11-13-17 As Seen in the Buffalo Law Journal - Buffalo Attorneys Win Big in NYC
BUFFALO LAW JOURNAL
BLJ: Buffalo attorneys win big in NYC
By Michael Canfield – Editor/Reporter - Buffalo Law Journal, Buffalo Business First
3 hours ago
In a case that could have wide-ranging implications in commercial real estate law, Woods Oviatt Gilman attorneys William Savino and Robert Carbone scored a recent victory over U.S. retail giant Urban Outfitters in state Supreme Court in Manhattan.
They defended New York City developer Michael Shah and his company, Delshah 60 Ninth LLC, vs. Free People of PA LLC, part of Urban Outfitters Inc.
The case stems from a provision in a lease for a building Delshah owns at 58-60 Ninth Ave. in New York. Free People intended to move into the space on Aug. 1, 2015, and the store was set to open in December of that year. Because of delays and issues with the building, Free People did not move in to the space until July 12, 2016. During that time, the rent-credits provision in the lease, or liquidated damages, accrued 825 days of free rent credits, which would equal more than $3 million in damages.
Delshah viewed that as an unenforceable penalty.
“Liquidated damages are legitimate when they’re not penalties,” Savino said. “What we had here was a case where they’re overreaching in the terms of the lease.”
Rent at the location is more than $100,000 per month, he said.
The case was heard over three days in October by state Supreme Court Judge Barry Ostrager. He issued his decision Oct. 18.
Free People was represented in the case by the law firm of Drinker Biddle of Philadelphia. The firm has a large New York City presence.
“Our opponents were the senior varsity,” Savino said.
The building in question is located in the Meatpacking District in Manhattan. Over the years the district has turned into a tourist attraction, which is why Free People was interested in the location. When Delshah purchased the property, it was decided to combine the two “landmark” buildings into one.
“Anytime you’re dealing with landmark structures, there are limitations on how much you know about how those buildings were constructed,” Carbone said. “Especially in a city like New York City, where the building code has changed half a dozen times in the last 150 years. You actually have to go back and look at changes in the building code and look at when the building was built to get a sense of the methods and means of construction that were used.”
When Free People signed the lease, the company knew about the project Delshah was undertaking to combine the buildings, Carbone said. Work included removing a common brick wall and putting a new steel superstructure in the buildings.
“There was the likelihood that there were going to be some things that were encountered in construction that nobody could possibly know about until they actually started blowing out walls and things like that,” he said.
The delays in the timeline were attributable to construction issues that arose, Carbone said.
“Everyone agrees that it would have been easier to knock these two buildings down and build new,” he said. “In New York City you can’t do that because they’re landmark buildings and, frankly, I’m not sure our client would have ever wanted to have done that.”
From Aug. 1 to Oct. 1, 2015, the rent-credits clause called for Free People to receive credits on a 1-to-1 basis. From Oct. 1 to Dec. 31, 2015, the clause called for free rent days on a 2-to-1 basis. Then, from Jan. 1, 2016, until Free People occupied the store on July 12, 2016, the ratio of free rent days was 3-to-1.
“The penalties kept getting bigger and bigger the later that the project was delivered,” Carbone said.
In what Savino called a “disturbance in the force,” landlords are desperate for “brick-and-mortar” retailers. This typically gives retailers the upper hand in lease negotiations.
“Brick-and-mortar retailers are an endangered species,” he said. “The leverage of the tenant retailer is disproportionate to what it’s been historically.”
Essentially, Free People was asking for more than two years of free rent in one of the more “in-demand” places in New York City, said Carbone.
In his decision on the case, Ostrager said the schedule for having Free People move in was “excessively ambitious,” adding that “there is no reason to believe that the store could have opened in December 2015 under any scenario.”
Ostrager noted that Delshah made an offer to settle the dispute for $1.5 million, which was turned down by Free People.
Liquidated-damages clauses are infrequently litigated, according to Carbone. They’re intended to give the tenant power to reach a compromise.
“This is an instance where our adversaries weren’t interested in a compromise; they weren’t interested in a settlement,” Carbone said, adding that there’s a lot to lose for companies if a judge rules against them.
Savino said attorneys for Free People argued that the rent-credits provision in the lease was not a penalty, despite having the provision built into the company’s leases around the country. If the clause had been tailored to the location, it may have been upheld.
“They admitted that it’s the same cookie-cutter clause imposed on every landlord for hundreds and hundreds of locations,” Savino said. “That’s what indicated penalty instead of something estimated to protect the tenant for the damages for delay at this location.”
Ostrager rejected Free People’s contention that damages for a one-year delay in opening the store could not be measured, finding the free-rent clause to be an “unreasonable penalty.”
According to the decision, company executives established that a profit of more than $1 million was targeted for the store’s first year of operation while the “worst-case scenario” might have a return on sales of just over $57,000.
Further, the amount that Free People would have received in free rent would far outweigh the amount the store would bring in if it had been operational on time, Savino said.
Ostrager did award damages to Free People in the amount of $650,000, far less than what would have been received in rent credits or in the settlement offered by Delshah.
Savino said the irony in the rent-credits clause is that the credits went up as of Jan. 1, 2016, a time that typically is the beginning of the company’s slow season.
“The 3-to-1 rent credit, accruing at a rate of over $300,000 a month, kicks in as they enter their dead period of first quarter of the year,” he said.
“It’s a theme we hammered home during the trial.”
The case could have an impact on the balance of power between developers and national retail chains, which have a lot of bargaining power, Carbone said.
“There’s only so many top-notch brands out there that you want to bring in as an anchor tenant for a property, so that gives these big brands a lot of leverage to put things into leases that are fairly onerous for developers,” he said. “This case has the potential to re-establish a bit of that equilibrium of bargaining power when you’re negotiating these lease terms between developers and the actual national retail tenants.”
Savino said he has represented Shah for six years.
“We’ve had a couple of big wins this year but this is the biggest,” Carbone said.
