Daily Development for Thursday, June 7, 2001

 

By: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri
prandolph@cctr.umkc.edu

 

LANDLORD/TENANT; LANDLORD'S REMEDIES; DAMAGES; ACCELERATED RENT: Landlord may recover damages for accelerated rent which is calculated become due and payable upon construction of a building, even though the building is never constructed.

 

HealthSouth Rehabilitation Corp. v. Falcon Management Co.,2001 WL 410470 (Ala.4/20/01).

 

Falcon entered into an agreement to sublease property to HealthSouth. According to the sublease, within ninety (90) days of executing the agreement, HealthSouth was to deliver to Falcon plans and specifications for constructing a medical office building on the leased property. Falcon was to begin constructing the building once it received the plans. Because the property was unimproved as of the date HealthSouth and Falcon entered into the sublease, the sublease provided for two forms of rent: ground rent and improvements rent.  Although HealthSouth was immediately obligated to pay ground rent for the property, the sublease specified that improvements rent would not be due until construction of the medical building was complete.

 

The sublease contained an "acceleration rent" clause.  The court does not provide the text of that clause.  Reading between the lines, it appears that the clause required that a breaching tenant would be liable for the entire rent for the term of the sublease.

 

In August of 1995, a mutually chosen architect completed plans and specifications for a shell building, but Falcon claimed they were insufficient.  They were sufficient to indicate that the cost of construction would be some 45% higher than initially estimated, which caused a potential subsubtenant to refuse to sublease extra space in the building from HealthSouth.  HealthSouth then refused to continue the project until another subsubtenant could be found to sublease the extra space in the building.  Falcon then sued HealthSouth alleging that HealthSouth breached the sublease by failing to provide Falcon with the requisite plans and specifications.  The trial court instructed the jury that Falcon was entitled to the accelerated rent less any savings it realized by HealthSouth's default.  Of course, the savings included the cost of construction, but the court instructed the jury that HealthSouth was also entitled to expect that Falcon would mitigate its damages by attempting to relet, and that recovery would be reduced as a consequence of Falcon's failure to take reasonable efforts to relet.  Although Falcon claimed damages in excess of $7 million, the jury found damages in an amount of $2.2 million.  entered a judgement on a jury verdict in favor of Falcon in the amount of $2,228,727.  This amount, however,  included accelerated rent for the unbuilt building, and HealthSouth appealed.

 

The Alabama Supreme Court found that the damages awarded to Falcon were proper.  The Court noted that "Alabama law is well settled that the damages awarded in an action for breach of contract should be an amount sufficient to return the nonbreaching party to the position he would have occupied had the breach not occurred."

 

The court held Falcon could recover damages for rent based on the building, even though the building was never constructed, because it found that HealthSouth's failure to provide Falcon with proper plans and specifications prevented the construction of the building, and because the sublease agreement provided for the "acceleration of any and all rents upon default of the lessee."  The court concluded that awarding rent based on the building improvements to Falcon would serve "to place it in the position it would have occupied" had HealthSouth not breached the agreement.

 

Next, the court analyzed HealthSouth's argument that the trial court should have required Falcon to reduce its claim for future improvements rent to present value.  The court agreed with HealthSouth and explained that "[b]ecause our case law has consistently required that future damages be reduced to present value, it is fitting to require a lessor to reduce to present value any amount of rent recovered that would have been due at a future time."

 

Finally, the court analyzed HealthSouth's argument that the accelerated rent provision was not enforceable because it was a penalty.

 

The court noted that under Alabama law, accelerated rent clauses have been held valid.   The court then explained that "if an accelerated rent clause provides for a recovery that is approximately what the parties could have reasonably expected the lessor to suffer in the event of a breach, it is valid."   Thus, since Falcon anticipated the payment of rent during the term of the sublease, the accelerated rent clause (as modified by judicial requirement of duty to mitigate) was valid and enforceable under Alabama law.  In conclusion, the court affirmed the trial court's judgment on liability and remanded the case so that the trial court could set the present value of the accelerated rent awarded to Falcon.

 

 

The court upheld the jury's determination to reduce the damages to present value.

 

Justice Woodall dissenting,  noted that the sublease provided "improvements rent shall commence when the construction of the improvements is completed to the extent that the improvements are ready for occupancy...." , while the acceleration provision stated:  "Lessor shall have the right to immediately declare the balance of any and all rent due and payable under the lease term immediately due and payable."  Since the improvements were never constructed, Justice Woodall concluded no improvements rent was ever due, and could thus not be accelerated.

