The Approach of California
in Applying Its Law to Foreign Corporations, and Whether a Contractual "Choice-of-Law"
Provision Can Overcome This
The concept of "piercing the corporate veil"
is a judicial creation. "Resolution of a piercing question is almost
always left to a judge's determination of corporate illegitimacy,"
since "almost all state corporations statutes simply ignore the
whole idea of piercing the corporate veil." Robert B. Thompson,
"Piercing The Corporate Veil: An Empirical Study," 76 Cornell
L. Rev. 1036, 1041 (1991). In all 50 states "piercing" is
a common law doctrine. Id. at 1053.
California has, under certain conditions, applied its
statutory law to corporations incorporated in other states. Although
its statutes do not mention "piercing," it is possible that
a state which aggressively applies its statutory law to foreign corporations
would apply its common law in the same manner. Id. However, to
date, neither the courts in California nor any other state have confronted
the issue of which law applies in the context of shareholder liability
for debts incurred in the normal course of corporate business by a foreign
corporation acting in another state. See Mark R Patterson, "Is
Unlimited Liability Really Unattainable, Of Long Arms and Short Sales?,"
56 Ohio St. L.J. 815, 862 (1995) ("The central question in choosing
the appropriate law to govern a corporation asks whether the particular
issue involved is an internal one or one that involves third parties.
This question is one that has not yet been answered in the context of
shareholder liability.") Thus, there is no clear answer to the
question of whether a state such as California would "pierce the
corporate veil" of a foreign corporation doing business there.
However, a review of federal constitutional principles on similar issues,
and a review of California's application of its corporation laws to
foreign corporations in various contexts will shed some light on the
FEDERAL CONSTITUTIONAL ISSUES
Several provisions of the United States Constitution
are implicated by the issue of a state applying its own laws to a foreign
corporation doing business in the state. Among these are the full faith
and credit clause, the commerce clause, the contract clause, the due
process clause, and the equal protection clause. Before discussing these,
two United States Supreme Court cases from the early part of this century
must be reviewed, as they dealt specifically with California applying
its law to shareholders of foreign corporations.
"Until 1931, California imposed unlimited, pro
rata liability on shareholders of both its own and other states
corporations." Patterson, supra, 56 Ohio St. L.J. at 820.
This rule of pro rata unlimited liability applied to both corporate
torts and a corporation's contractual debts, and specifically applied
to foreign corporations doing business in California. See Henry
Hansmann and Reinier Kraakman, "A Procedural Focus On Unlimited
Shareholder Liability," 106 Harv. L. Rev. 446, 452 (1992). This
provision of state law was challenged as unconstitutional, but the United
States Supreme Court upheld the law on two occasions.
The first case was Pinney v. Nelson, 183 U.S.
144 (1901). Here, the Court upheld the law since the corporation at
issue had a charter which explicitly provided for doing business in
California. The Court viewed this as an express contractual undertaking
to apply California law. See Patterson, supra, 56 Ohio
St. L.J. at 822 n. 33; Janet Cooper Alexander, "Unlimited Shareholder
Liability Through A Procedural Lens," 106 Harv. L. Rev. 387, 412
n. 121 (1992).
The second case was Thomas v. Matthiessen, 232
U.S. 221 (1914). Here, "the Court faced an attempt by a citizen
of California to recover from a citizen of New York on debts owed by
an Arizona corporation in which the New Yorker was a shareholder. Despite
the defendant shareholder's explicit agreement with the corporation
that he would not be liable for corporate debts, and a corporate charter
provision to that effect, the Court concluded that California law could
be applied. " Patterson, supra, 56 Ohio St. L.J. at 821.
