Real Estate

Landlord and Tenant Considerations When Negotiating Economic Concessions in Commercial Leases

Landlords and tenants enter into leases with the expectation that the document which they execute will govern their relationship throughout the term of the lease. However, shifting economic realities may move a tenant to pursue some form of relief from the terms of the lease. It is important to note that while this may initially appear to be a negative for the leasing relationship, it can also prove to be an opportunity for both parties. In order to fully realize these opportunities, there are several considerations landlords and tenants should evaluate.

The starting point for lease modification would naturally be the lease document itself. Both parties should be mindful of the original lease negotiations. Each party likely made concessions during that process, and if a tenant introduces the idea of modifying a provision of the lease (for example, the rent), it is appropriate for the parties to discuss the possibility of other revisions to the lease. Therefore, once a landlord learns of a tenant’s proposal to alter the economic terms of the lease, the landlord should consider which currently unfavorable terms could be modified to make an amended lease more palatable, such as the elimination of a tenant’s early termination right, renewal option, expansion right or other preferential rights or adding restrictions on tenant’s use of the premises. Likewise, before a tenant approaches the landlord for a concession such as rent reduction or abatement, that tenant should “think ahead” and try to anticipate what other favorable terms of the lease could be affected and balance the benefits and drawbacks to each scenario.

Next, the parties must consider the terms of the proposed economic concessions. This can come in many forms, the most common being rent abatement, rent reduction, and space reduction. In these conversations, the landlord and tenant must each have a realistic view of the value of the tenant’s lease. A tenant with a poor payment history or extended financial hardship will have a weak bargaining position. Conversely, during an economic market in which landlords are having difficulty finding new tenants to fill vacant spaces, tenants may have notably increased bargaining power.

While the proposed concession is intended to benefit the tenant, it may lead to opportunities for the landlord to reconfigure its balance of occupied and vacant space. The landlord may wish to reduce a tenant’s space or relocate a tenant to another (perhaps less marketable) location in the project in order to free up the relinquished space to be remarketed or “bundled” together with other space, creating the ability to lease to a larger full-floor/full-building tenant. Each party may also be well served in such discussions to do the other side’s homework for them in advance, including analysis of market rents, the net value of any rental adjustments and any other analysis which may help streamline negotiations.

Once a tenant asks for an economic concession, the landlord is justified in asking to examine the tenant’s financials. An open review of tenant financials will not only help the landlord determine whether to give a concession, but also help determine the amount of any concession. It is also common for such a landlord to then require continued periodic reviews of the tenant’s financials. The parties
should also address other cost saving methods available to the tenant. It will hurt a tenant’s bargaining position if it cannot show evidence that it has taken steps to reduce costs in other areas. The landlord should also take this opportunity to re-evaluate the security the tenant has given to secure its obligations and whether some modification is justified, such as the addition of a personal guaranty or additional security deposit.

Economic recovery by the tenant may trigger the end of any concession provided. In the event of rent concessions, the parties must then consider the concept of recapture. Landlords may expect the tenant to reimburse them for any rent that is forgiven. Once a balance of expectations is considered, the parties should evaluate the multiple options for recapture, such as a simple increase in the base rent at such later time as the parties reasonably project, or, for retail tenants, the addition of, or increase in, percentage rent. Because percentage rent is dependent upon tenant sales, the parties may need to manipulate the breakpoint calculation in order to guarantee repayments.

Finally, there are several issues outside the confines of the actual lease document that both parties must consider when negotiating economic concessions in the lease. First, one or both parties may be subject to loan agreements, and should seek all necessary lender approvals for modifications. Second, a landlord may want to request a waiver of all tenant claims against landlord arising prior to the effective date of the amendment via the inclusion of “estoppel” representations from such tenant. It stands to reason that a landlord that gives relief to a struggling tenant should not fear claims from a matter arising before such relief and the amendment giving tenant its economic concession. Third, any concession should be deemed terminated upon the filing of bankruptcy by a tenant in order to attempt to have the bankruptcy court consider the lease on its original terms during such process.

When tenants face difficult financial times, it is often necessary for tenants and landlords to work together to find a mutually beneficial concession which relieves the tenant’s burden while also adequately addressing the concerns of the landlord. So long as the parties carefully consider the full range of issues involved with such concessions, it can be an important step to securing a positive and sustained economic relationship between the landlord and tenant.

By Jeff Mosteller and Brian H. Baker

Insurance Defense

Recent Insurance Decisions of Note

Over the past several months, there have been several decisions which are potentially significant to the practice of insurance law. These decisions involve arbitration, medical malpractice, notice provisions of “claims made” insurance policies, and federal preemption.

Always, each case involves different facts and law, and accordingly the following must be taken for general information purposes only, rather than for action upon any specific fact situation.

No Independent Appeal Available From Arbitration Award Despite Arbitrators’ Manifest Disregard Of  The Law:

In Citigroup Global Markets, Inc. v. Bacon, 07-20670 (5th Cir., March 18, 2009), the United States Fifth Circuit Court of Appeals reviewed the recent United States Supreme Court decision in Hall Street Associates, L.L.C. v Mattel Inc., 128 S. Ct. 1396, 1403 (2008) and ruled that within the Fifth Circuit (which includes Texas Federal Courts), “manifest disregard of the law” by arbitrators in reaching an arbitration award is no longer an independent non-statutory ground for vacating such an award under the Federal Arbitration Act (“FAA”). Although the 5th Circuit left open a narrow possibility that legal errors by arbitrators might be the subject of appeal if they can be framed so as to come within the statutory grounds for appeal under § 10 of the FAA, such is not a foregone conclusion.

