DEMQUARTER HEALTHCARE INVESTORS, L.P.
OP CHATTANOOGA, LLC, ET AL.
Session October 19, 2016
from the Chancery Court for Hamilton County No. 13-0521
Jeffrey M. Atherton, Chancellor
case involves the lease of a skilled nursing facility. The
lessee assigned the lease, and the assignee then subleased
the nursing facility. While the appeal raises multiple
issues, we have determined that the lessor prevails and that
the judgment of the trial court must be reversed and the case
R. App. P. 3 Appeal as of Right; Judgment of the Chancery
Goheen, Atlanta, Georgia, and Scott M. Shaw, Chattanooga,
Tennessee, for the appellant, DemQuarter Healthcare
A. Powers, Chattanooga, Tennessee, for the appellees, OP
Chattanooga, LLC, and FC-THC Leasing, LLC.
D. Bennett, J., delivered the opinion of the court, in which
D. Michael Swiney, C.J., and John W. McLarty, J., joined.
D. BENNETT, JUDGE
and Procedural Background
facts in this case are voluminous and complex. We will begin
with a bare-bones summary to provide a context for a
discussion of the issues on appeal and will then add details
in the analysis sections as necessary for an understanding of
the questions under consideration.
Healthcare Investors, L.P. ("DemQuarter") owns the
Stratford House, a skilled nursing facility in Chattanooga,
Tennessee. Douglas Mittleider is the president of
DemQuarter's general partner. DemQuarter's purchase
of Stratford House was originally financed by GMAC Commercial
Mortgage Corporation ("GMAC"); the loan was later
converted into a mortgage-backed security, with LaSalle
National Bank ("LaSalle") acting as trustee of
DemQuarter's loan on the Stratford House for the benefit
of holders of GMAC securities.
leased Stratford House to OP Chattanooga, LLC
("OPC") pursuant to an agreement executed in May
2003. At the time of the original lease in May 2003, OPC was
wholly owned by Tandem Health Care, LLC ("Tandem").
Also in May 2003, another Tandem entity, OP Whites Creek,
leased a long-term care facility in Whites Creek, Tennessee,
called the Windsor House.
Provisions of Stratford House Lease
following summary serves to highlight key provisions of the
lease between DemQuarter and OPC that will be discussed in
detail in the analysis section of the opinion.
lease ran for five years with an option to renew for two
additional five-year periods. Under section 9.1 of the lease,
the term "Event of Default" includes an event of
default under the lease agreement between Brookside
Healthcare Investors, L.P. and OP Whites Creek, Inc.,
regarding Windsor House. Under section 10.1, if DemQuarter
"proposes to sell or otherwise transfer the Facilities
to any party . . . [OPC] or one or more of its Affiliates as
Lessee may designate shall have the right of first refusal to
purchase the Facilities prior to Facilities being offered for
sale or sold to any other Person." The right of first
refusal ("ROFR") provision provides a formula for
calculating the purchase price.
to section 11.20, OPC "shall not assign this Lease or
sublet the entire Facilities or any portion thereof, without
the prior written consent of [DemQuarter], which consent
shall not be unreasonably withheld or delayed." This
section also states, however, that OPC may assign or sublet
the facilities without DemQuarter's consent "to an
Affiliate of Lessee" and to certain other persons.
"Affiliate" is a defined term under the lease.
2006, Tandem's principal shareholders sold Tandem's
stock to Formation Capital, LLC ("Formation
Capital") and JER Partners. Two of Tandem's former
senior executives, Joseph Conte and Gene Conte, thereafter
created Consulate Health Care ("Consulate"). In
2011, an investor group led by Formation Capital purchased
100% of the stock of LaVie Health Care, LLC. In July 2012,
Consulate merged into LaVie, and LaVie adopted the Consulate
Health Care corporate name.
Assignment of the Lease
2007, OPC entered into an agreement to assign the Stratford
House lease to FC-THC Leasing, LLC ("FC-THC").
Consulate Facility Leasing, LLC ("Consulate
Facility") subleased Stratford House from FC-THC in
2007. Stratford Facility Operations, LLC ("SFO")
sub-subleased Stratford House from Consulate Facility that
same year. All of these agreements were placed in escrow and
then released in August 2007. On August 29, 2007, DemQuarter
sent a default letter to OPC stating that, pursuant to the
terms of the lease, the lease could not be assigned without
the lessor's prior written consent.
