Allens

Real Estate

Client Update: When is a tenant bound?

9 August 2012

In brief: Partner Tony Davies (view CV) and Lawyer Sara Ironside examine a New South Wales Court of Appeal decision that considered whether a prospective lessee could withdraw from negotiations relating to an agreement for lease in a case that sheds light on whether negotiating parties can assume they are bound to an agreement prior to the final signing and exchange of documents.

The law

There are many instances where courts have had to consider whether parties have reached a concluded agreement following lengthy negotiations. Generally parties are bound once agreement has been reached on all the primary terms, assuming there is no express final hurdle such as board approval or the exchange of formal documents. Aggrieved parties tend to argue that agreement on all the main terms was reached (and nothing more was required to be done for the parties to be bound) or that it would be misleading/deceptive or unconscionable for a party to withdraw from the 'agreement'. Inevitably, each circumstance requires a careful examination of its facts – as the court did in the Aldi case.1 

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The facts of the case

BBB Constructions Pty Ltd (BBB) owned land approved for commercial development (the site). In June 2006, Aldi Foods Pty Ltd (Aldi) wrote a letter to BBB setting out a leasing proposal which would see Aldi leasing a second basement in the site. The second basement did not form part of the original design for the site. At the end of the letter were the words 'this offer is subject to Aldi board approval'. The parties then entered into negotiations to document and finalise an agreement for lease (AFL).

During negotiations, BBB commenced construction works on the site and spent significant amounts of money accommodating Aldi's requirements. Throughout the negotiations, the person representing Aldi in the negotiations made a number of representations to BBB that the AFL would be signed imminently. Despite execution copies of the AFL being issued in May 2007, a number of issues remained outstanding. In May 2007, after months of negotiations, BBB entered into preliminary discussions with Aldi's competitor IGA (which did not come to any conclusion). In July 2007, final documents were issued in respect of the Aldi tenancy. However Aldi's board did not approve the proposal and informed BBB that it would not be proceeding with the AFL.

BBB took action against Aldi alleging it acted in a way that was misleading or deceptive or unconscionable.

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Summary of Supreme Court's decision

At the initial trial, the Supreme Court held that:

  • BBB knew there was no binding AFL unless the agreement was signed and exchanged by both parties;
  • the AFL was always subject to Aldi board approval, being more than a mere formality, and that board approval was not given;
  • BBB knew that representations made by Aldi relating to the AFL were always subject to Aldi board approval; and
  • representations made by Aldi did not constitute misleading or deceptive conduct as BBB did not rely on the representations made.

BBB appealed this decision.

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Summary of Court of Appeal's decision

On appeal BBB sought to challenge the Supreme Court's decision by arguing that:

  • Aldi breached the Trade Practices Act 1974 (Cth), by engaging in misleading and deceptive conduct or unconscionable conduct, and BBB had suffered loss or damage as a consequence of relying on Aldi's representations and forming a legitimate expectation that Aldi would sign the AFL;
  • it could be inferred from Aldi's conduct that obtaining the board's approval was a mere formality, and that Aldi had committed to leasing the premises; and
  • BBB had been induced into believing that the AFL would be executed, and that Aldi should be estopped from withdrawing from it.

In dismissing BBB's appeal, the Court of Appeal unanimously held that:

  • BBB was not misled or deceived because the purpose of the ongoing negotiations was to produce an AFL that was acceptable to both parties and that BBB knew that Aldi's board's approval was a pre-condition to Aldi's commitment. Further, BBB's conduct in relation to its dealings with IGA were not consistent with BBB's argument that it had relied on Aldi's alleged misleading and deceptive conduct;
  • BBB had not been induced into believing that an AFL would be executed, as both parties displayed a mutual assumption that the negotiations would continue until a final agreement was produced, and that each party would then make a final decision as to whether they would preceded; and
  • as the parties were commercially sophisticated businesses who had employed lawyers to safeguard their own interests, any expense incurred by BBB in constructing the basement (which was to be occupied by Aldi) was for BBB's own commercial advantage. Accordingly, Aldi's conduct was not unconscionable.

Significantly, the court appeared to endorse the comments of the trial judge that, if Aldi had made a decision to not proceed in the negotiations, but failed to advise BBB of this, it may have engaged in unconscionable conduct and be liable for BBB's expenses incurred in continuing with construction.

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How does it affect you?

When any negotiations commence, always consider at what point you want to be bound. Generally, in the interests of certainty, this should be addressed expressly in writing at the outset (eg we do not intend to be bound by any agreement until formal documents are signed and exchanged).

Be particularly careful, if you are negotiating with one party, as to the impact of commencing negotiations with another party (without informing the first party). This can create exposure to a substantial damages claim.2  

Footnotes
  1. BBB Constructions Pty Ltd v Aldi Foods Pty Ltd [2012] NSW 224.
  2. See for example Fabcot Pty Ltd and Anor v Port Macquarie – Hastings Council [2011] NSWCA 167.

For further information, please contact:

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