PACIFIC INDEMNITY CO v. HARPER (1939)

Plaintiff surety company prosecutes this appeal from a judgment entered in favor of defendant W.A. Moses after the latter's demurrer to the complaint had been sustained without leave to amend, and also from an order denying plaintiff's motion to file an amended complaint. Leave to amend having been requested and an amended complaint proffered, there is squarely presented to us the question as to whether the original complaint is sufficient as against a general demurrer thereto.

From the complaint it appears that plaintiff, a surety company, at the request of defendant Moses and the latter's employer, West American Finance Company, issued its bond under the terms of which the surety company agreed to pay any financial loss sustained by defendant's employer, not exceeding ten thousand dollars, resulting by reason of any act of larceny, embezzlement, theft, or any other fraudulent or dishonest act, wrongful abstraction, or wilful misapplication of funds, committed by the employee, who is the defendant herein. Thereafter an action was commenced by the employer, West American Finance Company, against the surety company, plaintiff herein, alleging a damage of ten thousand dollars by reason of financial losses caused by the fraudulent acts and perfidy of defendant Moses. The complaint then sets forth that it became necessary for plaintiff to, and that it did, expend sums of money totaling $4,015.11 for investigations, court costs, attorney's fees, printing briefs, transcripts, etc., in the defense of said action, at the trial thereof in the superior court, and upon appeal in the District Court of Appeal. Lastly, the complaint alleges that final judgment was in favor of the surety company. West American Finance Company v. Pacific Indemnity Company, 17 Cal.App.2d 225, 61 P.2d 963.

It is conceded on this appeal that where a surety satisfies in whole or in part the obligation of his principal the former has a right of action against the latter for reimbursement of any expenses or expenditures made or suffered by reason of the contract of suretyship; but it is the contention of respondent that in the absence of a contract therefor, no such right exists either by reason of the common-law rule or statute (Civ.Code, sec. 2847), where, as here, the surety company was not required to satisfy any part of the principal's obligation.

The implied right of the surety to reimbursement from a principal when he has satisfied an obligation of the latter is founded on the equitable doctrine that where one pays or is compelled to pay a debt which in justice the other ought to have paid, or if he extinguishes it so that it is no longer a debt against the other, he is entitled to relief against the other who was in fact the principal debtor. In accord With the principle just enunciated, section 2847 of the Civil Code provides, so far as pertinent hereto, as follows: “If a surety satisfies the principal obligation, or any part thereof, whether with or without legal proceedings, the principal is bound to reimburse what he has disbursed, including necessary costs and expenses; *.” (Italics added.) By the same equitable doctrine, it would seem meet and proper that where a surety, and particularly when, as here, the surety was in the business of furnishing bonds and issuing its obligations for a price, that no recovery of expenses should be had against the principal when the litigation out of which the expenses accrued resulted in a determination that there was no default upon the part of the principal. The liability of the principal to the surety is predicated upon the damage suffered by the surety because of the default, neglect or wrongdoing of the principal. In other words, where the condition against which the surety had contracted does not arise and the surety sustains no damage and incurs no liability on account of the acts, default or neglect of the principal, then the latter should not be burdened with any expenses incurred by the surety in successfully defending against an unfounded claim asserted by a third party against the principal. It is the default of the principal and the resultant damage to the surety that gives rise to an implied contract on the part of the former to reimburse the latter for all losses sustained by reason of such default on the part of the principal.

The record before us, however, does not present a situation where the surety successfully defended against an unfounded claim urged against the principal by a third party. Reference by us to the hereinbefore mentioned decision of the District Court of Appeal in the litigation in connection with which the surety incurred the expenses recovery of which is sought in this action, reveals that the surety company was absolved of liability under its undertaking for the sole and single reason that respondent here, who was an officer of the corporation which employed him, was guilty, with other officers of the employer corporation, of fraud, knowledge of which was imputed to the corporation at the time the corporation obtained from appellant the fidelity bond insuring the corporate employer against loss from dishonest acts of its officers, clerks and other employees, including respondent herein. Evidencing the fraud practiced upon appellant surety company by the corporation and its officers in obtaining the surety bonds from the former, we quote the following from the opinion of the District Court of Appeal, supra [17 Cal.App.2d 225, 61 P.2d 968]:

“Manifestly, therefore, in the present case, the nondisclosure of the fraudulent practices which were being carried on by the majority members of the board of directors under their corporate powers at the time of the application for the issuance of these successive fidelity bonds, and which resulted in the enormous losses the corporation now seeks to compel the surety to make good, constituted concealment from the surety of the material facts upon which it was clearly entitled to be informed before it could intelligently decide whether under the existing conditions it would assume the risk to be imposed upon it by the fidelity bonds. In fact, it would appear from the allegations of the complaints that such concealment was not unintentional. Respondent in its brief puts it this way, that ‘the stage was set for the making of the very claims' now sued upon. And appellant in its brief chooses to sum up the situation as follows: ‘A small group of men functioning under a corporate screen had by the acquisition of voting stock control of successive corporations finally acquired control of the management of a financial institution of large assets, whereupon by various devices they proceeded to use these assets in private ventures for the personal enrichment of the directors and officers. If these private ventures turned out to be unprofitable they were immediately turned back to the West American Finance Company, thereby relieving the officers and directors of the obligations and thereby causing the West American Finance Company to shoulder the losses.’ And to the foregoing may be added that while this group of men were thus proceeding to fasten these losses on the corporation's shoulders they were at the same time, as the governing board of directors of the corporation, obtaining from respondent fidelity bonds insuring their own honesty for the very purpose of placing the corporation, and incidentally themselves as the owners of the majority of the vote controlling stock therein, in a position to recoup from the surety the losses which they were bringing about by their own wrongful acts.” (Italics added.)

An interesting sidelight on the participation of this respondent, who was a director of the employer corporation, in the activities referred to in the foregoing quotation is found in 17 Cal.App.2d at page 230, 61 P.2d 963 in the case just cited.

The odor surrounding respondent's activities as a director of the corporation which obtained the fidelity bond insuring respondent's honesty is barren of that cleanliness of behavior and conduct which must attach to him who invokes the protection of equity. Were we to construe section 2847 of the Civil Code, under the facts of this case, as a barrier to the recovery by appellant of its necessary expenses in “satisfying” the obligation under its bond, we should be giving to the statute a construction leading inevitably to mischief and injustice. Statutes should never be so construed when any other reasonable interpretation is possible. When we contemplate the object intended to be accomplished by this statute, we have no hesitancy in saying that its framers intended that in a case such as the one at bar, teeming as it is with fraud and replete with deception and intrigue, the surety should have the right to recover its costs and expenses in defending itself in good faith against liability under the bond. The surety “satisfied” the obligation by extinguishing it by reason of the fraud of both the principal and the indemnified employer. Assuming the complaint is vulnerable to a special demurrer, it was nevertheless sufficient as against a general demurrer.

The attempted appeal from the order denying the motion to file an amended complaint is dismissed.

For the foregoing reasons, the judgment is reversed and the cause remanded for further proceedings in accordance with the views herein expressed.

WHITE, Justice.

We concur: YORK, P.J.; DORAN, J.