Lease Audit is a broad topic that means different things to different people. In most cases Lease Audit is associated with auditing Operating Expenses (“OE”). OE reconcilliations are an annual ritual in which the Tenant scrutinizes the Landlord’s numbers for variable and reimbursable expenses. This area of Lease Audit is covered in other articles.
A different type of Lease Audit can take place when abstracting a Lease or new Lease Amendment. The process of abstracting involves dissecting key terms and conditions contained in the Lease. The key terms can be economic as well as non-economic. In either case, they involve rights and obligations of the parties. Abstracting is the process of noting the key terms in an abbreviated form, making them easily identifiable without having to read the entire document.
An example of this form of audit took place recently. I was abstracting a Lease Amendement and uploading the key terms into an automated lease administration program. I also uploaded the Letter of Intent (“LOI”) that had been executed by the Tenant and Landlord. While reviewing the LOI, I saw that the Tenant was to receive a Moving Allowance from the Landlord. That provision was not, however, included in the Amendment. Shockingly, this oversight had been missed by the Tenant, the Tenant’s broker and attorney.
Though the Amendment had been fully executed by both parties, the Landlord agreed to reiusse a corrected Amendment with the proper reference reinstated.
This serves as a perfect example of a Lease Audit that comes by way of automating the lease administration process. Critical oversights, mistakes and errors can be uncovered merely by perfoming the abstract process. It is a good lesson in the value of abstracting as well as a great example of the benefits derived from automating the lease administration function.
When businesses evaluate the pros and cons of outsourcing lease administration, several factors come into play. In his article “Companies’ drivers for and against outsourcing lease administration,” author Steve Silen of KPMG Advisory Services examines these factors.
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A discussion of lease abstracting should start by first answering two important questions:
1) What is a lease abstract?
2) Why is lease abstracting important?
The answer to question #1 is this: a lease abstract is a short form outline containing the key terms and conditions of a specific lease agreement. Its purpose is to highlight the important points contained in the lease, thus eliminating the need to read the entire lease document word for word. Some people refer to the abstract as a “Cliffs Notes” version of the lease.
The answer to question #2 is that abstracts help find needles in haystacks. Most leases consist of a thick stack of pages, usually legal sized and characterized by extremely small print. Abstracts on the other hand are short and simple. Abstracts provide a road map to quickly navigate through the myriad provisions and conditions of a lease.
In its basic form, an abstract is a helpful tool to quickly isolate critical lease elements. For many, an abstract may be used as refresher or even a starting point to get a general sense of key facts. An abstract is not, however, a replacement for the lease document itself. Why? Factual references without legal context can be misinterpreted and unreliable. Most importantly, abstracts themselves are not binding legal contracts.
While lease abstracts can be helpful tools, they tend to have a common flaw; abstracts are “static.” That means most lease abstracts are created at a single point in time. The problem with this is that the underlying leases tend to change over time. Throughout the life of a lease, changes to the agreement will likely occur. Some changes may be insignificant, not requiring a formal amendment to the contract. Other changes however may necessitate a formal amendment to the lease. In either case, the original static abstract will be rendered out-of-date and unreliable. A new abstract will need to be prepared.
There is a solution to this flaw. That solution is to upload the abstracted information into a customizable database. More about that strategy will be covered in a later discussion focusing on automation of the lease administration process.