If the thought of negotiating a lease for a coffeehouse elicits the same kind of dread as a letter from the IRS, you're not alone. Duking it out over a rental agreement can be a pretty scary process. Inexperienced negotiators have to be especially wary of the traps that inherently exist in any commercial deal making.

But, remember all that hard work and long hours (or multiple dollars) you put into pulling together a professional business plan? Well, lease negotiation is where the business plan comes into play. If you've done your job, the business plan will clearly spell out to the landlord your financial and personal qualifications and make you a more attractive tenant.

Yet, while the business plan is all about long-term goals and projections, lease negotiations are your first taste of reality. If your rent eats up too much of your revenues, even if business is good, you won't be in business very long. Coming in prepared and aware of the power you have as a prospective tenant can make the process go a lot smoother and the chances of your business succeeding a lot better.

It's also important to remember that the landlord is in business, too, so fairness counts.

NEGOTIATING POWER

That said, the equation basically comes down to the landlord trying to get the highest rent he can and the prospective tenant trying to pay as low a rent as possible. You may think that because the landlord has something you want<em>-<em>the space--he holds all the cards. Not so.

As a prospective tenant, even though this may be your first business, you've got real negotiating power. For instance, such terms as the square footage rate, tenant improvements dollars and free rent are all negotiable items common in retail leasing.

Once a landlord hands Ken Palmer, co-owner of BJ's Coffee Co., a lease, he says he immediately starts negotiating down the square footage rate. Palmer's chain of six coffeehouses is located in northwest Oregon.

If the landlord won't lower the rent enough, Palmer says he then tries to project that rate over the term of the lease. For instance, if the asking price is $17 a square foot, Palmer says he'll suggest a rate of say $13 for the first year or two and then agree to an annual increase so that by the end of the term, the rent will be up to that $17 figure.

Tenant improvements are another area where some real deals can be made. Landlords will generally expect to pay for some level of construction improvements to prepare the space, explains Al Jiwani, president of Pacific, Wash.-based BigFoot Investment Group L.L.C., the parent company of an emerging chain of BigFoot Java drive-through coffeehouses.

"In the Northwest, we're looking at about (an average) $5 a square foot for tenant improvement allowance," says Jiwani, explaining that the allowance can come in the form of cash or the improvement itself.

"My recommendation usually is to go ahead and take the cash," because then the tenant has more control over how the money is spent, Jiwani adds.

Sometimes, tenant improvement allowances can offset high rent if the landlord is unable or unwilling to lower the square footage rate. Palmer, for example, has been negotiating a lease for space in a medical office building. While the rent is high, the landlord is offering $30,000 in tenant improvements. "So, they're kind of helping us along, kind of negotiating back and forth to offset the high rate," Palmer explains.

Free rent is another common negotiable item. "Most people know they can get some sort of free rent," says Tom Matzen, a long-time consultant in the coffee retail business, "but they don't know how much they can get, and they don't know how standard it is."

Matzen, who is based in Vancouver, British Columbia, says the most he ever successfully negotiated was 11 months free rent. The landlord was agreeable to such length in part because he was unable or unwilling to allow dollars for tenant improvements.

Such strategy is aimed at reducing the costs of operating the business during its first few years when cash flow is low. While the landlord most likely will not bring up these items if the prospective tenant doesn't, he should be willing to discuss a little give and take.

"The reason the landlords do this is it actually increases the odds of that tenant sticking around, No. 1, and No. 2, it's not free," says Matzen, explaining that the tenant will be paying for these improvements or "free rent" later on. "It's built into the lease."

WHAT TO PAY

When it comes to rent, perhaps the most basic question is, how much is too much? The current going rate for the space can be found by researching the area or going to a real estate professional. If the space is in a mall, you can simply go to other stores and ask the tenant what his rent is. Generally, the higher the traffic count, the higher the rent.

"The best thing to do is research the area and then talk to a realtor and see what the going price is," Palmer says.

As for how much should be allocated for rent, Tom Matzen says that rent plus operating costs for a high-volume area can be as much as 20 percent of gross revenues. "But you want to shoot for somewhere that's 10 percent to 12 percent," he quickly adds. Paying more than 20 percent of your sales in rent cuts too much into profits, Matzen explains.

"A well-run coffee bar will net 20 percent," he continues, meaning that profits should be about 20 percent of revenues. "So, if I'm paying more than 20 percent to a landlord, they're making more money than me. And I'm doing all the work? That's not fair."

As revenues increase, the rent percentage should decrease. At BJ's oldest store in Forest Grove, about 6 percent to 10 percent of gross revenues goes to rent, Palmer says. For the newer stores, the figure is 13 percent to 15 percent, he says.

"So, that's naturally where your free rent and your lower (rate) per square foot for the first year or whatever you can negotiate from (the) management company comes in because that first year's going to be real critical to you," Palmer says.

