Opinion
A114325
4-18-2008
PAUL W. VAN ETTEN, Plaintiff and Appellant, v. ALLIANCE FINANCIAL CAPITAL, INC. ET AL., Defendants and Respondents.
NOT TO BE PUBLISHED
Alliance Financial Capital, Inc. purchased an option to buy all of Paul Van Ettens shares in a bank, exercisable at the companys discretion during a one-year option period. Alliance never exercised its option under the contract. Van Etten sued for monthly payments due under the contract for the purchase of the option (as distinct from the purchase of the bank shares). The trial court concluded the contract was illegal and unenforceable because it attempted to transfer a controlling interest in a regulated bank without prior regulatory approval. We reverse.
BACKGROUND
This action arose in the context of a fight for majority shareholder control over Sequoia National Bank, N.A. (Sequoia). We first provide a chronological overview of the struggle for control of Sequoia. We then describe the history of the Option Agreement. Finally, we review the procedural history of this action before addressing the issues raised on appeal.
Chronology of Struggle for Control of Sequoia Bank
From 1998 to July 2001, Van Etten was the largest single shareholder in Sequoia, owning between 38% and 51% of the outstanding shares. He was also an outside director of Sequoia. In mid-2000, Van Etten and Peter Behr urged Sequoia to do business with Richard Hatfield and his company, Alliance Financial Capital, Inc. (Alliance). The board did not approve the plan.
Some of the facts recited in this section are taken from Sequoias December 2001 complaint against Van Etten and others and from cross-complaints that were filed in that action.
In December 2000, Van Etten urged Hatfield and Behr to pursue a consolidation of Alliance with Sequoia or another bank and promised his support as a controlling shareholder. He explained that he had championed Hatfields proposal to Sequoia for more than six months to no avail and it appeared he had little or no influence over Sequoias management. In early 2001, Sequoia refused to present shareholders with a merger proposal.
In about May 2001, Sequoia issued 1,000,000 new shares of common stock, which reduced Van Ettens share of outstanding common stock from 52% to 37.4%, and diluted Behrs 0.1% share. At about the same time, Van Etten, Hatfield, Behr, and Robert Johnson tentatively agreed that Hatfield and Johnson would each purchase 250,000 shares; at an upcoming shareholders meeting the four shareholders would jointly elect a new board; the new board would authorize the issuance of two million additional shares to be subscribed to by Hatfield and Johnson; and Sequoia would purchase Alliance for stock. Hatfield and Johnson did not purchase the 500,000 shares and a new board was not elected.
On July 18, 2001, the Sequoia board adopted a resolution to postpone special shareholder meetings requested by non-board member shareholders for as long as six months and to require shareholders requesting such a meeting to specify the intended agenda in writing.
At about the same time, Hatfield, Johnson and Behr proposed a buyout of Van Ettens shares as part of an effort to obtain majority control. On July 23, 2001, Van Etten and Hatfield, on behalf of Alliance, signed an Option Agreement that granted Alliance a one-year option to purchase Van Ettens 1.4 million shares at $2.50 per share for an option price of $20,000 per month starting August 1, 2001. If the option was exercised, all monthly payments would be credited toward the purchase price. If the option was not exercised, the monthly payments would not be refunded.
On December 21, 2001, Sequoia sued Van Etten, Hatfield, Johnson, Behr, Alliance, and others for conspiring to acquire voting control over Sequoia so they could use it to further their own business interests to the detriment of the other shareholders. Hatfield, Johnson, and Behr filed a cross-complaint against certain officers and directors of Sequoia alleging they engaged in a course of conduct designed to entrench themselves as officers and directors contrary to the best interest of Sequoia by converting themselves from minority to majority shareholders and by diluting the voting power of shares held by Van Etten and the cross-complainants. Van Etten filed a cross-complaint asserting shareholder derivative claims for poor management decisions, failure to recognize Van Ettens vote of his shares on July 11, 2001, illegal issuances of shares, unlawful golden parachute arrangements with managers, and the entry of an unlawful bylaw regarding special shareholder meetings, among other causes of action.
On January 4, 2002, the Sequoia board adopted a resolution authorizing the issuance of an additional 1,122,677 shares of common stock. On January 7, Hatfield and Johnson offered $2.50 per share to purchase a sufficient number of the new shares to obtain a 24.9% share of the total outstanding stock. The directors ignored the offer. On January 8, Van Etten and other shareholders who collectively owned a majority of the outstanding stock executed an Action by Written Consent that prohibited the issuance of additional stock without prior approval by shareholders of a majority of the outstanding shares. The directors nevertheless issued 1,122,323 shares of common stock on January 30, 2002, at $1.95 a share and severely restricted the potential purchasers to ensure there would be no change in control of Sequoia. Before the January 30 stock sale, the directors owned 23.9% of the outstanding stock, Hatfield, Johnson, and Behr collectively owned 7%, and Van Etten owned 38%. After the sale, the directors owned 42.1%, Hatfield, Johnson, and Behr 5.4%, and Van Etten 29.1%. As far as the record shows, Hatfield, Johnson, and Behr never obtained majority control of Sequoia.
History of the Option Agreement
The Option Agreement was drafted by Alliances attorney, Gray Cary. Alliance and Hatfield were also represented by Behr, who held himself out as a specialist in the sales of financial institutions, and by Jeffrey Tisdale, an attorney specializing in banking law. Van Etten was not represented by counsel with respect to the Option Agreement.
At the hearing on Van Ettens motion for a new trial, both parties said the contract was drafted from a form document.
In a July 22, 2001 email to Hatfield, Johnson, and Behr, Van Etten asked 12 questions about the Option Agreement that was then under consideration. Behr answered those questions the next day. Among their questions and responses were the following:
Van Etten: "Who will have the right to vote these shares in elections?"
