VOL. 23 ISSUE 1 SPRING 2003 International Council of Shopping Centers, Inc. 1221 Avenue of the Americas, 41st floor, New York, NY 10020-1099 Phone (646) 728-3800

I In Depth Shopping Center Bound to Negotiate? ______2 The DestiNY USA Litigation: Government’s Right to Extinguish Contract Terms Through Eminent Domain __6 Legal Update Managing “Free Speech”at the Mall ______10 Public Access Case in Second Circuit Contains Principles The legal journal of the shopping center industry Helpful to Shopping Centers______14 Striking a Balance When Negotiating Exclusive Use Provisions ______16

Of Interest Articles ______20 Cases______20 Arbitration ______20 Assignment/Sublet______20 Bankruptcy______20 Commissions ______21 Contracts ______21 Covenants ______21 Eminent Domain ______21 Environment ______21 Guarantees______21 Insurance ______22 Landlord & Tenant ______22 Leases ______22 Options ______24 Taxation______24 Tort Liability ______24 Zoning______25

Legislation______25

From Canada I In Depth Letters of Credit as Security for Tenants’ Performance of Lease Obligations in Common Law Provinces of Canada ______24 Judicial/Legislative Developments ______28

Copyright © 2003 International Council of Shopping Centers, Inc. All rights reserved. Protected under Universal Copyright Convention and other international conventions. This publication may not be reproduced in whole or in part, in any form, without written permission from the International Council of Shopping Centers. Printed in the U.S.A. In Depth

Bound to Negotiate?

Joshua Stein* Latham & Watkins LLP New York, N.Y.

When landlords, tenants, buyers or sellers begin to negotiate any real estate lease, loan or contract, they often first try to work out a term sheet or a letter of intent. This way, they can assure that “everyone’s on the same page” before they move on to more full-blown––and more expensive––negotiation of actual deal documents. Can a term sheet or a letter of intent create legal liability? Most real estate people and their lawyers assume not. They assume that these documents are just a way to write down concepts to help the parties focus and decide whether they should try to proceed to a “deal.” A recent California Court of Appeals case, Copeland v. Baskin Robbins,(1) suggests that the commonly held view of these documents may be wrong, or at least over-simplistic. In Copeland, the court decided that when a seller entered into a letter of intent, the seller became legally bound at least to negotiate with the buyer. The seller could not arbitrarily cut off discussions. When the seller did change its mind about the whole deal, the court held that the seller had breached its promise to negoti- ate, and the buyer could recover damages. Traditionally, term sheets and letters of intent were regarded as unenforceable “agreements to agree.” One reason is that a court is ill-equipped to determine what type of performance an “agreement to agree” would require. Would the parties be forced to agree on certain terms? What if this were impossible? What if a party chose not to agree to any price or terms that the other party offered? Also, traditional contract law requires that all essential terms of a contract be set before a contract is formed. If parties promise to agree in the future, there is, as a general rule, no legal obligation until the final terms are agreed upon. So what happened in Copeland? The negotiations began when Copeland wanted to buy an ice cream plant that Baskin Robbins wanted to close. As in any typical real estate negotiation, Baskin Robbins sent a letter of intent to Copeland. The letter contained details its executives had approved for the potential deal, but also included a statement that Baskin Robbins would enter into a “co-packing agree- ment” for the factory “subject to a separate co-packing agreement and negotiated pricing.”(2) Baskin Robbins asked Copeland to sign and return a copy of the letter and send a check if the terms were acceptable. Baskin Robbins also said it should be able to coordinate a closing within 30 days. After signing the letter, Copeland and Baskin Robbins started to nego- tiate a co-packing agreement, including issues of price, flavors, quality standards, risk allocations and trademark protection. After 60 days of negotiations, Baskin Robbins cut off discussions and returned Copeland’s deposit for reasons it said were “strategic.”(3) Copeland sued, claiming Baskin Robbins had breached an agreement to negotiate a co-packing agreement. California’s Second District Court of Appeals decided that, under these facts, Copeland could recover damages for breach of a contract to negotiate an agreement.(4) The court started by acknowledging that an “agreement to agree” is not enough to constitute an enforceable contract. The court said, though, that “these difficulties could be overcome in an appropriate case.”(5) It distinguished between a contract to negotiate in good faith and an agreement actually to agree to an ultimate deal. The court decided that an agreement to negotiate can be a contract in its own right, even if the ultimate deal is not yet enforceable.(6) What, then, is an enforceable agreement to negotiate? When does an unenforceable “agreement to agree” become an enforceable “agreement to negotiate”? In Copeland, the court avoided this question, instead simply finding a contract, based

Shopping Center Legal Update is published by the Legal Department of the International Council of Shopping Centers, Inc., 1221 Avenue of the Americas, 41st floor, New York, New York, 10020-1099; Gary Rappaport, Chairman; Michael P. Kercheval, President; Melina Spadone, General Counsel. This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is distributed with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional services. If legal advice or other expert assistance is required, the services of a competent professional should be sought. Editor-in-Chief: Stephanie McEvily, Esq. Spring Issue Editors: Daniel K. Wright II, Arter & Hadden LLP, Cleveland, OH; Keith Wilson, Hartman, Simons, Spielman & Wood, Atlanta, GA; Steve Snively, Holland & Knight, LLP, Orlando, FL; William Crowe, Mayo, Gilligan & Zito, Wethersfield, CT; Joshua Stein, Latham & Watkins, New York, NY; Doug Ulene, Willkie Farr & Gallagher, New York, NY; Thomas Barbuti, Whiteford, Taylor & Preston, LLP, Baltimore, MD. Summer Issue Editors: Russell Workman, Snell and Willmer, Salt Lake City, UT; Gary Goodman, Sonnenschein Nath & Rosenthal, New York, NY; Karen L. Stephenson, Katten Muchin Zavis, Los Angeles, CA; Elizabeth Belkin, Piper, Marbury, Rudnick & Wolfe, Chicago, IL; Gregory Pressman, Schulte Roth & Zabel, New York, NY; Eric Rapkin, Ackerman, Senterfitt & Edison, Ft. Lauderdale, FL; Dana Sack, Sack, Miller and Rosendin, LLP, Oakland, CA. Fall/Winter Issue Editors: Marilyn Sticklor, Goulston & Storrs, Boston, MA; David Huprich, Thompson Hine, LLP, Cincinnati, OH; Marty Denis, Barlow, Kobata & Denis, Chicago, IL; Mark De Pillis, Ballard, Spahr, Andrews & Ingersoll, LLP, Philadelphia, PA; Sean Ervin, Lewis, Rice & Fingersh, Kansas City, MO; Gary Glick, Cox, Castle & Nicholson, LLP, Los Angeles, CA; Gary Kessler, Kessler Collins, Dallas, TX. Canadian Editors: Fredric L. Carsley, Mendelsohn, Montreal, Quebec; Murray F. Tait, T&T Properties, Alberta, Canada; Natalie Vukovich, Daoust, Vukovich, Baker-Sigal, Banka, Toronto, Ontario.

2 apparently on the court’s stated desire to “protect[] parties to a business negotiation from bad faith practices by their negoti- ating partners.”(7) The court concluded that the business world needed this protection because negotiations are more com- plex today (as opposed to “the days when our ancestors sat around a fire and bargained for the exchange of stone axes for bear hides”).(8) Negotiations take longer because more information takes longer to flow between the parties.(9) In the court’s opinion, this costly process requires assurance that one party is not wasting the other’s time by dragging its feet or changing its mind.(10) The fact is, however, that one of the usual purposes of any negotiation is to let each party pre- serve its ability to drag its feet, change its mind, sort through the issues and take the time to decide on terms that, considered as a whole, meet that party’s needs. Until all of that has happened, does either party really expect to incur liability if it changes its mind and decides not to go forward? Until final documents have been signed, doesn’t any party to a business negotiation assume the risk of wasting time on futile discussions? The court seemed sympathetic that Copeland had spent time and money with nothing to show for it. The court even used an ice cream simile to describe Copeland’s “dilemma”: “ ‘Many millions of dollars’ in anticipated profits had melted away like so much banana ripple ice cream on a hot summer day.”(11) Though the court said Baskin Robbins had breached an agreement to negotiate, the court seemed influenced by the negative result for Copeland––the fact that they never achieved agreement or the profits that might have followed. Because the Copeland court did not explain exactly what an enforceable agreement to negotiate is (as opposed to an unenforceable “agreement to agree”), anyone who wants to practice “safe negotiation” must look to other cases that have resolved similar disputes. The Copeland court described one such case, Channel Home Centers v. Grossman,(12) as “illustrative.”(13) In Channel Home Centers, a shopping center lease dispute decided under Pennsylvania law, the court found a letter of intent enforceable––as a binding agreement to negotiate––because it met the requirements of a contract under Pennsylvania law(14):

1. The parties manifested an intent to be bound by its terms; 2. The terms were sufficiently definite to be specifically enforced; and 3. Valuable consideration was exchanged by both sides.(15)

In the Channel Home Centers case, the letter agreement spelled out fundamental business terms of the lease. It went on to say: “an Agreement of Lease, prepared by Tenant, but in a mutually satisfactory form, is to be executed by the owner of the Shopping Center.” The letter agreement said the deal was subject to approval by Channel Home Centers’ parent company and its retail group, and to Channel Home Centers’ approval of the landlord’s title. Finally, it stated (among other things): “Any expenditure by the Landlord or Tenant prior to execution of the Agreement of Lease shall be at the party’s own risk.”(16) Even with these “outs” in the letter, the court found that the parties intended to be bound to negotiate because the letter of intent was signed by both parties, and both parties took subsequent steps such as preparing a draft lease, planning for representatives to visit the lease property, developing marketing plans and applying for a zoning permit.(17) The court also looked for, and found, definite, specific promises that could be enforced––in this case, the landlord’s agree- ment to withdraw the store from the rental market and only negotiate this particular transaction to completion.(18) (The promise to take the store off the market, alone, did seem specific and fully thought through. If the case merely enforced that promise for some reasonable period of time, it would seem unobjectionable. But the case went further, and found an enforce- able agreement to negotiate.) Finally, the court looked for, and found, valuable consideration passing between the parties. The landlord agreed to withdraw the property from the rental market, which assured that the property would stay available for the potential tenant, and the potential tenant signed the letter of intent, which the landlord could use to obtain a loan.(19) Each circumstance the Channel Home Centers court relied upon is a common element early in the negotiation process of almost any major commercial lease. If asked, few businesspeople would expect to be legally bound at that stage (other than, perhaps, to keep the property off the market for some decent interval). More likely, they would regard the letter of intent––even a detailed letter of intent––as a prelude to a deal but not legally binding. If Copeland and Channel Home Centers imply that a party can be legally obligated to negotiate, what does that mean? How does it vary from an unenforceable agreement to agree? How would a party fulfill or perform an agreement to negotiate? Would a party have to go through the charade of quoting a very unattractive price in order to meet this obligation? Or would that be a breach as well? Would there be a duty to consider the other side’s proposals, as courts have sometimes found in cases where parties with consent rights have incurred liability for refusing even to consider the other party’s proposals? How will a party prove that he or she has considered a proposal? And just how hard and how closely must each party consider the other side’s proposals? Whenever the parties try to negotiate but cannot reach a final deal, the Copeland case now invites the courts to wade through the sad history and try to figure out who failed to live up to their agreement to nego- tiate. This is hardly what businesspeople expect when they sign a letter of intent. The Copeland court said that we should all just rely on the common sense of jurors to figure out whether a party negotiat- ed in good faith. This is a question of fact, the court said. A jury can decide, through “experience and common sense,” whether parties have negotiated in good faith.(20) The court even tried to respond to the concern that ordinary jurors do not usually negotiate large corporate contracts: “While few of us will ever negotiate a multi-million dollar contract, each of us participates in some form of negotiation nearly every day.”(21) The notion of having a jury assess whether a businessperson performed under an “agreement to negotiate”––and, if not, how much the defendant owes––will terrify most businesspeo- Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 3 ple. Perhaps letters of intent now need to contain not only the protective language suggested later in this article, but also a jury trial waiver. In the real world outside the courtroom, part of the cost and risk of doing business consists of the possibility that some apparent “deals” will ultimately turn out not to be “deals,” even if they looked promising early in the process. Disappointed dealmakers usually just move on to the next deal. If Copeland turns out to be good law, though, disappointed dealmakers may find the courts to be a more attractive next stop, with judges serving as all-purpose problem-solvers for every possible problem––a trend by no means limited to the vicissitudes of ice cream contract negotiations. In its apparent desire to “do the right thing” to solve Copeland’s problem and protect Copeland from the risk and cost of “losing the deal,” the Copeland court ultimately created more uncertainty, more issues and more paper. Decisions like this one simply force businesspeople and their lawyers to add new protective language to term sheets and letters of intent. For example, every letter of intent or term sheet should now probably contain language like the following: “This letter of intent [term sheet] (the ”Preliminary Document") is for discussion only. Neither party is under any obliga- tion, including any obligation to negotiate the proposed transaction. Each party may discontinue discussions at any time for any reason or no reason. The Deposit merely constitutes evidence of good faith and intention to pursue dis- cussions. It does not constitute consideration for any obligation of any party. No party shall be bound in any way unless and until final documents have been agreed upon, executed, and exchanged. Each party shall bear its own expenses and proceed at its own risk.”(22) Beyond relying on a disclaimer, parties should avoid using any language that might be construed as a promise to negoti- ate or to reach an agreement. For example, the Channel Home Centers letter of intent said, “you will . . . only negotiate the above described leasing transaction to completion.” The Copeland letter said, “[w]e should be able to coordinate a closing [within] thirty days thereafter.” In each case, it would have been safer to say that the parties expected that they “may” reach an agreement. Finally, if a term sheet or letter of intent is truly not intended to be legally binding, why sign it? Why not just circulate it for review and consideration as one might an agenda for a meeting? This might help eliminate any uncertainty at all about the legally binding effect of the document. As the only piece of good news in the Copeland case, the court limited Copeland’s remedy to “reliance” damages––any losses that Copeland suffered as a result of “relying” on Baskin Robbins’s promises.(23) These would include out-of-pocket costs of negotiations and maybe the cost of lost opportunities. They would not include the profits Copeland might have real- ized from the deal, partly because no court could determine what deal the parties “should have” made and how much it “would have” been worth.(24) The court ultimately decided that Copeland had suffered no reliance damages and, therefore, awarded nothing.(25) Even though Baskin Robbins got the last laugh, it was an expensive last laugh. Anyone negotiating a letter of intent needs to pay attention to this case. It means that businesspeople and their lawyers need to stay alert for potential legal liability––and write their documentation accordingly––at the early “negotiating” stages, just as much as they do when they think they have reached the final stage of contract formation. Once again, when the courts get creative, documents get longer.

