The Supreme Court, in Gotesco Properties, Incorporated vs. Victor C. Cua, invalidated an escalation clause in a lease agreement that allowed Gotesco to unilaterally increase common area and aircon dues (CAAD). The Court emphasized that contract modifications, especially regarding interest rates, require mutual consent. This ruling protects lessees from arbitrary rate hikes and reaffirms the principle of mutuality of contracts, ensuring fairness and preventing one-sided agreements where one party has excessive control. This decision highlights the importance of balanced contractual terms and the need for transparency and mutual agreement in financial obligations within lease arrangements.

Fair Play or One-Sided Deal: When Can a Lessor Dictate Rent Increases?

In 1994, Victor C. Cua leased commercial spaces from Gotesco Properties, Inc. at Ever-Gotesco Commonwealth Center for his jewelry and amusement businesses. The leases, prepaid for 20 years, included a clause requiring Cua to pay CAAD, covering common areas and centralized services. This case revolves around the validity of an escalation clause that allowed Gotesco to adjust these CAAD fees, specifically whether Gotesco had the right to unilaterally increase these charges without Cua’s explicit agreement.

The contracts contained a stipulation regarding the payment of CAAD:

17. Common Area Dues and Other Charges – Unless otherwise arranged with the LESSOR, the LESSEE shall pay monthly common area dues equivalent to Two Pesos (P2.00) per square meter per day and aircon dues of Two and 25/100 Pesos (P2.25) per square meter per day or the gross amount of Four and 25/100 [Pesos] (P4.25) per square meter [per day] on or before the 5th day of each month, without the necessity of demand from the LESSO[R]. Any interruption or disturbance of the possession of the LESSE[E] due to fortuitous events shall not be a cause for non-payment of the common area dues.

The aforementioned common area and aircon dues shall bear an annual escalation, compounded, at eighteen [percent] (18%) effective calendar year 1995 or at a rate to be determined by [the] LESSOR if said dues shall not be sufficient to meet inflation, Peso[ ]devaluation, and other escalation in utility and maintenance costs at any point in time.

From 1997 to 2003, Gotesco imposed escalation costs on the CAAD, totaling P2,269,735.64. Cua contested these increases, arguing they were unfair and lacked a factual basis. Gotesco, however, insisted on the validity of the escalation clause, leading Cua to file a complaint for injunctive relief and restitution.

The Regional Trial Court (RTC) ruled in favor of Cua, invalidating the escalation clause for violating the principle of mutuality of contracts. The RTC explained that Gotesco’s unrestrained right to unilaterally adjust the CAAD escalation costs deprived Cua of the right to assent to an important modification in their contract. The Court of Appeals (CA) partly granted Gotesco’s appeal, interpreting the escalation clause as having two scenarios: an 18% interest rate in the absence of inflation and a rate determined by Gotesco in case of inflation. The CA deemed the latter scenario invalid for violating mutuality but affirmed the RTC’s order to return the collected amount, subject to re-computation.

The Supreme Court addressed whether the CAAD escalation clause was valid and whether Cua was entitled to attorney’s fees. The Court underscored the principle of mutuality of contracts, which stipulates that a contract binds both parties and its validity or compliance cannot depend on the will of only one party. Modifications to a contract, especially concerning interest rates or financial obligations, must be mutually agreed upon to be binding.

The second paragraph of Clause 17 of the lease contracts was at the heart of the issue:

The aforementioned common area and aircon dues shall bear an annual escalation, compounded, at eighteen [percent] (18%) effective calendar year 1995 or at a rate to be determined by [the] LESSOR if said dues shall not be sufficient to meet inflation, Peso[ ]devaluation, and other escalation in utility and maintenance costs at any point in time.

The Supreme Court found that this clause granted Gotesco the unilateral right to determine the interest rate, violating the principle of mutuality of contracts. An escalation clause allows for an increase in interest rates, but it must not grant one party an unbridled right to adjust the interest independently and upwardly, depriving the other party of the right to assent. Here, Gotesco could impose an 18% interest rate or any rate it determined, making the clause wholly potestative and solely dependent on Gotesco’s will.

