Appendix 10, Annex B: Discussion
Table of Contents
- Choice of Law
- Covenants not to Complete
- Provisions for Penalties
- Time of Essence
- Confession of Judgement
- Waivers of (i) Broadly or Vaguely Stated Rights, (ii) Statutory or Constitutional Rights, (iii) Unknown Future Defenses, or (iv) Rights to Damages
- Waivers of Statutory or Constitutional Rights See endnote 6
- Waivers of Unknown Future Defenses See endnote 6
- Waivers of Rights to Damages See endnote 6
- Provisions that Contain a Waiver of Obligations of Good Faith, Fair Dealing, Diligence and Commercial Reasonableness
- Provisions that Attempt to Change or Waive Rules of Evidence or Fix the Method or Quantum of Proof to be Applied in Litigation or Similar Proceedings
- Appointment of Receiver
- Forum Selection Clauses and Consents to Jurisdiction
- Provisions Appointing an Adverse Party as Attorney in Fact
- Waivers of Rights to Jury Trials
- Provisions Stating that Remedies are Cumulative
- Provisions Stating that the Provisions of a Contract are Serverable
- Provisions Waiving Defenses of Guarantors
- Provisions Limiting Rights to Cure, Without Considering Materiality
- Arbitration Provisions
- Provisions Limiting The Award of Attorneys' Fees
- Prohibitions of Oran Modifications
- Indemnity/Exculpation of a Party in Respect of its own Misconduct
- Self Help Remedy Provisions
- Indemnification for Securities Law Liabilities
- Voting Agreements
- Provisions That Grant Rights of Setoff to Loan Participants or to Affiliates of Parties to the Agreement
- Provisions that are Unconscionable as a matter of Law at the Time of Closing
- Payments Free of Setoff or Counterclaim
- Waiver of Statute of Limitations
- Provisions that Permit the Exercise of Remedies without Consideration of the Materiality of Breach/Consequence of the Breach to the Non-Breaching Party
- Provisions that would Permit the Other Party to Require Performance without Requiring Consideration of the Impracticality or Impossibility of Performance at the Time of Attempted Enforcement due to Unforeseen Circumstances not within the Contemplation of the Parties
Annex B : Discussion
1. Choice of Law
This was identified in 1992 as a California Qualification. Subsequently, in Nedlloyd Lines B.V. v. Superior Court, 3 Cal. 4th 459, 462 (1992) (involving an "outbound" choice of law), the California Supreme Court recognized the existence of "strong policy considerations favoring the enforcement of freely negotiated choice-of-law clauses," and adopted the approach of Restatement (Second) Conflict of Laws § 187 ("Restatement of Conflicts"): if the chosen state has a reasonable relationship to the parties or to their transaction, or there is some other reasonable basis for the parties' choice of law, the choice of law will be given effect unless (1) the law of the chosen state is contrary to a fundamental policy of the state (whether California or some other state) whose law would apply in the absence of a choice-of-law clause, and (2) that state is determined to have a "materially greater interest than the chosen state in the determination of the particular issue1." Since Nedlloyd, it has been held that "the mere fact that one of the parties to the contract is incorporated in the chosen state is sufficient to support a finding of a 'substantial relationship.'" Application Group, Inc., v. Hunter Group, Inc., 61 Cal. App. 4th 881, 899 (1998); see also Hambrecht & Quist Venture Partners v. American Medical International, Inc., 38 Cal. App. 4th 1532, 1546 (1995).
Given this standard, the Subcommittee concluded that, where the chosen law is the law of the State of California and there is some articulable basis for choosing California law (e.g., domicile/place of incorporation of a party), there should be no need either (1) to disclaim any opinion regarding the enforceability of the choice of law provision, or (2) to address separately the choice of law in the exceptions to the opinion.
In addition, Cal. Civ. Code § 1646.5, which authorizes the parties to a transaction involving at least $250,000 to select California law as their governing law, provides an independent basis to provide an opinion that a court will enforce a provision choosing California law. There are no published cases addressing Section 1646.5, but Hilton Inns, Inc. v. Gulf Beach Hotel, Inc. (9th Cir. 1996), available at 1996 WL 468637, and Unit Process Co. v. Raychem Corp., a California Court of Appeal case that was not officially published (available at 2002-1 Trade Cases P 73,592, and 2002 Westlaw 173286), both support the enforceability of choice of law provisions under Section 1646.5. Case law considering New York General Obligation Law § 5-1401, upon which Section 1646.5 is modeled, and addressing its relationship to the Restatement has held that Section 5-1401, as a statutory provision directly addressing choice of law and incorporating its own set of exceptions, takes precedence over the common law principles in the Restatement that would require, absent some relation to the chosen state, that in some instances consideration be given to conflict with a fundamental policy of another jurisdiction. See, e.g., Lehman Brothers Commercial Corporation v. Minmetals International Non-Ferrous Metals Trading Co., 179 F. Supp.2d 118, 138 (S.D.N.Y. 2000).
Where the law chosen to govern an agreement being opined upon is the law of another state, the opinion giver could also, based on the Nedlloyd discussion above, give an opinion that a California court would enforce the choice of law clause. This opinion would be based on the same considerations as when an opinion is given on a choice of law clause choosing California law and Cal. Civ. Code § 1646.5 does not apply for some reason. (Note that Cal. Civ. Code § 1646.5 never applies when the choice of law clause chooses the law of a jurisdiction other than California.)
Where the law chosen to govern an agreement being opined upon is the law of another state, customary practice (which, formerly, often involved engaging separate counsel qualified in the jurisdiction whose law was chosen to give the remedies opinion) now greatly favors permitting the primary opinion giver to render an opinion to the effect that, if the law of the State of California were held to apply to the agreement, notwithstanding the choice of law of another jurisdiction, the agreement would be enforceable. (It is the Subcommittee's view that a remedies opinion given under California law with respect to such an agreement, without more, should be understood to address only the enforceability, under California law, of the provisions of the agreement setting forth that choice of law. As the 1998 TriBar Report notes, however (at § 4.6), that understanding is not generally accepted. The Subcommittee recommends that reliance on this approach be avoided, absent the inclusion in the opinion of language, agreed upon with counsel for the opinion recipient, clarifying that the remedies opinion is so limited.)
It is not uncommon for an opinion recipient who has agreed to accept a remedies opinion rendered under California law with respect to an agreement governed by other law to request in addition a separately stated opinion to the effect that the choice of law set forth in the agreement will be respected by the courts of the State of California. California lawyers have historically declined to give that opinion. In light of the considerable development in the case law over the last decade and a half, however, the Subcommittee believes it appropriate for this practice to change. If the chosen law is the law of another state, and there is either a reasonable relationship to that other state or another reasonable basis for choosing the law of that state, a California court should give effect to that choice of law, unless it determines both that (i) the application of the chosen law would be contrary to a fundamental policy of the jurisdiction whose law would apply in the absence of a choice-of-law clause and (ii) the other jurisdiction has a materially greater interest in the application of its law than does the chosen-law state. The Subcommittee believes that an opinion in the following form would be appropriate:
Based on [describe contact or basis for choosing law of chosen state], the court should give effect to [§ xx – the choice-of-law clause] of the Agreement.
If the opinion giver is not asked to render an opinion with respect to the enforceability of an agreement under California law (in which case, general issues of enforceability would be addressed in rendering the remedies opinion), but is asked only to render an opinion regarding the enforceability of the parties' choice of law, an opinion giver may, if it desires, add the following qualifying clauses:
, except to the extent that any provision of [the Agreement] (i) is determined by the court to be contrary to a fundamental policy of the state whose law would apply in the absence of a choice-of-law clause, and (ii) that state has a materially greater interest in the determination of the particular issue than does the state whose law is chosen.
The reference to the public policy of a state or country that has a materially greater interest than the chosen state in the determination of a particular dispute is based on Restatement of Conflicts § 187(2)(b); the other state or country would be the jurisdiction that, under § 188, "would be the state of the applicable law in the absence of an effective choice of law by the parties." The reference to the law of the chosen-law state recognizes that the opinion refers only to the application of the substantive law of the chosen state. The Subcommittee does not believe the inclusion of this exception to be necessary, however: the opinion addresses only California law, and not the possible existence of another jurisdiction with a fundamental policy that might be violated by the application of the chosen law to that issue; nor does the opinion address whether California, or any other jurisdiction, would have a materially greater interest in the determination of the issue in question. This is consistent with customary opinion practice to the effect that lawyers giving an opinion are not expected to review the law of a state the law of which is not covered by the opinion or to determine the strength of a jurisdiction's interest in the determination of an issue. Nor could a party to an agreement reasonably expect a California court to apply another jurisdiction's rules of civil procedure. The exceptions should, as a matter of customary usage, be understood to apply to any opinion regarding a choice of law clause, whether or not they are stated.
While it is almost inconceivable that a party would insist on a legal opinion in a transaction involving less than $250,000--the threshold amount for application of Section 1646.5--and the Subcommittee believes that, absent extraordinary circumstances, it would be manifestly unreasonable for a party to such a contract to refuse to close without such an opinion, counsel finding itself having to render an opinion in such a transaction would apply the same analysis just stated with respect to the choice of the law of a jurisdiction other than California.
The following examples of policies that have been found by California to be either fundamental or not are included for purposes of illustration only, to provide background for the preceding discussion. California opinion givers do not customarily opine as to what constitutes a fundamental policy of the State of California. California case law makes it difficult to form a reasonable professional judgment with respect to many of these issues.2
Examples of Fundamental Policies of California
California Business and Professions Code ("B&P Code") § 16600 states: "[e]xcept as provided in this chapter, every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void." B&P Code § 16600. In Application Group, Inc. v. Hunter Group, Inc., 61 Cal. App. 4th 881 (1998), the court applied California law to a dispute over a non-compete clause in an employment contract despite the contract's Maryland choice-of-law provision. The dispute directly implicated B&P Code § 16600, which the court stated "reflects a 'strong public policy' of the State" to allow persons employment mobility. 61 Cal. App. 4th at 900. See also Scott v. Snelling & Snelling, Inc., 732 F. Supp. 1034, 1041 (N.D. Cal. 1990) (holding that California law applied "to the question of . . . enforceability of . . . covenants restricting competition in . . . franchise agreements . . . despite the choice of law provision nominating Pennsylvania law . . . . because of the strong public policy of California embodied in section 16600, the lack of an applicable statutory exception to section 16600, and the broadly inclusive language of the statute.").
California Labor Code § 221 "makes it unlawful 'for any employer to collect or receive from an employee any part of wages theretofore paid by said employer to said employee.'" International Business Machines v. Bajorek, 191 F.3d 1033, 1038 (9th Cir. 1999) (quoting Cal. Lab Code § 221). It is possible that enforcement of a choice-of-law provision contrary to this section would violate a fundamental policy of California. The court in IBM did not reach this question because it held "wages" were not in dispute. Id. at 1039-40.
Cal. Civ. Code § 1717 provides that an attorney's fee clause in a contract shall be construed to award the prevailing party attorney's fees regardless of whether the prevailing party is named in the clause. See Cal. Civ. Code § 1717(a). In addition, the "section shall not be subject to waiver by the parties to any contract which is entered into after the effective date of this section. Any provision in any such contract which provides for a waiver of attorney's fees is void." Id. In Ribbens Int'l, S.A. de C.V. v. Transport Int'l Pool, Inc., 47 F. Supp. 2d 1117, 1119-22, 1126 (C.D. Cal. 1999), the court applied California law to an attorney's fee provision in a contract despite the contract's Pennsylvania choice-of-law provision and the court's application of Pennsylvania law to issues of liability and damages. Application of Pennsylvania law on this point would have been contrary to section 1717, which the court held was a fundamental policy of California.
California Code of Civil Procedure § 580b bars deficiency judgments in connection with certain transactions secured by real property. See Cal. Code Civ. Proc. § 580b. In Guardian Savings & Loan Ass'n v. MD Associates, 64 Cal. App. 4th 309, 320 (1998), the court held that "the statute reflects a 'fundamental policy' of the state within the meaning of section 187 of the Restatement." But the court enforced a Texas choice-of-law provision despite the fact that it was contrary to a fundamental policy of California because California did not have a materially greater interest in enforcing its law than did Texas, based on the facts of that case. Id. at 323. Based upon the reasoning of this opinion, it is likely that the other three statutory components of California's "one action" and "anti-deficiency" rules applicable to debts secured by real property, i.e., Code of Civil Procedure Sections 580a, 580d and 726, would also be held to constitute fundamental principles of California law.
Under California Labor Code § 3852, third party "tortfeasors [are required] to reimburse employers for workers' compensation benefits paid as a result of their negligence." Dailey v. Dallas Carriers Corp., 43 Cal. App. 4th 720, 725 (1996). This section embodies a "fundamental policy of this state." Id. In Dailey, the court refused to enforce an Ohio choice-of-law provision because its application was contrary to section 3852. Id. at 722-23, 726.
California Insurance Code § 11580(b)(1) requires that certain insurance policies issued or delivered to persons in California must contain a "'provision that the insolvency or bankruptcy of the insured will not release the insurer from the payment of damages for injury sustained or loss occasioned during the life of such policy.'" Haisten v. Grass Valley Medical Reimbursement Fund, Ltd., 784 F. 2d 1392, 1402 (9th Cir. 1986) (quoting Cal. Ins. Code § 11580(b)(1)). California Insurance Code § 1619 "provides that attorney's fees may be awarded if an insurer has 'failed for thirty days after demand prior to the commencement of the action to make payment in accordance with the terms of the contract, and it appears to the court that such refusal was vexatious and without reasonable cause.'" Id. at 1406. In Haisten, the Ninth Circuit did not enforce a Cayman Islands choice-of-law clause and applied the California Insurance Code because "a court is not bound by a contract's choice of law provision if strong public policy requires the application of California law." Id. at 1402-03. A strong public policy was involved because "[p]rotection of California residents from the potential risk of injury thought to be created by insurance and from the unscrupulous practices of insurance companies which profit from premiums from California constitute sufficient interest to apply California law." Id. at 1403.
