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Go Ahead, Just Slap On Some Extra Words!
August 11, 2019 By Ira Meislik Leave a Comment
Is it masochistic to want to read court decisions? Given that most of society frowns upon masochists, it's probably good that very few of us who create transaction documents actually read any such decisions. [That's sarcasm.] It seems to us that what we do is engage in some "on the job training," but mostly we rely on the wisdom of our ancestors – those who wrote the documents we use as templates. If today's blog posting were a sermon then, fortunately, we'd be preaching to the choir. You, our readers, by being such and, almost certainly, by your reading of more erudite materials than these postings, are, unfortunately, the exception in our chosen field. Today, Ruminations salutes you.
We're not sure why we felt compelled to express those thoughts today. Perhaps it is because we were thinking about the mix of topics in our blog postings and why we use court decisions as to the central focus for about two-thirds of those postings. Our conclusion was that we learn more from mistakes than successes. In general, it is often difficult to find a mistake, and in our own work, very much more so. [That's not necessarily because our own work, and we're talking "collectively," couldn't be "better." It's just that we don't see errors in it where others do.] Almost all court decisions point out mistakes people have made. Reading such decisions is how we learn.
Now that we've justified our reliance on court decisions (at least, to ourselves), we will proceed with a story that comes out of a decision published by the Court of Appeals of Washington last December 17. It deals with operating covenants in a lease. Here's the story.
A supermarket signed a 20-year lease with four 5- year extension options. In addition to a fixed, but escalating, rent, the tenant was to pay percentage rent amounting to 2% of gross sales. Notably, the Lease had an "operating covenant" requiring the supermarket to "conduct and carry on 'its business' without interruption 'for the first 10 years of the lease.'" The lease also imposed minimum opening hours. Here's how the lease expressed those requirements:
(b) Operating Covenant. Tenant covenants to conduct and carry on Tenant's business in the Demised Premises without interruption (excluding any temporary period during which Tenant is closed for rebuilding or repairs following a casualty or condemnation or by reason of any Force Majeure Events) for the first ten (10) Lease Years of the Demised Term ("Tenant's Operating Covenant") and, for so long as Tenant's Operating Covenant is in effect, shall keep the Demised Premises open for business at a minimum during the days and hours designated from time to time by Landlord, which at the time of the execution of this Lease Landlord designates to be as follows:
Monday through Saturday 8:00 a.m. to 9:30 p.m. Sunday 9:00 a m. to 7:00 p.m.
The hours designed by Landlord are minimum hours. Tenant may remain open for additional hours in its sole discretion. In no event shall Tenant be required to be open for business between the hours of 11:00 p.m. and 7:00 a.m. This provision shall not apply if the Demised Premises are closed and the business of Tenant is temporarily discontinued therein on account of strikes, lockouts, casualty or similar causes beyond the reasonable control of Tenant. Tenant shall not be required to be open on Easter, Thanksgiving Day or Christmas Day. Tenant shall keep in stock on the Demised Premises a full and ample line of merchandise for the purpose of operating its business and shall maintain an adequate sales force.
It seems that the landlord didn't solely want to rely on the general default provisions of the lease if the tenant failed to abide by that "operating covenant." So, immediately following that text in the lease were the following two provisions:
(c) Liquidated Damages for Unauthorized Closure. If, after Tenant has initially opened for business at the Demised Premises, Tenant should fail to be open to the public on a fully-operational basis during the hours required under this Lease, and such failure continues for a period in excess of five (5) days after Landlord has notified Tenant in writing of such failure, Tenant shall pay to Landlord, for each hour or portion thereof that Tenant fails to open, One Hundred Dollars ($100.00), within one (1) month of Landlord's written request therefor; but in no event shall the charge described in this Section 7.2(c) exceed Five Thousand and no/100 Dollars ($5,000.00) in any twelve (12) month period during the Demised Term. As long as Tenant opens the Demised Premises for business within one (1) hour of the opening time otherwise required, Landlord agrees to waive two (2) charges described in this Section 7.2(c) during any twelve (12) month period during the Demised Term.
Notwithstanding anything herein to the contrary, Tenant's late opening or early closure shall not constitute a default under this Lease unless (i) Landlord provides written notice to Tenant of Tenant's late opening or early closure; and (ii) Tenant thereafter opens late or closes early three (3) times in a twelve (12) month period.
(d) Landlord Recapture Right. Notwithstanding the foregoing, if at any time after Tenant's Operating Covenant has expired, Tenant discontinues operation of its business in the Demised Premises for a period of six (6) consecutive months (excluding any temporary period during which Tenant is closed for rehabilitation, modernization or improvement of the Demised Premises, for rebuilding or repairs following a casualty or condemnation or by reason of any Force Majeure Events), Landlord thereafter shall have the right, at its sole option, to terminate this Lease upon advance written notice to Tenant ("Landlord's Termination Notice") given at any time prior to the date Tenant either (A) notifies Landlord in writing that it covenants to re-commence operation of its business in the Demised Premises within two (2) months, or (B) notifies Landlord in writing that it has entered into a binding lease assignment or sublease with an assignee or subtenant in accordance with this Lease who has covenanted to open for business in the Demised Premises within two (2) months. This Lease shall terminate one (1) month after Landlord gives Tenant Landlord's Termination Notice.
We feel obligated to apologize for setting forth all of that lease language in excruciating detail. [And, we'll apologize in advance for doing it again later.] What Ruminations wants to show is how even such detailed text can fail to accomplish what was desired. As we see it, this text was not "crafted" for this particular lease. It appears to have begun with a "boilerplate" operating covenant language that was then adjusted, at the tenant's insistence, to give the tenant some breathing room in the form of some grace periods and notice requirements. Even if we are wrong in our speculation about this lease, our thoughts certainly ring true in our own and in the experience of our readers.