See also Hansmann and Kraakman, supra, 106 Harv L. Rev
at 452. ("The Supreme Court held ... that California could apply
its statute even to out-of-state shareholders of a firm incorporated
in another state whose law specifically provided for limited shareholder
The key to the decision was that the defendant explicitly
assented to the corporation doing business in California. The Court
When the defendant authorized [business in California]
he could not avoid the consequences by saying that he did not foresee
or intend, or that he forbade them. He knew that California had laws
and he took his risk of what they might be, when, as we must hold,
he gave his assent to doing business there.
Thomas, supra, 232 U.S.
at 234-35 (opinion by Holmes, J.).
As summed up by Professor Patterson, "Thomas
appears quite clearly to say that a state can impose its own shareholder
liability policy on even foreign corporations doing business in the
state. The only condition on which the Court appeared to rely was the
shareholder's knowledge of the California unlimited liability statute.
Patterson, supra, 56 Ohio St. L.J at 822; contra Alexander,
supra, 106 Harv. L. Rev at 412 n. 121. Thus, if one does business
in a state and has knowledge of that state's laws, Thomas may
cause a higher level of liability than would be the case in the state
of incorporation. Despite this, other cases show the viability of other
federal constitutional prohibitions to one state applying its own laws
to a foreign corporation.
Full Faith And Credit Clause
Article IV, section 1 of the U.S. Constitution states
that "Full Faith and Credit shall be given in each State to the
public Acts . . . of every other State." In Nevada v. Hall,
440 U.S. 410 (1979), an employee of the University of Nevada
caused a car accident in California while on official business. Patricia
Hall and her son, John, were seriously injured, while the employee was
killed. The Halls sued in a California state court against the deceased's
estate, the University of Nevada, and the state of Nevada. Under Nevada
law, the state and the university's liability was limited to $25,000
per claimant. The trial court applied California law, and the jury awarded
the Halls $1,150,000 in damages. The United States Supreme Court affirmed.
Among other issues, the Court turned away a challenge
under the full faith and credit clause. While conceding that "in
certain limited situations, the courts of one State must apply the statutory
law of another State," id. at 421, "the Full Faith
and Credit Clause does not require a State to apply another State's
law in violation of its own legitimate public policy." Id. at
422. "With regard to persons injured on California roads, California
had, the Court maintained, a substantial 'interest' in applying the
policy, expressed in its laws, of full recovery for victims of other's
negligence; and to require California to sacrifice this interest in
any way would be obnoxious to California public policy."
Gary J Simson, "The Role of History In Constitutional Interpretation:
A Case Study," 70 Cornell L. Rev. 253, 256 (1985).
Thus if a state has a substantial interest in applying
its own public policy, the full faith and credit clause will not bar
the use of forum law instead of the law of another state. Protection
of the creditors of foreign corporations is a legitimate public policy
of the state of California. See Stephen R. Ginger, "Regulation
Of Quasi-Foreign Corporations In California: Reflections On Section
2115 After Wilson V. Louisiana-Pacific Resources, Inc.," 14
Sw. U. L. Rev. 665, 679 (1984); cf. Comment, "California's
Statutory Attempt To Regulate Foreign Corporations: Will It Survive
The Commerce Clause?", 16 San Diego L. Rev. 943, 955 (1979):
It is difficult to understand why California so diligently
strives to protect creditor interests. Creditors are not coerced to
transact business or to develop contacts with any corporate entity.
Debtor- creditor transactions are usually business dealings at arm's
length. Creditor protection should arise from self-initiated industry
regulation, legal counsel and contractual provisions.
