Daily Development for Friday, October 24, 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; MISREPRESENTATION; DISCLAIMER: Even where trial court finds that landlord willfully  made or endorsed fraudulent representations to tenant in connection with commercial lease negotiations, such representations will not be actionable where lease contains a statement that tenant has not relied upon any statements by Landlord or its agents and a clause stating that the written lease is the entire agreement of the parties.

Prudential Ins. Co. of America v. Italian Cowboy Partners, Ltd., 2008 WL 2841848 (Tex.App.7/24/08)

Tenant was a successful and experienced restraunteur looking for a new location.  It commenced negotiations with landlord to acquire a site in landlord’s development.  The negotiations continued for five months, and both sides were represented by counsel, Tenant’s principles visited the site frequently.

After the lease was executed and tenant improvements commenced, the tenant’s employees noticed an occasional sewage smell.  Tenant complained to Landlord, but completed the tenant improvements and opened for business.  Landlord commenced efforts to resolve the intermittent sewage smell problem.   Later, a guest at the restaurant informed Tenant that the prior restaurant located at that location had experienced the same problem and had never been able to correct it.

After further efforts to resolve the problem were unsuccessful, and after Landlord informed the Tenant that Tenant would be responsible for any further remediation, Tenant closed the restaurant, stopped paying rent, and sued for fraud, negligent misrepresentation, breach of quiet enjoyment, and constructive eviction.  Landlord counterclaimed for damages.  The trial court found for Tenant and awarded damages in excess of $1 million, exemplary damages, and attorney’s fees.

On appeal: Held: Reversed.

This is a very rich case, with many issues of particular benefit to landlords, especially those in Texas.  We’ll focus on several of them here.  It should be noted, however, that, based on the litigation history of the parties, we may see a further appeal here.  Thus far Westlaw doesn’t show any action on appeal.

The first issue addresses on appeal was whether Tenant was barred from raising claims of fraud and negligent misrepresentation by disclaimers contained in the lease.

The trial court had found that the Landlord’s agent, in representations endorsed by Landlord, had stated during negotiations:

a.  The premises (although known to have been occupied by a prior restaurant) “was practically new and was problem-free.”

b.  No problems had been experienced with the Premises by the prior tenant;

c.  The building on the premises was a perfect restaurant site [and a bargain].

Although these might be construed as statements of opinion or “puffery,” the trial court concluded that they were intended as statements of fact based upon the agent’s experience in the industry and with the building. 

The Court of Appeals assumed these findings were binding, but concluded that they meant nothing because the Tenant, in the lease, had agreed that Landlord and its agents had not “made any representations or promises with respect to the Site, the Shopping Center or the Lease except as expressly set forth [in the lease].”  The lease further contained an integration clause stating that this was the entire agreement of the parties. 

Although the Court of Appeals acknowledged that a 1997 Texas Supreme Court case had found that prior authority in Texas was not “entirely consistent” on the question of disclaimer and merger clauses.  That case, however, had tried to establish a clearer precedent going forward.  But the case acknowledged that there are circumstances in which it would be inappropriate to give credit to a disclaimer, where the circumstances of the agreement suggested a lack of full understanding of the provision or otherwise indicated that the agreement was not fairly reached between thoughtful and knowledgeable parties.  But here, the opposite was true.  The parties knew what they were doing, and should be held to their agreement:

“Not every disclaimer of reliance or merger clause will bar a fraudulent inducement claim . . . However, when we review this record and consider the circumstances surrounding the formation of the lease, we find that the parties were represented by counsel as well as real estate brokers both before and during the negotiations leading up to the singing of the lease and guaranty.  The record also reveals that the parties to this arm’s length transaction were sophisticated in dealings involving the leasing and the operation of restaurant properties, that several drafts of the lease were circulated and that various changes were negotiated and made to both the lease and guarantee.”

Thus, the disclaimer was upheld.

Comment: Note that the argument here was “fraudulent inducement.”  Such a claim has been held to survive “as is” clauses and similar waivers of claims in other jurisdictions.  But many of those cases did not involve the balanced bargaining environment that we have here.  This case is certainly a major benefit to sophisticated parties who wish to be able to rely on their agreements.  It may also be a caution to sophisticated parties who are asked to enter into such agreements.  They may want to restrict the scope of a disclaimer to take into account deliberate fraud. 

As a practice guide, it would appear wise for practitioners to keep records of the bargaining history of a given deal and to make sure that there in fact is open and fair bargaining.  The editor has heard recently that some litigators are telling their transactional colleagues to dump all records of bargaining after a deal is done.  This is inconsistent with the way that the editor learned to practice, and he remains uncomfortable with the idea for a number of reasons.  This case adds one more. 

LANDLORD/TENANT; ENFORCEABILITY; RATIFICATION: Tenant’s act of insisting that lessor make certain repairs - which repairs tenant understood to be lessor’s obligation under lease - ratified the lease, such that lessee could not avoid lease on basis of mistake, even where the repairs in fact were not required by law.

Prudential Ins. Co. of America v. Italian Cowboy Partners, Ltd., 2008 WL 2841848 (Tex.App.7/24/08)

The basic facts of this case are reported under the heading: “Landlord/Tenant; Misrepresentation; Disclaimer.” 

It is difficult to know exactly why the appeals court took up the issue of Tenant’s argument that it had a right to rescind the lease on the basis of mutual mistake.  Of course, since the lower court had found constructive eviction, Tenant didn’t need to rescind.  Perhaps, on remand in order to address the landlord’s damages claim, the appeals court found it helpful to deal in advance with Tenant’s rescission claim. 

The court tells us almost nothing specific about Tenant’s claim except that it was based upon “unilateral or mutual mistake.”   One assumes that the claim was based upon the same operative facts as the principle dispute - information about the sewer smell.  Here, apparently, Tenant is accepting the argument that there were no specific representations about sewer gas, but a general lack of information about the suitability of the premises for a restaurant.  (The court points out, by the way, that a subsequent Tenant, paying for it’s own repairs, fixed the sewer smell rather quickly.)

The court found that Tenant waived its claim when it pressed what it saw to be its rights under the lease and insisted that Landlord repair the sewer gas smell.  In another part of the opinion, the court found that the likely source of the smell was not structural, and within that portion of the premises as to which Tenant assumed responsibility for repairs.  Further, the court found that there was no “implied warranty of suitability” applicable here, as the allocation of repair responsibility to Tenant negated any implied warranty.  So, even though Landlord in fact had no duty to fix the problem under the lease, Tenant’s insistence that Landlord proceed to fix the problem, and Tenant’s occupancy for a number of months beyond that point, indicated that Tenant had chosen to operate under the Lease and could not later say that the presence of the sewer gas justified rescission.

Comment: Although somewhat special facts, the editor suspects that this notion of ratification of the lease, even based upon a misapprehension of its terms, will prove valuable in litigation for some landlord’s lawyer someplace, and might even prove useful to a tenant’s lawyer. 

Is it correct?  Why not?  Rescission is a pretty dramatic remedy, and where a party, instead of resorting to rescission, proceeds to continue with the lease and, in this case, receive landlord’s efforts to cure the problem and further occupies the operates on the premises, the tenant creates a situation where rescission doesn’t seem quite just. 

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