Opposition Brief — Huntington Breakers Apartments, Ltd. v. C. W. Driver

Bupreme Court, U.S.

FILED

\o

YUN 2 4 1993

No. 92-1907

In The

Supreme Court of the United States

October Term, 1992

*

HUNTINGTON BREAKERS APARTMENTS, LTD., a

partnership, WILMORE CITY DEVELOPMENT, INC.,

a corporation, and JOSEPH P. MAYER III,

Petitioners,

vs.

C.W. DRIVER, a partnership,

Respondent.

¢

On Petition For A Writ Of Certiorari

To The Court Of Appeal

Of The State Of California,

Fourth Appellate District, Division Three

#

BRIEF OF RESPONDENT C.W. DRIVER

IN OPPOSITION TO PETITION FOR

WRIT OF CERTIORARI

¢

Everett W. Macuire

Counsel of Record

Macurre, TocHia & OrsBacH

10866 Wilshire Boulevard, Suite 300

Los Angeles, California 90024

(310) 470-2929

STEPHEN L. CHESNEY

Macuire, Tocuia & OrsacH

ge r Respondent

C.W. DRIVER, a partnership

COCR EOR CALL COLLECT Yat) S298

QUESTION PRESENTED FOR REVIEW:

Petitioners’ alleged “Question Presented for Review”

is purely hypothetical and makes incorrect assumptions.

In the case at bar, there is no illegal agreement, the

agreement in question does not violate the principle of

D’Oench, Duhme & Co., Inc. v. FDIC, 315 U.S. 447, 62 S.Ct.

676, 86 L.Ed. 956 (1942), there is no federal agency or

lender to be protected and there is no federal law or

question for determination by the Supreme Court of the

United States. The transaction is complete and all that

remains in this case is for Petitioners, real estate devel-

opers, to pay their contractor, Respondent herein, the

$1,575,535 balance due for work performed in 1985 on

their 342 apartment project as determined by three com-

petent and experienced Arbitrators after a 130 day, 4 year

arbitration trial.

ii

PARTIES TO THE PROCEEDING.

Petitioners are real estate developers, composed of

HUNTINGTON BREAKERS APARTMENTS, LTD., a Cali-

fornia limited partnership, and its two general partners,

WILMORE CITY DEVELOPMENT, INC., a California cor-

- poration and JOSEPH P. MAYER III (hereinafter collec-

tively “BREAKERS”). Respondent C.W. DRIVER

(hereinafter “DRIVER”) is a California general partner-

ship and licensed general building contractor.

i

lii

TABLE OF CONTENTS

Page

PRELIMINARY STATEMENT................. 1

SUPPLEMENTAL STATEMENT OF THE CASE.. 2

SUMMARY OF ARGUMENT................. 11

ro |) eae be Sa Cet ears 13

A. THE ALLEGED LEGALITY OF BREAKERS’

GUARANTEE WAS NOT REQUIRED TO BE

CONSTRUED BY THE COURT OF APPEAL

IN RENDERING ITS DECISION........... 13

B. AS THE HOLDING BY THE COURT OF

APPEAL IS CONSISTENT WITH MON-

CHARSH AND PRIOR CASE LAW IN CAL-

IFORNIA, THE PETITION MUST BE

ee ee hee Segue Sct wee iv 16

C. THERE ARE NO THIRD-PARTY OR NON-

PARTY PUBLIC INTERESTS ADVERSELY

AFFECTED BY THE OPINION BELOW... 19

Re a 25

iv

TABLE OF AUTHORITIES

Page

Adams v. Murakami, 54 Cal.3d 105, 284 Cal.Rptr.

Pee CR ea cad oka daca cues eixchas ak See cou kes 22

Bateman Eichler, Hill Richards, Inc. v. Berner, 472

CD. Se, Tee BAR. BES TIM sone cede scenececss 26

California State Council of Carpenters v. Superior

Court, 11 Cal.App.3d 144, 89 Cal.Rptr. 625

PRR os Gea die ced as barca ns Oe OE Ou naan aera Uren ss eees 17

D’Oench, Duhme & Co., Inc. v. FDIC, 315 U.S. 447,

62 S.Ct. 676, 86 L.Ed. 956 (1942)....11, 13, 24, 25, 26

Ericksen, Arbuthnot, McCarthy, Kearney & Walsh,

Inc. v. 100 Oak Street, 35 Cal.3d 312, 197

I sae oc cceeks tense packan tes ceus 18

Federal Savings & Loan Insurance Corp. v. Gemini Man-

agement, 921 F.2d 241 (9th Cir. 1990)...... 13, 24, 25, 26

Fomco, Inc. v. Joe Maggio, Inc., 55 Cal.2d 162, 10

eS eg: | Nery ere yer 16, 17, 26

Gantman v. United Pacific Insurance Co., 232

Cal.App.3d 1560, 284 Cal.Rptr. 188 (1991)......... 19

Green v. Mt. Diablo Hospital District, 207

Cal.App.3d 63, 71, 254 Cal.Rptr. 689 (1989)........ 17

Lewis & Queen v. N.M. Ball Sons, 48 Cal.2d 141, 308

ce Fo , ee Pees reer Ere 16

Lovret v. Seyfarth, 22 Cal.App.3d 841, 101 Cal.Rptr.

