Turnkey Buildout or Tenant Improvement Allowance?
With the number of corporate office spaces available in the Greater Toronto Area, it seems like there should be a perfect space for every need. But, in reality, every organization has unique needs and no one space can encompass every item on a must-have list. That’s why one of the most important issues in lease negotiation is tenant improvements and how they are financed by the landlord. There are two common provisions of tenant improvement financing: a tenant improvement allowance or a turnkey buildout. So, how do you know which is best for your organization’s Toronto area office space?
Tenant Improvement Allowance
When improving a space to best meet your needs, a tenant improvement allowance is the negotiation of a cash allowance that is to be used for renovation, construction, and related costs. In a well-negotiated transaction, the tenant will retain any savings if the costs are less than the approved allowance. Construction can be managed by the tenant (or the tenant’s representation team) or the landlord, but because the tenant is financially responsible, we recommend the improvements not be left in the landlord’s hands.
It is important to remember that, even if the tenant is managing the construction, the landlord will likely require the approval of contractors, architects, and engineers, so it is essential to negotiate the approval of vendors in the lease before improvements begin.
Tenants should remember that, even if they are managing construction, the landlord will require the approval of vendors (contractors, architects, engineers). Negotiate the approval of important vendors in the lease, before construction starts.
Pros of a Tenant Improvement Allowance
The tenant has complete control over the entire process and budget.
The tenant can ensure the construction team is specialized to meet the unique needs of the build.
If the tenant has multiple locations, there may be potential for national pricing negotiations.
Tenant may keep savings if construction costs are under budget.
Cons of a Tenant Improvement Allowance
If the project is over budget, the tenant is responsible for costs.
The tenant is responsible for negotiating with contractors and may have less leverage and buying power. This, however, can be avoiding by working with your tenant representation team for the improvement process.
A fixed lease start date may leave the tenant responsible before construction is finalized due to unforeseen delays.
Turnkey Buildout
A turnkey buildout leaves the landlord responsible for all elements of construction at its sole cost. This means the landlord will manage the process from start to finish and bear all financial risks of construction costs going over budget. In this scenario, the landlord and tenant will create an agreed upon space plan outlining all specifications of work, often with a cost cap on the improvements.
Pros of a Turnkey Buildout
The tenant does not have to deal with the logistics of the design and construction process.
Landlords often have a list of trades familiar with their building, standards, and practices, which can streamline the process.
The landlord may have volume discounts on products to lower costs to allow the tenant to stay under the negotiated cost cap.
Process (under the agreed upon cap) is at the landlord’s expense.
Cons of a Turnkey Buildout
Because the tenant relinquishes all control, changing the original plan can be difficult and expensive.
The tenant has no say in how the dollars are spent.
Overages are kept by the landlord if or when money is saved in the process.
There may be additional landlord management fees (anywhere from 1-4 per cent) for construction supervision, based on total construction costs.
With the number of benefits and pitfalls associated with both options, tenants can make the best decision for their situation by working with a tenant representation team that is highly engaged in the Greater Toronto Area suburban market. The right negotiation strategy will result in the best improvement agreement and, ultimately, the best office space for your organization.
