Technology tenants in the US are leasing record volumes of office space, precipitating increased demand for letters of credit (L/Cs) as landlords seek security, often from firms developing products that have yet to prove profitable.

Companies in the sector now account for 30 per cent of all occupied office space in the San Francisco Bay area; in the Seattle area they occupy about 45 per cent of space while in Bellevue, Washington, technology tenants occupy 70 per cent of office accommodation.

Market changes

Technology tenants are different from traditional office occupiers, so they present new challenges to landlords.

Startup and emerging tenants are routinely asked to guarantee payment obligations by putting up L/Cs. Startups typically put up L/Cs equal in value to 12 to 18 months of rental payments while emerging tenants are asked to provide L/Cs equal to seven to eight months' rental charges.

Determining factors

Determining L/C terms for an emerging tenant depends on several factors, such as how close the tenant is to an initial public offering (IPO); how recently the tenant completed an IPO; market capitalisation following an IPO, a tenant's profit history, and the length of time a tenant has been in business.

Given the large sums the L/Cs guarantee, landlords are reportedly recommended to insist on documentary credits issued by first tier banks.

Landlords are advised not to accept L/Cs from the investment banking or internet banking divisions of specified banks.

L/C alterations

In a typical lease, the amount of the L/C is reduced as rental obligations are met over time.

However, the L/C may also be used to secure the landlord's financial risk, so a tenant may only be eligible for a reduction if they reach certain targets, such as a set number of quarters of positive operating cash flow or a minimum market capitalisation rate after becoming publicly traded.

This article represents the views of the author and not necessarily those of the ICC or any of the other partners in DC-PRO.