Exit Strategy in Commercial Lease Agreements

March 31st, 2014

Firemen have an unwritten but clear code of conduct: Do not enter a building on fire, unless you know where the exits are. One of the first things that flight attendants do before take-off is familiarizing passengers on exits in the aircraft. Needless to say, knowing when and how to exit from a sticky situation is the first prerogative of a responsible individual.

Precisely the approach that one must adopt while entering into a Commercial Lease Agreement! With both landowners and tenants looking at ways to maximize returns on commercial property, Commercial Lease Agreements have only become more complex and less transparent over time, particularly in California.

Martire Law has been helping commercial lessees create an exit strategy in their Commercial Lease Agreements. Changes that can happen in the company, industry, or local market cannot always be predicted at the beginning of a lease term. Nevertheless, they must be planned for and negotiated effectively in the agreement.

CC&Rs (caveats, conditions & restrictions) imposed by landowners can be classified into two categories depending on how serious is their long-term impact on the tenant.

Key areas of concern

Some of the areas where tenants have blundered by not properly evaluating lease language pertain to:

  • ‘Use’ of Property: Land owners are known to restrict the lessee’s usage of the property by
    having a narrow use clause
    This can limit assignment of the lease, sale of the business,
    and diversification prospects over time. A good legal advisor can
    help keep the usage options as open as possible
    , even if the lessee is only seeking “general office use.”
  • Parking: As companies look at various staffing models such as the use of temps, double
    shifts, consultants (vis-a-vis employees)
    who do not work full-time, etc, estimating
    parking needs in the long run can be difficult. A good legal advisor can help you secure as
    much parking as possible, even if it’s not needed, especially if there is no additional fee involved.
  • Assignment and subletting:  A lessee must be able to get out of a lease if the space
    is no longer needed; however, a termination
    clause may not always be available or may be
    expensive. In such a case, subleasing or subletting the property is a good alternative.
    Again, subleasing space may not be easy and not knowing how to negotiate it can
    turn out to be a costly affair to the lessee

Other clauses requiring clarity

  • Guaranties: Factoring guaranties pertaining to termination after certain duration,
    limiting amount of rent, unamortized
    landlord costs, etc.
  • Relocation and Transition: Negotiating the timeline and costs in order to
    avoid delay damages in case the release of the
    premise or relocation cannot
    happen immediately.
  • Rights of Recapture and Leaseback: Knowing about exceptions when
    the landlords’ right of recapture and leaseback
    of a Tenant’s Space must be waived.
  • Defining ‘Default’: Tenants are expected not to be in default during
    the entire lease term. It’s important to define what is
    called default and
    what the exceptions to the same are.
  • Profit sharing from subletting/assignment: Negotiation involves limiting
    the owner’s profit participation and factoring
    various costs borne by the
    tenant against the profits accrued.
  • Liability of Tenant/Assignor & Guarantor: Negotiation involves

    understanding the extent of liability, and exceptions that can secure
    release from liability after the Lease Assignment.
  • Renewal & Expansion Options of Tenant
  • Non-Disturbance Agreements and Signage clauses

With evolution of the business, real estate requirements of companies can change. A good exit strategy can factor this shift, making it a top priority for tenants entering into a commercial lease agreement. Not having such a strategy can be risky to the business, and in worst case cause partial or total closure of its operations.

Recent Amendments to the Disclosure Regime Governing California Lease Agreements (Part 1)

November 28th, 2013

Senate Bill 1186 – Accessibility

Over the past several months, the legal and regulatory framework applicable to California commercial lease and rental agreements has undergone major legislative changes, some of which are already in effect. In the following two articles, we will discuss the two most important amendments – Senate Bill (SB) 1186 and Assembly Bill (AB) 1103/531 – each mandating the inclusion of additional disclosures, pertaining to accessibility and energy use respectively, in certain categories of lease agreements.

Perhaps no case illustrates the importance of the pre-legislative process and sound statutory drafting better than California’s tryst with the Americans with Disabilities Act (ADA) and related state accessibility legislations. In the past few years, over 14,000 ADA lawsuits have been filed in California alone, with some statistics attributing over 40% of all ADA lawsuits filed to the Golden State, despite it having the highest overall ADA compliance in the country. In an effort to curb such predatory litigation and abuse of court process, while simultaneously incentivizing ADA compliance in commercial establishments, the California State Legislature enacted SB 1186 in September 2012, which imposes stricter procedural obligations on plaintiff’s attorneys litigating on such accessibility laws, and offers additional protections to businesses faced with such litigation.

