what is a breach of contract?
Not every failure to perform amounts to a breach of contract. Take the case of a person who buys a theatre ticket, pays for it in advance but does not bother to collect the ticket or to turn up for the performance. The failure to collect the ticket or to turn up for the performance does not constitute a breach of contract for the simple reason that the purchaser of the ticket has not promised to attend the performance (unless perhaps the purchaser is a theatre critic or a celebrity who has promised to attend the play in order to generate some publicity). The contractual obligation is to pay for the ticket, not to attend the performance. Thus, in order to determine whether there has been a breach of contract it is necessary to examine the terms of the contract, both express and implied. The breach lies in the failure, without law- ful excuse, to perform a contractual obligation. That failure may take many different forms, including the following: (i) an express refusal to perform the contract or a particular term of the contract (for example, a buyer of goods informs the seller that he no longer wants the goods and will not pay for them); (ii) defective performance (for example, a seller sup- plies the buyer with goods that do not work and are not of satisfactory quality or not fit for the purpose for which they were sold); and (iii) incapacitating oneself from performing the contract (for example, the seller of goods sells the goods which he had agreed to sell to one buyer to another buyer so that he can no longer physically comply with his obligation to sell the goods to the first buyer).
It is, however, important to stress that not every failure to perform a contractual obliga- tion amounts to a breach of contract. In some instances the law provides the party who fails to perform his contractual obligation with an excuse for his non-performance. Take the case of the buyer who refuses to pay for the goods which have been delivered to him on the ground that the goods are defective. The buyer who lawfully rejects the goods and refuses to pay for them is not in breach of contract in so acting. He has a lawful excuse for his actions in that the prior breach of contract by the seller and his lawful rejection of the goods discharged him from his obligation to pay for them. The law also provides a party with a lawful excuse for non-performance where, prior to the time for performance, the contract between the parties is frustrated (on which see Chapter 21). The effect of frustration is automatically to determine the contract between the parties and to release them from their future obligations to perform under the terms of the contract.
The existence of a breach of contract does not generally depend upon a finding that the non-performing party intentionally broke the contract or was otherwise at fault. In other words, liability for breach of contract is strict. This is not to say that liability is absolute. As we have noted, the law does on occasion relieve a contracting party of liability for a failure of performance that would otherwise amount to a breach of contract. But these exceptions operate within very narrow confines. The principal exception is the doctrine of frustration. The conclusion that liability for breach of contract is generally strict is one that is worthy of note. At first sight it may appear rather unusual. What is the justification for imposing liabil- ity on a party who has not been at fault? Liability based on fault seems much easier to justify. Thus when we turn from the law of contract to the law of tort, we find that strict liability is viewed with some suspicion by the courts (legislative examples of the imposition of strict liability are rather more common; see for example Part I of the Consumer Protection Act 1987) and that liability based on fault is the norm. A similar picture can be found when we look to the law of contract in some civilian systems where liability for breach of contract is based upon fault. The justification for the imposition of strict liability is that a defendant who has voluntarily assumed an obligation to perform should be required to perform that obligation. Thus a carrier who promises to deliver goods to their intended recipient before midday on the day after taking receipt of the goods will be liable for a failure to deliver the goods by the stipulated time even in the case where the failure to deliver is caused by an event which is not attributable to the fault of the carrier. The carrier who wishes to qualify his liability should do so by the terms of his contract. Thus he could assume an obligation
to use ‘best endeavours’ or ‘reasonable endeavours’ to deliver the goods at the stated time, or he could insert an exclusion clause or a force majeure clause into the contract stating that he is not to be held liable for a failure to deliver the goods where the cause of the failure is an event which is outside his control. It would not, however, be true to say that the justification for the imposition of strict liability can be found in all cases in the voluntary assumption of such a liability. In some cases the law imposes upon one contracting party a strict obligation, irrespective of the wishes of that party. A clear example is the term implied into contracts for the sale of goods that the goods must be of satisfactory quality (see section 14 of the Sale of Goods Act 1979, discussed in more detail at p. 339, Chapter 10, Section 2). This obligation is imposed on a seller of goods who sells in the course of a business. The effect of this implied term is to impose liability on the seller irrespective of the wishes of the particular seller. The justification offered in support of the imposition of liability in such cases is the need to protect the buyer, in particular the consumer buyer who is assumed to be in a weaker posi- tion than the seller. In any event, the seller will, in all probability, have a claim for breach of contract against his supplier, until liability is finally chased back to the manufacturer of the defective product. However it should not be assumed that liability for breach of contract is always strict. It is not. In some cases it is necessary to establish that the defendant was at fault. An example is provided by section 13 of the Supply of Goods and Services Act 1982 which provides that: In a contract for the supply of a service where the supplier is acting in the course of a busi- ness, there is an implied term that the supplier will carry out the service with reasonable care and skill.
In this instance the obligation that is imposed on the supplier is one to take reasonable care so that it is only by demonstrating that the seller has failed to exercise reasonable care and skill that a breach can be established. English law recognizes the existence of a number of obligations to exercise reasonable care (for example, in relation to the obligations owed by an employer to an employee to provide a safe place and a safe system of work). But the fact that some obligations are confined to the exercise of reasonable care does not mean that the gen- eral rule is one of liability based on fault. It is not. The general rule is that liability is strict.
It should also be noted that English law has a unitary notion of breach of contract. That is to say liability does not generally depend upon the cause of the breach of contract. In this respect English law is much simpler than some continental systems (such as that in Germany) which traditionally have distinguished between different forms of liability and thus built up an elaborate classification system. In Germany liability was, until relatively recently, based on impossibility of performance, delay, and positive breach of contract. However on 1 January 2002 Germany introduced a very significant reform to its law of contract and the effect of that reform is to bring German law much closer to the common law model. International instruments, such as the Vienna Convention on Contracts for the International Sale of Goods (on which see p. 796, Section 3(g)), have tended to adopt a unitary notion of breach or non-performance and these instruments may prove to be very important in persuading other jurisdictions to adopt a unified liability system for breach of contract.
Finally, it is important to point out that, while every breach of contract gives rise to a rem- edy in damages (even if the claim is only for nominal damages; see further p. 813, Chapter 23, Section 1), not every breach generates a right to terminate further performance of the contract. The right to terminate further performance of the contract is only available in
certain circumstances and it is the purpose of the next section of this chapter to identify the circumstances that trigger the right to terminate. Termination can be an extremely impor- tant remedy (or right) in practice because it is exercised by the parties themselves. That is to say it is not necessary to go to court and seek an order of the court before terminating further performance of the contract. It is up to the parties to decide whether or not to terminate. However it is important to remember that the courts may be asked, after the event, to decide whether or not the party who purported to terminate the contract was in fact entitled to do so. This supervisory jurisdiction of the court assumes considerable practical significance, especially when it is borne in mind that a party who purports to terminate when it does not in fact have the right to terminate will be found to have wrongfully terminated the contract and may find itself exposed to a claim for substantial damages. It is for this reason that the lawyer must exercise great care when advising a party whether or not it should terminate further performance of the contract. Draftsmen often go to considerable lengths to draft a clause that gives a clear right to terminate, although these clauses can, on occasion, give rise to difficulties of interpretation: see, for example, Rice v. Great Yarmouth District Council [2003] TCLR 1 CA, discussed in more detail at p. 789, Section 3(c). Difficult issues can also arise in ascertaining the relationship between the right to terminate under a term of the contract and the right to terminate which arises under the general law (see Stocznia Gdynia SA v. Gearbulk Holdings Ltd [2009] EWCA Civ 75, [2009] BLR 196). It is therefore a matter of some importance to consider the circumstances in which a breach of contract gives to the innocent party the right to terminate further performance of the contract.
It is trite law that breach of a ‘condition’ of the contract gives to the innocent party a right to terminate further performance of the contract. The difficulty lies in discerning whether or not a particular term amounts to a condition. As Professor Treitel has stated (‘ “Conditions” and “Conditions Precedent” ’ (1990) 106 LQR 185), ‘one of the most notorious sources of difficulty in the law of contract is the variety of senses in which it uses the expression “con- dition”.’ In the first place the word ‘condition’ is used in different senses by the commercial community. A common example is provided by standard terms of trade which are used by businesses up and down the country. These terms are often headed ‘terms and conditions of
business’ but it is clear in this context that not all the terms contained in the document are ‘conditions’ in the sense that a breach automatically generates a right to terminate further performance of the contract. In other contexts the meaning of the word ‘condition’ is not so clear and it can give rise to difficulties of interpretation (see, for example, L Schuler AG
Wickman Machine Tool Sales Ltd [1974] AC 235, discussed at p. 761, later in this section). Secondly, the word ‘condition’ has been used by the law in different senses and indeed its meaning has changed over time. Conditions may be either contingent or promissory. A contingent condition refers to an event that neither party has promised to bring about and upon which hinges the obligation to perform. Suppose that A promises to pay B £100 on 30 January 2017 provided that they are both still alive at that date. Neither party promises to stay alive until that date but their continued survival is a condition precedent to the entitle- ment of B to the £100. Contingent conditions may be either conditions precedent or subse- quent. The example given is of a condition precedent. By changing the facts slightly we can create a condition subsequent. Suppose that A promises to pay B £100 per year until either of them dies. In this case death is an event that operates to bring an end to the obligation to make the payment. Again, neither party has promised not to die. Death is simply the event upon which the obligation to pay comes to an end. A promissory condition, on the other hand, is a reference to an event which one party has promised to bring about or not to bring about, as the case may be.
Our difficulties do not end here. As Professor Treitel points out ((1990) 106 LQR 185), ‘even the concept of promissory condition is used in two senses The first relates to the order of
performance, while the second relates to the conformity of the performance rendered with that promised’ (emphasis in the original). It relates to the order of performance where the obligation of one party to perform is dependent upon prior performance by the other party of a particular obligation. So, for example, a builder may enter into a contract with a house- holder to carry out some building work. Payment is to be made on completion of the work. Completion of the work is a condition precedent to the obligation of the householder to pay for the work. The condition is a promissory one because the builder has promised to carry out the work and it is a condition that relates to an event, namely the completion of perform- ance by the builder. But suppose that the builder completes the work defectively. In such a case the builder may have breached a promissory condition of the contract but here the con- dition relates not to the order of performance but to the quality of that performance.