*Joshua Stein is a real estate and finance partner in the New York office of Latham & Watkins LLP, a member of the American College of Real Estate Lawyers, chair of the Practising Law Institute’s two-day seminar on commercial real estate finance, and author of A Practical Guide to Real Estate Practice (ALI-ABA 2001) and New York Commercial Mortgage Transactions (Aspen Law & Business 2002). The author acknowledges––with thanks––editorial and research assistance from Sarah Canzoniero, a 2002 summer associate at Latham & Watkins LLP. Copyright © 2003 Joshua Stein ([email protected]).

(1) 117 Cal. Rptr. 2d 875 (2002). (2) Id. at 878. (3) Id. at 877–78. Mere delay might have been a factor, too. The letter of intent projected a closing in 30 days. When the parties were still going back and forth 60 days later, might Baskin Robbins reasonably have concluded that the deal was not really going anywhere? (4) Id. at 880. (5) Id. (6) Id. (7) Id. at 884. (8) Id. (9) Id. at 884–85 (“[Deals] are the product of a gradual process in which agreements are reached piecemeal on a variety of issues in a series of face-to-face meetings, telephone calls, e-mails and letters involving corporate officers, lawyers, bankers, accountants, architects, engineers and others.”) (10) See Id. at 885. (11) Id. at 879. (12) 795 F.2d 291 (3d Cir. 1986). (13) Copeland v. Baskin Robbins, 117 Cal. Rptr. 2d 875, 882 (2002). (14) Channel Home Centers, 795 F.2d at 299. Not long after this case was decided, Channel Home Centers was in bankruptcy, unable to replicate in the mar- ketplace the success it had achieved in court. (15) Id. at 298–99. (16) Id. at 293, fn. 2. (17) Id. at 299–300.

4 (18) Id. at 300. (19) Id. (20) Copeland, 117 Cal. Rptr. 2d at 883–84. (21) Id. The proposition that everyday consumer negotiations are not all that different from lengthy and complex business negotiations somewhat under- cuts the court’s belief that modern business negotiations are so fundamentally different from historical contract negotiations that they merit liability for breach of an “agreement to negotiate.” (22) One might want to go a step further and have a disclosure like this appear in all capital letters, and perhaps even have the parties initial it separately. California seems to love such measures. At the opposite end of the spectrum, if the parties do intend to be legally bound by only certain provisions in a term sheet or letter of intent, they can say so. For example, in one recent transaction the author’s client “lost” one lease and, therefore, requested that the term sheet with the next landlord provide (as a binding obligation) that if either party terminated negotiations that party would reimburse the other’s attorney fees. To no great surprise (in retrospect), the author’s client was the party that ultimately decided to walk away from the second transaction. (23) Id. at 885. (24) Id. (25) Id. at 886. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 5 The DestiNY USA Litigation: Government’s Right to Extinguish Contract Terms Through Eminent Domain

Stephon B. Bagne* Kupelian Ormond & Magy, P.C. Southfield, Mich.

Introduction A condemnation case winding its way through the New York courts pits a local development authority acting in concert with a shopping center developer in a battle against several major retail tenants. The local development authority owns a shop- ping center location in fee simple and leases it to a private developer. The private developer/landlord entered into a series of subleases with the retail operators in the shopping center. The Appellate Division of the Supreme Court of the State of New York authorized a local development agency to acquire and extinguish, through eminent domain, specific leasehold rights that would have allowed tenants to review and approve changes in the layout, design, parking and traffic circulation of the shopping center. The agency deemed such condemnation necessary to facilitate construction of an expanded development called DestiNY USA. The Appellate Division rejected the tenants’ arguments that the taking was an improper extension of government powers because it involved the taking of purely contractual rather than real property rights and violated the Contract Clause of the U.S. Constitution. The Court of Appeals has declined to review the Appellate Division decision, and the tenants are evaluating pursuing potential federal remedies. If the local development agency ultimately prevails in the DestiNY USA litigation, both landlords and tenants should be conscious of the potential implications of the expansion of government power to interfere with and disturb contractual rights and obligations that resulted from arms-length bargaining. While in the DestiNY USA litigation, the government entity is act- ing in concert with the developer/landlord; both landlords and tenants should be aware of the possible danger to their con- tract rights from the exercise of the power of eminent domain. In addition, while the obligation of the government agency to pay just compensation has been recognized, the extent to which the compensation required will be just or realistically reflect the actual damages caused has yet to be determined.

The Project The Syracuse Industrial Development Agency (“SIDA”) is working in conjunction with The Pyramid Companies and Carousel Center, L.P. (collectively, “Pyramid”)(1) to create DestiNY USA. DestiNY USA is planned as a mix of traditional retail space, hotels, and other recreational or entertainment type uses, including an aquarium. SIDA hopes that DestiNY USA will become a major tourist attraction in Upstate New York. In the 1980s, Pyramid proposed constructing Carousel Center, a 1.5 million square foot (sf) shopping center and tourist destination. SIDA utilized its eminent domain power to obtain the property necessary to construct Carousel Center, which had been previously occupied by heavy industrial uses. SIDA owns the Carousel Center and permits Pyramid to use and occupy it, paying all expenses and collecting all revenue until 2007 when SIDA will convey Carousel Center to Pyramid. Shortly after the completion of Carousel Center, J.C. Penney Corporation, Inc. (“J.C. Penney’s”), Kaufmann’s Carousel, Inc. (“Kaufmann’s”) and Lord & Taylor Carousel, Inc. (“Lord & Taylor”) (collectively, “Tenants”) became major tenants of Carousel Center. As part of their subleases, the Tenants obtained various rights and interests with respect to: “(1) changes in the layout of Carousel Center, including its design and configuration, and the addition or withdrawal of any property comprising Carousel Center; (2) the parking and traffic circulation at Carousel Center; (3) the ease- ments in and through Carousel Center, including those for parking, use of the common areas, access and ring roads, utility facilities, and accent and exterior lighting; (4) the design, phasing, and timing of all construction of improve- ments at Carousel Center; (5) the obligations of the other department stores in Carousel Center, the permitted and pro- hibited uses of the property, and the leasing of the available retail store space; and (6) the operation and management of Carousel Center under the Carousel Center name.” In the Matter of Kaufmann’s Carousel, Inc., et al. v SIDA, et al, 750 N.Y.S.2d 212, 216 (4th Dept. 2002). Kaufmann’s and Lord & Taylor also obtained $1 options to purchase their building pad and surrounding parking. Kaufmann’s and Lord & Taylor obtained additional contractual promises directly from SIDA through non-disturbance agreements that were executed concurrently with their respective subleases with Pyramid. In the non-disturbance agree- ments, SIDA promised not to disturb or in any way adversely affect the possession and other rights of Kaufmann’s and Lord & Taylor under their subleases with Pyramid.

6 Following the development of Carousel Center, Pyramid and SIDA began working together to construct a new 850,000 sf retail development called Carousel Landing. Carousel Landing was proposed for a location across the street from Carousel Center. In late 1997, Pyramid proposed to expand, reconfigure and connect Carousel Center with Carousel Landing, creating DestiNY USA.

The Procedural Posture and Substantive Rulings of the Appellate Division On April 30, 2002, SIDA set forth its Resolution and Determination of Findings pursuant to New York Eminent Domain Procedure Law (“EDPL”) §204. The Tenants challenged the Resolution and Determination of Findings of SIDA. Pursuant to EDPL, such challenges are filed directly with the New York Supreme Court Appellate Division.(2) The tenants challenged SIDA’s determination of necessity on two important substantive grounds and a number of other procedural grounds that are not relevant to this discussion. First, the Tenants asserted that SIDA was attempting to acquire contractual rights that were not interests in real property. GML §858 only authorized SIDA to acquire “real property or rights or easements therein.” The Tenants argued that SIDA was not authorized to acquire independently what the Tenants asserted were actually contract rights because an eminent domain taking generally relates to a permanent physical occupation of property or, at a minimum, a real acquisition of a real property interest. The Tenants stressed the fact that SIDA already held fee simple ownership of the property that they occu- pied pursuant to their subleases with Pyramid. Second, the Tenants argued that SIDA’s proposed taking was an unconstitutional impairment of contract that violated Article I, §10, of the U.S. Constitution, which provides in relevant part that “[n]o State shall . . . pass any . . . Laws impairing the Obligation of Contracts . . . .” In Kaufmann’s Carousel, the Appellate Division rejected the arguments made by the Tenants, and upheld SIDA’s determi- nation of necessity. The Appellate Division relied upon EDPL 103(f), which defines real property as including “all land and improvements, . . . all easements and hereditaments, corporeal or incorporeal, and every estate, interest and right, legal or equitable, in lands or water, and right, interest, privilege, easement and franchise relating to the same, including terms for years and liens by way of mortgage and otherwise.” The Appellate Division specifically found that the statute is “broad enough to encompass an interest in real property such as a leasehold interest.” Id., at 218. The opinion did not substantively analyze the Tenants’ arguments that the rights being obtained were mere contract rights arising in conjunction with the real property interests conveyed in the subleases. Similarly, the Appellate Division rejected the petitioner’s claim that SIDA’s acquisition of contract rights abrogated the Contract Clause of the U.S. Constitution. The court held that it is “well established that ‘the exercise of powers that are inher- ent in and essential to the effective operation of government such as eminent domain, cannot be contracted away and are not subject to the Contract Clause.’” Id., at 221. J.C. Penney’s filed a petition with the Court of Appeals seeking appeal by right because J.C. Penney’s contended that Kaufmann’s Carousel implicates important constitutional issues. Kaufmann’s and Lord & Taylor filed a petition seeking leave to appeal from the Court of Appeals on a discretionary basis. The Court of Appeals has determined that it will not review the Appellate Division decision, either by right or by leave. The Tenants are evaluating any potential federal remedies that may exist because the litigation implicates the U.S. Constitution.

The Effect of the Destiny USA Litigation Upon the Shopping Center Community The shopping center community should monitor the DestiNY USA litigation closely for several reasons. Expanding govern- ment’s eminent domain rights may facilitate future development. However, allowing government to selectively acquire and extinguish discreet contractual rights through condemnation overturns positions obtained by parties following substantial bargaining. While SIDA is working on behalf of the landlord in the DestiNY USA litigation, the roles could easily be reversed to the detriment of landlords and developers. Finally, while the Appellate Division’s decision recognizes significant addition- al governmental rights to acquire property and contractual interests, the government’s responsibility to pay realistic just com- pensation may not be expanded commensurately. While wise public policy would require both questions to be addressed simultaneously, New York condemnation procedure bifurcates the questions. An ultimate ruling in favor of SIDA will be a tool to spur development. The long-term national trend in the area of emi- nent domain law has seen an expansion of the right of government to acquire private property and facilitate development. Eminent domain is no longer limited to acquisition of property to build roads and other infrastructure such as utilities or schools and other government-related buildings. Rather, eminent domain is frequently used when government determines that a particular type of development on private property should be replaced with another essentially private development in order to obtain societal benefits such as the creation of jobs or general economic growth. In fact, the current dispute never would have arisen if SIDA did not have the power to condemn heavy industrial uses known as “Oil City,” which formerly occupied the Carousel Center property. The original acquisition of Oil City was subject to EDPL proceedings. In Sun Co., Inc. v. SIDA, 209 A.D.2d 34, 625 N.Y.S.2d 371 (4th Dept. 1995), app. dismissed, 86 N.Y.2d 776, 631 N.Y.S.2d 603 (1995), the Appellate Division upheld SIDA’s authority to acquire property for an expansion of Carousel Center, but determined that SIDA failed to comply with certain procedural requirements. In Mobile Oil Corp. v. SIDA, 224 Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 7 A.D.2d 15, 646 N.Y.S.2d 741 (4th Dept. 1996), the Appellate Division again upheld SIDA’s constitutional and statutory author- ity to acquire the property for the Carousel Center expansion and determined that SIDA complied with all procedural requirements. Condemnation was used as a tool to facilitate retail development. However, in the current DestiNY USA litigation, SIDA is attempting to exercise its eminent domain powers in an expand- ed and disturbing manner. Pyramid and the Tenants negotiated leases containing provisions ensuring that the Tenants would be active participants in the operation and evolution of Carousel Center. Now, rather than allowing Pyramid and the Tenants to engage in bargaining based upon the frameworks established in their contracts, SIDA is extinguishing the contractual pro- visions that provided the Tenants with bargaining leverage. The Tenants will be forced to operate in an environment that will be radically different from what they envisioned when they executed their subleases, despite the fact that their contracts allowed them to prevent changes from occurring without their input and consent. While the current DestiNY USA litigation involves a developer/landlord seeking to uphold a broader distribution of powers to a condemning authority, it is easy to envision a situation in which a landlord such as Pyramid would be making the same arguments as the Tenants are now making. Presumably, a developer/landlord like Pyramid contracting with a government entity like SIDA to construct a shopping center would insist upon contractual language preventing SIDA from developing a competing shopping center in close prox- imity. If the Appellate Division’s decision in Kaufmann’s Carousel stands, the government entity could simply acquire and extinguish that contractual right and proceed with its development, to the detriment of the landlord/developer. In addition, the government entity could acquire and extinguish any negotiated restrictions in leases restricting tenants from opening store locations within a specified geographical radius or even extinguish the lease itself. Such an action would allow the tenant to open in the competing center, to the detriment of the landlord. In this example, the roles of the land- lord/developer and tenants would be reversed. An even more absurd result could theoretically occur. Rather than acquiring and extinguishing contractual rights, the gov- ernment could acquire and exercise those rights, essentially giving the landlord a new and not-so-silent partner in the devel- opment. Scenarios such as these are unsettling to both landlords and tenants that argue that straightforward bargaining and respect for contractual rights and obligations are important. The obvious retort to this argument is that government cannot condemn private property rights without paying just compensation. However, setting aside the difficulty of proving dam- ages stemming from the acquisition and extinguishment of discreet clauses in leases, this response may not hold true as a matter of law. The DestiNY USA litigation provides a perfect example. The Court of Appeals has held on a number of occasions that a property owner is not entitled to receive just compensa- tion due to the diversion of traffic or relocation of a public right-of-way, even where a portion of the owner’s property is per- manently acquired, so long as reasonable access remains. In Bopp v. State of New York, 19 N.Y.2d 368; 227 N.E.2d 37; 280 N.Y.S.2d 135 (1967), the property owners operated a lodge and restaurant located directly across the street from a mountain resort area along a state highway called Route 28. The state obtained a very small portion of the owner’s property as part of a larger project that relocated Route 28. Rather than being located directly on Route 28, the property was accessible only along a 700-800 foot access road from Route 28 that involved a sharp turn. In addition, the property was no longer visible from Route 28. In Bopp, the project resulted in a reduction of the highest and best use of the property and a substantial diminution in its value. However, the Court of Appeals determined that “under these circumstances, the owner of the property is not entitled to damages incurred because access is no longer as direct as it once was or because the newer or remaining access is less than ideal . . . . Nor are damages recoverable because traffic no longer passes in front of the claimant’s property or because his property is no longer visible to those traveling on the main highway.” Id., at 39. SIDA is attempting to obtain the Tenants’ contractual right to prevent realignment and reconfiguration of the shopping center that could have the effect of reducing access, traffic counts and visibility. The Appellate Division did conclude that the takings were appropriate “as long as J.C. Penney and the other Carousel Center petitioners received just compensation for the value of the leasehold interests that are being acquired by condemnation.” Kaufmann’s Carousel, at 218. However, if past precedent such as Bopp is followed, compensation could be denied for these classes of damages. In effect, the Tenants could receive no compensation for some or all of the contractual rights that were acquired.