SB 1186 requires all commercial lease agreements executed on or after July 1, 2013 to disclose: (a) whether the subject-matter property had been inspected by a Certified Access Specialist (CASp) (any person certified under Section 4459.5 of the California Government Code), and if so, (b) whether or not the property has been determined to be in compliance with the accessibility standards notified under California Civil Code Section 55.53. As per the advice of the California Commission on Disability Access, this requirement may be applicable to certain commercial lease agreements entered into prior to July 1, 2013, in so far as the same has been amended or renewed on or after this date, or buildings that are the subject matter of pre-existing leases, but which are being sold or financed after July 1, 2013.

While the amendment makes neither the CASp inspection nor compliance with Section 55.53 standards compulsory, and simply mandates disclosures in these respects, lessors who can make both disclosures in the affirmative may argue for certain protections – such as preliminary stays on ADA lawsuits (and hence, the opportunity to correct accessibility issues and dismiss the lawsuit), as well as reduced statutory damages, provided that the violations are cured within 30-60 days of the complaint (depending on the size of the business). At the same time, the legislature has been careful to ensure that a negative statement in respect of a CASp inspection is inadmissible as evidence of “lack of intent to comply with the law” (California Civil Code Section 55.53(f)).

The inclusion of this disclosure is slated to become a contentious point during the lease agreement execution process, especially since both landlords and tenants have been held to have concurrent ADA liability (Botosan v. Paul McNally Realty (216 F.3d 827 (9th Cir. 2000)), leading to several tenants being named as defendants in accessibility lawsuits. For small business tenants (commercial space of 7,500 square feet or less) operating out of San Francisco, the San Francisco Administrative Code Chapter 38 titled “Obligations of Landlords and Small Business Tenants for Disability Access Improvements,” which came into force on June 1, 2013, supplements these protections by ensuring that commercial lessors make appropriate disclosures as to the accessibility-condition of the rental space.

Thus in addition to the existing burden of negotiating which party will be required to bear the cost of compliance, parties will now have to undertake a cost-benefit analysis of the CASp inspection, and determine whether the cost of the inspection outweighs the cost of compliance in every case that arises – for instance, the cost of installing ramps, widening doors, designating special parking space, adding Braille markings on elevator buttons and signs, installing accessible bars isn toilets, and replacing certain types of carpeting inter alia. Nevertheless, given the propensity of ADA litigation in California, parties may, more often than not, find it beneficial to conduct the inspection in every case, and avail of the additional protections provided by SB 1186, which thus creates an important item in the commercial real estate due diligence checklist.

Weighing in on the Affordable Housing Debate in California: Legal Issues and Policy Considerations

November 28th, 2013

Inclusionary housing ordinances in counties and cities across the United States have been enacted to address the affordable housing needs of the region while promoting effective economic integration. Indeed, the California affordable housing program has been one of the most successful in the nation, yielding over 10,000 affordable housing units, as opposed to states such as Massachusetts that are yet to produce even one.

In the wake of the housing bubble, an acute shortage of affordable housing in upmarket San Jose, California prompted a spate of executive action, most notably San Jose’s inclusionary housing ordinance in 2010. Slated to come into force in January 2013, the municipal housing ordinance mandates that (a) 30% of residential development projects of 20 or more units be made available at varying below-market rates, as per the notified pricing slab, or (b) such affordable housing be constructed at a different location as a proportion of the total project, or (c) an “in-lieu” development fee, equal to the surplus of the median market price (over the past 3 years) over the government-specified market rate, be paid into the city affordable housing fund.

However, the legality of this particular ordinance is currently sub judice in the appeal against the decision of the Sixth District Court of Appeals in California Building Industry Association v. City of San Jose ((2013) 157 Cal.Rptr.3d 813) pending before the California Supreme Court expected to have far-reaching implications on similar ordinances promulgated throughout the state of California in 2014. The bone of contention that emerges from the controversy is whether this ordinance, which compels the real estate industry to provide affordable housing, amounts to an arbitrary allocation of a societal burden of the state.

