A lot of small-bay flex owners operate on handshake deals and month-to-month arrangements. The tenant’s been there for five years, pays on time, no complaints. Why bother with a formal lease?
I’ll tell you why: because it costs you money when you sell.
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Identify all month-to-month tenants: Walk through your rent roll and flag every tenant on month-to-month or informal arrangements. This is your action list. -
Approach tenants with lease offers: Start conversations 6-12 months before you plan to sell. Most will sign if the terms are reasonable and they’re planning to stay. -
Include rent bumps in new leases: Structure new 3-year leases with 2-3% annual increases. These automatic bumps are valued more highly than flat leases. -
Document everything: Keep signed lease copies, rent roll history, and any communications about the conversion. Clean documentation supports the higher value.
The buyer’s perspective
When I look at a flex park, I want to see signed leases with defined terms. Three years minimum, five is better. NNN structure. Annual rent bumps. A month-to-month tenant is income I can’t count on. They could leave next month. I have no legal mechanism to hold them to a rate or a term.
Month-to-Month vs. 3-Year Lease Impact
On the same 10-unit flex building with $100K NOI, here’s what the difference looks like:
- Month-to-Month version: $100K NOI at 8.5% cap = $1.18M valuation
- 3-Year Lease version: $100K NOI at 7.5% cap = $1.33M valuation
- Value difference: $150K just from lease structure (income identical)
A building where all ten tenants are on month-to-month arrangements gets a higher cap rate than the same building with the same tenants on 3-year leases. The income is identical today. The risk is totally different. I might put a 7.5 cap on the leased version and an 8.5 cap on the month-to-month version. On $100K of NOI, that’s the difference between a $1.33M building and a $1.18M building. $150K of value, gone, just because you didn’t put leases in place.
The fix
If you’re thinking about selling in the next year or two, start converting your month-to-month tenants to formal leases now. Most tenants will sign a 3-year lease without much pushback, especially if you keep the rent reasonable. They like certainty too. And honestly, it protects you as well.
If a tenant won’t sign a lease, that tells you something about their commitment. Better to know now than to have them leave a month after you’re trying to sell the building.
What about long-term month-to-month tenants?
I hear this a lot: “He’s been here eight years, he’s not going anywhere.” Maybe. Probably. But a buyer can’t bank on your gut feeling. A tenant who’s been there eight years with no lease can still leave with 30 days notice. That’s the legal reality. And in a market like Charleston or Raleigh where there’s lots of competition for tenants, you don’t want to be in that position when selling.
Seller takeaway
If you’re thinking about selling in the next year or two and you have month-to-month tenants, start converting them now. Call Roth Capital at 704-600-3839 for lease language and structure advice. This simple step can add serious money to your sale price.
Lock down your leases before you sell. It’s the single easiest thing you can do to increase your building’s value. If you need help thinking through lease terms, call me. 704-600-3839.
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