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High Court ruling could impact on future break clause negotiations

Thu 26 Jan 2012

Commercial tenants who have the benefit of a break clause in their existing leases could be affected by a recent legal ruling.

The case of Avocet Industrial Estates LLP v Merol and another recently went before the High Court, which had to determine whether a tenant had fully complied with their break clause. It required the tenant to make a terminal payment and clear all other monies due under the lease as a condition of the tenant being able to exercise the break clause.

It heard that the tenant made the terminal payment by cheque, even though the landlord was expecting cleared funds by an agreed date and that interest that had accrued a late payment had not been paid by the tenant.

The court ruled in favour of the tenant on the terminal payment being made by cheque since other payments had also been made by cheque over the previous three years, which led to a belief the landlord would continue to accept this means of payment. Since the landlord had not said otherwise, they were not allowed to reject the cheque from the tenant.

However the tenant lost on the second issue and so its attempt to exercise the break clause failed.

Mark Vinall, a partner at Winckworth Sherwood Solicitors, commented: "Commercial tenants will often negotiate for the right to break their lease at certain points i.e. at the point the rent is prone to being reviewed upwards. At that stage they may not address their mind to the terms on which that right will be available. When drafting the lease landlords will usually seek to attach strings to the tenant's ability to exercise the break requiring - for example that there are no arrears or other breaches of the tenant's obligations and that vacant possession is given on the break date.

"Tenants need to think carefully before accepting these strings as it is easy to be caught out by them and so miss out on the opportunity to break the lease which can of course be expensive; In this case the tenant, in the belief that it had validly exercised the break clause, moved out and may have committed to alternative premises in the belief that it had validly broken the lease only to find that the lease lived on. For many tenants in the current economic climate this outcome could be a fatal to their business.

"There are good arguments as to why landlords do not need the benefit of such strings and where bargaining power allows tenants should consider holding out on this issue to limit their future business risk. If tenants do not do so then they may find themselves embroiled inexpensive litigation over the issue.

"In this case the landlord argued that the tenant had failed to make a terminal payment using the right method (cheque rather than cleared funds) and pay interest that had accrued on certain late payments. It lost on the first argument and won the second. Commercial leases contain a myriad of obligations on the tenants part so there is plenty of scope and incentive for landlords to carefully look for breaches; Landlords will often challenge compliance with the repairing obligation for example.

"This case demonstrates that tenants need to carefully negotiate the wording of break clauses, preferably rejecting any such strings being attached, and where such strings exist that they must undertake a forensic examination of their compliance in sufficient time before the break date to enable them to remedy any breaches they find. Landlords will have every incentive to pull in the opposite direction."