Commercial Leasing in Canada: A Look Back at 2019

As we enter 2020, Blakes offers this look back at 2019 from a commercial lease perspective. It was a busy year deal-wise for the industry and, as a result, easy to fall behind on legal and other developments. This short recap is intended to get readers back on track as we all start accelerating into 2020. The general industry feeling is that, barring an economic recession, 2020 will be another busy year for leasing in most of Canada.

Noteworthy 2019 Case Law
Pertinent Legislative Changes
Market Recap

NOTEWORTHY 2019 CASE LAW

Failure to Reserve the Last Day of a Head Lease Term on a Sublease

In V Hazelton Limited v. Perfect Smile Dental Inc., 2019 ONCA 632 the Ontario Court of Appeal (Appeal Court) was called upon to consider whether a tenant had inadvertently assigned its lease by virtue of the fact that it had entered into a sublease but failed to reserve the last day of the head lease term. After entering into the sublease, the tenant tried to exercise an option to renew contained in the head lease, but the head landlord refused to honour the option. The head landlord took the position that the tenant lost its option as it had assigned it away when it entered into a sublease for the full remaining duration of the head lease term.

The Appeal Court ultimately ruled in favour of the tenant by relying on Section 3 of the Ontario Commercial Tenancies Act. Section 3 stipulates that the retention of a reversionary interest in a lessor is not necessary in order to create the relation of landlord and tenant (or sublandlord and subtenant). Despite being in force in Ontario since 1895, this statutory provision had not been considered in connection with the seemingly contradictory common law requirement that a sublease must reserve the last day of the term in order to avoid being treated as an assignment.

The Appeal Court opted to interpret Section 3 to mean that there may be a sublease even if the last day of the head lease is not reserved, but only when there is sufficient evidence to show that the parties intended to create a sublease as opposed to an assignment of the lease. In this case, the Appeal Court was of the view that such evidence existed primarily due to the fact that the sublease document expressly contemplated that the tenant had a right to renew the head lease, but was not obliged to renew on behalf of the subtenant, as well as because the sublease expressly articulated that the subtenant itself had no right to remain in the premises beyond the stated term of the sublease.

Capital/Extraordinary Repairs as Recoverable Operating Expenses

Trenchard v Westsea Construction Ltd., 2019 BCSC 1675 represents a favourable decision for landlords in relation to the recoverability of capital or extraordinary repair costs where the lease does not expressly permit the landlord to recover such costs.

In this case, the owner of the building completed a major restoration project at a cost which exceeded C$5.5-million. The project involved the replacement of building’s original windows, sliding doors and bathroom exhaust fans. The building’s leases permitted the building owner to charge back operating expenses which where defined as being all amounts paid by the building owner in connection with the “maintenance, operation and repair of the building” and “all other expenses paid or payable by the lessor in connection with the building.” However, the leases did not expressly reference capital costs, extraordinary costs, replacement reserves, major repairs/replacements, amortization, depreciation or the like.

The representative plaintiff/tenant relied on several other Canadian court decisions and argued that express words in a lease are required in order to permit a landlord to charge back capital costs. Despite the case law, the Supreme Court of British Columbia (Supreme Court) was not persuaded. In the Supreme Court’s view, the leases in question were clear and unambiguous. The leases did not limit operating expenses to those which are “common, repetitive or highly predictable,” nor did the leases distinguish between capital and non-capital costs. As such, the definition of operating expenses contained in the leases was sufficiently broad to encompass the restoration project in question, and sufficiently broad enough to permit the landlord to recover the applicable costs from its tenants.

Given prior caselaw, it will be interesting to see if this case will be followed by other courts, particularly those outside of British Columbia, or whether it will be treated as an anomaly and distinguished.

