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200 EAST 87TH STREET ASSOCIATES

July 21, 1992

200 EAST 87TH STREET ASSOCIATES, Plaintiff, against MTS, INC., Defendant.

Sweet


The opinion of the court was delivered by: ROBERT W. SWEET

Sweet, D.J.

 This is a $ 32 million dollar landlord-tenant dispute involving a newly constructed building at 200 East 87th Street (the "Building"). The plaintiff, 200 East 87th Street Associates (the "Landlord"), seeks a declaratory judgment to enforce a March 17, 1989 agreement (the "Lease") between its assignor, Zemnor 87 Corp. ("Zemnor"), and defendant MTS, Inc. ("Tower") one of its tenants. By its counterclaims Tower seeks to break the Lease and to recover damages. Upon a bench trial, all prior proceedings and the findings of fact and conclusions of law set forth below, judgment will be entered enforcing the Lease and dismissing the counterclaims.

 This fact-rich controversy involves the complicated relationship between a developer, his architects, his contractor and his tenants. It requires a determination of the meaning of the Lease provisions, whether or not Tower's acts constituted a waiver of its rights, and the adequacy of the Building under the terms of the Lease. Notwithstanding the skilled representation of both the Landlord and the Tenant here, the dispute has engendered the familiar emotional climate of lesser landlord-tenant disputes.

 Prior Proceedings, the Pleadings and the Issues

 This action arises out of the Lease between the Landlord and Tower *fn1" dated as of March 17, 1989, which was for retail space in the Building. The Building consists of 25 stories for residential, educational, commercial and assembly use. Its top three floors are used for mechanical space. The residential units begin at the eighth floor. Tower served notice on April 7, 1992 terminating the Lease based upon the conceded failure of the Landlord to obtain a Temporary Certificate of Occupancy ("TCO") by March 17, 1992 as required by the Lease.

 This action was commenced by the Landlord on April 13, 1992 by the filing of a verified complaint in New York State Supreme Court, New York County (the "Complaint"). Tower removed the action to this court, under its diversity jurisdiction, on April 14, 1992. On April 22, 1992, the Landlord moved by order to show cause for a preliminary injunction on the grounds that the holder of the underlying mortgage, the Manufacturers Hanover Trust Company ("MHT"), would foreclose upon the Building as a consequence of a certain notice to cure served upon MHT by Tower on March 17, 1992 (the "Notice to Cure"). The hearing on the preliminary injunction and the trial on the merits were ordered consolidated and expedited discovery was undertaken. MHT has taken no action as yet to foreclose on its mortgage, presumably abiding the event of this decision.

 The Complaint seeks a declaration that the Landlord is not in violation of any of the provisions of the Lease based upon the failure to obtain a TCO for the Building by March 17, 1992, that the notice terminating the Lease is void, that the Landlord be afforded a reasonable opportunity to cure its breach and that Tower be enjoined and restrained from terminating the Lease based upon the March 17, 1992 Notice to Cure.

 Tower's Answer asserts as an affirmative defense a right to terminate based upon Landlord's failure to obtain a TCO within three years of the date of the Lease. By its Answer, Tower has also interposed counterclaims asserting that the landlord has repudiated or breached the Lease by failing to substantially perform because: (1) the slab-to-slab height on the first and second floors does not meet the requirement of P 46(4) of the Lease; (2) the square footage of the second floor is less than that required under P 46(3) of the Lease; and (3) the service vestibule is unusable and does not conform to Exhibit A of the Lease. Tower also claims that the landlord has breached the covenant of quiet enjoyment because the floor between the gymnasia of the Dalton School ("Dalton") and Tower's second-floor space is insufficient to prevent transmission of noise and impact sound. On its counterclaims, Tower seeks a declaration that the Lease is terminated and of no further force and effect, damages sustained as a result of the Landlord's alleged breach of the Lease and attorneys fees and costs.

