When Is A Contract Over By Charles Stephen Treat

When Is A Contract Overby Charles Stephen Treattwo Recent Decisions F

When Is a Contract Over? By Charles Stephen Treat Two recent decisions from the California courts have addressed whether, when, and how California law will identify and honor provisions in a contract concerning how long the contract will last and when it may be terminated. The two decisions do not cite each other and do not overlap very noticeably in their analyses. Nevertheless, if you have a case presenting contract-duration issues, it is important to read both cases and to recognize that the second decision establishes two major exceptions to the broad rule upheld in the first decision.

The first case is the First District Court of Appeal's decision in Zee Medical Distributor Ass'n, Inc. v Zee Medical, Inc. ( CA4th 1). This case, following a lengthy line of precedents, held that the California courts must strive to identify the parties' intentions concerning duration, either by express agreement or by implication. If such an intention is identified, it will be honored, even if it measures duration by contingent events. It thus rejects an argument that courts should be hostile to or skeptical of so-called perpetual contracts. A few weeks after the court of appeal decided Zee, the California Supreme Court handed down its decision in Asmus v Pacific Bell ( C4th 1). Asmus has gotten attention principally as an employment-law decision. Its content, however, is almost pure contract law, applicable to ordinary commercial contracts. And although the case makes only brief mention of the principles developed in Zee and its precedents, Asmus is nevertheless a central case for analysis of contract-duration issues. Its holdings establish two key limitations on the Zee methodology: a "void for vagueness" principle for durational agreements, and a virtual negation of such clauses when they appear in unilateral contracts.

The Zee Case

At issue in Zee (in which I represented one of the parties) was the duration of the distribution contracts that Zee Medical Inc. had with its distributors. The legal principles at issue, however, were not specific to distribution contracts but were a matter of general contract law. After collecting and summarizing the legal principles inherent in prior California case law, including the seminal decision in Consolidated Theatres, Inc. v Theatrical Stage Employees Union ( C2d 713), the Zee court distilled its holdings into a useful three-step methodology for analyzing contract-duration issues: (1) The court first seeks an express term. (2) If one is absent, the court determines whether one can be implied from the nature and circumstances of the contract. Courts will imply an ascertainable term of duration when reasonably possible. (3) If neither an express nor an implied term can be found, the court will generally construe the contract as terminable at will after a reasonable time of duration has elapsed.

Step three is really more a matter of a court-made gap-filler rule, to be resorted to when it is not possible to ascertain what the parties intended. The courts must first uphold the principle of enforcing the contracts as the parties wrote them. The Zee court ruled in the defendant manufacturer's favor on the basis of step one. The contracts provided detailed lists of termination grounds and specified that the contracts "shall continue" until terminated. That, said the court, was an express agreement that termination was limited to the stated grounds. The opinion further suggested that it would have reached the same result under step two. Even if there had been no express "shall continue" language, the parties' express recitation of particular termination grounds—and even more, the creation of specific conditions and limitations on when those grounds could be used (such as cure periods for defaults)—necessarily implied that the parties did not intend terminability at will.

The Asmus Case

At issue in Asmus was an employer’s ability unilaterally to withdraw a unilaterally promised employment security policy. Pacific Bell had promulgated a management employment security policy (MESP), stating: "It will be Pacific Bell's policy to offer all management employees who continue to meet our changing business expectations employment security through reassignment to and retraining for other management positions, even if their present jobs are eliminated.... This policy will be maintained so long as there is no change that will materially affect Pacific Bell's business plan achievement." Several years later, however, Pacific Bell terminated this policy and notified its managers that it would adopt a layoff policy instead. A federal district court held that the MESP had become part of the employees' employment contracts and ruled that Pacific Bell could not terminate it unless it could prove that the specified termination event had occurred, that is, that there had been a change materially affecting Pacific Bell's business plan achievement. The Ninth Circuit certified a question to the California Supreme Court, asking it to decide whether, once the MESP was incorporated into an employment contract, the employer had the right unilaterally to terminate it before the specified termination event occurred. The California Supreme Court held that the employer had that right, provided that the employer made the change after a reasonable time, on reasonable notice, and in a way that did not interfere with employees' vested rights. Asmus, 23 C4th at 6.

