Contracts Outline Spring 2011

Professor Anderson

FRAUDULENT MISREPRESENTATION : 1. Restatement §159 (misrepresentation) – A misrepresentation is an assertion that is not in accord with the

facts. ..

2. Restatement § 164 (when misrepresentation makes voidable ) – (1) If a party’s manifestation of assent is

induced by (2) either a fraudulent or a material misrepresentation by the other party upon (3)which the recipient is

justified in relying, the contract is voidable by the recipient.(must be a causal connection).

3. Restatement § 162 (when 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 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.

(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.”

Note on Fraud: There must be a guilty state of mind with two components

1. Knowledge of falsity (scienter)

2. Intent to mislead

4. Restatement § 160 (when concealment is a misrepresentation) - Action intended or known to be likely to

prevent another from learning a fact is equivalent to an assertion that the fact does not exist.

5. Restatement § 161 (non-disclosure is equivalent to action) – A person’s non-disclosure of a fact known to him

is equivalent to an assertion that the fact does not exist in the following cases only:

(a) where he knows that disclosure of the fact is necessary to prevent some previous assertion from being a

misrepresentation or from being fraudulent or material.

- Facts have changed and the original assertation is now false

(b) Where he knows that disclosure of the fact would correct a mistake of the other party as to a basic

assumption on which that party is making the contract and if non-disclosure of the fact amounts to a failure to

act in good faith and in accordance with reasonable standards of fair dealing.

- Basic assumption of other party is false and 1st party is not acting in good faith consistent with fair

dealings

(c) where he knows that disclosure of the fact would correct a mistake of the other party as to the contents or

effect of a writing, evidencing or embodying an agreement in whole or in part.

(d) where the other person is entitled to know the fact because of a relation of trust and confidence between

them.

I. Policing Contracts for Improper Bargaining

There are doctrines in contract law designed to regulate/police improper bargaining. Among these are:

Fraudulent Misrepresentation

Duress

Unconscionability

žThese doctrines seek to strike a balance between the policy of protecting the reasonable reliance of the parties

(manifest in the objective test) and the policy of freedom of contract that requires parties should not be bound by

contracts to which they did not voluntarily assent.

o A rigid reliance on the objective test would force courts to enforce contracts even where the objective

manifestation of assent was obtained by another party’s deceit, coercion or other improper bargaining.

o The doctrines of Misrepresentation, Duress, and Unconscionability allow the court to look beyond objective

manifestations of assent to find an agreement is unenforceable because the assent was not truly voluntary

because it was obtained by improper means.

← Remedies for Improper Bargaining

žGeneral Rule: Where court finds that there was improper bargaining that induced assent to an agreement, the

remedy is to allow the victim to avoid or rescind the contract. In other words, such a contract is generally voidable by

the victim.

Voidable Distinguished from Void

žWhere a contract is void (e.g., fails for lack of consideration), it is not a contract at all. It is a legal nullity, so neither

party can sue to enforce the agreement.

žWhere a contract is voidable, it is valid and fully enforceable unless and until the aggrieved party under one of the

policing doctrines elects to exercise the right to terminate (or avoid) it.

When a contract is avoided, the general rule is that both parties are entitled to restitution: Any benefit of the

contract received by either party before the rescission must be returned. Otherwise there would be an unjust

enrichment.

Note on Remedies for Improper Bargaining

žThough avoidance/rescission is the most common remedy available where an agreement resulted from improper

bargaining, the courts will sometimes order excision or modification of an offending term as a remedy.

This may occur where the aggrieved party would prefer to keep the contract in effect, but remove or modify

the term that resulted from the other party’s improper bargaining.

II. Introduction to Fraudulent Misrepresentation – Affirmative Fraud

← Restatement §159 – Misrepresentation Defined :

← “A misrepresentation is an assertion that is not in accord with the facts.”

Example:

Assertion: “There is a 3 carat diamond in this engagement ring.”

Fact: The stone is a Cubic Zerconia.

← Restatement § 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…”

Note : Restatement §164 reflects the requirement that there be a causal link between the misrepresentation

and the contract—it must have actually motivated the other party.

1. Fraudulent OR material misrepresentation

2. Other party is justified in relying and actually and justifiably relies on THEN

3. The contract is voidable (only)

Restatement § 162 – When 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 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. Note of Fraud:

There must be a guilty state of mind with two components

1. Knowledge of falsity (scienter)

2. Intent to mislead

← (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.”

Note on Materiality : The Restatement does not require the victim of fraud to prove materiality—requiring

materiality of only negligent or innocent misrepresentations (where there is not the guilty state of mind

required for fraud). Be aware that not all courts separate materiality from the definition of fraud as does the

Restatement.

← Restatement § 160 – When Action is Equivalent to an Assertion (Concealment):

← “Action intended or known to be likely to prevent another from learning a fact is equivalent to an

assertion that the fact does not exist.”

Example : Seller puts a heavy dresser over a hole in the floor of a house caused by termites.

Sarvis v. Vermont State Colleges

The issue is whether fraud or misrepresentation during the hiring process constitutes just cause for dismissal

on an employment contract… Yes.

The court used the material element; there is a difference between fraud and material representation. The

plaintiff made false statements on his resume when he applied for the school job.

Additionally, the plaintiff told the college not to contact his past employers, this is a form of concealment and

fraud on direct assertion.

This is not a case by silence or non-disclosure.

← * Sarvis v. Vermont Colleges – man misrepresented information to his employer that they should not contact his

previous employer. This was seen as an affirmative, fraudulent action.

← more like the “hiding” a termite hole affirmative misrepresentation action than a bald face lie

Non-Disclosure or Silence as Fraud

žAn affirmative false statement or active concealment of the truth (as in Sarvis) is the most straightforward case of

fraud in the inducement.

žIt is also possible to show fraud due to non-disclosure or silence.

This is a more difficult basis for claiming fraud because silence is only fraudulent where there is a duty to

disclose information.

1. Rationale : The courts are reluctant to find fraud by silence because the assumption is that where

parties entering into a contract are each agents in the free market. Consequently, if one party

through research, expense, or just plain business sense identifies value in a transaction the other

party has not identified, then that party deserves to benefit from the advantage.

Example : A buyer who has thoroughly researched the real estate market does not have to tell

the seller that the house is priced well under its market value.

More rationale: Would destroy market efficiency – 1 person would do all the work while

the others free-load and claim, “you are required to give us your privy information even

if you worked harder than us.”

2. How do we know when there is a duty to disclose?

Silence as Fraud

← žRestatement §161 – When Non-Disclosure Is Equivalent to an Assertion(DUTIES):

← “A person’s non-disclosure of a fact known to him is equivalent to an assertion that the fact does not

exist in the following cases only:

(a) where he knows that disclosure of the fact is necessary to prevent some previous assertion from

being a misrepresentation or from being fraudulent or material.

- Facts have changed and the original assertation is now false

(b) Where he knows that disclosure of the fact would correct a mistake of the other party as to a basic

assumption on which that party is making the contract and if non-disclosure of the fact amounts to a

failure to act in good faith and in accordance with reasonable standards of fair dealing.

- Basic assumption of other party is false and 1st party is not acting in good faith consistent

with fair dealings

(c) where he knows that disclosure of the fact would correct a mistake of the other party as to the

contents or effect of a writing, evidencing or embodying an agreement in whole or in part.

(d) where the other person is entitled to know the fact because of a relation of trust and confidence

between them.

Stambovsky v. Ackley

Caveat Emptor – buyer beware, or, the buyer has the responsibility to research before buying

Was there a duty to disclose? Court reasons YES because it was NOT a physical defect that could reasonably be

found by inspection. Rather, a “spiritual” defect that lowered the value of the house that the buyer could not have

been aware of

Court leans on rationale that since the seller had advertised the haunting to the public, then they could not

claim that the haunting was not real and therefore had a duty to disclose to the seller that there was a

haunting because the buyer was under the assumption that the house was not haunted and to do

otherwise would not be consistent with fair dealings nor in “good faith” (restatement 161 (b))

The plaintiff discovered the house he had recently contracted to purchase was widely reputed to be

possessed by poltergeists. The plaintiff was not a local.

This case was dismissed at the trial level because of the Doctrine of Caveat Emptor (imposes no duty upon

the vendor to disclose any information concerning the premises unless there is a confidential or fiduciary

relationship between the parties).

The issue is whether the defendant had to tell the plaintiff of the possession or whether the plaintiff should

have reasonably known… Yes.

The other cases involving the Doctrine rule is for physical defects, however in this case there is no physical

defect, the defect was created by the sellers assertions … ct. disregards the physical impairment argument of

the defendants.

The court uses Restatement § 161 B “failure to act in good faith.” The court finds a duty for the seller to tell

the buyer because there was no way for the buyer to find out the information on his own, as the buyer was not

local.

Doctrines Designed to Police for Improper Bargaining in Contract Formation

Policing for fraudulent misrepresentation, duress, and unconscionability allow the court to look beyond

objective manifestations to find where assent was not truly voluntary because obtained by improper means.

Remedies: Generally, the remedy for improper bargaining is that the contract becomes voidable for the victim

—though modification or excisions are also available under some circumstances.

1. Restitution is generally available to both parties.

← Fraudulent Misrepresentation

Misrepresentation: “an assertion that is not in accord with the facts.” (Restatement §159) A false statement

A misrepresentation makes a contract voidable “If a party’s manifestation of assent is induced [or caused] by

either a fraudulent OR a material misrepresentation by the other party upon which the recipient is justified

in relying…” (Restatement §164)

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 is the truth of the assertion, or (c) knows that he does not have the

basis that he states or implies for the assertion. (Restatement §162)

1. In short, there must be a guilty state of mind with two components to find a misrepresentation is

fraudulent:

Knowledge of Falsity (Scienter)

Intent to Mislead

2. Some courts will also require materiality

Concealment or Fraud by Silence

Fraud by Concealment: “Action intended or known to be likely to prevent another from learning a fact is

equivalent to an assertion that the fact does not exist.” (Restatement §160)

* Moving a desk to hide a termite hole

žFraud by Silence:

1. Must be a duty to disclose (See Restatement §161 for guidance on what might constitute a duty to

disclose.)

* Series of occasions under restatement Section 161 – caveat emptor normally precludes a duty to

disclose… and, this is an exception....most of the time there is no duty to disclose…doing otherwise

would inhibit economic growth.

Introduction to Duress:

1. Restatement §175(1) (When Duress by Threat Makes a Contract Voidable) – (1) If a party’s manifestation of

assent is induced by improper threat by the other party (2) that leaves the victim no reasonable alternative, the

contract is voidable by the victim.”

2. Restatement §175(2) – When Duress by Threat OF 3 RD PARTY Makes a Contract Voidable: If a party’s

manifestation of assent is induced by one who is not a party to the transaction(3rd party), 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.

3. Restatement §176 – (When a Threat is Improper) - (1) A threat is improper if: (threat is so bad that the contract

is voidable regardless of whether the bargain is fair)

(a) what is threatened is a (1) crime or a tort, or the threat itself (2) would be a crime or a tort if it resulted in

retaining property [e.g., extortion],

blackmail is the 2nd portion (I’ll tell your wife you’re cheating (not tort/crime) but when you say “unless you

give me $1,000) then it becomes a crime/tort.

(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 duty of good faith and fair dealing under a contract with the recipient.

← ž (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,

(c) what is threatened is otherwise a use of power for illegitimate ends.

4. Restatement §174 – When 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.”

Restatement §175(1) – When Duress by Threat Makes a Contract Voidable:

“(1) If a party’s manifestation of assent is induced by improper threat by the other party that leaves

the victim no reasonable alternative, the contract is voidable by the victim.”

2 parts:

1. Must be an improper threat.

2. Threat must induce the victim by leaving no reasonable alternative but to enter into the contract.

žEvery offer to make a contract involves an implied threat to not enter into the contract unless the terms of the

offer are accepted. Such threats are just part of the bargaining process.

Not improper in normal bargaining

1. A threat only becomes improper where it amounts to an abuse of the bargaining process.

Restatement §176 offers guidance on when that threshold into improper bargaining is crossed….

← žRestatement §176 – When a Threat is ALWAYS Improper:

← ž(1) A threat is improper if (threat is so bad that the contract is voidable regardless of whether the bargain

is fair)

o (a) what is threatened is a (1) crime or a tort, or the threat itself (2) would be a crime or a tort if it

resulted in retaining property [e.g., extortion],

blackmail is the 2nd portion (I’ll tell your wife you’re cheating (not tort/crime) but when you say

“unless you give me $1,000) then it becomes a crime/tort.

o (b) what is threatened is a criminal prosecution,

o (c) what is threatened is the use of civil process and the threat is made in bad faith, or

o (d) the threat is a breach of duty of good faith and fair dealing under a contract with the recipient.

(Alaska Packer’s example/pre-existing legal duty)

← ž(2) A threat is improper if the resulting exchange is not on fair terms, and (threat is not as serious so the

court will look to whether the bargain was fair … so disproportionate that it amounts to a threat/improper

bargaining).

← This gives the court a great deal of discretion to find improper bargaining

(a) the threatened act would harm the recipient and would not significantly benefit the party making

the threat,

ž(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,

ž(c) what is threatened is otherwise a use of power for illegitimate ends.

1. Note: Remember that there still must be inducement such that the victim had no reasonable

alternative—so a threat of a minor crime or tort may not itself warrant a finding of duress if there were

reasonable alternatives to assent.

2. Note: Categories in subsection (1) involve threats so shocking that the court will not inquire into the

fairness of the terms of the exchange [(a) and (b)] or that by definition involve some element of

unfairness [(c) and (d)].

Threats in subsection (2) must be in combination with unfair terms of exchange.

Germantown Manufacturing Co. v. Rawlinson – deal must be improper and no reasonable alternative

Issue: Was there an impropriety in the bargaining process? Was a threat not to send her husband to jail a defect in the

bargaining process?

Court refers to Restatement §175 - there could be no reasonable alternative but to choose the choice made

under threat (she could choose the alternative of her husband getting thrown in jail, her life getting ruined)

* Ct. looks at her subjective situation as well as an objective look (anyone would act similarly in her situation).

and §176 (1)(b) – they threatened criminal prosecution

Germantown argues that it was not improper b/c they had a right to prosecution…ct. says on the contrary, the fact

that it was a well-founded claim makes it more coercive… the manner they went about it was dispositive

Mr. Rawlinson embezzled $327, 011.22 from the company he worked for and admitted the crime when he

was asked. Mr. Kulaski, a company reprehensive, had both the Rawlinson’s sign court documents to repay

the money Mr. Rawlinson had taken.

Mrs. Rawlinson was not aware until Mr. Kulaski showed up that she would have anything to do with signing

the court documents based on her husbands actions.

Mrs. Rawlinson was already in a distressed situation because she just suffered a miscarriage

The court used Restatements for defining duress.

The court noted that surprise and unfamiliarity of the documents and the threat of her husband going to jail,

she basically that lost her ability to choose freely.

The court finds that the contract is voidable.

The company argued that Mr. Rawlinson actually committed the crime so they were fully justified in

prosecution. However the court points out the fact that the claim is actually true increases the threat of

duress because if it had not a reasonable person would not sign the documents or put themselves in that

position.

Economic Duress Distinguished from Mere Market Pressure

žEconomic Duress can be defined as an illegitimate threat to proprietary or economic interests, and is a well

recognized basis for relief under the theory of duress. Nevertheless, this should not be confused with simple

inequality in bargaining power, or even driving a hard bargain.

Quigley v. KPMG Peat Marwick, LLP

Issue: When is economic duress impermisable?

Rule: when “one of the parties commits a wrongful or unlawful act or threat that deprives the other of his unfettered will.”

Ct. says that economic duress is context dependent… arbitration has traditionally not been held to be a cause of

economic duress (THEY CAN BE IF THEY ARE TOTALLY DISPROPORTIONATE, or if one of the terms is

inherently unfair).

Cts generally honor arbitration clauses… arbitration clears the docket/clears judicial resources

No economic duress in this situation… more is required to find economic duress in these situations…all jobs now

have an arbitration clauses, it makes good business sense to enforce them.

Quigley was terminated from his position as a senior manager after 18 years of employment. He signed an

employment arbitration agreement. Quigley claims he did not sign the document voluntarily but that he need

the job to feed his family.

The wrongfulness of the pressure is decisive. To be wrongful, the threat need not be criminal or tortuous. It

could be legal but still oppressive and wrongful in a moral or equitable since.

Coercion by Nonparty – 3rd party coercion

← žRestatement §174 – When 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.”

1. Note: The kind of physical compulsion contemplated here is literal—where the victim becomes a

“mere mechanical instrument.” The failure of assent means the contract is void.

Example: Perpetrator grabs victim’s hand and forces to sign – in this situation, there is no

manifestation of assent

Consequently, where there is physical compulsion by a non-party, the contract will be void( as opposed to

voidable) as to even innocent parties.

No party can enforce this agreement – because there was no contract in the first place

Restatement §175(2) – When Duress by Threat Makes a Contract Voidable:

“(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 acted in good faith and

without reason to know of the duress either gives value or relies materially on the transaction.”

if the victim manifested assent and the other party relied on it? Too bad for the victim, the law will

enforce the contract against the victim

U.S. ex rel. Trane Co. v. Bond – 3rd party threat … contract void?

Mr. and Mrs. Bond signed a contract with the government to perform air conditioning systems. Both Bond’s

signed an surety bound be issued.

Under the Restatement 175, she would not be able to avoid the contract (Gov’t probably relied on the contract

so 175(2) kicks in AND she was not a mechanical instrument so 175(1) does not kick in.

Mrs. Bond as a defense said her husband threatened her to sign the document. The U.S. said that the

situation does not matter and that they wanted the money.

The court does not follow the Restatement(persuasive), but when there is a situation like this, the party is

bound by the contract unless the coercion is so bad that the contract itself is to be void.

Restatement 174 treats contracts as void only where the victims manifestation of assent is physically

compelled.

The court found that a contract is void if there is physical force or if there is a threat that is extremely bad

“threats of dire force” can be enough to void the contract

The court found that Restatement 175 as too narrow (Restatement is persuasive authority)

Duress Relating to Contract Modification – No consideration? Usually no contract, but is a loophole (sham or

nominal)

žPre-Existing Duty Rule: Recall when we discussed the pre-existing duty rule, we saw how the doctrine of

consideration could be employed to protect parties against attempts to withhold services in exchange for

more advantageous terms under an existing contract—E.g., Alaska Packers’ Assn. v. Domenico.

1. Loophole - We also saw, however, that the consideration doctrine can be an imperfect shield in these

situations because all the other party has to do is compel better terms and list some new

consideration that is of small value by comparison to the new gain they would receive.( “I won’t spit

on the deck,” court generally does not look into the adequacy of consideration).

2. Close the loophole (economic duress doctrine)- Although Alaska Packers’ was technically decided

based on the pre-existing duty rule under the doctrine of consideration, it could also have been

decided on the theory of economic duress—which would not suffer the same potential defect.

Austin Instrument, Inc. v. Loral Corp.

Economic duress? 2 elements must be met:

1. Restatement 176(d) - the threat is a breach of duty of good faith and fair dealing under a contract with

the recipient. (Alaska Packer’s example/pre-existing legal duty)

2. Restatement 175 – there is no reasonable alternative

Austin won the bid for 23 out of 40 gear parts. However, Austin threatened to not give Loral anymore

previous parts unless they promised to give them the remaining bids. Loral was under contract with the

government and gave the remaining bids to Austin to receive the previous contracted parts.

Elements that have to be met:

(1) There has to be a threat to withhold goods from the party

(2) has to be the case that the company could not get the goods from someone else. A breach of contract

will not be enough.

This claim falls under Restatement 176(1)(d), the threat is a breach of duty of good faith and fair dealings

under a contract with a recipient.

Ct. found that both elements were met and that Loral had excercised due diligence in finding alternatives and

that Austin was acting in “good faith’

Dissent thinks that Loral could have called more than 10 companies to replace the needed parts.

Note on Contract Modifications Under UCC 2-209

← It should be noted that under UCC §2-209, the pre-existing duty rule is eliminated altogether:

“(1) An agreement modifying a contract within this Article needs no consideration to be binding….

“(3) The requirements of Section 2-201 [SOF] must be satisfied if the contract as modified is within its

provisions…”

1. Comment 2: “Modifications made [under subsection (1)] must meet the test of good faith imposed by

this Act. The effective use of bad faith to escape performance on the original contract terms is

barred, and the extortion of a ‘modification’ without legitimate commercial reason is ineffective as a

violation of the duty of good faith….”

Note: The UCC does not have separate provisions relating to either the doctrines of

fraudulent misrepresentation or duress. Consequently, the common law version of these

doctrines applies via UCC 1-103(b).

this is the reason that Loral did not try to strike the contract for lack of consideration….

UCC does not require it

Note on Supervening Difficulties Exception to Pre-Existing Duty Rule

žDoctrine of duress can fill a gap we identified earlier in the pre-existing duty rule (i.e., where a minor

consideration is negotiated into an otherwise extorted modification). But there is still gap in coverage

between the pre-existing duty rule and the doctrine of duress:

1. Where a modification is fairly negotiated and agreed to in light of changed circumstances, but no new

consideration is exchanged….

Supervening Difficulties

Under this doctrine, a promise modifying a duty under a contract not fully performed is binding (even without

new consideration) where:

1. After the contract is made it becomes subject to substantial and burdensome difficulties not

anticipated by the parties when the contract was made (cannot simply be result of error of judgment

in setting price)

2. Party benefiting from modification must conform to standards of honesty and fair dealing (not

attempting to take advantage or coerce)

3. The change in performance obligations must be reasonable and manifestly fair in view of the changed

conditions.

žSee New England Rock Services, Inc. v. Empire Paving, Inc.; see also Restatement §89(a) – Modification of

Executory Contract.

← Elements of the Policing Doctrine of Duress

Under Restatement §175(1), where one party’s manifestation of assent is induced by another party’s

improper threat that leaves the victim no reasonable alternative, the contract is voidable by the victim.

We learned that market pressure or driving a hard bargain needs to be distinguished from duress. A threat

only becomes improper when it amounts to an abuse of the bargaining process. Restatement §176 offers

guidance on when that threshold into improper bargaining is crossed.

176(1) – details***

176(2) – details***

← Illegitimate Threat by Nonparty

Restatement §174: “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 (literal physical force), the conduct is not effective

as a manifestation of assent,” and is therefore void.

1. Consequently, such physical compulsion by a third party will void a contract even where the non-

victim party(ies) are innocent.

** In this caseThere was no assent, therefore a legal nullity

Restatement §175(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.”

* No physical force? Other party imposed the threat? Then too bad for the victim if the OTHER party relied on

the assent

some courts do not apply this rule too rigidly (threat by words may suffice, Restatement is persuasive

authority.)

1. We saw, however, that not all courts will follow this approach (See e.g., U.S. ex rel. Trane Co. v.

Bond)

← Duress Relating to Contract Modification

Policing Doctrine of duress can provide better protection against unfair bargaining vis-à-vis contract

modification than can the preexisting duty rule. (savvy parties can get around pre-existing duties by adding

sham or nominal consideration).

Creates a loophole in contract formation

Under UCC §2-209, “An agreement modifying a contract within this Article needs no consideration to be

binding….”

1. However, “Modifications made [under subsection (1)] must meet the test of good faith imposed by this

Act. The effective use of bad faith to escape performance on the original contract terms is barred,

and the extortion of a ‘modification’ without legitimate commercial reason is ineffective as a violation

of the duty of good faith….”

Note : UCC does not have separate provisions relating to fraudulent misrepresentation and

duress, so turn to common law via UCC §1-103(b).

← Introduction to Unconscionablility

As we have seen, the doctrine of duress does not cover situations in which there is no physical force or

threat, express or implied. And the doctrine of fraud requires a misrepresentation (whether by express

assertion, concealment, or silence).

What about cases where there is no threat or misrepresentation, but there is nevertheless unfair bargaining

that results in unfair contract terms?

Loophole: no threat, no misrepresentation, but still inequitable…what to do?

Williams v. Walker-Thomas Furniture Co.

Walker Thomas sold furniture and appliances on credit to low-income buyers.

As security for payment of the balance of the price, Walker Thomas included a “cross-collateralization clause”

(if you buy items, then we will loan you the money, but unless you pay everything, then all items are collateral,

even if you have paid them off) in the contract.

1. This gave Walker Thomas a security interest in the goods bought under the new transaction, as well

as in all goods that the customer had ever bought from it in the past.

** this makes consumers fear non-payment/default (the more you buy, the more collateral they have

against you).

*** This clause is complex and the court is probably concerned that defendant could not understand

it…basically unfair b/c there is way more collateral than their investment warrants

2. The effect of this provision was that if the customer defaulted on her most recent purchase, Walker

Thomas could repossess not just the goods sold in that transaction, but all other goods bought in

previous transactions (even if she had paid almost all of the other furniture off).

At the time of the most recent transaction (bought multiple articles of furniture between 1957 and 1962),

Walker-Thomas was aware (via the credit application) that Williams was living on public assistance—$218 a

month.

1. On this income, she was supporting seven children.

2. Despite this, they sold her a $500 stereo.

When she defaulted, Williams had paid off all but her most recent purchase (stereo).

Court found that where there is unfairness in the bargaining process that results in unfair or oppressive

contract terms, then the courts may provide relief based on the doctrine of unconscionability.

Before this case, doctrine of fraud and duress was basically the only redress a victim could have when there was

a defect in the bargaining process . . . unconscionability doctrine gives court latitude

← Historical Context for Unconscionability

žHistorically, unconscionability was a doctrine that was only employed in the courts of equity (no remedy

under the law but claim is still just, if you have unclean hands, then you cannot get a remedy)

1. For example, where the courts were asked to provide a remedy not available under law (e.g., specific

performance) because justice/equity demanded it, then such remedy would not be granted if there

were some dirty hands, such as unconscionability, that could be traced back to the party seeking the

relief.

2. Consequently, courts were hesitant to apply this equitable doctrine to cases that did not involve

requests for equitable relief.

*Courts are hesitant to apply this doctrine b/c not applying it also has benefits to a lower class (the

interest rates will rise in the place of collateral clauses)… also, there will be loan discrimination

**element of disrespect…if you are poor, you are not able to contract

*** just because one person is at an advantage, does not mean it is uncons.

**** courts use the doctrine sparingly (it give wide discretion to courts) for above reasons…poor

people should be able contract

žThis all changed when the doctrine of unconscionability was included as a provision of the UCC. (UCC §2-

302) Unconscionability then became statutory law governing the sale of goods.

žFollowing the UCC, the Restatement (Second) included an unconscionability provision. (Restatement §208)

UCC § 2-302 Unconscionable Contract or Clause

ž“(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 [i.e. remedy of

avoidance], or it may enforce the remainder of the contract without the unconscionable clause [i.e.,

remedy of excising the unconscionable portion], or it may so limit the application of any

unconscionable clause as to avoid any unconscionable result [i.e., remedy of modification of the

terms]….”

1. Note : UCC §2-302 offers guidance on what remedies will be available where unconscionability is

found (avoidance, excision, or modification). These are the familiar remedies typically available

where improper bargaining is found.

2. Note also : UCC §2-302 identifies the court and not the jury as the arbiter of unconscionability.

In part a carryover from the fact that actions before courts in equity were tried before a judge,

not a jury.

But it is also because (as we will see) the doctrine itself is fluid—if not slippery—and it is

perhaps best if it is decided before a well-trained and presumably dispassionate judge….

Juries can make bad law if led by emotion

← Restatement § 208 Unconscionable Contract or Term

ž“If a contract or term thereof is unconscionable at the time the contract is made a court may refuse

to enforce the contract, or it may enforce the remainder of the contract without the unconscionable

term, or it may so limit the application of any unconscionable term as to avoid any unconscionable

result.”

1. Clearly modeled on the UCC.

2. Also relies on judge rather than jury to decide.

3. Same remedies as UCC.

4. Like the UCC, Restatement fails to define or offer elements of unconscionability.

← Elements of Unconscionability

žThough no guidance is given by the language of the UCC and Restatement provisions, we can learn

something from the comments and from the case law.

1. Comment 1 to UCC 2-203 : “The basic test is whether, in light of the general commercial background

and commercial needs of the particular trade or case, the (1)clauses involved are so one-sided as to

be unconscionable under the circumstances existing at the time of the making of the contract….The

principle is one of the prevention of (2)oppression and unfair surprise.”

2. Restatement §208 Comment c : “Inadequacy of consideration does not of itself invalidate a bargain,

but gross disparity in the values exchanged may be an important factor in a determination that a

contract is unconscionable…”

Substantive unfairness

3. Restatement §208 Comment d : “gross inequality of bargaining power, together with terms

unreasonably favorable to the stronger party, may confirm indications that the transaction involved

elements of deception or compulsion, or may show that the weaker party had no meaningful choice,

no real alternative….