Of course, the supermarket closed within the 10-year operating covenant period. Otherwise, we wouldn't be looking at a court decision focused on such a provision. Setting aside for now any thoughts we may have about the possibility that a judge might order the supermarket to reopen, we'll proceed to explain why the landlord could not avail itself of either specific remedy above, (c) or (d), and why it could only look to the more general default provisions in the lease dealing with breach of any kind of covenant or, more specifically, abandonment of the leased space.
If you look closely at remedy (c), you'll see that it doesn't take effect until the third time in any 12 month period where the tenant doesn't reopen after getting a notice to do so from the landlord. Here, the tenant was only on its first time. Outrageous? Yes, but that's what the provision says on its face. Could it have been negotiated differently? Could it have been written differently? Of course, but then we wouldn't have the benefit of learning from someone else's mistake. Whoever wrote subsection (c) failed to think it through. This provision, as written, was not directed to a complete closure of the leased space even though, in front of the court, the landlord asserted that it did.
So, what about the recapture provision? Did the landlord have the right to take the space back? No, it didn't. That right only comes to life after the 10- year operating covenant period. Was that what the landlord wanted? We don't know. After all, if the tenant "abandoned" its space or even if it only breached its operating covenant, it would be a default. And, such a default would give the landlord the remedy of either terminating the lease (whereupon the landlord could collect past due rent, reletting expenses, and attorneys fees) or continuing the lease and collecting rent, damages, and any other applicable payments "whether or not Tenant has vacated or abandoned" the leased space.
First, a digression: note that the tenant would be in breach of the lease if it abandoned the leased space, but not for merely vacating the space. Yet, the landlord's alternative remedy of keeping the lease in force and continuing to collect rent applies upon both an abandonment and vacation. There is a difference. Abandonment is not only vacating a space but has the additional element of an "intention to never return." That's why the two concepts are not synonymous. Here, at least in the first 10 years where the operating covenant applied, it wouldn't have mattered. The tenant could have expressed its "intent" to reopen at some nebulous time in the future, but it would still have been in default under the lease for failing to stay open. After the ten years, it would not have been a default to just close the store unless the absence of any intent to reopen could be shown. That's the real reason the recapture provision, (d) above, was included in the lease.
The lease also required the landlord to mitigate its damages and that included seeking a replacement tenant.
Now, we return to whether a court, looking at this situation and this lease, could order the supermarket to reopen. At this point, some readers will remember (if they haven't already done so) that in 2017 there were two court decisions ordering retailers to reopen stores that had closed in violation of their respective operating covenants. One set of stores was owned by a major coffee café chain and the other was this very same supermarket. The coffee chain settled its dispute with its landlord. The case we're describing today deals with the supermarket. It had been ordered to reopen within 14 days. It did, but appealed the order.
Before those two cases reared their heads near the end of 2017, we (and others much more versed in these things than we) thought that specifically ordering a store to reopen was a remedy limited to the rare circumstance where the award of money damages to a landlord would be wholly inadequate. At a minimum, that would be the really, really big anchor store at a shopping center. In neither the coffee chain situation nor here with this supermarket would that have been the case. Though the Washington state appellate court vacated the lower court's order that had forced the supermarket to reopen, it is a little dissatisfying that the appellate court did not explore the basic principles behind the appropriateness of a "reopen" order. That's because the lease, as written, gave it an "out." Here's the text of the remedy that the landlord chose, the one that allowed it to continue to collect rent (something its termination remedy did not). The landlord could:
[m]aintain Tenant's right to possession, in which case this Lease shall continue in effect whether or not Tenant has vacated or abandoned the Demised Premises. In such event Landlord shall be entitled to enforce all Landlord's rights and remedies under this Lease, including the right to recover the Rent, damages from Tenant's default or breach, and any other payments as they may become due hereunder, and to specifically enforce Tenant's obligations hereunder and obtain injunctive relief from further defaults and breaches, and shall be entitled to enter the Demised Premises for the purpose of curing Tenant's failure to observe or perform any of the other covenants, conditions or provisions of this Lease to be observed or performed by Tenant, and in such case, Tenant shall pay the entire cost thereof as Additional Rent within one (1) month after receipt of an invoice therefor from Landlord. [We've added the underlining.]
By the terms of the cited provision, the landlord had negotiated for a monetary remedy. Normally, this would preclude it from obtaining an order to force the tenant to reopen its store. But, didn't it also reserve the right to seek such injunctive relief? Look, however, at what the underlined text actually says. If applicable at all, such injunctive relief would only apply to "further defaults and breaches." And, what could those further defaults and breaches be? They would be a failure to pay rent, etc. A breach of the operating covenant could never occur if the store only closed once, not three times in a 12- month period.
OK, we'll stop the head spinning. Today, what we've learned once again is that words matter. Just slapping them down on paper or tacking on extra language to the end of existing provisions, words never intended when the lease was first written, may not be a smart approach to crafting a document. Assuming that a form agreement, such as a lease, was well-crafted to begin with, then when making changes, we need to always, always ask: "What if?" Studying court decisions can teach us about many of those "ifs."
[Gluttons wishing to indulge in this kind of activity can read the court's decision by clicking: HERE.]
Filed Under: Retail Leases, Retail Real Estate Law Tagged With: Agreements, Ambiguity, Contracts, Drafting, Landlords, leases, negotiation, retail real estate law, shopping centers, Tenants