February 18, 2021
The Texas Bankruptcy Court overseeing the CEC Entertainment chapter 11 cases has issued an important decision regarding force majeure, frustration of contractual performance and, more generally, the legal obligations of debtors to pay post-petition commercial rent in chapter 11 cases.1 The decision clarified the Bankruptcy Court’s earlier rulings in response to the debtor’s rent abatement motion, in this instance with respect to leases with force-majeure provisions that expressly excluded the debtor’s obligations to pay rent from acts excused upon a force-majeure event.2 The Court examined six leases under California, Washington, and North Carolina law in the decision, in each case determining that under state law, neither force majeure nor frustration of performance relieved the CEC debtor from its rent payment obligations.
CEC, which operates gaming and dining venues in numerous states under the name “Chuck E. Cheese,” filed a rent abatement motion in August 2020 and argued that various government restrictions related to the Covid-19 pandemic prevented it from operating its businesses as intended. In September 2020, the Bankruptcy Court issued a decision allowing the debtor to pay less than the contract rental rate with regard to one lease, referred to as the “Gilroy Lease,” because it contained a force majeure provision that referred to “unusual government restrictions.” Details of that ruling are set forth in the authors’ prior article linked here.
The latest CEC decision makes clear that a debtor’s post-petition commercial rent must be paid under bankruptcy law according to the contractual terms of the lease. Moreover, despite the ongoing Covid-19 pandemic, the Bankruptcy Court ruled that leases that contain a provision requiring the payment of rent notwithstanding a force majeure event will be enforced to prevent abatement or reduction of the debtor-lessee’s rent obligations.
The Bankruptcy Court began its analysis with a summary of how the Bankruptcy Code treats a debtor’s commercial leases. Under section 365(d)(3) of the Bankruptcy Code, debtors must timely perform their obligations under a commercial lease, and have 60 days after the petition date to assume or reject such leases. Debtors must pay post-petition rent at the contract rate unless they reject the lease within the 60-day period.
The Bankruptcy Court affirmed this 60-day rule in its latest CEC decision, and noted that it disagreed with another court in a different circuit that had modified the rule for reasons related to the Covid-19 pandemic. In that case, In re Pier 1 Imports, the Bankruptcy Court in the Eastern District of Virginia permitted rent deferrals until confirmation of the debtor’s plan, in light of the “temporary, unforeseen, and unforeseeable glitch in the administration of the Debtor’s Bankruptcy Cases” caused by Covid-19.3 The CEC court expressly disagreed with the Pier 1 decision, “although perhaps on the margins,” while reserving judgment on the appropriate remedy for a section 365(d)(3) violation.
The six leases at issue in the latest CEC decision included different forms of force-majeure clauses than the one at issue in the earlier Gilroy Lease decision. Specifically, in four of the six leases discussed in the decision, the relevant force-majeure provisions were expressly inapplicable to payment defaults. The remaining two leases contained either an “anti-force majeure” clause, meaning that it expressly excluded typical force majeure events (acts of God, etc.) from affecting the lessee’s obligation to pay rent, or included a force-majeure clause that did not apply to CEC’s current “situation.” In each case, the Bankruptcy Court reviewed the lease’s language, and the relevant state law, and concluded that the lessor was entitled to be paid post-petition rent under the terms of the contract.
The CEC decision provides a detailed analysis of all six leases, four of which (as noted above) excluded payment obligations from acts excused upon force majeure events. One of the leases (the Lynnwood, Washington Lease) contained the following force majeure clause:
The provisions of this Article 27 shall be applicable if there shall occur, on or after the date hereof, any strikes, lockouts or labor disputes, inability to obtain labor or materials or reasonable substitutes thereof or acts of God, governmental restrictions, regulations or controls, enemy or hostile government action, civil commotion, riot or insurrection, fire or other casualty or other events similar or dissimilar to those enumerated in this Article 27 beyond the reasonable control of the party obligated to perform. If Landlord or Tenant, as a result of any of the above mentioned events, shall fail punctually to perform any term, covenant or condition on its part to be performed under this Lease, then such failure shall be excused and not be a breach of this Lease by the party in question, but only to the extent and for the time occasioned by such a event. Notwithstanding anything to the contrary herein contained, however, the provisions of this Article 27 shall not be applicable to Tenant’s obligation to pay, when due and payable, all the rents, charges or other sums reserved hereunder: and in addition, lack of funds and inability to procure financing shall not be deemed to be an event beyond the reasonable control of Tenant. In the event of any unavoidable delay as in this Article provided, and as a condition precedent of Tenant claiming or relying upon such delay, Tenant shall give notice of such unavoidable delay to Landlord within ten days after the occurrence of the same.4
In analyzing this language, the Court compared it to similar leases from North Carolina and Washington discussed previously in the decision. As with such prior leases, the Lynnwood Lease stated that the force-majeure clause did not excuse the debtor’s obligation to pay rent during a force-majeure event.