Conclusion While an extension of government’s right to exercise eminent domain may be a convenient tool in facilitating new develop- ment, the cost of that convenience is the unsettling of bargained-for contractual positions. To prevent government from act- ing to extinguish rights without providing adequate compensation, contracts should be drafted to shift the financial burden of such takings upon the party working in concert with the government. In the DestiNY USA litigation, the Tenants would have had significant leverage when engaged in bargaining during their approval of the alterations of the Carousel Center. That bargaining leverage will be destroyed if the condemnation efforts of SIDA are upheld. Therefore, if the Appellate Division’s decision in Kaufmann’s Carousel stands, both landlords and tenants should engage in an additional layer of analysis when negotiating leases to avoid such a result. Both landlords and tenants should consider the potential ramifications if rights and obligations contained in their leases are acquired and extinguished. If discreet lease provisions are condemned, contractual terms that might prove useful include granting an option to terminate

8 a lease early, requiring increases or reductions in rent in the event that rights or obligations are extinguished, granting reloca- tion rights, reimbursement of construction costs, granting rights of first refusal or paying a stipulated liquidated damages amount.

*Stephon B. Bagne is a senior attorney with the law firm of Kupelian Ormond & Magy, P.C., in Southfield, Mich., and has a wide variety of clients including landlords, tenants, developers and property managers. Mr. Bagne is a member of the ICSC, and he specializes in representing property owners involved in condemnation proceedings and landlord-tenant law.

(1) Carousel Center, L.P. is a limited partnership in which a subsidiary of The Pyramid Company holds a substantial interest. (2) The nomenclature for the New York State Courts are unique. The trial level courts are called the Supreme Court. The first level of appellate court is the Appellate Division of the Supreme Court. The highest appellate court in New York is called the Court of Appeals. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 9 Managing “Free Speech” at the Mall

James M. Hirschhorn* Jeffrey H. Newman* Sills Cummis Radin Tischman Epstein & Gross Newark, N.J.

In March 2003, at the Crossgates Mall outside Albany, N.Y., a middle-aged state government official wearing a T-shirt with a slogan opposed to war with Iraq apparently got into a discussion with another patron. Security personnel asked him to remove the T-shirt or leave the mall. He refused, and the police were called. When the officer could not mediate the situation, the individual was arrested for trespass.(1) In the preceding month, a Florida appellate court reversed the trespass conviction of a man who had been soliciting signatures for an election petition on mall premises, holding that he had a constitutional right to do so under that state’s constitutional provision providing for free speech.(2) As this article is being written, the country is in the midst of a controversial war and is again approaching the beginning of a Presidential election “season.” Public feeling will likely remain strong and divided. Leafletters, petition collectors and protesters will be drawn to the local shopping mall in search of a captive audience. Ordinary mall patrons will wear their convictions on their T-shirts, and other mall patrons will be offended by them. Inevitably, the unwilling mall operator will be caught in the middle. Managing public expression at the mall is going to be a necessary part of every manager’s overall task of maintaining a favorable retail environment and protecting the safety of patrons. In 1980, the U.S. Supreme Court held that there is no federal constitutional right to conduct free expression on private premises, but that every state is free to establish such a right if it chooses.(3) As of this writing, seven states have recognized a state constitutional right to enter certain shopping mall premises to conduct limited types of free expression, subject to the mall owner’s reasonable time, place and manner regulations.(4) Fourteen states have explicitly ruled that there is no such right of access to a shopping center.(5) Seven other states have ruled in other contexts that their state constitutions do not pro- hibit action by a private person restricting free speech.(6) Consistent with that principle, these states would probably hold that their state constitutions do not require the private owner of a shopping center to allow access for free speech. The courts of the remaining 22 states and the District of Columbia have not considered the question. This article summarizes the mall operator’s legal resources and obligations in both the “access” and “non-access” states.

“Access” States In the seven states that recognize some kind of right to free expression on mall premises, the mall operator is faced with three issues: (i) What kind of malls are subject to this right? (ii) What kind of activity must be allowed? (iii) What kind of time, place and manner regulations can the mall operator lawfully enforce? In essence, the right of access is imposed only on larger malls. It is limited to relatively quiet activity such as soliciting signatures and distributing leaflets, and it can be regulated by reasonable, fact-based regulations to prevent disruption and disorder. The reason the courts give for a constitutional right to conduct free expression on private property is that when the enclosed shopping mall has a large enough size and diversity of use, it becomes the equivalent of the traditional downtown, where people come not only to shop but also to promenade, linger and meet. The courts in the access states deem the owner of such a shopping mall to have issued an open invitation to the public to come and stay for any peaceable, non-disruptive purpose. The reasoning creating the rule, however, inherently states its limits. In access states, the regional mall, with its anchor stores, food court and theaters, rises to the equivalent of a “modern downtown” and, therefore, is subject to the right of access. On the other hand, the typical grocery store anchored strip mall or stand-alone big box, where people come to shop but not to linger, is not subject to such a right. Consistent with that principle, New Jersey has expressly limited the right of access to regional malls.(7) California(8) and Washington(9) have expressly held that the right of access does not extend to stand-alone stores, but have not clearly spoken in other contexts. The rule of thumb is that the right of access exists when, but only when, a mall’s combined size, diversity of stores, number of eating and other entertainment places, and the presence of government facilities, if any, makes it the equivalent of a “town center.”(10) With respect to the scope of activity actually permitted, two of the access states, Massachusetts and Washington, limit the right to soliciting signatures for election petitions. The others have also allowed the distribution of leaflets, along with the associated display of signs in non-moveable locations. No state has required a mall to permit picketing, parading, demon- strations, the use of sound systems, the solicitation of funds or other disruptive expressive activity. Distributing literature to or soliciting signatures from willing patrons at a fixed location within the mall is currently the outer limit of the right of access. Insofar as the law in the access states requires the mall operator to allow outside groups onto its property to distribute leaflets or solicit signatures on controversial topics, the operator has the right to assure itself that they cause as little disrup- tion as possible. Left unchecked and unsupervised, outside leafletters might interfere with circulation, harass unwilling patrons, create an adversarial posture with leafletters of opposing views or simply take up available space that is commer- cially useful for kiosks or other facilities. Their unwanted leaflets might end up as litter. Perhaps, most importantly, they

10 might provoke confrontations leading to potential disorder and claims against the shopping center for failure to provide ade- quate security.(11) When the Supreme Court allowed the states to create a right of access, it recognized these problems and allowed the mall owner to promulgate reasonable regulations on the time, place and manner of free expression “that will minimize any interference with its commercial functions.”(12) Four of the access states have expressly recognized the owner’s right to promulgate reasonable regulations(13); the other three states have not addressed on the issue. Courts in the access states that have spoken expressly on the issue have approved regulations requiring outside leafleting groups (i) to identify themselves and obtain advance permission; (ii) to appear no more than a limited number of days per year (with peak shopping periods blacked out); (iii) to confine themselves to specific locations in the shopping center’s com- mon areas; (iv) to limit the number of individual leafletters; (v) to provide reasonable security and cleanup deposits; (vi) to exclude materials that are obscene or likely to provoke a breach of the peace; and (vii) to separate conflicting groups by date or location.(14) Requirements that outside groups provide proof of liability insurance or financial responsibility have been more problematic. They have been approved by courts, but only insofar as the mall operator can show that a particular group poses a serious risk of provoking disorder and disturbance. The factors to be considered are primarily the “record” of the applicant and similar groups’ prior activities and the fallout therefrom.(15) However, the mall operator’s right to promulgate regulations is not unrestricted. The regulations must strike a reasonable balance between the right of free speech on the one hand, and the protection of the mall’s business on the other. The mall operator, therefore, must be able to support the reasonableness of its regulations with a factual record that demonstrates the dangers each regulation is intended to prevent.(16) As a recent California decision demonstrates, regulations have a much better chance of judicial approval when the opera- tor can relate them to specific problems that have occurred at its property or other locations. The operator in that case demonstrated a history of customer complaints about harassment from petitioners, verbal and/or physical abuse by some petitioners, confrontations or altercations between opposing groups at its properties, and incidents of violence. Based on that factual record, the California appellate court approved regulations that barred petitioners on the mall’s 34 busiest shopping days and limited any single group’s presence to 5 days out of 30. It warned, however, that these regulations had to be enforced on an objective, content-neutral basis without waivers favoring particular points of view.(17)

Non-“Access” States In the remaining 43 states, there is no state law right of access to shopping center premises for any form of free expression and the mall owner retains the right to prohibit any or all such activity. The owner’s right of exclusion is enforceable through the law of trespass in one of two ways: criminal trespass statutes provide for the arrest and prosecution of persons who enter or remain without authority; most states also allow the landowner to obtain an injunction against the trespasser in the case of deliberate and persistent trespass. While the law of criminal trespass differs in detail from state to state, its general elements are the same. Statutes make it a misdemeanor or petty offense for an individual to enter business premises without permission or remain there after having been asked to leave. Most states require proof that the individual knew he or she was not authorized to enter or remain, which can be provided either by a reasonably visible public notice that certain activities are not permitted or by proof of notice given directly to the individual. A few state statutes require posted notices of a particular size or form and/or in a par- ticular location. In those states where there is no right of access for free expression, it would be advisable for the owner to post, at shop- ping center vehicular and pedestrian entrances, where it may reasonably be seen, a sign stating that soliciting, distribution of leaflets and such other activities as the management desires to prohibit are not allowed on the premises, and that persons engaging in them without the consent of management will be requested to leave. When the owner has advance warning of activities that it desires to prohibit, it is, of course, prudent to coordinate in advance with local law enforcement authorities. It may also be prudent for the mall operator to invoke its legal rights with some discretion. The experience of Crossgates Mall provides a cautionary tale. Although the local prosecutor dropped the charges after the mall withdrew its complaint, the mall became the target of demonstrators after receiving adverse publicity(18) In conclusion, while the courts of many jurisdictions have not spoken, the private property states vastly outnumber the access states. The trend has been in the mall operator’s favor. Before the recent lower court decision in Florida, the last state to recognize a right of access was New Jersey, in 1994, and four states have since rejected such a right.(19) Nevertheless, own- ers of malls in access states will need to (i) know the law, (ii) create reasonable rules and regulations with supporting docu- mentation, (iii) apply them in a reasonable manner based upon the history and nature of the entity seeking access and (iv) train on-site personnel with the skills to defuse aggravated situations.

*Messrs. Hirschhorn and Newman are partners in the New Jersey headquartered firm of Sills Cummis Radin Tischman Epstein & Gross. Mr. Hirschhorn is co-chair of the firm’s Appellate Practice. Mr. Newman is chairman of the firm’s Real Estate practice.

(1) “Mall Case Creates Antiwar Celebrity,” New York Times, March 7, 2003, §B, p. 4; “Message of Peace on Two Shirts Touches Off Hostilities at a Mall,” New York Times, March 6, 2003, §B, p. 1. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 11 STATES WHERE THE COURTS HAVE DIRECTLY OR IMPLICITLY ADDRESSED THE CONSTITUTIONAL RIGHT OF ACCESS TO SHOPPING CENTERS FOR FREE EXPRESSION*

ACCESS (6): POSSIBLY NO ACCESS (14): PROBABLY NO ACCESS (1): ACCESS (7):

California Delaware* Arizona Alaska Colorado Connecticut Maine Florida * Dictum in non-shopping Georgia Maryland center case Massachusetts* Iowa Nebraska New Jersey Michigan Nevada Washington* Minnesota Texas New York West Virginia * Election petitions only North Carolina Ohio Oregon Pennsylvania Rhode Island South Carolina Wisconsin

* The remaining 22 states and the District of Columbia have not considered the issue.