Behr: "According to the option agreement, [Hatfield and Johnson] will have the right to vote the shares at elections, as long as they are current in their payments. If they were not current, you would have the right to vote the shares." In later deposition testimony, Behr stated that this response was a mistake on his part. "When I reread the option agreement I said, no, we cant do that."
Van Etten: "When will this all take place?"
Behr: "The closing will take place after regulatory approval is received and the money to purchase the shares is transferred to the new holding company."
Van Etten: "Who will be obligated for the legal costs to insure timely shareholder meeting etc.?"
Behr: "As purchasers of the shares, it will be our obligation to bear legal costs for the shareholders meetings, etc."
Van Etten: "Why such a lengthy period if plans are in place?"
Behr: "Time period is dictated, with a reasonable cushion included, to allow for regulatory approval and the timely transfer of funds."
Van Etten: "What might trigger termination of [the] agreement?"
Behr: "The most likely thing that would trigger termination of the agreement would be a refusal by the regulatory authorities to approve our change of control application."
In his offer of proof, Van Etten states that Hatfield told him before the Option Agreement was signed that, immediately after signing the agreement, he would apply for approval from the Office of the Comptroller of the Currency (OCC) for change of control of Sequoia. In fact, Hatfield had felony convictions that prevented him from obtaining regulatory approval. He did not disclose those convictions to Van Etten.
Van Etten and Hatfield, on behalf of Alliance, signed the Option Agreement on July 23, 2001. The agreement states that Van Etten owned approximately 1.4 million shares in Sequoia, which he purchased with loans that carried $20,000 in monthly financing costs. In fact, the monthly financing costs were $16,333. In the agreement, Van Etten granted Alliance an option until and including July 1, 2002 to purchase all of Van Ettens shares at a stated exercise price. The option could be exercised at any time within the option period by written notice. (Paragraphs 1.1. & 1.4.) The purchase price for the option was equal to the stated financing costs: $20,000 in monthly payments due on the first day of the month beginning August 1, 2001. (Paragraph 1.2.) The exercise price was the difference between $2.50 per share purchased and the total purchase price monthly payments (hereafter, monthly payments) that had been made at the time of exercise. (Paragraph 1.4.) The Option Agreement could be terminated by Alliance at any time with or without cause upon written notice, although monthly payments already made would be nonrefundable. (Paragraph 2.1.) The agreement could be terminated by Van Etten if Alliance failed to make a timely monthly payment and failed to cure the default within 10 days of written notice. (Paragraph 2.2.)
The Option Agreement stated that regulatory approvals had already been obtained for the stock sale, which was inaccurate. (Paragraph 4.6.) The agreement required Van Etten, immediately after the agreement was executed, to deposit his stock certificates in escrow accompanied by stock powers and an irrevocable proxy permitting Alliance to vote the shares while the stock was held in escrow. (Paragraph 1.3.) The stock certificates were to remain in escrow until the option was exercised or the option agreement was terminated.
The Option Agreement also provided, "Purchasers to pay legal fees in connection to such actions required to protect shareholders rights necessary to elect directors." (Italics omitted.) (Paragraph 4.5.) A separate provision provided for the payment of attorney fees and costs to the prevailing party in litigation brought to enforce the contract. (Paragraph 5.5.)
On July 23, 2001, apparently after the Option Agreement was signed, Tisdale informed Hatfield that the shares could not be voted or purchased by Alliance until the OCC approved the change in control of Sequoia. Tisdale edited a copy of the Option Agreement to provide that the option would be granted subject to prior regulatory approval and that the transfer of voting rights would not be effective until Alliance obtained regulatory approvals. There is evidence in the record suggesting that Tisdale might have brought this same information to Hatfields attention before the Option Agreement was signed. Van Etten states that he did not see Tisdales revisions to the contract until March 2002. However, he always understood that the agreement was contingent on regulatory approval.
The record includes two copies of the Option Agreement edited by Tisdale. The copy produced by Van Etten shows Van Ettens and Hatfields initials on the lower right corner of each page and their signatures on the signature page. At the top of each page is a computer generated notation indicating the page was sent by facsimile transmission on January 18, 2002. These features support an inference that Tisdale made the edits after the contract was signed. A partial copy of the document that was submitted by the defendants also shows the parties initials in the lower right hand corner of each page with the important exception of page two. A computer generated notation at the top of each page of the defendants document indicates the page was sent by facsimile transmission on July 25, 2001. Page two, which does not bear the parties initials, bears the notation of facsimile transmission on July 25, 2001, and also a notation of facsimile transmission on July 17, 2001. The July 17, 2001 facsimile notation indicates the page was the second page of an 11-page transmission. Tisdales edits on this page are different from his edits on page two of Van Ettens copy of the document. Van Etten argued below that page two of the defendants version of the document supports an inference that Tisdale informed Hatfield before Hatfield signed the contract that OCC approval was a prerequisite to any transfer of voting control.
Immediately after the contract was signed, Hatfield and Johnson asked for a modification of the contract terms. Van Etten agreed to transfer 4,000 of his shares to Hatfield and Johnson for every $10,000 he received in monthly payments. On August 24, 2001, Van Etten emailed Hatfield a draft letter to Wells Fargo regarding the new arrangement. Hatfield made $50,000 in payments from August to December 2001 and received 20,000 shares. Johnson made $40,000 in payments in the same period and received 16,000 shares. Defendants made no other payments to Van Etten, never opened escrow of the deposit of stock certificates as provided for in Paragraph 1.3 of the Option Agreement, and never asked Van Etten to place his shares in escrow.
The letter provided: "Please accept this letter as your authorization to transfer 4,000 shares per month of [Sequoia] stock from my account . . . to [Alliance]/Richard Hatfield and 4,000 per month to Robert Johnson, upon receipt of appropriate payment and authorization from escrow account between subject principals to be set up with Wells Fargo Bank. [¶] This transfer is authorized under Option Agreement dated July 23, 2001, calling for the payment of $20,000 per month, beginning August 1, 2001 through and including 7/1/02 to purchase 8,000 shares of [Sequoia] stock monthly at a cost of $2.50 per share. Purchase price installments shall not be refundable to Purchaser if the Option is not exercised." In his complaint, Van Etten alleged that Wells Fargo transferred 56,000 shares to Alliance, Hatfield, and Johnson, including 20,000 shares for which it had never received monthly payments.
