IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA FIRST APPELLATE DISTRICT DIVISION THREE
December 22, 2010
CONTRA COSTA RETAIL CENTER, PLAINTIFF AND RESPONDENT,
BALLY TOTAL FITNESS CORPORATION, DEFENDANT AND APPELLANT.
Contra Costa County Super. Ct. No. C070427
The opinion of the court was delivered by: Jenkins, J.
Contra Costa Retail Center v. Bally Total Fitness
NOT TO BE PUBLISHED IN OFFICIAL REPORTS
California Rules of Court, rule 8.1115(a), prohibits courts and parties from citing or relying on opinions not certified for publication or ordered published, except as specified by rule 8.1115(b). This opinion has not been certified for publication or ordered published for purposes of rule 8.1115.
In this unlawful detainer case, defendant Bally Total Fitness Corporation (Bally Fitness) appeals the judgment entered in favor of plaintiff Contra Costa Retail Center (Retail Center), following a bench trial on the issue of whether Bally Fitness breached the terms of its lease agreement with Retail Center. We affirm.
FACTUAL AND PROCEDURAL BACKGROUND
Retail Center owns commercial property located at 2316 Monument Boulevard in Pleasant Hill (Premises). In May 1998, Bally Fitness entered an agreement with Sherman Properties, Ltd., a prior owner of the Premises, to lease the Premises for a term of 15 years, commencing on October 1, 1998, and has remained in possession of the Premises since the lease commenced. On July 3, 2007, Retail Center filed a complaint for unlawful detainer against Bally Fitness. In the complaint, Retail Center alleged that Bally Fitness participated in a series of financial transactions causing its net worth to fall by more than 25 percent since the inception of the lease, which constitutes an unauthorized assignment in breach of Paragraph 12 of the lease. Retail Center prayed for a declaration that forfeiture and termination of the lease occurred at the expiry of the three-day Notice to Quit issued to Bally Fitness and sought possession of the Premises.
Paragraph 12 of the lease addresses "Assignment and Subletting." Paragraph 12.1(a) states: "Except as otherwise provided in Paragraph 12.2, Lessee shall not voluntarily or by operation of law assign, transfer, mortgage, or encumber (collectively "assign" or "assignment") or sublet all or any part of Lessee's interest in this Lease or in the Premises without Lessor's prior written consent. Paragraph 12.1(c) provides: "The involvement of Lessee or its assets in any transaction, or series of transactions (by way of merger, sale, acquisition, financing, transfer, leveraged buy-out, or otherwise) . . . which results or will result in a reduction of the Net Worth of Lessee by an amount greater than 25 percent of such Net Worth . . . , shall be considered as [an] assignment of this Lease to which Lessor may withhold its consent. 'Net Worth of Lessee' shall mean the net worth of Lessee (excluding any guarantors) established under generally accepted accounting principles." Paragraph 12.1(d) provides that an assignment without consent "shall, at Lessor's option, be a Default curable after notice . . . or a noncurable Breach without the necessity of any notice and grace period."
Paragraph 12.2 (Lessor's Consent to Specific Transactions) provides that the Lessee may enter certain specified transactions without the consent of the Lessor. Paragraph 12.2(c) states: "Notwithstanding the provisions of Paragraphs 12.1(a)-(c) above, Lessee shall have the right, without Lessor's consent, to enter into an assignment or sublease of all or any portion of the Premises with a Lessee Affiliate (defined below). [¶] . . . [¶] As used in this Lease, the term 'Lessee Affiliate' shall mean (i) any corporation with which Lessee has merged or consolidated or to which all or substantially all of Lessee's assets or common stock are transferred; or (ii) any corporation that controls or is controlled by Lessee or is under common control with Lessee."
A bench trial on Retail Center's claim of forfeiture was held before the Honorable Barry Baskin on November 3, 4, and 13, 2009. After presentation of evidence, the parties were instructed to submit closing argument briefs. In its closing brief, Bally Fitness argued that because the transactions complained of were between Bally Fitness and an affiliate, namely, its parent company, Bally Total Fitness Holding Corporation (Holding Corporation), they constituted an assignment that did not require the consent of the lessor, pursuant to Paragraph 12.2(c) of the lease.
