Understanding Make Good Obligations

Make Good Obligations, What are they? How do I avoid? Is it the most important detail in the lease agreement?

Understanding Make Good Obligations

Facility managers need to be able to draw on a wide range of skills and experience in order to be able to adequately fulfil their mandate. Managing the tail of a lease is no exception.

The principles behind make-good obligations are sound. The tenant leases generic premises from the landlord with standard finishes and services. The premises are then customised with tenant fit-out including partitioning, iconic décor and fixtures. The tenant has the obligation to return the premises to the landlord in their generic form, fair wear and tear excepted, at the end of the lease. The landlord is then able to decide what other works need to be done to competitively market the vacated premises.

Unfortunately, the application of make-good principles by aggressive landlords can lead to some nasty surprises for unsuspecting tenants, who sometimes seem not to fully understand the implications of these obligations. Further, the problem is often exacerbated by a lack of attention being applied to the details of the obligations.


The Many Facets of Make-Good

As with marriage preparations, lease negotiations can be exhilarating. But in the heat of negotiating, the details of make-good obligations are frequently neglected because they will only eventuate many years into the future. The key focus of negotiating the lease is minimising recurrent rental costs, and business case cash flows usually ignore the cost of make-good. Leases often have ‘standard’ make-good clauses –unthreatening and ambiguously worded – which tenants tend to accept without challenge.

Ironically, at this juncture the landlord is probably the most negotiable in terms of the make-good clause, focusing instead on early cash flows and securing tenant commitment. Specialist fit-outs such as executive lavatories, inter-leading staircases and kitchens not only have significant installation costs, but large make-good costs as well. Such items seem essential to operations when initially installed, but their cost never seems to be fully accounted for over the lifecycle of their use – including the cost of make-good at the end of the lease.


Tactics and Strategies

Exploiting the make-good clause to the maximum has recently become a fine-tuned art by aggressive landlords. There are two key components to the approach. First, there is the preparation –structuring the clause and creating a dossier of evidence. The second component at the end of the lease tail, is working out negotiating tactics and cost estimates.

The clause structure and evidence dossier are preparations at the commencement of the leases – the ante-nuptial part of the process. In structuring the make-good clause, the landlord will strive for a general clause allocating all types of obligations to the tenant. Often fair wear and tear is not mentioned. More aggressive clauses have redecorate obligations– new carpets, walls painted and air-conditioning units replaced.

Evidence is usually a major problem. Records are seldom kept of the condition of the premises at commencement of the lease, prior to tenant fit-out. Too often, memories have faded as the make-good obligations become the subject of dispute. However, astute landlords are likely to have records of the condition of the premises which are used judiciously in support of their position.

Once it becomes obvious a tenant will be leaving, the landlord’s negotiating tactics emerge. Trust has been broken and the alimony mindset kicks in. Tactics all revolve around timing. Tenants are focused on their new premises and make-good obligations in the current premises have been forgotten. But the clock is ticking. Make-good has to be done within the lease period – there is no extension. Two choices now emerge: either make-good the premises or pay the landlord a settlement figure. And the longer the negotiation, the less time the tenant will have to conduct the works and the more likely it becomes that a settlement will have to be paid.

The tenant may decide to bite the bullet and conduct the works. If this is the decision, BILD Project Management are the preferred choice of many throughout Victoria with the ability to deliver the tenancy back on time and to the expectation of the landlord/agent. Bild have worked with all the major commercial agents in Victoria and has delivered all our projects successfully without any overholding being charged and with all projects delivered on time.

After completion of the works, Bild can complete the walkthrough with the agents or landlords to answer any questions that they may have.

There are risks in completing makegood obligations without professionals involved, agents can detect if the tenant has tried to complete works on their own or using people in the office and when this does happen you can expect a detailed dossier of photographs and reams of schedules of every smallest remaining defect – all benchmarked against the initial evidence file. Make-good is deemed not to be complete until all defects are rectified – the tenant’s obligation rolls on and hopefully there will be enough time in the lease tail to tick off the remaining defects.

Alternatively, if settlement is the chosen option, in a tough negotiation the tenant may be able to knock down the amount, but usually only marginally. So, with no time left the tenant pays the money and, as per the Deed of Settlement, has no further obligations. However, some time in the future that very same tenant may be surprised to find that the inter-leading staircase, executive lavatories and specialist décor – those items that formed such a large part of the make-good settlement – have been retained by the landlord. Now, in new marketing brochures, these items are deemed to be exciting building features – all effectively twice paid for by the tenant.


Make-Good Preparations and Management

For tenants, make-good management is all about adequate planning – at the beginning and end of the lease – and focusing on the details of the obligations.

Preparation is most effective during the lease negotiations, as landlords are doing the courting and keen to snare good tenants. Significantly, their financial analysis of offers and counteroffers seldom includes different make-good obligations. Clearly, this is the time to focus on the wording of the make-good clause, and although difficult, it is a good idea to even attempt to remove all of the make-good obligations. At the least, negotiate out of redecoration clauses, make sure fair wear and tear clause is included and remove expensive items such as inter-leading staircases and executive lavatories. It can, in fact, often be argued that such items add value to the base building.

Next – get evidence. Take detailed photographic records and appoint professionals to prepare a condition report. Evidence is an excellent mechanism to minimise disputes and legal fees, and it is also important to insist that the landlord signs a copy of the report as part of the lease documentation. During the occupancy period of the lease, be mindful of make-good obligations, particularly when fitout changes occur. Ensure that appropriate landlord approvals are obtained on a timely basis. With such changes, generally the same disciplines and principles apply to the management of the make-good obligations as at the commencement of the lease and the initial fitout.

At the end of the lease, when decision time emerges – ‘do I stay or do I go?’ – plan for the make-good works and their time requirements. Factor this into the overall relocation program with an adequate contingency time, as the complexity of relocation projects have a tendency to increase as the move date approaches. It is always a good idea to start a make-good dialogue with the existing landlord early, in parallel with the renegotiation of the lease. If the discussions become overly complex, seek expert advice and access the dossier of evidence which, hopefully, was prepared at the commencement of the lease.

As with a marriage break-up, the split and settlement terms of a lease relationship can be arduous and costly. However, provided the make-good clause has been diligently negotiated at commencement of the lease and attention paid to the detail, make-good obligations do not have to be the sting in the lease tail.