Implications of policy and economic shifts on commercial lease agreements in Kenya

Amidst the backdrop of sweeping global policy shifts and economic uncertainty spurred by regulatory changes and evolving government priorities, tenants may increasingly struggle to uphold their lease commitments. A notable illustration of this challenge is the recent scaling back of financial assistance from major international donors, including the United States Agency for International Development (USAID). This funding has long played a crucial role in sustaining key development initiatives across both the private and public sectors in Kenya. Sectors that have historically benefited include education, technology, healthcare, infrastructure, and governance. As these financial resources dwindle, organisations that depend on them may be forced to reassess their financial viability, often leading to the premature termination of commercial leases.

This legal update examines the implications of commercial lease terminations, highlighting essential legal factors that businesses must consider when navigating these challenges. At the same time, landlords face a delicate balancing act, ensuring predictable occupancy rates while safeguarding their financial interests. As leasing agreements come under increasing pressure, a comprehensive grasp of termination provisions, renegotiation leeway, and risk mitigation strategies will be crucial for adapting to an evolving real estate environment.

Against this backdrop, on 6 December 2024, the Supreme Court delivered its ruling in Kwanza Estates Limited v. Jomo Kenyatta University of Agriculture and Technology (JKUAT) (Petition E001 of 2024). In this case, JKUAT advanced multiple legal arguments to discharge itself from its lease obligations, citing a range of justifications. This ruling provides valuable insights into the legal landscape surrounding terminations of commercial and the potential defenses tenants may assert when grappling with financial distress.

Background of the case and the Court’s interpretation of various legal principles

The dispute in Kwanza Estates Limited v. Jomo Kenyatta University of Agriculture and Technology (Petition E001 of 2024) arose over the interpretation and enforcement of their Lease Agreement. Central to the conflict was JKUAT’s decision to close its Nakuru campus, citing financial strain exacerbated by the COVID-19 pandemic, which rendered continued operations economically unviable. With no termination clause expressly provided in the six year Lease, JKUAT proceeded to issue a three months’ notice to Kwanza Estates, explaining its rationale for ending the Lease.

However, Kwanza Estates strongly opposed this termination, asserting that it was unlawful due to the absence of a contractual termination provision. Further, they insisted that JKUAT remained liable for rent payments for the remainder of the six-year lease term. Kwanza Estates also refrained from leasing the premises to new tenants, maintaining that JKUAT, despite physically vacating, was still bound by the Lease. This legal impasse led to a court battle, where the courts were tasked with assessing the rights and obligations of both parties.

A pivotal aspect of the Supreme Court’s decision was its distinction between the legal principles of force majeure and frustration, two doctrines that, though frequently conflated, have distinct implications in contract law. Force majeure pertains to specific contractual provisions that outline extraordinary events, such as pandemics or natural disasters, which may excuse a party from fulfilling its obligations. On the other hand, frustration is a common law principle that applies when an unforeseen event fundamentally alters the contract’s essence, making performance impossible or drastically different from what was originally intended. The ruling underscored the importance of having clear force majeure provisions in contracts. The Supreme Court clarified that such clauses must be explicitly stated to be enforceable. In the absence of such clauses, claims of frustration will only be considered under very strict conditions, making it essential for parties to include clear provisions regarding unforeseen events that could affect contract performance.

The Court firmly dismissed the argument that financial strain resulting from a crisis like the COVID-19 pandemic automatically qualifies as frustration. As international donors, including USAID, reassess their funding structures, potentially leading to organisational cutbacks, landlords may face challenges from tenants seeking to terminate leases due to financial constraints. However, the ruling underscores that mere economic hardship does not suffice to invoke frustration. The Supreme Court provided that the contract does not become void simply because fulfilling its terms has become more burdensome. Parties remain bound by their contractual commitments unless the very foundation of the agreement is rendered untenable.

An important element of the judgment was the emphasis made on the landlord’s duty to mitigate damages. The Court acknowledged that while landlords have the right to seek compensation for breach of contract, they also have an obligation to take reasonable steps to mitigate their losses. This means that landlords should actively seek new tenants rather than letting their properties sit vacant and demanding full rent while lease disputes are adjudicated. 

In addition, the Lessee’s argument that changes in student enrollment policies justified lease termination was rejected. The court held that regulatory changes, on their own, do not provide sufficient grounds to excuse a party from fulfilling a contract unless they render performance truly impossible.

The Supreme Court ultimately ordered JKUAT to pay three months’ rent as compensation to Kwanza Estates and noted that a tenant who no longer wishes to occupy premises cannot be forced to do so. Landlords should instead seek damages for breach of contract and take measures to mitigate their losses.

Legal framework governing commercial leases in Kenya

Commercial leases in Kenya are primarily governed by the Land Act, the Landlord and Tenant (Shops, Hotels, and Catering Establishments) Act (the LTA), the Rent Restriction Act and common law principles of contract. These laws provide the framework for understanding the rights and obligations of both landlords and tenants in commercial lease agreements.

A commercial lease agreement is a legally binding contract and either party may terminate the lease by following the specific terms and conditions set out in the contract. Typically, termination of commercial leases requires notice periods to be served and the fulfillment of certain pre-conditions. The lease agreement may also specify early termination clauses or penalty provisions if the tenant or landlord wishes to terminate the agreement before the expiry of the lease term.

The Land Act provides various provisions relating to lease agreements. However, only a select few of these provisions are mandatory, with provisions explicitly reinforcing the freedom of the contracting parties to shape their own agreements. This flexibility allows parties to exclude non-essential provisions and tailor their contracts to suit their specific needs and preferences.

On the other hand, the LTA establishes that certain leases, especially those containing termination clauses, may unintentionally be categorised as controlled tenancies. A controlled tenancy typically arises when a lease has not been formalised in writing or if it is in writing, lasts for less than five years, or if the lease includes a termination clause other than through a breach of covenant. Once a lease falls within the scope of controlled tenancy, it brings with it certain limitations that can be unfavorable to landlords, particularly in terms of the flexibility to alter or end the lease. In light of this, landlords often exclude termination clauses to avoid such constraints, ensuring that the lease remains at the discretion of both parties rather than subject to statutory control.

However, it is important to note that a controlled tenancy will not arise if one of the parties involved is a government department, agency or local authority. This provision creates significant exemption within the LTA, as it shields public entities from the restrictions imposed by the controlled tenancy framework. As such, understanding this exemption is critical, especially in the context of public institutions involved in lease agreements.

The LTA is designed to protect tenants from exploitation and unjust eviction from business premises by landlords. The LTA serves to balance the interests of landlords and tenants, ensuring that tenants are not subject to unfair treatment or arbitrary termination of their lease agreements. 

Conclusion

Interpretation of lease agreements is influenced by numerous factors, including the nature of the parties involved, the geographical location of the property and the presence of specific statutory requirements or exemptions. The legal landscape is not uniform and interpretation of leases requires a nuanced approach that considers all variables. Together, these principles offer a comprehensive framework for understanding the broader implications of the Supreme Court’s ruling, providing guidance that will inform future lease negotiations and legal disputes for both landlords and tenants.

The implications of this landmark decision extend far beyond this case. It is clear that landlords may no longer rely on leases lacking termination clauses to hold tenants to occupation should they wish to terminate. The necessity for well-defined contracts in commercial leasing is pronounced, particularly in light of potential future crises. Such foresight can protect both parties and prevent misunderstandings that could lead to costly disputes.

If you have any questions, please contact Mati Munuve or Nelly Tuitoek.