Despite the merit of this position, the California courts
protect creditors. Thus, the full faith and credit clause does not offer
much protection for one hoping to be bound by the laws of the state
of incorporation, and not the laws of the state in which business is
Article I, section 8, cl. 3 of the U.S. Constitution
gives Congress the power "to regulate commerce . . . among the
several states." Where Congress has not chosen to regulate a subject,
such as corporation law which, to date, has been left to the states,
the so-called "dormant" commerce power comes into play. In Pike v. Bruce Church, Inc., 397 U.S. 137 (1970), the United States
Supreme Court laid out the test for the constitutionality of a state
statute which effects commerce:
Where the statute regulates evenhandedly to effectuate
a legitimate local public interest, and its effects on interstate
commerce are only incidental, it will be upheld unless the burden
imposed on such commerce is clearly excessive in relation to the putative
local benefits. If a legitimate local purpose is found, then the question
becomes one of degree. And the extent of the burden that will be tolerated
will of course depend on the nature of the local interest involved,
and on whether it could be promoted as well with a lesser impact on
Id. at 142 (citation omitted).
If a state attempts to apply its corporation laws to
a foreign corporation for the purpose, for example, of protecting local
creditors, this will be upheld unless the burden imposed on interstate
commerce is excessive in relation to the putative local benefit. This
is a rather amorphous test. Fortunately, there are other tests used
to determine a commerce clause violation.
In general, "[a] state law may neither discriminate
against out-of-state entities nor subject such entities to a burden
of inconsistent regulations." Patterson, supra, 56 Ohio
St. L.J. at 858. The first part of this test is demonstrated by CTS
Corp. v. Dynamics Corp. of America, 481 U.S. 69 (1987). Here, the
Supreme Court upheld an Indiana antitakeover provision:
Although the Indiana law imposed burdens on the acquisition
of Indiana corporations that did not apply to corporations in other
states, the Court did not believe that that was the relevant inquiry.
Instead, the key point was that the Indiana law applied equally to
in-state and out-of-state investors: 'Because nothing in the Indiana
act imposes a greater burden on out-of-state offerors than it does
on similarly situated Indiana offerors, we reject the contention that
the act discriminates against interstate commerce.'
Patterson, supra, 56 Ohio St. L.J. at 858-59
(quoting CTS Corp., 481 U.S. at 88). But in C. F. Edgar v.
MITE Corp., 457 U.S. 624 (1982), the Court struck down an Illinois
statute regulating tender offers as violative of the commerce clause,
since the statute failed the test laid out in Pike, supra.
The second leg, regarding subjecting entities to the
burden of inconsistent regulations, is fertile ground for finding commerce
clause violations. Two landmark cases illustrate this principle. The
first case is Southern Pacific Co. v. Arizona, 325 U.S.
761 (1945). Here, the Court struck down an Arizona statute which limited
the length of railroad trains:
The practical effect of the statute was to disrupt
interstate commerce, at considerable expense, by requiring railroad
operators to break down and reassemble long trains at the Arizona
state border. The Court noted that 'if one state may regulate train
lengths, so may all the others, and they need not prescribe the same
maximum limitation,' suggesting that the cumulative effect of potentially
conflicting statutes poses a serious threat to the free flow of commerce.
Ginger, supra, 14 Sw. U. L. Rev. at 677 (quoting
Southern Pacific, 325 U.S. at 775).
The second case is Bibbv. Navajo Freight
Lines, Inc., 359 U.S. 520 (1959). Here, Illinois had a statute which
required that trucks operating on its highways be equipped with contour
mudguards. This statute conflicted with the statutes of 45 other states,
which permitted other types of mudguards. Further, one state prohibited
contour mudguards as unsafe. Although the Court recognized the authority
of the state to regulate safety matters, it "held that the statute's
marginal efficacy as a safety measure could not justify its interference
with interstate commerce." Ginger, supra, 14 Sw. U. L, Rev.
Arguably, a state which attempted to apply its law to
foreign corporations could be subjecting them to inconsistent regulations,
which would burden interstate commerce. See Alexander, supra,
106 Harv. L. Rev. at 409-10; but see Patterson, supra,
56 Ohio St. L.J. at 860-62 . If so, the attempt would violate the
commerce clause and be unconstitutional.