(2) State v. Wood, Docket No. 01-3755K (Fla. 14th Cir., Feb. 26, 2003) (unpublished opinion). (3) See Pruneyard Shopping Center v. Robbins, 447 U.S. 74 (1980) (state constitutional right to free expression does not take mall owner’s private property); Hudgens v. NLRB, 424 U.S. 507 (1974) (no federal constitutional right to free speech on private property). (4) See Robbins v. Pruneyard Shopping Center, 592 P.2d 341 (Cal. 1979), aff’d 447 U.S. 74 (1980); Bock v. Westminster Mall Co., 819 P. 2d 55 (Colo. 1991); State v. Wood, Docket No. 01-3755K (Fla. 14th Cir., Feb. 26, 2003) (unpublished opinion); Batchelder v. Allied Stores Int’l, 445 N.E.2d 590 (Mass. 1983) (election peti- tions only); New Jersey Coalition Against War In The Middle East v. J.M.B. Realty Corp., 650 A.2d 757 (1994); Southcenter Joint Venture v. National Democratic Policy Comm., 780 P. 2d 1282 (Wash. 1989); Alderwood Assocs. v. Washington Envtl. Coun., 635 P. 2d 108 (1981) ; (election petitions only). Dictum in a Delaware lower court decision also states that there would be a right of access to private property held out for public purposes, such as shopping centers. State v. Elliott, 548 A. 2d 28 (Del. Sup. 1988). (5) See Fiesta Mall Venture v. Meacham Recall Comm., 767 P. 2d 719 (Ariz. 1989); Cologne v. Westfarms Assoc., 469 A.2d 1201 (Conn. 1984); Citizens for Ethical Government v. Gwinnett Place Assoc., 392 S.E.2d 8 (Ga. 1990); City of West Des Moines v. Engler, 641 N.W.2d 803 (Ia. 2002); Woodland v. Michigan Citizens Lobby, 378 N.W.2d 337 (Mich. 1985); State v. Wicklund, 589 N.W.2d 793 (Minn. 1999); SHAD Alliance v. Smith Haven Mall, 448 N.E.2d 1211 (N.Y. 1985); State v. Felmet, 273 S.E.2d 708 (N.C. 1981); Eastwood Mall v. Slanco, 626 N.E.2d 59 (Ohio 1994); Stranahan v. Fred Meyer, Inc., 11 P. 3d 228 (Or. 2000); Western Pennsylvania Socialist Workers 1982 Campaign v. Connecticut General Life Ins. Co., 515 A.2d 1331 (Pa. 1986); Metropolitan Life Ins. Co. v. Christ’s Church In Action, 1985 WL663596 (R.I. Sup. 1985); Charleston Joint Venture v. McPherson, 417 S.W.2d 544 (S.C. 1992); Jacobs v. Major, 407 N.W.2d 832 (Wis. 1987). See also Officino Legal del Pueblo Unido, Inc. v. Simon Property Group, Tx., L.P. , 2001 WL 838370 (Tex. App. 2001) (dictum that no right to free speech on shop- ping mall premises under Texas case law; issue not properly preserved for review). (6) See Johnson v. Tait, 774 P. 2d 185 (Ak. 1989) (patrons had no state constitutional right to wear motorcycle club insignia into bar); Phelps v. President and Trustees of Colby College, 595 A.2d 821 (Me. 1991) (state constitution did not apply to private college’s restrictions on student speech and association); Bleich v. Florence Crittenden Services of Baltimore, 623 A. 2d 463 (Md. App. 1993) (state constitution didn’t restrict firing of private employee in retaliation for free speech on matter of public interest); Dossett v. First State Bank, 627 N.W.2d 131 (Neb. 2001) (same; mall cases cited with approval); S.O.C., Inc. v. Mirage Casino-Hotel, 23 P. 3d 243 (Nev. 2001) (no state constitutional right to distribute leaflets on privately owned portion of sidewalk along Las Vegas “Strip”); Republican Party of Texas v. Dietz, 940 S.W.2d 86 (Tex. 1997) (state constitution does not limit speech restrictions by private organization; mall cases cited with approval); Tiernan v. Charleston Area Medical Center, Inc., 506 S.E.2d 578 (W. Va. 1998) (state constitution didn’t restrict firing of private employee in retaliation for letter to editor criticizing employer). (7) See New Jersey Coalition Against War in the Middle East v. J.M.B. Realty Co., 650 A.2d 757, 760-62 (N.J. 1994); cf. State v. Brown, 513 A.2d 974 (N.J. App. 1986) (leafletter had no right of access to multi-business office complex, which was not “dedicated to public use”). (8) See Costco Companies, Inc. v. Gallant, 117 Cal. Rptr. 2d 344 (Cal. App. 2002); Waremart, Inc. v. Progressive Campaigns, Inc., 102 Cal. Rptr. 2d 392 (Cal. App. 1999); Trader Joes Co., Inc. v. Progressive Campaigns, Inc., 86 Cal. Rptr. 2d 442 (Cal. App. 1999). (9) Waremart, Inc. v. Progressive Campaigns, Inc., 989 P. 2d 524 (Wa. 1999). (10) Waremart, Inc. v. Progressive Campaigns, Inc., 989 P. 2d at 530-31. (11) See Clohesey v. Food Circus Supermarkets, Inc., 694 A. 2d 1017 (N.J. 1997) (store owner’s duty to provide security); Costco Companies, Inc., 117 Cal. Rptr. 2d at 353 (confrontations between conflicting petitioner groups at mall). (12) See Pruneyard Shopping Center v. Robbins, 447 U.S. 47, 83-84 (1980). (13) California, Colorado, Massachusetts and New Jersey. (14) A list of such regulations, mostly approved by the court, is found in Union of Needletrades, Industrial and Textile Employees v. Superior Court, 65 Cal. Rptr. 2d 838 (Cal. App. 1997); see also Costco Companies, Inc., 117 Cal. Rptr. at 351-55 (limit on number of days, limit to specified locations, limit to one group per day); Robertson v. Westminster Mall Co., 43 P. 2d at 625-28 (location limited to food court). (15) Green Party of New Jersey v. Hartz Mountain Industries, Inc., 752 A. 2d. 315, 330-32 (N.J. 2000), citing with approval H-CCH Assocs. v. Citizens for Responsible Government, 238 Cal. Rptr. 841, 857-58 (Cal. App. 1987). (16) Compare Costco Companies, Inc., 117 Cal. Rptr. 2d at 351-55 (regulations supported by experience of disruption of business) with Green Party of New Jersey, 752 A. 2d at 330-32 (no evidence supported blanket $1 million liability insurance requirement for all leafleting groups). (17) See Costco Companies, Inc., 117 Cal. Rptr. 2d at 351-55. (18) See note 1, supra. (19) City of West Des Moines v. Engler, 641 N.W.2d 803 (Ia. 2002); Officino Legal del Pueblo Unido, Inc. v. Simon Property Group, Tx., L.P. , 2001 WL 838370 (Tex. App. 2001) (dictum); Stranahan v. Fred Meyer, Inc., 11 P. 3d 228 (Or. 2000) (overruling decision creating right of access); State v. Wicklund, 589 N.W.2d 793 (Minn. 1999).

12 Public Access Case in Second Circuit Contains Principles Helpful to Shopping Centers

Edward J. Sack* ICSC General Counsel Ret. New York, N.Y.

When is a municipally owned public space not a “public place” for purposes of public access rules?(1) The Second Circuit Court of Appeals answered that question when it held that the Plaza at Lincoln Center for the Performing Arts in New York City is not a traditional public forum and that Lincoln Center could limit organized public expression in the Plaza to artistic and performance-related events. The opinion enunciated principles that are relevant to the shopping center public access cases. Hotel Employees and Restaurant Employees Union, Local 100 of New York, NY et al. v. City of New York Department of Parks and Recreation et al., 311 F.3d 534; 2002 U.S. App. LEXIS 23707; 171 L.R.R.M. 2321 (November 18, 2002). At the outset, it must be noted that this case is not directly applicable to shopping centers because (1) it is decided under federal law and most shopping center cases arise under state law and (2) the Plaza is owned by the City of New York (oper- ated by Lincoln Center) and, therefore, the rules applicable to public property apply. But the Second Circuit’s analysis of the issues can be helpful in a shopping center case seeking to determine whether the shopping center is a public space and in determining the reasonableness of shopping center rules controlling the use of the mall.

Traditional Public Forum When a shopping center public access case arises in a state that has not already decided whether a center is a public forum, the person seeking to require the shopping center to permit expressive activity on its property argues that the modern shop- ping center is the functional equivalent of a downtown and has assumed the characteristics of a traditional public forum. In analyzing this issue, the Second Circuit said that a court must consider not only the physical characteristics of the property but also “the city’s intent in constructing and opening it to the public.” Clearly, a shopping center owner’s intent is to build a commercial enterprise and not a place for public expression.

Reasonableness of Regulations Shopping centers frequently use the mall for promotional events, fashion shows and other activities intended to enhance the shopping experience. It is frequently argued that by allowing these activities, the mall has opened the public space to all types of expressive activities. In upholding Lincoln Center’s regulation limiting use of the Plaza to arts-related activities, the Second Circuit said that it must look to the objective purpose and public use of the Plaza. This is also helpful to shopping centers because the use and purpose of the shopping center is limited to retail activities.

The Facts The Hotel Employees and Restaurant Employees Union (“the Union”) sought permission to hold a rally in Lincoln Center Plaza supporting the food-service workers in the various restaurants in Lincoln Center, even though the Union did not repre- sent those workers. The rally would include picketing and distribution of leaflets. Lincoln Center Plaza (Plaza) is the centerpiece of the Lincoln Center complex. It is bounded by Avery Fisher Hall, the Metropolitan Opera House and the New York State Theater, and has a fountain in its center. Lincoln Center contains other nearby buildings housing entertainment and educational facilities. The Plaza is owned by the City of New York and is oper- ated by Lincoln Center as the City’s agent. The Plaza is completely open to the public streets through several access points. Lincoln Center uses the Plaza for its own events and permits events sponsored by third parties that will benefit the Center financially. As to all other requests by third parties for the use of the Plaza, Lincoln Center limits its approval to events hav- ing a performance, entertainment or artistic component. It denied the Union’s request and has consistently denied applica- tions for political and labor-oriented events. The Union filed suit, and the federal district court for the Southern District of New York granted summary judgment for the City and denied the Union’s motion for summary judgment. It found that the Plaza is a “limited public forum” and that the long-standing policy against non-arts-related events is “consistent with the purposes for which Lincoln Center was creat- ed” and is “entirely reasonable.” The Second U.S. Circuit Court of Appeals conducted a de novo review and affirmed.

Traditional Public Forum The Union first argued that the Plaza was a traditional public forum. If successful, this would require that restrictions on speech be subject to strict scrutiny, i.e., they must serve a compelling government interest and be narrowly tailored to achieve that interest. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 13 The court said that it must not only inquire as to whether the Plaza is within the categories of property historically deemed to be traditional public fora, but also whether it is “the type of property that should be so classified given its physical characteristics, the objective ways in which it is used, and the City’s intent in constructing and opening it to the public.” The court then said that the Plaza serves as the “forecourt” for the Lincoln Center buildings and serves as a gathering place for those attending performances at Lincoln Center. The City’s purpose in participating in the creation of Lincoln Center was to establish a cultural center devoted to performing arts, and Lincoln Center has, therefore, limited organized speech in the Plaza to the arts and performance-related events. In spite of the fact that it is open to the public to pass through, the City’s intent is to conserve the Plaza’s function as an extension of the performing arts complex. The court then concluded, “Consideration of the relevant factors––i.e., the Plaza’s location, use, function, and purpose, together with the City’s intent in building the space––demonstrates that permitting all forms of expressive activity in the Plaza would be incompatible with its intended purpose.” The emphasis on the purpose of the Plaza is helpful to shopping centers because a center’s purpose is strictly limited to promoting retail sales. This rationale can be used to refute the argument that a shopping center is a traditional public forum. It is also important that Lincoln Center was not required to make a specific showing that rallies and picketing would dis- rupt the cultural activities. The court said that it could use “common sense” to find that such activities would interfere with the City’s mission in establishing this space. This statement is also helpful to shopping centers. Some courts have rejected a shopping center’s argument on the grounds that it had not shown actual harm. Of course, the harm does not occur until after the proposed activity has taken place, and then judicial action comes too late to help.

Reasonable Regulations Since the Plaza was held not to be a traditional public forum, the regulations had to meet a standard of reasonableness––not strict scrutiny––the same standard that applies to shopping centers in those states that require public access and potentially in those states that have not yet decided the issue. No case has yet clearly determined whether a shopping center can dis- criminate in the type of activities it permits in the mall. Many centers feature a wide variety of promotional activities designed to attract people to the shopping center and enhance the shopping center experience. Some have feared that this activity opens up the center to all types of expressive activity, including political petitioning and labor activity. In this case, the Second Circuit Court of Appeals clearly states that a city, held to a higher standard than a private entity, can discriminate in the type of activities permitted. The court held valid Lincoln Center’s regulations permitting artistic activ- ities but denying all others, on the theory that this distinction was consistent with the purpose and function of the Plaza. The court found that this distinction was content-neutral because it excluded all non-artistic uses with no distinction among dif- ferent types. Similarly, in those states that require centers to allow access, a shopping center should be able to conduct pro- motional activities in the mall and exclude all political and other non-commercial activities as long as it is consistent among these groups. In other words, it must exclude all political parties and must not distinguish between popular ones and unpop- ular ones. It can exclude all religious solicitations––it cannot permit some and exclude others. Fundamental free-speech analysis requires that a reasonable regulation must be content-neutral. The importance of this decision is its holding that the distinction between classes of activities is not content-based as long as the regulation is applied consistently within each class.

*Edward J. Sack was General Counsel of ICSC for 22 years. He retired in 2002, but continues his association with the Council and the industry. Since the U.S. Supreme Court’s decision in Pruneyard Shopping Center et al. v. Robins, et al., 447 U.S. 74 (1980), his office has served as a clearinghouse for all shopping center public access cases.

(1) The public access issue concerns whether shopping centers can be required to permit political and other activities on its premises without its consent. For a full discussion of the public access issue concerning shopping centers, see Sack, “Public Access to Shopping Centers,” in Key Shopping Center Legal Issues, p. 95 (ICSC 1995).

14 Striking a Balance When Negotiating Exclusive Use Provisions

Gary Glick* Lara Khakshouri* Cox, Castle and Nicholson Los Angeles, Calif.

Given the current economic climate for retail development, landlords increasingly build their centers around national and regional chain “big box” and “category killer” retailers. Among the concessions most often offered to attract such retailers are exclusive use rights. An exclusive use provision essentially is a covenant by a landlord not to permit other occupants of the shopping center to operate for a business that would compete with the business of the tenant. While an exclusive use provision offers a significant benefit to the retailer by limiting competition, the developer must be careful not to overly restrict itself in the development and leasing of the balance of the center. Because of the importance of the issues involved, negotiation of an exclusive use provision is typically among the most hard-fought battles in a lease nego- tiation. However, careful structuring of the provision can result in a successful balancing of benefits to the retailer and avoid- ance of undue restrictions upon the developer. Note that although this discussion is set in the context of the exclusive use provisions of a retail lease, the same issues arise in the context of a parcel sale within a retail center, when the developer-seller enters into a reciprocal easement agree- ment (REA) or records a declaration of covenants, conditions and restrictions (CC&Rs) encumbering the center and contain- ing exclusive use rights for the benefit of the retailer-buyer.

Key Issues in Negotiation of an Exclusive Use Provision The negotiation of an exclusive use provision can essentially be broken down into the following four issues. What uses are to be prohibited? To whom does the prohibition apply? What are the tenant’s remedies in the event of a violation of the exclu- sive use right? Under what circumstances will the exclusive use right be terminated? Taking these in turn, we look first at the issue of defining the competing uses prohibited by the exclusive use provision.

Defining the Uses to Be Prohibited A hard-line tenant’s initial position is likely to be that no other occupant of the shopping center should have the right to offer any product for sale that is customarily offered for sale by the tenant. Such a position could pose a significant problem for the landlord, particularly when leasing to a retailer whose primary use involves the sale of a number of diverse product lines––such as a full-service grocery store, whose many uses could compete with customary shopping center occupants such as bakeries, coffee stores, wine shops and delicatessens. In order to avoid unduly limiting the pool of prospective occupants of other portions of the shopping center, the landlord should seek to limit such a broad exclusive (1) by focusing on the ten- ant’s primary use (e.g., operation of a grocery store) and (2) by permitting incidental competing uses. For example, a drug store may sell a handful of sporting goods items such as tennis balls. However, such incidental sales should not prevent the landlord from leasing space to a sporting goods retailer if the drug store has been granted an exclu- sive use right. Similarly, granting an exclusive use right to a sporting goods’ retailer should not prevent the incidental sale of such tennis balls by the drug store. Accordingly, the exclusive use provision should be structured as a prohibition upon operation by other occupants for a primary use in competition with the primary use of the tenant. Incidental competing uses (uses that are in competition with the tenant’s use but are incidental to a non-competing primary use) should be permitted. Such permitted incidental compet- ing uses may be defined in terms of the other occupant devoting less than a specified amount of floor area within its store to the competing use and/or receiving less than a specified percentage of its gross sales from such competing use.

