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It’s Not What You Thought You Signed That Counts: Chancery Court Rejects Plaintiffs’ Claims For Breach of Contract Plaintiffs Thought They Had Made

In Concerned Citizens of the Estates of Fairway Village, et al, v. Fairway Cap, LLC and Fairway Village Construction Inc., C.A. No. 2017-0924-JRS (Del. Ch. March 6, 2019), homeowners resident in Fairway Village, a residential planned community (“Plaintiffs”) claimed that plans and actions taken by one of the community’s developers, defendant Fairway Cap, LLC (“Fairway Cap”), to construct, own and lease townhouse condominiums in the community for use as rental apartments breached contractual provisions of Fairway Village’s governing documents. In its verdict for defendants, the Court of Chancery (the “Court”) rejected those claims, and concluded that Plaintiffs failed to prove a breach of contract and denied Plaintiffs’ motion for summary judgment.

In proceedings prior to trial, the Court granted Plaintiff’s motion for preliminary injunction and enjoined defendants from renting townhouses in the community pending the outcome of the trial. Subsequently, the Court dismissed Plaintiffs’ breach of fiduciary duty and fraud claims, leaving only the breach of contract cause of action for trial.

In its findings the Court indicated that Fairway Cap initially wanted to acquire and develop only certain lots within the Community. The prior owner of the undeveloped lots in the Community defaulted on its loan presenting Fairway Cap with the opportunity to purchase the defaulted loan. By purchasing the defaulted loan, Fairway Cap was able to acquire all the remaining undeveloped lots within the Community. After several years of sluggish sales, Fairway Cap re-evaluated its objectives and decided the best and highest use of the remaining lots would be to build townhouses for use as rental apartments, maintain ownership, and rent them to long-term tenants. Testimony at trial indicated this would result in Fairway Cap owning and leasing more than 76% of the community’s condominium units, in turn potentially increasing financing costs for homeowners purchasing and refinancing units and reducing Fairway Village’s property values.

The decision’s analysis first addressed Plaintiffs’ argument that Fairway Village’s governing documents contain restrictive covenants prohibiting the developer’s plans. Plaintiffs bore the burden of proof, the Court held, to identify contractual restrictions on the use of Fairway Cap’s property and how those restrictions had been breached. The Court noted that in real property-related contract breach claims such as Plaintiffs’, the law facilitates free use of land not otherwise validly restricted.

The Court ruled that Plaintiffs failed to meet their burden of proof because they did not identify any contractual commitment that restricted Fairway Cap from owning and renting units in the Community. The Court found that the governing documents clearly provided that a builder or developer can own units to sell or to rent and that “express references to, or implicit recognition of, an owner’s right to rent its condominium unit for residential purposes through the governing documents are too numerous to cite.” A recital in a peripheral declaration document stating that the developer “will offer Condominium Units for sale to the public”, the Court determined, was not incorporated in the governing documents and at best reflects only a then-present intention of the developer, “not … a promise to refrain from all other permitted uses in perpetuity.”

Next, the Court addressed Plaintiffs’ request for a permanent injunction (i) to prevent the developer from constructing townhouses for use as rental units, and (ii) to require the developer to construct townhouses for sale that conform with those already constructed. The Court held that by failing to prove a breach of contract, Plaintiffs also had not proven any predicate wrong and corresponding right of action as required for the Court to grant an equitable remedy such as a permanent injunction. That remedy may not be invoked, the Court indicated, to prevent the developer from lawfully exercising its contractual rights or from putting its property to a lawful use.

The Court rejected Plaintiffs’ contention that the Court should view the Fairway Village’s governing documents “in a macro sense” through Plaintiffs’ eyes. Instead, the Court stated that Delaware law requires adherence to the objective theory of contracts in interpreting the governing documents, “by ‘standing in the shoes of an objectively reasonable third-party observer’ who is bound to give ordinary meaning to the words used by the parties and to enforce the agreements as written when that meaning can be readily discerned.” The Court did not accept Plaintiffs’ argument that Fairway Cap’s rental plan should be enjoined because it fundamentally alters the community and its governance scheme, leaving the developer in control of Fairway Village’s condominium council, even though homeowners contemplated that control would be turned over to them, in support of which Plaintiffs cited references in the governing documents requiring the developer’s consent to certain amendments. The Court went on to observe that no restriction in the governing documents or in law prohibited Fairway Cap’s ownership of multiple units and resulting voting control. The Court noted that Plaintiffs’ “vague sense” of being treated unfairly is not sufficient to justify granting equitable relief.

Notably, in reaching its verdict for the defendants, the Court pointed out that the “Plaintiffs cannot prevail on their breach of contract claim by proving Defendants breached the contract Plaintiffs thought they had made.”

Copyright 2019 K & L Gates

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About this Author

Remsen Kinne, Corporate Partner, Cross-border Transactions Attorney, KL Gates, Law firm
Partner

Remsen Kinne is a corporate partner in the firm's San Francisco office. Mr. Kinne represents private and public companies in structuring, negotiating and documenting international and domestic investment, acquisition, financing and commercial transactions. He is experienced in the purchases and sales of assets, stock and merger acquisitions, start-up, venture, strategic partner and private equity investments, registered and unregistered securities offerings, formation and operation of joint ventures and multijurisdictional holding company structures, and licensing and...

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Alidad Vakili, financial lawyer, KLGates
Associate

Mr. Vakili is a lawyer in the San Francisco office of K&L Gates LLP, a global law firm, where he represents emerging companies, investors, and individual entrepreneurs. Mr. Vakili’s practice includes business transactional and counseling matters, for companies in a wide range of industries, including companies in the cleantech and high-tech sectors. He regularly advises clients in the areas of business formation, corporate governance obligations, equity and debt financings, mergers and acquisitions, joint ventures, and other commercial transactions. Mr. Vakili has also represented clients in connection with solar power project financings, equipment leases, and regularly provides advice on strategic business issues. His work for cleantech companies has also included negotiating supply agreements, power purchase agreements and advising on strategic business issues. As the day-to-day legal counsel for emerging companies, Mr. Vakili assists his clients in finding solutions to a wide range of issues from formation to liquidity.

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