 By way of a Reply, the Landlord has alleged that Tower has waived and is equitably estopped from claiming a default and under the TCO requirement. The Reply also asserts that Tower is estopped from asserting the ceiling-height requirement, that the dispute as to the square footage of the space is subject to arbitration and that the cause of action for noise from the Dalton School gym is premature.

 The trial before the Court took place from June 1, 1992 through June 9, 1992. Final submissions were filed on June 16, 1992.

 The Facts

 The Parties

 The Landlord is a New York partnership, the general partners of which are Norman Segal ("Segal"), a self-styled real estate developer, and ROC-87 Corp., a New York corporation owned and controlled by The Olnick Organization.

 Tower is a California corporation with its principal place of business in Sacramento, California. Tower owns and operates over seventy record stores throughout the United States and the world under the tradename Tower Records and claims distinction from its extensive offerings presented in a lively and compelling fashion. For all intents and purposes, the sole shareholder of Tower is and has been Russell Solomon.

 The Lease and its Amendment

 On or about November 1, 1988, Segal, through his wholly owned corporation Zemnor 87 Corp. ("Zemnor"), acquired a ground lease interest in the premises at 1531-1545 Third Avenue, New York, New York by executing a ground lease agreement with the fee owner, Ardmore Realty ("Ardmore"). In order to obtain the necessary construction financing from its lenders, Zemnor sought commercial tenants for the proposed mixed-use building which it sought to develop.

 After negotiations with Dalton and the national retail chain, The Gap, Zemnor executed agreements with both Dalton and The Gap for space in the Building in early 1989. Dalton entered into an agreement to pay approximately $ 5 million dollars to Zemnor in exchange for a 195-year lease of the third, fourth and fifth floors of the Building. The Gap executed a Lease with Zemnor which provided for an annual rental of approximately $ 1 million dollars. The Gap leased approximately eight thousand square feet on the first floor and the basement level of the Building. The rent charged to The Gap was calculated solely upon the square footage of the ground floor space, having the greatest commercial space value, at the rate of $ 140 per square foot per year.

 Negotiations between brokers for Zemnor and Tower began in late 1988 relating to the nature, size and location of the space to be leased by Tower as well as the rent. A general agreement was reached under which the Tower space was to be located at the southerly most portion of the Third Avenue side of the Building and below the space for Dalton gymnasia. Tower agreed to lease the entire second floor, and portions of the first floor, basement and sub-basement. Lawyers for both Zemnor and Tower then negotiated the terms of the Lease agreement over the next three to four months in approximately six drafts.

 The Lease was a written lease agreement dated as of March 17, 1989 between Zemnor, as landlord, and Tower, as tenant. The Landlord is the assignee of all of the interests of Zemnor in and to the Lease and the ground lease covering the land on which the Building has been constructed pursuant to an agreement of lease dated as of July 26, 1990. The term of the Lease is eighteen years at an annual base rent payable in an amount of approximately $ 1,131,000. At Tower's insistence, the Lease was modified to provide for specifics of the work to be done by the Landlord relative to Tower's space. In addition, Tower requested the insertion of a provision acknowledging that Tower would be playing music in its space until midnight 365 days a year.

 The Lease further provided that the Building would be constructed within three years and that rent would not commence until seven months after substantial completion of the Building. Commencement of the time to pay rent would be further deferred if the Landlord had not procured a TCO for the premises when Tower was ready to open for business.

 Paragraph 59 contains the provisions relating to the commencement of the Lease. Paragraph 59(A) states in relevant part that:

 The parties further agree that if Owner does not construct the Building and obtain a Temporary Certificate of Occupancy for the Building within three (3) years from the date hereof, for whatever reasons, including the Owner's decision to abandon the project, then either party may terminate this Lease by sixty days notice to the other . . . .

