Brexit Frustration – EMA Granted Leave to Appeal

The EMA has been granted leave to appeal the High Court’s decision, which went against it last month, on whether its lease of 30 Churchill Place in Canary Wharf has been frustrated by Brexit.

Mr Justice Marcus Smith has granted the appeal on grounds including “real prospects of success” concerning how English law should deal with the frustration of leases.

CoStar report that Frances Richardson, Head of Real Estate Litigation at Linklaters, said today: “Given the high stakes, it comes as no surprise that the EMA is pursuing an appeal. Mr Justice Marcus Smith’s judgment was a thorough restatement of the law on frustration in the context of leases, so it will be interesting to see which aspects the EMA will focus on unpicking, and how quickly the case will be heard given the pressure of time ticking down to Brexit.”

The appeal will be heard by the Court of Appeal not, as some had speculated, by the Supreme Court in a leapfrog appeal.

Can Brexit Frustrate a Lease? High Court Says No.

Following an expedited hearing in the first major property case with Brexit at its heart, the High Court has ruled* that Brexit does not frustrate a lease.

In this case, the landlord, Canary Wharf Group (CWG), was seeking a declaration that Brexit did not frustrate the European Medical Agency’s £13 million a year lease of a 10-floor property at Churchill Place in Canary Wharf.

On 5 August 2011 the EMA signed an agreement for lease, obliging it to take a lease of Churchill Place following completion of the development of the property for a term of 25 years.

The lease was eventually completed on 21 October 2014 for a term commencing on 1 July 2014 and expiring on 30 June 2039.

Crucially, the lease does not contain a break clause.

There subsequently of course followed the EU referendum on 23 June 2016, followed by the triggering of Article 50 on 29 March 2017.

The EU determined that a non-member state could not host EU agencies, which led to the EMA later in 2017 announcing it would relocate to Amsterdam, which it has now largely done.

That still leaves the EMA on the hook at Canary Wharf for rent of £13 million a year plus outgoings until 2039.

The lease permits assignment (of whole) and subletting (in whole or in parts), subject to the sort of conditions you would expect to find in leases such as this. Those are conditions concerning landlord’s consent, the need for guarantees, and the financial standing of an assignee etc, including an obligation for the EMA to enter into an authorised guarantee agreement in relation to an assignee. The lease also permits group company sharing or sharing with another EU entity whilst the EMA is the tenant.

The judgment refers to attempts the EMA has made, unsuccessfully to date, to dispose of the premises.

By a letter dated 2 August 2017, the EMA wrote to CWG stating that:

“Having considered the position under English law, we have decided to inform you that if and when Brexit occurs, we will be treating that event as a frustration of the Lease.”

CWG commenced proceedings because it took the view that the commercial uncertainty created for CWG and its lenders by EMA’s contention required early resolution.

Frustration, based as it is on largely ancient law, is rarely used as a way of getting out of contracts.

The doctrine of frustration operates to bring a contract prospectively to an end because of the effect of a supervening event.

To succeed you must be able to demonstrate that something has happened after completion that makes it impossible to fulfil the contract and unjust to hold a party to its obligations.

It’s not a doctrine that can be demonstrated easily.

The courts have also shown recently that they are generally unwilling to enable parties simply to escape bad bargains (for example in Arnold v Britton).

The EMA argued that when they negotiated the agreement for lease back in 2011, they could not have expected the UK to withdraw from the EU.

CWG, in contrast, argued that the existence of Article 50 in the Treaty of the European Union meant that Brexit was not unforeseeable, and that in any event the EMA could have requested a break clause (in fact they did originally, but it was conceded during the lease negotiations).

The High Court, on 20 February 2019, ruled in CWG’s favour, in a judgment that will bring great relief to the property industry, and in a wider context too.

It’s a very complex judgment running to some 95 pages. The issues discussed by Justice Marcus Smith include the constitutional aspects of the EU as well as the law of frustration in England and the interpretation of leases.

There was even expert evidence given by two experts in the field of Modern British Political History and Political Science – not an everyday occurrence in property disputes – directed to the question of the foreseeability of the withdrawal of the UK from the EU as that issue was viewed prior to 5 August 2011, when the agreement for lease was signed.

