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Contracts IIHammond Spring 2011

Implied Contract Terms 1. Implied-in-fact (based on parties probable intent-what they would have agreed to had they bargained about the term, as gauged by their conduct and the purpose of their agreement) 2. Implied-in-law (imposed regardless of intent and sometimes contrary to express agreement) Fairness or public policy Wood v. Lucy, Lady Duff-GordonParties agreed Wood would have exclusive right to market and promote Lucys designs. Lucy would get of profits. The contract was for at least one year, terminable on 90 days notice. Reasoning: Without an implied promise to use reasonable efforts, transaction would not have business efficacy as both parties must have intended. Illusory PromisesAn illusory promise is one in which such wide discretion is reserved that the apparent promisor actually makes no binding commitment at all. R. 2d K 77-Promisor has unfettered discretion not to perform his promise. No consideration. Ex: I will market your designs, but am not obligated to do so. Implied obligation of reasonable efforts may prevent a somewhat indefinite promise from being illusory, but only if the promisor does not expressly state that he has unfettered discretion. Reasonable efforts could not be implied because expressly negated by the contract language. UCC 2-306(2) Best Efforts Exclusive dealing contract requires best efforts by seller to supply or best efforts by buyer to promote sale. Courts differ on amount of exclusivity that must exist for 2-306(2) to apply

Best efforts same as reasonable efforts? Some courts say they are the same standard, requiring exercise of due diligence. Others say best is higher standard, approaching fiduciary duty, particularly in licensing contracts. Leibel v. Raynor Manufacturing Co.Leibel made oral agreement of indefinite duration (at will) to sell garage doors manufactured by Raynor; exclusive dealer-distributorship 50 mile radius. After 2 years, Raynor terminated relationship without advance notice and replaced Leibel with 3rd party. Terminable at WillA contract is terminable at will where its duration is indefinite or the contract is silent about duration. Either party may terminate at any time without cause, unless contract expressly states that cause is required Why no statute of frauds problem? Indefinite term can be performed within the space of one year. If at will employment, the termination can occur at any time, including within the year. Does terminable at will contract require reasonable notice of termination? Here, UCC applied to dealerdistributor type contract because predominant purpose was sale of garage doors. Reasoning Terminable at will relationship may damage terminated party where that party must keep large inventory or make a substantial investment that cannot be recouped if termination occurs without prior notice. This does not comport with reasonable expectations about the bargain. Sound similar to reliance concept? What is reasonable notice? Varies with circumstances, but time to sell off inventory and recoup investment are main factors considered, together with industry standards. 1

Contracts IIHammond Spring 2011

Who determines what is reasonable notice? This is an objective test, for the trier of fact. 2-309. Absence of Specific Time Provisions; Notice of Termination. (1) The time for shipment or delivery or any other action under a contract if not provided in this Article or agreed upon shall be a reasonable time. (2) Where the contract provides for successive performances but is indefinite in duration it is valid for a reasonable time but unless otherwise agreed may be terminated at any time by either party. (3) Termination of a contract by one party except on the happening of an agreed event requires that reasonable notification be received by the other party and an agreement dispensing with notification is invalid if its operation would be unconscionable. Agreement expressly dispensing with notification is invalid if unconscionable. Valid if not unconscionable to dispense with noticeless likely to be found unconscionable if the agreement is between two merchants who expressly agree to dispense with notice. Wood compared to Leibel: In Wood, implied term necessary to carry out the parties intent Implied in FACT In Leibel, implied term based on equity and fairness Implied in LAW UCC Gap Fillers 2-305 Open Price TermIf nothing is said as to price, or the price is left to the agreement of the parties and they do not agree, or the price is to be set by a market standard and it is not so set, then it is to be a reasonable price. Note: different from agreement to agree common law case (Walker v. Keith) in which the court declined to set a renewal rental rate when the parties were unable to agree. If the parties intend not to be bound if the price isnt fixed or agreed, then there is no contract (consistent with the agreement to agree analysis). If either the buyer or the seller has reserved the right to fix the price, it must be fixed in good faith. 2-308 Place of Deliveryunless otherwise agreed, sellers place of business (or if none, his residence) is the place for delivery of goods; (b) if the parties know that identified goods are in some other place, that is the place for delivery. Identified goodsearmarking certain goods to be associated with a particular contract. Goods may be identified at the time of making the contract or they may be identified by the seller later. 2-310 Time of Paymentunless otherwise agreed, the payment is due at the time and place at which the buyer is to receive the goods. If seller is required or authorized to ship the goods, the buyer may inspect the goods after their arrival before payment is due unless such inspection is inconsistent with the contract. 2-509 Risk of Lossparties can agree who has the risk of loss of the goods until the buyer receives the goods. Unless otherwise agreed, if the goods are not being shipped by a common carrier (like UPS, FedEx, by rail, or steamer, etc.), and seller is a merchant, the buyer has the risk of loss once he receives the goods. 2-103 Receives taking physical possession. If seller is not a merchant, the risk of loss passes to buyer on tender of delivery. Unless otherwise agreed, if the seller is shipping by common carrier, you determine risk of loss by determining whether the contract is a destination contract, or a shipping contract. Generally, the contract will specify which is true.

Contracts IIHammond Spring 2011

(1) A destination contract requires the seller to make sure the goods actually arrive at the place where they are to be delivered. (2) A shipment contract requires the seller to simply make sure the goods are properly delivered to the carrier. UCC has preference for shipment contract = Buyer responsible for any loss that occurs during shipment Though may recover from carrier. Determination of who should have bought insurance. Good Faith Both UCC and Restatement impose obligation of good faith on every contract. R2nd 205Every contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement. UCC 1-201(19) Good faith means honesty in fact in the conduct or transaction concerned. UCC 2-103(1)(b) Good faith in the case of a merchant means honesty in fact and the observance of reasonable commercial standards of fair dealing in the trade. Bad FaithAttempting to recapture forgone opportunities that should have been precluded by the contract Undermining the spirit of the contract Unfairly denying the other party the fruits of the contract that he or she reasonably expected to receive Seidenberg v. Summit Bank s, Seidenberg and Raymond, formed and owned companies that sold health insurance plans to employers. In 97 sold stock to , Summit Bank. s retained positions and were supposed to be in charge of any other employee benefits businesses to be acquired by Summit in the future. Contract required both parties work together. s claim that never had any intention of working with them/planned to hire their own brokers. s fired in 99. Covenant of good faith implied in all contracts and mandates that neither party will unfairly deny the other party the fruits of the contract they reasonably expect to receive. Law implies parties will perform in way that produces the business efficacy intended by the contract. Bargaining power is not the sole criterion to judge a claim of lack of good faith only one factor considered. Parol evidence rule does not keep out evidence related to good faith because good faith is an implied term found in ALL contracts and such evidence shows the parties intent on a term that is a part of the contract. Can the doctrine of good faith override a contracts express term (contradict?) No. Implied good faith applies to HOW the party carried out the express terms doesnt override the express terms, but adds a qualification that they be carried out fairly. Bad faith performance can occur even if there is no breach of an express term (i.e., termination for a bad motive) Abuse of discretion exercising discretionary term in bad faith Contrary to the intent or undermining the other partys benefits under the contract) Unreasonable frustration of purpose in exercise of discretion Open Price TermUnder UCC, open price terms are acceptable in contracts. Company setting price may do so for a variety of good faith reasons, i.e., increased demand and decreased supply; variance in index used to set prices. Company setting price may not do so for bad faith, i.e., attempt to drive the other party out of business. 3

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2-306(1) Requirements and Output Contracts--Actual output or requirements as may occur in good faith, . . . . A reduction in orders placed would be in good faith if due to reasons beyond buyers control. Conversely, reduction because buyer can buy the goods more cheaply somewhere else would not be good faith. Ceasing production because it is more costly than predicted would not be good faith; whereas ceasing production because to continue would result in bankruptcy would be good faith reason. Discretionary (Satisfaction) Conditions R.2d K 228Where a contract gives one party absolute discretion as to whether the contract terms were performed to that partys satisfaction: Commercial quality, operative fitness, or mechanical utility objective standard Would a reasonable person be satisfied? Aesthetics or fancy subjective standard Honesty in fact is required Morin Building Products Co. v. Baystone Construction, Inc.GM hired Baystone to build addition to its plant/install aluminum walls. Contract provided work was subject to the final approval of the Architect or Owners authorized agent and that his decision in all matters relating to artistic effect were final; Owner (GM) had final decision-making authority and what is usual or customary could not enter into any consideration or decision. Applied objective standard this was a factory, not a thing of beauty R2nd228When . . . it is practicable to determine whether a reasonable person in the position of the obligor would be satisfied, an interpretation is preferred under which the condition occurs if such a reasonable person in the position of the obligor would be satisfied. Greater tolerance for subjective test where condition is satisfaction of independent 3rd party (cmts to R2nd 228) Interpretation preferred to reduce risk of forfeiture (R.2d K 227) The problem with good faith is (1) figuring out what it means and (2) figuring out when to apply it. Subjective test is used under R. 2d K 228 for satisfaction conditions that are of an aesthetic nature, but limited by overarching implication of good faith that applies to all contracts. Note: If a good faith reason exists to reject due to lack of satisfaction, it is not bad faith that the buyer also happens to subjectively dislike the seller. Rules associated with good faith: (1) A party has a duty to avoid doing anything that will injure the ability of the other party to receive the contemplated benefits (2) Parties must avoid opportunistic behavior; that is, not use a contract term to get an unbargained-for advantage that would not have been agreed to in the initial bargaining (3) Parties must avoid conduct that does not conform to accepted notions of decency, fairness and reasonableness (4) Good faith does not override the express terms of the contract (5) Good faith should not protect parties from things they should have protected against when they negotiated and drafted the contract (6) A general obligation of good faith applies to all contracts. 2-103(1)(b)Good faith for a merchant is honesty in fact and the observance of reasonable commercial standards of fair dealing in the trade. Compare 1-201(19) only honesty in fact for non-merchant comments say at least that. 4

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Locke v. Warner Bros., IncLocke and Eastwood had a romantic relationship/lived together about 12 years. When it ended, Locke sued him. As part of the settlement for that suit, Eastwood convinced Warner Bros. to enter into a development deal with Locke. Locke would get $250K a year for 3 years for a non-exclusive first look deal. Pay or play deal if they chose any pictures if use another director have to pay her $750K. Eastwood would reimburse Warner Bros. (but Locke did not know of this deal). Locke says the deal was a sham only to assist Eastwood with her litigation against him. Where subjective test of satisfaction is applied for aesthetic matters, good faith and fair dealing still applies honest satisfaction standard Implied covenant of good faith is already part of the discretionary term implied by law. The agreements terms may give a party right to use discretion, but cannot deliberately refuse to cooperate. Donahue v. Federal Express Corp.Fedex employee blew the whistle on some improprieties within company. Supervisor retaliated by accusing him of making a racist, derogatory remarks about him; resulting in his termination. FedEx had a Guaranteed Fair Treatment Procedure for employee grievances, to which he appealed his termination; termination upheld. At-will employees have no cause of action for wrongful termination unless termination violates public policy. i.e., Fired for attending jury duty, Fired in violation of anti-discrimination statutes, Whistleblowing about violation of internal company policy is not enough (unless internal policy intended to comply with a law, i.e., safety rule imposed by OSHA) At-will Employment and Good Faith: At will means can terminate and quit for any reason do not need cause. At-will employment has no specified duration. Where there is a contract with a specified duration, the employee may only be terminated for cause. Additional consideration may defeat at-will presumption Public policy reason may be an exception to at-will doctrine. Good faith duty is applied in at-will situations Where compensation is deprived (such as on the brink of earning a sales commission or bonus) Manner of termination - a promised evaluation must be conducted in good faith. Good faith cannot transform an at-will employee to one that requires cause for termination.

Employee Handbook: Many courts hold that employers are not bound to at-will employees by promises made in their employee handbooks, finding them to be merely internal guidelines, not contracts. Some courts do hold the handbooks to be contractual, depending on the intent of parties. Unsigned handbook may have statute of frauds issues. Disclaimer of contractual effect may not be effective if handbook is unsigned. Consideration provided is employees acceptance and continuation of employment. Promissory Estoppel: Detrimental reliance may serve as basis for relief where court will not enforce the at will employment agreement. i.e., Employee has good job but is heavily recruited by employer for at will employment upon many promises of higher salary, bonuses, advancement possibilities, etc. Employer knows employee would 5

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have to quit his job, sell his house and move across the country, displacing his wifes job and his childrens schooling, etc. In reliance on promises, employee quits his job, spends money to move, and sells house for less for quick sale to start new job. He is fired without cause one week into the new employment. Implied Warranties Caveat EmptorLet the buyer beware. Historical view seller had no responsibility unless made an express guaranty to the buyer By 1906, American courts imposition of implied warranties was generally accepted. UCC 2-313 Express Warranties Written or oral express warranty given by a seller/manufacturer of a consumer product concerning quality/nature of goods UCC 2-314 Implied Warranty of Merchantability Good quality fit for ordinary purpose for which they are used UCC 2-315 Implied Warranty of Fitness for a Particular Purpose Buyer relies on sellers skill or judgment to select goods that are fit for Buyers purpose and seller has reason to know of reliance. Bayliner Marine Corp. v. CrowSales rep took Crow on ride on new model sport fishing boat manufactured by Bayliner. Crow wanted to fish offshore and asked about speed of boat, sales rep consulted prop matrixes in dealers manuallisted as having max speed of 30 mph when equipped with a certain size propeller(different from prop that this boat had). Manual also contained disclaimer as to weights, etc. Prime offshore fishing spots was sales pitch. Crow ordered boat and had extra stuff installed (adding extra 2000 lbs.). Resulted in max speed of 13 mph Express warranty prop matrixes Prop matrixes referred to boat with different sized props with less heavy equipment prime offshore fishing grounds is an opinion not an express warranty Express Warranties UCC 2-313 May be created by making a representation, giving a description or displaying a sample or model. Reliance required by some courts Distinction between a warranty and mere puffery Ex: best in class vs. fastest in class (verifiable) Implied Warranty of Merchantability2 part rule: 1. Whether a significant segment of buying public would object 2. Whether the goods are reasonably capable of performing their ordinary functions Firstdid not address standard in trade Secondis a factual question Crow was able to use the boat for offshore fishing. 850 hours logged* Implied Warranty of Merchantability UCC 2-314 Seller must be a merchant Goods must pass without objection in trade Must fit for ordinary purpose for which such goods are used Implied Warranty of Fitness for Particular Purpose Seller must have reason to know of particular purpose. Not limited to merchants Buyer relies on skill or judgment of seller to select goods for buyers particular purpose 6

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Seller has reason to know of reliance No requirement that goods be defective Buyers intended use must be other than ordinary useNot all courts apply this element. UCC 2-316 Disclaimers Disclaimer of express warranty is inoperative if inconsistent with terms creating express warranty. Parol evidence rule may apply Disclaimer of implied warranty of merchantability must mention the word merchantability. If written must be conspicuous. Disclaimer of implied warranty of fitness for particular purpose also must be in a conspicuous writing. As is disclaimer most courts say it also must be conspicuous UCC 2-312 Warranty of Title Implied warranty that: Good title is conveyed--goods free from encumbrances (liens) Warranty of title can be disclaimed or modified only by specific language or by circumstances giving buyer reason to know seller does not have clean title or is selling subject to encumbrances. Warranty of Quality Sale of New Home Common Law Majority of jurisdictions recognize implied warranty of quality in sale of new home. Habitability vs. Skillful Construction Two Components courts are not consistent here Focus on manner in which work is performed vs. end result Possible that even when work is performed well, end result may not be habitable (ex: potable water) Possible that part of house may not be skillfully constructed, but house itself still habitable (ex: patio) Caceci v. DiCanio Construction Corp.Caceci contracted with DiCAnio for sale of land on which DiCanio would build a house for $55K. Express guaranty of plumbing, heating, electrical, roof and basement walls for one year, but limited to replacement or repair of defects. Also provided constructed in accord with city and lenders requirements, but those terms would not survive closing. 4 years later, a dip in kitchen floor. Repairs made but did not correct problem; result of deteriorating trees under foundation slab. Caceci prevailed under claims of negligent construction & breach of implied warranty of workmanlike construction. There is implied term in contract that house will be constructed in skillful manner, free from material defects. Plaintiff does not have to show that builder was aware of the defect can be a LATENT defect. Applying warranty to builder is more efficient best person to detect and prevent the defect. Does doctrine of caveat emptor apply? Caveat emptor is not appropriate because of disparity of bargaining with respect to potential latent defects. When signing a preconstruction contract inspection is impossible, especially with respect to latent defects. Common sense dictates that the house should be expected to be habitable. Disclaimers possible, but must be bargained for Ex: lower price due to disclosed defect Most courts will not apply warranty to non-builder owner/seller Where seller is a lender, court may apply warranty where lender was essentially joint venturer in project. 7

Commercial buildings courts divided

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Other Non-UCC Warranties Real Estate Warranties of Title Real estate law has different kinds of deeds. A warranty deed warrants good title at the time of transfer of the deed. A quitclaim deed, by contrast, simply says Im transferring whatever I have, which may or may not be unencumbered title. To relate this back to 2-316, if the buyer gets a quitclaim deed, seller has essentially notified buyer that it makes no warranties about the title. Consumer Legislationnot a matter of contractual terms, rather, policy decisions implemented by legislatures. There is plenty of federal and state consumer legislation which provide consumers with some warranties, or limit the abilities of sellers (in various contexts) to disclaim or limit warranties. These laws may apply to non-goods (service, land) but also may apply to goods and give additional protection not included in the UCC. i.e., Magnuson-Moss Actdesigned to prevent consumers from being confused or misled about warranties of the manufacturer or seller. If there is a conflict with the UCC, MMA controls. Common Law Express Warranties Contracts for services may contain an affirmation or promise about those services. Those are obviously enforceable, and are subject to defendant making arguments about puffery. A trickier situation involves service contracts that also involve some goods, where express warranties are made about those goods. Those are still enforceable express warranties, but if the contract is predominately services, it isnt the UCC that governs them. Plaintiffs also have to prove breach, causation and damages. Defendant can argue puffery for these as well. Mixed Goods & Services ContractsIf a contract is mostly services and only fractionally involves goods: The common law rule would apply, because services predominate and the UCC could not govern
Caveat for LawyersIf client has opportunity to negotiate terms, lawyer must beware of risk that implied terms may not be found to apply. Lawyer must protect against that risk by including EXPRESS terms that protect clients expectations of the bargain. It is better to avoid a dispute by careful drafting than to litigate the existence of implied terms.