 Paragraph 59(C) states in relevant part that:

 If, at the time that Tenant is ready to open for business, the Owner has failed to obtain a Temporary Certificate of Occupancy for the commercial space in the Building (Owner's TCO), or if obtained, the Owner's TCO is lost or suspended, and if such failure, loss or suspension shall prevent Tenant from proceeding with Tenant's work, or from obtaining a TCO or sign-off relative to Tenant's work (provided that such failure, loss or suspension has not been caused by acts or failures of Tenant), then the period of seven months set forth above shall be extended by the number of days from the date of prevention of Tenant's work or delay in opening until the Tenant is notified that the Owner's TCO has been obtained or reinstated.

 Paragraph 44(C) states as follows:

 In the event of any act or omission of Owner which would give Tenant the right, immediately or after lapse of a period of time, to cancel or terminate this Lease, or to claim a partial or total eviction, Tenant shall not exercise such right (i) until it has given written notice of such act or omission to the holder of the first Mortgage ("Superior Mortgagee" [MHT]) and the lessor under the Ground lease ("Superior Lessor" [Ardmore]) whose name and address shall previously have been furnished to Tenant in writing, and (ii) unless such act or omission shall be one which is not capable of being remedied by Owner or the Superior Mortgagee or Superior Lessor within a reasonable period of time, until a reasonable period for remedying such act or omission shall have elapsed following the giving of such notice and following the time when the Superior Mortgagee and Superior Lessor shall have become entitled under such Superior Mortgage or Ground lease, as the case may be to remedy the same, which reasonable period shall in no event be less than the period to which Owner would be entitled under this Lease or otherwise, after similar notice to effect such remedy, provided the Superior Mortgagee or Superior Lessor shall, with due diligence, have given Tenant written notice of its intention to and shall commence and continue to remedy such act or omission, but nothing herein contained shall obligate any Superior Mortgagee or Superior Lessor to do so unless it so elects.

 Paragraph 59(B) provided that Tower shall receive possession of the premises upon "substantial completion of Owner's Work set forth in Article 46." Of the "Owner's Work" enumerated in paragraph 46, several subsections are relevant here. Paragraph 46(3) provided that "the allocation of store space in the new building . . . shall have . . . approximately 11,850 square feet of second level store space . . . +- 5%" and that the overall store space "shall be substantially in accordance with the plan attached." Under the Lease, the retail store and basement space leased by the Owner to Tower was "as more particularly described in Exhibit A, annexed hereto." paragraph 46(4) provided that Tower's "store space shall have 13 foot ceilings (slab to slab) on the street level and the second floor level." Finally, P 46(10) provided that:

 (10) . . . The service elevator shall be located in a receiving vestibule. . . . Owner shall submit shop drawings for Tenant's approval subject to subparagraph (14) hereof, prior to ordering elevators.

 As defined in P 59(B), "substantial completion" is:

 the stage of the progress of Owner's Work which shall enable Tenant a) to hook up with the basic electrical, plumbing and condenser systems installed by Owner as part of Owner's work; b) to commence its use or occupancy of the demised premises for its normal business purposes, including commencement of Tenant's Work, without material interference by reason of the completion of unfinished details of Owner's Work . . . ; c) to have elevator service to all four floors of Tenant's space by the use of at least one of the elevators allocated specifically to Tenant and designated herein as part of Owner's work and d) when the demised praises are completely enclosed and weathertight.

 The Tower space represents 14% of the entire space in the Building and approximately 33% of its commercial space.

 Pursuant to the Lease, Zemnor was required to commence construction of the Building no later than January 1990. Because Segal's original partner "went broke," Segal was unable to commence full construction of the Building by January 1990. As a result, Tower sought to terminate the Lease. Almost immediately, negotiations ensued between Tower and Zemnor which resulted in the Amendment of Lease dated as of April 23, 1990. The Amendment gave Tower the benefit of a base annual rent of $ 985,000, a reduction of $ 145,000 annually or $ 2,610,000 over the life of the Lease. The Lease Amendment provided for a "break ground" date of August 15, 1990. Regrettably for Segal, the date set forth in Paragraph 59(A) was not amended accordingly.