Article I, section 10, cl.1 of the U.S. Constitution
prohibits the states from passing any "law impairing the obligation
of contracts." The test for determining a violation of the contract
clause was stated in Allied Structural Steel Co. v. Spannaus,
438 U.S. 234 (1978):
The first inquiry must be whether the state law has,
in fact, operated as a substantial impairment of a contractual relationship.
The severity of the impairment measures the height of the hurdle the
state legislation must clear. Minimal alteration of contractual obligations
may end the inquiry at its first stage. Severe impairment, on the
other hand, will push the inquiry to a careful examination of the
nature and purpose of the state legislation.
Id. at 244-45.
In this case, the Supreme Court struck down a Minnesota
law which subjected certain companies which had pension plans to a "pension
funding charge" if the company terminated its pension fund or closed
its Minnesota office. The company at issue was assessed a charge of
$185,000 when it closed its Minnesota office. The law thus had a severe
impact on the company's legitimate contractual obligations in calculating
its annual pension contributions, and violated the contract clause.
If a state's attempt to apply its law to a foreign corporation
had a severe impact on the corporate charter, it could be violative
of the contract clause. This obviously would be determined on a case-by-case
Due Process Clause
The 14th Amendment to the U.S. Constitution prohibits
the states from depriving "any person of life liberty, or property,
without due process-of law." When dealing with economic legislation,
the test comes from Duke Power Co. v. Carolina Env. Studv Group,
438 U.S. 59 (1978). Under this case, the legislation is clothed
with a presumption of constitutionality, and "the burden is on
one complaining of a due process violation to establish that the legislature
has acted in an arbitrary and irrational way." Id. at 83.
Arguably, a state is not acting irrationally by applying its law to
a foreign corporation if that corporation has significant ties to that
state. When there are such significant contacts, application of state
law to foreign corporations does not offend due process. See Allstate
Ins. Co. v. Hague, 449 U.S. 302, 308-09 (1981).
There exists a separate due process concern. The reach
of a state's courts is limited by the due process clause. To obtain
in personam jurisdiction over a defendant not present in the
forum, the defendant must have certain "minimum contacts" with the forum. See International Shoe Co. v. Washington, 326
U.S. 310 (1945). If the defendant "purposely availed" itself
of the privilege of conducting activities in the forum state, either
directly or indirectly, World-Wide Volkswagen Corp. v. Woodson, 444
U.S. 286, 297 (1980), or it "purposely directed" its activities
at residents of the forum, Burger King Corp. v. Rudzewicz, 471
U.S. 462, 472 (1985), then due process is met. At bottom, such a state
court judgment must not "offend 'traditional notions of fair play
and substantial justice."' International Shoe, 326 U.S.
at 316 (quoting Milliken v. Meyer, 311 U.S. 457, 463 (1944).
Thus, if a foreign corporation has significant contacts
in a state, it probably does not offend due process for the state at
issue to apply its law and render judgments against the foreign corporation.
Equal Protection Clause
The 14th Amendment to the U.S. Constitution prohibits
the states from "deny[ing] to any person within its jurisdiction
the equal protection of the laws." Classifications made in economic
regulatory laws are upheld if a rational basis supports them. See
Railway Express v. New York, 336 U.S. 106 (1949). In New Orleans
v. Dukes, 427 U.S. 297 (1976) the Supreme Court stated that:
States are accorded wide latitude in the regulation
of their local economies under their police powers, and rational distinctions
may be made with substantially less than mathematical exactitude.
Id. at 303. Thus, a state,
in attempting to apply its law to foreign corporations, does not have
to treat all foreign corporations exactly alike. Rather, it can treat
them differently so long as a rational basis exists for doing so.
As can be seen from the above discussion, the various
federal constitutional concerns pertaining to a state applying its law
to foreign corporations are substantial. The strongest weapon appears
to be the commerce clause, and it is on this ground that most commentators
have found fault with California's application of its law to foreign
corporations. (Discussed infra.)