Negotiations and Attempted Lease Renewals
April 2007, DemQuarter informed OPC that a third party was
interested in purchasing both the Stratford House and Windsor
House facilities, thus triggering OPC's ROFR. Under
section 10.1 of the lease, the purchase price is defined as
follows: "the EBITDARM of the Facilities for the
immediately preceding four calendar quarters ended March 31,
June 30, September 30 and December 31, multiplied by 5.38;
provided, however, that the purchase price shall not be less
than Six Million Seven Hundred Thousand and 00/100 Dollars
($6, 700, 000.00)." "EBITDARM" is a defined
term under the lease. Negotiations broke down because the
parties could not agree on a purchase price; they differed in
their calculation of EBITDARM.
letter dated January 25, 2008, FC-THC informed DemQuarter of
its intent to renew the lease for Stratford House for another
five years. In March 2008, counsel for DemQuarter responded
that the lease was in default and the notice of renewal was
therefore ineffective. At the same time, the parties were
again discussing a purchase agreement. They ultimately agreed
on a purchase price and entered into an asset purchase
agreement. The sale never went through, however, because
FC-THC was unable to secure financing due to the crisis in
the debt markets. Meanwhile, FC-THC continued to pay and
DemQuarter continued to accept the rent for Stratford House.
letter dated January 29, 2013, FC-THC informed DemQuarter of
its intent to renew the lease for Stratford House for another
five years. In a letter dated February 8, 2013 confirming an
earlier telephone conversation, DemQuarter stated that the
lease was in default and, therefore, FC-THC could not make a
valid exercise of renewal of the lease term.
filed its complaint against OPC and FC-THC (collectively,
"the defendants") on July 19, 2013, alleging causes
of action for breach of contract and declaratory judgment.
The defendants filed an answer and counterclaim for breach of
contract and declaratory relief. On September 30, 2014,
DemQuarter filed a motion for declaratory judgment. A hearing
on the motion was held on October 13, 2014, and the
defendants' attorney did not appear at the hearing. The
trial court granted DemQuarter's motion and decreed that
its October 21, 2014 order was a final order pursuant to
Tenn. R. Civ. P. 54.02.
defendants filed a motion to set aside the trial court's
October 21, 2014 order. Counsel for the defendants submitted
an affidavit in support of the motion to explain his absence
at the earlier hearing. The trial court granted the
defendants' motion to set aside. DemQuarter's motion
for declaratory judgment was subsequently heard again and
denied by the trial court.
matter proceeded to trial, which began on April 28, 2015.
DemQuarter presented extensive testimony from Mr. Mittleider,
and the defendants cross-examined the witness. At that point,
the trial court, sua sponte, raised the issue of
section 11.14 of the lease, which states that any disputes
not resolved within thirty days of notice of the dispute
"shall be submitted to arbitration as set forth in
Section 11.15, below." The trial court specifically
inquired whether the defendants had waived the right to
arbitration. The defendants asserted that they had not waived
arbitration and made an oral motion for arbitration, which
the trial court granted, over the objections of DemQuarter.
The trial court entered an order compelling arbitration. Two
weeks later, before arbitration had taken place, the trial
court entered an agreed order setting aside its order
compelling arbitration and setting the case for trial.
the trial resumed, DemQuarter read into evidence portions of
the deposition of Christina Firth, chief compliance officer
and senior vice president for Formation Capital. At the end
of the plaintiff's proof, the defendants made a motion
for involuntary dismissal, which was denied by the trial
defendants' proof consisted of the testimony of the
following witnesses: Gene Curcio, who was a chief financial
officer at Tandem when the lease was signed, as well as an
officer of OPC, an officer of Consulate, an officer of
Consulate Facility Leasing, and an officer of Stratford
Facility Operations; and Ms. Firth. Mr. Mittleider testified
again on rebuttal.
December 8, 2015, the trial court entered a detailed
memorandum opinion and order. The court held that OPC did not
breach the lease; that DemQuarter was not at fault for the
defendants' failure to exercise the ROFR in 2007; that
the ROFR was not extinguished in 2007 and, even if it was, it
would have been renewed if the defendants had been permitted
to exercise the second renewal of the lease; and that neither
party was entitled to attorney fees. DemQuarter appealed.