Warranties/Warranty Reduction under CISGArticle 35 home of all warranty provisions (creation & limitation) (1) Seller must deliver goods which are of the quantity, quality and description required by the contract and which are contained or packaged in the manner required by the contract. (2) Except where the parties have agreed otherwise, the goods do not conform with the contract unless they: (a) are fit for the purposes for which goods of the same description would ordinarily be used; (b) are fit for any particular purpose expressly or impliedly made known to the seller at the time of the conclusion of the contract, except where the circumstances show that the buyer did not rely, or that it was unreasonable for him to rely, on the seller's skill and judgment; (c) possess the qualities of goods which the seller has held out to the buyer as a sample or model; 8

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(d) are contained or packaged in the manner usual for such goods or, where there is no such manner, in a manner adequate to preserve and protect the goods. (3) The seller is not liable under subparagraphs (a) to (d) of the preceding paragraph for any lack of conformity of the goods if at the time of the conclusion of the contract the buyer knew or could not have been unaware of such lack of conformity. It deals with limitations on warranties solely through the freedom of contract mechanism. The clause preceding the implied warranties in subsection (2) says Except where the parties have agreed otherwise. The CISG provide less protection to the buyers with respect to limitations of warranties because CISG doesnt apply to sales of goods to consumers = businesses can fend for themselves. Seller is not liable for defects if at conclusion of the contract buyer knew or could not have been unaware of the lack of conformity. See subsection(3) Similar to UCC 2-316(3)(b). DefensesIncapacity Due to Minority or Mental Incompetence Person who is incapacitated is protected because could not have formed the requisite intent to form a contract due to lacking necessary judgment; mutual assent considered impaired. They can enforce the contract against the other party, but the other party cannot enforce it against them. Contract is voidable at the incompetents option, not void altogether. Minorityan infant (<18 years of age) can disaffirm a contract. Must disaffirm the whole contract, not just the parts it does not like. State law determines the age of majority; may vary state to state Dodson v ShraderDodson (16 at the time) bought used truck for $4,900 from the Shraders (they thought he was 18/19). Nine months later, the truck had problems, were not fixed, kept driving, and engine blew up. Later, while parked in front yard, car sustained additional damage by hit- and-run. Consequently, worth only $500. Dodson tried to reclaim the $4,900 from the Shraders asserting he was a minor when he made the purchase. Although a minor may disaffirm a contract, there is a limitation on his recovery. When there is: (1) No overreaching by the non-minor, (2) No undue influence, (3) When the contract is fair and reasonable, and (4) Where the minor has paid cash and used the article. Minor cannot recover full amount paid without giving seller reasonable compensation for use and depreciation of, and damage to, the article. Void vs. Voidable Voidthe contract is canceled as if it never existed in the first place. void ab initio contract was never formed Voidablea party has the option to treat it as void. Only the party with the contract defense can choose to void the contract. If he does not choose to void, the contract remains enforceable. Misrepresentation of Age Misrepresenting your age to induce a contract is fraudulent; tortious conduct by minor precludes him from using incapacity defense. The idea of minority incapacity is minor lacks requisite mental capacity to form a contract. If, however, the minor is clever enough to use a fake i.d. to convince the other party he has capacity, then he probably has the capacity to contract and does not need the protection of the minority incapacity doctrine. 9

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MinorityStrict View of Defense Many courts still apply a strict rule that the minor can disaffirm the contract without reimbursing seller for use, depreciation or damage, with the only exception being for necessaries (food, shelter, etc.) Necessaries Exception If necessaries have been provided, the non-incompetent party can usually recover in quasicontract, which would also offset any rescission of the amounts paid by the incompetent in advance. Whether something is a necessary is a matter of law. Food, water, shelter and clothing are a given. Recall Restatement of Restitution 116Recall uantum meruit, reimbursement for benefit received with expectation that payment would be made. Tortious Conduct Exception If the minor has engaged in tortious conduct, ability to disaffirm may be restricted. i.e., if misrepresents age or willfully destroys property cannot use minority status as a weapon or a shield. Ratification Exception A minor can also ratify a contract after reaching majority, and it can be by conduct. Silence, or non-action, can serve as ratification Some courts hold that if the minor does not act within a reasonable time to disaffirm, will be deemed to have affirmed the transaction. Statutory ExceptionsSome states have statutory exceptions. Mental Incapacity Hauer v. Union State Bank of WautomaBank gave loan to Hauer (suffered a brain injury year before, was judged incompetent and appointed a guardian.) Hauer wanted to help Elibes start business and offered to pledge her mutual fund ($80,000) as collateral for a loan, the proceeds of which she would invest in Eilbes business. When the loan matured and Eilbes didnt pay, the bank sought to liquidate Hauers mutual fund. Hauer filed suit to disaffirm on grounds she didnt have the mental capacity to enter into it. Jury found she lacked mental capacity and bank failed to act in good faith. The contract is voidable on grounds of mental incapacity so the incompetent has power to void contract entirely. There is a presumption of competency. Person alleging incompetency and seeking to void the act has the burden of proof to show mental incompetency. Test for mental incompetency (subjective Whether the person had sufficient mental ability to know what she was doing and the nature and consequences of the transaction. known as the cognitive test. Keep in mind that this is focusing on how the mental incompetency affected the transaction. i.e., A schizophrenic person might be considered mentally incompetent by a psychologist, but they might have the ability to understand the making of the contract. In that case, they are not mentally incompetent with respect to that contract. Mental incompetency measured at the time of making the contract. But theres a proof problem. Someone might be incompetent in the trial even though was not incompetent at the time of making the contract. R2nd 15Test applied to determine mental competency: 15(1)(a) is the cognitive test 15(1)(b) a person lacks capacity to contract if the person is unable to act in a reasonable manner in the transaction and the other party has reason to know of the condition. Volitional Test 10

Focus on the knowledge of the non-incompetent, unlike the cognitive test (although knowledge might come into play when deciding if there is a remedy). Note, if we dont find person is incompetent under the cognitive or volitional test, dont proceed to do an analysis of whether person has to return what they got from the contractbecause if one isnt incompetent, cant disaffirm. Court say analogy to minors is inappropriate. It says we protect minors because thats a policy choice made by the law, even if the minor is mentally competent. By contrast, the court says, the mental incapacity of a person varies with the person, so the court only allows disaffirmance of the contract if avoidance accords with equitable principles. In other words, we dont judge the mental state of a minorwe simply give them the power to disaffirm (with due regard for the exceptions). However, with mental incompetents, we do judge the degree of the infirmity before giving them the power to disaffirm. Since mental incompetents are not treated the same from a remedies point of view as minors, the court will try to put the parties back into their original positions, so long as the contract was made (1) in good faith, (2) for fair consideration and (3) without knowledge or reason to know of the incompetence. If those circumstances are present but they cannot be restored to their former positions (i.e., the incompetent cannot fully return the property to the nonincompetent), then the court will not allow disaffirmance because it cant fashion an equitable remedy. Important: Three part analysis is not a test for incompetencytest whether relief will be granted. The court first looks to the cognitive test to determine if there are grounds for disaffirmance. Then it must determine whether it will let the incompetent disaffirm if the court is unable to return the parties to their prior positions (i.e., if the incompetent cannot return property or proceeds). Normally the answer would be that an incompetent will not get relief from the contract unless it can return the parties to their prior positions.

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There is an exception that says if the non-incompetent party acted in bad faith (or theres failure of any of the three factors above), the incompetent can disaffirm anyway, even though cannot return the proceeds or property. Exception for Necessaries If necessaries have been provided, the non-incompetent party can usually recover in quasicontract, which would also offset any rescission of the amounts paid by the incompetent. Ratification A mental incompetent can also ratify a contract during a period of competency, and it can be by conduct. Drugs and Alcohol Courts are not particularly sympathetic to voluntary incapacity as a result of the use of drugs and alcohol, unless the other contracting party knows of the intoxication. The courts are obviously more sympathetic when the intoxication is involuntary. Alcoholism, while sometimes recognized as a disability for purposes of health insurance coverage, generally is not accepted as the cause of involuntary intoxication for purposes of the incapacity defense to a contract. Duress and Undue Influence 11

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Duress by physical compulsion prevents the enforcement of a contract; also improper threats which induce assent make a contract voidable by the victim; threats can also include economic/financial considerations. R2nd 174When Duress by Physical Compulsion Prevents Formation of a Contract If conduct that appears to be a manifestation of assent by a party who does not intend to engage in that conduct is physically compelled by duress, the conduct is not effective as a manifestation of assent. Classic Duress involves either physical harm or the threat of physical harm. Contracts made as a result of physical harm to the victim are void, resulting in no contract at all. Contracts made as a result of a threat of physical harm are voidable by the victim, but not void ab initio. R2nd 175When Duress by Threat Makes a Contract Voidable (1) If a party's manifestation of assent is induced by an improper threat by the other party that leaves the victim no reasonable alternative, the contract is voidable by the victim. (2) If a party's manifestation of assent is induced by one who is not a party to the transaction, the contract is voidable by the victim unless the other party to the transaction in good faith and without reason to know of the duress either gives value or relies materially on the transaction. Economic Duress Economic duress is covered by R2d K 175 Is not a threat of physical harm, but rather a threat to the victims economic interests. Most courts hold that the economic interest had to exist before the threat occurred. That the victim is in litigation and lost money on the contract at issue is not the economic interest here Rather, when someone making a contract they otherwise would not, because someone is exploiting an economic interest or problem that the victim already had before making the contract.

R2nd 176When a Threat Is Improper (1) A threat is improper if (a) what is threatened is a crime or tort, or the threat itself would be a crime or tort if it resulted in obtaining property, (b) what is threatened is a criminal prosecution, (c) what is threatened is the use of civil process and the threat is made in bad faith, or (d) the threat is a breach of the duty of good faith and fair dealing under a contract with the recipient. (2) A threat is improper if the resulting exchange is not on fair terms, and (a) the threatened act would harm the recipient and would not significantly benefit the party making the threat, (b) the effectiveness of the threat in inducing the manifestation of assent is significantly increased by prior unfair dealing by the party making the threat, or (c) what is threatened is otherwise a use of power for illegitimate ends.

R2nd 177Undue Influence (1) Undue influence is unfair persuasion of a party who is under the domination of the person exercising the persuasion or who by virtue of the relation between them is justified in assuming that that person will not act in a manner inconsistent with his welfare. (2) If a party's manifestation of assent is induced by undue influence by other party, the contract is voidable by the victim. (3) If a party's manifestation of assent is induced by one who is not a party to the transaction, the contract is 12

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voidable by the victim unless the other party to the transaction in good faith and without reason to know of the undue influence either gives value or relies materially on the transaction. Totem Marine Tug & Barge v. Alyeska Pipeline Srvc.Alyeska hired Totem to transport pipeline construction materials; supposed to involve 2,000 tons, but instead there was about 6,000 tons; resulted in decreased speed due to additional weight. Alyeska was uncooperative; second tug held up at the Panama Canal, which caused further delays. At an intermediate stop, Alyeskas off-loaded the barge and terminated \ contract. Totem submitted invoices for work done and Alyeska said we might pay tomorrow or it might be 8 months. Alyeska knew Totem was in financial peril and would go bankrupt without payment. Alyeska offered to settle for about 1/3 of the amount owed, under duress Totem accepted. Totem sued claiming it signed the settlement agreement under economic duress and sought to void the settlement agreement. The settlement agreement was procured under economic duress. Alyeska deliberately withheld payment because it knew Totem was on the verge of bankruptcy. Totem had no alternative but to accede to the settlement, because it needed money fast. Test court uses to establish economic duress requires: (1) a wrongful or improper threat, (2) absence of a reasonable alternative to submission to the threat, and (3) the threat induced the making of the contract. This is essentially 175(1) of the Restatement 2d, applied in an economic context. Absence of a reasonable alternative to submission to the threat = An available legal remedy might be a reasonable alternative. Procuring substitute goods or services might be a reasonable alternative. Finding another source of funds might be a reasonable alternative. If the alternative involves delay that would cause immediate & irreparable loss, its not a reasonable alternative. Threat inducing the making of the contract = Subjective test, based on the particular sensitivity of the victim, which makes it an easier element to meet. Contract made under economic duress is voidable, unlike physical duress, which makes the contract void. Selmer v. Blakeslee-MidwestGenerally, as in Totem, there must be (1) a wrongful or improper threat, (2) absence of a reasonable alternative to submission to the threat and (3) the threat induced the making of the contract. Judge Posner added that the role a party took in causing the financial distress is key. Under this view, which has wide support, if the party did not take a role in causing the financial distress of the victim, then economic duress will not exist. The mere stress of business conditions will not constitute duress where the defendant was not responsible for the conditions. A breach itself does not satisfy this fourth element. The defendant must have contributed to the underlying financial difficulties. By the time you get to litigation, the defendant obviously has created a financial issue, but that has no bearing on whether defendant caused a financial issue at the time the plaintiff is claiming his assent was invalid because of duress. Threat of Litigation If someone threatens to sue you on a civil matter it can be an improper threat, if the person making the threat has no reasonable basis for the threatened process or knows it is an abuse of the process. See R2nd 176(1)(c). May violate atty. ethical duty even if not a violation of 176(1)(c) Before you have a duress defense, you have to show more than an improper threatyou also must show there was no reasonable alternative. 13

Asserting a valid defense in court would be a reasonable alternative to succumbing to the threat of frivolous litigation Remedies Each party must make restitution to the other if the contract was found to have been made under duress. The parties have to return the full amount or value given by the other party, not just what is in their possession. Undue InfluenceUndue influence is high pressure that works on mental, moral or emotional weakness to an extent that it reaches the level of coercion and overcomes the will of the person. A confidential relationship is not required, but the person exerting the pressure must have a dominant position. Odorizzi v. Bloomfield School DistrictOdorizzi, a teacher, was arrested for homosexual activity. The school district procured his resignation by coming to his house shortly after the arrest claiming to have his best interests at heart. They asked him to resign, there was no time to consult with an attorney, and otherwise they would be forced to publicize it if he did not resign, which would affect his ability to get jobs in the future. He signed the resignation, having not slept for 40 hours. Later, the charges of criminal activity were dropped. Odorizzi sought to rescind his resignation on grounds of undue influence. Test for undue influence: (1) lessened capacity of the person to make a free contract, (2) excessive pressure by a dominant person over a subservient person, and (3) the pressure induces the person to take an action he would not otherwise do. The Court lists 7 factors to judge excessive pressure: (1) discussion of the transaction at an unusual time, (2) consummation of the transaction in an unusual place, (3) insistent demand that it happen quickly, (4) extreme emphasis on untoward consequences of delay, (5) use of multiple persuaders, (6) absence of third party advisors and (7) statements that there is no time to consult third party advisors. What distinguishes undue influence from duress? Duress involves a threat. Undue influence involves excessive pressure or persuasion. If undue influence is found, the contract is voidable by the victim. Misrepresentation Contract vs. Tort Misrepresentation and fraud can be the subject of claims and defenses under the law of contract and of tort. Contract Rescission A claim for rescission may either be a defense to a contract or an action brought by the injured party. Normally, upon rescission, the injured party must return any money or property that was received (restitution). If the injured party is unable to return the property, rescission may not be permitted. If the injured party does not want to return the property he/she has received, then he/she ought to sue in tort for damages Tort Damages A tort claim may be available even if a contract claim is not. Remedy is often benefit of the bargain (a contract concept ported over to the tort action). ? Why the difference in remedies? 14

Contracts IIHammond Spring 2011

Contracts IIHammond Spring 2011

If you sue for fraud in contract, you are alleging that your assent was not valid due to the fraud. Therefore, we take away the consequences of the contract and make sure no one is unjustly enriched. There also may be some reliance damages for other opportunities lost. If your goal is to be compensated for the wrong of the fraud, you should be looking to tort law. Syester v. BantaFraudulent misrepresentation action by a 68 yr old woman who contracted with dance studio. Banta sold her 3 lifetime memberships and promised she would be a professional dancer. Jury returned a verdict of $14,300 in actual damages and $40,000 in punitive damages. Court found sufficient evidence that there was fraudulent overreaching, which made the initial litigation releases unenforceable. Essentially, the releases were rescinded assent to the contract was procured by fraud. Fraudulent Misrepresentation Elements of a tort claim for fraudulent misrepresentation: False statements made by defendants; The false statements were as to material matters; Defendants knew the representations were false; Defendants made the representations with intent to deceive; Plaintiff believed and justifiably relied on the false representations; and, Plaintiff was damaged. The person claiming the fraud has the burden of proof that assent to a contract was induced by fraud Proof must be byClear and convincing evidencehigher standard than the preponderance of the evidence standard that is more commonly applied. Same needed for fraud in tort Plaintiff claimed contract fraud and not just fraud under tort because she signed releases saying she wouldnt sue in tort. If she wants to sue in tort, she needs to get rid of these releases (needs to rescind release contracts so she can sue on the original fraudulent misrepresentations). Breach of contract does not give rise to punative damages, must sue in tort to eliminate the releasesfraud in the inducement and then fraudulent misrepresentation Normally punitive damages are not part of a contract action, attributable to tort recovery. Plaintiff cannot prove a tort case for fraud by showing negligence because needs scienter... Defendants must have known the statements were false and made them with intent to deceive. Person allegedly defrauded cannot claim to have relied on a statement if knew it wasnt true. Generally, the plaintiff is not required to investigate every statement to determine its veracity. The rule courts use to measure damages is benefit of the bargain. The justification for punitive damages is evidence of greed and avariciousness on the part of defendant sufficient to shock the jurys and the courts sense of justice. Does the duty to read preclude a claim of fraud in the inducement? Fraud trumps duty to read, many courts take a strict view of duty to read and require high level of proof before setting aside the duty to read. In civil world, Fraud is like Murder in the criminal world. R2nd 164 When a Misrepresentation Makes a Contract Voidable (1) If a party's manifestation of assent is induced by either a fraudulent or a material misrepresentation by the other party upon which the recipient is justified in relying, the contract is voidable by the recipient. A contract is voidable if a partys manifestation of assent is induced by either a fraudulent or material misrepresentation, and the injured party is justified in relying on it. 15

Use of the word either indicates there are two types of misrepresentation: a fraudulent misrepresentation and a material misrepresentation. A misrepresentation is fraudulent if the maker intends his assertion to induce a party to manifest his assent and the maker: (a) Knows or believes that the assertion is not in accord with the facts, or (b) Does not have the confidence that he states or implies in the truth of the assertion, or (c) Knows that he does not have the basis that he states or implies for the assertion. A misrepresentation is material if it would be likely to induce a reasonable person to manifest his assent, or if the maker knows that it would be likely to induce the recipient to do so. (2) If a party's manifestation of assent is induced by either a fraudulent or a material misrepresentation by one who is not a party to the transaction upon which the recipient is justified in relying, the contract is voidable by the recipient, unless the other party to the transaction in good faith and without reason to know of the misrepresentation either gives value or relies materially on the transaction. ? When a Misrepresentation is Fraudulent First, an untrue statement of fact or opinion Second, there must be intent for the misrepresentation to induce a party to enter the contract (fraud in the inducement) and one of the following: The person making the misrepresentation knows or believes the assertion is not in accord with the facts; or Does not have the confidence that he states or implies in the truth of the assertion; or Knows that he does not have the basis that he states or implies. Opinions ? Can an opinion be the basis for a misrepresentation? Yes. 162 says it only has to be an assertionan assertion of fact or opinion. Note, opinions obviously should have a factual underpinning. If state opinion, thereby express belief about certain quality; but underpinning of that statement should be based on known facts. 168 Reliance on Assertions of Opinion (1) An assertion is one of opinion if it expresses only a belief, without certainty, as to the existence of a fact or expresses only a judgment as to quality, value, authenticity, or similar matters. (2) If it is reasonable to do so, the recipient of an assertion of a person's opinion as to facts not disclosed and not otherwise known to the recipient may properly interpret it as an assertion (a) that the facts known to that person are not incompatible with his opinion, or (b) that he knows facts sufficient to justify him in forming it. 168(2) makes clear that when a maker gives his opinion, he is also stating The facts I know are not incompatible with the opinion and I know enough facts to form this opinion. Those statements themselves are not opinions and are actionable as misrepresentations if not true. i.e., If know a fact, or never looked into it, but make an opinion anywaythen essentially have misrepresented some facts by implication. That can be the basis of a misrepresentation claim, separate from opinion. ? BUTif an opinion is given, and the facts underlying the opinion are compatible with the statement, based on sufficient facts to form the opinion, but it just turns out to be wrongthis is a pure opinion Just turned out to be wrong in hindsight, but opinion was honest, and based on good facts. Opinion R2nd 169 If the assertion is pure opinion, the recipient is not justified in relying on it, unless: 16

Contracts IIHammond Spring 2011

Contracts IIHammond Spring 2011

(a) Has a confidential relationship or a relationship of trust with the maker that makes it reasonable for the recipient to rely on the statement; or (b) Reasonably believes that the person making the statement has special skill, judgment or objectivity about the subject matter; or (c) Is for some other special reason particularly susceptible to a misrepresentation of the type involved. Material Misrepresentation Contract Action Since 164(1) of the Restatement (2d) provides that a contract is voidable if a partys manifestation of asset is induced by either a fraudulent or material misrepresentation if the injured party is justified in relying on it, it encompasses innocent misrepresentations as well as intentional ones, if the innocent misrepresentations were material to the contract. A misrepresentation is material if it would be likely to induce a reasonable person to manifest her assent, or if the maker knows that it would be likely to induce the recipient to do so. 162(2) Sometimes it is also stated as a matter to which a reasonable person would attach importance in determining his choice of action in the transaction in question. Opinionsthe same rule applies because it goes to the justifiable reliance element required by 164(1). Non-Disclosure Hill v. JonesHills bought home from Jones (who paid for termite inspection reportapparently mentioned no termite problem; neither party ever saw it.) Hills asked about termites and Jones said no (water damage.) Hill was familiar with termite damage but did not inquire further. After moving in discovered significant termite damage, repair was $5k. Jones knew about a history of termite problems because had them treated. Jones never mentioned this information to the buyers or the termite inspector. There is an affirmative duty to disclose material information, failure to do so amounts to misrepresentation Cannot disclaim fraud in a contract; merger clause is not worthy defense. The Jones made an affirmative misrepresentation by answering no when questioned about the termite damage. There you are in either fraudulent misrepresentation territory (if you can prove intent) or material misrepresentation territory (if you cant prove intent). It meets the second test of 161 disclosure would correct a mistake of the Hills as to a basic assumption, since it would seem to be bad faith by the Jones and not in accordance with standards of fair dealing. ? What is a merger/integration clause? A statement in the contract that Buyer has investigated for himself and cannot rely on any promise or representation that expressed in the contract itself. In other words, separate conversations, etc., would be expunged by the integration clause because the written agreement was designed to be all the parties had to say on the issue. Court ignored the merger clause did not find the contract to be integrated on this issue. Fraud is a recognized exception to the parol evidence rule in many jurisdictions. Fraud exception to parol evidence ruleR2d k 214(d) R. 2d K 214(d)The parol evidence rule will not bar evidence that the agreement is invalid due to fraud, duress, undue influence, incapacity, mistake or illegality. Fraud in the execution i.e., you think youre signing a receipt, but you are really signing an agreement to buy more. Fraud in the inducement i.e., a pet store owner is told that the guinea pigs will produce many offspring, but the seller knows they are actually all males. SherrodFraud evidence is not admissible if it directly contradicts the terms of the agreement otherwise thered be no certainty as to when written contracts can be relied upon if parol regarding matters discussed before 17

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agreement is signed can directly contradict written agreement. Court is influenced by fact that a party is given opportunity to do due diligence to determine relevant conditions before entering into contract. Dissent StatedRewards fraudulent parties who are in a superior bargaining power Commercial parties get less sympathy when they expressly agreed that their own investigation control, rather than representations of the other contract party. New York View of Merger Clauses and Fraud Depends on whether the integration clause is specific to the kind of representation at hand. If it is, a merger clause can disclaim the fraud. If you are a contract party and you see such a specific disclaimer, thats your clue to investigate why that disclaimer is there. Innocent Material Misrepresentations Integration clauses are more frequently upheld when the misrepresentations are innocent rather than fraudulent. A disadvantage to a claim of material misrepresentation, as opposed to fraudulent misrepresentation, is that a merger clause can wipe out your cause of action. Fraud may be an exception to the Parole Evidence Rule, but material misrepresentation is not fraud due to lack of scienter. R2d k 161 Duty to Disclose: A knowledgeable party must disclose when a) Disclosure is necessary to prevent a previous assertion from being a misrepresentationIn other words, to clear up past misrepresentationhalf-truth doctrine. b) Disclosure would correct a mistake of the innocent party as to a basic assumption on which that party is making the contract, if non-disclosure amounts to bad faith and is not in accordance with standards of fair dealing. c) Disclosure would correct a mistake of the other party as to the contents or effect of a writing evidencing an agreement; or d) The other person is entitled to know the fact because of a relationship of trust and confidence.

