Grey Space and Grey Areas

The Colourful Office Landscape

While there has been much written lately about green leasing and improving environmental performance in the office sector, there is another increasingly prevalent concept in the market known as “grey space”. Grey space can be defined as office accommodation which is surplus to the needs of the tenant in a scenario where the lease term has not yet expired. It can relate to the leased premises in its entirety or a particular portion thereof.

This development is largely a result of changed habits brought about by the Covid-19 pandemic. By necessity, working from home became much more of a reality for office-workers. Hybrid working has become not only the norm but also an expected part of the package for the younger generation of employees. This has left many office-based businesses with an excess of space, for which expensive rents and utility costs are being paid, often after investing a great deal of money in fitting out high-spec new workplaces. Another significant cause of the oversupply in the Dublin market, in particular, has been the tech leasing hiatus. Technology firms accounted for 51% of office take-up between 2017 and 2021 but this has diminished considerably as a result of job-cutting and cost-reduction exercises carried out in the sector. In the past year alone, employment in this sector has dropped by 3.3%.

 

The Dublin Market

The admittedly low-rise Dublin skyline is full of shiny new office buildings, many of which, despite appearing to be made of nothing but glass, comprise significantly of grey space. It is estimated that 205,000 sq. m. of the city’s office footprint is made up of grey space. Office vacancy is currently at approximately 14.5%, with around one-third of this reported as being grey space. While many companies have already offloaded unused portions of their leased portfolio or are actively attempting to do so via assignments or sub-lets, the market remains busy and the supply of this type of office accommodation will continue to be of interest to those searching for a place of work.

Depending on the circumstances, the tenant may be seeking to mitigate its liabilities, including rent, commercial rates, service charges, building insurance, utilities, and dilapidations, by alienating any unused space to a new occupier. Between Q4 2022 and Q3 2023, alienation of grey space accounted for 27% of all office space leased in Dublin. Some of the considerations from a legal perspective when doing this are summarised below.

 

Options for Alienation of a Space in its Entirety

An office tenant-entity which no longer occupies the premises in its entirety can look to either sub-let the property by way of a sub-lease or assign the property by way of a deed of assignment. Alternatively, it may licence some space on a flexible basis. A key advantage of assigning the premises is that the tenant is no longer liable for any of the lessee-obligations under the lease; these obligations will be assigned to the new tenant, the assignee, which takes on a direct relationship with the landlord.

By contrast, if the tenant sub-lets the space to a sub-tenant, the contractual relationship between the tenant and the landlord created by the lease still exists and the tenant remains liable for all of its obligations under the lease.

Therefore, a tenant seeking a clean break from a premises in its entirety should seek to assign rather than sub-let the premises. If the tenant foresees the need to move back into the premises at a later date, a sub-lease would be preferable as the tenant can grant a shorter term to the sub-tenant under the sub-lease than that granted under the lease and can then reoccupy the space for the remainder of the lease term. If a tenant is looking for the greatest level of flexibility, it can enter into a licence agreement, under which the tenant may end the licensee’s occupation right at any time once appropriate notice is given.

 

Alienation of Part

The situation is different when the tenant is seeking to offload part of the premises only. An assignment in this scenario is very unusual as to assign part of the space would be to break up the property as described under the lease. While leases sometimes contain prohibitions on sub-letting part of the premises only, this can be overcome if the landlord gives its consent as set out in the next section below.

It is common for tenants to sub-let part of the premises under a lease, particularly where that premises is divided into a number of floors. For example, if a company enters into a lease for a term of 10 years to occupy five storeys in a city-centre location and five years into the term finds itself having use for only three of these storeys, the remaining two storeys could be sub-let to a new sub-tenant or new sub-tenants, provided landlord consent is obtained. It must be noted, however, that some leases will contain limits on the number of sub-lettings a tenant can grant.

 

Consent Consideration

Landlord consent is almost always required when a tenant is seeking to alienate. Most landlords will ensure provision is made for this in the lease. Consent usually comes in the form of a licence to assign or a licence to sub-let, to be drafted by the landlord’s solicitor. Under s. 66(1) of the Landlord and Tenant (Amendment) Act, 1980, any covenant prohibiting or restricting the assignment or sub-letting of a lease should be read as if it were a covenant prohibiting or restricting this alienation without the consent of the landlord.

Under s. 66(2), where a lease contains a covenant prohibiting or restricting alienation without the consent of the landlord, it is subject to the proviso that the landlord cannot unreasonably withhold consent. The vast majority of office leases will have provisions to this effect drafted in any case.

It is important for tenants, assignees and sub-tenants not to omit to obtain the landlord’s written consent as any assignment or sub-lease would then, in all likelihood, contravene the lease. It is also noteworthy that the lease will usually provide that the tenant will be responsible for the payment of any costs incurred by the landlord in the consent process, which would include the landlord’s legal fees. As well as this, landlord consent to a sub-lease will usually be given subject to a number of requirements such as the sub-lease being in much the same form as the lease and the sub-tenant renouncing its statutory renewal rights.

An additional consent consideration will arise if the property in question is charged in favour of a lender. In that circumstance, the lender, in addition to the landlord, may also have to give its consent to any sub-letting or assignment. A tenant should review its banking facility in this regard.

 

Break in the Chain

An important question for head landlords and sub-tenants, where a sub-lease is in place, is what happens if the head-lease falls away, which could happen if, for example, the tenant/sub-landlord becomes insolvent. S. 78 of the 1980 Act is the key piece of legislation here. If the head lease is terminated before its normal expiration, any sub-lease survives and the head landlord becomes the landlord of the sub-lease, which now becomes a lease. The sub-tenant, now tenant, is obliged to pay the higher of the sub-lease rent or “such portion of the rent reserved by the terminated lease or contract as is fairly attributable to the premises.”

This piece of legislation should give landlords comfort when a sub-lease is being entered into.

 

Clarifying Grey Areas when Dealing with Grey Space

The proportion of so-called grey space in the Dublin office scene has clearly increased as a result of the growing demand for flexible working, itself accelerated by the onset of Covid-19 in 2020. The reduction of jobs in the technology sector has also played a significant part. Tenants with an excess of space and a hefty rental bill need not panic, however, as there are options they can take to reduce their load.

Grey space is by no means a uniquely Irish problem. Real estate markets in larger jurisdictions such as the UK, the US and India are facing the same issues. Some market commentators in these countries have recognised grey space as an opportunity rather than a cost as it can allow a tenant to revitalise a space and gain an income from it. Dublin-based tenants are taking a similar approach. Assignments, sub-letting and licensing are some viable solutions to the problem.

Tenants, assignees, landlords and sub-tenants must all ensure that they clarify any grey areas ahead of going ahead with an alienation in their efforts to ensure the occupation of grey space. To do so will allow for the brightening up of Dublin office landscape without cause for concern.