Commercial leases can certainly be daunting to review and negotiate. Once executed, many commercial tenants file it away and forget about all of the lease details, beyond the monthly rental and CAM charges they are responsible for. This post will inspire you to pull that lease out before its original term ends and make certain that if you intend to renew for an additional term, you do so in a timely fashion, especially if you have negotiated the inclusion of a Right of First Refusal.
A few preliminary comments….
First, a Right of First Refusal (“ROFR”) is a lease term which gives a tenant the right to purchase the real property in the event the landlord gets a third-party offer to purchase the real property. Typically, a ROFR provides for the landlord to give the tenant notice of a third-party offer to acquire the real property, allowing the tenant the right to “match” the offer on the same offer terms with proper and timely notice to the landlord. ROFR provisions in leases are not usually standard and a tenant will negotiate to have such a provision included for their benefit.
Second, all commercial leases have what is termed an “initial lease term”, whether it be two, three, five or ten years. Some leases have options to renew provisions, for additional time periods. Those leases that have options to renew usually require a certain amount of advanced notice from the tenant to the landlord that the tenant wants to exercise their option period. Sometimes the notice of exercising an option requires up to six months’ notice to the landlord. Further, some leases provided that if proper and timely notice is not given pursuant to the lease, the tenant’s right to exercise their option is forfeited.
Third, under North Carolina law, if a tenant’s initial lease term has expired and the tenant remains on the leased premises with the landlord’s permission, then the tenant has become a “hold over tenant”. In North Carolina, absent any specific contrary “hold over tenant” provisions in the lease, the presumption by law is that a tenancy from year-to-year has been created and that the terms of this new “hold-over” tenancy are the same as those of the former lease in so far as they are applicable. But, does that mean all terms under the former lease?
The North Carolina Court of Appeals recently addressed for the first time whether a ROFR is a term “applicable” to a year-to-year tenancy created by operation of law after the expiration of the term of a written lease. In Cogdill v. Sylva Supply Company, Inc. (COA18-845), the tenant originally had a five-year initial lease term, with one five-year option to renew, which was subsequently amended in writing to a seven-year initial lease term, with one seven-year option to renew. The tenant’s lease did have a ROFR provision.
The Cogdill tenant did not provide written notice of its intent to renew the lease beyond the original seven-year term, but continued to remain in possession of the premises with the landlord’s consent as a “holdover tenant”. Nine years after the expiration of the initial lease term, the landlord sold the real property to a third party, with no notice to the tenant pursuant to the ROFR provision. The tenant sued, claiming they were wrongfully denied the opportunity to exercise their ROFR. The trial court granted summary judgment in favor of the landlord.
In a split decision, the majority of the Court in Cogdill held that the tenant’s ROFR provision was NOT “applicable” to the year-to-year tenancy created after the tenant’s initial lease term had expired. The Court determined that (i) the tenant’s commercial lease expired by its express terms at the end of the initial term as the tenant had failed to properly exercise their option to renew for a second, seven-year period (thus becoming a year-to-year tenancy by operation of law), (ii) that since the landlord had not desired to sell the real property during the initial seven-year term, the tenant could not exercise their ROFR prior to the expiration of the lease, and (iii) that even if the tenant had given timely notice to renew for the additional seven-year term, the lease merely provided for an absolute maximum period of fourteen years, so any attempt to enforce the ROFR after fourteen years (which was the case) would come outside the terms of the written lease. Thus, in the majority of the Court’s eyes, the tenant’s ROFR was no longer in effect and unenforceable.
So, what does this all mean for commercial tenants? If you intend to keep your ROFR clause alive after the initial term of your lease, then make certain of the following: (i) follow the lease provisions to properly exercise your right to any renewal options specified; (ii) negotiate and execute a lease amendment prior to end of your last renewal term; (iii) if your lease’s term has already expired and you are in the “holdover tenancy” status, negotiate and execute a lease amendment that specifically extends the lease term and specifically references an intention to incorporate the ROFR clause.
If you have questions or need assistance with preserving your ROFR clause in your commercial lease, please contact our firm, Connors Morgan, PLLC, and one of our attorneys will be happy to assist.