The painful consequences of getting an option renewal procedure wrong have again been highlighted recently where a tenant secured a 10 year option at around 50% the claimed market rental. The case also highlights the potential benefits of regular market rent review mechanisms, or rather the dangers of not having them.
This matter concerned a freestanding pizza premises where the lease stipulated a 10 year term with a 10 year option. The lease provided for a 3% annual rental increases other than at the conclusion of the first term.
The court noted when considering the option renewal procedures:
These clauses must be read together in order to determine their meaning. In summary form they provide:
(a) Not less than six months before the Market Review Date the landlord may give notice of what it believes the market rent is at the Market Review Date.
(b) The tenant can do two things in response to that:
(i) Do nothing and, thus, accept that level of rent if it renews, or
(ii) Dispute the assessment and, thus, trigger the arbitration mechanism which will determine the market rent.
(c) If the landlord does not give notice of what it believes the market rent is then the rent for the first year after the Market Review Date will be the rent for the year preceding the Market Review Date increased by three per cent.
It casts the onus on the landlord to act or face the consequences.
The important factor in this process is that it contemplates that a tenant can know what the market rent is before exercising an option to renew. The timing suggests that that was what was in contemplation.
The landlord need only give notice of what it believes the market rent will be. It is not required to engage in any unnecessarily onerous activities in order to do that.
The terms of the lease are clear – if the landlord wants to have the rent reviewed to market it must take steps by a particular time. There is no other mechanism available under the lease to review the rent in that manner after the tenant has given notice of renewal. This lease may be more “tenant friendly” than other commercial leases but that, in itself, is no reason to abandon the plain words of the lease.
Notwithstanding the Lessor’s apparent oversight in this instance, the consequential losses could have been at least partially minimised had there been in a more frequent market review mechanism.
The inclusion of a regular market review mechanism, say every three or five years, affords both the Lessor and Lessee with some form of protection.