R2d K 162When a Misrepresentation Is Fraudulent or Material (1) A misrepresentation is fraudulent if the maker intends his assertion to induce a party to manifest his assent and (a) maker knows or believes that the assertion is not in accord with the facts, or (b) maker does not have the confidence that he states or implies in the truth of the assertion, or (c) maker knows that he does not have the basis that he states or implies for the assertion. (2) A misrepresentation is material if it would be likely to induce a reasonable person to manifest his assent, or if the maker knows that it would be likely to induce the recipient to do so. Johnson v. Davisdisclosure sale of home Where the seller knows of facts materially affecting the value or desirability of the property which are known or accessible only to them and also knows that such facts are not known to, or within the reach of the diligent attention and observation of the buyer, the seller is under a duty to disclose. must affirmatively disclose. Abrogates caveat emptor principle. Good faith and standards of fair dealing are measured by factors such as: intelligence of the parties, their relationship, the manner in which the information is acquired, the nature of the facts undisclosed, whether the 18

Contracts IIHammond Spring 2011

silent party is the seller or buyer, the nature of the contract itself, the importance of the fact and conduct preventing discovery active concealment. Good faith in this context isnt exactly like the standards of the implied covenant of good faith. If you are plaintiff and you prove there was a duty to disclose the case is NOT over. Plaintiff must show that non-disclosure of the facts was material in order invoke the duty to speak doctrine. R. 2d K 163 When a Misrepresentation Prevents Formation of a Contract If a misrepresentation as to the character or essential terms of a proposed contract induces conduct that appears to be a manifestation of assent by one who neither knows nor has reasonable opportunity to know of the character or essential terms of the proposed contract, his conduct is not effective as a manifestation of assent. R. 2d K 163 Fraud in the Factum Where there is fraud in the factum, the contract is void. Fraud in the factum is inducing someone to sign a piece of paper believing it is one thing, when actually it is binding them to something else. Essentially, it prevents formation of the contract in the first place. i.e., asking an athlete to sign a piece of paper to get an autograph but the paper is really the signature page of a contract binding him to endorse a soft drink. In Kartes, imply signin lease papers when is a personal guarantee. Fraud in the factum (163) makes a contract void. Fraud in the inducement (164) makes a contract voidable. Park 100 Investors v. KartesKartes was looking to relocate their business, a rep for Park 100 worked everything out on a lease agreement, and Kartes lawyers approved it. The evening before move-in, Kartes was approached with some lease papers to sign. Kartes was hurried to get to daughters wedding rehearsal, but told it couldnt wait. Kartes signed a Lease Agreement which later turned out to be a personal guaranty. Court agreed with the duty to read principle, but held that a guaranty cannot be enforced when the guarantor has been induced to enter into the contract by fraudulent misrepresentations or concealment by the other party. Documents were represented as lease papers and the document was disguised as Lease Agreementso misrepresentation was present. Rest. 2d k 164 When a Misrepresentation Makes a Contract Voidable (1) If a party's manifestation of assent is induced by either a fraudulent or a material misrepresentation by the other party upon which the recipient is justified in relying, the contract is voidable by the recipient. (2) If a party's manifestation of assent is induced by either a fraudulent or a material misrepresentation by one who is not a party to the transaction upon which the recipient is justified in relying, the contract is voidable by the recipient, unless the other party to the transaction in good faith and without reason to know of the misrepresentation either gives value or relies materially on the transaction. Unconscionability The unconscionability doctrine flows from 2-302 of the UCC. Although that only applies to contracts for the sale of goods, the doctrine has been adopted by the courts for non-goods transactions and is therefore used in common law too. UCC 2-302 Unconscionability Unconscionable Contract or Clause. 19

Contracts IIHammond Spring 2011

(1) If the court as a matter of law finds the contract or any clause of the contract to have been unconscionable at the time it was made the court may refuse to enforce the contract, or it may enforce the remainder of the contract without the unconscionable clause, or it may so limit the application of any unconscionable clause as to avoid any unconscionable result. (2) When it is claimed or appears to the court that the contract or any clause thereof may be unconscionable the parties shall be afforded a reasonable opportunity to present evidence as to its commercial setting, purpose and effect to aid the court in making the determination. UCC 2-302 Official CommentsPurposes Intended to make it possible for the courts to police explicitly against the contracts they found to be unconscionable. In the past such policing has been accomplished by adverse construction of language, by manipulation of the rules of offer and acceptance or by determinations that the clause is contrary to public policy or to the dominant purpose of the contract. The basic test is whether, in the light of the general commercial background and the commercial needs of the particular trade or case, the clauses involved are so one-sided as to be unconscionable under the circumstances existing at the time of the making of the contract. Subsection (2) makes it clear that it is proper for the court to hear evidence upon these questions. The principle is one of the prevention of oppression and unfair surprise and not of disturbance of allocation of risks because of superior bargaining power. The courts do not apply this defense liberallyin fact it is rarely applied. A difference in bargaining power alone, without other oppression, will not make the contract voidable under this defense. Section 2-302 is designed not to be the primary tool for avoiding contract enforcement, but rather to be a safety net to catch situations that fall outside the other mechanisms. What is unconscionability? A contract that shocks the conscience because of its terms and the way it was procured. Oversimplification Blacks Law Dictionary Unconscionability is defined as a doctrine under which courts may deny enforcement of unfair or oppressive contracts because of procedural abuses arising out of the contract formation, or because of substantive abuses relating to [the] terms of the contract, [including those terms that] violate reasonable expectations of [the] parties . . . (Black 1990). Substantive unconscionability occurs when the contract reallocates risk in an objectively unreasonable way. Procedural unconscionability asks whether there was oppression or surprise in the formation of the contract. ? How is unconscionability measured? Most courts require both procedural and substantive unconscionability, though this is not always required and is not always useful because it is hard to differentiate between the two. These courts weigh them, so that great procedural unconscionability requires a smaller amount of substantive unconscionability, and vice versa. If you only require procedural unconscionability, you might end up voiding contracts that are substantively fair. On the other hand, if you only require substantive unconscionability, you have really reduced the test to what is fair? and that undermines the certainty of contract law. People make contracts all the time that arent good deals for them. Very few deals are perfectly balanced. We cant go around avoiding every contract in which someone feels slighted.

Procedural Unconscionability No meaningful opportunity to negotiate the contract terms (must usually be coupled with unconscionable terms). 20

Preprinted forms that cannot be negotiated can indicate procedural unconscionability. No meaningful opportunity to read contract, such as being rushed to sign release without time to review. ? When do we evaluate unconscionability? As of the time the contract is made. Subsequent developments should not be a factor (though juries may inadvertently take them into account). ? Who determines unconscionability, the judge or the trier of fact? The judge. It is a matter of law (see 2-302 as an example). Williams v. Walker-Thomas FurnitureMultiple plaintiffs who had contracts with a furniture company sued to prevent repossession of goods they purchased. Each plaintiff purchased multiple goods and gave a security interest in all of them to secure each debt with respect to a particular purchase. A provision in the contract provided that W-T Furniture would apply debt repayments pro rata to all the loans, so that there would always be an outstanding balance for each item purchasedand therefore a security interest on all the items purchased. When plaintiffs defaulted on the loans, W-T Furniture sought to repossess all the goods purchased from the store, not just the goods purchased with the loan money. To apply the doctrine of unconscionability: there must be both procedural unconscionability and substantive unconscionability for the defendants unconscionability defense to work. Procedural Unconscionability Factors ? Did the party have meaningful opportunity to decide whether to assent to the terms? ? Were the parties sophisticated or uneducated? Gross inequality of bargaining power Unfair surprise (e.g., fine print) or deception (shady sales practices), taking into account the partys education and sophistication Substantive Unconscionability ? Were the terms oppressive extreme deviation from the general commercial practices of the particular trade at the time and place? Keeping a security interest on all the items by not allowing partial payments to pay anything off might seem unconscionable. But most states do not prohibit this type of conduct. It is actually quite common and insures the vendor will remain fully secured for the debt. ? Can an unfair price ever serve as grounds for the substantive unconscionability component? Most of the cases where price was unconscionable are consumer cases with purchasers having limited incomes and where there also was a significant procedural unconscionability. Arbitration Clausesmethod of resolving a dispute without involving the court; resolved by a mediator who acts as judge and jury. Higgins v. Sup. Ct. of Los Angeles CountyFive siblings were on Extreme Makeover: Home Edition. Only two were of majority at the time of the contract. They had claims against the producers and the manufacturer of the home featured in the episode, but pursuant to agreement all their claims were subject to arbitration. They claim arbitration clauses was unconscionable. Arbitration clause (Paragraph 69), under the Miscellaneous section had no special font or place for initialing. The Release also contains an arbitration clause in even smaller font. The Leomitis (the host family that our five petitioners were living with) presented the papers to petitioners, telling them to sign, the kids didnt know what arbitration meant. A new 9-bedroom home was built, the mortgage was paid and the program aired on Easter Sunday 2005. Thereafter, Leomitis forced the petitioners to leave. Petitioners asked the producers for help, but they said they could not. The episode was re-broadcast.

Contracts IIHammond Spring 2011

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Contracts IIHammond Spring 2011

Despite the enforceability of arbitration agreements generally, they are subject to legal and equitable attack, including on grounds of unconscionability. Even adhesion contracts are enforceable if not unconscionable. Petitioners must show both procedural (oppression or surprise due to unequal bargaining power) and substantive elements (overly harsh or one-sided result). ? What about the duty to read? The court is pretty clear that it falls in the face of a valid unconscionability argumentotherwise, the duty to read would wipe out the unconscionability concept. Adhesion contractstandardized contract imposed and drafted by the party of superior bargaining strength offered on a take it or leave it basis. No room to negotiate. Adhesion contracts are valid, unless they are unconscionable. The adhesion part is included in the procedural unconscionability. Lack of meaningful choice ? What else makes contract procedurally unconscionable? No distinguishing font type. Buriedno particular heading alerting the party, or special place for initials ? What makes contract substantively unconscionable? Primarily if it is one-sided. Adler v. Fred Lind ManorAdler, a Polish immigrant, worked at a senior care facility as a maintenance person. Three years after he started working, there was new management that required him to sign an Arbitration Agreement. Adler hurt his back and hip moving some equipment six years later. Adler filed his claim with DOL. He hurt himself twice more on the job. Five months after his last claim, he was fired for his inability to perform all his duties. Adler sued in the Washington court system. Fred Lind Manor responded with the arbitration provision. Holding (Sup. Ct. Wash.): Plaintiffs can win on substantive unconscionability grounds alone, if the provisions are so one-sided and harsh as to render them substantively unconscionable, even when circumstances surrounding the agreement do not support procedural unconscionability. Substantive Unconscionability Unilateral vs. BilateralOver Adlers objections, the court finds this is a bilateral arbitration clause. Fee Splitting Adler failed to provide any specific information indicating that the fee-splitting provision in the arbitration agreement was substantively unconscionable in his circumstances. However, the court remanded to determine that issue. If the costs prohibit him from vindicating his claims, the provision must fall. Attorneys FeesParties had to bear their own costs, and Adler claims it waives his right to recover attorneys fees from defendants that would be allowed by Washington statute. The court agreed and found this portion substantively unconscionable. Procedural Unconscionability There is an adhesion contract, but that alone is not enough to satisfy PU. Bargaining power is not the sole inquiryyou also need absence of meaningful choice. Here, there was no fine printit is a half page agreement consisting of nothing but the arbitration provision. Also, it appears Fred Lind Manor gave him reasonable opportunity to understand the terms. The court remands, however, to determine if PU exists. If Fred Lind threatened to fire him if he did not sign, in the face of Adler raising concerns or saying he didnt understand, it would tend to prove PUto be determined on remand.

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Note that the court is willing to sever the substantively unconscionable parts, without destroying the whole contract. That, to me, seems necessary if they allow substantive unconscionability to survive on its own without any PU. The court hints that if there were procedural unconscionability here, severance would not be the rulethe whole agreement could fall. Limitation on Actions The arbitration agreement provided a 180 day statute of limitations, which is shorter than the statutory period. Washington courts find contract SOLs to prevail over statutory SOL. However, some federal circuits (9th Cir.) disagree, and the court says the SOL period is substantively unconscionable because it gives the employer an unfair advantage. The employee has to first go through EEOC, and the SOL is not tolled. Plus, the 180 days begins running when the event giving rise to the dispute happensso older violations cannot be included in his claims. Unconscionability in a Commercial Setting Should the unconscionability doctrine apply to two commercial parties? You dont normally have the same degree of inequality in bargaining power. Also harder to show unfair surprise, because commercial parties often have counsel and have more experience with contract terms. Therefore, it is often more difficult to show procedural unconscionability. It may be less likely to have substantive unconscionability also, because commercial parties tend to better understand the space in which the contract operates and can do a better job of policing its fairness. There are examples of unconscionability cases in a commercial context (see A&M Produce on p. 596) Arbitration Agreements in Employment Adkins v. Labor Ready not covered in lecture Pro Hist: Trial court ordered parties to submit claims to arbitration and dismissed the suit. Adkins appealed. Facts: Adkins had claims against his employer for violation of state and federal labor laws. Labor Ready moved to compel arbitration based on an agreement signed by Adkins which was on employment application (in a box with an arbitration agreement.) The agreement provided that all claims would be and the decision of the arbitrator is binding. Holding: After discussing the Federal Arbitration Acts preference for arbitration agreements, the court acknowledged that there must actually be an agreement. Adkins Argument: First said there was no consideration for the arbitration clause. Then said it was inadequate because the consideration given by Labor Ready is illusory because they will never be in a position to sue its employees. Also argues it is an unconscionable contract of adhesion because it was take-it or-leave it and because the employer had all the bargaining power (he was low income, low education and didnt understand arbitration). Labor Readys Argument: Adkins agrees to arbitrate his claims and Labor Ready agrees to arbitrate its claims. Thats clearly meeting the bargained for exchange test. Rationale: Rarely is the employee in a position of bargaining power with respect to the employer; would otherwise apply to every employment situation. ? How does this court treat the procedural unconscionability? Gross disparity of bargaining power evidenced at least in part by the adhesion contract because there is no opportunity for the employee to bargain over terms. However, that means in most employment situations, employees will be able to meet the procedural unconscionability in West Virginia. Must be grossMere disparity of bargaining power would not suffice. ? How does the court deal with the substantive unconscionability? 23

Contracts IIHammond Spring 2011

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Adkins thinks the arbitration strips him of his legal right to sue. The mere fact of arbitration alone is not substantive unconscionability, however, because the FAA provides a clear federal command not to treat arbitration as inferior. In addition, Adkins asserted nothing to indicate that the type of arbitration in the agreement is so procedurally unfair as to deprive him of his rights.

Adkins asserts that the fee structure of the arbitration procedure mandated in the agreement and the inability to bring class actions are substantively unconscionable. The Courts viewAdkins has the burden of showing that the arbitration is prohibitively expensive. He cant claim the arbitration fee is too high but not even plead or know what the arbitration fee is. It was not sufficient for the lawyer to cite precedent that arbitration fees were found too expensive in other cases. He has to prove it was too expensive for Adkins and the plaintiffs. Public Policy Non-Compete Agreements Valley Medical Specialists v. Farber Facts: Farber is a pulmonologist hired by VMS who becomes a shareholder, officer and director of VMS after a few years. Farbers employment agreement contains restrictive covenants, as set forth below, in each case for 3 years after leaving VMS and within a 5 mile radius of each of VMS offices: *Non-disparagement agreementcannot request present or future patients curtail or cancel their affiliation with VMS *Non-competition agreementcannot compete with VMS, even through an investment, by an association with another company that practices medicine. He also cannot provide medical care for anyone who was a patient of VMS after he leaves employment of VMS. Cannot disclose the names of patients to any other firm engaged in a medical practice similar to or in general competition with VMS. The agreement provides that any violation by Farber can be stopped by an injunction, and that he has to pay liquidated damages of a substantial amount. Trial court: The trial court struck the clause as against public policy, because it felt a 6 month covenant would have been reasonable; the 5 mile radius was too broad; & there was no exception for emergency med services. Appellate court: The court of appeals modified the covenant to permit emergency services, but upheld the rest of the clause since there were eight other hospitals where he could work but not violate the covenant. Supreme Court of Arizona: A covenant not to compete must protect some legitimate interest beyond the employers desire to protect itself from competition, and must be balanced against public policy of protecting the public from injury or not creating too much hardship on the other party (e.g., employee). Rule: Even if there is a legitimate interest to protect for the employer, the restrictive covenant must be reasonable in (i) duration, (ii) geographic scope and (iii) scope of activities prohibited, in relation to the legitimate interests. The stronger the legitimate interests, the further you can go with the scope of the covenant The reasonableness standard is not some independent evaluation of whether the covenant is reasonable in a vacuum. The question is whether it is reasonable in light of the legitimate interests of the person trying to enforce the covenant, and whether it is broader than necessary to protect the interest. ? What are some examples of a legitimate business interests? Trade secrets; specialized customer lists (beyond the phone book); training provided to an employee; the purchase of goodwill in a business; close public identification of employee with the business (e.g., news anchor). ? Is there a legitimate business interest of VMS here? If so, what? 24

VMS did not provide him with training. However, VMS has a legitimate interest in its customer base (patients) and needs to protect its business, to the extent possible, against losing those customers. ? How does the court feel about the three year duration here? The trial court thought anything more than 6 months was unreasonable, because pulmonary patients need a checkup every 6 months. Because of the factual finding by the trial court, the Supreme Court of Alaska believes the three-year duration is unreasonable. Note, that alone would cause the restrictive covenant to be invalid. But there is no bright line rule in the common law of most states about what duration is reasonable. What happens in Florida with respect to duration? Fla. Stat. 542.335: 1. In the case of a restrictive covenant sought to be enforced against a former employee, agent, or independent contractor, and not associated with the sale of all or a part of: a. b. c. d. e. The assets of a business or professional practice, or The shares of a corporation, or A partnership interest, or A limited liability company membership, or An equity interest, of any other type, in a business or professional practice, a court shall presume reasonable in time any restraint 6 months or less in duration and shall presume unreasonable in time any restraint more than 2 years in duration.

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Most states do not have a statute governing the duration of restrictive covenantsit is left to the common law of each state. ? What about the geographic scope in this case? The court said 5 mile radius around the three VMS offices is 235 square miles, and that is too much. Note: (i) a five mile radius around three offices wont always be 235 square miles, because there may be some overlap and (ii) why is 235 square miles unreasonable when there are 8 other hospitals in the area that dont violate the covenant? Fla. Stat. 542.335Geographic area ? (1) enforcement of contracts that restrict or prohibit competition during or after the term of restrictive covenants, so long as such contracts are reasonable in time, area, and line of business, is not prohibited. In any action concerning enforcement of a restrictive covenant: (b) The person seeking enforcement of a restrictive covenant shall plead and prove the existence of one or more legitimate business interests justifying the restrictive covenant. The term "legitimate business interest" includes, but is not limited to: 4. Customer, patient, or client goodwill associated with: b. A specific geographic location; or c. A specific marketing or trade area. Any restrictive covenant not supported by a legitimate business interest is unlawful, void & unenforceable. ? What about the scope of activities prohibited? Since the clause was applicable to the practice of medicine, it was too broad. It should have been limited to pulmonology or related fields that he practiced in.

