No Shopping Clauses (Not What You Think)

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Here’s a scenario that doesn’t happen often but happens much too often. A tenant and a property owner work out a tentative deal. They put the basic terms down on paper and call it a deal sheet or elevate its name to a Letter of Intent. Either way, they don’t intend to be bound to make a lease, but they understand that they’ve agreed to negotiate in good faith to reach one.

So, they then start to work on the lease. There are some issues, but nothing that would thwart agreement UNTIL a better deal comes along. Perhaps the landlord finds another prospective tenant and negotiates with that prospect in parallel with the first one. Perhaps a nearby location that the initial prospective tenant had seen and liked better has come back on the market and discussions with its landlord are now taking place. Fair enough, but didn’t the two parties with the deal sheet or letter of intent explicitly or implicitly agree to negotiate in good faith? Yet, even as late as when one party, usually the tenant, has signed what was thought to be the final, execution copy of a lease, the other party pulls out. Then, it turns out that a few days later the retracting party signs a lease with someone else.

So, the phone calls begin – to the attorneys, that is. Was there really an enforceable (binding) agreement to negotiate in good faith? What’s the story that each side will tell? Even if one party has signed what was expected to be the final lease, was it really final? Facts get in the way. Even a more difficult question is: “What does the aggrieved party do about it; what are its provable damages?”

In a 2012 blog posting, “Why Is My Letter of Intent Being Enforced? It Was Only a Letter of Intent, Not an Agreement,” we introduced the concept of breaking a letter of intent into two parts, the first being the non-binding obligation and Part 2 being the binding obligations. [To see it, click: HERE.] We’re thinking that this is an approach that concerned, prospective tenants or landlords might want to consider. [And, not just for a “No Shopping” agreement, but also to address a party’s desire for confidentiality.]

Now, Ruminations believes that in almost all deals, either party should be able to withdraw from negotiations at any time. If the nature of the deal-making justifies it, the parties can agree on a break-up fee. This is often seen in merger and acquisitions deals; rarely for lease negotiations. An appropriate circumstance might be where one party or the other has clear and unusually large due diligence expenses or even where (agreed-upon) pre-lease property improvements are made. We can see circumstances where entering into negotiations has a lost-opportunity cost. That would be where one party or the other is giving up the opportunity to make a deal with another, real (not hypothetical) prospect.

But, having the right to walk-away isn’t the same as not having the obligation to negotiate a deal in good faith. One problem with a “good faith” obligation, however, is that this is a subjective standard – there is no “ruler” to measure it. You need to get into the mind of the actors – what are they really thinking? Sure, you can build a case based on what they say and what they write, but pretext is hard to measure. Maybe that last sticking point really was a sine qua non (something absolutely indispensable or essential) issue. The burden to show it was not falls on the aggrieved party and it is expensive and very difficult to do so.

So, what can one include as a non-binding provision of a letter of intent to create a workable rule, one that would allow parties to discontinue negotiations, but encourage them to pursue the deal on the table and not chase a later-discovered prospective tenant or landlord? Our suggestion is an agreement where, until a party retracts from the negotiations by giving the other written notice of the “walk-away,” it cannot deal with any other prospects or representatives for any other prospects. That means they can’t have any communications with competing prospects. They can’t make any offers; they can’t respond to any inquiries or offers. We’re talking about total “radio” silence with any other person interested or who might be interested. Only after formally notifying the other party that negotiations are over could such contacts be undertaken. There would be no second “bird in the hand,” only possible birds in the bush. The risk of breaking negotiations would be much greater if there were no parallel discussions taking place.

Now, here’s the twist. Breach of a “no shop” agreement would normally require the aggrieved party to prove monetary damages. There would need to be some pretty unusual circumstances, probably never to be encountered, before a court would force a “guilty” party to make a deal with the aggrieved party (tenant or landlord). And, monetary damages would almost always be denied because they would be speculative. Even setting a break-up fee would require that it be a reasonable estimate of the actual damages that would be incurred if a party broke the no-shopping agreement. Otherwise, an award of the specified monetary damages could be rejected by a court as an unenforceable penalty. [For more on unenforceable penalties, click: HERE and start reading mid-way down.]

So, what we are thinking is that the “no shopping” agreement should provide that, if violated, the breaching party would be prohibited from entering into a lease with the “new” tenant or landlord. That would be a contractual agreement, specifically designed to discourage a breach, but not violating the legal goal of promoting the alienability of property (basically, not barring the ability of someone to transfer real property to others, by sale or otherwise),

Such a provision would allow a party to walk away from what it feels, during negotiations, to be shaping up to be a bad deal, economically or even if it comes to feel that the other party would be subjectively undesirable. But, in retracting from negotiations, that party would need to accept the uncertainty of the marketplace rather than walk away with the comfort that a parallel deal is solidly on another table. In addition, it would address the sometimes situation where a competitor wants to step into its competitor’s shoes mostly to block that competitor. That could be one electronics chain that wouldn’t necessarily be interested in a particular location, but would lease it just to keep a competitor out of the local market. Or, it could be a landlord desiring to deprive a competitor of a key tenant, one that would make a nearby property attractive to tenants in general.

What do you think?

[Readers might be interested in discovering or revisiting the following, previous blog posting, “Can You Back Out Of A Deal If The Agreement Is Still Unsigned?” by clicking: HERE.]



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