The most important distinction for our purposes is between a promissory condition and a contingent condition. In this chapter we are only concerned with promissory conditions. More precisely, our focus is upon conditions which relate to conformity rather than to the order of performance. Nevertheless, it is not easy to maintain the latter distinction, espe- cially when reading nineteenth century case-law where the judges used the phrase ‘condition precedent’ to refer both to the order of performance and to the conformity of that perform- ance with the terms of the contract (see, for example, Bentsen v. Taylor Sons & Co [1893] 2 QB 274, 281). Where the condition relates to the order of performance and the condition has not been fulfilled, the party whose performance is dependent upon the fulfilment of the condi- tion is entitled to withhold performance until such time as the condition is fulfilled, but the failure does not necessarily entitle him to bring the contract between the parties to an end. Where, however, the condition relates to the conformity of performance, and the condition has been broken, the innocent party is entitled to bring the contract between the parties to an end. So important remedial consequences can turn on the distinction between a condition precedent which relates to the order of performance and a condition precedent which relates to conformity of performance. The dual usage of ‘condition precedent’ creates unnecessary
difficulties and, as Professor Treitel points out ((1990) 106 LQR 185, 186), our difficulties would be reduced if we reserved the phrase ‘condition precedent’ for use when discussing the order of performance or the event which gives rise to the obligation to perform and used the word condition to denote the term itself or the content of the obligation that has been assumed. In the remainder of this part we shall be concerned with conditions only in so far as they relate to the conformity of performance with the terms of the contract.
Not every term of a contract is a condition in this sense. A term may be classified as a condition in one of three ways, namely (i) by Parliament, (ii) by the courts, or (iii) by the contracting parties themselves. There are relatively few examples of classification of terms by Parliament. A rare example is provided by the Sale of Goods Act 1979 which classifies a number of terms implied into contracts of sale. The terms that the seller has a right to sell the goods, that the goods must correspond with description, that the goods must be of satisfac- tory quality, reasonably fit for their purpose and correspond with sample are all classified as conditions (Sale of Goods Act 1979, sections 12(5A), 13(2), 14(6), and 15(3), pp. 338–343, Chapter 10, Section 2). The consequence of this is that any breach of one of these obligations by a seller gives to a buyer a right to reject the goods. The right of the buyer to reject the goods has, however, been qualified by section 15A(1) of the Sale of Goods Act 1979 which provides that where the buyer would, apart from this subsection, have the right to reject goods by reason of a breach on the part of a seller of a term implied by sections 13–15 of the Sale of Goods Act 1979, but the breach is so slight that it would be unreasonable for him to reject them, then, if the buyer does not deal as a consumer, the breach is not to be treated as a breach of a condition but may be treated as a breach of a warranty. The aim of this provision is to stop buyers rejecting goods for what may be termed ‘technical’ reasons. An infamous example of this is provided by the case of Arcos Ltd v. E A Ronaasen and Son [1933] AC 470. The parties entered into a contract for the sale of timber staves cut to a thickness of 1/2 inch. The purchasers alleged the sellers had breached the contract as the staves were of the wrong thickness, being 9/16 of an inch thick. The House of Lords held that the purchasers were entitled to reject the timber. Lord Atkin stated (at p. 479) that:…
The easiest way to create a condition is for the parties themselves to agree that a par- ticular term is to be classified as a condition. There is no finite list of conditions in English law. It is open to the parties to classify as a condition a term which would not otherwise be so classified (that is to say the courts would not conclude that the term was a condition in the absence of express agreement to this effect by the parties). On one view, this ability to classify as a condition a clause which would not otherwise constitute a condition can gen- erate unreasonable results, in the sense that a trivial breach of contract may confer upon the innocent party a right to terminate further performance of the contract. It is therefore necessary for contracting parties to make clear that it was their intention to classify the term as a condition. This is not as easy as it sounds given that the word ‘condition’ is used in different senses in the law. An example of the problems that can arise is provided by the following case:
A warranty is a lesser, subsidiary term of the contract. Breach of a warranty gives rise to a claim for damages but it does not, it is suggested, give an innocent party the right to ter- minate further performance of the contract. The Sale of Goods Act 1979 classifies certain obligations of a seller of goods as warranties (see p. 341, Chapter 10, Section 2). Thus the term that the goods are free from any charge or encumbrance not disclosed or known to the buyer before the contract is made and that the buyer will enjoy quiet possession of the goods except in so far as it may be disturbed by the owner or other person entitled to the benefit of any charge or encumbrance so disclosed or known is classified as a warranty (section 12(5A)).
The view that breach of a warranty cannot give rise to a right to terminate further per- formance of the contract has been challenged by Professor Treitel who maintains (Some Landmarks of Twentieth Century Contract Law (Oxford University Press, 2002), p. 124) that:
there is the possibility that the breach of a term which is a warranty because it is . . . ‘collateral to the main purpose of the contract’ may, in exceptional circumstances, have unexpectedly serious effects; and there is some support in the judgment of Ormrod LJ in The Hansa Nord
for the view that, if a seller’s breach of warranty does have such effects, or if the breach is one which is deliberate in the sense that the seller could easily put it right but refuses to do so, then the buyer could reject. It is quite hard to think of a realistic sale of goods example since the ambit of the statutorily implied terms as to quality or fitness for a particular purpose is now so wide and since all these terms are classified by the Sale of Goods Act as condi- tions. Perhaps we might take the case of a contract for the hire of a car in which the owner ‘warranted’ to make the car available at 8 am on Derby Day and then the previous day told the hirer that it would not be available until 8 pm. In all probability, the court would conclude that the word ‘warranty’ was not here used in its technical sense but meant ‘condition’. But if for some reason the drafting precluded this line of reasoning, the court might well hold that in such a case it was not appropriate to require the hirer to pay the agreed hire and then to claim damages; and that the breach, though one of ‘warranty’, justified his immediate cancellation of the contract.
The problem which concerns Professor Treitel is the case where the breach has serious con- sequences for the innocent party but the term broken has been classified by the parties as a ‘warranty’. In many ways, this is the flip-side of Schuler v. Wickman (p. 761, Section (a)). If the court is not satisfied that the word ‘warranty’ was used in its technical sense then use of the word ‘warranty’ should not act as a barrier to a party terminating the contract where the con- sequences of the breach are serious. On the other hand, in the case where the parties do use the word ‘warranty’ in its technical sense, then it is submitted that there should be no right to terminate. Just as it is open to the parties to agree that any term is a condition (in its technical sense) so it should be open to the parties to agree that any term is a warranty (in its technical sense) and, in such a case, the breach of the warranty should not give rise to a right to termi- nate but only a right to recover damages. However, the courts are likely to be slow to conclude that the parties intended to use the word ‘warranty’ in this technical sense. This being the case, unless the term states clearly that any breach, regardless of the seriousness of the conse- quences, will never entitle the innocent party to terminate the contract, it is unlikely that the courts will conclude that the term is a warranty in its technical sense (Sports Connection Pte Ltd v. Deuter Sports GmbH [2009] SGCA 22, [2009] 3 SLR 883). If the term is not a warranty it is likely to be treated as an intermediate or innominate term and the entitlement to terminate will depend largely upon the consequences of the breach (RDC Concrete Pte Ltd v. Sato Kogyo(S) Pte Ltd [2007] 4 SLR 413). It is to intermediate terms that we now turn.
The origin of intermediate terms (as we know them today) is to be found in the decision of the Court of Appeal in Hong Kong Fir v. Kawasaki Kisen Kaisha [1962] 2 QB 26. The origin of this category may, perhaps, be doubtful but there is no doubt that the category of intermediate or innominate terms exists and that they are rather prevalent. The main contribution which they have made is that they give to the courts a degree of remedial flex- ibility in that they can decide whether or not the breach was repudiatory by having regard to the consequences of the breach rather than the nature of the term broken. The difficulty which the existence of intermediate terms poses for legal advisers is that they give rise to a degree of uncertainty in that it can be very difficult to predict whether or not the judge will conclude that the breach was sufficiently serious to entitle the innocent party to terminate the contract….
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A contract case usually comes before a judge because one or both parties claim that the contract was breached. A breach of contract is a failure, without legal excuse, to perform any promise that forms all or part of the contract. This includes failure to perform in a manner that meets the standards of the industry or the requirements of anyexpress warranty or implied warranty, including the implied warranty of merchantability.
When a party claims a breach of contract, the judge must answer to the following questions:
A breach of contract can be material or minor. The parties’ obligations and remedies depend on which type of breach occurred.
A breach is material if, as a result of the breaching party’s failure to perform some aspect of the contract, the other party receives something substantially different from what the contract specified. For example, if the contract specifies the sale of a box of tennis balls and the buyer receives a box of footballs, the breach is material. When a breach is material, the nonbreaching party is no longer required to perform under the contract and has the immediate right to all remedies for breach of the entire contract.
Factors that the courts consider in determining materiality include:
A breach is minor if, even though the breaching party failed to perform some aspect of the contract, the other party still receives the item or service specified in the contract. For example, unless the contract specifically provides that “time is of the essence” (i.e. deadlines are firm) or gives a specific delivery date of goods, a reasonable delay by one of the parties may be considered only a minor breach of the contract. When a breach is minor, the nonbreaching party is still required to perform under the contract, but may recover damages resulting from the breach. For example, when a seller’s delay in delivering goods is a minor breach of contract, the buyer must still pay for the goods but may recover any damages caused by the delay.
Breach of condition of a contract can constitute a breach of the contract as a whole. This may allow the non-breaching party to sue for damages as well as rescission of the contract.
The terms of a contract are classified as conditions, warranties, or innominate terms. Parties will usually designate which classification a contract term falls. This helps parties determine the possible remedies available if there is a claim for breach of contract.
Conditions are very important instruments in a contract. A condition can do many things:
Conditions can be express or implied. An express condition is an actually stipulated to condition called a “condition in deed.” These conditions are clearly defined and agreed to by the parties while entering into the contract.
An implied condition, or “condition in law,” is a condition that is automatically present without express statement. These conditions are not expressly provided, but as per law, are supposed to be present while entering into the contract. An express agreement can be made to waive one or more of these implied conditions.
Here is a list of some of the implied conditions:
If a term in the contract is a minor term because it is only incidental, this term is not a condition, but rather a warranty. Warranties are less significant than conditions and are usually written as an assurance or a promise. Breach of a warranty may allow a claim for damages but will not rescind the contract.
This way, the non-breaching party will still receive the whole of the benefit of the contract. A term that is a warranty in one contract might be a condition in another depending on how important that term is to the parties.
