DIRT DEVELOPMENT for January 20, 2009 Daniel B. Bogart Donley and Marjorie Bollinger Chair in Real Estate Law Chapman University School of Law, Orange, California LEASE OPTION TO PURCHASE; TENANT’S SUCCESSIVE ATTEMPT TO EXERCISE OPTION: Tenant may successively attempt to exercise option to purchase office building provided in lease agreement after its initial closing on option purchase fails; landlord held in breach for failing to participate in transaction. Lucia v. Ross ____ SW 3d. ____, 2008 WL 4075798, (Tex. App. September 4, 2008). Luccia leased an office building from Ross for a lease term commencing April 29, 2003 and terminating July 31, 2005. The lease provided Luccia with an option to purchase the property. The entirety of the option terms were contained in an exhibit to the lease agreement. The exhibit set a sale price of $502,000, minus a rent credit of $48,000. The exhibit also required Luccia to provide a $5000 deposit for the purchase transaction. So far so good. However, the option described in the exhibit to the lease also contained the following language: “OPTION TO PURCHASE: Anytime with credit on rents prorated.” Luccia notified Ross that it intended to exercise its option by written notice on September 30, 2004. As a result, the two parties entered into a purchase and sale agreement in December of that year, which specified a closing date of January 31, 2005. The January 2005 closing date would fall well within the term of the lease. The purchase and sale agreement apparently had the usual boilerplate, including a provision making time of the essence and allowing Ross to keep the $5000 deposit as liquidated damages if Luccia failed to close. Luccia failed to close the transaction (for reasons never specified by the court) and Ross kept the $5000 as provided by the contract. Then, after the failed closing, but before the lease term expired, Luccia again informed Ross that Luccia was exercising its option to purchase the office building. Indeed, Luccia seemed to get religion on the second pass: Luccia engaged the services of a mortgage broker and obtained a loan commitment. (The case opinion says only that Luccia “secured approval for a loan” but presumably this means that it procured a written loan commitment.) Luccia informed Ross that it had this financing arrangement in hand. The closing date of the second purchase was set for May 15, 2005. Luccia’s attorney informed Ross formally by letter stating that his client was exercising the option as provided by the lease and that Luccia was “ready willing and able to meet his obligation” to close. Perhaps not surprisingly, given that Ross’s prior experience Luccia, Ross refused to enter into a second purchase contract. Ross claimed it was not required to do so under the lease. Luccia responded that Ross breached the option agreement in the lease by failing to do so. According to Ross, Luccia failed to pay rent for the final two months of the lease term, and the case opinion suggests that Luccia vacated prior to the term (causing some damage to the property in the process). Ross demanded damages, alleging that these constituted a breach of the lease agreement. The trial court granted summary judgment for the landlord. The Texas Court of Appeals reversed and remanded. Most importantly, the court held that Luccia was entitled to a second exercise of the option right, notwithstanding Luccia’s failure in the first transaction. The appellate court determined that Luccia was entitled to specific performance. The central issue is the right of Luccia to a second exercise of its option right after defaulting on the first purchase agreement made in connection with the option. In addressing the issue, the court of appeals looks to basic rules of contractual construction. Most lawyers reading Daily Developments can guess what the court said. It is nevertheless worthwhile reading as a reminder that courts much prefer to work with the paper generated by a transaction than engage in a game of “what the parties probably intended.” The court explains that “if the written instrument is so worded that it can be given a definite or certain legal meaning, then the contract may be construed as a matter of law. … A simple lack of clarity or disagreement between the parties does not render a term ambiguous. Rather, an ambiguity arises only after the application of established rules of construction leaves an agreement susceptible to more than one meaning.” For the court, the issue is whether the language granting Luccia the right to exercise the option “anytime” is ambiguous, thus allowing the court to look beyond the document to other factors – presumably customary practice, evidence of intent, the likelihood that landlord and tenant would have normally allowed a serial right to exercise the an option on a commercial real estate transaction. The court answers the question with a resounding no. The exercise of the option – by giving notice as required by the lease – transforms the option into a purchase and sale contract. Ross argued that the option terminated because the purchase and sale agreement failed. Although correct, the problem for Ross was that the lease creating the option did not limit the number of times an option could be exercised, and the initial purchase and sale contract that failed did not include language stating that the option right died with that contract. The court read the purchase and sale agreement for its “plain meaning” and found only one limitation: the right of Luccia to exercise the option was limited to the lease term. According to the court, the right of Luccia to exercise anytime “with credit for rents prorated” expresses the parties desire to terminate the option right with the term of the lease. It is one thing to say that Luccia, the tenant, had a right to a second bite at the apple. It is another to say that it tendered performance in such a manner as to entitle it to a specific performance remedy from the court. Luccia notified Ross in writing prior to expiration of the term of the lease that it would again attempt