Co-Authored by IACC Board Member Frank J. Cerza, Esq., Partner, Louis Brisbois
As a result of the COVID-19 outbreak, commercial landlords and tenants find themselves in an unprecedented situation fraught with uncertainty. Government mandated business closures and wide spread shelter in place orders have caused substantial disruptions to both the economy and the way we live. Landlords and tenants are scrambling to reevaluate their respective obligations under their leases to assess risks and mitigate potential adverse consequences as a result of the coronavirus crisis. Some of the critical issues facing landlords and tenants are:
- Identifying lease provisions that have applicability to the COVID-19 crisis, such as force majeure, delay of performance, unavoidable delays, and compliance with laws provisions;
- Whether and the extent to which any lease provisions address excuse or delay of performance by either the landlord or the tenant;
- Assessing the impact of government-mandated store closures on the parties respective lease obligations;
- Assessing whether or not the obligation to pay rent or other charges continues during government-mandated store closures;
- Actions necessary and notices required or advisable to preserve legal rights under the lease;
- The importance of opening up and maintaining an ongoing dialogue between the parties to the lease as well as other stakeholders;
- Keeping abreast of the constantly changing legislative landscape in your decision-making process.
This alert focuses on certain lease provisions and legal doctrines that may impact the respective parties’ rights and obligations under commercial leases as a consequence of the current COVID-19 crisis.
Force majeure provisions in commercial leases generally provide for the suspension or excuse of a party’s performance of an obligation as a result of an unforeseeable event that is beyond that party’s control, such as the outbreak of war, strikes, natural disasters, and acts of God, provided the unforeseeable event is expressly articulated in the lease provision at the time of contracting as an enumerated event that could occur in the future. Force majeure derives from contract law, not common law, which means that the concept only applies if and to the extent stated in the lease.
At present, landlords and tenants are trying to determine if their respective obligations may be suspended or excused as a result of government-ordered or landlord-mandated store closures as a consequence of the COVID-19 outbreak (a “Mandatory Store Closure”). For example, if a party is prevented from being able to open its store on a certain date or finish store construction as a result of a Mandatory Store Closure, which is a covered event under the force majeure clause, the tenant’s performance would normally be suspended for the duration of the force majeure event and the tenant would be obligated to complete its performance under the lease after the cessation of the covered event.
With regard to the obligation to pay rent, landlords would contend that tenant’s obligation to pay rent would not be excused by a Mandatory Store Closure since the banks are still open and tenants can make wire transfers and pay their rent. Tenants on the other hand would argue no rent should be due during the Mandatory Store Closure since the tenant is not receiving the benefit of the bargain and cannot operate its retail store.
The answer, however, depends upon the express wording of the force majeure provision in the lease. Most modern force majeure clauses in commercial leases expressly exclude the suspension or abatement of rent as a tenant remedy during a covered force majeure event.
In cases where the lease agreement does not specifically list pandemics, outbreaks, and widespread infectious diseases as force majeure events, the parties may be forced to rely on catch-all provisions, such as “events or circumstances beyond a party’s control,” to invoke force majeure.
Impossibility of Performance and Frustration of Purpose
Where there is no force majeure clause in a lease or if the event is not a “covered event” under the existing force majeure provision, a party may still be able to invoke the legal doctrines of “impossibility of performance” or “frustration of purpose” to suspend or excuse their performance under certain circumstances.
Generally the doctrine of impossibility of performance excuses a party’s performance only when the subject matter of the contract or the means of performance have been destroyed or otherwise so fundamentally impaired so as to render performance objectively impossible. The impossibility must be the result of an unforeseen event that could not have been protected against in the contact. However, the financial difficulty or economic hardship of a tenant, even to the extent of insolvency or bankruptcy, does not establish impossibility sufficient to excuse performance of a contractual obligation.
The common law doctrine of frustration of purpose occurs when an unforeseen event either renders a contractual obligation impossible or substantially frustrates a party’s principal purpose in having entered into the contract in question. Commercial frustration as a defense to nonperformance of a contractual duty is applicable, even in the case of a lease.
At least one state, California, has recognized the principle of temporary impossibility which is akin to temporary impracticability of performance or frustration of purpose and usually suspends (but does not excuse) the obligation to perform during the time such “impossibility” exists. In those cases where a party has been successful in alleging temporary impossibility, the California courts have opined that impracticability of performance or frustration of purpose that is only temporary suspends the obligor’s duty to perform only while the impracticability or frustration exists but does not discharge that obligor’s duty or prevent that duty from arising, unless performance after the cessation of the impracticability or frustration would be “materially more burdensome” than had there been no impracticability or frustration. The determination of “materially more burdensome” status would naturally depend upon the facts and circumstances of each case.
The current situation with the COVID-19 crisis is fluid and no one knows how long or what impact it will have on the economy. Consequently, development of an early action plan by landlords and tenants that take into account lease provisions, the applicable law of the location of your store(s), governmental orders and practical solutions is crucial to navigating these uncharted waters.
The current COVID-19 crisis is presenting businesses with legal and commercial problems that are unprecedented. The issues are complicated and the situation is evolving rapidly. Lewis Brisbois has formed a COVID-19 Attorney Response Team for the specific purpose of addressing the needs of businesses that are facing issues arising from the COVID-19 outbreak. Lewis Brisbois’ Business Practices Group, members of which serve on the COVID-19 Attorney Response Team, has deep expertise in advising on issues concerning leases and contractual obligations. They regularly counsel their clients on interpreting existing contractual provisions, drafting new contracts, and litigating where necessary.