Don’t Let the Good Guy Finish Last!
You’re a good guy, right? Everyone says so. You work hard, play fair and try to do right by others. Now, you’ve quit your job to start your own business – which will inevitably sky-rocket you, your family and perhaps your college buddy or sibling who is taking this exciting plunge with you, into tremendous, well-deserved success. But first … you must sign a forty-two page lease for that perfect commercial space your broker/brother-in-law found for you; AND a document referred to as a “Good Guy Guaranty”. Wow. It’s as if the landlord knows you already, right? Not exactly.
In its simplest form, a good guy guaranty provides that the guarantor, usually the principal of a lightly capitalized enterprise, to remain liable on the lease up through the time the corporate tenant vacates and surrenders possession to the landlord. This type of guaranty was conceived to help landlords, in jurisdictions like New York, where the eviction process is not exactly speedy, to avoid a lengthy and costly eviction proceeding in the event that a corporate tenant ceased to pay rent. At inception, the good guy guaranty simply intended to provide that, so long as the tenant remained in possession, the guarantor was on the hook, but if the principal, or guarantor, was a “good guy” and surrendered and vacated the premises without causing any trouble for the landlord, the guarantor would be square with the landlord, effectively ending his or her personal liability. Because the guarantor is usually aligned and united in financial interest with the corporate tenant, particularly a start-up or small business, this provides a healthy economic compulsion to be a “good guy” and agree not to continue in possession after the corporate tenant fails or is unable to meet its leasehold obligations. For all these reasons, as compared to a full performance and payment guaranty, a good guy guaranty should be relatively easy for a landlord to obtain. After all, who would ever tell a landlord during the courting phase of a lease negotiation that the business owners would ever think to remain in possession of the premises without paying rent?
Unfortunately, what may have started out as a simple guaranty form has evolved into a sophisticated, complex instrument demanding thoughtful vigilance during the lease negotiations. In practice, I have found that a landlord’s perception of what obligations should be covered by a good guy guaranty can be very different from that of the prospective guarantor. Because guarantees are a significant component of commercial leasing transactions, understanding of the consequences and issues relevant to this form of guaranty could help you avoid some costly mistakes.
Being In the Know. Exactly What Is Being Guaranteed?
Most landlords, tenants and guarantors are on the same page when it comes to the basic premise of a good guy guarantee, being that its purpose is to (1) incentivize the tenant to vacate the premises at the earlier termination (as a consequence of tenant’s default) of the lease and (2) insure that all accrued rent is paid up to the date of such vacating. Everyone’s needs are served by having the defaulting tenant turn over the premises to the landlord so that the landlord may seek a replacement tenant as soon as possible, rather than trying to stay on the premises while in default, forcing the landlord to initiate formal legal action or become entrenched in a costly, extrapolated bankruptcy or reorganization proceedings. However, a shrewd landlord may also attempt to expand the guaranteed obligations in circumstances where the guarantor fails to pay all accrued rent on the “vacate date” or “surrender date”, and cleverly define that term to obligate the guarantor for all sums due under the lease for the remainder of the lease term. A guarantor should be wary and try to keep the definition of vacate as simple as possible, such as the date when the keys to the premises are turned over and the tenant has completely vacated. Conversely, a vacate date being determined by the date “all of the accrued amounts due under the lease are paid” should prompt swift objection.
Watch Out For Around-The-Corner Acceleration Remedies And Post Termination Damages
A strong word of caution to the good guy: there is no way around reading and understanding that forty-two page lease accompanying your guaranty if you wish to fully appreciate the scope of your financial exposure. Of particular interest should be the default and remedy provisions of the lease. If the lease provides the landlord a remedy of acceleration of all rent after a default by the corporate tenant, and the acceleration occurs prior to surrender, the good guy could conceivably be agreeing to guaranty all monetary obligations, including post-acceleration amounts which have technically accrued prior to surrender. Even following a read of the lease, a prudent course of action would be to insist that the good guy guaranty contain clear and unequivocal language limiting the good guy’s obligations under any rent acceleration provision, or to other such default damages regardless of when they accrue under the terms of the lease, such as reletting costs, brokerage fees, eviction expenses, restoration costs and the like.
Keep Your Eye On Swelling Obligations
Your landlord may insist on unpaid fixed rent and additional rent that has accrued to the date of vacating, and a good guy will likely not be able to limit liability to just fixed rent. However, every attempt should be made to narrow the definition of the term “additional rent” in the guaranty to well defined monetary obligations, such as tenant’s share of the utilities, real estate taxes and CAM/Operating expenses through the date of surrender. Under the terms of the lease, which our good guy will undoubtedly discover when reading, the landlord is likely permitted to convert non-monetary obligations of the tenant into financial obligations which conveniently, are rolled into the definition of “additional rent”. Similarly, the guarantor’s obligations could include other built in expenses as “additional rent”, such as reimbursement for unamortized free rent concessions, tenant improvement allowances, brokerage commission, legal fees and landlord’s tenant improvement costs. So, a good guy may expect some unwelcome surprises if he or she simply assumes payment of all accrued “additional rent” for the tenant in the guaranty executed without further investigation, or negotiation.
The Back Door Personal Guaranty
You can’t judge a book by its cover, and shouldn’t judge your guaranty by its title. The requirement of having to give a landlord somewhere between 3-12 months notice before exercising rights under a good guy guaranty also expands upon the basic premise of this type of guaranty. Simply put, having to comply with a notice provision in excess of 3-months in order to trigger certain guaranty limitations effectively creates your basic, personal guaranty, though arguably limited – has no relation to whether the guarantor is a good guy at all.
Losing Control And The Tenant’s Assigns
Since the rationale for the good guy guaranty is that the guarantor, as the principal of the corporate tenant, has sufficient control over the corporate tenant to cause the tenant to vacate and surrender the premises to the landlord without unnecessary delay, the good guy should then be “off the hook” if the lease is ultimately assigned to a different company over whom the guarantor has zero control. This is precisely the argument that should be made when insisting that the guarantor be released if a sale of its business, or an assignment of the lease occurs. Of course, the landlord will want this release subject to a guaranty being executed by at least one of the principals of the assignee or successor in interest.
Although not an exhaustive list of potential pitfall, the above illustrates the importance of understanding what a good guy guaranty should, and should not, include. Signing a letter of intent or term sheet, while still being wooed by the landlord and broker, that merely references the phrase “Good Guy Guaranty” without further elaboration is dangerously short sighted and unwise. Seek legal counsel early in the process because when the simmer of your new venture begins to boil, a guarantor will be pressured to sign any poorly drafted document presented, or risk “killing the deal” for the tenant and his or her business partners. If being a “good guy” means succumbing to such pressure, that good guy could very well finish last.
Sharon M. Lewonski is the firm’s Real Estate Practice Group Chair, and has closed deals on every side of the negotiating table. In addition to providing legal support to some of the firm’s publicly traded companies, Ms. Lewonski’s clients include local and national developers and investors, lenders, title insurers, property and asset managers, and privately held businesses. Her practice includes the drafting and negotiation of general commercial, office building, retail, hospitality and restaurant, industrial and warehouse leases.
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