An innominate term is neither a condition nor a warranty. In order to determine the available remedies, the parties need to consider the significance of the term and breach of said term. If the nature and effect of the breach, at the time the breach occurred, deprives a party of the whole of the benefit of the contract, then the term will be considered a condition.
If a condition, the party can terminate the contract. However, if the nature and effect of the breach, at the time the breach occurred, does not deprive a party of the whole of the benefit of the contract, then the term will be considered a warranty and that party will only be able to sue for damages.
If the contract is silent as to whether a term is a condition or a warranty, a court will rule that the term is a condition if:
The term will be considered a warranty by a court if:
Breach of conditions usually allow a party to sue for damages as well as rescission/termination of the contract. However, the breach of a condition of release in the bail bond is actually a crime. An accused, released on bail, must adhere to the conditions set forth in the bond. Failing to appear as required by the bond and/or knowingly breaching any condition of release are each treated as a separate punishable offense. The court will issue a warrant and re-arrest the accused.
Breach of warranty is the violation of an express or implied contract of warranty, and thus it is a breach of contract. In other words, it occurs when the warrantor fails to provide the assurance warranted. A seller can expressly or implicitly assure the buyer about the quality or title of an item sold. If such assurance is proved to be untrue, the buyer has a claim for breach of warranty.
Generally, the breach takes one of two forms: (1) a misrepresentation of a fact or condition warranted to be true, or (2) a failure to do or refrain from some conduct warranted to be done.
Breach of warranty by misrepresentation may be brought in tort for damages or in contract if the representation was made as an inducement of a contract.
Breach of warranty to do or refrain from some action is usually brought as a breach of contract action for damages, rescission or for specific performance.
A warranty must be distinguished from a statement of opinion or a mere prediction of future events (UCC § 2-313(2))
For a famous case in contract law discussing breach of warranty, see Hawkins v. McGee.
Rescission-Cancellation of a contract. Rescission may be unilateral, as when a party rightfully cancels a contract because of another party's material breach. Rescission can also be mutual, as when the contracting parties agree to discharge all remaining obligations. Finally, courts can use rescission as a synonym for voiding a contract, as for reasons of public policy.
Chattel -A catch-all category of property mostly associated with movable goods. At common law, chattel included all property that was not real estate and not attached to real estate. Examples included everything from leases, to cows, to clothes. In modern usage, chattel often merely refers to tangible movable personal property.
Specific performance-A contractual remedy in which the court orders a party to actually perform its promise as closely as possible, because monetary damages are somehow inadequate to fix the harm. Most commonly ordered in cases involving real property and rare chattels.
Finally, we conclude that the court properly denied that part of defendant's motion for summary judgment dismissing the first cause of action, for breach of contract, which is the sole remaining cause of action. As a general rule, the existence of a statutory limited warranty precludes common-law causes of action, including causes of action for breach of contract (see Fumarelli, 92 NY2d at 305; Lantzy, 60 AD3d at 1255; Latiuk, 269 AD2d at 820). A breach of contract cause of action, however, is precluded only to the extent it is based on the breach of warranty (see Tiffany at Westbury Condominium v Marelli Dev. Corp., 40 AD3d 1073, 1075-1076 [2007]; Biancone v Bossi, 24 AD3d 582, 584 [2005]). Here, plaintiffs have stated violations of "specific provisions of [the contract] other than the warranty provisions," and thus the court properly denied that part of defendant's motion with respect to the breach of contract cause of action (Tiffany at Westbury Condominium, 40 AD3d at 1076; see Biancone, 24 AD3d at 584). We have considered the remaining contentions of the parties and conclude that they are without merit.
Tiffany at Westbury Condominium v Marelli Dev. Corp., 40 AD3d 1073, 1075-1076 [2007];
"The party seeking indemnification `must have delegated exclusive responsibility for the duties giving rise to the loss to the party from whom indemnification is sought,'and must not have committed actual wrongdoing itself - in Board of Managers of Olive Park Condominium v. Maspeth Properties, LLC, 2019
However, the Supreme Court properly granted that branch of the defendant's motion which was for summary judgment dismissing the fraud cause of action, as that cause of action was duplicative of the breach of contract cause of action - in Weatherguard Contrs. Corp. v. Bernard, 2017
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Sometimes things happen after a contract is formed that excuse further contract performance. By “excuse” we mean that nonperformance of the promise is not considered a breach giving rise to liability. Because performance of promises is an important policy, the post-contract excuses are somewhat limited. In this chapter, we will review seven post-contract happenings that excuse further contract performance.
This one is easy. On Monday, Markell contracts to wash Ponoroff’s car on Saturday for $10. Markell does not wash the car on Saturday. This is a “breach,” a failure to perform a promise when due.
Obviously, Ponoroff does not have to pay Markell, i.e., Ponoroff is excused from paying (i.e. performing) because of Markell’s prior nonperformance. And obviously, Ponoroff has a cause of action against Markell for breach of contract.
Too easy to be on your exam, but a base for us to build from.
Again, let’ start with an easy example. On Monday, Markell contracts to wash Epstein’s car for $10 on Saturday, with payment on Sunday. On Tuesday, Epstein calls Markell and tells him that he has changed his mind and will not pay Markell to wash the car on Saturday. Again, it should be obvious that Markell is excused from performing (i.e., washing the car) because of Epstein’s saying he is not going to perform. And, again, it should be obvious that Markell has a cause of action against Epstein for breach of contract.
Epstein’s unequivocally indicating that he is not going to perform is called repudiation. Because Epstein repudiated his contract performance obligation before it was time to perform, it is called anticipatory repudiation (or breach). So you now know three things about anticipatory repudiation: (1) an anticipatory repudiation, if material, excuses further contract performance by the other guy just like in the case of an actual failure perform at the agreed upon time of performance, (2) an anticipatory repudiation is a form of breach of contract, and (3) anticipatory repudiation requires an unequivocal indication of intention not to performance; i.e., “absolutely declaring that he will never act under it.”
This quoted language is taken from Hochster v. De La Tour, the first “anticipatory repudiation case” in most casebooks. That case involved an April employment contract, with work to begin in June and repudiation by the employer on May 11. The employee/plaintiff sued on May 22 for breach of contract.
Hochster held that the employer’s anticipatory repudiation gave the employee the option to sue immediately—i.e., that the employee did not have to wait until the June 1 contract performance date—for an actual breach—before bringing suit. This holding has been an important part of the law anticipatory repudiation.
It is also important to remember that in Hochster the employer’s anticipatory repudiation left the employee free to take another job. This is not only consistent with the concept that anticipatory repudiation excuses further contract performance but also with the concept of avoidable damages, something we discuss in Chapter 6 below.
In Hochster, there was no dispute about the facts—no dispute about the employer’s “absolutely declaring that he will never act under it.” In other cases (and a number of law school exam problems), there are questions about what the facts are and whether the words and conduct of a contract party unequivocally indicate nonperformance. And the uncertainty about whether there has been an unequivocal indication of nonperformance by one party can cause the other party to anticipatorily repudiate by stopping his performance because he honestly but incorrectly believes that the other party has anticipatorily repudiated.
Assume, for example, that an employee believes that an employer’s May communication absolutely declares that the employer will never perform their June contract and so the employee takes another job for the months of June and July. If the employer sued for breach of contract, and the court found that the employer’s March communication was not an absolute declaration of its nonperformance, then the employee’s taking another job was an anticipatory repudiation and a breach. In essence, if one party stops his performance because he honestly but incorrectly interprets the other party’s post-contact words and conduct as rising to the level an anticipatory repudiation, then it is the first party who has actually committed the anticipatory repudiation .
As the above example illustrates, sometimes the post-contract words and conduct are equivocal and so anticipatory repudiation is not available to excuse performance. Where such equivocal words or conduct by a buyer or a seller after a contract for a sale of goods give reasonable grounds for insecurity, then § 2–609 of the UCC provides a basis for excuse of further contract performance by the other party to the contract. More specifically, the other party can demand in writing adequate assurance of performance; (1) suspend her own performance until she receives adequate assurance, if commercially reasonable; and (ii) stop performance altogether if adequate assurance is not timely provided, without worrying that the stopping of performance might later be construed as a breach.
Assume for example that, in January, Ponoroff contracts with Epstein the boot maker for a pair of custom-made boots, with 25% of the purchase price to be paid by February 15, 25% of the purchase price paid on March 1, and the balance paid when the boots are delivered on March 15. On February 13, Ponoroff learns that Epstein was late on all of his January boot deliveries and that some of the boots Epstein delivered were poorly stitched. Under § 2–609, Ponoroff, with “reasonable grounds” for insecurity, could send Epstein a written demand for adequate assurance and “suspend” making payments until he received “adequate assurance.”
In reading section § 2–609, you should notice the additional requirement of a written demand of adequate assurance and three possible litigable issues: (1) were there “reasonable grounds for insecurity”, (2) was the assurance offered “adequate” and (3) was it “commercially reasonable” to suspend performance until receiving “adequate assurance.” Similar language can be found in § 251 of the Restatement (Second) of Contracts.
The question of when one guy’s improper performance excuses further contract performance from the other guy is a one of those questions that common law answers differently than UCC Article 2 Let’s consider the common law answer first.
While money damages can be recovered for any contract breach, only a material breach excuses further performance of a contract governed by common law. A material breach is, in essence, a major screw-up.
Whether a breach is “material” is a fact question and so it is unlikely that you will be asked to decide whether a breach is material unless it is obvious that there was a major screw-up. A breach can be material because of the quantity of performance (or lack thereof)—e.g., Ponoroff contracts to wash Markell’s car and stops work after washing only the lower third of the car (have we mentioned that Ponoroff is short?) or because of the quality of performance (or lack thereof)—e.g., Ponoroff contracts to wash Markell’s car and washes the entire car with a dirty chamois cloth so that the car is dirtier after Ponoroff finishes his performance than before he began.
In both of the above examples, the breach was obviously material. In the first case on material breach in most contracts casebooks, Jacob & Youngs v. Kent, the breach was obviously not material—at least to Judge Cardozo. The contract provided that all pipe in the house be wrought iron pipe manufactured by the Reading Pipe Co.; the builder instead used wrought iron pipe manufactured by the Cohoes Pipe Co. Judge Cardozo describes the breach as “both trivial and innocent.” More important, he used the term “substantial performance.”
