City of Hope Medical Center sued Genentech, a biotechnology company for breach of fiduciary duty, breach of contract, including breach of the implied covenant of good faith and fair dealing. The primary issue in this recent California Supreme Court decision (City of Hope National Medical Center vs. Genentech, Inc., 2008 Cal. LEXIS 4435) was whether a fiduciary relationship arose when, in return for royalties, City of Hope entrusted a secret scientific discovery to the company to patent and commercially exploit its discovery. After a jury trial, the City of Hope obtained a judgment against the company. The judgment awarded the city $300,164,030 in compensatory damages and $200 million in punitive damages. (Superior Court of Los Angeles County, No. BC215152, Edward Y. Kakita, Judge.) The Court of Appeal, Second Dist., Div. Two, B161549, affirmed the judgment.

The Supreme Court affirmed the portion of the judgment awarding the City of Hope $300,164,030 in damages for the company's breach of contract, but it reversed the award of punitive damages to the city. The court concluded that no fiduciary relationship arose from the company's contract with the City of Hope.

The Supreme Court set forth that the trial court erred in instructing the jury that a fiduciary relationship is necessarily created when a party, in return for royalties, entrusts a secret scientific idea to another to develop, patent, and commercially develop its discovery. Because no fiduciary relationship arose from the contract, the punitive damages award had to be set aside.

This complex case had 25,567 pages of reporter's transcript, 12,267 pages of clerk's transcript and generated 18 friend-of-the-court briefs. As stated, the primary issue was whether, as the jury found, a fiduciary relationship necessarily arose when City of Hope, in return for royalties, entrusted a secret scientific discovery to Genentech to develop, to patent, and to commercially exploit its discovery.

The Court reasoned that before a person can be charged with a fiduciary obligation, he must either knowingly undertake to act on behalf and for the benefit of another, or must enter into a relationship which imposes that undertaking as a matter of law." (Committee on Children's Television, Inc. v. General Foods Corp. (1983) 35 Cal.3d 197, 221 [197 Cal. Rptr. 783, 673 P.2d 660] (Children's Television).) In this case, the Court found no indication in the contract that Genentech entered into it with the view of acting primarily for the benefit of City of Hope. The Court found that the contract envisioned a mutually beneficial relationship between the parties. In addition, Article 11.01 contained an often found provision expressly stating that the parties' relationship was not a joint venture, partnership, or agency, which categories are illustrative of fiduciary relationships in which fiduciary duties are imposed by law.

At the request of City of Hope, the trial court instructed the jury that a "fiduciary relationship arises when a person entrusts a secret idea or device to another under an arrangement whereby the other party agrees to develop, patent and commercially exploit the idea in return for royalties." The source of this jury instruction is a Court of Appeal decision, Stevens v. Marco (1956) 147 Cal. App. 2d 357 [305 P.2d 669] (Stevens). There the plaintiff invented a device that enabled airplane pilots to quickly determine the proper functioning of indicator lights in airplane instrument panels. The plaintiff, who had no experience with patents and product marketing, entered into a contract with the defendant. The plaintiff agreed to assign to the defendant all of his rights in the invention in exchange for a 3 percent interest in any patent or 3 percent of all net sales, and the defendant agreed to develop the plaintiff's invention and to obtain patents in the defendant's name. The defendant developed the device, filed patent applications, and licensed manufacture of the device to others. After years of working together, the defendant falsely told the plaintiff that the plaintiff's invention for which patents were pending conflicted with an existing patent held by another, and he obtained a release from the plaintiff. Years later, when the plaintiff learned that the defendant was still selling plaintiff's invention, he sued the defendant for breach of contract and for fraud. The trial court granted the defendant's motion for nonsuit. The Court of Appeal reversed. (Id. at pp. 362-372, 385.)

After reviewing the nature of the transaction between the parties, the Court of Appeal in Stevens concluded there was substantial evidence of a fiduciary relationship between the parties based on the facts presented. (Stevens, supra, 147 Cal. App. 2d at p. 376.). Stevens also included language recognizing a new category of relationships in which a fiduciary obligation arises by operation of law: "Where an inventor entrusts his secret idea or device to another under an arrangement whereby the other party agrees to develop, patent and commercially exploit the idea in return for royalties to be paid the inventor, there arises a confidential or fiduciary relationship between the parties." (Id. at p. 373.)