In the various cases in which the validity of these ordinances has been considered, three rationales emerge, with the judiciary having overturned validity on two of those grounds in two of the very first successful challenges in 2009. In Palmer/Sixth Street Properties v. City of Los Angeles (175 Cal. App. 4th 1396 (2009)), (where the court invalidated the ordinance in respect of rental units as violative of a lessor’s freedom to set initial rent under a rent “de-control” legislation) and Building Industry Association of Central California v. City of Patterson (171 Cal. App. 4th 886 (2009)) (where the court characterized the aforementioned “in-lieu development” fee to escape compliance with the ordinance as an exaction which failed the “reasonable relationship” test) the judiciary used very different analyses – rent/price control and exactions, respectively – to arrive at the same fundamental result.

Furthering the line of reasoning adopted in Patterson, the jurisprudence on the California Mitigation Fees Act 1987 that invalidates such “in-lieu development” fees as being “exactions” was reaffirmed by the California Supreme Court as recently as October 2013 in Sterling v. City of Palo Alto (Cal. S. Ct. No. S204771). The verdict followed the June 2013 ruling of the United States Supreme Court in Koontz v. St. Johns River Water Management District (568 US ___ (2013)) where the Court held that the land use ordinances imposing such fees would have to survive the nexus test of “rough proportionality” between the exaction and the impact of a proposed development.

The controversy was further heightened when the California legislature unsuccessfully attempted to reverse the result of Palmer and Patterson through the passage of Assembly Bill 1229, which would accord statutory backing to these inclusionary housing ordinances. However Governor Brown vetoed the Bill, given that the matter is still pending before the California Supreme Court, and until then, Palmer and Patterson continue to hold as good law.

It remains to be seen whether the California Supreme Court’s opinion in San Jose will bring closure to this legal controversy, and whether it will choose to overrule or reconcile its decision with Palmer, which specifically applies to “rental” projects, and is not based on the “exactions” rationale.


October 24th, 2013

If recent trends of the California Supreme Court are anything to go by, commercial real estate agents may have to be more careful about what they say when entering into lease agreements. In January 2013, the California Supreme Court in Riverisland Cold Storage Inc. v. Fresno-Madera Production Credit Association (2013 WL 141731 (2013)) reversed an 80-year old rule limiting the admission of extrinsic evidence (including oral evidence) to show that a contract was tainted by fraud, essentially opening the floodgates of litigation to a bare claim that would have otherwise found little favour with the court – “I never read the contract before signing it; they told me it said something else and so I did.”

The parol evidence rule, as codified in Section 1856 of the Code of Civil Procedure, and Section 1625 of the Civil Code, precludes challenges to the validity of an “integrated contract,” or one which the parties expressly intend (by the inclusion of an integration clause) to be the final expression of their agreement, on the basis of prior written or oral agreements and contemporaneous oral agreements; this rule, however, is subject to a number of codified exceptions, one of which is fraud.

The prevailing law in California prior to Riverisland was laid down in 1935 in Bank of America v. Pendergrass (4 Cal.2d 258, 263 (1935)), where the Court rejected the claim advanced by borrowers who had restructured their debt after defaulting on payments, that the lending bank had made oral representations contrary to the terms of the written agreement, to the effect that the renegotiated agreement would extend the period of the loan, in order to fraudulently induce them to put up additional collateral. In doing so, the Court refined the fraud exception, expressly excluding facts evidencing “a promise directly at variance with the promise of the writing,” and upholding its application solely in instances where the evidence sought to be admitted was an independent fact or representation evidencing either a fraud in the procurement of the instrument or a breach of confidence with respect to its use.

Since then, California creditors and mortgagees have enjoyed the protection of this peculiar rule that has prevented debtors from relying on oral statements made prior to or at the time of their entering into the contract, placing the onus of due diligence squarely on the shoulders of the contracting parties. In Riverisland, which presented facts virtually identical to those of Pendergrass, the California Supreme Court seized opportunity to correct what was widely considered an 80-year old mistake, terming its decision in Pendergrass an “aberration” that ran contrary to the statutes, restatements, and prior case law, in addition to constituting bad policy.

