Australia: Be careful what you say – observations on estoppel claims in commercial lease negotiations

What you need to know

• Parties must be mindful of the statements they make during contractual negotiations in order to avoid misleading the other party about their own rights in the negotiation.
• In the absence of a binding agreement, the legal principle of estoppel can sometimes step in to create rights based on the action that one party takes in response to a representation made by the other, which induces that party to act to its detriment.
• When courts consider estoppel claims in a commercial leasing context, there can sometimes be surprising results, as demonstrated by a recent decision by the New South Wales Court of Appeal.

It is well established that when parties are negotiating a contract, they must be mindful of the things they say and representations they make in the lead up to signing formal documents. It is common for disputes to arise when one party unfairly leads the other down the garden path to secure a desired outcome, only to go back on their word.

The legal principle governing this type of conduct is known as 'estoppel' and it arises frequently in the context of commercial lease negotiations. For example, where a landlord makes representations that it will be bound in a way that differs from its strict legal rights, it may face claims that it is 'estopped' from behaving differently if the tenant has reasonably relied on the landlord's representation to its own detriment.

We explore the way that two particular forms of estoppel have been recently examined by the courts in a commercial leasing context, with one case producing a surprising result.

Explaining estoppel

'Estoppel' is a legal term that is used in various senses. The two in focus here are:

Two major decisions have been delivered by different courts in recent months, shining a spotlight on these principles.

Estoppel by encouragement was recently considered by the NSW Court of Appeal in Doueihi v Construction Technologies Australia Pty Ltd [2016] NSWCA 105 (Doueihi Case).

The principle of promissory estoppel was recently the subject of a High Court decision in Crown Melbourne Limited v Cosmopolitan Hotel (Vic) Pty Ltd [2016] HCA 26 (Crown Melbourne Case).

Doueihi Case – a surprising result?

The dispute

A collection of individuals (many of whom were related) purchased a property at Seven Hills to accommodate the business interests of Construction Technologies Australia Pty Ltd (CTA) and some other entities associated with that business. Mr Hogan (the director and major shareholder of CTA), was married to Ms Hogan, the daughter of one of the purchasers and a sister of another. He was the driving force behind the purchase.

During the planning stage for the construction of the building, Mr Hogan told the owners' representative (who was also one of the owners) that CTA would need a five-year lease, with a five-year option to renew in order to justify its expenditure of nearly $1 million installing plant and equipment after taking possession of the premises and paying rent from July 2010 onwards. The owner's representative, negotiating on the other co-owners' behalf, said that sounded fair. The other co-owners also knew that CTA was expecting a long-term occupation, based on the scale of its expenditure. Mr Hogan and the owners' representative had agreed the rent, the term, the premises to be leased and the option for renewal but had not agreed any other terms. Mr Hogan assumed that CTA did not need to make a formal agreement for lease, consistent with the co-owners' family's practice of not making formal tenancy agreements.

In July 2011, Mr and Ms Hogan separated. CTA then attempted to formalise the terms of the lease the parties had effectively been operating under, but in June 2012 CTA was offered a short-term lease at a 40% increase in rent. A few months later, the co-owners' solicitors gave CTA a notice to quit. CTA then commenced proceedings, claiming it had:

• a binding agreement for lease on the terms which it had informally agreed with the co-owners and under which it had been operating in practice, or
• the benefit of a conventional or equitable estoppel against the co-owners from denying the agreement for lease.

The outcome

The court held that CTA had the benefit of a proprietary estoppel by encouragement. It made a declaration that CTA was entitled to enforce an equity arising by estoppel and ordered the parties to execute a lease. The owners' appeal was dismissed by the NSW Court of Appeal.

Why is this decision significant?

This outcome is somewhat surprising against the background of a long line of cases in which parties to commercial leases have struggled to succeed in claims of estoppel without having had clear agreement on all terms. Those cases include Austotel Pty Ltd v Franklins Selfserve Pty Ltd (1989) (in which the parties had not reached agreement on important terms such as rent) and DHJPM Pty Ltd v Blackthorn Resources Ltd (2011) (in which the parties had not agreed on any of the relevant commercial terms at all).

A case where there was clear evidence that the commercial terms had been finalised in negotiations was Waltons Stores (Interstate) Limited v Maher (1988). Here, documents setting out the agreed terms had been executed by the landlord and issued to the tenant's lawyers for execution by the tenant. The estoppel (in that case a promissory estoppel) arose when the tenant failed to inform the landlord that it had not signed the documents and was considering its position when it knew (or ought to have known) that the landlord was carrying out works on the understanding that there was a binding agreement and that the signing of documents was a mere formality.

Estoppel claims by parties who are experienced in commercial affairs, and who do not reach a binding agreement on all relevant terms, are viewed unfavourably by the courts because it is difficult to see how an experienced commercial operator can be encouraged to adopt an expectation that is inconsistent with the usual expectations of a binding agreement that surround commercial negotiations.