Wie SEE aod va vba ssanesend sud cwkudesnacnaans 18, 21

McAllister v. Drapeau, 14 Cal.2d 102, 92 P.2d 911

reer er err rer TT Tre r re i2, 21, 22, 3

Moncharsh v. Heily & Blase, 3 Cal.4th 1, 10

LAE SUD COUUED 65 cave sawscdwacnWwaxses ne passim

Vv

TABLE OF AUTHORITIES - Continued

—

Pacific Vegetable Oil Corp. v. C.S.T., Ltd., 29 Cal.2d

228, 176 POd 401 (1906) ... ooo. ccc cccccccsceee. 17

Pitts v. Highland Construction Co., 115 Cal.App.2d

206, 252 P.2d 14 (1953) ................ 12, 21, 22, 26

Shearson/American Express, Inc. v. McMahon, 482

U.S. 220, 107 S.Ct. 2332, 96 L.Ed.2d 185 (1987) .14, 15

Shiver v. Liberty Building-Loan Association, 16

Cal.2d 296, 106 P.2d 4 (1940) .......... 13, 22, 23, 24

Tafflin v. Levitt, 493 U.S. 455, 110 S.Ct. 792, 107

crime sine fivan esis csaang: ORE ETOP eed Analy Ege 25

Temple v. Corporation of America, 71 Cal.App.2d

Peee Wi CM COMO oo nck eeinsen cs conan 24

Young v. Hampton, 36 Cal.2d 799, 228 P.2d 1 (1951)

crs cade ewes wan Ae baa eeeel ec som re ks 52, 21, 22, 26

STATUTES

Agricultural Colle & 1263... o.oo. occ cccceccccccececese 16

California Code of Civil Procedure § 367.............. 19

California Code of Civil Procedure § 657............... 16

California Code of Civil Procedure § 1286.2......... 14, 17

California Code of Civil Procedure § 1281........... 19, 26

California Code of Civil Procedure § 1288.............. 17

No. 92-1907

¢

In The

Supreme Court of the United States

October Term, 1992

>

HUNTINGTON BREAKERS APARTMENTS, LTD., a

partnership, WILMORE CITY DEVELOPMENT, INC.,

a corporation, and JOSEPH P. MAYER III,

Petitioners,

VS.

C.W. DRIVER, a partnership,

Respondent.

¢

On Petition For A Writ Of Certiorari

To The Court Of Appeal

Of The State Of California,

Fourth Appellate District, Division Three

«

BRIEF OF RESPONDENT C.W. DRIVER

IN OPPOSITION TO PETITION FOR

WRIT OF CERTIORARI

*

I. PRELIMINARY STATEMENT

1. Proceedings Below:

After the trial court in 1986 granted DRIVER’S

motion to compel arbitration and after over 130 days of

arbitration hearings culminating in a unanimous

$3,021,502 award by three arbitrators in favor of DRIVER

in 1990, BREAKERS in 1991 for the first time raised the

2

issue of an illegality in a collateral Guarantee executed by

them.

Based upon an alleged illegality in BREAKERS’ Guar-

antee, the trial court on July 12, 1991 vacated the arbitra-

tion award, despite BREAKERS’ total failure to

demonstrate that the Arbitrators relied in any way upon

BREAKERS’ Guarantee in making their award. The trial

court’s order of July 12, 1991 was reversed by the Opinion

below. Petition, Appendix B.

2. Opinion Below:

BREAKERS misstate the opinion below. There was no

finding that the agreement was a “D’Oench, Duhme type

contract.” The Court of Appeal’s November 6, 1992 rever-

sal of the trial court’s July 12, 1991 Order vacating the

arbitration award was on two separate independent

grounds. First, none of the California statutory grounds

for vacating arbitration awards exist in this case. Petition

Appendix B, page B-14. Second, since BREAKERS did not

contend that the alleged illegality constituted grounds to

revoke the entire contract or that the alleged illegality

voided the arbitration clause in the contract, they waived

the illegality issue by failing to raise it at any time prior

to an adverse arbitration award under the rule stated in

Moncharsh v. Heily and Blase, 3 Cal.4th 1, 10 Cal.Rptr.2d

183 (1992). Petition, Appendix B, pages B-16-18.

II. SUPPLEMENTAL STATEMENT OF THE CASE

The Petition omits critical facts and contains false

statements. The true facts are as follows:

1. In March 1983, BREAKERS, obtained a $16 mil-

lion real estate development loan from HOME Federal

Savings and Loan Association (hereinafter “HOME”) for

the purchase of land and the construction of an apart-

ment project in Huntington Beach, California (hereinafter

“Project”). In connection with this loan, BREAKERS exe-

cuted a Promissory Note, Loan Agreement, Construction

Loan Agreement and a first priority Deed of Trust

recorded on March 11, 1983, to secure the loan. DRIVER

was not the contractor at the time of the loan, and did not

then or at any time sign any of the loan documents. In

1989, the loan from HOME was paid in full; HOME’s deed

of trust was released, and HOME has no further interest

in the Project or the property.

2. On or about July 15, 1983, BREAKERS entered

into a written contract with Acacia Construction (here-

inafter “ACACIA”), a general building contractor, for the

construction the Project. ACACIA worked on the Project

from July, 1983, through March, 1984, performing grad-

ing, installing concrete piles, etc., of a value of approx-

imately $500,000.

3. In February 1984, ACACIA informed BREAKERS

that its present estimate indicated construction costs

would be at least $10.1 million and that this estimate was

qualified and based upon still incomplete plans for the

Project.

4. In March-April 1984, BREAKERS discharged

ACACIA as contractor and changed architects, structural

engineers and civil engineers, and asked DRIVER to as-

sist them in the Project. BREAKERS also informed

DRIVER that they were changing the plans to reduce the

construction costs to the approximate balance of $8.6

million remaining in their construction budget, that all of

the principals and owners of BREAKERS would person-

ally guarantee and agree to pay DRIVER any construction

costs over the $8.6 million, and that BREAKERS had

several methods of raising additional monies to make up

the difference between the $8.6 million budget and the

actual costs of construction.

5. Thereafter DRIVER received from BREAKERS a

letter dated April 18, 1984, setting forth the various

methods BREAKERS had in process and would use to

make up the shortage of construction funds, including

obtaining secondary financing and syndication, and

instructing DRIVER to “consider this (letter) as your notice

to proceed”. On April 30, 1984, DRIVER, began its first

physical work on the Project with its own forces.