"California [has a] policy . . . to protect the public from fraud and deception in securities transactions. The Corporate Securities Law of 1968 was enacted to effectuate this policy by regulating securities transactions in California and providing statutory remedies for violations of the Corporations Code, in addition to those available under common law. The cornerstone of the law is section 25701, which provides, 'Any condition, stipulation or provision purporting to bind any person acquiring any security to waive compliance with any provision of this law . . . is void.'" Hall v. Superior Court, 150 Cal. App. 3d 411, 417 (1983). In Hall, the court declined to enforce a Nevada choice-of-forum provision because its enforcement would lead to the enforcement of a choice-of-law provision that would likely be contrary to the fundamental policy of California embodied in the Corporate Securities Law of 1968. See Id. at 418-19.
Examples of What Do Not Constitute Fundamental Policies of California
Application of foreign law that changes the statute of limitations is likely not contrary to a fundamental policy of California if the change is reasonable. See Hambrecht, 38 Cal. App. 4th at 1548-49. "[E]xcept as restricted by statute, California courts accord contracting parties substantial freedom to modify the length of the statute of limitations." Id. at 1548. "As the Supreme Court has stated in permitting parties to shorten the limitations period: '[S]uch statutes [of limitations] are regarded as statutes of repose, carrying with them, not a right protected under the rule of public policy, but a mere personal right for the benefit of the individual, which may be waived.'" Id. (quoting Tebbets v. Fidelity and Cas. Co. of New York, 155 Cal. 137, 139 (1909)). See also Hughes Electronics Corporation v. Citibank Delaware 120 Cal. App. 4th 251 (2004) (citing Hambrecht with approval).
A "potential difference in the law of . . . two competing forums pertaining to forfeitures in license agreements does not amount to a conflict involving fundamental policy in California." CQL Original Products, Inc. v. National Hockey League Players' Ass'n, 39 Cal. App. 4th 1347, 1357 (1995). In CQL, the court determined the enforceability of a choice-of-forum clause that contained a choice-of-law clause. Id. at 1351. Under the choice-of-forum analysis, a clause is not enforceable if it is unreasonable. Id. at 1353. One basis for unreasonableness is a resulting application of foreign law that is contrary to a fundamental policy of California. Id. at 1357. The court enforced the choice-of-forum clause leading to enforcement of the choice-of-law clause because the application of the foreign law was not contrary to a fundamental policy of California. Id. at 1357-58.
Application of foreign law that permits an interest rate that would be usurious under California law is not contrary to a fundamental public policy of California under California's usury laws. See Ury v. Jewelers Acceptance Corp., 227 Cal. App. 2d 11, 20-21 (1964) (enforcing a contract under New York law despite the resulting application of interest rates usurious under California law); Gamer v. duPont Glore Forgan, Inc., 65 Cal. App. 3d 280, 290 (1976) (holding "that the particular contract in question, which by its choice of law provision permitted a charge of interest legal in New York though in excess of the legal rate then permitted in California, did not offend against a policy of California law"); Mencor Enterprises, Inc. v. Hets Equities Corp., 190 Cal. App. 3d 432, 440-41 (1987) (holding that whether enforcement of a foreign choice-of-law provision resulting in application of interest rates usurious under California law is contrary to a fundamental policy of California is a question of fact that needs to be determined through evidentiary hearings).
2. Covenants Not to Compete
This was identified in 1992 as a California Qualification. As noted above with respect to choice-of-law provisions, California Business and Professions Code ("B&P Code") §§ 16600 et seq. place severe restrictions upon the enforcement of a covenant not to compete. Covenants not to engage in business or to compete with another party are considered contracts in restraint of trade and are not enforceable except in connection with certain sales of businesses, and are subject to B&P Code §§ 16600-16602.5. These sections are not understood to codify equitable principles.
Judicial interpretations of these code sections are numerous but provide no bright line test, often depending on the precise factual situation at the time such enforcement is sought. As one court explained, "the California statute does not except 'reasonable' restraints of trade, it 'only makes illegal those restraints which preclude one from engaging in a lawful profession, trade, or business.'" International Business Machines v. Bajorek, 191 F.3d 1033, 1040 (9th Cir. 1999) (quoting B&P Code § 16600). Certain provisions not constituting a prohibition on employment by a competitor, but which limit one's ability to compete can be, and have been, enforced. For example, provisions in employment contracts prohibiting an employee from using confidential information taken from the former employer have been held to be lawful. See Gordon v. Landau, 49 Cal. 2d 690, 694 (1958). In addition, a contract provision restraining an employee from "disrupting, damaging, impairing or interfering" with his former employer by raiding its employees was held valid. Loral Corp. v. Moyes, 174 Cal. App. 3d 268 (1985).
Further, B&P Code § 16601 allows for covenants not to compete for anyone who sells the goodwill of a business or all of the ownership interest in a business entity and for any owner of a business which sells all or substantially all of its operating assets together with its goodwill or the operating assets of a subsidiary or a division along with its goodwill. There must be, however, "clear indication that . . . the parties valued or considered goodwill as a component of the sales price." Hill Medical Corp. v. Wycoff, 86 Cal. App. 4th 895, 903 (2001).
Exceptions to the general prohibition also apply under B&P Code §16602 in connection with the dissolution of a partnership or a disassociation of a partner from a partnership if the business of the partnership is carried on, and under §16602.5 in connection with the dissolution of a limited liability company if the business of the limited liability company is carried on.
B&P Code §§ 16601, 16602 and 16602.5 all restrict the geographic scope of the noncompetition covenants. Effective January 1, 2003 (see AB 601, enacted in 2002), the scope became limited to "a specified geographic area" where the relevant business entity "business has been transacted" or "been carried on." Previously the statutes had referred to "specified county or counties, city or cities or a part thereof," and case law had held that this language did not limit the scope to the boundaries of California. Monogram Indus., Inc. v. Sar Indus., Inc., 64 Cal. App. 3d 692 (1976), Cal. Bus. Prof. Code § 16601 - the scope may extend nationwide and beyond; and Fleming v. Ray-Suzuki, Inc., 225 Cal. App. 3d 574 (1990), which followed Monogram in holding that the scope of a covenant not to compete may be nationwide, which encompasses an accumulation of counties and cities to be impacted.
The Subcommittee believes that it is customary for California opinion givers to disclaim any opinion regarding the enforceability of such covenants. The Subcommittee recommends that, unless the covenant is clearly unenforceable (as would be a covenant not to compete based solely on a contract of employment), the exception be worded in a way that refers the opinion recipient to the relevant limiting statute:
We express no opinion regarding the effect of California Business and Professions Code §§ 16600 et seq. on the enforceability of [Section __ of the [Agreement]].
3. Provisions for Penalties
This was identified in 1992 as a California Qualification.
Generally, California law calls for careful review of economic remedy provisions. See, e.g., Cal. Civ. Code §§ 3275, 3358, 3359, 3369, 1671 (relating to liquidated damages),3 and Cal. Civ. Code § 2954.5 (restricting late payment charges on certain residential real estate loans). Certain of these statutes codify equitable principles. For example, courts repeatedly refer to the granting of "equitable relief" under Section 3275. Lauderdale Associates v. Department of Health Services, 67 Cal. App. 4th 117 (1998); Moeller v. Lien, 25 Cal. App. 4th 822 (1994); Simons v. Young, 93 Cal. App. 3d 170 (1979). See also Christin v. Story, 119 Cal. App. 326, 334 (1931) ("The provisions of [Section 3275] are equitable in their nature and he who seeks their benefits must at least show that he is ready, willing and able to do all that should reasonably be required of him under the circumstances."); and Freedman v. The Rector 37 Cal. 2d 16, 19-22 (1951) ("The breaching party may raise section 3275 as an equitable defense to enforcement of the contractual provision or as grounds for relief in an action for restitution of the property forfeited."). According to Witkin, Cal. Civ. Code § 3369 is a codification of an equitable doctrine at 11 Witkin, Summary of Cal. Law (9th Ed.) Equity, § 18).
Courts, in any event, have not hesitated to invalidate charges on the grounds that they were penalties. See Ridgley v. Topa Thrift & Loan Ass'n, 17 Cal. 4th 970, 977 (1998) ("[t]he amount set as liquidated damages [as late charges] 'must represent the result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that may be sustained."' (quoting Garrett v. Coast & S. Fed. Sav. & Loan Ass'n, 9 Cal. 3d 731, 739 (1973))). Other similar charges must also withstand scrutiny as liquidated damages. See Hitz v. First Interstate Bank, 38 Cal. App. 4th 274 (1995), and Beasley v. Wells Fargo Bank, 235 Cal. App. 3d 1383 (1991) (absent a bank's reasonable endeavor to estimate fair average compensation for loss from late payment and over limit activity, fees for such payment or activity were not valid as liquidated damages); Sybron Corp. v. Clark Hosp. Supply Corp., 76 Cal. App. 3d 896 (1978) (provision increasing amount owed if obligation not paid by a specific date invalidated because increase did not bear reasonable relationship to damages caused by late payments); Puritan Leasing Co. v. August, 16 Cal. 3d 451, 456 (1976) (the court, citing numerous intermediate appellate court decisions, noted that "simple" acceleration clauses in leases, which permit the lessor to hold the lessee immediately liable for all rent reserved upon default in payment of one installment, are invalid under the liquidated damages statute; provisions for the acceleration of future amounts due (other than principal) without appropriate discount to present value have often been declared unenforceable on various theories as penalties, forfeitures or unreasonable attempts to liquidate damages).
Although prepayment charges (sometimes viewed as optional prepayment penalties that provide the borrower an alternative method of performance) are generally enforceable, several limiting principles exist: exorbitant prepayment penalties will not be enforced (Williams v. Fassler, 110 Cal. App. 3d 7 (1980); Lazzareschi Inv. Co. v. San Francisco Fed. Sav. & Loan Ass'n, 22 Cal. App. 3d 303 (1971)); Cal. Civ. Code § 2985.6; a lender may not collect unearned interest (Furesz v. Garcia, 120 Cal. App. 3d 793 (1981)); and a lender may not be permitted to accelerate a debt upon default and then enforce a prepayment penalty (Cal. Civ. Code § 2954.10 (debt secured by residential property containing four units or less), § 2954.9(b) (limits prepayment charges on loans secured by "owner occupied" residential property)). Some question has been raised about the enforceability of an increase in interest rates following a default. See Arnett v. Union Bank, 151 Cal. Rptr. 163 (1978) (increase in interest rates on defaulted amounts upheld) (opinion ordered not published by the California Supreme Court).4
In general, courts evaluate such provisions according to a reasonableness standard that contemplates the parties' circumstances at the time of contract formation, and the exact standard that will be applied is difficult, if not impossible, to predict. The Subcommittee believes that opinion givers should not be expected to determine whether a given economic remedy is reasonable, and that, as a matter of customary practice, a remedies opinion is understood as not extending to the reasonableness of such remedies.5 (Of course, an opinion giver should take an express exception for an economic remedy that (i) is plainly unreasonable on its face, or (ii) exceeds an applicable statutory or constitutional limit (i.e., one that is not merely subject to a reasonableness standard), and should point out any requirement that such a provision be capitalized, separately initialed, or the like.) (See, e.g., Cal. Civ. Code § 2954.10).)
4. Time of Essence
This was identified in 1992 as a California Qualification. Under California law, time is of the essence clauses may be unenforceable where enforcement would work as an unfair penalty or forfeiture. See Cal. Civ. Code § 3275; Valley View Home of Beaumont, Inc. v. Department of Health Services, 146 Cal. App. 3d 161, 168 (1983) ("Relief from forfeiture when the facts and equities militate in favor thereof may be granted even when the party seeking it has violated an express condition precedent, such as where time is made of the essence."). Section 3275 (disfavoring forfeitures), as noted supra, endnote 3, is acknowledged to codify equitable principles. The Subcommittee believes it unnecessary to state a separate exception with respect to such time is of the essence clauses. See also endnote 19.
5. Cofession of Judgement
This was identified in 1992 as a California Qualification. Confessions of judgment are subject to Cal. Code Civ. Proc. §§ 1132-34. Those sections permit a judgment by confession to be entered only if "an attorney independently representing the defendant signs a certificate that the attorney has examined the proposed judgment and has advised the defendant with respect to the waiver of rights and defenses under the confession of judgment procedure and has advised the defendant to utilize the confession of judgment procedure." The attorney's certificate must be filed with a statement, signed by the defendant under oath, that, among other things, authorizes the entry of judgment for a specified sum--something that in a standard commercial transaction could only rarely, if ever, be prepared before the commencement of an action. The requirements are "exclusive and must be strictly construed." 6 Witkin, California Procedure, "Proceeding Without Trial", §§ 255 et. seq.; they do not codify equitable principles. Thus, if an agreement being opined upon contains a confession of judgment, it would be appropriate for an opinion giver to expressly exclude any opinion regarding the enforceability of the relevant provision, which could be worded as follows:
We express no opinion regarding the enforceability of [Section __] of [the Agreement].
6. Waivers of (i) Broadly or Vaguely Stated Rights, (ii) Statutory or Constitutional Rights, (iii) Unknown Future Defenses, or (iv) Rights to Damages.
These Survey Provisions were collectively identified in 1992 as a California Qualification, and, as did the drafters of that report, the Subcommittee believes it appropriate to treat them together.
