Two Lease Guarantees Gone Awry

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We wanted to a “hit and run” this week based on what we think is a peculiar and wrong court decision about language in a personal guaranty. Then, we came across a second court decision concerning a guaranty, though with no other connection to the “peculiar” one. Given that electrons are plentiful and essentially free, we’ve chosen to tell readers about the later-discovered one first.

The story begins with a 15-year lease that was assigned by the named tenant to a successor only five months after the lease terms started. In connection with that assignment, a guaranty was given to the landlord, one in which the guarantor guaranteed:

[T]he payment and performance by the [a]ssignee of all its obligations under the [l]ease and all of the obligations of the [t]enant as defined under the [l]ease effective as of the date hereof.

The awkwardness of that text is immaterial to what then happened. About 2-1/2 years later, the lease was further assigned. In connection with this second assignment, the guarantor, in a writing dated about a month later, “confirmed that its guarantee would remain in effect despite [this] assignment….” Then, about eight years after that, the shares of the then tenant were acquired by yet another “tenant,” actually the same one, but with a new shareholder. The parent company of the new shareholder guaranteed the tenant’s lease obligations, the landlord waived its right to cancel the lease by reason of the shareholder change, and, importantly, the landlord received another letter from the original, lease-signing tenant. That letter confirmed the ongoing validity of the original guaranty, using the following language:

[N]either the [a]cquistion nor the [c]ancellation [w]aiver shall in any way limit the [guarantor’s] obligations under the existing guarant[ee] made by [the guarantor] in favor of [the landlord].

Critically, at the time this latest change took place, the then-tenant exercised its option to extend the lease’s term by five years. During that extension period, the tenant stopped paying rent and was evicted. The landlord then sought to enforce the guaranty. The guarantor denied liability based on the default happening during the extension period and not during the initial 15-year lease term. The original guaranty did not say that it covered renewals, extensions, etc.

The landlord did not argue that guarantying the lease as it existed on the date of the first assignment meant accepting liability, as a guarantor, for whatever the lease provided, including its possible extension. Likely, that’s because the state’s case law was contrary to such a conclusion. Instead, it argued that the two confirmations or ratifications, especially the second one (given in connection with a transaction that included the option exercise), constituted an extension of the guaranty’s coverage into the extension term.

The court rejected the landlord’s argument. In doing so, it pointed out that:

[Guarantees] are . . . distinct and essentially different contracts; they are between different parties, they may be executed at different times and by separate instruments, and the nature of the promises and the liability of the promisors differ substantially . . . . The contract of the guarantor is his own separate undertaking in which the principal does not join.

A plain reading of the two confirmations of the continuing validity of the original guaranty did nothing more than confirm that the guarantor would abide by the terms of the guarantee as written. They were not amendments of the original guaranty, ones that would extend liability into an extension term. The landlord may or may not have thought the guarantor’s letters did that, but they did not.

Most lease guarantees expressly cover extensions and renewals. If they don’t they should. They should also cover holdover periods. The converse isn’t often true. Perhaps, they should say that these periods aren’t covered if that is the case.

[Those wanting to read the somewhat confusingly written June 2019 court decision covering the story above, can do so by clicking: HERE]

On August 20, 2019, a California Court of Appeals issued its decision about whether a particular lease guaranty’s monetary cap on the guarantor’s liability was (or was not) inclusive of attorney’s fees. In this case, the tenant stopped paying rent and when it and its guarantor were sued for the unpaid rent, the tenant claimed an offset for overbilled common area maintenance (CAM) charges. Ruminations would have been keenly interested in the underlying CAM dispute, but the tenant (through its lawyers) seems not to have provided very much (if any) factual support for its claim. One thing this defense did do was to boost the attorneys’ fees paid by the landlord.

The guaranty had the following two relevant clauses:

If Landlord is required to enforce Guarantor’s obligations by legal proceedings, Guarantor shall pay to Landlord all costs incurred, including, without limitation, reasonable attorney’s fees.

and

The Guaranty shall be limited to an amount equal to six months’ charges due under the Lease.

As is too common in lease guarantees where the guarantor negotiates for a cap on its monetary liability, the limitation language is just tacked on (slipped into) the guaranty document. Ruminations suspects that this happened here. Let that be a warning.