CALIFORNIA CORPORATIONS CODE SECTION
As summarized by Stephen R. Ginger:
Section 2115 applies numerous portions of the California
Corporations Code governing internal affairs to foreign corporations
which do a substantial amount of business in California and which
are predominantly owned by Californians. A foreign corporation becomes
subject to California law when it satisfies a two-pronged test. First,
the average of its property, payroll, and sales factors as defined
in the California Revenue and Taxation Code must exceed fifty percent
during its latest full income year. Second, more than fifty percent
of its outstanding voting securities must be held of record by persons
having addresses in California.
Ginger, supra, 14 Sw. U. L. Rev. at 668-69 (footnotes
omitted). See also Alexander, supra, 106 Harv L. Rev,
As can be seen, Section 2115 applies to foreign corporations
which do more than half of their business in California and are more
than half owned by persons having addresses in California. Furthermore,
it does not apply to foreign corporations which trade their shares on
a national stock exchange or on NASDAQ. Id. at 434 n. 225.
In Wilson v. Louisiana-Pacific Resources, Inc.,
187 Cal. Rptr. 852, 138 Cal. App.3d 216 (1983), a California
appellate court upheld Section 2115 against a constitutional challenge.
The issue was whether California could impose its law requiring cumulative
voting upon a Utah corporation. The corporation's principal place of
business was California, it did more than half of its business there,
and more than half of its shares were owned by California residents.
The court addressed each of the five federal constitutional
issues discussed above, and turned them all away. It denied the full
faith and credit clause was violated since California has a strong public
protecting cumulative voting, and Utah has no interests
which are offended by cumulative voting. The court also stated that
California has never blindly followed the internal affairs doctrine.
Id. at 858, 138 Cal. App. 3d at 224.
As to the commerce clause, the court stated that Section
2115 applied evenhandedly, effectuated a legitimate public purpose,
and had only an incidental effect on interstate commerce. Furthermore,
there is little likelihood of foreign corporations being subjected to
inconsistent regulations, as a corporation can only do a majority of
its business in one state at a time, and can have a majority of its
shareholders in only one state at a time. While this is true, the court's
logic is faulty on this issue, as will be discussed infra.
As to the contract clause issue, the court found that
the forced alteration of the corporation's charter to provide for cumulative
voting was a minimum alteration which caused no hardship.
As to due process, no violation occurred since it is
not irrational for California to regulate a corporation which does a
majority of its business in California and which is owned by a majority
of Californians. Further, the significance of the corporation's contacts
with California allowed California law to be applied and its courts
to render in personam judgments.
Lastly, the court found no equal protection violation
on the issue of the exemption of foreign corporations that are publicly
traded. Since publicly traded companies are already highly regulated,
it is rational to exempt them from this particular law.
As stated the court's commerce clause analysis was flawed.
It is true that if all states had similar laws requiring "majority"
business and ownership before their law could be applied to foreign
corporations, there would be no inconsistent state regulations. But
what happens if states have different threshold requirements? As Stephen
R. Ginger points out, if a second state had a threshold of 40%, while
a third had a statute that subjected any corporation which does business
"locally" to local law, under the theory of Section 2115 all
three states could potentially apply their laws to the same foreign
corporation simultaneously. Ginger, supra, 14 Sw. U. L. Rev.
at 678. In such a situation, the corporation would be subjected to inconsistent
regulations in violation of the commerce clause. It is on this ground
that many commentators have questioned the validity of Section 2115.
See id. at 668, 671-83; Bernard S. Black, "Is Corporate
Law Trivial? A Political And Economic Analysis," 84 Nw. U. L. Rev.
542, 580 (1990); Deborah A. Demott, "Perspectives On Choice Of
Law For Corporate Internal Affairs;" 48 Law & Contemp. Probs.
161, 187-88 (1985); Comment, supra, 16 San Diego L. Rev at 955;
contra, Patterson, supra, 56 Ohio St L.J. at 858-62.
