What Makes A Lease "Enforceable" - What You Need to Know

by Sheppard Mullin Richter & Hampton LLP

Leases are often not given the same attention as other types of contracts with respect to issues of corporate authority and enforceability. Proof of authority is often an issue in the context of leases and related documents. What you need to know.

Who Must Sign?

The question of who must sign a lease in order for it to be enforceable is a question of state law and the terms of the tenant entity’s governing documents.

The basic rules are as follows:

  • A corporation’s bylaws, a limited liability company’s operating agreement and a partnership’s partnership agreement will typically state the identity and number of the officers that are duly authorized to execute different types of documents for such entity. In such event, the tenant may provide landlord with a copy of the governing document.
  • A resolution or unanimous written consent duly adopted by the a tenant entity’s board of directors may also specifically authorize one or more individual officers to bind the tenant entity to lease documents. In this event, the tenant may provide landlord with a copy of the duly authorized resolution, often accompanied by a secretary’s certificate that the resolution was duly adopted or the consent authorized in accordance with the entity’s governing documents. A secretary’s certificate may also certify the terms of minutes and a proper vote authorizing a specific officer or officers to bind the entity.

Often a tenant will advise the landlord that one officer is authorized to bind the entity to the lease. But, unless such tenant entity can provide proof that one officer or representative is in fact authorized by proper action, a landlord is at risk of a claim that the lease was not duly authorized and is therefore not binding.

California Corporations Code Section 313 states that a document executed by (1) the chairman of the board, the president or any vice president (the “operational” officers) and (2) the secretary, any assistant secretary, the chief financial officer or any assistant treasurer (the “financial” officers), is not invalidated for lack of authority of the signing officers unless the other party is aware that the signing officers did not actually have proper authority. This statute provides for a “presumption of authority” when two officers sign the document at issue. The California case Snukal v. Flightways Manufacturing, Inc. (2000) 23 Cal 4th 754 confirms this presumption of authority when two officers sign.

It is important to note that the lack of two signatures does not render a lease or other document unenforceable; it just means that there is no “safe harbor” for the determination of authority, and independent evidence of authority needs to be provided to avoid the risk of a future dispute regarding the validity of the agreement at issue. If a dispute or other challenge does arise in the future, a tenant entity may still be found to have entered into a valid lease through alternate actions. For example, partial performance of the contractual obligations, acceptance of the benefits of the contract or subsequent ratification of the contract are all factors that would be analyzed to determine if a lease is valid.

Our advice to landlords is to consider the issue of proper tenant authority as a matter of course for every lease document. If two authorized officers do not sign, alternate proof of proper authority should be provided.

Is a Tenant Entity’s “Good Standing” Important?

It is also important to confirm that the tenant entity is in good standing in the state where it was formed and is in good standing and qualified to do business in the state in which the premises are located.

The secretary of state for most states maintains a user friendly website with a business entity search function that enables one to confirm the standing of corporations and limited liability companies. This database typically covers all entities formed in that state, as well as entities formed in other states and registered to do business in that state. An entity identified as being “active” has filed the necessary documents and paid the necessary fees on a current basis to maintain its corporate or limited liability company existence. If an entity is identified as “suspended” or “forfeited”, further investigation is obviously warranted.

A California corporation is “suspended” when it fails to make a required filing or payment, after receiving a notice threatening suspension. A foreign corporation doing business in California is “forfeited” when it fails to make a required filing or payment to the Franchise Tax Board (“FTB”) after notification of a delinquency. When a corporation is “suspended” or “forfeited” it lacks the powers, rights and privileges granted to a corporate entity, which includes the authority to enter into a lease. During the time when a corporation is “suspended” or “forfeited” the entity also lacks the legal authority to do business, enforce contracts and/or file or answer a lawsuit.

An entity with “forfeited” or “suspended” status should be required to “revive” its status before finalizing the lease. A “revival” may be accomplished by application to “revive” the corporation with the California Secretary of State and the FTB and it usually takes a few weeks for the entity to regain “active” status.

It should be noted that a lease is not invalid if the tenant entity was not “active” when the lease was signed. In such event, the lease is merely voidable by any party to the lease other than the “suspended” or “forfeited” corporation. Under no circumstances may the “suspended” or “forfeited” entity use its status to void an unfavorable contract or excuse its performance of its obligations.

Even though a tenant entity’s status as “suspended” or “forfeited” does not allow the tenant to invalidate or reject its lease, it is still an important consideration for a landlord. A corporation or limited liability company’s good standing, or lack thereof, is an important indicator of the entity’s financial capacity and overall administrative competency. If an entity has failed to pay required fees and/or file the necessary paperwork to maintain its “active” status, the entity may also fail to perform and pay its lease obligations or otherwise engage in good business practices. In addition, an entity that lacks good standing does not have the capacity to respond to a lawsuit. Although entities are often allowed to “revive” their status in order to respond to a lawsuit, a lack of status may result in delays in obtaining possession in an unlawful detainer proceeding following a tenant default.

Accordingly, we recommend confirming a tenant entity’s good standing and proper qualification as a “best practice” for landlords. Many landlords are willing to rely upon the information on a secretary of state website, but it should be noted that website searches do not constitute binding evidence of qualification. In order to obtain binding proof of good standing, a Secretary of State Certificate must be issued. Certificates can be ordered through each secretary of state for a minimal fee and many “lease closing checklists” do require tenants to obtain and deliver these certificates to a prospective landlord.

Use of a “lease closing checklist” is a good way for a landlord to confirm that all lease documents are properly signed and authorized. A closing checklist will typically include:

  • A listing of all lease documents that need to be signed (lease, guaranty, SNDA, environmental questionnaire, etc.) including the parties that need to sign such documents, the documents that need to be notarized and confirmation of the number of originals required.
  • A listing of all exhibits that need to be initialed by the parties.
  • Instructions for delivery of any prepaid rent, security deposit or letter of credit required for lease security.
  • A schedule of the items needed to confirm proper authority of the tenant (whether an individual, trust, limited liability company, partnership, corporation or other entity) to execute and deliver the lease documents.
  • Depending upon landlord policies and procedures, a checklist may also provide for confirmation that a litigation search, credit check and/or a search of the United States Treasury Department’s Office of Foreign Asset Control (OFAC) database has been completed.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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