Question: An owner of the ABC Office Building is currently negotiating a five-year lease with XYZ Corp. for 20,000 rentable square feet of space. XYZ would like a base rent of $20 per square foot with step-ups of $1 per year beginning one year from now. ABC owner would provide full service under the lease terms. The owner of ABC believes that the $20 lease is too low and is trying to negotiate $24 per square foot with the same step-ups. However, ABC would provide XYZ with a $50,000 move-in allowance and $100,000 in tenant improvements (TIs) if the lease at $24 per square foot is signed.
Assuming that ABC owner believes that his required rate of return on investment should be 10 percent per year, is the $24 in rents per square foot combined with the move-in allowance and TIs justified? In other words, is the effective rent higher under this proposal?
XYZ informs ABC owner that it has 1 year remaining on its existing 20,000-square-foot lease in an older building at $15 per square foot. XYZ is willing to pay ABC $23 per square foot with the step-ups on the new lease, but is demanding that ABC "buy out" the old lease in lieu of the moving allowance and TIs. Should ABC building owner agree to the lease buyout proposal or agree to the lease at $24 per square foot with the move-in allowance and TIs?