Contracts Class Notes 10/31/03

 

“Condition of satisfaction”…

 

Recall the hypothetical from yesterday:

 

Suppose we have a deal between Ursula Ugly and Rick Rembrandt.  Rick Rembrandt promises to paint Ursula Ugly’s portrait (with sympathy) and Ursula promises to pay Rick $10,000 if she is satisfied with the portrait.  Say Rick paints, and Ursula is dissatisfied.  Or, suppose Rick paints, and Ursula is too upset to even look at the painting and won’t pay him.  Or, suppose that before Rick has begun to paint, Ursula finds that she can have Dave paint for $5,000.  Rick sues.  Can he recover?  Or, what if Rick repudiates?  If Dave would do the portrait for $15,000, can Ursula sue for the $5,000 difference?

 

What if Ursula is unreasonably dissatisfied with the painting, though in good faith?  By the terms of Ursula’s promise, her promise has not be triggered (“switched on”).  She has conditioned her duty to pay on being satisfied.

 

We divide the world of personal conditions of satisfaction in half.  One type of condition of satisfaction is where we apply a good faith test; this is a condition of satisfaction that concerns “taste, fancy, or judgment”.  The other type is what is called “operative fitness”.  Say the seller promised to supply a great big boiler and the buyer’s duty to pay is conditioned on the buyer’s satisfaction.  The interpretation is that if a reasonable person would be satisfied, you must pay because you can figure out objectively whether or not a boiler is built correctly (you can judge it against its blueprints, see how well it boils, etc.).

 

On the other hand, we determine whether a portrait is satisfactory based on the idiosyncratic tastes of the purchaser of that portrait.  Likewise, if someone buys a tract of land, we’ll judge whether the land is satisfactory based on a subjective standard rather than objective standard.

 

There may not be a bright line, but there is a continuum.  The case of Ursula is definitely at the “personal” end of the continuum.

 

What we’ve been talking about so far has nothing to do with consideration or mutuality of obligation.  All we’ve talked about so far is the conditional nature of her promise.

 

What if Ursula can’t ever bear to look at the portrait?  In that situation, she is in breach.

 

One way to interpret Ursula’s promise is as a set of two alternatives: either (1) she’ll pay for the painting, or (2) examine it and express her dissatisfaction.  If we find that either of these could be bargained-for consideration, then the agreement will be upheld.  It may be that Ursula’s promise, overall, is quite flimsy.  It may well be that Rick was foolish to agree to the deal.  However, as long as there’s a deal, we’ll enforce it.

 

Here’s the rub: if Ursula likes the painting, but lies about it because she wants to get out of what she sees as a bad deal, she’s liable for the price – in theory.  But if you’re Rick, how do you prove she’s lying about her satisfaction with the painting?  You might be able to get evidence from one of Ursula’s friends if she told someone that she actually liked the painting but was trying to cheat her way out of paying for it.

 

If Ursula breaches before Rick paints, she is in breach and her promise shall be enforced.  Not having the painting painted wasn’t among the promised alternatives.

 

Note that Ursula’s promise is not illusory because it is quite possible to break it.  However, it is a flimsy problem that may put Rick at some risk.

Let’s say Rick refuses to perform before he starts painting.  Say Ursula goes to Dave DiVinci, who paints her picture for $15,000.  Can Ursula sue Rick for $5,000?  Rick made a flat promise to paint, and he’s plainly in breach.  But the difficult issue is whether or not his promise is supported by consideration, and thus enforceable.  The answer as articulated by Omni is that her promise was not illusory, and therefore it constituted good consideration and Rick’s promise shall be enforced.  You’ll see this over and over again.

 

Sometimes the condition of satisfaction is based on an evaluation by an expert.  For example, maybe you will condition your payment for a building on a satisfactory report from a building inspector or architect.  That’s part of what’s going on in Omni.

 

 

Lima Locomotive & Mach. Co. v. National Steel Castings Co.

 

Lima’s promise is non-illusory because they promise to fulfill all their steel casting requirements by buying from National Steel Castings.  That’s a promise not only to buy from National Steel Castings, but to not buy from other companies.  Lima’s promise was breakable.  If the promise were, on the other hand, just to buy as much as Lima wants, that promise would be illusory since they might want nothing.  That’s called a requirements contract.

 

UCC § 2-306

 

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 or requirements may be tendered or demanded.

