Court Opinion

ID: 8925160
Source: CourtListenerOpinion
Date Created: 2022-11-27 06:36:14.944985+00
Date Added: 2024-06-11T17:09:22.914835
License: Public Domain

GIBBONS, Circuit Judge,
dissenting.
I join in Parts II and III of the opinion of the court, holding that there is subject matter jurisdiction over a claim by the third party defendant against the initial plaintiff, and that the option was not exercised in a timely manner. I dissent, however, from Part IV, dealing with enforceability of the payment for improvements clause, and thus from the judgment affirming in full.
My analysis of the payment for improvements clause begins with an examination under Pennsylvania law of the enforceability of conditions for the payment of contract damages. In Pennsylvania, a clause providing for the payment of a “penalty” upon the fulfillment of a contract condition is unenforceable. In contrast, a clause providing for the payment of “liquidated damages” upon the fulfillment of such a condition is enforceable. See Keck v. Bieber, 148 Pa. 645, 24 A. 170, 170-71 (1892). The Pennsylvania Supreme Court has described the inquiry for distinguishing between a “penalty” and “liquidated damages” as follows:
The question whether an amount stated in a contract to be paid by one party or the other, in event of the breach of a covenant or condition in an agreement, shall be construed a penalty or liquidated damages, must be determined by the intention of the parties as indicated in the phraseology of the entire contract, construed in the light of its subject-matter and its surrounding; and in determining this question the court will consider, among other matters, the relation which the amount stipulated bears to the injury likely to result from the breach complained of, the complications incident to the questions involved, and such other matters as are legally or indispensably essential in determining the question____ It is not important whether the parties have named the sum a penalty or liquidated damages.
Lackawanna Boiler & Grate Co. v. Lee Coal Storage Co., 290 Pa. 561, 564-65, 139 A. 315, 316 (1927) (citation omitted)
The facts of Lackawanna Boiler illustrate a clause characterized as “penal.” Lee Coal had agreed to haul coal at a rate of 50 cents per ton. Lackawanna, in turn, had agreed to compensate Lee at the rate of $1.50 per hour for time during which Lee’s trucks were forced by Lackawanna to stand idle. The Pennsylvania Supreme Court reasoned that the provision of $1.50 per hour bore no relationship to actual injury for delay; rather, the court concluded, the figure was “merely in the nature of a penalty to reimburse plaintiff for such time *1024as its trucks were forced to stand idle without fault on its part____” Id.1
A common illustration of a liquidated damages clause, in contrast, is a provision providing for the forfeiture of a downpayment in the event that a condition precedent to the sale of real estate does not occur. Laughlin v. Baltalden, Inc., 191 Pa. Super. 611, 159 A.2d 26 (1960), is an example. Laughlin, the seller of a home, required a downpayment of $1900 on the sale of property worth $21,800, and provided that if the purchasers failed to make a settlement — a condition precedent — the seller would keep the $1900 as liquidated damages. The court reasoned that the value of the damages represented only nine percent of the total consideration, and was roughly related to the seller’s expenses for interest, taxes, utilities, and so forth, before the property was actually sold. The clause was therefore enforceable.
We must decide whether Pinkie’s provision for the payment of $76,941 is a “penalty” attending the non-fulfillment of a condition precedent — here the non-renewal of the lease after five years — within the meaning of these Pennsylvania cases. I agree with the majority that our review is plenary. I begin that review with two observations.
First, the essence of Finkle’s contract was an agreement for the lessee to make improvements to the lessor’s property. An initial question therefore is whether such a contract is enforceable even when the lessee vacates the premises shortly after making improvements. As I note below, it is.
Second, we must examine the significance of the terms of financing in order to see if they operated as a “penalty.” Finkle acted as the financier of his own improvements. As such, he was the equivalent of an outside financier whose loan agreement contained an acceleration clause. That clause authorized the functional lender to accelerate the loan upon the occurrence of a condition — here, that Gulf did not renew the lease. The finance agreement is therefore wholly equivalent to an agreement of an outside lender who finances a lessee’s improvements to a lessor’s property, and who incorporates an acceleration clause providing that the loan will accelerate if the lessee vacates the lessor’s property. Of course, acceleration clauses are nothing special. We must decide whether the acceleration of the loan on this particular condition — the non-renewal of the lease — operates as a “penalty.”
