Introduction
Obligation to pay rent
Business interruption insurance
Comment
The covid-19 pandemic raised the issue of whether franchisees and franchisors, as tenants, could reduce their rent based on government-ordered shutdowns (for further details, see "Do franchisors and franchisees still have to pay rent during a government-ordered shutdown?").
The Federal Court of Justice has now ruled on the issue of rent reductions(1) and whether an insurance policyholder, based on the agreed insurance terms, can claim on its business interruption insurance policy for covid-19-related shutdowns.(2)
This article explores these recent decisions and examines their implications for franchisees and franchisors.
The Federal Court of Justice confirmed that it is possible for a tenant (eg, a franchisee or a franchisor) to reduce its rent due to government-ordered shutdowns on the basis of the law on frustration of contract.(3) However, the Court rejected the idea of a blanket 50% cut in the rent. Instead, the effects of the business closure on both tenant and landlord need to be weighed up in detail in each case.
Facts
The defendant, a discount clothing retailer, had leased premises for its retail business from the claimant. The regional government issued a general order to contain the covid-19 pandemic, forcing the defendant to close its store from 19 March 2020 to 19 April 2020 inclusive. While the claimant demanded payment of full rent for that period, the defendant refused, arguing that the government-ordered shutdown was outside its sphere of risk.
While the Chemnitz Regional Court, the competent court of first instance, ordered the tenant to pay the full rent, the appeal court, the Dresden Higher Regional Court, set aside that decision and ordered the tenant to pay only 50% of the rent. The appeal court found that neither contracting party had caused the pandemic or been able to foresee it. The Federal Court of Justice has now overruled this decision, saying that a blanket 50% reduction was wrong.
Decision
Official closure orders do not constitute a defect in leased premises
The Federal Court of Justice first confirmed that government-imposed business closures did not constitute a defect in the leased premises(4) and thus a statutory rent reduction was ruled out. The rental property was available for the agreed rental purpose throughout the period of the closure order.
Contractual amendment due to frustration of contract?
The Federal Court of Justice also concurred with most of the court decisions published to date that a contractual amendment leading to a rent adjustment was possible via the law on frustration of contract.
The Federal Court of Justice then focused on the issue of whether, given all the circumstances of the individual case, especially the contractual or statutory risk distribution, it was reasonable for the contracting parties to adhere to the unamended contract. The Court found that the covid-19 pandemic ultimately constituted a general life risk not covered by the risk distribution in the lease unless the contracting parties provided for such a risk in the lease. Generally, the related risk cannot be allocated to one contracting party alone. Therefore, the Federal Court of Justice, unlike the Dresden Higher Regional Court, rejected a blanket 50% cut in the rent. Instead, to determine whether adhering to the unamended contract was unreasonable, thus requiring an adjustment of the rent, the tenant's and landlord's interests in the particular case had to be weighed up in detail. When weighing them up, the following had to be considered in particular:
- What specific disadvantages did the tenant suffer from the business closure and the duration of the closure?
- What measures did the tenant take (or could reasonably have taken) to reduce the impending losses during the business closures and/or what financial benefits did it obtain in connection with the closure?
- Did the tenant obtain financial benefits from government grants or business insurance?
This is not an exhaustive list. What was key were the specific financial effects of the business closures on the tenant and whether they had been of such an extent that an amendment of the lease was necessary.
In the case at issue, the Federal Court of Justice left open the result of the case-by-case assessment and did not comment on whether the tenant had a right to reduce the rent. Instead, it referred the case back to the appeal court, the Dresden Higher Regional Court, to make such an assessment.
Business interruption insurance
In another ruling, the Federal Court of Justice decided that, on the basis of the insurance terms agreed between the litigating parties, policyholders (eg, franchisors or franchisees) cannot claim on their business interruption insurance as a result of a business closure in connection with the covid-19 pandemic.