On February 26, 2009, the trial court adopted and filed plaintiff Retail Center's statement of decision (SOD). In the SOD, the trial court concluded that Bally Fitness and its assets were involved in a series of financing transactions that precipitated a drop in Bally's Fitness's net worth in excess of 25 percent, constituting an assignment without the consent of Retail Center in breach of paragraph 12.1(c) of the lease. Bally Fitness filed objections to the trial court's SOD and Retail Center filed a response to those objections. Following a hearing on April 2, 2009, the court filed an amended SOD and judgment of the same date. Bally Fitness filed a timely notice of appeal on May 19, 2009.
A. Standard of Review
Where a trial court's judgment and SOD "contain both findings of fact and conclusions of law, '[w]e review the trial court's findings of fact to determine whether they are supported by substantial evidence. [Citation.] To the extent the trial court drew conclusions of law based upon its findings of fact, we review those conclusions of law de novo. [Citation.]' (Citation.)" (ASP Properties Group, L.P. v. Fard, Inc. (2005) 133 Cal.App.4th 1257, 1266 (ASP Properties).)
"Under the substantial evidence standard of review, 'we must consider all of the evidence in the light most favorable to the prevailing party, giving it the benefit of every reasonable inference, and resolving conflicts in support of the [findings]. [Citations.] [¶] It is not our task to weigh conflicts and disputes in the evidence; that is the province of the trier of fact. Our authority begins and ends with a determination as to whether, on the entire record, there is any substantial evidence, contradicted or uncontradicted, in support of the judgment. Even in cases where the evidence is undisputed or uncontradicted, if two or more different inferences can reasonably be drawn from the evidence this court is without power to substitute its own inferences or deductions for those of the trier of fact, which must resolve such conflicting inferences in the absence of a rule of law specifying the inference to be drawn. . . . [Citations.]' (Citation.) To be substantial, the evidence must be of ponderable legal significance, reasonable in nature, credible, and of solid value. (Citations.) . . . 'The ultimate test is whether it is reasonable for a trier of fact to make the ruling in question in light of the whole record.' (Citation.)" (ASP Properties, supra, 133 Cal.App.4th at p. 1266.)
On the other hand, "[i]n reviewing a trial court's interpretation of a written instrument where no conflicting extrinsic evidence is received, an appellate court is not bound by the trial court's ruling but must give the writing its own independent interpretation. [Citations.]" (Davies Machinery Co. v. Pine Mountain Club, Inc. (1974) 39 Cal.App.3d 18, 23 (Davies Machinery).) The objective intention of the parties governs such de novo interpretation: "In interpreting a contract, the objective intent, as evidenced by the words of the contract, is controlling. [Citation.] We interpret the intent and scope of the agreement by focusing on the usual and ordinary meaning of the language used and the circumstances under which the agreement was made." (Lloyd's Underwriters v. Craig & Rush, Inc. (1994) 26 Cal.App.4th 1194, 1197-1198; Civ. Code, §§ 1644 & 1647.)
The parties dispute whether the applicable standard here is de novo or substantial evidence review. Bally Fitness asserts that the issues on appeal involve "the trial court's interpretation of a contract" (i.e., the lease agreement), and therefore we should apply a de novo standard of review. Retail Center, on the other hand, asserts that the trial court did not "interpret" the lease, and that because the trial court's SOD resolved disputed factual issues concerning the nature and effect of certain financial transactions involving Bally Fitness and its assets, we should apply a substantial evidence standard of review.
We note that in the SOD, the trial court concluded, among other things, that paragraph 12.2(c) of the lease did not apply under the facts of the case. To reach this conclusion, the trial court clearly engaged in an interpretation of the lease, and accordingly the de novo standard governs our review on that point, to which we turn first. (See Davies Machinery, supra, 39 Cal.App.3d at p. 23.)
