Matter of UL Radio Corp.
19 B.R. 537, 6 Collier Bankr. Cas. 2d 430, 1982 Bankr. LEXIS 4289 (1982)
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Rule of Law:
Under § 365 of the Bankruptcy Code, a court may authorize a debtor to assign a non-shopping center commercial lease with a modified use, notwithstanding a restrictive use clause, provided the assignee gives adequate assurance of future performance and the landlord fails to show that the proposed change in use will cause actual and substantial detriment.
Facts:
- U.L. Radio Corp. leased a store from Jemrock Realty Company to operate a television sales and service shop.
- The lease contained a 'use clause' that explicitly restricted the premises' use to the sale of electrical appliances and television service.
- The building where the store was located also housed a grocery store, a Chinese restaurant, a liquor store, and 170 residential apartments.
- After facing financial difficulties, U.L. Radio Corp. filed for Chapter 11 bankruptcy.
- As part of its liquidation plan to pay creditors, U.L. Radio arranged to assign its lease to Just Heaven Restaurant, Ltd., which intended to operate a small bistro in the space.
- Just Heaven provided a personal guarantee for the rent, demonstrated sufficient operating capital, and allocated $20,000 for renovations, including soundproofing.
- Jemrock Realty Company, the landlord, objected to the proposed assignment, arguing that the change in use from an electronics store to a bistro violated the lease's use clause.
Procedural Posture:
- U.L. Radio Corp. filed a petition for Chapter 11 bankruptcy in the U.S. Bankruptcy Court.
- While acting as debtor in possession, U.L. Radio Corp. filed a motion with the Bankruptcy Court for an order authorizing it to assume its lease and assign it to Just Heaven Restaurant, Ltd.
- Jemrock Realty Company, the landlord, appeared before the Bankruptcy Court to oppose the motion.
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Issue:
Does a restrictive use clause in a commercial lease prevent a debtor in bankruptcy from assigning the lease to a new tenant who will operate a different type of business, when the assignment otherwise provides adequate assurance of future performance under § 365 of the Bankruptcy Code?
Opinions:
Majority - Galgay, J.
Yes, a restrictive use clause does not automatically prevent a debtor from assigning a lease to a tenant with a different use. The Bankruptcy Code's strong policy favoring the assignment of a debtor's assets allows a court to authorize deviations from lease terms, including use clauses, to maximize the value of the bankruptcy estate. While a landlord is entitled to 'adequate assurance of future performance,' this does not require literal compliance with every lease term. To block an assignment based on a use clause in a non-shopping center lease, the landlord must demonstrate that the proposed change will cause 'actual and substantial detriment.' Here, Jemrock failed to show any such detriment, especially given that the building already contains a restaurant and the assignee has provided adequate financial assurances and plans for soundproofing.
Analysis:
This decision significantly clarifies the power of bankruptcy courts under § 365 to modify non-monetary lease terms to facilitate a debtor's reorganization or liquidation. By establishing the 'actual and substantial detriment' test for non-shopping center leases, the court shifted the burden to the landlord to prove tangible harm, preventing use clauses from serving as de facto anti-assignment provisions. This precedent strengthens a debtor's ability to maximize the value of its assets for creditors by making it easier to assign valuable commercial leases, even when market conditions dictate a different use for the property.