In a September 26, 2001 letter to Sequoia, Tisdale wrote that Hatfield, Johnson, and Behr had formed Alliance Commerce Bancorp, a bank holding company, to acquire an interest in Sequoia, the company was working with federal regulators, and it would take no action unless and until regulatory approvals were obtained.
On March 20, 2002, Tisdale sent Hatfield and Van Etten a revised contract that "includes the changes I wrote by hand on the agreement on or about July 23, 2001 when I first received a copy of the agreement. . . . The changes are solely designed to avoid difficulties with or violations of applicable change in control laws and regulations. Since yesterday a copy of the agreement was sent to Brian Quade which did not reflect these revisions, it is imperative that each of you sign the [revised agreement and send it] to Quade. [Van Etten], please do not send Quade an executed copy of Exhibit C to the agreement which grants an irrevocable proxy to Alliance because Exhibit C is not intended to be anything other than an exhibit not a live document. [Underlining omitted.] More importantly, by signing it, it appears to the untrained eye to represent the power to vote the shares which cannot occur unless and until the [Federal Reserve Board] approves the holding company application." Van Etten signed and returned the revised contract, writing, "It was always my understanding that this agreement was subject to OCC, FRB, etc. approval." Hatfield never signed or accepted this version of the contract.
In his March 20, 2002 email regarding the revised contract, Van Etten also wrote that he had received $90,000 from Hatfield and Johnson and had transferred 52,000 shares, "so they are over in stock or short in dollars. [¶] Nothing paid in 2002, which is not a confidence builder. [¶] Would like to tighten up on the control process and get some verification that we are in agreement as to the above amounts for my tax statements."
On April 18, 2002, Tisdale prepared a second revised contract, Hatfield signed the contract on behalf of Alliance, and Hatfield proposed the contract to Van Etten. The contract included Tisdales revisions, but also altered the option purchase price provision. To the original sentence, "Purchase Price installments shall not be refundable to Purchaser if the Option is not exercised," Alliance added: "however 8000 shares of Stock shall be purchased for the Purchase Price and shall be transferred by Seller to Purchaser each month immediately upon receipt of the monthly installment. The sale of Stock is irrevocable and final and not conditioned upon the exercise of the option."
Van Etten rejected the second revised contract. Regarding the initial changes made by Tisdale, he had no objection "as I always considered everything was subject to the approval of supervisory agencies." On the new change regarding the irrevocable sale of the 8,000 shares transferred each month, he wrote he had a "considerable" problem with the proposal, which he characterized as a "weasel type clause, as it would be only applicable if the Purchasers did not go through with picking up the option to buy all the shares. . . . [¶] . . .[¶] . . . When you added the purchase of 8,000 shares per month, it was my specific understanding that these shares were to stay in the escrow until the full option was exercised. . . . [¶] In summary, I have tacitly allowed you to postpone monthly payments at a cost of an estimated $16,000 cash flow per month to me. . . . [I]f your statements are true that you wish to continue the purchase, I will consider modification of the agreement . . . to waive any payments in 2002 with your . . . commitment that you will go forward with the purchase and that you will cover my legal expense, per my intent and understanding of the contract. . . . [¶]. . . If for some reason you [cannot] complete purchase, you will return the 36,000 shares to me and pay my attorney fees to that date. [¶] The other alternative is to go back to the revision apparently recommended by Tisdale that I received 3/19/02." The parties never signed a revised written contract.
In a May 28, 2002 letter, Van Etten gave Alliance notice that it was in default for monthly payments. The letter stated that if the default was not cured within 10 days, the Option Agreement was terminated. Alliance did not pay the amount due. In June 2002, Van Etten sold his 1.4 million shares at $2.50 a share to another director of Sequoia.
Procedural Background
On August 9, 2002, Van Etten sued Hatfield and Alliance (hereafter, Defendants) for breach of the Option Agreement and fraud, among other causes of action. Van Etten alleged Defendants breached the contract by failing to make all monthly payments due, to return stock that had been temporarily transferred during the option period, and to pay his attorney fees and costs in the Sequoia litigation pursuant to Paragraph 4.5. He alleged fraud because Defendants falsely promised to seek regulatory approval so they could exercise their option under the contract. Finally, Van Etten sought his attorney fees and costs in the instant litigation pursuant to an attorney fee provision in the Option Agreement (Paragraph 5.5).
The complaint included similar claims against Johnson and a negligence claim against Wells Fargo Bank, Ltd. for transferring shares to Defendants without receiving a corresponding payment. On June 1, 2004, the claims against Wells Fargo were dismissed with prejudice. In July 2004, the court granted a motion for determination of a good faith settlement by Johnson. Johnson avers that he had a separate contract with Van Etten, unrelated to the Option Agreement, to purchase 4,000 shares a month for $2.50 per share. His payments to Van Etten did not reduce Alliances liability under the Option Agreement.
Defendants filed a cross-complaint alleging Van Etten breached the contract by making inaccurate representations and warranties about the threat of litigation and his ability to vote the stock he owned and by failing to take actions necessary to ensure that the option could be exercised without the threat of litigation. They also alleged Van Etten committed fraud by falsely representing he had good title to all of his shares, that there was no threat of litigation, that regulatory approvals had been obtained for Alliance to obtain a controlling interest in the bank, and that an immediate transfer of voting rights would not violate any laws.
Trial was set for January 31, 2005 and was repeatedly continued to February 8. At intervening court hearings, the parties conferred with the court on legal issues in the case. On February 3, the parties filed trial briefs. Defendants also filed a supplemental brief on the legality of the Option Agreement. On February 7 and 8, Van Etten filed briefs on the legality of the Option Agreement.