6. In April, 1984, at the request of BREAKERS,

DRIVER put the project out for bid, using the still incom-

plete plans dated January 9, 1984 or earlier, and marked

“Not for Construction”. As a result of subcontractor bids

and estimates by DRIVER’s staff, DRIVER came up with

an estimated cost of $11,519,794. Thereafter, at a meeting

held on April 27, 1984, BREAKERS came up with their

own estimate in the approximate amount of $10.6 million,

based upon BREAKERS making several cost saving

changes, some of which were already in process by their

new architects and engineers.

7. At the instruction of BREAKERS’ Steven Seming-

son, DRIVER on May 1, 1984 prepared a standard AIA

form Cost Plus Construction Contract (hereinafter “Con-

struction Contract”) in the amount of $8.6 million and

Nee

had its attorneys prepare BREAKERS’ Guarantee and

Indemnity Agreement (hereinafter BREAKERS’ Guaran-

tee) in the maximum amount of $11 million. At the time,

BREAKERS promised DRIVER that major cost saving

changes in the plans would be made by BREAKERS’ new

design team. BREAKERS’ Guarantee specifically stated

that BREAKERS and DRIVER were “working together on

revisions to the plans and specifications for the project in an

effort to bring lower the final costs of the project plus Contrac-

tor’s fees, to as close as possible to the present GMC ($8.6

million).” As it later turned out, DRIVER’s efforts to

reduce construction costs downward to the $8.6 million,

were frustrated by BREAKERS’ constant demands, addi-

tions, changes, delays, disruptions and interferences, and

the enormous power and control BREAKERS exercised

over DRIVER, subcontractors, architects and engineers

and nearly every aspect of the Project, including the

design, DRIVER’s pay applications, the construction,

changes, timing, subcontracts and materials. An example

of BREAKERS’ arbitrary control over DRIVER’s pay

applications is indicated in HOME’s inspector’s site

report of August 6, 1985, wherein he stated in the first

paragraph on page 2:

“Please note that the percentage of completion

dropped from the previous month, from 85% to

82%. In our opinion, the project is approx-

imately 90% completed. No Application for Pay-

ment was made for any of the items shown in

Change Order #5. Much of this work is com-

pleted.”

8. Prior to the Construction Contract and

BREAKERS’ Guarantee, signed on May 4, 1984, DRIVER

had no contractual obligations or agreements with

BREAKERS. The Construction Contract was a standard

form (A111 and A201) of the American Institute of Archi-

tects widely used throughout the United States for

decades, and contained a separate paragraph 7.9 in the

General Conditions (AIA form A201) entitled “ARBITRA-

TION”. In addition the word “arbitration” is used in

many paragraphs throughout the General Conditions.

BREAKERS’ contention on page 4 of their Petition that

there was a hidden arbitration clause buried in an attach-

ment is simply not true, nor was any such contention ever

previously made by BREAKERS.

9. It was undisputed that BREAKERS’ Guarantee

was prepared at the request of BREAKERS’ Mr. Semingson

and contained therein the information and details he had

furnished to DRIVER. At all times, DRIVER believed that

BREAKERS’ Guarantee was valid and enforceable, and it

was always DRIVER’s belief that the Lender, HOME, was

aware of BREAKERS’ Guarantee as particularly stated

therein in the second full paragraph on page 2 thereof as

follows:

“WHEREAS, Lender is aware that as between

Owner and Contractor, Owner will be required to

pay any increased costs resulting from any revi-

sions and modifications required by the City of

Huntington Beach, as well as for any changes

and extra work as provided in the Construction

Contract and for any excess of Contractor’s actual

costs plus Contractor’s fee over the present

GMC,($8.6 million) and that Owner will be execut-

ing this Guarantee and Indemnity Agreement, so

providing as more particularly set forth below;”

(Emphasis added.)

10. When BREAKERS, et al., on May 4, 1984 signed

their Guarantee, they agreed and represented to DRIVER,

that the Lender (HOME) was aware of BREAKERS’ Guaran-

tee and its provisions and that BREAKERS would be signing

it. DRIVER relied upon these representations and provi-

sions in BREAKERS’ Guarantee in constructing

BREAKERS’ Project.

11. BREAKERS’ Guarantee was not a secret second

agreement; it was known to HOME and was simply a

guarantee given to DRIVER by BREAKERS, et al., guaran-

teeing that if sufficient revisions in the plans and speci-

fications were not made by BREAKERS to get the cost of the

Project down to $8.6 million, DRIVER would be paid for

its actual construction costs, not exceeding $11 million by

the persons and entities who signed the Guarantee.

Unfortunately, BREAKERS did not cooperate in making

revisions to lower the costs, but instead made many

additions to the Project totalling $2,741,162.

12. BREAKERS’ Guarantee did not “ostensibly

increase . . . the exposure of the S&L (HOME) from $8.6

million to $11 million” as contended in the Petition at

page 3. HOME’s deed of trust securing the loan to

BREAKERS had been recorded on March 11, 1983, more

than a year before the Construction Contract and

BREAKERS’ Guarantee were signed on May 4, 1984, and

thus HOME’s previously recorded deed of trust had prior-

ity over any mechanic’s lien rights DRIVER might have

on the Project. In fact, the value of HOME’s security for its

loan to BREAKERS would be increased by any improve-

ments DRIVER made to the Project, and DRIVER would

not have any security by way of mechanic’s lien rights for

the improvements it was to make to the Project until the

value of the Project exceeded the amount of HOME’s ($16

million) loan and first priority deed of trust. Thus,

BREAKERS’ Guarantee, could in no way harm HOME or

any governmental agency but on the contrary would greatly

benefit HOME and its security. In fact, at the arbitration

trial, BREAKERS contended they had a 1985 appraisal

showing a Project value on completion of $29.5 million. At

the time of the May 4, 1984 BREAKERS’ Guarantee,

HOME ’s $16 million loan to BREAKERS had already been

approved and funded in 1983 and draws out of the loan

had been made by BREAKERS to purchase the land, to

pay ACACIA, etc. The May 4, 1984 agreements did not

increase the amount of money HOME agreed in 1983 to

loan on BREAKERS’ Project and did not subject either

HOME or any governmental agency to further risk or

liability, but rather, HOME was extremely benefitted by

DRIVER’s willingness to go to work and get the Project

going again at a time when everyone involved knew that

the construction loan budget was insufficient to pay all of

the remaining costs of construction as then designed. If the

Project had not restarted, HOME would have been left

with a parcel of iand with some piles (for 18 buildings) in

the ground and partially completed plans.

