April 9, 2021

Frustration of Purpose and Impossibility Doctrines in the COVID-19 Era

Holland & Knight Retail and Commercial Development and Leasing Blog
Charlotte Floyd | Karl J. Lott
Retail and Commercial Development and Leasing Blog

In a survey of cases in federal, state and bankruptcy courts, commercial tenants seeking to delay or excuse the payment of rent because of pandemic-related downturns in business sometimes looked to the equitable doctrines of frustration of purpose and impossibility for relief. Both of these doctrines allow for the argument that a default is excusable under circumstances that were unforeseeable to the parties at the time of the contract's formation. While commercial tenants sometimes use these doctrines in tandem, they are distinguishable in their underlying aims. The impossibility doctrine looks at whether the underlying action to be performed in a contract was possible under the circumstances, while the frustration of purpose doctrine analyzes whether the parties can achieve the stated or implied purpose of the contract.

In recent cases where tenants have sought to avoid rent during the pandemic, state and federal courts have looked to the specific terms of each lease, rather than the highly unusual circumstances, to decide whether tenant performance under the lease was excusable due to either frustration of purpose or impossibility. As a result, cases from around the country have come to differing conclusions as to whether to grant the requested relief. The focus of the courts on the specific language of each lease highlights the importance of careful and specific lease drafting.

This blog summarizes several recent cases dealing with this topic.

United States Bankruptcy Court

In re: Cinemex USA Real Estate Holdings, Inc, et al. (U.S. Bankruptcy Court, S.D. Florida, Miami Div., Jan. 27, 2021, 2021 WL 564486)

In a Chapter 11 bankruptcy filing before the U.S. Bankruptcy Court in the Southern District of Florida, CB Theater, an operator of upscale dine-in movie theaters, sought to delay or excuse the payment of rent due to government-mandated theater shutdowns during the COVID-19 pandemic. CB Theater argued that both frustration of purpose and impossibility doctrines should excuse or delay their obligation to pay rent under the lease.

CB Theater argued that the purpose of their movie theater lease, which they identified as operating a movie theater to show new-release films, was frustrated from the time the Florida state government shut down theaters until the theater's actual reopening. The court held that as to the period of time in which CB Theater was closed by government order, the purpose of the lease was indeed frustrated. CB Theater further argued that the lack of new film releases due to suspended film production as well as consumer reluctance to return to the theater continued to frustrate the purpose of the lease even after the state government approved theater reopenings at reduced capacity. The court rejected this framing, pointing out that as it was possible for CB Theater to operate a movie theater after the partial capacity reopening, CB Theater could still fulfill the purpose of the lease. Thus, the court focused on whether or not CB Theater was prohibited by government order from opening at all. It granted rental relief under the theory of frustration of purpose only for those periods when CB Theater was legally prohibited from opening and not for periods when CB Theater had the legal right to open but chose not to due to a diminished business environment.

Turning to the impossibility doctrine, in response to CB Theater's argument that performance of the contract would have been impossible to perform under the circumstances, the court declined to apply the impossibility doctrine to the period in which the theater was fully shut down by government order. Instead, the court looked to specific language of a section of the lease titled, "Effect of Unavoidable Delays," which was separate from the lease's force majeure clause. That provision included "governmental action" as one of the factors excusing a party's obligation to perform. The court identified state shutdown orders as governmental action and held that because of the specific language of this provision, rather than requiring CB Theater to pay back rent for the period of government shutdown, the remedy provided in the lease is to extend the lease term by the amount of time for which the theater was fully closed. The court also took care to distinguish the "Effect of Unavoidable Delays" clause from a force majeure clause, under which the failure to timely pay rent would not have been an excusable default.

In re CEC Entertainment Inc. (U.S. Bankruptcy Court, S.D. Texas, Houston Div., Dec. 14, 2020, 2020 WL 7356380)

In this case, CEC Entertainment, the operator of the children's entertainment-focused pizza parlor Chuck E. Cheese, sought rent abatement or reduction under leases for venues in North Carolina, Washington and California. Once again, the court looked to the specific language of the leases to reach its conclusions. After concluding that the force majeure clauses in the leases in all three states specify that the nonpayment of rent is not a default that would be excused under the clause, the court turned to frustration of purpose under the laws of Washington, California and North Carolina. The court found that in all three states, parties may specifically delegate the risk of frustration of purpose by contract. While none of the leases specifically enumerated the risk of a pandemic, in all three states the leases did have force majeure clauses that contemplated the risk of governmental regulations disrupting permitted uses. Thus, the court held that in all of the leases, since the leases did specifically contemplate the risk of disruption by governmental regulations and allocated that risk via the force majeure clauses, the force majeure clauses superseded the frustration of purpose doctrine. Further, the court noted that nothing prevented CEC Entertainment from opening pizza restaurants or different styles of businesses in the leased space that did not involve arcade games. This suggests that the court here took quite a broad view of the underlying purpose of this lease.

Federal Court

The Gap Inc. v. Ponte Gadea New York LLC (S.D.N.Y., March 8, 2021, WL 861121)

In this case, The Gap Inc., operators of The Gap and Banana Republic retail stores, sought rescission and reformation of the lease contract based on frustration of purpose and impossibility among other remedies. The New York state government ordered the closures of nonessential businesses in March, and The Gap temporarily closed all of its stores in the United States, Canada and Mexico the same month.

