Consider the Costs: How to Plan for a Tenant Fit-Out Budget

By James A. Schnur, CCIM
President and Designated Managing Broker
Integrated Real Estate Solutions

One of the core reasons businesses search for a new location is to find a space that is optimized for current and future business needs and success. But available locations on the market require additional aspects and improvements to help them align with the precise vision of business owners’ picture of the new space where their company is successfully thriving. The required renovations, updates, and modifications to allow a business to function after relocating need to be planned out long before signing the lease or taking over the space because the work necessary for those changes requires a significant amount of resources – in time, labor, and money. 

It is in the best interest of a tenant’s future business success to plan their relocation fit-out budget precisely. Tenants need to pay close attention to the spaces they are scouting and evaluate both what helps their business perform now, and what could help their business perform in the future. Tenants need to break down what already exists in these spaces and what doesn’t, as well as what will be needed, what will be updated, and what intangible aspects play a part in ensuring work and renovations can be completed on time, on budget, and with the right materials. Because all of these will play a part in the cost of fitting out the new space. 

Generational Divide — First-Gen vs. Second-Gen Spaces

Determining whether a first-generation or second-generation space is the better option for a company’s relocation depends on the company’s needs and what is realistic for the budget. First-generation spaces are spaces without prior occupants that are typically unfinished, presented, and offered while still in the grey shell stage. These spaces are full of yet-to-be-realized potential and ideal for tenants who want to truly make the space their own. That said, the amount required to properly finish the space in addition to renovations necessary for the business can easily balloon the budget beyond what is tenable.

Second-generation spaces offer a space with standard amenities already included, so costs are typically lower for these spaces — electrical, HVAC, plumbing, basic technological buildouts, etc. have already been implemented. These spaces also have hosted previous tenants, but they will still require improvements and adjustments to fit individual business and brand needs. 

Another factor in the choice is the relocation timeline. Choosing the first-gen space allows a tenant to control a majority of the aspects of their space as it’s built out, but it will also add time to the relocation process. A second-gen building will be able to be renovated quickly — allowing a tenant to occupy the space faster and minimize production or manufacturing downtime — but the space will be less bespoke and optimized for the business.

Hard Costs vs Soft Costs

There are two categories of costs tenants need to pay attention to while finalizing the fit-out budget that will help determine which improvements become a priority, which become secondary, and which will be put off until a later date. 

Hard costs are costs related to physical updates and the changes tenants make to the building or space. These include doors, walls, windows, HVAC updates, electrical updates, technology infrastructure, plumbing, carpet, acoustic padding, etc. These costs will occupy the lion’s share of the fit-out or improvement budget, but they also lay the groundwork for prime negotiating territory, as these improvements remain even when the tenant leaves the space — meaning these improvements benefit the building owner over time, as well. Some of these hard costs will be more beneficial than others and require more specialized individuals to complete the work. Additionally, some improvements require significant work to be performed behind, around, above, or underneath areas, that tenants may have just worked on. Thus, it is in the tenant’s best interest to perform a cost-benefit analysis on which to order improvements to perform planned improvements, both to set an actionable timeline and to avoid potential rework, conflicts, or work delays.

Soft costs take up less of the improvement budget, and do not result in physical improvements, but are valuable in their own right. These are the costs that ensure work can be performed, including legal fees, permitting, architectural designs and drawings, approvals, project supervision, service charges, and tax. While soft costs are less tangible, they tend to be easier to predict and require planning to ensure they are accounted for within the budget when they are needed to keep improvements and build-outs on time and on budget.

Secure the Terms on the Tenant Improvement Allowance

The tenant allowance will ultimately determine how much of the build-out the tenant will need to cover out of their own pocket. This allowance is negotiable between the landlord and tenant and will help cover costs the tenant takes on to complete their fit-out of the space. This is also where it is important that the tenant note the scope of their hard cost improvements, as the more beneficial these improvements are to the landlord for the building or space, the more likely the landlord will be to provide a generous allowance for improvements.

However, it is also important to remember that accepting a lease without any tenant improvement allowance still provides tenants with certain leverage over the course of their occupancy. If a tenant chooses to complete their fit-out renovations without taking on an allowance, or even if the space only requires minimal updates, tenants may be able to negotiate for a reduction in rent or other favorable terms that would typically be budgeted for an allowance.

To ensure that the best terms are secured for a business’ fit-out plans and that the relocation budget properly accounts for all fit-out considerations, it is important to consult with a tenant representative broker. Working with a professional tenant representative broker provides peace of mind as they provide guidance on all stages of the relocation process, ensuring that a business can pick up and resume operations with confidence at a new location. The commercial tenant representative brokers at Integrated Real Estate Solutions proactively look at commercial real estate opportunities and solutions that make sense on all levels for our clients. Working with business owners and employers to achieve their ideal vision, IRES guides and advocates on behalf of a business’s interests to ensure that their next relocation opportunity leads to continued business success.

Integrated Real Estate Solutions, Inc. provides clients with the in-depth knowledge and experience that is critical to determine the right path to your next move, lease renewal, or strategic re-positioning of your real estate portfolio. Contact us or call 847.550.0160 today about your needs, and put our success to work for you.

Author: Jim Schnur

Jim Schnur is the President and Designated Managing Broker of Integrated Real Estate Solutions, Inc. Jim started the firm in 2003 after almost 20 years negotiating and overseeing real estate transactions at Hewlett Packard Co. and Agilent Technologies, Inc.