Of all of the briefs mentioned in this paragraph, only Van Ettens February 8 brief is in the record.
At the February 8, 2005 court hearing, the parties stipulated to a briefing schedule on legal issues and the court postponed trial to March 11. As described at a later hearing on a motion for new trial, the court "in essence approached this as a summary judgment motion taking the plaintiffs offer of proof, their best case presentation, applying it to the law, and making a ruling based on that. [¶] The intent of the court issuing a statement of decision at that point procedurally was to determine whether there were any factual issues to be disputed." The court was not to decide issues of fact. This characterization of the procedure is consistent with the courts description in its Statement of Decision: "Each party has tendered an Offer of Proof of evidence in support of its position to assist the court in determining whether there will be a further need for an evidentiary trial of disputed factual issues."
The record does not include a transcript of this hearing or the prior hearings when the court conferred with counsel about legal issues in the case.
According to Defendants offer of proof, the court posed the following questions and requested an offer of proof on each:
1) Does any writing change the terms of the July 23, 2001 Option Agreement?
2) What was intended by the underlined provision in section 4.5 of the Option Agreement ["Purchasers to pay legal fees in connection to such actions required to protect shareholders rights necessary to elect directors"]?
3) What damages are claimed by Plaintiff if the contract is determined to be unenforceable?
4) What damages are claimed by Plaintiff if the contract is enforceable?
5) Is section 1.3 of the [O]ption Agreement regarding the delivery of the proxy material to the contract?
Van Etten filed an offer of proof that consisted of statements of facts he intended to prove at trial. Defendants filed an offer of proof that set forth Hatfields anticipated testimony and attached documentary exhibits. Van Etten filed a response to Defendants offer of proof that included documentary exhibits. The parties additionally briefed the legal significance of the offers of proof and the court held a hearing on the matter. The court then issued a tentative ruling and invited responses, including "briefs on the subject of whether any issues will remain to be determined by a trier of fact, whether judge or jury, and if so what issues." Van Etten contested the tentative decision and the court revised its decision, but not its ultimate conclusions.
The court concluded that the Option Agreement was void and unenforceable because its objective, to transfer a controlling interest in a bank absent regulatory approval, was illegal. Van Etten failed to establish that he was not in pari delicto such that the contract could be enforced in his favor. The parties cross-claims for fraud were meritless because neither party could prove damages. Accordingly, neither party was entitled to judgment and neither was a prevailing party. Judgment was entered and no jury trial was held.
Van Etten filed a motion for new trial, which was heard by a new judge. Van Etten argued the Statement of Decision included legal errors and some of its findings were not supported by the evidence submitted. The court summarily denied the motion. Van Etten appeals from both the judgment and the order denying his motion for new trial.
DISCUSSION
I. Offer of Proof Procedure
Van Etten argues the trial court erred by deciding the case on offers of proof rather than through a statutory motion such as a demurrer or motion for summary judgment. He argues the ad hoc procedure led the court to make factual findings that were not supported by credible evidence and led it to invade the province of the jury by resolving factual disputes.
We agree that the procedure led to several errors that unnecessarily delayed resolution of this action. In a recent opinion, the Sixth District similarly disapproved the practice of trial courts use of motions in limine or other ad hoc procedures on the eve of trial to decide issues that are more appropriately presented via the statutory motions or at trial. (Amtower v. Photon Dynamics, Inc. (2008) 158 Cal.App.4th 1582, 1594 (Amtower).) "The disadvantages of such shortcuts are obvious. They circumvent procedural protections provided by the statutory motions or by trial on the merits; they risk blindsiding the nonmoving party; and, in some cases, they could infringe a litigants right to a jury trial. (Cal. Const., art. I, § 16.)" (Amtower, at p. 1594.) Here, for example, the trial court probably would have benefitted from statements of undisputed material facts the parties would have submitted under the summary judgment procedure, which would have clarified where the parties had dispositive factual disputes.
The use of irregular procedures raises the risk of unnecessary reversals. (Amtower, supra, 158 Cal.App.4th at pp. 1594-1595.) When the trial court forgoes the procedural protections of the statutory motions, the standard of review on appeal tends to be more favorable to the appellant. For example, when a court decides dispositive issues in ruling on a motion in limine, the court must review the ruling as if it were the product of a motion for nonsuit after an opening statement, viewing the evidence most favorably to the nonmoving party. (Id. at p. 1595.) In contrast, appellate review of a judgment following trial favors the judgment. (Id. at pp. 1594-1595.)
Nevertheless, courts have the inherent power to employ ad hoc procedures and cannot be reversed simply for taking that approach. (Amtower, supra, 158 Cal.App.4th at p. 1595.) Our standard of review is tailored to the particular procedure used. Van Etten, unlike the plaintiff in Amtower, had the opportunity to make a comprehensive offer of proof. (See ibid.) He was not, however, asked to support his offer of proof with competent evidence admissible at trial, as he would have been required to do under the summary judgment procedure. (See Code Civ. Proc., § 437c, subd. (b)(1).) Therefore, the appropriate standard of review is for us to accept as true all of the facts he stated in his offer of proof, regardless of whether he supported them with competent and admissible evidence, and determine whether his claims nevertheless fail as a matter of law. Because this is a question of law, our review is de novo. (Ghirardo v. Antonioli (1994) 8 Cal.4th 791, 799-800; cf. Buss v. Superior Court (1997) 16 Cal.4th 35, 60 [summary judgment ruling is subject to de novo review].)
Defendants argue Van Etten waived any objection to the procedure employed by the trial court. However, as explained in the Background section of this opinion, Van Etten agreed to a procedure akin to a summary judgment motion based on offers of proof on the understanding the court would not decide any issues of fact. Our standard of review is consistent with that understanding.