It is important that you understand that if the performance is substantial, then the breach is not material and vice versa. There cannot be both substantial performance and material breach. And, so because there was substantial performance in Jacob & Youngs v. Kent and no material breach, the builder was successful in its suit to recover the balance of the purchase price—i.e., no material breach and so no excuse of the owner’s payment obligations, subject to reduction for the damages caused by the minor breach.
There is important dictum in Jacob & Youngs v. Kent—“This is not to say that parties are not free by apt and certain words to effectuate a purpose the performance of every term shall be a condition of recovery.” We will consider the quoted language when we consider conditions later in this chapter.
In a contract governed by Article 2 of the UCC, i.e., a sale of goods, the two parties are the buyer—who provides the money—and the seller—who provides the goods. And, the “improper performance” is almost always the seller’s—a screw-up by the seller in what goods are delivered or how the goods are delivered. (Obviously there are Article 2 contract situations in which the buyer does not provide the money, but those situations involve non-performance, not “improper performance.”)
Article 2 does not use the term “material breach.” And, courts do not use the common law material breach concept in determining whether the seller’s improper performance excuses the buyer from paying. Instead courts use the term “perfect tender,” another term not used in the Uniform Commercial Code, in determining whether the seller’s improper performance excuses the buyer from performing under § 2–601.
The statutory basis for the perfect tender rule is the following language in UCC § 2–601: “[I]f the goods or tender of delivery fail in any respect to conform to the contract, the buyer may * * * reject.” And a buyer of goods who rightfully rejects the goods does not have to pay for the goods, i.e., she is excused from performing.
For example, if Markell, the seller, and Ponoroff contract for the sale of 1,000 green widgets for $100,000, and Markell delivers 999 green widgets and one yellow widget, Ponoroff can reject all of the widgets and does not have to pay Markell the $100,000. Because of the Uniform Commercial Code’s perfect tender rule (“fail in any respect”), Markell’s improper performance, albeit trivial, excuses Ponoroff from any performance obligation whatsoever.
This perfect tender rule is subject to a number of exceptions, such as § 2–508, which creates a right to cure and § 2–612, which suspends strict application of the perfect tender rule in the case of installment sales. Most contracts teachers leave coverage of these exceptions to commercial law courses and so will we.
You need to know four things about express conditions: (i) what an express condition is, (ii) how an express condition is satisfied, (iii) when non-occurrence of an express condition is excused, and (iv) what the differences are between conditions precedent and conditions subsequent and between express conditions and constructive conditions.
And, there are three things to know about what an express condition is.
First, an express condition is language in a contract. If Markell offers to sell his house to Ponoroff and Ponoroff responds “I accept, conditioned on the house’s being appraised at $200,000 or more,” that response, as we learned in Chapter 2, is a conditional acceptance (or counteroffer). There is no contract and so no contract condition. In contrast, if Markell and Ponoroff enter into an agreement that states Ponoroff will buy and Markell will sell his house and that the sale is “conditioned on the house’s being appraised at $200,000 or more,” then we have a contract and an express condition. Again, we are looking for language in the contract itself.
Second, the language you are looking for in a contract is language that excuses the contract’s other promises rather than creates new promises. The phrase “conditioned on the house’s being appraised at $200,000 or more” is not a promise. Neither the seller, Markell, nor the buyer, Ponoroff, has promised that the house will be appraised at $200,000 or more. Neither the seller Markell nor the buyer Ponoroff can recover from the other for breach of contract if the house is appraised at less than $200,000. Put simply, the failure to satisfy a condition is not a breach, rather, the consequence of a less than $200,000 appraisal is that Ponoroff does not have to the buy the house; he is excused. As the title to this Part E indicates, nonoccurrence of an express condition excuses performance.
Third, while the cases and commentary consistently say that there are no magic words necessary for the existence of an express condition, there are magic words for you to watch for in exam hypotheticals. If you find the words “if,” “only if,” “provided that,” “so long as,” “subject to,” “in the event that,” “unless,” “when,” “until,” and, of course, “on condition” in an exam question, then you are looking at a question on express conditions. If you don’t see one of those phrases, then you need to understand that, whenever possible (and sometimes when it would seem impossible), courts will interpret the language as anything other than an express condition.
This preference for interpreting contract language as anything other than an express condition will become more understandable when you understand the answer to the second of the three things you need to know about express conditions—how is an express condition is satisfied?
Don’t let the language that the cases and commentary use confuse you. While it is the non-occurrence of an express condition that excuses performance, judges and law professors rarely use the language that “the express condition has occurred”; instead, look for the phrase “the condition has been satisfied.” If the express condition has been “satisfied,” then there is no excuse of a later non-performance based on nonoccurrence of the express condition.
And, generally, an express condition is “satisfied” only if it is complied with strictly. The first case on conditions in many casebooks, Luttinger v. Rosen, is a great illustration of the strict compliance concept. The contract was a home sale contract which like most home sale contracts, contained an express condition relating to financing a mortgage “from a bank or other lending institution * * * at an interest rate which does not exceed 8½ per cent per annum.” While the lowest mortgage rate the buyers were offered by a bank was 8¾ per cent, the seller committed to fund the difference in interest payments. In the buyers’ successful suit to recover their down payment, the court held that the buyers were excused from performance because the financing condition was not met. Even though the opinion does not use the term “strict compliance,” judges and law professors cite Luttinger to support use of the strict compliance concept.
Test your understanding of the “strict compliance” concept by considering another home sale contract with an express condition. Change the facts of Jacobs & Young v. Kent so that the Kents’ contract for Jacobs & Young to build their home provides in pertinent part that “the Kents payment obligations under this contract are expressly conditioned on Reading wrought iron pipe, and only Reading wrought iron pipe, being used throughout the house.” Jacobs & Young instead uses Cohoes pipe. When the Kents refuse to pay for the house, Jacobs & Young sues for breach of contract. The court again finds that Jacobs & Young’s use of Cohoes pipe was “innocent”; the court also again finds that the differences between Reading pipe and Cohoes pipe are “trivial.”
Weren’t the differences in Luttinger between a 8½ per cent mortgage interest rate and a 8¾ per cent mortgage interest rate with the sellers’ paying the difference in the interest payments also trivial? In the hypothetical in the preceding paragraph, like in Luttinger, applying a strict compliance test means that the express condition in the contract is not satisfied—meaning that contract payment is excused. Is this what Judge Cardozo intended by his dictum in Jacob & Youngs v. Kent, “This is not to say that parties are not free by apt and certain words to effectuate the purpose that the performance of every term shall be a condition of recovery”?
Excusing the Kents from paying for a house that Jacobs & Young built for them because of the nonoccurrence of a condition seems more troublesome than excusing the Luttingers for paying for a house that Rosen was trying to sell. The Restatement (Second), § 227 (cmt. b) uses the term “forfeiture” in describing the denial of payment because of the non-occurrence of a condition to someone, like Jacob & Youngs in our hypothetical who “relied substantially on the expectation of that exchange.”
Just as nature abhors a vacuum, courts abhor a forfeiture. Courts seek to avoid “forfeitures” by interpreting contract language as not imposing a condition, and also by excusing the nonoccurrence of a condition when that non-occurrence of the condition would cause a disproportionate forfeiture. Restatement (Second) of Contracts § 229. And, the first of the illustrations accompanying § 229 is a hypothetical that looks very much like our hypothetical of Jacob & Youngs with language of express condition.
Restatement (Second) § 229 uses the verb phrase “may excuse.” In other words, a court has discretion to excuse a condition to avoid a forfeiture. An exercise of that discretion involves a balancing of the policy of freedom of contract, on the one hand, and the policy of fairness, on the other. So it is fair to say—though it sounds funny—that conditions may excuse performance, but the conditions may also be excused, in which the performance is due.
Excuse of the non-occurrence of an express condition because of prevention or because of waiver is easier to understand.
Here is an example of excuse of the non-occurrence of an express condition under the doctrine of prevention: Markell contracts to buy an emerald pupik ring from Epstein for $10,000 on the condition that the ring is appraised at no less than $10,000. Markell later refuses to perform, i.e., pay Epstein the $10,000, because the appraised value was only $8,000. If Epstein can establish that Markell bribed the appraiser to provide a lower than market appraisal, then the non-occurrence of the express condition will be excused because of prevention (which is to say satisfaction of the condition was prevented from happening). And, the practical consequence of the excuse of the non-occurrence of the condition will be that either Markell pays the contract price for the ring or Epstein recovers damages from Markell for breach of contract.
More realistic, and more common, is excuse of the nonoccurrence of an express condition because of waiver. Same pupik ring story except that (i) Markell does not bribe the appraiser, and (ii) Markell wants to buy the ring even though the condition was not satisfied because the appraiser valued the ring at $9,000. Obviously, Markell, the person protected by the condition, can give up (i.e., waive) the protection of the condition; Obviously, Epstein cannot use the non-occurrence of the appraisal condition as an excuse to refuse to sell the ring to Markell, since the condition governed Markell’s performance (i.e., ran in his favor, not Epstein’s).
(a) Express conditions precedent
All of the preceding hypotheticals involve conditions precedent. A condition is a condition precedent when it is a prerequisite to the parties’ performance obligations.
The adjective “precedent” refers to the time relationship between the occurrence of the express condition and the obligation to perform pursuant to the contract. The occurrence of the express condition—appraisal of the pupik ring at no less than $10,000—comes first, and “precedes” Markell’s obligation to pay. Thus it is a condition precedent.
Most, if not all, the “condition cases” that you read will involve express conditions precedent.
(b) Express conditions subsequent
Contract language can also create an express condition subsequent. A condition is a condition subsequent when it imposes a post-contractual limitation on the duty to perform. For example, Spike Lee contracts to sell you his courtside, New York Knicks tickets for $10 a game until the New York Knicks are in first place. “Until the Knicks are in first place,” like “on the condition that the pupik ring is appraised at no less than $10, 000,” is an express condition. It is language in a contract that does not create a new obligation but rather limits a contract obligation otherwise created—Spike Lee’s obligation to sell his Knicks tickets. Since the contract provides for Spike Lee’s selling the tickets until the Knicks are in first place, i.e., the occurrence of the condition is subsequent to the performance, the condition is an express condition subsequent.
In summary, the primary practical difference between conditions precedent and conditions subsequent then is that the nonoccurrence of a condition precedent excuses any contract performance, while the occurrence of a condition subsequent excuses continuing performance. Both the occurrence of express conditions precedent and the occurrence of express conditions subsequent are governed by the strict compliance rule. Spike Lee cannot use the Knicks’ rising to second place as an excuse for his selling his courtside seats to you at $10 a game. Second is not “first.” No strict compliance, no satisfaction of the express condition.