The Court also noted that the CA erred in its interpretation of the clause. The phrase implied that if the CAAD was insufficient to meet economic challenges, Gotesco could impose an interest rate it desired, which could range from 18% or another rate. The Supreme Court emphasized that the imposition of varying interest rates, without Cua’s consent, resulted in a modification of the contract that required mutual agreement. The absence of a clear standard or ceiling on the interest rate, coupled with the fact that the CAAD even exceeded the monthly rent, highlighted the unfairness of the clause.

In justifying the escalation, Gotesco cited the Asian currency crisis and increased utility rates, but it failed to provide concrete evidence to support these claims. The Court cited Citibank, v. Sabeniano, emphasizing that it cannot simply take judicial notice of the Asian currency crisis and automatically declare extraordinary inflation. The burden of proving such extraordinary conditions rests on the party alleging it and must be supported by competent evidence.

Montano S. Tejam, Gotesco’s Mall Operations Head, admitted that he had no specific knowledge of the value of the increases and simply computed the 18% escalation based on the economic situation. Moreover, he acknowledged that certain expenses, such as security and administrative salaries, were not included in Clause 17 but were used as grounds for the escalation. This demonstrated Gotesco’s unbridled and baseless manner of determining and imposing CAAD escalation costs.

Because of the invalid CAAD escalation clause, the Court ordered Gotesco to return P2,269,735.64 to Cua, with interest at 6% per annum from the finality of the ruling. The CAAD dues from 1997 onward were to be re-computed based on the initial rate of P4.25 per square meter per day, as stated in the first paragraph of Clause 17.

The Supreme Court determined that Cua was entitled to attorney’s fees under Article 2208 of the Civil Code, which allows such awards when a party is compelled to litigate to protect their interests due to another party’s unjustified act or omission. The RTC initially awarded attorney’s fees considering the length of the litigation, the remedies sought, and the discovery availed. The Supreme Court acknowledged the protracted nature of the case, including numerous proceedings and the hiring of two counsels by Cua. Additionally, Gotesco insisted on an escalation clause that was found to be void for violating the principle of mutuality, further justifying the award of attorney’s fees, though the amount was reduced to P100,000.00.

FAQs

What was the key issue in this case?	The key issue was whether the escalation clause in the lease agreements, allowing Gotesco to unilaterally increase CAAD, was valid under the principle of mutuality of contracts.
What is the principle of mutuality of contracts?	The principle of mutuality of contracts means that a contract is binding on both parties, and its validity or compliance cannot depend on the will of only one party. Any modification must be mutually agreed upon.
Why did the Supreme Court invalidate the escalation clause?	The Court invalidated the clause because it granted Gotesco an unbridled right to determine and impose interest rates without Cua’s consent, violating the principle of mutuality.
What evidence did Gotesco present to justify the CAAD increases?	Gotesco cited the Asian currency crisis and increased utility rates but failed to provide concrete evidence linking these factors directly to the CAAD escalation, relying instead on a general economic situation.
What did the Court order Gotesco to do?	The Court ordered Gotesco to return P2,269,735.64 to Cua, with interest, and to re-compute the CAAD dues based on the initial rate of P4.25 per square meter per day.
Was Cua awarded attorney’s fees?	Yes, Cua was awarded attorney’s fees of P100,000.00, considering the protracted nature of the case, the remedies sought, and Gotesco’s insistence on a void escalation clause.
What is an escalation clause in a contract?	An escalation clause is a provision that allows for an adjustment in prices or rates based on certain conditions, such as inflation, but it must not grant one party unilateral and unchecked power to make adjustments.
How does this ruling protect lessees?	This ruling protects lessees by preventing lessors from unilaterally increasing fees or charges without mutual agreement, ensuring that contractual terms are fair and balanced.

In conclusion, this case underscores the importance of mutual consent and fairness in contractual agreements, particularly regarding financial obligations in lease contracts. The ruling serves as a reminder that contractual terms must be balanced and transparent, preventing one party from exerting undue influence over the other.

For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: Gotesco Properties, Incorporated vs. Victor C. Cua, G.R. No. 228513 and G.R. No. 228552, February 15, 2023