151 West Associates v. Printsiples Fabric Corp.

OPINION OF THE COURT

Milonas, J.

On September 9,1975, defendant-respondent Printsiples Fabric Corp. entered into a lease with plaintiff-appellant 151 West Associates for a term of 10 years ending on September 30, 1985. Pursuant to this agreement, Printsiples rented the 16th floor at 151 West 40th Street in Manhattan. On August 1, 1978, Printsiples, with the permission of the landlord, sublet these premises to defendant-respondent Futterman-Schlang Industries, Ltd. One of the provisions of the main lease, whose interpretation is in dispute here, states that: “Bankruptcy: 16. (a) If at the date fixed as the commencement of the term of this lease or if at any time during the term hereby demised there shall be filed by or against Tenant in any court pursuant to any statute either of the United States or of any state, a petition in bankruptcy or insolvency or for reorganization or for the appointment of a receiver or trustee of all or a portion of Tenant’s property, and within 60 days thereof, Tenant fails to secure a dismissal thereof, or if Tenant make an assignment for the benefit of creditors or petition for or enter into an arrangement, this lease, at the option of Landlord, exercised within a reasonable time after notice of the happening of any one or more of such events, may be cancelled and terminated by written notice to the Tenant”.

Plaintiff asserts that in the spring of 1980, it became evident that Printsiples was experiencing financial difficulties, that its unsecured trade debt amounted to some $3,000,000, and that, as a result of problems in paying its bills, a creditor’s committee had been formed. However, prior to any liquidation taking place, the committee was approached by a third party, Norcnote Associates, which proposed to purchase, under specified conditions, the claims of the unsecured creditors. Accordingly, on April 30, 1980, an agreement was executed whereby Norcnote accepted an assignment of the creditors’ claims against Printsiples. Printsiples for its part, consented to the terms of the agreement. Subsequently, the shareholders of Printsiples transferred their stock to Norcnote. By notice dated July 8, 1980, the landlord advised defendants of its decision to cancel and terminate the lease pursuant to the “Bankruptcy” clause, paragraph 16(a). The instant ejectment action ensued, and both the landlord and subtenant appeal from Special Term’s denial of their respective motions for summary judgment.

The so-called “arrangement” which is the basis of the landlord’s determination to invoke paragraph 16(a) is founded on an agreement between Norcnote and the creditors of Printsiples. The agreement did not settle, discharge or reduce Printsiples’ debt, nor did it alter the terms for payment in any way. Rather, the creditors, upon certain specified terms, which included the payment by Norcnote of 16¹/2% of unsecured obligations up to $4,000,000, assigned their claims to a third party, Norcnote, thus substituting a new creditor for the previous ones. Printsiples signed the instrument to acknowledge its consent to the agreement. Printsiples then transferred its stock to Norcnote. Consequently, the debtor continues to exist, its functions remain in operation, and, as in many corporate acquisitions, some of Printsiples’ management has been retained. It now simply has new shareholders. This transaction may, in its entirety, simply be viewed as the acquisition of one corporation, Printsiples, by another, Norcnote. Under these circumstances, neither the agreement between Norcnote and Printsiples’ creditors nor the stock transfer can be construed as triggering a default under the lease.

The purpose of paragraph 16(a) was to protect the landlord from any losses which it might sustain from tenant’s insolvency, should such a contingency arise. In that regard, the clause in question, which carries the block-letter caption of “Bankruptcy”, expressly enables the landlord to cancel the lease upon the commencement of formal bankruptcy proceedings. The paragraph also refers to the tenant’s entering into an “arrangement” as providing additional authority for termination. Unfortunately, the clause itself offers no assistance in ascertaining the type of arrangement foreseen by its drafter. While it is unclear whether paragraph 16(a) contemplated anything other than an insolvency proceeding, it would appear highly unlikely that actions which have the ultimate result of transforming a struggling corporation into one which is viable and capable of meeting its obligations can be deemed to constitute the sort of “arrangement” intended by paragraph 16(a). However, if there is an inherent uncertainty in the lease as to the meaning of “arrangement”, any ambiguity should be resolved in favor of the tenant since it was the landlord who prepared the contested clause. (Taylor v United States Cas. Co., 269 NY 360.) In fact, if the clause were to be literally construed, it could conceivably prohibit common business practices, such as rescheduling payment deadlines, rearranging credit lines or seeking discounts for prompt payments.

