Business Law: Jumping gun brought years of costly battle

Landlords of commercial properties need to proceed with caution if they wish to cancel a lease on the basis of a breach by the tenant.

A landlord wishing to cancel on this basis must ensure firstly, that the tenant's conduct gives the landlord a right to cancel the lease and, secondly, that the landlord acts lawfully in seeking to end the lease.

The recent Supreme Court case of Ingram versus Patcroft Properties shows a landlord who wrongfully terminates a lease may be liable for damages.

Ingram and another company operated a backpackers and bar from premises in central Auckland which they leased from Patcroft Properties.

There had been a history of problems over rent payments and the tenants had fallen behind with the rent for June 2005.

The lease provided that the landlord could re-enter the premises and end the lease if the rent was in arrears for 14 days (note that since the start of the Property Law Act 2007, a landlord would need to comply with the statutory notice provisions before exercising any contractual right to cancel the lease).

The 14 days did not expire until the end of June 14 and so the right of re-entry was not exercisable until June 15 (under the law before the start of the Property Law Act 2007).

The landlord apparently miscalculated by one day and took possession of the premises on the morning of June 14. The landlord changed the locks and posted a notice at the entrance saying the lease had been terminated.

The lawyer for Patcroft Properties wrote to the tenants on the same day saying the landlord had re-entered and terminated the lease and any attempt to seek relief against forfeiture would be defended.

The lawyer for one of the tenants wrote to the landlord reserving its position. The tenants did not pay the rent on June 14, apparently concluding to do so would have been futile.

There were no further developments in the case for more than a year until the landlord started a claim for damages against the tenants for ongoing rent over the term of the lease.

The tenants responded with their own claim for damages for the loss of their business.

The High Court held the landlord had prematurely and therefore unlawfully re-taken possession of the premises and, having breached the lease in this way, could not then cancel the lease when the tenants failed to pay the rent the next day.

The High Court found the non-payment of rent was justified by the landlord's wrongful re-entry and ordered the landlord to pay damages to the tenant. The landlord appealed the decision to the Court of Appeal.

The Court of Appeal held the tenants had failed to cancel the lease when the landlord wrongfully re-took possession of the premises. For this reason the lease remained in force and when the tenants failed to pay the rent the next day the ability to lawfully cancel the lease shifted to the landlord.

The Court of Appeal held that by continuing to exclude the tenants from the premises the landlord had lawfully ended the lease. The tenants appealed this decision to the Supreme Court.

Last month, the Supreme Court reversed the decision of the Court of Appeal and restored the orders made by the High Court. The decision of the Supreme Court upholds the principle that the wrongful termination of a contract cannot be converted into grounds for lawful cancellation of the contract if the termination makes the other party's subsequent performance futile.

Miscalculating the date on which the lease could be cancelled by one day resulted in years of litigation and a substantial damages bill for the landlord.

• David Smillie is a partner in the legal firm of Gallaway Cook Allan.