This decision will likely be followed by a decision from our Texas Supreme Court which has just agreed to hear an appeal in Quinn v. Nafta Traders, Inc., 257 S.W. 3rd 795 (Tex. App., Dallas 2008) wherein Dallas Court of Appeals ruled that parties may not contractually expand the scope of judicial review of an arbitrator’s decision to include grounds for reversal which are not expressly identified in the Texas General Arbitration Act.

Thus, it is becoming ever more apparent that if one wishes one’s claims to be determined with regard to the predictability flowing from the rule of law, and to have a real and effective right of appeal from an adverse result, then arbitration should be avoided.

Medical Malpractice- Exception:

In Phillips v. Bramlett, Cause No. 07-0522 (Texas March 9, 2009), the Supreme Court dealt with the interplay between the statutory liability cap upon damages in Texas Medical Liability and Insurance Improvement Act as it ex isted prior to September 1, 2003, and the statutory “Stowers exception” contained in the same Act, which provided in part that “This section shall not limit the liability of any insurer….” The court concluded that the Stowers exception of Article 4590i Section 11.02 (c) expressly applied to insurers only and did not waive the liability cap of section 11.02 (a) generally. This means that when insurance coverage is below the statutory damages cap, the “Stowers exception” claim may be shared by the insured physician and the injured party because each will potentially have excess claims when the damage finding exceeds the statutory damage cap. Conversely, when insurance coverage is above the statutory damages cap, the physician is fully protected, and only the injured third party need pursue the statutory “Stowers exception.”

The effect of this decision to other pending and future cases should be fairly limited since Section 74.303(d) of our medical liability statute was amended in Texas’ Tort Reform Act, effective September 1, 2003, to provide that “the liability of any insurer under the common law theory of recovery commonly known in Texas as the ‘Stowers Doctrine’ shall not exceed the liability of the insured.” Thus, the language of the current statute now limits the liability of an insurer to “the liability of the insured,” which arguably limits the liability of an insurer to the amount of the statutory cap on damages in the current statute, which is in keeping with the tort reform purposes of the 2003 amendment. 56 Baylor Law Rev. 423, at p.457.

Notice Provisions-“Claims Made” Policies:

In Prodigy Communications Corporation v. Agricultural Excess and Surplus Insurance Company, 06-0598 (Texas, March 27, 2009), the Texas Supreme Court dealt with whether, under a claims-made policy, an insurer can deny coverage based on an insured’s failure to comply with policy provisions requiring that notice of a claim be given “as soon as practicable” when notice of the claim was provided before the reporting deadline specified in the policy and the insurer was not prejudiced by the delay. Involved was a ninety (90) day notice of claims “condition precedent” provision in a policy which had been extended by a contractual three (3) year discovery period.

The Texas Supreme Court held that in a claims-made policy, when an insured gives notice of a claim within the policy period or other specified reporting time period, the insurer must show that the insured’s non-compliance with the policy’s “as soon as practicable” notice provision prejudiced the insurer before it may deny coverage. The Texas Supreme Court also implied that if the insured  provides notice of claim outside the policy’s date-specific reporting period, that coverage will not be allowed.

In a companion case, Financial Industries Inc. v. XL Specialty Insurance Company, 07-1059 (Texas, 2009), the Supreme Court dealt with slightly different policy language but nonetheless held that the insurer must show prejudice before an insured’s violation of the “as soon as practicable” notice provision would allow an insurer to deny coverage.

Federal Preemption Limited:

In Wyeth v. Levine, 129 S. Ct. 1187 (U.S., March 4, 2009), the United States Supreme Court held that federal approval of labels giving warnings about the effects of drugs does not bar lawsuits under state tort law claiming inadequate warnings of health risks. While supposedly “narrowly drawn,” this decision nonetheless promises to encourage the filing of products liability lawsuits which have been discouraged or precluded by prior court decisions which have given significant preemptive effect to federal approval of various products. In Wyeth, the dissenting opinion heralded this likely effect when it stated that the majority opinion had turned a “common-law tort suit into a ‘frontal assault’ on the FDA’s regulatory regime for drug labeling….”

By H. Norman Kinzy

Firm News

Texas Superlawyers Selects Michael S. Byrd as a 2009 Rising Star

SettlePou is proud to announce that Michael S. Byrd has recently been selected by the publishers of Texas Monthly magazine as one of its 2009 Rising Stars. Fewer than 2.5 percent of the lawyers in the State of Texas are named to the Rising Stars list. As a part of the lengthy selection process, lawyers are asked to nominate the best attorney they have personally observed in action under the Rising Stars practice categories. A Rising Star must either be under the age of 40 or have practiced law for less than 10 years. Once all of the nominations are in, a specialized research department examines the background and experience of the candidates. Michael is shown on pages 11 and 42 of the 2009 Texas Super Lawyers, Rising Stars Edition magazine, and in the April issue of Texas Monthly. Michael is a shareholder at SettlePou and chair of its Business Counsel Services practice group. He has been practicing law for over 13 years. Michael’s litigation experience helps drive creative real-world business planning solutions across the U.S. for the firm’s physician and business clients.