In its attempt to bring California law in conformity with the laws of the majority of the other states, however, the language of the court’s decision creates no safe harbours that would preclude fraud claims even in cases where both parties have carefully read the clauses of the contract, in contrast to the case in Riverisland, where the parties relying on the oral representations were uneducated. This will undoubtedly have significant ramifications on the climate for contract formation in California, even if the various other elements of fraud (knowledge of falsity, intent to deceive, reasonable reliance, and resulting damage) are difficult to prove. Indeed, leasing agreements have become some of the first victims of newly-expanded fraud exception to the parol evidence rule, with the Court ruling in favour of tenants who alleged fraud despite having read and renegotiated lease agreements in both Julius Castle Restaurant v. Payne (157 Cal. Rptr. 3d 839, Cal. App. 1st Dist. (2013)), and Thrifty Payless, Inc. v. The Americana at Brand, LLC (2013 WL 3786374 (2013)), as recently as July 2013.

While the inclusion of more robust and conspicuous integration clauses that evidence clear intention on that part of the parties to supersede any oral promises, in addition to clauses that express that the agreement has been jointly drafted with recourse to legal representation, may afford some protection, it remains to be seen whether such contracts will survive judicial scrutiny, given that the court has gone so far as to distinguish such cases from precedent that precludes challenges to validity where the party alleging fraud was negligent in acquainting himself with the terms of the written agreement despite having had reasonable opportunity to do so, as applicable only to the execution of the contract rather than its formation (Rosenthal v. Great Western Financial Securities Corp. (14 Cal.4th 394, 419 (1996)).

Indeed, the decision in Riverisland appears to have heralded the return to a position of law which had been historically evolved in the 1800s to protect the interests of mortgagors at a time when mortgage agreements were drafted so as to convey title to the mortgagee immediately, subject to the timely payment of a consideration (Pierce v. Robinson (1859) 13 C 116). However, in light of changing circumstances and norms in contract formation, a legislative clarification of the law in a manner that reflects a balancing of the freedom of contract and its policy interests in protecting small parties, is essential to preserving California’s environment as conducive to contractual relations.


October 24th, 2013

Recent developments in respect of the Foreign Corrupt Practices Act (FCPA) and its enforcement have given tech companies more cause for concern in M&A due diligence than ever before. Once a prominent consideration for companies operating in the defense, pharmaceuticals, and financial services sectors, targeted enforcement of the FCPA by the United States Department of Justice (DoJ) and the Securities and Exchange Commission (SEC) in unconventional industries like private equity, insurance, retail, and technology, have prompted such companies to subject themselves to greater internal scrutiny and create risk management strategies that account for the prevailing FCPA-enforcement climate.

Tech-sector businesses are particularly vulnerable to the enforcement drive, ostensibly because of the excessive reliance they place on third-party resellers, distributors, agents and consultants to transact on their behalf in foreign markets. Indeed, the mere existence of clauses in third-party agreements that include “vaguely described services,” or engaging with a third party “closely associated with a foreign official” may attract the application of the FCPA. After Microsoft and IBM, Hewlett-Packard (specifically its Polish division) is the latest big name in the tech industry to be investigated by the DoJ and SEC, as well as the Polish Central Anti-Corruption Bureau, for alleged bribes paid to officials for public sector transactions in Poland, in addition to various other Eastern European countries since 2010.

Since its enactment in 1977 in the wake of the Lockheed and Bananagate bribery scandals, the FCPA has served as a means of regulating the conduct of (1) companies incorporated in the Unites States, (2) companies (including foreign companies) listed on a United States stock exchange, and (3) United States citizens and residents, regardless of their physical presence in the United States – prohibiting the bribing (ambiguously defined as “paying or offering to pay anything of value”) of foreign officials, candidates, and political parties (or any other recipient who can be traced to one of the aforementioned types of entities) with a view to gaining a competitive advantage in foreign markets.

At the same time however, the Act affords little by way of certainty and predictability as to its application, and the issuance of A Resource Guide to the U.S. Foreign Corrupt Practices Act by the DoJ and SEC in late 2012 has done little to remedy the situation at hand. Indeed, clarity on basic concepts such as the scope of the term “foreign official” and more intricate ones such as the recognition of a category of legal “grease payments” specifically designed to expedite the performance of an official’s duties is crucial to avoiding the consequences of a violation, which, once proved, can be crippling – note that the DoJ has, in the past, imposed penalties of up to $450 million for a single violation of the FCPA, and collected over $1 billion in 2010 in FCPA fines and penalties alone.