(i) (Broadly or vaguely stated rights.) Waivers of broadly or vaguely stated rights risk running afoul of (i) statutory prohibitions based on public policy concerns that would invalidate even clearly defined, express waivers, (ii) judicially-imposed knowledge and intent requirements or (iii) express non-waiver provisions. Moreover, California has codified a general prohibition against waivers of any rights in violation of public policy. Cal. Civ. Code § 3513: "Anyone may waive the advantage of a law intended solely for his benefit. But a law established for a public reason cannot be contravened by a private agreement." Thus, courts might be expected to invalidate overly broad or vague waivers on the basis of their perceived interference with rights rooted in the public interest. See, e.g., Winklemen v. Sides, 31 Cal. App. 2d 387, 405 (1939) (discussing statutes applying to creditors, noting, "As those statutes were passed to promote the public welfare by protection of the debtor class from oppression, they must be construed as declaring a public policy of the state and they cannot be waived by contract."). Waivers of power-of-sale foreclosure procedures and certain one-action rule and anti-deficiency protections are particularly vulnerable. See Cal. Civ. Code § 2953; Cal. Code Civ. Proc. §§ 580b, 580d; Palm v. Schilling, 199 Cal. App. 3d 63 (1988); DeBerard Props., Ltd. v. Lim, 20 Cal. 4th 659 (1999); Freedland v. Greco, 45 Cal. 2d 462 (1955) (dictum); Union Bank v. Brummell, 269 Cal. App. 2d 836 (1969) (dictum).
(ii) (Statutory or constitutional rights.) Some statutes expressly prohibit waivers of the rights they afford. For example, at the federal level, the Securities Exchange Act of 1934, as amended, § 29, states that "any . . . stipulation or provision binding any person to waive compliance with any provision of this title or of any rule or regulation . . . shall be void." See also, e.g., B&P Code § 6412.5 ("Any waiver of the provisions of this chapter is contrary to public policy, and is void and unenforceable."); B&P Code § 10248.2 ("A borrower may not waive any right or remedy under this article."); Cal. Civ. Code § 800.24 ("Any waiver of these rights shall be deemed contrary to public policy and void."); Cal. Corp. Code § 25701 ("Any condition, stipulation or provision purporting to bind any person acquiring any security to waive compliance with any provision of this law or any rule or order hereunder is void."); and Cal. UCC § 9602 ("Except as otherwise provided in Section 9624, to the extent that they give rights to a debtor or obligor and impose duties on a secured party, the debtor or obligor may not waive or vary the rules stated in the following listed sections . . ."). (See also paragraph (iv) of this endnote, infra.)
Even where waivers are permitted, courts have created a judicial "test" of enforceability. In Outboard Marine Corp. v. Superior Court, the court stated:
To constitute a waiver, it is essential that there be an existing right, benefit, or advantage, a knowledge, actual or constructive, of its existence, and an actual intention to relinquish it or conduct so inconsistent with the intent to enforce the right in question as to induce a reasonable belief that it has been relinquished. The doctrine of waiver is generally applicable to all the rights and privileges to which a person is legally entitled, including those conferred by statute unless otherwise prohibited by specific statutory provisions.
52 Cal. App. 3d 30, 41 (1975). See also Record v. Indemnity Ins. Co. of N. Am., 103 Cal. App. 2d 434, 445 (1951) ("[P]rimary essentials of a waiver are knowledge and intent."). Furthermore, the "question of waiver is a question of fact . . . ." Trujillo v. City of Los Angeles, 276 Cal. App. 2d 333, 343 (1969). Thus, a waiver of these rights that was not clearly expressed would seem unlikely to survive judicial scrutiny. Knowledge and intent becomes more difficult to infer as the description of rights purported to be waived becomes increasingly broad or vague.
(iii) (Unknown future defenses.) Cal. Civ. Code § 1542 provides that "A general release does not extend to claims which the creditor does not know or suspect to exist in his favor at the time of executing the release, which if known by him must have materially affected his settlement with the debtor." Generally speaking, courts will enforce waivers of the
protections provided by Section 1542. See, e.g., Pacific Greyhound Lines v. Zane, 160 F. 2d 731, 736 (9th Cir. 1947) ("In the absence of actual fraud, the express waiver of all rights under this section (1542) was valid."); Winet v. Price, 4 Cal. App. 4th 1159 (1992) (holding that general releases can be completely enforceable); Grace v. eBay Inc., 120 Cal. App. 4th 984, 998 (2004) (holding that a court construes a release "under the same rules of construction applicable to other contracts," and that, "[a]bsent extrinsic evidence to the contrary, a broadly worded release, such as a release of 'all claims,' covers all claims within the broad scope of the language even if particular claims are not expressly enumerated or described more particularly in the release"). As with Cal. Civ. Code § 3513, however, courts require that the party waiving section 1542 protections have both a knowledge of his or her rights afforded thereunder and an intent to execute such a waiver. See San Diego Hospice v. County of San Diego, 31 Cal. App. 4th 1048 (1995) (discussing knowledge and intent); Leaf v. City of San Mateo, 104 Cal. App. 3d 398, 411 (1980) (stating that "[w]hether the releaser intended to discharge such claims or parties is ultimately a question of fact."); Casey v. Proctor, 59 Cal. 2d 97, 110 (1963) ("The question remains as one of fact whether the releaser actually intended to discharge such claims.").
(iv) (Rights to damages.) A secured party's liability for damages resulting from its failure to comply with Division 9 of the California Uniform Commercial Code, under Section 9625 or 9626 (such as a claim for the recovery of damages for the loss of a surplus caused by a secured party's failure to conduct a commercially reasonable sale of collateral, for example), may not be waived. Waivers of punitive damages are unlikely to be enforceable. Punitive damages are generally not available in contract actions (Cal. Civ. Code § 3294); they may, however, be recovered in respect of a claim that arises in or as part of the contractual relationship, but that involves the commission of a tort. See, e.g., Haigler v. Donnelly, 18 Cal. 2d 674, 680 (1941) (". . . if the action is in tort such damages may be recovered upon a proper showing of malice, fraud or oppression, even though the tort incidentally involves a breach of contract"). At least one court has intimated that Cal. Civ. Code § 1668, which provides that contracts that purport to exempt someone "from responsibility for his own fraud, or willful injury to the person or property of another, or violation of law, whether willful or negligent, are against the policy of the law," may render a waiver of punitive damages ineffectual. Pardee Construction Co. v. Superior Court, 100 Cal. App. 4th 1081, 1091 (2002); but see J. Alexander Securities, Inc. v. Mendez, 17 Cal. App. 4th 1083, 1093 (1993), indicating that, under appropriate circumstances, such a waiver might be enforced: "The cash account agreement does not explicitly address the issue of punitives, nor should respondent, a consumer residing in Los Angeles, have been expected to know the applicable provisions of New York law or the NASD rules concerning punitive damages. Without a voluntary and intentional relinquishment of a known right, respondent cannot be deemed to have waived her right to punitive damages." [Citations omitted.] See also endnote 23, infra.
Language such as the following is commonly used by California opinion givers to address the issues of enforceability discussed in this endnote 6:
We advise you that waivers of the following may be limited on statutory or public policy grounds: (i) broadly or vaguely stated rights, (ii) the benefits of statutory, regulatory or constitutional rights, (iii) unknown future defenses, or (iv) rights to damages.
7. [Waivers of statutory or constitutional rights] See endnote 6.
8. [Waivers of unknown future defenses] See endnote 6.
9. [Waivers of rights to damages] See endnote 6.
10. Provisions that Contain A Waiver of Obligations of Good Faith, Fair Dealing, Diligence and Commercial Reasonableness.
"Every contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement." Carma Developers (Cal.), Inc. v. Marathon Development California, Inc., 2 Cal. 4th 342, 371 (1992) (citations omitted). "The covenant of good faith finds particular application in situations where one party is invested with a discretionary power affecting the rights of another. Such power must be exercised in good faith." Id. at 372. The duty does not appear to be subject to waiver (see, e.g., Beck v. Farmers Insurance Exchange, 701 P.2d 795, 800 n. 4 (Utah 1985): "The duty to perform the contract in good faith cannot, by definition, be waived by either party to the agreement."). Nevertheless, "the parties may, by express provisions of the contract, grant the right to engage in the very acts and conduct which would otherwise have been forbidden by an implied covenant of good faith and fair dealing." Id. at 374, citing VTR, Incorporated v. Goodyear Tire & Rubber Company, 303 F. Supp. 773, 777-778 (S.D.N.Y. 1969) (i.e., a contract may not waive generally the obligation to act in good faith, but it may expressly provide that a party is entitled to "do X", where "doing X", in the absence of an express provision to that effect, would violate the duty of good faith). It may not be read to prohibit a party from doing that which is expressly permitted by an agreement, but it may prohibit conduct that is not prohibited but is nevertheless "contrary to the contract's purposes and the parties' legitimate expectation." Id. at 373. In transactions subject to the California Uniform Commercial Code, "the obligations of good faith, diligence, reasonableness and care prescribed by [the California Uniform Commercial Code] may not be disclaimed by agreement, but the parties may by agreement determine the standards by which the performance of such obligations is to be measured if such standards are not manifestly unreasonable." Cal. UCC § 1102(3). "Diligence" is also an element of avoiding application of the equitable defense of laches.
As discussed above, in Part I.B. of this appendix, the 1989 Report (by means of its recommended wording of the equitable principles limitation), the Accord (by express inclusion of such principles in Section 13), and the 1998 TriBar Report (in its discussion of the equitable principles limitation), concur that the principles addressed in this endnote are, conceptually, equitable principles that fall within the scope of the equitable principles limitation.
11. Provisions that Attempt to Change or Waive Rules of Evidence or Fix the Method or Quantum of Proof to be Applied in Litigation or Similar Proccedings
This was identified in 1992 as a California Qualification. Under California law, contractual provisions that attempt to change or waive rules of evidence or fix the method or quantum of proof to be applied in litigation or similar proceedings may not be enforceable, due to public policy limitations. See, e.g., Conwell v. Varian, 20 Cal. App. 521 (1912); Berry v. Chaplin, 74 Cal. App. 2d 652 (1946); Robinson v. Wilson, 44 Cal. App. 3d 92 569 (1974) (stipulation between the parties to limit evidence the court could consider in ruling on the merits held invalid); Aydin Corporation v. First State Insurance Co., 18 Cal. 4th 1183 (1998) (no compelling reason to alter the burden of proof with respect to insurance coverage for pollution discharge, due to the State's strong public policy to prevent, eliminate and reduce pollution); McCormick v. Woodmen of the World, 57 Cal. App. 568 (1922) (clause in insurance contract attempting to alter a statutory rule of evidence held void).
The Subcommittee believes that contractual provisions that attempt to change or waive rules of evidence or fix the method or quantum of proof to be applied in litigation or similar proceedings are not included within the equitable principles limitation, and therefore, an opinion giver would customarily disclaim separately any opinion regarding their enforceability. The Subcommittee recommends that the exception be stated as follows:
We express no opinion regarding the enforceability of Section __ of [the Agreement] [(if necessary for clarity:) as it relates to [rules of evidence] [or] [issues of] [quantum of proof].
12. Appointment of Receiver
This was identified in 1992 as a California Qualification. Cal. Code Civ. Proc. § 564 governs the appointment of a receiver under California law. If the subject matter of the agreement in which a contractual provision providing for the appointment of a receiver is specified under Cal. Code Civ. Proc. § 564 as a circumstance when a "receiver may be appointed", the provision will, as a matter of law, be enforceable in that the court will have the capacity to implement the remedy. Id. The appointment of a receiver, however, is an equitable remedy that remains subject to the equitable discretion of the court in light of all relevant factual circumstances. It is a unique remedy that requires substantial judicial intervention. U.S. Overseas Airlines v Alameda County, 235 Cal. App. 2d 348, 353 (1965) ("[a] receiver is an officer or representative of the court appointed to take charge of and manage property which is subject to litigation, for the purpose of preserving it and ultimately disposing of it pursuant to final judgment."). Additionally, the appointment of a receiver can adversely affect the business practices and relationships of interested parties. See, e.g., Superior Motels, Inc. v. Rinn Motor Hotels, Inc., 195 Cal. App. 3d 1032, 1052 (1987) ("The appointment of a receiver often entails drastic disruptive consequences to existing business relationships."); Rogers v. Smith, 76 Cal. App. 2d 16, 21 (1946) ("[r]eceivership is an extraordinary remedy to be applied with caution and only in cases of apparent necessity, where other remedies would be inadequate").
As with covenants not to compete (supra, endnote 2), the Subcommittee believes that, given existing restrictions on the power of a court to appoint a receiver, it is customary for California firms to disclaim any opinion regarding the enforceability of a provision for the appointment of a receiver. Such a disclaimer might read as follows:
We express no opinion regarding the effect of California Code of Civil Procedure § 564 on the enforceability of [Section __ of the [Agreement]].
13. Forum Selection Clauses and Consents to Jurisdiction
A consent to personal jurisdiction is enforceable if "freely negotiated" and not "unreasonable and unjust." Burger King v. Rudzewicz, 105 S. Ct. 2174 (1985).