Here, the guarantor acknowledged its liability for attorney’s fees, but as readers all “know,” it also asserted that those fees were to be included under the six-months’ of rent “cap.” Of course, the landlord thought otherwise (and could have saved a lot of angst by settling that question within the guaranty’s text). So, what did the court decide? It held that the attorneys’ fees were “outside” the cap. We’re not particularly disturbed by that outcome. We think the parties understood that the “cap” shouldn’t be eaten up by attorneys’ fees needed to enforce the lease or guaranty. We, however, are disturbed by how it got to that conclusion.

To resolve this dispute, the court needed to interpret the guaranty, essential to divine what the parties meant to happen with the attorneys’ fees. To do that, it followed a pretty standard approach, expressed by it as follows:

The first question to be decided is whether the language is “reasonably susceptible” to the interpretation urged by the party. If it is not, that ends the matter. However, if there are colorable arguments, the court moves to the second question: What did the parties intend the language to mean?

That’s all fine and dandy, but here’s where Ruminations thinks the court got lost:

We need not entertain the second question as guarantors’ interpretation of the attorney’s fees clause is unreasonable. Ordinarily, the objective intent of the contracting parties is to be determined solely by reference to the contract’s terms “if the language is clear and explicit, and does not involve absurdity.” Courts must also endeavor to give effect to every part of a contract, “if reasonably practicable, each clause helping to interpret the other.”

The clear and explicit language of the guaranty is that the limitation of liability does not take into account attorney’s fees.

Just how did the court conclude that the guaranty’s language was “clear and explicit”? According to it:

The guaranty states, “[g]uarantor shall pay to Landlord all costs incurred, including, without limitation, reasonable attorneys’ fees.” (Emphasis added.) The guaranty would not explicitly include a provision to cover all attorney’s fees without limitation if the intention was to subject attorney’s fees to some limitation. Instead, the guaranty would have at least omitted “without limitation,” or stated something to the effect that “attorney’s fees are included in the six month’s limitation on charges.”

WOW! How many readers would have thought that “without limitation” meant that the guarantor would pay unlimited (reasonable) attorneys’ fees rather than meaning that the costs to be covered included at least the landlord’s attorneys’ fees? Imagine was such an interpretation would do to the ubiquitous use of the words, “without limitation.”

Do we need to say any more about this beyond suggesting that guarantees with a liability “cap” make clear whether any items are inside or outside the “cap”? We don’t think so.

Those desirous of reading the court’s decision can do so by clicking: HERE]

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Comments

  1. Mordecai Bobrowsky says:

    It’s bad enough that the second case is a Court of Appeal decision, but even worse than the judge’s decision is the fact that he/she got two other judges to concur with this banana reasoning. Proving that judges are just people, too.

  2. Ira – I beg to disagree with a statement of yours: “Most lease guarantees expressly cover extensions and renewals. If they don’t they should.” The guaranty is a credit enhancement that gives LL assurance that the benefit of the lease is obtained if the Tenant fails, thus mitigating LL’s TI and vacancy risk. That said, renewals are bonus time usually with little or no TI allowance or re-tenanting costs. Since LL didn’t depend on bonus time amortize TI’s or otherwise approve this lease b/c of course tenant could decide not to renew (no cost to guarantor). Therefore, in the normal course its my opinion that guarantys and other credit enhancements should not apply in renewal/bonus periods.

  3. And yes Ira, the California decision on the guaranty is indefensible in law or common sense. If “The Guaranty shall be limited to an amount equal to six months’ charges due under the Lease.” If the GUARANTY is so limited, then how can the attorney’s fees not be limited? Only if the Guaranty consists of 2 entirely separate obligations: the basic guaranty obligation and some standalone attorneys’ fees obligation that somehow is independent of the Guaranty in which it is created and by which it exists. I have been involved in Guarantys where the LL specifically insisted that attorneys’ fees be outside the cap in order to discourage wasteful litigation. I am sympathetic to that approach, but it does not appear that this Guaranty took that approach. My confidence in CA judges wisdom and even their ability to understand business transaction takes yet another hit here.

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