Defining the Other Occupants Within the Scope of the Prohibition Although the tenant would prefer that the prohibition on competing uses apply to all other occupants of the shopping center, there generally are several categories of exceptions. First, the landlord should seek to exclude existing occupants from being subject to the exclusive, since such occupants leased their premises or purchased their parcels prior to the execution of the lease containing the exclusive use provision. While the tenant may have little choice but to agree to such exclusion of existing occupants, the tenant is likely to require the landlord to agree not to permit a change in use by such occupants to a compet- ing use if the landlord’s consent therefor is required. If the tenant fails to require the landlord to agree to prohibit such changes in use, courts will likely permit a change in use that violates the tenant’s exclusive. [See Dorothy King t/a DK Day Spa v. Limestone Valley Enterprises, L.P., 2002 WL 31740264 (Del.Supr.), where an exclusive use provision in a spa owner’s lease contained a “carve-out” for existing occupants but failed to prohibit changes in use by such occupants to competing uses. The court refused to enjoin an existing salon owner’s change in use to the provision of spa services, even though these servic- es clearly infringed the spa owner’s exclusive.] Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 15 The landlord may also attempt to limit the applicability of the prohibition on competition to certain major tenants within the center who may have the right to change the use of their premises without the consent of the landlord (e.g., Wal-Mart or comparable “big box” users). In addition, in order to preserve its ability to lease shop space, the landlord may attempt to exclude occupants of less than a specified amount of square footage (e.g., 3,000 square feet) from being subject to the tenant’s exclusive use right. The tenant may be willing to accept such a carve-out from the exclusive, since the tenant may conclude that such a small user could not realistically compete with the tenant in any event.

Tenant’s Remedies in the Event of a Violation The parties should specifically consider the remedies available to the tenant when structuring an exclusive use provision. A first issue to be considered is whether the landlord should be obligated to expend funds and/or file a lawsuit to stop a viola- tion. Note that a situation may arise where the landlord is willing to let the tenant exercise its express remedies for violation of the exclusive use provision (particularly if they are specified to be the tenant’s sole and exclusive remedies), rather than pursue an action against the competing tenant. The tenant may desire that the landlord name the tenant as an express benefi- ciary of the exclusive use restriction with the right to file a lawsuit in its own name against any violator of its exclusive use rights if the landlord fails to do so. [See Reichert v. Rubloff Hammond, LLC, 264 Neb. 16 (2002), where the court declined to per- mit the tenant to enjoin an ongoing violation of an exclusive use provision that did not name the tenant as beneficiary, and instead limited the tenant’s remedies to rent abatement or termination.] The landlord will typically be entitled to some cure period after receipt of notice from the tenant of the violation of its exclusive use right, prior to the tenant’s being entitled to exercise its remedies. The landlord may also seek to tie the tenant’s right to its remedies to a showing of the adverse effect of the competition (e.g., a decline in tenant’s sales in excess of a speci- fied percentage compared to sales during the same period in the prior year, although the tenant may argue for an assump- tion that its sales would have increased by a specified percentage from the prior year). The tenant’s remedies will typically include an abatement of some portion of the tenant’s rental obligations and/or the right to terminate if the competing use is not stopped within a specified time period. If the tenant is provided such an abate- ment right with an ultimate right of termination, the landlord should establish a short window of opportunity for the tenant to exercise the termination right, with the tenant’s rent being restored to the contract rate and the termination right being deemed waived if it is not exercised within the window period. To avoid open-ended landlord liability for damages (includ- ing consequential damages) resulting from a violation of the tenant’s exclusive use rights, the landlord will typically seek to provide that the tenant’s right to abatement and/or termination as provided in the lease is to be the tenant’s sole and exclu- sive remedy in the event of such a violation of its exclusive use rights.

Conditions Upon and Termination of the Exclusive Use Right The grant of the exclusive use right may be conditioned upon the tenant’s (1) not being in default under the lease, (2) contin- uously operating from the premises (subject to closures for remodeling, condemnation, casualty or other force majeure events), and/or (3) not assigning the lease or subletting the premises. While the tenant may not object to its exclusive use rights being conditioned upon its not being in default and its remaining open (other than for permitted closures), the tenant will typically fight hard to preserve the exclusive right for the benefit of an assignee or subtenant, since such a right is a valuable asset when marketing space. If an exclusive use provision includes a list of specific products or product types that may not be sold by other occupants, the landlord may also seek to include a provision stating that if the tenant ceases to offer such products or product types for sale for a specified period of time (other than due to permitted closures), then such exclusive shall terminate as to such prod- ucts or product types. For example, if a grocery store exclusive included a prohibition on the operation of a competing bak- ery within the center, then in the event the grocery store was to cease operation of its bakery for a specified time period (other than due to permitted closures), the grocery store would retain its exclusive right as to operation for the primary pur- pose of a grocery store, but the prohibition on competing bakeries would terminate.

Antitrust Concerns In general, the typical grant of exclusive use rights is not likely to violate federal or state antitrust laws. Courts interpreting such laws apply a general reasonableness test, which courts have called a “rule of reason,” that requires balancing a variety of factors including market conditions for the sale of the applicable product, impact of the restriction upon competition, availability of alternate space within the market area for use by competitors, market power of the party imposing the restric- tion, and legitimate business reasons for establishing the restriction. Thus, the court in Borman, Inc. v. Great Scott Super Markets, Inc., 433 F.Supp. 343 (1975), explained that a challenger of an exclusive use provision under 15 USC §1 of the Sherman Antitrust Act must establish the condition of the relevant market and how competition and/or trade within that specific market has been unreasonably affected, including whether market alternatives have been foreclosed. The Borman court enforced an exclusive use provision in a supermarket lease against a potential competitor of the supermarket. Finding that the challenger failed to show an unreasonable restriction on free trade, the court set forth the following factors to be con- sidered in determining reasonableness under 15 USC §1, each of which relates to the specific business in question:

16 “ . . . [the] condition [of the business] before and after the restraint was imposed; the nature of the restraint and its effect, actual or probable; the history of the restraint and the evil believed to exist; the reason for adopting the particu- lar restraint; and the purpose or end sought to be attained.” Borman at 350. Provisions that have been established by case law as “per se violations” of antitrust laws, including agreements to price fix, to group boycott and to divide markets, are not typically found in the grant of exclusive use rights within a lease, and courts have been hesitant to determine the validity of exclusives under a per se approach. The court in Optivision, Inc. v. Syracuse Shopping Center Associates, 472 F.Supp. 665 (1979), for example, rejected the suggestion that exclusivity clauses should be treat- ed as veiled attempts at price fixing, and judged an exclusive use provision under the more commonly applied “rule of rea- son.” Nevertheless, when negotiating the exclusive use provision, the landlord may require the tenant to provide indemnifi- cation against any liability arising as a result of a challenge to the legality of such exclusive use rights.

Conclusion As with most lease issues, the outcome of the negotiation of an exclusive use provision is likely to depend upon the relative bargaining strengths of the parties. Nevertheless, the landlord and the tenant should each be flexible enough to accommo- date the reasonable concerns of the other party. Careful consideration of the issues should result in the structuring of an exclusive use provision that gives significant benefit to the tenant while preserving flexibility for the landlord in the develop- ment and leasing of the entire shopping center.

*Gary Glick and Lara Khakshouri are members of the retail group of the California law firm, Cox, Castle & Nicholson LLP, and specialize in all aspects of retail development. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 17 Of Interest

Articles

White, “Practice & Procedure - Assumption Executory Contracts and Curing Defaults: In the Interest of Penalties,” 21-OCT Am.Bankr. Inst. J. (28 Oct. 2001).

Cases

Arbitration An arbitrator exceeded the authority granted by the arbitration agreement by holding a non-party personally liable for a cor- porate obligation. The lease between the landlord and a corporate tenant provided for arbitration of disputes and was signed by the president of the corporate tenant on behalf of the corporation. The parties disagreed about which party was responsi- ble for repairs, and went to arbitration. The arbitrator found in favor of the landlord and awarded damages against both the corporation and the president individually because the corporation had dissolved by operation of law for failing to file annu- al reports. The appellate court reversed the trial court’s confirmation of the arbitrator’s order, remanding it for confirmation of the award only against the corporation. Hunters Square Office Building v. Hoops, No. 233939, Mich.Ct.App., Oct. 22, 2002.

Assignment/Sublet A sublessor’s acceptance and retention of rent constitutes acceptance of rent sufficient to create a month-to-month tenancy. The sublessor had received and retained a rent check. He deposited the check and made no attempt to refund the payment until after the sublessee raised the defense that a month-to-month tenancy was created during an eviction proceeding. Furthermore, the sublessor argued for the first time on appeal, and with no factual support, that it had inadvertently deposited the check. International Business Machines Corp. v. Joseph Stevens & Co., LP, 2715, 2716, N.Y. App. Div., 1st Dept., Dec. 31, 2002.

Bankruptcy A retailer did not violate the discharge injunction of the Bankruptcy Code by persuading discharged debtors out of court to avoid repossession by paying for purchased goods, which were listed as unsecured, non-priority claims on their bankruptcy schedules. Arruda v. Sears, Roebuck & Co., No. 310 F.3d 13. (1st Cir., 2002). The court denied motions for extension of the 60-day time limit for assumption or rejection of the lease. The court held that the phrase “within such 60-day period,” as used in the Bankruptcy Code—requiring the trustee to assume or reject an unexpired lease within 60 days of the order for relief or within such additional time as the court “fixes”—alters the meaning of the word “fixes” so as to permit extension of the deadline only on an order entered before the 60-day deadline has expired. In re DCT, Inc. 283 B.R. 442 (Bkrtcy. E.D. Mich. 2002). Commercial landlords moved to compel immediate performance of Kmart’s obligations under its leases, and the court held that the landlords had waived the requirement that Kmart provide it with certified statements of its gross sales to determine the percentage rent calculation. The court applied the breakpoint approach in calculating what portion of percentage rent owed under the lease would be payable as an administrative expense. In re Kmart Corp, 286 B.R. 345 (Bkrtcy.N.D.Ill. 2002). A landlord filed an emergency motion for a stay of an order approving the assignment of a debtor-tenant’s leases pending appeal. When the bankruptcy court denied the motion, the landlord appealed to the district court for a stay. The district court denied the motion. It found that the landlord failed to show it would suffer irreparable harm absent the stay. The landlord argued that without a stay the lease would be assigned and the appeal would be moot. However, the court held that “being rendered moot does not itself constitute irreparable harm.” In re Kmart Corp., Case No. 02 C 9257 N.D. Ill., Dec. 30, 2002. The district court affirmed the bankruptcy court’s decision to enjoin the lessor from pursuing state court claims, including breach of the covenant of good faith and fair dealing, negligence and breach of contract for failing to obtain the lessor’s con- sent to assign. In re Macy & Co., Inc. 283 B.R. 140 (S.D.N.Y. 2002). A lessor was not entitled to recover damages for the debtor’s rejection of a lease where the lessor could have avoided the damages with reasonable efforts. The lease contemplated mitigation, and state law requires it. In re Paskorz, 284 B.R. 429 (Bkrtcy.W.D. Pa. 2002). A bankruptcy court granted defendant debtor/lessee’s motion to extend the deadline to assume or reject unexpired store leases, and the landlords appealed. The district court found it did not have jurisdiction because the bankruptcy court’s order was not final and appealable for several reasons, including that the order did not resolve all contested issues on the merits or lead to a final distribution of assets. The court ultimately determined the landlords’ positions in the bankruptcy proceeding, and it did not dispose of the leases. Most importantly, the landlords did not identify a substantial ground for a difference of opinion in the controlling question of law or any exceptional circumstances that would have justified the exercise of jurisdic- tion over the bankruptcy court’s interlocutory order. Key Plaza I, Inc. v. Kmart Corp., Case No. 02 C 4086, Case No. 02 C 4087, E.D.Ill., Jan. 13, 2003.

18 Commissions A broker was not entitled to a commission for the sale of the subject property to the current tenant (a dealership) who had a pre-emptive right of first refusal to buy the leased premises. There was no contract between the property owner and the bro- ker concerning the sale of the property to the dealership. The landowner had a duty to sell the property to the dealership, upon demand by the dealership, independent of any action by the broker. The court noted that the production of a third party by the broker no doubt precipitated the sale to the dealership, but a commission for that was not contemplated by the language of the agreement between the broker and the landowner. 9101 Richmond, Inc. v. Greenberg & Co., Inc., No. 13-99-262- CV, Tex.Ct.App., Dec. 6, 2002.

Contracts A retailer and developer investigated the feasibility of developing a shopping center, and the retailer agreed to construct a SuperStore that would act as anchor for the shopping center. After negotiation, an operation and easement agreement with the retailer was created governing the coordination of the development of the retailer’s tract and the operation of the entire project. The developer also obtained financing and submitted plans to the zoning authority, expending considerable sums. The retailer repeatedly postponed the construction date, and the developer sued for damages, asserting breach of contract, promissory estoppel and negligent misrepresentation. On a motion for summary judgment, the court found that the develop- er’s claim for breach of contract was sufficient to survive dismissal; furthermore, the claim for promissory estoppel met the required elements to survive. The court let both the contract and estoppel claims stand because it was early in the proceed- ings and the federal rules permit inconsistent claims. However, the negligent misrepresentation claim failed. Lemont Partners, LLC v. Meijer Stores, Ltd. Partnership, No. 02C 1799, N.D.Ill., Nov. 26, 2002.

Covenants A covenant between the former owners of the subject premises and a debtor that held the former owners harmless as to envi- ronmental cleanup costs did not bind the current owner either as a covenant running with the land or as an equitable servi- tude. In re El Paso Refinery, LP, 302 F.3d 343 (5th Cir. 2002).

Eminent Domain The city of Syracuse condemned land around a shopping center to expand and to integrate it with another center. The prop- erty owner and three anchor stores challenged the condemnation. They argued that the city could not condemn the leasehold without the underlying real property and that the taking was not for a public purpose, i.e., constructing a municipal golf course. The court examined the enabling statutes and found that the statutes were broad enough to encompass an interest in real property, such as a leasehold interest. Furthermore, the abrogation of the contract rights contained in the reciprocal ease- ment agreements and other agreements between the tenants and the landlord did not violate the contract clause of the Constitution because the exercise of power essential to the efficient operation of government is not subject to the contract clause. Matter of Kaufmann’s Carousel, Inc. v. City of Syracuse, 750 N.Y.S.2d 1148 (App. Div., 4th Dept., 2002).