13. At the arbitration hearing on June 22, 1989, Ms.

Gloria Wolfe, HOME’s Regional Manager of Construction

Disbursement, was sworn and testified: that she was shown

BREAKERS’ Guarantee after a meeting held in San Diego

early in the job and before any major construction had started,

that she knew the $8.6 million in the Construction Contract

was not a real number, and that she believed (as DRIVER

had) that BREAKERS’ August, 1984, $2.52 million loan

(consented to by HOME) from Newport Balboa was going

to make up the difference between the $8.6 million in the

Construction Contract and the $11 million in BREAKERS’

Guarantee. There was no competent evidence that

BREAKERS’ Guarantee was not part of HOME’s files as

contended in the Petition at pp. 3-4. At the ‘time of the

alleged review of HOME files in 1991, many of HOME’s

files were missing as testified by HOME’s representative

at the arbitration trial on June 27, 1989. Further the 1991

review did not include 2 large boxes of HOME’s files

locked in a cabinet at the American Arbitration Associa-

tion. Nor was there any evidence that the Construction

Contract was in HOME’s files or was in any way relied

upon by HOME.

14. DRIVER had no agreements or dealings with

HOME, and DRIVER’s sole knowledge of what HOME

might know or require was from BREAKERS’ Mr.

Semingson. No payments were made by HOME directly

to DRIVER with respect to the Project, and HOME made

all loan payments directly to BREAKERS. DRIVER made

no representation to HOME that it would construct the

Project for the funds remaining in the loan as alleged in

the Petition at page 4.

15. The $8.6 million cost plus Construction Contract

was increased by Change Orders, and by Change Order

No. 5, dated July 15, 1985, signed both by DRIVER and

BREAKERS, the Construction Contract had been adjusted

to $10,742,367.09. In addition, Change Orders No. 6 and 7,

signed by DRIVER and submitted to BREAKERS for sig-

nature and payment, increased the Construction Contract

to $12,449,161.

10

16. Further, the evidence introduced at the 130 day

arbitration trial showed that DRIVER performed extra and

additional work out of the scope of the Construction Con-

tract, in the amount of $2,741,162 and that DRIVER had

only been paid by BREAKERS the sum of $9,363,269.78.

The Arbitrators made their decision based upon the evi-

dence and awarded DRIVER for work performed the sum

of $1,575,535.00, which is less than the $1,977,892.22 dif-

ference between $8.6 million plus said $2,741,162 (for

extra work) less the $9,363,269.78 paid.

17. The trial court on March 16, 1986, ordered

BREAKERS to arbitrate. The arbitration commenced in

the American Arbitration Association in June, 1986, and

after over 130 days of arbitration trial, resulted in a

$3,021,502 Award (including interest, costs and attorneys

fees) on October 4, 1990, in favor of DRIVER and against

BREAKERS.

18. BREAKERS and their attorneys at all times prior

to the October 4, 1990 Arbitration Award and their 1991

Petitions to Vacate the Award, contended and asserted in

both the Trial Court and in the arbitration that their May

4, 1984 Guarantee was valid and enforceable and pro-

vided BREAKERS the basis for their request for attor-

neys’ fees in the arbitration and in the trial court. In fact,

until BREAKERS’ said 1991 Petitions, BREAKERS, et al.,

in signing BREAKERS’ Guarantee, agreed to and repre-

sented to DRIVER the truth of all of the statements and

provisions in their Guarantee, including the statement

that the “Lender is aware that . . . Owner (BREAKERS)

will be executing this Guarantee...” After BREAKERS

lost the four year arbitration, they now say “they lied,”

and they now request the Court to reward them for their

11

(alleged) lie, by giving them a $1,575,535 windfall by not

having to pay DRIVER the $1,575,535 balance found to be

due by the Arbitrators for work performed by DRIVER on

their Project.

19. The evidence at the arbitration trial also showed

that BREAKERS’ partners drew out $1,196,359 of project

funds during construction , and steadfastly refused to

invest any of their own money, and yet, BREAKERS ended

up with a Project they testified had a completed value of

$29,500,000 in 1985, at the time they sold up to a fifty

percent (50%) of their equity to Pacific Real Property

(Pacific Federal) in August, 1985 for $5,500,000.00.

20. BREAKERS’ arbitration trial Exhibit HB16-153

and as testified to by BREAKERS’ managing partner,

Semingson, showed that the construction budget was

simply the amount left over out of the $16 million HOME

development loan and was not based upon any real esti-

mate of construction costs.

III. SUMMARY OF ARGUMENT

The subject transaction and the resulting arbitration

and appellate decisions do not violate the principles set

forth in D’Oench, Duhme & Co., Inc. v. FDIC, 315 U.S. 447,

62 S.Ct. 676, 86 L.Ed. 956 (1942) and its progeny. HOME

had full knowledge of the transaction, never suffered any

potential or actual damages with respect to the transac-

tion, and was paid in full. During the arbitration of this

matter between DRIVER and BREAKERS, BREAKERS

never raised the issue of illegality or claim that

BREAKERS’ Guarantee was unenforceable.