B. Applicability of Paragraph 12.2(c)
Bally Fitness contends that the judgment must be reversed because the trial court erred in its interpretation of paragraph 12.2(c). To reiterate, paragraph 12.2(c) provides that: "Notwithstanding the provisions of Paragraphs 12.1(a)-(c) above, Lessee shall have the right, without Lessor's consent, to enter into an assignment or sublease of all or any portion of the Premises with a Lessee Affiliate (defined below) . . . ."
Here, Bally Fitness does not dispute that its net worth has decreased by more than 25 percent since it entered the lease agreement in 1998, or that such decrease in its net worth followed a series of financial transactions entered into by its parent company, Holding Corporation. However, Bally Fitness argues that the decrease in its net worth did not trigger an unauthorized assignment as described in paragraph 12.1(c) of the lease, because paragraph 12.2(c) specifically permits a lessee to enter certain transactions without the consent of the lessor, including, as pertinent here, an assignment to a Lessee Affiliate (its parent company, Holding Corporation).*fn1
Retail Center counters that an assignment of the lease triggered by a reduction in Bally Fitness's net worth, as described in paragraph 12.1(c) is not permitted under paragraph 12.2(c). According to Retail Center, paragraph 12.2(c) permits a lessee only to enter into an assignment of the Premises with a Lessee Affiliate, and does not permit a lessee to enter into an assignment of the lease with a Lessee Affiliate: Thus, Retail Center asserts that an assignment of the lease by the lessee to a Lessee Affiliate is governed by paragraph 12.1(c).
We agree with Bally Fitness and reject Retail Center's interpretation of paragraph 12.2(c). By its plain language, paragraph 12.2(c) permits Bally Fitness to enter either (1) an assignment with a Lessee Affiliate or (2) a sublease of all or any portion of the Premises with a Lessee Affiliate. Therefore, under paragraph 12.2(c) of the lease, Bally Fitness was permitted to enter an assignment with Holding Corporation, its parent company and affiliate. An assignment, as defined under paragraph 12.1(c) of the lease, includes "[t]he involvement of Lessee or its assets in any transaction, or series of transactions (by way of merger, sale, acquisition, financing, transfer, leveraged buy-out, or otherwise) whether or not a formal assignment or hypothecation of this Lease or Lessee's assets occurs, which results or will result in a reduction of the Net Worth of Lessee by an amount greater than 25 percent of such Net Worth. . . . " (Lease Agreement, ¶ 12.1(c).)*fn2
However, our conclusion that the trial court erred on this point does not resolve this appeal. The trial court also found that, even if paragraph12.2(c) did apply, the financial transactions at issue were not confined to Bally Fitness and Bally Holding, its parent company affiliate, and in sum constituted an unauthorized assignment under paragraph 12.1(c).
Accordingly, we turn to the dispositive issue in this appeal--whether substantial evidence supports the trial court's factual determination that the decline in net worth suffered by Bally Fitness is attributable to the involvement of Bally Fitness or its assets in a transaction or series of transactions with a non-affiliate third party, as described under paragraph 12.1(c) of the lease.*fn3
C. The Trial Court's Finding of Breach Was Supported By Substantial Evidence
As part of its case-in-chief at trial, Retail Center called Ronald Siegel, who holds the positions of associate general counsel and assistant vice-president at both Bally Total Fitness and its parent company, Holding Corporation. Siegel testified that Bally Fitness operates health clubs throughout the U.S., one of which is located in the Premises at issue here. The primary assets of Holding Corporation are its subsidiaries, including Bally Fitness. Holding Corporation owns 100 percent of the stock in Bally Fitness.
Siegel acknowledged that for purposes of this litigation, Bally Fitness designated him as the person most knowledgeable regarding its finances, financial records, and net worth. According to Siegel, net worth means assets minus liabilities. Siegel testified that he had not attempted to calculate the net worth of Bally Fitness and that he did not know how to arrive at such a calculation. Siegel acknowledged that Bally Fitness had experienced reductions in net worth of more than 25 percent but also stated that he had not conducted an analysis of what caused that reduction in net worth.
