casemark/analyzing-lease-structures

Analyzing Lease Structures

Evaluates commercial lease terms by computing net effective rent, quantifying concession packages, and assessing tenant credit quality to support underwriting, acquisition, and portfolio management decisions.

When To Use

• Underwriting a property acquisition and need to stress-test in-place lease economics
• Comparing competing tenant proposals on an apples-to-apples net effective rent basis
• Evaluating a REIT portfolio's weighted-average lease profile and rollover risk
• Assessing whether landlord concessions (TI, free rent, moving allowances) are market-appropriate
• Reviewing tenant creditworthiness before committing to long-term lease exposure

Inputs To Gather

• Lease abstracts or full lease documents — base rent schedule, escalation clauses, expense structure (NNN, modified gross, full-service gross)
• Concession details — tenant improvement (TI) allowance, free rent periods, moving allowances, lease buyout payments
• Tenant financials — credit rating (Moody's/S&P if investment-grade), most recent annual revenue, net income, and balance sheet highlights; for private tenants, request financial statements or guarantor information
• Market comps — comparable lease transactions in the submarket (asking rent, achieved rent, concession packages, lease term)
• Property-level data — operating expenses per SF, cap rate assumptions, discount rate for NPV calculations
• Lease term parameters — commencement date, expiration, renewal options (fixed-rate vs. fair-market-value), termination rights, co-tenancy clauses

Workflow

1. Classify the lease structure

   • Identify expense type: NNN, modified gross, or full-service gross
   • Map escalation mechanism: fixed annual bumps, CPI-linked, percentage rent, or fair-market resets
   • Note any unusual provisions: co-tenancy kick-outs, go-dark clauses, exclusive-use restrictions, ROFO/ROFR on adjacent space

2. Calculate net effective rent (NER)

   • Compute total undiscounted rent over the lease term including all escalations
   • Subtract landlord concessions: TI allowance, free rent (valued at face rent for those months), moving allowances
   • Divide by total lease months for a per-month NER, then annualize per SF
   • For a present-value approach, discount cash flows at the landlord's cost of capital or market discount rate [VERIFY discount rate assumption with client/underwriting team]

3. Analyze the concession package

   • Express TI as $/SF and compare to submarket averages
   • Convert free rent to an equivalent rent reduction per SF per year over the term
   • Calculate the landlord's total concession cost as a percentage of gross lease value
   • Flag concessions that exceed market norms by more than 15–20% for further diligence

4. Assess tenant credit quality

   • Investment-grade tenants (BBB-/Baa3 or above): note rating, outlook, and sector
   • Sub-investment-grade or unrated tenants: review guarantor strength, security deposit or letter of credit terms, and lease guaranty structure
   • Assign an internal credit tier (strong / acceptable / watch / substandard) based on financial metrics: debt-to-EBITDA, interest coverage ratio, and liquidity position [VERIFY internal credit-tier definitions per firm policy]
   • For percentage-rent leases, evaluate tenant sales performance and trend trajectory

5. Benchmark against market

   • Compare NER to submarket comps on a per-SF basis, adjusting for floor level, vintage, and amenity package
   • Assess whether escalation structure keeps pace with projected market rent growth
   • Identify mark-to-market exposure: leases significantly above or below market at expiration

6. Compile risk factors

   • Rollover concentration: flag years where >15% of portfolio NRA or revenue rolls
   • Tenant concentration: single-tenant exposure exceeding 10% of portfolio revenue
   • Lease duration: weighted-average lease term (WALT) relative to debt maturity
   • Early termination or contraction option exposure

Output

Produce a structured analysis report containing:

• Lease summary table — tenant name, suite, SF, lease type, term, base rent/SF, escalation structure, NER/SF
• Net effective rent calculation — step-by-step buildup showing gross rent, concession deductions, and resulting NER (both undiscounted and PV-adjusted)
• Concession benchmarking — TI $/SF, free rent months, and total concession cost vs. market comps
• Tenant credit snapshot — rating/tier, key financial ratios, guaranty structure, and any watch-list flags
• Risk summary — rollover schedule, mark-to-market exposure, tenant concentration, and any non-standard lease provisions requiring attention
• Recommendation — clear statement on whether lease terms are at-market, above-market, or below-market, with suggested negotiation points or underwriting adjustments

Quality Checks

• Verify that NER calculation accounts for all concession types, not just free rent
• Confirm escalation math ties to lease language (compounding vs. simple annual increases)
• Ensure expense stop or base-year assumptions are correctly reflected in NNN-equivalent comparisons
• Cross-check tenant credit data against the most recent available filings [VERIFY filing date]
• Validate that market comps are from the same submarket and asset class (office vs. industrial vs. retail)
• Confirm discount rate used for PV calculations aligns with property type and risk profile
• Flag any lease provisions that could affect NOI stability (kick-out clauses, co-tenancy triggers) even if not yet exercisable