 

Comment 1: The case illustrates the normal contract law approach to damages where a landlord seeks to collect accelerated rent due to a clause in the lease.  Contract law will not permit a penalty, and, since the landlord gets the property back and can relet it (the court found that the vacant land still had substantial value), the landlord must mitigate or be charged with a deduction based upon the market value of the property. 

 

Comment 2:   The editor is puzzled as to why the question of reduction to present value is a question of fact for the jury.  Shouldn't this be a rule of law?  Hmmmm.

 

Comment 3: Of course, if the dissent is correct in its interpretation of the lease, then damages for the unbuilt building should not have been collected.  But the dissent's argument was not based upon any principle of damages, but only upon the contract language.  Although the facts are unusual, it is nevertheless accurate to say that the tenant's breach prevented the building from being built, and thus prevented the landlord from realizing its contractedfor return.  The court points out that the tenant (perhaps foolishly) agreed to pay rent based upon the cost of construction, whatever that cost might be.  It defaulted on this agreement.

The landlord suffered measurable lost profits as a consequence.  End of story.

Readers are urged to respond, comment, and argue with the daily development or the editor's comments about it.

Items in the Daily Development section generally are extracted from the Quarterly Report on Developments in Real Estate Law, published by the ABA Section on Real Property, Probate & Trust Law. Subscriptions to the Quarterly Report are available to Section members only. The cost is nominal. For the last six years, these Reports have been collated, updated, indexed and bound into an Annual Survey of Developments in Real Estate Law, volumes 1‑6, published by the ABA Press. The Annual Survey volumes are available for sale to the public. For the Report or the Survey, contact Maria Tabor at the ABA. (312) 988 5590 or mtabor@staff.abanet.org

Items reported here and in the ABA publications are for general information purposes only and should not be relied upon in the course of representation or in the forming of decisions in legal matters. The same is true of all commentary provided by contributors to the DIRT list. Accuracy of data and opinions expressed are the sole responsibility of the DIRT editor and are in no sense the publication of the ABA.

Parties posting messages to DIRT are posting to a source that is readily accessible by members of the general public, and should take that fact into account in evaluating confidentiality issues.

ABOUT DIRT:

DIRT is an Internet discussion group for serious real estate professionals. Message volume varies, but commonly runs 5 ‑ 10 messages per workday.

Daily Developments are posted every workday.

To subscribe to Dirt, send an e-mail to:

To:

ListServ@listserv.umkc.edu

Subject:

[Does not matter]

Text in body of message

Subscribe Dirt [your name]

To cancel your subscription to Dirt, send an e-mail to:

To:

ListServ@listserv.umkc.edu

Subject:

[Does not matter]

Text in body of message

Signoff Dirt

For information on other commands, send the message Help to the listserv address.

DIRT has an alternate, more extensive coverage that includes not only commercial and general real estate matters but also focuses specifically upon residential real estate matters. Because real estate brokers generally find this service more valuable, it is named "Brokerdirt." But residential specialist attorneys, title insurers, lenders and others interested in the residential market will want to subscribe to this alternative list. If you subscribe to Brokerdirt, it is not necessary also to subscribe to DIRT, as Brokerdirt carries all DIRT traffic in addition to the residential discussions.

To subscribe to Brokerdirt, send an e-mail to:

To:

ListServ@listserv.umkc.edu

Subject:

[Does not matter]

Text in body of message

Subscribe Brokerdirt [your name]

To cancel your subscription to Brokerdirt, send an e-mail to:

To:

ListServ@listserv.umkc.edu

Subject:

[Does not matter]

Text in body of message

Signoff Brokerdirt

DIRT is a service of the American Bar Association Section on Real Property, Probate & Trust Law and the University of Missouri, Kansas City, School of Law. Daily Developments are copyrighted by Patrick A. Randolph, Jr., Professor of Law, UMKC School of Law, but Professor Randolph grants permission for copying or distribution of Daily Developments for educational purposes, including professional continuing education, provided that no charge is imposed for such distribution and that appropriate credit is given to Professor Randolph, DIRT, and its sponsors.

DIRT has a WebPage at: http://www.umkc.edu/dirt/