1. Lessee’s improvements to lessor’s property
Under Pennsylvania law, an agreement by the lessee to improve the lessor’s property is enforceable even when the lessee vacates the premises shortly after making improvements. A recent leading case on the subject, much discussed in the briefs, is Western Savings Fund Society v. Southeastern Pennsylvania Transp. Authority, 285 Pa. Super. 187, 427 A.2d 175 (1981). Western and Southeastern Pennsylvania Transportation Authority (SEPTA) entered into a lease providing that Western would make about $84,000 in improvements to SEPTA’s property. The lease was for a ten-year term, and provided for an option to renew for an additional ten years. After Western inadvertently failed to renew the lease in a timely fashion, SEPTA terminated the agreement. The court rejected an argument that Western’s loss of $84,000 constituted a forfeiture:
The chancellor found that the lease obligated Western to make various improvements in the premises. To that end, Western apparently spent some $84,000. We note, however, that the lease agreement not only obliged Western to make the improvements but also stipulated that such improvements would *1025become the property of the lessor (SEPTA) at the termination of the lease. Thus, it would have been unreasonable for Western to have had an expectation of continued retention of such improvements for any period longer than strict compliance with the lease would permit. Having agreed to the lease[,] its only reasonable expectation was that it would have the use of such improvements for ten years and, assuming the option was timely exercised, for an additional ten year period____ Notwithstanding its own error, therefore [in failing to renew on time], Western would, nonetheless, have received precisely what it had bargained for under the 1966 lease — twenty years’ use of the improvements required by the lease. We thus find the chancellor’s concern for preventing a forfeiture grossly overstated.
285 Pa. Super, at 191 n. 3, 427 A.2d at 177 n. 3 (emphasis in original); see also id. at 196-97, 427 A.2d at 180 (reiterating that loss of improvements was not a forfeiture).
Gulf, like Western, contracted to improve property of the lessor. Moreover, Gulf did so with full knowledge that it might vacate before the expiration of the eighteen-year term of the lease, and indeed expressly reserved three options to vacate early. Like Western, Gulf’s expectation was simply “that it would have the use of such improvements” until the company vacated the premises. That is an enforceable agreement under Pennsylvania law — as it should be. There is nothing extraordinary in Gulf’s decision to enter into such an agreement. The company for example, may have found it less expensive to improve Finkle’s property at its own expense than to relocate its entire manufacturing operation elsewhere. Whether that supposition should prove to be true or not, however, should have no bearing on our judgment. We have no role under Pennsylvania law in second-guessing Gulf’s decision to improve Finkle’s property at its own expense.
Philmont Steel Products, Inc. appears to concede as much. The company argues that the $76,941 payment provision would have been enforceable if “the tenant [had been] required to build the improvements in order to obtain the privilege of leasing the space in the first instance.” Br. at 13 (emphasis added) (citing Western Savings). The vice, Philmont suggests, simply lies in “[t]ying the payment to the right to leave.” Id. I turn, therefore, to the question whether tying the acceleration clause to the “right to leave” indeed, as Philmont contends, operated as a “penalty.”
2. The acceleration clause
As I noted earlier, Finkle financed the improvements made by Gulf to his premises, and the finance agreement provided for an acceleration of the loan in the event that Gulf failed to renew the lease. Philmont maintains that the acceleration of the loan as a condition of renewal operated as a “penalty.”