(c) Express conditions and constructive conditions
I do not cover constructive conditions in my contracts courses. I hope that your professor does not cover constructive conditions so that you can stop reading this subsection, but, if your professor is Ponoroff, you have to press on (a very small price to pay according to Ponoroff, if not his students).
It is easier to explain what constructive conditions are not than to explain what constructive conditions are. Constructive conditions are not express conditions, not language in a contract that modifies obligations created by language of promise in the contract, not subject to the strict compliance standard. Rather, constructive conditions are the language of promise in the contract and are subject to the material breach rule. Contract law developed the constructive condition concept to explain the first hypothetical in this chapter.
In case that hypothetical was not sufficiently memorable, “Markell contracts to wash Ponoroff’s car on Saturday for $10. Markell does not wash the car.” We said “Obviously, Ponoroff does not have to pay Markell.”
As you will discover, if you mistakenly use the word “obviously” in one of your first year exam answers, “obviously” is not much of an explanation. A more complete explanation of why Ponoroff does not have to pay Markell is that Markell performing his contract obligations is viewed as a “constructive” condition to Ponoroff performing his contract obligations. [“Constructive” means made up by the court and not the parties.]
Regrettably, in the course of your contracts course you will read some early cases which use the term “condition” in discussing what is in substance a constructive condition, and some modern cases which use the term “condition” in discussing what is in substance an express condition. Worse, both early and modern cases refer to “breach of condition.” While a constructive condition is in essence also a promise, and so can be breached, an express condition is not a promise and so cannot be breached. An express condition is either satisfied or not satisfied, and if it is not satisfied, there is an excuse of performance, but no breach. When Luttinger was unable to obtain the 8¼ mortgage, there was no breach—just an excuse from having to buy the Kleins’ house.
In sum, constructive conditions of exchange is the doctrine developed in the 18th century to explain why the performance by each party to a contract is almost always dependent on the performance by the other contract party. If it were not for constructive (implied) conditions, then, in the above hypothetical, Ponoroff, who did not expressly condition his performance on Markell also performing, would have to pay Markell or be in breach himself, even though Markell did not do the work. Then he’d be forced to sue Markell to recover his $10, which makes no sense. So constructive conditions help to ensure that each party will receive the promised performance of the other party by making the respective promises mutually dependent on one another.
In the prior section on express conditions we dealt primarily with the effect of something not happening that the contract expressly contemplated happening—remember the Epstein/Markell pupik ring contract conditioned on the ring being appraised at no less than $10,000? In this section, we will be dealing primarily with the effect of something happening that the contract does not expressly contemplate.
Assume for example that after the Super Bowl was awarded to Richmond for 2017, Ponoroff contracted with Epstein to rent Epstein’s Richmond home for the fourth week of January and the first week of February in 2017. Then, after the contract but a month before the Super Bowl, an unprecedented flood of the James River destroys Epstein’s home. Should Epstein be excused from performing? Or instead, if after the contract but before the Super Bowl, Epstein dies? (Have we mentioned that Epstein is really old?) Or, instead, if after the contract but before the Super Bowl, the Commonwealth of Virginia enacts a law requiring that a person be at least 5 feet 7 inches tall to attend the Super Bowl? (Have we mentioned that Ponoroff is the “short” of this Short and Happy book?). In short (so to speak), what later occurrences, not anticipated by the contract, should excuse contract performance?
Most contracts casebooks include Taylor v. Caldwell. The subject matter of the contract that was destroyed was the Surrey Gardens, a music hall, owned by the defendant. The contract was a lease. The plaintiff, a concert promoter, leased the defendant’s music hall for concerts on four separate days. After the lease contract but before any of the concerts, the concert hall burned to the ground. No one’s fault—just another of life’s little surprises. The promoter sued, claiming that the defendant had breached the contract by failing make Surrey Gardens available on the dates specified in the contract. The court held for the defendant, reasoning that the continued existence of the music hall was an “implied condition” of the lease, and concluding “performance becomes impossible from the perishing of the thing.”
Today, courts, the Restatement (Second) of Contracts § 361, and law professors use the phrase “basic assumption,” instead of “implied condition,” and “Impracticable,” instead of “impossible.” But, it all pretty much means the same thing.
“Impracticable” is one of those words that you first encounter in law school You need to understand that while “impracticable” sounds more like “impractical” than “impossible,” its meaning is more like impossible than impractical. Focus on the effect of the post-contract occurrence on the ability to perform.
Damage or destruction of the subject matter of the contract does not always excuse performance. Obviously, if Markell contracts to paint Epstein’s house and the house burns down before Markell is finished, Markell is excused from performing. No ability to perform—nothing for the paint to stick to. By contrast, if Markell contracts to build a house for Epstein and the house burns down before Markell is finished; Markell is not excused from performing. Markell the house builder still has the ability to build the house.
Undoubtedly, it will now cost Markell more to build the house, but the performance becoming more expensive is generally different from the performance becoming impracticable. You will find dicta in cases and commentary to the effect that performance becomes impracticable when it can only be done at excessive and unreasonable cost but that is at best an outlier (and more important an unsatisfactory analysis for exam purposes).
In sale of goods cases, the question of whether destruction of the subject matter of the contract excuses performance only arises when goods “identified when the contract is made” have been damaged or destroyed. The nuances of what “identified” means is generally left for commercial law courses. For purposes of most contracts courses, it is sufficient to understand that:
Obviously, the buyer’s payment is also a subject matter of the contract. It should be equally obvious that destruction of the buyer’s money is never going to be an excuse of nonperformance. Markell can’t avoid the contract obligation of paying Epstein the contract price for the pupik ring even though Armie the armadillo ate all of Markell’s money, which he was keeping in a box under his bed.
Earlier, we considered the effect of a death of either the offeror or the offeree after the offer was made but before it was accepted. And we learned that death of either the offeror or the offeree terminates the offer.
But now we learn that death of either party to a contract after the contract was entered into, but before it is performed, does not generally terminate the contract. Unperformed contract obligations are generally not excused by death.
Assume for example that Ponoroff makes a loan to Epstein and before Epstein repays the loan he dies. Ponoroff can still recover the unpaid loan balance from Epstein’s estate. Epstein’s death does not excuse the repayment of the loan. If the law were otherwise, no one would extend credit to old people like Epstein.
The rule that death does not excuse performance is not limited to loan agreements. In theory, it applies to most contracts.
Assume Markell contracts with Ponoroff to paint Markell’s house for $10,000 and then Ponoroff dies before he can get to the job. Markell is thus forced to find another painter, Epstein, to do the same job, but Epstein charges $13,000. On these facts, Markell should be able to recover $3,000 from Ponoroff’s estate.
The contract in the preceding paragraph is viewed as a contract for a $10,000 paint job, not a contract for a paint job that could be performed only by Ponoroff. Admittedly, some (very few) contracts for personal services are treated differently. If, as in the dictum in Taylor v. Caldwell, the contract is for painter to paint a portrait instead of a house, then the contract might be viewed as one that could be performed only by that painter so that “in the case of a painter employed to paint a picture who is struck blind, it may be that performance might be excused.” (Reconsider this paragraph when we consider in Chapter 7 the rule that contract performance obligations can generally be delegated from one person to another.)
We understand that, in the real world, people don’t sue their painter’s estate when the painter dies before finishing a painting contract. It is the kind of thing that only happens on law school exams.
This one is easy. Epstein contracts to sell Armie his pet armadillo to Markell. After the contract but before Epstein delivers or Markell pays, a law is enacted prohibiting the sale of armadillos. Obviously, performance is excused.
And what should also be obvious from this hypothetical is that “legal” impossibility (or impracticability) is different from physical impossibility. It was still physically possible for both parties to perform under the contract but performance was excused because it was not possible to perform without violating a supervening law.
Whether your professor wants you to use the term “impossibility” or the term “impracticability” or both, use these terms only when the facts involve a post-contract occurrence not provided for in the contract. Sometimes the contract provides for post-contract occurrences in either a force majeure clause that excuses performance in the event of a specified occurrence, or a hell or high water clause that requires performance regardless of what occurs.
You will probably see hell or high water clauses as part of your property course’s treatment of landlord tenant law. If you see a force majeure clause on your contracts exam, apply its language, not the law of impossibility or impracticability, to the post-contract occurrence in the fact pattern.
In the prior section on impossibility or impracticability as an excuse of contract performance, post-contract events not anticipated by the contract affected the ability to perform contract obligations. This section explores a similar but separate ground for excuse of contract performance—frustration of purpose. The doctrine of frustration of purpose is triggered by post-contract events not anticipated by the contract that do not affect the ability to perform, but instead affect the mutually understood purpose for the contract performance.
Krell v. Henry is the “frustration of purpose” case included in most contracts casebooks. Krell owned an apartment, 56A Pall Mall. The June 26 and June 27 coronation parades for Edward VII were scheduled to pass along Pall Mall, and Krell’s apartment overlooked the parade route. Henry contracted for the daytime use of Krell’s apartment for the days of the parades for a fee of £75 and paid £25 of the fee in advance. Because Edward suffered an appendicitis attack, the coronation was postponed. And, because the parades were postponed, Henry refused to pay the £50 balance of the fee. And because of Henry’s refusal, Krell sued Henry for breach of contract to recover the £50.
Relying in part on Taylor v. Caldwell, the court held for the defendant Henry. You remember Taylor v. Caldwell—the case about the contract for the use of a concert hall that later was destroyed by fire. And, remembering the facts of Taylor, you can easily distinguish the facts of Krell from the facts of Taylor. Krell’s flat was not destroyed (Indeed, as you will discover if you participate in Richmond’s summer program in Cambridge, the flat is still standing today.) The cancellation of the parades had no effect on the ability to perform—Henry could have sat in Krell’s flat on June 26 and June 27 and looked out the windows at a “parade less” Pall Mall. Rather, in Krell v. Henry, the cancellation of the parades affected the mutually understood purpose of the contract.
And, it is important that you understand that in Krell v. Henry both parties understood that viewing the coronation parades was the purpose of the contract. Krell had advertised that that his apartment had a view of the parades. Had that not been the case, the outcome would have been very different. Restatement (Second) § 265, entitled “Discharge By Supervening Frustration,” adopts the Krell v. Henry result and uses the Krell fact pattern as the first Illustration. Instead of the phrase “mutually understood purpose,” § 265 uses the phrase “basic assumption.”