A non-exclusive forum selection clause is subject to considerations of forum non-conveniens. However, because there is nothing to enforce in a non-mandatory clause (except to the extent that it includes a consent to personal jurisdiction), there is no need for an exception. Docksider, Ltd. v. Sea Technology, Ltd., 875 F. 2d 762 (9th Cir. 1989) (language that a particular court "shall have jurisdiction" treated as permissive and not mandatory, permitting venue in other locations). A mandatory or exclusive forum selection clause is enforceable in the absence of unreasonableness or serious inconvenience where the other party has notice of the provision. The Bremen v. Zapata Off-Shore Co., 407 U.S. 1 (1972); Carnival Cruise Lines v. Shute, 499 U.S. 585 (1991); Smith, Valentino & Smith, Inc. v. Superior Court, 17 Cal. 3d 491 (1976); Hall v. Superior Court, 150 Cal. App. 3d 411 (1983); Lifeco Services Corp. v. Superior Court, 222 Cal. App. 3d 331 (1990); CQL Original Prods., Inc. v. National Hockey League Players Ass'n, 39 Cal. App. 4th 1347 (1995); Intershop Communications, AG v. Superior Court (Martinez), 104 Cal. App. 4th 191 (2002) (mandatory clause unenforceable only if unreasonable). Because the Bremen exception is so narrow, an exception is ordinarily not required.
If California law is chosen to govern an agreement that involves at least $1,000,000, Cal. Code Civ. Proc. Section 410.40 provides that a choice of California as the forum for litigation will be enforced:
Any person may maintain an action or proceeding in a court of this state against a foreign corporation or nonresident person where the action or proceeding arises out of or relates to any contract, agreement, or undertaking for which a choice of California law has been made in whole or in part by the parties thereto and which (a) is a contract, agreement, or undertaking, contingent or otherwise, relating to a transaction involving in the aggregate not less than one million dollars ($1,000,000), and (b) contains a provision or provisions under which the foreign corporation or nonresident agrees to submit to the jurisdiction of the courts of this state.
A forum selection clause, however, is not enforceable where it has the effect of waiving important rights. America Online, Inc. v. Superior Court, 90 Cal. App. 4th 1 (2001). The exception on the waiver of important rights (see endnote 6, supra) would cover this possibility.
Venue selection clauses (i.e., those that attempt to prescribe the actual court in which an action must be brought--for example, a requirement that any action be commenced in the California state court located in a specified county), unlike forum selection clauses, are not enforceable. Alexander v. Superior Court, 114 Cal. App. 4th 723 (2003).
14. Provisions Appointing an Adverse Party as Attorney in Fact
This was identified in 1992 as a California Qualification, and, historically, contractual provisions pursuant to which a borrower appoints a lender as its attorney in fact have been viewed with skepticism because of the adverse relationship between borrower and lender. See, e.g., Joint Committee of the Real Property Law Section of the State Bar of California and the Real Property Section of the Los Angeles County Bar Association, Legal Opinions in California Real Estate Transactions, 42 Bus. Law. 1139, 1160 n.47 (1987) ("...some loan documents contain provisions in which the borrower purports to appoint the lender as the borrower's 'attorney-in-fact.' Even if such appointment is stated to be a power coupled with an interest, it is highly unlikely the power could be validly exercised as a remedy following default.")
No case law is cited for the foregoing proposition, however, and recent authority suggests that such provisions are enforceable. Bankruptcy cases support a lender's right to execute financing statements on the borrower's behalf under the terms of the underlying loan documentation. See In re Grieb Printing Co., 230 B.R. 539 (Bankr. W.D.Ky. 1999) (lender's signature on a financing statement as borrower's attorney in fact was valid where borrower had expressly authorized lender to sign financing statements on its behalf). See also In re Goolsby, 284 B.R. 638 (M.D. Tenn. 2002) (lender's signature on a financing statement as borrower's attorney in fact was invalid where lender failed to indicate the source of its signing authority, not because it lacked the right to sign on borrower's behalf). Likewise, despite basic agency principles that might seem to indicate to the contrary (e.g., 3 Am.Jur.2d, Agency § 237 (the law of principal and agent generally provides that an agent cannot act in a way that is contrary to the best interests of the principal, absent fully informed consent); 2 Witkin Sum. Cal. Law, Agency § 41 (an agent is required to disclose to the principal all information he has relevant to the subject matter of the agency)), California courts have endorsed the concept of making an adverse party one's agent. See, e.g., Michelson v. Hamada, 29 Cal. App. 4th 1566, 1579 (1994) (holding that any person may be authorized to act as an agent, including an adverse party to a transaction). Such limitations as may be imposed by California law on the enforceability of appointments of attorneys-in-fact are best characterized as falling within the equitable principles limitation.
15. Waivers of Rights to Jury Trials
This was not identified in 1992 as a California Qualification, but many California opinion givers have included this exception in their opinions, and a recent California Supreme Court case holds that such waivers are unenforceable.6
For over a decade, the leading case with respect to waivers of jury trials in commercial contracts was Trizec Properties, Inc. v. Superior Court, 229 Cal. App. 3d 1616 (1991), in which a jury trial waiver set forth in a commercial lease agreement was held to be enforceable. The court discussed the possible application of Cal. Code Civ. Proc. § 631 (which provides that a party may waive a jury trial by "written consent filed with the clerk or judge" (§ 631(d)(2)) and which also provides that "the court may, in its discretion upon just terms, allow a trial by jury although there may have been a waiver of a trial by jury" (§ 631(d))), citing Madden v Kaiser Foundation Hospitals, 17 Cal. 3d 699 (1976) (upholding an arbitration clause), but concluded that Cal. Code Civ. Proc. § 631 presupposes a pending action, and "since the waiver was entered into prior to the filing of any action, Code of Civil Procedure § 631 is inapplicable to the facts of this case." The court went on to state that "Article I, § 16 of the California Constitution cannot be read to prohibit individuals from waiving, in advance of any pending action, the right to trial by jury in a civil case." (The Trizec court cautioned that "[w]e do not mean to imply that contractual waivers of trial by jury will be upheld in all instances, or that such rights will be taken away from a party who unknowingly signs a document purporting to exact a waiver. The right to trial by jury in a civil case is a substantial one not lightly to be deemed waived. On the other hand, in many commercial transactions advance assurance that any disputes that arise will be subject to expeditious resolution in a court trial would best serve the needs of the contracting parties as well that of our overburdened judicial system. … [T]o be enforceable, the waiver provision must be clearly apparent in the contract and its language must be unambiguous and unequivocal, leaving no room for doubt as to the intention of the parties." Trizec Properties, 229 Cal. App. 3d. at 1619.)
In February, 2004, however, the First Appellate District of the Court of Appeal, in Grafton Partners v. Superior Court, 115 Cal. App. 4th 700 (2004) (since vacated by the decision of the California Supreme Court described below), declared that Trizec was wrongly decided, holding that Code of Civil Procedure § 631 is "the sole means for selecting a court rather than a jury trial in a civil case." Citing comments made during the [California] Constitutional Convention of 1878-1879, during which it was proposed--and rejected--that parties be given "the express power to waive a jury, or to make a jury waiver subject to judicial approval," the Grafton court concluded that "California constitutional history reflects an unwavering commitment to the principle that the right to a jury trial may be waived only as the Legislature prescribes, even in the face of concerns that the interests of the parties and the courts would benefit from a relaxation of this requirement"--and, accordingly, that a contractual predispute jury waiver in a civil action is not enforceable under California law. The Supreme Court, in August, 2005, issued it opinion upholding the decision of the Court of Appeal, for the same reasons cited by that court in its decision. Grafton Partners v. Superior Court, 36 Cal.4th 944 (2005).
In light of the Grafton case, it is customary practice for an opinion giver to include an exception with respect to a jury trial waiver provision contained in a commercial contract. Sample language follows:
We express no opinion regarding the enforceability of Section __ of [the Agreement].
16. Provisions Stating that Remedies are Cumulative
Provisions to the effect that a party's remedies (and rights) are cumulative are often found in loan agreements and other contexts, and are considered boilerplate in certain areas of practice. Remedies under Division 9 of the California Uniform Commercial Code are cumulative. Cal. UCC § 9601(c). Provisions providing in other contexts that remedies are cumulative, however, can be of questionable enforceability: the general rule in California is that multiple remedies in a single cause of action are allowed as long as the remedies are (a) not mutually exclusive and (b) legally consistent. (Witkin, 4 California Procedure (4th) Edition, Pleading, § 370.) Inconsistent remedies are subject to the election of remedies doctrine, which acts as a bar to preclude a plaintiff from seeking a remedy that is inconsistent with its prior conduct or election. The enforceability of cumulative remedies provisions may also be affected by California law limiting the remedies that can be sought in certain contexts (for example, real estate secured transactions), including (x) the "one form of action rule" of Cal. Code Civ. Proc. § 726 and the anti-deficiency and fair value statutes of Sections 580a-d of the California Code of Civil Procedure, for loans secured by real property, (y) guarantor-related defenses (see endnote 18), and (z) marshalling requirements for property secured by a lien.7 When an opinion is rendered in respect of an agreement that includes both a cumulative remedies provision and remedies that are mutually exclusive or not legally consistent, or that are subject to the cited provisions of California law, a specific exception with respect to the relevant provision is appropriate. (The 1987 Real Property Report suggested that a lawyer need not disclose limitations on, or exceptions to, the enforcement of obligations that arise out of boilerplate provisions, such as provisions to the effect that all remedies are cumulative (42 Bus. Law. 4, 1139, 1166); the Subcommittee believes, however, that California lawyers customarily point out the limitations on cumulative remedies inherent to real-property secured transactions under California law, and that, especially where counsel to the opinion recipient is not knowledgeable about California law, an opinion giver should consider separately identifying remedies that are mutually exclusive.)
Transactions involving real property security are beyond the scope of this appendix. To the extent that marshalling principles apply outside that context, the Subcommittee notes that marshalling is an equitable doctrine "developed historically and traditionally used to prevent a junior lienholder with a security interest in a single property from being squeezed out by a senior lienholder with a security interest not only in that property, but in one or more additional properties" Shedoudy v. Beverly Surgical Supply Co., 100 Cal. App. 3d 730 (1980). As a result, uncertainty regarding the enforcement of cumulative remedy provisions where marshalling principles apply should be covered by the equitable principles limitation.
The Subcommittee suggests that, where appropriate, an exception be included. The following is a sample:
[We express no opinion regarding the enforceability of [Section __] of the [Agreement].
17. Provisions Stating that the Provisions of a Contract are Severable
California courts are required by Cal. Civ. Code §§ 1599, 1643 and 1670.5(a) to interpret contracts, if possible, in a manner that gives the contracts effect rather than making them void. As a general matter, enforcing severability provisions would comport with these requirements, but not every provision of a contract is automatically severable. Courts need to consider the entirety of a contract to determine whether any particular provision is severable, and the enforceability of a severability provision is highly dependent upon the specific circumstances in which enforcement of the provision is sought; "a contract may be severable as to some of its terms, or for certain purposes, but indivisible as to other terms, or for other purposes." Simmons v. California Institute of Technology, 34 Cal. 2d 264, 275 (1949). Even where contractual provisions that are illegal, unconscionable, or against public policy are not enforced, the courts tend to follow the preference, under the California statutory regime and under case law, for interpreting contracts in a manner that gives them effect. See, e.g., County of Marin v. Assessment Appeals Bd., 64 Cal. App. 3d 319, 325 (1976) (applying Cal. Civ. Code § 1643.) If the contract is severable, a provision may be rescinded in equity, provided that no injustice is done as a result. Simmons, 34 Cal. 2d, at 275-76.
Given this standard, the Subcommittee believes that provisions to the effect that a contract is severable are generally enforceable, and need not be made the subject of a separate exception. See, however, the discussion of provisions requiring the arbitration of disputes, infra at endnote 20.
18. Provisions Waiving Defenses of Guarantors.
There are several California statutes that provide a guarantor with important rights and protections, primarily Cal. Civ. Code §§ 2787-2855. Some of the statutory protections are:
- The obligations of the guarantor may not be any more burdensome than the obligations of the principal (Cal. Civ. Code § 2809).
- The guarantor can compel the creditor to proceed first against the principal or any collateral (Cal. Civ. Code §§ 2845 and 2850) and can compel the principal to pay the guaranteed obligation (Cal. Civ. Code § 2846), and is subrogated to the rights of the creditor upon payment of the guarantied obligations (Cal. Civ. Code §§ 2848 and 2849).
- The guarantor is exonerated if the principal is released without the consent of the guarantor (Cal. Civ. Code § 2810), if the principal's remedies against the principal are impaired or if the guarantied obligation is modified without the guarantor's consent (Cal. Civ. Code § 2819).
In addition there are other rights provided to a guarantor under the California Uniform Commercial Code, where the guarantor is defined as an "obligor" (Cal. UCC § 9102) and has the rights and defenses available to a debtor under Division 9 of the California Uniform Commercial Code.
California courts have recognized that the various Civil Code defenses and rights can be waived by a guarantor. (Pearl v. General Motors Acceptance Corp., 13 Cal. App. 4th 1023 (1993), referring to Cal. Civ. Code 2815; Brunswick Corp. v. Hays, 16 Cal. App. 3d 134 (1971), referring to Cal. Civ. Code §§ 2845 and 2849; Union Bank v. Ross, 54 Cal. App. 3d 290 (1976), referring to Cal. Civ. Code §§ 2819 and 2845.) They have, however, differed on the precise language that is adequate to constitute a waiver of the guarantor's defenses. Starting from the proposition that the waiver documents should be interpreted most strongly against the creditor and all ambiguities should be interpreted against the creditor (Pearl v. General Motors Acceptance Corp., 13 Cal. App. 4th 1023 (1993)), courts have held that, in the absence of an explicit waiver, they would not find a waiver by implication (Union Bank v. Gradsky, 265 Cal. App. 2d 40 (1968); Cathay Bank v. Lee, 14 Cal. App. 4th 1533 (1993)). Other courts went further and held that the guaranty must contain a specific description of the rights being waived. (Torrey Pines Bank v. Hoffman, 231 Cal. App. 3d 308 (1991)) or that the specific statutory provisions being waived must be expressly identified. Mariners Savings and Loan Ass'n v. Neil, 22 Cal. App. 3d 232 (1971); Indusco Management Corp. v. Robertson, 40 Cal. App. 3d 456 (1974). A general waiver of all suretyship defenses was not sufficient. (Pearl v. General Motors, supra.)