Siegel further testified that Holding Corporation entered into a series of credit facilities to obtain funds for capital improvements and operating expenses. These credit agreements were between Holding Corporation, as Borrower, and several banks and financial institutions as Lenders, with the loan package arranged by financial institutions such as Chase Securities, Inc. and JPMorgan Securities, Inc. acting as agents for the Lenders. Several of these credit agreements, authenticated by Siegel, were introduced as evidence at trial, namely: (1) an amended and restated credit agreement of November 1999 giving Holding Corporation a revolving credit facility of $100 million and a $75 million term loan facility; (2) an amended and restated credit agreement of December 2001 with a revolving credit facility in the aggregate principal amount of $90 million and a term loan facility of $135 million; an amended and restated credit agreement of October 2004 to provide for a five-year senior secured term loan facility in the principal amount of $175 million; and, an amended and restated credit agreement of October 2006 to provide for a four-year senior revolving credit facility in the principal amount of $44 million and a four-year senior term loan facility in the principal amount of $205,900,000.
Siegel also testified that Bally Fitness was a party to a Guarantee and Collateral Agreement (Guarantee) made by Holding Corporation and certain of its subsidiaries in favor of JPMorgan Chase Bank (formerly the Chase Manhattan Bank), as collateral agent, dated November 1997 and as amended and restated in October 2004. The purpose of the Guarantee is to provide collateral for the credit agreements entered into between Holding Corporation and Lenders. Under the Guarantee, Bally Fitness pledged its assets as collateral for obligations undertaken by Holding Corporation under the credit agreements.
Retail Center also presented testimony from its accounting expert, William Chapman, CPA. Based on his review of Bally Fitness's financial documents, including corporate income tax returns for 1998 through 2006, Chapman concluded that the net worth of Bally Fitness declined from 1998 through 2004, and then fell dramatically after 2004. Chapman opined that the precipitous fall in Bally Fitness's net worth after 2004 was "due in large manner" to the amount of loan interest paid by Bally Fitness during the three years ended December 31, 2006. In Chapman's opinion, the assets of Bally Fitness were integral to Holding Corporation's ability to procure the loan agreements because Holding Corporation is "just an umbrella" acting "as the agent for all of the operating subsidiaries," including Bally Fitness. Lenders would look to the assets of Holding Company's subsidiaries in satisfaction of Holding Corporation's obligations under the loan agreements because Holding Corporation's only major asset is its subsidiaries.
Further, Chapman stated that the balance sheet accompanying the 10-Q report filed by Holding Corporation with the Securities and Exchange Commission for the quarter ended on March 31, 2007, reflects that Bally Fitness is a guaranteeing subsidiary on the loan agreements, and that its assets account for more than 50 percent of the assets of Bally Holding. The primary liability of Holding Corporation, as reflected in the 10-Q balance sheet, is long-term debt less current maturities totaling over $800 million. The 10-Q balance sheet reflects a negative asset balance of $617 million. Chapman explained that the negative net worth of Holding Corporation is "directly related" to the decrease in the net worth of subsidiaries because the subsidiaries are the "operating entities." "Net worth" means the excess of assets over liabilities.
Chapman also discussed a chart he prepared which depicted Bally Fitness's net worth based on data drawn from balance sheets submitted with Bally Fitness's corporate income tax returns. This chart shows that Bally Fitness's net worth was around $70 million in 1998, fell to $42 by the end of 2004, plummeted to negative $394 million by the end of 2005, and ultimately settled at negative $578 million by the end of 2006. In Chapman's view, a "a very major portion" of the decrease in net worth during 2005 and 2006 can be attributed to interest payments of almost $110 million and $125 million, respectively, made by Bally Fitness to Holding Corporation or sister subsidiaries in those years.
