The Arizona Court of
Appeals has recently held that an "as is" clause will not necessarily insulate a
commercial real property seller from liability to the buyer, for property
defects known to the seller and not disclosed to the buyer.
In S Development
Company v. Pima Capital Management Co., 355 Ariz. Adv. Rep. 24 (August 30,
2001), the seller failed to disclose the extensive use of flexible polybutylene
pipe (a type of tubing that apparently fails and leaks when transporting warm
water under normal water pressure) within the plumbing systems of two apartment
buildings. The buyers – seasoned real estate agents who had retained legal
counsel and other experts to assist them in the transaction – sued two years
after the closing, alleging fraud and negligent nondisclosure, and the seller
attempted to defend based on a standard disclaimer of warranties that included
an "as is" clause. A jury awarded the buyers $3,690,000 in damages, and the
Court of Appeals affirmed.
The Court rejected the
seller’s argument that the "as is" clause relieved the seller of any duty to
alert the buyers to the defective plumbing, where the plumbing defect was known
to the seller, was "basic to the transaction", and was a latent defect which the
buyers did not discover (and had no opportunity to discover) during the due
diligence period. Under these circumstances, the Court held that the seller was
under a duty to disclose the defective plumbing, and that its breach of that
duty at a minimum violated the covenant of good faith and fair dealing implied
in the contract, even though the contract contained an "as-is" clause.
The case arose on
somewhat unusual facts. Not only was the defective pipe "buried six inches
inside the walls" of the two buildings, but the seller had expressly refused to
permit the buyers to inspect inside the walls of either building, and "all
visible plumbing was copper piping." The Court admonished that "preventing a
party from conducting an inspection effectively turns what may be a patent
defect into an undiscoverable-in-fact latent defect."
The S Development
case thus extends to commercial real estate transactions between sophisticated
parties the general rule, well-known in the consumer world, that "as is"
language will not protect a seller from tort claims based on nondisclosure of
significant latent defects known to the seller. If it is left to stand, the
decision will significantly impact the conduct of commercial real estate
transactions in Arizona, including those conducted between sophisticated buyers
and sellers. Commercial real estate clients are strongly urged to review their
contract language and their due diligence practices in light of this decision.
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These materials
are designed to provide general information prepared by professionals in regard
to the subject matter covered. It is provided with the understanding that the
author is not engaged in rendering legal, accounting, or other professional
service. Although prepared by professionals, these materials should not be
utilized as a substitute for professional service in specific situations. If
legal advice or other expert assistance is required, the service of a
professional should be sought.