In the Doueihi Case, one possible explanation for the tenant's success is that it claimed a proprietary estoppel by encouragement in circumstances where the parties were closely related, even though the transaction was a commercial transaction. Estoppels by encouragement are common in family circumstances, and estoppels have been found in instances where the representation fell well below the requirement for certainty for a representation to be enforceable as a contractual variation. This argument was acknowledged in the Doueihi Case, but not seen as decisive.

In the end, the circumstances in which a representation is made will dictate whether or not it is reasonable to hold the expectation that is said to justify the estoppel. The crucial circumstance in Doueihi was the family convention that formal agreements not be made in relation to the business.

Crown Melbourne Case – confirming the obvious?

The dispute

In this case, parties with considerable experience in commercial operations were negotiating terms for two restaurant leases for five years each. The leases were conditional upon the tenants in each case carrying out substantial refurbishments to the premises at the outset of the leases. Amidst concerns that five-year terms would not allow the tenants to recoup the costs of the refurbishments, the tenants sought the landlord's agreement to grant terms of ten years each, or alternatively, options to renew for further terms of five years each. The landlord would not agree to the longer terms.

The tenants took the matter to the Victorian Civil and Administrative Tribunal (VCAT) where they claimed that during the course of negotiations, the landlord stated that new leases for five years each would be offered to the tenants at the end of the initial leases. The VCAT found that although there was no evidence of such a categorical promise, there was evidence that the tenants' representative was told that the tenants would be 'looked after at renewal time' if they: (i) executed the five year leases; (ii) returned the documents to the landlord, and (iii) proceeded with the refurbishments. The tenants did as they were asked, but no offer was made by the landlord at renewal time.

In the VCAT and again in in the High Court this year, the tenants claimed that the statement that they would be 'looked after at renewal time' amounted to a collateral contract which obliged the landlord to offer a renewal of the leases for five years on terms to be decided by the landlord. Alternatively, the tenants claimed that the landlord was estopped from refusing to offer a renewal of the leases on such terms.

The outcome

In the High Court, the tenants argued that their claim was in proprietary estoppel rather than promissory estoppel. The High Court rejected the tenants' claim on the basis that they were bound by the way they ran their claim in VCAT – that is, the claims should be assessed as claims in promissory estoppel.

In this regard, French CJ and Kiefel and Bell JJ rejected the tenants' claims primarily on the basis that in a case of promissory estoppel, the statement that the tenants would be 'looked after at renewal time' lacked the necessary clarity or precision to convey to a reasonable person that the tenants would be offered further leases at renewal time. Accordingly, the tenants could not argue on appeal that the less stringent test for certainty of representation that may be available in proprietary estoppel cases was available to them. In separate judgments, Keane J and Nettle J expressed similar views that the tenants were bound by the way they ran their cases in the VCAT.

Why is this decision significant?

The High Court's decision underscores the difficulty that a commercial party will experience in establishing a promissory estoppel of the kind recognised in the Waltons Stores case where the terms of the representation are vague and ambiguous. Keane J was explicit about this, saying that where a contractual right or liability is to be altered, the representation which is said to bring about that alteration should be as certain as what would be required to actually give effect to a contractual variation. His Honour contrasted the position of the landlord in Waltons Stores (where terms had been agreed and reduced to writing, but not signed) with the position of the tenants in the Crown Melbourne Case (where the terms of the further leases were unclear). By this measure, the tenants in Crown Melbourne fell well short of what was required to prove their claim.

Some of the judgments made comments in passing that the test for certainty of representation may be less stringent in cases of proprietary estoppel by encouragement than they are in promissory estoppel. Ultimately, the Court (other than Nettle J) would not be drawn on this question which remains to be determined in the High Court. Perhaps, Doueihi points the way.

Key takeaways

The following guidelines emerge from this discussion:

1. During negotiations, parties need to be careful about the statements they make in order to avoid misleading the other party about their rights in the negotiation. In the absence of a binding agreement, estoppels sometime step in to create rights based on the conduct of one party in response to a representation made by the other which induces that party to act to its detriment.
2. Promissory estoppel typically operates in a contractual/commercial setting. Given the stringent test for certainty for representation that applies in promissory estoppel, it is usually difficult to establish a promissory estoppel outside a pre-existing contractual arrangement unless the situation is exceptional, such as in Waltons Stores.
3. Although it typically operates in a family setting, proprietary estoppel by encouragement sometimes operates in a commercial setting (as it did in Doueihi) and may provide a remedy where one would not be available if the estoppel claim was based on promissory estoppel.However, this remains to be seen. Although it came close in Crown Melbourne, the High Court has yet to decide this point.

Footnotes

¹ Handley, K, Estoppel by Conduct and Election (Thomson Reuters, 2^nd ed, 2016) at 1-2

² See Handley.

This article is intended to provide commentary and general information. It should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this article. Authors listed may not be admitted in all states and territories