12

In fact, during the arbitration, BREAKERS sought to

enforce BREAKERS’ Guarantee through their claim for

attorneys’ fees. It was only after the Arbitrators ruled

against BREAKERS and in favor of DRIVER that any

alleged issue of illegality was raised. Without any show-

ing that the Arbitrators relied on BREAKERS’ Guarantee,

the trial court, nevertheless vacated the arbitration award

on the basis of partial illegality. The California Court of

Appeal reversed the trial court on two grounds. The

California Court of Appeal properly held that no statu-

tory grounds exist for vacating the Award and that, since

BREAKERS’ claim of illegality went to only a portion of

the contract, any such claim not raised during the arbitra-

tion was deemed waived. Under California law, issues of

partial illegality are subject to arbitration. Moncharsh,

supra, 3 Cal.4th at 30; Green v. Mt. Diablo Hospital District,

207 Cal.App.3d 63, 71, 254 Cal.Rptr. 689 (1989). Further,

BREAKERS does not have the standing to raise any claim

of the violation of “non-party” rights.

BREAKERS rely upon Pitts v. Highland Construction

Co., 115 Cal.App.2d 206, 252 P.2d 14 (1953), Young v.

Hampton, 36 Cal.2d 799, 228 P.2d 1 (1951) and McAllister v.

Drapeau, 14 Cal.2d 102, 92 P.2d 911 (1939). Those cases are

distinguishable from the within action in that in those

cases there was no arbitration involved, the lenders had

no knowledge of the second agreement, the second agree-

ment did not state on its face that the lender was aware of

the second agreement, there was no evidence at the trial

that the lender was aware of the second agreement, the

parties seeking to enforce the second agreement were

involved in the financing of the transaction, and there

was no issue of waiver involved. Further, the within

13

action is virtually identical to Shiver v. Liberty Building-

Loan Association, 16 Cal.2d 286, 106 P.2d 4 (1940), wherein

the Court found the second agreement to be valid and

enforceable.

BREAKERS further claim that the policies set forth in

D’Oench and Federal Savings & Loan Insurance Corp. v.

Gemini Management, 921 F.2d 241 (9th Cir. 1990) would

not be served if Moncharsh is deemed controlling. How-

ever, such a claim is erroneous. First, in general, state

courts and arbitrators have the jurisdiction to hear and

decide all federal issues presented to them, absent speci-

fic legislation or United States Constitution provisions to

the contrary. Second, unlike the within action, the

D‘Oench and Gemini cases are based upon (1) the bank

having no knowledge of the alleged “illegal” transaction,

and (2) by the lack of such knowledge, the bank was

misled into making the loan. Third, BREAKERS cannot

show that the Arbitrators relied upon BREAKERS’ Guar-

antee in rendering their award. Based thereon, the Peti-

tion For Writ of Certiorari must be denied.

IV. ARGUMENT

A. THE ALLEGED LEGALITY OF BREAKERS’

GUARANTEE WAS NOT REQUIRED TO BE

CONSTRUED BY THE COURT OF APPEAL IN

RENDERING ITS DECISION

As previously stated, the Court of Appeal held that

there were two reasons why the trial court’s order vacat-

ing the arbitration award must be reversed. The first

reason given was that “None of the statutory grounds for

14

vacating the award [California Code of Civil Procedure

§ 1286.2] exists here. Thus the order vacating the award

must be reversed” (Petition, Exhibit B, p. B-14).

The Court of Appeal, as “a second reason .. . for

reversing the (Trial Court) order” (id.), followed the hold-

ing of Moncharsh v. Heily & Blase, supra. In Moncharsh, the

California Supreme Court held, among other things, at

page 31, as follows:

“We thus hold that unless a party is claiming (i)

the entire contract is illegal, or (ii) the arbitra-

tion agreement itself is illegal, he or she need

not raise the illegality question prior to partici-

pating in the arbitration process, so long as the

issue is raised before the arbitrator. Failure to

raise a claim before the arbitrator, however,

waives the claim for any future judicial review.”

BREAKERS contend that notwithstanding the above-

quoted language of Moncharsh, that the Court of Appeal

was required to, but did not, construe the legality of

BREAKERS’ Guarantee. The Court of Appeal found that

since BREAKERS claimed that their Guarantee was only

partially illegal, their claim of illegality was waived

because it was not raised during the arbitration.

In Moncharsh, the Supreme Court recognized an

extremely limited exception “in rare cases when accord-

ing finality to the arbitrator’s decision would be incom-

patible with the protection of a statutory right.”

Moncharsh, at 32, citing Shearson/American Express, Inc. v.

McMahon, 482 U.S. 220, 107 S.Ct. 2332, 96 L.Ed.2d 185

(1987). In Shearson, the Court held that federal statutory

claims are arbitrable under the Federal Arbitration Act

unless a party opposing the arbitration shows that it was

irre

15

the intent of Congress to preclude a waiver of judicial

remedies for the statutory rights in issue. Shearson, 482

U.S. at 225-227.

BREAKERS’ claim that the Court of Appeal did not

consider the issue of illegality of BREAKERS’ Guarantee,

and therefore did not consider whether this case came

under the Moncharsh exception for judicial review of arbi-

tration awards involving claims of partial illegality in a

contract. BREAKERS’ claim is wholly without merit. First,

the Court of Appeal did consider the extent of the alleged

illegality with respect to the subject transactions between

DRIVER and BREAKERS and found that since

BREAKERS was arguing the validity of the attorneys’ fees

provision in BREAKERS’ Guarantee, that therefore the

illegality did not go to the entire transaction. Second,

BREAKERS have not claimed that arbitration was not

available for the resolution of the subject dispute due to

enacted statutes. BREAKERS’ claim of illegality does not

attack the validity of the arbitration process, it only

attacks one particular provision in BREAKERS’ Guaran-

tee, which obligated BREAKERS to pay up to $11 million,

plus changes. Third, BREAKERS did not file a Petition for

Rehearing before the Court of Appeal seeking review of

the alleged omissions and misstatements in the subject

opinion. Therefore, the Court of Appeal finding that

BREAKERS waived any claim of illegality is correct.