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? But is this pulmonologist really restricted in his employment by the scope here: the practice of medicine. A pulmonologist doesnt suddenly become an obstetrician. So why does it matter in this case? All of those same factors would be in play for ANY employee subject to a restrictive covenant. What else is added in this situation? Doctors play a public role. It isnt like a computer programmer has been restricted. This is someone upon whom life and death depends. It would not be good public policy to prevent him from performing emergency services for 235 square miles. ? What else about doctors? The courts will look more closely at a restrictive covenant when the doctor/patient relationship is involved. Patients have a personal relationship with doctors, not the organizations that employ them. ? What happens if there is a restrictive covenant that is not reasonable? Depends on the jurisdiction. Some courts strike it from the document altogether, so no restrictions on the employee. Some courts modify it to make it reasonable. Courts that do this are acknowledging that the parties intended some restrictive covenant, and are striving to protect the employer/purchasers legitimate interests in a reasonable way. Not all courts will modify, including the Supreme Court of Arizona, which claims that the court of appeals cannot rewrite the parties agreement. Fla. Stat. 542.335(c)Modification of Restrictive Covenant by Court If a contractually specified restraint is overbroad, overlong, or otherwise not reasonably necessary to protect the legitimate business interest or interests, a court shall modify the restraint and grant only the relief reasonably necessary to protect such interest or interests. R 2d 188 Ancillary Restraints on Competition (1) A promise to refrain from competition that imposes a restraint that is ancillary to an otherwise valid transaction or relationship is unreasonably in restraint of trade if (a) the restraint is greater than is needed to protect the promisee's legitimate interest, or (b) the promisee's need is outweighed by the hardship to the promisor and the likely injury to the public. (2) Promises imposing restraints that are ancillary to a valid transaction or relationship include the following: (a) a promise by the seller of a business not to compete with the buyer in such a way as to injure the value of the business sold; (b) a promise by an employee or other agent not to compete with his employer or other principal; (c) a promise by a partner not to compete with the partnership. Public Policy in Other States In Palmer & Cay v. Marsh & McLennan Companies, 404 F.3d 1297 (11th Cir. 2005), the court applied Georgia public policy law to a non-compete agreement between a non-Georgia company and a nonGeorgia employee, governed by non-Georgia lawbecause the employee had moved to Georgia and was working there when the employer tried to enforce the agreement. The reasoning of the Georgia courts is that Georgia has significant contacts with the issue, because the effects of the non-compete would be felt in Georgia (citing Keener v. Convergys, 312 F.3d 1235 (11th Cir. 2002)). Georgia does not allow blue penciling for employment-related non-competes, although it does if they are ancillary to the sale of a business. Does this mean Florida employees with a non-compete can flee to Georgia to escape enforcement? There is an argument that Palmer only says the courts should be silent about whether the remedy is prohibited in the rendering courts state. That would be more consistent with Keener and with the way 26

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Florida deals with the issue. It would also leave the issue to constitutional principles of full faith and credit or federal common law. What can you do to avoid the fleeing problem? Draft the agreement so it complies not only with Florida law, but Georgia law as well. That is somewhat limiting because Georgia disfavors non-competes more than Florida. Since a governing law provision is not enough, the agreement should also include a forum selection clause and consent by the employee to jurisdiction in that forum. Public Policy (Family Context) Surrogate Agreements R.R. v. M.H. & Another Facts: Natural father (R.R.) was married, but his wife was unable to have children. They were too old to have a real shot at adopting a child, so natural father entered into an agreement with natural mother (M.H.) for natural fathers sperm to be used to inseminate natural mother, so that natural mother could act as a surrogate. The agreement provided for compensation to the mother of $10,000 for the services of conceiving and giving birth to the child (and expressly said the payments were not for adoption, termination of parental rights or for her consent to terminate her rights). Payments were to be made in installments. The agreement gave custody of the child to natural father but did not terminate natural mothers parental rights. However, if natural mother tried to obtain custody, she had to refund the money. Also, natural mother had the right to abort, but had to refund the money if she aborted for a reason unrelated to her own physical health. The natural mothers husband consented by telephone. The natural mother got a clean bill of health from the psychologist. After sending her $3,000, the natural father then sent a $3,500 installment (due at end of 6 months of pregnancy), which was rejected and returned uncashed. Natural father sued natural mother (and her husband) to declare his rights under the surrogacy agreement. A guardian ad litem was appointed to represent the interests of the child. Pro Hist: The lower court judge determined that the natural father would probably win based either on a custody claim or on the basis of best interests of the child. Nevertheless, it submitted questions for determination by the Supreme Judicial Court of Massachusetts. Why is this case in the public policy section of the book? We could just treat it as the natural mother breaching her promise, so natural father sues her to either get his money back, or to force her to have the child. Is it because the court is concerned about surrogacy agreements generally? No. The court doesnt seem to be concerned about surrogacy agreements where the natural father covers only the birthing expenses incurred or necessary for the natural mother and no other compensation is paid. The court is concerned only about compensated arrangements. Why are compensated arrangements a concern? The court is concerned about birth mothers giving away their children for money baby selling. It analogizes this custody case to the adoption statute, which prohibits the payment of money to birth mothers for their children. Ultimately, it is concerned about economically disadvantaged women doing this sort of thing for money.

As to the timing, the court analogizes to the adoption statute, which does not permit adoption agreements until 4 days after the childs birth. This is to give the mother time to reflect on her wishes after she has developed a stronger bond with her child. The court seems willing to end these arrangements on either groundeven if there was no compensation, it would not like the pre-birth agreement. So how do we identify a surrogacy case that concerns us as a policy matter? It seems primarily concerned with two things: 1. *Payment of consideration ($10,000) for her custody of the child; and 27

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2. **Making the surrogacy agreement prior to the birth of the child. What about the plaintiffs argument that the $10,000 was for the services of carrying the child, rather than paying for custody? The court correctly sees through this, since if the natural mother didnt honor the agreement and tried to gain custody, she had to forfeit the money. If she has to forfeit money if she tries to get custody, the money must have been (at least in part) a payment for custody. In addition to looking at payment for custody and the timing, what else do we need to take into account? The court says other factors are 1. the natural mothers spouses consent (obtained here) 2. the natural mother must be an adult and have had at least 1 successful pregnancy (true here) 3. the natural mother, her spouse and the couple that gets consent all get mentally evaluated (true here, although maybe not the natural mothers husband) 4. the natural fathers wife be infertile (true here) 5. the intended parents to be suitable (true here) and 6. all parties have counsel (true here). What is the point of having these factors if the court is going to ignore them? What does the court really want? At a minimum, the court wants guidance from the legislature. It is uncomfortable making this policy decision since it is not an elected representative of the populace. What about surrogate fatherhood, where a sperm donor is used to impregnate a fertile mother (whose husband will be the childs parenting father thereafter)? Public policy concern? Theres a difference, because an anonymous sperm donor will not be involved with the child afterwards. The sperm donor wont even know which kid is his, or whether one was ever produced. Plus, sperm donors theoretically can father a nearly limitless number of children, unlike a surrogate mother. Contrast that with surrogate motherhood in which the birth mother may or may not expect to be involved with the child afterwards, but has a greater commitment and can never be anonymous. One might argue that a mother also has more of a biological connection (as a scientific matter). Do you think the attorney engaged by the natural father at the time the surrogacy agreement was signed has committed malpractice? Unlikely. The very fact that the trial judge submitted the questions to the highest court in Massachusetts, and that there is no legislative authority in Massachusetts, and that the agreement was crafted to avoid the pitfalls of the In re Baby M surrogacy case in New Jersey, all indicate that the attorney was not negligent. The court declares the contract unenforceable. What happens to natural fathers $3,000? Just because the contract is unenforceable, it isnt clear that the natural mother ought to profit $3,000 at the expense of natural father. Its not like they conspired to do something wrong. Some courts that strike contracts for public policy reasons will allow one party to recover restitutionary relief (quasi-contract). These courts balance the significance of the public policy against the effects of total denial of relief. 178 and 197 of Restatement (Second) of Contracts. If both parties have engaged in wrongful conduct, no relief will follow, but that doesnt seem present here. Doesnt the $3,000 unjustly enrich her? 28

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Or is there an argument that he was paying for her services, not custody, and therefore she shouldnt have to give anything back because she performed the services? (In other words, her enrichment is not unjust).

191 Promise Affecting Custody A promise affecting the right of custody of a minor child is unenforceable on grounds of public policy unless the disposition as to custody is consistent with the best interest of the child. Marriage Considerations Borelli v. Brusseau Facts: Wife marries husband. They sign a pre-nup. Later, when he gets sick, he promises to leave her a bunch of property, but never puts it in a will. Still later, while in a nursing home, he makes an oral agreement with her that if she cares for him at home and gets him out of the nursing home, he will leave her that property he promised. When he dies, his will leaves only $100,000 and their marital home to her. His daughter gets the rest. She sues to enforce the agreement. Pro Hist: The trial court granted summary judgment for the executor (and daughter) because the agreement was void as against public policy. What is the source of the trial court, and court of appeals public policy argument? Provisions of the California Civil Code that indicate husband and wife have an obligation to mutual support. As a result, she had an obligation to care for husband, and her caring for him did not constitute consideration for the promise to leave her the property. The court finds a public policy in the statute to preserve marital relationships, and believes the best way to foster that is to require this mutual support as part of the marriage. What about the portions of the Civil Code that permit husband and wife to enter into transactions with each other, respecting property, which either might if unmarried? The majority doesnt pay much attention to this, because it sees the public policy argument for marital support as stronger than the argument that a marriage is like a business with freedom of contract.

The dissent disagrees, of course. It thinks the modern marriage is more businesslike, and they should be able to contract. After all, they had a pre-nup, and that was apparently enforceable. Which opinion, majority or dissent, do you think best fosters marriage? The majority opinion might discourage business-like dealings between couples. However, it might also encourage the wife leaving the husband when sick, which surely is not what is intended. The dissent views marriage in a much more economic/business-minded sense, and says even if the spouse has a duty to support, she can do so by providing for her husbands careshe doesnt have to do it personally. That tends to undermine traditional principles of marriage, but is it more in accord with reality? Why shouldnt we let married couples contract just as if they werent married? From freedom of contract perspective, there isnt much reason. But marriage has always been treated in a more sacrosanct mannerpossibly because many religions treat it in a special manner. Do you believe the dissents argument about the majoritys view being an anachronism from a time when women didnt work is accurate?

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A promise is unenforceable on grounds of public policy if it is unreasonably in restraint of marriage. 190 Promise Detrimental to Marital Relationship (1) A promise by a person contemplating marriage or by a married person, other than as part of an enforceable separation agreement, is unenforceable on grounds of public policy if it would change some essential incident of the marital relationship in a way detrimental to the public interest in the marriage relationship. A separation agreement is unenforceable on grounds of public policy unless it is made after separation or in contemplation of an immediate separation and is fair in the circumstances. (2) A promise that tends unreasonably to encourage divorce or separation is unenforceable on grounds of public policy. Rest. 2d K 179 Bases of Public Policies Against Enforcement A public policy against the enforcement of promises or other terms may be derived by the court from (a) legislation relevant to such a policy, or (b) the need to protect some aspect of the public welfare, as is the case for the judicial policies against, i.e.; (i) Restraint of trade ( 186-188), (ii) impairment of family relations ( 189-191), and (iii) interference with other protected interests ( 192-196, 356 see list below). Interference with other protected interests against public policy 192 Promise Involving Commission of a Tortcannot contract to commit a tort against someone 193 Promise Inducing Violation of Fiduciary Duty fiduciary relationship with child 194 Promise Interfering with Contract with Another 195 Term Exempting From Liability for Harm Caused Intentionally, Recklessly or Negligently 196 Term Exempting From Consequences of Misrepresentation 356 Liquidated Damages and Penalties

Chapter 8Justification for Nonperformance a. Mistake R2d 151A mistake is a belief that is not in accord with the facts. R2d 152When Mistake of Both Parties Makes a Contract Voidable (1) Where a mistake of both parties at the time a contract was made as to a basic assumption on which the contract was made has a material effect on the agreed exchange of performances, the contract is voidable by the adverselyaffected party unless he bearsrisk of mistake under the rule stated in 154. (2) In determining whether the mistake has a material effect on the agreed exchange of performances, account is taken of any relief by way of reformation, restitution, or otherwise. R2d 153When Mistake of One Party Makes a Contract Voidable Rarely applied, applicable only under special circumstances. In addition to the requirements for mutual mistake, to get rescission for unilateral mistake the plaintiff must also show: (a) Enforcement would be unconscionable (i.e., create a substantial hardship) or (b) The non-mistaken party had reason to know of the mistakeor the non-mistaken partys fault caused the mistake (some kind of cheating/trickery involved) R2d 154When a Party Bears the Risk of a Mistake

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(a) the risk is allocated to him by agreement of the parties, or (i.e., Expressly stated in the contract) (b) he is aware, at the time the contract is made, that he has only limited knowledge with respect to the facts to which the mistake relates but treats his limited knowledge as sufficient, or (c) risk is allocated to him by the courtbecause under the circumstances it isreasonableto do so. R2d 155When Mistake of Both Parties as to Written Expression Justifies Reformation Where a writing that evidences or embodies an agreement in whole or in part fails to express the agreement because of a mistake of both parties as to the contents or effect of the writing, the court may at the request of a party reform the writing to express the agreement, except to the extent that rights of third parties such as good faith purchasers for value will be unfairly affected. R2d K 156Mistake as to Contract within the Statute of Frauds If reformation of a writing is appropriate, not precluded by fact that contract is within Statute of Frauds. R2d 157Effect of Fault of Party Seeking Relief A mistaken party's fault in failing to know or discover the facts before making the contract does not bar him from avoidance or reformation under the rules stated herein, unless his fault amounts to a failure to act in good faith and in accordance with reasonable standards of fair dealing. R2d 158Relief Including Restitution (1) In any case governed by the rules stated herein, either party may have a claim for relief including restitution under rules stated in 240 & 376. (2) In any case governed by the rules stated herein, if those rules together with the rules stated in Chapter 16 will not avoid injustice, the court may grant relief on such terms as justice requires including protection of the parties' reliance interests. R2d 240Part Performances as Agreed Equivalents If the performances to be exchanged under an exchange of promises can be apportioned into corresponding pairs of part performances so that the parts of each pair are properly regarded as agreed equivalents, a party's performance of his part of such a pair has the same effect on the other's duties to render performance of the agreed equivalent as it would have if only that pair of performances had been promised. R2d 376Restitution When Contract Is Voidable A party who has avoided a contract on the grounds of lack of capacity, mistake, misrepresentation, duress, undue influence or abuse of a fiduciary relation is entitled to restitution for any benefit that he has conferred on the other party by way of part performance or reliance.

This is a factual error made by the parties at the time of formation of the contract. The factual error must be material for it to be grounds for claiming the contract is invalid. It is a mutual assent/formation issuethat the error of fact is so material that there could be no mutual assent and no contract could have been formed. Normally the remedy is rescission (with any appropriate restitution for amounts paid or services rendered), but because rescission is an equitable remedy, the Courts have the ability to be more creative. In some cases, they may reform the contract. See Knapp note 7, p. 673.
How is mistake different from the defenses of duress, undue influence and fraud? There is no misbehavior by one of the parties during the bargaining process. It is simply misinformation by one or both parties. If one of the parties deliberately provides misinformation, it is less of a mistake situation and more a fraud situation. 31

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Mistake differs from interpretation How is mistake different from the interpretation cases we talked about? For instance, in the chicken case, why is that an interpretation case, and not a mistake case? Not looking at whether the parties have made a mistake in interpreting a term of the contract or interpreting the other partys meanings or motives. That is essentially a mistake of judgment or a misunderstanding. Instead the focus is whether the parties are mistaken about a basic fact underlying the subject matter of the contract a basic assumption on which the contract was made. Note: Do not think of this the way in common language you think about a mistake. If you simply misunderstand or misinterpret contract language, that is not covered by the mistake doctrine. Mistake is not a bad deal Nor does the mistake doctrine cover unwise acts, (i.e., I sign a contract that is bad for me and good for the other party. I may consider it a mistake, but it is not covered by this doctrine.)

Why is there no relief for a mistake of judgment? Because then no contract would be enforceable. Parties cannot escape a contract simply because in hindsight it was a bad deal. That would frustrate the contract for the other party. Also, thats exactly why the other party entered into a binding contractto protect against certain risks, including the risk that the other party might change his or her mind. Mistake about the law Can lack of knowledge about a law be a mistake of fact? You wouldnt think so, but it isnt a mistake of judgment. Your knowledge of the law is knowledge of a fact. Therefore your mistake about a law is a mistake of fact. (At least in the modern view) Lenawee County Board of Health v. Messerly Messerlys owned 600 sq. ft. tract w. apt bldg& an adjacent one acre parcel. Prior owner, Bloom, installed defective septic tank;Messerlys did not know. Pickles purchased tract containing apt bldg. Shortly after, Board of Health condemned building bc of defective sewer system. Pickles sought to rescind land sale contract asserting mutual mistake of fact. Contract contained a clause saying that Pickles had examined the property and accepted it in its present condition.Court held the parties were mistaken as to the income-producing capacity of the property, which was a fact, not a judgment. ? On what grounds did Pickles seek relief?Mutual mistake of fact ? What is the mistaken fact? That the property was an income-producing property Result: Since both parties entered into the contract on grounds that the property could be used as income-producing property, a working sewer system was a basic assumption on which the contract was made and it materially affected the agreed performances of the parties. Why is the mistake mutual?Neither the Messerlys nor the Pickles knew of the defective sewer system, so there was a mutual mistake of fact. Both parties at the time of contracting thought it was income-producing property. Sellers thought they were selling an income-producing property and the buyers thought they were buying an income-producing property.

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Why is the mistake in Lenawee material? It completely changes the value of the property. The property is practically worthless at this point. However, value isnt necessarily the determining factor. RememberSherwood?The barren cow case!! Sherwood v. Walker Parties agreed to the purchase and sale of a cow, which was thought by both parties to be barren, but turned out to be with calf. This made a big difference, because when the seller learned the calf could be used for breeding, he didnt want to make the sale at the agreed price. The court found that the mutual mistake went to the substance of the agreement the very nature of what was being purchased. o The court, upon finding mutual mistake, has discretion about whether to rescind. ? Was the court in Sherwood concerned about the value of the cow? If a mistake is material, it will nearly always affect the value. So value alone should not be enough to satisfy the mistake doctrine. The court says she was not in fact the animal, or the kind of animal, the defendants intended to sell or the plaintiff to buy. if this fact had been known, there would have been no contract. ? Do you see how the barren cow case is different from an interpretation case? The question isnt whether the language of the contract adequately expressed what was being purchased, it is that the nature of the transaction itself was undermined by the fact that both parties were mistaken about the essence of the thing being purchased. Which party was in the best position to assume the risk from the loss they shared? R154Party bears the risk of loss, When? (a) The risk is allocated by agreement, (b) He is aware at the time of contracting that he has only limited knowledge about the facts but treats that knowledge as sufficient, or (c) The court allocates the risk to him on grounds that it is reasonable to do so. (catch all for equity) How does the court determine that the Pickles had the risk of loss? Pickles signed contract stating they had examined property to their satisfaction. Under 154, that falls under subsection (b), because purchasers had limited knowledge but agreed that limited knowledge was sufficient. As is clause essentially shifted risk of loss to buyers (could also say it falls under 154a) As is clause and mistake defense Consider the approach of the modern court in parol evidence cases involving a merger clause. They are given some weight, but they normally do not decide the case alone. In other words, you may want to look at all the facts and circumstances e.g., did the parties bargain for the exculpatory clause or was it mere boilerplate? Both parties being mistaken about the law is treated as a mistake of fact, and if it relates to a basic assumption upon which the contract is made (and no party has assumed the risk of loss), rescission for mistake may be appropriate.

Settlement Agreements Mutual Mistake One settling party often learns new facts (ie.,additional tort injuries) and they claim that the settlement agreement was made with both parties understanding that all the injuries were known at the time, because of doctors reports and so forth. So the injured party complains there was a mutual mistake of fact about the nature of the injuries, that this was a basic assumption of the contract and material.