Procedural unfairness

4. “Factors which may contribute to a finding of unconscionability in the bargaining process include…

belief by the stronger party that there is no reasonable probability that the weaker party will fully

perform the contract; knowledge of the stronger party that the weaker party will be unable to receive

substantial benefits from the contract; knowledge of the stronger party that the weaker party is unable

to reasonably to protect his interest by reason of physical or mental infirmities, ignorance, illiteracy or

inability to understand the language of the agreement, or similar factors.” (Like Williams v. Walker

Thomas furniture)

So, when it is(1) substantively and (2)procedurally unfair, then the court will consider applying the doctrine… they

do on a case by case basis and do in very limited circumstances

A. Uncons in Case Law:

Germantown Manu. V. Rawlinson -

*Procedural uncons. present? Yes, didn’t give her the chance make meaningful deliberation, she was already

under distress, she didn’t completely understand the terms.

** Substantive uncons present? Yes,she opens herself up to unlimited liability without getting anything in return…

they could still prosecute

← Elements of Unconscionability

← Case Law

As noted in Williams v. Walker-Thomas, “Unconscionability has generally been recognized to include an

absence of meaningful choice on the part of one of the parties together with contract terms which are

unreasonably favorable to the other party.”

žThis guidance allows us to distill the elements of unconscionability down to two elements:

1. Procedural Unconscionability

Procedural unconscionability focuses on the bargaining behavior of the parties and tries to

identify whether there was an absence of meaningful choice. Were unfair bargaining tactics

employed? Was there a disparity in power between the parties? Was there “oppression” or

“unfair surprise (or terms not reasonably expected)”? (UCC) Was there awareness of

physical or mental infirmities, ignorance, illiteracy or inability to understand the language of

the agreement, or similar factors? (Restatement)

2. Substantive Unconscionability

Substantive unconscionability focuses on the outcome of the bargaining process. Is there a

gross disparity in the values exchanged? (Restatement) Are the terms harsh, unfair, or

unduly favorable to one of the parties?

Note : Courts take different approaches to the test. Some require the presence of

both procedural and substantive unconscionability—others are more flexible.

Courts generally require both to be present, but not in equal amounts … there is a definite relationship b/t the 2 . . .

where one is present, then the other probably is too

← Contracts of Adhesion

žWhere one of the parties, having superior bargaining power, is able to dictate the terms of the contract to the

other on a take-it-or-leave-it basis, and the weaker party has no choice but to “adhere” to the terms.

žContracts of adhesion are not necessarily bad or unconscionable.

1. We saw them last semester in our section on standard-form agreements. As we noted then, it often

results in greater efficiency, centralizes decision-making, lower transaction costs, and therefore lower

prices for consumer. We need to allow for these standard form contracts.

žThere is, however a dangerous side-effect: big companies can impose their terms on weaker parties who

may have little choice but to accept.

1. Consequently, where there is a contract of adhesion, the courts will generally be ready to find that it is

procedurally unconscionable. Courts will then scrutinize it for unfair terms. If there are none, the

contract is enforced in its entirety. If there are unfair terms ( SUBSTANTIVE UCONSCIONABILITY)

or terms the weaker party could not reasonably expect, they are typically severed, modified, or the

entire contract is made voidable.

** CONTRACTS OF ADHESION ARE INHERENTLY PROCEDURALLY UNFAIR (not all though)

← Zuver v. Airtouch Communications, Inc.

Airtouch offered Zuver employment as a sales support representative at the yearly salary of $21,000. One of

the conditions was that Zuver sign an agreement to arbitrate her disputes.

Issue is whether the arbitration agreement is procedurally and substantively unconscionable?

The court found that some part of the agreement were unconscionable but other parts were not, however the

court did not disregard the entire contract itself.

PROCEDURAL:

Courts have not decided whether both be present to find unconsc., this court doesn’t decide

Contract of adhesion? 3 elements: (1) standard form contract (2) prepared by one party and places the other

on a take it or leave it basis (3) whether there was inequality in the bargaining process … ok, so contract of

adhesion YES but was it unconsiable?

True question of whether the form lacked meaningful choice… NO, so there was meaningful choice, therefore

not procedurally uncons., even though it was a contract of adhesion…holding otherwise would probably hold

that all employment contracts are procedurally uncons.

SUBSTANTIVE:

Some terms no, some terms yes… ct. decides to sever the ones that are uncons. and leaves the ones that are not

Ultimately, both elements were probably not present (the court decided that this particular contract of adhesion

was not procedurally unfair) but did decide to strike elements of the contract b/c they were substanitively unfair.

Thus, when cts find one of the two elements unconsc,, then they will often apply a lower standard for the second

← Doctrine of Unconscionability

Doctrine of Unconscionability as policing contracts where there is no physical compulsion, threat, or

misrepresentation, but there is nevertheless unfair or improper contractual bargaining that results in injustice.

1. As the court held in Williams v. Walker Furniture: Where there is unfairness in the bargaining process

that results in unfair or oppressive contract terms, then courts may provide relief based on the

doctrine of unconscionability.

Drawing on Comments to the UCC and Restatement, as well as case law, we distilled two principle elements

to a claim of unconscionability:

1. Procedural Unconscionability

Were unfair bargaining tactics employed that resulted in an absence of meaningful choice?

Was there “oppression” or “unfair surprise” in reaching terms? Was there an awareness of

physical or mental infirmities, ignorance, illiteracy or inability to understand the language of

the agreement, or similar factors?

2. Substantive Unconscionability

Focuses on the outcome of the bargaining process. Is there a gross disparity in the values

exchanged? Are the terms harsh, unfair, or unduly favorable to one of the parties?

Note : Courts differ on whether both procedural and substantive unconscionability must be present.

Nevertheless, most courts agree that severe substantive unconscionability can be a sign of procedural

defects, and vice versa.

← Policing Contracts on Grounds other than Improper Bargaining:

← Illegality and Public Policy

Today we continue our look at doctrines that police the contract formation process by looking at how the

courts will treat contracts that involve an illegal term or subject matter—or terms or subject matter that are

contrary to public policy.

* not concerened with the “fairness” of the bargain, rather another way to find a contract unenforceable

(against public policy)

žIllegality and violation of public policy are defenses that rely on the courts’ reluctance to allow the judicial

process to become involved with the enforcement of certain transactions. Fairness to the parties is not the

focus. The defense of illegality traces to The Highwayman’s Case, an unreported English decision from 1725.

← The Highwayman’s Case

Example of what courts will do when all the elements of a contract are met but the contract itself is illegal.

Two men committed highway robbery and one man brought action for not getting a fair share of the stolen

goods.

The court arrested the individuals and the attorney’s for bringing the case to court.

Basically the court is not going to touch the issue.

Doctrine of In Pari Delicto:

žThe general rule is that contracts involving an illegal subject matter are unenforceable by either pursuant to

the doctrine of in party based on the principle of in pari delicto:

1. The law leaves parties who have participated in an illegal contract where they find them because they

are “equally guilty.” Results in:

no enforcement (contract void)

No restitution

Rationales : (1) Deter bad behavior. (2) Avoid undermining the integrity of the legal system.

In applying the doctrine of in pari delicto, the courts will not just look at the relative moral/legal guilt of the

parties, but will also consider the goals of (public interest served by) the law that was violated.

* otherwise, people may be encouraged to engage in illegal behavior, knowing that it is upheld by

the law – slap in the face to the law.

1. For example, even if both parties are equally aware the contract is illegal, the courts may look to

which party (if either) the law is designed to protect. If one of the parties was intended to be

protected by the law, the court may consider this in the balance of deciding whether to apply the

doctrine of in pari delicto and may grant restitution .

Again, the law uses this doctrine on a discretionary basis

Definitely NO restitution: hire a hit man and he botches the job – the law does not protect the class, in

pari delicto applies – leave the parties as you found them

Maybe restitution : Enter into a loan agreement for 20% interest where usury law limits interest to

%15….. the law obviously protects the consumer, BUT, the parties are both guilty. Law can use

discretion and void the contract, giving restitiution to the consumer b/c the loan shark is “more guilty”

and the consumer is in the class that the law protects– in pari delicto does not apply

← The Diversified Group v. Sahn

Sahn sold the rights to Knicks season tickets to Haber. These rights however were explicitly nontransferable

and any attempt to transfer them would result in their cancellation. The convention center canceled the rights.

Sahn claims that he sold the tickets to Haber for one fee and the other fee was to hold the rights for next year.

Sahn gave back the ticket price ($57,000) but not the additional charge ($140,000). Additionally, the contract

violates New York law. They worded the contract to circumvent the law (contract said that the exorbitant

charge was to hold the tickets, not for the face value of the tickets).

Court does not buy that argument and says that both were attempting to circumvent the law

Sahn argues that both the parties were aware that the contract was illegal, therefore the court should leave

the parties where they found them (in pari delicto).

The court acknowledges that most of the time “in pari decilcto” would be appropriate, but the court found that

the state statute is to protect persons against ticket fraud. Thus leaving the parties the way they are would go

against public policy. Haber was in the protected class.

Underlying policy was to protect people who bought scalped tickets, thus the ct. says that Sahn was “more

guilty” than Haber and ruled in Haber’s favor for policy reasons (statute protects people like Haber)

← Danzig v. Danzig (in pari delecto is applied on a discretionary basis)

Jeffrey, an attorney, contracted with Steve for business. Steven was to get one-third of any fee that Jeffery

made off Steve’s clients.

Public policy : attorney’s 1st represent the client…attorney’s believe they have a need to represent their

client…if you go out door to door seeking business, the sanctity of legal profession is transgressed

The court holds that there is nothing in the evidence that shows Steven knew the contract was wrong,

therefore in pari delecto does not apply..Steve was, relatively, not as guilty as Jeffrey

The court also offers public policy reasons for enforcing the contract.

****No further illegal activity would take place by enforcing the contract.

Non-enforcement serves BOTH the public good and protects the individual (Stevan)

Dissent: The court should not get involved and by enforcing this agreement we are tarnishing the judicial

system.

← Violations of Public Policy

žWhere a contract is not illegal but nevertheless offends public policy, the decision on whether or not to

enforce is more difficult.(Sometimes there is not a statute that makes a contract illegal, what do we do in that

case, when the contract is against public policy?)

1. The courts must balance the interest of freedom of contract and individual autonomy with the

countervailing public policy. If the harm to the public interest outweighs the benefit of enforcing the

otherwise valid contract, then the courts will not enforce.

žBecause violations of public policy in these cases are not violations of law, where do the courts look to

determine what the public policy is?

1. Courts are generally wary of legislating from the bench, so they will commonly rely on settled

authority:

Expressed/clear legislative goals

Settled common law precedent

Nevertheless, it is inevitable the judges’ own moral, religious, or philosophical beliefs often impact their

decisions in this area. Example of legal realism…good lawyers will be able to make a public policy argument

and urge the judge to extrapolate a pre-existing policy/rule

← Remedies for Violations of Public Policy

žThe courts generally apply the same remedy-related rules as where contracts are found to be illegal—

including the doctrine of in pari delicto.

1. However, because the contract is not illegal, the courts have greater flexibility in tailoring the result—

either through voiding, avoidance, severing a term, modifying a term, enforcement or restitution.

← Stevens v. Rooks, Pitts & Poust ( professional ethics policy upheld even though contract was not

technically illegal. Upheld on a PUBLIC POLICY rationale)

Stevens became a partner at Rooks and signed a noncompetition clause. Steven joined another law firm and

Rooks refused to pay Stevens the remaining departure compensation.

Was not technically illegal (he could go work somewhere else, but it was merely a financial disincentive).

Policy rationale for Rule 5.6 – rule is designed to protect a (1)lawyer’s free choice to practice law in an area

and to (2)give the public free choice to find the best representation

Defendants argue that the “rule of reason” should apply… they invested a lot of money in the attorney and

should be compensated for him leaving

Court strikes this argument, saying that “rule of reason” does not apply in this situation b/c it limits the public

access to an attorney in that SPECIFIC town…. If he had wanted to go to NY it wouldn’t apply, basically runs

him out of Chicago, depriving the public of his service, contrary to policy rationale

The court uses the Bar Rules as a clear statement of public policy. Noncompetition clause deprives Stevens

of the right to practice but also clients the right of service.

The court finds that leaving both in “pari delicto”, or, where the parties were before the contract, would still

harm the public the right of service.

← Surrogate Parenting Contracts

žSurrogate parenting contracts usually involve facts along the following lines:

1. A childless couple enters into a contract with a third person to enable the couple to have a child that

is the biological child of at least one of them.

2. Where the husband is sterile, the couple may contract with another man to provide the sperm.

3. If the wife cannot bear children, the couple can contract with a woman to be artificially inseminated by

the father.

4. In either case, such contracts may provide for a money payment to be made to the surrogate for his

or her services and/or for a waiver of parental rights.

5. Sometimes the surrogate reneges before or after child is born.

6. Courts are forced to choose between value of freedom of contract and the ethical considerations of

woman’s right to body, man’s right as father, interests of the child, etc.

← In the Matter of Baby M

The Sterns entered into a formal written contract with Ms. Whitehead for surrogacy arrangements. Ms.

Whitehead would terminate her parental rights but she grew attached to the child.

Moreover, baby-selling is illegal…ct. decides to compare it to adoption

Sterns get custody but court says it was NOT an enforceable contract…was decided on a family law

principle…question at the end of the day was “what is the best interest of the child”(family law)

The court found public policy issues. First, you cannot pay money for adoption, second, court looks at

adoption law, and third, public policy allows time for the mother to change her mind.

The contract issue is really dead and family law should be applied.

← R.R. v. M.H.

Women agreed to be artificially inseminated with the husband’s sperm. The payments described in the

contract were payments for services and medical expenses, not payment for adoption.

The court finds that the contract was structured to try to avoid public policy issues because the mother did not

have to give up her parental rights(Baby M Rule) after having the baby, but the previous money received

would have to be repaid.

The court notes on public policy that the mother would not be in a financial position to pay the money back

and therefore the lower class could be targeted for adoptions.

Ct. finds that it is unenforceable b/c it is against adoption policy, in effect they were contracting around the

policy of not enforcing baby selling…. The final payments were only due upon receipt of the baby = baby

selling

Contract, again, unenforceable on public policy grounds… therefore is decided on family law principles…

“what is best for the baby?”

Policing Contract Formation for Illegality and Violations of Public Policy

Illegality —Subject matter, consideration, or terms of agreement are illegal.

Public Policy —Not illegal but nevertheless offends settled public policy outlined in legislative goals or

common law precedent.

1. Remedies : Courts generally apply the same remedy-related rules to contracts that are found to be

illegal or contrary to public policy, including the doctrine of in pari delicto.

← žRemedies: Doctrine of In Pari Delicto

The general rule is that contracts that are found to be illegal or contrary to public policy are unenforceable by

either party pursuant to the doctrine of in pari delicto:

1. The law leaves parties where it finds them because they are “equally guilty.”

Rationales : (1) Deter bad behavior. (2) Avoid undermining the integrity of the legal system.

2. However, in applying the doctrine of in pari delicto, the courts will not just look at the relative

moral/legal guilt of the parties, but will also consider the goals of (public interest served by) the law or

public policy that was violated.

← Introduction to Policing Contracts on Grounds of Incapacity

žThe general presumption is that all persons have the capacity to enter into contracts.

žThere are, however, two exceptions: (1)minors and (2)mentally incompetent adults.

1. These two classes of persons are considered to lack the mental capacity to contract. In order to

protect such incapacitated persons, the law generally permits them to avoid any contracts entered

into while incapacitated.(voidable, not altogether void)….so, they still have the power to contract

← Comparison to Doctrines that Police for Improper Bargaining

žInsofar as these rules are designed to protect the incapacitated, they have much in common with the

doctrines that police contracts for improper bargaining (misrepresentation, duress, and unconscionability).

1. However, contrary to the doctrines that police contracts for improper bargaining (but similar to policing

for illegality or public policy concerns), there is no requirement that any improper bargaining be

proved for an incapacitated person to avoid a contract.

← Minority

žLack Capacity:(they are assumed, by the law, to lack the capacity to contract)

1. Prior to reaching the age of majority (usually 18), minors do not have the legal capacity to be

contractually bound.

2. Rationale : To protect minors from exploitation due to lack of education and experience.

Easier to apply bright-line, objective age test that case-by-case analysis of capacity (of

course, there are 17 year olds who have a better capacity than 65 year olds….it is easier to

apply, can’t evaluate every minor on a case by case basis.)

žRemedies:

1. Nevertheless, contracts entered into by minors are not legal nullities. Instead, they are voidable at

the minor’s election. Consequently, a minor is free to disaffirm a contract at any time prior to reaching

the age of majority, and up to a reasonable time after turning 18.

← Minority: Disaffirming a Contract

žWhere a contract is purely executory, a minor’s disaffirmance of a contract results in its termination

(unenforceable by either party).

1. Major’s Obligations : If, however, either or both parties have performed (or partially performed), the

major party will be required to offer complete restitution (full value of the minor’s performance) to the

minor.

2. Minor’s Obligations : The general rule, however, is that the minor is only required to return what he or

she has left of the major party’s performance (value still retained). Repayment of full value is not

typically required.

Example : I sell a minor my F-150 for $15,000. He pays me $5,000 down and promised to

make $300 a month payments. The minor totals the car by sinking it in quicksand.

Afterwards, he disaffirms the contract. Under the general rule, I must return the $5,000 and

any payments made. The minor is not required to pay me any restitution for the truck or its

use.

3. Note : Courts may, however, differ in their leniency toward the minor. For example, courts have

sometimes shown less leniency where a minor either misrepresents his or her age or is negligent.

The major may also have an opportunity for remedy in a tort action for fraud or negligence.

*the lesser minority of courts will make the minority pay full restitution

**Also, the out of luck majority may be able to bring the case in TORT, b/c capacity is treated

differently in TORT than in CONTRACT

← Minority: Ratifying a Contract

žAs a minor does not have the legal capacity to be contractually bound until reaching majority, it follows that a

minor also cannot affirm/ratify a contract (making it fully enforceable by both parties) until reaching majority.

1. After reaching majority, however, a contract entered into while a minor can be ratified. Such a

contract can be ratified expressly, by conduct (e.g., taking a benefit under the contract), or impliedly

(by failing to disaffirm after a reasonable time).

Example : At the age of 17, Kobe Bryant entered into a contract with a company whereby he

granted them rights to use his name and image on products.

Shortly after his 18th birthday, he cashed a $10,000 check from the company.

A little over a year later, Bryant tried to avoid the contract by claiming it was entered

into when he was a minor.

The court held that they did not have to address the question of whether Bryant had

impliedly ratified the contract by not disaffirming within a reasonable period of time

because he had already ratified the contract by conduct when he cashed the $10,000

check. See, In re The Score Board, Inc. (ratification implied by conduct)

Minority: Necessaries

Incapacity attributed to minors is a double edged sword…they are unable to contract…

what if they need to contract for a necessary?

Necessaries are determined on a fact based/case by case basis

NECESSARIES are more than NECESSITIES(food and shelter)

If emancipated(no longer relies on their parents), then much more will qualify as

necessary

← Douglass v. Pflueger Hawaii, Inc.

Plaintiff started working at a car lot as a minor. Plaintiff signed an arbitration agreement. Plaintiff filed suit

against his employer for sexual harassment. Plaintiff alleges that the arbitration agreement is not binding

because he signed the contract as a minor.

The court first held that there was a state common law rule known as the “infancy doctrine” that stated

contracts entered into by minors are voidable. An exception to the rule is that a minor may not avoid a

contract for goods or services necessary to his/her health and sustenance.

However the court also held that a state stature for employment regulated minors working. The court found

that the Legislature made a distinction between a licensed minor working and a non-licensed minor working

by age. The court has to interpret both the state statute and the common law rule….

State legislature has explicitly stated that 16/17 yr. olds are able to contract, in the employment context

If he had won the argument that he was a minor, then he would not be able to seek damages b/c, as a minor,

it was all or nothing/contract void, then no cause of action against, because not technically employed, by his

employer … ct is trying to help him out but saying that he is not a minor

Public policy reason for enforcement, the public in large will hesitate to enter into contracts with minors if

every contract is voidable.

The court did not enforce the arbitration agreement based on lack of consideration, not based on the plaintiff

being a minor. .. it was an illusory promise, the clause was hidden deep inside the contract (procedural

unconsabilty - hidden deep and contract of adhesion - and illusory for lack of real consideration)

Minority: “Necessaries”

The protection of incapacity is a double-edged sword. Though minors have the advantage being able to hold

adults to contract while that they can avoid by disaffirmance, this very fact makes them undesirable

contracting parties.

1. Recognizing this fact, the courts have recognized limited situations in which minors may be held

legally bound to the contracts they enter into.

2. The most common of these situations is where minors enter into contracts for “necessaries.”

What counts as a necessary is a fact-based determination, but it is generally regarded

involving something more than the bare necessities of life (food and shelter) and certain

something less than luxury items. It will also depend on the minor’s status. If living at home

with parents, then very little might qualify as a necessary. But if emancipated (married or in

military), much more will qualify as a necessary.

← Mental Incapacity – exception #2 to the general rule that “everyone is assumed to have the ability to

contract”

← Restatement §15 – Mental Illness or Defect:

(1) A person incurs only voidable contractual duties by entering into a transaction if by reason of

mental illness or defect

1. (a) he is unable to understand in a reasonable manner the nature and consequences of the

transaction.

*ex – think you are selling your dog but are actually selling your car

2. (b) he is unable to act in a reasonable manner in relation to the transaction and the other party

has reason to know of his condition

*ex. – know what you are doing but can’t connect the fact that this will have terrible

consequences (tougher to prove b/c you have to prove the other party knew you were

incapable)

*have to (1)show incapacity (2) show that the other party knew of it (3) the contract was

lopsided

(2) Where the contract is made on fair terms and the other party is without knowledge of the mental

illness or defect, the power of avoidance under Subsection (1) terminates to the extent that the

contract has been so performed in whole or in part or the circumstances have so changed that

avoidance would be unjust. In such a case a court may grant relief as justice requires.

* Mental incapacity is usually established by expert testimony← Farnum v. Silvano

Farnum, a 90-year-old, sold her house for $64,900, to defendant. At the time the fair market value of the

property was $115,000. Farnum had many episodes showing lack of capacity.

The court found that Farnum did not possess the requisite contextual understanding to be bound to a

contract.

The court found that it is one thing to be aware but it is quite another thing to be able to understand the

context of the situation.

Additionally, defendant had been told about the unfair price and the plaintiff’s state of mind.

Restatement 15(1)(b) – ct. found that she was incompetent(didn’t know the ramifications of the sale, and

found that the other party knew of her incompetence).

Remedy was rescission - the parties are placed in the same position as they were in before the contracts…

she has to give back the $ and any taxes that he paid, he has to pay her rent for his use of the house

Two Exception Person has Capacity Enter into Binding Contract

žPresumption is that all persons have capacity to enter into binding contracts. Two exceptions:

1. Minors —Contracts entered into by minors are not legal nullities. Rather, they are voidable at the

minor’s election. Minor is free to disaffirm a contract at any time prior to—and up to a reasonable

time after—achieving the age of majority.

Exception : Courts will hold minors bound to contracts for “necessaries.” What is a necessary

will be a fact-based inquiry.

Ratifying a Contract —Minor cannot ratify a contract until reaches the age of majority. Once

of age, can be ratified explicitly, by conduct, or impliedly (by failing to disaffirm after a

reasonable time.

2. Mentally Incapacitated —Guidance provided by Restatement §15. Contracts voidable by the mentally

incapacitated where shown that by reason of mental illness or defect, person unable to reasonably

understand the nature and consequences of the transaction or is unable to act in a reasonable

manner in relation to the transaction and the other party knows this.

3. Remedies : Where both parties have performed under such a voidable contract, the non-incapacitated

party will be required to provide full restitution of value received. The incapacitated party, however, is

usually only required to return the value still in possession. Under certain facts (e.g., fraud or

negligence), Non-incapacitated party may, however, be able to bring action under another theory

(e.g., tort).

4. Note : The doctrines designed to protect the incapacitated (so similar to doctrines policing for improper

bargaining), but no improper bargaining is required for them to apply.

Introduction to Contract Interpretation and Construction

žWe have now completed our focus on how to determine if the parties have an enforceable contract. We now

turn our focus to discerning the content of parties’ contractual obligations after the contract has been formed.

Parties may agree they have a contract but differ on what the contract requires of them.

Where the parties cannot find consensus on what they agreed to, they may look to the courts to interpret or

construct the terms for them.

Glannon E & E – Interpretation and Construction –

An indefinite contract cannot come into being if there is a material term missing AND if the uncertainty cannot be

resolved by interpretation and construction

Courts will generally try to enforce a contract, even if material terms are missing, if it appears that the parties

intended to contract

Interpretation – evaluating the facts to see what the parties meant

Construction – applying appropriate legal rules that are used to determine presumed intent(interpretation by legal

implication)

construction is appropriate only when the existing evidence supports the reasonable conclusion (objective

manifestations)that the parties intended to contract but there is little factual evidence that an supporting a

particular aspect of the contract

Another time construction is used is to further a public policy, or is so fundamental to fair dealing

Indefiniteness occurs when terms are:

1. vague – uncertain, stated obscurely

2. ambiguous – capable of more than one meaning

3. omitted terms

4. there are agreements to agree – sometimes courts will fill in terms, if they are certain that the parties

intended a contract

Generally, the jury deals with interpretation while a judge deals with construction (however, it has become blurred

b/c of the subtle distinction b/t construction and interpretation)

INTERPRETATION:

Can be either the plain meaning or the contextual approach. When interpreting the meaning of the contract, ct.

looks to 5 things, in order;

1. Actual words of the agreement –

explicit language trumps all. If is clear, then no need for interpretation

2. Context –

conduct of the parties during negations can provide insight into their intent

3. course of performance (conduct after contract was made),

if one party accepts w/out objecting, it is strong evidence that a contract was formed and they agreed to

the terms, reflecting clear intent by both parties to contract

- ex. We agree no animals, I keep a duck and you do not object. Reasonable inference that a duck is

not an “animal”

4. course of dealings (conduct before),

ex. You previously rented an apartment to me and told me that a duck was a prohibited animal. Later, we

enter another contract…I am expected to know that ducks are prohibited

two transactions must be substantially similar

5. trade and usage –

Probative value of evidence of usage is usually decided by the jury

Old approach was that only ancient, universal, and notorious usage could be used as evidence.

However, UCC is more flexible and recognizes that in today’s dynamic economy, usage can change

overnight

UCC test is…”whether the usage is currently observed by a great majority of decent dealers.”

Expert testimony is usually required to establish trade and usage

Courts are hesitant to apply trade and usage if both parties are not active participants in the relevant

market

CONSTRUCTION:

Distinction Between Contract Interpretation and Construction

žContract “interpretation” is the process of discerning the meaning reasonably intended by the parties to a

contract. I.e., this is the search for the actual intent manifested by the parties as demonstrated by the

facts(words, conduct, and context)

Contract “construction” refers to the process of adding contract terms by legal implication. Construction goes

beyond the search for what the parties actually intended and looks to what they would or should have meant

in reaching their agreement. In short, where there is a gap in the facts or language that precludes

interpretation, the court may look to the law to fill the gap.

Ct. may construct contract terms where it is clear that a contract was intended and:

(1) There were not enough facts to determine objective intent of the parties

*cannot interpret unambiguously

(2) Public policy demands imposition of terms (regardless of the objective intent).

So, when there are enough facts to determine the intent to contract…in that case, the court will engage in

interpretation…. When there is not enough evidence, then the court may engage in construction, but courts

are MORE hesitant to engage in construction, or, to impose terms by implication.

We begin by looking at how the courts approach contract interpretation.

Restatement § 202 – Rules In Aid of Interpretation

(1) Words and other conduct are interpreted in the light of all the circumstances, and if the principal

purpose of the parties is ascertainable it is given great weight.

(2) A writing is interpreted as a whole, and all writings that are part of the same transaction are

interpreted together.

(3) Unless a different intention is manifested,

(a) where language has a general prevailing meaning, it is interpreted in accordance with that

meaning;

(b) technical terms and words of art are given their technical meaning when used in a transaction

within their technical field.

(4) Where an agreement involves repeated occasions for performance by either party with knowledge

of the nature of the performance and opportunity for objection to it by the other, any course of

performance accepted or acquiesced in without objection is given great weight in the interpretation of

the agreement.

(5) Wherever reasonable, the manifestations of intention of the parties to a promise or agreement are

interpreted as consistent with each other and with any relevant course of performance, course of

dealing, or usage of trade.

Restatement § 202 – Rules In Aid of Interpretation Comments

žScope [Comment a]: Generally applicable to all manifestations of intention (not just writings) and all

transactions.

Purposes [Comment c] of a party are not always identical, but “up to a point they commonly join a common

purpose of attaining a specific factual or legal result which each regards as necessary to the attainment of his

ultimate purpose….Determination that the parties have a principal purpose in common requires interpretation,

but if such purpose is disclosed further interpretation is guided by it.”

Both parties do not always have the same purpose for contracting…if we can ascertain their respective

purposes, then we can give effect to the terms

Interpretation of the Whole [Comment d]: “Meaning is inevitably dependent on context. A word changes

meaning when it becomes part of a sentence, sentence when it becomes part of a paragraph. A longer writing

similarly affects the paragraph, other related writings affect the particular writing, and the circumstances affect

the whole.”

