Hot Dog! Fraudulent misrepresentation or concealment about the actual existence of a risk leads to liability even when the potential of that very risk is assumed under the final agreement….and a little something about attorney’s fees:

July 26, 2019

Misrepresentation and/or concealment of existing competitive circumstances during commercial lease negotiations can lead to liability even though the actual bargain struck in the concluded lease provides no exclusivity protection for the tenant whatsoever and no breach of the lease would arise for renting other space to competitors in the future. The Sixth District, California Court of Appeal decision in Orozco v. WPV San Jose (2019) 36 Cal.App.5th 375, 248 Cal. Rptr. 3d. 623 provides an interesting set of circumstances where the substance of the misrepresentation did not concern any promissory fraud by the landlord as to future conduct and was, in a certain sense, expressly excluded from the lease but nonetheless obviated the tenant’s ability to make a fully informed decision with knowledge of the exact set of circumstances existing as at the time of entering into the lease. Indeed, in this case, beyond not asking for the protection of an exclusive use clause in the lease, the tenant did not even read the full agreement.

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The plaintiff, Paul Orozco (“Orozco”), a successful Mexican-style fast food restauranteur was looking to open a new concept fast food gourmet hot dog and sausage restaurant in a San Jose shopping center known as The Plant. The Plant was not yet fully leased. Orozco knew that Five Guys had opened at The Plant and was serving hot dogs but did not see their “ancillary” hot dog business as competitive to his planned new concept. Over the course of multiple meetings and conversations, Orozco, who had explained the concept for his proposed restaurant, repeatedly asked the leasing representative, who worked for WPV San Jose LLC, a subsidiary of the defendant, Vornado Realty Trust (“Vornado”), whether any other restaurants with competing products or concepts were being considered for the other available spaces at The Plant. He was consistently told that no such restaurants were being considered. This was not true. Vornado did not reveal to Orozco that there were already ongoing negotiations, which ultimately resulted in a concluded lease, with a restaurant which would be offering hot beef sandwiches, hot dogs and sausages (this restaurant was called Al’s Beef”). Notably, there was no indication that Orozco ever asked whether it was the intention of The Plant not to consider competitive tenants in the future.

Orozco sought the assurance that no competitors in terms of products or concept were being considered for The Plant up to the day that the plaintiff, Solid Restaurant Ventures LLC (“Solid”) signed its 10-year lease for premises at The Plant. Solid was the company that Orozco had formed for his new hot dog and sausage venture, which he called Pauly’s Famous Franks N Fries (“Pauly’s”) (concurrently with Solid signing its lease, Orozco also signed a personal guarantee of the lease in his individual capacity). He was again given the assurance he requested. Nonetheless, and unknown to Orozco, Al’s Beef had already signed a lease for a location at The Plant. Pauly’s opened and was successful. Al’s Beef opened 6 months later and Pauly’s business declined by 30% overall. Approximately 6 months later, Sordid closed down Pauly’s. Solid and Orozco sued Vornado and the owners of The Plant for, among other causes of action, intentional fraud and fraudulent concealment (based on the theory of fraud in the negotiation (inducement) of the lease), for rescission, restitution and damages. No cause of action for breach of the lease was alleged.

The following facts were found concerning Orozco’s dealings with the negotiation and execution of the lease: (i) Orozco knew that at least one other restauranteur (Five Guys) was selling hot dogs at The Plant, (ii) Orozco was told, in response to his inquiry during negotiations, that he would not be given the name of other tenants being considered for The Plant, (iii) Orozco did not read the entire lease and only read the front part with the major deal terms, (iv) the lease contained an integration clause, (v) the lease contained several disclaimers that the landlord had not made any representations about existing or future tenants, (vi) Orozco, on behalf of Solid, signed a separate Tenant Estoppel disavowing any representations made by the landlord or Vornado, (vii) Orozco did not ask for, and was not given, an exclusive use term in the lease for the protection of Pauly’s business, and (viii) the lease contained an exhibit of exclusive uses for the benefit of some of the other tenants, which did not include any exclusivity for Pauly’s use.