The Court here addressed The Gap's frustration of purpose argument first and posited that the possibility of a government-mandated shutdown wasn't unforeseeable, because it was contemplated in the lease's force majeure event clause. As the force majeure event clause of the lease identified "governmental preemption of priorities or other controls in connection with a national or other public emergency" specifically, the court found that The Gap's frustration of purpose argument fell short (The Gap at 8). Further, the court pointed out that since The Gap eventually commenced curbside pickup sales at the Midtown Manhattan locations in question, the lease's purpose of operating retail stores in Midtown Manhattan was also not frustrated by pandemic itself. The court relied on these same facts – the foreseeability of a government-mandated shutdown and the stores' curbside pickup sales – to also deny The Gap's impossibility doctrine argument.

1600 Walnut Corporation, General Partner of L-A 1600 Walnut LP v. Cole Haan Company Store LLC (E.D. Penn., March 30, 2021, 2021 WL 1193100)

Here, tenant Cole Haan, a footwear and accessories retailer, permanently vacated one of its storefronts in March 2020 and had not paid rent since that time. Landlord 1600 Walnut Corporation sought to recover rental payments owed. Cole Haan argued that its duties under the lease were discharged or in the alternative limited under the frustration of purpose doctrine. The court here dismissed Cole Haan's frustration of purpose argument, citing the lease's force majeure clause, which stated that the tenant was not relieved of its duty to pay rent even in the event that restrictive governmental laws or regulations prevented performance under the contract. The court granted 1600 Walnut's motion to dismiss Cole Haan's counterclaims.

State Court

UMNV 205-207 Newbury LLC v. Caffé Nero Americas Inc. (Mass. Superior Ct., Feb. 8, 2021, 2084CV01493-BLS2)

In this case, the landlord, UMNV 205-207 Newbury LLC, sought to recover unpaid rent and liquidated damages for the rest of the lease term due to the nonpayment of rent. The tenant, Caffé Nero Americas Inc., the operator of a Massachusetts café, argued under the frustration of purpose and impossibility doctrines that the sought-after rent payments were excused. The court in this case focused on the particularly specific statement of the lease purpose when examining Caffé Nero's frustration of purpose argument. The lease provided that Caffé Nero may use premises solely for "the operation of a Caffé Nero themed Café under Tenant's Trade Name and for no other purpose" (Caffé Nero at 2). Per the lease, services at this location must be consistent with other Caffé Nero locations in Greater Boston area. Further, under the lease, the café was permitted only to offer takeout from its regular sit-down menu. The court interpreted these conditions as evidence that the café's purpose is to serve customers food and coffee inside the café.

The court rejected UMNV's argument that the lease's force majeure clause barred the frustration of purpose defense, noting that while the force majeure clause contemplated impossibility, it did not contemplate the risk that the performance could be possible while the purpose of the contract was completely frustrated. The court ultimately held that, under the frustration of purpose doctrine, Caffé Nero's obligation to pay rent was discharged during the period in which the café could not serve food and beverage on the leased premises.

35 East 75th Street Corporation v. Christian Louboutin LLC (2020 WL 7315470 (N.Y. Sup.), 2020 N.Y. Slip Op. 34063(U)(Trial Order))

In this case, tenant Christian Louboutin, a luxury shoe store, sought rescission of the remainder of its lease on the grounds of frustration of purpose and impossibility in light of decreased foot traffic in Manhattan due to pandemic shutdowns. In applying the frustration of purpose doctrine, the court here found that while the economic forces surrounding the pandemic were unforeseen by the parties, they amounted to a market change rather than a frustration of purpose. Addressing Louboutin's impossibility argument, the court points out that the pandemic did not bar the tenant from selling its products – it merely reduced foot traffic in the store's area. The court further noted that the lease's force majeure clause specifically provided that the nonpayment of rent was not an excusable default but instead extended the period of performance for the amount of time the delay caused.

CAB Bedford LLC v. Equinox Bedford Ave Inc. (2020 WL 7629593 (N.Y. Sup.), 2020 N.Y. Slip Op. 34296(U)(Trial Order))

This is an order on a Motion for Summary Judgment by CAB Bedford, the landlord. The tenant, Equinox Bedford Ave Inc. operated a gym on the premises and argued that frustration of purpose and impossibility excused their obligation to pay rent during the New York state government shutdown that closed gyms. In assessing the tenant's frustration of purpose argument, the court looked at the lease holistically, stating that a shutdown lasting a few months does not frustrate the purpose of the entire 15-year lease. The court similarly rejected the tenant's impossibility argument, finding that while the gym's business was temporarily hindered, operation of the gym had since resumed, and thus the impossibility doctrine was not applicable.

Simon Property Group L.P. v. Pacific Sunwear Stores LLC (2020 WL 5984297 June 26, 2020 (Ind. Super.)(Trial Order)).

Retail apparel store owner Pacific Sunwear sought a temporary restraining order (TRO) and preliminary injunction to compel landlord Simon Property Group to allow Pacific Sunwear to reenter its 16 stores in Simon Property Group malls, on which Simon Property Group had changed the locks due to Pacific Sunwear's nonpayment of rent. Pacific Sunwear argued that its rental payments were in fact not delinquent due to the impossibility doctrine. The court found that since the malls were closed during a portion of Pacific Sunwear's nonpayment period, Pacific Sunwear had established a likelihood of success on the merits in its impossibility doctrine argument.

Conclusion

These tests of the frustration of purpose and impossibility doctrines across a broad spectrum of courts highlight the importance of negotiating a well-drafted commercial lease. Although courts across the country have varied in their interpretations of the frustration of purpose and impossibility doctrines, the language of the underlying lease contract is universally paramount.

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