Lease rollover
Also called Rollover, Lease expiration risk, Rollover risk.
Lease rollover is what happens when a lease expires: the tenant renews, or leaves and the space sits empty until a new tenant is found and fitted out. Modelling it means applying a renewal probability, downtime, leasing capital and a new market rent to every expiring lease.
How it works
In multifamily, rollover is a statistical event handled with a turnover rate, a few weeks of downtime and a modest make-ready cost. In office, retail and industrial it is the central risk in the asset, because a single lease can be a quarter of the building's income and its expiry can mean a year of vacancy and a seven-figure fit-out.
A proper rollover model runs each expiring lease through the same five assumptions: probability of renewal, downtime in months if the tenant leaves, market rent on the new lease, TI and commission at new-lease and renewal rates, and any free rent given. The expected outcome for that suite is the probability-weighted blend of the renew and the vacate case. Do it lease by lease, because averaging destroys the timing, and timing is what rollover risk is.
The pattern that deserves the most attention is clustering. A building where 60 percent of the income expires within an eighteen-month window carries a fundamentally different risk from one where the same 60 percent is spread across six years, even at identical WALT. Clustering is also what a refinance or a sale runs into: no lender prices a loan generously into a rollover cliff.
Worked example
Illustrative. 25,000 square feet expiring, 65 percent renewal probability. Renewal: $20 per square foot TI, 3 percent commission, no downtime. New lease: $65 per square foot TI, 6 percent commission, nine months downtime.
| Renewal case leasing capitalTI $500,000 plus 3% commission | $775,133 |
|---|---|
| New-lease case leasing capitalTI $1,625,000 plus a 6% and 3% commission | $2,027,552 |
| New-lease case lost rent, nine months | $600,000 |
| Expected leasing capital65% of renewal plus 35% of new | $1,213,480 |
| Expected lost rent35% of $600,000 | $210,000 |
| Expected cost of the rollover event | $1,423,480 |
About $57 per square foot of expected cost on a single expiry. Move renewal probability from 65 percent to 50 percent and the expected cost rises by roughly $278,000, which is why that assumption should be evidenced by the tenant's history and its space needs, not chosen to make the deal work.
The common mistake
Modelling downtime without modelling the leasing capital that comes with it
Rollover is usually handled by applying a vacancy factor to the expiring space, which captures the lost rent and nothing else. The larger number is frequently the TI and commission required to fill it, which on office space can exceed two years of rent. A model with downtime and no leasing capital understates the cash cost of a roll by a wide margin, and it does so in the years where the property can least afford it. Every vacate case needs downtime, free rent, TI and commission attached to it.
Related terms
- Tenant improvements and leasing commissionsTenant improvements are the landlord's contribution to fitting out a space for a tenant, quoted per square foot. Leasing commissions are the brokerage fees paid on a signed lease, quoted as a percentage of the rent over the term. Together they are the cost of putting a tenant in place, and they are capital, not operating expense.
- Weighted average lease termWeighted average lease term is the average remaining term across a property's leases, weighted by either rent or leasable area. It is the standard single-number summary of how long a commercial property's income is contracted for.
- Rent rollA rent roll is the unit-by-unit or tenant-by-tenant schedule of who occupies a property, what they pay, and when their lease ends. It is the primary evidence behind every revenue assumption in an underwriting model.
- Expense stop and base yearIn a gross or modified gross lease, an expense stop is the level of operating expenses the landlord absorbs, with the tenant reimbursing everything above it. A base year stop sets that level equal to the actual operating expenses in the lease's first calendar year.
- Loss to leaseLoss to lease is the difference between what a unit could rent for at today's market rate and what the sitting tenant is contractually paying. It appears as a deduction from gross potential rent when the pro forma is stated at market rent.
- Triple net and expense recoveriesUnder a triple net lease the tenant pays base rent plus its share of the property's taxes, insurance and common area maintenance. Expense recoveries are the mechanism that bills those costs back, normally as a pro rata share based on the tenant's proportion of the building's leasable area.
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