October 26th Newsletter

In E-Fab, Inc. v. Accountants, Inc. Services 2007 Daily Journal D.A.R 11850, the Sixth Appellate District of the California Court of Appeal stated:

At issue in this appeal is the accrual date of the plaintiff’s causes of action against the defendant for negligence, negligent misrepresentation, and breach of contract. The plaintiff was the victim of embezzlement by an employee, whom the defendant had recruited and placed with the plaintiff. The trial court concluded that the plaintiff should have discovered the embezzlement sooner, and it therefore sustained the defendant’s demurrer, brought on statute of limitations grounds. The plaintiff brought this appeal from the ensuing judgment. Applying the delayed discovery rule to the plaintiff’s claims of independent wrongdoing by defendant, we conclude that the trial court erred in finding the plaintiff’s claims barred as a matter of law. We therefore reverse the judgment.

Plaintiff E-Fab, Inc. designs and manufactures precision components and tools. In 1996, plaintiff needed “a new bookkeeper to manage its financial affairs including accounts receivable and accounts payable.” Plaintiff alleged that it contacted defendant Accountants, Inc. Services “to obtain a temporary accountant who was qualified to work for plaintiff in such a position.” Defendant agreed to provide “temporary or permanent accountants to meet plaintiff’s accounting needs. . . .” Defendant represented that the candidates “had been personally interviewed,” that “their background, qualifications, accomplishments, employment references, academic credentials had been screened, confirmed and verified,” and that “the temporary accountants had been recruited by [defendant] and were employed, supervised and managed by [defendant].” Relying on those representations by defendant, “plaintiff hired defendant Vickie Hunt as a temporary accountant and then as a permanent accountant/bookkeeper.” As it turned out, Hunt had prior criminal convictions for theft and for welfare fraud, she had been incarcerated, and she had falsified her academic credentials, but defendant had failed to discover any of those problems in its screening process.

Plaintiff further alleged that from 1996 to 2003, while employed by plaintiff, Hunt embezzled approximately $1 million. Hunt successfully avoided detection “by making multiple small withdrawals, in irregular amounts, to different payees,” by destroying records, including parts of bank statements, and “by providing the management of [plaintiff] with erroneous financial information, both oral and written, as to the status of the bank accounts,” as well as assurances that the information provided was accurate. As a result, “plaintiff had no reason to believe” that the embezzlement “was occurring.”

According to plaintiff, Hunt’s embezzlement scheme came to light in November 2003, when a prospective “new partner” was investigating plaintiff’s finances. After obtaining copies of the missing documents from the bank the evidence of Vickie Hunt’s embezzlement was first uncovered.” Law enforcement was notified in December 2003. A police investigation and an audit of plaintiff’s finances disclosed “the nature and extent” of Hunt’s embezzlement.

Plaintiff filed its initial complaint in August 2005, naming Hunt, defendant, and others. Three causes of action were asserted against defendant: the second cause of action, for negligence; the third cause of action, for negligent misrepresentation; and the fourth cause of action, for breach of implied in fact contract. The trial court sustained the demurrer to the second, third, and fourth causes of action on statute of limitations grounds without leave to amend. In July 2006, the court entered a judgment of dismissal in favor of defendant. This appeal by plaintiff followed.

The question before the court was: “Considering the facts alleged on the face of the complaint, together with judicially noticed matters, are plaintiff’s claims against defendant time-barred as a matter of law?” In assessing whether plaintiff’s claims against defendant are time-barred, two basic questions drove the court: (a) What statutes of limitations govern the plaintiff’s claims? (b) When did the plaintiff’s causes of action accrue?

The court first found that no matter whether a two-year, three-year or four-year statute of limitations applied was irrelevant to the present matter. The court turned to the question of accrual. If the discovery rule did not apply, the two-, three- and four-year statute of limitations barred plaintiff’s claims. If the discovery rule did apply, then it was timely filed under a two-year statute of limitations. “The court’s analysis of the accrual of plaintiff’s claims against defendant proceeded in two steps. First, we discuss the separate accrual trigger for defendant’s independent wrong. Next, we assess plaintiff’s second amended complaint to determine whether it meets the requisite pleading standards to survive demurrer.”

As noted above, a plaintiff invoking “the discovery rule must specifically plead facts to show (1) the time and manner of discovery and (2) the inability to have made earlier discovery despite reasonable diligence. The burden is on the plaintiff to show diligence, and conclusory allegations will not withstand demurrer.” (McKelvey v. Boeing North American, Inc. (1999) 74 Cal.App.4th 151, 160; Fox v. Ethicon, Endo-Surgery, Inc. (2005) 35 Cal.4th 797, 815.) “We consider each of those two requirements in turn.”

The first prong requires plaintiffs to allege “facts showing the time and surrounding circumstances of the discovery of the cause of action upon which they rely.” (Bennett v. Hibernia Bank (1956) 47 Cal.2d 540, 563.) “Here, plaintiff alleges that it ‘did not become aware of, nor did it have any reason to suspect, that Vickie Hunt had prior convictions for theft and welfare fraud and that her academic credentials had not been verified until after her embezzlement became known in November 2003 when Plaintiff was first informed of Vickie Hunt’s criminal record by the police. It was at that time that Plaintiff first became aware that Vickie Hunt had not been “screened” by [defendant] and that [defendant’s] representations as to her background were false.’. . . [¶] [T]he pleading here specifically describes both the time and the circumstances of plaintiff’s discovery of its claim against defendant: ‘in November 2003 when Plaintiff was first informed of Vickie Hunt’s criminal record by the police.’ Plaintiff’s allegations show that it ‘actually learned something [it] did not know before.’ . . . Those allegations thus satisfy the first prong of the discovery rule’s pleading requirements.”

As to the second pleading requirement, inability to have made an earlier discovery, plaintiff alleged that it had “no reason to suspect that [defendant] did not screen plaintiff and failed to discover she had prior convictions for theft and welfare fraud, or that her academic credentials were misrepresented, or that she was embezzling money as Vickie Hunt appeared to be a competent and honest employee.” Plaintiff also alleged that it relied on defendant’s “expertise and experience in determining the qualifications and credentials of its accountants . . .” The court found this averment to meet the pleading requirements of the discovery rule because, as alleged, both plaintiff’s injury and its cause were imperceptible.

In sum, we conclude, the pleading requirements for the delayed discovery rule are met here. In this case, it does not “clearly and affirmatively appear on the face of the complaint that the action is barred by the statute of limitations” and “the demurrer should have been overruled on this ground.” (Geneva Towers Ltd. Partnership v. City and County of San Francisco [2003] 29 Cal.4th [769] at p. 782, fn. omitted.)

----Andrea Lynn Rice