Optimizing Your Real Estate Investment Dollars

Broker compensation model

Real estate is an important part of your business. As a multi-unit franchisee, you leverage real estate to grow your operation. Most of the time this means dealing with a real estate broker you retain to represent your interests, a “tenant representative.”

As an important member of your team, your interests should be closely aligned with those of your broker. Are they? How Are Brokers Generally Compensated?

Most multi-unit franchisees occupy leased retail space, often secured through the assistance of a real estate broker. The listing broker works for the landlord who pays them a commission. This commission is often based on a percentage of the Base/Minimum Rent (also referred to in this article as “rent”) for the initial term of the lease.

The listing broker then splits the commission with your broker, the tenant rep. With the common practice or prevailing commission model, the higher the base rent you agree to pay, the higher your tenant rep’s commission. Simply put, the more rent you pay, the more money your broker makes.

Does that make sense to you? Moreover, under the current model your broker receives no compensation for negotiating tenant friendly terms for issues such as CAPs on CAM, co-tenancy protection, exclusives, kick-out clauses, expansion rights, tenant allowance monies, landlord work, free months or options. In fact, your brokers’ success in securing such terms isn’t generally measured, depriving you of the ability to accurately assess broker performance.

To summarize, under the prevailing model your tenant rep broker is paid more for negotiating higher rent, and paid less for negotiating lower rent. Further, your broker receives no compensation for negotiating tenant friendly terms on non-rent provisions. So, although your broker relies on contingent, success-based compensation, their reward is not tied to success.

Aligning interests

Do you believe this is the best way of optimizing your investment in real estate? We don’t think so. Can The Traditional Model be Altered To More Closely Align Broker And Multi-Unit Franchisee Interests?

Yes. Could you benefit by adopting a new system, one which aligns your interests with those of your broker? How can this be done?

Tenant reps must receive more, not less, compensation for lowering rental rates. More specifically, tenant reps must be compensated in inverse proportion to the rental rates they negotiate. Pursuant to this system, tenant rep commissions increase as rents decline and you save money.

For example, if the fair market rental of a space is $25 per square foot, the commission can increase if a below market rental rate is negotiated. Further, multi-unit franchisees can compensate their brokers on a much more precise measure of performance. When determining whether to proceed with a lease, you examine dozens of provisions.

The most important monetary provisions can be benchmarked against objective criteria with a system like Exceedant’s “LeaseScore,” which identifies and rewards superior tenant rep performance. Such attention to detail must be applied early in the lease negotiation process, before retaining the tenant rep’s services. The same yardstick you’d be using to measure broker performance can also be applied to evaluate the merits of the leases you’re considering.

After all, “What gets measured gets improved.” -Peter Drucker. Pursuant to the system discussed above, your broker’s compensation mirrors the results secured on your behalf.

Performance based compensation

How Can Your Broker’s Interests Be More Closely aligned With Yours? Let’s begin with a surprisingly novel concept: The lower the minimum rent, the higher the tenant broker’s compensation. When negotiating a tenant representation assignment, broker and client work together to identify the most important lease provisions.

The tenant representation agreement then includes objective benchmarks against which the broker’s results are measured. In this way, your broker can be compensated for superior performance on rent and a suitable range of non-rent terms. Rent and non-rent terms are evaluated pursuant to objective criteria to arrive at a LeaseScore.

Such a score includes factors such as non-rent occupancy costs. So, for example, free months, tenant allowance, landlord work, CAPs on CAM serve to reduce occupancy costs, while raising the LeaseScore. Arriving at a LeaseScore also supports your efforts to dispassionately evaluate the relative merits of various real estate options, ultimately facilitating your decision on which space to lease.

Broker Commissions Are Underwritten By Ownership Currently, landlords pay listing brokers who then split the commission with tenant reps. Tenant rep compensation under the prevailing model: higher rents = larger commissions. Broker Compensation Can Still be Underwritten By Ownership, But On Terms Determined By You In this new system, tenants will negotiate broker compensation directly with those tasked with representing their interests.

Landlords can put commissions in escrow for tenants to disburse in their sole discretion. The tenant then contracts to compensate its broker directly, rather than having the tenant’s broker compensated by the landlord, through the landlord’s broker. In this way, the tenant links compensation to measurable results, benchmarked against objective criteria.

Results can include terms governing provisions such as: Minimum Rent; Additional Rent; Exclusives; Assignment and Subletting (e.g., profit sharing provision, not limiting assignment rights to the original tenant, take back provision), Relocation Rights, Kickout Clause, and more.

Conclusion Multi-unit operators recognize that real estate is central to the success of their business. One way to optimize your investment in real estate is to carefully align your interests with those of your broker. This can be done by taking control of the commission process, and basing compensation on results.