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Some courts find there is a public policy in favor of settlement agreements regarding litigation, so rescission based on mutual mistake is an even higher hurdle in those circumstances. [Practice Pointer: Be careful not to settle too earlybefore extent of injuries are fully known; courts hesitate before granting rescission under this circumstance]. Others may be willing to rescind the settlement agreement if the injury was not and could not have been known at the time of contracting by either party. Settlement Agreements Unilateral Mistake ? Suppose in the tort victim case it is only the tort victim who thought that all the injuries were known at the time of settlement, same analysis? Possibly the tort victim could show a substantial hardship and qualify under 253. Alternatively, if the tort victim can show the defendant had reason to know of plaintiffs mistake, or caused the mistake, 153 might apply. But the absence of knowledge about the injuries does not necessarily mean they were mistaken or had reason to know of plaintiffs mistake. R2d 253Effect of a Repudiation as a Breach and on Other Party's Duties (1) Where an obligor repudiates a duty before he has committed a breach by non-performance and before he has received all of the agreed exchange for it, his repudiation alone gives rise to a claim for damages for total breach. (2) Where performances are to be exchanged under an exchange of promises, one party's repudiation of a duty to render performance discharges the other party's remaining duties to render performance. Unilateral Mistake Wil-Freds v. Metropolitan Sanitary District District sought bids for a water reclamation plan. WilFreds,a general contractor, submitted bid (was lowest bidder)w/ a $100ksecurity deposit. After bids were opened,Wil-Freds attempted to withdraw bchis subcontractors made bidding error. District accepted bid anyway bcwas lowest by $235k (on $1.1million). WilFreds tried to rescind and get deposit backbut proposal form stated bidder would be bound, could not withdraw, and refusal to perform would forfeit $100k security deposit. However,Losingsecurity deposit would ruin WilFredsbonding capacity. This was a Unilateral Mistake of Fact. There are two parties to the contract, but only one of them (Wil-Freds) was mistaken about the fact that plastic pipe was being used. They both thought standard construction equipment could be used. The District is wrong about that, but Wil-Freds (and the sub) were wrong in their bids about what kind of pipe was being used. They are not mistaken about the same thing. Easier to prove a mutual mistake case, because theres less risk of upsetting one partys expectations (since both parties were mistaken). Rule: To get relief for unilateral mistake, (1) the mistake must relate to a material feature of the contract; (2) the mistaken party must have exercised reasonable care; (3) enforcement of the contract would cause substantial hardship to the mistaken party; and (4) the non-mistaken party is capable of being returned to the status quo. R2d 157 The R2d 157 takes a different position than the Wil-Freds test about whether reasonable care is required. It says the failure of the mistaken party to use reasonable care does not eliminate relief to the mistaken party, but bad faith does.

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It is difficult to reconcile 157s rule with 154(b)s risk allocation rule where the mistaken party knows he has limited knowledge but treats that limited knowledge as sufficient.

Promissory estoppelif Wil-Freds was held to its contract with the District, Wil-Freds would say it relied on Ciaglos offer, Ciaglo reasonably expected Wil-Freds to rely, and the reliance was reasonable so it would be unjust not to enforce Ciaglos bid to do the work for the quoted price. Thats the Drennan rule and embodied in 87 of the Restatement. Nauga (note 5, p. 682)Unilateral Mistake and Nondisclosure Nauga was a selling agent of Westel. Westel submitted a proposed new agency agreement that included a clause that released Westel from causes of action by Nauga. There was currently a lawsuit between the two, and Westel thought this would take care of that. Naugas attorney then added language that required Westel to make a $250,000 payment in connection with the release. The agreement was signed by Westel without his lawyers realizing the $250k had been added. Court heldWestel had a duty to read. Thus, the agreement was enforceable. Absent fraud, ambiguity, or mutual mistake, a unilateral mistake is not sufficient for rescission. ? How would you evaluate this under the Wil-Freds test? Did anyone assume the risk of loss? If you invoke the duty to read rule, then Westel, represented by counsel, should handle the loss. However, arguably there would be no hardship to Nauga if fail to enforce entire contract. Practice Pointer: Normally when you make a change to a document, you blackline it to let the other lawyers know that it had beenincluded/modified. Donovan (note 6 p.683)Unilateral Mistake and Advertisements Car dealer offered for sale a Jag for $12,000 less than the intended price of $38,000. Consumer showed up to purchase for $26,000 and car dealer refused. ? How is this different or similar to Izadi last semester? Similar facts to Izadi, but the car dealer in Izadimisled customers intentionally whereas here there was an unintended mistake. So this is decided as a mistake case, rather than a fraud case. ? If you use mistake only as means to rescinding a contract, there must first be a contract. Why is there a contract here? Normally ads are only invitations to make offers, so when the consumer showed up, he arguably was offering to purchase for $26k. When the dealer refused, the offer was not accepted.The court, however, treated the ad as an offer that was accepted by the consumers tender of payment primarily because CA. has a statute that requires an advertiser to honor prices in ads.

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B. Changed Circumstances: Impossibility, Impracticability and Frustration of Purpose Contrast Impracticability with Mistake Unlike mistake, we are not talking about mutual assent issues associated with formation. With mistake, we were concerned that one or both parties were mistaken about a fundamental fact at the time of formation, and that if the true facts had been known, the assent would not have been made to the contract. In the impossibility, impracticability and frustration scenarios, the contract is formed, but something has happened subsequently to arguably excuse the performance of the parties. Normally the event that gives rise to an impossibility, impracticability or frustration claim must be very serious to justify non-performance by a party. R2d 261Discharge by Supervening Impracticability Where, after a contract is made, a party's performance is made impracticable without his fault by the occurrence of an event the non-occurrence of which was a basic assumptionon which the contract was made, his duty to render that performance is discharged, unless the language or the circumstances indicate the contrary.

R2d 262 Death or Incapacity of Person Necessary for Performance If the existence of a particular person is necessary for the performance of a duty, his death or such incapacity as makes performance impracticable is an event the non-occurrence of which was a basic assumption on which the contract was made. Performers are uniquei.e., Elton John R2d 262: Impracticability Subjective: I cant do it Possibly conceivable that it could be done, but I (particular person) cannot do it Excused if, what I promised to do has become impracticable Extreme and unreasonable difficulty/expense NOT anticipated/foreseen Utilized when certain events occurring after a contract is made constitute an impediment to performance by either party

R2d 263 Destruction, Deterioration or Failure to Come Into Existence of Thing Necessary for Performance If the existence of a specific thing is necessary for the performance of a duty, its failure to come into existence, destruction, or such deterioration as makes performance impracticable is an event the non-occurrence of which was a basic assumption on which the contract was made. R2d 263: Impossibility Objective: it cant be done It cannot be done, no one can do it Excused if what promised to do has become impossible

Impossibility (Common Law) If unanticipated event makes performance impossible, then contractual duties may be discharged The impossibility must be such that it could not be performed by anyone (objective approach). It is not enough to say it cannot be performed by me because of my special circumstances. The contract is discharged only to the extent of the impossibility. 36

Often this occurs when subject matter of contract is destroyed through no fault of either party. Uniqueness often matters. If there are fungible goods (i.e., goods that are easily substituted)then the contract will not be discharged for impossibility. Difficulty does not equate to impossibility.

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Taylor v. Caldwell (Case Note on p.685) Caldwell agreed to rent a music hall to Taylor for several days so Taylor could give musical performances. Before the first performance, the hall burned down without fault of either party. Taylor sued for breach of contract because Caldwell could obviously not provide the music hall. Caldwells performance of the contract was excused because the hall was essential to the performance of the contract. What if Caldwell had not been excused on grounds of impossibility? Then he is in breach when he fails to provide the music hall to Taylor for the performance. What happens if you breach a contract? The other party has a remedy. Usually damages. It does not void a contract. It acknowledges that there is a contract, but remedies the fact that one party failed to live up to his enforceable obligation.

Partial Recovery If one party has partially performed prior to the impossibilitythat party ought to receive restitution for the value of the benefits conferred.
Partial RecoveryHypo Suppose Caldwell agreed to rent the hall to Taylor for two performances. The first performance goes off without a hitch, but the hall burns down before the second. Taylor tries to justify not paying Caldwell anything on the contract on grounds of impossibility (i.e., the entire contract cannot be performed because of the fire). First, a court would be unlikely to say that performance by Taylor (i.e., payment) is excused as to the first performance. The court is likely to break it up into two contracts (one for each performance) and require Taylor to pay for the first. Second, even if a court did not bifurcate the contract, Caldwell would have a claim for restitution for providing the hall for the first performance.

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R. 262Death Death of one of the partiesdischarges contract if that person was necessary to perform contract services If the contract services were not unique, then it may not be discharged because the person was not necessary to perform the contract (i.e., a substitute could be found). For example, if the decedents only obligation was to pay money, theres nothing unique about that, and it is something the decedents estate can do just as well as the decedent. Just because you die doesnt mean you dont have to perform the contract. Your estate may have to perform it for you, unless your particular characteristics were a necessary part of the contract services.
DeathHypo If Elton John agrees to give a performance, but dies, then performance of the contract by Elton John is impossible. If, on the other hand, Elton John has agreed to purchase a diamond studded piano, and dies before the piano is delivered, he cannot claim impossibility, because his estate can certainly pay for the piano.

Impracticability Even if the performance of the contract is not literally impossible, it may be impracticable if it is extremelydifficult to perform, or there is some unreasonable expense associated with performance, and those circumstances were not and could not be anticipated. R2d K 261When Performance is Made Impracticable (1) Cost must be extreme and unreasonable or the performance must be extremely difficult to perform. It must be so extreme as to alter the essential nature of the performance. (2) Occurrence of an event after formation, if it was a basic assumption of both parties that such an event would not occur Complaining party is not at fault. Complaining party did not assume the risk Foreseen Act If an act is foreseen, you can argue that the frustrated party assumed the risk by not protecting herself against the foreseen risk. Note this is not the same as foreseeability, which is an objective test about whether a reasonable person would have foreseen it. Foreseen is subjectivedid a party actually foresee it happening? If yes, havent they assumed the risk? Karl Wendt Farm Equipment (KW) v. International Harvester (IH) IH had contracts w various dealers, including KW. IH then sold out to Case. Case kept some of the IH dealers, but not others. KW was not kept as part of the dealer network. IH claimed the contract was impracticable or that its purpose was frustrated, bc it would suffer enormous losses if it had to continue in the farm equipment business (dramatic downturn in the market for farm equipment.)Court heldAs a matter of law, impracticability and frustration defenses not appropriate. (SeeR2d. 261& 265.) Rule: Very extreme market conditions might be sufficient for defenses of impracticability/frustration to be used, but mere lack of profit is insufficient. Not enough that it is economically burdensome or unattractive. R2d 261 Applied Impracticability elements: 38

Cost must be extreme & unreasonable, or Performance must be extremely difficult to perform It must be so extreme as to alter the essential nature of the performance. Allocation of Risk Did the complaining party assume the risk? When there is an obvious risk allocation (express provisions) in an agreement look to the specified circumstances to determine if a party assumed the risk of consequences for terminating the contract for reasons other than those specifically included. Economic school advocates placing the risk on whichever party was in best position to bear it. o Note: UCC requires reasonable time to terminatehowever, in a distributorship relationship the predominant purpose may be Services oppose to Goods. o Situationis different if agreement is silent on termination provisionsbecause if party does not have to take any steps before termination, then will automatically be entitled to disengage contract. o Judge determine defenses because juries may be prone to negating valid contracts due to feeling sympathetic; also, issue is considered question of law, not fact. o Note:Impracticability and frustration of purpose are VERY SIMILAR, virtually SAME elements = law treats them very much the same Impracticability basically means that agreement has become unreasonably unprofitable to carry outoutrageously expensive Frustration of purpose has less of an economic disparitysole basis for entering into agreement is basically impossible, unreasonable Hammond says: dont worry too much about these similarity/differences R2d 265 Discharge by Supervening Frustration Where, after a contract is made, a party's principal purpose is substantially frustrated without his fault by the occurrence of an event the non-occurrence of which was a basic assumption on which the contract was made, his remaining duties to render performance are discharged, unless the language or the circumstances indicate the contrary. Mel Frank Tool & Supply (MF) v. Di-Chem (DC) MF leased property to DC. DC stored some hazardous chemicals on the site. MF knew about the chemicals when the lease was signed & the lease limited DCs use of the premises to storage and distribution. Lease also required DC to comply with all city ordinances and the law. New regulations were enacted by the city preventing DC from storing chemicals on the site. DC vacated the premises and stopped paying rent. DCs Arguments: contract is illegal, based on mutual mistake, fraud in the inducement and impossibility, basically usedkitchen-sink approach*. (Nothing wrong with using it, you never know what might stickbut be careful because ethics call for lawyers to refrain from frivolous claims). Principal claim is that the new regulations make the premises useless to them as a chemical warehouse, which actually amounts to a frustration of purpose. Here it is not a case of true impossibilitybcMF is able to provide the premises and DC is able to fulfill its obligations under the lease (i.e., paying rent) and/or use it for other storage purposes. Rule: A governmental regulation that prohibits a tenant from using the premises for its originally intended purposes only excuses performance by the tenant if there is no other use to which the premises can be put under the terms of lease, irrespective of whether that is less profitable or unprofitable use. 39

Contracts IIHammond Spring 2011

Contracts IIHammond Spring 2011

How would R. 265 apply? *Substantial frustration of principal purpose of the contract Principal purpose of contract was to store chemicals, not just hazardous chemicals. *Occurrence of an event after formation, if it was a basic assumption of both parties that such an event wouldnt occur * Complaining party is not at fault. That would be true in a governmental regulation situation like this one. *Complaining party did not assume the risk Specific regulation in this case is probably not foreseeable, although businesses working with hazardous chemicals can anticipate some regulatory restrictions. Contract ProvisionsExpress Assumption of Risk In some cases, the risk of loss may have been expressly assumed by one of the parties in the contract. These are HELL OR HIGH WATER clauses, by which a party agrees that he/she/it must deliver performance regardless of any changed circumstances.Precludes a party from any of these excusesif you agreed to it, you will be bound by it. Force Majeure ClausesThere also are force majeure clauses, which excuse a partys performance upon certain events and eliminate the need to claim a changed circumstances excuse. A force majeure clause excuses a partys performance if the specified events occur; Eliminates the need to seek one of these doctrines as an excuse for nonperformance. You dont need contract doctrine for an excuse if you have an excuse written right into the contract. (Includes: Acts of God, war & hostilities, terrorism, labor strikes) Note:Like as is clauses and merger clauses, may simply be boilerplate that the parties did not negotiate, thus reducing its significance. o Be careful about this clause in boilerplate formatSome courts reluctant to enforce reasoning parties did not actually bargain the term
Rod Stewart CaseHarrahs Rio Hotel in Las Vegas sued Rod Stewart in a multi-million dollar breach of contract suit. Stewart was unable to perform a concert due to a throat ailment. Agreement provided that if any party's performance became impossible by "any [ ] cause beyond such party's reasonable control (excepting causes of which Stewart or Rio had knowledge, or w. exercise of due diligence should have had knowledge), then there shall be no claim for damages by either party, & performance shall be rescheduled to a mutually agreeable time." Court said the agreement contained a broad force majeure provision that, on its face, supports Stewart's argument that he was entitled to reschedule the Second Concert when he could not perform due to illness. There was unrebuted evidence at trial that Stewart's performance was impossible due to his illness.

UCC Changed CircumstancesImpossibilityCasualty to Goods Under the UCC, impossibility is styled as casualty to goods. Whether there is an impossibility excuse for the sellers failure to deliver goods as a result of a casualty of the goods, is dependent on which of the parties had the risk of loss. UCC Risk of Loss General Rule The risk regarding the goods always begins with the seller after all, seller has the goods. The question is when the risk passes to the buyer. The general rule is that the risk of loss passes to the buyer upon delivery of goods to the buyer, although the parties can allocate the risk differently in the agreement. A force majeure clause would protect the seller if one of the specified events happened; which really means buyer has the risk of loss from the beginning of the contract. Destination ContractRisk of Loss Common Carriers 40

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UCC 2-509 If the contract contemplates that a common carrier will be used to deliver the goods, then the risk shifts depending on what the contract says about the sellers delivery responsibilities. In a destination contract, the seller agrees to deliver the goods to a specific destination provided by the buyer; for example, the buyers warehouse in Baltimore. In that case, the seller has the responsibility for any damage that occurs during the transfer of the goods to Baltimore.

ExamplesDestination K If the goods are identified to the contract, the seller may have an impossibility defense for the casualty. If not, the seller is on the hook until they get to Baltimore. Example #1: Suppose there is a destination contract with delivery to buyers warehouse in Baltimore. Seller is in Seattle. The ship carrying the goods to Baltimore sinks. The risk of loss has not yet passed to buyer, so it is the Sellers responsibility. Example #2: Suppose the seller ships the goods safely to buyers warehouse in Baltimore. The risk of loss shifts to the buyer when the goods arrive at the warehouse. If the warehouse then burns down before buyer can do anything with the goods, then it is the buyers problem. The buyer cannot claim that seller breached, and the buyer has to pay the seller for the goods. The buyer cannot claim impossibility in order to avoid payment.

ExamplesShipment K Example #1: Suppose there is a shipment contract with delivery to United Shipping in Seattle, for ultimate delivery to buyers warehouse in Baltimore. Seller is located on the opposite side of town in Seattle. Seller delivers the goods to the docks at United Shipping and makes proper arrangements for United Shipping to take the goods to Baltimore. At that point, the risk of loss has passed to buyer, so it is the Buyers responsibility if anything happens during the transition to Baltimore. Example #2: Same scenario, except the sellers truck gets caught in traffic on the way to the United Shipping docks. The ship sails before the sellers truck gets there, so the shipment of goods does not reach the buyer on time. The risk of loss has not yet passed to the buyer, and the goods have been identified to buyers contract.

Shipment Contractprotects seller most In a shipment contract, the seller agrees to deliver the goods to a common carrier, for the carrier to then deliver them to a destination provided by the buyer. In that case, the seller has the responsibility for any damage that occurs in the process of getting them to the carrier, but the risk of loss passes to the buyer upon delivery to the carrier. The UCC shows a preference for shipment contracts in 2-308(a), in the absence of a contrary agreement. So if the buyer wants a destination contract, it should prepare the contract in such a way that the risk of loss passes upon delivery at buyers named destination. UCC 2-613Casualty to Identified Goods If the risk was still the sellers, he needs an excuse to avoid performancehe has to prove the casualty wasnt his fault, and then prove the goods were identified. Where the contract requires for its performance that goods be identified when the contract is made, and if the goods suffer casualty without fault of either party,andbefore the risk of loss passes to the buyer, or in a proper case under a "no arrival, no sale" term (Section 2-324) then: (a) If the loss is total the contract is avoided; and 41

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(b) If the loss is partial or the goods have so deteriorated as no longer to conform to the contract the buyer may nevertheless demand inspection, and at his option either treat the contract as avoided or accept the goods with due allowance from the contract price for the deterioration or the deficiency in quantity but without further right against the seller.
ExamplesCasualty to Identified Goods Example #1: Suppose there is a destination contract (common carrier) with delivery to buyers warehouse in Baltimore. Seller is in Seattle. The ship carrying the goods to Baltimore sinks,. The risk of loss has notyetpassedtobuyer, so it is the Sellers responsibility. The Seller may be able to claim impossibility defense under 2-613 because the goods were identified (they were already being shipped) and theres no evidence that the Seller caused the casualty. Example #2: Suppose there is a shipment contract (common carrier) with delivery to United Shipping in Seattle, for ultimate delivery to buyers warehouse in Baltimore. Seller is located on the opposite side of town in Seattle. Sellers truck gets caught in traffic on the way to the United Shipping docks. The ship sails before the sellers truck gets there, so the shipment of goods does not reach the buyer on time. The risk of loss has not yet passed to the buyer, and the goods have been identified to buyers contract.

UCC 2-613 provides that if identified goods suffer casualty without fault of either party and before the risk of loss has passed to the buyer, then the contract is terminated if the loss is total. If the loss is partial, the buyer may inspect the goods and either terminate the contract or accept the goods with an allowance for any deterioration or deficiency. Essentially, this is sellers impossibility defense. Note: seller doesnt need an impossibility defense if the risk of loss has already passed to buyer. Seller doesnt have the risk in that situation anyway.

? How does seller prove it doesnt have to perform anything further? o One way is to show seller has already performed, and the risk of loss is on buyer. In that case, seller doesnt need an excuse. He has already performed and the risk wasnt his. o If the risk was still his, he needs an excuse to avoid performance. First, he has to prove the casualty wasnt his fault, and then prove the goods were identified. What are identified goods? See 2-501(1) identified means identified for this particular contract. (i.e., if buyer orders 1,000 DVRs, that in and of itself does not identify any particular DVRs to the contract. But if the Seller labels 1,000 DVRs in its warehouse as being for that buyer, they are then identified for that particular contract.) Alternatively, goods are identified if they are particularly unique at the time they are ordered. If buyer orders an antique dining room table that seller owns, it is identified at the time of the contract. There are no other dining room tables or contracts relating to that unique dining room table Can the seller claim impossibility here? 2-613 refers to casualties. These goods did not suffer a casualty. It also says without fault of either party. ? What happens if the Sellers warehouse burns down before he identifies goods to Buyers contract?