16

B. AS THE HOLDING BY THE COURT OF

APPEAL IS CONSISTENT WITH MON-

CHARSH AND PRIOR CASE LAW IN CALI-

FORNIA, THE PETITION MUST BE DENIED

The waiver rule in Moncharsh, that a party must first

raise issues of illegality before the trier of fact is consis-

tent with prior case law. In Fomco, Inc. v. Joe Maggio, Inc.,

55 Cal.2d 162, 166, 10 Cal.Rptr. 462 (1961), the defendants

on their motion for a new trial for the first time raised the

issue Of illegality, i.e., the plaintiff did not hold a license

required by Section 1263 of the Agricultural Code. The

California Supreme Court affirmed the judgment for

plaintiff and distinguished its earlier case, Lewis & Queen

v. N.M. Ball Sons, 48 Cal.2d 141, 308 P.2d 713 (1957),

stating at page 166:

“Lewis & Queen v. N.M. Ball Sons, 48 Cal.2d

141 (308 P.2d 713], relied on by defendants, is

not here on point. In that case the issue of

illegality was first raised during the trial and not

for the first time on a motion for a new trial.

(Emphasis in original).

“None of the decided cases hold that after a

judgment has been entered without any evi-

dence having been introduced establishing ilie-

gality, the court must grant a motion for a new

trial on the ground of newly discovered evi-

dence of illegality even though the moving

party has failed to show the exercise of the

diligence required by section 657, subdivision

(4), of the Code of Civil Procedure.”

Thus, the California Supreme Court in Fomco, in 1961,

rejected the contention that a party can wait until after

they lose in court or arbitration, to first raise the issue of

17

illegality. Based thereon, Moncharsh did not change a long

standing rule of law, but rather followed prior law.

In Green v. Mt. Diablo Hospital District, 207

Cal.App.3d 63, 254 Cal.Rptr. 689 (1989), the Court of

Appeal analyzed the illegality issue with respect to arbi-

trations. The court stated:

“To avoid arbitration, the illegality ‘must be

such as renders the entire contract illegal and

unenforceable; and that a claim of illegality of one

of the incidental clauses of the contract that fall

short of affording ground for revocation of the con-

tract is itself subject to arbitration.’ (California State

Council of Carpenters v. Superior Court (1970) 11

Cal.App.3d 144, 157 [89 Cal.Rptr. 625].)”

(Emphasis added.)

Green, 207 Cal.App.3d at 71; accord, Moncharsh, 3 Cal.4th

at 30.

Thus, through Green in 1989, Carpenters in 1970 and

Fomco in 1961, BREAKERS were put on notice that issues

of illegality concerning the transaction had to be raised

no later than in the arbitration trial. For BREAKERS to

take the position that they were not required to raise the

illegality issue on DRIVER’S Motion to Compel Arbitra-

tion in 1986, or during the 1986-1990, 130 day arbitration

trial would be antithetical to the rule that arbitrators have

broad powers and the power to decide and determine all

issues relevant to the transaction. In Pacific Vegetable Oil

Corp. v. C.S.T., Ltd., 29 Cal.3d 228, 241-242, 174 P.2d 441

(1946), the California Supreme Court, in construing the

predecessor statute [former California Code of Civil Pro-

cedure § 1288] to California Code of Civil Procedure § 1286.2,

es is

18

held that where arbitrators consider all the evidence sub-

mitted to them and do not deny a party the right to

submit evidence and present its case, no ground for

vacating the award exists under the controlling statute.

Further, BREAKERS sought to enforce their Guarantee

and the attorneys’ fee provision therein during the arbi-

tration and even in their state appeal in Case No.

G011659. Only after BREAKERS lost in the arbitration did

BREAKERS first claim that a portion of their Guarantee

was illegal. Without question, BREAKERS is attempting

to engage in “procedural gamesmanship” which has been

condemned as “undermining the advantages of arbitra-

tion.” Moncharsh, 3 Cal.4th at 30; Ericksen, Arbuthnot,

McCarthy, Kearney & Walsh, Inc. v. 100 Oak Street, 35

Cal.3d 312, 323, 197 Cal.Rptr. 581 (1983). BREAKERS

should not be allowed to wait until after an adverse

decision to first raise the issue of illegality. See Lovret v.

Seyfarth, 22 Cal.App.3d 841, 859-860, 101 Cal.Rptr. 143

(1972), (“[a] claimant may not voluntarily submit his

claim to arbitration, await the outcome, and, if the deci-

sion is unfavorable, then challenge the authority of the

arbitrators to act.”)

In Moncharsh, the California Supreme Court properly

relied upon prior law in formulating its holding with

respect to waiver of partial illegality claims. Moncharsh, 3

Cal.4th at 29-31. The rule in Moncharsh that the issue of

illegality be raised before or during the arbitration, is

sound. The issue of illegality must be raised at that time

in that it puts the parties and arbitrators on notice of that

issue. A more meaningful hearing can then be held to

enable the arbitrator’s search for the truth. As the vast

19

majority of arbitration awards do not have findings, rais-

ing the illegality issue at the outset gives the parties and

arbitrators the opportunity to fully preserve the issue for

any later judicial review. Otherwise, a meaningful review

of the arbitration award on the issue of illegality cannot

be had under California Code of Civil Procedure § 1281 et

seq., in that one can only speculate as to what would have

been arbitrator’s findings on the illegality issue. Any

such speculation would be contrary to the strong public

policy in favor of finality of arbitration proceedings. In

order to rule upon the partial illegality issue, the court

will, in effect, be required to retry the merits of the

controversy. This would be completely contrary to the

general rule that errors of fact and law by the arbitrator

are not reviewable by the courts.

C. THERE ARE NO THIRD-PARTY OR NON-

PARTY PUBLIC INTERESTS ADVERSELY

AFFECTED BY THE OPINION BELOW

In California, a plaintiff must be the real party in

interest with respect to the claim sued upon. In general,

every action must be prosecuted in the name of the real

party in interest. California Code of Civil Procedure § 367.

