Earle v. Southern Partners

IN THE
ARIZONA COURT OF APPEALS
DIVISION ONE
EARLE INVESTMENTS, LLC, an
Arizona limited liability,
Plaintiff/Counterdefendant/Appellee,
v.
SOUTHERN DESERT MEDICAL CENTER
PARTNERS, an Arizona general partnership,
Defendant/Counterclaimant/Appellant.
No. 1 CA-CV 15-0507
FILED 4-13-2017
Appeal from the Superior Court in Maricopa County
No. CV2013-015653
The Honorable David O. Cunanan, Judge
AFFIRMED IN PART, REVERSED AND REMANDED IN PART
COUNSEL
Combs Law Group, PC, Phoenix
By Christopher A. Combs, Alexandra E. Fugate
Counsel for Plaintiff/Counterdefendant/Appellee
Dickinson Wright, PLLC, Phoenix
By Michael R. Scheurich, Maggie E. Wood
Counsel for Defendant/Counterclaimant/Appellant
EARLE v. SOUTHERN PARTNERS
Opinion of the Court
OPINION
Presiding Judge Diane M. Johnsen delivered the opinion of the Court, in
which Judge Jon W. Thompson and Chief Judge Michael J. Brown joined.
J O H N S E N, Judge:
¶1 We address in this case the effect of broadly written
subordination agreements a landowner executed in support of deeds of
trust that secured loans made to the owner of some commercial
condominium units situated on the owner's land. We conclude the
subordination agreements functioned as conveyances of the landowner's
interest in the encumbered property, and vacate and remand the superior
court's judgment to the extent it is inconsistent with that conclusion.
FACTS AND PROCEDURAL BACKGROUND
¶2 In January 1974, Duane P. Alleman, on behalf of Du Paul Ltd.
("Du Paul"), conveyed by warranty deed a fee-simple interest in land
located in Tempe to Arizona Title Insurance and Trust Company ("Arizona
Title"). In 1976, Arizona Title then leased a portion of the land to Duane P.
Alleman, acting on behalf of Southern Desert Medical Center, Inc., "Phase
II" ("SDMC Inc.").
¶3 The 50-year lease stated that SDMC Inc. could use the land
"only for the purpose of operating and maintaining offices for medical and
dental and related services." SDMC Inc. was to pay all taxes and
assessments and rent of $1,250 per month. Additionally, the lease provided
it was "UNDERSTOOD AND AGREED that the lease-hold interest of the
Lessee may be enrolled in a Horizontal property Regime" pursuant to
Arizona Revised Statutes ("A.R.S.") section 33-551 (1976). The lease
specified that SDMC Inc. could convey "Units" of its leasehold estate under
such a horizontal property regime. Each such conveyance would include a
proportionate interest in the "Common Areas" of the horizontal property
regime. The lease provided that Unit owners would be responsible for their
respective shares of rent, taxes and assessments due under the lease. The
lease further set out remedies available to Arizona Title as lessor in the
event of a breach by a Unit owner. Among other things, Arizona Title could
"terminate this Lease as to that portion of the premises on which the
leasehold estate is owned by such [Unit owner]."
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
¶4 The lease also addressed respective rights and obligations
with respect to security interests. First, SDMC Inc. agreed that its leasehold
interest would be subordinate to any mortgage or deed of trust placed on
Arizona Title's interest in the property, with the proviso that the lease
would remain in full force and effect notwithstanding any default. The
lease also addressed the possibility that an owner of a Unit might want to
post its interest as security for a loan:
Lessor may, in its sole discretion, but it shall not be obligated
to, subordinate its interest in portions of the real estate to the
lien of a mortgage or Deed of Trust granted of [sic] the grantee
of the leasehold estate in one or more Units under a
Declaration of Horizontal Property Regime. In such event,
however, the subordination shall be only as to the property
upon which the leasehold estate is owned by such grantee,
and appurtenant interest in the Common Areas.