II. Enforceability of Option Agreement
The trial court concluded the Option Agreement was void and unenforceable because it had an illegal objective: the transfer of a controlling interest in a regulated bank without prior regulatory approval. This objective included both the transfer of ownership of the shares and the transfer of voting control over the shares. Van Etten raises numerous contentions of error.
A. Transfer of Ownership of Van Ettens Shares Without Prior OCC Approval
We first consider whether the contract was illegal and void because it provided for the transfer of a controlling interest in the bank without requiring prior OCC approval.
Paragraph 1.1 "irrevocably and unconditionally grants" to Alliance the right, "exercisable in [Alliances] sole and absolute discretion" to purchase all of Van Ettens 1.4 million shares at any time during the option period. Paragraph 4.6 states that all required government approvals for the transaction had been obtained. It is undisputed that the sale of a controlling interest in a bank chartered by the OCC without prior approval by the OCC is illegal under federal banking law and it is undisputed that OCC approval had not been obtained at the time the Option Agreement was signed.
Van Etten argues that the Option Agreement should be reformed due to mutual mistake to provide that the option could be exercised only after OCC approval had been obtained. He also argues Paragraph 4.6, which states all required regulatory approvals had already been obtained, should be stricken to conform to the parties intent. He contends that at the time the Option Agreement was signed (1) both parties knew OCC approval was necessary and had not been obtained, and (2) it was their mutual intent that the option would only be exercised after OCC approval was obtained. He argues the contract failed to reflect their intention due to scriveners error (mistake).
Van Etten also argues that the Option Agreement was legal on its face because it recited (albeit inaccurately) that government approvals had been obtained. He argues that the parol evidence rule, which the trial court relied on to reject his arguments for reformation of the contract, should bar consideration of evidence that the government approvals had not been obtained. Parol evidence, however, is admissible to prove the illegality of a contract. (Code Civ. Proc., § 1856, subds. (f), (g); Pacific State Bank v. Greene (2003) 110 Cal.App.4th 375, 387.)
When through mistake a written contract fails to express the real intention of the parties, the contract may be reformed to conform with the parties mutual intent "so far as it can be done without prejudice to rights acquired by third persons, in good faith and for value." (Civ. Code, § 3399; Hess v. Ford Motor Co. (2002) 27 Cal.4th 516, 524; see also Civ. Code, § 1640.)
The trial court refused to consider parol evidence to establish mistake. This was error even though the court correctly concluded that the Option Agreement was an integrated agreement. (See Code Civ. Proc., § 1856, subd. (d) [whether contract is integrated is question of law for the court].) An integrated agreement may not be contradicted by evidence of any prior agreement or of a contemporaneous oral agreement and may not be explained or supplemented by evidence of consistent additional terms to the agreement. (Code Civ. Proc., § 1856, subds. (a), (b).) Parol evidence may, however, be admitted to prove mistake. (Code Civ. Proc., § 1856, subds. (e), (g); Casa Herrera, Inc. v. Beydoun (2004) 32 Cal.4th 336, 343.)
Paragraph 5.6 of the Option Agreement provides: "This Agreement: (a) represents the entire agreement between the parties hereto with respect to the subject matter hereof; [and] (b) may not be altered or amended except pursuant to a written agreement signed and delivered by each of the parties hereto . . . ."
Van Etten made an offer of proof that the parties mutual intent was that Alliance had to obtain OCC approval before it exercised its option under the contract and that the written agreement did not reflect that intent due to mistake. Alliance acknowledged in a 2000 business plan that it needed to obtain OCC approval before it could obtain a controlling interest in a regulated bank. Van Ettens emails to Hatfield in June and December 2000 referred to the process of applying for OCC approval before Alliance obtained a controlling interest in the bank. The Option Agreement was drafted from a form or template document by a law firm that played only a minimal role in the transaction. Tisdale, Alliances attorney specializing in banking law, was not involved in negotiating the substance of the agreement. Behr, a specialist in the sales of financial institutions who represented Alliance, informed Van Etten before the Option Agreement was signed that the closing on the ultimate sale of shares would take place "after regulatory approval is received"; that the purpose of the one-year option period was to provide time to obtain OCC approval; and that the most likely reason for a termination of the contract by Alliance would be denial of OCC approval. Hatfield testified in deposition that he understood when he signed the Option Agreement that Alliance would have to file for permission from the OCC in order to go forward with the transaction. Tisdale edited a copy of the Option Agreement that had not been initialed by the parties, which supported an inference he made the edits before the contract was signed. Those edits indicated that prior OCC approval was required before the shares could be voted. It can be inferred that Tisdale communicated this information to Hatfield before Hatfield signed the contract and in any event Tisdales knowledge is imputed to his client. (McIntosh v. Mills (2004) 121 Cal.App.4th 333, 350.) Tisdale also informed Hatfield immediately after the Option Agreement was signed that OCC approval was necessary before the shares could be purchased or voted by Alliance and Alliance did not terminate the contract or propose a written revision of the contract. Tisdale told Sequoia in September 2001 that Alliance was seeking regulatory approval to acquire a controlling interest in the bank and would take no action unless and until approval was obtained. When Tisdale asked Van Etten in March 2002 to sign a revised contract that expressly included the requirement of prior OCC approval, Van Etten immediately complied and explained he had always understood that prior OCC approval had been required before the shares could be purchased.
A reasonable factfinder could conclude from this evidence that both Hatfield and Van Etten intended at the time they signed the Option Agreement that Alliance could purchase Van Ettens shares under the contract only if it first obtained OCC approval. If the factfinder made that finding, the contract could be reformed to reflect the requirement of prior OCC approval. An executory contract for a sale that is subject to regulatory approval is valid and binding on the parties to the contract even before the regulatory approval is obtained. (Dillingham v. Schipp (1957) 154 Cal.App.2d 553, 559.)