Both Palmer and Matzen advise against using a real estate agent to negotiate the lease agreement. The real estate agent in general will be representing the landlord because the agent receives a commission based on the amount of the lease, so the higher the rent, the higher the commission. "It's kind of like the salesman at the car dealership going to the manager to see what he can get you" on a deal for buying the car, Matzen says. In reality, he continues, both the manager and the salesman are on the same team, and it's not yours.

Jiwani says an inexperienced negotiator may want to use a real estate agent, especially if the agent can supply leads on space. "But a broker sometimes gets in the way," he adds, noting the commission factor.

WATCH YOUR STEP

Here comes the really fun part. Look carefully at what you're reading because otherwise you may just trip. Exclusions are one such trap. Landlords may try to limit the amount of seating, for example, or what kind of food you can sell. The landlord may be trying to accommodate other tenants, so you have to be very specific on what your business will include, even down to menu choices.

"They will do it to you," Palmer says. "They will say, well, you can't serve this kind of food and that kind of food. So, what we do is say, well, we want coffee-related baked goods, Panini sandwiches and soups." For BJ's, being unable to serve baked goods would mean a loss of 14 percent of sales. So, including all specific menu items may seem inconsequential, but if you don't, your lease agreement may lock you out of a revenue source.

"You want to be a little bit careful and make sure you do all your homework and the other tenants don't have rights that preclude you from getting the business that you want," Al Jiwani says.

Jiwani also cautions new negotiators about reading the fine print when it comes to the final rental rate. "A lot of times when people are negotiating a lease, they'll just look at the straight rental costs," he says. "But most leases are triple net leases, which basically means that the landlord can pass on his insurance costs, maintenance costs, management fees, sometimes, and other things."

Such extras are referred to as common area and maintenance, or CAM, charges. As a result of such extras, that $20 per square foot rate you whittled the rent down to can easily jump back up to $25 with the extra fees.

While the lease won't include an actual figure for these charges, prospective tenants can get a general idea of what the amount will be from current tenants or a history of those costs from the previous year, Jiwani explains.

"One of the best resources are other tenants in the center," he says.

Finally, Tom Matzen suggests negotiating for multiple sites, not just one. This, he says, will give you walk-away power--the ability to walk away from a deal if a landlord is not giving you what you really want. How can you just walk away? Well, because you've got three other spaces that you're negotiating, as well. Sure, you're trying to form a successful partnership with your prospective landlord, but it's a business partnership, not a marriage--so you can just leave.

"My goal is three to five sites that I'm negotiating on, because otherwise emotion gets in the way," he says.

Matzen once had to walk away from talks on an ideal coffeehouse space for one of his independent clients. The space was in a strip mall, next to a multi-screen movie theater and on the morning side of the street. To top it off, the location was a half-mile from where his client lived. But Matzen had to stop negotiations because the landlord was not prepared to give his client anything--at least at first. "Well, when we were done, they gave us $30,000 cash and free rent," Matzen adds.

BE FIRM, BUT FAIR

Of course it's important to ensure that your lease agreement includes all the free rent, tenant improvements and discounted rates that you can negotiate. But the deal works both ways.

While it may be natural to think of the landlord as your adversary, the relationship is really almost that of a partnership. Remember, the landlord is in business, too, so his goal is to earn revenue from this space. Therefore, if your coffeehouse isn't successful, then the landlord loses a tenant and potentially rental income if the space is left vacant. So, what you're really trying to do is negotiate not an I-win, you-lose agreement, but an agreement in which both parties come away satisfied.

"In fact," adds Matzen, "the whole key to lease negotiation is truly seeking win/win. It's gotta be a win for them and a win for you." *

David vs. Goliath

For the independent operator, the prospect of going up against a giant chain for a potentially lucrative space for a coffeehouse can be quite daunting. But Vancouver-based consultant Tom Matzen says instead of focusing on how much you're willing to pay in rent, you really should be touting your independence.

"There are some very simple things that people can do to go up against any of the big boys and get a fair deal," Matzen says. "The key thing is to present yourself with the advantages you bring to the table."

Independent ownership in itself is a major advantage when you're competing against a large corporation--not in terms of financial backing of course, but in terms of flexibility. An owner/operator is not bound by volumes of rules in running his coffeehouse the way a manager of a large chain may be. An independent can pay more attention to details, such as the style or design of the store, rather than having to adhere to a cookie-cutter coffeehouse quality. Details such as cleanliness may also mean more to someone who owns the equipment and the display and the couches rather than someone who is just managing them, Matzen explains.

An independent can also be more responsive to customer needs perhaps by customizing drinks off the main menu or setting business hours around commuter convenience.

"You can adapt your hours to the neighborhood, whereas chains, they've got set policies," Matzen explains. "We had some independent coffee bars that would open up at 5:30 a.m. because they were in a commuter area."

Such flexibility is important because it adds value to the landlord's "business," whether by adding the charm of a local coffeehouse to a central business district or retail/residential community, or offering desirable amenities to other tenants in the building, Matzen says.

"It's like a benefit that they're bringing to the office tenants, and it doesn't cost the landlord," says Matzen. "In fact, the landlord makes money off that benefit."

That's something you'll surely want to bring up at the negotiating table.

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