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If the goods have not been identified to the contract and the risk of loss has not passed to the buyer, then the seller has all of the risk of loss and cannot claim impossibility as a defense. The seller must substitute goods or be liable for failure to deliver them (i.e. breach). ? What if Seller delivers the goods and they are for example the wrong color? It doesnt count as delivery so the risk of loss has not passed. 2-510 statesit does not count as delivery if Seller delivers non-conforming goods. UCC 2-615 Impracticability The rules for impracticability require, as a threshold matter, that it be impracticable. The UCC doesnt define what that word meansit only sets forth the rules about when you can use the excuse. ImpracticabilityExtremely difficult to perform or extremely unreasonable costs 2-615 Excuse by Failure of Presupposed Conditions Except so far as a seller may have assumed a greater obligation and subject to the preceding section on substituted performance: (a) Delay in delivery or non-delivery in whole or in part by a seller who complies with paragraphs (b) and (c) is not a breach of his duty under a contract for sale if performance as agreed has been made impracticable by the occurrence of a contingency the non-occurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order whether or not it later proves to be invalid. (b) Where the causes mentioned in paragraph (a) affect only a part of the seller's capacity to perform, he must allocate production and deliveries among his customers but may at his option include regular customers not then under contract as well as his own requirements for further manufacture. He may so allocate in any manner which is fair and reasonable. (c) The seller must notify the buyer seasonably that there will be delay or non-delivery and, when allocation is required under paragraph (b), of the estimated quota thus made available for the buyer. UCC 2-615 Assuming it is actually impracticable, a Seller can claim impracticability as an excuse for delay of delivery or non-performance if there is an occurrence of a contingency, the non-occurrence of which was a basic assumption on which the contract was made. Included in this is the good faith compliance with a law that prevents performance. Different than common lawIn common law, Seller is excused from performance. Thats all we know. Under the UCC, assume seller has to comply with a couple more stepsset forth in subsections (b) and (c). UCC 2-615 (b) Partial Impracticability If the sellers capacity to perform is only partially impracticable, he must allocate the performable parts among his customers in a manner that is fair and reasonable, but he can take into account not just current customers, but regular customers, when allocating. UCC 2-615 (c) Notification The seller also has to timely notify the buyer of the circumstances relating to the delay or non-performance, and if allocation is required under subsection (b), must notify the buyer of the goods that will be made available to the buyer as a result of the allocation. Under UCC 2-615, does it matter if the seller was at fault with regard to the impracticability? 43

Fault isnt mentioned directly but if Seller could foresee the event, it wouldnt satisfy the assumption of the events non-occurrence. Cmt. 5 talks about failure of a production source whose failure is beyond the sellers control. While not explicitly stated, there is some indication that it shouldnt be the sellers fault. Plus, it seems conceptually flawed to believe the seller could cause the event that produced the impracticability, and then use that as a defense when it fails to perform. Must we evaluate whether seller assumed the risk? The lead-in sentence to 2-615 says except so far as a seller may have assumed a greater obligation Clear that the UCC cares about whether seller assumed the risk. This is consistent with the comments stating risk allocation in the agreement may supersede this section. 2-615 mentions relief for sellerscan buyers get relief too? Although the statute doesnt say so, some courts have said yes. Is frustration of purpose recognized by the UCC? Not by name. The UCC puts it all into this impracticability concept, but does not seem to recognize it separately. Case like Krell v. Henry not covered by the UCC anyway. c. Modification Often after parties have formed a valid contract, one of them attempts to modify something about the contract. There are a host of issues associated with those attempted modifications. Problem 8-3 Encapsulates the justifications for non-performance and the modification criteria. Alaska Packers Assoc. v. Domenico Plaintiffs were fishermen who agreed to go to Alaska on a ship, to do regular ships duty and any other workwhen requestedby the captain or agent of the [defendant]. When plaintiffs arrived in Alaska, they stopped work and demanded more money and threatened to strike. Having no other options the superintendent obliged, butnotified plaintiffs he had no authority to enter into or modify existing contract. At the end of the season, the company refused to pay other than as provided in the original contract. Court held Plaintiffs gave no additional consideration for the modification of the wages(asked to be paid additional money without being required to do any more work or give any additional consideration.) All plaintiffs were obligated to do was perform their pre-existing duties. This is: PRE-EXISTING DUTY RULE. Under Common Law, a modification must be accepted but must also be supported by consideration (can be minimal) UCC 2-209(1) provides that an agreement modifying a contract covered by Article 2 needs no consideration to be binding. UCC takes a different position & does not follow the common law pre-existing duty rule. Because of the advent of 2-209, some courts have been more likely to stretch their analysis under common law when faced with the pre-existing duty rulethey try harder to find consideration or a substitute (like unforeseen circumstances or the reliance doctrine). Note: Article 2 imposes an obligation of good faith on the parties, which provides some protection against one-sided modifications. Also, under Article 2 you can use the common law defenses of mistake, economic duress and the like. 44

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Contracts IIHammond Spring 2011

Exceptions: Unforeseen Circumstances In R 89(a) A modification may be binding without considerationif it is fair and equitable in view of circumstances not anticipated by the parties when the contract was made. If the unforeseen circumstances are bad enough, you would use an impracticability excuse with respect to the original contract, & the modification simply becomes a new contract that replaces the one from which you were excused. Example[Alaska Packers] For instance, if the packers could show that the defective nets made the $50/$60 contracts impracticable, those contracts would be unenforceable. Then, the $100 contract would be a new contract exchanging $100 for the work done on the ship No pre-existing duty problem, because the pre-existing duties were contained in a contract that has been invalidated for impracticability.

Exceptions: Reliance In R89(c) a modification may be binding without consideration if the other party materially changes position in reliance on the promised modification & justice otherwise requires. Employee Manuals Normally the policy manual is incorporated into the employment agreement at the time the agreement is formed. If the company updates the policy manual, it can be viewed as changing a part of the contract, but no new consideration has been given by the company to the employee. Should these be valid? Although this appears to violate the pre-existing duty rule, some courts permit it if the employer gives reasonable notice and without interfering with any vested benefits. If, however, the benefits are deemed vested, the modification of the employee manual is invalid without consideration being given to the employee. Many manuals expressly state they are only policies subject to change at any time, and not part of the employment contract. Demasse v. ITT Corp (984 P.2d 1138) (1999) Issue:Whether an employee handbook providing that senior employees will not be laid off ahead of junior employees could be unilaterally changed by the employer, assuming the handbook has become part of the employment contract. In 1989, ITT modified the handbook to say the company reserved the right to amend, modify or cancel the handbook, and employees were required to sign an acknowledgement they received and understood the handbook. Four years later, ITT modified the handbook again, this time to say layoffs would occur based on abilities and documentation of performance. For the modification to be valid, there must be: offer, acceptance and consideration. In 1989, ITT offered to modify its handbook/agreement with employees, but there is no indication the employees accepted or received any consideration. The court said that continued employment alone does not constitute consideration for modification. Nor does it constitute acceptance, since the only other option is to quit. The court said it is assent only if they have legally adequate notice, which must be something more than awareness of or receipt of the new handbook. The court explicitly said that if the handbook term is non-contractual, they can be revised unilaterally. The court also said if the handbook from the outset declares that the handbook is not part of, or is itself, a contract, then it can be revised unilaterally.

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Note: The agreement itself may say the Company employment policy, as it may be amended from time to time, is hereby incorporated by reference and made part of this agreement. In that case, the employee has agreed in advance to future changes. Other Defenses Kelsey-Hayes (KH) v. GaltacoRedlaw Castings (GR) KH made car brakes and got its castings from GR. They signed a 3-year requirements contract with a fixed price with a scheduled price reduction in 1988 and 1989. GR was losing money; decided to quit castings business. GR offered KH an agreement to keep the foundries operative for several months in exchange for a 30% price increase. It would have taken KH 18-24 weeks to find another supplier, and not having a supplier would shut down the Ford and Chrysler assembly plants, so KH agreed. Later, GR said it needed an additional 30% price increase to keep going, because the foundries were now open solely for KHs benefit. KH again agreed. After its last scheduled shipment to KH, GR shut down the foundries. KH paid for about 70% of the deliveries but withheld approximately $2 million for the other 30%, which constituted the price increase portion. KHs argument as to why it shouldnt pay the price increases? Duress, unconscionability, bad faith and unjust enrichment. Elements of economic duress: (1) Wrongful threat, (2) Absence of Reasonable Alternative, (3) Threat induced making of modification Rule: In order to state a claim for economic duress a buyer coerced into executing a modification to an existing agreement must at least display some protest against the higher price in order to put the seller on notice that the modification is not freely entered into. Compare common law to UCC 2-209 Castings are goods = covered by Article 2 = no consideration is needed for the modification. Remember the pre-existing duty rule is a common law rule, not applicable to UCC. NOTE: Courts often require a good faith defense to modifications, and also to economic duress defenses to modifications. But person asserting the defense MUST protest the modification. Statute of Frauds and Modification Common Law o Under the common law, if the modification relates to a material term of the original contract, the modification of that term must be in writing even if the original writing already satisfies the SOF. UCC 2-209(3)reqs of 2-201 must be satisfied if contract as modified is w/in its provisions. You can read this two ways: 1.Majority viewIf the contract as modified is within 2-201, the modification has to be in writing. 2. If the contract as modified is within 2-201, you have to satisfy the SOF, but you can do it with any writing (the original or the modification) If the original contract was not within the UCC SOF (i.e., <$500) and after the modification it is over $500, then? The courts are split; generally though, the modification has to meet the UCC SOF requirements. But the quantity term MUST definitely be in writing, because its an essential term to agreement 46

Contracts IIHammond Spring 2011

Contracts IIHammond Spring 2011

ExampleUCC 2-209(3) Imagine the original contract calls for delivery of 100 hams at $4.50 per ham, for a contract of $450. This is not within the SOF and does not have to be in writing. Suppose the parties orally modify the agreement to make it 200 hams at $4.50 a ham. The modification must be in writing, because now the contract is for $900 and it is within the SOF. ? If the original contract was in writing and satisfied the UCC SOF, but the quantity is changed in the modification, what then? The modification has to meet the UCC SOF requirements, because under 2-201 a contract is not enforceable beyond the quantity stated in the writing. (Must be in writing because quantity is essential term.) No Oral Modification Clauses Under 2-209(2), the UCC upholds no oral modification clauses in contracts. Under common law, such clauses were routinely ignored, particularly if the party who wanted the modification to be valid had relied on the modification. This is sometimes called a private statute of frauds, because even if the SOF wouldnt require the modification to be in writing, the contract does. Brookside Farms (BF) v. Mama Rizzos (MR) BF and MR had a contract by which MR would purchase basil during one year term. Price depended on the season, with higher prices applying during non-growing season. After contract was executed, the president of MR asked BF to remove stems (was not required by the original contract.) BF agreed for an extra $.50 per lb. Agreement prohibited oral modifications, so president of MR said he would note it on MRs copy of contract. BF then invoiced MR at the new price. Later, parties agreed to a higher price for imported basil. MR ordered more basil at the higher price and wrote a check, but check bounced. BF sued MR. MRcontended the last price modification was invalid under the terms of the contract, because the contract required modifications to be in writing. ? Are oral modifications to a contract valid under the UCC? 2-209(3) says that SOF in 2-201 applies to contract modifications if the contract, as modified, is within the provisions of 2-201 (i.e., the as modified contract involves a sale of goods more than $500). There are exceptions to the SOFThe first is the statutory exception in 2-201(3)(c) for goods which have been received and accepted. Receiving and accepting goods with knowledge of the modification bypasses the SOF on those grounds. Also, there is the common law exception of promissory estoppel which would take this out of the SOF. A promise to note the modification on a contract is a promise upon which other party could reasonably rely.

Waivers 2-209(4) Under 2-209(4), even if a modification does not satisfy the statute of frauds, or does not satisfy a no oral modification clause the attempt to orally modify may operate as a waiver of a provision if the other partys conduct indicates assent to it. In other words, although it may not technically satisfy the modification requirements in 2-209, when the parties orally agreed to the modifications, it can be viewed as them waiving their rights under premodified version. 47

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Waivers How to determine when there is a waiver if the modification is not otherwise valid? A waiver is generally an intentional relinquishment of a known right; paid consideration not necessary, unless it applies to a material term. It normally does not excuse a duty of a party, but rather excuses certain other conditions surrounding the duty. Example If Seller is supposed to deliver goods by 5:00 p.m. Friday, a waiver could excuse the 5:00 deadline but not the performance altogether. Suppose the parties orally modify the contract to change the deadline to midnight on Saturday. Seller delivers the goods at 11:00 p.m. Saturday. Buyer complains and says the delivery is late, and he isnt paying. He says there is a no oral modification clause, so the modification is technically invalid under 2-209(2). However, we may construe the Buyers assent to the oral modification as a waiver of the 5:00 deadline in the original agreement. Since the seller delivered at 11:00 on Saturday, the Seller has performed. Mutual Rescissionif both parties agree not to perform as contracted (consideration is giving up what you were contractually entitled) Suppose one party wants to modify his performance (pay less, do less, do it differently) without providing any consideration, and the contract is governed by common law. If the parties mutually agree to rescind the original contract, and enter into a new contract, is the new contract upheld? o Yes, this is a substituted contract. Most courts will hold that the substituted contract discharges the original contract and replaces it with the substituted contract Novation If the parties mutually agree to discharge one of the contract parties, and substitute a third party, it is called a novationsubstituting someone else to take discharged partys place. Example #1 Mindy loans John $100 pursuant to a contract. John has to pay it back on a time schedule. John, Mindy and a third party, Ralph, decide that Ralph will perform Johns obligations to pay Mindy. At that point, we have a novation. John is off the hook. Ralph is substituted for John, and this modification is valid. Example #2 Mindy loans John $100 pursuant to a contract. Mindy happens to owe $100 to Ralph. Mindy, John and Ralph agree that John should simply pay Ralph the $100. In other words, Ralph steps in as the obligee of Johns promise. Johns promise must be rendered only to Ralph. He has no further obligation to Mindy.

Accord and Satisfaction Accordwhen the parties agree that the promisee will accept a different performance from the promisor than the performance stated in the original contract. Generally, there must be consideration to support an accord, unless the amount is in dispute. 48

If the amount owed by the promisor is in dispute (because of a calculation or interpretation), the accord needs no extra consideration to be valid. However, if there is no dispute with respect to what is owed and the parties want to change the contract then it is merely a Modification. Effect of Accord An accord suspends the promisors performance under the original contract, pending his performance under the accord. These are really just proposed modifications, with a little bit of a twist, because an accord does not discharge the original contract duties the way a modification replaces the original contract. Accord & Satisfaction Examples ExampleSuppose I borrow $1,000 from the bank. Now it is time to pay it back. I tell the bank I dont have $1,000 cash, but I have $1,100 worth of furniture I can give you to pay off the debt. The bank accepts. This would be an accord. The bank has accepted a different performance than required under the original contract. The consideration the extra $100 worth of property for the $1,000 debt. My obligation to pay $1,000 is suspended, pending me providing the furniture. Suppose the furniture is worth $1,000. Then there must be separate consideration for the accord to be valid, because the amount is not in dispute. ExampleSuppose I borrow $1,000 from the bank. Now it is time to pay it back. I say to the bank, I cant afford to pay you $1,000. Ill give you $900 to discharge the debt. I then write a check, and the bank cashes it. Has the bank accepted the $900 in lieu of getting the original performance of $1,000? Probably not. The bank has not received any consideration for receiving less on the payment of the debt. And the amount is not in dispute. No accord. Same issue, except the bank claims I owe $1,250, which constitutes the principal of the loan, the interest and some late fees. I claim that is the wrong amount. I claim I owe only $1,100, representing the principal and the interest, but no late fees. So I write a check for $1,100 to the bank and I write on it paid in full. I give this to the bank and say you can have this only if it is in full settlement of the debt. The bank takes the check and cashes it. UCC 1-207(2) Does the accord and satisfaction principle apply under the UCC too? Yes. The UCC doesnt specifically address what constitutes an accord and satisfaction. It leaves that to common law. But 1-207(2) makes it clear that writing under protest or reservation of rights has no effect on the accord and satisfaction analysis. Also, keep in mind that modifications under the UCC require no consideration. So, accords under the UCC may not require consideration even if they are liquidated. On the other hand, accords have not traditionally been treated as modifications. Modifications discharge the original duties; accords do not. Accord vs. Modification How do you know whether the parties have agreed to an accord (merely suspending the original performance of the promisor) or a modification (discharging the original performance of the promisor)? The court tries to determine what the parties intended. Did the promisee intend to discharge the promisors original performance when the promisors obligations were altered, or was it merely an accord awaiting satisfaction and retaining the right to sue promisor if the satisfaction did not occur. 49

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Contracts IIHammond Spring 2011

Satisfaction Satisfaction is when the promisor actually performs the promise made in the accord. That is, I pay the bank $1,100. Or I deliver the $1,100 worth of furniture to the bank. Effect of Satisfaction Once the promisor satisfies the accord, the duty under the original contract is discharged (because it was replaced by the accord). If the parties make an accord, but the promisor never satisfies the accord, the promisee has the right to sue under either the original contract promise or the promise made under the accord, because the original agreement was never dischargedit simply suspended it. However, if the promisor satisfies the accord, the original promise is discharged.

Chapter 10Consequences of Non-performance: Express Conditions, Material Breach, and Anticipatory Repudiation a. Express Conditions Contract Contents and Required Performances We now transition to the contents of the contract and the performances required, rather than defenses, excuses and modifications. Covenants (Promises) vs. Conditions Covenantspromises to undertake action or refrain from something after the effective date of the agreement. Failure to perform a covenant is a breach: failure to perform as promised. If the promisee is damaged by the breach, there will be a contract remedy for the promisee. Unlike covenants that are promises to take or not take action after the effective date of the agreement, and which provide a remedy for breach, express conditions simply define events that have to happen before either party is obligated to perform. Unlike the covenants, the conditions are not promises in and of themselves. Accordingly, you cannot breach a condition. Conditions are not breachedthey fail or are satisfied.

Covenants (Promises) vs. Conditions Promisescommitment to do or refrain from doing something. Promise in contract may be conditional or unconditional. o Unconditional promise is absolute. If promise is unconditional, failure to perform according to its terms is breach of contract o Conditional promise may become absolute by occurrence of condition. Conditionevent, not certain to occur, which must occur, unless its nonoccurrence is excused, before performance under contract becomes due (R. 2d K 224) Interpretation of provision as promise or condition Basic testIntent of the parties Criteria in determining intent (1) Words of agreement, context of entire agreement (2) Prior practices (3) Custom with respect to that business in the community 50

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(4) Third-party performanceIf performance is to be rendered by third-party, more likely to be condition than absolute promise (5) Courts prefer promise in doubtful situations Effect of Failure of Condition If a condition fails, the person whose obligation was subject to the condition can simply choose not to perform his/her own obligations (walk away). There is no remedy for breach, unless there is a separate covenant that has been violated. HypoPromise or Condition? Example Stephen contracts to build house for Nancy using pipe of Reading manufacture. In return, Nancy agrees to pay Stephen $100k. Without Stephens knowledge, subcontractor mistakenly uses pipe of Cameron manufacture, which is identical in quality and virtually indistinguishable from Reading pipe. The substitution is not discovered until the house is completed, when replacement of pipe would require substantial destruction of house. Nancy refuses to pay Stephen. Installation of Reading pipe was a promise, not a condition of contract. Therefore, Stephen has claim against Nancy for $100k, subject to her claim against him for breach of duty to use Reading pipe. To treat it as a condition would be unfair to Stephen, because he would be penalized in an amount far greater than the amount of damage suffered by Nancy. Oppenheimer & Co. v. Oppenheim, Appel, Dixon & Co. Oppenheimer & Co. had offices in One New York Plaza but wanted to move to the World Financial Center. Oppenheimer was under a lease at One New York Plaza, but defendants (OAD) were willing to sublease it. Under the proposed sublease, defendants would execute the sublease upon satisfaction of two conditions. Oppenheimer satisfied first condition on time, but did not provide defendants with landlords consent in writing (only verbally told defendants lawyer). Defendants said the express condition failed and the sublease would not be executed, leaving Oppenheimer liable for both leases. Oppenheimer sued on grounds that defendant had waived or been estopped from enforcing the conditions, and that Oppenheimer substantially performed the conditions and sought damages. Rule: Express conditions are formalistically enforced, and the doctrine of substantial performance does not apply. Language is construed as an express condition only if it is expressed in unmistakable language. Substantial performance not enough when there is an express condition within the contractual agreement. Express Condition vs. Promise How do you know if language is an express condition or a promise? What constitutes unmistakable language? If the language is clearly expressed as being an express condition (or unmistakable in the language of the Oppenheimer opinion), it will be so treated. Cardozo in J&Y says the parties are free by apt and certain words to effectuate a purpose that performance of every term shall be a condition of recovery. R2d K 226Express or Constructive Condition Parties can either agree that an event is a condition (express condition) or the court can determine that the event is a condition (constructive condition). Express ConditionTypical phrases The words express condition included in the clause itself: i.e., Pillas performance is expressly conditioned upon If/then statement: If Elan does the task, then Dee will pay. 51

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As long as: As long as Janet performs the task, then Dee will pay. Provided that: Dee will pay Pilla, provided that Pilla performs the task. in order to: In order for Dee to pay, Elan must perform the task. in the event that: In the event that Elan performs the task, then Dee will pay.

