COVID-19 in commercial leasing – the “Phantom Menace”?

July 30, 2020 | Steven Chaimberg, Stuart Chaimberg, Mason Brenhouse, Ariane Buono-Guimont

As society begins to reopen in the wake of the COVID-19 pandemic, so too must businesses begin to readjust to the harsh realities of fulfilling their contractual obligations.  However, the pandemic has given rise to much discussion as to the extent of these obligations, and decisions are now being rendered by the courts that will impact the future drafting of offers to lease and leases, as well as the business decisions of both landlords and tenants, when deciding to enter into these agreements.

The Superior Court of Quebec’s (the “Court”) recent decisions in the cases of Hengyun International Investment Commerce Inc. v. 9368-7614 Québec inc. (2020 QCCS 2251) (“Hengyun”), and Investissements immobiliers G. Lazzara inc. v. 9224-5455 Québec inc. (2020 QCCS 2176) (“Lazzara”), are certain to be the first of many involving landlord-tenant disputes, as the parties to a lease navigate the treacherous waters being churned up by the COVID-19 pandemic.

1. Hengyun

The facts of the Hengyun case are as follows. The owner of an office building leased premises to a tenant for a five year term, with the tenant to use the premises “solely as a gym”. Three years into the lease, due to the COVID-19 pandemic, the Quebec government issued a decree which obligated the tenant to close its doors as of the end of the day on March 24, 2020 (the “Decree”). Gyms (such as the one operated by the tenant) were not on the list of services that were deemed essential pursuant to the Decree, and thus, were unable to operate until the Decree was lifted on June 22, 2020.

As a consequence of the Decree, the tenant argued that its inability to operate and generate revenue was a direct result of force majeure, and hence, the tenant should be relieved of its obligation to pay rent during this period. Conversely, the landlord invoked a clause in the lease (the “Force Majeure Clause”) which provided that the tenant was required to pay rent, even if the performance of the tenant’s obligations was delayed due to force majeure.

While ruling in favour of the tenant, the Court rejected the tenant’s claim of force majeure, holding that same would require a subjective approach to the concept of irresistibility.  Rather, the Court stated that in order to qualify as force majeure, the event must prevent any other tenant, in the same positon as the tenant, from paying its rent, and not just those who lacked sufficient funds.  The Court went on to state that the landlord, however, was prevented from fulfilling its obligation to provide peaceable enjoyment as a result of the Decree, which the Court declared was a force majeure.

In its judgement, the Court stated that an event is unforeseeable if it could not have reasonably been foreseen at the time the obligation, in this case, the lease, was contracted. In the context of the COVID-19 pandemic, the Court was satisfied that this criteria was met.

Although the Force Majeure Clause required the tenant to pay rent even if the performance of the obligations of either party were delayed due to force majeure, the Court held that the prohibitive provisions found in the Decree did not result in a delay in the performance of the landlord’s obligations.  Rather, the Court held that the Decree resulted in an obligation of the landlord that simply could not be performed at all.  In light of this, the landlord was prohibited from insisting that rent be paid for the time period of the Decree, the Court holding that in the circumstances the Force Majeure Clause was not applicable.

The Court confirmed that in commercial leasing matters, the provisions of the Civil Code of Quebec (including the obligation to provide peaceable enjoyment) are not of public order.  The Court went on to state, however, that while the parties to a lease can agree to limit the impact of a landlord’s failure to provide peaceable enjoyment, they cannot agree to exclude it altogether, citing both doctrine and jurisprudence in support of this position.

Consequently, the landlord could not insist on the payment of rent for the period of the Decree.

2. Lazzara

The facts of the Lazzara case are as follows. The parties were bound by two commercial leases covering contiguous but separate premises. The tenant, a manufacturer of decorative concrete siding for the interior of buildings, was forced by way of the Decree, to suspend its operations as of March 25, 2020. Consequently, the tenant suspended its activities following the Decree and laid-off its five employees, including its president.

Based on a subsequent decree dated April 19, 2020, the tenant partially resumed its operations, and paid its March 2020 rent in full on April 29, 2020. Shortly thereafter, the tenant asked the landlord to implement the Government of Canada’s Emergency Commercial Rent Assistance Program (the “CECRA Program”).  The CECRA Program provided that the Federal and Provincial Governments would fund 50% of the rent, with the eligible tenant paying a maximum of 25% of the rent and the remaining 25% (or more, as per the specific rent reduction agreement entered into between property owners and eligible tenants) of the rent being forgiven by the eligible property owner. However, the CECRA Program could only be initiated and applied for by the property owner (i.e. the landlord).

Unfortunately for the tenant, the landlord refused to apply for the CECRA Program, on the grounds that they claimed they could not afford to waive 25% of the rent and that the requirements regarding the implementation of the CECRA Program were not clear. As a result, the landlord applied to the Court for a safeguard order, which must meet four criteria: (i) urgency; (ii) appearance of right; (iii) irreparable harm; and (iv) balance of convenience. A safeguard order is a remedy intended to strike a balance between the parties.

The landlord then pursued the tenant for unpaid rent, lease cancellation, and eviction. On the other hand, the tenant challenged the safeguard order on the basis that the criteria for such a remedy were not met. The tenant paid 25% of its rent for the months of June and July, and undertook to continue to do so for so long as the CECRA Program would continue to apply.

Ruling in favour of the tenant, the Superior Court held that prima facie the right of the landlord to obtain a safeguard order appears doubtful inasmuch as the tenant raised, among other things, the abusive nature of certain provisions of the lease, as well as the exercise of their rights by the landlord. The Court noted that considering the landlord did not respond to the tenant’s claim that the landlord could mitigate its damages by applying under the CECRA Program, the landlord chose to deprive itself of its ability to obtain 75% of its rent.  Furthermore the landlord placed itself in an unfavourable position, in asking the Court to exercise its discretionary powers to issue a safeguard order for the full amount of rent due under the leases.

The Court specifically mentioned that a party wishing to obtain a safeguard order must have clean hands.

Ruling in favour of the tenant, the Court held that the landlord was the architect of their own misfortune. In rejecting the landlord’s request for a safeguard order, the Court held that the balance of convenience favoured the tenant.

Rather, the Court accepted the tenant’s undertaking to continue to pay 25% of the rent otherwise payable under the leases, for so long as the CECRA Program remains in place, and 100% of the rent thereafter.

3. Take-Away

The above two decisions are, undoubtedly, merely the tip of the iceberg in terms of what can be expected to be a torrent of decisions dealing with the effects of the COVID-19 pandemic.  Until the dust settles and a clearly established set of legal principles are determined, all parties to commercial leasing transactions will need to approach each situation with an open mind.  The ultimate goal is still to arrive at an understanding that is mutually beneficial for the parties on a going forward basis.  The challenge is how to attain this, in these uncertain times.  Creativity, “out of the box” thinking, and the ability to adapt to a paradigm shift in how people will interact with one another, will certainly be sought after skillsets for both business operators and their professional advisors.

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