ROFOs and ROFRs as they’re colloquially known give tenants the right to take additional space in the building in the future. While these rights are a headache for landlords, they protect tenants who need to grow from being “jammed” by their landlords – who know they’re in a bind – into a bad deal on the additional space.
Right of First Offer: ROFOs give tenants the right to take additional space in the building in the future. This option space typically is limited to space that is contiguous with your existing space. The landlord is required to give notice of available space periodically, typically annually. Make sure they hold up their end of the bargain, otherwise you risk missing out on availability in the building and your only recourse is a tenuous lawsuit.
Sample ROFO language might read as follows:
If space in the building horizontally contiguous to the premises becomes available during the term of the lease, landlord shall provide written notice of the availability to tenant. Tenant shall have ten days to respond to landlord’s notice to either elect to lease the offered space or decline to lease the offered space. If tenant fails to elect to lease the offered space within such ten day period, tenant’s right to lease the offered space shall be deemed to have expired. If tenant elects to lease the offered space, all the terms and conditions of the lease shall apply to the lease of the offered space except that rent for the offered space shall be market rent. Market rent shall mean the rent for tenants of comparable buildings in the geographic area where the premises are located. If fewer than three years remain in the term of the lease at the time of tenant’s election to lease the offered space, the term shall be extended so that three years remain after the lease of the offered space. Tenant’s right to lease the offered space is a one-time right and can only be exercised if tenant is not in default of the lease.
Pro Tip: Don’t let the ROFO go to market terms and conditions for as long as possible. As noted above, determining “market” is not a great process. Have the terms be the same as your current lease (with pro-rated tenant improvements) for as long as possible. No one ever asks for this. We would as for five years versus the two above.
Right of First Refusal: A ROFR requires that a landlord give a tenant notice before they lease a specific space (usually contiguous with their existing space) to a new tenant. Tenants typically have 10 – 15 days to decide whether they want to take the new space. ROFRs generally require that existing tenants take the entire space in question and match the terms of the potential new tenant’s lease.
Sample ROFR language might read as follows:
If landlord received a good faith third party offer to lease space in the building horizontally contiguous to the premises, landlord shall provide written notice of the offer to tenant. Tenant shall have ten days to respond to landlord’s notice to either elect to lease the offered space or decline to lease the offered space. If tenant fails to elect to lease the offered space within such ten day period, tenant’s right to lease the offered space shall be deemed to have expired. If tenant elects to lease the offered space, all the terms and conditions of the lease shall apply to the lease of the offered space except that rent for the offered space shall be the terms set forth in landlord’s notice. If the length of the term set forth in landlord’s notice is longer than the remaining term of the lease, the lease term shall be extended so that the remaining term is the term included in landlord’s notice. Tenant’s right to lease the offered space is a one-time right and can only be exercised if tenant is not in default of the lease.
Both are headaches for landlords to manage, but landlords really hate ROFRs because they impair their ability to lease the space. If a potential tenant knows the space in question is subject to a ROFR, they are likely to look elsewhere rather than waste the time trying to negotiate terms with the landlord only to have the existing tenant take the space.
Pro Tip: Ask for good faith notice if the landlord is actually negotiating with a tenant and then accept a 10-day notice period. The landlord will know weeks in advance if they have someone truly interested. Landlords would gladly give notice of strong leasing activity to shorten your decision time. Accept the fact that it might be a “false alarm”, and remember if you need the space you always have your ROFO if their deal dies.
What no one tells you: “Market terms” and “market rent” are not the same thing. Same “terms” means same rent and same concessions (e.g. TIs and free rent). If your ROFO says you have the right to take new space under “market terms,” you are also entitled to the same concessions. If your lease says you are entitled to take new space under “market rent”, you will NOT be entitled to any concessions.
Similarly, “market terms” for new tenants may provide for different concessions than market terms for a renewing tenants. Generally speaking, new tenants receive larger concessions than renewal tenants. However, if the new lease is very short term (i.e. less than 3 years), your landlord may argue there are no “market concessions” for that type of lease, but there are for a renewal!
Lastly, when you have options to take additional space, even if it’s in another building or project, make sure your leases are coterminous, i.e. that they all expire at the same time. This is worth everything to you because you can go back to market when your leases are expiring and cut a new deal to consolidate all of them. And, if you want to extend for a few years, your landlord will be happy to offer to refresh the rest of your lease to be coterminous with the new space.
And don’t forget, if you are growing, the free rent and other concessions offered on your next deal may enable you to move early. For example, if you are growing from 10,000 sf to 20,000 sf and need the space now, but you have a year remaining on the 10,000 sf term, your new landlord will pay for the remainder of that lease as part of your new deal.