to exercise its option – again converting the option into a purchase contract. Does Luccia actually have to have the money in hand at the time it gives its notice? Again, the court answers in the negative. Quoting Williston, the court explains that “the word “tender” as used in connection with such a transaction, does not mean the same thing as when used with reference to the offer to pay money where it is absolutely due, but only a readiness and willingness to perform in case of the concurrent performance by the other party, with the present ability to do so, and notice to the other party of such readiness.” Here, Luccia sent a letter saying it had the loan commitment in hand – this is enough according to the court to satisfy the requirement of tendering performance. Having done so, it is up to Ross to belly up to the bar and perform. Its failure leads to specific performance of the option – now purchase agreement. Reporter’s Comment 1: It is no surprise that an option giving the tenant a right to exercise “anytime” would lead to this result. But this is still an example of failing to limit the other party to a document. The landlord’s attorneys drafted a provision with a hole in it, and the tenant’s lawyer drove a truck through it. Presumably, most DIRT readers have solid option agreements and provisions that set out a list of limitations to the optionee’s right to exercise. The provision is therefore key for what it fails to state. At the least, the option should also have stated that it could not be exercised by the tenant if the lease is or had been in material default; that the option could not be exercised after lease termination in any event; that the option could only be exercised one time; that any exercise of the option could be made no later than a specified number of months prior to termination of the lease; that the option could not be exercised by a assignee of tenant; and so on. Reporter’s Comment 2: The court suggests in dicta that the lease option was limited to the lease term because of its language regarding proration of rents. However, even this limitation on the tenant’s rights could be challenged. The proration language might be interpreted as suggesting that if the option is exercised during the course of the lease, then the price would be prorated for rents. If the option were exercised after the termination of the lease, no proration would be necessary. Still, the court is right that Luccia could not exercise after lease termination is the best answer, and its restatement of rules of contractual construction explains that the court should look at all provisions in the whole to property construe the purposes of the agreement. Reporter’s Comment 3: The general attitude of courts when looking at these types of rights can be summed up this way: language that is not expressly restrictive will be deemed permissive. This is the approach courts take to interpretation of use provisions in commercial leases. Editor’s Comment 1: It’s hard to argue with the court’s logic, but the outcome is a little incongruous. One wonders whether the prior failure to perform would have justified the optionor in requiring greater evidence that performance would occur this time – such as more money in escrow. Important Note: The Luccia case has yet to be officially released for publication, although it appears in electronic databases. It is therefore subject to revision or withdrawal. When ultimately reported, it will appear in S.W.3d. Items reported here and in the ABA publications are for general information purposes only and should not be relied upon in the course of representation or in the forming of decisions in legal matters. The same is true of all commentary provided by contributors to the DIRT list. Accuracy of data and opinions expressed are the sole responsibility of the DIRT editor and are in no sense the publication of the ABA. Parties posting messages to DIRT are posting to a source that is readily accessible by members of the general public, and should take that fact into account in evaluating confidentiality issues. ABOUT DIRT: DIRT is an internet discussion group for serious real estate professionals. Message volume varies, but commonly runs 5 to 15 messages per work day. Daily Developments are posted every work day. To subscribe, send the message subscribe Dirt [your name] to listserv@listserv.umkc.edu To cancel your subscription, send the message signoff DIRT to the address: listserv@listserv.umkc.edu for information on other commands, send the message Help to the listserv address. DIRT has an alternate, more extensive coverage that includes not only commercial and general real estate matters but also focuses specifically upon residential real estate matters. Because real estate brokers generally find this service more valuable, it is named “BrokerDIRT.” But residential specialist attorneys, title insurers, lenders and others interested in the residential market will want to subscribe to this alternative list. If you subscribe to BrokerDIRT, it is not necessary also to subscribe to DIRT, as BrokerDIRT carries all DIRT traffic in addition to the residential discussions. To subscribe to BrokerDIRT, send the message subscribe BrokerDIRT [your name] to listserv@listserv.umkc.edu To cancel your subscription to BrokerDIRT, send the message signoff BrokerDIRT to the address: listserv@listserv.umkc.edu DIRT is a service of the American Bar Association Section on Real Property, Probate & Trust Law and the University of Missouri, Kansas City, School of Law. Daily Developments are copyrighted by Patrick A. Randolph, Jr., Professor of Law, UMKC School of Law, but Professor Randolph grants permission for copying or distribution of Daily Developments for educational purposes, including professional continuing education, provided that no charge is imposed for such distribution and that appropriate credit is given to Professor Randolph, any substitute reporters, DIRT, and its sponsors. DIRT has a WebPage at: https://test.exchange.umkc.edu/exchweb/bin/redir.asp?URL=http://cctr.umkc.edu/dept/dirt/