While exit options may not be at the forefront of an occupier's mind when entering a new lease, it's important to ensure that as much flexibility as possible is retained in case a tenant wants to relocate or rationalise its operations.
Before considering disposal to a third party, it's probably also worth considering break options. The ability for a tenant to terminate the lease before expiry – whether at fixed dates (e.g. 5th and/or 10th anniversaries) during the term or on a rolling basis – is of course the most obvious means of preserving flexibility. The Landlord will no doubt look for a generous notice period e.g. 3 or 6 months or possibly longer, to give time to find another tenant. Be aware however:-
- calculation of the precise break period can be complex and confusing and often more than exactly 3 or 6 months' notice is required;
- break conditions may apply – which if breached can invalidate the break altogether. Certain conditions e.g. a general requirement that the tenant is not in breach of the lease, should never be accepted – a landlord will no doubt be able to find some default to found upon;
- the notice should almost certainly be in writing, in clear and unambiguous terms, and may have to be served in a specific way.
There are several potential pitfalls and legal advice should always be taken both when drafting the initial lease, and exercising the break option.
The best means of third party disposal for a tenant is an assignation (or assignment in England). The principle here is that the occupier transfers their interest in the lease outright and removes themselves from the landlord-tenant relationship altogether. The common law position is that an outgoing tenant will remain liable only for any arrears up to the date of the transfer and all other obligations will be transferred to the new incoming tenant – but again the specific wording in the Lease may contradict this.
Assignation is obviously a favourable option but in consequence restrictions tend to be imposed in most leases. Be aware that the law in Scotland is quite different to that in England & Wales in this area. English law has long recognised the principle of "privity of contract" which traditionally meant that the first tenant to sign a lease would remain liable to the landlord for the remainder of the term – even if it had divested itself of its interest. For a number of years now, this principle has been limited so that an outgoing tenant through an "authorised guarantee agreement" (or "AGA") covers the obligations of its immediate predecessor only (if required).
This has never been the position in Scotland and any reference to an AGA (which can sometimes be seen in Scottish agreements which have been lazily – and erroneously - based on English law) is irrelevant.
A landlord will however require that consent is given before any assignation is allowed. In the absence of specific wording, absolute discretion will apply - no occupier should accept this. The usual wording states that consent must not be unreasonably withheld – but only where an incoming tenant can be found who is of sound financial standing, respectable and responsible and demonstrably capable of fulfilling the tenant's obligations under the Lease. As a very rough rule of thumb, an incoming tenant who is able to demonstrate net annual profits for the preceding three years at least three times the annual rent, should be able to pass this test. Otherwise, it's likely that a guarantee or rent deposit will be required.
Beware of clauses in leases which require that an incoming party must have at least as strong a covenant as the current tenant. These are unduly restrictive and should be accepted only in the rarest of cases.
If a tenant is unable to obtain consent to an assignation, the alternative is to sub-let. This does not enable the tenant to drop out of the lease chain – it will remain fully liable for all obligations owed to its own landlord under the lease and therefore is at risk of the new occupier defaulting. But for this reason a sub-letting should be easier to achieve. Again, consent should not be unreasonably withheld – and beware of covenant tests (as for assignations). These are generally of questionable necessity in sub-lease scenarios.
It's also common to see leases state that any sub-lease must be at the higher of the then market rent and the current rent then passing under the Lease. This is of course to ensure that, for rent review purposes, the head landlord will benefit from the most favourable rental evidence for the premises. However, if the market collapses and rents fall, an occupier who is required to lease at not less than passing rent may find themselves hamstrung and unable to dispose of their premises altogether.
So again, be wary of a number of potential pitfalls both when agreeing and administering the alienation provisions in a lease. The corporate occupier team at Brodies is ideally placed to help guide occupiers through this minefield.