Generally, a real party in interest is a person who has the

right to sue under the substantive law. It is the person

who owns or holds title to the claim or property

involved, as opposed to others who may be merely inter-

ested or benefited by the litigation. Gantman v. United

Pacific Insurance Co., 232 Cal.App.3d 1560, 1566, 284

Cal.Rptr. 188 (1991).

20

BREAKERS claim that the rights of non-parties will

be adversely affected if the Moncharsh rule is followed in

the within action. Not only are there no “non-parties”

adversely affected, BREAKERS’ claim is completely con-

trary to California law. The protection of the nebulous

“rights of non-parties”, even those who have not insti-

tuted legal proceedings, will be served if illegality is

required to be raised at the outset. Because of the nature

of the analysis required regarding illegality based on

public policy, the rights of the parties and those rights of

non-parties are necessarily considered. If illegality is

raised during arbitration proceedings, arbitrators will

then consider the merit of the illegality issue and any

overriding issues of public policy in making their award,

thereby promoting judicial economy. The rights of non-

parties, i.e., public policy, will be analyzed and adjudi-

cated in the arbitration and, if necessary, in subsequent

court proceedings. If a party is allowed to wait until after

an unfavorable arbitration award to first raise the issue of

illegality, public policy will not be served, because, first

the arbitrators would be denied the opportunity to decide

the issue and secondly, had the award been favorable, the

issue of illegality would never be raised. Thus, public

policy is much better served by forcing the parties to

raise the issue of illegality at the first opportunity, rather

than permitting a party (like BREAKERS) to engage in

“procedural gamesmanship” (Moncharsh, p. 30) to raise

the issue only after an unfavorable arbitration award.

Further, parties who fail to raise the issue of illegality

before or in the arbitration should not be able to use the

ruse of claiming that the rights of non-parties were vio-

lated as a pretext to obtaining a new trial for themselves

|

21

after an unfavorable arbitration award. See, Lovret v.

Seyfarth, 22 Cal.App.3d 841, 859-860, 101 Cal.Rptr. 143

(1972). This is especially true when non-parties, such as

the Lender HOME involved in this case, has not been

damaged, did not rely on the $8.6 million figure in the

Construction Contract or any representations of DRIVER,

had knowledge of BREAKERS’ Guarantee, and has been

paid in full. Simply put, under the facts of this case, there

is no third party to be protected from anything.

BREAKERS rely upon Pitts v. Highland Construction

Co., 115 Cal.App.2d 206, 252 P.2d 14 (1953); Young v.

Hampton, 36 Cal.2d 799, 228 P.2d 1 (1951) and McAllister v.

Drapeau, 14 Cal.2d 102, 92 P.2d 911 (1939) for the proposi-

tion that courts must be allowed to review the illegality

of transactions involving loans by banks or savings and

loans, irrespective of any perceptions of illegality by the

parties to the arbitration. BREAKERS claim that this line

of cases will “die” if courts are no longer able to review

contracts which are allegedly partially illegal. However,

such a position is not well taken.

Pitts, Young and McAllister, are not on point. In all

three cases, the claim of illegality was raised before the

initial trier of fact and the party was involved in the

transactions and the claimed misleading of a lender.

None of these three cases involve arbitrations or the

issues of waiver. California has a strong public interest in

favor of finality of arbitration. As the issue of partial

illegality is one that arbitrators have the power to resolve,

it is imperative that the issue be raised either before or

during the arbitration so that (1) all parties have the

opportunity to be heard on the issue and (2) a fully

informed decision can be made and (3) the trial and

22

appellate courts do not have to speculate as to what

extent, if any, the alleged illegality had on the arbitrator’s

decision. See, Adams v. Murakami, 54 Cal.3d 105, 112, 284

Cal.Rptr. 318 (1991). (“Sound public policy weighs in

favor of fully informed decisions, especially when a pub-

lic interest is at stake.”)

Further, in Pitts, the Court of Appeal reversed the

trial court’s Order which found the entire agreement

illegal and unenforceable. The Court of Appeal severed

the illegal portion of the transaction and enforced the

valid portion of the transaction.

Without question, Pitts, Young and McAllister are

cases which are clearly distinguishable from the within

action. In those three cases, there was no arbitration

involved, the lenders had no knowledge of the second

agreement, the second agreement did not state on its face

that the lender was aware of the second agreement, there

was no evidence at the trial that the lender was aware of

the second agreement, the parties seeking to enforce the

second agreement were involved in the financing transac-

tion, and there was no issue of waiver involved.

The California Supreme Court case of Shiver v. Liberty

Building-Loan Association, 16 Cal.2d 296, 106 P.2d 4 (1940),

is directly on point and could not be distinguished by

BREAKERS in state court. In Shiver, like in the case at

bench, there were two documents. Liberty, the holder of

an existing $2,228 note and deed of trust, executed a

“consent to take bonds” letter to the Home Owners Loan

Corporation, a Federal agency (hereinafter “H.O.L.C.”)

agreeing to accept “in full settlement the sum of $1,579.00

23

face value of the bonds of (H.O.L.C.) . . . and there-

upon... release all... claim. . . against said property.”

Id. at 298. Liberty also executed escrow instructions giv-

ing it a $300 note secured by a second deed of trust on

said property. There was no express approval by H.O.L.C.

of these escrow instructions or of the second deed of

trust, and the only evidence at the trial of any such

approval was the oral testimony of Liberty’s manager that

he had discussed the matter with H.O.L.C. while in their

office. The homeowner testified he “had refused at ail

times during the refinancing negotiations to give .. .

(Liberty) any consideration in addition to the bonds.” Id.

at 297. The California Supreme Court first held that oral

evidence was admissible to show the true consideration,

and that Liberty was not bound by the recitals of consid-

eration in the writing (consent to take bonds letter) and

then affirmed the trial court’s finding (based on such oral

testimony that the $300 note was executed with H.O.L.C’s

knowledge or consent) that the $300 note and second

deed of trust were valid and enforceable. Id. at 299-300.