In 1994, Cal. Civ. Code § 2856 was enacted, authorizing waivers of a guarantor's various rights and defenses. The purpose of the amendment was to establish a standard for waivers that was less stringent than that established by the Cathay Bank decision (see River Bank America v. Diller, 38 Cal. App. 4th 1400 (1995)). However, in Bank of Southern California v. Dombrow, 39 Cal. App. 4th 1457 (later decertified) the Court of Appeals held that the waiver was not sufficiently clear and continued the practice of imposing a stringent standard on guarantor waivers.
In 1996, a revised version of Cal. Civ. Code § 2856 was enacted. The language in Cal. Civ. Code § 2856 is clear on its face, and may eliminate any more exacting standards of specificity required by previous case law. (See River Bank America v. Diller, 38 Cal. App. 4th 1400 (1995) (stating that "[I]n apparent response to Cathay Bank's strict holding, the Legislature enacted section 2856."). There have been few decisions addressing the provision, however, and a recent case that considered the extent of a guaranty, Conner v. Conner 76 Cal. App. 4th 646 (1999), did not address Cal. Civ. Code § 2856 at all, but instead reached its decision by balancing the expectations of the guarantor and the creditor.
In addition, the reported legislative intent behind Cal. Civ. Code § 2856 has left open an opportunity for confusion. The statement of legislative intent that accompanies § 2856 states: "[s]ubdivisions (a) and (b) of Section 2856 of the Civil Code do not represent a change in, but are merely declarative of, existing law" Stats. 1994 § 2, c. 1204 (A.B.3101; emphasis added). Even though the statute is widely understood to have been intended to overrule certain cases that had required ever-more-explicit expressions of an intent to waive defense--as is clear from those portions of it that state that no particular language or phrase need be included for a waiver to be effective, it could be argued that the statement of legislative intent weakens the authority of Section 2856 by carving out exceptions for prior holdings that required a higher standard to be met when attempting to waive a guarantor's defenses and creates an overlay of equitable principles. See Cathay Bank, 14 Cal. App. 4th at 1533; Indusco, 40 Cal. App. 3d at 461-2.8
The foregoing cases address only a guarantor's rights under the California Civil Code; they do not address a guarantor's rights as an obligor under the California Uniform Commercial Code, which explicitly prohibits advance waivers of certain rights.
As a result of these factors, even though waivers of a guarantor's rights and defenses (subject to certain statutory exceptions that would be covered by the exception for waivers of statutory rights that is endorsed in endnote 6, supra), are generally enforceable, California opinion givers have in the past customarily declined, and continue customarily to decline, to render an opinion as to sufficiency of any specific waiver of those rights and defenses. 9 While it is reasonable to expect that future courts will follow the mandate of Cal. Civ. Code § 2856 and give effect to waivers of suretyship defenses, the paucity of controlling authority applying Section 2856 has led the Subcommittee to conclude that there remains a sufficient degree of uncertainty as to the enforceability of particular forms of waiver that an exception with respect to the enforceability of such waivers should continue to be accepted by opinion recipients. The following sample language is modeled on the suggested form contained in 1987 Real Property Report, with some updating of the statutory and case law references:
We advise you of California statutory provisions and case law to the effect that a guarantor may be discharged, in whole or in part, if the beneficiary of the guaranty alters the obligation of the principal, fails to inform the guarantor of material information pertinent to the principal or any collateral, elects remedies that may impair either the subrogation or reimbursement rights of the guarantor against the principal or the value of any collateral, fails to accord the guarantor the protections afforded a debtor under Division 9 of the [California Uniform Commercial Code] or otherwise takes any action that prejudices the guarantor, unless, in any such case, the guarantor has effectively waived such rights or the consequences of such action or has consented to such action. See, e.g., California Civil Code §§ 2799 through Section 2855; California Uniform Commercial Code § 9-602, Sumitomo Bank of California v. Iwasaki, 70 Cal. 2d 81, 73 Cal. Rptr. 564 (1968); Union Bank v. Gradsky, 265 Cal. App. 2d 40, 71 Cal. Rptr. 64 (1968). While California Civil Code Section 2856, and case law, provide that express waivers of a guarantor's right to be discharged, such as those contained in the [Guaranty], are generally enforceable under California law, we express no opinion regarding the effectiveness of the waivers in the [Guaranty].
19. Provisions Limiting Rights to Cure, without Considering Materiality
Consideration of these provisions is based upon one of the components of the Accord's definition of the equitable principles limitation. The Subcommittee's research revealed no cases dealing exactly with this issue. There are, however, a number of statutory provisions, cases and principles dealing with provisions that embody essentially the same principle. These include time is of the essence clauses (discussed supra, at endnote 4), provisions providing for penalties or forfeitures for delayed performance (discussed supra, at endnote 3), and similar provisions otherwise phrased, which indicate that a provision limiting a party's right to cure, without considering the materiality of the breach, would be treated the same way by the courts: that is, the provision is sometimes enforced, and sometimes not. The outcome is governed by equitable principles.
A right to cure is a mechanism generally available to a breaching party to a contract as a means to lessen the harsh impact of other contract principles, such as the perfect tender rule (a contract principle that affords the buyer the right to reject the goods from a seller if the "quality, quantity, or delivery of the goods fails to conform precisely to the contract." Black's Law Dictionary 1158 (7th ed. 1999)). Notwithstanding the general right to cure (see below), parties may include contractual provisions that purport to waive or limit that right. These provisions can take various forms; contractual provisions having the effect of waiving a party's right to cure are generally expressed in the form of affirmative provisions or clauses, such as penalty or forfeiture clauses and terms indicating that "time is of the essence," rather than as a negative clause that waives outright any right to cure. The enforceability of these provisions depends in large part on the type of provision that is actually being invoked, but, as discussed below, would be rare except where the aggrieved party would be materially harmed by affording such a right to the breaching party.
As explained in endnote 4, supra, time of the essence provisions are not automatically enforced. They are subject to a great deal of scrutiny by the courts. This is because courts do not favor forfeitures, including penalties. As a result, such provisions and others of similar effect are not enforced where the obligee has contributed to the default or, in an installment payment default, has given some indication of not seeking a forfeiture for nonpayment on time. Under such circumstances the courts have relied on equitable principles, such as waiver and estoppel and even "just plain" equitable treatment of the parties, to prevent a forfeiture. Whether or not a court will find that a waiver exists or that a party should be estopped depends entirely on the inequity of the forfeiture. This requires the court to take into account the nature and amount of the forfeiture, the actual time and effect on the aggrieved party of delay in performance, the amounts involved, and whether the compensation in general was reasonable.
It should be noted that forfeiture as a consequence of untimely performance where time is provided to be of the essence is not the same as having an independent forfeiture provision in the contract. Indeed, a valid contract may contain both types of provisions. See MacFadden v. Walker, 5 Cal. 3d 809 (1971) (contract contained both time of the essence clause and a provision for forfeiture on default); see also Williams Plumbing, Co. v. Sinsley, 53 Cal. App. 3d 1027 (1975). But, because forfeitures are not favored, California law provides various mechanisms to avoid outright forfeiture provisions, however phrased. See Ells v. Order of United Commercial Travelers of Am., 20 Cal. 2d 290 (1942); see also Cal. Civ. Code § 3275:
Relief in Case of Forfeiture. Whenever, by the terms of an obligation, a party thereto incurs a forfeiture, or a loss in the nature of a forfeiture, by reason of his failure to comply with its provisions, he may be relieved therefrom, upon making full compensation to the other party, except in case of a grossly negligent, willful, or fraudulent breach of duty.
Under this Section, a provision for forfeiture must be clear, but the court will attempt, by construction, to avoid it where enforcement would lead to inequitable results. See Nelson v. Schoettgen, 1 Cal. App. 2d 418, 423 (1934); see also Universal Sales Corp. Ltd. v. California Press Mfg. Co., 20 Cal. 2d 751, 771 (1942). Notwithstanding the equitable principles underlying Section 3275, its rule is not without limitation. "It is true that the law looks with disfavor upon forfeitures . . . but this does not mean that the courts may make for the parties a different contract from what they have agreed upon or resort to a strained and unnatural construction to defeat or nullify their clearly expressed purpose or intention." See Troughton v. Eakle, 58 Cal. App.161, 173 (1922). This rule has been applied in various situations, including foreclosures, real property sales, construction contracts, quieting title, insurance, and leases, as well as to contracts for the sale of personalty. In most situations, the court has granted relief to the defaulting party after balancing the equities in light of the facts and circumstances in order to avoid harsh results.
The Subcommittee believes that provisions that prohibit the consideration of the materiality of a failure to perform attempt to undercut equitable principles themselves, and are properly classified as falling within the scope of the equitable principles limitation.
20. Arbitration Provisions
In California, an arbitration agreement generally is valid, irrevocable, and enforceable. Cal. Code Civ. Proc. § 1281 (Deering 2004); and see 9 U.S.C. §§ 1, 2 (governing arbitration agreements under federal law); Armendariz v. Foundation Health Psychcare Services, Inc., 24 Cal. 4th 83, 97-99 (2000). Nevertheless, an arbitration agreement, or portions of it, may be limited or found invalid in three types of situations.
First, at least in certain labor cases, California courts will subject an arbitration agreement to particular scrutiny and impose additional minimum requirements: (i) when non-waivable statutory rights are at stake (Armendariz, 24 Cal. 4th at 100); and (ii) in "Tameny claims" where an employee alleges wrongful termination in violation of public policy (Little v. Auto Stiegler, Inc., 29 Cal. 4th 1064, cert. denied, 124 S. Ct. 83 (2003)). Armendariz articulated these minimum requirements with regard to a mandatory arbitration agreement involving non-waivable statutory rights of an employee: (1) the agreement must provide for a neutral arbitrator; (2) the agreement may not limit remedies to less than that which the employee would be entitled to recover under the applicable statute; (3) adequate discovery must be provided so that the employee may vindicate any statutory claim; (4) the award must be detailed enough to reveal the essential findings and conclusions on which it is based so that some judicial review may be performed; and (5) there must be limitations on the costs of arbitration an employee may be required to bear. Armendariz, 24 Cal. 4th at 102-03. Little provided that the minimum requirements set forth in Armendariz should likewise apply to a claim of wrongful termination of employment in violation of public policy. Little, 29 Cal. 4th at 1076.
Second, an arbitration agreement may be found invalid if it is not enforceable under traditional contract law principles, e.g., if unconscionable. Although normally the consideration of unconscionability in the opinion context (see endnote 28, infra)would address these issues, a distinct body of unconscionability law has developed in the context of arbitration agreements. Mercuro v. Superior Court, 96 Cal. App. 4th 167 (2002) (finding a requirement that an employee pay an equal share of the costs of arbitration was per se unconscionable); Szetela v. Discover Bank, 97 Cal. App. 4th 1094 (2002) (finding an arbitration agreement unconscionable where that agreement prohibited class actions, noting that the unconscionability analysis has both a procedural and a substantive element); Abramson v. Juniper Networks, Inc., 115 Cal. App. 4th 638 (2004) (finding a requirement that employee and employer arbitrate all claims except intellectual property claims to be substantively unconscionable for lack of mutuality, it being designed to protect only the employer's interests); Armendariz, 24 Cal. 4th at 113 (holding that the multiple defects of an unlawful damages provision and a unilateral arbitration clause weigh against restricting the agreement and weigh instead in favor of striking the entire arbitration agreement); see also Blake v. Ecker, 93 Cal. App. 4th 728, 742 (2001) (directing the lower court in an employment dispute to consider first whether the terms of arbitration were part of an adhesive contract and, second, whether those terms were unconscionable); Bolter v. Superior Court,
87 Cal. App. 4th 900 (2001) (finding mandatory arbitration in a non-U.S. jurisdiction unconscionable); Flores v. TransAmerica HomeFirst Inc., 93 Cal. App. 4th 846 (2001) (finding a unilateral obligation to arbitrate contained in a loan agreement that constituted an adhesion contract to be so one-sided "as to be substantively unconscionable"); Pinedo v. Premium Tobacco Stores, Inc., 85 Cal. App. 4th 774 (2000) (deeming an agreement unconscionable because of its limitation on damages, its preclusion of recovery on certain claims, its denial of attorneys' fees even where the employee prevails, and its cost-shifting provision). However, the application of an unconscionability analysis may not necessarily result in striking down all restrictive arbitration provisions. See, e.g., Mercuro, 96 Cal. App. 4th at 182-84 (suggesting that very restrictive discovery terms of arbitration agreement were not per se unconscionable but striking down the agreement for unconscionability on other grounds). Further, the existence of an unconscionable provision need not be fatal to the enforceability of the arbitration agreement. Cal. Civ. Code Section 1670.5 authorizes a court, in its discretion, either to refuse to enforce a contract if it finds as a matter of law the contract or any clause thereof to be unconscionable at the time it was made, or to enforce the contract without the unconscionable clause. Armendariz noted that a single unconscionable term could justify striking down an arbitration agreement, if that term was drafted in bad faith. Armendariz, 24 Cal. 4th at 124-25, n. 13. More recently, one court has instructed that the proper analysis to be conducted with regard to arbitration agreements with an unconscionable provision is to evaluate the clarity of the law at the time of the signing of the agreement to determine if the unconscionable provision was drafted in bad faith, and then to exercise its discretion as to whether to sever that provision. Gutierrez v. Auto West, Inc., 114 Cal. App. 4th 77 (2003) (involving a provision requiring automobile lease consumers to pay substantial administrative fees in connection with bringing an arbitration proceeding).