¶5 On the same day it entered into the lease with Arizona Title,
SDMC Inc. established a horizontal property regime on the parcel. The
Declaration that established the regime recited that Arizona Title was the
owner of fee-simple title to the land and that, pursuant to its lease, SDMC
Inc. was "the owner of the leasehold estate in and to the aforedescribed
property, subject to the provisions of said Lease." The Declaration further
recited that SDMC Inc. was constructing on the parcel a professional
building project that was to be known as Southern Desert Medical Center,
Phase II, which "shall be held, sold and conveyed" subject to the
Declaration. The regime was to last until the 50-year lease from Arizona
Title expired.
¶6 As provided in the Declaration, SDMC Inc. was to divide the
project into "Units and "Common Elements." The Declaration defined
"Unit" to mean "a separate leasehold estate, consisting of the space bounded
by and contained within the perimeter walls, floors, ceilings and windows
of each Unit." The Declaration specified that "Common Elements" and
"Common Area" were "synonymous," and meant "each multi-office
structure, except for the Units, the earth upon which the structure is located
and the air space above, the interior surface of the ceiling of the structure,"
and, inter alia, all bearing walls, roofs, ceilings, floors, foundations, storage
spaces, patios, lobbies, carports, parking spaces, pipes, wires. Further,
ownership of a "condominium" within the meaning of the Declaration
would include "the leasehold interest in a Unit," along with an undivided
interest in the Common Areas. Finally, the Declaration specified that each
condominium was "a separate parcel of real property which may be
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
conveyed, transferred and encumbered in the same manner as any other
parcel of real property, independently of all other parts of the property,
subject only to the provisions of this Declaration and the underlying
Lease."1
¶7 On June 28, 1977, Duane P. Alleman, acting on behalf of
SDMC Inc., conveyed to Duane P. Alleman, in his personal capacity, two
suites of condominiums under the regime, designated as numbers 1
through 34 of Building "G" and numbers 40 through 59 of Building "I." The
warranty deed described the real property to be conveyed as the Units,
"TOGETHER with an undivided . . . interest in and to the Leasehold Estate
in and to the subject Real Property, and TOGETHER with [an undivided]
interest in the common areas," all as set forth in the Declaration. Two days
later, to secure financing for tenant improvements, Alleman granted a
lender a security interest in each of the two suites through identical deeds
of trust. The same day, Arizona Title, as owner/lessor, and SDMC Inc., as
lessee, executed two identical Subordination Agreements. The particulars
of the Subordination Agreements are set out infra ¶¶ 15, 23, 25, 29.
¶8 Two years later, Arizona Title conveyed to Du Paul by special
warranty deed its fee-simple title in and to the land that was subject to the
lease between Arizona Title and SDMC Inc. On the same day, Du Paul
conveyed the same interest to Southern Desert Medical Center Partners
("Partners") by warranty deed. At that point, therefore, Partners became
the owner/lessor of the parcel of land, subject to whatever rights, benefits
or obligations were imposed or granted by the Subordination Agreements.
¶9 In July 1997, the lender foreclosed on the deeds of trust
securing construction of Alleman's two suites of Units. The condominiums
were sold at a trustee's sale, and later conveyed to a second entity, which,
1 Consistent with the Declaration, ownership of a condominium
generally means ownership of a horizontal layer of cubic content space,
subject to the owner's exclusive control, together with a fractional interest
held in common with other unit owners in the common elements. Makeever
v. Lyle, 125 Ariz. 384, 386 (App. 1980), citing former A.R.S. § 33-553(3). The
common elements include "the land, the foundations, floors, the exterior
walls of each [unit], ceilings and roofs, and in general all that portion of the
property other than that which is subject to the exclusive ownership and
control of an individual [unit] owner." 125 Ariz. at 386, citing former § 33-
551(6).
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
on November 7, 2001, conveyed the Units by warranty deed to appellee,
Earle Investments, LLC ("Earle").
¶10 Even though it was an owner of Units ostensibly subject to the
Lease, Earle paid no rent to Partners, the owner/lessor, until 2012, when it
agreed to pay six years' back rent of $35,481.07 for Units 1 through 34 of
Building "G" and $20,871.21 for Units 40 through 59 of Building "I."
Thereafter, Earle made rent payments for several months, then stopped,
asserting that, under the Subordination Agreements and as a result of the
foreclosure sales in July 1997, it held a fee simple interest in the land
occupied by the Units. It argued that when the lender foreclosed, the
owner/lessor's fee-simple interest in the land on which the Units were
situated was extinguished.