The California Supreme Court also distinguished its one

year earlier decision in McAllister v. Drapeau, 14 Cal.2d

102, 92 P.2d 911 (1939) (relied upon by BREAKERS) on the

grounds that in McAllister the $1,300 note and second

deed of trust therein involved were unknown to H.O.L.C.

(Id. at 300.)

A comparison between the Shiver case and the case a

bench shows that the issue of illegality was a very much

closer question in Shiver. First, in Shiver, Liberty was

involved in the financing, i.e., H.O.L.C. issued and gave

bonds to Liberty in reliance upon Liberty executing the

consent to take bonds letter releasing all claim “against

24

said property”. Whereas, in the case at bench, DRIVER

was not involved in the financing, had no dealings with

the lender, had no contracts with BREAKERS until over a

year later and all loan payments went directly to

BREAKERS and none to DRIVER. Second, in Shiver, the

only evidence that H.O.L.C. was aware of the $300 note

and second deed of trust was the oral testimony of Lib-

erty’s manager that he had mentioned it while at the

office of H.O.L.C. (which oral testimony was inconsistent

with Liberty’s Consent to Take Bonds letter); whereas in

the case at bench, not only did BREAKERS’ Guarantee

expressly state that the Lender was aware of its contents

and that BREAKERS were signing it, but the Lender’s

regional manager, Gloria Wolfe, testified under oath at the

arbitration trial extensively about HOME’s knowledge of

BREAKERS’ Guarantee and the $11 million figure therein

and that she had seen BREAKERS’ Guarantee early in the

job and before any major construction had started. Third,

in Shiver, Liberty’s second deed of trust was recorded as a

second lien against the owner’s property; whereas in the

case at bench, BREAKERS’ Guarantee did not constitute a

lien against BREAKERS’ property. The Shiver case was

followed in Temple v. Corporation of America, 71

Cal.App.2d 599, 163 P.2d 67 (1945).

BREAKERS claim that the policies set forth in

D’Oench, Duhme & Co., Inc. v. FDIC, 315 U.S. 447, 62 S.Ct.

676, 86 L.Ed. 956 (1942) and Federal Savings & Loan Insur-

ance Corp. v. Gemini Management, 921 F.2d 241 (9th Cir.

1990) would not be served if Moncharsh is deemed to be

controlling. However, such a claim is erroneous. First,

state courts and arbitrators have the jurisdiction to hear

and decide all federal issues presented to them, absent

a!

25

specific legislation or United States Constitution provi-

sions to the contrary. See Tafflin v. Levitt, 493 U.S. 455,

458-459, 110 S.Ct. 792, 795, 107 L.Ed.2d 887 (1990). Sec-

ond, the D’Oench and Gemini cases are based upon (1) the

bank having no knowledge of the “illegal” transaction,

and (2) by the lack of such knowledge, the bank was

misled into making the loan, unlike here where HOME

had knowledge of BREAKERS’ Guarantee, made its loan

over a year prior thereto, and consented to a $2.52 million

second loan and lien against the Project to make up the

difference between the $8.6 million Construction Contract

and the $11 million BREAKERS’ Guarantee. Third,

BREAKERS cannot and did not show that the Arbitrators

relied upon BREAKERS’ Guarantee in rendering their

award. As the within action and the holdings of both the

Arbitrators and the California Court of Appeal do not

infringe upon any federal rights, the Petition for Writ of

Certiorari must be denied.

¢

V. CONCLUSION

DRIVER and BREAKERS entered into a valid Con-

struction Contract with a valid arbitration agreement

therein, and the arbitration award based thereon is valid.

Further, since the (March, 1983) Lender was not misled

and was fully aware of BREAKERS’ Guarantee at or

about the time it was executed in May, 1984, BREAKERS’

Guarantee cannot be considered a “secret” or illegal

agreement.

26

BREAKERS waited until after an unfavorable arbitra-

tion award, to first assert (in 1991) that a portion of their

Guarantee is illegal on the grounds that their representa-

tion and statement in their 1984 Guarantee that the “Lender

is aware that . . . Owner (BREAKERS) will be executing

this Guarantee ... ”, was a lie. Under the doctrine of

invited error and waiver, BREAKERS cannot now claim

they lied in their 1984 Guarantee, and thereby benefit

from their own (lie) wrong.

The cases of D’Oench, Gemini, Pitts, Young and

McAllister are inapplicable in that the lender (HOME) had

knowledge of BREAKERS’ Guarantee, did not rely upon

the $8.6 million GMC figure, and was fully paid.

BREAKERS is simply seeking to avoid the payment of a

just debt in the amount of $1,575,535 (plus interest, attor-

neys’ fees and costs), which the Arbitrators found to be

the balance due to DRIVER for work performed. See also

Bateman Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299,

105 S.Ct. 2622 (1985).

The arbitration award is fully supportable on three

theories (Change Orders to the contract, extra work per-

formed and cost plus) totally separate and independent

of BREAKERS’ Guarantee. pass

saga

Partial illegality claims not raised in the arbitration

are waived. Moncharsh merely confirms prior California

Law (Fomco, Inc. v. Joe Maggio, Inc., supra) and clarifies the

statutory intent of California Code of Civil Procedure § 1281,

et seq.

27

The Court of Appeal properly reversed the trial

court’s order vacating the arbitration award. Accordingly,

BREAKERS’ Petition for Writ of Certiorari should be

denied in its entirety.

Dated: June 24, 1993

Respectfully submitted,

Everett W. MAGuIRE

(Counsel of Record)

Macuire, TocHia & ORBACH

STEPHEN L. CHESNEY

Macuire, TocHia & ORBACH

Attorneys for Respondent C.W.

DRIVER, a partnership