The Court found that the withdrawal of the UK from the EU was not “relevantly foreseeable” at a time a few years before the result of the 2016 referendum.

So, although the possibility of Brexit might have been in some way foreseeable in 2011, it wasn’t sufficiently foreseeable that it could have been reasonably expected to impact on the parties’ decision-making at the time.

Nevertheless, even if the lease were frustrated, the frustration was self-induced on the part of the EMA, considering the EMA in its constitutional context within the European Union.

The Court also found that it was foreseeable that for some reason over the term of the lease EMA might want to relocate and that was dealt with by the detailed alienation provisions.

Furthermore, it would not be impossible as a matter of European or English law for the EMA to continue to hold the lease post-Brexit and there was no legal requirement for it to leave the UK as an automatic consequence of Brexit.

The court therefore concluded that there was (a) no frustration of common purpose; and (b) no supervening illegality, and so the lease was not frustrated.

The case demonstrates how difficult it is to succeed in arguing that a lease has been frustrated in English law, and specifically now how difficult it is to make that argument regarding Brexit.

This decision could have far-reaching implications beyond the property world for commercial contracts potentially frustrated by Brexit.

It is unlikely however to be the last word on the effects of Brexit on existing contracts.

Luke Harrison, of Debenhams Ottaway, has told CDR:

“While Smith J has found that in the case of the EMA the lease was not frustrated, he does not find that Brexit (in whatever form it takes) cannot result in frustration. Each case will ultimately turn on its own facts and I expect to see many more such cases before the courts particularly if there is a hard Brexit.”

The EMA, for its part, is carefully studying the judgment and its implications, and has said it considers CJEU clarification of EU law to be the most appropriate way forward.

Canary Wharf (BP4) T1 Limited and others v European Medicines Agency

 [2019] EWHC 335 (Ch)

Taking Back Control: Motive and Intention When Opposing Lease Renewal

The Supreme Court has recently ruled* against a landlord invoking “ground (f)” to oppose a tenant’s lease renewal under the Landlord and Tenant Act 1954 and held that the intention to carry out substantial works must exist independently of the tenant’s statutory claim to a new tenancy.

Unless a business lease has been contracted out of the 1954 Act, the tenant has rights to renew the lease on expiry of the contractual term.

A landlord has limited grounds under the 1954 Act to object to a tenant’s right to renew its lease. One of these grounds (known by the abbreviation “ground (f)”) is found in Section 30 (1) (f) of the 1954 Act, which provides that a landlord may oppose the grant of a new tenancy on the ground

“that on the termination of the current tenancy the landlord intends to demolish or reconstruct the premises comprised in the holding or a substantial part of those premises or to carry out substantial work of construction on the holding or part thereof and that he could not reasonably do so without obtaining possession of the holding...”

Section 31A (which was inserted by the Law of Property Act 1969, section 7(1)), provides:

“(1) Where the landlord opposes an application under section 24(1) of this Act on the ground specified in paragraph (f) of section 30(1) of this Act … the court shall not hold that the landlord could not reasonably carry out the demolition, reconstruction or work of construction intended without obtaining possession of the holding if –

(a) the tenant agrees to the inclusion in the terms of the new tenancy of terms giving the landlord access and other facilities for carrying out the work intended and, given that access and those facilities, the landlord could reasonably carry out the work without obtaining possession of the holding and without interfering to a substantial extent or for a substantial time with the use of the holding for the purposes of the business carried on by the tenant; or

(b) the tenant is willing to accept a tenancy of an economically separable part of the holding and either paragraph (a) of this section is satisfied with respect to that part or possession of the remainder of the holding would be reasonably sufficient to enable the landlord to carry out the intended work.”

There have been many cases over the years examining the extent of the works required to satisfy the ground (f) test; on what “intends” means in this context; whether the landlord’s motive for doing the works is relevant; and the point in the process when that intention should be assessed.

This case focusses on the landlord’s intention and motive when asserting its rights under ground (f).

When considering a landlord’s actions, the landlord’s intention and the motives that lie behind that intention become intertwined.

Let’s briefly look first at the outline facts of the case.

·       The landlord (itself a leaseholder) wanted to take back control of part of a building sublet to an occupier using it as an art gallery, showroom and archive.