Note on Technical Terms [Comment f]: “technical terms are often misused, and it may be shown that a

technical word or phrase was used in a non-technical sense. Moreover, the same word may have a variety of

technical and other meanings.”

Restatement § 203 – Standards of Preference in Interpretation (hierarchy)

← In the interpretation of a promise or agreement or a term thereof, the following standards of preference

are generally applicable:

(a) an interpretation which gives a reasonable, lawful, and effective meaning to all the terms is

preferred to an interpretation which leaves a part unreasonable, unlawful, or of no effect;

(b) express terms are given greater weight than course of performance, course of dealing, and usage

of trade, course of performance is given greater weight than course of dealing or usage of trade, and

course of dealing is given greater weight than usage of trade;

(c) specific terms and exact terms are given greater weight than general language;

(d) separately negotiated or added terms are given greater weight than standardized terms or other

terms not separately negotiated.

Restatement § 203 – Standards of Preference in Interpretation Comments

žScope [Comment a]: These rules “do not override evidence of the meaning of the parties, but aid in

determining meaning or prescribe legal effect when meaning is in doubt….”

Superseded Standard Forms [Comment f]: Rule in (d) “has frequent application in cases of standardized

documents….in cases of inconsistency a handwritten or typewritten term inserted in connection with the

particular transaction ordinarily prevails. Similarly a typewritten term may be superseded by drawing a line

through it….or controlled by an inconsistent handwritten insertion in another part of the agreement.”

UCC 1-303 – Course of Performance, Course of Dealing, and Usage of Trade

← (a) A “course of performance” is a sequence of conduct between the parties to a particular transaction

that exists if:

(1) the agreement of the parties with respect to the transaction involves repeated occasions for

performance by a party; and

(2) the other party, with knowledge of the nature of the performance and opportunity for objection to

it, accepts the performance or acquiesces in it without objection.

← (b) A “course of dealing” is a sequence of conduct concerning previous transactions between the parties

to a particular transaction that is fairly to be regarded as establishing a common basis of understanding for

interpreting their expressions and other conduct.

← (c) A “usage of trade” is any practice or method of dealing having such regularity of observance in a

place, vocation, or trade as to justify an expectation that it will be observed with respect to the transaction in

question. The existence and scope of such a usage must be proved as facts. If it is established that such a

usage is embodied in a trade code or similar record, the interpretation of the record is a question of law.

← (d) A course of performance or course of dealing between the parties or usage of trade in the vocation or

trade in which they are engaged or of which they are or should be aware is relevant in ascertaining the meaning

of the parties’ agreement, may give particular meaning to specific terms of the agreement, and may supplement

or qualify the terms of the agreement. A usage of trade applicable in the place in which part of the performance

under the agreement is to occur may be so utilized as to that part of the performance.

← (e) Except as otherwise provided in subsection (f), the express terms of an agreement and any applicable

course of performance, course of dealing, or usage of trade must be construed whenever reasonable as

consistent with each other. If such a construction is unreasonable:

(1) express terms prevail over course of performance, course of dealing, and usage of trade;

(2) course of performance prevails over course of dealing and usage of trade; and

(3) course of dealing prevails over usage of trade…..

UCC 1-303 – Course of Performance, Course of Dealing, and Usage of Trade Comments

žInterpreted in Commercial Context [Comment 1]: The UCC rejects the “lay-dictionary” reading of a

commercial agreement…. The measure and background for interpretation are set by the commercial context,

which may explain and supplement even the language of a formal or final writing.”

“Course of dealing” [Comment 2]: Restricted to a sequence of conduct between the parties prior to the

agreement—conduct after or under the agreement is “course of performance.”

“Usage of trade”(trade and geographic specific) [Comment 3]: “The language used is to be interpreted as

meaning what it may fairly be expected to mean to parties involved in the particular commercial transaction in

a given locality or in a given vocation or trade.”

1. [Comment 4] (usage of trade changes quickly) “…it is not required that a usage of trade be ‘ancient or

immemorial,’ ‘universal,’ or the like. Under the requirement of subsection (c) full recognition is thus

available for new usages and for usages currently observed by the great majority of decent dealers,

even though dissidents ready to cut corners do not agree….”

Frigaliment Importing Co. v. B.N.S. International Sales Corp.

Frigaliment brought action for breach of warranty, there were two contracts entered into on the same day for

frozen chickens. Frigaliment objected to the chickens received because they were not “young chickens” but

B.N.S. claims that the word “chicken” means any kind of chicken not just young chickens.

The first thing the court did was look at the dictionary term chicken, but there was no clarity. Therefore the

court held that the term chicken was ambiguous. Next the court looked at the terms of the contract as a

whole. (The court does not use the UCC because it was not implemented yet.)

The contract states different weights of chickens normally found to be “young chickens” however the court

does not give much weight to this argument because things can be different weights but the same kind of

item.

U.S. Fresh Frozen Chicken, Grade A was found in the contract, Frigaliment argued that was just a trade term

while B.N.S. used the definition give by the Department of Agriculture for any kind of chicken. The prices of

the chickens were also at debate.

Finally, the court turned to extrinsic evidence. The terms of the contract were in German but for the word

chicken. Fraigliment argues that is because the German word “hunu” means old chicken, while B.N.S. relies

on the salesman’s statement “any kind of chicken.”

The case was dismissed. The plaintiff did not meet the burden of proof necessary.

“Plain Meaning” v. Contextualist Approach

žPlain Meaning Approach: One approach courts have used to interpret contracts is called the “plain meaning”

method. Plain meaning interpretation involves three steps:

1. (1) Court attempts to determine whether the language of the agreement on its face is ambiguous.

(E.g., are there differing dictionary definitions, each of which might reasonably support one of the

parties interpretations?) If the court finds the terms are on their face ambiguous, then they will move

to the second step.

2. (2) Court attempts to interpret the disputed terms in light of the context of the entire written

agreement. Tries to determine whether a reasonable person coming across the terms in the context

of the agreement as a whole would favor one interpretation over another.ONLY IF YOU CANNOT

INTERPRET AT THIS POINT, YOU MOVE ONTO….

3. (3) The court will only turn to extrinsic evidence (oral or written communications between the parties,

prior dealings, usage of trade, course of performance) if it cannot attach an unambiguous meaning to

the terms after step two.

Contextualist Approach Interpretation

žContextualist Approach to Interpretation: The modern trend (exemplified in the UCC), however, is to rely

more on extrinsic evidence of meaning in contracts.

1. For example, many modern courts are willing to consider extrinsic evidence from the outset—even if

the language of the agreement seems clear at first glance. Often the context surrounding the

contract formation will put the terms in a new light—one that better reflects the intent of the parties at

the time the contract was formed.

Guilford Transportation Industries v. Public Utilities Commission

The issue was whether the term “wire” included fiber optic cables.

The court starts by addressing the word “wire” whether the dictionary meaning is ambiguous or

unambiguous. (This is the “plain meaning” approach.)

The court found that the term was ambiguous. Next the court looked at the term in the context of the

entire agreement.

CMP argues that the contract says “electrical communication” which includes fiber optic cables. However

Guilford says that section only addressed communication internally.

The court cannot make a final decision based on the “four corners” of the contract.

Court takes the plain meaning approach, the 3-step analysis…only then do they allow EXTRENSIC

evidence to control…

3 steps are: (1) is it ambiguous? (2) if it is ambiguous, then try to interpret it and attach meaning, as determined by a

reasonable person, under the circumstances (3) pull in extrinsic evidence to supplement and determine

Pacific Gas & Electric Co. v. G.W. Thomas Drayage & Rigging Co. (extrinsic v. “plain meaning” approach)

Defendant entered into a contract with plaintiff to furnish the labor and equipment necessary to remove

and replace the upper metal cover of plaintiff’s steam turbine.

The lower court refused to look at extrinsic evidence, even though it might change the outcome of the

decision. The lower court only looked at the “plain meaning” of the contract.

The court found that even when only looking at the “plain language” of a contract, the judge is using

external evidence based on personal experience and knowledge.

The court found that words vary in meaning depending on their contexts. Therefore you must look at the

circumstances surrounding the word to find out the true meaning.

The court holds that the plain meaning doctrine is a old approach and that the contextualist approach

must be applied.

Contract Interpretation

žContract interpretation is the process of discerning the meaning reasonably intended by the parties to a

contract that has already been formed. I.e., this is the search for the actual intent manifested by the parties.

žGeneral Guidance for Interpreting Contract Terms:

1. Restatement §202 – Rules In Aid of Interpretation

2. Restatement §203 – Standards of Preference in Interpretation

3. UCC §1-303 – Course of Performance, Course of Dealing, and Usage of Trade

Plain Meaning v. Contextualist Approaches

žDistinguished “Plain Meaning” from Contextualist Approaches to Interpretation of Written Agreements:

1. Plain Meaning or “Four Corners” Approach

(1) Court attempts to determine whether language is ambiguous on its face (e.g., differing dictionary

definitions)’

(2) If ambiguous on its face, then court attempts to interpret meaning of terms in light of context of the

entire writing,

(3) Court will only turn to extrinsic evidence (look beyond the four corners of the written agreement

itself) if it cannot attach an unambiguous meaning after step (2).

Examples of extrinsic evidence:

Course of performance

Course of dealing

Usage of trade

Prior or subsequent oral or written communications

Contextualist Approach to Interpretation

žContextualist Approach to Interpretation: The modern trend (exemplified in the UCC), however, is to rely

more on extrinsic evidence of meaning in contracts from the outset of the interpretive process.

1. Rationale : Often the context surrounding the contract formation (supplied by extrinsic evidence) will

put the written contract terms in a new light—one that better reflects the intent of the parties at the

time the contract was formed.

Introduction to Contract Construction

žLast time we discussed how the courts might approach a dispute over the parties’ actual intended meaning

of contract terms by interpreting the agreement.

But sometimes the problem is not that the terms are ambiguous or uncertain, but rather that they are missing

altogether. Or perhaps methods of interpretation fail to yield a satisfactory result (the parties’ contradictory

interpretation of the terms cannot be resolved by reading them in context and considering extrinsic evidence).

In these circumstances, the court is left with the choice of either declaring the contract void for vagueness or

indefiniteness, or “fill the gap” for the parties by supplying terms based on common law or statutory principles

and rules.

žIn such cases, the court moves beyond interpreting the actual intentions manifested by the parties, and

instead draws on the law to construct a resolution to the problem.

Intro to Specific Gap-Fillers or Default Rules

žWhy have default rules—why not just find any contract with missing terms to be void for indefiniteness?

1. One answer is that default rules are facilitative; they save a large number of bargainers the time,

expense, and risk of error of bargaining each detail explicitly in an agreement in advance. This

makes it easier for parties to make enforceable contracts and thus presumably advances important

goals of contract law: autonomy and efficiency.

Where do default rules come from?

1. Obviously they come from the courts and legislatures—but what about in terms of justification?

In the words of Oliver Wendell Holmes, they are typically thought of as “the terms that it may

fairly be presumed the parties would have assented to if they had been presented to their

minds.” Or, in other words, we imagine a hypothetical bargain among parties similarly

situated to the litigants and ask: How would those parties have allocated this risk if required to

do so explicitly in advance?

Opting Out

žRemember that specific gap-filling provisions are only drawn upon to supplement an agreement where the

parties are silent on the issue. This means that if parties do not want to be committed to the specific gap-

filling provisions (either under the common law or the UCC), they can opt out of them by explicitly inserting a

contrary term.

commerce needs flexibility and filling in terms could transgress parties autonomy

So, generally, you can contract out of default rules to escape unwanted consequences

Restatement: Opening Door to Construction

← žRestatement §204 –Supplying an Omitted Essential Term: GREEN LIGHT TO ADD A TERM

“When the parties to a bargain sufficiently defined to be a contract have not agreed with respect to a

term which is essential to a determination of their rights and duties, a term which is reasonable in the

circumstances is supplied by the court.”

UCC: Opening Door to Construction

← žUCC-2-204(3) – Formation in General:

“…(3) Even though one or more terms are left open a contract for sale does not fail for indefiniteness

if the parties have intended to make a contract and there is a reasonably certain basis for giving and

appropriate remedy.”

Examples of Specific Gap-Fillers in UCC

← Last semester we saw how these gap-filling provisions could save a contract from being found void for

indefiniteness. For example, where it is clear the parties intended to enter into a contract for the sale of goods, but they

failed to include a price term, the UCC may fill that gap in the contract terms via UCC 2-305: 

žUCC 2-305 – Open Price Term:

1. “(1) The parties if they so intend can conclude a contract for sale even though the price is not

settled. In such a case the price is a reasonable price at the time for delivery if

(a) nothing is said as to price; or

(b) the price is left to be agreed by the parties and they fail to agree; or

(c) the price is to be fixed in terms of some agreed market or other standard set or

recorded by a third person or agency and it is not so set or recorded…..”

← There are many other gap-filling provisions in the UCC (e.g., covering method of payment, method of delivery,

etc.). Consider, e.g., UCC 2-311:

UCC 2-311 – Options and Cooperation Respecting Performance:

1. (1) An Agreement for sale which is otherwise sufficiently definite (Section 2-204) to be a

contract is not made invalid by the fact that it leaves particulars of performance to be

specified by one of the parties. Any such specification must be made in good faith and within

limits set by commercial reasonableness.

2. (2) Unless otherwise agreed, specifications relating to assortment of the goods are at the

buyer’s option and [except as otherwise provided in 2-319] specifications or arrangements

relating to shipment are at the seller’s option….

Family Snacks of North Carolina, Inc. v. Prepared Products Co., Inc.(contract dispute, can court add terms when

parties cannot settle on them?)

Prepco sold to Family Snacks a snack processing facility. The purchase price of the facility was based upon

an agreement between Family Snacks and Prepco that Prepco would reduce the purchase prices of the

facility and would recoup the difference through the implementation of a low-cost manufacturing agreement

with Family Snacks.

There are four elements the court looks at for a valid contract: (1) enforceable contract between the parties,

(2) obligation, (3) breach, and (4) resulting damages.

Prepco argues that there is not a valid contract because there was no fixed price. However the court finds

that there is a fixed price based on the objective cost plus agreement form.

Next Prepco argues that their performance relied on Family Snacks sending a price sheet. The contract does

not address this issue and the court referenced a default rule, Restatement 204, “opens the door to fill the

gap.”

The court uses UCC 2-311 to fill the gap. The prevision says, “the buyer is the person who has to act first.”

(default rule)…the default rule is not invoked unless there is nothing in the contract defining the term

Court cannot move on to gap filler unless the parties intended to contract…ct. determined that parties indeed

intended to contract.

Prepco had the duty to move first, under UCC 2-311, and did not. Therefore, they were in breach

Original contract was worded poorly

Good Faith as Construction Tool

žRules like UCC 2-311 provide specific gap-filling rules parties know will be construed as part of their

agreement for the sale of goods if they do not explicitly opt out.

žSometimes the courts will rely on general principles, rather than specific terms, to construct missing or

ambiguous terms for the parties. The principle of good faith is one such example.

As we’ve seen, both the Restatement and the UCC recognize a general duty faith attaching to every

contract….

Restatement §205 – Duty of Good Faith and Fair Dealing

“Every contract imposes upon each party a duty of good faith and fair dealing in its performance and

its enforcement.”

1. Comment (a) : “…The phrase ‘good faith’ is used in a variety of contexts, and its meaning

varies somewhat with the context. Good faith performance or enforcement of a contract

emphasizes faithfulness to an agreed common purpose and consistency with the justified

expectations of the other party; it excludes a variety of types of conduct characterized as

involving ‘bad faith’ because they violate community standards of decency, fairness or

reasonableness…

← žUCC §1-304 – Obligation of Good Faith

“Every contract or duty within [the Uniform Commercial Code] imposes an obligation of good faith in

its performance and enforcement.”

1. UCC §1-201(b)(20): “’Good faith,’…means (1)honesty in fact and the (2)observance of

reasonable commercial standards of fair dealing.”

Good Faith: Output and Requirements Contract

žYou’ll recall from our discussion of the requirement of mutuality of obligation that UCC 2-306 imposes a duty

of good faith on output and requirements contracts, thereby allowing it to meet the test for consideration—and

it also prevents one party from attempting to unfairly take advantage of favorable marked price fluctuations:

1. UCC §2-306(1) – Output, Requirements and Exclusive Dealings

“(1) A term which measures the quantity by the output of the seller or the requirements

of the buyer means such actual output or requirements as may occur in good faith,

except that no quantity unreasonably disproportionate to any stated estimate or in the

absence of a stated estimate to any normal or otherwise comparable prior output

requirements may be tendered or demanded.”

Indiana-American Water Co., v. Town of Seelyville

The town entered into a 25-year contract to obtain its water from the Indiana-American Water

Company(REQIREMENTS CONTRACT). The town starts development on its own water towers and stopped

the contract with the water company.

The court applies the UCC 2-306 “good faith” requirement.

Was it an illusory promise? Ct. says that good faith makes the contract not illusory

The court found that there was a requirement contract and the town was not taking advantage of the other

parity.

The water company knew that the town wanted to develop its own water towers. The time came that the town

could afford the construction. The town stopping the contract with the water company was not in “bad faith”

but it was the best interest of the town.

The town had purchased the well site b4 the contract… they would not be in competition with the water

company

The reasoning behind UCC 2-306 is to estopp people from taking advantage of price fluctuations in the

market (demanding more than they need b/c of an advantageous market)…this was not happening in this

case

← United Airlines, Inc. v. Good Taste, Inc. (Good Faith to Construe Other Terms)

Untied entered a contract with Saucy Sisters to cater United’s flight to Anchorage. The contract said that

there was a no cost termination agreement of 90 days. Untied gave a 90 day notice and stopped the

contract.

Costed Saucy Sisters $1 million to develop their business in order to meet United’s needs

The trial court found that there was a contract termination at will but the court allowed the contract to move

forward because there was an implied covenant of “good faith.” Simply, the court read the contract and it did

say the contract can be terminated, however when a contract is so broad and has so many attachments in

exercising discretion, there is an implied obligation to act in “good faith.”

Illinios courts have never said that “good faith” is violated in at will employment contracts…if the intent is to

run someone else out of business, which would be “bad faith”

Escaping the contract to get a better price is not, however, “bad faith”…Sisters argues it was in bad faith, but

ct. says that seeking a better deal is consistent w/ good faith of the termination clause.

When there is desertion in a contract you can breach a contract for growing your business or economic

growth. There has to be a veiled business clause.

However the court finds that a no clause termination clause doe not have to look at “good faith.” “Good faith”

can only be read to supplement the contract. Here the trail court used “good faith” to change the contract not

to fill in the gap.

Saucy sisters wanted the contract bad, took the risk, and paid the price

← Dissent (legal realism)

The dissent argues that there must be some kind of reason verses no reason at all to terminate a contract in

“good faith.” “Good faith” is a richer concept and should be applied across the board, unless the contract

specifically excludes “good faith.”

Default rule should be that you “have cause” to terminate, not that you don’t have to show cause

← žContracts Construction—Gap Fillers and General Principles

Contract interpretation is the process of discerning the meaning reasonably intended by the parties to a

contract that has already been formed.

Contract construction applies where terms are missing altogether or methods of interpretation fail to identify

the parties’ intended meaning.

1. In such cases, the court can either declare the contract void for vagueness or indefiniteness, or the

court can supply the term.

Courts will supply terms in one of two ways:

Specific statutory or common law gap-fillers/default rules (e.g., UCC 2-305 – Open

Price Term)

Based on general principles of contract law (e.g., duty of good faith and fair dealing)

Rationale Behind Specific Gap-Filling Rules and General Principles in Contract Construction:

1. The are facilitative they save a large number of bargainers the time, expense, and risk of error of

bargaining each detail explicitly in an agreement in advance. This makes it easier for parties to make

enforceable contracts and thus presumably advances the goals of autonomy and efficiency.

žOpting Out: Specific gap-filling rules are only drawn upon to supplement an agreement where the parties are

silent on an issue. This means that if the parties do not want to be committed to the specific gap-filling

provisions (either under common law or the UCC), they can opt out of them by explicitly inserting a contrary

term.

← Introduction to Parol Evidence

žWhen Applies: The parol evidence rule comes into play where an agreement is recorded in writing and one

of the parties’ attempts to introduce extrinsic evidence that the parties agreed to another term that is not

contained in the writing.

Origins of Term : The term “Parol” derives from the French “parole,” meaning “word.” Thus, the term “parol

evidence” was initially used to refer to oral evidence of agreement. Today, however, it refers to both oral and

written terms agreed to prior to (or contemporaneous with) the execution of the final written contract, but not

incorporated in it.

← žGeneral Rule

We will see that the common law and UCC take different approaches, but generally speaking, the parol

evidence rule provides that where the parties execute a writing that is intended to be a complete and final

expression of their agreement (i.e., “fully integrated”), no parol evidence may be admitted to supplement

or contradict it. If, however, the writing is not a final and complete expression of the agreement (i.e.,

“partially integrated,” then consistent (but not contradictory) parol evidence may be admitted to supplement or

explain those parts of the agreement that have not been finally expressed

* Note: Evidence that contradicts the writing will NEVER be admitted ← Distinguished from Interpretation

žThe parol evidence rule extends and reinforces the preference we saw the courts will generally give to a

contract’s written terms over extrinsic evidence of the parties’ intentions in contract interpretation.

1. Distinguishing from Interpretation : The focus of contract interpretation is on discerning the meaning of

the actual expressed terms in the agreement as they were reasonably intended by the parties

(applies to both written and oral agreements). On the other hand, the parol evidence rule is limited to

written agreements and concerns attempts to introduce extrinsic evidence that add to, detract from,

vary, or contradict the written terms of the agreement.

Interpretation – what does it say?

Parole Evidence – What will we let in as evidence?

← Rationale Behind Parole Evidence Rule:

← (1)when parties take the time to put something down in paper, then it suggests that they were serious about it,

← (2)it is more reliable and;

← (3)protects against fraud.

žThe presumption is that when parties make the effort to reduce their agreement to a writing, they intend that

writing to control the agreement as its final expression. As such, the final agreement should be understood as

superseding any other agreements concerning the same subject matter that came before or

contemporaneous with its execution. Consequently, evidence of terms agreed to prior to this written

agreement that were not expressed in its terms should not be admissible for the purpose of determining the

parties’ obligations.

1. Also presumes that written record is more reliable than recollections.

2. Also protects against fraud or self-serving testimony after the fact.

← Effect of Rule

žImportant to remember that admitting parol evidence does not decide the question of the agreement’s

enforceable terms—the fact finder must still evaluate the credibility of the evidence and otherwise determine

whether it is enough to reflect a binding agreement by the parties to that term.

EVEN IF the parole evidence is admitted, then the jury still has to decide whether it should be part of

the agreement…you merely clear the first hurdle, then decide on the merits.

← Introduction to Common Law Integration

žWe have seen that the parol evidence rule’s application will depend on whether the court finds the

agreement is fully or only partially integrated. The courts generally apply a twp-step process:

(1) Judge decides the question of whether the written agreement is integrated—and if so, whether it is

fully integrated (in which case no parole evidence is allowed) or only partially integrated.

(2) If it is only partially integrated, and the term at issue was missing or incomplete, then the court will

admit parol evidence that is consistent with the express terms of the written agreement (cannot

contradict).

← “Four Corners” vs. Contextualist Approaches

žWe will see that at common law courts will take different approaches to the question of integration—ranging

from a strict “four corners” approach to more contextual approaches. As with interpretation, the current

trend is toward greater contextualism.

← Four Corners Approach

žLooks only at the four corners of the written agreement to determine whether integrated—no extrinsic

evidence is considered. If the document interpreted as a whole (in accordance with the plain meaning of the

text) appears to be a full and final expression of the agreement, it is fully integrated—and no parol evidence is

admitted to supplement its terms.

1. If the four corners reflects that only partially integrated, parol evidence allowable to add or

supplement with consistent terms.

2. Rationale(clarity and predictability) Logical application provides greater clarity for the parties and

greater predictability. If the parties want to include other terms, this strict application encourages

them to make their intentions explicit in the agreement.

žProblem: What about where parties made two separate agreements—one oral and one written—and the

consideration for both was manifest in the written agreement?

1. Four corners approach has a hard time dealing with this because cannot look beyond the written

agreement. Such courts typically apply the “Collateral Agreement Rule.” For this rule to apply,

four-corner courts typically require (1) distinct subject matter that does not conflict with terms of

written agreement, and (2) that the consideration for the collateral agreement be distinct and capable

of separate identification .

(3)Would reasonable parties naturally and normally enter into the agreement

If all ?’s answered YES, the court will allow the parole evidence

← Contextualist Approach (gives the court increased leeway to find that the document is not fully integrated)

žThis approach recognizes that even writings that appear to be full and final within their four corners can be

exposed as incomplete when considered in light of the entire context of the transaction. Courts adopting the

contextualist approach will therefore look beyond the four corners of the document and consider extrinsic

evidence that may reveal that an apparently integrated writing was in fact not intended to be fully integrated.

1. In performing this analysis, the courts will often evaluate the credibility of the parol evidence. If

credible, then less likely parties intended the agreement to be fully integrated.

← Restatement §216(2)(b) ( reflects a more contextualist approach ):

“(2) An agreement is not completely integrated if the writing omits a consistent additional agreed term

which is

…(b) such a term as in the circumstances might naturally be omitted from the writing.”

1. Comment (d) : “If it is claimed that a consistent additional term was omitted from an integrated

agreement and the omission seems natural under the circumstances, it is not necessary to

consider further the questions whether the agreement is completely integrated….This

situation is especially likely to arise when the writing is in a standardized form which does not

lend itself to the insertion of additional terms….”

Note: With the more liberal approach under the Restatement, there is no need for a separate “Collateral

Agreement Rule.”

← Merger / Integration Clauses (contract around the possibility of parole evidence being admitted in the future)

žIf parties want to protect themselves against the introduction of parol evidence in possible disputes over the

terms of their written agreement, they can include an express provision within the written agreement that

states the written contract is the entire agreement between the parties, and that no representations or

promises have been made save for those explicitly set out in the writing.

1. Such contract provisions are referred to as “merger” or “integration” clauses. Four-corners courts

will usually defer to a merger clause in determining whether it is fully integrated. Even courts applying

the contextualist approach will usually give merger clauses significant weight.

- Contextualist, and especially 4 corners, courts will give merit to these clauses, finding the existence of

one concludes that the agreement is fully integrated

Classic Case of Mitchell v. Lath

žA buyer of real estate alleged that the seller had orally promised to remove an icehouse from an adjoining

piece of property.

žThe written agreement signed by the parties was silent on this issue.

žCourt ruled that insofar as the writing appeared to be complete (or fully integrated) on its face, extrinsic

evidence of the icehouse agreement must be excluded per the parol evidence rule (4 corners approach)

žThere is no indication the court doubted the icehouse agreement was made—it’s just that this parol evidence

could not be considered once the court’s inspection of the plain language of the agreement reflected that it

was fully integrated.

žThe dissent challenged the ruling by pointing out that it makes little sense to claim the writing is fully

integrated if a cursory review of the context surrounding the transaction reveals that it in fact left out an

important aspect of the parties’ agreement—namely the icehouse term.

žThe majority decision represents a classic expression of the four-corners approach to the parole evidence

rule, while the dissent points in the direction of the contextualist approach that has continued to gain

momentum from that time forward.

← Masterson v. Sine (MOVE TOWARDS A CONTEXTUALIST APPROACH)

Plaintiff owned a ranch, which they conveyed by grant deed to relatives. The plaintiffs went bankrupt. The

relatives (and trustee of the bankruptcy) brought a declaratory judgment action to establish their right to

exercise the option.

Up to this point, California had given “lip service” d the 4-corner approach, but the reality was that a more

contextualist approach was used

There was no integration clause. Ct. reasons that, under these circumstances, that an integration clause

certainly WOULD be expected.

2 rationales for the P.E. Rule: (1) writing is better memory than words (2) Avoid fraud

Memory rationale is taken care of under the original rule (IT DOES NOT DIRECTLY CONTRADICT SO ITS

OK)

Fraud rationale - Ct. says that “collateral agreements should only be excluded only when the factfinder is

likely to be misled”

The parol evidence at issue is the non-assign-ability of the option, to keep the farm in the family’s name.

The court held that under these facts, it appeared that the collateral agreement would /should have been

made as a separate agreement; parol evidence in the issue of assignably must be allowed.

Ct. rationale echoes Restatement 216(2)(b)

Dissent says that this is totally inconsistent w/ the parole evidence rule… of course Dallas Masterson would

say this, obviously self-serving…further, Cal. Is a 4 corner state and this is the exact ca that the 4 corner

attempts to prevent (obvious fraud)

← Yocca v. Pittsburgh Steelers Sports, Inc.(4 corners approach)

Plaintiff received an SBL brochure to purchase season tickets, however the seats allegedly varied from the

diagram that they had been given with the SBL brochure.

