Summary. The January 12, 2015, case of Grand Prospect Partners, L.P. v. Ross Dress For Less, Inc., upheld a cotenancy clause, which provided that the tenant was not required to move in and open for business, both if a certain percentage of the retail square footage of the shopping center was not open for business, and if two named tenants were not open for business in their specified square footages of space. The cotenancy clause also allowed the tenant to not pay rent if either test stopped being met, and to terminate the lease if the breach were not cured within twelve months. The trial court refused to enforce the cotenancy clause, resulting in a $4.7 million judgment. The Court of Appeal reversed, allowing Ross to terminate the lease, but making it pay rent for the twelve months it retained control of the leased space, neither using it nor allowing the owner relet it.
Cotenancy Clause. The court did not hold that all cotenancy clauses are enforceable. It held that enforceability would depend on the facts and circumstances of each case. In California, for a contract or a term of a contract to be held unconscionable and therefore unenforceable, it must be both procedurally unconscionable and substantively unconscionable. Procedurally unconscionable requires that the process by which the contract or the challenged portion of the contract became the agreement of the parties was so unfair that it does not deserve to be enforced. Substantively unconscionable means that the contract, the challenged clause, or the way it is proposed to be used, is so unfair that it does not deserve to be enforced. Some states don’t make this distinction and do not require both. In California, both are required. The more procedurally unfair it is, the less substantively unfair it needs to be, and the more substantively unfair, then the less procedurally unfair it needs to be, in order to be denied enforcement.
This decision lays out six factors to determine procedural unconscionability: sophistication, time pressures, economic pressure, coercion, relative bargaining power, and meaningful choices. In this case, the Court of Appeal held that the cotenancy clause was neither procedurally nor substantively unconscionable. The landlord’s principals run seven shopping centers, have operated many more, and have over 30 years experience in the industry. The tenant is a large chain with sophisticated leasing reps and attorneys. So the bargaining power was not disproportionate. Multiple rounds of letters of intent and lease drafts were exchanged over a considerable period of time. The tenant refused to budge on the cotenancy requirements, but negotiated over other issues. There was no oppression, overreaching, or surprise. Therefore, there was no procedural unconscionability.
The Court of Appeal found that there were reasonable and legitimate reasons for the tenant to require the cotenancy standards. It determined that such provisions were not unusual in the industry, and it noted that the same parties had agreed to the same terms at two other shopping centers. Therefore, the court did not see anything inherently unfair about cotenancy between these parties in the context of this lease.
Rent Penalty. However, the trial court judgment for $3,785.714.86 was reduced to $672,100.00. The trial court had held the cotenancy clause to be unconscionable and unenforceable, and therefore had imposed damages for the cost of Ross’s tenant improvements plus lost rent for the entire ten year term of the lease. In upholding the cotenancy clause, the Court of Appeal held that Ross was entitled to terminate the lease and, therefore, not liable for rent for the whole ten year term.
At the same time, the Court of Appeal found that the free rent for the twelve months when Ross retained possession of the store was an improper penalty. Ross retained possession and prevented the owner from re-leasing the space for the whole year. Ross had admitted that it suffered no damages from the fact that one of the specified anchor tenants had gone bankrupt and closed nor from not opening the store. Therefore, damages for twelve months rent were awarded to the owner. Then, as the prevailing party, the owner got another $916,275.97 in attorney fees and expenses.
Conclusion. California courts will decide the enforceability of cotenancy clauses on a case-by-case facts-and-circumstances basis. This decision also provides a clear roadmap of how that analysis should be done. Free rent as a penalty for breach of the contract, especially for breach of a condition which the landlord does not control, will also be examined case-by-case, and may be vulnerable to non-enforcement as a penalty.