Commercial and Retail Shop Lease risks on Sale of Business

The case of Donalds on Danks Pty Ltd v Alio Pty Ltd held in the New South Wales Supreme Court in 2014 taught us a clear lesson that patience is a virtue. In particular where the sale of a business is contingent on the lessor assigning the original vendor’s commercial lease or retail shop lease to the purchaser. In this decision, a case of itchy feet cost the buyer and highlights several commercial and retail shop lease risks to be aware of. In this case, the buyer commenced interior re-fit before written permission from the lessor was obtained. This resulted in the rejection of the lease assignment, the subsequent failure of the sale contract, the forfeiture of a $130 000 deposit, as well as an order to pay the remaining cost of the purchase price. This was a total price of $275 000.

The Contract and Commercial Lease – the story

On 15 March 2013 Alio Pty Ltd (the vendors) entered into a sale of business contract with Donalds on Danks Pty Ltd (the purchasers) for a restaurant in Redfern, Sydney. The contract had a number of key provisions. Both parties agreed on the sale price of $275,000 of which a deposit of $130,000 was paid by Donalds once the contract was determined. The contract would be completed on 5 April 2013 and until then, Alto would remain in possession of the business premises.

To complete the sale of the business, a seven year existing commercial lease between Alio and the lessor, Taoist Association of Australia was assigned to Donalds. This lease that commenced in September 2009 had a five year option and required the vendor to promise not to breach its lease so as to allow the lessor to terminate the lease; and it also enabled either party to rescind the sale contract if the other party went into liquidation.

The lease agreement provided that the lessor had to give consent for the assignment of the lease and that no structural alterations were permitted other than those granted consent by the lessor.

The Modern Industrial Fit-out – the problem

Donalds planned to refurbish the premises and expressed this to the lessor’s agents. The refurbishment involved stripping back flooring and ceilings to turn the premises into a modern industrial space.

Donalds also approached the council, which advised such refurbishments would require the lessor’s consent for the changes. He was granted access to the premises by the vendors in order to plan the refurbishments only.

On 8 April the consent was granted for the lease assignment. On 25 April, the vendors declined to give permission for refurbishment until the sale was complete.

On 6 May Donalds asked again (rejected once more) and on 8 May Donalds commenced the fit-out without formal consent from the lessor.

Donalds claimed that permission for the work was granted by the vendors and had the floors removed, as well as internal walls and ceilings On 16 May, the lessor discovered that subcontractors were accessing the premises and on 18 May that Donalds was out-fitting the premises.

The Sale of Business Failure – the outcome

On 28 May the lessor informed Donalds to return the keys to the premises as they were aware that trespassers were entering the premises without permission. The lessor had given the vendors time to complete the sale of the business as a way for the vendors to pay off arrears for six months owing on rent.On 30 May the lessor terminated the vendor’s lease for altering the premises without lessor consent. This caused the vendor to lose the sale of the business and was placed into liquidation on 11 July.

Donalds attempted to rescind the contract pursuant to the liquidation clause and brought proceedings to the Supreme Court to recover the $130 000 deposit. Donalds also sought to terminate the contract for breach of a number of essential terms, or alternatively that there was a total failure of consideration and therefore to allow the vendors to keep the money would be an unjust enrichment (pursuant to authority of Roxborough & Ors v Rothmans of Pall Mall Australia Ltd (2001) 185 ALR 335). Donalds also tried to raise statutory relief under the Conveyancing Act 1919 (NSW) s55(2A).

The vendors cross-claimed for the remaining price of the contract: $145 000. The vendors argued that Donalds breached the following clause in the contract, “[t]he purchaser and vendor must do all things necessary prior to completion of this Contract to cause the Landlord to comply with clause 13 of the lease and the assignment of the Lease by the landlord.” Donalds unauthorised alterations to the premises breached this. Furthermore, Donalds breach an implied term of the contract to do nothing to “put an end to a state of circumstances, under which alone the arrangement can be operative” pursuant to Stirling v Maitland & Boyd [1864] EngR 752.

Issues Before the Court

Slattery J had to consider:

  • Whether Donalds was entitled to the $130 000 deposit back; and
  • Whether the vendors were entitled to the remaining $145 000 of the contract price.

Finding of the Court

  • Slattery J rejected a number of Donalds’ claims to ultimately hold that the case failed on factual grounds. The lease was not terminated because of the vendor’s failure to pay arrears, but because Donalds had entered the premises and commenced infrastructural amendments without the permission of the lessor. This breached a clause of the lease requiring consent for such work. Donalds knew, or ought reasonably to have known, that the vendor could not give permission for internal changes to the premises. Donalds was therefore not entitled to keep the deposit.
  • The vendors were entitled to claim the remaining $145 000 of the contract price pursuant to Clause 60 of the contract, or alternatively, the implied term found in the authority of Stirling v Maitland & Boyd.

Lessons

This case demonstrates the caution business buyers and business sellers need to exercise in transactions that involve the assigning or transference of a commercial or retail shop lease. In Donalds, the buyer forced the business sale to fall through by not taking adequate precautions to uphold the integrity and viability of the lease; that is, refraining from breaching any essential terms. Not adequately knowing your legal obligations can result in costly consequences. Here, a $275 000 loss!

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