There was an integration clause in the original offer; the contract stated it supersedes any previous

representations or agreements.

Where the parties, without any fraud or mistake, have deliberately put their engagements in writing, the law

declares the writing to be not only the best but the only evidence of their agreement.

The court found that by sending in their application with the initial non-refundable payment, plaintiffs simply

secured their right to be considered for assigned seats and the opportunity to receive a subsequent offer to

purchase SBL’s for those seats.

← Parol Evidence Rule

Applied where an agreement is recorded in writing and one of the parties attempts to introduce extrinsic

evidence of the parties’ prior or contemporaneous agreement of a term not reflected in the writing.

1. Distinguished from interpretation : Focus of interpretation is on discerning the meaning of the terms

actually reflected in a written or oral agreement. Parol evidence rule limited to written agreements

and applies to parties’ attempts to introduce extrinsic evidence of the parties’ agreements that would

add to, detract from, vary or contradict the written agreement’s express terms.

2. Distinguished from construction : Contract construction occurs where the courts draw on statutory

gap-fillers or general legal principles to fill in gaps in the parties terms. The parol evidence rule

applies only to the parties’ attempts to introduce evidence of prior or contemporaneous agreements

by the parties to supplement or contradict the parties express terms.

Myskina v. Conde Nast Publications –

Myskina takes a photo shoot with GQ; she takes her boyfriend, and a secretary for the agency. They tell her that

they will only use one risqué’ picture;

She signs a standard release form and her agents don’t raise issue;

The photographer asks if he can use the additional pictures for “personal use”… claimed oral exchange was that

the only pictures would NOT be published anywhere; photographer has a clause in his contract that he can use

the photos externally; he does and sells them to a Russian outlet

Myskina makes 2 arguments that the photographer breached contract:

1. Oral breach of contract (2 oral agreements on the day of the contract)

2. She didn’t know or intelligently agree to sign (her English was so poor)

Ct. found that the duty to read applied, she had representation and they did not protect her interests;

outward manifestations of assent should legally allow the other party to rely on them, so long as there

was no impropriety in the bargaining process; the court found none.

Ct. probably would have been more sympathetic if she had not been represented; ct. may have

considered an unconsablilty argument if that were the case

Ct. looks into the oral agreements and applies the “contextualist” approach, or the Restatement 216

approach, allowing extrinsic evidence

They found that the agreement was fully integrated; they do not see anything about an oral agreement in

the contract; the contract said that they can use the “photos for anything,” which directly contradicts

(rather than supplements) the written terms;

This is a fundamental issue and she had representation; looks like the court tried to help her but there

was no remedy under law.

← žGeneral Rule (though Common Law and UCC may differ in application)

Where the parties execute a writing that is intended to be a complete and final expression of their agreement

(i.e., “fully integrated”), no parol evidence may be admitted to supplement or contradict it. If, however,

the writing is not a final and complete expression of the agreement (i.e., “partially integrated”), then consistent

(but not contradictory) parol evidence may be admitted to supplement those parts of the agreement that have

not been finally expressed.

ž Effect of Rule:

1. Evidence admitted under the parol evidence rule may be considered by the fact finder in determining

the parties’ obligations under the contract. Admitting extrinsic evidence of another term does not

decide the question of whether it should be found to be part of the agreement.

← Common Law Application

Application of Parol Evidence Rule turns on the question of integration—whether the written agreement is fully

or partially integrated. Common law courts take differing approaches:

1. “Four Corners”: Looks to only the four corners of the written agreement in determining whether

integrated—no extrinsic evidence is considered. If the document interpreted as a whole (in

accordance with the plain meaning of the text) appears to be a full and final expression of the

agreement, it is fully integrated—and no parol evidence is admitted to supplement its terms.

Exception —Collateral Agreement Rule

2. Contextualist : Recognizes that even writings that appear full and final within their four corners can be

exposed as incomplete when considered in light of the entire context of the transaction. Courts

adopting the contextualist approach will therefore look beyond the court corners of the document and

consider extrinsic evidence that may reveal that an apparently integrated writing was in fact not

intended to by fully integrated.

Adopts the approach reflected in Restatement §216(2)(b)

← Merger and Integration Clauses

Parties can protect themselves against the introduction of parol evidence to supplement the terms of their

written agreement by including a “merger” or “integration” clause.

1. States the written contract is the entire agreement between the parties, and that no representations or

promises have been made save for those explicitly set out in the writing.

Four corners courts will usually defer to a merger or integration clause.

Even contextualist courts will give a merger or integration clause great weight in determining whether the

agreement is integrated.

← Pre-Revision UCC §2-202 – Final Written Expression: Parol or Extrinsic Evidence ( usage of trade, course of

dealing, course of performance are admissible as evidence, even if the document is fully integrated)

“Terms with respect to which the confirmatory memoranda of the parties agree or which are

otherwise set forth in a writing intended by the parties as a final expression of their agreement with

respect to such terms as are included therein may not be contradicted by evidence of any prior

agreement or of a contemporaneous oral agreement but may be explained or supplemented

1. (a) by course of performance, course of dealing, or usage or trade (Section 1-303); and

2. (b) by evidence of consistent additional terms unless the court finds the writing to have been

intended also as a complete and exclusive statement of the terms of the agreement.”

← UCC §2-202 Comments

Comment 1 : This section definitely rejects: (a) Any assumption that because a writing has been

worked out which is final in some matters, it is to be taken as including all the matters agreed upon….

← UCC §2-202 Comments

Comment 2 : Paragraph (a) makes admissible evidence of course of dealing, usage of trade and

course of performance to explain or supplement the terms of any writing stating the agreement of the

parties in order that the true understanding of the parties as to the agreement may be reached. Such

writings are to be read on the assumption that the course of prior dealings between the parties and

the usages of trade were taken for granted when the document was phrased. Unless carefully

negated they have become an element of the meaning of the words used. Similarly, the course of

actual performance by the parties is considered the best indication of what they intended the writing

to mean.

← UCC §2-202 Comments

Comment 3 : Under paragraph (b) consistent additional terms, not reduced to writing, may be proved

unless the court finds that the writing was intended by both parties as a complete and exclusive

statement of all the terms. If the additional terms are such that, if agreed upon, they would certainly

have been included in the document in the view of the court, then evidence of their alleged making

must be kept from the trier of fact.

little more forgiving than Restatement, which allows only if it “would certainly have been included” to be

considered

NOTE : course of dealing will usually always make it in, even if there is an integration clause

← Problem 16.2 – Eldon v. Devine (p. 601 Questions will be on the test)

(1) The oral agreement did not contradict the contract. The contact does not address the issue, therefore the

evidence can be used.

(2) This would be permitted. The evidence does not contradict. The contract does not contain a merger

clause and the contract is not fully integrated.

(3) This is a prior dealing. The information does not contradict the contract. Prior dealings are allowed to

hear the evidence. A reasonable person could conclude that this would be a part of the agreement.

(4) This evidence would be used. It does not contradict and is consistent with usage of trade.

(b) This evidence would be permitted because it is a course of performance. It does not contradict.

(c) The form would change the agreement to A(1) but (2) does not preclude any of the rest. There are not

qualifications on the rule. The court might not give it a lot of weight, but it can still be used.

← Exceptions for Evidence of Violability or Invalidity of the Contract

žAs we’ve seen, the parol evidence rule only applies once it is understood the parties have entered into a

valid, enforceable contract.

Consequently, as a general rule, extrinsic evidence that an alleged contract is either void or voidable is

admissible as an exception to the parol evidence rule.

For example, in cases of clear fraud or egregious misrepresentation that otherwise make an agreement

enenforceable, courts agree the parol evidence rule cannot be relied upon to exclude extrinsic evidence of the

fraud or misrepresentation.

← Sound Techniques Inc. v. Hoffman

McGloin employee of Hoffman’s leasing, showed Anderson Sound’s president vacant space on the second

floor of a building.

The first floor of the building was occupied by Boston Ramrod, a bar. McGloin told Anderson that he need not

worry that Ramrod was only expanding its dining area in which background music would be heard. However

the expansion was a dance floor.

There is a claim for breach of contract and negligent misrepresentation. Parol evidence is a contract tool that

does not apply to tort claims. If the negligent misrepresentation evidence is used it could create an exception

to the merger condition found in the contract.

In this situation there is no fraud or defect. Although there is case law that allows getting around the parol

evidence rule when fraud or defect are present, there is no case law about exceptions without fraud; the court

found that it was a negligent misrepresentation, not a fraudulent misrepresentation, which makes all the

difference.

Ct. reasons that a negligent misrepresentation should not be punished b/c it is only a slight deviation from the

acceptable standard and would not deter future mispresentations.

Also, P. arguably bore the blame b/c he did not inspect the bar adequately before buying

This contract was fully intergraded.

The court finds that the parol evidence rule does not apply. There is no exception to the rule.

The court reasons that the negligent misrepresentation does not rise to the level that would preclude an

exception.

An exception runs the risk of making the rule obsolete. The court will not allow an exception to overcome a

merger clause found in a contract.

An exception has to “reasonable induce” the party. Who can be induced by a statement and sign a document

and reasonable rely on that statement, when the contract completely contradicts.

Concluded our introduction to the Parol evidence rule by considering its application under Pre-Revision

← UCC §2-202:

Contextualist approach:

Presumption is that written terms may always be explained or supplemented by course of performance,

course of dealing, or usage of trade—regardless of whether writing is fully integrated

1. Only way to avoid such evidence is to carefully and expressly negate its application in the language

of the writing through an integration clause.

4 corners approach:

Presumption is that written terms may be supplemented by consistent (though not contradictory) additional

extrinsic evidence of terms unless court finds the writing was fully integrated.

1. Extrinsic evidence of terms only excluded if would “certainly” have been included in the written

agreement by the parties.(justice Traynor’s reasoning)

← Exception to the Parol Evidence Rule

žAlso considered exceptions to the parol evidence rule where the extrinsic evidence shows the contract was

void or voidable—e.g., due to Fraud, Duress, Unconscionability, etc.

1. Courts typically allow parol evidence to show such defects in the bargaining process.

2. In such cases, the evidence is not generally introduced to supplement or contradict the terms of the

agreement (concern of the parol evidence rule), but rather to show the agreement itself was void or

voidable.

← Introduction to Doctrines of Misunderstanding, Mistake and Excuse

žOver the next few classes we are going to look at three doctrines that may render a contract or certain of its

terms void or unenforceable where the exchange contemplated by the contract turns out to be very different

from what the parties expected at the time they entered into the contract.

Misunderstanding : Parties attached different meanings to the terms of the agreement and the law is unable

to resolve the question of which was correct.

žMistake: One or both parties enter into the contract with a misapprehension concerning the factual

circumstances of the exchange at the time of contracting (probably would not have contracted if they would

have known the actual facts)

žExcuse: Turns on changes in circumstances that arise after the parties enter into a contract. Changes in

circumstances may make one party’s performance impossible or highly impractical (impossibility or

impracticability). Or circumstances may arise that eliminate a party’s reason for entering into the contract to

begin with (frustration of purpose).

Limited Application:

These doctrines are used in very limited circumstances

This is b/c contracting is about allocating risks. Courts will not relieve parties from their duties just b/c things did

not turn out they way they wanted/expected.

← Misunderstanding

žThe doctrine is applied by the courts where interpretation issues are insoluble.

1. The parties said or wrote the same words, but meant entirely different things. Usually a court can

apply the rules of contract interpretation to resolve this conflict by finding what would be the most

reasonable interpretation of the term(s) under the circumstances. Sometimes, however, this is just

not possible because both interpretations (through no fault by either party) are equally reasonable

and the law cannot decide the issue. Where this occurs, the court may find that there was simply no

mutual assent, and the parties did not form a contract.

I took this term to mean X, you took this term to mean Y; the court will look to the most reasonable

interpretation; if the ct. cannot find a reasonable interpretation, then they may find that there was a

misunderstanding

← Notes Misunderstanding

žNote: This is not an exception to the objective test, but rather an occasion where the objective test cannot

offer a single, most reasonable interpretation of the parties’ objective manifestations.

Note also : It is important that neither party knew of (or was responsible for) the other party’s misapprehension

at the time of contracting. In such cases, it would be the responsibility of the party with knowledge (or who

was responsible) to clear up the misunderstanding.

Consistent with the analysis of the objective test: if you know someone is attaching a different meaning

to the term that what is actual, then you have a duty to inform; the court will not enforce to your benefit.

← Raffles v. Wichelhaus ( the Peerless case)

žThe Defendant agreed to buy cotton to be shipped by Plaintiff to England from India aboard the ship,

“Peerless.”

žTurns out that, unbeknownst to either party, there were two ships named “Peerless”—one leaving Bombay in

October and one in December.

žCotton market plunged in prices.

žDefendant refused to accept shipment from the later-departing ship—claiming that he agreed to shipment

from the Peerless that departed in October.

1. Issue : When a contract is subject to two equally reasonable interpretations and the parties contracted

with different interpretations in mind (neither knowing of the others inconsistent interpretation), is

there mutual assent?

2. Holding : No mutual assent, and therefore no contract; there was no meeting of the minds.

both parties were equally reasonable to believe their side, therefore no meeting of the minds, therefore

no contract because of valid misunderstanding.

← Konic International Corp. v. Spokane Computer Services, Inc.

Yong, employee of Spokane Computer, was instructed to investigate the possibility of purchasing a surge

protector. Young’s investigation turned up several units priced from $50-$200, none which were appropriate

for his employer’s needs.

Young was referred to Konic. Later deciding on a certain unit, Young inquired as to the price. The salesman

responded “fifty six twenty” meaning $5,620 and Young thought $56.20.

The lower court affirmed that Spokane wins based on the fact that Young did not have the authority to buy the

surge protector. However the appellate court finds for Spokane but for other reasons.

The court finds that there was “no meeting of the minds” therefore there cannot be a valid contract.

The court looks at the general rule of misunderstanding but lays out three principles for the doctrine of

mistake.

1. (1) Applies to parties who have different understandings of their expression of agreement

2. (2) Not apply one party’s understanding because of that party’s fault is less reasonable than the other

party’s understanding

3. (3) Parol evidence is admissible to establishes the facts necessary to apply the rule

The first principle corresponds with the present case. The language “fifty-six-twenty” has two meanings.

Neither party knew about the others interpretation.

The second principle also applies to this case because both parties understanding of the language is

reasonable. They were both equally stupid or equally reasonable – therefore there was no meeting of the

minds and there was a misunderstanding;

Argument can be made that the buyer should have known that it was not $56.20 but rather $5,620;

could reasonably have shifted the risk to him

← Mistake

žThe doctrine of mistake applies where both parties attach the same meaning to the terms of their agreement,

but one or both parties are operating under a misapprehension of fact when they enter the contract.

1. Enlisting the doctrine of mistake, the complaining party alleges she would never have entered into the

contract had she not been mistaken as to this fact. Under certain circumstances the court may grant

relief.

žCourts typically divide mistake analysis into two categories: mutual mistake and unilateral mistake. We will

look at each in turn.

← Mutual Mistake

← žThe Restatement’s guidance concerning mistake generally can be found at (§§ 151-158). The authors of

the casebook provide a good summary of the Restatement’s guidance concerning when mutual mistake (§152)

will be grounds for voiding a contract:

← (1) The mistake relates to facts in existence at the time of the contract

← (2) The mistake is shared by both parties

← (3) The mistake relates to a basic assumption on which the contract was made

← has to do with a motivational issue, parties would not have contracted if

they had known the actual facts

← (4) The mistake has a material effect on the agreed exchange of performances

← Looks at the impacts on the parties; looks at the benefits or burdens to the

parties

← (5) The complaining party did not bear the risk of the mistake

← Look to Restatement 154 (did you make a “contract bet” and lose?)

← this is usually the element that strikes a suit for mistake

← Wood v. Boynton

žWood sold a stone to Boynton for $1.

žBoth parties guessed the stone was a topaz but neither knew for sure.

žIt later became clear that the stone was in fact a diamond worth $1,000.

žWood sued to rescind the sale.

žThe court refused rescission, holding that there was no mistake as to the identity of the thing sold—just a

mistake as to its probable value.

1. Why was there no mistake concerning identity of thing sold?

comes down to the fact that it was a mistake in judgment, she did not bother to have it checked

out; she bore the risk – not disputed that it was a rock – he bought the risk that it was merely a rock,

which was not worth 1 dollar.

Party’s engaged in selling their risks

Would have been different if she had come in and said “this is a topaz, will you buy it?’ he says “yes, it

is a topaz, I’ll buy it” In that case, it would have been a mistake in fact and neither party would have

bore the risk.

← Sherwood v. Walker

žSherwood contracted to buy a cow from Walker for $80.

žBoth parties agreed that the cow was unable to breed.

žWhen it came time to perform, Walker discovered the cow was with calf.

žAs a breeder, the cow was worth at least $750.

žThe court found rescission could be available here because the mistake of the parties went to the whole

substance of the agreement.

1. Were all the Restatement factors for mutual mistake we outlined present here? Yes, but an argument

can be made that the 5 th element was not ; can argue that the seller bore the risk b/c he was in a

better position to find out.

Difference is that both parties believed that a specific fact was true and they relied on it; they did not

engage in buying and selling risk; there was a mutual mistake

Could make the opposite argument that the seller bore the risk b/c he was in the exclusive possession

of the cow and had duty of due diligence to investigate whether the cow was barren; there is a

transaction cost involved; if buyers have to investigate before buying something that is not in their

possession, costs go up for us all.

← Land Grantors in Henderson, Union, and Webster Counties, Kentucky v. US

Facts:After WW II the U.S. acquired approximately 35,849.28 acres of land. Almost all of the property was

owned by famers.

Department of Defense became aware that substantial gas and oil reserves may be located under the

condemned properties and transferred to the Department of the Interior.

The document certificate of inspection found in the agreement state that there was no oil, coal, or other

minerals. The court uses Restatement § 152 (Not in slides). There has to be a mistake, it has to relate to the

basic assumption of the contract, has to have a material effect, and the party suffering cannot bear the risk of

the mistake.

The court finds that no oil, gas, or minerals on the land was a basic assumption of the contract. This

information would have had a material effect on the price of the land.

Next the court finds that the plaintiffs did not bear the risk.

The government took the land. The owners did not have time to inspect the land. Additionally, the contract

documents stated that the land did not have oil, gas, or other minerals.

Issue: Was there a mistake in fact b/t the gov’t and the previous landowners? If so, who assumed the risk of

that mistake?

Holding: Yes. Even though they signed the document, the landowners and the gov’t did not know there was

oil on the land. The landowners did not bear the risk b/c they had to get off so quick b/c of the war; they had

no reasonable time to inspect whether or not there was oil on it.

Rule: If a mistake in fact has a material impact on the transaction, then it MAY void the contract if neither

party BORE THE RISK OF THE TRANSACTION

Rationale: court looks to Restatement 154 to see when to allocate risk to a party. This was not a normal

situation, they had no choice to sell, it was on the spur of the moment, so we cannot, therefore, allocate the

burden to the landowner’s

← Problem 17.2 – Jethro

Mistake relates to facts in existence at the time of the contract. Oil on the land was not stated in the contract.

The seller bears the risk of selling the land. The seller could have done an inspection.

There was no mistake in the situation. There could have been oil on the land or there could not have been oil

on the land. Parties engaged in buying and selling risk. Not an extraordinary situation like the case above

where there was no time to investigate

Landowner had the opportunity to check before he sold, therefore burden shifted to him.

More efficient to allocate the risk to the seller b/c it makes it cheaper and more efficient for all parties

← Misunderstanding, Mistake, and Excuse

žBegan our look at doctrines that may render a contract (or certain of its terms) unenforceable where the

exchange contemplated by the contract turns out to be very different from what the parties expected at the

time they entered into the contract.

1. Misunderstanding —Parties attached different meanings to the terms(Peerless)

2. Mistake —Parties enter into contract with misapprehension concerning facts at time of contract ( Cow

example)

3. Excuse (Impossibility, Impracticability, or Frustration of purpose)—Changes in facts or circumstances

arising after entering into contract

← When Misunderstanding Renders Contract Unenforceable

Applied where interpretation is insoluble (interpretation issue); court applies interpretation and cannot find

a reasonable meaning of the term; there is 2 meanings and they are equally reasonable

1. Parties said or wrote the same words

2. Neither party’s meaning is more reasonable than the other under the circumstances

3. Neither party is at fault for the misunderstanding

Where these conditions are met, the court may find that there simply was no mutual assent, and the parties

did not form a valid contract.

Note : Insofar as the doctrine of misunderstanding (and mistake) is employed as a means of defeating a

contract as void or voidable, the parol evidence rule will generally not apply. (This is for the same reasons we

saw it does not apply to defenses of fraud or duress – IMPROPRIETY IN THE BARGAINING PROCESS)

← Introduced Test for When Contract Unenforceable Due to Mutual Mistake

The mistake relates to (1)facts in existence at the time of contract

Not a mistake of judgment or opinion; differentiate these 2 between mistakes of FACT

The mistake is (2)shared by both parties

The mistake relates to a (3)basic assumption by the parties on which the contract was made [examines

parties’ motivations and presuppositions]

The mistake has a (4)material effect on the agreed exchange of performances [examines impact of mistake in

the balance of the exchange]

The adversely affected party did not (5)bear the risk of mistake

Focus: Is Mistake of Law grounds for relief?

Must be a mistake of fact – does mistake of law count?

In the Common Law, general rule was that ignorance of the law is no excuse – and therefore parties to a contract

are presumed to be aware of relevant laws

However, with the proliferation of ever more complex laws, some courts have become more open to treating

mistakes of law as a mistake of fact

See Mattson v. Rachetto (ct. found that obscure statute invalidating long-term agricultural leases was

grounds for rescinding a contract for the sale of land on the grounds of mutual mistake (had a lot to do

with the specific facts of the case, judge was probably looking to hang his hat on something).

← Focus: Must Be Mistake of Fact, Not Judgment or Opinion

← žRestatement §151 – Mistake Defined

← “A mistake is a belief that is not in accord with the facts.”

Not bad judgment or opinion:

1. Example 1 : Two parties enter into a contract for the sale of a champion race horse with

understanding that the horse is fit and can win races. It turns out, however, that the horse had a

fractured leg at the time of contracting. This is a mistake of fact.

2. Example 2 : Same as one above, but though the horse is fit at the time of contract it never wins

another race. This is not a mistake of fact, but of judgment or opinion as to the horse’s ability to win.

← Focus: Is Mistake of Law Be Grounds for Relief?

žEarly common law cases followed the general rule that ignorance of the law is no excuse—and therefore

parties to a contract are presumed to be aware of the relevant laws.

žHowever, with the proliferation of ever more complex laws, courts have become more open to treating

mistakes of law as mistakes of fact.

1. Mattson v. Rachetto

Court found that mistake (by two attorneys) concerning an obscure statute invalidating long-

term agricultural leases was grounds for rescinding a contract for the sale of land on grounds

of mutual mistake.

← Focus: Who Bears the Risk?

← Restatement §154 – When a Party Bears the Risk of a Mistake

A party bears the risk of a mistake when

(a) the risk is allocated to him by agreement of the parties, or

[Sometimes risk allocation expressly stated in contract. E.g., contract for sale of property

provides: “Purchaser has examined the property and agrees to accept same in its present

condition.”]

(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

[Sometimes referred to as “conscious ignorance.” Party bears the risk because knew there

was a possibility of mistake, but contracted anyway.]

(c) the risk is allocated to him by the court on the ground that it is reasonable in the

circumstances to do so.

[Court will consider the purposes of the parties and will have recourse to its own general

knowledge of human behavior in bargain transactions, as well as usage of trade.]

← Estate of Nelson v. Rice (mutual mistake)

Newman and Franz the representatives of the estate, employed Larson to appraise the Estate’s personal

properly for an estate sale. Larson told them that she did not appraise fine art and that if she saw any, they

would need to hire an additional appraiser. Larson did not report finding any art.

They told the representatives of the estate that they did not appraise fine art; representatives overlooked that

and did not hire a fine art appraiser

Rice attended the public estate sale and paid $60 for two oil paintings. He was not educated in art and did

not think they were originals. As he had done in the past, Rice sent pictures of the paintings to New York

hoping they might be real. Christie’s authenticated the paintings and offered to see them on consignment.

The Rice’s received $911,780 from the sale.

Rice assumes that b/c this estate is being run by professionals, the painting could not be an original b/c it was

so cheap.

Mutual mistake requires 3 elements to be met:

1. Basic assumption; Yes

2. Material effect; Yes

3. Party seeking relief must not assume the risk; NO – there was conscious

ignorance(restatement 154(b) Mutual mistake as to be a basic assumption on which both parties made the contract. However the mistake

must not be one on which the parity seeking relief bears the risk under the rules state in §154(b) of the

Restatements.

The court finds that there was conscious ignorance. Even though the mistaken party did not agree to bear

the risk, he may have been aware when he made the contract that his knowledge with respect to the facts to

which the mistake relates was limited. If he was not only so aware that his knowledge was limited but

undertook to perform in the face of that awareness, he bears the risk of the mistake.

The estate knew that Larson, the appraiser, did not appraise fine art. She told them they would have to find

someone different. The court finds that the estate bears the risk because they knew that Larson had limited

knowledge but relied about it to inform them if there was any fine art.

The court finds that the estate had plenty of opportunity to appraise the paintings. The Rice’s did what the

estate should have done. If the court did not use conscious ignorance under Restatement (c) the court could

still use who reasonable bears the risk reasonable in the circumstances.

← Cherry v. McCall

The Cherry’s bought a home from the McCalls. After the Cherry’s brought the home, they discovered a

walled-in room in the basement. The trash found in the room was damp and contaminate with mold.

There were two claims that the Cherry’s use to try and get out of the contract.

(1) breach of contract

(2) contract should be reseeded for mutual mistake

The court finds that the contract says “as is” and the Cherry’s bore the risk. To overcome an “as is” clause

there has to be fraud or the totality of the circumstance.

Breach of Contract: Cherry’s assert that “as is” implies that the sellers impliedly said they would provide a

house w/out mold; they rely on Prudential which looks to the “totality of the circumstances.”

That case was all about fraud and misrepresentation

In this case, the court finds the opposite to be true; there was no fraud, impropriety, etc.; So,“as is” means

exactly what it says – “as is” with mold in a hidden room

Here the Cherry’s could have had the house inspected. Additionally, they didn’t allege fraud. Although the

Cherry’s might have been in a slightly lower barging position, however the Cherry’s stated they knew what

they were doing and took the house as “as is.”

Cherry’s then argue that there was a mutual mistake – to prove mutual mistake, they must prove 1. Basic

assumption 2. Materiality 3. Party seeking relief does not bear the risk.

Here there was a mistake of fact by both parties, whether it was material we are not sure. The court focuses

on element of who bears the risk.

The court finds that the buy took the risk because of the “as is” clause found in the contract – restatement

154(a)

Look at Restatement 154 to see who allocates the risk and when

← Elements of Unilateral Mistake: ← žRestatement §153 provides guidance. The test for unilateral mistake parallels the elements required for

mutual mistake, but imposes an additional requirement (as laid out in BB):

The mistake relates to facts in existence at the time of the contract

Mistake may be by one party only

The mistake related to a basic assumption on which the mistaken party made the contract

The mistake has a material effect on the agreed exchange of performances that is adverse to the

mistaken party

The mistaken party did not bear the risk of mistake

ADDITIONAL ELEMENT: IT MUST BE THAT Either (a) the effect of the mistake is such that

enforcement of the contract would be unconscionable or (b) the other party had reason to know of the

mistake or his fault caused the mistake.

Reason for additional element is that courts are sensitive when the other party relies on the mistake,

they don’t want to disappoint his expectations (b/c it is a unilateral mistake)

← Distinguished from Mutual Mistake

žTo win relief on a claim of unilateral mistake, the adversely affected party must meet all the elements of

mutual mistake (as applied to that party) and must show;

(a) Enforcement would be unconscionable

Courts will look to the disparity in the exchange resulting from the mistake and balance the

equities.

If the disadvantaged party will end up with a significant loss (where profit was

expected), then probably unconscionable. If only results in smaller profit, then

probably not unconscionable.

OR

(b) Other party knew or had reason to know of the mistake

If knew, then there may be grounds for establishing fraudulent non-disclosure (See

Restatement §§161(b)-162).

Ex. - Other party sees disadvantaged party make or state the error as to basic

assumption—recognizes it as an error—and then rushes to close the deal before

disadvantaged party finds out.

If other party had reason to know it was a mistake, then court may grant relief.

E.g., where the other party is familiar with services being offered by the mistaken

party and knows the quote is 10% of what the market commands, then probably had

reason to know of mistake.

Bert Allen Toyota, Inc. v. Grasz

Grasz reached an agreement with Toyota to buy a specially ordered truck and he made a $500 down

payment. When he went to pick up the truck the dealership argued that its computer had made a

computational error and Grasz owed an additional $2,000 beyond the balance.

The lower court found that the contract was valid. This is a court of equity for specific performance.

