The California Court of Appeal’s decision in Zamora v. Lehman, 214 Cal.App.4th 193 (March 7, 2013), offers a useful roadmap for drafting an enforceable provision in a professional services or employment contract that cuts short by years the applicable statute of limitations.
Zamora involved a bankruptcy trustee’s breach of fiduciary duty claims against three former executives of a direct marketing company. In December 2005, years after the company’s 2001 bankruptcy, the trustee filed breach of fiduciary duty claims against the executives, alleging that they had engaged in and concealed a variety of corporate misdeeds.
As a sideshow to this article, the Court of Appeal in two prior decisions in the case affirmed the overruling of defendants’ demurrer on statute of limitations grounds and reversed the trial court’s grant of two of the three defendants’ motions to compel arbitration. Back in court, those two defendants filed summary judgment motions, this time asserting the trustee’s claims were barred by a one-year notice provision in their employment agreements. That provision in substance required that any claim between the company and the executive within the scope of the arbitration provision “must be presented in writing by the claiming party to the other within one year of the date the claiming party knew or should have known of the facts giving rise to the claim . . . . Unless the party against whom any claim is asserted waives the time limits set forth above, any claim not brought within the time periods specified shall be waived and forever barred. . . .” Id. at 200-201.
The defendants declared that they never received notice from the company or the trustee of any claim until the lawsuit was filed. While the trustee submitted various documents which she argued constituted timely notice, the trial court held that none of those documents effectively notified the defendants of the company’s claims. In granting summary judgment, the trial court also rejected the trustee’s argument that her failure to give timely notice was excusable, since the trustee’s own complaint alleged that the trustee became aware of the facts giving rise to the claims in November 2002, which would have barred the claim for lack of notice at the latest by November 2003.
The Court of Appeal affirmed summary judgment for the defendants. The appellate court first rejected the trustee’s argument that the one-year notice provision was unreasonable and invalid as a policy matter. The court noted that California courts have afforded contracting parties “substantial freedom to modify the length of the statute of limitations,” based in part on the fact statutes of limitations are “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. at 206.
The Court identified three requirements for upholding a contract provision that shortens the statute of limitations period. It considered first that the employment agreements were “properly approved,” having been negotiated between the defendants and the company and thereafter approved by the board of directors.
Second, it held that the shortened time period must be “reasonable.” Noting that at least one court had upheld a provision shortening the statute of limitations to as little as three months, it ruled that, to be “reasonable,” the provision must provide “sufficient time to effectively pursue a judicial remedy.” Id. at 208.
Third, in order to satisfy the reasonableness requirement, particularly in the context of a claim against a professional whose breach of duty may be difficult to detect, the provision must incorporate the “delayed discovery rule.” Id. at 208, citing Moreno v. Sanchez, 106 Cal.App.4th 1415 (2003). In other words, to be valid, the contract term must provide that the cause of action accrues either at the time of discovery of the breach or when, through the exercise of reasonable diligence, the breach should have been discovered. Id. Because the contract provision in Zamora required written notice to be presented within a year of the date the claiming party knew or should have known of the facts giving rise to the claim, it incorporated the delayed discovery rule and was valid and enforceable as a result. Id. at 208-209.
The appellate court rejected the trustee’s argument that a one-year notice provision could not be included in an employment agreement in particular, finding that “[n]o dictate of public policy is violated by an agreement requiring either the employee or the employer to make a timely statement of his claim.” Id. at 210. The Court likewise rejected the trustee’s claim that a defendant must show prejudice in order to invoke a contractual shortened statute of limitations. Id. at 212. And it squarely rejected the argument that the contract provision should not apply to the trustee to the same extent it applied to the company itself, since the trustee “stands in the shoes of the debtor” and is subject to all claims and defenses which might have been asserted against the bankrupt corporation. Id. at 213. Having fully validated the one-year notice provision, the Court of Appeal affirmed summary judgment against the trustee, based in no small part on the trustee’s affirmative allegation that she was aware of the facts underlying her claims as of November 2002.
Since Zamora was decided, at least one California Court of Appeal decision has gone further, ruling in a commercial construction latent defect case that sophisticated parties should have the freedom to contract around the statute of limitations “to structure risk shifting as they see fit” even without including a delayed discovery provision. Brisbane Lodging , L.P. v. Webcor Builders, Inc., 216 Cal.App.4th 1249, 1263 (June 2013). Zamora, in any event, clarifies the California law criteria for a valid contract provision that truncates the otherwise applicable statute of limitations, at least for employment and professional services contracts, and illustrates the potential benefits of including such a provision.
Susan Allison, a partner at Jeffer Mangels Butler & Mitchell LLP, has handled diverse, complex business litigation matters for more than 30 years, including healthcare litigation, intellectual property/entertainment litigation and professional malpractice. Contact her at SAllison@jmbm.com or 310.785.5303.