¶11 In November 2013, Earle filed a complaint against Partners,
asking the court, among other things, to quiet title in favor of Earle. In due
course, the superior court granted Earle's motion for summary judgment,
finding Earle had "good and valid and inclusive of full fee simple title" in
"Units 1 through 34, inclusive, of Building G, and Units 40 through 59,
inclusive, of Building I." The court also ruled that Earle's title to the Units
was not subject to the Lease, and therefore "enjoined, estopped, and barred
[Partners] from asserting any claim, estate, right, title, or interest
whatsoever in or to the land or premises, or to any part thereof, adverse to
. . . Earle."
¶12 Partners timely appealed. We have jurisdiction pursuant to
Article 6, Section 9, of the Arizona Constitution and A.R.S. § 12-2101(A)
(2017).2
DISCUSSION
A. Legal Principles.
¶13 Summary judgment is appropriate when "there is no genuine
dispute as to any material fact and the moving party is entitled to judgment
as a matter of law." Ariz. R. Civ. P. 56(a). We review a grant of summary
judgment de novo, viewing the facts and inferences drawn therefrom in the
light most favorable to the party against which judgment was entered.
Corbett v. Manorcare of Am., Inc., 213 Ariz. 618, 621-22, ¶ 2 (App. 2006).
2 Absent material revision after the relevant date, we cite a statute's
current version.
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
¶14 The interpretation of a contract is a matter of law, which we
review de novo. Rand v. Porsche Fin. Servs., 216 Ariz. 424, 434, ¶ 37 (App.
2007). In interpreting a contract, our purpose is to determine and enforce
the parties' intent. US W. Commc'ns, Inc. v. Ariz. Corp. Comm'n, 185 Ariz.
277, 280 (App. 1996). In determining the parties' intent, we "look to the
plain meaning of the words as viewed in the context of the contract as a
whole." United Cal. Bank v. Prudential Ins., 140 Ariz. 238, 259 (App. 1983).
B. Subordination Agreement or Deed of Trust.
¶15 Each of the two Subordination Agreements expressly
provided that the related deed of trust "shall unconditionally be and remain
at all times a lien, charge, and encumbrance upon the Property prior and
superior to any right, title, or interest in or to the Property of Owner or
Lessee." Earle argues the Subordination Agreements effectively conveyed
the owner/lessor's fee-simple interest in the Property; as the current
owner/lessor, Partners argues the Subordination Agreements encumbered
only the leasehold estate.
¶16 Our analysis is informed by a handful of cases from other
jurisdictions, the first being Old Stone Capital Corp. v. John Hoene Implement
Corp., 647 F. Supp. 916 (D. Idaho 1986), which addressed a question very
similar to the one here. As here, the lessee had granted a lender a deed of
trust on its lease interest in some commercial property, and, at the lessee's
request, the owner/lessor executed a subordination agreement. After the
lessee defaulted and the lender sought foreclosure, the question was
whether the owner/lessor had subordinated her fee interest or only her
lease interest in the property subject to the deed of trust. Id. at 917. The
owner/lessor argued she agreed to subordinate only her leasehold interest
in the property, "as that was the only interest which was the subject of the
leasehold mortgage" that the lessee had executed. Id. As in this case, the
owner/lessor's argument was that "the subordination agreement could
only prioritize the interest which [the lender] had, and the only interest
which it had was in the leasehold." Id.
¶17 The court agreed with the owner/lessor. It explained that
"the nature of a subordination is such that the beneficiary of the
subordination must have a competing interest which, after the
subordination, becomes senior to that which, before the subordination, was
the senior interest." Id. at 919. As applied, the only interest the security
agreement granted the lender in that case was in the lessee's leasehold.
After the subordination, therefore, the lender's interest in the lease became
superior to the owner/lessor's interest in the lease. Id. But "[b]y its very
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
nature, the vehicle of subordination could not be used to grant [the lender]
an interest in the fee." Id. Significantly for our purposes, however, the court
observed that the lender might have acquired an interest in the
owner/lessor's fee if the owner/lessor had executed what amounted to a
mortgage or a deed of trust. Id. There was no dispute in that case that the
subordination agreement lacked the formalities state law required for a
mortgage or deed of trust. Id.