Perhaps more significantly, a California Superior Court
has held that Section 2115 violates the commerce clause. Louart Corp.
v. Arden-Mayfair, Inc., Civ. No. C-192-091 (Super. Ct. of
Los Angeles County, May 1, 1978)(unpublished opinion). See Ginger,
supra, 14 Sw. U. L. Rev. at 667, 667 n. 19, 681-82. Given all
of this, it is likely that if the Supreme Court of the United States
ever addressed the issue, Section 2115 would be declared unconstitutional.
Other California Corporations Code Sections Applied
To Foreign Corporations
Three other California decisions require discussion.
The first is Valtz v. Penta Invest. Corp., 188 Cal. Rptr. 922,
139 Cal. App.3d 803 (1983). Here, a California appellate court applied
California Corporations Code Section 1600 to a Delaware corporation.
Section 1600 grants to shareholders owning at least 5% of a corporation's
stock "an absolute right" to inspect copy the shareholder
list. This contradicts Delaware law.
The court, in an analysis similar to Wilson, supra,
denied that extending Section 1600 to a foreign corporation
violated the full faith and credit due process, commerce, and equal
protection clauses of the federal constitution, Importantly, the court
stated that Wilson stands for the proposition that "there
is no constitutional impediment to state regulation of a foreign corporation
with significant contacts with the state if the regulation does not
unduly burden interstate commerce." Valtz, 188 Cal. Rptr. at 926,
139 Cal. App.3d at 810 . Also, a state has the "unquestioned"
right "to regulate a corporation which chooses to reap the benefits
of doing business within the state." Id. If the court is
correct, the limitations found in Section 2115, pertaining to amount
of business and ownership interests, would not be a hindrance to a California
court applying California law to a foreign corporation.
The second case is NorthAmerican Asbestos
Corp. v. Superior Court, 225 Cal Rptr. 877, 180 Cal. App.3d 902
(1986). Here, the court applied California Corporations Code Section
2010 to an Illinois corporation. Section 2010 provides that a dissolved
corporation continues to exist, forever, for purposes of defending actions
against it for injuries arising out of its pre-dissolution activities.
Illinois law allows suits of this type only if they are filed within
two years of the date of the corporate dissolution.
In a balance of interests, the court held that Illinois
interests would not be greatly impaired by applying California law,
but that California's interests would be greatly impaired by applying
Illinois law. "California has a strong interest in permitting its
residents to seek compensation for injuries caused by hazardous substances
and in insuring that damages are appropriately shared by codefendants."
Id. at 880, 180 Cal App.3d at 907.
A dissenting judge argued that since Section 2010 was
not specifically incorporated by Section 2115, it can only apply to
domestic corporations. Id. at 883-84, 180 Cal. App.3d at 911-13
(Scott, J.dissenting). Since the majority ignored this point, it is
evident that on certain issues, the courts of California will ignore
Section 2115's limitations and apply California law to foreign corporations.
The last case is Havlicek v. Coast-To-Coast Analytical Services, Inc., 46 Cal. Rptr.2d 696, 39 Cal. App.4th 1844 (1995).
Here, the court applied California Corporations Code Section 1602 to
a Delaware corporation. Section 1602 grants the "absolute right" to every director of a corporation to inspect and copy all books, records,
and documents of the corporation. The section also specifically applies
to foreign corporations which have their principal executive office
in California. This contradicts Delaware law.
The court applied the balance of interests test used
in North American Asbestos, supra. . The court decided that California's
public policy of broad inspection rights outweighed Delaware's interest
in the matter, since Delaware's only connection to the corporation was
that it issued the certificate of incorporation.
The court further rejected the corporation's argument
that Section 1602 should not apply since the corporation did not meet
the threshold ownership requirement of Section 2115. It did so on the
ground that Section 1602 contained its own "long-arm" provision.
