Wednesday, September 19, 2007, 8:20 AM

COA Clarifies Law On Guaranty

Yesterday in Kimbrell v. Roberts the COA clarified the law regarding an alleged failure to comply with a contractual notice-of-claim provision in connection with a guaranty.

Defendant had executed a guaranty which guaranteed to Plaintiff, a shareholder, the corporation's payment of obligations under a stock and debenture purchase agreement. The guaranty had a notice-of-claim provision requiring Plaintiff to notify the defendants in writing, within 30 days of a default by the corporation, that Plaintiff would be pursuing a claim against Defendant under the guaranty. A jury found for Plaintiff. Defendant, the guarantor, contended that she was entitled to JNOV because Plaintiff failed to provide her with the contractually required notice of claim. Specifically, Defendant argued that Plaintiff's failure to comply with the provisions regarding notice caused the guaranty to expire.

There was no NC authority concerning the effect of the failure of a party to give contractually required notice of default under a guaranty. But relying on authority from outside NC, the COA held that a failure to give notice of default doesn't discharge the guarantor from liability unless the guarantor can prove prejudice, i.e., actual loss caused to the guarantor by the lack of timely notice (and, since the failure to give timely notice discharges the guarantor only to the extent the guarantor is prejudiced thereby, if the loss is only partial, the guarantor is discharged only pro tanto). The COA held that the burden of proof is on the guarantor to prove lack of notice and that lack of notice caused prejudice to the guarantor. It's in the nature of an affirmative defense.

In a separate, subsidiary holding, the COA held that a different clause of the guaranty (one dealing with expiration) was ambiguous. The ambiguity arose over the use of "or." The expiration clause said the guaranty "shall expire at such time as [Plaintiff] shall no longer be the owner of the [stock] or all or any part of the Debenture ...." Plaintiff had ceased to own the stock but still owned the debenture. Defendant, the guarantor, argued that the expiration clause was unambiguous: it triggered expiration of the guaranty if Plaintiff ceased to own either the stock or the debenture; since Plaintiff no longer owned the stock, the guaranty expired. Plaintiff countered that the expiration clause was triggered only if Plaintiff ceased to be the owner of both the stock and the debenture -- thus treating the disjunctive "or" as the conjunctive "and." The COA held that the provision was ambiguous, relying principally on the idea that if parties in litigation attach different meaning to text and their conflicting constructions are reasonable, the text is ambiguous.

I have difficulty seeing how an "or" could be construed as "and" in this context, but what's more intriguing is the COA's heavy reliance on this principle: "The fact that a dispute has arisen as to the parties' interpretation of the contract is some indication that the language of the contract is, at best, ambiguous." That principle, if applied too loosely, would be quite problematic (if not circular), for it would create an ambiguity in nearly every case where parties dispute the meaning of a contract term. It's critical, therefore, to connect the foregoing principle to the Court's ultimate holding: each side's proffered construction must nonetheless be reasonable. ("We hold that the two conflicting constructions proffered by the parties are both reasonable constructions of the expiration provision of the guaranty." (emphasis added)) After all, it can't plausibly be the case that one side can create an ambiguity simply by attaching an unreasonable meaning to the text and then using the fact of a conflict as evidence of ambiguity.

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