Business Advice · 4 May 2021

What does leasehold mean when buying a business?

What does leasehold mean when buying a business

Buying a business is not a small task, whether you are an old hand at it or a first-time buyer. The number of businesses available, and the diversity of options, can take a significant amount of time to process and require a profound knowledge resource.

One of the options that you will come across is choosing between a freehold or leasehold business.

A short definition of leasehold would be “rental”. In the domestic environment, it would be choosing to rent your home or purchase your home.

The primary driver behind looking at a leasehold business is usually your budget. A freehold business requires greater funding, albeit borrowed or existing capital. In the absence of that, you will need to refine your search to a leasehold business.

A leasehold business comes with a much lower price point due to the fact that you are purchasing the business only. This is an excellent option for acquiring a business with a restricted budget. A leasehold business can still be developed, grown and altered at your discretion. You can add new services, develop new products, bring in a partnership, rebrand, etc. You will not be responsible for the building maintenance, insurance etc., unless that is specified in the building lease drawn up between the company you bought and the property owner.

Leasehold disadvantages

An obvious disadvantage is that the property could be sold, and the new owner will want to use the property for their own business, leaving you in a scramble to start sourcing new premises.

This would not happen immediately, as a valid lease is a legal document that has a lifespan that must be honoured by the owner of the premises. The pain of sourcing new premises that meets your needs and the pain of the move is not enjoyed by anyone. Unless you had outgrown your current premises and the pain of staying is greater.

You will be paying rent which will include building expenses, rates, water etc., without deriving asset growth benefit from those amounts paid.

You will most likely have significant limitations on what adaptations you can make to the premises with or without the owner’s written consent.

Leasehold advantages

There are multiple advantages to a leasehold if you:

  • Were lucky enough to be in strong a position when negotiating your lease and/or
  • Used a professional to ensure the lease is fair to you, and
  • Have an agreeable landlord.
A leasehold business can bring huge benefits from reduced responsibility, far less capital outlay and much less stress. It is a prudent option to choose if you are just starting out in business and are planning to have multiple satellite locations of your business.

There are further options within the option of leasehold itself.

Tied leasehold

Many leases on the market are subject to trade ties, such as a brewery or pub company that is issuing leases as a Landlord. The long and short of this means that you have to buy certain stock or certain volumes from them. This trade tie is not something to be taken lightly, nor should you think that you can “start with them” and source other options. This will put you in breach of contract!

Within the lease agreement, you will also have fetters on how you operate the business. You will also, most likely, be responsible for the full maintenance of the entire premises.  Another addition to that will be an obligation for you to take out insurance against all property and trading risks.

A tied lease will require you to pay a premium for the lease when you buy the company and pay rent for the lease duration.

Free-of-tie leasehold

This will have almost identical terms to a tied lease but with a very advantageous exception: You can purchase stock from sources of your choice.

The ability to source alternatives, negotiate trade discounts and adjust your products to client’s needs increases the chance of you achieving more business profits.

There will, therefore, be a huge demand from the buying sector of the market, which will harden the prices of these leases. As these premium, free-of-tie leases are in such a demanding market, you must be researched, financially ready, and ready to decide as you will need to proceed with a purchase swiftly, as the market will snap these up quickly.

Do your research

As with all big-ticket and/or business acquisitions, before you take the time to view a business for sale or invest substantial time in it, it is prudent to do your homework thoroughly.

The following questions are examples of research that should be considered:

  • Is the geographical location suitable for you, your staff and your clients?
  • Is it close to service providers and suppliers? What is the crime rate?
  • Is it near transport options for your staff?
  • Is there a vibrant local economy, or is it not relevant? Do you trade directly to the public and, if so, are there suburbs of high disposable income families in the vicinity?
  • Is it a growing or declining area?
  • Is the area satiated with businesses such as yours, or what is the presence of the competition? Take time to assess this as some businesses have diversified, and their core businesses will be supported by a subsidiary business that might fall into your sector.
  • Have you ascertained the Unique Selling Points (USPs) of the business and whether they are scalable?
  • Have you used an accountant to calculate the ROI, including the impact of the type of lease you will inherit?

Affordability

As with properties and other complex items, the cost of buying a business does not end at the advertised price.

There will be physical setup costs, stock costs, interior design fees, marketing fees, fixture costs, legal fees, surveyor fees, accountancy fees and licencing fees whilst maintaining an unthreatened bank balance of working capital.

When you want to initiate negotiations regarding the purchasing of a leasehold business, you will need to have documentation prepared and audited, which demonstrates to the Landlord that, in addition to the purchase price, you can cover all of the above items plus any others they may list.

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