Robert Speirs, a specialist in retail leases and regular contributor to SCN, looks at the recent case where the lessors claimed a payment for operating costs over and above that paid by Myer. It’s a simple yet fascinating case. It’s required reading for all managers, leasing execs and the legal teams of shopping centres.
The owners of the Chadstone Shopping Centre just lost a claim against Myer in the Victorian Supreme Court (Perpetual Limited v Myer Pty Ltd  VSC 2).
The owners claimed that there was a mistake in the outgoings clause. The clause in the lease was complicated, but in essence required Myer to pay increases in outgoings over the previous year. The lessor said that Myer should have been paying increases over the base year.
It was some mistake!
The lease was for a term of 30 years, commencing in 1998. The judgement does not state exactly how much was at stake but does disclose that the discrepancy for the four years from 2012 to 2016 was $8,836,000. If we extrapolate that figure for the balance of the term (until 2028), then on the most conservative calculation, if the lessor was right, it would be shorted something north of $46 million.
The lessor argued that the lease contained a definition of ‘Base Accounting Period’ which had no work to do on the Myer interpretation. It pointed to the history of the lease negotiation and to this orphan definition to argue that the outgoings clause as drafted, produced an absurd result.
Generally speaking, a provision in a lease is interpreted by the court by reference to the words used. The interpretation can be displaced if it is shown that the natural interpretation of the words produces an absurd result.
Myer argued that the words used in the lease meant what they said (that the increase should be confined to the increase over the previous year). The words used produced this meaning, an absurd result did not ensue, and the fact that the outgoings had been calculated by the lessor, invoiced by it, and paid by Myer for nearly 20 years, all without demur, demonstrated an absence of absurdity.
The court agreed with Myer.
The lessor relied for its argument on a precedent case; Westpac Banking Corporation v Tanzone Pty Limited & Ors  NSWCA 25, another favourite of mine. In that case, WBC took a lease of some sleepy bank premises in Lithgow. The lease commenced in 1985, for a term of 20 years. The year one rent was $69,400, to be increased every two years by increases in the CPI.
The CPI clause contained a monumental drafting error.
A properly drawn CPI clause says that “on each anniversary of the commencement date, the rent is increased by the percentage increase in the CPI from the commencement date or previous anniversary of the commencement date, whichever is the later” (emphasis added). If we assume a constant annual 5% CPI increase, the effect of this clause is that on each anniversary, the rent is increased by 5%.
In WBC’s case, the emphasised words above were omitted from the clause. The effect was that the annual rent was increased each year by the compound CPI increase from the commencement date.
Back in the 1990s, a 12% annual increase in the CPI was possible. This would produce a 12% increase for year two; a 24% increase for year three; a 36% increase for year four and so on. The Court calculated that by 1999, on this basis, the annual rent would have increased to more than $39 million.
You could have bought the whole town of Lithgow for $39 million in 1999.
This outcome demonstrated to the court the absurd possible outcome of the interpretation agitated by the lessor. It held that a person in business would not have taken the chance that the rent could have been so extravagantly increased. It therefore implied into the clause the words emphasised above, to give the clause its intended effect.
The scary thing about WBC’s case is that the lessor was successful at first instance. It was only on appeal that WBC got out from under the bus.
The memory of this case ensures that CPI clauses never get the once-over-lightly in my house.
In the Chadstone case, the court really made a subjective call, based on the evidence, that there was no absurdity, even though the lessor’s argument produced a discrepancy just as staggering as the clause in the WBC case.
And the lessor must have been quite optimistic, given that outgoings clauses often provide for an increase over base year, but almost never provide for a year-on-year increase.
Because the year-on-year outgoings had been calculated and charged and collected by the lessor over a long period, based on the words used in the lease, the court might well have suspected an element of opportunism in the lessor’s case.
Given the sums involved, it would be no surprise if the lessor appealed the Chadstone decision, and hoped (like WBC), that the decision at first instance is reversed.
With the increasing commoditisation of retail leasing, the risk of Chadstone/WBC type mistakes escalates.
Assume, for example, that parties agree to a 10-year lease, with the lessee to pay increases in outgoings over the outgoings year at the commencement date. Assume that a lease is prepared in these terms, and that the parties then amend the term so that it is five years, with a 5-year option. An option clause is then grafted on to the lease, which is then signed.
The effect is that instead of getting 10 years of increases over year one outgoings, the lessor gets five years of increases over year one. If the option is exercised, the commencement date resets to the commencement date of the option lease, and the lessor merely picks up the increases over year five. The loss is substantial.
Someone has to think about these issues, when lease deals are negotiated and changed, and draft appropriate amendments to the lease. This needs attention from someone who has been around the block, not from a junior para-legal reading a play-book.
It is easy to forget that retail leases can be complex and challenging documents creating serious and substantial legal obligations.