The Court then examined three California leases, one of which contained an “anti-force majeure” clause, meaning that the parties expressly agreed that no force-majeure event would excuse either party’s obligation to perform under the contract. As with the North Carolina and Washington leases, the Court determined that the anti-force-majeure clause functioned much like the provisions that excluded payment obligations from the acts excused upon a force-majeure event. One of the California lease, identified as the Granada Hills lease, stated as follows:
This Lease and the obligations of either party hereunder shall not be affected or impaired because either party is unable to fulfill any of its obligations hereunder or is delayed in doing so, if such an ability or delay is caused by reasons of strike, labor troubles, acts of God, or any other cause beyond the reasonable control of either party.5
In the reviewing this language, the Court found “the Granada Hills lease contains no provision otherwise allowing CEC to abate or reduce rent. The Granada Hills lease does not entitle CEC to abate or reduce rent.6 The Court then applied similar reasoning to that it had applied with respect to the North Carolina and Washington leases to deny rent abatement with respect to one of the other California leases, and rejected the requested relief for the remaining “Cupertino” lease because “[t]he force-majeure clause in the Cupertino lease plainly does not apply in this situation.”7
The Bankruptcy Court also notably agreed with the lessors that force-majeure and anti-force-majeure provisions “supersede” and “supplant” the frustration-of-purpose doctrine under state law. After reviewing state law from North Carolina, California, and Washington, the Bankruptcy Court concluded that in contracts that contained express force-majeure language, the common law doctrine of frustration of purpose did not apply because the parties had otherwise agreed by contract regarding the allocation of risk between them.8
Finally, the Bankruptcy Court noted that the CEC could have rejected the leases in question or, in some cases, repurposed its businesses at certain locations to increase income from additional dining and food sales.
The CEC decision highlights the significance of well-drafted contractual language in how commercial leases will be treated in bankruptcy cases, both in normal times and during the Covid-19 pandemic where government restrictions on business operations are common. The decision also reinforces the general rule that contracts will be construed according to their terms, including (notwithstanding the Covid-19 pandemic) terms that exclude payment obligations from the list of contractual obligations excused during a force-majeure event. Also of note, the decision shows that commercial leases that do not contain force-majeure language may be better for lessees than those that contain restrictive force-majeure provisions, in terms of a debtor lessee’s ability to argue the common law doctrine of frustration of purpose in the case of the current pandemic. In leases that contain force-majeure clauses, such clauses will likely be deemed to be the parties’ agreed allocation of risk between them, thereby supplanting the common law doctrine of frustration of purpose.
Overall, parties that agree to force-majeure language should understand that the terms can be used against the lessor – if the language permits nonpayment upon a force-majeure event, and against the lessee; if the force-majeure clause excludes nonpayment from the obligations excused by a force-majeure event. And perhaps most significantly, the recent CEC decision makes clear (at least in front of the CEC judge) that debtors that stay in possession of leased commercial real estate for more than 60 days after the petition date will be required to pay rent at the contract rate, barring a force-majeure clause that expressly excludes that obligation. The only exception to that rule may be the availability of equitable relief under section 105 the Bankruptcy Code, relief that the CEC Bankruptcy Court considered and, despite its use in the Pier 1 Imports case, expressly rejected.
Moses & Singer is a full-service firm and provides bankruptcy and real estate advice to both lessees and lessors. Please contact Patrick Trostle (ptrostle@MOSESSINGER.COM) or Alan Gamza (agamza@MOSESSINGER.COM) if you have any question regarding this article.
1 In re CEC Entertainment, Inc., No. 20-33163, ECF No. 1482 (Bankr. S.D. Tex. Dec. 14, 2020) [hereinafter “Mem. Op. for No Relief in CEC Lease Performance Obligations”].
2 A discussion of the Bankruptcy Court’s prior CEC decision can be found here.
3 In re Pier 1 Imports, Inc., 615 B.R. 196, 200 (Bankr. E.D. Va. 2020) (citing the court’s “broad equitable powers” under section 105 of the Bankruptcy Code and stating “[d]eferring rental payments during an unprecedented financial crisis in order to provide a post-Petition ‘breathing spell’ for the Debtors is not inconsistent with similar relief the bankruptcy process otherwise provides for pre-Petition Date obligations.”).
4 Suppl. Br. of Lynnwood Public Facilities District in Opp’n to Mot. for Order Authorizing Debtors to Abate Rent Payments at Stores Affected by Government Regulations, 6, ECF No. 951 (Sept. 27, 2020) (emphasis added).
5 Granada Hills Partners, LLC’s Suppl. Br. to Its Obj. to Debtors’ Mot. for Order Authorizing Debtors to Abate Rent Payments at Stores Affected by Government Regulations, 5, ECF No. 870 (Sept. 15, 2020).
6 Mem. Op. for No Relief in CEC Lease Performance Obligations, at 15.
7 Id. at 14.
8 Id. at 16–18.