On October 1st, 2016, the French contract law reform introduced by the Ordinance of February 10th, 2016 took effect (the “Reform”). The government merely codified existing case law with the intention to simplify and stabilize the law; nevertheless, it also introduced a number of innovations which deserve a closer look.
The following outline will address such articles of the Reform which will have a major impact on the negotiation and drafting of commercial lease agreements and M&A transactions in the real estate sector.
Good faith and pre-contractual information duty
The contractual parties must negotiate, form and perform the contract in ‘good faith’.
In addition, the Reform explicitly reinforced the ‘precontractual’ duty to inform the respective other party. During the negotiations, the contractual parties mutually owe each other the obligation to disclose all information that is critical to the other party’s consent. When approaching negotiations, it is important to bear in mind that: (i) the parties cannot limit or exclude this duty or waive their related rights, (ii) this duty applies where the other party is ‘legitimately’ unaware of the information or ‘trusts’ the disclosing party; and (iii) the disclosure obligation is wide-ranging covering all information having a ‘direct and necessary link’ with the content of the contract or the parties. Failure to disclose could result not only in liability, but also in the annulment of the ensuing contract.
With regard to commercial lease agreements, this precontractual information duty will complement the already existing reporting obligations and the obligation to attach a certain set of documents to leases under the current legal framework. While in RE M&A transactions, the vendor will be tempted to even provide more documents in the dataroom than previously or will instruct a law firm with the preparation of a vendor due diligence (VDD), which will be disclosed together with a reliance letter to the purchaser in the data-room. When drafting a letter of intent (LOI), the practitioners will have to consider whether its content may be regarded as a limitation to the information duty and when the purchaser’s acknowledges in the SPA having received all information necessary for his purchase decision whether this acknowledgement will not be regarded as a waiver of the seller’s information duty.
The legislator also introduced the obligation to the parties that they should keep the information obtained during the negotiations strictly confidential and that they neither disclose nor use the said information for their business purposes.
Hence, the question arises whether the current practice of drafting specific ‘confidentiality agreements’ (non-disclosure agreements – NDA) in M&A transactions can be discontinued. The Reform does neither define the term ‘confidential information’ nor the duration of the confidentiality obligation and, with regard to the consequences of a breach, it refers to the ordinary liability principles. In this context, we anticipate that the parties will continue the current practice, in particular, as they will also agree on non-solicitation clauses and other provisions directly or indirectly related to the confidentiality
Bespoke contracts vs. standard-form contracts
The Reform defines the ‘standard-form contract’ as one in which one party unilaterally determines general terms and conditions in advance and such terms and conditions were excluded from negotiations. This definition may apply to a number of shopping-center leases or (standardized) leases of institutional investors which provide tenants with a composed lease contract: (i) general provisions (which are meant not to be discussed or modified) and (ii) the specific provisions more tailor-made to the concrete property and discussed with the tenant.
In case where standard-form contracts are used, any clause that creates a ‘significant imbalance’ in the rights and obligations between the parties will be deemed unenforceable. The assessment of a significant imbalance does not cover, on the one hand, the main object of the contract or the question of the adequacy of the price. This rule is based on the existing regime applicable to unfair contract terms in consumer contracts and it will be interpreted in its light.
Moreover, in case of ‘ambiguity’, the standard-form contract will be interpreted against the party which determined the terms and conditions.
The same applies to clauses that empty the debtor’s essential obligation of its substance - either the contract is a standardform contract or a bespoke contract - which are now deemed unenforceable.
Hence, the parties shall apply their best endeavors to establish proof that all contractual provisions of a lease have been negotiated allowing the judge to conclude that the contract is qualified as a bespoken one. This is of particular importance as we have no certainty that, for example, the provisions according to which the tenant must respect a 9-month prior notice where the lessor will have to respect a 6-month prior notice will not be qualified as a significant imbalance in court.
Therefore in case such provision is stipulated it will be necessary to clearly justify the reason(s) why the parties negotiated such provision in view of advantage afforded in return for instance.
Concept of ‘hardship’
The Reform introduced the doctrine of ‘hardship’ in the French Civil Code to address certain evolutions arising in the course of the performance of a contract. If an unforeseeable change in circumstances occurs and renders performance excessively onerous for a party that had not accepted to bear the risk, then the party has the right to ask the other to renegotiate the contract. The mechanism then entails further stages, which include the potential involvement of a judge to revise, or even end, the contract in certain cases.
On this legal background the contractual parties may try, by all means, to find a mutually acceptable solution through renegotiation to avoid the judge’s intervention.
The concept of ‘hardship’ was not declared forming part of the ordre public (public order) so that the parties should consider to exclude the concept given the uncertainties and issues it raises and to define a specific contractual mechanism to apply in lieu of the legal regime. In M&A transactions, the parties often stipulated material adverse change (MAC) clauses in their SPAs to cope with the uncertainties in the period between signing and closing which should surely be reconsidered with regard to the new legal situation.
Breach of contract
In the event of breach of contract, the non-breaching party has a wide range of possible remedies available and the most obvious ones are as follows:
- the parties can include a specific termination clause in their contract and can even agree that a party is entitled under certain circumstances to terminate an agreement by notification if the breach is ‘sufficiently serious’.
- the new provisions allow the non-breaching party to suspend the performance of its own obligation in advance of a breach by the counterparty. Of course, the performance default must be obvious (manifeste), sufficiently serious and the non-breaching party must notify the suspension as soon as possible to be justified.
These remedies can generally be cumulated and damages can always be claimed, however, the parties must consider the compatibility of those combinations with the new legal framework and the nature of the contract in question.
The Reform will undoubtedly be of importance to the entire real estate sector -brokers, developers, construction companies, investors and landlords as well as private equity investors and (regulated and unregulated) funds- and will lead to some adaption of the current legal practice.