Note also that § 265, like Krell v. Henry, only provides for the discharge of “remaining duties to render performance.” In Krell v. Henry, Henry withdrew his counterclaim for the £25 that he had already paid, and that has become part of the modern doctrine.
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When there is a breach of a contract, the law provides a remedy. Remedy here means something to compensate the non-breaching party for the consequences of the breaching party’s actions. This is an area in which Contracts distinguishes itself from, say, Torts. Whereas Torts remedies are generally backward looking—putting the person in the position he or she was in before the injury—Contracts remedies are forward-looking. They seek to place the non-breaching party in the place he or she would have been in had there been performance.
Put another way, the law looks at what the non-breaching party reasonably expected, and fashions a remedy from that perspective. Colloquially put, the non-breaching party receives as a remedy the benefit of its bargain.2 And usually, although not always, the amount of damages are determined without reference to the intent of the breaching party. Intentional breaches are generally treated the same as non-intentional ones.
It might seem that the easiest way to award the benefit of the bargain would be to just order the breaching party to perform. If Epstein and Ponoroff agree that, in exchange for $1,000, Epstein will write Ponoroff’s chapter in their casebook on Contracts, and Epstein is too drunk to perform, one might think that a court could order Epstein to sober up (good luck with that), and then perform. But for historical and sometimes constitutional reasons, American common law courts rarely resort to ordering a breaching party to do what it promised. Rather, courts will attempt to measure the loss incurred from the breach in money, and award damages.
There are, of course, exceptions. Courts may order “specific performance”—the buzz words for ordering the breaching party to do what was promised—when the remedy at law (damages) is inadequate to compensate and when it is fair and reasonable to compel performance. Note that there are two basic elements here: inadequate remedy; and “equity.” Thus, if Ponoroff wants specific performance from a sobered-up Epstein in the contract above, a court might not grant it even if Ponoroff’s damage remedy is inadequate. It may be that the value of such a chapter is $100,000 (hah!), and the enforcement on such a sharp bargain would be inequitable. It may be that what constitutes an acceptable chapter is too uncertain to be enforced, or that such an order would be too difficult to police and enforce (hard to keep Epstein away from the bottle). It also may be—as is the case with many personal service contracts—that enforcement could run afoul of the constitutional ban on involuntary servitude (although not likely here, since not all of Epstein’s life would be bound up in performance).
Most cases, however, focus on the inadequacy of the remedy at law. Compressed, this inquiry is one into whether money will adequately compensate. Where the contract involves the sale of a unique, or presumed unique item, inadequacy is presumed. In this category are contracts for the sale of land, but can also include rare and irreplaceable items of personal property, such as famous paintings, highly customized and rare cars, unique handmade clocks, and the like. Thus, if Ponoroff agrees to sell “Desert Doozy,” his palatial decanal residence, to Epstein for $100,000, and then breaches, Epstein will likely be able to contend that his remedies at law are inadequate, since land is unique. A court will then enter a decree of specific performance requiring Ponoroff to convey Desert Doozy to Epstein.
Assume that, instead of selling his house, Ponoroff agreed with Epstein that Epstein would publish all of Ponoroff’s academic writings for a specified royalty. Assume that this is not an illusory promise, and also assume Ponoroff starts publishing his writings with Markell in breach of these obligations. Epstein’s remedy at law is likely inadequate; Ponoroff’s work product is certainly unique and not capable of precise measurement of worth. But a court might not want to order Ponoroff to perform, for all the supervisory and equitable reasons mentioned above. In such cases, a court is likely to enter a “negative injunction.” Under this remedy, the court will order Ponoroff not to publish with anybody but Epstein. Thus, Ponoroff isn’t forced to work for Epstein, but he can’t profit by selling to Markell, or anyone else for that matter.
But most contracts don’t deal with unique subjects. Assume that Ponoroff and Epstein agree that Ponoroff will sell his pet armadillo, Armie, to Epstein for $35. Armie, although an affectionate armadillo, isn’t unique. You can buy armadillos at specialty pet stores for $50 and up. When Ponoroff develops an unusual attachment to Armie at the last moment, and refuses to deliver him to Epstein, can Epstein obtain specific performance? No. Epstein’s remedy at law is not inadequate; Armie isn’t unique, and as we will see in the next section, Epstein has a perfectly fine remedy at law: damages.
Before looking at the how to calculate contractual damages, it is helpful to look at the names courts put on damages for purposes of discussion. Be aware, however, that courts (and law professors) use lots of different names for damages, and they aren’t always consistent.
“Direct” or “general” damages are the type usually discussed. They are the type of damages necessary to award the non-breaching party the benefit of his or her bargain. Thus, in the armadillo sale example above, $15 would compensate Epstein for Ponoroff’s failure to sell Armie (Epstein expected to buy an armadillo worth $50 for $35, so he is damages to the extent to the shortfall, or $15). These $15 would be direct damages.
But what if Epstein needed Armie because he had agreed to resell—or flip—Armie to Markell for $300 (assume Markell had taken an irrational liking to Armie). Ponoroff’s breach meant that Epstein lost out on profit on resale. Epstein could claim that his inability to collect the $300 from Markell was an indirect or special consequence of Ponoroff’s breach. And in a way, he would be correct. To put Epstein in the position he would have been in had Ponoroff not breached, Epstein’s damage award should include not only his direct damages of $15, but also an amount equal to his lost profit on his flip sale to Markell (which would equal $250). We call this type of damage, usually dependent on particular or special circumstances surrounding the non-breaching party, “indirect” or “special” damages. The UCC, some cases and some contracts professors use the term “consequential damages.” UCC § 2–715(2). The bottom line is that, although some try to make reasoned distinctions, there is little if any difference between the usages of “indirect damages,” “special damages,” or “consequential damages.”
Sometimes it is difficult to tell what is direct and what is indirect, or what is general and what is special. Generally, the more particular the damages are to the non-breaching party—a special, second, contract to sell goods once obtained, or a relatively narrow use only applicable to the non-breaching party—the more likely they are to be special damages.
Incidental damages are those costs necessary to respond to or correct a breach. In the sale of Armie on page 97, if Epstein has to make a long distance call to get a replacement for Armie, the cost of that call is incidental to that breach and compensable as incidental damages. In general, the costs of obtaining substitute performance (getting another armadillo in the above example) are incidental damages.
There is a major limitation on incidental damages. The American Rule states that attorneys’ fees, unless otherwise contracted for or provided by statute, are not recoverable as incidental damages. So if Epstein incurs $1,000 bill from attorney Markell in order to sue Ponoroff for failure to deliver Armie, that $1,000 is not recoverable as incidental damages. That would change, and Epstein would get the $1,000, only if the contract provided for attorneys’ fees.3
America’s common law system prefers money damages as a remedy. In other words, courts will value the loss occasioned by the breach, and substitute that value as a damage remedy. As a result, most contracts remedies questions explore the calculation of these damages.
As indicated in the opening of this chapter, Contract law protects the parties’ expectation interests; that is, it protects what the parties reasonably expected to obtain by full performance of the contract. This is often expressed as the effort to put the non-breaching party in as good a position as he or she would have been in had the contract been performed.
It is important to understand what this means. Assume that Epstein and Markell agree that Epstein will wash Markell’s car for $10, when the cost of a similar wash is $25. Also assume that five minutes after making this contract, Epstein says to Markell: “You know the car wash? Forget it. I don’t know what I was thinking. And since you didn’t pay me anything to seal the deal, I’m not paying you one cent in damages.” One might say that Markell isn’t harmed at all. Epstein is right (a rarity): Markell didn’t pay Epstein anything, and Markell’s in the same position he was in only a scant six minutes earlier. No harm, no foul, right?
Wrong. Contracts law says that even though Markell didn’t pay Epstein a dime, he is still harmed. The formation of a contract also carried with it the formation of a reasonable expectation of getting a service for $10 that would otherwise cost $25. Thus, when Epstein breaches, he owes Markell the benefit of Markell’s bargain. As we will see, this turns out to be $15, or the difference between what Markell will have to pay someone else—$25—to do what Epstein promised to do for $10.
Much of contracts remedies is figuring out how to measure the benefit of the bargain. In the car wash example, we picked the difference between the value of what was promised ($10) and the value of what the service was worth ($25). The concept is that the party should not get the full amount of what they had to pay to secure the performance lost by the breach; that would overcompensate because inherent in the deal was that Markell was going to pay $10 in any case. He just gets money damages for the extra $15 he didn’t expect to pay.
This measure of damages was used in the famous “hairy hand” case of Hawkins v. McGee. There, Hawkins had burned his hand. His doctor, McGee, “guaranteed” (a fancy word for promised) that he would make the hand a “one hundred percent good hand.” He didn’t. His surgical technique of grafting skin wound up not only failing to fix the hand, but making it worse. It grew hair.
The issue was how to measure the damage. The court excluded pain and suffering since that was going to occur in any case (much like Markell having to pay $10 in the prior example). The court elected to treat the guaranty of a good hand as a “warranty” (another fancy word for promise), and awarded damages on the following formula: Hawkins would be entitled to damages equal to the difference between the value of the hand as promised (a “one hundred percent good hand”) and the value of the hand as delivered (a hairy, deformed, hand). The case doesn’t tell us what those damages were.
This measure of damages is often used without any change when the object of the contract has a value can be determined without reference to the contract. Put another way, it is often used when there is a market for what was to be bought and sold under the contract, or if there is some way to independently determine the value of the object “as promised.” Obviously, if there is a market for the kind of object mentioned in the contract, proof of what the market would charge would also be proof of what the value of the promise was.
To see this, assume Epstein agrees to sell to Markell Grade A maple syrup. Epstein breach and instead delivers Grade B. If Markell discovers the difference only after delivery, which is reasonable, can he use the Grade B syrup and still obtain damages? Yes. Following the general rule in Hawkins, he can get the difference in price between Grade A and Grade B. If the contract called for 1,000 gallons of syrup and Grade A sold for $1 a gallon and Grade B sold for $.75 a gallon, the damages would be $250, or the product of 1,000 times the price differential of $.25.
In cases of delayed performance, as opposed to failure to perform, the value of performance due can also be measured by awarding interest on the value of the property or the rental value of the delay. So if Epstein did deliver Grade syrup in the above example, but did so a week late, Markell’s damages could be interest on the value of the syrup for a week. If interest were 10% per year, the damages would be 10% times the value of the syrup, $1,000, for one week (or $1.92, which is $100 divided by 52 weeks).