·       The landlord proposed a scheme of works to be carried out in the sublet premises that were sufficiently disruptive that the tenant would have to move out for the landlord to carry them out (to satisfy the last part of ground (f)).

·       In accordance with a common practice in this field, the landlord gave an undertaking to the court to carry out the works if a new tenancy was refused.

·       However, crucially the landlord admitted that the works (which had been costed at nearly £780,000 plus VAT) would not be carried out if the tenant left the premises voluntarily. The landlord submitted that “the works are thoroughly intended because they are a way of obtaining possession. That is all there is to it” and that the scheme was “designed purely for the purpose of satisfying ground (f)”.

·       It was also accepted that significant parts of the works were useless. Although the works themselves required no planning permission, it would be impossible to make any use of them at all without planning permission for change of use, which the landlord did not intend to seek.

·       In other words, the landlord intended to carry out the works if they were necessary to get rid of the tenant, but it did not intend to carry them out if it were not necessary to do so for that purpose, for example if the tenant agreed to go voluntarily, or if it were found possible to be able to carry them out by exercising a right of entry without obtaining vacant possession.

The Supreme Court (in a leapfrog appeal from the High Court) reversed the decision at first instance and found in favour of the tenant, ruling that:

·       To succeed under ground (f), the landlord's intention to carry out the works cannot be conditional on whether the tenant chooses to assert its claim to a new tenancy – the intention must be "fixed and settled"; and

·       The “acid test” is whether the landlord would intend to do the same works if the tenant left the premises voluntarily.

·       On the facts, the tenant’s possession of the premises did not obstruct the landlord’s intended works and the landlord did not intend to carry them out if the tenant persuaded the court that the works could reasonably be carried out while the tenant remained in possession.

It is no longer enough for a landlord just to show that it has a firm and settled intention to carry out the works and that it has a reasonable prospect of doing so.

The “acid test” means a landlord must prove that it would carry out the same proposed works even if the tenant decided to leave the premises voluntarily. In other words, this intention must exist independently of the tenant’s right to a new tenancy and must not be conditional on the tenant deciding to assert its claim to a new tenancy.

The lead judgment given by Lord Sumption, and the supporting judgment of Lord Briggs, both contain paragraphs analysing the questions of motive and intention. I repeat some of them here to give you a flavour of how difficult it is to frame such considerations, which have nevertheless been skilfully distilled into the acid test described above.

From Lord Sumption:

“This appeal does not, as it seems to me, turn on the landlord’s motive or purpose, nor on the objective reasonableness of its proposals. It turns on the nature or quality of the intention that ground (f) requires. The entire value of the works proposed by this landlord consists in getting rid of the tenant and not in any benefit to be derived from the reconstruction itself.” [Para 17]

“Just as the landlord’s motive or purpose, although irrelevant in themselves, may be investigated at trial as evidence for the genuineness of his professed intention to carry out the works, so also they may be relevant as evidence of the conditional character of that intention. In both cases, the landlord’s motive and purpose are being examined only because inferences may be drawn from them about his real intentions.” [Para 21]

Lord Briggs addressed the fact that it is the landlord’s intention at the date of the hearing that is relevant; a principle established by prior case law. Here are some extracts from his judgment:

“By the time of the hearing these alternative intentions about what if any works the landlord will do if the tenant leaves voluntarily will usually just be past history. The tenant will by then have committed substantial costs, and risked liability for the landlord’s costs, in pursuing its claim for a new tenancy to a hard-fought hearing. The prospect of voluntary departure may have receded to a purely theoretical irrelevance, like a cloud the size of a man’s hand. In such a case the landlord may no longer have any relevant intention in relation to that hypothetical and indeed counter-factual possibility. In some cases the tenant may from the outset have manifested such a determination to seek a new tenancy at all costs that voluntary departure may never have been a sufficient possibility for the landlord to have given it a moment’s thought, still less formed an intention about it. To the question in cross examination: “does your company now intend to carry out these works if the tenant goes voluntarily”, the landlord’s witness might say, with complete honesty, as at the hearing date, that she and her fellow directors don’t waste their valuable time discussing irrelevant hypothetical possibilities.” [Para 27]

“It is to escape this forensic cul-de-sac that legitimate recourse may now have to be had to a forensic examination of the landlord’s purpose or motive, as Lord Sumption suggests.” [Para 28]