Limitation Act vs. Real Property Limitations Act

In Stonequest Management Inc. v. Andritz va Tech Hydro Limited, 2019 ONSC 3273 (Stonequest), the tenant was responsible for payment of all electricity which it consumed in relation to its premises. However, due to a problem related to unlabelled or mislabelled meters at the property—described in the judgment as an honest or unintentional mistake on the part of all parties involved—the tenant was vastly undercharged with the result that the public utility company ultimately invoiced the landlord for the shortfall. One of the issues the court was called upon to consider was whether the landlord was statute-barred from proceeding with its claim to recover the shortfall amounts from the tenant. The landlord initiated its court action two years and 13 days from the date it knew or ought to have known that it had a claim against the tenant for the shortfall. In Ontario, there is a general two-year limitation period under the Limitations Act, 2002, but landlords are afforded a separate, six-year limitation period for recovery of rent arrears under the Real Property Limitations Act (RPLA). 

The Ontario Superior Court of Justice (Superior Court) first determined that the landlord was statute-barred under the Limitations Act, given that the litigation was commenced more than two years after the landlord’s claim was discoverable. The Superior Court then went on to consider whether the landlord’s claim was saved by the operation of the six-year limitation period for rental arrears under the RPLA. The landlord argued that the RPLA applied given that the unpaid utilities constituted “additional rent” under the lease. The landlord’s position seemed logical, particularly given that the lease in question defined “additional rent” as “…all sums of money or charges required to be paid by the tenant under this lease…whether or not the same be paid to the landlord or otherwise.” Nevertheless, the Superior Court referred to earlier case law—Pickering Square Inc. v. Trillium College Inc., 2014 ONSC 2629—and concluded that the meaning of rent, as it applies to the RPLA, is limited to the payment of rent due under a lease between a tenant and landlord for compensation for the use of the lands or premises. Moreover, according to the Superior Court, the term “rent,” as used under the RPLA, must have an objective meaning that cannot be nullified by contract. In this case, the Superior Court noted that electricity was to be separately metered for the premises and the tenant was to pay the costs directly to the applicable public utility supplier. In the Superior Court’s view, given the circumstances at hand, extending the RPLA to cover the unpaid utility charges would be an overly broad interpretation of the RPLA and inconsistent with legislative intent.

The RPLA portion of the judgment in Stonequest is undoubtedly controversial and will be the subject of debate as to whether it was correctly decided. There is currently no indication that the decision has been appealed.

Co-Tenancy Provisions

Old Navy (Canada) Inc. v. The Eglinton Town Centre Inc., 2019 ONSC 3740 involved the interpretation of a co-tenancy provision which named Danier Leather as one of the key tenants. The co-tenancy provision had been included in both the letter of intent (LOI) and formal lease agreement entered between Old Navy and the landlord. However, the LOI version of the co-tenancy also included a termination right, which allowed the landlord to terminate the agreement if the co-tenancy failure continued for a period of six months or longer. For reasons unknown, this termination right was not included in the formal lease. In both the LOI and formal lease, the tenant, Old Navy, was entitled to a significant rent reduction if a co-tenancy failure was triggered. This rent abatement was not time-limited and, therefore, in theory, Old Navy could have availed itself of its right to the rent reduction indefinitely.

More than 15 years after the start of Old Navy’s lease term, Danier Leather declared bankruptcy and ceased conducting business within the shopping centre. Old Navy subsequently sought to assert its co-tenancy provision, claiming that the loss of Danier Leather amounted to a co-tenancy failure. One of the main arguments of the landlord was that the co-tenancy clause was poorly drafted and did not properly reflect the real intention of the parties, which was that Danier Leather was only required to be open on the commencement date of Old Navy’s lease, not during the entirety of Old Navy’s lease term. Hence, according to the landlord, when Danier Leather ceased operating, it could no longer be considered a co-tenancy failure.