Third, an arbitration agreement may be found to be invalid if it purports to override or contravene a provision of the California Arbitration Act enacted primarily for a public purpose. For example, a decision under an agreement providing for arbitration in accordance with the former American Arbitration Association construction industry dispute resolution rules was vacated when those rules governing the circumstances under which an arbitrator should be disqualified were invoked to override the mandatory disqualification rights offered by § 1281.91(b)(1) of the California Code of Civil Procedure. See Azteca Construction, Inc. v. ADR Consulting, Inc., 121 Cal. App. 4th 1156, 1166-68 (2004) (provisions for arbitrator disqualification established under the California Arbitration Act may not be waived or suspended by a private contract).10 Similarly, an arbitration agreement that provides for judicial review of an arbitration award on the merits may be found invalid inasmuch as it improperly expands the scope of judicial review beyond the grounds specifically enumerated in §§ 1286.2 and 1286.6 of the California Code of Civil Procedure. See Crowell v. Downey Community Hospital Foundation, 95 Cal. App. 4th 730, 739-40 (2002) (invalidating an entire arbitration agreement where the judicial review provisions were central and not severable from the agreement); cf. Oakland - Alameda County Coliseum Authority v. CC Partners, 101 Cal. App. 4th 635 (2002) (severing the invalid judicial review provisions from the valid arbitration agreement).
The first of these three circumstances is addressed by the specific exception endorsed in endnote 6, supra. The second is addressed, to some extent, by the discussion of unconscionability in endnote 28, infra. Where the third circumstance exists, the Subcommittee believes that an appropriate exception should be taken. This recommendation is consistent with the 1989 Report, which stated (at ¶ V.C.2) that an opinion giver should include an exception with respect to an arbitration provision "only where the [opinion giver] has a specific concern regarding the enforceability of an arbitration provision in the particular transaction."
Sample language of exception:
We advise you that a court may refuse to enforce [Section __ of the Agreement], which provides [for judicial review of arbitration awards/other appropriate reason]. We express no opinion regarding the effect of the inclusion of that provision in [the Agreement] upon the enforceability of the parties' agreement to submit disputes to arbitration.
21. Provisions Limiting the Award of Attorneys' Fees
California opinion givers commonly include a reference to Cal. Civ. Code § 1717 (a portion of which is stated below), which expressly alters the effect of contractual provisions that state that fewer than all parties to the contract are entitled to recover attorneys' fees and expenses. In any action on a contract with such a provision, the statute allows any party who is subsequently judicially determined to be the prevailing party on the contract also to be entitled to reasonable attorneys' fees, in addition to other costs, even if not so specified by the contract. Therefore, an attorney's fee provision purporting to benefit fewer than all parties to the contract, though not invalid, would not be enforceable in accordance with its terms under California law. Rather, it must be treated as benefiting any party who is the "prevailing party". Section 1717 is not an attempt to codify equitable principles, since fee provisions benefiting one party are generally fully enforceable under general contract law, although fairness to all parties clearly is the intent underlying Section 1717, and the statutory change in contract law could be said to be derived from equitable principles.
According to the California Supreme Court, "The primary purpose of Section 1717 is to ensure mutuality of remedy for attorney fee claims under contractual attorney fee provisions." Santisas v. Goodwin, 17 Cal. 4th 599, 610 (1998). Without Section 1717, provisions benefiting one party would be construed according to standard principles of contract law, resulting in a significant advantage to those parties with superior bargaining strength if litigation arises or threatens to arise under the contract. The Supreme Court noted the potential for unfairness inherent in such provisions when it stated that Section 1717 helped "to prevent oppressive use of one-sided attorney's fees provisions." Reynolds Metals Co. v. Alperson, 25 Cal. 3d 124, 128 (1979). Therefore, the statute reflects a legislative decision to alter the common-law rules of contract construction in favor of a public policy designed to protect those "who may be in a disadvantageous contractual bargaining position." Int'l Billing Services, Inc. v. Emigh, 84 Cal. App. 4th 1175, 1188 (2000) (internal quotation marks omitted).
California Civil Code § 1717(a):
1717. (a) In any action on a contract, where the contract specifically provides that attorney's fees and costs, which are incurred to enforce that contract, shall be awarded either to one of the parties or to the prevailing party, then the party who is determined to be the party prevailing on the contract, whether he or she is the party specified in the contract or not, shall be entitled to reasonable attorney's fees in addition to other costs.
Where a contract provides for attorney's fees, as set forth above, that provision shall be construed as applying to the entire contract, unless each party was represented by counsel in the negotiation and execution of the contract, and the fact of that representation is specified in the contract.
Reasonable attorney's fees shall be fixed by the court, and shall be an element of the costs of suit.
Attorney's fees provided for by this section shall not be subject to waiver by the parties to any contract which is entered into after the effective date of this section. Any provision in any such contract which provides for a waiver of attorney's fees is void.
Sample language of exception:
The enforcement of Section __ of [the Agreement] is subject to the limitations of Section 1717 of the California Civil Code.
22. Prohibitions of Oral Modifications
Cal. Civ. Code § 1698 ("Section 1698") states:
- A contract in writing may be modified by a contract in writing.
- A contract in writing may be modified by an oral agreement to the extent that the oral agreement is executed by the parties.
- Unless the contract otherwise expressly provides, a contract in writing may be modified by an oral agreement supported by new consideration. The statute of frauds (Section 1624) is required to be satisfied if the contract as modified is within its provisions.
- Nothing in this section precludes in an appropriate case the application of rules of law concerning estoppel, oral novation and substitution of a new agreement, rescission of a written contract by an oral agreement, waiver of a provision of a written contact, or oral independent collateral contracts.
Section 1698(d) has traditionally been understood to codify equitable principles. Accordingly, the 1992 Report deemed it unnecessary to separately state an exception relating to contractual provisions that purport to prohibit oral modifications, as the circumstances in which they would not be enforced fall within the equitable principles limitation. 1992 Report, § III.F. The Subcommittee endorses the approach of the 1992 Report.
23. Indemnity/Exculpation of a Party in Respect of its Own Misconduct.
The 1989 Report (at ¶ V.C.1) noted the reluctance of California courts "to enforce provisions requiring one party to indemnify another party for loss or damage resulting in part from the second party's wrongful or negligent acts." While express contractual provisions indemnifying (or purporting to release or exculpate) a party for damages arising out of its own negligence or misconduct have generally been held to be enforceable under recent California law, the traditional "general rule" that a party will not be indemnified for its own active negligence under a "general" indemnity agreement has not been wholly abandoned in the most recent cases addressing this issue. The result is that while acknowledging the enforceability of express indemnification provisions, the courts subject them to strict judicial scrutiny as to the reasonable intent of the parties, in most cases strictly construe them against the party claiming contractual indemnification, and subject them to public policy and equitable principles considerations. The resulting uncertainty with respect to the enforceability of these contractual provisions in any given set of circumstances is sufficiently great that California attorneys have generally avoided rendering unqualified enforceability opinions to that effect.
Indemnity Provisions Generally: The California Supreme Court has characterized indemnity as "the obligation resting on one party to make good a loss or damage another party has incurred." Rossmoor Sanitation, Inc. v. Pylon, Inc., 13 Cal. 3d 622 (1975). Prior to Rossmoor, judicial interpretation of express indemnity agreements under California law generally followed the rule in MacDonald & Kruse, Inc. v. San Jose Steel Co., 29 Cal. App. 3d 413 (1972) which focused on the indemnitee's "active" or "passive" negligence when determining the enforceability of different types of indemnity agreements. The courts typically interpreted "general" indemnity provisions as granting indemnitees protection only from damages caused by their passive as opposed to active negligence. Since active negligence falls outside the scope of general indemnity and hold-harmless agreements and involves affirmative acts of malfeasance, courts would often refuse indemnification or strictly construe those agreements against the indemnitee. Thus, under this general rule, a party would not be indemnified for its own active negligence under a "general" indemnity agreement. In Rossmoor and subsequent cases, however, while acknowledging this general rule, the courts caution against its mechanical application, noting that the active-passive dichotomy should not be wholly dispositive of the case. In Rossmoor, the court held that "[w]hether an indemnity agreement covers a given case turns primarily on contractual interpretation, and it is the intent of the parties as expressed in the agreement that should control. When the parties knowingly bargain for the protection at issue, the protections should be afforded. This requires an inquiry into the circumstances of the damage or injury and the language of the contract; of necessity, each case will turn on its own facts." 13 Cal. 3d at 633. The Rossmoor court thus concluded that a contract may expressly provide for indemnification against an indemnitee's own negligence, but that such an agreement "must be clear and explicit and is strictly construed against the indemnitee." It noted that while a clause lacking such clarity and explicitness with regard to an indemnitee's negligence (i.e., a "general" indemnity clause) may be "construed to provide indemnity for a loss resulting in part from an indemnitee's passive negligence, [it] will not be interpreted to provide indemnity if an indemnitee has been actively negligent." Id. at 627-28.
In Morton Thiokol, Inc. v. Metal Building Alteration Co., 193 Cal. App. 3d 1025 (1987), the court reaffirmed and expanded upon the Rossmoor court's interpretive framework, and held that indemnity agreements are valid despite the indemnitee's active negligence and despite the agreement's failure expressly to address this negligence (i.e., in the context of "general" indemnity provisions). The court held that " . . . indemnity should be afforded under any circumstances where to do so furthers the manifest intent of the parties to the contract and where the loss sustained would not have occurred without the indemnitor's negligence." Id. at 1029. This doctrinal approach has been substantially reaffirmed in Hernandez v. Badger Construction Equipment Co., 28 Cal. App. 4th 1791 (1994), Rooz v. Kimmel, 55 Cal. App. 4th 573 (1997) (noting that the general rule disallowing actively negligent party's recovery under a general indemnity provision is only a method for ascertaining the parties' intent), and Heppler v. J.M. Peters Co., 73 Cal. App. 4th 1265 (1999) (holding that the viability of the indemnity provision is dependent on contractual interpretation, specifically the intent of the parties as expressed in the contractual agreement, that each case will depend on its own facts necessitating individual inquiry into the circumstances of the damage and the language of the contract, and that "parties to an indemnity contract have great freedom of action in allocating risk, subject to certain limitations of public policy.").
Limitations to Indemnity Provisions: As an adjunct to traditionally strict judicial interpretation of contractual provisions indemnifying a party for damages arising out of its own misconduct and active negligence, courts have imposed additional limitations based upon public policy and equitable principles:
Construction Contracts: Responding to language in Goldman v. Ecco-Phoenix Elec. Corp., 62 Cal. 2d 40, 44 (1964), the legislature in 1967 adopted Cal. Civ. Code Section 2782, which states that indemnity clauses in construction contracts may not provide indemnification for injury or loss due solely to the indemnitee's negligence or willful misconduct, and notes that such provisions are against public policy and are unenforceable and void. This section does not prohibit indemnification when the loss or injury is due only in part to the indemnitee's negligence or willful conduct.
Strict Liability: One line of cases has held on public policy grounds that strict products liability should be deemed a form of "active negligence" for purposes of interpreting indemnity agreements in certain circumstances. Illustrative is Widson v. International Harvester Co., 153 Cal. App. 3d 45 (1984) (language imposing liability on product user must do so expressly; to hold otherwise would "thwart basic public policy behind strict liability to permit indemnification of a strictly liable defendant under a general liability clause."). That line of cases was distinguished in Maryland Casualty Co. v. Bailey & Sons, Inc., 35 Cal. App. 4th 856 (1995), which noted that those cases equated strict liability with active negligence in order specifically to avoid the anomaly of permitting a party placing a defective product into commerce to abrogate by contractual indemnification its liability to the consumer. Id. at 871. The court found the public policy considerations underlying those cases to be inapplicable in a situation involving a contractor seeking indemnification from a subcontractor "who played an intricate part in the creation of the product," rather than in the use of the product. The court determined this finding to be in furtherance of another public policy consideration; namely, "the sharing of fault among those whose conduct caused the construction defect." Id. at 872.
Punitive Damages: In Ford Motor Co. v. Home Insurance Co., 116 Cal. App. 3d 374 (1981), an insured sought indemnity for punitive damages against insurers as a result of defects in automobiles manufactured by the insured. The insured had argued that California Insurance Code Sections 250 and 533 allowed all liabilities, including those for punitive damages, to be insurable except losses caused by intentional acts, taking the position that strict product liability did not flow from an intentional act. The court, in holding that punitive damages are uninsurable as a matter of policy, reasoned that "the purpose of punitive damages is to punish and deter sufficiently culpable conduct . . . [and that] to accomplish this purpose, the award must be assessed against the party actually responsible for the wrong." Id. at 380.
Exculpatory Provisions: California decisional law has distinguished express indemnity agreements wherein an indemnitor agrees to save the indemnitee from the legal consequences of the conduct of one of the parties or of some third person, from contractual exemptions from liability or exculpatory provisions which have as their object obtaining exemption or waiver of liability from an injured party. With regard to the latter, Cal. Cal. Civ. Code Section 1668 provides as follows:
"Certain Contracts Unlawful. All contracts which have for their object, directly or indirectly, to exempt anyone from responsibility for his own fraud, or willful injury to the person or property of another, or violation of law, whether willful or negligent, are against the policy of the law."
Exculpatory provisions are subject to strict judicial scrutiny and will be held invalid under Section 1668 if they "affect" or "involve" the "public interest." See Tunkl v. Regents of University of Cal., 60 Cal. 2d 92 (1963) (release from liability for future negligence imposed as a condition for admission to hospital found invalid on ground that it affected the public interest); McCarn v. Pacific Bell Directory, 3 Cal. App. 4th 173 (1992) (limitation of publisher's liability to cost of advertisement does not violate public policy against releases for negligence in contracts involving the public interest). In addition, provisions that purport to exculpate a party for its own gross negligence will be held invalid as generally against public policy. City of Santa Barbara v. S. C. (Janeway), ___ Cal.4th ___, 132 P.3d 1164, 42 Cal.Rptr.3d 415 (2007).
