Expert: Peter Liebert, SIOR - 2/7/2008

Question
I am a property owner/investor with development experience. I have been approached by a broker I have dealt with in the past to enter into a design build lease project. I have several questions which I will list following a brief bit of background.   

Ideally the Realtors client "the buyer" would ideally like to purchase a portion of my property, but it is unserverable- hence the build to suit option as it will allow me to retain rights to further leasable development on the unused portion of the property. The buyer is the loosely linked 'subsidiary' of a large multi-national who is just entering the north American market. I say loosely because they are completely separate legal entities who simply share some directors and major shareholders. The proposed use of the property is quite specific and they are willing to sign a 25-35 year contract. To build-out I will likely employ a general contractor as I do not have the in house capability to build out a project of this sort.   

My Questions are as follows and in no particular order:   

1. What covenant should I require and how do I best research the covenant. I know the buyer has major cash on hand, but they are acquiring many sites throughout the country and I worry about their long term cash flow. Should I insist on the guarantee of the 'parent company'?   

2. What commission should I be willing to pay the broker given the extended term? Should I cap it at 10 years? I am willing to pay a declining percentage through the entire term as I think that would be fair, but do not want to be overpaying. Furthermore, my Realtor's business partner has extensive commercial construction contacts and may be assisting with the arrangement of the construction contract. I suspect they will likely collect a commission from the general contractor on the construction cost. I am ok with this too, but how should it impact my overall 'overpaying' situation.   

3. Although I am willing to build out the project in its entirety (it will certainly make for easier construction coordination) I likely want the tenant improvement portion of the project paid up front, but this may be a sticky negotiation point and I will settle to amortize these improvements over a portion of the lease. What would be a reasonable time line-the first 5 years? 7, 10 years?  Also, should I be calculating the interest rate at a level which is profitable to me, or at my actual borrowing cost?

4. In term of the contract, what should I be expecting? To get the ball rolling my realtor will be drafting a letter of intent. What should I expect and be on the lookout for. I should mention- my broker is an experienced commercial agent, but we are in a smaller market and he admits his limited experience in build to suit projects so we are both a little on guard.   

Any general comments/guidance/wisdom you may wish to impart above and beyond the specific questions would be greatly appreciated.

Answer
Scott, answer by item:

1. You should have a real estate qualified attorney for this. You may have a better chance if you condo the project and sell the building to the user on a turn-key basis. That way you can develop the rest of the site and not worry about a long term deal. You may also have a tax problem past 27 years on a lease, IRS might treat it as a sale.
Parent company guarantee is a must.

2. 10 years is reasonable, but local market custom should dictate. Your Realtor ( vs. realtor) should disclose to you any referral fee from a contractor. If there are several design/build contractors in the market, an open or closed bid process should work better for you.
If the user is purchasing as a condo, possibly they should handle it provided that any architectural restrictions, cross easements, utility easements, common area maintenance agreements, etc. are in place.

3. If you are financing tenant improvements, you should try to get a sufficient security deposit to cover any interruption in rent, a better solution would be a letter of credit that would be tied on term to an amortization period.

4. I would not sign a letter of intent. You should have the basic terms nailed down and have your attorney draft either a lease agreement or a sale agreement contingent upon the condominium document being signed.