The defendants’ position is that enforcement of paragraph 16(a) of the lease is barred by the public policy of the United States, as expressed in the Bankruptcy Act of 1978 (US Code, tit 11, § 365, subd [e], par [1]), which states that:

“Notwithstanding a provision in an executory contract or unexpired lease, or in applicable law, an executory contract or unexpired lease of the debtor may not be terminated or modified, and any right or obligation under such contract or lease may not be terminated or modified, at any time after the commencement of the case solely because of a provision in such contract or lease that is conditioned on —

“(A) the insolvency or financial condition of the debtor at any time before the closing of the case;

“(B) the commencement of a case under this title; or

“(C) the appointment of or taking possession by a trustee in a case under this title or a custodian before such commencement.”

According to the dissenting opinion, section 365 (subd [e], par [1]) of the Bankruptcy Act of 1978 pertains only to an executory contract or unexpired lease in instances arising “after the commencement of the case”, and, consequently, that statute is not applicable where, as in the case here, no proceeding in bankruptcy has been instituted. Although section 365 (subd [e], par [1]) does envision the existence of a bankruptcy proceeding, this in no way negates the fact that Congress, as a statement of public policy, intended that an executory contract or unexpired lease not be terminated solely because of a lease forfeiture provision. If such a clause is not to be given effect after the commencement of a bankruptcy proceeding, there can be even less justification for doing so in the absence of a proceeding. Therefore, if Printsiples had merely filed a petition for bankruptcy and everything else had remained the same, plaintiff would have been precluded from asserting the covenant at issue. The interpretation urged by the landlord would have the undesirable result of forcing financially troubled tenants into a formal bankruptcy proceeding rather than negotiating an accommodation which is mutually beneficial to the parties concerned. Sound public policy should encourage financially troubled businesses to devise means of staying in business, not assist them over the brink. This is particularly the situation where the lease provision which the landlord is seeking to apply is ambiguous, and accordingly the court should not strain to interpret the lease in such a manner as would create a forfeiture.

The law is well settled that equity does not favor forfeitures. (See Fifty States Mgt. Corp v Pioneer Auto Parks, 46 NY2d 573; J.N.A. Realty Corp. v Cross Bay Chelsea, 42 NY2d 392.) The record does not reveal any actual harm suffered by the landlord as a result of Printsiples’ financial difficulties, whereas a forfeiture in this case would assuredly operate to the detriment of the defendants, especially to that of the subtenant Futterman, who has expended in excess of $80,000 in connection with the move to, and utilization of, its current premises. Other than accepting the agreement between its creditors and Norcnote Associates, Printsiples is not claimed to have failed to perform any of the terms of its lease with plaintiff. Nor is there any allegation that the subtenant, Futterman-Schlang Industries, Ltd., was ever in default. In addition, the rent was paid regularly and on time. The landlord was, therefore, not damaged and would, in all likelihood, allow Futterman to remain in possession at a higher rental. This appears simply to be a situation where the plaintiff, seeking to obtain a greater return on its property, has focused attention on paragraph 16(a) as a means of canceling the lease. Therefore, Special Term properly denied the plaintiff’s motion for summary judgment, but should have granted summary judgment to defendant.

Order of the Supreme Court, New York County (Blyn, J.), entered on June 15, 1981, which denied plaintiff’s motion for partial summary judgment and denied the cross motion by defendant Futterman-Schlang Industries, Ltd. for summary judgment, should be modified on the law, with costs and disbursements, to the extent of granting the defendant’s cross motion for summary judgment dismissing the complaint, and otherwise affirmed.

The order of said court entered on December 28, 1981 which denied plaintiff’s motion for renewal should be affirmed, without costs and without disbursements.

1 . The proposal was signed by Herbert Cron as a general partner of Norcnote Associates. Printsiples’ agreement to be bound by Norcnote’s offer was signed by the same Herbert Cron as vice-president of Printsiples.