(On this analysis, the limitations of Section 2115 can be overridden
merely by having each corporation law contain its own "long-arm"
provision.) By this "logic", there is an increased likelihood
that a foreign corporation will be subjected to inconsistent regulations
since the "majority" commerce clause justification of Wilson,
supra, is obviated. Clearly, the court did not see this flaw in
its analysis. The court also rejected challenges based upon the commerce
clause and the full faith and credit clause.
As these cases indicate, the California appellate courts
are quite aggressive in applying their corporation law to foreign corporations.
As stated at the outset, a state which acts this way may well apply
the common law doctrine of "piercing the corporate veil" in
the same manner. Does this mean that a foreign corporation has no protection
against this eventuality? Not at all. A contractual choice-of-law provision
could save the day. Fortunately, the courts in California analyze this
issue in a far more logical manner than they do their corporate law,
CONTRACTUAL CHOICE -OF -LAW PROVISIONS
The policy behind recognizing the choice by the parties
to a contract, of the law which pertains to the contract, was well stated
half a century ago:
[I]f we regard it as one of the principal purposes
of the conflict of laws to protect the justified expectations of the
parties, then the intention of the parties rule is the one which fulfills
that purpose better than any rival rule, and quite particularly better
than the place of contracting rule. If the parties have agreed upon
the application of some particular law, then they have thought and
acted in accordance with it.
Max Rheinstein, Book Review, 15 U. Chi. L. Rev. 478,
Through the years, many courts have followed this principle.
For example, in A.S. Rampell, Inc. v. Hyster Co., 3 N.Y.2d 369,
144 N.E.2d 371, 165 N.Y.S.2d 475 (1957), the issue was whether an oral
modification of the written contract at issue was valid. Under New York
law, it would not be. However, under Oregon law, the oral modification
would be valid. Hyster Co. was an Oregon corporation doing business
in New York. Its written contract with Rampell declared that Oregon
law would control. Since Oregon had a reasonable relationship to the
choice-of-law of the parties, the New York court applied Oregon law
and upheld the oral modification.
This rule applies even if the choice-of-law provision
invalidates all or part of the contract. This is shown by Foreman
v. George Foreman Assocs., Ltd. 517 F.2d 354 (9th Cir. 1975). Here,
boxer George Foreman, a California resident, entered into a boxing management
contract with a Pennsylvania limited partnership. The contract stipulated
that California law would apply. Foreman brought suit to avoid enforcement
of the contract. The trial court found that since Foreman was
a resident of California and the contract was signed there, the parties'
choice-of-law was entitled to respect. Furthermore, since the contract
violated several regulations promulgated by the California State Athletic
Commission, the contract was invalid.
The 9th Circuit Court of Appeals affirmed this ruling,
on the ground that California has a strong public policy in protecting
boxers from mortgaging their futures. I f the choice-of-law provision
was not enforced, the public policy would be violated. Id. at
The rules revealed by these and other cases have found
their way into the Restatement (Second) of Conflict of Laws.
The pertinent section is 187(l):
(1)The law of the state chosen by the parties to govern
their contractual rights and duties will be applied if the particular
issue is one which the parties could have resolved by an explicit
provision in their agreement directed to that issue.
The "Restatement recognizes [that] there
should be no limitation on the power of the parties to incorporate foreign
law into their contract." Robert Allen Sedler, "The Contracts
Provisions Of The Restatement (Second): An Analysis And A Critique," 72 Colum. L. Rev. 279, 287 (1972).
Under Section 187(2) the express choice-of-law is still
recognized "even if the particular issue is one, which the parties
could not have resolved, by an explicit provision in their agreement
directed to that issue." There are, however, three exceptions to
Section 187(2). First, the chosen state has no substantial relationship
to the parties or the transaction and there is no other reasonable basis
for the parties' choice. Second, misrepresentation, duress, undue influence,
or mistake secured the consent of one of the parties to the inclusion
of the provision. Third, application of the state's law chosen would
be contrary to a fundamental policy of the state that would be able
to apply its own law but for the choice-of-law provision. See Sedler, supra, 72 Colum. L. Rev. at 290.