Grasz brings the action in a court of equity (chancery) b/c he wants specific performance (which demands

that the product be unique)

The lower court is looking at the situation and deciding whether or not unconsonability occured.

The court finds that mutual mistake did not happen; customers rely on the bottom line; was not customer’s

basic assumption that the bottom line was wrong.

The court finds that there was a unilateral mistake; the computer made a miscalculation – dealer’s mistake

The court finds that the customer just looks at the button line, what price does he have to pay. A reasonable

person under these circumstances would do that.

For Mississippi, there is a four part test that the court uses, different standard then the restatements.

(1) no meet of the minds

(2) gross negligence

(3) no intervening rights have accrued

(4) parties will still be in status quo

The court found that the dealership was grossly negligent. The court looked at the amount of time the

salesman had worked at the dealership, the salesman knows the price margins, and finally the price was

calculated in writing.

Therefore the party cannot avoid the contract.

Under evaluation from the Restatement, the contract probably would not have been avoided either b/c the

additional, uni-lateral element was not fulfilled (it would not have been unconsiasable and Grasz didn’t have

reason to know of the mistake b/c he was looking at the bottom line); also, the dealership probably bore the

risk b/c it was there computer.

It is the dealerships computer and if there is going to be a risk assigned its going to be on the side of the

dealership.

Specific performance will only be given if the object is unique. The court will only grant specific performance

in cases where there is not another option. Here there can be another truck that can be bought from another

dealership. Is the item unique? Sent to the trial court for further findings on this issue.

Continued our discussion of the doctrine of mistake (both mutual and unilateral)

Emphasized that the doctrine is concerned with mistakes of fact, not judgment or opinion.

1. Noted that many courts will consider a mistake of law as fact for purposes of applying the doctrine of

mistake.

Focused on question of when a party bears the risk of a mistake (Restatement §154)

1. When explicitly allocated in the agreement

2. When party is consciously ignorant

3. When reasonable under circumstances to allocate risk to that party

← žIntroduced Doctrine of Unilateral Mistake (See Restatement §153)

Parallels the elements of mutual mistake, but imposes additional requirements:

1. Mistake must relate to facts in existence at time of contract

2. Mistake may be by one party only

3. Mistake related to a basic assumption on which the mistaken party made the contract

4. Mistake has a material effect on the agreed exchange of performances that is adverse to the

mistaken party

5. The mistaken party did not bear the risk of mistake

6. Either (a) the effect of the mistake is such that enforcement of the contract would be unconscionable

or (b) the other party had reason to know of the mistake or his fault caused the mistake.

Note : If other party actually knew of the mistake, then may be fraudulent non-disclosure

under Restatement §161(b).

← Introduction to Excuse

žThe doctrine of mistake may allow a party to avoid a contract where that party was mistaken as to a material

fact at the time of contracting. By contrast, the doctrine of excuse (impracticability and frustration of purpose)

may be applied by a party where events subsequent to contract formation change dramatically in unexpected

ways so as to defeat the legitimate expectations of that party under the contract.

1. Consequently, the party will ask the court to excuse her performance obligations under the contract

(either by allowing her to avoid the contract altogether, or by adjusting its terms).

2. Like mistake, we will see the excuse doctrines turn on questions of materiality and risk allocation.

← Impracticability: Historical Context

Early common law did not recognize the doctrine of impracticability. If you wanted to account for changes in

circumstances, you were required to make this clear in the language of the contract itself.

1. Paradine v. Jayne

Conquering forces occupied a territory and ejected a tenant from his land. Landlord sued for

rent. Tenant sought relief from the court.

Court refused to excuse tenant from his obligations (despite the fact that it was

impossible for him to occupy the leased property). Court found he should have

accounted for the contingency of military obligation in his lease.

By the mid-nineteenth century, however, the courts had softened their stance:

1. Taylor v. Caldwell

Taylor contracted with Caldwell for a music hall to give concerts. Before the concerts were to

be given, the hall was destroyed by fire. Neither party was responsible for the fire. Taylor

sued for breach of contract.

Court found that both parties were excused from their obligations under the contract

because where performance depends on the continued existence of a person or

thing, a condition is implied that the objective impossibility of performance arising

from the perishing of the person or thing will excuse performance.

← Impractiablity Today

žUnder Taylor, excuse of performance was limited to cases of objective impossibility. The modern standard

under the Restatement and UCC is more forgiving, and requires only impracticability.

1. Change recognizes there are situations in which events do not make performance absolutely

impossible, yet they place so great a burden on the adversely affected party that fairness demands

relief.

← Impracticability: Restatement

← žRestatement §261 – Discharge 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 is a basic assumption on which the contract was

made, his duty to render that performance is discharged, unless language or the circumstances

indicate the contrary.”

← Impracticability

Examples of subsequent events that may make a performance impracticable

1. Death or incapacity of person necessary for performance (See Restatement §262)

2. Destruction, deterioration or failure to come into existence of thing necessary for performance (See

Restatement §263)

3. Prevention by Governmental Regulation or Order (See Restatement §264)

ž“Basic Assumption”

1. Similar to the element of mistake

2. At the time of contracting, the parties expressly or impliedly made assumptions about the future

course of events, and those assumptions were a central motivation of the parties in entering into the

contract.

ž“Unless the Language or Circumstances Indicate Contrary”

1. This refers to whether the contract language or circumstances make it clear that the risk of the

subsequent event (making performance impracticable) was allocated to the adversely affected party.

Foreseeability is central to this analysis. If the parties could have foreseen, the courts will

typically presume the risk was assumed by one of the parties.

Be careful when assigning risk – if you say “he is responsible for xyz risk,” the court may read

this as saying that you are responsible for all remaining risk, a-w risk.

Restatement in focus: examples of subsequent events that may make performance

impossible:

Death or incapacity of person necessary for performance (restatement 262)

Destruction or failure to come into existence the thing necessary for performance

(restatement 263)

Prevention by governmental regulation (restatement 264)

Examples of subsequent changes that usually do no make performance impracticable

Change in market conditions (no party should expect a market to remain static); doing so

would place too much of a burden on one party and would practically eliminate “futures”

markets

However, dramatic shifts in the market due to calamity may warrant voiding or rescinding

the contract

← Ling v. Board of Trustees of Doane College (objective extrinsic factor rendering performance impossible)

Ling was a citizen of England and employed by the defendant Doane College as an assistant professor of

sociology. Ling held a student visa during his first year while teaching and completing his Ph.D.

During Ling’s second year teaching both parties filed a petition seeking to grant a non-immigrant visa with an

H-1B classification as an alien working as a college teacher.

One of the requirements to renew the visa was that the school had to perform a job search and Ling has to be

the most qualified.

The federal regulation stated that the alien “must be more qualified” than any of the U.S. workers who apply

for the position.

The hiring committee concluded that Ling was not the “most qualified.”

Ling’s employment was pursuant to a handbook. The handbook stated that faculty members with more than

2 years of service are entitled to 12 months notice of pending non-appointment.

Argument 1

The school admits that they are in breach of the contractual obligation but claim they are excused because of

the doctrine of impossibility or performance.

Ling asserts inter alia “although I advised the college to take further action regarding renewal of my bias it

refused to do so.”

The court found that the school could not foresee a year in advance that Ling was not going to be more

qualified then the other applicant. The court found that it place the college in an impossible position.

Under the law in good faith the school is required to hire the best applicant.

Argument 2

Ling says the board was wrong in hiring the new teacher because he only had a masters while Ling had a

PHD.

The court finds that they are not going to rule on a job finding.

Focusing on Restatement 263, it is implied that the parties relied on the basic assumption that Ling would be

able to teach w/in the next year

← Note: In this case it can be argued that it is not clear that it is completely foreseeable.

← Impracticablity: Pre-Revision UCC § 2-615 Excuse by Failure of Presupposed Conditions

Except so far as a seller may have assumed a greater obligation…

1. (a) Delay in delivery or non-delivery in whole or in part by a seller…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….

← Comment 4: futures markets, no excuse unless war or other catastrophes

“Increased cost alone does not excuse performance unless the rise in cost is due to some unforeseen

contingency which alters the essential nature of the performance. Neither is a rise or collapse in the market in

itself a justification, for that is exactly the type of business risk which business contracts made at fixed prices

are intended to cover. But a severe shortage of raw materials or of supplies due to a contingency such as

war, embargo, local crop failure, unforeseen shutdown of major sources of supply or the like, which either

causes a market increase in cost or altogether prevents the seller from securing supplies necessary to his

performance, is within the contemplation of this section.”

← Clark v. Wallace County Cooperative Equity Exchange (difference between objective and subjective

impracticability)

Clark and Co-op entered into a written agreement for the sell of 4,000 bushels of corn. There was a freeze in

the area, which severely damaged the corn crop.

Clark maintained he was excused from delivering the remaining bushels because of the freeze. The action

was brought by Clark to recover the money Co-op withheld from the grain sale.

UCC Impracticability, the elements the court used, applying Kansas law:

(1) Non-occurrence of the contingency was the seller’s fault

not his fault b/c it was an act of nature

(2) Seller had reason to know of the impracticality (or)

Yes. Freezes happen often, farmers should know about them

(3) Seller assumed the risk of the contingency

Yes. Futures contracts cannot be avoided, unless there are catastrophic circumstances. Had

there been a bumper crop, he would have been the one on top – would be unfair to the buyer

Difference between subjective and objective impracticality. This difference can be illustrated by an individual

who says “I cannot do it” versus a statement to the effect that “the thing cannot be done.”

1. Example: The crops were frozen so I did not give you enough corn verses there is no grain in the

state to buy because of the freeze it cannot be done.

2. Example: If it was a specific farm that the company wanted its grain from then it would impossible for

them to produce it.

The court finds that the grain could have been bought from another farmer.

However, Clark doesn’t want to do that because he might loss money because the price of grain has gone up

do to the freeze.

The court finds that if they held this is as impracticable then contracts for grain would not be useful anymore.

1. Example: Clark is betting that grain will not go up while Coop. is betting that is will not go down.

The court will not let someone out of contract just because someone assumed the risk and then something

bad happened.

If they had a premium product (say high quality grapes), then the contract may have been avoided b/c it then

would may have been objectively impossible

If he had written the contract to say that “only corn from my land” then it would arguably be objectively

impossible.

← Frustration of Purpose

žThis doctrine applies to cases where performance has not necessarily become impracticable, but rather the

principal purpose for entering into the contract has (without fault by either party) been defeated by an

unexpected event.

← Frustration of Purpose: Historical Context

žKrell v. Henry (1903): Henry contracted to lease Krell’s apartment for two days. The parties understood that

the principal purpose for the lease was for Henry to see the King’s coronation parade, which would have been

visible from the window. The parade was, however, postponed when the king became sick.

1. Court could not rely on the precedent in Taylor v. Caldwell because it was not impossible to perform:

Henry could still occupy the apartment on the agreed upon date (hadn’t been destroyed).

2. Court had to issue a new rule:

Where the purpose of the contract is frustrated by an unforeseeable supervening event, and

the purpose was within the contemplation of both parties when the contract was made,

performance is excused.

Here, Henry only rented because he wanted to view the parade, and Krell

commanded higher rent because of the parade.

← Restatement § 265 – Discharge by Supervening Frustration

“Where, after a contract is made, a party’s(1) principal purpose is (2)substantially frustrated without

his fault by the occurrence of an event the non-occurrence of which was (3)a basic assumption on

which the contract was made, his remaining duties to render performance are discharged,(4) unless

the language or circumstances indicate the contrary” (one party bore the risk.)

← Discharge by Supervening Frustration

žMust be a principal purpose (not just a purpose without which the party would not have contracted)—and

both parties must be aware of this.

žFrustration must be substantial—not just that it makes the contract uneconomical

žNon-occurrence must have been a basic assumption of the parties.

žNo relief if can be inferred from either the language of the contract or the circumstances that the adversely

affected party assumed the risk.

← 7200 Scottsdale Rd. General Partners v. Kuhn Farm Machinery, Inc (supervening frustration must be the principle

purpose, must be extreme, must be basic assumption, and rescinder must not bear the risk)

Scottsdale Plaza Resort contracted with Kuhn for a convention to present new products to Kuhn’s dealers and

employees.

The agreement required the resort to reserve 190 guest rooms. Kuhn, in turn, guaranteed revenue of at least

$8,000. The agreement also provided for liquidated damages in the event of cancellation.

Due to the Gulf War, Kuhn cancelled the convention. Kuhn did not feel that air travel was safe. Some of

Kuhn’s top members had decided not to come.

The court looks at the difference between Impracticality and Frustration.

Impracticability utilized when certain events occurring after a contract is made constitute an impediment to

performance by either party.

Traditionally the doctrine has been applied in three categories: death or incapacity, destruction of a specific

thing necessary for performance and prohibition.

Frustration of purpose deals with the problem that arises when a change in circumstance makes one party’s

performance virtually worthless to the other.

Performance remains possible but the expected value of performance to the party seeking to be excused has

been destroyed by a fortuitous event.

In short, one is impossible and the other is possible but is not done.

Courts do not like the rule of Frustration.

The court finds that impracticability does not fit here because it is possible for the convention to be held.

Elements of Frustration

(1) The purpose that is frustrated must have been a principal purpose of that party and must have

been so to the understanding of both parties

The hotel did not know that Kuhn’s principal purpose was to hae Europeans present the new products-

that’s fine but the hotel did not know that

They then argue that there principal purpose was to have all or most of Kuhn’s employees would come

to the conference – the agreement has terms that govern attrition – the hotel contracted to say that “if all

the rooms are not filled” then you will be adversely affected –

they then argue that principal purpose was for people to come – ct. shoots that down b/c many people

were planning to come.

they then argue that pp was to make money – ct says that is not enough, you assume that risk every

time you contract.

(2) the frustration must be substantial it must be so severe that it is not to be regarded as within the

risks assumed under the contract.

(3) the non-occurrence of the frustrating event must have been a basic assumption

Kuhn argues that the basic assumption was that there would NOT be a war

(4) relief will not be granted if it may be inferred from either the language of the contract of the

circumstances that the risk of the frustrating occurrence, or the loss caused thereby should properly

be placed on the party seeking relief.

Argument 1

The first element, both parties must know of the principal purposes.

The resort does not dispute that it was Kuhn’s principal purposes was to introduce new products but the

convention center did not know that.

The court looks at the contract nothing mentions the purpose in the contract. Both parties were not aware.

Argument 2

The resort new that some of the employees were coming from another country. The court looks at the

agreement and the contract says that there might be a less then optimal turn out and Kuhn has the risk.

Argument 3

The resort understood that at least some people would show up. The court finds that both parties new that

some people would come but the purpose was not frustrated.

Kuhn still had some people that had confirmed. A lot of people where flying. You cannot make an argument

for frustration when the convention would be less profitable then expected.

Argument 4

It would have been uneconomical. The court looks back to the last argument. If the court did not hold the

contract based on non-economical then all contract could be breached and the court will not do that.

← Excuse Impracticability and Frustration

žSaw that the doctrines of excuse (impracticability and frustration of purpose) may be applied where events

subsequent to contract formation change dramatically in unexpected ways so as to defeat the legitimate

expectations of a party under the contract.

1. Distinct from doctrines of mistake, which focus on mistakes of fact by one or both parties at the time

of contracting.

← Impracticability

When, after the contract is formed, a party’s performances is made impracticable (without that party’s fault) by

the occurrence of an event the non-occurrence of which is a basic assumption on which the contract was

made, party may be freed from obligation to perform. (See generally Restatement §261; Pre-Revision UCC

§2-615 for sale of goods)

Examples of subsequent events that may make performance impracticable include

1. Death or incapacity of person necessary for performance (Restatement §262)

2. Destruction, deterioration or failure to come into existence of thing necessary for performance

(Restatement §263)

3. Prevention by Government Regulation or Order (Restatement §264)

4. Note : Generally, increased cost (or rise or collapse of the market price) alone does not excuse

performance unless the rise in cost is due to some unforeseen contingency (e.g., war, embargo,

unforeseen shutdown of sources of supply, etc.) which alters the essential nature of the performance.

(See UCC §2-615 comment 4)

As we saw in Clark, finding an unfavorable change in market price enough to excuse

performance would undermine the very purpose of a forward contract (i.e., to allocate risk of

market fluctuation).

Basic Assumption

1. At the time of contracting, the parties made assumptions about the future course of events, and those

assumptions were a central motivation of the parties for entering into contract.

← Frustration of Purpose – Restatement § 265

“Where, 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….”

1. Distinguished from Impracticability : Both parties may still be perfectly capable of performing. It’s just

that one party’s performance becomes virtually worthless to the other party. See Krell.

2. Contemplation of Both Parties : Purpose that was frustrated must have been a principal purpose of the

adversely affected party and must have been so understood by both parties.

3. Substantial Frustration : Must be so severe that was not contemplated by parties. Usually means that

the value of the other party’s performance must be totally or nearly destroyed—not enough that

exchange becomes less profitable or results in a loss. See 7200 Scottsdale Rd.

← Introduction to Conditions and Promises

← žRestatement §2 defines “promise”:

“A promise is a manifestation of intention to act or refrain from acting in a specified way, so made as

to justify a promisee in understanding that commitment has been made.”

1. We learned early on that an agreement cannot qualify as a contract unless it contains at least one

promise—the element of futurity.

2. We learned that the distinction between a bilateral and unilateral contract turns on what promises are

still to be performed by the parties at the time of contracting:

If each party has a promise remaining to be performed at the time the contract is formed, then

there is a bilateral contract.

If only one party has a promise left to be performed at the time the contract is formed, then it

is a unilateral contract.

← Introduction to Condition

žAlthough we have seen and made reference to contractual conditions throughout the course, we have yet to

focus on them in any detail. Restatement §224 defines “condition” as follows:

1. “A condition is an event, not certain to occur, which must occur, unless its non-occurrence is excused,

before performance under a contract becomes due.”

← Examples of Promises and Conditions (p. 661)

žPerson about to leave in two weeks on an overseas vacation enters into a travel insurance contract that

includes the following terms:

1. The insured promises to pay a premium of $200 within a week of signing.

2. The insurer promises to reimburse the insured for any medical expenses incurred during the

course of the trip as a result of illness or injury while traveling.

3. The insurer’s obligation to reimburse is subject to the following conditions:

(a) The insured must not abuse alcohol or drugs during the trip.

(b) To make a claim under the policy, the insured must, within ten days of returning from the

trip, deliver to the insurer a written claim accompanied by a medical report and a statement of

account from the medical provider showing the charges for the treatment with specificity.

← Examples of Promises and Conditions

žTwo Promises:

1. Promise to pay the premium in consideration for

2. Promise to reimburse

Note: Only one of the promises is a conditional promise. The promise to pay the premium

within a week of signing is an unconditional promise—there is no contingent future event that

must take place (or not take place) to make it due. The promise to reimburse is, however, a

conditional promise. It only comes due if certain conditions are met—two are express and

two are implied (they can be easily inferred by the language, nature, and structure of the

agreement through basic methods of interpretation):

žFour Conditions:

1. Express Condition #1 : Insured must not abuse alcohol or drugs

2. Express Condition #2 : Insured must submit the claim in the manner specified in the contract

3. Implied Condition #1 : Insured must in fact incur a medical illness or injury during the trip

4. Implied Condition #2 : Insured must pay premium within a week of signing

Note: All four of these events meet the definition of a “condition” in that they are uncertain at

the time of contracting—and the non-occurrence of one of these events will free the insurer

from performance.

← Contractual Conditions in Focus “Events”

žAn event can be an affirmative happening (e.g., submission of an insurance claim), but it might also be non-

happening (e.g., the non-abuse of alcohol and drugs).

žTo serve as a contractual condition, the event must be uncertain to the parties (otherwise what would be the

point of making it a condition?).

1. Future Event : Usually something that may or may not occur in the future (e.g., submission of an

insurance claim).

2. Past Event But Parties Uncertain : But may also be something that has already occurred (existing fact)

and the parties have yet to acquire the relevant information (e.g., don’t know whether already covered

by existing insurance, so contract to make performance under new policy conditioned on not being

already covered).

← Introduction to Purposes for Contractual Conditions

žParties may include conditions in their contract for a variety of purposes:

1. To establish the sequence of performances (one party is assigned the risk of nonperformance)

E.g., requirement that premium be paid within a week of signing establishes that the insured

must perform first.

Create an escape for one or both parties

1. E.g., condition that insured’s existing insurance not already cover for medical expenses during travel

allows the insured to escape from performance if already covered.

To limit the scope of obligations

1. E.g., condition that insured incur medical expenses resulting from illness or injury during the trip limits

the scope of the insurer’s payment obligations.

To allocate the risks of parties

1. E.g., condition that insured not abuse alcohol or drugs allocates the risk of illness or injury resulting

from use of these substances to the insured.

← Sequencing Conditions Precedent and Concurrent

žConditions Precedent

1. Condition must be satisfied (i.e., event or non-event must occur) before the performance subject to

that condition is due.

Example : Conditions of (1) payment of the premium, (2) non-consumption of alcohol or drugs,

(3) incurring medical expenses for illness or injury, and (4) submission of proper claim each

must occur before the insurer will be obligated to pay.

žConcurrent Conditions

1. Where the performance of one promise depends on the performance of another. Here, the promises

must be performed simultaneously.

Example : Where contract provides that title for property is due upon payment of sale amount

(and vice versa).

← Note: Conditions Subsequent

žCondition subsequent refers to a condition the occurrence of which will discharge an existing duty to

perform.

1. Distinguished from Condition Precedent : While occurrence of condition precedent makes a

contractual duty come due, a condition subsequent discharges a pre-existing duty.

Examples :

Condition Precedent : “Buyer’s duty to pay the purchase price is conditional upon a

building permit being issued by the county”

Condition Subsequent : “Buyer’s duty to pay the purchase price is excused if a

building permit is not issued by the county”

2. Little turns on this distinction—occurrence of either condition means the contingent promise need not

be performed.

Burden of Proof : The only practical consequence of the distinction is that the occurrence of

condition precedent must be proved by party suing for breach, and the condition subsequent

must be proved by party denying a breach occurred.

Burden of Proof in litiagation

Condition precedent? Must be proved by suing party

Condition subsequent ? Must be proved by party denying a breach occurred

žNote: Conditions subsequent are rare and getting rarer. Conditions Subsequent are Disfavored by the

Restatement §227 (instructing courts to interpret conditions as precedent where intent of parties is unclear b/c

of the obvious difficulties that arise).

← Express, Implied, and Construed Conditions

žIn determining whether performances under a contract are subject to conditions, we employ the familiar

principles of contract interpretation and construction.

1. Express Conditions (Interpretation) : Sometimes the parties will expressly articulate a condition in the

contract.

This is usually done by using phrases such as “conditional upon,” “on condition that,”

“contingent upon,” “provided that,” or “subject to.”

Note : Just because a term is express, does not make it an express condition. To

qualify as an express condition, the conditional nature of the term must be expressly

stated (usually by using one of the terms above).

2. Implied Conditions (Interpretation) : Conditional nature of the term is not expressly articulated, but

applying the tools of contract interpretation to the facts (parties’ language in context) the court

determines that the parties intended to make the term conditional.

3. Construed Conditions (Construction) : The parties’ intent to make a term a condition cannot be

determined based on the facts (language and context), but the court determines a condition exits

because a rule of law recognizes a condition under the circumstances, or the court concludes as a

matter of law that it is reasonable and fair given the nature of the relationship, etc.

← Effect of Express vs. Implied or Construed Conditions

žEffect of Express Conditions: Generally, the courts will give literal effect to an unambiguous express

condition. Must be satisfied exactly as it is articulated by the wording of the agreement.

žEffect of Implied or Construed Conditions: Because the condition is the result of the court’s own

interpretation or construal of the agreement, the court has flexibility in determining whether the condition has

been met. Court can limit enforcement.

← Pure and Promissory Conditions

žPure Condition: Does not involve a promise—merely describes an event that must occur before a

performance under the contract is due. If the event does not occur, no performance is due—and there is

therefore no breach for non-performance.

1. Example : Consider the condition of medical expenses incurred due to illness or injury on trip. If there

are no such medical expenses, the condition is not satisfied. Insured is certainly not in breach for not

satisfying the condition (I.e., getting sick), and the insurer is not in breach for failing to pay out.

Obviously, the insurer will not sue the insured for not getting injured.

Pure Promise : Where performance of a promise under the contract is due, and it is not the condition of any

further performance, it is a pure promise.

1. Example : Where all four of the conditions for reimbursement under the travel insurance policy are

met, the insurer’s promise to pay the insured is not the condition of any further promise. It is the last

performance in the chain, and is therefore a pure promise.

Promissory Condition : Sometimes a term in a contract is both a promise and a condition. In such a case,

failure to perform will not only result in condition not being satisfied, but the party responsible for satisfying the

condition will be in breach.

1. Example : The insured’s promise to pay the premium within one week of signing. If the insured fails to

pay the premium, the insurer will not be required to reimburse for any medical expenses incurred and

the insured will be in breach.

Note : Do not confuse “Promissory Condition” (promise that is a condition as well) with

“Conditional Promise” (promise subject to a condition).

Koch v. Construction Technology, Inc.(pay when paid clause not generally a valid condition precedent)

Construction Technology(contractor) hired Koch(subcontractor) to paint a portion of their project

They added a payment, condition clause into the contract that stated “partial payments subject to all applicable

provisions of the contract shall be made when and as payments are received by the contractor.

“the subcontractor may be required as a condition precedent to any payment to furnish evidence to the

contractor that all payrolls, material bills, etc… to the work have been paid.”

Koch completed the work, but CTI paid $39k less than he was supposed to, reasoning that they had not been

paid in full by their employer, which was a condition precedent of their contract

The court said that the condition was not valid – reasoning that “conditions precedent are disfavored and will not

be withheld unless the is clear language to support them.”

“pay when paid” clauses do not generally release the contractor from his duty

court reasoned that the parties would have been more explicit if the condition precedent was their actual intent –

not normally happens in these situations. Therefore, ruled in favor of the plaintiff

more of a timing provision and court is hesitant to shift the risk from the contractor to the subcontractor.

← Oppenheimer & Co. v. Oppenheim, Appel, Dixon & Co.

The plaintiff was the lessee of the 33rd floor of a building in Manhattan. The defendant occupied premises on

the 29th floor and wished to expand. The parties entered a letter agreement.

The parties extended the letter agreement’s deadline in writing and plaintiff timely satisfied the first condition

set fourth in paragraph 1 (a), however plaintiff never deliver the prime landlord’s written consent to the

proposed tenant work on or before the modified final deadline.

Rather plaintiff’s attorney telephoned defendant’s attorney and informed him that the prime landlords consent

had been secured.

Express conditions are those agreed to and imposed by the parties themselves. Implied or constructive

conditions are those imposed by law to do justice.

Expressed conditions must be literally performed, whereas constructive conditions which ordinarily arise from

language of promise are subject to the precept that substantial compliance is sufficient.

In this case the court finds that it is clear based on the language of the letter agreement it establishes an

expressed condition precedent rather than a promise, as the parties employed the unmistakable language of

condition (if unless and until).

Additionally, there is no basis for applying the doctrine of substantial performance to the facts of this case.

The flexible concept of substantial compliance “stands in sharp contrast to the requirement of strict

compliance that protects a party that has taken a precaution of making its duty expressly conditional.

← Introduced to contractual conditions:

An event the parties are not certain will occur, but which must occur for a performance under the contract to

become due.

1. Event can be either an affirmative happening (e.g., submitting a claim) or a non-happening (e.g., non-

use of drugs or alcohol)

2. Event must be uncertain to the parties. Usually a future event, but could also be an event that has

already taken place, but the parties don’t know the result.

← Precedent and Concurrent Conditions

Saw one of the uses of conditions in a contract is to sequence the parties’ performances.

1. Conditions Precedent

Condition that must be satisfied before the performance subject to that condition is due.

2. Concurrent Conditions

Performance of one promise depends on the performance of another (and vice versa). Thus,

the promises must be performed simultaneously.

← Introduced the concepts of Pure Conditions, Pure Promises and Promissory Conditions

Pure Condition : Does not involve a promise—merely describes the event that must occur (or not occur) in

order for a performance under the contract to come due. If event does not occur, then there is no

performance due—but there is also no breach by either party as a result.

Pure Promises : A promise the performance of which is not the condition of any further performances under

the contract. It is a “pure” promise because it is the last performance in the chain and nothing further is

conditioned on it.

Promissory Condition : Term that is both a promise and a condition (e.g., payment of insurance premium

within a week of signing). The condition not being met will result in two consequences: (1) The performance

conditioned on it will not be due. (2) The party responsible for the condition having been satisfied is in

breach.

← Conditions

Express Conditions : Where parties expressly articulate that a term is a condition in the contract. No formula,

but language such as “conditional upon,” “contingent upon,” “provided that,” “subject to,” etc., are indicators.

Implied Conditions : Conditional nature of the term is not expressly articulated, but, by applying the tools of

contract interpretation to the facts, the court determines the parties intended to make the term conditional.

Construed Conditions : The parties’ intent to make a term a condition cannot be determined based on the facts

(language and context), but the court determines that a condition exists as a matter of law.