To the extent that the provisions in question purport to exculpate a party from its own misconduct--i.e., amount to a waiver of damages arising from misconduct, the proposed exception set forth in endnote 6, supra, adequately addresses them. Where the agreement being opined upon includes a general indemnity (i.e., one that does not specifically address the indemnitee's negligence), purports to indemnify a party with respect to its own violations of law or with respect to punitive damages, or involves a transaction that is subject to statutory limitations with respect to the level of conduct that may be indemnified against and includes an indemnity provision that is not tailored to those limitations, the opinion giver may choose to include an appropriate exception. The following sample language addresses indemnity provisions in these circumstances:
We advise you that indemnities may be limited on statutory or public policy grounds.
The Subcommittee believes that, as a matter of customary usage, the reference to "statutory" grounds for limitation of an indemnity obligation should be understood to include regulatory grounds, as well.
24. Self Help Remedy Provisions.
Although there is little recent case law specific to the issue, existing California decisions have generally upheld the validity and constitutionality of such contractual self-help remedies as setoff, repossession and nonjudicial foreclosure; courts have considered such traditionally afforded rights of creditors to be private, rather than state, action, and thus not subject to constitutional requirements of due process under either federal or state constitutions. See, e.g., Kruger v. Wells Fargo Bank, 11 Cal. 3d 352 (1974) and Granberry v. Islay Investments, 9 Cal. 4th 738 (1995) (right of setoff); Adams v. Southern California First Nat'l Bank, 492 F. 2d 324 (9th Cir. 1973) and Kipp v. Cozens, 40 Cal. App. 3d 709 (1974) (right of repossession); Garfinkle v. Superior Court, 21 Cal. 3d 268 (1978), Strutt v. Ontario Sav. & Loan Ass'n., 28 Cal. App. 3d 866 (1972), U.S. Hertz, Inc. v. Niobrara Farms, 41 Cal. App. 3d 68 (1974), Davidow v. Corporation of America, 16 Cal. App. 2d 6 (1936); Davidow v. Lachman Bros. Inv. Co., 76 F. 2d 186 (9th Cir. 1935) and Lawson v. Smith, 402 F. Supp. 851 (N.D. Cal. 1975) (right of nonjudicial foreclosure). Such rights are not absolute, however, and may be subject to judicial and statutory restrictions imposed to uphold a state public policy interest in protecting debtors' rights. While the possibility of such restrictions introduces a significant degree of uncertainty with respect to the enforceability of these contractual provisions, that uncertainty (subject to the following discussion with respect to breaches of the peace) is derived from judicially or statutorily imposed equitable principles. See Kruger v. Wells Fargo Bank, 11 Cal. 3d 352, 367-368 (1974) (protecting debtors' rights generally); Flores v. Transamerica HomeFirst, Inc., 93 Cal. App. 4th 846 (2001) (unconscionability); Henderson v. Security National Bank, 72 Cal. App. 3d 764 (1977) (breach of peace); County of Orange v. County of Orange, 183 B.R. 609 (Bankr. C.D.Cal. 1995) (mutuality) and Aplanalp v. Forte, 225 Cal. App. 3d 609 (1990) (one-action rule). Accordingly, the equitable principles limitation adequately addresses the circumstances (except with respect to contractually authorized breaches of the peace) in which such provisions would not be enforced, and a separately stated exception is generally unnecessary.
Cal. UCC § 9609 permits a secured party, after default and without judicial intervention, to take possession of the collateral or to render equipment unusable and dispose of collateral on the debtor's premises, but only if it proceeds without breach of the peace, and § 9602 prohibits waivers of that obligation not to breach the peace. The right to immediate possession by a secured party upon default must be enforced through judicial action, rather than through self-help, if force or threats of force are necessary to secure possession of the collateral without judicial intervention. See Henderson v. Security National Bank, 72 Cal. App. 3d 764 (1977) (despite defendant's right to take possession of the automobile, its repossession through unlawful entry constituted a conversion). The Subcommittee considers this situation to be covered by the exception discussed in endnote 6, supra, relating to provisions that contain a waiver of statutory rights that, by statute, may not be waived, so that a separately stated exception specifically addressing a provision that purports to allow the secured party to breach the peace is unnecessary.
25. Indemnification for Securities Law Liabilities
In general, indemnification provisions are enforceable under California law. See Wagner v. Benson, 101 Cal. App. 3d 27, 36 (1980); Cal. Civ. Code § 2772. California's state courts have not specifically addressed whether indemnification for securities law liabilities is enforceable, however, and federal law applies to indemnification provisions concerning securities liabilities arising under federal securities laws. While courts disfavor contractual provisions that impede an investor's ability to enforce his or her rights under the securities laws, there is judicial reticence to encroach upon the freedom of parties to contract. See Stratmore v. Combs [II], 723 F. Supp. 458, 461 (N.D.Cal. 1989) rev'd on other grounds. Moreover, an indemnification provision may not shift securities liability to another party. See, e.g., Laventhol, Krekstein, Horwath & Horwath v. Horwitch, 637 F. 2d 672, 676 (9th Cir. 1980) cert. denied 452 U.S. 963 (1981), in which an underwriter and an accounting firm sought indemnity against the issuer in respect of misrepresentations in materials prepared for a public offering of the issuer's securities. The Laventhol court explained that allowing a party to escape liability for misrepresentations in the context of a securities transaction would thwart the goal of the federal securities laws: to encourage diligence and to deter negligence.11
Section 14 of the Securities Act of 1933 (the "Act"), 15 U.S.C. §77n, voids any waiver of compliance with federal securities laws. Federal courts uniformly agree that a buyer of securities may not enforceably waive its right to enforce the securities laws, and provisions to that effect would be covered by the exception discussed in endnote 6, supra.12 A more difficult question concerns whether an indemnification provision may provide that a buyer will indemnify a seller for damages resulting from misrepresentations by the buyer in a securities purchase agreement, even though the claims in respect of which indemnity is claimed by the seller involve breaches of the securities laws (e.g., if a buyer represents to the seller that the buyer is not relying on any oral representations of the seller in connection with its purchase of securities from the seller, but later brings an action against the seller asserting fraud based on alleged oral misrepresentations, whether the buyer's indemnity of the seller in respect of misrepresentations by the buyer will permit the seller to recover attorneys' fees from the buyer, even though the buyer's underlying claim is for violation by the seller of applicable securities law). With regard to these types of indemnification provisions, courts typically align with the reasoning of one of two seminal cases. The more restrictive view was pronounced in Doody v. E.F. Hutton & Co., Inc., 587 F. Supp. 829 (D.Minn. 1984), in which the court refused to enforce an indemnification provision that would have forced the buyer to pay the seller's attorneys' fees in a securities fraud action. A more liberal approach was taken by the court in Zissu v. Bear, Stearns, & Co., 627 F. Supp. 687 (S.D.N.Y. 1986), where the court enforced an indemnification provision despite the buyer's argument that enforcing indemnification provisions that require a plaintiff to pay for a defendant's attorneys' fees in a securities fraud action was against the public interest.
There is little Ninth Circuit case law addressing the enforceability of these types of indemnification provisions. At least one case, however, has held that an indemnification provision may be enforced where it pertains to the warranties and representations made by buyers in a securities purchase agreement and where the contract clearly specifies the obligation of the buyer to indemnify the seller for legal fees "in the event of an unsuccessful securities law suit by [the buyer]." Stratmore v. Combs, supra, 723 F. Supp. at 460 (discussing the importance of Doody, but adopting the reasoning of Zissu, while applying a very strict standard of clarity with respect to the wording of the indemnity provision in question).
The public policy against permitting one party to shift liability for breaches of the securities laws to another party, the conflicting judicial policies applicable to indemnities by buyers in securities purchase transactions, and the absence of decisive relevant case law make it difficult to render an opinion regarding the enforceability of such contractual provisions. Thus, it is customary practice to include an exception in a remedies opinion relating to the enforceability of those provisions. Sample language follows:
We express no opinion regarding the enforceability of [Section __] of the [Agreement] [to the extent that it would require [the opinion giver's client] to indemnify [the opinion recipient] in respect of [the opinion recipient's] violations of securities laws].
26. Voting Agreements.
Some California opinion givers opine as to the enforceability of voting agreements and the rights contained therein, while others do not--in each case, largely because the statutory provisions affecting such agreements (Cal. Corp. Code §§ 705 and 706) have remained untested by the California courts. There appears to be no customary practice in this area.
27. Provisions That Grant Rights of Setoff to Loan Participants or to Affiliates of Parties to The Agreement.
An offset is the general right of one party to recover a debt owed by another through a deduction from monies owed by the first party to the second. (The doctrine of setoff is "an equitable doctrine requiring that the demands of mutually indebted parties be set off against each other and that only the balance be recovered." 20 Am. Jur. 2d Counterclaim, Recoupment, etc. § 6 (1995.) See also 80 C.J.S. Set-off & Counterclaim, § 3 (2000) (setoff "allows parties that owe mutual debts to each other to assert amounts owed, subtract one from the other, and pay only the balance").) Basically, there are two types of offsets: setoffs and recoupments. A setoff is an equitable right of offset where the mutually offsetting debts arise out of separate transactions. In contrast, a recoupment is the right of offset when the claim and the debt arise out of the same transaction.
The right of setoff is available under the law of most, if not all, jurisdictions in the United States. In some jurisdictions, the right of setoff is a procedural right; in others, it is a common law right. Unless the parties otherwise contract to provide for setoff, however, common law or procedural setoff generally requires that there be mutuality between the parties and that the claims sought to be set off have matured. See generally Edison Electric Institute, Survey of the Legal Landscape Applicable to Master Netting Agreements (2002) (the "Edison Electronic Institute Netting Survey")13 at p. 11. Because of the uncertainties those requirements can introduce into a situation, contracting parties will generally prefer to spell out their setoff rights in their agreement, rather than to rely solely upon principles of common law or procedure.
In California, the most common instances of setoffs are: 1) equitable setoffs used by courts to apply remedies to discharge or reduce a demand by one party to another; 2) setoffs used by banks in reducing a customer's accounts in satisfaction of a debt the customer owes the bank; 3) contractual setoffs; and 4) setoffs in the context of a bankruptcy. The first of these situations does not affect the enforceability of contractual setoff provisions, and the last of them is, of course, covered by the bankruptcy exception. Neither is separately addressed in this appendix.
Bank and Savings and Loan Setoffs. Under California law, banks and savings and loan associations have long had a right of equitable setoff against the funds of a general depositor. See, e.g., Arnold v. San Ramon Valley Bank, 184 Cal. 632, 635 (1921). Cal. Civ. Code § 3054 (described in Arnold as a codification of a "well-known rule of commercial law") provides that bankers have a lien on customers' property in their possession. 14 The California State Legislature has subjected the exercise of the banker's lien against deposit accounts (i.e., by way of setoff) owned by natural persons to the restrictions of Cal. Finance Code §§ 864 and 6660. These restrictions prohibit a setoff that would result in a reduction in the balance of the customer's account to less than $1000 and impose other restrictions intended to protect the affected customer. The restrictions do not apply, however, to an account in which the depository bank or savings association has a security interest under a written contract as collateral for a debt or where the customer has previously given written authority to "periodically debit" the account as an agreed method of payment.
Contractual Rights of Setoff. In California, parties may contract to provide a right of setoff. These contracts are often referred to as "netting contracts," as the amount of the parties claim will generally "net" out. Generally, such provisions are enforceable in the bilateral context, even when setoff would not be available under applicable rules of common law or procedure (e.g., because one or both of the obligations to be set off is not matured, or is not liquidated). Parker v. Moore Grocery Co., 107 S.W.2d 1083 (Tex. 1937), Allstate Ins. Co. v. Urban, 23 F. Supp.2d 324 (E.D.N.Y. 1998); see also Prudential Reinsurance Company v. Superior Court, 3 Cal. 4th 1118, 1137 (1992) (indicating, in dicta, that setoff of debts pursuant to an express mutual agreement would be permissible); Murphy v. FDIC, 38 F.3d 1490, 1504 (9th Cir. 1994) (holding that a right to set-off may be based on contract or may arise independently of contract, as a matter of equity). Extant case law relating to multiparty setoff (sometimes referred to "triangular setoff", since it involves at least three parties; one of which ("Party A") may be trying to collect an obligation owed to it by a second party ("Party B") by setting off amounts owed to Party B by an affiliate of Party A), provides support for the enforceability of such arrangements primarily by way of dicta. See, e.g., Edison Electric Institute Netting Survey, supra, at 33 and nn. 66-70; Prudential Reinsurance Company, supra, 3 Cal. 4th at 1137. Most such cases (including Prudential Reinsurance Company) involve situations in which the court disallows triangular setoff under common law, while observing that it would have allowed setoff had the parties specifically contracted for it. Id. The principle does not appear to be in doubt.
The Subcommittee found no cases indicating that contractual provisions granting rights of setoff in the commercial context would not be enforced, except to avoid inequity, a basis that falls within the scope of the equitable principles limitation. No additional exception need be taken.15
28. Provisions that are Unconscionable as a Matter of Law at The Time of Closing
As noted in the text of this appendix, at ¶ I.B.2.b. and the accompanying footnote 19, the Subcommittee concurs with the position taken by the Accord, the 1998 TriBar Report, and the 1987 Real Property Report to the effect that the equitable principles limitation should not be understood to encompass unconscionability that exists at the time of closing. As discussed in endnote 20, supra, with respect to agreements to arbitrate, a California court will not hold a provision of an agreement to be unconscionable as a matter of law unless it determines both16 that (i) unconscionable procedures--e.g., duress or coercion, or the use of an adhesion contract--were present in the execution and delivery of the agreement, and (ii) the provision is substantively unconscionable (e.g., in the context of agreements to arbitrate, if the agreement is unilateral, requiring only one party to submit to arbitration at the election of another party). In the absence of procedural unconscionability, no provision of an agreement should be held to have been unconscionable at the time it became effective.