Environment A lease required the landlord to maintain a petroleum storage tank on the leased premises, sharing the costs of maintenance equally with the tenant, except for damage caused by the negligence of the tenant. The landlord sued the tenant and sub- tenant for the cost of remediating damage caused by leakage from the tank. The trial court found, inter alia, that the lease was properly terminated, and the landlord appealed. The appellate court concluded that there were issues of fact regarding whether the leak was caused by the negligence of the tenant. If the tenant was negligent, the landlord had no duty to repair the leak and there was no breach. State of New York v. Griffith Oil Co., Inc., 750 N.Y.S.2d 685 (App.Div., 4th Dept., 2002).

Guarantees An appellate court held that a guarantor is released when the debtor is released because there is nothing left to guarantee. The rental guaranty at issue specified that the guarantor’s obligations would remain in effect as long as the tenant’s obliga- tions remained in effect. Therefore, concluded the court, when the landlord released the assignee, the guarantor was also released. Unlike the guaranty in a case cited by the landlord, the guaranty in the case before the court did not hold the guar- antor liable in the event of a release of the tenant. Amerishop Mayfair, LP v. Billante, 833 So. 2d 806 (Fla.Ct.App., 2002). A corpo- rate lessee’s president and sole shareholder executed a guaranty for a lease in a mall. The guaranty provided that it was unconditional and remained in effect as to any amendment, modification or renewal of the lease, “to all of which the under- signed hereby consents in advance.” The court found that a guarantor is not relieved of his obligations where the written guaranty allows for changes in the guaranty and expressly waives notice to the guarantor of those changes. Boulevard Mall, LLC v. Knight, CA 02-00820. N.Y. App. Civ., 4th Dept., Dec. 30, 2002. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 19 Insurance A supermarket sued the purchaser of a shopping center and the owners for breach of a restrictive covenant, asserting claims for fraud, breach of contract and unjust enrichment, and to recover damages for the loss of its leasehold interest and its lost profits as a result of the opening of a competing supermarket. The owners tendered defense of that action to the insurer, but the insurer refused the owners’ tender and brought a declaratory judgment action. The district court found that the insurer had neither property damage nor personal injury liability under the policy. The event that would have triggered the insurer’s liability under the policy occurred before the policy became effective. The appellate court affirmed the holding in favor of the insurer. Scottsdale Ins. Co. v. Gardner Trust, 53 Fed. App. 882 (10th Cir., Dec. 20, 2002).

Landlord & Tenant A two-year lease contained an option to purchase the property for $100,000. When the tenant failed to pay the rent, the land- lord demanded she vacate the premises and served her with a writ of possession. At trial, the judge granted the landlord’s motion for a directed verdict. The tenant appealed, but the appellate court affirmed the verdict. The writ of possession was properly issued because the evidence clearly showed that the tenant failed to make timely rental payments twice. In addi- tion, the tenant testified that she had not tendered any money to buy the property, so she did not exercise the option to pur- chase. Finally, the evidence was sufficient to support the verdict, and the trial court’s denial of her motion for a new trial was based on the merits and was not made to punish her and her attorney for the attorney’s failure to appear at the scheduled hearing. Burnett v. Reeves, A022089, Ga.Ct.App., Dec. 13, 2002. A month-to-month warehouse tenant had to leave the leased premises for an extended period of time. It fired its tempo- rary employees so no one would have access to the premises during its absence. The temporary employees stole equipment stored in the warehouse while the tenant was away. When the tenant returned, he sued the landlord for breach of the lease and breach of its duty to protect his personal property. The court concluded that under no legal theory was the landlord responsible for the security of the tenant’s personal belongings. Enerco, Inc. v. SOS Staffing Services, Inc. No. 20010050, Utah, Aug. 9, 2002. The landlord of commercial property sent a letter to its tenant notifying the tenant that it was terminating the tenancy at the end of the following month. The landlord did not send the tenant a further three-day notice of eviction. The court held that 30-days’ notice to terminate was sufficient to fulfill the state’s statutory requirement to provide a three-day notice to vacate without a separate notice. Maggiore v. Kovach, Case No. 2002-CA-109, Ohio Ct.App., Stark County, Nov. 18, 2002. A tenant that mistakenly made overpayments of rent for five years was entitled to restitution under state law. The land- lord claimed the tenant was equitably estopped from collecting the money because he had turned down offers to sell the land, believing the lease was in effect. The court rejected the landlord’s argument because the landlord had failed to prove the elements of equitable estoppel. There was no fraud, misrepresentation, reasonable reliance or detriment. The landlord could have sold the land, regardless of the lease. It therefore reversed the trial court’s finding of equitable estoppel. TBLD Corp v. Ravenna Investment Co., Inc., C.A. No. 21043, Ohio Ct.App., 9th App.Dist, Oct. 2, 2002. When a subtenant vacated the leased premises, the landlord notified the prime tenant that it intended to evict him. The prime tenant and the landlord agreed that if the landlord could lease the entire premises and the prime tenant could sublet the unused portion for its business, the landlord would not evict the prime tenant. The landlord, however, could accept direct rent payments from the prime tenant without waiving its right to evict him. A new tenant was found, but the prime tenant had to pay higher rent, utilities and taxes. The prime tenant sued the vacating subtenant for damages arising from its breach. The appellate court held that the prime tenant could pursue the subtenant for damages. The Goldcrest Transport, Ltd. v. Across America Leasing Corp., 298 A.D.2d 494; 748 N.Y.S.2d 411 (N.Y. App.Div., 2nd Dept., 2002). A landlord filed a complaint for forcible entry and detainer against a tenant, alleging breach of the lease. The tenant coun- terclaimed for unjust enrichment. The appeals court found that there was credible evidence that the landlord had waived its notice to vacate. Rent checks were received and cashed one and two months after the notice was served. The court rejected the landlord’s argument that these payments were for liabilities already incurred because there was testimony that the mini- mum rent had always been paid around the same time that the checks were received and cashed. The William J. Rosby Trust v. Kurtz Bros., Inc., No. 8-781, Ohio Ct. App., Cuyahoga County, Nov. 14, 2002.

Leases A tenant in a strip shopping center had an oral agreement with its landlord regarding reserved parking and signage. When the property was sold, the new landlord advised the tenant that it had 15 days to remove the reserved parking sign. The ten- ant filed a declaratory judgment action regarding its right to maintain the sign. The landlord responded and filed a demand seeking to evict the tenant. After a hearing, the court found that the landlord had a right to require the tenant to comply with the lease, even if there were a prior oral agreement with the previous landlord. The tenant appealed, and the appellate court affirmed the trial court’s finding that the tenant was in breach of the lease. A&J v. Ackel Real Estate, LLC, 831 So. 2d 311 (La.Ct.App., 2002).

20 A company hired a consultant to locate a site for its coffee shop. The consultant found a location in a shopping center and began to negotiate with the owner. The consultant and the owner’s attorney exchanged several letters, which contained a purported offer, counter-offer and acceptance. The shopping center owner then refused to sign the formal lease, and the cof- fee shop company sued for breach of contract. The trial court granted the company summary judgment, and the shopping center owner appealed. The appellate court found that the documents contained the essential terms of a valid contract. However, there were questions of fact regarding the consultant’s authority to sign the lease. The court therefore reversed and remanded for trial to determine the agent’s authority. B.F. Samuel, Sr. v. Community Coffee Co., 2001 CA 2267, La.Ct.App., 1st Cir., Oct. 2, 2002. A lease contained a condition precedent that the landlord obtain an approved application for a used car sales license. The city zoning board of appeals would not grant the application, and the tenant notified the landlord he wanted to rescind the commercial lease. The landlord sued the tenant to recover damages for an alleged breach of a lease agreement. The tenant filed a counterclaim. The trial court found in favor of the tenant, and the landlord appealed. The appellate court held that pursuant to the terms of the lease, it was the landlord’s responsibility to obtain the proper approval. It also was evident from the record that the tenant took all of the necessary and reasonable steps to facilitate approval of the used automobile sales business. The appellate court, therefore, held that the landlord could not hold the tenant responsible for the landlord’s failure to obtain approval. It further held that the landlord’s obligation to obtain written approval was a condition precedent to the leasing agreement. Thus, the appellate court held that the landlord could not enforce the leasing agreement. Blitz v. Subklew, 74 Conn. App. 183; 810 A.2d 841 (Conn.App.Ct., 2002). A restaurant tenant’s lease provided for a base rent and the larger of a consumer price index calculation or 7% of the ten- ant’s “gross receipts.” The landlord and tenant disagreed as to whether the calculation of gross receipts should include sales tax, charged tips and the value of complementary meals. The trial court granted the tenant’s motion for summary judgment. It held that the types of receipts for which the tenant received no payment were not included within the definition of “gross receipts.” On appeal, the court held that “where each side argues that the contract is clear and unambiguous, but ascribes a different meaning to the ‘unambiguous’ language, the contract is rendered ambiguous and summary judgment is improper.” It therefore reversed and remanded for a trial on the merits. Campaniello v. Amici Partnership, 832 So. 2d 870 (Fla. Ct.App., 4th Dist., 2002). A landlord sued a lessee personally in U.S. district court for rent due and was awarded $579,000, plus $95,760 in interest. The lessee appealed to the Second U.S. Circuit Court of Appeals, arguing that the parties entered into an oral agreement before the lease was signed and in the absence of the lessee’s counsel. The oral agreement allegedly provided that the lessee would be released from personal liability if he assigned the lease to a corporation, a third of which he owned. The lessee sought to have the lease reformed to incorporate the alleged oral agreement. The court noted that state law allows reforma- tion in the event of fraud or mutual mistake. However, there is a heavy presumption against reformation and a party must offer “clear, positive and convincing evidence” to overcome this presumption. The appellate court found the lessee’s evi- dence neither clear nor convincing. He did not offer the defense of fraud or mistake until almost one year after the landlord’s petition when he moved to amend his answer. The circuit court affirmed the district court’s grant of summary judgment to the landlord. Khezrie v. Greenberg, 53 Fed. Appx. 592 (2nd Cir., 2002). A tenant brought an action for declaratory judgment, specific performance and damages to enforce two leases to build restaurants in a shopping center. It alleged that the landlord breached the lease by refusing to allow it to begin construction. The trial court granted the tenant summary judgment and the landlord appealed. The appellate court found that the lease gave the tenant permission to make improvements as needed to the original premises and required permission for construc- tion of additional improvements only. Thus, the landlord did not breach the lease and the award of summary judgment, and damages to the tenant were reversed. Premier Restaurants, Inc. v. Kenner Plaza Shopping Center, LLC, 833 So. 2d 446 (La.Ct.App., 5th Cir., 2002). A renewal provision in a lease required the tenant to give 45 days’ written notice prior to the end of the rental term advis- ing the landlord whether the tenant wished to extend or terminate the lease. Subsequently, the parties executed an amend- ment to the lease that expressly superceded any conflict with the terms of the initial lease and allowed the tenant to renew upon termination. When the lease terminated, the tenant sought to renew it, but the landlords claimed the tenant had failed to comply with the 45-day notice provision and thus had no right to renew. The landlords sued, and the trial court entered judgment for the tenant, who alleged that the lease had been amended to allow renewal when the lease terminated. The Rhode Island Supreme Court affirmed. It concluded that the trial court was correct in deciding that the intention of the par- ties in drafting the amendment was to supersede the original lease and replace the prior notice provision. Samos v. 43 East Realty Corp., 811 A.2d 642 (R.I.Sup.Ct., 2002). In addition to fixed monthly base rent, a lease required the tenant to pay a percentage share of certain expenses. The expenses related to the entire “Property,” which was defined in the lease as the land and the building located on the property. The lease provided that this additional rent would increase or decrease if the amount of rentable space within the property changed. The property contained a parking lot over which the lease gave the landlord complete control. The landlord and tenant disagreed over the amount payable as additional rent. The question before the court was whether the parties intended to include the parking lot in the calculation of “rentable space” for purposes of calculating the tenant’s percentage of addi- tional rent. The court concluded that, from the inception of the lease, the property had contained the parking lot and the lot Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 21 was never included in the calculation of the additional rent as “rentable space.” The tenant’s predecessor operated a similar business under a nearly identical lease and paid the same percentage of additional rent as the landlord now sought to charge the tenant. Furthermore, the lease gave the landlord the right to charge a fee for parking, and the fact that the landlord chose to contract with a third party to collect the fee did not affect the conclusion that the parties’ intent was not to include the parking lot the in the “rentable space” calculation. Sea Fare’s American Care, Inc. v. Brick Market Place Associates, 787 A.2d 472 (R.I. Sup. Ct., 2002).

Options Where an option to purchase the leased property did not contain a specific closing date, the determination of what consti- tutes a reasonable time to close after the exercise of an option is a question for the finder of fact. Harper-Wittbrodt Automotive Group, LLC v. Teague, No. M2001-02812-COA-R3-CV, Tenn.Ct.App., Nov. 6, 2002. A landowner granted an oil company an option to buy a strip of land. The option contained a provision that no other gas stations would be allowed on eight surrounding acres owned by the landowner. During the next two years, the property was transferred five times. The first four deeds made express mention of the restriction, but the fifth conveyance did not. In a final reconveyance to the plaintiff-developer, there was no reference to the restriction. The developer built a shopping center on the property and claimed that his largest tenant refused to renew its lease because it could not construct a gas station on the premises. He sued the oil company to declare the restriction inapplicable. The trial court granted the oil company’s motion, and the appellate court affirmed. It rejected the developer’s argument that he had no notice of the restriction. Even though his deed did not mention the restriction, purchasers are charged with knowledge of the provision of recorded instruments that form an essential link in their chain of ownership. Furthermore, a review of the deed records would have shown the property was subject to the exercise of the option. Thus, the developer had constructive notice of the option and the restric- tion on his property. Herman v. Shell Oil Co., 93 S.W.3d 605 (Tex.Ct.App., 2002). A lease gave the tenant, a law firm, the option to terminate it if, at the completion of the first six-year term, any members of the law firm were deceased or permanently retired from the practice of law or disabled. The term of the lease was 18 years, and the tenant did not try to terminate the lease until 13 years into the term. The landlord refused to accept termina- tion. The landlord contended that the clause provided a one-time opportunity to terminate at the end of six years. It was designed, according to the landlord, to meet both parties’ needs, in that it gave the tenant enough time to assess the viability of his law firm and satisfied the landlord’s need to refinance the building project by the end of the sixth year. The trial and appellate courts agreed, concluding that the intent of the parties was to enter into a long-term lease that protected the sub- stantial financial interests of both parties. Walsh v. Nelson, No. 154/01-1900, Iowa, Nov. 14, 2002.

Taxation In the absence of evidence of a recent sale, courts may use the current lease and mortgages as indicators of the property’s true value for taxation purposes. Lia v.Town of Niskayuna, 752 N.Y.S.2d 136 (N.Y. App.Div., 3rd Dept.).