¶18 Applying the same logic, the court in Republic National Life Ins.
v. Lorraine Realty Corp., 279 N.W.2d 349, 357 (Minn. 1979), held that an
agreement that "[t]he interest of the Lessors in the leased premises . . . shall
be junior and subordinate to the interest of [the lender]" did not subordinate
the owner/lessor's fee interest. The court explained, "Ground lessors
manifestly intended to retain their fee interest, and only if they themselves
mortgaged the fee would the lessee's mortgagees have priority over the
fee." Id. at 355.
¶19 In Matthews v. Hinton, 234 Cal. App. 2d 736 (1965), the court
addressed the same issue but held for the lender because it concluded the
owner/lessor had joined in the deed of trust. The court began its analysis
by describing the economics of the situation: "The lessees or sublessees
might have attempted to put up their tenancy for years as security for
construction loans. A fee simple estate would be far more attractive
security to a lender." Id. at 741 (citation omitted). While the relevant
security agreements in Old Stone and Lorraine did not purport to convey the
owner/lessor's fee interest, the deed of trust in Matthews did just that: By
expressly joining with the lessees as "trustor," the owner/lessor "contracted
directly with the lender, exposing [its] reversionary interest to direct
liability independently of auxiliary collection attempts against the
borrowers." Id.
¶20 The court in Travelers Ins. v. Holiday Village Shopping Cemter
Ltd. Par., 931 P.2d 1292 (Mont. 1996), applied a similar analytical framework
in reversing summary judgment entered in favor of the lender. The
subordination agreement in that case recited that the lender was "unwilling
to make said loan or advance funds thereon unless it is assured that the
[mortgage granted by the lessee] shall be a lien upon the [owner/lessor's]
fee simple title in the hereinbefore described real property . . . ." Id. at 1295.
The agreement continued:
WHEREAS, the undersigned [owner/lessor] is willing to
subordinate its fee simple title to said real property to said
mortgage and is willing to give such assurance,
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
NOW, THEREFORE, in consideration of the making of said
loan . . . the undersigned hereby subordinates all of its right,
title and interest in and to said real property to the lien of said
mortgage and agrees that said mortgage shall continue to be
a first lien upon said property prior and superior in right to
any right, title and interest of the undersigned in and to said
real property.
Id. at 1295.
¶21 The Montana Supreme Court reversed the trial court's entry
of summary judgment in favor of the lender, holding that the agreement
was ambiguous. Id. at 1296. In explaining the ambiguity, the court noted
that although the subordination agreement recited that the owner/lessor's
fee interest was to be "subordinated," it contained no language purporting to
mortgage the property to the lender as security. Id. The court explained,
"A subordination agreement only dictates the priorities between existing
interests, for example lien holders – it does not mortgage an interest in the
property. A mortgage 'is a contract by which specific property is
hypothecated for the performance of an act, without the necessity of a
change of possession.'" Id. (citation omitted).
¶22 Applying the principles of these decisions to this case, the first
question is whether the two Subordination Agreements functioned as
mortgages or deeds of trust that conveyed the owner/lessor's fee interest in
some property. We say "some property" because the somewhat awkward
wording of the Subordination Agreements requires our analysis to proceed
in stages.
¶23 To begin with, the "whereas" clauses at the beginning of each
of the Subordination Agreements broadly describe facts leading up to
execution of the document. In particular, the fourth such clause recites that
"it is a condition precedent to making said loan that the Deed of Trust shall
unconditionally be and remain at all times a lien, charge, and encumbrance
upon the Property prior and superior to any right, title, or interest in or to
the Property of Owner . . . ." But the dispositive language is paragraph (2),
which states:
The Deed of Trust and the Note, and renewals or extensions
thereof, shall unconditionally be and remain at all times a lien,
charge, and encumbrance on the Property prior and superior
to any right, title, or interest therein of Owner . . . . For the
purpose of giving effect to this subordination, Owner . . . consent[s]
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
to and join[s] in the Deed of Trust and hereby grant[s], transfer[s],
and assign[s] to the Trustee of the Deed of Trust all right, title, and
interest of Owner . . . in and to the Property, in trust pursuant to
the Deed of Trust with the power of sale, it being understood that
such power of sale shall be exercised only in connection with
the enforcement of the Deed of Trust.