Moreover, while the FCPA does not envisage private claims, it is not difficult to envision the myriad causes of action that may arise on account of a violation of this enactment – by competitors who have suffered harm as a result of corrupt practices of the company or shareholders who may bring a derivative claim against the management. Indeed, the shift in surveillance and enforcement policy of the authorities responsible for the implementation of the FCPA is understandable, given that despite operating in the same corrupt markets, tech-sector businesses have thus far failed to be held accountable for FCPA violations. Understanding the policy and scheme of the Act, as well as international legal instruments such as the OECD’s Anti-Bribery Convention, coupled with greater due diligence on third-party agents is thus vital for such companies to reduce exposure and remain compliant with anti-bribery legislation in a stagnating global market.

Are Construction Attorneys necessary for a Real Estate Project?

September 26th, 2013

Unfortunately, many things can go wrong in a construction project and proper counseling is necessary to avoid expensive litigation problems. Most common problems that occur in a construction project are to do with payment disputes. Some common aspects where a good Real Estate Attorney can help in the initial process of a construction project are:

–          Initial Contracting

–          Financing

–          Land Use

–          Development Issues

–          Post-Construction Performance

–          Payment and related disputes

Construction disputes can be a long and painful process and you can avoid all this by contacting a good attorney before your start the construction process.

The following is a handy list before you start your construction project. Talk to your attorney regarding the following items ahead of time:

Issues and agreement which may be required for your construction projects

  • Land use and zoning agreements with government entities
  • Eviction and lease agreements if needed
  • Landlord-tenant agreements if needed
  • Water rights agreements
  • Land use permits, including building and development permits
  • Easements
  • Boundary line agreements if needed

Construction projects should be a positive project fostering growth. Litigation is  the last thing you should have to  deal with. Advance consultation with your real estate attorney will ensure your project will be performed and completed in a manner which minimizes your risks and maximizes your return.


September 16th, 2013

As a Silicon Valley law firm specializing in areas which include Mergers and Acquisitions, we come across a lot of real-world situations that small businesses face during the process of merging with/acquiring others. And we thought it would be good to put together this M&A Process so it will be useful for many business owners. This list is not all inclusive, but gives business owners some major points to consider.

12 Step Process for M&A

Any business merger and acquisition can be an aggravating and stressful process. Being organized and having a check list of things to do will help in staying calm and less stressed.

1. List all your potential contacts interested in the business

You can’t buy or sell a business unless you have a list of suitable Sellers or Buyers.

2. Marketing to the Contacts

Connect with the Contacts on Social Media sites like LinkedIn. Setup email blasts in programs like MailChimp and send out targeted campaigns to the potential buyers of the business.

3. Put some thought into the Marketing Email Blasts

Never give the name of the company away. The content should describe the business in such a way so that the potential buyer will be curious to know more.

4. Make sure you sign an NDA

Make sure both the parties involved sign an NDA.

5. Confidential Information Memorandum (CIM) should be prepared

This memorandum should contain all the company information and should be presented to the buyer.

6. Indication of interest (IOI) document must be prepared

This IOI is prepared by the buyer with an approximate quote for the business after valuation.

7. Face to Face Meeting

Seller meets with the Buyer and explains and educates the Buyer on all aspects of the business.

8. Letter of Intent and Offer Letter

Buyer to submit a Letter of Intent and Offer Letter with a firm price and major deal points to the Seller after evaluating all aspects of the business.

9. Business Audit

Buyer should conduct an Audit of the business and make sure all the facts given by the Seller is accurate.

10. Purchase Agreement

A purchase agreement addressing all the legalities that will protect the Buyer and Seller must be written and reviewed by both parties. Do not forget covenants not to compete and non-solicitation provisions!

11. Title Transfer

After signing all the legal documents required, buyer writes a check directly to the seller or deposits it in an escrow account and acquires the company.

12. Closing Business Acquisition

Make sure the Buyer and Seller are still in touch with the business transfer of technology and accounting transfers smoothly until the seller is slowly weaned away.

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