Besides the Restatement, the Uniform Commercial
Code (UCCA) also allows the patties to a commercial contract to choose
the applicable state law, so long as the transaction "bears a reasonable
relation" to the state chosen. See UCC Section 1-105. The UCC is
the law of all 50 states.
Thus, the general law of this country is that parties
to a contract may choose the law of a state to govern the contract,
and that courts will uphold the choice in order to further the expectations
of the parties. This rule is valid in California.
California Law Regarding Contractual Choice-Of-Law
In Bernkrant v. Fowler, 12 Cal. Rptr.
266, 360 P.2d 906, 55 Cal.2d 588 (1961), the California Supreme Court
upheld an oral contract involving the refinancing of obligations arising
from a sale of Nevada land to Nevada residents, although the seller
was domiciled in California. It applied Nevada law to uphold the contract,
as California law would have voided it. The court reasoned that the
reasonable expectation of the parties mandated this result.
In Smith, Valentino & Smith, Inc. v. Superior
Court, 131 Cal. Rptr. 374 551 P.2d 1206, 17 Cal.3d 491 (1976), the
California Supreme Court upheld the use of a forum selection clause
and a choice-of-law clause. The court stated that "choice-of-law
provisions are usually respected by California courts." Id.
at 376, 7 Cal.3d at 495. The court also stated that, although there
is a public policy favoring access to California courts by resident
We likewise conclude that the policy is satisfied
in those cases where, as here, a plaintiff has freely and voluntarily
negotiated away his right to a California forum. In so holding we
are in accord with the modern trend which favors enforceability of
such forum selection clauses.
Id. at 377, 17 Cal.3d at
495 (citing The Bremen v. Zapata Off-Shore Co., 407 U.S. 1 (1972).
The court added that:
No satisfying reason of public policy has been suggested
why enforcement should be denied a forum selection clause appearing
in a contract entered into freely and voluntarily by parties who have
negotiated at arm's length.
Smith, 131 Cal. Rptr. at
377, 7 Cal.3d at 495-96.
The most recent case is very important. In.Hambrecht & Quist Venture Partners v. American Medical International, Inc., 46 Cal. Rptr.2d 33, 38 Cal. App.4th 1532 (1995), the court upheld
a choice-of-law provision in a stock purchase agreement which stated
that the agreement "shall be governed by and construed in accordance
with the laws of the State of Delaware." Id. at 36, 38 Cal.
App.4th at 538. Initially, the court held that the word "laws"
in the provision includes case law. Therefore it is arguable that a
state's appellate court opinions on "piercing the corporate veil" be incorporated into a choice-of-law provision.
Second, the court explicitly stated that California
courts "shall" apply the principles found in Restatement
Section 187. Id. at 40, 38 Ca' App.4th at 1544. The court
held that a "substantial relationship" exists with the chosen
state if one party is merely incorporated there. It is irrelevent if
the corporation's principal place of business is in the forum state. Id. at 41, 38 Cal. App.4th at 1545-46. Further, the court found
no fundamental state policy against applying Delawares statute
of limitations to a claim brought in a California court. Thus, the contractual
provision was upheld.
This case makes clear that parties who freely bargain
for a choice-of-law provision can choose the "law" of the
state wherein either party is incorporated. If the particular law to
be applied does not offend the public policy of the state which would
apply its own law but for the choice-of-law provision, the choice will
Although California is quite aggressive in applying
its corporation law to foreign corporations, its analysis is arguably
vulnerable under the commerce clause, since corporations may be subjected
to inconsistent regulations. However, the problem may be avoided with
an openly bargained choice-of-law provision incorporating the law of
a state which has a reasonable relationship to the transaction.
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