 On or about July 26, 1990, the ground lease and the Lease, as amended, were assigned to the Landlord which obtained a construction and project loan from MHT in the sum of $ 32 million dollars. The rental from the Lease represents approximately 40% of the sums required to carry the debt service on the MHT loan.

 In recognition of the critical importance of the Lease, MHT, Ardmore and BRT Realty Trust ("BRT"), also the holder of a mortgage on the property at 1535-1545 Third Avenue and 206 East 87th Street, entered into certain Non-Disturbance and Attornment Agreements with Tower dated as of July 25 and 26, 1990 (the "Non-Disturbance Agreements"). These agreements, which are essentially identical in substance, provided, inter alia, that Tower would not terminate the Lease as a result of any acts or omission of the Landlord until it notified these parties and provided an opportunity to cure such act or omission. The only exception in the Non-Disturbance Agreements to this right to cure was a failure by the Landlord to commence construction on August 15, 1990, time being expressly "of the essence." No other time period in the Lease, as amended, contained a time-is-of-the-essence qualification.

 The Construction of the Building

 Segal had retained the architectural firm of Emery Roth & Sons ("Emery Roth") to do feasibility studies and early designs for the Building. While the lease contained no reference to the basic construction material for the Building, by the spring of 1990 Emery Roth had produced preliminary drawings contemplating a concrete construction. Segal's general contractor, Marson Construction Co. ("Marson") was concerned about the cost of the project as designed by Emery Roth.

 The change of architects and construction plans created heavy time pressures on all concerned. Emery Roth's last foundation drawings showed a change and a "hold" notation on the passenger elevator in Tower's space. Because of the transition, that information either was not communicated to Ciardullo or was overlooked. As a result, the portion of the foundation for that elevator was poured and had to be ripped out and re-poured. In other instances, the foundation sub-contractor got ahead of the architect's drawings, and work had to be redone. Even under the Ciardullo design, the sub-basement, basement and first floor were to remain concrete. The only Tower floor which was to be constructed of steel was the second floor, which had a 2-inch steel deck and 3 1/4-inch concrete pour.

 Because it could receive a $ 6,250 premium for each calendar day after the Building was completed prior to June 30, 1992, Marson sought to complete the Building expeditiously. However, Marson was held back in mid-October 1990 by "lack of information from [the] structural engineer." The foundation work was completed in November of 1990.

 During the fall of 1990, Marson was unable to calculate the structural steel openings for Tower's escalators because Tower had not selected between two manufacturers. Therefore, when the time came to pour the pit and set the structural steel in that area, Marson made its calculations based upon the largest openings.

 Marson was originally promised completed drawings of the steel design by November 15, 1990 so that it could contract with its steel suppliers. Some delay resulted, in part because the Tower space had not been fully designed, but by early January 1991 sufficient information was available to enter into a contract for the steel.

 After January 14, 1991, Marson resumed at a "limited pace" while waiting for the boilers and oil tanks to be delivered a little over a week later. The structural steel did not arrive until April 15, 1991 which, according to Marson, was 103 days late.

 Segal never gave the Tower lease to either his architect or his contractor. As a consequence, neither Ciardullo nor the contractor knew whether work in a tenant's space was extra work or work required by the lease. In designing the overall Building, Ciardullo changed the Emery Roth plan for the Tower space and submitted a design to Tower's architects, Buttrick White & Burtis ("BWB"), showing 12 foot, 6 inch slab-to-slab ceilings on the street level and second floor, rather than the ceiling heights of 13 feet slab-to-slab set forth in P 46(4) of the Lease or the 13 foot 8 inch second floor ceiling height represented in the Emery Roth drawings. This changed was accompanied by a change in slab thickness, from the 10-inch concrete slabs contemplated by the Emery Roth drawings, to 5 1/4-inch steel and concrete slabs on the first and second floors. There was no structural or ...


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