City of Hope insisted the trial court's instruction based on Stevens, supra, 147 Cal. App. 2d at page 373, was correct because the relationship with Genentech manifested four characteristics that, according to City of Hope, are typical of a fiduciary relationship: (1) one party entrusts its affairs, interests or property to another; (2) there is a grant of broad discretion to another, generally because of a disparity in expertise or knowledge; (3) the two parties have an "asymmetrical access to information," meaning one party has little ability to monitor the other and must rely on the truth of the other party's representations; and (4) one party is vulnerable and dependent upon the other.

The Supreme Court disagreed with City of Hope, that whenever the relationship between the parties exhibits these four characteristics the relationship is necessarily fiduciary. (See Chodos, The Law of Fiduciary Duties (2000) § 1.19, p. 44 [futile to try to identify single set of factors that give rise to fiduciary relationship].) The Court stated that the four characteristics articulated by City of Hope are common in many contractual arrangements, yet do not necessarily give rise to a fiduciary relationship. For example, a person who takes a car to a garage for repairs has entrusted property to another (factor 1 of City of Hope's test). Because the garage operator has expertise in the field of automotive repair but the car owner does not, the car owner must grant the garage operator broad discretion to carry out the necessary work (factor 2) and must rely on the truth of the garage operator's representations about what repairs are needed and how they should be done (factor 3), leaving the car owner vulnerable and dependent on the garage operator (factor 4). Notwithstanding the presence of all these four factors, no court has ever held or suggested that in this situation the garage operator owes fiduciary duties to the car owner. A similar situation might be presented when a manufacturer entrusts its product to a retailer on consignment.

This case illustrates that, contrary to the above-discussed overbroad language of the Court of Appeal in Stevens, supra, 147 Cal. App. 2d 357, a fiduciary relationship is not necessarily created simply when one party, in exchange for royalty payments, entrusts a secret invention to another party to develop, patent, and market the eventual product. Here the contract was between two sophisticated parties of substantial bargaining power. Throughout the contractual negotiations, both parties were represented by counsel. The contract stated that, in return for the payment of royalties to City of Hope, Genentech was to be the sole owner of patents it would obtain for City of Hope's scientific discovery of synthetic DNA; that Genentech could assign and transfer its contractual rights, including patents; and that the parties' relationship was not one involving agency, joint venture, or partnership, which are categories in which fiduciary obligations are imposed by operation of law (Chodos, supra, §§ 1.6, 1.7, 1.8, 1.13, pp. 6-16, 23-29), but that City of Hope was to be an independent contractor.

The Court determined that City of Hope was vulnerable because it had to rely on Genentech's superior ability in obtaining patents and in marketing products based on the secret scientific discovery of City of Hope scientists but not to the extent that would necessarily warrant recognition of a fiduciary duty. It is not at all unusual for a party to enter into a contract for the very purpose of obtaining the superior knowledge or expertise of the other party. Standing alone, that circumstance would not necessarily create fiduciary obligations, which generally come into play when one party's vulnerability is so substantial as to give rise to equitable concerns underlying the protection afforded by the law governing fiduciaries. (See generally Persson v. Smart Inventions, Inc., supra, 125 Cal.App.4th at p. 1161; Richelle L. v. Roman Catholic Archbishop (2003) 106 Cal.App.4th 257, 273 [130 Cal. Rptr. 2d 601].).

The Court also found that every contract requires one party to repose an element of trust and confidence in the other to perform. (Wolf, supra, 107 Cal.App.4th at p. 31; see Nelson v. Abraham (1947) 29 Cal.2d 745, 750 [177 P.2d 931] [every contract calls for the highest degree of good faith and honest dealing between the parties].) And one party's "ability to exploit a disparity of bargaining power" between the parties does not necessarily create a fiduciary relationship. (Children's Television, supra, 35 Cal.3d at p. 221, fn. 21.). The secrecy of information provided by one party to another--here the scientific discovery by City of Hope--may be considered by the trier of fact in deciding whether a fiduciary relationship exists, but it does not compel the imposition of fiduciary duties by operation of law. (See Davies v. Krasna (1975) 14 Cal.3d 502, 511 [121 Cal. Rptr. 705, 535 P.2d 1161].

This case sets forth that factual circumstances will establish whether a fiduciary relationship is created when one party entrusts intellectual property to another for commercial development in exchange for the payment of compensation contingent on commercial success. Practitioners should take note of the Court’s emphasis in the standard contractual provision that disclaimed the existence of an agency, joint venture or partnership relationship between the parties. Even having said that, the Court stated in this case that factual circumstances could establish a fiduciary duty even with this contractual disclaimer.

Peter A. Kleinbrodt