's all about the quality of the tenant and having a known commodity. If a landlord doesn't put proper measures in place to lease up then when they go sell down the road the property is not as marketable.

I have seen landlords fill up centers and when they go to sell have weak leases the buyers will inherit so the cap rate price has to be higher along with credit to the buyer to purchase the property. You have to begin with the end in mind. A landlord shouldn't in a moment of weakness break from standard lease up protocol to fill out a commercial space.

Additionally the landlord needs to make sure that leasing commissions ONLY go through primary term and not perpetuity ( forever ).

Martin Z. · Answer

Also just wanted to mention even if you find a broker who's OK with a delayed commission, a lessee's agent may also be involved. Now you have a 2nd broker to convince. As a landlord, I'd worry more of avoiding vacancy or keeping it limited rather than the commission payout. Vacancy is one of the major costs.

Joel Owens · Answer

Yeah most of my clients do not go for the (big box) stuff 50k square feet with one tenant. That's more for REIT's and large funds that buy those types of spaces for investment. These spaces if they go dark can sit for years. Now you could put demising walls in and cut up the spaces for higher rent per sq ft to multiple tenants.

I have seen owners just give a little below market rent per sq ft then spend that kind of money on interior TI.

If it was a national credit rated tenant then maybe some TI.

Martin Z. · Answer

"If I am the landlord taking a risk on a weak tenant then I am sure not going to give TI and all this leasing commission to the broker right away"

Not sure about other markets, but try calling up 10 commercial brokers in LA and see which one would comply with delayed commissions.

Martin Z. · Answer

Upfront, I wouldn't give a dollar, totally agree. But even on a credited tenant, what's a landlord to do if the space is large. Imagine having a retailer ask for 30 /SF build out on a 50k square foot building. Would reduced lease rate work in that scenario? Don't they ask for build out costs because they can't write off build out construction from their books? or is there something I"m missing

Mike L. · Answer

No, not often at all.  That's really risky and is like putting a lot of eggs in one basket.  I wouldn't get too "buddy buddy" with your tenants because it will make it that much harder for you to enforce the rules when things aren't going so well.

Joshua Leite · Answer

Especially for someone the broker doesn't have a long term relationship with already.

How Leasing Brokers are Paid

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