(Emphasis added.)
¶24 Guided by the authorities discussed above, we hold that by
agreeing to this provision, the owner/lessor did more than subordinate the
leasehold to the lender; it conveyed all of its right, title and interest, namely
its fee interest, "in and to the Property" in trust as security for debt. That is
the effect of the owner/lessor's joining in the deeds of trust and expressly
"grant[ing], transfer[ring], and assign[ing]" all of its "right, title, and
interest" to the trustee.3
¶25 Partners argues this conclusion disregards the provision in
Exhibit A to the subordinations that the conveyances in the deeds of trust
shall be "SUBJECT TO" the lease. Reading the body of the Subordination
Agreements together with the property description, however, the
owner/lessor's joinder in the deeds of trust supersedes the "subject to"
provision in the property description. That is, Exhibit A acknowledges that
the property the Unit owner is conveying as security is subject to the lease;
by joining in the deeds of trust and conveying all of its "right, title, and
interest" in the property, the owner/lessor conveyed its fee-simple interest
in the described property.
¶26 Partners further argues that the Subordination Agreements
cannot be construed as deeds of trust because they lack a sufficient legal
description. As Earle points out, however, Exhibit A to the Subordination
Agreements contains a legal description of the property conveyed. Those
documents describe the property by reference to the Declaration of
Horizontal Property Regime and specify the docket and page number on
which the description is recorded. The Subordination Agreements
therefore adequately described the property. See Wang Elec., Inc. v. Smoke
Tree Resort, LLC, 230 Ariz. 314, 324, ¶ 33 (App. 2012).
3 Given the passage of time, neither party offers any extrinsic evidence
of the intent of the parties to the Subordination Agreements; nor does
Partners argue there are disputed issues of fact as to their meaning.
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
¶27 For these reasons, we hold that by executing the documents
labeled "Subordination Agreement," the owner/lessor conveyed its fee
interest "in and to the Property," in trust as security for the Unit-owner's
debt.
C. The "Subject Real Property."
¶28 The conclusion that the Subordination Agreements effectively
conveyed the owner/lessor's fee interest "in and to the Property" leaves
open precisely what "Property" was conveyed. Earle argues the superior
court correctly ruled that when the lender foreclosed, it took fee title to the
land beneath the Units that secured the debt. The cases cited above do not
answer this question because they involved simple commercial leases, not
commercial condominiums as are at issue here.
¶29 Returning to the language of the Subordination Agreements,
the key provision is, as we have said, the owner/lessor's consent and
joinder in the deeds of trust so as to "grant, transfer, and assign to the
Trustee of the Deed of Trust all right, title, and interest of Owner . . . in and
to the Property, in trust pursuant to the Deed of Trust . . . ." The
Subordination Agreements define "the Property" to mean the property
described in an attached "Exhibit A." In turn, Exhibit A to each of the
Subordination Agreements describes the Property as: (1) the specified
"Units" as recorded in the Declaration; (2) "TOGETHER with an undivided
[fractional] interest in and to the Leasehold Estate in and to the subject Real
Property," and (3) "TOGETHER with a [fractional] interest in the common
areas and facilities as set forth in said Declaration." (Emphasis added.)
¶30 None of the three elements of the described "Property"
includes the ground beneath any particular Unit or Units. Earle argues that
the second item – the "interest in and to the Leasehold Estate in and to the
subject Real Property" means the land beneath the Units it owns. But that
interpretation unduly stretches the language of the property description:
The interest specified in Exhibit A is an undivided fractional interest in "the
Leasehold Estate in and to the subject Real Property." Thus, when the
lender foreclosed, it received (1) the Unit-owner's interest in the Units (as
defined by and subject to the Declaration), (2) an undivided fee-simple
interest in the leasehold estate "in and to the subject Real Property," and (3)
an undivided fee-simple interest in the Common Areas and facilities, as set
forth in the Declaration.