Tort Liability An employee of a tenant slipped and fell on ice that accumulated on the sidewalk outside the leased premises. He sued his employer and the landlord for damages. Both defendants moved for summary judgment dismissing the complaint. The motion by the landlord was denied because of a city ordinance that required the premises to be maintained in a safe condi- tion. The appellate court reversed, holding that the ordinance required only a general duty to maintain the premises in a safe condition. The lease delegated the duty to maintain the premises to the tenant, and the landlord had retained only the right to re-enter, inspect the premises and make necessary repairs. The court held that the out-of-possession landlord was entitled to summary judgment. Ahmad v. City of New York, 298 A.D.2d 473; 748 N.Y.S.2d 777 (N.Y.App.Div., 2nd Dept., 2002). A customer slipped and fell while shopping at a Wal-Mart store and sued the store for negligence. After a verdict in favor of the plaintiff, the district court denied Wal-Mart’s motions for directed verdict, judgment notwithstanding the verdict and new trial, finding the customer 40 % negligent and Wal-Mart 60% negligent. Wal-Mart appealed. The appellate court found that the customer could not have voluntarily assumed the risk of slipping and falling where she fell because she did not know of the danger of snow and slush there. It was up to the jury to decide how the evidence of the store’s duty and knowl- edge compared to the knowledge and duty of the customer. With that evidence, the trial court did not err in denying the store’s motions for a directed verdict, judgment notwithstanding the verdict, or new trial. The appellate court affirmed the lower court’s denial of Wal-Mart’s motions and upheld the verdict. Carter v. Wal-Mart Stores, Inc., No. A-01-1197, Neb. Ct. App., Jan. 14, 2003. A shopper in a supermarket fell when her foot became lodged in a shopping cart railing at the bakery counter. She sued for damages, but the trial court granted the store summary judgment because the railing was not an inherently dangerous condition. The appellate court affirmed. It held that after the supermarket had proved it had no duty to warn the shopper of the existence of the railing, the burden shifted to the plaintiff to show that the railing constituted a dangerous condition. Without evidence that the railing created a dangerous condition, the supermarket was entitled to summary judgment. Oberstein v. Mayfair Super Markets, Inc., 298 A.D.2d 446; 748 N.Y.S.2d 271 (N.Y. App. Div. 2nd Dept., 2002).

22 A customer slipped on rainwater that had accumulated on a retail tenant’s threshold. She sued both the tenant and its landlord to recover damages, alleging that the tenant had negligently created an inherently dangerous condition when it painted over a cement-based epoxy surface located at the store’s exit. Both defendants moved for summary judgment, and the court denied the motion. The tenant appealed. The appellate court found that the plaintiff failed to establish that either defendant had actual or constructive notice that the area was slippery when wet and the tenant was entitled to summary judgment. Procedurally, it was noted that even though the landlord had not appealed, the court was permitted to search the record and grant summary judgment to the non-appealing defendant. Rodriguez v. Kimco Centereach 605, Inc., 298 A.D.2d 571; 749 N.Y.S.2d 543 (N.Y. App.Div., 2nd Dept., 2002).

Zoning A town board ran afoul of the fundamental policy of the state environmental law by separating the zoning phase from the development phase of a shopping center project. Neighborhoods Assn., Inc. v. Town Board of North Greenbush, 750 N.Y.S.2d 164 (N.Y. App.Div., 3rd Dept., 2002). A civic association challenged the town zoning board’s rezoning of a shopping center that would permit certain changes to the center, including the addition of an entrance. The association argued that the rezoning constituted illegal spot zoning, and sued for a declaratory judgment. The trial court confirmed the board’s decision based on the determination of environ- mental non-significance, and denied the association’s motion for summary judgment seeking declaratory relief. The associa- tion appealed. The appellate court held that the project was a reconfiguration, and not an expansion, of a shopping center, and did not have a significant impact on the environment. Terrace Manor Association v. Town of North Hempstead, 2001-09906, 2002-03264, N.Y. App. Div., 2nd Dept., Jan. 12, 2003.

Legislation Delaware—2002 New Laws, H.B. No. 515, authorizes the lease of street-level space within a parking garage for retail and commercial use. New York—2002 New Laws, A.B. No. 8823, permits exemption of non-residential property from taxation upon conversion to mixed use. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 23 Letters of Credit as Security for Tenants’ Performance of Lease Obligations in Common Law Provinces of Canada

Natalie Vukovich* Daoust Vukovich Baker-Sigal Banka LLP Toronto, Canada

Security Against Tenants’ Performance of Lease Obligations––Generally Ever since the seminal case of Cummer-Yonge Investments Ltd. v. Fagot [1965], 2 O.R. 152 (affirmed in the Ontario Court of Appeal), which held that a guarantor’s liability for a tenant’s obligations under the lease would be extinguished on the dis- claimer of the lease, landlords of properties located in common law jurisdictions of Canada1 and their lawyers have been try- ing to find ways to obtain better protection against the loss of a tenancy due to bankruptcy. Casting a guarantor’s obligations as that of an indemnifier proved to be a successful means of retaining the liability of the guarantor/indemnifier for future rent after the disclaimer of the bankrupt tenant’s lease [Sifton Properties Limited v. Ruby Dodson [1994] O.J. No. 1856 (Ont. Ct. (Gen. Div.)]. And a landlord was allowed to recover under a promissory note given by one of the corporate tenant’s principals, after the bankruptcy of the tenant and disclaimer of the lease in the case of Markborough Properties Ltd. v. Shiraz Rajan [1993], 24 C.B.R. (3d), 291 (B.C.S.C.). But in Peat Marwick Thorne Inc., Trustee v. Natco Trading Corporation et al. [1995], 22 O.R. (3d) 727, the landlord enjoyed a security interest in the tenant’s equipment on the leased premises, “to secure the payment of all rent and any other obliga- tions of the tenant under the lease or any renewal thereof,” yet when the tenant went bankrupt and its trustee disclaimed the lease, the Court found that the security agreement secured nothing, as the trustee’s disclaimer of the lease put an end to the tenant’s obligations under the lease.

Letters of Credit Background A letter of credit is an arrangement whereby a bank as the issuer, acting at the request and on the instructions of a customer, as the applicant, is to make payment to a third party as beneficiary, provided there is compliance with the terms and condi- tions of the letter of credit. In The Canadian Bar Review [1986], Vol. 65, L. Sarna states, at p. 305, that: “The basic principles by which the letter of credit transaction operates are widely recognized. They include the notion that letters of credit are transactions autonomous or independent of the underlying contracts on which they are based. The issuer is not concerned with or bound by underlying contracts; it deals exclusively in documents and not in goods or services to which the documents may relate. The issuance of a letter of credit and its acceptance by the beneficiary entitles the beneficiary to a direct claim against the issuer in the event of the issuer’s unjustified refusal to pay. There are exceptions to the rule of autonomy including, most notoriously in certain circumstances, fraud by the beneficiary.” Sarna further addresses the context of bankruptcy, stating: “One of the chief reasons for soliciting letters of credit, at least so far as the beneficiary is concerned is to acquire a recourse against a neutral, steady, trustworthy and solvent holder of funds, namely, the issuing bank or a subsequent confirm bank. Once the credit has been opened and accepted by the beneficiary, the beneficiary should theoretically have little concern for the future operation, reputation, fate or demise of the applicant .... If the applicant happens to fall under the bankruptcy provisions of the relevant jurisdiction, the beneficiary’s recourse against the issuer is thought to remain unaffected.” Sarna’s article addresses the threat to these notions that some case law prior to 1986 had posed, but Sarna observes, at page 316, that: “In short, there is little in the bankruptcy legislation which would permit a trustee in bankruptcy of an applicant to obtain standing to interfere in the orderly payment by an issuer of a demand under a letter of credit, ....” In his last paragraph, Sarna states: “A credit beneficiary regards the letter of credit not only as a payment facility, but also as security against the bank- ruptcy or non-performance of the underlying contract by the applicant. As we have seen, it is essential for the mainte- nance of the esteem in which the letter of credit is held that payment not be obstructed due to personal claims or defences the applicant and issuer may have against each other, or due to the bankruptcy of the applicant.”

24 Case Law The decision of Lava Systems Inc. (Receiver and Manager of) v. Clarica Life Insurance Co. [2001], O.J. No. 3365 (Sup. Ct. J.), dealt with a lease disclaimer by the tenant’s bankruptcy trustee, following which the trustee contested the landlord’s previous draw upon a letter of credit issued by the tenant’s bank as security for the tenant’s lease obligations. The lower court held, relying on Peat Marwick, that the landlord’s right under the letter of credit was restricted to an amount owing under the lease and did not permit payment to the landlord where the tenant’s obligations under the lease came to an end (i.e., upon the disclaimer of the lease). On appeal by the landlord, the Ontario Court of Appeal ([2002] O.J. No. 2526), noticed that the money paid under the letter of credit belonged to the bank, which was not a party to the proceeding but presumably did not object to the landlord’s having cashed the letter of credit (since it was not pursuing the matter). So, the landlord was allowed to keep the money. Some have heralded the appellate decision as offering assurance to landlords that letters of credit are again good security for a tenant’s obligations under leases. However, the opposite may be the case. The Court of Appeal specifically noted that it did not have to consider the landlord’s other ground of appeal (which was that the application judge erred in holding that the landlord’s draw on the letter of credit was limited to the statutory entitlement under the bankruptcy scheme, i.e., so as not to allow a future rent claim). In effect, the Court of Appeal dodged the main issue, which is whether a letter of credit withstands the tenant’s bankruptcy and its bankruptcy trustee’s subsequent disclaimer of the lease. Previously, in similar circumstances, in the case of 885676 Ontario Ltd. (Trustee of) v. Frasmet Holdings Ltd. [1993], 12.O.R. (3d) 62 [Ont. Ct. (Gen. Div.)], a landlord was allowed to realize part of a future rent claim against a letter of credit that was provided “to secure the tenant’s obligations under the lease.” Likewise, Dunlop Construction Products Inc. (Receiver of) v. Flavelle Holdings Inc. [1996], 31 O.R. (3d) 58 (C.A.), supported a landlord’s claim under the letter of credit after bankruptcy. But in Titan Warehouse Club v. Glenview Corp. [1989], 75 C.B.R. 206 (Ont. C.A.), the court refused the landlord’s claim, relying on Cummer-Yonge. Courts in British Columbia and Alberta have also looked at the same issue and landed on different sides of it. In West Shore Ventures Limited v. K.P.N. Holding Ltd. [2001], B.C.C.A. 279 (C.A.), the British Columbia Court of Appeal held that a land- lord was not entitled to draw upon its letter of credit after the tenant’s trustee in bankruptcy surrendered possession, and ter- minated the lease. However, in 366604 Alberta Ltd. (Trustee of) v. Pensionfund Properties Ltd [1998], A.J. No. 980 (C.A.), the Alberta Court of Appeal concluded that the landlord in these circumstances was entitled to draw on the letter of credit (which was actually framed as a letter of guarantee, although nothing turns on the terminology).

Analysis Some practitioners have proposed that the solution to this mystery of when a letter of credit will (or will not) withstand the test of bankruptcy/disclaimer, lies in the framing of the letter of credit clause (in the lease) and the letter of credit instrument itself. It is suggested by some that the cases reveal a theory that letters of credit intended to secure the tenant’s lease obliga- tions are flawed, whereas letters of credit that are unencumbered by such statements of purpose will be upheld despite dis- claimer of the lease in bankruptcy. Others suggest that it may be sufficient simply to state that the letter of credit will be avail- able despite bankruptcy and disclaimer, or that it might suffice to separate some obligations from the lease and secure them with the letter of credit so that they will not be undermined by lease disclaimer. It has been suggested that the important dis- tinction is whether the letter of credit is characterized as “secondary” or “primary.” Secondary obligations securing a tenant’s primary obligations are said to be doomed to failure when the primary lease obligation is extinguished on disclaimer. But how can a letter of credit be anything but secondary? In Lava, the landlord paid out $2.43 million in lease inducements that would (at least in effect, although certainly not liter- ally under the terms of the lease) have been repaid by the tenant in rent payments over the term of the lease, had the tenant not gone “bust.” The application judge commented in the second-to-last paragraph of his decision that: “In blending repayment of the Inducements with rent payable under the Lease, the Landlord assumed the risk of bankruptcy’s effect on the Lease, a risk not present in a separate loan agreement.” Likewise, in West Shore Ventures, the Court of Appeal observed that: “... the key question is: what obligations are secured? If the obligations secured are the obligations of the tenant under the lease then the security is no longer security for anything when the obligations of the tenant under the lease come to an end. But where the obligations secured are obligations, perhaps independent obligations, to make good the losses suffered by the landlord by reason of the tenant’s bankruptcy or other default, which might well include damages for loss of rent over the duration of the tenancy, then those separate obligations might well survive the bankruptcy of the tenant.”

Contrast these with Frasmet, in which the concluding statement of Mr. Justice Blair was:

“While the bankruptcy of [the tenant] and the subsequent disclaimer of the lease by the trustee may release the tenant and its trustee from those obligations, they cannot, in my opinion, deprive the landlord from having resort to the secu- rity for which it bargained in order to protect itself in the case of the eventuality which has occurred.” Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 25 Interestingly, the cases that consider, but reject, Frasmet seem to base their opposition on this latter statement, which is rooted in principle and the larger concept of the purpose served by security. This would undoubtedly come as a surprise to the academic, Sarna, who noted that, in theory, the bankruptcy of the applicant should not impact the rights of the benefici- ary opposite the issuer. There is some suggestion amongst practitioners that, reading between the lines of the cases, lawyers acting for landlords have to sharpen their pencils and come up with better wording for letters of credit in order to safeguard their intended pro- tective value. (One can only speculate as to why the courts would get caught up in the structure of the letters of credit before them and not simply look to the purpose, and to the efficacy of letters of credit, allowing the letters to withstand bankruptcy and lease disclaimer.) In Victoria Butcher & Baker Restaurants Inc. v. Schroeder Properties Ltd. [1992], 8 B.L.R. (2d) B.C.S.C., a tenant’s obligation to provide its landlord with a letter of credit for the monetary equivalent of two years’ rent, as security for the performance of several lease obligations, was regarded as a penalty clause and, therefore, unenforceable. The court expressed concern that in respect of several possible breaches giving rise to the right to draw on the letter of credit, drawing on the letter of credit would be out of proportion to the wrong and would bring about an unconscionable result. The fact that the landlord could draw down only a partial amount did not save the clause, since that would be at the landlord’s discretion and there was no guarantee the landlord would not cash the entire letter of credit as the result of any default.

