Survival Period for Reps and Warranties in Acquisition Agreement Does Not Comprise Implicit Limitations Period — Circuit Split

From Western Filer Corp. v. Argan, Inc., 2008 U.S. App. LEXIS 18147 (9th Cir. Aug. 25, 2008):

We are asked to decide an issue of first impression under California law, whether a provision within a Stock Purchase Agreement ("SPA") permitting the representations and warranties of the parties to survive closing, also serves as a contractual statute of limitation that reduces a longer period otherwise provided by California law. Because the provision at issue does not unambiguously state the parties' intent to contractually reduce the applicable California statute of limitation to one year, we reverse and remand. ***

The portion of the contract at issue is found in Section 8. Section 8.1 ("Survival Clause") provides that "[t]he representations and warranties of [Western Filter] and [Argan] in this Agreement shall survive the Closing for a period of one year, except the representations and warranties contained in Section 3.1(a), (b), (c), and (f) and 3.2(a) and (b) shall survive indefinitely." ***

Western Filter argues that the Survival Clause's one-year limitation serves only to set forth the time period for which a breach may occur or be discovered, whereas Argan maintains that the Survival Clause serves as a contractual limitation on the applicable statute of limitation. ***

Both parties agree that without the Survival Clause the representations and warranties would have terminated at the time of closing. "[R]epresentations and warranties are statements of fact as of the date of the execution of the acquisition agreement, and the truthfulness of the representations and warranties as of both the date of execution and, when appropriate, the date of the closing is generally a condition to the closing." *** In other words, the representations and warranties serve as a safety net for the seller and buyer. If, prior to closing, either the seller or buyer discovers that a representation or warranty made by the other party is not true, they have grounds for backing out of the deal. ***

The closing date itself triggers the contractual limitation on liability. Unless the parties agree to a survival clause — extending the representations and warranties past the closing date — the breaching party cannot be sued for damages post-closing for their later discovered breach. [Note: This is written unclearly. As written, it makes no sense to me.] With that premise in mind, Argan reasonably argues that the one-year limitation in the Survival Clause was intended to serve as a contractual time limit on any action brought based on a breach of the contract's representations and warranties. Under Argan's theory, Western Filter could not bring a claim without the Survival Clause, and, even with the Survival Clause, Western Filter only had one year after closing to bring such a claim.

This interpretation has some basis in out-of-circuit case law. In State Street Bank & Trust Co. v. Denman Tire Corp., 240 F.3d 83 (1st Cir. 2001), the First Circuit held that a clause stating that the representations and warranties "shall expire on the second (2nd) anniversary of the Closing" clearly described a contractual statute of limitation. Id. at 87-88. The court reasoned that "[t]o say that something 'shall survive' for a period of time, . . . is very much like saying something 'shall expire' after a period of time." Id. at 88. And, although the clause did not include any language stating that a claim must be filed within the limitation period, "the language was reasonably susceptible to only one meaning: that any claim based on warranties contained in the Purchase Agreement must be brought within [the specified time period] of the closing." Id. (alterations in original) (internal quotation marks omitted); see also Latek v. LeaseAmerica Corp., No. 90 C 7230, 1992 WL 170546, at *3 (N.D. Ill. July 16, 1992), aff'd, 7 F.3d 238 (7th Cir. Sept. 22, 1993) (stating that a provision that warranties "shall survive" for 18 months from the closing date "clearly describes a contractual statute of limitations"); Commonwealth Fin. Corp v. USAAmeribancs, Inc., No. 86 C 6181, 1987 WL 19142, at *2 (N.D. Ill. Oct. 20, 1987) (concluding that a cause of action was time-barred when the provision authorizing suit stated that the seller shall indemnify buyer for one year after closing).

However, California law does not favor contractual stipulations to limit a statute of limitation. Such a stipulation must be clear and explicit, and is to be strictly construed against the party invoking the provision. ***

Like California, New York law allows parties to agree "to a shorter period of limitations within which an action may be brought so long as the period agreed to is not unreasonably short." Hurlbut v. Christiano, 63 A.D. 2d 1116, 1117 (N.Y. App. Div. 1978). However, "[c]ontractual stipulations which limit the right to sue to a period shorter than that granted by statute, are not looked upon with favor because they are in derogation of the statutory limitation. Hence, they should be construed with strictness against the party invoking them." Id. (internal quotation marks omitted). In Hurlbut, the pertinent clause stated the following: "The parties hereto further agree that the representations and warranties set forth in Sections 4.01(d) and 4.03 (g) of the Purchase Agreement between them dated February 29, 1972 shall survive the closing for a period of (3) years." Id. The court found that the language in this clause did not create a contractual statute of limitation. It stated: "The language of the agreement is clear and unambiguous and suggests nothing from which a shortened period of limitations can be inferred." Id. at 1117-18.

Although Argan's interpretation is reasonable--and ultimately may be more practical--the Survival Clause can also be reasonably read as Western Filter suggests: that the one-year limitation serves only to specify when a breach of the representations and warranties may occur, but not when an action must be filed. Western Filter's interpretation becomes even more reasonable in light of California's policy of strictly construing any contractual limitation against the party seeking to invoke the time limitation.

Summary judgment reversed.

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