Van Etten also argues parol evidence establishes his unilateral mistake regarding the enforceability of the contract as written and that Alliance was aware of his unilateral mistake. He argues the contract should be reformed as described above based on his unilateral mistake. Because we have concluded Van Etten made a sufficient offer of proof to pursue his argument for reformation and enforcement of the contract based on mutual mistake, we need not address this variation of the argument. Van Etten argues in passing that he was not in pari delicto with Defendants regarding the illegality of the agreement, an argument rejected by the trial court. We do not entertain arguments on appeal that are not supported by substantial legal argument. (Guthrey v. State of California (1998) 63 Cal.App.4th 1108, 1115-1116.)
Van Etten argues in the alternative that parol evidence demonstrates that the parties intended the contract to be effective only upon the satisfaction of a condition precedent, prior approval by the OCC. However, he relies on case law holding that parol evidence is admissible to prove that a written agreement "would not be binding until the happening of some future event, a condition precedent . . . ." (Haines v. Bechdolt (1965) 231 Cal.App.2d 659, 661.) As the trial court explained, if OCC approval was a condition precedent to the enforceability of the contract, the Option Agreement would still be unenforceable because OCC approval was never obtained.
B. Paragraph 1.3: Immediate Transfer of Voting Rights
The trial court also concluded the Option Agreement was illegal because it provided for the immediate transfer to Alliance of the voting rights to all of Van Ettens 1.4 million shares without prior OCC approval. Paragraph 1.3 provides, "Immediately after the execution of this Agreement, [Van Etten] shall deliver . . . into escrow all certificates representing the Stock . . . . [Van Etten] shall also execute and deliver to [Alliance] an irrevocable proxy in favor of [Alliance] . . . to give [Alliance] the right to vote the Stock with respect to all matters submitted to the shareholders of the [bank] while the Stock is held in escrow. The Stock shall remain in escrow until the earlier of: (i) [Alliances] exercise of the Option or (ii) the termination of the Option Period." It is undisputed that voting a controlling interest in a bank chartered by the OCC without prior approval by the OCC is illegal under federal banking law.
1. Severability
Van Etten argues that the sale of the option to purchase his shares is severable from any illegal provisions in the Option Agreement, including Paragraph 1.3, and is legal and enforceable.
Van Etten does not substantively argue that the contract should be reformed due to mutual mistake to provide that voting rights would not be transferred unless and until OCC approval was obtained. Although he states once in his opening brief that the contract must be reformed to provide the exercise of the purchase option and the transfer of voting rights were subject to OCC approval, the argument that precedes this statement discusses only the parties mutual intention that the exercise of the option would be subject to prior OCC approval. We do not entertain contentions on appeal that are unsupported by substantive legal argument. (See Guthrey v. State of California, supra, 63 Cal.App.4th at pp. 1115-1116.)
We observe that Van Ettens offer of proof regarding the parties precontract intention on the transfer of voting rights is much less clear than his offer of proof regarding their intention on the exercise of the option. The contract language itself is unambiguous about the intended timing of the transfer of voting rights: the stock would be placed in escrow "[i]mmediately after the execution of this Agreement," the stock would remain in escrow until Alliances exercise of the option (or termination of the option), and Alliance would receive the right to vote the stock "while the Stock is held in escrow" (i.e., before the stock was purchased by Alliance). On the eve of signing the Option Agreement Van Etten specifically asked who would have the right to vote the shares and Behr informed him Alliance would have that right. Although Behr later acknowledged he was mistaken, the factual issue relevant to reformation of the contract is the parties intent at the time the contract was signed.
"Where a contract has but a single object, and such object is unlawful, whether in whole or in part . . . the entire contract is void." (Civ. Code, § 1598.) "Where a contract has several distinct objects, of which one at least is lawful, and one at least is unlawful, in whole or in part, the contract is void as to the latter and valid as to the rest." (Civ. Code, § 1599.) The trial court ruled that the Option Agreement had a single objective: "transfer of a controlling interest in bank shares of stock which is illegal absent prior approval of the transfer by the OCC, which did not occur in [this] case."
The trial court also cited Civil Code section 1608, which states that if the consideration for a contract is illegal, the entire contract is void. This appears to be a mistake because Defendants do not argue and the trial court did not rule that the consideration for the Option Agreement was illegal. (See 1 Witkin, Summary of Cal. Law (10th ed. 2005) Contracts, §§ 419-420, pp. 460-462 [distinguishing between illegal consideration and illegal object of a contract].)
The court did not distinguish between sale of the shares and transfer of voting rights to the shares when it referred to a "transfer of a controlling interest." We see no reason why these two effects of the contract cannot be viewed as separate objectives of the contract. Van Ettens offer of proof supports an inference that Alliances ultimate goal was to obtain a majority shareholder interest in Sequoia so it could change Sequoias management and directors and enter into a business relationship with Sequoia. As reformed pursuant to Van Ettens offer of proof, the contract would lawfully provide that Alliance could purchase Van Ettens shares after obtaining OCC approval. Alliance might have also desired and benefited from the ability to immediately vote those shares upon signing the Option Agreement, but a frustration of the voting objective did not prevent Alliance from fulfilling its legal objective under the contract: purchasing Van Ettens shares. In principle, therefore, the objectives of purchasing Van Ettens shares and obtaining immediate voting control over the shares were distinct.
Van Etten made an offer of proof of facts supporting an inference that in practice, as well as in principle, the transfer of immediate voting control was neither the sole nor an essential objective of the contract. Immediately after the Option Agreement was signed, if not beforehand, Tisdale informed Hatfield that voting control over the shares could not be transferred without prior OCC approval. Nevertheless, Alliance did not abandon its efforts to acquire Van Ettens shares. Defendants made an offer of proof that at all relevant times they intended to comply with the contract. In September 2001, Alliances representative Tisdale informed Sequoia that Alliance was forming a company to acquire an interest in Sequoia and was pursuing regulatory approval. Alliance made periodic payments to Van Etten from August to December 2001 and received shares in exchange, either as outright sales or temporary transfers. Tisdales March 20, 2002 email supports an inference that the July 23, 2001 Option Agreement had been submitted to the OCC, which in turn supports an inference that Alliance had sought OCC approval for its acquisition of Van Ettens shares. Tisdale asked Van Etten and Hatfield to immediately execute and submit a revised agreement, which supports an inference that Alliance was still pursuing OCC approval at that time. Based on this offer of proof, a reasonable factfinder could find that the Option Agreement had two distinct objectives: to give Alliance immediate voting rights over Van Ettens shares and to sell Van Ettens shares and that the second objective was not contingent on the first. When the first objective became impracticable, Alliance continued to pursue the second objective.