Facts
The claimant, who operated a restaurant, had a business interruption insurance policy with the insurer against which it took action. Because the regional government issued a general order to mitigate the covid-19 pandemic, the claimant had to close its restaurant in April 2020 and claimed compensation from the insurer based on that policy due to the closure of its restaurant. The insurance terms listed certain diseases and pathogens within the meaning of the German Infection Control Act for establishing an insurance claim. The list did not specifically mention covid-19, severe acute respiratory syndrome (SARS) coronavirus (SARS-CoV) or SARS-CoV-2.
Both the Lübeck Regional Court, the competent court at first instance,(5) and the appeal court, the Schleswig-Holstein Higher Regional Court,(6) dismissed the claimant's payment claim. This has now been confirmed by the Federal Court of Justice.
Decision
Covid-19 and SARS-CoV-2 are not covered by insurance
The Federal Court of Justice first confirmed the lower courts' interpretation of the insurance terms, concluding that a business closure to prevent the spread of the disease covid-19 or the pathogen SARS-CoV-2 was not covered by the insurance policy.
According to the express terms of the policy, cover only extended to business closures imposed to prevent the spread of notifiable diseases or pathogens. The notifiable diseases or pathogens were named in an exhaustive list, which did not contain the disease covid-19 or the pathogen SARS-CoV-2. The meaning and purpose of the clause also supported the view that the list was exhaustive, according to the Court. The Court said that average insurance policyholder cannot assume an insurer is willing to provide cover for non-listed diseases and pathogens. Also, since diseases may arise years after a contract has been entered into (such as covid-19), due to the imponderability of the risk to be insured, the insurer would not be able to calculate appropriate premiums.
No breach of law on general terms and conditions of business
The Federal Court of Justice also confirmed that the insurance terms did not breach the law on general terms and conditions of business – in particular, the principle of transparency. According to the wording of the insurance terms, it was clear that the notifiable diseases and pathogens were conclusively defined. An average policyholder would not receive the impression that every business closure based on the German Infection Control Act was covered by the policy at issue or that the insurer would be liable even for non-listed diseases and pathogens that only arose after the contract was entered into.
These decisions by the Federal Court of Justice make it clear that, where commercial leases are concerned, covid-related business closures do not constitute a defect in the leased premises, although a rent reduction may still be possible. Whether such reduction is possible and, if so, in what amount, must be carefully examined on a case-by-case basis. It will be interesting to see how the Dresden Higher Regional Court, and other courts for that matter, will further specify the guidelines set by the Federal Court of Justice for making such an assessment.
With regard to franchising law in particular, it remains to be seen how the courts will carry out a case-by-case assessment as demanded by the Federal Court of Justice – for example, what criteria will be used to decide on the appropriateness of a rent reduction and whether other franchise-specific factors will also need to be considered over and above the standards imposed by the Federal Court of Justice.
It is now also clear that, depending on the exact terms of the business interruption insurance concerned, there is no right to reimbursement for losses due to official closure orders during the covid-19 pandemic. Although this ruling only concerns a single case, it can be seen as a landmark decision: the insurer is not liable for non-listed diseases and pathogens that only arise after the contract is entered into. The Federal Court of Justice, like the lower courts, has thus clearly decided in favour of protecting insurers.
In light of these two decisions, franchisees and franchisors, as tenants, would be well advised to find an amicable solution with landlords. In fact, that has quite often been the case in practice so far.
For further information on this topic please contact Karsten Metzlaff or Jasmin Schulzweida at Noerr LLP's Hamburg office by telephone (+49 40 300 3970) or email ([email protected] or [email protected]). Alternatively, contact Tom Billing at Noerr LLP's Berlin office by telephone (+49 30 20 94 20 00) or email ([email protected]). The Noerr LLP website can be accessed at www.noerr.com.
Endnotes
(1) Ruling of 12 January 2022 – XII ZR 8/21.
(2) Ruling of 26 January 2022 – IV ZR 144/21.
(3) Section 313 of the German Civil Code.
(4) Section 536(1) of the German Civil Code.