At trial, the jury found Vornado liable to Solid for the torts of intentional misrepresentation and fraudulent concealment. Interestingly, the jury did not find Vornado’s conduct constituted malice, oppression or fraud sufficient to warrant punitive damages. Sordid was awarded damages of: (i) $676,967 for lost profits, (ii) $129, 462 for operational losses, and (iii) $65,712 for start-up costs for another Pauly’s opened afterwards in San Jose.

The bargain struck by Orozco for Solid’s lease included assuming the risk of direct competition to Pauly’s at The Plant. Orozco did not bargain for, or receive, any exclusivity protection for Solid. The misrepresentation/concealment did not relate to the terms or provisions of the lease or any promise by the landlord as to future competitors at The Plant or as to the conduct and/or administration of the lease. Solid would have had no available cause of action had The Plant started negotiations with, and rented space to, a different direct competitor to Pauly’s immediately after Solid had entered into its lease. Nonetheless, the substance of the misrepresentation/ concealment was such that Orozco and Solid were unaware, and walked into a situation, such that the risk of future competition was a certainty and not just an acceptable and agreed upon potentiality. Quite a different set of considerations and risks are presented to a commercial tenant who seeks to open a new and untested business in the face of immediate and certain competition as opposed to one who has the ability to gain a priority of use position and the opportunity to establish a steady and enduring market situation with attendant goodwill as a barrier to entry to potential future competitors. Vornado’s conduct denied the plaintiffs the ability to have knowledge of, and analyze, the true circumstances surrounding the long term leasing decision they were about to make even though they assumed the very risk of immediate competition by virtue of the terms and provisions of the lease and guaranty that they respectively signed.

Regardless of the acceptance of evidence concerning intentionally misrepresented or concealed facts, Orozco v. WPV San Jose reminds us that reasonableness of reliance must always be proved to reach the finish line of liability. The special instructions given to the jury by the trial court advised that in considering the issue of the reasonableness of reliance on the alleged misrepresentations or concealment the jury could (not must) take into consideration such matters as (i) whether the lease or the Tenant’s Estoppel expressly disavowed any purported representations, (ii) whether Solid was represented by counsel in dealing with the lease, (iii) whether Solid asked for any changes to the lease, (iv) any questions asked by Solid and the responses given, and (v) whether Solid communicated the importance of its concern about competitors. The special instructions also note that the preceding list of considerations was not exhaustive of the factors the jury could consider in making its determination. It is interesting to consider, hypothetically, what evidence may have been proffered to negate a finding that Orozco’s and Solid’s reliance was not reasonable. Presumably, evidence that Sordid and Orozco were prepared to enter into the lease and guaranty regardless of whether or not Vornado’s responses were accurate, or that they doubted the veracity of that information, would have sufficed in that regard. Evidence negating or calling into doubt the reasonableness of reliance is something to fully and carefully consider when representing a party against whom an intentional misrepresentation is alleged.

Orozco v. WPV San Jose presented two other interesting findings:

  • Attorney’s Fees for Orozco but not for Solid: The trial court denied both Solid’s and Orozco’s requests for attorney’s fees. The lease contained a unilateral attorney’s fees clause entitling the landlord to attorney’s fees against Solid in the limited circumstances of actions taken as a result of the breach or default of the lease. The Court of Appeal noted that, while such a unilateral attorney’s fees clause in favor of the landlord would be made reciprocal by virtue of Civil Code Section 1717 (a), the damages awarded to Solid must have been “on a contract” for Section 1717 to apply. The Court of Appeal noted that for a cause of action to be “on a contract”, it must arise out of, be based upon or relate to an agreement “by seeking to define or interpret its terms or to determine or enforce a party’s rights or duties under the agreement” and that a determination in that regard is made by looking at “the overall nature of” the complaint pursued. Solid’s damages solely arose form causes of action based in tort (indeed, Solid did not even allege breach of contract at trial) and the Court of Appeal affirmed the trial court’s decision to deny Solid its attorney’s fees. Conversely, with respect to Orozco, the Court of Appeal stated “[t]he guaranty includes a provision entitling a prevailing party to their attorney’s fees in “an action against the other arising out of or in connection with this Guaranty [emphasis added]” and found that this “expansive language” was “sufficient to encompass Orozco’s fraud action and rescission remedy.” The Court of Appeal relied upon Lerner v. Ward (1993) Cal. App. 155 which had held that broad attorney’s fees provisions providing, as in that case, that the prevailing party was entitled to attorney’s fees “in any action or proceeding arising out of this agreement” permitted awarding attorney’s fees for tort actions based in fraud “arising from the agreement” in accordance with Code of Civil Procedure Section 1021 which leaves the measure and mode of attorney’s fees “to the agreement, express or implied, of the parties.” In Lerner, the court specifically found that a tort action based on fraudulent inducement to enter into a contract is an action “arising from the agreement.” The Court of Appeal found that Orozco had “prevailed in an action arising from the guaranty”, reversed the trial court and remanded the matter for a determination of attorney’s fees to be awarded to Orozco. This seems inconsistent with the decision regarding Solid’s attorney’s fees in that Orozco’s remedy was similarly based in tort and he specifically sought rescission of the very contract on whose attorney’s fees provision he was relying. Ultimately this seeming inconsistency can only be understood, and given some semblance of juridical consistency, as follows: (i) a cause of action only based in tort is insufficient to overcome the “on the contract” restriction of Civil Code Section 1717, (ii) however, the courts consider broad attorney’s fees language concerning actions such as “arising from this agreement” to include both contract and tort actions, to which Code of Civil Procedure Section 1021 is applicable, and (iii) the attorney’s fees clause in Solid’s lease was expressly limited to breaches or defaults under the lease and did not expand to any actions simply “arising out of the agreement”, rendering Code of Civil Procedure Section 1021 unavailable for Solid’s tort based actions in any event. The interesting question for future cases is whether or not the Court of Appeal’s reasoning as to the unavailability of attorney’s fees for Solid (because Solid’s tort claim was not “on the contract”) would remain unchanged had the lease included a unilateral provision for the landlord to attain attorney’s fees for prevailing on any action “arising from this lease.” Depending on the answer to that question, there could be a rather intriguing scenario where Civil Code Section 1717 was unavailable to the tenant in circumstances involving a tort based cause of action relating to a lease (for not being “on the contract”) but a successful tort based cause of action brought by the landlord would entitle the landlord to attorney’s fees (pursuant to Section 1021 as having “arisen from the agreement”).
  • Solid’s election for damages over rescission (and implicit contract affirmation) was not inconsistent with Orozco seeking rescission of the guaranty of the lease: The trial court had ruled orally that Solid would not be entitled to lost profit damages if it elected rescission as a remedy. Consequently, Solid elected damages (which implicitly affirmed the lease although it was rendered unenforceable due to its inducement by fraud). The trial court then stated that Orozco could not elect rescission of his guaranty of the lease, in part, because the trial court did “not think that the lease and the guaranty can be separated, and we cannot have inconsistent verdicts.” The Court of Appeal reversed the trial court and held that the relevant consideration was whether Orozco and Solid were separate legal entities and not whether the lease and guaranty were separate. The Court of Appeal held that as “legally distinct entities, they may pursue and receive separate remedies for Vornado’s fraud.” That said, the Court of Appeal also recognized that the rights and obligations of Solid arose from the lease and in respect of Orozco, personally, arose from the guaranty. Further, the Court of Appeal noted that the trial court was in error in also holding that rescission of Orozco’s guaranty was unavailable because he did not suffer pecuniary loss as the law is well settled that pecuniary loss is not required to be shown for rescission to be obtained for fraud.

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