Because the reformed contract pursued both a legal objective (selling an option to purchase Van Ettens shares, exercisable upon prior approval of the OCC) and an illegal objective (immediately transferring voting control over those shares without prior OCC approval), the contract provisions pursuing the legal objective may be severed from those pursuing the illegal objective.
"Two reasons for severing or restricting illegal terms rather than voiding the entire contract appear implicit in case law. The first is to prevent parties from gaining undeserved benefit or suffering undeserved detriment as a result of voiding the entire agreement—particularly when there has been full or partial performance of the contract. [Citations.] Second, more generally, the doctrine of severance attempts to conserve a contractual relationship if to do so would not be condoning an illegal scheme. [Citations.] The overarching inquiry is whether ` "the interests of justice . . . would be furthered" by severance. [Citation.] Moreover, courts must have the capacity to cure the unlawful contract through severance or restriction of the offending clause, which . . . is not invariably the case." (Armendariz v. Foundation Health Psychcare Services, Inc. (2000) 24 Cal.4th 83, 123-124 (Armendariz); see also Marathon Entertainment, Inc. v. Blasi (2008) 42 Cal.4th 974, 996 (Marathon).) "The doctrine is equitable and fact specific . . . ." (Marathon, at p. 998.) California courts liberally apply the rule of severability to enforce legal provisions of contracts. (1 Witkin, Summary of Cal. Law (10th ed. 2005) Contracts, § 422, pp. 463-464; see also Armendariz, at p. 122.)
Severing the rest of the contract from Paragraph 1.3 is consistent with the standards set forth in Armendariz, supra, 24 Cal.4th at pages 123-124. First, Van Etten performed his duties under the sale of the purchase option: he refrained from selling his shares and kept them available for Alliance to purchase should it choose to exercise its option. Denying enforcement raises the risk that Alliance would receive a windfall: a one-year option to purchase Van Ettens shares at no cost. Second, permitting the sale of the option to be enforced would not condone an illegal scheme. The sale of the option was legal under the reformed contract for the reasons stated above, and it did not in any way further a transfer of voting control over the shares prior to OCC approval, which was the illegal scheme under the contract. Finally, the court has the capacity to enforce the sale of the option without enforcing Paragraph 1.3. The sale of the option could be enforced without effecting any transfer of voting rights to a controlling interest in the bank.
The trial court erred by concluding the sale of the purchase option was not severable from the transfer of voting control contemplated by Paragraph 1.3.
2. Modification
Van Etten argues in the alternative that the terms of the contract, and Paragraph 1.3 in particular, were modified by the parties conduct. "[W]here the subsequent conduct of parties is inconsistent with and clearly contrary to provisions of the written agreement, the parties modification setting aside the written provisions will be implied. [Citation.]" (Diamond Woodworks, Inc. v. Argonaut Ins. Co. (2003) 109 Cal.App.4th 1020, 1038.) The parties conduct must be so inconsistent with the written contract as to warrant the conclusion the parties mutually intended to modify the contract. (Ibid.) This rule applies to integrated agreements. (Wagner v. Glendale Adventist Medical Center (1989) 216 Cal.App.3d 1379, 1388.)
Van Etten made an offer of proof of the following facts supporting an inference that the parties mutually intended to abandon the provisions of Paragraph 1.3. Alliance was responsible for opening escrow to carry out the provisions of Paragraph 1.3, but it did not do so and it never asked Van Etten to place his shares in escrow. Although Van Etten signed the Stock Power and Irrevocable Proxy mentioned in Paragraph 1.3, which were attached as Exhibits B and C to the July 23, 2001 Option Agreement, those documents were not legally effective and were only intended to serve as sample forms. Even if they were legally effective, they would not have given Alliance the right to vote a controlling number of shares. Alliance never voted Van Ettens shares during the option period. In January 2002, Van Etten voted his own shares and Alliance voted other shares it owned when they and other shareholders executed an Action by Written Consent.
The trial court ruled that even if the contract was modified by an executed oral agreement, the modification did not remove the illegality of Paragraph 1.3. The court defined the purported modification as de facto periodic purchases of 4,000 shares of Van Ettens stock at $2.50 a share. It found that this modification did not extinguish the operation of Paragraph 1.3, which applied to all 1.4 million of Van Ettens shares. "[T]here is no evidence that [Alliance] intended to relinquish the irrevocable proxy to vote the stock indefinitely. At best, the right was only postponed." (Fn. omitted.)
On this issue, the court improperly resolved factual disputes. First, the court found that the parties did not intend to extinguish Alliances right under Paragraph 1.3 to immediately vote all 1.4 million of Van Ettens shares. This finding is not supported by Van Ettens offer of proof. We have concluded that a reasonable factfinder could find based on his offer of proof that the parties mutually intended to abandon Paragraph 1.3. Second, the trial court found that the parties agreed to a de facto sale by Van Etten of 4,000 shares a month (to Hatfield and 4,000 shares a month to Johnson) at $2.50 a share. However, Van Etten made an offer of proof that the parties agreed, apparently in lieu of Paragraph 1.3, that Van Etten would transfer 8,000 shares a month to an escrow account opened for Alliance upon receipt of Alliances monthly payments for the purchase option but that those shares would be returned to Van Etten if Alliance ultimately decided not to exercise its option. He produced a letter he wrote to Wells Fargo Bank that could be construed as consistent with his description of the agreement. He emailed the letter to Hatfield and Hatfield continued making monthly payments to Van Etten. In March 2002, Van Etten complained to Hatfield that he had not received payments commensurate to the 52,000 shares he had transferred and that he had not received any payments in 2002. When Hatfield proposed contract revisions in April 2002 that provided it could keep the shares even if it did not exercise its option under the contract, Van Etten vociferously objected. A reasonable factfinder could find based on this proffered evidence that the parties modified the contract to temporarily transfer shares upon receipt of Alliances monthly payments rather than sell them outright. Alternatively, a reasonable factfinder could find that the parties never reached a meeting of the minds on all critical terms of the modification. In that event, Paragraph 1.3 would not be deemed modified but for the reasons already stated it would be severable from the rest of the contract.