The contract at issue in Asmus had two durational provisions, not just one. The underlying contracts were the employment contracts of each management employee. Under the MESP, the employment was promised to last as long as the employee continued to meet Pacific Bell's business expectations, a phrase indicating that termination would be only for cause. This, however, was subject to the proviso that the whole MESP could be terminated if there was a change materially affecting Pacific Bell's business plan achievement. This duration clause within a duration clause was just a contract of stated duration, subject to a condition subsequent. Structurally it was similar to a contract where X promises to sell Y stipulated monthly quantities of widgets at fixed prices for as long as Y needs them, unless the market price fluctuates significantly.

Void for Vagueness?

The Asmus majority, however, said there is a catch. The "specified condition" must be sufficiently ascertainable "that it could be measured in any reasonable manner." Without extended discussion, the court held that the condition of a change materially affecting Pacific Bell's achievement of its business plan did not qualify as a sufficiently ascertainable and measurable termination event to be given effect. Thus, although there was an express termination provision stated in the contract, the provision didn't count because it was too vague for enforcement. With the express duration clause excised, that left the contract, in the court's analysis, without any duration provision, putting it into Zee's step three—terminability at will. Chief Justice Ronald M. George, joined by Justices Stanley Mosk and Joyce L. Kennard, argued vigorously in dissent that the condition was ascertainable but had not yet occurred, so the policy could not yet be unilaterally terminated.

Unilateral Promises

Even with the "business plan achievement" proviso excised, there remained a durational term—namely the MESP's assurance that employees would be employed so long as they "continue to meet our changing business expectations." This was basically just a termination-for-cause provision, of the kind routinely upheld in employment and other contractual settings in California. However, in Asmus, the court focused on the fact that many employment contracts are unilateral contracts, where a promisor promises a benefit in return for performance, and acceptance occurs through performance rather than promise. The most important holding in Asmus is that in a unilateral contract the promisor may unilaterally modify or terminate the terms of its promise, without further consideration, provided it gives reasonable notice. The court reasoned that the consideration is the employer's continued employment of the employee. Accordingly, Pacific Bell was permitted to modify its employees' contracts by terminating the MESP and substituting a layoff policy.

The innovation in Asmus is the extension of this principle to include modification of durational terms in a unilateral contract. Essentially, since the employer can terminate employment at will, it can also condition continued employment on acceptance of new terms, effectively retracting prior promises. As a result, any durational provision in a unilateral contract is potentially terminable at will, overriding prior express or implied promises of fixed duration. This challenges traditional notions upheld in Zee and Consolidated Theatres, emphasizing the importance of contract formation mode—promise-for-promise versus promise-for-performance—in contractual duration rights after Asmus.

Conclusion

In sum, recent California case law underscores the primacy of parties’ intentions in contract duration, with express terms being strongly favored. However, exceptions introduced by Asmus highlight that durational clauses in unilateral contracts are vulnerable to modification or termination at will, provided that reasonable notice is given and vested rights are protected. Practitioners must carefully analyze contract formation and the nature of promises—whether bilateral or unilateral—to assess enforceability of durational provisions and the scope of termination rights. These decisions reinforce the importance of clear, measurable, and well-drafted contract terms to effectively establish and preserve contractual durations in California law.

References

• Consolidated Theatres, Inc. v Theatrical Stage Employees Union, 18 Cal. 2d 713 (1941).
• Zee Medical Distributor Ass'n, Inc. v Zee Medical, Inc., 80 Cal. App. 4th 1230 (2000).
• Asmus v Pacific Bell, 23 Cal. 4th 1 (2000).
• Ladas v California State Auto. Ass'n, 19 Cal. 4th 667 (1998).
• Rochlis v Walt Disney Co., 201 Cal. App. 4th 214 (2011).
• DiGiacinto v Ameriko-Omserv Co., 171 Cal. App. 4th 629 (2009).
• La Jolla Casa de Manana v Hopkins, 157 Cal. App. 3d 987 (1984).
• Restatement (Second) of Contracts, §§ 227-242.
• Farnsworth, E. Allan. Contracts (4th ed.) (2004).
• UCC § 2-309 (Uniform Commercial Code).