Pre-Incorporation Contracts and Personal Liability: Lessons from Hao v. Galang

The Supreme Court's ruling in Hao v. Galang (G.R. No. 247472, October 6, 2021) clarifies a common point of confusion in Philippine corporate practice: when a person signs a contract on behalf of a corporation that has not yet been formed, who bears liability if the corporation later fails to perform? The case provides important guidance for business owners, corporate officers, and landlords dealing with newly formed companies.

The Facts of the Case

In February 2011, Eliseo Hao signed a five-year lease agreement with property owner Emerlinda Galang. The lease was for a property intended to house a diagnostic center. At the time of signing, the corporation that would operate the center—Suremed Diagnostic Center Corp.—had not yet been incorporated.

Hao was a stockholder and would become the first president of Suremed after its incorporation in March 2011. The company then occupied the leased premises and operated its business there. When Suremed fell behind on rental payments in 2014, Galang sent demand letters to both the company and Hao. She eventually filed an unlawful detainer suit against both.

The Issue

The central question was whether Hao could be held personally liable for the rental arrears. The lower courts said yes, reasoning that Hao signed the lease in his personal capacity. The Supreme Court disagreed.

The Ruling: Hao Acted as an Agent, Not a Personal Lessee

The Supreme Court reversed the lower courts and ruled that Hao was not personally liable. The Court found that the lease was a pre-incorporation contract—an agreement entered into by a promoter or organizer on behalf of a corporation still in the process of registration.

Under the Civil Code's Law on Agency, particularly Article 1897, an agent who acts as such is not personally liable to the party with whom he contracts, unless he expressly binds himself or exceeds the limits of his authority without giving sufficient notice of his powers.

The Court found that Galang was fully aware that Hao was acting in preparation for setting up a corporation. She even admitted in her judicial affidavit that the company was not mentioned in the lease because Hao and his colleagues were still in the process of organizing it.

Ratification by the Corporation

The Court also applied the principle of ratification. Under Articles 1898 and 1901 of the Civil Code, when a principal ratifies an agent's acts, the principal becomes bound. Suremed ratified the lease when it occupied the premises and operated its business there from 2011 until 2014, without any objection from Galang.

Galang's own conduct supported this conclusion. She collected rent from Suremed through checks issued by the company. She also sent demand letters for payment solely to Suremed when the company defaulted. These actions showed that Galang recognized Suremed as the true lessee.

When a Corporate Officer Becomes Personally Liable

The ruling does not mean corporate officers can never be held personally liable. Personal liability may attach when:

• The agent expressly binds himself personally in the contract.
• The agent exceeds the limits of his authority without giving the other party notice.
• The corporation fails to ratify the contract after it is formed.

In this case, none of these circumstances existed. Suremed ratified the lease, and Hao never expressly bound himself personally.

Practical Takeaways

• Pre-incorporation contracts are valid and binding on the corporation once it ratifies them after incorporation. Ratification can be implied through conduct, such as occupying leased premises and paying rent.
• Agents are generally not personally liable for contracts entered on behalf of a corporation in the process of formation, provided they act within their authority and the other party knows they are acting as agents.
• Corporations should formally ratify pre-incorporation contracts through board resolutions or other clear acts to avoid ambiguity about who is bound.
• Landlords and third parties should be aware that dealing with a corporate officer who signs for a corporation still being formed may mean the corporation—not the officer—is the party liable once it ratifies the contract.
• Document the agency relationship clearly in contracts to avoid disputes over personal versus corporate liability.

This article is general information and not legal advice. For your specific situation, consult a lawyer or ask ASG Legal AI.