In so arguing, Philmont misconceives the nature of an acceleration clause. The present value of a loan is unchanged by an acceleration of the balance due, provided that the accelerated balance is equal to the unpaid portion of the principal. In Philmont’s case, the balance due ($76,941) was roughly equal to the unpaid portion of the principal ($71,820.44).2 Although there is a slight discrepancy between the accelerated value and the unpaid principal, this differential could easily be explained by legitimate costs to the lessor caused by Gulfs early departure. Under Pennsylvania law, such payment provisions rationally related to one party’s expenses are not unenforceable as a penalty. See, e.g., Laughlin, supra, 191 Pa. Super, at 618, 159 A.2d at 29. Nor does Philmont seriously argue that the small differential between the balance due and unpaid principal alone renders the acceleration clause a penalty. Rather, it is Philmont’s position that the acceleration clause itself is, as a matter of law, a penalty.
I simply cannot agree with this position. The clearest refutation of the argument is *1026the observation that Philmont could always have re-entered the credit market and obtained a second loan for the same terms as the prior loan, using the proceeds to satisfy the acceleration clause in Finkle’s lease. Nothing in the record suggests that Philmont could not obtain such a loan for a similar term and rate of interest. Indeed, Philmont’s true objection is not that the present value of the cost of the loan increased because of the acceleration, or that it is unable to make a sudden balloon payment to Finkle. To the contrary, Philmont’s gripe is simply that it must make an accelerated payment having vacated the premises. However, Western Savings establishes that Philmont was obligated to pay for the improvements without regard to whether it vacated the premises. And the acceleration clause did not change the present value of the cost of those improvements. In short, Philmont’s objection is not to the repayment schedule at all, but simply to its obligation to pay for the improvements after having vacated the premises. That is, Philmont’s objection is to Western Savings itself.
Moreover, serious adverse consequences may follow from a holding that a lender may not tie an acceleration clause to a lessee’s failure to renew a lease. There are perfectly rational economic reasons for accelerating a loan balance when a lessee vacates a lender’s property. In this instance, for example, Finkle had an effective security interest by virtue of the presence of Philmont’s equipment on his property. When Philmont vacated the property, Finkle lost a convenient means of security. Under that circumstance, it is entirely rational for Finkle to seek an acceleration of the loan.
Finally, under Pennsylvania law, acceleration clauses in commercial mortgages predicated on reasonable conditions are generally honored. See Bell Federal Savings & Loan Ass’n v. Laura Lanes, Inc., 291 Pa. Super. 395, 400, 435 A.2d 1285, 1287 (1981); Ministers & Missionaries Benefit Board v. Goldsworthy, 253 Pa. Super. 321, 328-29, 385 A.2d 358, 362 (1978). As a rule, those conditions relate to the mortgagor’s default. However, there is no indication that the Pennsylvania courts would disapprove of an acceleration provision predicated on other rational grounds, and the clause in Finkle’s lease is manifestly predicated on such a ground. I note as well that Finkle, Gulf, and Philmont are all knowledgeable commercial actors. There is no evidence that the bargain between Gulf and Finkle was the product of overreaching, or that the assignment between Gulf and Philmont was not an arms-length commercial transaction.
For these reasons, I would hold that there is no basis for sustaining a directed verdict for Gulf and Philmont at the close of Finkle’s case. It cannot be held that as a matter of law acceleration of the payments Philmont undertook to make was a penalty. I would reverse and remand for trial on Finkle’s claim, recognizing that when Philmont’s case is presented, the argument that the claim involves a penalty might appear differently.

. The court’s characterization of the $1.50 per hour clause as a penalty "in the event of a breach of a covenant or condition in an agreement” is technically a misnomer. The clause is simply a contract condition, upon the occurrence of which a sum certain becomes due. No breach occurs until the sum certain is not paid.
The equities in Lackawanna Boiler favored finding a penalty. Lackawanna, the defendant, had argued that Lee could recover no damages because the payment of $1.50 was intended as liquidated damages. Lee, in turn, argued that the clause was a penalty and not liquidated damages.

.‘ The parties concede, curiously, that the $76,-941 does not equal the unpaid balance. An amortization table in the record reveals that the appropriate balance is only $71,820.44. Neither party has offered an explanation for the discrepancy. App. at 88-89.