What's wrong with management rights

The recent decision in Atrium Management Ltd v Quayside Trustee Limited (in receivership and in liquidation) [2012] NZCA 26 (21 February 2012) potentially represents a significant change in the regulation of body corporate management agreements in New Zealand. Before Atrium Management, the key principles of the case law on body corporate management agreements could have been stated as follows:

• A body corporate rule entrenching a particular form of management agreement was unenforceable (see Body Corporate 201036 v Broadway Developments Ltd (2010) 11 NZCPR 627).
• “Exclusive letting” arrangements in management agreements were unenforceable under the Unit Titles Act 1972 (see Russell Management Ltd v Body Corporate 341073 (2008) 10 NZCPR 136 (HC); Gilbert, Liquidator of Crystal Waters Management Ltd (in liquidation) and Anor v About Body Corporates Ltd and Anor (High Court, Auckland CIV-2009-404-2048, 23 June 2009, Justice Harrison).
• A long term was not necessarily an issue, as long as there was an ability to terminate for non-performance (see Russell Management, where a 10-year contract with two times 10-year rights of renewal was acceptable).
• If problematic, it was likely that particular clauses would be struck out, rather than the whole agreement being unenforceable (see Russell Management; Low v Body Corporate 384911 [2011] 2 NZLR 263 (HC)).
• Where the agreement essentially provided for the manager to replace the body corporate and its duties, the whole agreement could be void (see Rendall v Jackson Mews Management Ltd (District Court, Lower Hutt CIV-2004-032-634, 17 December 2010, Judge SE Thomas).

These principles have now been upended (or ‘clarified’) by Atrium Management – particularly in respect of the striking out of entire agreements. That is, we must now add:

• For the whole agreement to be struck out, an unenforceable matter must be fundamental to the agreement. Where exclusive letting arrangements are fundamental to the contract, the whole agreement may be unenforceable (Atrium Management).

The Atrium Management decision

Management rights are big business, particularly when sold at a significant multiplier based on the term of a management agreement. It is significant that Atrium Management did not involve an effort by a body corporate to challenge a management agreement, but rather a vendor-purchaser situation.

Quayside developed a residential and retail mixed-use complex. In 2006, Atrium agreed to purchase a manager’s unit and separately, but contemporaneously and interdependently, agreed to purchase management rights, including provision for exclusive on-site letting service rights. A clause in the agreement for the purchase of the management rights (the October agreement) stated that Quayside would deliver the signed management agreement on payment of the purchase price.

In 2009, Quayside had not yet procured the executed management agreement, and Atrium gave notice to Quayside of cancellation, relying on the decision in Russell Management, delivered in late 2008, where it was held that the grant by a body corporate of exclusive letting rights to a manager was ultra vires sections 37(5)-(6) of the Unit Titles Act 1972 (though it can be noted that these provisions relate to body corporate rules, not body corporate decisions as such).

Atrium was of the view that the body corporate would be acting ultra vires if it granted the management rights described in the October agreement, and that Quayside would not be able to perform the contract. Atrium therefore cancelled the October agreement based on anticipatory breach. Quayside considered this a repudiation, and served notice demanding settlement. When settlement did not occur, Quayside issued proceedings, stating that the offending provisions should be able to be severed, and seeking a declaration as to the enforceability of the management rights. Quayside’s claim for specific performance was subsequently altered to damages.

Atrium counterclaimed and sought summary judgment. Summary judgment was denied in the High Court on the basis that Quayside had an arguable defence, including that it could seek severance of part of the agreement. Atrium then appealed this decision not to grant summary judgment.

Court of Appeal

The Court of Appeal:

• Held that frustration was not a good reason for cancelling.
• Held that the consideration payable under the October agreement was “substantially attributable” to the exclusive letting service (at [34]). That is, the exclusivity was an essential part of the agreement to purchase the management rights, a point amplified by the express ability of Atrium to cancel if Quayside did not comply with a settlement notice. Based on the context of the October agreement, the Court of Appeal held that further evidence was not necessary to determine that the exclusive letting rights were essential.
• Looked to Humphries v The Proprietors ‘Surfers Palms North’ Group Titles Plan 1955 (1994) 179 CLR 597, a decision of the High Court of Australia in which there was no severance of an offending term – the whole agreement was struck down. This decision was referred to in Russell Management, but not followed. The Court of Appeal was of the view that the exclusivity of the arrangements was fundamental to the management agreement, and as an essential term could not be severed.

As a result, the Court of Appeal was satisfied that Quayside could not succeed at trial, and granted summary judgment to Atrium, meaning Atrium’s cancellation was justified.

The bigger picture

If management rights are big business, then the big picture is what this decision means for other management rights.

Following Russell Management, it was already clear under existing law that exclusive letting rights granted by a body corporate would be unenforceable; though four points can be noted. First, subsections 37(5)-(6) of the Unit Titles Act 1972, which were referred to in Russell Management, relate to body corporate rules, not necessarily general decisions of a body corporate. It needs to be emphasised that ultra vires body corporate rules and ultra vires body corporate actions can too easily be confused. Second, while subsections 37(5)-(6) remain in place until the end of September 2012 under the transitional provisions, there is no equivalent of these under the Unit Titles Act 2010. Third, the decision in Russell Management might not stop those rights being linked directly to owners through an encumbrance mechanism rather than through the body corporate or body corporate rules. Russell Management also suggested that a Court would be likely to sever any offending provisions, rather than strike down the whole agreement.

After Atrium Management, this approach seems unlikely to be followed. The Court of Appeal has held that where an unenforceable term of an agreement – such as the grant of exclusive letting rights – is essential to that agreement, the whole agreement will be struck down. It can be imagined that there will be many other agreements now subject to challenge. Some of these may be challenged under Atrium Management principles, while others may be challenged under section 140 of the Unit Titles Act 2010.

But, in assessing the implications of Atrium Management, it is important to remember that this was a decision about the sale of management rights. One party was unable to deliver the management rights as agreed to the other, so the agreement to sell the management rights came to an end. This was not, in the end, a challenge to the management rights themselves, though there are some indications the Court of Appeal thought it was. This case was also an appeal from a summary judgment decision, and not a good place for new law to be made. Exclusive letting rights will also not be essential to all management agreements – many of them are about (or also about) building or common area maintenance, or other matters. All of these points suggest it may be appropriate to read it restrictively – rather than as open season on management rights.

Thomas is a Director in our Property Team and can be contacted on 07 958 7465.