¶31 In support of the superior court's ruling that the lender took
fee-simple title to the land beneath the Units subject to the deeds of trust,
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
Earle points to the provision in the lease, supra ¶ 5, stating that the
owner/lessor "may . . . subordinate its interest in portions of the real estate"
to a Unit-owner's lender. As Earle notes, the lease continues, "In such event,
however, the subordination shall be only as to the property upon which the
leasehold estate is owned by such grantee, and the appurtenant interest in
the Common Areas."
¶32 The lease provision Earle cites reserves the owner/lessor's
right to subordinate on certain terms, but does not preclude the
owner/lessor from agreeing to subordination on terms less favorable to a
lender. Under the circumstances, we cannot construe the lease provision to
broaden the express terms of the Subordination Agreements. If the parties
had intended that the owner/lessor would subordinate its interest in "the
property upon which the leasehold estate is owned" by a Unit-owner, we
presume they would have so stated in the Subordination Agreements. The
reference in Exhibit A to an "undivided interest," which is incorporated into
the Subordination Agreements by the Subordination Agreements'
references to the exhibit as defining the encumbered property, cannot be
read to refer to a fee-simple interest in the land on which any specific Units
are situated.
¶33 In summary, we conclude that in executing the Subordination
Agreements, the owner/lessor conveyed to the lender, in trust as security
for repayment of the loan to the Unit-owner, an undivided fractional fee-
simple interest in the entire parcel of property that was the subject of the
Lease. In foreclosing on the Deed of Trust, the lender therefore succeeded
to an undivided fractional fee-simple interest in that property, and after
foreclosure, the lender owned the relevant Units and the associated
undivided fractional fee-simple interests in the leasehold and "Common
Areas" and facilities. Since its fee-simple interest was free and clear of the
owner/lessor's interest in the leasehold, the lender and its assigns were not
subject to the lease or any rent obligation. But they did not gain a fee-simple
interest in any particular portion of the land subject to the Lease; instead,
their interest is an undivided fractional fee-simple interest in the entire
subject property. Moreover, just as the owner/lessor's interests were
subject in the first instance to the Declaration, the interests to which the
lender took title (and which now are owned by Earle) remain subject to the
Declaration. Accordingly, Earle is subject to the obligations spelled out in
the Declaration (other than the obligation to pay rent under the lease).
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EARLE v. SOUTHERN PARTNERS
Opinion of the Court
D. Ratification.
¶34 We have held that upon foreclosure, the lender obtained a fee-
simple interest in the property, unencumbered by the lease. Partners
argues, however, that Earle ratified the lease by making rent payments. But
the cases on which Partners relies do not support the proposition that a
lease obligation may be created in the first instance by payments
denominated as rent. See All-Way Leasing, Inc. v. Kelly, 182 Ariz. 213, 217
(App. 1994) (rejecting contention that wife had ratified contract executed by
husband, so as to bind the community); Young Mines Co. v. Citizens' State
Bank, 37 Ariz. 521, 528-29 (1931) (ratification is "subsequent approval by a
principal of a previous unauthorized act by one claiming to act as an
agent"). Partners also cites Restatement of Contracts (Second) § 380 (1981),
but that provision concerns acts by which one may ratify a contract that is
voidable. See id. ("Loss of Power of Avoidance by Affirmance"). As we
have said, upon the lender's foreclosure, the lease was not voidable as to
the lender and its assigns, but void.4
CONCLUSION
¶35 For the reasons stated, we affirm the judgment to the extent it
provides that Earle owns the Units and an undivided fractional fee-simple
interest in the property identified in the Lease and is not subject to the
obligations of the Lease. We otherwise reverse and remand the judgment
to the superior court so that it may enter a revised judgment consistent with
this opinion. Because neither side has substantially prevailed in this appeal,
we deny both sides' requests for fees and costs. See A.R.S. §§ 12-341.01
(2017), -342 (2017).
AMY M. WOOD • Clerk of the Court
FILED: AA
4 Our decision to address the ratification issue on the merits renders
moot Partners' contention that the superior court erred by declining to
consider Partners' reply in support of its second motion for reconsideration.
12