“There is nothing hypothetical or counter-factual about testing the type or quality of the landlord’s intention, as at the time of the hearing, by an analysis of the purpose or motive behind it. The disqualifying underlying purpose (just to get rid of the tenant) is a continuing aspect of the landlord’s then current intention, even if the direct question whether, in other circumstances (the tenant going voluntarily), the landlord would have intended to do the relevant works appears hypothetical and even counter-factual.” [Para 30]

“The only legitimate purpose of the examination of purpose, beyond testing the genuineness of the landlord’s intention, will be to enable the court to decide whether the landlord would have done the relevant works if the tenant had left voluntarily. This is, as Lord Sumption explains, the acid test of the type or quality of intention under section 30(1)(f)”. [Para 31]

Questions of motive and intention, by their nature subjective, can seem to go around in conceptual circles.

Motive is not a relevant test in itself under ground (f) – the word motive is not used in the 1954 Act wording. However, by the Court saying that the intention to carry out the works must exist regardless of whether the tenant vacates the premises, this brings back into question the landlord’s motive for wanting to do the works.

Therefore, Lord Sumption stressed that although the landlord’s purpose or motive are irrelevant to ground (f), they are nevertheless material for testing whether such a firm and settled intention to carry out the works exists.

It is irrelevant whether a landlord’s intention is reasonable or whether reasonable changes to the works could be made to allow the tenant’s continued possession.

The “acid test” framed by Lord Sumption distils these questions into a conditionality test.

Put simply, are these works that the landlord intends to carry out even if the tenant vacates?

It may seem remarkable given how many years have passed since the 1954 Act came into being, but this is now an extra hurdle for a landlord to overcome when relying on ground (f).

The outcome of this case will undoubtedly strengthen the hand of tenants in some contested lease renewals where the landlord is relying on ground (f).

Remember though that in this case the landlord admitted that the works were designed to meet the ground (f) test, and that they would not be carried out if the tenant left the premises voluntarily.

The landlord therefore admitted that its intention to carry out the works was conditional. In the words of Lord Sumption: “It intended to carry them out only conditionally on their being necessary to get the tenant out, and not, for example, if he left voluntarily or of the judge was persuaded that the works could be done by exercising a right of entry.”

It followed therefore that the conditional intention was not the fixed and settled intention that ground (f) requires; that fixed and settled intention being “the touchstone of ground (f)” [Para 16].

Perhaps the outcome of the case would have been different if the landlord had not been so candid. In this respect the case is unusual.

However, Lord Sumption also considered that more complex issues would arise if the landlord intended to carry out some substantial part of the proposed works regardless of whether it was necessary to do so to obtain vacant possession from the court, and part of the works only if it was necessary to do so to obtain vacant possession. This might lead to a situation where the unconditional part of the landlord’s works was insufficiently substantial or disruptive to warrant the refusal of a new tenancy, so that additional spurious works had to be added by the landlord for the sole purpose of obtaining possession.

In a situation like that, Lord Sumption concluded the answer is likely to depend on the precise facts. He went on to say:

“If, however, it is established that, at the time of the trial, were the tenant hypothetically to leave voluntarily, the landlord would not carry out the spurious additional works, then the tenant’s claim to a new tenancy would normally fall to be resolved by reference only to the works which the landlord unconditionally intended.” [Para 20]

This is an area where the law may be developed further by the courts in future.

It is likely there will be more litigation in the aftermath of this case, and contested lease renewals could in general become more protracted as tenants are likely to scrutinise their landlords’ development plans more closely.

Landlords will need to put together a well-considered scheme of works or redevelopment and be able to demonstrate a proper intention to complete the works even if the tenant were to change its mind and vacate the premises voluntarily.

It is likely too that in a similar situation a landlord will be required to give an undertaking to the court confirming it has the unconditional intention to carry out the work and that it will do so even if the tenant vacates voluntarily. Remember that in this case the landlord’s undertaking was only to carry out the work if a new tenancy was refused.

The flipside, for tenants, is that if litigation becomes more protracted as a result of this case, it will inevitably drive up costs on both sides.

* S Franses Limited v The Cavendish Hotel (London) Ltd [2018] UKSC 62 (5 December 2018)