1. Effect of Express Conditions : Courts will generally give literal effect—must be satisfied exactly as

articulated.

2. Effect of Implied or Construed Conditions : Because the condition is the result of the court’s own

interpretation or construal, the court has flexibility in determining whether the condition has been met

—may require either strict or only part/substantial performance.

Express, Implied, and Construed Conditions

žSaw an illustration of how the courts will enforce express conditions literally in Oppenheimer & Co. v.

Oppenheim, Appel, Dixon & Co.

žWe now look at an example of how the courts will enforce an implied or construed condition….

← Jacob & Youngs v. Kent

Plaintiff built a residence and defendant sues for the remaining balance. One of the specifications for the

plumbing work provides that all pipe must be manufactured by Reading. Some of the pipe installed was from

other factories.

There are express terms in the contract agreement that the piping throughout the house should be by

“Reading.”

The court will use there discretion when dealing with implied or expressed conditions and the court finds that

this is a construed condition.

If the parties wanted to strictly enforce that condition in the contract, then different language should have been

used.

Intention not otherwise revealed may be presumed to hold in contemplation the reasonable and probable. If

something else is in view, it must not be left to implication. There will be no assumption of a purpose to visit

venial faults with oppressive retribution.

In this circumstances, we think the measure of the allowance is not the cost of replacement, which would be

great but the difference in value, which would be either nominal or nothing.

The pipe that was used id not result in any harm to the defendant. Here there was not a difference in the

value between the two different kinds of pipe.

← Focus on Uses of Conditions

žLast time we talked about a few of the many uses of contractual condition. We will now focus on a few uses

already discussed, as well as some new ones:

1. Allowing a party to escape the contract

2. Allowing a party to make performance contingent on satisfaction with a specified outcome or state of

affairs

3. Allowing for alternative performances based on the occurrence or non-occurrence of an event

4. Allowing parties to sequence their performances under the contract.

← Conditions Allowing for Escape

ž At the time of contract, parties may recognize that if circumstances turn out in a particular way, then one or

both of the parties will not want to perform.

1. Example: Only want to buy the land if the zoning board approves commercial use.

Making the zoning approval a condition of the buyer’s performance affords the buyer an

escape if commercial use is not approved.

This is an example an escape clause that is a pure condition—without any promissory intent.

If condition is not satisfied, then no performance is due, and neither party is in breach.

Not all conditions designed to allow for the escape of one or both of the parties will be free of promissory

content. Sometimes the condition will be partly in the control of one of the parties.

1. Example: Parties make sale of home contingent on buyer being approved for a loan at interest rate of

4.75% or less. However, buyer promises to use best efforts to attain the loan.

Here, the condition is not entirely free of promissory content. The buyer does promise to try

to attain the loan (so will be in breach if does not use best efforts), but she does not promise

to get the loan (so may escape performance without breach if her loan application is turned

down).

← Conditions of Satisfaction

žA conditions of satisfaction is just another form of escape clause.

1. Here the party is only willing to enter into a contract if she is satisfied with the outcome of some

uncertain event.

Example : Buyer may make her promise to pay for a painting she commissioned on

satisfaction with the finished product.

Could make it conditioned on her own satisfaction

Or could make it conditioned on the satisfaction of her friend who is an art critic

As we saw when looked at the doctrine of mutuality and illusory promises, “satisfaction” cannot be a function

of pure whim or unlimited discretion (otherwise there would be no legal detriment and the contract would fail

for lack of consideration).

1. Satisfaction must be based on some objective, measurable standard.

2. If the measurable standard is not expressly articulated in the terms of the contract, it may be implied

or construed by the court.

← Objective measures of satisfaction typically fit into one of two categories:

Subjective good faith (honest judgment)

1. Where satisfaction relates to matters of taste or artistic judgment

Example : Satisfaction as to the quality of a painting

Objective reasonableness (based on commercial or trade standards)

1. Where satisfaction relates to matters of a technical or commercial nature

Example : Satisfaction as to the structural soundness of a building

žRecall our discussion of Mattei v. Hopper last semester (in lecture on mutuality), in which these tests were

laid out and the subjective good faith test was applied.

Incomm. Inc., v. Thermo-Spa, Inc.

žIncomm was engaged by Thermo-Spa to put together an advertising brochure.

žAfter working together on the brochure, Thermo-Spa became dissatisfied with Incomm and turned to another

agency to complete the brochure.

1. No express condition : Contract said nothing about Thermo-Spa’s payment being conditioned upon

Thermo-Spa’s satisfaction.

Thermo-Spa argued that the condition of satisfaction based on subjective good faith should

be implied.

2. Court concluded that the language and context of the agreement were such that it made no sense to

imply a condition of satisfaction based on subjective good faith—Incomm would not have agreed to

take on such risk under the circumstances.

3. Court conceded that the commercial context of the transaction may have warranted an implied

condition of satisfaction based on objective reasonableness, but Incomm would prevail under that

standard.

žCourt awarded judgment to Incomm.

← Conditions that Provide for Alternative Performances

žParties may use conditions to perform a channeling function.

žThe contract could be structured so that if the condition occurs, then one performance will become due, but if

it does not occur, another performance will become due.

1. Example : I want to buy your land, but we don’t know how the zoning commission is going to rule on

whether it can be zoned commercial. We structure the contract so that if the board zones it

commercial, then I will pay you $1 million, but if the board refuses to zone it commercial, I will pay you

$500,000.

In either case, I have a performance due. But the nature of the performance depends on the

occurrence or non-occurrence of the condition.

← Use of Conditions to Sequence Performances

žAs we have seen, the parties to a contract can use conditions to sequence performances, allowing them to

allocate the risks of who is to perform first.

1. May structure a sale so as to make delivery a condition precedent of payment.

Example : Payment of $15,000 on Friday is conditioned upon delivery of the F-150 on

Monday.

Here, seller becomes creditor to the buyer and assumes the risk of non-performance

between delivery and payment.

2. If neither party is willing to assume the risk of non-performance by the other party, they can structure

the contract so as to make each party’s performance a concurrent condition.

Example : Payment of $15,000 is due upon delivery of the F-150.

Neither party assumes any risk of non-performance

3. Could also mix it up by using both conditions precedent and concurrent conditions.

Example : $7,500 due on Monday is a condition of delivery of the F-150 on Tuesday. Then

parties must meet on Friday when the remaining $7,500 will be exchanged for the title to the

F-150.

← Where Contract is Silent as to Sequencing

žIf the parties are silent as to the sequencing of performances under the contract, courts will generally imply

or construe that the performances are concurrent conditions—simultaneous performance is required. (See

e.g., Restatement §234(1); Pre-Revision UCC §2-511)

1. If one of the performances is capable of instantaneous completion (e.g., payment of $), but the other

is not (painting a house), then the general rule is that the longer performance is the condition

precedent of the instantaneous performance. (See e.g., Restatement §234(1))

← Excusing Conditions

žWe have already seen that where a court finds a condition by interpretation or construction, the court has

flexibility in how/whether it will enforce it.

žThe general rule, however, is that where the parties take the trouble to articulate an express condition in a

contract, the courts will strictly enforce the condition.

1. There are, however, certain circumstances in which the courts may excuse performance due after

even an express condition has occurred…

← Waiver of Rights

žWaiver is a knowing and voluntary abandoning of a contractual right. Waiver can be either express or by

conduct.

1. Waiver occurs when, after the contract has been formed, the beneficiary of a condition agrees to

perform even if the condition is not satisfied.

Note : A party can only waive a condition that is in place solely for her benefit.

Example : My promise to buy land was contingent upon the board zoning it for

commercial development. Board does not zone it commercial, but I decide I want to

buy it anyway and waive my right to escape the contract.

2. Problem : Because waiver is one-sided, there is no consideration exchanged.

If the non-waiving party seeks to enforce the waiver against the waiving party (say, because

the waiving party changes her mind), then it must be treated as a contract modification.

General rule is that if the waiver is of a non-material right under the contract, then no

consideration is required.

If, however, the right is material, then the waiver will not be enforced against

the waiving party absent consideration.

There is no problem of consideration if it is the waiving party who wishes to proceed. This is

because the waiving party has already bought and paid for the non-waiving party’s

performance.

← Estoppel

žGenerally: If the beneficiary of the condition indicates by words or conduct that he will perform despite non-

fulfillment of the promise, and

1. knew or had reason to know that the other party would be rely on this representation

2. and the other party relied on this representation to her detriment,

3. Then courts may estop the beneficiary of the condition from seeking to enforce it.

žDistinguished from waiver: There is a great deal of overlap between the doctrines of waiver and estoppel,

but here are two important differences:

1. Waiver does not require justifiable reliance and detriment

2. Unlike waiver, estoppel is not confined to non-material aspects of the contract (because estoppel

operates as an alternative to consideration)

Obstructive or Uncooperative Conduct

žEven if in the case of a pure condition (where neither party promises the condition will be satisfied), most

contracts will contain a commitment by the parties not to do anything to obstruct or hinder its occurrence.

1. If not made explicit or implied in the agreement, the duty not to obstruct or hinder the occurrence of a

condition will usually be construed as part of the general obligation of good faith and fair dealing

found in every contract.

2. Nevertheless, there may be circumstances under which the parties contemplate one party’s

interference with the occurrence of the condition:

Example : Business owner agrees to sell his business to competitor, but only if he cannot

convince his daughter to take over. In this case, the business owner is free to try to convince

his daughter to take over the business.

Sullivan v. Bullock

Sullivan hired Bullock, to remodel her kitchen, hallway, utility room, bathroom and sewing room. The written

contract set out the major aspects of the project but lacked detail.

Sullivan told Bullock that she would not be at home on a certain day and she did not want the workman there

while she was gone. The workmen entered. Sullivan told Bullock that neither he nor his workmen were to

ever set foot in her house again.

Whether Sullivan prevented or hindered Bullock’s performance? Yes…

Implied in every contract is a condition to cooperate. In any cases where the plaintiff’s performance requires

the cooperation of the defendant the defendant by necessary implication promises to get this corporation and

if he fails to do so he is immediately liable although his only express promise is to pay money at a future day

There is evidence that the jury could conclude that Bullocks’ failure was to be to be excused by Sullivan’s act

of denying access to her home.

The jury had awarded Bullock the full unpaid balance of the contract price.. However, this overcompensated

him because it did not take into account the cost that he saved by not having to complete performance.

Unfair Forfeiture

žThere’s a sense in which any time a condition of performance does not occur, the result is a forfeiture of

money or expected benefit by the party who was to receive the performance that never came due.

1. Excusing a condition on the basis of unfair forfeiture must, therefore, require more than disappointed

expectations of the party who would have benefited from the conditional performance.

Generally, unfair forfeiture is only available to excuse the non-occurrence of a condition if its enforcement

would result in an unfair, disproportionate, and harsh deprivation of the rights of property of the party who

expects performance, and a windfall to the party whose performance was subject to the condition.

1. This is an equitable remedy, so the courts will balance the equities between the parties is reaching a

result.

Will consider any wrongful conduct by either party

Will weigh the burden on the party who is harmed by enforcement of the condition against the

harm (if any) that would be placed on the other party by excusing the condition.

J.N.A. Realty Corp v. Cross Bay Chelsea, Inc.

The rule of unfair forfeiture. For the court to excuse the tenant’s failure to comply exactly with the condition

precedent to renewal, the tenant must show that it had made:

(1) valuable improvements to the property

(2) its failure to exercise the option in time was honest and inadvertent and

(3) that the other party had not been harmed by the delay in notice

The court finds that the first requirements are satisfied.

The court remained the case to the trial court to take evidence on the question of whether J.N.A. had been

prejudiced by the delay (by re-letting the premises in good faith and reliance on the apparent intent not to

renew).

The court found that cross Bay would suffer a significant economic forfeiture of its investment if it lost the

lease. Its failure to renew in time while negligent was not purposeful.

← Contractual Conditions

žWe completed our introduction to contractual conditions by looking at some of the different ways parties will

use conditions to shape their obligations under the terms of a contract:

1. Allowing a party to escape the contract if a certain event occurs.

Example : Only want to buy land if the zoning board approves use, so make approval a

condition of performance.

žAllowing a party to make performance contingent on satisfaction with a specified outcome or state of affairs.

1. Example : Making promise to pay for painting contingent upon satisfaction with finished product.

Note : Cannot be based on pure whim or unlimited discretion—must be based on some

objective measurable standard (subjective good faith or objective reasonableness).

Allowing for alternative performances based on the occurrence or non-occurrence of an event.

1. Example : I will buy your land for $500,000 if zoning board approves commercial use, but for only

$250,000 if board does not approve.

Allowing parties to sequence their performances under the contract.

1. Example : Payment of $15,000 on Friday is conditioned upon delivery of the F-150 on Monday.

Note : Condition precedent is used to structure the contract so that seller is creditor between

Monday and Friday.

2. Example : Payment of $15,000 is due upon delivery of the F-150.

Note : Here the contract is structured so each party’s performance is a concurrent condition

and neither party assumes the risk of being creditor.

← ž Different ways in which the occurrence of a condition may be excused:

Waiver —Knowing and voluntary abandoning of a contractual right (either by words or conduct).

1. Note : A party can only waive a condition that is in place solely for her benefit.

Example : My promise to buy land was contingent upon zoning board approving commercial

use. Board does not approve use, but I decide to buy land anyway.

Problem : If the non-waiving party later seeks to enforce the waiver (e.g., because waiving party changes

mind), then the waiver must be treated as a contract modification. But, because waiver is one-sided, there is

often no consideration exchanged.

1. General Rule : If the waiver is of a non-material right, then no consideration is required to enforce. If

the waived right is material, courts will only enforce if supported by consideration.

← Estoppel

žEstoppel—If the beneficiary of the condition indicates by words or conduct that she will perform despite non-

fulfillment of the promise, and (1) knew or had reason to know that the other party would rely on this

representation, and (2) the other party relied on this representation to her detriment, then courts may estop

the beneficiary of the condition from seeking to enforce it.

1. Distinguished from waiver:

Waiver does not require justifiable reliance and detriment

Estoppel is not confined to non-material aspects of the contract (estoppel is an alternative to

consideration).

← Obstructive or Uncooperative Conduct

žObstructive or Uncooperative Conduct—Most contracts will contain an commitment (express or implied) that

the parties will not do anything to obstruct or hinder its occurrence. If such obstruction occurs, the courts ill

usually excuse the condition. See, e.g., Sullivan.

← Unfair Forfeiture

žUnfair Forfeiture—An equitable remedy that is only available to excuse the non-occurrence of a condition if

its enforcement would result in an unfair, disproportionate, and harsh deprivation of the rights or property of

the party who awaits performance, and a windfall to the party whose performance is subject to the condition.

See e.g., J.N.A. Realty Corp.

1. Note : As this is an equitable remedy, the courts will not apply if the party seeking relief has “unclean

hands,” and courts will balance burden of enforcement on party seeking relief against harm (if any) to

other party.

← Introduction to Issues Relating to Breach of Contract

žBreach of contract occurs any time a party’s performance falls short of that promised by the terms of the

contract. Nevertheless, there are different degrees of breach that carry different consequences:

1. Breach that is total and material

2. Breach that is material, but not total

3. Breach that is not material (Substantial Performance)

žWe will look at each of these in turn.

← Material and Total Breach (3 options)

žWhere a party’s breach of contract is total and material, the promisee may:

1. Withhold performance (because typically failure of condition)

2. Terminate the contract (end the transaction and enter into a new agreement with a third party)

3. Make a claim on the breacher for full compensation for the loss of her bargain

← Determining Materiality

žIn determining whether a breach is material, one must begin by interpreting the terms of the contract in

context to identify reasonable expectations of the parties. Must then evaluate the facts surrounding the

shortfall in performance:

1. A breach is material if the failure in performance is so central to the contract that it substantially

impairs its value and deeply disappoints the reasonable expectations of the promisee (i.e., promisee

will not receive a significant part of the exchange she bargained for).

This standard of materiality is imprecise and flexible. It is fact-intensive and should be applied on a case-by-

case basis. The purpose is to further the parties’ reasonable expectations under the contract. The

Restatement offers some guidance:

← Restatement §241 – Circumstances Significant in Determining Whether a Failure Is Material:

žIn determining whether a failure to render or to offer performance is material, the following

circumstances are significant:

1. (a) the extent to which the injured party will be deprived of the benefit which he reasonably

expected [if not, then more likely material];

2. (b) the extent to which the injured party can be adequately compensated for the part of that

benefit of which he will be deprived [if not, then more likely material];

3. (c) the extent to which the party failing to perform or to offer to perform will suffer forfeiture [if

so, then less likely material—so less likely material if breach occurs late in process];

4. (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 [if so, then less

likely to be material (or at least total)];

5. (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 [if not good faith or fair dealing, more

likely to be material].

← Total and Partial Breach, and the Concept of Cure

žSometimes a breach would be material if it was left alone, but it is not yet total breach because there

remains the possibility of cure. In other words, the deficiency in performance may still be rectified so as to

prevent it from reaching the level of total breach.

Where there is still time or opportunity to cure a material breach, it may be referred to as a “not-yet-total”

(sometimes “partial”) breach.

1. Example : Enter contract to have car painted red for $500. The paint job is to be completed Friday.

$500 is due on completion of the job. Shop calls on Wednesday and says car is ready. You go to

pick it up and discover it is blue. Shop still has until Friday to cure.

žWhere the material breach is not-yet-total and there is opportunity to cure, the disappointed party may

suspend performance, but must await imminent cure (may not terminate).

If the material breach is cured in time, then the breach is over.

1. The disappointed party cannot terminate the contract and must now perform.

2. The disappointed party may, however, claim compensation for any loss suffered by the delay, etc.

žIf the material breach is not cured, then it becomes a material and total breach.

← Substantial Performance

žSubstantial performance is a partial performance resulting in a non-material breach.

1. Occurs where the performance is substantially in compliance with what was promised, and

consequently the breach is not so severe as to undermine the promisee’s reasonable expectations.

Here, there is still a breach, but it would be unfairly harsh to allow the disappointed party to withhold

performance, terminate the contract, and claim full damages (the consequences of material and total breach).

1. Instead, where there is a breach resulting in substantial performance, the disappointed party

may not terminate the contract,

must perform ,

but may claim compensation for any loss suffered. (We’ll return to question of measurement

of loss for substantial performance.)

žThe same test is applied to determine whether a breach is material or whether there was substantial

performance. Generally, where it falls short of being material, then there is substantial performance.

← Worcester Heritage Society, Inc. v. Trussell

The plaintiff the society, dedicated to the preservation of historically significant building. Trussell bought the

house and agreed to abide by historic preservation restrictions and to do a complete historic restoration. The

exterior portion was to be completed in one year falling which the society could at it option engage workers to

complete the exterior restoration at Trussell’s expense.

Whether there has been only a breach of contract rather than an utter failure of consideration or a repudiation

by the party in breach?

He obviously breached the contract (1 year to do the work and it took 5); was it a material breach or

substantial performance?

In order to get rescission, you have to prove material breach, or, total lack of consideration.

Court decided that it was substantial performance because Trussell had began his performance, therefore

there was consideration.

The determination of materiality is a fact intensive undertaking; in these circumstances, the facts point to

substantial performance rather than material breach

The society was concerned with what the outside of the house looks like and Trussell had began and

renovated the outside; therefore no material breach

Court also notes that Trussell had put in a lot of time and hard work on the house; therefore, it would be

inequitable to allow rescission (as a result of material breach)

The Society could go in and fix it itself.

In the absence of fraud, nothing less than conduct that amounts to an abrogation of the contract or that goes

to the essence of it, or takes away its foundation can be made a ground for rescission of it by the other party.

There has not been a total failure of consideration, Trussel having paid the purchase price and invested some

additional sums and much labor in the restoration work.

The court applies the Restatement. The society purpose for this contract was the outside of the house and

the outside is updated. The society could have brought the action sooner.

← Measurement of Relief for Substantial Performance

žWe have seen that where there is a material and total breach, the disappointed party may:

1. terminate the contract (and, e.g., hire another to do the job),

2. refuse to render her own performance (e.g., pay for services already rendered and due under the

contract), and

3. claim damages from the breacher (usually expectation damages or rescission)

žWe have also seen that where there is a breach resulting in substantial performance, the disappointed party

1. may not terminate the contract ,

2. must perform ,

3. but may claim compensation for any loss suffered.

There are two different measures of relief for loss suffered due to substantial performance….

← Usual Measurement of Relief for Substantial Performance

žThe usual measure of damages for substantial performance is the cost to place the promisee in the position

he would have been in had the performance been in full compliance with the contract. In most cases, this will

be the amount of money necessary to correct the shortfall in performance.

1. If work was done improperly, then compensation is cost to promisee of rectifying the work.

2. If property supplied was defective, then compensation is cost of repairing or replacing the property.

3. If breach lies in failure to complete the performance, then completion cost is measure.

4. If breach involves delay in performance, then compensation is measured by loss caused by delay.

← Measurement of Relief for Substantial Performance: Where Cost of Rectify is Disproportionately High

žIn some cases, however, the cost of rectifying the performance may be disproportionate to any realistic loss

actually suffered by the promisee.

1. Thus, where the breach is neither material nor willful, and the cost of remedying the defect in

performance is grossly out of proportion to the harm caused by the breach, the court may limit the

damages to the amount by which the defective work had reduced the market value of the product of

the performance.

Example : This was the measure of damages applied by the court in Jacob & Youngs. There

the court found that the was no difference in market value between a house constructed

using Reading pipe and a house constructed using pipe of equivalent or better quality.

Consequently, the damage award was $0.

žNote: Determining which measure of damages should be awarded where there is breach by substantial

performance is fact-intensive, and the court will sometimes award the cost of rectifying the defect even where

this will not improve the market value….

← Lyon v. Belosky Construction, Inc.

Plaintiff Lyon and her sister entered into a contract with defendant Belosky for the construction of a custom

home at the cost of $247,000. Plaintiffs retained defendant Kirk Bieselmeyer a professional engineer to inter

alia prepare construction document and conduct periodic inspection to insure that the home was constructed

in conformity with the drawings.

“Where, however, the contractor’s breach was unintentional and constituted substantial performance was in

good faith and remedying the defective performance would result in unreasonable economic waste, damages

should be based upon the difference b/t the value of the property as constructed and the value if performance

had been properly completed.”

After moving into the home, plaintiff learned that the roof had been centered over the library rather than the

living room as represented in the drawings resulting in a change in the roof proportions and enlarging of the

overhang over the main entrance. In addition the entrance pillars could not be used in the manner depicted in

the drawings.

The defendant argues an affirmative defense, that giving the plaintiffs the cost to replace the roof would be

economic waste.

The act by the parties was not willful but negligent. The court finds that the plaintiff paid more than the market

value for the house and the construction of the house did not equal that chose. The court finds a breach of

contract.

General rule, the proper measure of damages in cases involving the breach of a construction contract is the

difference between the amount due on the contract and the amount necessary to properly complete the job or

to replace the defective construction, whichever is appropriate.

However, the contractor’s breach was unintentional and constituted substantial performance in good faith and

remedying the defective performance would result in unreasonable economic waste, damages should be

based upon the difference between the value of the property as constructed and the value if performance had

been property completed.

Belosky hired a framer to frame the roof but testified that he did not personally inspect the roof to insure that it

and the dormer complied with the drawings.

Our review of the photographs of the home as constructed compared with the design drawings convinces us

that plaintiffs did not get the benefit of their bargain and that requiring defendants to remedy the problem

could not under the circumstance result in unreasonable economic waste.

← Recover for Breach Party Unjust Enrichment

žAs we’ve seen, if a party’s breach is material and total, then the breacher has no right to enforce the contract

he has violated.

1. Most courts (but not all) will, however, allow a party who has partially performed (but who is still in

material and total breach) to make a claim for unjust enrichment (restitution).

However, because a party in material and total breach is at fault, the courts that allow recovery for unjust

enrichment will typically recognize the following restrictions:

1. Not entitled to the market value of performance or good (as is the usual remedy for unjust

enrichment), only the actual economic enrichment of the other party

(so recovery will be offset against any loss or extra costs undertaken by the non-breaching

party as a result of the breach).

2. In addition, if the actual contract price for the performance is less than the market value, then

recovery will be limited to the lesser amount.

← Divisible Contracts

žEven where the breach is material and total, the breaching party may seek to limit damages by arguing that

the contract is divisible into self-contained units, and the breach must be limited to those units.

1. Most contracts are not divisible because, even where the parties contemplate the exchange of more

than one performance, they are typically bargained for together as part of a single exchange.

Whether a contract can be divided into self-contained mini-contracts is a question of contract interpretation.

Factors to be considered will include:

1. Purpose of the parties

2. Whether contract breaks performances into distinct parts

3. Separate payments or prices identified with specified performances

4. Separate performance schedules

5. Whether completed performances have separate and identifiable economic worth

Example : Contract for the construction of 35 houses in a planned community. All 35 homes

are assigned specific lots with distinct architectural plans. Itemized prices are assigned to

each home, and there are different completion schedules assigned to each. Builder only

completes 20 homes and then refuses to build the remaining 15. See Carrig v. Gilberty-

Varker Corp.

← Menorah Chapels at Millburn v. Needle

Plaintiff’s father died and defendant arranged a Jewish Funeral Chapel to provide funeral and related

services. Because of the Sabbath commencing at sundown on Friday, the funeral could not be conducted

until Sunday.

The statement of goods and services selected disclosed that Needle requested that the chapel agree to

provide shomeim to conduct the shmerrah.

The Chapel subcontracted to provocation of shomerim to a burial society. However, because of the Sabbath

the society did not provide the required services and in fact only three of the six shifts were performed.

Although the services at issue may be required under the tents of the orthodox Jewish faith, the dispute does

not concern the manner in which they were performed, but solely whether they were performed at all a non

doctrinal matter.

Whether the contract was divisible in nature? No.

“A party may not repudiate one part of a non-divisible contract and claim the benefit of the residue, because

to do so would amount to unjust enrichment and would bind the parties to a contract which they did not

contemplate.”

In order for a contract to be divisible, you must show that: 1. You have be able to divide into 2 or more parts

2. You have to be able to break it into separate and total considerations of each party

The D. argues that it was divisible b/c they had a separate price list. However, court rejected that argument

because, by law, they had to provide that list.

Rather, the court decided that it was a contract for the entire service THE SUM WAS GREATER THAN THE

PARTS!!!

Only where a contract is severable into different transactions may one of those separate transactions be

avoided. A contract is said to be entire when the consideration moving from the promisor is conditioned upon

the complete performance by the promissee of his promise. On the other hand a contract is said to be

divisible when performance is divided in two or more parts with a definite apportionment of the total

consideration of each party.

The mere fact that there is a contract rate of payment per unit of performance to be rendered by the plaintiff is

not sufficient to make the contract divisible.

← Concerning Breach

žWe began our focus on issues concerning breach—where a party’s performance falls short of that promised

by the terms of the contract.

žWe saw that there are different degrees of breach:

1. Material and Total

2. Material and Not Total

3. Not Material (Substantial Performance)

← Breach

žMaterial Breach

1. Material if the failure in performance is so central to the contract that it substantially impairs its value

and deeply disappoints the reasonable expectations of the promisee (i.e., promisee will not receive a

significant part of the exchange she bargained for).

Look to Restatement §241 for further guidance on what counts as material

2. Total if there is nothing done to cure a material breach.

3. Consequences of Material and Total Breach:

Promisee may withhold performance

Promisee may terminate the contract

Promisee may make claim for full compensation for the loss of her bargain (e.g., expectation

damages or rescission)

← žMaterial but Not Total Breach

Material if left alone, but not yet total because there remains possibility of cure.

Consequences:

1. If cured in time, then breach is over

Promisee cannot terminate contract

Promisee must perform

May claim compensation for any loss suffered due to delay.

2. If not cured in time, then there is material and total breach.

← Substantial Performance

žSubstantial Performance is a partial performance that results in a non-material breach:

1. Performance is substantially in compliance, so breach not so severe as to undermine the promisee’s

reasonable expectations.

Consequences:

Promisee must perform

Promisee cannot terminate contract

Promisee may claim compensation for any loss suffered

Usual : Cost to required to correct the defect in performance.

Alternative/ Exception ( Young v. Kent) :

o Where not willful

o Where remedying defect grossly out of proportion to the harm

caused

o Court may limit damages to amount by which the defective work

reduced the market value of the product or performance.

← Total and Material Breach

žWhere there is total and material breach, breaching party has no rights under the contract. But most courts

will allow a breaching party to make a claim for restitution (unjust enrichment).

žHowever, where a party is in breach, recovery for restitution will be limited;

1. Not entitled to market value, only to the actual economic enrichment of the other party.

2. If the actual contract price for the performance is less than the market value, will be limited to the

lesser amount.

← Divisible Contracts

žDivisible Contracts:

1. Party in breach may seek to limit damages by arguing that the contract is divisible into self-contained

units—and breach must be limited to the units that were not performed.

