How much does it cost to rent space for a small business?
December 03, 2019
In this 7 minute read, learn:
- Examples of commercial space rent by city across the US
- Why “the average cost of rent for a small business” is not always helpful
- Rent to income ratio considerations
- What percentage of your business should be spent on rent by industry
- The “unit cost” method of determining what you might pay for rent
If you’re considering renting business or office space for the first time, or perhaps the owner of a growing business wanting to move to a larger commercial space, this article is for you.
If you’re a current business owner wondering if your rent is too high, please read our article: Local business owners: Are you paying too much in rent?
We’ll discuss the “average cost of rent for small business” in several metro areas, and we’ll show you why this isn’t the most helpful way of determining what you might expect to pay for rent.
You’ll also learn how to use unit economics calculations to determine if your business is profitable enough to start paying rent for commercial space.
The average cost of rent or office space for a small business varies widely, even within cities
When you’re trying to estimate how much business rent might be in your area, it’s helpful to try to research the average rent for a small business in your area.
Start by asking around your proposed area to get some idea of what it MIGHT cost you to do this. Of course, since the three most important things in real estate are (you guessed it) location, location, location, you will likely find widely varying rent figures depending on how good the location has been determined to be (and on your industry).
You should also consult with your local real estate brokers (as well as local business owners) to get a better idea of how much you might expect to pay. Be sure to clarify whether they’re quoting you the price per square foot PER YEAR, or per month.
It’s common to use the yearly figure but some industries or realtors might standardize on a monthly figure. For our purposes we are going to assume that the price per square foot is the yearly price unless stated otherwise.
If you want a prime storefront with lots of exposure and traffic in a typical suburban area, you can expect to pay quite a bit more, even more than double, what it might cost you a few blocks away.
The “good spot” in a popular shopping area might be $25 per square foot, while a less swanky location could be $10 or $11.
So for 2,000 square foot of retail space, you’re looking at a potential rent cost difference of $30,000 per year ($2,500/month) in this example, based solely on location.
(Yearly price per sq. ft. x square feet ÷ 12 months = monthly rent)
The additional revenue generated by a prime retail location could make the extra cost of rent worth it, but it might not. You’ll need to examine your revenue and determine that for yourself (see below).
Be sure to ask about additional charges, insurance, and taxes over and above your commercial rent
IMPORTANT NOTE: Most commercial landlords will also charge you for “common area maintenance” (CAM), which is your portion of the cost for maintenance of the building, parking lot, etc.
They may also charge you for property tax, utilities, and your portion of the insurance premium they pay for the space.
In addition, for prime locations, a landlord may ask you to pay a percentage of your gross monthly revenue, or a percentage of revenue over a base amount (anything over $40,000 per month, for example).
These extra charges can potentially be hundreds or even thousands of dollars per month, so make sure you read the fine print carefully before you sign your commercial lease.
Examples of average cost for business rent per square foot by metro area
Even though you need to talk to a commercial realtor in your area to get actual figures, we can provide some idea of the average rent per square foot for several metro areas across the US.
Inc. has a helpful interactive commercial rent infographic that gives their 2017 data for some of the larger metro areas, so have a look around and see if your locale is listed.
Entrepreneur’s data is a couple of years older, but they published average commercial rent per square foot that can give you a ballpark idea, from the low $20s per square foot in Dallas and Atlanta, to around the $30s in Boston, Miami, LA, Seattle, Chicago, and Houston, climbing to the $50s for DC, and into the $60s and $70s for San Francisco and New York.
Note: Inc. cites numbers closer to $40/sq. ft. for New York City and San Francisco for retail space, which highlights the need to do your own research to get a more accurate idea of what business rent should be in your area.
However, if you are trying to decide whether it makes sense for you to move to your first (or a larger) rented business space, you really need to determine the “unit economics” of your small business.
Unit economics is a more helpful and accurate approach than “average business rent in my area”
Let’s look at a few theoretical examples to help illustrate the concept of unit economics:
- Let’s say you sell dinguses. One dingus costs you $5 to make (or purchase), stock, and sell. You sell the dingus for $10 retail. Looking at the unit economics, we see a 50% profit margin.
- We can also look at things in terms of cost of acquisition of a customer (CAC). Let’s suppose you have done the math and determined that for you to acquire one customer, it costs you $30, between product cost, marketing campaigns, employee expenses, and overhead. Your data shows the average customer typically spends $65 per visit. Looking at the unit economics in this example, your CAC is pretty high, but still positive.
- Next, let’s look at rent. We’ll assume one square foot of commercial space costs you $6 per month, and your average monthly gross revenue is $48,000. If your space is 1,000 square feet, that’s $6,000 a month in rent. Run the calculation ($6,000 monthly rent ÷ $48,000 monthly gross revenue) and your rent is 12.5% of your monthly gross income.
Let’s look more closely at this last example to tell if your small business rent would be prohibitively high based on your revenue and estimates of commercial rent in your area.
What percentage of a small business’s revenue should be rent?
To calculate this price to commercial rent ratio, we’ll look at some common “verticals” (types of businesses) and the typical rent levels of each. Keep in mind the following percentages are rough estimates and are not exact, but you might find them helpful in planning or benchmarking.
- Restaurants: Generally, a restaurant’s total occupancy cost (rent and additional fees for property taxes, insurances, etc.) should not exceed 6-10% of gross sales. (source)
- Hair salons: Combined commercial rent and property taxes for hair and nail salons range from 3% for a more remote location to 10% in a popular, well-established mall. (source)
- Law firms: Law offices may expect to spend 6-7% of gross revenue on rent, but this can climb as high as 15% for a prestigious address. (source and source)
- Retail stores: Retailers should aim to spend no more than 5-10% of gross annual sales on rent. (source)
- Auto shops: A typical full-service auto shop spends 12-13% of annual gross revenue on rent. (source)
The next thing we need to look at is your gross sales. How much money did your business make last year? What was the total sales for each month? Lots of small business owners know this figure very well, and if you don’t, you should.
Finally, you need to know (or estimate, based on your local research), your business’s square footage and rent cost.
Calculate how much your business should pay for rent
Gross sales ÷ square footage = sales per square foot
If your average monthly gross sales are $15,000 and you are considering renting a 2,000 square foot retail space, then your sales per square foot would be $7.50.
If monthly rent works out to be $2/square foot, divide your monthly rent per square foot by your sales per square foot to determine your percentage of income that would go toward rent.
2.00 ÷ 7.50 = 26.6%
If this number is higher than the average for your vertical—retail shops, in this example, at 5-10%—then you can be confident you would be paying too much in rent.
In our example, for every $7.50 in revenue that a square foot generates, $2.00—or more than one-fourth—would be going to the landlord. This is waaaay too much, according to the industry average.
However, if you think you can sell the same amount out of a 1,000 square foot space, then your rent would be around 13% of your gross revenue. This is still more than you should pay as a retailer, but much closer to the industry benchmark.
The calculation above shows the unit economics of your rent, broken down into the revenue and expense of a single square foot.
Why is this important? Because you can use the unit economics of your proposed space to decide whether you can afford to cover the cost of a business lease, or whether you should try to make your business more profitable first.
Use small business analytics software to learn everything about your business
If you’re planning to rent business space, you need to know everything about your revenue trends, customers, expenses, and more. Small business software can be a lifesaver here.
With Womply, you can input a few simple numbers and our business intelligence software will automatically calculate your rent-to-revenue ratio, revenue per square foot, revenue per employee, advertising-to-revenue ratio, and much more. Fill out the form below for a free demo.
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