Daily Development for Thursday, January 17, 2008
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Husch Blackwell Sanders
Kansas City, Missouri

LANDLORD/TENANT; EXCULPATORY CLAUSE; GOOD FAITH AND FAIR DEALING:   Even in lease between major commercial parties, a clause limiting remedies  to equitable relief (excluding damages) for landlord's failure to review promptly proposed tenant improvement plans will not protect landlord from a damages claim based upon breach of good faith and fair dealing inextortionate demand for unwarranted fee to carry out the review. 

Bank of America Securities, LLC, v. Solow Building Co. II, LLC, 847 N.Y.S.2d 49 (12/4/07)

A lease for a substantial amount of space in a commercial office building in downtown Manhattan provided that the landlord had the right to review and approve in advance tenant's substantial proposed tenant improvements.  The lease provided that landlord could not unreasonably withhold its consent to proposed. It further provided that Landlord would approve or disapprove proposed alteration plans within 10 business days and that, upon substantial completion of the work, could recover its "actual out-of-pocket expenses reasonably incurred in connection with such Alterations.

The lease contained a relatively unusual clause limiting landlord's liability if landlord failed to approve the proposed improvements promptly or reasonably:

"Tenant hereby waives any claim against Landlord which Tenant may have based upon any assertion that Landlord has unreasonably withheld or unreasonably delayed any consent requested by Tenant, and Tenant agrees that its sole remedy shall be an action or proceeding to enforce any related provision or for specific performance, injunction or declaratory judgment or an arbitration proceeding."

Tenant has carried out over $215 million in tenant improvements.  The landlord demanded a $6 million fee (basically 3%) to review tenant improvements.  Tenant argued, no unreasonably, that this fee far exceededlandlord's out of pocket expenses reasonably incurred in reviewing the proposals.  Tenant refused to pay, and Landlord in response refused to consider any further proposed improvements. 

Landlord took the position that the refusal to pay was a breach justifying termination of the lease and refused to consider any further improvement proposals until Tenant paid the demanded fee. 

Tenant sued for declaratory relief and for damages it suffered by being unable to carry out any tenant improvements after the landlord refused to review any more proposed plans.  The sole issue covered by this appeal is the trial court's granting summary judgment on the damages claim. 

The Appellate Division panel reversed 3-2, with hot opinions on both sides.  The majority ruled that Tenant could go to trial to show that Landlord's actions were in bad faith. The dissent said that Landlord ought to be protected by the clause because, even if the demand for the $6 million fee had no basis in the lease, it was simply an effort to get money, not an exercise of bad faith, and because the clause gave tenant an adequate basis to address landlord's actions.

The majority opinion stated that, on the basis of public policy, courts will not enforce exculpatory clauses when the conduct of the party seeking protection of the clause is willful.  It grounded its opinion on precedent dealing with exculpatory clauses for negligence claims, noting that such clauses have not avoided liability where defendant's conduct waswillful or grossly negligent.  The court  viewed the Landlord's conduct here as willful.  Although the Tenant, in fact, had no alleged any tort theory, but only a breach of contract, and did not specifically alleged a breach of the implied duty of good faith and fair dealing, the majority opinion supplied that claim for the Tenant, stating that the use of the termsmalice or willful is not material to a plaintiff's claim when the facts as alleged show that the defendant acted in bad faith.  

The majority's response to the dissent's claim that Landlord's conduct should not enjoy the protection of the exculpatory clause was to call the dissent's analysisillogical, contrary to law, and predicated upon unwarranted findings of fact. 

The dissent, citing prior New York authority, argued that to find that an exculpatory clause will not protect a breach of contract deemed by the court to bewillful basically reads the clause right out the contract.  Breaches of contract are rarely accidental.  In the precedent case, the Court of Appeals had permitted a defendant to avoid liability under such a clause when it abandoned a software contract - in direct breach of its contract obligations.  The majority stated that defendant's failure to meet its contractual obligations in the precedent casewas an action squarely grounded in the defendant's contractual rights.  Here, however, the court stated that the Landlord'smisconduct extends well beyond a simple breach of the parties' agreement, seeking to impose upon Tenant a new contractual burden unrelated to the lease.  It characterized the Landlord's behavior as aclassic case of economic duress (another characterization not made by the Tenant in its pleadings.)

As indicated, the dissent poo-pooed the notion that Bank of America - the tenant, was intimidated by the Landlord's hardball ploy. 

[T]o the extent that, as [Tenant] maintains, the review fee is without an plausible basis in the lease, [Landlord's] demand for it is not likely to have intimidate a sophisticated party like [Tenant.] Indeed . . . a demand so unsupported by the lease would instill derision rather than fear.  An obvious popgun is not much of a threat or the weapon of choice for extortionists.

The dissent also notes that the lease obligated the Landlord to agree to expedited arbitration if, in the Tenant's view the Landlord's failure to consent to its proposals wasunreasonable.  In this connection, the lease reiterates that the arbitrator's award cannot include damages.

Comment 1: The dissent has it right on the policy.  Whether it is right on the precedent is for New York lawyers to resolve - but it appears to be right there also.  Sophisticated parties ought to be able to limit  remedies for breach of contract.  This is a different question from limiting tort remedies.  But when the contract language specifically targets the contractual duty in question, how can there be any argument as to what the parties intend?  Remember that we are not talking here about the claimed breach of contract, but only about the Landlord's refusal to continue to review and approve tenant improvement proposals unless it receives a three percent fee.  This is not tortious.  Not even the majority really contends otherwise. 

Comment 2: Some might argue that at some point a party's conduct is soegregious that any contractual waiver ought to go out the window.  But this gets us into the question of "just how egregious?" These were big boys. Tenant didn't have to waive its right to recover.  Contrary to the majority's contention, it wasn't faced with years of litigation.  It had an expedited arbitration remedy.  Further, undoubtedly an appropriate equitable remedy could be devised - appointment of some kind of receivership, for instance, to perform landlord's functions when landlord absolutely refuses. Or there could even be declaratory relief that tenant need no longer seek landlord's approval because of demonstrated failure by landlord to conduct reasonable and timely review.

Comment 3: As to the alleged breach of the separate covenant of good faith and fair dealing:  good faith duties do not and should not exist when the parties clearly contractually confer upon one another specific contract privileges - the "right to be unreasonable." If we don't abide by that standard, we invite the courts into retroactive review of every business decision that results in an unappealing loss for the plaintiff.

Things often look much more unreasonable in retrospect. Further, sophisticated business parties should be permitted to take hard positions in business. The best defense is a hard position back.

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