2. Most contracts are not divisible (each performance being related to the others in a single exchange).

To determine whether a contract is divisible, look to:

Parties’ purpose

Whether contract breaks performances into distinct parts

Separate payments identified with specified performances

Separate performance schedules

← Menorah Chapels at Millburn v. Needle

The argument is that the contract is divisible.

The court follows the Restatement, which requires that a court look to the parties intent to determine whether

the value to the injured party of what he received is equivalent to its stated price or whether that value is

materially diminished by the part performance.

The whole is greater then the sum of the parts.

Must look at the entire contract to decision if it is divisible. Mini contract, therefore the only thing we are going

to give you are the parts of the contract that we did not do.

The Chapel argues that the prices sheet is itemizes, a dollar amount for each of those.

First, the court says that a statute requires that the parties allows itemizes the price list.

By dividing the contract the part that is not being done has to not mean a lot to the other party. Here we are

talking about a funeral that requires certain things for religion purposes.

The court says that they will leave it up to the jury to decide if it is a material breach.

The court notes that the Chapel might be able to recover for some of the cost but it will be less then the

market value. Unjust enrichment is proved not market value but the actual value of the funeral. Here it could

be negative because we are talking about funerals.

← Breach and Substantial Performance Under UCC: Perfect Tender

žSeller’s obligation under a contract for the sale of goods is to tender delivery of the goods contracted for at

the time and place provided for in the contract.

žIf tender conforms to the contract’s terms, the buyer must accept and pay for them at time and in manner

required by the contract.

žIf the seller’s tender does not conform to the terms of the contract in some way, then under common law—

i.e., there is a breach—then under common law we would look to the significance of the breach to determine

whether material or substantial.

1. But the UCC does not follow the common law and adopts a more bright-line approach—the “perfect

tender rule”….

← UCC § 2-206 Buyer’s Rights on Improper Delivery

Subject to the provisions of this Article on the breach in installment contracts (Section 2-612) and

unless otherwise agreed under the sections on contractual limitations of remedy…, if the goods or

the tender of delivery fail in any respect to conform to the contract, the buyer may

← (a) reject the whole; or

← (b) accept the whole; of

← (c) accept any commercial unit or units and reject the rest.

← Printing Center of Texas, Inc. v. Supermind

The paper did not conform to the sample. The poor production of the book was not up to the standards of

retail.

Was a sale of goods so the court applied the UCC and the “perfect tender rule”; goods must conform in “every

respect.”

Is a matter of contract interpretation – Supermind did not conform, “in every respect” and had therefore

breached the contract.

Under common law, the breach probably would have been material and the same conclusion probably would

have been found. However, the breaching party, under common law, would possibly have been able to cure

the defect.

The court expressed a qualification to the perfect tender rule. It said that the buyer’s right to reject

nonconforming goods in subject to the general obligation of good faith imposed by the UCC on both parties in

the performance and enforcement of the contract.

Therefore to decide whether tendered goods are conforming, the court must determine the terms of the

contract by examining the language of the contract in the entire context of the transaction, including any

course of dealing, trade usage, and course of performance. Once the contract terms have been established it

must be decided if the right goods were tendered at the right line and place.

UCC 1-304 is also applied – to get out of the contract, you have to act in good faith; even if nonconforming

you still may be bound if you are acting out of bad faith.

If the evidence reveals any nonconformity in the goods or their manner of deliver, the buyer is entitled to

reject.

← Limitations on Perfect Tender Rule

← žUCC §2-508 – Cure by Seller of Improper Tender or Delivery; Replacement

“(1) Where any tender or delivery by the seller is rejected because non-conforming and the time for

performance has not yet expired, the seller may seasonably notify the buyer of his intention to cure

and may then within the contract time make a conforming delivery.

(2) Where the buyer rejects a non-conforming tender which the seller had reasonable grounds to

believe would be acceptable with or without money allowance the seller may if he seasonably notifies

the buyer have a further reasonable time to substitute a conforming tender.”

1. Note : Distinguishes seller’s cure rights before and after the time for performance has expired.

Broader right to cure if before due date

So long as notice is seasonably provided, the defect is corrected in time, and seller

compensates for any loss incurred—buyer must accept.

If after due date

Seller must have had reasonable grounds to believe would accept

Must meet all the requirements under (1)

Must be corrected within a reasonable time so as not to disappoint buyer’s

reasonable expectations under the contract.

← Ramirez v. Autosport

Ramirez bought a camper van from Autosport. The camper was to be delivered to them on August 3. When

they came to collect it on the day, they found that it had several small defect such as scratches, missing

electric and sewer hookups and missing hubcaps.

Autosport had numerous attempts to fix the camper but never did.

Ramirez sued in order to get the their money back.

In appropriate circumstances, the seller may cure even after the time of delivery has passed, provided that

the cure is accomplished within a reasonable time and in accordance with the buyers reasonable contractual

expectations.

The UCC applies because this if for the sale of goods.

The court points out that cure is a good thing for the mass-produced goods in the modern economy.

Here the Ramirez certainly did give Autosport time to cure and beyond.

When the Ramirez came back the second time, if beyond the due date, Autosport could presume that the

Ramirez would not take a wet camper. This is one of the rules.

← UCC § 2-612 Installment Contract Breach

“(1) An “installment contract” is one which requires or authorizes the delivery of goods in separate

lots to be separately accepted, even though the contract contains a clause “each delivery is a

separate contract” or its equivalent.

(2) The buyer may reject any installment which is non-conforming if the non-conformity substantially

impairs the value of that installment and cannot be cured or if the non-conformity is a defect in the

required documents; but if the non-conformity does not fall within subsection (3) and the seller gives

adequate assurance of its cure the buyer must accept that installment. 

(3) Whenever non-conformity or default with respect to one or more installments substantially impairs

the value of the whole contract there is a breach of the whole . But the aggrieved party reinstates the

contract if he accepts a non-conforming installment without seasonably notifying of cancellation or if

he brings an action with respect only to past installments or demands performance as to future

installments.”

1. Note : Rule adopts the substantial performance doctrine (and not perfect tender) with respect to

“installment contracts”

Example : If Nissan is to deliver 100 trucks in one lot and 5 are defective, then buyer can

reject all of them under the perfect tender rule. However, if they are delivered in lots of 10,

and the first 10 have 5 defective trucks, buyer can only reject if substantially impairs, and

cannot be cured.

← Anticipatory Repudiation

žA party cannot typically breach a contract before performance is due.

žBut sometimes the promisor will make it clear by words or conduct that she will not perform when the time

for performance falls due. In effect, she has breached the contract in advance.

žWhen this occurs, there is “anticipatory repudiation”

1. Rationale : In the absence of anticipatory repudiation, the non-breaching party, despite knowledge that

the breaching party will breach when the time comes to perform, would have to continue preparations

for and remain available to perform.

← Anticipatory Repudiation: Restatement Guidance

← žRestatement §250 – When a Statement or an Act Is a Repudiation (anticipatory repudiation)

← “A repudiation is 

(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…, or

(b) a voluntary affirmative act which renders the obligor unable or apparently unable to perform

without such a breach.”

← žRestatement §253 – Effect 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 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.

← Anticipatory Repudiations: UCC § 2-610

žWhen 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

1. (a) for a commercially reasonable time await performance by the repudiating party; or

2. (b) resort to any remedy for breach…, even though he has notified the repudiating party that

he would await the latter’s performance and has urged retraction; and

3. (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….”

← Risks Concerning Anticipatory Repudiation

žOnce one learns of promisor’s intention to repudiate, the question becomes whether that repudiation is

material.

1. If it is not, and the promisee treats it as material and withholds performance or states intention to

cancel the contract, then that promisee now assumes the risk that court will find the repudiation not

material.

If repudiation found to be not material, then promisee is now the party in breach.

This risk is particularly acute where the statement of repudiation is vague or

uncertain.

← Wholesale Sand & Gravel, Inc. v. Decker

The performance is not yet due so the court is dealing with anticipatory repudiation.

James Decker and Wholesale agreed to perform earth work including the installation of a gravel driveway on

Decker’s’ property. The contract contained no provision specifying a completion date for the work. Indeed

the only time reference made in the contract was that payment was to be made within 90 days.

Wholesale began work on the drive way on the weekend after the contract was executed and immediately

experienced difficulty because of the wetness of the ground. Goodenow decided to wait for the ground to dry

out before proceeding further. Decker called many times about the driveway. Finally Decker called

Goodenow for the purpose of terminating the contract. At that point Goodenow said that they would be on the

property the next day but did not show.

We conclude that Wholesale, through its conduct manifested and unequivocal and definite inability or

unwillingness to perform with a reasonable time.

A definite and unequivocal manifestation of intention on the part of the repudiator that he will not render the

promised performance when the time fixed for it in the contract arrives. The manifestation of an intention to

repudiate a contract may be made and communicated by either words or conduct

After its second weekend of work at the site, Wholesale removed its equipment and did not return. Moreover,

on two occasions Goodenow, responding to Decker’s inquires about the progress of the job promised to get

right to work but did not do so.

← Retraction of Repudiation: Restatement

← žRestatement §256 – Nullification of Repudiation or Basis for Repudiation

(1) The effect of a statement as constituting a repudiation under §250 or the basis for a repudiation

under §251 is nullified by a retraction of the statement if notification of the retraction comes to the

attention of the injured party before he materially changes his position in reliance on the repudiation

or indicates to the other party that he considers the repudiation to be final.

(2) The effect of events other than a statement as constituting a repudiation under §250 or the basis

for a repudiation under §251 is nullified if, to the knowledge of the injured party, those events have

ceased to exist before he materially changes his position in reliance on the repudiation or indicates to

the other party that he considers the repudiation to be final.

← Retraction of Repudiation: UCC

← žUCC §2-611 – Retraction of Anticipatory Repudiation

(1) Until the repudiating party’s next performance is due he can retract his repudiation unless the

aggrieved party has since the repudiation cancelled or materially changed his position or otherwise

indicated that he considers the repudiation final.

(2) Retraction may be by any method which clearly indicates to the aggrieved party that the

repudiating party intends to perform, but must include any assurance justifiably demanded under the

provisions of this Article….

(3) Retraction reinstates the repudiating party’s rights under the contract with due excuse and

allowance to the aggrieved party for any delay occasioned by the repudiation.

← Prospective Inability to Perform: Restatement

← žRestatement §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.

← Prospective Inability to Perform: UCC

← žUCC §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….

(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.

← Problem 19.4 – Home Sale

(a) Seller has an interest if finding a good buyer because its more money and time off the market. Here there

has been no voluntary act or statement that the buyer will not perform. So the seller could request assurance

of performance but cannot void the contract on ground of anticipatory repudiation.

(b) / (c) Here there is a fine line between asking to little versus to much. In this situation a good request might

be asking the buyer for (a) reasons for why your loan has not be cleared (b) how the problem is going to be

corrected.

Breach and Substantial Performance

žLooked at breach and substantial performance under the UCC.

1. Saw that the UCC offers a bright-line rule where there is not “perfect tender.” Under UCC §2-601, if

the tender or delivery of goods by the seller fails “in any respect” to conform to the contract,” the

buyer may:

Reject the whole

Accept the whole, or

Accept any commercial unit or units and reject the rest.

žThis treatment departs from common law, which would first determine whether there was substantial

performance.

Perfect Tender Rule

žSaw that the perfect tender rule has limitations:

← Under UCC §2-508 – Cure by Seller

(1) The buyer must allow the seller to cure if there is still time left before the due date and the buyer is

seasonably notified of intention to cure.

(2) Buyer must (upon seasonable notice) allow seller reasonable time to cure (even if due date has

arrived) if the seller had reason to believe buyer would have accepted.

← Under UCC §2-612 – “Installment Contract”

Adopts substantial performance doctrine (and not perfect tender) for purpose of installment

contracts.

← žAnticipatory Repudiation

Statement (or voluntary act) by the obligor that indicates the obligor will commit a total and material breach.

(See Restatement §250)

Anticipatory Repudiation gives rise to a claim for total breach. (See Restatement §253.

UCC gives similar treatment (See UCC §2-610)

žGenerally, anticipatory repudiation may be retracted if there is no detrimental reliance on repudiation.

1. See Restatement §256 and UCC §2-611

← žProspective Inability to Perform

Where there are reasonable grounds for thinking a party will not perform (but there has been no repudiation

by words or conduct), then the other party may demand adequate assurance of due performance.

1. If the assurance is not received, obligee may suspend performance until such assurance is received.

See Restatement §251 and UCC §2-609.

Introduction to Contract Remedies

žIn general, Anglo-American contract remedies operate on a compensation principle: In the usual case, the

goal is to make the aggrieved party whole. It does not aim to deter or punish. In the typical case, the injured

party is supposed to be placed in as good a position as she would have been in if the contract had actually

been performed but not better off.

1. This purposed can be achieved in a number of ways:

Forcing the breaching party to perform (specific performance)

Enjoining one party from taking action that may negatively impact the contractual rights of the

other party

Money damages

Distinguishing Expectation, Reliance, and Restitution Interests

← žRestatement §344 – Purposes of Remedies

Judicial remedies under the rule states in this Restatement serve to protect one or more of the following

interests of a promisee:

1. (a) his “expectation interest,” which is his interest in having the benefit of his bargain by being put in

as good a position as he would have been in had the contract been performed,

2. (b) his “reliance interest,” which is his interest in being reimbursed for loss caused by reliance on the

contract by being put in as good a position as he would have been in had the contract not been

made, or

puts you in the position you would have been in if the contract had never been formed

3. (c) his “restitution interest,” which is his interest in having restored to him any benefit that he has

conferred on the other party.

- Generally, the remedy for unjust enrichment

Expectation Damages Generally

žAttempts to put a promisee in as good a position as he would have been in had the contract been performed

—gives non-breaching party the benefit of the bargain.

žGenerally (though not always) the most generous remedy

1. žExamples of measures:

Any additional cost for replacement

Comparing contract price for service versus market price

Lost profits

Reliance Damages Generally

žAttempts to put the promisee in same position as if the contract had never been made at all.

žApplies where party has changed position (incurred expenses in preparing to perform, performed, foregone

opportunities to make other contracts) in reliance on the other party’s performance.

žHere the court measures damages based on this reliance.

žGenerally less generous than expectation damages because it will not include an injured party’s lost profits.

Restitution Damages Generally

žAttempts to restore any benefit already conferred to the other party so as to avoid unjust enrichment.

žMay occur where a party has conferred a benefit on the other party by, for example, making a part payment

or furnishing services under the contract.

žHere the court may require the other party to disgorge the benefit received by returning it to the party who

conferred it.

žGenerally the least generous contract remedy (less than expectation and reliance) because it neither

includes the injured party’s lost profits nor the injured party’s reliance expenditures that did not benefit the

other party.

Amour v. LeChef

žThe Amours are about to celebrate their 50th wedding anniversary.

žThey are planning a huge celebration and contract with LeChef to cater the affair for $10,000.

 When the Amours sign the contract, they give LeChef a 10% deposit ($1,000).

 Shortly after signing the contract, the Amours have invitations printed that note the affair will be catered by

LeChef.

 LeChef, however, receives a subsequent offer for a celebrity wedding on the same day and decides this

would offer him more exposure, so he repudiates his contract with the Amours.

 Amours hurry to find a replacement and find Gourmande, another chef of LeChef’s stature, but she will only

do it for $13,000.

 Amours reprint the invitations at a cost of another $1,000.

 Celebration is a huge success

Freund v. Washington Square Press, Inc.

Plaintiff entered into a contract with defendants to publish a book. Plaintiff delivered the manuscript and

defendant’s agreed to pay him $2,000. The contract provided that defendant would pay royalties to plaintiff,

based upon specified percentages of sales. Defendant’s merged with another publishing company and did

not publish plaintiff’s book.

The error by the court below was in measuring damages not by the vale to plaintiff of the promised

performance but by the cost of the performance to defendant. Damages are not measured however by what

the defaulting party saved by the breach but by the nature and probable consequences of the breach to the

plaintiff.

General rule, is to put the injured party in as good a position as he would have been put by full performance of

the contract, at the least cost to the defendant and without charging him with harms that he had no sufficient

reason to foresee when he made the contract.

The trial court granted plaintiff $10,000 the cost that it would cost him to have the book published. However

the court finds that $10,000 was far beyond compensation plaintiff for the interest he had in the defendant’s

performance of the contract. An award of that cost publication would enrich plaintiff at defendant’s expense.

His expectancy interest in the royalties the profit he stood to gain from sale of the published book while

theoretically compensable was speculative.

Concept of Efficient Breach

žAs we noted earlier, the Anglo-American law of contracts turns on the compensation principle—whereby the

goal of contract remedies is not to deter or punish for breach, but rather to provide the injured party with

monetary compensation that will put him in as good a position financially as he would have been had the

other party performed.

žOne of the consequences of compensation principle is that if (as in Freund) there is no quantifiable financial

loss on the part of the non-breaching party, then the breaching party will not have to pay for the breach.

žThis is supposed to be one of the benefits of the compensation principle—not a defect: I.e., that it allows for

“efficient breach.”

žIf one party breaches the contract to take up a more lucrative opportunity (presumably with someone who

values his services more), then he is only required to compensate the non-breaching party for the benefit they

were to receive under the terms of the contract.

1. When this occurs, two parties are made better off (the breaching party, and the other party to the new

contract), and the non-breaching party is not made any worse off because he has been fully

compensated.

Resources are thereby transferred from less to more valuable uses.

2. Problem : The breaching party is allowed to profit by breaking a promise.

Also, as was presumably the case in Freund—not all parties value their bargains in purely

monetary terms—may, e.g., seek prestige and notoriety from publication.

Components of Expectation Damages

žExpectation interest is the default measure of damages for breach of contract. As we have seen, the injured

party’s lost value from the contract is the main component of expectation damages. This is sometimes

referred to as “direct” damages.

žDirect damages are those that compensate the injured party for the loss of the value that would have come

directly from the contract itself.

žWhere neither party has performed under the contract, direct damages will be the value of the entire contract

from the injured party’s point of view (minus any savings resulting from the injured party’s not having to

perform).

žIf the breaching party has partially performed, direct damages will be the difference in value between what

the plaintiff hoped to get from the contract and what the plaintiff actually received.

žIt is often the case, however, that when one party is in breach, the other party incurs other losses in addition

to the loss of the value of the contract. These are often referred to as “indirect losses,” which can then be

separated into “consequential” and “incidental” losses.

Sometimes a chain of injuries will be set in motion as a consequence of the breach.

1. žFor example, without the promised good or service, a business may have to close until a

replacement can be found. This may result in lost profits.

žPerhaps the good was an emergency bearing that was crucial to prevent the breakdown of machinery at an

industrial complex. A consequence of the breach will be costly injury to property.

žEven personal injury may result from a breach—say where the promised good or service is health-related. A

consequence of the breach may be personal injury.

Expectation Damages: Incidental

žSometimes the non-breaching party will incur costs simply coping with the other party’s breach.

For example, incidental damages may include

1. The costs of assessing damage resulting from the other parties breach, or

2. The cost of finding and arranging for a substitute performance

Expectation Damages Measurement

žWhether damages are characterized as direct, consequential, or incidental may not always matter—but

sometimes common law and statutory limitations placed on recovery will turn on the distinction.

žIn addition, sometimes the parties themselves will explicitly limit recovery under the terms of the contract to

only a certain class of damages (direct, consequential, or incidental). Is such cases, the distinction may prove

to be all important.

So from what has been said so far, we have a good sense of how the courts will measure expectation

damages. In essence, it will be the injured party’s losses (lost value of contract, consequential damages) set

off against any savings resulting from the other party’s breach.

žRestatement offers the following guidance….

← žRestatement §347 – Measure of Damages in General

Subject to the limitations stated in §§350-53, the injured party has a right to damages based on his

expectation interest as measured by

1. (a) the loss in the value to him of the other party’s performance caused by its failure or

deficiency, plus

2. (b) any other loss, including incidental or consequential loss, caused by the breach, less

3. (c) any cost or other loss that he has avoided by not having to perform.

Ed v. Anna, CPA

There are not any expectation damages.

The plaintiff court have given it to someone else but he decide to do it himself. It would be the plaintiff’s

burden to prove that this time spent finding someone else was more valuable then whatever else he had

going on at the time.

← Interests

žLast time we began our introduction to contract remedies by distinguishing three interests these remedies

will protect:

1. Expectation interest —Being placed in as good a position as would have been had the contract been

fully performed.

Typically most generous remedy

2. Reliance interest —Being reimbursed for loss caused by reliance on the contract by being put in as

good a position as he would have been in had the contract not been made

Typically less generous than expectation damages because cannot award lost profit

3. Restitution interest —Interest in having restored any benefit conferred on the other party

Typically least generous because cannot award lost profit or reliance—only return of benefit

conferred on other party.

← žComponents of Expectation Damages

Direct Damages —Compensate the injured party for the loss of the value that would have come directly from

the contract itself.

1. Where neither party has performed, this will be the value of the entire contract from the injured party’s

point of view (minus any savings resulting from the injured party’s not having to perform).

Indirect Damages —Losses in addition to the value of the contract.

1. Consequential—Beyond lost value in the contract, a chain of further losses may be set in motion by

the breach, for example;

Lost profits due to business shut-down

Injury to property

Personal injury

2. Incidental—Costs associated with coping with the other party’s breach:

Costs of assessing damage (getting estimates for repair)

Costs of finding or arranging for substitute performance

← Expectation Damages

žBegan our look at how expectation damages will be measured generally:

1. Loss in value of other party’s performance caused by breach

+

2. Any other loss, including incidental or consequential loss

-

3. Any cost or other loss avoided.

=

4. Expectation damages

← Measurement of Expectation Damages Generally

žBegin by measuring expectation interest where the other party has not performed at all.

In determining expectation damages, the first step will be to determine what (if any) direct losses were

suffered by the non-breaching party. To do this, a court will have to determine what if any economic value the

breaching party’s performance would have had for the non-breaching party.

 There are basically three measures:

1. By reference to substitute transaction price

2. By reference to market value

3. By reference to lost profits

← Measurement of Expectation Damages: Substitute Transaction

žWhere the non-breaching party obtains a replacement performance, if the replacement price is less

advantageous than the contract price, the direct loss may be measured as the difference between the

contract price and the replacement performance price.

žAn important factor to consider in determining if a substitute transaction is a proper measure of direct

damages will be whether the substitute really equivalent?

1. May be higher price because getting more (which would be a windfall)

2. May be lower price because getting less (so unfair measure to plaintiff)

← Handicapped Children’s Education Bd. V. Lukaszewski

Handicapped Children’s Ed. Board hired defendant to serve as a speech and language therapist for the

spring term. Prior to the benign of the school year defendant was offered a position by another school located

not far from her home. Additionally, the job paid more money. Defendant tried to breach the contract with

Handicapped Children’s Ed. but the board refused to release her from the contract.

Defendant was very upset and went to her Dr. who found that her blood pressure was high and she was

suffering from stress. Defendant quit her job based on medical needs. Plaintiff is suing defendant for the

additional money it took to replace her, which was $1,026.64.

Damages in breach of contract cases are ordinarily measured by the expectation of the parties. The non

breaching party is entitled to full compensation for the loss of his or her bargain that is losses necessarily

flowing from the breach which are proven to a reasonable certainty and were within contemplation of the

parties when the contract was made.

The court disagrees with defendant that the teacher value that the board got was worth the addition money

need to pay her. The board neither expected nor wanted a more experienced therapist who had to be paid an

addition money per year. Defendant breach forced the Board to hire the replacement and in turn to pay a

higher salary. Therefore the Board lost the benefit of its bargain.

However a injured party must take all reasonable steps to mitigate damages. Therefore the employer must

attempt to obtain equivalent services at the lowest possible cost.

The benefits imposed upon the plaintiff is not something they wanted. This is an example of affective breach

by the defendant.

← Measurement of Expectation Interest: Market Value

žSometimes a replacement performance is not obtained and cannot therefore serve as a measure for direct

losses under the contract. In such circumstances the courts may determine direct losses by comparing the

contract price to the market value of the performance promised under the contract.

žThe market value of a performance is not always easy to determine because there may not always be an

active “market” for that service.

1. Where there is not an active market or an identifiable “going rate,” some other reliable evidence of

market value must be provided. This may require the fact-finder to rely on hypotheticals.

← New Valley Corp. v. U.S.

Western Union formalized a launch service agreement with NASA which committed that agency to use its

best efforts to launch two communication satellites. However the space shuttle challenger exploded during

launch, the president of NASA suspended planning for the June 24th launch. NASSA restricted launch

services to only the military.

Western Union began to investigate alternative launch options.

How much more Hughes Communications would have paid for the Westar Division assets had they included

a NASA launch contract?

There is the question of absent the breach the parties would have been notified of the launch date. Without

the certainty of a known launch at the time of the sale, market data regarding launch costs presumably would

not be a major factor in determining the final selling price.

Cost of comparable launch services as ranging from $20.9 million to $31.6 million that market data however

cannot be taken as the exclusive determinant of plaintiff’s loss. Financially stressed organization would

suggest that the price Western Union would have to pay to obtain a substitute launch contract would not

correspond to the price it could expect to receive from the sale of a launch contract.

← Measurement of Expectation Interest: Lost Profits

žThere may be situations in which neither the substitute performance nor the market value measure of

damages can compensate the non-breaching party. In such cases, the court may award the non-breaching

party’s lost profits under the agreement.

← Example #1 :

žAnna contracts to prepare Ed’s tax returns for $1,000.

žThis amount represents pure profit for Anna because she will have no costs other than her time.

 Ed reneges and Anna was not able to find any business to replace Ed. She is left watching TV during the

time she had set aside to prepare Ed’s return.

 Court will likely award Anna $1,000 in lost profits—she lost the entire value of the contract due to Ed’s

breach.

← Example #2 :

žBut what if Anna had a full schedule and Ed’s breach left one 4 hour gap.

She immediately received a request to Joe’s taxes in that 4-hour gap for $1,000.

 Here, the court would probably not award Anna any damages because she did not end up suffering any loss

as a result of Ed’s breach. She made the exact same amount of money that tax season as she would have

made had Ed not breached.

 Here the lost profits measure is not available to Anna because her substitute transaction paid precisely the

same amount.

← Example #3 (Lost Volume) :

žBut what if Anna did not have a full schedule when she received Joe’s taxes after Ed’s breach? She could

have (and desired to) take on more business.

žHere Anna can argue that, had Ed not breached, she could have made $2,000 (Ed and Joe’s taxes) rather

than the $1000 she made (just Joe’s taxes).

žHere Anna will claim that Ed’s breach resulted in “lost volume” and that the correct measure of damages for

Ed’s breach should be lost profits of $1,000.

← In Re Worldcom, Inc.

Jordan and MCI entered into an agreement that Jordan would promote MCI products. However MCI went

bankrupt and did not complete the contract.

Whether Jordan was a lost volume seller? No. Courts do not focus solely on the seller’s capacity. The seller

claiming lost volume status must also demonstrate that it would have entered into subsequent transactions.

Jordan has not shown he could and would have entered into a subsequent agreement.

A lost volume seller is one who has the capacity to perform the contract hat was breached in addition to other

potential contracts due to unlimited resources or production capacity. The lost volume seller theory applies to

contracts for services as well as goods.

Non-breaching party must show that it “could and would have entered into a subsequent agreement.

The testimony of Jordan’s representatives establishes that although Jordan’s popularity enabled him to obtain

additional product endorsements Jordan desire to scale back his level of endorsements.

← Measurement of Expectation Interest: Breaching Party Performs in Part

žIn the last few examples, we have assumed that the breaching party did not perform at all. We now look at

what happens how expectation interest will be measured when the breaching party performs in part.

1. Recall (Restatement §347) expectation interest will be measured by the “loss in the value…of the

other party’s performance caused by its failure or deficiency.” Thus, if the other party has partially

performed, the expectation interest must be discounted by the value of that performance to the non-

breaching party.

žAs we have already seen, determining the “discount” or valuing the deficient performance is not always

straightforward.

Where the breach is material and total, then the measure will be the cost to complete the job per the terms of

the agreement.

Where the breach results in substantial performance, there are two measures:

1. Cost to complete the job (Lyon)

2. Diminution in market value resulting from the breach (Jacob & Youngs)

Problem 20.2 – Mary Time v. Bungle (page 760)

General the measure of damages is going to be the cost of competition or repair. Material breach in this

situation.

Bungle has to pay Mary $150,000. The difference between the contracts and the actual agreement.

Substantial performance. She would have $900,000 to all the parties. Bungle should pay Mary $450,000.

Expectation Damages Three Measures of Direct Damages

žContinued our introduction to expectation damages by Looking at three measures of direct damages (i.e.,

damages that compensate the injured party for the loss of the value that would have come directly from the

contract itself) where the breaching party has not performed at all:

1. By Reference to Substitute Transaction Price

2. By Reference to Market Value

3. By Reference to Lost Profits

Substitute Transaction and Market Value

žSubstitute Transaction: Where the non-breaching party obtains a replacement performance, if the

replacement price is less advantageous than the contract price, the direct loss may be measured as the

difference between the contract price and the replacement performance.