Promissory languageTypical Phrases Pilla promises to perform the task Janet agrees to perform the task Elan shall/must/will perform the task Express ConditionExample What about: Elan shall perform the task as a condition to payment from Pilla? Express condition or promise? Probably an express condition. Although it says shall, it states it in the context of a condition to getting paid. Ask: Is the intent for Pilla to sue Elan if Elan fails to perform the task, or is the intent for Pilla to simply not pay if Elan fails to perform the task? Ambiguous Language If the language is ambiguous it will likely be construed as a promise, not a condition, particularly if construing it as a condition would result in undue hardship or forfeiture to the plaintiff. Note: The ambiguity analysis relates to whether the language indicates a condition or a promise. You should not be asking whether the language is subject to interpretation in substancei.e., whether it clearly expresses what the parties want. That is an interpretation issue. You should be asking is this unmistakably an express condition? If yes, then you apply an express conditions analysis. If no, you probably will treat it as a promise and follow breach principles. Substantial Performance The doctrine of substantial performance does not apply to express conditions. Theres more risk of forfeiture with express conditions, so if the language is ambiguous, the courts err on the side of promises and do a breach analysis. Intent of Parties Aside from the contract language, also look to the intent of the parties. Failure of Express Condition When an express condition fails, the obligation triggered by meeting the condition need not be performed. If it is a promise, not an express condition, and it failsThen the cause of action is for breach by the nonbreaching party. Language can be both a condition and a promise. The promisee can sue on the breached promise, or the person whose performance was conditioned upon the event can walk away. Material Condition Most courts, say materiality is not part of the analysis with express conditions. The parties have spoken on the issue. If they want materiality to be a factor, they should say so as part of the express condition. Waiver Note: Waivers dont require consideration unless they are waiving something material. If consideration is given for the waiver, it is non-retractable.

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If it is a waiver of an immaterial condition, then it is retractable before the time for performance is due, unless the other party has relied upon it or the waiver has made a retraction unjust. It is not retractable after the time for performance is due.

Estoppel Equitable argumentsomething that equity requires a remedy for because of a partys reliance. Waiver vs. Estoppel Note that estoppel may be used where there was an intentional relinquishment of a right but a waiver cant be found because the condition was material and no consideration was provided. Since there was an intentional relinquishment, there is something to rely on. Sometimes if a party silently accedes to conduct but is not found to have intentionally relinquished, estoppel may be a strong argument.

Prevention What is the doctrine of prevention? Prevention is when the defendant does something to cause the failure of the condition. He cannot then insist on strict compliance with the condition (i.e., he cannot insist that the conditions failure excuses his performance). Equitable Relief from Conditions J.N.A. Realty v. Cross Bay Chelsea (CB) JNA, a landlord, leased commercial space; lease had option to renew for 10 year term if six months notice given by lessee. Lease assigned to CB with modification providing CB with an option to renew lease for 24 years. Original lease set to expire if notice was not given by 7/1/73. On 11/12, JNA notified CB the option had expired and they must vacate. CB sent notice of option exercise on 11/16, but JNA refused to accept it because it was untimely. Rule: If default on an option (1) results in forfeiture to the optionee, (2) was only the product of accident, negligence or honest mistake and (3) the optioner has not been prejudiced, the optionee is entitled to equitable relief. NOTE: Lease with an option is more valuable, likely to be more expensive too (consideration).* What is the express condition? JNA will renew the lease with Cross Bay for an agreed rental if Cross Bay gives notice of exercise of the option on or before July 1. J.N.A.Forfeiture Since CB had invested in improvements to property, losing the long-term lease would cause them to forfeit those improvements. In addition, to the lost customer goodwill. Note: The loss of the option itself is not the forfeiture, because Chelsea was never entitled to the extra 24-yr period. Theres no forfeiture of the option if you never had the right to the option. In addition, loss of any consideration paid for the option cannot be the forfeiture, because the consideration given for the option was the equivalent of the right to exercise the optionthus it has all been spent for value in returnnothing forfeited. Forfeiture may involve either a reliance or restitution-type interest. Negligence In and of itself, it is not a material factor in denying relief 53

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However, if party can show on remand that it was prejudiced, then the combination of the two may warrant denial. Tenants negligence will be excused so long as it was not intentional and so long as the landlord is not prejudiced. Dissent: That optionees will wait until the time has expired so they can wait for a better, cheaper alternative to arise. If there is a cheaper alternative, they have no obligation under the existing lease b/c they the option has expired and theyll take the better 3d party deal. If there is no cheaper alternative, they will claim equity and get the renewal anyway. The dissent would not permit recovery if the optioneewas negligent. It would treat the negligence as a more important factor than the majority, who says mere negligence isnt enough to deny relief unless the optioner was prejudiced. Equitable Relief from Conditions TWO POINTS OF VIEW: There is a split of authority among the jurisdictions on the granting of equitable relief from conditions, so you need to be aware of both the majoritys opinion and the dissents view, as expressed in J.N.A. There is a strict court which will not excuse a forfeited express condition and there are more lenient courts like the JNA court which do. What you have to consider is whether the tenant has made substantial improvements to the property. Deadlines as express conditions can be manipulated. Options to Purchase Real Estate Courts hold optionees to the time periods for options to purchase, presumably because there is no forfeiture as there would be in a lease case where the lessee made improvements. Optionees do not construct improvements on land they do not yet have a right to use. R. 229 Forfeiture To the extent that the non-occurrence of a condition would cause disproportionate forfeiture, a court may excuse the non-occurrence of that condition unless its occurrence was a material part of the exchange. This is recognition that courts can use their equitable powers if they see that the failure of a condition will result in a significant forfeiture to one of the parties. Note that the court will not exercise this equitable power and excuse the condition if the condition was a material part of the bargain, because the forfeiture has to be disproportionate. R. 229 Comment b Must weigh the extent of the forfeiture against the importance to the obligor of the risk from which he sought be protected In other words, if it was a material part of the bargain, then it has heavy weight on the importance to the obligor, and it will be hard to find a disproportionate forfeiture. R. 228Satisfaction as Condition When an obligor's duty is made conditional on his satisfaction with the obligee's performance, and it is practicable to apply a reasonable person standard to the satisfaction, do so Courts generally apply a subjective/good faith standard to satisfaction in matters of personal aesthetics In matters capable of an objective assessment of satisfaction, apply a reasonable person standard Construing Conditions of SatisfactionReview Morin Building Products v. Baystone Construction (BC) 54

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BC hired to build a factory plant. BC hired Morin, a subcontractor to erect aluminum walls with mill finish. Contract provided that the aluminum walls were subject to the satisfaction of GMs agent. GM did not approve of the walls, bc when the light hit them at a certain angle, the finish appeared uneven. BC claimed the condition of satisfaction by GM was not met, and withheld payment from Morin. The satisfaction clause must be determined in light of objective criteria, rather than subjective criteria. Thats because contract was for a utilitarian building. If it had been a contract for personal aesthetics or artistic effect, a subjective criteria could be used, but GM would have to have honest dissatisfaction to claim the satisfaction condition was not met. (Cannot lie about satisfaction for purposes of avoiding express contractual condition). R.228 Preference for the objective standard, particularly where using the subjective standard would cause a forfeiture by the performing party. In Morin, there would be significant forfeiture of effort by Morin if BC permitted to refuse payment based on subjective lack of satisfaction. UCC Satisfaction ConditionsReview Under 1-201(b)(20) (defining good faith) and 1-304 (imposing good faith) of the UCC, every contract performance must be rendered with honesty in fact and in accordance with standards of commercial reasonableness. Thus, the UCC employs BOTH a subjective test and an objective test to every contract when determining whether a satisfaction condition is met or not. Note that states have been slow to adopt the two part standard of good faith for all parties. The states often prefer that the objective test of commercial reasonableness not be applied to non-merchants. Nonmerchants have only the honesty in fact standard and merchants have both. Can the parties contract for a different standard? The UCC does not allow the parties to eliminate the duty of good faith but they may agree to standards of how good faith is determined. More likely to work in a contract between merchants than in a contract involving a consumer. B. Material Breach Failure to Perform This section deals with what happens when the time for performance has arrived, but at least one party has failed to perform entirely or has performed inadequately. The failure to perform is a breach, unless the failure to perform is legally justified. ? Does the non-legally justified failure to perform excuse the performance of the non-breaching party who has not yet performed his end of the bargain? Substantial Performance Jacob &Youngs, Inc. v. Kent Contractor agreed to construct a house for K. K specified he wanted pipe of Reading manufacture. Contractor inspected first 1,000 feet of pipe and it was correct, so started installation. But, next 1,000 to 1,500 ft. did not conform. K later discovered this, repair would have required tearing the walls out, etc. Contractor sued for a portion of the unpaid construction price that K withheld (K withheld final payment because could not obtain architects certificate because pipe was wrong.) Contractor brought suit on grounds the pipe was of equal kind and quality. Cardozo found that though contractor had breached, the breach was not sufficient to permit K to withhold the final payment because only a substantial deviation from the contract would justify nonperformance by K, and here the pipe was of the same quality. 55

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Damages Though K is entitled to damages (bc contractor was in breach of contract), it was not at the level of replacement cost. Instead, his measure of damages is the difference between the value of the thing received as opposed to the value it would have had if the contract was performed correctly. In this case, there was no diminution of value, so K would recover nothing & he owes Contractor final payment. ? What happens when you are entitled to damages because the other party breached, but the breach was insubstantial? YOU DO NOT GET FULL AMOUNT OF $$ BECAUSE WAS MINOR DEVIATIONmay get nominal damages, thats it. Compare Express Conditions with Constructive Conditions Cardozo said you can satisfy constructive conditions with substantial performance, because to do otherwise would result in a disproportionate remedy. ? If the failure to perform is material, meaning there was a substantial deviation, the aggrieved party may walk away. ? If the failure to perform is immaterial and there is insubstantial deviation, the breaching party must complete performance and will be entitled to full compensation (though total should factor in the minor breach.) The reasoning is that the cost of remedying the defect (tearing house down and re-installing pipe) is disproportionate to diminution in value of contract due to installing non-Reading pipe. Substantial performance by J&Y was enough to keep K from walking away from the contract. If there had been an express condition that Ks performance (payment) was dependent upon Reading pipe, then the doctrine of express conditions would have let him walk away Reason why wording is so important!! The express conditioning of a term is critical! ? E.g., Contract states: Ks duty of making the final payment due under this contract is conditioned upon the use of Reading pipe; no other brand of pipe can be substituted. When Non-Performance Justifies Withholding of Return Performance Assuming a condition does not fail, giving you the chance to walk, the J&Y case seems to indicate you are entitled to withhold your performance if the other party has not substantially performed. In terms of material breach, substantial performance almost always leads to conclusion of immaterial breach If you expressly say you want something, you are entitled to get it (Master of the Offer!!), without any deviation from anybody! So, substantial performance will not apply to an express condition. Conversely, when dealing with a constructive condition (party did not PRECISELY SPECIFY what he/she wants)then a minor deviation, will be considered immaterial and will not justify damages. Thus, a minor deviation will not excuse other partys obligation to perform (i.e., make final payment for work done, albeit out of compliance with a constructive condition) Material Breach/Substantial Performance No exact formula and Cardozo doesnt supply an answer Except to say you judge it on a case-by-case basis. Must weigh: (a) The purpose to be served (b) The desire to be gratified, (c) The excuse for deviation from the letter and (d) The cruelty of enforced adherence. MUST BE ON EXAM FOR HAMMOND!!

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J&YMaterial Breach Which of those factors is most prevalent here? Presumably the cruelty of enforced adherence, because the law is slow to impute the purpose, in the silence of the parties, where the significance of the default is grievously out of proportion to the oppression of the forfeiture. ? What is that supposed to mean? J&YHypo & Dissent What if K wanted Reading pipe not because of the quality of the pipe, but because his brother was the president of the Reading Pipe company? That would be different; then there would be some diminution in value to him, but it would be awfully hard to measure. The purpose to be served would be stronger in favor of K. Is there an express condition? If parties had expressly written into the contract: Contractor will perform its duties hereunder and will strictly observe the Owners requirements as a condition to payment Then you have an express condition, which if not met, means the owner, as Master of the Offer, need not perform his part of the bargain (i.e., payment). Cardozo says the parties are free by apt and certain words to effectuate a purpose that performance of every term shall be a condition of recovery. Bottom line: If you want strict adherence or else youll walk away, then make it an express condition. J&YDamages Measure of damages is the difference between the value of the thing received and the value it would have had if the contract was performed correctly. In this case, there was no diminution of value, so K would recover nothing and owes Contractor the final payment. IMPORTANT: No one is claiming that J&Y did not breach. They breached. K has a remedy. Its just that the computation of the remedy here happens to be $0. Do not make the mistake of thinking that substantial performance means you have not breached. You have, because only full performance avoids a breach. The question is the seriousness of the breach, which affects the non-breaching partys remedies, and whether he himself has to perform. Doctrine of Constructive ConditionsDistinguished from express conditions. What are express conditions? ? Express conditions are expressly stated in the contract, and refer to justified (and negotiated) reasons that someones performance is excused. If the condition fails, then the person whose performance was conditioned on the condition does not have to perform. And thats not a breach.

Express vs. Constructive Conditions Example A contract to purchase a business might say, Buyers obligation to purchase the business is conditioned on Buyer obtaining prior approval of Buyers board of directors and shareholders. If the board or shareholders of the Buyer dont approve, the condition isnt met and the Buyer does not have to perform (absent prevention, lack of good faith effort, etc.) ? Suppose the contract instead says Buyers obligation to purchase the business is conditioned on Seller replacing the defective wiring in the south side wall within 30 days of the date hereof. If 57

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the Seller does not replace the wiring by the deadline, the Buyers obligation to buy is excused. In fact, the Buyers obligation to buy really never arises. Express conditions are either met, or not if Seller gets 80% of the wiring replaced within 30 days, the condition failed, and buyer is excused from buying, even though the Seller came very close to getting there. Constructive Conditions What are constructive conditions? o Constructive conditions are conditions that are not expressly found in the contract, but which the court implies in the contract. Very important to notecourt implies the constructive condition. If a condition is implied by the parties themselves, it is treated as an implied condition, and that gets the same treatment as express conditions. Example Constructive Condition The simplest form of constructive condition is in a bilateral contract, where the promise made by one party is implicitly conditioned on the other party performing his promise. For instance, suppose Im supposed to buy your car on Friday for $10k. Our contract says only this: I promise to pay you $10k on Friday and you promise to hand over the keys to your car. ? We have each made a promise, and there are no express conditions. Are there any constructive conditions? My obligation to pay you $10k is obviously conditioned upon you delivering the car, and you delivering the car is conditioned upon me paying you for it. If I dont pay you, the constructive condition fails, and you dont have to deliver the car. Similarly, if you dont have the keys and the car, the constructive condition fails and I dont have to pay you any money. Substantial performance is relevant only to constructive conditions Unlike dealing with express conditions, substantial performance is relevant to constructive conditions. Minor deviations from performance of a constructive condition will not result in a failure of the condition and will not excuse performance by the other party. Constructive Conditions The purpose of the doctrine of constructive conditions is trying to determine what the non-breaching partys obligations are. We know that if someone breaches, the non-breaching party gets damages. But can the nonbreaching party also walk away from his own obligations? Constructive conditions doctrine says no, if the breaching party substantially performed. But if breaching party did not substantially perform, then non-breaching party can walk away. Remember theres no actual express condition; its what Cardozo calls a dependent promise. Performance of my promise is dependent upon you performing your promise. If you substantially perform your promise, then I have to perform mine and sue you for whatever Ive lost because you didnt fully perform. If you fail to perform your promise and you didnt substantially perform, then the constructive condition has totally failed, and I can walk away. Substantial performance and constructive conditions While any and all breaches give rise to right to recover damages, only material breaches are sufficient to give the victim the right to withhold. Overreacting to a minor breach by withholding performance makes the victim of the minor breach the material breacher.

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i.e., Harry contracted to build a house for Elizabeth for $350k payable upon completion. Harry's obligation to build is a promissory condition. It is both a promise and a constructive condition to Elizabeth's duty to pay. Harry stops performance when the house is completed except for the gutters and downspouts that were included in the plan. Harry had breached the promise to build in accordance with the plans and Elizabeth can recover damages for breach. However, Harry had substantially performed his obligation and the constructive condition to Elizabeth's duty to pay has been fulfilled. Elizabeth has the duty to pay the contract price minus damages.

Total Breach Sackett v. Spindler Spindler owned a majority of the shares of a newspaper & contracted to sell them to Sackett. Sackett made the first two payments but not the last, bc check bounced; they extended the payment date three times, but no payment was made. Sackett then aid he was willing to pay, but Spindler said he was no longer willing to sell, unless he agreed to pay in cash which did not happen. Spindler sold the paper to another buyer. There was no question Sackett breached, and that breach was total. RULE: Court treats total as equivalent to material and found Sackett materially breached, thereby justifying non-performance by Spindler. How would this work with constructive conditions? Promise from Sackett to make payments and promise from Spindler to sell stock, there are no obvious express conditions. However, Cardozo would say these promises are dependent upon each other. Spindlers obligation to sell the stock is dependent upon Sackett performing his promises (payment). So, each partys performance is a constructive condition of the other partys performance. Sackett didnt substantially perform = constructive condition not met = Spindler free to walk away. Here, the court talked in terms of total breach instead of constructive conditions. Meaning, Sacketts breach is so bad (i.e., no substantial performance) that Spindler can walk away. Sackett v. Spindler--Damages Since there was $59k outstanding on the payment and he netted only about $22k on the resale, the damages would be $37k (he gets to keep the $26k he already received from Sackett). These are expectation damages. Note, however, that Spindler ultimately will get $63k from Sackett (between the amount already paid and the damages) plus $22k from the new buyer, for a total of $85kwhich is what he was supposed to get. Sacket gets NOTHING because he was a material breacher. In cases like this, the aggrieved party HAS a duty to mitigate the damages caused by breaching partys failure to perform. The Court in Sackett treats total and material breaches as the same thing, but the Restatement 241does not Materiality governed by factors in 241; separate analysis for whether breach is total in 242. R 241 Circumstances Significant in Determining Whether a Failure Is Material In determining whether a failure to render or to offer performance is material, the following circumstances are significant: (a) The extent to which the injured party will be deprived of the benefit which he reasonably expected; (b) The extent to which the injured party can be adequately compensated for the part of that benefit of which he will be deprived; (c) The extent to which the party failing to perform or to offer to perform will suffer forfeiture; (d) The likelihood that the party failing to perform or to offer to perform will cure his failure, taking account of all the circumstances including any reasonable assurances; (e) The extent to which the behavior of the party failing to perform or to offer to perform comports with standards of good faith and fair dealing. 59

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R. 241 Examined Extent to which injured party will be deprived of the benefit which he reasonably expected The lesser the injury, the more likely it is not material. Extent to which injured party can be adequately compensated for the part of benefit he is deprived The easier it is to compensate the non-breaching party, the less likely it is material. This is a confusing factor that should not have too much reliance placed on it. Extent to which the party failing to perform or to offer to perform will suffer forfeiture If the breaching party will suffer a large forfeiture, less likely to be considered a material breach. Likelihood that the party failing to perform or to offer to perform will cure his failure, taking account of all circumstances including reasonable assurances The greater the likelihood of cure, the less material the breach. If it looks like the non-breaching party will not cure at all, the breach is material (and probably also total). Extent to which the behavior of the party failing to perform or to offer to perform comports with standards of good faith and fair dealing. If breaching party acted in good faith and with fair dealing, less likely to be a material breach. R. 242 Circumstances Significant in Determining When Remaining Duties Are Discharged In determining the time after which a party's uncured material failure to render or to offer performance discharges the other party's remaining duties to render performance under the rules stated in 237 and 238, the following circumstances are significant: (a) Those stated in 241; (b) The extent to which it reasonably appears to the injured party that delay may prevent or hinder him in making reasonable substitute arrangements; (c) The extent to which the agreement provides for performance without delay, but a material failure to perform or to offer to perform on a stated day does not of itself discharge the other party's remaining duties unless the circumstances, including the language of the agreement, indicate that performance or an offer to perform by that day is important. e.g., Time of the Essence Clauses Immaterial Breach: Consequences If the breach is not materialwhat are the consequences? There is an Immaterial Breachthe breaching party is liable to the non-breaching party for any actual damages caused by the breach. The non-breaching partys performance is not discharged, however. They must perform & then seek a remedy for damages (if any). Cardozo reqd this in J&Y Material BreachConsequences Partial Material Breach Failure to perform a promise, w/o excuse, that goes to the heart of the contract, but which may be cured Allows the non-breaching party to sue for damages, and the non-breaching party can hold his own performance in suspension until the breaching party cures. Suspending vs. Discharging Performance Note: Suspending performance and Discharging performance are not the same thing. If the non-breaching partys performance is suspended, cannot simply abandon contract. If the breaching party cures, the suspension is over, and the non-breaching party must perform and then seek damages if he suffered any while waiting the cure. 60

Even if she cures, the breaching party will be liable for any actual damages caused to the nonbreaching party for non-performance (i.e., damages from the delay in completing performance). Total Material Breach Failure to perform a promise, w/o excuse, that goes to the heart of contract, but which may not be cured i.e., When time was of the essence and cure would be too late, or when the breaching party has no intent to cure. A total material breach allows the non-breaching party to sue for damages and terminate his own performance forever. When does a partial material breach become a total material breach? Under 242, a material breach becomes a total breach if: (i) Delay may prejudice the non-breaching party to the point where she is unable or hindered in making alternative arrangements or (ii) If contract itself provides for performance w/o delay (such as w. a time is of the essence clause) Comments to 242 also say it can be important whether the injured party reasonably communicated his grievances to the breaching party and sought satisfaction. There can be no total breach under 242 unless there is a material breach under 241. (Go hand in hand)

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Other grounds for recovery: Restitution and Divisibility If a party has not substantially performed, there still may be a basis for him to recover for part of contract that he did perform. Even if not complete (party performed some, just not enough), you must pay for any benefit received even if it is only partially what you expected (you may be entitled to damages but you will have to subtract for what you did receive) Many courts allow recovery for restitution for reasonable services If contract is divisible, court may allow recovery for portion completed e.g., Contract for construction of 35 housing groups of 10; contractor completed 20 houses permitted to recover because contract was divisible R2d 240 two requirements in order to make contract divisible: 1) Possible to apportion performances of parties into corresponding pairs of performances, 2) Proper to treat pairs of part performance as agreed equivalents C. Anticipatory Repudiation By virtue of the rules of constructive conditions, if one party commits a total breach when performance is due, the other party is justified in treating their performance obligations as discharged. Advance refusal to perform, or anticipatory repudiation can be expressed orally, in writing, or by conduct showing an unwillingness to perform. Even if a party does not actually repudiate their obligations, circumstances may give the other party reasonable grounds for insecurity about the ability of the other party to perform on time.