C. Paragraph 4.5: Legal Fees to Protect Shareholder Rights
The parties were asked to make an offer of proof regarding the meaning of the following phrase in Paragraph 4.5 of the Option Agreement: "Purchasers to pay legal fees in connection to such actions required to protect shareholders rights necessary to elect directors." (Italics & underlining omitted.) The trial court concluded the provision was unenforceable because the entire contract was void and unenforceable. Therefore, it did not interpret the specific provision.
Van Etten made an offer of proof that this provision was intended to cover his legal fees in the Sequoia lawsuit. In May 2001, Sequoia had issued shares diluting Van Ettens controlling interest in the bank. On July 18, 2001, the directors amended the bylaws to postpone special shareholder meetings that were requested by non-board shareholders. Following the July 18 shareholders meeting, Van Etten consulted counsel, Neil Bardack, for possible legal action. Bardack drafted a letter to the Bank challenging the legality of the boards actions and Van Etten shared this letter with Hatfield and Johnson. Before signing the Option Agreement, Van Etten asked who would be obligated to pay the legal costs "to insure timely shareholder meeting etc?" Behr replied that Alliance would bear those costs. This evidence supports an inference that in July 2001 Van Etten was considering legal action to defend his voting rights as a shareholder. When he instead agreed to sell his shares to Alliance, he ensured that Alliance, who would be the ultimate owner of the shares and thus the ultimate beneficiary of the legal action, would bear any legal costs to defend voting rights over the shares. The Sequoia lawsuit sought an injunction preventing Van Etten, Hatfield, or Alliance from acquiring legal or beneficial interests in Sequoia shares. Van Ettens cross-complaint challenged, among other things, the banks issuance of additional shares that diluted the voting power of his shares. A reasonable factfinder could find that Van Ettens legal costs in the Sequoia litigation were incurred to protect his voting rights as a shareholder.
D. Damages for Breach of Contract
The trial court asked the parties to make an offer of proof about Van Ettens damages if the contract was enforceable. The trial court did not address the issue in its order because it concluded the contract was unenforceable.
Van Etten made an offer of proof that he suffered compensable damages for breach of contract. As reformed and modified consistent with Van Ettens offer of proof, the contract would provide that Alliance owed $20,000 per month for the option to purchase Van Ettens 1.4 million shares in Sequoia, exercisable upon prior regulatory approval. The option could be terminated upon written notice by Alliance at any time and by Van Etten if Alliance defaulted on its monthly payments. If Alliance did not exercise its option to purchase the shares, the monthly payments were not refundable and the shares transferred each month were to be returned to Van Etten. If Alliance exercised its option, it was required to pay $2.50 per share for all of Van Ettens shares minus the amounts it paid in monthly payments. The contract also required Alliance to pay legal costs to protect shareholders voting rights and required the losing party to pay the prevailing partys legal costs of enforcing the contract.
Under the reformed and modified contract, Van Etten should have received $20,000 a month for ten months from August 2001 to May 2002, when he terminated the contract. All shares he had transferred to Alliance should have been returned. There would have been no sale of shares because Alliance never exercised its option. In sum, Van Etten would have received $200,000 from Alliance and would still have ownership of his 1.4 million shares. In the meantime, he would have incurred $163,330 in financing costs ($16,333 per month). He also would have had a right to recover his legal fees and costs in enforcing the Option Agreement and, accepting as true his offer of proof, his legal fees in the Sequoia litigation. In actuality, Van Etten received only $50,000 from Alliance and he lost ownership of 20,000 shares. He still incurred $163,330 in financing costs. He incurred legal fees and costs in this action to enforce the Option Agreement and in the Sequoia litigation.
Van Etten made a sufficient offer of proof that he suffered compensable damages as a result of Alliances alleged breach of contract.
III. Fraud Claim
The trial court concluded that even if Van Etten could prove fraud by Alliance, he suffered no compensable damages for fraud because "he received all that he was entitled to receive had [Alliance] exercised the option." Had Alliance exercised its option, the court explained, Van Etten would have received $2.50 per share minus the monthly payments Alliance had made on the purchase option. In the end, the total amount Van Etten would have received from Alliance would have been $2.50 per share. In the meantime, he would have incurred $16,333 a month in financing charges. As it turned out, Van Etten received $2.50 per share for the shares he had transferred to Alliance upon receipt of each monthly payment and for all of his remaining shares, which he sold in June 2002. In the meantime, he still incurred $16,333 a month in financing charges.
The problem with the courts analysis is that, had Van Etten not been induced to refrain from selling his shares for one year due to Alliances alleged fraud, he might have been able to sell his shares in July 2001 and thus saved the $163,330 in financing charges. Van Etten made an offer of proof that but for the alleged misrepresentations by Hatfield, he would have either sold his shares to someone else or taken action to replace the banks management with persons who would make the bank profitable. He made a sufficient offer of proof that he suffered compensable damages as a result of Alliances alleged fraud.
DISPOSITION
The judgment is reversed and the action remanded for further proceedings consistent with this opinion. Costs are awarded to Van Etten.
We concur.
JONES, P.J.
NEEDHAM, J.