Taking this into account, the Subcommittee endorses the approach taken by the 1998 TriBar Report for purposes of a remedies opinion:
- Absent knowledge to the contrary (i.e., circumstances that would make it inappropriate to rely upon such an assumption), the opinion giver is entitled to assume the absence of conduct so egregious as to constitute procedural unconscionability.
- A remedies opinion is, as a matter of customary practice, understood to include an assumption on the part of the opinion giver as to the absence of conduct so egregious as to constitute procedural unconscionability, regardless of whether the assumption is expressly stated.
- If, before rendering the opinion, the opinion giver believes that conduct--coercion, duress, or the like--amounts to procedural unconscionability, and if the opinion giver also concludes that one of the provisions is substantively unconscionable, the opinion giver should not render the opinion. If his/her client consents, the opinion giver should disclose the concerns giving rise to his/her determination that no opinion can be rendered.
1998 TriBar Report, § 3.3.4, n. 77. On this basis, the opinion giver can generally assume that no procedural unconscionability exists and, thus, that no unconscionability exists at the time of the formation of the contract, even if a particular term of the contract may raise substantive unconscionability issues.
29. Payments Free of Setoff or Counterclaim
Provisions that require payments to be made free of any setoff, counterclaim or defense appear to be generally enforceable, outside of the context of consumer transactions and certain statutorily regulated seller-assisted marketing plans (for example, Cal. Civ. Code §§ 1812.200 et seq.) and the like, in which such waivers are prohibited by statute. See, e.g., Cal. Civ. Code §§ 1812.211 and 1812.216(a). Cal. UCC Sections 10407 (Uniform Section 2A-407) and 9403, on the other hand, expressly authorize such provisions in the context of commercial leases and secured transactions. The Subcommittee found no authority calling such provisions into question in the commercial context.
30. Waiver of Statute of Limitations
Cal. Code Civ. Proc. § 360.5 provides, with respect to statutes of limitation contained in that Code, that no waiver executed prior to the expiration of the time limited for commencement of the action shall be effective for a period exceeding four years from the date of expiration of the time limited for commencement of the action; and no waiver executed after the expiration of such time shall be effective for a period exceeding four years from the date thereof, but any such waiver may be renewed for a further period not exceeding four years from the expiration of the immediately preceding waiver. Such waivers may be made successively. See California First Bank v Braden, 216 Cal App. 3d 672 (1989).
In a trust deed, a provision that the debtor waives the right to plead any and all statutes of limitation as a defense to any demand secured by the deed is void. See Cal. Code Civ. Proc. §§ 337(1), 580(a); California Bank v Stimson, 89 Cal. App. 2d 552 (1949).
Also, Cal. UCC § 2725(1) provides that an action for breach of any contract for sale must be commenced within four years after the cause of action has accrued and that while, by the original agreement, the parties may reduce the period of limitation to not less than one year, the parties may not extend the period beyond four years. Thus, in a contract subject to Division 2 of the California Uniform Commercial Code, a waiver extending the limitations period is prohibited. Division 3 of the California Uniform Commercial Code provides separate statutes of limitations applicable to claims with respect to negotiable instruments.
Given that these limitations on waiver are imposed by statutes that do not codify equitable principles, the limitations would not be included within the equitable principles limitation, and the opinion giver generally includes an appropriate exception when a provision of the contract purports to waive the statute of limitations in violation of these sections:
We advise you that the waiver of the applicable statute of limitations set forth in Section __ of [the Agreement] will be subject to the limitations of [the relevant statutory provision].
31. Provisions That Permit the Excercise of Remedies without Consideration of the Materiality of Breach/Consequence of the Breach to the Non-Breaching Party.
As with the issues addressed in endnote 19, provisions permitting the exercise of remedies without regard to the materiality of the breach or of the consequences of the breach to the non-breaching party address issues that are inherently equitable in nature, and the principles discussed at endnote 19 apply as well to the provisions addressed by this endnote. (As noted in the text of this appendix, the drafters of the Accord and of the 1989 Report included concepts of materiality in the equitable principles limitation.) Relevant case law relates primarily to secured transactions (see, e.g., Freeman v. Lind 181 Cal. App. 3d 791(1986), in which the court held that where a borrower breached its covenant to maintain fire insurance, the lender could accelerate payment on the note only if it could show that lack of insurance impaired its security; Wellenkamp v. Bank of America, 21 Cal. 3d 943 (1978), in which the California Supreme Court prohibited an institutional lender from accelerating a loan pursuant to a "due-on-sale" clause because acceleration created an unreasonable restraint against alienation that was not justified by the risk to the lender's security), where courts uniformly required that such considerations be taken into account. It took legislation (Cal. Civ. Code § 2924.7 and the Federal Garn-St. Germain Depository Institutions Act of 1982, as set forth at 12 U.S.C. Section 1701j-3, respectively) to permit strict enforcement, in the context of secured real property transactions, of covenants to maintain insurance and not to transfer real property collateral. As it did with the concepts implicated by Survey Provision No. 19, and as did the drafters of the Accord when defining the equitable principles limitation, the Subcommittee considers the concepts implicated by this Survey Provision integral to the equitable principles limitation.
32. Provisions that would Permit the Other Party to Require Performance without Requiring Consideration of the Impracticality or Impossibility of Performance at the Time of Attempted Enforcement due to Unforseen Circumstances not withing the Contemplation of the Parties
Generally speaking, in California, five kinds of events may constitute impossibility or commercial impracticability: (1) the death or incapacity of the promisor; (2) the operation of law; (3) war or the act of a public enemy; (4) the destruction or nonexistence of the subject matter of an agreement; and (5) extraordinary difficulty or expense. See 1 Witkin, Summary of Cal. Law: Contracts §§ 782-86 (9th ed. 2001); Cal. Civ. Code §§ 1441, 1598, and 3531 (which collectively establish the default rule that impossibility excuses a contract party from performance). Cf. Cal. UCC § 2615 (delay in delivery of goods or non-delivery is not a breach "if performance has been made impracticable by the occurrence of a contingency the non-occurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order . . .").
Cal. Civ. Code § 1511(2), however, permits parties to agree that certain of the circumstances that otherwise would give rise to a defense of impossibility will not do so. Under this provision, parties may overcome the default rule that a contract party is excused from performance by impossibility by making special provisions adjusting rights or allocating risks in the event of impossibility. Cal. Civ. Code § 1511(2) (permitting provisions to the effect that a party will remain obligated to perform despite prevention or delay by reason of "irresistible, superhuman cause" or the act of public enemies); see also Cal. Civ. Code § 3513 (permitting, generally, a contract party to waive legal rights); Ahlgren v. Walsh, 173 Cal. 27 (1916) (enforcing a contract term apportioning loss from fire or earthquake); Autry v. Republic Productions, Inc., 30 Cal. 2d 144 (1947) (denying a motion picture actor who enlisted in the army the availability of a defense of impossibility as an excuse for the unperformed portion of his contract of employment because the parties had stipulated their rights in the event of enlistment); Cal. UCC § 2615 (which clearly contemplates agreements by sellers of goods, that the defense of impracticability will not apply in all circumstances: "Except so far as a seller may have assumed a greater obligation . . .").
On the other hand, a court may be required to refuse to enforce a provision by which a party assumes an obligation to perform despite supervening impossibility by the application of statutory principles: Cal. Civ. Code § 1511(1) invalidates provisions imposing liability upon a person despite supervening impossibility where the event preventing or delaying performance is (1) an act of the other party or (2) the operation of law, "even though there may have been a stipulation that this shall not be an excuse." See also Cal. Civ. Code § 1512 ("If the performance of an obligation be prevented by the creditor, the debtor is entitled to all the benefits which he would have obtained if it had been performed by both parties").
Thus, while the Accord's classification as a part of the equitable principles limitation of the principle requiring consideration of the impracticability or impossibility of performance at the time of attempted enforcement is accurate, in that a court always has the power to consider such issues, it is also the case that the parties to an agreement may, in many cases, agree that one or the other of them will remain bound notwithstanding the occurrence of certain circumstances that render its performance impracticable or impossible. The Subcommittee believes that the considerations--including those referred to in Cal. Civ. Code § 1511(1)--that would permit a court to refuse to enforce such an agreement are inherently equitable considerations, and that no exception need be separately stated with respect to this Survey Provision. The call is a close one, however, and the Subcommittee believes that opinion recipients should accept an exception that addresses the limitations of Cal. Civ. Code § 1511, should one be proffered by an opinion giver.
1 Id. at 466. As noted in the text, infra, California opinion givers do not customarily opine as to what constitutes a fundamental policy of the State of California. Back
2 But see the "Final Admonition," supra, regarding the delivery of misleading opinions. The opinion giver might also anticipate being asked to render an opinion as to the enforceability of the agreement under California law generally, so as to flag problematic issues. Back
3 Under Cal. Civ. Code § 1671(b), however, absent another statute expressly applicable to the issue, a liquidated damages provision in a commercial contract is valid unless the party seeking to invalidate the provision establishes that it was unreasonable under the circumstances existing at the time the contract was made. Back
4 Under California Rule of Court No. 977, an unpublished case may not be cited or relied upon by a court or a party in any other action or proceeding except when it is relevant under the doctrines of law of the case, res judicata, or collateral estoppel, or when it is relevant to a criminal or disciplinary action or proceeding because it states reasons for a decision affecting the same defendant or respondent in another such action or proceeding. Arnett is nevetheless cited here because of the paucity of recent authority. Back
5 Accord, TriBar Remedies Opinion Report, Paragraph III.B. Back
6 Literally, the enforceability of a waiver of a right to jury trial, since it constitutes a waiver of a constitutional right, would be covered by the exception discussed in endnote 6, supra. As a matter of customary usage, however, that exception, which is stated very broadly, is not understood to encompass jury trial waivers; rather, opinion givers wishing to qualify a remedies opinion with respect to such waivers customarily include a separate exception to that effect. Back
7 See, generally, Cal. Civ. Code Sections 2899 (which establishes the order in which a holder of liens on multiple properties must resort to its security when other parties have subordinate liens on some, but not all, of the properties), and 3433 (which provides the holder of a such a subordinate lien the right to require the senior creditor to seek satisfaction from property that is not subject to the subordinate lien, provided that the senior creditor is not harmed by doing so). As noted in the text, infra, however, transactions involving real property security are beyond the scope of this appendix. Back
8 Section 2856 includes "safe harbor" forms of waivers of certain defenses that incorporate references to specific statutes. Some practitioners have expressed concern that a court might not give effect to a waiver that does not cite those statutes, despite the Section's clear statement to the effect that no such references are necessary. Back
9 In the recent case Pacific State Bank v. Greene 110 Cal. App. 4th 375 (2003), the California Court of Appeals for the 3d District allowed a guarantor to introduce parol evidence relating to the scope of the guaranty and the parties' intent with respect thereto, even though the Appellate Court found that the language of the guaranty was clear and unambiguous. The Pacific State Bank decision could allow a guarantor to introduce parol evidence relating to the scope of the waiver language. (The Subcommittee notes, however, that the opinion giver is not responsible for parol evidence that changes the plain meaning of the agreement.) Back
10 The Subcommittee notes that a remedies opinion is not customarily understood to address the risk that a court will not enforce the rules of any arbitration tribunal that are selected to govern arbitration. As noted by the TriBar Report, at § 3.6.2:
Agreements that contain arbitration provisions usually incorporate by reference the rules of an arbitral tribunal (e.g., 'any dispute is to be determined in accordance with the Commercial Arbitration Rules of the American Arbitration Association'). While the remedies opinion addresses the enforceability of the arbitration provision, as a matter of customary usage the remedies opinion is understood not to address the enforceability of these rules. Back
11 Laventhol involved claims for indemnification arising under federal securities law and state law, but the court did not reach the indemnification issue attendant to the state law claims. It also distinguished between claims for contribution, which it did not see as inconsistent with the goal of the securities laws, and claims for indemnity, which it did. Back
12 California Corps Code § 25701 parallels federal law in this respect. Back
13 Available at the Edison Electronic Institutes website (http://www.eei.org), at http://www.eei.org/industry_issues/legal_and_business_practices/master_netting_agreement/legallandscape.htm. Back
14 Technically, funds credited to a deposit account are not "in the possession" of anyone; a deposit account is a general obligation of the depository bank to its customer. The statute clearly contemplates its application to deposit accounts, however: subsection (b) provides that "[t]he exercise of this lien with respect to deposit accounts shall be subject to the limitations and procedures set forth in Section 864 or 6660 of the Financial Code." Back
15 This analysis, and the Subcommittee's conclusion, are limited to provisions, such as the Survey Provision, in which a debtor authorizes the affiliates or participants of a lender to set off against that debtor obligations they owe to it. Much more difficult issues (for example, suretyship issues) are raised by multiparty netting arrangements that permit recover by setoff against more than one obligator. Id. Back
16 The greater the procedural unconscionability, the less substantive unconscionability is necessary to render a provision unconscionable, and the greater the substantive unconscionability, the less procedural unconscionability is necessary to render a provision unconscionable. Back
Appendix 10 / Appendix 10: Annex A / Appendix 11 / Report on Third-Party Remedies Opinions