(2) A lawful agreement by either the seller or the buyer for exclusive dealing in the kind of goods concerned imposes unless otherwise agreed an obligation by the seller to use best efforts to supply the goods and by the buyer to use best efforts to promote their sale.

 

Let’s say a cheese factory agrees to buy all the milk they require for a year from a certain milk supplier.  Let’s say the amount of milk ordered by the cheese factory fluctuates all over the place and the uncertainty is a burden on the milk supplier.  What protection does § 2-306 give the milk supplier?  It doesn’t give the milk supplier protection if the requirements are fluctuating in good faith and aren’t too far from a stated estimate.  Thus, a seller will want to have a stated estimate of requirements in the contract.

 

Let’s say there wasn’t any stated estimate.  Then you’ll look at the cheese factory’s ordinary requirements before they made the contract and see if what they’re demanding now is out of line.  If their current demands are out of line, there is no obligation to meet them.

 

If there is no stated estimate and the buyer is getting into a new venture, the contract may be held void for vagueness.  But even if you can’t come up with an exact stated estimate, you can still come up with, for example, a “ceiling” and “floor”.

 

Sometimes indefiniteness is a good thing, but it can be a bad thing if one party is in total control of that indefiniteness to the detriment of the other party.

 

Feld v. Henry S. Levy & Sons, Inc.

 

A truly crummy case.

 

Here, the buyer promises to buy everything that the seller produces.  That’s not an illusory promise.  However, in a situation like this, one party controls the quantity, which could be difficult for the other party.

 

The seller performs for a while, but then shuts down.  What can the buyer do?  We find out from this case that sometimes an output seller can shut down without being in breach.  Also, sometimes a requirements buyer can shut down without being in breach.  But other times, one side shutting down may constitute a breach.

 

When a shutdown is in bad faith (is dishonest), there is a breach and the injured party can get a remedy.

 

The Court of Appeals of New York says that UCC § 2-306(2) applies.  This is an exclusive contract: the seller has promised not to sell bread crumbs to anyone else.  Unless you contract out of it, this type of agreement implies a promise on behalf of the seller to make their best efforts to make the stuff the buyer needs.

 

What principles should guide the trial court?  The defendant would be justified in good faith in shutting down their bread crumb production only if they would incur “more than trivial losses” by continuing.

 

There is some evidence that the output seller was in breach.  The output seller wanted to get more money for the crumbs.  Also, the seller had the chance to get out of the contract on six months notice.  The court suggests that they ought to work hard to keep their crumb production going until that six months is up.

 

The comments to § 2-306 say:

 

A shut-down by a requirements buyer for lack of orders might be permissible when a shut-down merely to curtail losses would not.

 

This is something for Feld, the buyer, to jump up and down about at trial.  But is this such good language?  You could just raise your prices to ridiculous levels in order to prevent any more orders.

 

The comments continue:

 

The essential test is whether the party is acting in good faith.

 

The bottom line is that the parties better be careful when they enter into an output, requirements, or exclusive contract.  If they aren’t careful, § 2-306 might help them out, but it might not.

 

Franchising

 

This is big business.  A franchisor, which is the stronger economic party, deals with a franchisee, which tends to be much weaker.  There is a lot of competition to get franchises.

 

Usually, the franchisor’s promise is as close to illusory as you can get.  They want to be able to dump the franchisee quickly for any or no reason.  How come?  The franchisor has a huge interest in having each of its franchisees behave.  For example, if a McDonald’s got rat-infested, it would give all McDonald’s restaurants a bad name.  McDonald’s wants to be able to revoke the franchise really fast.  We don’t police those agreements much in the courthouse.  That’s hard on the franchisee because the franchisee must put up a big investment at the beginning, in reliance on an almost wholly illusory promise.  Franchisees take a big risk.  Is that fair?  The common law and UCC have had very little effect on this.

 

However, statutes have had an effect on the franchisor-franchisee relationship.  These statutes police the franchisor in terms of what it tells the franchisee.  The franchisor has to disclose a lot of information.  The statutes also control ways in which the franchisor can close out the franchisee.  It is thought, however, that the franchisor needs a lot of power to maintain even quality throughout its franchises.  This policing, therefore, is often a lot more modest than you might think.

 

Dealers’ relations with their franchisors have been, for a long time, primarily a matter of arbitration.

 

This is an interesting area if you’re interested in it.

 

Next week, we’ll do Embry and other stuff.

 

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