Recommendations The crux of the issue lies in statements such as those of the Court in Victoria Butcher. The law does not favour over-compensa- tion of wronged individuals. There is a perception that following the loss of a lease in bankruptcy, the landlord has not suf- fered as great a loss as the letter of credit will compensate. The reason for this perception is that the landlord retains the asset––the leased premises. It can, presumably, mitigate by re-leasing the premises to another. If this theory is correct and explains why courts are so often unwilling to grant access to the security bargained for in cases of the loss of the tenancy due to bankruptcy, then it is also likely that virtually no letter of credit structure can be estab- lished with certainty of enforceability in the context of leases of commercial real property. Courts will simply look past the wording to the outcome, ruling against the enforcement of the letter of credit regardless of the actual terms of the letter of credit. If this theory is incorrect and the courts truly are concerned with proper structuring of the letter of credit, then it may be worth reviewing the cases to see what wording “worked” and what wording did not. No single principle, however, seems to emerge from these cases with any consistency. Nevertheless, here are a few sug- gestions to try to make a letter of credit withstand the bankruptcy and subsequent disclaimer of the tenant’s lease: 1. Assuming all that is sought to be secured is the amount of the inducements, isolate all of the amounts paid as induce- ments and have that total repayable by the tenant to the landlord by way of a separate and independent loan vehicle (i.e., rather than burying the reimbursement amounts in rent). The loan is secured by the letter of credit. Ensure there is no obvious connection to the lease. This might be unappealing to the landlord, as it would require the landlord to track the loan payments separately and not show the repayment amounts as rent (the net result of which might reduce the proper- ty’s value––which is a function of income). Also, it is an incomplete analysis that quantifies the loss of a tenancy by meas- uring only the unamortized inducements; the other losses (future rent, re-leasing costs) are not secured by the letter of credit in this scenario. There are also tax implications to consider, and, from a tenant’s perspective, the accounting treat- ment of this type of a loan may not be desirable. (Some have suggested that the loan could be structured more simplisti- cally without tampering with the lease rents, as a forgivable loan with a one-time balloon payment at the end of the term––secured by the letter of credit–– unless certain conditions (i.e., full lease performance) have been satisfied, where- upon the duty to repay would be cancelled.) 2. Oblige the tenant to provide the letter of credit elsewhere than in a clause set out in the lease, and simplify the obligation to a mere requirement that the tenant provide the letter of credit throughout the term of the lease. The letter of credit should likewise state nothing about the lease it is intended to secure, or even about its purpose (i.e., to secure the tenant’s obligations under the lease). The letter of credit should allow the landlord to draw upon it with very few, if any, condi- tions, none of which would mention the lease in any way. While this may be effective as a means of ensuring that the let- ter of credit stands as good security, it may be far-fetched to think that a tenant would agree to such an arrangement, given the potential for abuse by the landlord. 3. Have the tenant sign a promissory note for a specific amount sought to be secured, and then secure the promissory note with a “clean” letter of credit. Again, this assumes that the tenant is willing to trust the landlord will not use the letter of credit inappropriately. 4. A final scenario may be appropriate where the dollars at stake are large and the parties are sophisticated. It involves estab- lishing a single-purpose entity, whose purpose would be to qualify as applicant for a letter of credit in favour of the land- lord. In this structure, the tenant would presumably go bankrupt, and the lease would be disclaimed. The landlord would make demand of the entity and then assert its entitlement to the letter of credit funds upon default of the entity. Due to its complexity, this structure is not recommended for the average commercial lease.

26 Conclusion Until we receive more definite authority, there is simply no sure way to guarantee (pardon the pun) the reliability of a letter of credit as a backstop for a tenant’s obligations under a commercial lease in circumstances where the tenant goes bankrupt and the lease is disclaimed.

*Natalie Vukovich is a partner in Canada’s only commercial leasing boutique firm, Daoust Vukovich Baker-Sigal Banka LLP, in Toronto.

(1) Quebec is a civil law province, whose laws are governed by the Civil Code of Quebec; as a result, the comments set out in this article do not pertain to Quebec. In addition, the laws of Nunavut, the Northwest Territories and the Yukon have not been researched by the author; as a result, the comments in this article also do not pertain to those Territories. Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 27 Judicial/Legislative Developments

Cases

ALBERTA The landlord was denied the solicitor and client costs it incurred in successfully defending an application initiated by the ten- ant. The landlord could not rely on the lease clause, which stipulated that the tenant would pay the landlord’s solicitor and client costs in connection with any default by the tenant under the lease. The tenant’s application was not related to a default. K. June Koska Professional Corporation v. Boardwalk Equities Inc. [2002] A.B.Q.B. 897 (Alberta Court of Queen’s Bench, Oct. 16, 2002, Sanderman J.)

The tenant overpaid its share of operating costs, where the landlord billed the tenant without taking into account the tenant’s annual operating cost cap. The limitation period to dispute errors included in the lease did not apply because the landlord’s failure to take the cap into account was not an error within the common meaning of the term “error.” Primrose Lane Shopping Centre v. Carlin Management Ltd. [2002] A.B.Q.B. 863 (Alberta Court of Queen=s Bench, Sept. 30, 2002, Kent J.)

The tenant did not unreasonably withhold its consent in connection with the landlord’s request to construct a free-standing restaurant pad within the tenant’s no-build zone. The tenant could rely on any genuine reason to withhold its consent and was not obligated to provide reasons. First Capital (Northgate) Corporation v. 137th C.T. Grill Inc. [2002] A.B.Q.B. 895 (Alberta Court of Queen=s Bench, Oct. 30, 2002, Acton J.)

BRITISH COLUMBIA An offer to lease was null and void, as the landlord’s letter, falsely stating that it had obtained construction financing, was not sufficient to satisfy a condition inserted into the offer for the sole benefit of the landlord, which condition required notice that either financing had been secured or the condition was being waived. Dallas Park Shopping Centre Ltd. v. Buy-Low Foods Ltd. [2002] B.C.J. 2393 (British Columbia Court of Appeal, Sept. 24, 2002, Finch C.J.B.C., Rowles and Donald JJ.A.)

The landlord’s refusal to respond to the tenant’s repeated requests for consent to a sublease amounted to a fundamental breach of the lease, which entitled the tenant to treat the lease as an end. The breach also materially varied the risk assumed by the lease indemnifier under its indemnity agreement and, as such, served to absolutely discharge the indemnifier from all liability. Jens Hans Investments Co. v. Bridger [2002] B.C.J. No. 1899 (British Columbia Supreme Court, Aug. 20, 2002, Ralph J.)

ONTARIO The landlord unreasonably withheld its consent in connection with Loblaws’ proposed change of banner from “Loblaws” to a “No Frills” discount food supermarket. 1098748 Ontario Ltd. v. Loblaws Inc. [2002] O.J. No. 4316 (Ontario Court of Appeal, Nov. 14, 2002, Morden, Labrosse and MacPherson JJ.A.)

A notice of renewal was properly delivered by the tenant notwithstanding the fact that the tenant failed to deliver the notice to a “responsible employee” of the landlord as was required under the lease. The notice was delivered to security personnel in the main lobby of the landlord’s building, which personnel was not employed by the landlord. DW Squared Limited Partnership v. Oxford Properties Canada Ltd. [2002] O.J. No. 3642 (Ontario Court of Appeal, Sept. 20, 2002, Morden, Charron and Simmons JJ.A.)

The landlord’s acceptance of rent accruing after its notice of default was sent and its ongoing negotiations with the tenant over roof repairs were acknowledgments of the continued existence of the lease and, as such, the landlord had waived its right of forfeiture despite a “no-waiver” clause contained in the lease. The tenant’s claim based on negligence as against the landlord’s property manager could not be supported as the property manager was not in a sufficiently close relationship to the tenant. Fitkid (York) Inc. v. 1277633 Ontario Ltd. [2002] O.J. No. 3959 (Ontario Superior Court of Justice, Oct. 11, 2002, Swinton J.)

The tenant did not lose the benefit of an option to purchase when the tenant attempted to grant a sublease but, in fact, made an assignment of the lease because the tenant failed to reserve part of the term. While the sublease operated as an assign- ment, the option to purchase remained with the tenant because it did not necessarily follow the assignment. The court refused to rule on whether Section 3 of the Commercial Tenancies Act allows for the granting of a sublease without the necessi- ty of having to reserve part of the term. Goldman v. 682980 Ontario Ltd. [2002] O.J. No. 4053 (Ontario Court of Appeal, Oct. 24, 2002, Finlayson, Carthy and Laskin JJ.A.).

28 The tenant’s option to renew was unenforceable because it did not state or otherwise provide a method or formula for ascer- taining the duration of the renewal term. Holt v. Thunder Bay (City) [2002] O.J. No. 3507 (Ontario Superior Court of Justice, Sept. 9, 2002, Platana J.)

The tenant improperly terminated a lease in respect of lands upon which the tenant was to erect a communications tower. The lease provided that it could be terminated by the tenant if the tenant could not obtain all necessary approvals from third parties to operate the tower or if, for any other reason, the tenant determined that it would be commercially impractical to use the premises for their intended purpose. The failure to finalize a development agreement was not a valid reason to termi- nate the lease because the tenant had not used its best efforts to finalize the agreement. Also, the failure to obtain a non-dis- turbance agreement was not a valid reason to terminate because the lack of a non-disturbance agreement did not render the erection of the tenant=s tower commercially impractical. Ingle v. Rogers Wireless Inc. [2002] O.J. No. 3746 (Ontario Superior Court of Justice, Oct. 1, 2002, B. Wright J.)

The landlord was not required to consider the working papers of the assessment authority in calculating the tenant’s share of realty taxes. The lease clearly provided that if the shopping centre was assessed “en bloc,” or the tenant’s premises were no longer assessed and taxed separately, the tenant was required to pay its proportionate share of realty taxes. Orlando Corp. v. Zellers Inc. [2002] O.J. No. 4284 (Ontario Superior Court of Justice, Nov. 5, 2002, Pitt J.)

While the landlord breached the terms of the letter agreement between the parties by insisting that the tenant sign a formal lease containing a relocation clause and burdensome insurance provisions not referenced in the letter agreement, the breach was not fundamental. Accordingly, the tenant was not in a position to terminate the tenancy. Victoria Park Avenue Associates Limited Partnership v. Magnaflex Industries Inc. [2002] O.J. No. 4079 (Ontario Court of Appeal, Sept. 11, 2002, McMurtry C.J.O., Abella and Moldaver JJ.A.)

QUEBEC Despite the absence of a signed agreement, the landlord was bound to an agreement to terminate the tenant’s lease and to pay an early termination fee to the tenant . The landlord had not acted in good faith in attempting to renege on the agree- ment. Développement Métro-Montréal Canada Corp. v. 9027-1586 Québec Inc., 500-05-064689-019 (J.E. 2002-1782)

A prospective purchaser of lands was entitled to terminate its agreement of purchase and sale after the lands were found to be contaminated. The contamination was a latent defect. Marquis v. Saltsman, 500-09-008413-999 (J.E. 2002-1729) (Court of Appeal)

When a municipality assesses properties in respect of local improvement work, it cannot do so arbitrarily or “en masse,” but must assess the costs in a reasonable manner, taking into account the proportions to which the properties benefit from the work. Ville de Ste-Marthe-sur-le-Lac v. 161979 Canada Inc., 500-09-008644-999 (J.E. 2002-1618)

The vendor of property was ordered to pay damages after it failed to disclose to the purchaser that the property was zoned for agricultural use. Gestion Mécatriel v. Lopez [2002] R.R.A. 1012 (J.E. 2002-1642)

The tenant was awarded damages after the landlord’s negligence led to a fire in the landlord’s plaza. The landlord was not entitled to be released from liability in light of the fact that the lease clearly provided that the landlord would be liable for its own negligence. Alexis Nihon (Quebec) Inc. v. Commerce & Industry Insurance Co of Canada [2002] R.R.A. 727 (Court of Appeal).

A right of servitude was unenforceable because it was intended to benefit a shopping centre that was never built and because it was expressly made to benefit the tenants, employees and customers of the shopping centre as opposed to the lands. Centre de Loisirs de Pierrefonds enr. v. 151692 Canada Inc., 500-05-071362-023.

SASKATCHEWAN A shopping centre owner was granted an interim injunction to restrain a neighbouring mall owner from closing a right of way between the properties. The right of way had been maintained for 22 years pursuant to an easement agreement entered into between the previous owners of both properties. The agreement had not been registered on title to the neighbouring mall owner’s lands. Roth v. 791787 Alberta Ltd. (c.o.b. Sherwood Mall) [2002] S.J. No. 593 (Saskatchewan Court of Queen=s Bench, Sept. 20, 2002, Zarzeczny J.) Shopping Center Legal Update Vol.Shopping Center Legal Update 23 Issue 1 Spring 2003 29 Legislation

ALBERTA Regional Shopping Centre Allocation of Assessment Regulation - The regulation, promulgated under the Municipal Act, provides a mechanism for use by regional shopping centres for the purpose of internal allocation of property taxes among the various components and tenants of the shopping centre.

No Smoking By-Law – Calgary’s Municipal Council approved a by-law to prohibit smoking in all public places by Jan. 1, 2008. All restaurants, bars and gaming establishments must declare themselves as smoking, non-smoking or dual establishments by March 1, 2003. Dual establishments are required to have a separate smoking room.

NOVA SCOTIA Smoke-Free Places Act, S.N.S. 2002, c. 12 - The legislation prohibits smoking in shopping malls and other commercial buildings in Nova Scotia. The legislation also prohibits the employment of persons under the age of 19 in areas where smoking is per- mitted. The legislation came into force on Jan. 1, 2003.

ONTARIO Consumer Protection Statute Law Amendment Act, 2002 - The Act enacts and amends various statutes related to consumer pro- tection. The Act enacts the Consumer Protection Act, 2002, which includes substantive contents of what was, inter alia, the for- mer Consumer Protection Act and Business Practices Act. It also revises the Real Estate and Business Brokers Act by, amongst other things, creating the new category of “brokerage” for registration under the Act.

SASKATCHEWAN The Environmental Management and Protection Act, 2002 - The legislation alters the scope of liability for environmental contami- nation by clearly placing liability on the parties at fault. The legislation also introduces the concept of vicarious liability in respect of offences under the Act.

This update was prepared by Natalie Vukovich and Joseph Grignano (Daoust Vukovich Baker-Sigal Banka LLP, Ontario) with the assis- tance of David E. Gillanders (Stikeman Elliott, British Columbia), Blair C. Yorke-Slader (Bennett Jones LLP, Alberta), Murray F. Tait (T&T Properties, Alberta), Douglas J. Mathews (Stewart McKelvey Stirling Scales, Nova Scotia), Stephen J. Messinger (Minden Gross Grafstein & Greenstein LLP, Ontario), Glen R. Peters (Fillmore Riley, Manitoba), Fredric L. Carsley (Mendelsohn, Rosentzveig, Shacter, Quebec), and R. Neil MacKay (MacPherson Leslie & Tyerman, Saskatchewan).

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