Quality Manufacturing Co. v. Direct Factory Stores, Inc.
1989 WL 20709, 540 So. 2d 419 (1989)
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Rule of Law:
In a percentage rental lease with a substantial minimum base rent, a lessee does not breach the implied obligation of good faith by altering its business operations in a way that reduces percentage rent payments, unless the lease explicitly restricts such changes. Additionally, a tender of payment refused by an obligee stops interest from accruing from the due date, but if the funds are not deposited with the court, interest will accrue from the date of judicial demand.
Facts:
- In February 1981, Quality Manufacturing Company (Quality) leased factory space to Direct Factory Stores (Direct) for a retail clothing outlet under an oral agreement.
- The agreement was later written, stipulating rent as 10% of net sales with a guaranteed minimum of $2,000 per month.
- A primary product for Direct was the 'Sans Souci' clothing line, which Quality manufactured at the same location.
- In the spring of 1982, Quality ceased its on-site manufacturing of the 'Sans Souci' line.
- In August 1982, Direct opened a new retail store near the original one.
- Direct then shifted its first-quality merchandise to the new store, selling only second-quality goods at the original location leased from Quality.
- As a result, sales and the corresponding percentage rent payments at the original store decreased substantially.
- Direct tendered rent payments based on the lease terms (10% of the lower sales or the $2,000 minimum), but Quality refused to accept them.
Procedural Posture:
- Quality Manufacturing Company (Quality) filed suit against Direct Factory Stores (Direct) in the trial court for unpaid rent.
- These suits were consolidated for trial.
- The trial court held that Direct was only obligated to pay either the base rental of $2,000 per month or 10% of net sales, whichever was greater.
- The trial court's judgment denied an award of interest on the tendered rent payments if Direct paid within ten days of the judgment.
- Quality, as appellant, appealed the trial court's decision to the intermediate court of appeal.
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Issue:
Does a lessee in a percentage rental lease, which includes a minimum base rent, breach the implied obligation of good faith performance by altering its business operations in a way that reduces the percentage rent payable to the lessor, when the lease only specifies use for 'operating a retail business'?
Opinions:
Majority - Crain, J.
No. A lessee in a percentage rental lease with a minimum base rent does not breach the implied obligation of good faith by altering its business operations where the lease does not explicitly restrict such changes. The court reasoned that the lease agreement was silent as to the specific type of retail business required, only stating its purpose was for 'operating a retail business.' Citing precedent, the court held that any ambiguity regarding the intended use of a property must be resolved in favor of the lessee. The parties were sophisticated businesspeople who could have easily included a restrictive use clause if that was their intent. Furthermore, the court found it would be inequitable to penalize Direct, especially since Quality first harmed Direct's business by halting the on-site production of a key product line. On a secondary issue, the court found that while Direct's tender of rent payments relieved it of interest from the due date, its failure to deposit the funds into the court registry meant interest was still due from the date of judicial demand.
Analysis:
This decision clarifies the scope of the implied covenant of good faith and fair dealing in the context of commercial percentage leases in Louisiana. It establishes that the inclusion of a substantial minimum base rent significantly weakens any implied duty for the lessee to operate in a manner that maximizes percentage rents for the lessor. The ruling places a heavy burden on lessors to draft highly specific use clauses if they wish to control a tenant's business operations or product mix. This precedent provides lessees with greater flexibility to adapt to changing market conditions without fear of breaching their lease, so long as a specific restrictive covenant is not present.