žMarket Value: Sometimes no replacement performance is obtained and the courts will determine direct

losses as the difference between the contract price and the market value of the performance under the

contract. Where there is not an active market for the performance, this may be a difficult analysis, requiring

the fact-finder to rely on hypotheticals.

Lost Profit

žLost Profits: In situations where neither the substitute transaction nor the market value methods are the

proper measure of the non-breaching party’s lost value, the lost profit measure may be employed. Here the

measure is the profit the non-breaching party would have earned under the contract at issue.

1. Lost Volume : Lost profits measure is typically only available where non-breaching party has lost

volume.

Lost Volume seller is one who can demonstrate she could and would have entered into

subsequent agreements in addition to the instant contract. As a consequence, the breach

results in lost volume, regardless of whether subsequent similar sales or service agreements

were entered into.

Breaching Party Performs in Part

žWe also looked at how expectation damages will be measured where the breaching party performs in part.

1. Expectation interest only covers loss in value resulting from the failure or deficiency in performance.

So, if the breaching party has performed in part, the expectation interest will be discounted by the

value (if any) of the part performance.

Where the part performance is a material and total breach, then the expectation interest will

be the cost to complete or repair performance to bring it in conformity with the contract terms.

Where there is substantial performance, the measure of expectation damages will be either:

Cost to complete or repair

Diminution in market value resulting from the breach (if court finds cost to complete

or repair would result in unfair forfeiture or economic waste).

Expectation Damages Under UCC

žAs with the common law, the central theme of UCC remedies is that the non-breaching party receive

compensation for lost expectations under the agreement…

← UCC § 1-305(a) – Remedies to Be Liberally Administered

“The remedies provided by [the Uniform Commercial Code] must be liberally administered to the end

that the aggrieved party may be put in as good a position as if the other party had fully performed but

neither consequential or special damages nor penal damages may be had except as specifically

provided in [the Uniform Commercial Code] or by other rule of law….”

1. Comment 1 : “reject[s] any doctrine that damages must be calculable with mathematical

accuracy. Compensatory damages are often at best approximate: they have to be proved with

whatever definiteness and accuracy the facts permit, but no more.

Emphasis is on direct damages—consequential and penal damages only permitted where

specifically provided for

Buyer’s Remedies Under UCC

žWe begin by looking at the buyer’s remedial options when the seller breaches by, e.g.,

1. Failing to deliver goods

2. Delivering non-conforming goods (which buyer rejects)

3. Delivering defective goods (which buyer rejects)

žIn each of these cases, the buyer has lost the entire value of the contract. The following options may be

available to make the buyer whole (depending on the circumstances):

1. Demand Specific Performance

Exceptional remedy, available only where the good is unique or under other “proper

circumstances”

2. Money Damages

Measured by replacement transaction (“cover”)

Measured by market value

Buyer’s Remedies Measured By Substitute Transaction (Cover)

← žUCC §2-712 – “Cover”; Buyer’s Procurement of Substitute Goods:

“(1) After a breach…the buyer may “cover” by making in good faith and without unreasonable delay

any reasonable purchase of or contract to purchase goods in substitution for those due from the

seller.

(2) The buyer may recover from the seller as damages the difference between the cost of cover and

the contract price together with any incidental or consequential damages…but less expenses saved

in consequence of the seller’s breach.

(3) Failure of the buyer to effect cover within this section does not bar him from any other remedy.”

← žComment 2

“…The test of proper cover is whether at the time and place the buyer acted in good faith and in a

reasonable manner, and it is immaterial that hindsight may later prove that the method of cover used

was not the cheapest or most effective….”

“’without unreasonable delay’ is not intended to limit the time necessary for him to look around and

decide as to how he may best effect cover.”

← žComment 3

“…[C]over is not a mandatory remedy for the buyer. The buyer is always free to choose between

cover and damages for non-delivery under the next section [UCC §2-713].”

Buyer’s Remedies Measured by Market Value

← žUCC §2-713 – Buyer’s Damages for Nondelivery or Repudiation

(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.

← žComment 1:

“[U]ses as a yardstick the market in which the buyer would have obtained cover had he sought that

relief”—place of tender

“crucial time is the time at which the buyer learns of the breach”

← žComment 2:

Must be compared with market “price for goods of the same kind and in the same branch of trade.”

← žComment 5:

“The present section provides a remedy which is completely alternative to cover under the preceding

section and applies only when and to the extent that the buyer has not covered.”

1. So cannot make a beneficial cover and then also claim difference between cover and market price.

Chronister Oil Co. v. Unocal Refining and Marketing

Chronister was an oil trader. It contracted to provide 25,000 barrels of gasoline to a fro shipment to Unocal.

The contract price was 60.4 cents a gallon. The owners of the pipeline refused to take the gasoline because

it contained too much water.

Unocal had promised to pay Chronister 60.4 cents a gallon but the price of gasoline had fallen.

Had Unocal gone out in the market and covered by buying 25,000 barrels it would have paid someone where

in the neighborhood of 55 cents a gallon and thus would have saved 5 cents a gallon as a result of

Chronister’s breach.

What is the opportunity cost, the opportunity one gives up by engaging in some activity is the cost of that

activity?

Unocal gave up the opportunity either to sell the gasoline on the market which we know would have yielded it

substantially less than the average cost of its inventory because the market price was much lower than the

cost or to have a larger an unnecessarily and it would soon prove unusable larger inventory.

UCC 2-712 defines cover as purchasing or making a contract to purchase a substitute good. Unocal did not

purchase any gasoline to take the place of the lost barrels. It decided not to purchase a substitute good but

instead to use a good that it already owned.

The next section allows the buyer to obtain damages measured by the difference between market price and

contract price. If a reasonable response for the buyer to the breach would be to make the product itself then

the difference between the market price of that product and the contract price would be an appropriate

measure of the harm from the breach.

Sellers usually break their contracts in a rising market where they can get more for the product by selling to

someone other than the buyer with whom they signed the contract. Here a seller in a declining market broke

a contract that he desperately wanted to perform, conferring a windfall gain on the buyer.

Question page 767

1. Unocal would able been able to sell their inventor for $2.40. By not performing Unocal is losing a hug

benefit therefore there will be damages awarded. The market price remedy is $2.40 per a gallon.

Buyer’s Remedies Upon Acceptance of Deficient Performance

žSo far we have focused on circumstances where either the seller does not deliver the goods at all, or the

buyer has rightfully rejected the goods. But what about where the buyer accepts non-conforming goods?

1. Buyer does not waive rights to remedy for non-conformity by accepting non-conforming goods.

2. So long as the buyer gives notice to the seller, the buyer may claim damages to compensate for

seller’s deficient performance.

← žUCC 2-714 – Buyer’s Damages for Breach in Regard to Accepted Goods

(1)Where the buyer has accepted goods and given notification (subsection (3) of Section 2-607) he

may recover as damages for any non-conformity of tender the loss resulting in the ordinary course of

events from the seller’s breach as determined in any manner which is reasonable.

(2) The measure of damages for breach of warranty is the difference at the time and place of

acceptance between the value of the goods accepted and the value they would have had if they had

been as warranted, unless special circumstances show proximate damages of a different amount.

(3) In a proper case any incidental and consequential damages under the next section may also be

recovered.

Seller’s Remedies Under the UCC

žThe remedies available to the seller when the buyer is in breach parallel those available to the buyer.

1. Seller’s measure of direct damages will vary depending on circumstances. For example:

Buyer accepts goods but refuses to pay

Buyer repudiates the contract before the seller performs—or wrongfully rejects goods when

tendered.

Seller’s Action for Price

žWhere the seller has delivered all the goods and the buyer has accepted, but refuses to pay, then the

measure of the seller’s damages will be the full price of the contract. (In essence, a seller’s action for price is

just a special kind of action for specific performance—seller just wants the buyer to complete performance.)

Seller’s Remedies Where Buyer Repudiates or Wrongfully Rejects

žIf the buyer repudiates the contract prior to tender, or wrongfully rejects the goods after tender, then

1. Seller is not obligated to provide the goods to the buyer

2. Seller may recover contract price less the value of the goods. One of the following measures is

usually employed to arrive at this number:

Difference between contract price and subsequent sale price

Difference between contract price and market price

Lost profit the seller would have made on the contract

Seller’s Remedy Measured By Resale or Contract for Resale

← žUCC 2-706 – Seller’s Resale Including Contract for Resale

(1) Under the conditions stated in Section 2-703 on seller’s remedies, the seller may resell the goods

concerned or the undelivered balance thereof. Where the resale is made in good faith and in a

commercially reasonable manner the seller may recover the difference between the resale price and

the contract price together with any incidental damages allowed under the provisions of this Article

(Section-2-710), but less expenses saved in consequence of the buyer’s breach….

← Sellers Remedy Measured by Resale or Contract for Resale

Resale must be made in good faith

žMust give appropriate notice of the sale

žResale must be made in a “commercially reasonable manner.”

1. Generally, whether a professional (and competent) dealer in goods of the sort involved would sell

them in this manner.

Seller’s Remedy Measured by Market Value or Lost Profit

← žUCC 2-708 – Seller’s Damages for Nonacceptance 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.

žComment 1: “[C]urrent market price at the time and place for tender [is] the standard by which

damages for non-acceptance are to be determined.”

žComment 2: Recovery of lost profit and reasonable overhead is only available “where the standard

measure of damages [i.e., market value] is inadequate.” And only where “resale is impracticable.”

1. Note : As with common law, lost profit measure is typically only available where seller is deemed a

“lost volume” seller.

2. To determine lost profit, must deduct the costs directly associated with the production of the

contracted-for good (i.e., direct costs) from the contract price.

Overhead (e.g., management salaries, rent, heat, lighting, etc.) need not be deducted

because they are not saved as a result of the breach.

Problem 20.3 – Willie v. Bessie (page 722)

(a) Lost profits are not available because he only had one guitar. Willie gives her notice so there is no reason

to think he didn’t act in good faith.

1. Is selling on e-bay commercially reasonable manner? In this day and age it could be argued that it is

commercially reasonable to sell the guitar in this manner.

2. To find something commercially reasonable look to the evidence. Look at the number of bids or do

people buy these items on e-bay.

3. The fact that the guitar brought less money might be because of the item description or because he

got a really good with Bessie.

4. If you do not sell the time commercially reasonable you can always get market price.

(b) In choosing to keep the guitar the seller is in as good position as before. Nominal damages would be

appropriate. The sell does not need any money from the court to get in the same position because the guitar

is worth more.

← Part 2

There would be $4,000. That is if the court thinks that this appraiser is a fair way to find the value

← Problem 20.4 – Merry Music v. Deff (page 722)

If Merry Music has an unlimited supply of violins and a loss volume seller the measure of the remedy would

be a lost profit measure.

1. Example Merry buys the violins for $150 a peace, a $100 would be the lost profit cost. You would

have to take out any other cost that would be directly attributed to this sell. Example: Box

UCC Expectation Damages

žLooked at expectation damages under the UCC.

1. To be liberally administered—rejects the doctrine that damages must be calculated with mathematical

precision.

2. Emphasizes direct damages—consequential and incidental damages are only permitted where

specifically provided for. (See §1-305)

← žBuyers Remedies

Looked at buyer’s remedial options when the seller breaches and buyer loses entire value of the contract:

1. May seek specific performance (only in special circumstances—e.g., where good is unique) or money

damages (most common remedy).

Money damages will be measured either by replacement transaction (cover)

Market value

Buyer’s Remedies Where Seller Repudiates Fails to Deliver Goods or Buyer Rightfully Rejects:

Buyer may “cover” by making in good faith and without unreasonable delay any reasonable purchase of a

substitute. (See UCC §2-712)

1. May recover any difference between cost of cover and contract price (plus incidental and

consequential, minus savings).

2. But cover is not a duty—buyer may elect to do nothing and seek another remedy.

If buyer does not cover under §2-712, then may receive the difference between market price and contract

price under §2-713.

1. Market price is measured at the time buyer learned of breach and in the place of tender.

2. Incidental and consequential damages available. Award will be discounted by any savings.

← žBuyer’s Remedies Upon Acceptance of Non-Conforming Goods.

Buyer does not waive rights to remedy by accepting non-conforming goods. So long as the buyer gives

notice to seller, she may claim reasonable damages to compensate for seller’s deficient performance.

1. Incidental and consequential damages are available.

← žSeller’s Remedies

If the buyer accepts the goods, but refuses to pay, seller may claim the full price of the contract.

If the buyer repudiates the contract prior to tender, or wrongfully rejects the goods after tender, then

1. Seller is not obligated to provide the goods to the buyer

2. Seller may recover contract price less the value of the goods. One of the following measures is

usually employed to arrive at this number:

Difference between contract price and subsequent sale price (UCC §2-706)

Difference between contract price and market price at time and place of tender (UCC §2-

708(1))

Lost profit the seller would have made on the contract (UCC §2-708(2))

Only available where resale is impracticable and market value is inadequate

Introduction to Limitations on Expectation Damages

žAs we have seen, the purpose of the expectation measure of damages is to put the non-breaching party in

the position she would have been in had the contract been fully performed.

žThere are, however, important limitations the courts will place on the recovery of expectation damages.

These limitations are reflected in the following three principles:

1. The Reasonable Certainty Principle

2. The Foreseeability Principle

3. The Mitigation Principle

žThese limits on expectation damages are designed to prevent the award of expectation damages from

imposing excessive liability on the breaching party.

Reasonable Certainty of Damages

žIt is the non-breaching party’s (or plaintiff’s) burden to prove the fact and amount of damages that were

suffered.

žCourts differ in the level of certainty they will require with respect to the non-breaching party’s damage claim.

Generally, the courts will require proof of damages with reasonable (as opposed to absolute) certainty.

1. All courts agree, however, that if the damage claim is entirely speculative and uncertain, there will be

no award.

Depending on the facts, establishing damages with reasonable certainty can be difficult with respect to all

forms of expectation damages (direct, incidental, and consequential). However, it can often be particularly

challenging to satisfy the standard when alleging consequential damages for lost profits.

Rancho Pescado, Inc. v. Northwestern Mutual Life Insurance Co.

Jones contemplated using the existing water in the canals in which to raise the catfish, using an intricate

system of screens to separate the fish and control algae problems.

The Gila Bend Canal was owned by Northwestern Mutual Life Insurance Company and used to deliver

underground water to a large ranch operated by a wholly owned subsidiary of Northwestern, Painted Rock

Development Company.

That proposal as well as subsequent ones, as rejected but in 1973 a license agreement granting Rancho

Pescado the exclusive right to raise fish in a five mile portion of the canal for a period of five years was

entered into between the parties.

Holidays the canal did not run. As such Northwestern notified Rancho by letter that it was terminating the

license agreement for cause because the demand for continuous follow of water interfered with the ranching

operations in violation of paragraph tow of the license agreement.

Whether the evidence introduced established a reasonably certain factual basis for computation of lost profit?

No.

Old Majority Rule: Jury verdict of damages for lost profits of a new business were prohibited.

Such reasoning is supported by the generally accepted rule of contract law that damages are not recoverable

unless they are reasonably certain.

New Majority Rule: Allow recovery for such lost profits if they can be proven with reasonable certainty.

Rancho also had the burden of proving with reasonable certainty that it could market the fish it raised.

United States Department of Agriculture estimates that 95% is the failure rate and the 5% who succeed are

experienced aquaculture farmers.

Also the record shows that the pond method used is the most successful not the raceway system.

Evidence on this point was based upon oral conversations and a letter from the president of Frosty Fish which

indicated it was willing to purchase the entire production of catfish.

Foreseeability of Damages

žIn order for expectation damages to be recoverable, such damages must be reasonably foreseeable at the

time of contracting.

← Hadley v. Baxendale

Mill was stopped by a breakage of the crank shaft by which the mill was working. The plaintiffs servant told

the clerk that the mill was stopped and that the shaft must be sent immediately and in answer to the inquiry

when the shaft would be taken the answer was that if it was sent up by twelve o’clock any day it would be

delivered at Greenwich on the following day.

The delivery of the shaft was delayed by some negates and the consequence was that the plaintiffs did not

receive the new shaft for several days after they would otherwise have done and the working of the miss was

thereby delayed.

But how do these circumstances shew reasonably that the profits of the mill must be stopped by an

unreasonable delay in the delivery of the broken shaft by the carrier to the third party?

The loss of profits here cannot reasonably be considered such as consequence of the breach of contract as

could have been fairly and reasonably contemplated by both the parties when they made this contract.

When two other parties have made a contract which one of them has broken the damages which the other

party ought to receive in respect of such breach of contract should be such as may fairly and reasonably be

considered either arising naturally according to the usual course of things from such breach of contract itself

or such as may reasonably be supposed to have been the contemplation of both parties at the time they

made the contract as the probable result of the breach of it.

If these special circumstances were wholly unknown to the party breaking the contract, he at the most could

not be supposed to have had in his contemplation the amount of injury with outside arise generally and in the

great multitude of cases not affected by any special circumstances for such a breach of contract.

But it is obvious that in the great multitude of cases of millers sending off broken shafts to third persons by a

carrier under ordinary circumstances such consequences would not in all probability have occurred and these

special circumstances were here never communicated by the plaintiffs to the defendants.

← Mitigation Principle

žIn general, contract imposes requires the nonbreaching party to do what she can to reduce the costs

resulting from a breach after it has occurred. This is often referred to as the “duty to mitigate damages.”

žIt is a bit misleading to refer to this as a duty because a failure to mitigate will not, of course, give rise to

claim on the part of the breaching party. It may, however, reduce the nonbreaching party’s damage award by

refusing to compensate for losses that could have been avoided with the exercise of reasonable efforts

(extraordinary efforts not required).

Rationale : In the spirit of efficient breach, the mitigation principle is designed to promote efficiency by

minimizing wasteful behavior on the part of the non-breaching party.

1. Example : County contracts with construction company to build a bridge for a proposed highway. The

highway project is cancelled and the contract repudiated, but the construction company obstinately

continues to perform and build the bridge, racking up damages against the county. Court finds the

proper damages were limited to the costs incurred up until time of the County’s breach plus lost

profits. The construction company was forced to eat all labor and material costs after the breach.

See Rockingham County v. Luten Bridge Co.

← In Re Worldcom, Inc.

MCI became bankrupt and breach an endorsement contract it had with Jordan.

Doctrine of avoidable consequences, which has also been referred to as the duty to mitigate damages bars

recovery of losses suffered by a non-breaching party that could have been avoided by reasonable effort and

without risk of substantial loss or injury.

The philosophical heart of the lost volume theory is that the seller would have generated a second sale

irrespective of the buyer’s breach and that it follows that the lost volume seller cannot possibly mitigate

damages.

Several of the justifications for the substantially similar or equivalent standard of employment law, aside from

the general remedial policy of making the non-breaching party whole for losses caused by the breaching party

show why there is less concern here regarding a substantially equivalent opportunity as Jordan was not an

employee of MCI.

Since reasonable efforts in the form of affirmative steps are required to mitigate damages.

Polk explained that Jordan did not which to expand his “pitchman efforts with new relationship” because of his

primary goal of becoming the owner of an NBA team.

MCI convincingly responds that adding an agreement to replace a lost one is merely maintaining the status

quo not a dilution of Jordan’s impact by addition.

Under the risk of reputation theory Jordan cites, an injured party is not allowed to recover from a wrongdoer

those damages that the injured party “could have avoided without undue risk, burden or humiliation.”

Case show plaintiff faced with choice of (1) selling a substandard product to the public to mitigate damages

caused by the breach of another and (2) doing nothing can choose to do nothing but Jordan was not

confronted with those circumstances. While Jordan’s reputation is considerable and obviously the result of

careful development there are not factual assertions that support he proposition that Jordan’s choosing

another endorsement opportunity is akin to be forced to sell damaged goods.

Any harm to Jordan’s reputation arising from MCI’s bankruptcy is not comparable to the reputation damage a

construction contractor faces from building a defective roof.

Jordan cites cased that hold if a non-breaching plaintiff chooses a reasonable course of action despite the

existence of another course of action that in hindsight would have been better at lessening harm, the plaintiff’s

damages are not reduced.

MCI’s motion for summary judgment is granted in party and denied in part. To the extent MCI sought to

disallow the Claim in full, MCI’s motion is denied. To the extent MCI claimed that Jordan failed to mitigate

damages, MIC’s motion is granted in part. Further evidentiary hearing is necessary to determine that Jordan

could have received had he made reasonable efforts to mitigate.

← Mitigation Under UCC

UCC does not set out an express mitigation rule, but its commitment to the mitigation principle can be seen as

reflected in (1) its refusal to compensate seller for consequential damages or for unreasonable actions or

inactions, and (2) its limits on buyer’s ability to recover where there is no attempt to cover. Like seller, buyer

is also limited to only reasonable incidental charges.

← UCC § 2-710 Seller’s Incidental Damages

“Incidental damages to an aggrieved seller include any commercially reasonable charges, expenses,

or commissions incurred in stopping delivery, in the transportation, care, and custody of goods after

the buyer’s breach, in connection with return or resale of the goods or otherwise resulting from the

breach.”

1. Note : The UCC does not allow the seller to claim consequential damages upon buyer’s breach.

2. Comment 2 to the revised UCC §2-710 offers some insight into why the pre-revision Article 2

does not allow the seller to recover consequential damages: 

3. “…Sellers rarely suffer compensable consequential damages. A buyer’s usual default is

failure to pay. In normal circumstances, the disappointed seller will be able to sell to another

buyer, borrow to replace the breaching buyer’s promised payment, or otherwise adjust the

seller’s affairs to avoid consequential loss.”

← UCC § 2-715 Buyer’s Incidental and consequential Damages

“(1) Incidental damages resulting from the seller’s breach include expenses reasonably incurred in

inspection, receipt, transportation and care and custody of goods rightfully rejected, any

commercially reasonable charges, expenses or commissions in connection with effecting cover and

any other reasonable expense incident to the delay or other breach.

(2) Consequential damages resulting from the seller’s breach include

1. (a) any loss resulting from general or particular requirements and needs of which the seller at

the time of contracting had reason to know and which could not reasonably be prevented by

cover or otherwise; and

2. (b) injury to person or property proximately resulting from any breach of warranty.”

3. Comment 1 : “…The incidental damages listed are not intended to be exhaustive but are

merely illustrative of the typical kinds of incidental damage.”

4. Comment 2 : “…Although the older rule at common law which made the seller liable for all

consequential damages of which he had ‘reason to know’ in advance is followed, the liberality

of that rule is modified by refusing to permit recovery unless the buyer could not reasonably

have prevented the loss by cover or otherwise.”

5.  Comment 4: “The burden of proving the extent of loss incurred by way of consequential

damage is on the buyer, but the section on liberal administration of remedies rejects any

doctrine of certainty which requires almost mathematical precision in the proof of loss. Loss

may be determined in any manner which is reasonable under the circumstances.”

Introduced three principles that may impose limitations on the non-breaching party’s recovery of expectation

damages:

Reasonable Certainty Principle : Damages not available where speculative, or where they cannot be

established with reasonable certainty

1. Can be particularly difficult to prove consequential damages for lost profits. (Rancho Pescado)

← Foreseeability Principle

žThe Foreseeability Principle: Where there are special circumstances such that breach will result in damages

that one would not expect to flow naturally from a contract of that kind, then there will be no award for the

damages resulting from the special circumstances unless there is notice at the time of contracting (Hadley v.

Baxendale)

← Mitigation Principle

The Mitigation Principle : Non-breaching party must make reasonable efforts (in the form of affirmative steps)

to mitigate damages after learning of the breach or preventable losses will not be recoverable (In Re

Worldcom)

← Mitigation Under the UCC

UCC does not set out an express mitigation rule, but its commitment to the mitigation principle can be seen as

reflected in (1) its refusal to compensate seller for consequential damages or for unreasonable actions or

inactions, and (2) its limits on buyer’s ability to recover where there is no attempt to cover. Like seller, buyer

is also limited to only reasonable incidental charges.

← UCC § 2-710 Seller’s Incidental Damages

“Incidental damages to an aggrieved seller include any commercially reasonable charges, expenses,

or commissions incurred in stopping delivery, in the transportation, care, and custody of goods after

the buyer’s breach, in connection with return or resale of the goods or otherwise resulting from the

breach.”

1. Note : The UCC does not allow the seller to claim consequential damages upon buyer’s breach.

Comment 2 to the revised UCC §2-710 offers some insight into why the pre-revision Article 2 does not

allow the seller to recover consequential damages: 

“…Sellers rarely suffer compensable consequential damages. A buyer’s usual default is failure to

pay. In normal circumstances, the disappointed seller will be able to sell to another buyer, borrow to

replace the breaching buyer’s promised payment, or otherwise adjust the seller’s affairs to avoid

consequential loss.”

← UCC § 2-715 Buyer’s Incidental and Consequential Damages

“(1) Incidental damages resulting from the seller’s breach include expenses reasonably incurred in

inspection, receipt, transportation and care and custody of goods rightfully rejected, any

commercially reasonable charges, expenses or commissions in connection with effecting cover and

any other reasonable expense incident to the delay or other breach.

(2) Consequential damages resulting from the seller’s breach include

1.  (a) any loss resulting from general or particular requirements and needs of which the seller at

the time of contracting had reason to know and which could not reasonably be prevented by

cover or otherwise; and

2. (b) injury to person or property proximately resulting from any breach of warranty.”

Comment 2 : “…Although the older rule at common law which made the seller liable for all

consequential damages of which he had ‘reason to know’ in advance is followed, the liberality of that

rule is modified by refusing to permit recovery unless the buyer could not reasonably have prevented

the loss by cover or otherwise.”

 Comment 4: “The burden of proving the extent of loss incurred by way of consequential damage is

on the buyer, but the section on liberal administration of remedies rejects any doctrine of certainty

which requires almost mathematical precision in the proof of loss. Loss may be determined in any

manner which is reasonable under the circumstances.”

← Reliance Damages as an Alternative to Expectation Damages

When expectation damages are diminished (or perhaps even eliminated altogether) by the limiting principles

we’ve looked at, the non-breaching party may still have recourse to other damage measures—such as

reliance damages.

Recall that the expectation interest of the non-breaching party is to be put in as good a position as he would

have been in had the contract been performed. The reliance interest of the non-breaching party, by contrast,

is to be put in as good a position as he would have been in had the contract not been made.

← Reliance Damages in Other Contexts

We have already been introduced to the concept of reliance damages in a variety of contexts:

1. Damages awarded where theory of recovery is based on promissory estoppel

2. Reliance damages may also be available where there is consideration, but the contract is

unenforceable for some reason (E.g., statute of frauds)

← Reliance Damages in Standard Contract

But reliance damages may also be available in standard breach of contract action (standard bargained-for

exchange and no reason to find contract unenforceable), where—for whatever reason—expectation damages

are either unavailable or inappropriate.

1. In such cases, the non-breaching party may still seek reimbursement for costs incurred in reasonable

reliance on the contract.

Reliance damages are subject to the same limitations as expectation damages:

Reasonable certainty

Reasonably foreseeable

Reasonable efforts to mitigate

← Reliance Damages Where Expectation Damages Are Inappropriate

Hawkins v. McGee

Sullivan v. O’Connor

← Reliance Damages Where Expectation Damages Cannot be Established

žIn Sullivan, it appears the court was relying on public policy grounds for fixing the measure of damages in

breach of surgery contract cases at the plaintiff’s reliance interest.

1. But a court may also find that reliance interest will be the proper measure where expectation

damages cannot be fixed with reasonable certainty, but reliance damages can be determined.

← Hollywood Fantasy Corp. v. Gabor

Hollywood Fantasy Corporation was briefly in the business of providing “fantasy vacation” packages that

would allow participants to make a movie with a Hollywood personality and imagine themselves movie starts

for one week for a fee. Hollywood Fantasy arranged to have Gabor as one of two celebrates at the event.

Gabor backed out.

Reliance. Although Hollywood Fantasy did not present evidence to base an award of compensatory damages

on either lost profit or lost investment, it did present sufficient evidence as to certain out of pocket expenses to

justify their recovery.

General Rule: The victim of a breach of contract should be restored to the position he would have been in had

the contract been performed. However an injured party may if he so chooses ignore the element of profits and

recover as damages his expenditures in reliance.

Lost profit must be proved with reasonable certainty.

Two weeks before the San Antonio event only two people had bought tickets for the event. Hollywood

Fantasy had no commitments to or agreements for specific future events. Profits which are largely

speculative as from an activity dependent on uncertain or changing market condition or on chancy business

opportunities or on the success of a new and unproven enterprises

← Sullivan v. Oregon Landmark, Ltd.

←

← Reliance Damages in a Losing Contract

← Restatement §349 – Damages Based On Reliance Interest

“As an alternative to the measure of damages stated in §347 [the expectation measure], the injured

party has a right to damages based on his reliance interest, including expenditures made in

preparation for performance or in performance, less any loss that the party in breach can prove with

reasonable certainty the injured party would have suffered had the contract been performed.”

1. Note : Proof of losses will have to be proved by the party in breach with the same certainty as

where the non-breaching party is proving damages. It is a two-edged sword.

Wartzman v. Hightower Productions, Ltd.

←

←