R 250 When a Statement or an Act is Repudiation A repudiation is: [Can be express] (a) a statement by the obligor to the obligee indicating that the obligor will commit a breach that would of itself give the obligee a claim for damages for total breach under 243, or 61

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[Can be implied by conduct] (b) a voluntary affirmative act which renders the obligor unable or apparently unable to perform without such a breach. R2d K 250 (b)If before performance of contract is due, party denies any intention to perform, this constitutes anticipatory repudiation of contract. Requires unequivocal manifestation of intent not to perform. Equivocal statements are not sufficient to constitute repudiation. For example: "encountering difficulties in preparing to perform "not pleased with the bargain" "uncertain whether can render performance when due" UCC 2-610. Anticipatory Repudiation When either party repudiates the contract with respect to a performance not yet due the loss of which will substantially impair the value of the contract to the other, the aggrieved party may: (a) For a commercially reasonable time (depends on facts and circumstances) await performance by the repudiating party; or (b) Resort to any remedy for breach (Section 2-703 or Section 2-711), even though he has notified the repudiating party that he would await the latter's performance and has urged retraction; and You can sue the guy! As long as you dont do so in bad faith. i.e., say you will wait and give additional time to perform when you have already moved forward to file action for the breach. (c) In either case suspend his own performance or proceed in accordance with the provisions of this Article on the seller's right to identify goods to the contract notwithstanding breach or to salvage unfinished goods (2-704). UCC 2-610 (comment 2) & Restatement 2d K 250 (comment b) Language that under fair reading amounts to statement of intention not to perform, except under conditions which go beyond contract, is repudiation. Ex.When notice is given of the non-performance by a third party, who is an outsider to the subject contract, but whose performance is necessary for a party to perform his end of the subject contract. Bad Faith Not Required Anticipatory repudiation may not always indicate bad faith; repudiating party does not have to be acting in bad faiththough sometimes they might be Ex.Casting manufacturer says to brake manufacturer "I'm not going to be able to sell you any more casting this month because the steel company we order from has gone out of business." This may be anticipatory repudiation of casting manufacturer's contract with brake manufacturer. Conduct amounting to anticipatory repudiation Can be conduct instead of words. R 250(b) conduct that renders obligor unable or apparently unable to perform may amount to repudiation. Must indicate performance practically impossible. Ex. Offerors conveyance of land to a third party constitutes anticipatory repudiation of contract for sale of land to offeree. R 252 (cmt. a) Financial difficulty (even insolvency) not generally anticipatory repudiation. Retraction of anticipatory repudiation Repudiation may be retracted: 1. By the repudiating party 2. so long as other party has not relied to her detriment on repudiation, or 3. notified repudiating party he is treating repudiation as final. R. 256 (1), UCC 2-611.

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Truman L. Flatt& Sons v. Schupf Schupf was seller & Truman was buyer in contract for the sale of land. Contract contained a zoning condition permitting Truman to back out if the zoning did not come through. Truman wrote the sellers saying they didnt think the zoning would come through, and requested seller accept reduced price. Seller replied it didnt want to sell for less, so Truman said he would pay original price. Sellers refused to sell arguing Truman already repudiated, returned down payment, and did not sell to anyone else. The test for repudiation is stringent because courts dont like forfeiture of contracts and favor communication between parties; expression of insecurity wont always indicate valid repudiationmust be unequivocal, asserting clearly intent not to proceed. Note: You do not want to jump the gun because otherwise you become the breacher. Common law does not require notice to other partynon-breaching party may commence breach action immediately or request adequate assurance. UCC 2-610 Anticipatory Repudiation If there is a repudiation before performance is due, aggrieved party has two options: (1) JUST WAIT For a commercially reasonable time await performance. Commercially reasonable time will depend on facts and circumstances If non-repudiating party waits more than a commercially reasonable time for performance, he cannot get damages as a result of any delay beyond a commercially reasonable time. Non-repudiating party may want to wait for performance either because it needs these particular goods or because time is not pressing or because of a long-term relationship with the party who appears to be repudiating. (2) SUE FOR BREACH Resort to a remedy for breach even if notified the repudiating party that he will wait performance and urged retraction of repudiation Non-repudiating party can immediately terminate and sue for breach if it is a repudiation, even if he has already notified the repudiating party that he was waiting for performance. However, UCC's good faith prevents non-repudiating party from misleading about intentions. (Acting like he is waiting for performance when he really intends otherwise.) Suspension2-610 Suspensionregardless of which two options chosen, non-repudiating party can suspend performance until the other party performs. Equivalent to treating a breach as material, but not total and material. R. 241-242 Rememberwe don't have a breach yet. We have what we think is an anticipatory repudiation. UCC 2-609 Right to Adequate Assurance of Performance Often difficult to determine when a party has committed a total material breach or an anticipatory repudiation; Party acting in response to the perceived anticipatory repudiation or material breach runs the risk that she would be held in material breach if she jumps the gun and treats contract as terminated; therefore, UCC created new right to protect the non-repudiating party. Party who has reasonable grounds for insecurity can demand adequate assurances of performance from other party. Failure to give assurances constitutes anticipatory repudiation of contract. R. 251 applies similar concept UCC 2-609. Right to Adequate Assurance of Performance. (1) A contract for sale imposes an obligation on each party that the other's expectation of receiving due performance will not be impaired. When reasonable grounds for insecurity arise with respect to the performance of either party the other may in writing demand adequate assurance of due performance and until he receives such assurance may if commercially reasonable suspend any performance for which he has not already received the agreed return. 63

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(2) Between merchants the reasonableness of grounds for insecurity and the adequacy of any assurance offered shall be determinedaccordingtocommercial standards. (3) Acceptance of any improper delivery or payment does not prejudice the aggrieved party's right to demand adequate assurance of future performance. (4) After receipt of a justified demand failure to provide within a reasonable time not exceeding thirty days such assurance of due performance as is adequate under the circumstances of the particular case is a repudiation of the contract. Under UCC modification does not require additional considerationunder the restatement you do. Under UCC there is a statutory provision which does not require additional consideration when party request adequate assurance UCCs purpose is to enforce contracts to enhance/assure commerce.

R. 251 When a Failure to Give Assurance May Be Treated as a Repudiation (1) Where reasonable grounds arise to believe that the obligor will commit a breach by non-performance that would of itself give the obligee a claim for damages for total breach under 243, the obligee may demand adequate assurance of due performance and may, if reasonable, suspend any performance for which he has not already received the agreed exchange until he receives such assurance. (2) The obligee may treat as a repudiation the obligor's failure to provide within a reasonable time such assurance of due performance as is adequate in the circumstances of the particular case. What constitutes reasonable grounds for insecurity? Significant financial difficulties ordinarily not enough Failure to perform important obligations under contract may be enough Sometimes circumstances having nothing to do with other party's conduct can be enough (i.e., producer would suffer loss if delivered under contract and Atty. Gen. questioned legality of contracts) Unreliable rumors or insignificant risks not enough Demand for assurances must be based on circumstances arising after contract formation, not on situation known when contract was formed (if when you entered the contract, you already knew of reason for insecuritythen you have taken the risk and you are not entitled to demand assurance) Other partys financial insecurity & likelihood of being unable to perform their end because of it What assurances may be demanded? Comment 4 to UCC 2-609adequate assurances range from verbal guarantee, posting a bond, depends on circumstances, R. 251, comment d depends on "facts and circumstances" Demand for assurances must be made in good faith Must assurance be demanded in writing? Courts divided on whether a written demand is mandatory. 2-609 (1) party who has reasonable grounds for insecurity may in writing demand. Fairness may compel court to be flexible R. 251, comment d flexible approach. Need not be in writing. Written demand preferable, but time constraints might necessitate oral demand. Whether demand is mandatory Some commentators and cases say demand for assurances should be mandatory. Party in a position to explain reasons that he caused insecurity should be able to do so. Should not permit the injured party to cancel because of the policy of fostering the completion of contracts. Time allowed for reasonable assurances

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Under UCC, after justified demand for assurances, demanding party must wait reasonable time not to exceed 30 days. (BUT circumstances may make reasonable to demand faster response). If assurances not made, demanding party must treat failure to respond as anticipatory repudiation under 2-609 (4). R. 251 requires party to respond to demand for assurances within reasonable time; does not set maximum.

Hornell Brewing Co. (HB) v. Spry HB supplies & markets Arizona tea; signed an agreement giving Spry exclusive right to distribute products in Canada. It was a purely oral agreement, until HB provided a letter confirming the relationship (but not the details). A year or so later, HB terminated the agreement because it was not getting paid for the goods it sold Spry on credit. HB insisted Spry obtain a letter of credit or line of credit to ensure would pay HB. Spry told HB it had a Vanguard credit facility, but continued to be late in its payments, causing HB to question the credit facility (which in fact, was never in place). Spry then said he had financing from Metro. Eventually, Metro paid and Spry immediately ordered more product, which exceeded line of credit. HB again asked for confirmation of a line of credit, when Spry did not respond, HB canceled the deal. HB had reasonable grounds for insecurity and demanded adequate assurances under 2-609. Spry never provided assurances that were adequate, so HB could treat the contract as repudiated. Under UCC 2-610, HB could terminate performance and resort to a remedy for breach. Chapter 11: Expectation DamagesPrinciples & Limitations A. Computing the Value of Plaintiffs Expectation Actionable Breach unjustified nonperformance of some duty imposed by a contract Roadmap to Damages General formula for computing expectation damages Limitations on recovery of expectation damages: Foreseeability Certainty Causation Mitigation Damages generally non-recoverable for breach of contract Attorneys fees (American rule permits recovery if contract so provides) Mental anguish/emotional distress Punitive damages UCC damages remedies for seller and buyers Efficient breach Restitution & Reliance Damages Unjust enrichment claims Plaintiff has conferred a benefit on defendant and defendant has accepted the benefits and retained them. Defendant has not performed her part of the promise. Plaintiff is entitled to restitutionary recovery, in the form of the value of the benefit conferred. Restitution for Unjust Enrichment Courts may award restitution damages in appropriate circumstances, regardless of the cause of action. The goal is to strip the breaching party of the unjust enrichment. Ex. A and B agree that A will paint Bs portrait for $1000. The portrait is painted to Bs satisfaction and B takes possession of the portrait, but fails to pay the $1000. B has been unjustly enriched by $1000. 65

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Rescission and Restitution Plaintiff seeks to cancel the contract and get his money/property back from the breaching party. Ex. Plaintiff and defendant agree that Plaintiff will pay defendant $1000 for defendants plumbing services. Plaintiff leaves a $1000 check for defendant on the date of the expected service. Defendant arrives on the date and takes the check, but does not provide the service. Plaintiff sues for return of the check and cancellation of the plumbing contract. Reliance Damages Plaintiff has relied on the promise of defendant and changed his position to his detriment. Plaintiff entitled to damages necessary to undo harm which his reliance on defendant caused him Theory put plaintiff in as good a position as was in before the defendants promise was made. This is not promissory estoppel (R. 90.) This is only a damages concept. Promissory estoppel typically produces reliance damages, but sometimes gets you expectation damages too. Expectation Damages, or Benefit of the Bargain This is simply a case where we give the plaintiff what he expected to receive under the contract if defendant had performed. It may be specific performance or money damages. The theory is to put the plaintiff in as good a position as he would have been in if the defendant had performed according to the contract. The expectation the court seeks to protect in its award of contract damages is the gain the Plaintiff would have realized if the contract between Plaintiff and Defendant had been fully performed. Aim is to put Plaintiff in as good a position as he would have occupied had the contract been fully performed on both sides, the expectation to be protected is the Plaintiffs net expectationthe value of the performance Defendant had promised to render, less the cost of the performance Plaintiff had promised in return as the price of Defendants performance. Specific Performancecourt order for Defendant to do precisely what he promised.

Case 1 (Knapp p.850) Owner hires builder to construct building for $200,000. Total cost of construction (to the Builder) is $180,000. Owner breaches when work is partly done. To that point, O has paid B $70,000 so far, and B has spent $95,000 in costs on the project. After the breach, B is able to resell some materials for $10k. Case 2 (Knapp p. 850) Employer hires employee under 2-year employment contract for $50,000 per year, payable monthly at the end of the month. Six months after starting work, employer wrongfully discharges employee. Employee searches for 3 months for another job, but cannot find one. Finally she hires an agency and pays a $1,000 fee for help finding a job. Three months later she gets a job paying $45,000. 2 Methods of Calculating Expectation Damages R. 347Formula: Loss in Value + Other Loss (incidental or consequential) - Costs Avoided - Loss Avoided Punitive damages normally not part of contract law.

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Comparison Method Point A: Figure out where the plaintiff is now economically because of the breach. Point B: Figure out where the plaintiff would have been economically if contract had been performed. Solve: Determine what damages are required to get you from Point A to Point B. Case 3 (Knapp p.850) In construction contracts, the measure is often stated as the expected net profit plus unreimbursed expenses of the builder. Expected net profit was $20,000, because the contract price was $200,000 but Builders out-of-pocket expenses were going to be $180,000. Its unreimbursed expenditures were $15,000. To date, it has been paid $70,000 and incurred $95,000 in expenditures, but it has also re-sold $10,000 worth of material, so its unreimbursed portion is $15,000. $20,000 + $15,000 = $35,000 (same as result in Case #1) This may be stated as a different way to calculate it, but it should not produce a different result than the 347 formula used in case #1. Nothing more than the comparison method in formula form. Efficient Breach Law and economics school of thought says that there are efficient breaches. Sometimes, economically, it makes sense for a party to breach, if he will gain economically overall. What about duty of good faith? American Standard if there is bad faith by the contractor, or if the contractor breaches with no substantial performance, you use cost of completion as the measure of damages. The comparison method and restatement method are really diminution in value measures.

Hypo #1 Seller promises to sell a house to Buyer for $200,000. Seller thinks the house is worth $190,000 but the Buyer thinks it is worth $210,000. So each of them thinks they are getting a $10,000 bargain. Before sale is completed, Third Party offers Seller $240,000 for the same house and Seller agrees. Buyer sues & court awards Buyer $10,000 (his expectation interest) against seller. Buyer is made whole. Seller comes out $50,000 ahead of what he thinks the property is worth, less the $10,000 paid to Buyer, for total of $40,000. Together, economically the total benefit to the two parties is $50,000. Hypo #2 Same facts, except the court orders specific performance and makes Seller sell the house to Buyer for $200,000. Third party then offers Buyer $240,000 for the house. Seller has made a $10,000 bargain on the sale to Buyer, which is what he expected. Buyer has made $10,000 in equity (if he is right about its value) on the purchase from Seller and another $40,000 on the sale to Third party, for a total of $50,000. Together, economically the total benefit to the two parties is $60,000. Buyer gets the advantage of the sale to third party, instead of allowing Seller to breach and get the benefit of the sale to the third party. Real Estate Damages Roesch v. Bray Sellers agreed to sell property to the Brays for $65k. Brays were to pay $45k at closing and another $20k after selling their existing house. Meanwhile, Sellers enter into a contract to purchase another home. Brays breach after sellers had taken out a $65k loan at 16% interest to buy new. A year later property is sold to another buyer for $63.5k. Sellers sue the Brays. 67

Measure of damages is the difference between the contract price ($65k) and market value at the time of the breach ($63.5kcourt found sales price was close enough to time of breach that it could be used to establish market value at time of breach). Also, maintenance and utility expenses for several months would lead to harsh consequences, because they could mount indefinitely. BUT Mitigation would take care of that. The non-breaching party cannot actively increase the damages. They cannot sit on their hands (own the property) and then charge the expenses to Buyers. But if Sellers are trying to sell, they are trying to mitigate the damages. The fact that it took them a year is not the Sellers fault. Many courts (perhaps most) would have awarded these expenses to Seller. See Turner v. Benson in note 1 on p. 854 Pre and Post Judgment Interest Post-judgment interest allows interest to accrue on the judgment from the date of the judgment to the date it is paid. It is always part of a damage award. Pre-judgment interest is for the period between the accrual of the cause of action (the breach) and the judgment. If the parties provide in the agreement for a default rate if payments or performance is not delivered on time, courts are more likely to give pre-judgment interest. Courts may give pre-judgment interest if it is clear the dates and amounts due can be computed with mathematical certainty. What if Seller Breaches in a Land Sale Contract? English rule, if sellers breach was in good faith, buyer can recover out-of-pocket damages only (amounts actually paidthat is, restitution). If sellers breach was in bad faith, buyer can get expectation damages. American Rule does not differ based on whether the sellers breach is good faith or bad faith. A breach is a breach. American rule allows expectation damages regardless of sellers conduct. At this point the majority rule in the U.S. is American rule. Because is more in tune with other contracts damages awards. The English rule looks like damages, plus punitives, if seller acts in bad faith. UCC Expectation Damages Rule Difference between contract price & market price is also in UCC rule 2-708(1) and 2-713. However, UCC remedies are cumulative and a buyer can cover and get the difference between the cost of the covered goods and the price she would have gotten under the contract. Similarly, the seller can resell and get the difference between the resale price and the price she would have gotten under the contract. UCC 2-708Seller's Damages for Non-acceptance or Repudiation (1) Subject to subsection (2) and to the provisions of this Article with respect to proof of market price (Section 2-723), the measure of damages for non-acceptance or repudiation by the buyer is the difference between the market price at the time and place for tender and the unpaid contract price together with any incidental damages provided in this Article (Section 2-710), but less expenses saved in consequence of the buyer's breach. (2) If the measure of damages provided in subsection (1) is inadequate to put the seller in as good a position as performance would have done then the measure of damages is the profit (including reasonable overhead) which the seller would have made from full performance by the buyer, together with any incidental damages provided in this Article (Section 2-710), due allowance for costs reasonably incurred and due credit for payments or proceeds of resale. UCC 2-713Buyer's Damages for Non-delivery or Repudiation 68

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(1) Subject to the provisions of this Article with respect to proof of market price (Section 2-723), the measure of damages for non-delivery or repudiation by the seller is the difference between the market price at the time when the buyer learned of the breach and the contract price together with any incidental and consequential damages provided in this Article (Section 2-715), but less expenses saved in consequence of the seller's breach. (2) Market price is to be determined as of the place for tender or, in cases of rejection after arrival or revocation of acceptance, as of the place of arrival. Employee Breaches Handicapped Childrens Ed. Board v. Lukaszewski (L) L hired as a speech & language therapist at a school 45 minutes from home; L had employment contract w salary of $10,760. Later, L given better job offer closer to home. L resigned from school, but they refused to accept resignation. L went to doctor for stress related symptoms & advised it was dangerous to commute. L informed the school, stopped coming to work, & started working at new job. The school had only one applicant for a replacement, an overqualified person who cost $11,790. The school sued L for damages, seeking to recover the excess it had to pay the replacement. Court held that although it is not considered a breach to terminate employment because of illness, L left employment with the school because she wanted to work for Wee Care. ? What are the measures of damages for breach of an employment contract by the employee? Cost of obtaining reasonably equivalent services to those set forth in the contract, plus foreseeable and non-speculative consequential damages, less what would have been paid to the defendant. Builder Breaches American Standard (AS) v. Schectmann(S) AS had a pig iron facility on some land and were selling the buildings, structures and equipment to S for $275k. S was to remove the equipment, demolish the structures and re-grade the property as part of his contractual obligations. S did not remove all the structural foundations and did not re-grade. AS sued and S argued there were no damages because property is worth the same as if the contract had been fully performed. ? What is the measure of damages when a contractor fails to complete or defectively completes a construction project? The reasonable cost of replacement or completion, unless there has been substantial performance in good faith, in which case it is the difference in value of the property now and the value as if the contract had been completed. If the breach is only incidental to the contract it is more or less assumed to be substantial performance and an immaterial breach. However, if the cost of completion or repair is out of proportion to the default, the diminution of value rule will apply instead (but only if good faith), like J&Y.

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