It is quite common for commercial leases to contain seemingly conflicting clauses about a landlord’s rights and obligations with respect to a tenant’s request to assign or sublease a lease. Often, the assignment/sublease provision of a lease places an obligation on the landlord to not unreasonably withhold its consent to a request by the tenant to assign or sublease. Commercial leases often also contain an option clause that provides the landlord with an option to terminate the lease when such a request is made by the tenant.

Exercising such an option clause is generally attractive to a landlord when market rental rates are higher than what the tenant is paying under the terms of the lease. In these cases, the landlord may exercise the clause and terminate the lease in order to negotiate a lease directly with the proposed new subtenant or assignee (or some other party), one that allows the landlord to benefit from the higher rates. But if the landlord acts in this fashion, then the landlord appears to be withholding its consent to the tenant’s request to assign or sublease unreasonably and is seemingly in breach of its obligations under the assignment/sublease provision of the lease. How then can these apparently conflicting lease provisions be reconciled?

That was the issue put forth to the Alberta Court of Queen’s Bench in the recent decision of Orbus Pharma Inc. v. Kung Man Lee Properties Inc., 2008 ABQB 754 (CanLII).

The lease in question contained an assignment/sublease clause that stipulated that the landlord may not unreasonably withhold its consent to a written request by the tenant to assign or sublease the lease. The lease also contained a further option clause that stipulated that in the event the tenant made such a request, the landlord had the option to either: i) consent to the request, ii) not consent, or iii) elect to cancel the lease "in preference to the giving of such consent" [italics added]. The option clause further stated that: "If the Landlord shall not exercise its option to cancel this lease, then 17.01 [the assignment/sublease clause] continues to apply."

The plaintiff tenant made a written request of the defendant landlord for its consent to assign the lease. The tenant wanted to assign the lease as part of a sale agreement between it and the proposed third-party assignee for the purchase and sale of the tenant’s business. The landlord elected to exercise its option to cancel the lease in preference to giving its consent to the requested assignment. The landlord provided the tenant with no reasons for doing so (although it was well-known that the market rental rates at the time were considerably higher than what the tenant was paying under the lease). The landlord simply provided the tenant with a letter that stated it was exercising its option to cancel the lease in preference to giving consent in accordance with the option clause. This prevented the tenant from delivering an assignment of the lease in accordance with its obligation under the sale agreement with the proposed third-party assignee, and caused the tenant to receive a lower purchase price. The tenant brought an action against the landlord claiming the landlord was in breach of its obligation under the assignment/sublease clause of the lease for withholding its consent to the requested assignment unreasonably.

The law with respect to consent to assignment of commercial leases is generally that a landlord is seen as acting unreasonably if it refuses to provide consent so that it can benefit from higher rent rates. Hence, the landlord’s defence hinged on an interpretation of the lease and whether the lease provided the landlord with the option to terminate the lease in preference to the giving of consent to the requested assignment.

After providing a thorough review of principles of contractual interpretation, Justice Brooker of the Alberta Court of Queen’s Bench ruled in favour of the landlord, finding that the landlord had the contractual right under the terms of the lease to terminate the lease in preference to consenting to the requested assignment. His decision hinged on the words "in preference" in the option clause, finding that such language gave the landlord "an independent alternative that exists outside of the giving or denying of consent." Justice Brooker noted that this conclusion was supported by the final sentence of the option clause, which stated that only in the event that the option to cancel was not exercised does the assignment/sublease clause (with its requirement that the landlord not unreasonably withhold consent) continue to apply. He further noted that the landlord’s interpretation was the only one that was within the plain text of the lease and that gave meaning to all of the language of the lease (and thus was consistent with contractual interpretation principles). Justice Brooker also dispensed with an argument by the tenant that to adopt the landlord’s interpretation would lead to an absurd commercial result. He found the contrary to be true, finding that the option clause was simply "astute bargaining on the part of the defendant," giving the landlord, rather than the tenant, the opportunity to benefit from changes in market rental rates.

McCarthy Tétrault Notes:

This case is extremely helpful to landlords and individuals drafting commercial leases, as it upholds and harmonizes an option to terminate clauses in the face of a seemingly competing consent clause. It shows that if the lease, and in particular the option to terminate clauses, is properly drafted, the landlord can have a lease that provides it with the opportunity to benefit from changes in market rental rates while still providing the tenant with the comfort it so often requires to be able to get out of the lease if it finds a suitable replacement tenant. Option to terminate clauses can work — but it is all in the drafting.