Sometimes, especially in building contracts, it is difficult to calculate the value as delivered, especially when the builder breaches before completion of the project. In those cases, courts will often take the cost of completion as a substitute measure for the difference in value approach. For example, if Epstein agrees with Ponoroff to build a mansion for Ponoroff for $1,000,000, which Ponoroff foolishly pays for before Epstein ever shows up to start the job. Epstein walks off the job half way through. Ponoroff has to spend another $500,000 to complete the project. Here, Ponoroff’s damages will be $500,000, the cost to complete the job. That is what is required to put Ponoroff in the position he would have been in had Epstein not breached.
Things can get messy under this formula if there have been progress payments instead of a lump sum up front payment. In the prior example, assume that Ponoroff had paid only $250,000 up front to Epstein, but still paid just $500,000 to finish the house. In this case, no damages! Why? Ponoroff wound up paying only $750,000 for a house he expected to pay $1,000,000 for. If, instead, Ponoroff had to pay the substitute builder $1,000,000, his damages would be $250,000: he wound up paying $1,250,000 for a house he agreed with Epstein should cost only $1,000,000.
The notion here is that the ultimate value of what is contracted for is reasonably related to the cost of building or completing it. That is, the specs for Ponoroff’s house were really for a house that would have a value somewhere in the neighborhood of $1,000,000. But what if that assumption is wrong? Assume that Ponoroff’s specs called for the brazen exploitation of the University of Arizona logos in every conceivable place, to the point of the faucets in the bathrooms being in the shape of “A” and “U”? Put another way, what if the million dollar cost produces a hundred thousand dollar house?
With some difficulty, courts have sometimes limited the cost of completion remedy by not awarding it if it would result in damages disproportionate to the likely loss. That is, if the cost of completion is more than the value of the object when built or as promised, courts fall back to the Hawkins type remedy and require the non-breaching party to prove the difference between what was contracted for and what was delivered. In this calculation, courts analyze what it would cost to give full performance, and what the value of the property involved would be after that performance.
This was the issue faced in two leading cases, Groves v. John Wunder Co. and Peevyhouse v. Garland Coal & Mining Co. In Groves, a property owner leased land to another with the understanding that the lessee could remove sand and gravel from the property during the term of the lease. The lessee also agreed to restore the property back to its original state. It didn’t. It contended that it would cost $60,000 to restore the property, and that after such restoration the property would be worth only $12,160. In Peevyhouse, there was a similar lease, but the lease allowed the lessee to remove coal instead of sand and gravel. The cost of restoring the property in Peevyhouse was $29,000; after that expenditure, the property would increase in value by $300.
Groves gave damages of $60,000; Peevyhouse only $300. Peevyhouse probably better represents the Restatement and majority view that the cost of completing performance is limited if that cost is clearly disproportionate to the probable loss in value. Sometimes, as in Groves, the court will award higher damages if the breach was intentional, but this is contrary to the notion that the amount of damages will not vary with the type of breach.
Once the potential to award consequential or special damages is recognized, then contracts damages can be greatly expanded to cover any loss than might have been caused by a breach. Contract law limits damages, however, in ways that require additional showings by non-breaching parties. Damages have to be certain, foreseeable, and unavoidable. The last limitation—unavoidability—covers both post-breach costs that should not have been incurred and post-breach opportunities that should have been pursued.
One of the major limitations on damages is certainty. Contract damages must be proved to a reasonable certainty, a standard higher than that typically used, for example, in Torts. For most contract breaches this will not be much of an issue. If Epstein breaches a contract to sell 10 copies of his bankruptcy casebook, the price of the casebook can be established to a reasonable certainty. Markets exist to give that price. As a consequence, the typical situation in which the certainty requirement restricts damages is when the non-breaching party wants lost profits as part of his or her damages. To be compensable, lost profits must be shown with reasonable certainty.
As an example, assume Ponoroff wants to buy Epstein’s theater so that his acting company, Ponoroff’s Players, can put on plays for profit. They sign a contract that calls for Ponoroff to pay market price for the theater. Epstein breaches, and Ponoroff buys another theater for the same price, but closes on it a month later. Ponoroff has no direct damages, because the price for the substitute theater was market price. There is no difference between the contract price and the price Ponoroff had to pay for a different theater. At most, Ponoroff has some incidental damages related to obtaining a different theater for his company.
But in the meantime, Ponoroff’s Players have no place to act. They can’t put on shows, and can’t earn any money. Ponoroff is out the profits his company would make during this time. In short, to give Ponoroff the benefit of his bargain—that is, to put him in a place equivalent to where he would have been had Epstein performed—Epstein should pay Ponoroff an amount equal to Ponoroff’s lost profits.
But contract law will require Ponoroff to show these lost profits with reasonable certainty. As a practical matter, if Ponoroff’s Players is a new company with no operating history, Ponoroff will not be able to show lost profits under this standard. New ventures rarely can show profits with any certainty. If Ponoroff’s Players are an established company with a good track record, however, Ponoroff might be able to meet the standard. He can show that in the past, under similar circumstances, he has made a profit, and that Epstein’s breach caused this trend to end.
Another major limitation on damages is foreseeability. This limitation applies primarily to special or consequential damages. The classic case establishing this doctrine is Hadley v. Baxendale, an 1854 case from England. In this case, a miller sent an essential piece of his millworks—a driveshaft—out for repair. It apparently was the mill’s only shaft, and the mill could not operate without it. The company transporting the shaft delayed its transport to the extent that there was a breach of the contract to transport. The miller asked for damages not only for the delay in transport—something like the difference FedEx charges for overnight and two-day delivery—but also for its lost profits for the time the mill had to shut down.
The court denied the lost profits. It imposed what has been called the foreseeability limitation: damages are recoverable only to the extent that the breaching party, at the time of contract formation, could reasonably have foreseen the loss its breach ultimately caused. In Hadley, although the case’s preliminary material indicates that the transport company was told that the mill would have to shut down until the shaft was returned, the case itself says that all the breaching transport company knew was that their customers were millers, and that they were transporting a mill shaft. There apparently was no communication of the fact that the mill would have to shut down until return of the shaft; the transport company could, apparently, assume that the millers had a spare that they were using in the interim.
As a result, to be charged with consequential or special damages, the breaching party must have been able, at the time of contract formation, to reasonably have foreseen the loss its breach could ultimately cause. This knowledge comes generally from two sources. Either it is made known during the formation process, and therefore written into the contract, or the general circumstances of the object of the contract or the parties must reasonably known to all.
Take the following example. Epstein agrees to sell his comic book collection to Markell for $1,000, a reasonable estimate of the collection’s market price. Without telling Epstein, Markell had already entered into a contract to flip the collection and sell it to Ponoroff for $1,100. If Epstein breaches, Markell has no damages other than perhaps incidental damages. The contract was for the market price, and thus his expectation for direct damages has not been harmed. When Markell tries to recover the $100 lost profits on his sale to Ponoroff, Epstein will be able to successfully defend on the basis that it was not reasonably foreseeable that Markell would flip the collection. For all Epstein knew, Markell was just another collector.
The result would change if Epstein and everybody else knew that Markell was not a collector, but just an opportunistic comic book broker who only bought comic books he knew he could immediately resell. This changed fact means that Epstein knew that Markell was not buying to hold or for personal reasons; he was buying solely to resell. Markell’s lost profits on any resale of the comic books would thus be foreseeable to Epstein. He thus enters into the contract with knowledge that any breach by him could foil a resale—and damage Markell in the amount of profits related to that resale. In this latter case, then, Epstein is liable to Markell for the $100.
A third limitation on damages is avoidability. There are two basic forms of avoidability. The first, called “mitigation,” is usually represented by situations in which the non-breaching party could obtain substitute performance and minimize his or her loss. The second type of avoidability is when, because of the breach, the non-breaching party does not have to pay for his or her return performance.
The first type of avoidability, and the one most casebooks focus on, is usually called mitigation. The mitigation principle denies damages to the non-breaching party if the damages were avoidable if only the non-breaching party had obtained substitute performance. Often confusingly referred to as a “duty to mitigate,” it is really a causation issue. Breaching parties are not liable for damages that the non-breaching party could have avoided. There is no duty—primarily because failure to mitigate does not give rise to any cause of action—but rather a break in the chain of causation.
Mitigation issues usually arise when the non-breaching party has opportunities to lessen the damages caused by the breach by obtaining alternate or substitute performance, and declines to exercise those options thereby compounding, rather than cutting, his losses. If Ponoroff breaches a lease agreement by leaving two years before the end of the lease’s term, Ponoroff would generally be liable to the landlord for two years’ worth of rent. But if Ponoroff can show—because it will be his burden—that the landlord could have re-let the premises one month after he left for the same rent, Ponoroff is only liable for one month’s rent. Put another way, if a non-breaching party can mitigate—or lessen—the amount of damages, he or she must do so or risk not recovering all damages.
There are limits to mitigation. A non-breaching party does not have to mitigate if to do so would require undue risk, burden or humiliation. This often arises in employment contracts. An example would be as follows: assume Ponoroff signs a contract with Epstein to hire Epstein for a three-month summer associate position at $3,000 per month. On the first day Epstein reports to work, Ponoroff realizes what a big mistake he has made and fires him on the spot. Epstein can’t get a summer associate position anywhere at that late date, and sues Ponoroff for $9,000. Ponoroff defends, pointing out that there were plenty of minimum wage jobs available to Epstein at $1,200 a month, which he chose not to take. As a result, Ponoroff argues that he isn’t responsible for Epstein’s lack of a job.
Epstein wins. A person is not required to take any job to mitigate. It must be of the same general type, involving the same general duties. Although fun for all, the vision of Epstein flipping burgers is likely humiliating (and less humiliating than Epstein as a summer associate). As a result, Epstein is not required to take any job to preserve his claim against Ponoroff.
While mitigation deals with avoidable damages, the second type of avoidability focuses on not awarding avoidable costs. Avoidable cost issues arise most often in contracts which require the non-breaching party to make partial payments or to make deliveries of products to the other before completion of the project. If there is a breach before completion, the doctrine of avoidable costs will not allow the non-breaching party to recover damages related to the buying or providing what the non-breaching party was to purchase or deliver under the contract. The breach made such expenditures avoidable, and thus incurring them should not result in additional damages.