The Superior Court ultimately ruled in favour of the landlord, finding that the co-tenancy provision in question was capable of more than one interpretation. More importantly, the Superior Court determined that Old Navy’s interpretation could not prevail, as it would not be commercially reasonable to expect that it could be allowed to pay a significantly reduced rent for a potentially indefinite period, merely because a non-anchor tenant—like Danier Leather—ceased operating well into the term of Old Navy’s lease, without Old Navy’s sales having suffered in any way. In the Superior Court’s view, Old Navy’s interpretation violated the foundational principles of business efficacy and lead to an absurd result. The Superior Court also made a rectification order to amend the lease to include the landlord termination right that had been included in the LOI but excluded from the formal lease.

This case should also be of interest to the commercial leasing bar insofar as the Superior Court pondered, but ultimately elected not to render judgment on, whether the co-tenancy provision in question was a penalty clause and, therefore, unenforceable. The landlord had argued that the rent reduction to which Old Navy was entitled under the co-tenancy far outweighed any actual loss or damages suffered by Old Navy through the loss of Danier Leather from the shopping centre. The Superior Court considered American cases on the issue, but ultimately elected to avoid deciding the issue. It will be interesting to see if this penalty argument is raised in future cases where a landlord seeks to avoid being bound by a co-tenancy in circumstances where the tenant having the benefit of the right has not suffered a material reduction in sales.

Other Worthwhile Reads

While not necessarily providing new law or a contradictory, innovative or radical approach to existing law, the following additional 2019 cases remain worthwhile reads as they provide refreshers/summaries of the law, which commercial leasing legal professionals will undoubtably find useful:

PERTINENT LEGISLATIVE CHANGES

Effective January 1, 2019, Ontario’s Green Energy Act, 2009 was repealed by way of Green Energy Repeal Act, 2018. In general terms, the legislative changes serve to restore the rights of local municipalities to control the development of wind, solar and other renewal energy projects. For more information, see our September 2018 Blakes Bulletin: New Ontario Government to Restore Municipal Rights to Oppose Renewable Energy Projects. Of specific interest to commercial leasing legal professionals is the abolishment of the 50-year Planning Act exception, which had been previously available to renewable energy project leases. Accordingly, unless it qualifies under a general exception, a renewable energy project lease will now require severance consent under the Planning Act if its term—including renewals and extensions—is 21 years or longer.

In British Columbia, the Land Owner Transparency Act (LOTA) become law on May 16, 2019. LOTA requires disclosure of individuals who hold, directly or indirectly, beneficial interests in land. Interests in land subject to LOTA’s disclosure requirements include owned lands and leased lands having a term of more than 10 years. For more information, see our May 2019 Blakes Bulletin: Transparency is Coming: B.C. Passes Real Estate Beneficial Ownership Disclosure and Public Registry Law.

MARKET RECAP

With a notable exception for Calgary and, to a somewhat lesser degree, Edmonton, the office and industrial commercial lease markets in Canada’s major cities were very strong in 2019. Record low vacancies and rising rental rates continued as a theme for both Toronto and Vancouver. In Calgary and Edmonton, there was a general feeling that the markets stabilized in 2019 with a recovery—albeit a very long one—now on its way.

In many major centres, much of the office leasing activity over the past year was dominated by technology-based companies leaving some landlords with a conundrum of having to decide whether to: a) lease space to a new technology company with little operating history and profitability, but enormous potential to grow and become hugely profitable; or b) lease space to an established, old-economy business with lesser future growth prospects. As a new business reality, landlords that do not possess the skillset to understand and properly analyze new economy companies as tenants are clearly at a disadvantage.

The retail leasing sector continued to be challenged in 2019 with rental rates continuing to suffer through the year. Much of the leasing activity was focused on restaurant and entertainment uses, as such uses have been impacted by e-commerce to a far lesser degree. As has been the case over the last several years, retail landlords continued to be creative in their rental structures—including gross leases, capped taxes, maintenance and insurance (TMI), and the like—in order to attract these uses to their centres.

For further information, please contact:

Joseph Grignano         416-863-4025

Paul Logan                  403-260-9773

Gayle Hunter               604-631-3352

Daniel Ferreira            514-982-4089

or any other member of our Commercial Real Estate group.

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