Another chart prepared by Chapman depicts operating income or loss for Bally Fitness for the period 1999-2006 as shown in its corporate income tax returns. Using this chart, Chapman explained that if interest expense had been excluded from Bally Fitness's operations, then Bally Fitness would have shown a loss in 2005 of $1.5 million instead of the actual loss of $111 million, and a loss in 2006 of about $27 million instead of the actual loss of $152 million. Chapman opined that the major portion of the decrease in Bally Fitness's net worth over the period from 1999-2006 is "attributable to financing, which in turn has created huge amounts of interest expense" that "has converted what would have been some profit into substantial loss." In particular, interest expense alone caused Bally Fitness's net worth to fall by 250 percent between 2004 and 2005, and to fall by 300 percent between 2005 and 2006.
Following this testimony regarding Bally Fitness's net worth, counsel for Retail Center asked Chapman for his opinion regarding the relationship "between the credit transactions . . . that were entered into by . . . Holding Corporation and the decline in net worth of the Fitness company." Chapman replied as follows: "[T]here appears to be a correlation in view of the fact that we have interest rising from $75 million per annum in 2004 to $125 million per annum in 2006. That increase in interest bears some relationship to the increase in liabilities reflected on the balance sheet for Fitness. Clearly the rise in obligations to third parties went from over $400 million to 700 something million, so there's a relationship there. [¶] During that period we had renewals of the credit agreements entered into by Holding and guaranteed by its subsidiaries. There was a renewal of the credit agreement in 2004 and again in 2006. It's reasonable to assume that the renewal of those agreements and additional funds raised as a result tie into the fact that Fitness's obligations increased during that period and of course its interest increased along with those obligations." Chapman stated that these obligations and interest payments are reflected in balance sheets attached to the Bally Fitness's tax returns, and that those balance sheets would have been prepared from trial balances derived from "the general ledger and other records of Fitness," to which Bally Fitness had not provided him access.
This testimony provides substantial evidence to support the trial court's determination that Bally Fitness or its assets were implicated in a transaction or series of transactions with non-Affiliate third parties resulting in a decline in Bally Fitness's net worth of more than 25 percent. The evidence adduced at trial supports the trial court's findings that there was a precipitous drop in Bally Fitness's net worth between 2004 and 2006, due in major part to the interest payments occasioned by the credit agreements entered into between Holding Corporation and Lenders, that funds obtained through these credit agreements were funneled directly to Holding Corporation's subsidiaries, including Bally Fitness, and that the assets of Bally Fitness were tied up in these credit agreements as collateral for the loans.
At oral argument, however, counsel for Bally Fitness argued there was no evidence that its net worth decreased as a result of dealings with non-affiliates because the loan agreements which generated the huge interest payments on Bally Fitness's books were between Holding Corporation (not Bally Fitness) and third party lenders. This argument misses the point. The question is not whether Bally Fitness was a first-party signatory to the loan agreements: Rather, the question is whether Bally Fitness's assets were "involved" in transactions which resulted in a decrease in its net worth of more than 25 percent. Paragraph 12.1(c) imposes a broad restriction on any financial activity by a lessee that could result in a reduction in its net worth. In this regard, it prohibits the "involvement of" a lessee's assets in any transaction "(by way of merger, sale, acquisition, financing, transfer, leveraged buy-out, or otherwise)," which results in a reduction of the lessee's net worth of more than 25 percent. Patently, by pledging its assets on the loan guarantees, Bally Fitness "involved" its assets in the credit agreements between Holding Corporation and third party lenders, which agreements, the evidence showed, resulted in massive interest expenses that caused Bally Fitness's net worth to decline by far in excess of 25 percent.
In sum, there is substantial evidence that these facts constituted an unauthorized assignment as described in paragraph 12.1(c) of the lease.*fn4 Accordingly, the judgment is affirmed.*fn5
The judgment is affirmed. Bally Fitness shall bear costs on appeal.
Pollak, Acting P. J. Siggins, J.