This is illustrated by the following. Epstein signs a contract with Ponoroff to sculpt a statute of Ponoroff out of plaster of paris, delivery in six weeks. Ponoroff is to supply the plaster of paris. After signing the contract, but before actually starting work—and before Ponoroff buys the plaster of paris—Epstein breaches and walks off the job. Ponoroff can recover his general measure of damages (which may be the cost of completion), but what he can’t recover is the cost of the plaster of paris that would have been required to complete the job. Once Epstein walked off the job, Ponoroff had the opportunity to avoid incurring the additional cost. Since he did not take advantage of that opportunity to avoid the cost, the cost cannot be charged to Epstein.
Another distinction between Contract and other types of damages is that contract damages do not include damages for emotional distress (unless such distress was serious, and clearly foreseeable at formation—as if Ponoroff’s Funeral Parlor agrees with Markell for burial services for Markell’s grandmother, and then neglects to put the body in the casket before burial). Contract law also does not award punitive damages—damages designed to deter future similar conduct or to punish conduct.
Contract law is the law of consensual obligation, so parties ought to be able to junk all of the above and design their own measure of damages, right? Wrong. Although the law permits and tolerates the parties to set the amount of damages for breach—sometimes called liquidated damages since the clauses set, or “liquidate” the amount, and sometimes called agreed damages—it does so with certain key limitations.
The basic limitation is that the amount of liquidated damages cannot do more than compensate. This is usually expressed as the fact that liquidated damages may not impose a penalty. Along this line, the first limitation is that the amount set must be difficult to determine. Damages that are easy to calculate—such as breach of delivery for generally available items with well-established markets like commodities or shares of traded stock—cannot be subject to enforceable liquidated damages clauses. Since compensation is easy to determine in these cases, the presumption of a penalty grows along with the ease of determination. Why would a party set damages in advance if damages can be easily calculated after breach?
Even when the damages are difficult to determine, the contemporary view is that the amount set must also be reasonable in light of the anticipated or actual loss. Restatement (Second) § 256. This means that there are at least two points in time which you must consider: the time of formation, and the time of breach. This also means that a clause which sets an unreasonable amount in light of what parties think at the time of formation may later prove to be reasonable if circumstances change drastically, and the damages set are reasonable in light of actual loss. Also, keep in mind that the penalty aspect can occur if the damages are set too low as well as if they are set too high.
At earlier common law, the rule was that the reasonableness of the amount set as liquidated damages was determined at the time the contract was entered into. This meant that if the stipulated sum was not a reasonable forecast of actual damages, the provision could be struck even if it turned to be reasonable in light of the actual loss. Under either the older or modern view as to when “reasonableness” is measured, the rule that this factor is satisfied when the amount set is deemed to be reasonable in light of anticipated loss (as of the time the contract was entered) is put to the test when actual damages turn out to be zero. Courts are split on this one.
An example illustrates some of these points. Assume that Epstein and Ponoroff sign a contract in which Epstein will tutor Ponoroff in Contracts at $100 per session. The fine print contains a clause that says that if Ponoroff breaches by not showing up within five minutes of a scheduled appointment, he owes Epstein $500 in liquidated damages for the breach. Regardless of whether damages may be easily determined, this clause is unreasonable—it provides for damages in an amount five times greater than the maximum that Epstein could expect under the contract’s terms for that session.
Tougher questions arise when contracts set “fees” or other amount for breach. Take your mobile phone contract. It undoubtedly contains a clause that says you pay a fee of over a $100 if you terminate your contract early. Even if couched as a fee, this is a liquidated damages clause. Your early termination is a breach of your agreement to be a customer for a certain time. But what are the damages if you breach? Well, the company loses your monthly billings, but also doesn’t have to provide you with monthly service. It also may lose other business opportunities tied to the number of subscribers it has. It thus meets the first requirement that the damages be difficult to determine. Whether the amount is reasonable either at formation or at breach requirement more study as to what losses the provider suffers when it loses customers.
Note that there is a direct link between the requirement of difficulty in determining damages and the requirement of certainty in damages. When parties anticipate that damages from the other side’s breach might result in damages that will be difficult to quantify, they may very well decide to insert a provision for liquidated damages so that they can avoid that factual dispute in the event of breach. Similarly, if the damages would be mostly in lost profits—as in a new business’ supply contracts with its vendors—a liquidated damage clause is often used to assure some compensation upon breach by the vendors.
In many cases, a breaching party will not be able to show that its damages are certain or were foreseeable. In these cases, Contract law will often not leave the breaching party without any damages. Instead of awarding damages based on the expectation interest, the court will award damages based on the reliance interest. In such cases, courts look to out-of-pocket costs or other similar costs that the non-breaching party incurred in reliance on the contract. Put another way, in these cases, the court will look to the value of amounts spent by the non-breaching party in reliance on receiving performance under the contract from the breaching party.
Assume that Ponoroff agrees to sell his empty diner to Epstein, and Epstein arranges for financing and buys materials necessary to bring the diner up to code. If Ponoroff breaches before conveying the diner to Epstein, Epstein might say that his damages are his future lost profits from running the diner (his road-kill armadillo is just delicious). But as explored above, future lost profits for a new business are rarely certain enough to be awarded as damages. In the alternative, a court will give Epstein his out-of-pocket costs, such as the cost of his financing and the cost in buying the materials to fix up the diner.
Sometimes a court will award damages equal to a party’s restitution interest. This interest is not keyed to what the non-breaching party spent, but rather to the value of the performance up until breach. It often arises when a party disaffirms or avoids a contract, or when, after some performance, the parties’ remaining duties are discharged by impracticability or impossibility.
This is illustrated by the following. Assume that Epstein signs a contract with Markell under which Markell will buy land from Epstein for $100,000. Unbeknownst to Markell, Epstein misrepresented material facts to Markell, and those misrepresentations would allow Markell to avoid the contract. A year later, after Markell spends $10,000 making improvements to the property, he discovers the fraud, and seeks to avoid the contract. Markell will not only get back his $100,000, but will also receive the value of his improvements; if they are worth $15,000 ($5,000 more than he paid), he will receive his original $100,000 plus the value of the improvements, or another $15,000. He, of course, will have to return the land to Epstein.
A similar result would occur if Markell agreed to pay $100,000 for the property, paying $10,000 at signing, and agreeing to pay $90,000 at closing. If before closing the property is destroyed by a tornado to such an extent that both parties duties are discharged under the doctrine of impracticability, Markell has an action in restitution to a refund of his $10,000 that he paid notwithstanding that all other duties under the contract have been discharged.
The UCC makes some subtle changes to damages. While a buyer may still recover the difference between the market price of the goods the seller agreed to sell and the contract price, the UCC makes proof of damages somewhat easier. Rather than having to prove market price, which would require an expert to opine on what the market was, the buyer can purchase substitute goods and recover the difference between the substitution cost and the contract price. Section 2–712 of the UCC calls this “cover,” and conditions its use on the repurchase being in good faith, without unreasonable delay, and at reasonable terms. Thus, if Epstein breaches his contract to sell Ponoroff Armie the armadillo for $10, and then Ponoroff promptly buys a substitute armadillo for $25, his damages will be set by that price—$25—if it was in good faith and otherwise reasonable.
The concept of cover also factors in recovery of consequential damages. Section 2–715 conditions the recovery of consequential damages (usually lost profits on a resale of the goods or something to be built with the goods) not only on foreseeability, but also on the fact that the loss by the non-breaching party “could not reasonably be prevented by cover or otherwise.”
Sellers’ damages also change under the UCC. If a buyer simply refuses to take delivery, a seller may resell the goods in good faith and in a commercially reasonable manner and use the resale price as a proxy or substitute for the market price of the goods. UCC § 2–706. If he cannot resell the goods, the seller can recover the contract price and keep the goods (although if he sells them, the buyer gets a credit for the sale price). UCC § 2–709.
Finally, UCC § 2–708(2) allows for special damages for the “volume seller.” The issue arises when a seller is in the business of selling multiple similar items, such as a car dealership for cars, or a jet plane manufacturer. The argument could be made that when a buyer breaches a contract to buy a car, for example, the dealer is not damaged because he can get someone else to buy the same car. The UCC rejects this position for volume sellers, finding that these sellers are damaged in such circumstances. Thus, a seller can recover the lost profits on a lost sale. This doesn’t apply to situations in which the seller is limited to selling goods on hand, or otherwise has limits on his capacity. In these cases, the regular measure of damages adequately compensates the seller for each lost sale.
This is illustrated by the following. Assume that Epstein sells used cars. Ponoroff and Epstein agree that Ponoroff will buy a car for $1,000. Epstein’s profit on the sale will be $250. If Ponoroff breaches by refusing to take delivery, Epstein can recover $250 from Ponoroff even if Epstein sells the car Ponoroff wanted the next day for $1,100. An exception would exist if Epstein had every other car on the lot under contract, and obtained a replacement sale after Ponoroff’s breach. In that case, he wasn’t really damaged by Ponoroff’s breach, as he still gets a profit on every car on the lot, and giving him damages for Ponoroff’s breach would unjustly enrich Epstein by the amount of the profit on the car Ponoroff wanted to buy.
Contracts being contracts, parties can agree to limit or even eliminate damages. We saw that initially with respect to the section on liquidated damages. But the parties can go further. They can change the type of remedy from money damages to some sort of alternate performance. Contracts in which manufacturers of consumer goods state that the exclusive remedy in case of a breakage while under warranty is an agreement to “repair or replace” the goods are one such example. Other examples include contracts which limit the remedy to a return of the purchase price. A different type of restriction allows parties to eliminate entire classes of damages. It is not unusual, for example, for a party to exclude consequential damages from a contract; FedEx, harkening back to Hadley v. Baxendale, excludes consequential damages from their contracts.
Under the UCC and to a lesser extent the common law, limitation of damage clauses are not enforced when the exclusive or limited remedy “fails of its essential purpose.” § 2–719(2). This can occur, for example, if a television seller repeatedly fails to fix a television, and becomes clear that the seller can’t or won’t fix it within a reasonable time. If a court won’t enforce the limitation or exclusive remedy, the parties go back to the general remedies given by the UCC.
Exclusion or limitation of consequential damages is likewise permitted unless the exclusion or limitation would be unconscionable. Under the UCC, for example, limiting or excluding consequential damages for personal injury in the sale of consumer goods is prima facie unconscionable. UCC § 2–719(3).