Issue Spotter: In California, Sometimes Written Contracts Aren’t Worth the Paper They’re Written On

A 2013 California Supreme Court case has brought about a sea change in how far parties can rely on their written agreements, with the repercussions playing out in real time. 

The "parol evidence rule" provides that, when parties enter into a written contract intended to be the final expression of their agreement, they can't use extrinsic evidence (evidence outside the agreement, like prior or contemporaneous oral agreements or statements) to alter or add to it. This is why contracts commonly contain an “integration clause”, essentially saying this is the final and only expression of the parties’ agreement. Outside evidence can be used to clear up places where the contract is ambiguous--but it can’t contradict what’s in the agreement. 

In California, for 78 years, the rule applied to claims of fraud, for the most part. This meant if an integrated, written agreement said “x”, a party couldn’t sue for fraud on the basis that you verbally promised the deal was for “y”. 

This recently came to an end with a California Supreme Court ruling in Riverisland Cold Storage, Inc. v. Fresno-Madera Production Credit Assn. (2013) 55 Cal. 4th 1169. There, ranchers signed and initialed a written loan modification that provided for a three month forbearance and the pledge of eight additional properties as collateral. The Ranchers sued for fraud, arguing the bank officer verbally promised to extend the loan for two years (not three months) and that they would only have to pledge two additional properties (not eight). All of this was contrary to the written agreement, which the ranchers claimed they did not read. The Supreme Court over-ruled 78 years of precedent, stating “fraud may always be shown to defeat the effect of an agreement.”

Two cases in the Court of Appeal have followed. In Julius Castle Restaurant, Inc. v. Payne (2013) 216 Cal.App.4th 1423, tenants (two restauranteurs) signed a lease stating they were taking the property, which included on-site restaurant equipment, on an “as is” basis. The restaurant failed after six months, and the tenants sued the landlord for fraud, arguing the landlord orally promised during negotiations to repair any faulty equipment. The tenants prevailed, and the Court of Appeal affirmed. The Court of Appeal explained that in the “post-Riverisland world” the focus should be on the elements of a cause of action for fraud, in particular, the alleged oral misrepresentation, the plaintiff’s reliance on the misrepresentation, and whether the plaintiff was reasonable/justified in relying on it: 

“Among the questions to ask are: What are the plausible reasons for the alleged discrepancy between the claimed oral promises and the signed writing? Is there compatibility between the oral representations and the written document? What
is the evidence relating to whether the document was read and considered
before signing?”

The second case, Thrifty Payless, Inc. v. The Americana at Brand, LLC (2013) 218 Cal. App. 4th 1230, also involved a lease. The landlord, the well-known Glendale shopping mall, gave estimates to the tenant of its likely share of property taxes, insurance, and other shared expenses during lease negotiations. The estimates weren’t in the lease itself, which did contain an integration clause. The tenant’s share of expenses turned out to be much higher, and they sued for fraud. The Court of Appeal held that the extrinsic evidence was admissible. The Court focused on whether the tenant was justified in relying on the estimates, based on the course of dealings between the parties and the mall’s superior knowledge regarding this information. 

What’s the takeaway from these cases? That in the post-RiverIsland "wild west,” when it comes to business transactions, what matters is not only what’s in the written agreement, but also on how the parties do business–in this specific transaction and generally, too. 

-Laine Mervis

Laine Mervis is a Shareholder at Eanet, PC.  Eanet, PC is a boutique law firm focusing on business litigation, real estate litigation, labor and employment litigation, and corporate transactions.