Contracts may hold up, even if signer had no authority to bind

In Western Surety Co. v. La Cumbre Office Partners, LLC, 8 Cal. App. 5th 125 (Cal. Ct. App. 2d Dist., Feb. 2, 2017), a limited liability company was subjected to claims for $6.07 million under an indemnity agreement even though the agreement was signed by an individual with no authority to bind the LLC and the agreement bore no relationship to the LLC's business. The court determined that third parties benefit from a statutory safe harbor whereby an agreement is binding on an LLC even if the "manager" signing has no authority to sign, as long as the third party does not have actual knowledge of the manager's lack of authority. Further, the court stated that third parties have no duty to conduct due diligence to ensure a signer is in fact an authorized signer.

Background

La Cumbre Office Partners, LLC (the LLC), was managed by Melchiori Investment Companies, LLC (the sole manager). Mark Melchiori was the managing member of the sole manager and the president of a separate corporation named Melchiori Construction Company, Inc.

The purpose of the LLC was to hold and operate a single medical office building. The purpose of Melchiori Construction was to engage in the construction business. Melchiori signed an indemnity agreement covering Melchiori Construction's projects. Even though the LLC received no benefit from, and had no relation to, the bonds underlying the agreement, the agreement included a signature block for the LLC to sign as an indemnitor. Melchiori signed the agreement in his individual capacity as the "managing member" of the LLC. Melchiori had no authority to sign the agreement and the agreement was not approved by any of the members of the LLC or by the sole manager.

The underwriter for the surety that prepared the agreement did not undertake any due diligence to determine whether or not Melchiori was authorized to sign the agreement on behalf of the LLC. Melchiori testified that when he signed the agreement he did not notice that he was signing on behalf of the LLC as its managing member, or that the LLC was listed as an indemnitor. He also testified he had no idea why the LLC was named as an indemnitor.

Melchiori Construction defaulted on the contracts and the surety paid claims guaranteed under the bonds totaling $6.07 million. When the LLC refused to reimburse the surety for any of its losses or expenses, the surety filed a claim against the LLC.

Court's Findings

The court found that the LLC was bound by Melchiori's signature on the agreement. The court based its decision on a statutory safe harbor whereby a written contract signed by an LLC's manager (when the LLC is managed by only one manager) is not invalidated by the manager's lack of authority in the absence of actual knowledge of the other person signing that the manager did not have authority. See Calif. Corps. Code Section 17157(d) (and identical language in Calif. Revised Uniform Limited Liability Company Act Section 17703.01(d)).

The court noted that the LLC did not claim that the surety had actual knowledge that Melchiori lacked authority to sign on behalf of the LLC. Thus, pursuant to the statutory rule, the LLC would be bound by the agreement if it was found to have been signed by the LLC's manager.

The LLC argued that the LLC's manager did not sign the agreement because the LLC's manager was the sole manager, not Melchiori. The court compared a similar statutory rule applying to corporations. A prior case interpreting that rule held that corporate officers who sign on behalf of a corporation are not required to specify the office or offices they hold with their signature for the statute to apply, provided the signer is the person he or she is statutorily required to be (e.g., a president and chief financial officer or secretary). In light of that case, the court found that had Melchiori signed his name without any official position, the LLC would have been bound by the agreement. Thus, the fact that the agreement mistakenly designated Melchiori as the managing member was a distinction without a difference. The actual manager of the LLC was a legal entity and therefore could sign the agreement only through the signature of a natural person. The natural person authorized to sign on the sole manager's behalf was its managing member, Melchiori, and Melchiori did sign the agreement. Therefore, the LLC was bound by the agreement despite the mistaken identification of Melchiori individually as its sole manager.

Lastly, the court found that whether a third party exercises due diligence to ensure a signer is in fact an authorized signer is irrelevant. The statutory rule does not require due diligence by third parties.

The Right Result?

This case appears to support the ability of a person (any person) to sign an agreement as the manager of a limited liability company (any limited liability company), causing the limited liability company to be legally bound in contract. This doesn't seem like the right result.

The court's decision did not address two defenses the LLC might have made in this case: Without the LLC receiving any value or benefit by entering into the indemnity agreement, there wasn't any legal consideration supporting the contract as between the surety company and the LLC. Without consideration, there is no binding contract. Further, because Melchiori testified he didn't notice he was signing on behalf of the LLC, an argument based on the defense of mistake also might have avoided this result. Because the court did not discuss these defenses, it appears they were not raised by the LLC in the litigation. Perhaps the court would have come to a different result had these defenses been asserted by the LLC.

On May 10, the California Supreme Court denied a petition for review filed by the LLC. Thus, the court's decision stands and presents a risk for limited liability companies.