Liquidation: The effect on leases

Although a tenant's insolvency does not automatically terminate the lease or confer a right upon a landlord to cancel the lease, a landlord is not left without any remedies where a tenant is in breach of the lease before the tenant is wound-up.

A recent judgment of the Supreme Court of Appeal (SCA) in Ellerine Brothers (Pty) Limited (Ellerine) v McCarthy Limited, clarified the legal position.

This case concerned the validity of a cancellation of a lease upon the insolvency of a tenant where the tenant was in breach of the lease and notice of cancellation was given before proceedings for the winding-up of the tenant was issued, but the period provided for the tenant to remedy its breach, as per the lease, had not yet expired when the proceedings commenced and cancellation of the lease followed thereafter. The question before the court was whether the right to cancel was lost because the concursus creditorum (a community of creditors) (concursus) came into existence.

The aim of the concursus is ‘to give equal protection to all creditors without undue preference and to preserve and distribute the estate to the benefit of all of them.’

Ellerine submitted that the estate of the tenant had been frozen when the winding-up application was lodged with the court; that the concursus interposed between the giving of the breach notice to the tenant and the expiry of the period therein, and that the interruption of the required time period by the concursus prevented Ellerine from claiming any further performance from the tenant under the lease until the liquidator had elected to abide by the lease. The high court found that the lease was validly cancelled. This judgment was taken on appeal.

The SCA found that the conclusion arrived at by the high court was correct and confirmed that when a tenant is in breach of its lease obligations prior to any application for its liquidation being issued, a landlord is entitled to call upon the tenant to remedy its breach in accordance with the provisions of the lease and if an application for the liquidation of the tenant then follows within the time provided in the breach notice, the landlord retains its right to cancel the lease should the liquidator fail to remedy the breach of the insolvent tenant, within such period. This will entitle the landlord to re-let the premises after cancellation of the lease, leaving it with a monetary claim for damages suffered or unpaid rental against the insolvent estate of the tenant as a concurrent creditor.

This places the landlord in a much better position than it would be in if the tenant, at the time the winding-up process commences, is not in breach of the lease. In such event the liquidator has an election to cancel the lease and the landlord will have to wait for the liquidator to exercise its election, without having the right to cancel the lease and let the premises to a new tenant, while being left only with a monetary claim against the estate in due course.

This is the one (and possibly) the only instance when it will actually be better for a landlord to have its tenant be in breach of its obligations in terms of the lease.