Every day new startup companies are being created and end up looking for office space to lease. The challenge for startups who want to lease office space is that early on their expenses typically exceed their revenue and they do not have a business track record that makes landlords confident enough to lease them space. Should landlords take the risk and lease office space to startups, hoping that they will make enough money to pay their rent?
Historically the failure rate of 1 year old companies is 28.5%, according to the US Census Bureau, and if startups have less than 5 employees the failure rate climbs to 34%. In order for Landlords to reduce their risk of leasing to startups they will carefully check to ensure that you have strong financials and have the ability to pay monthly rent for the duration of the term.
Below are a few things that Landlords will require of startups when leasing office space
1. Growth in Revenue and Profitability – Landlords want to see that a startup has enough revenue to pay the rent. They will typically look at your net revenues and EBITDA (Earnings Before Interest, Taxes, Depreciation, & Amortization). If EBITDA is positive and exceeds monthly rent then landlords will know that you don’t rely on investor money or borrowed funds. If your startup operates at a loss then landlords will want to understand your monthly cash burn rate and see how long your capital can cover losses. This can be done by subtracting liabilities from assets and divide by monthly operating losses.
2. Liquidity Ratio that is Above Average – Landlords want to see that you have the liquidity to pay off your rent and prefer that your assets exceed your liabilities.
3. More than 5 Employees – As stated above startup failure rate averages 34% for companies with less than 5 employees. Landlords like to know that you can afford to hire more than 5 employees.
4. Strong Financials – Landlords like to see at least 2 years of accurate financials. Financial projections are great however can be easily made up, and landlords will more than likely not understand your industry enough to know if they are realistic.
5. Debt to Equity Ratio that is Below Industry Standards – Landlords like to see that your liabilities are less than your equity. This shows them that you have the ability to borrow money in the event your industry or company experiences a downturn.
6. Industry that is Growing and Profitable – It’s helpful for landlords to know if your industry is healthy, profitable, and growing. Knowing that others are succeeding in your industry will help your case as a startup.
7. Strong Revenues and EBITDA – Landlords want to make sure you can afford the proposed rent. They will compare your EBITDA to rent and your sales to rent to some of your industry peers. If the rent expenses exceed your EBITDA or revenues then you will need to prove that you have enough liquid assets to cover rent.
8. Individual Guarantees or Letter of Credit – After a Landlord has reviewed your startup, company financials, your industry, etc., and still does not feel comfortable leasing you space they will ask to see your personal or guarantor financials, or require that you get a letter of credit.
9. Take Space “As is” – In many cases if a landlord still sees you as a risk they may lease you space however would only do so on an “as is” basis. This means they would not put any money into tenant improvements.