978-1285427003 Chapter 18 Lecture Note Part 2

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Additional Case: Hadley v. Baxendale1, p. 407

Facts: The Hadleys operated a flour mill in Gloucester. The mill’s crankshaft broke, causing the

mill to grind to a halt. The Hadleys employed Baxendale to cart the damaged part to a foundry

in Greenwich, where a new one could be manufactured. Baxendale promised to make the

delivery in one day, but he was late transporting the shaft, and as a result the Hadleys’ mill was

shut for five extra days. They sued, and the jury awarded damages based in part on their lost

profits. Baxendale appealed.

Issue: Should the defendant be liable for profits lost because of his delay in delivering the shaft?

Holding: Judgment for Hadley reversed. The defendant is not liable for lost profits. In one of

the most influential sentences ever written about a contract, Judge Alderson wrote:

Where two parties have made a contract which one of them has broken, the damages which the other party

ought to receive in respect of such breach of contract should be such as may fairly and reasonably be

considered either arising naturally, i.e. according to the usual course of things, from such breach of

contract itself, or such as may reasonably be supposed to have been in the contemplation of both parties, at

the time they made the contract, as the probable result of the breach of it.

Here, there was no evidence that the plaintiffs informed the defendant that the mill would have to

close if the shaft was delivered late, and that they would consequently lose profits.

It follows, therefore, that the loss of profits here cannot reasonably be considered such a consequence

of the breach of contract as could have been fairly and reasonably contemplated by both the parties

when they made this contract.

Question: Baxendale was obviously late in transporting the shaft. What is the dispute about?

Question: Why does Baxendale argue it would it be unfair to hold him liable for lost profits?

Question: Isn’t it obvious that the mill would have to close?

Answer: Not necessarily. Contract law presumes each party is looking out for its own interest and

Question: Judge Alderson establishes a standard for analyzing such cases. What is it?

Answer: The judge states that a court should apply one of two rules, depending on the facts. An

Question: What labels does the law put on the two types of damages that Judge Alderson described?

Answer: The damages occurring “naturally” are generally called compensatory (or direct) damages.

Question: According to the judge’s standard, what should Hadley have done when he entered this

contract with Baxendale?

Answer: Hadley should have told Baxendale that this was his only shaft, and that if it was delivered

Question: If Hadley had done that, would he have recovered his lost profits?

1 9 Ex. 341, 156 Eng. Rep. 145 Court of Exchequer, 1854

Question: Wouldn’t that be unfair to Baxendale?

Question: Where would that leave the parties?

Answer: It would put the issue of Hadley’s consequential damages on the table for the parties to

Reciprocal Promises and Conditions. A contract may provide a list of what each party promises to do.

In this format, each party is responsible for performance whether or not the other party breaches. These

provisions are reciprocal promises, which means that they are each enforceable independently.

The better approach is for the covenants to be conditional – a party agrees to perform them only if the

other side has first done what it promised.

Representations and Warranties

Covenants are the promises the parties make about what they will do in the future. Representations and

warranties are statements of fact about the past or present– they are true when the contract is signed (or at

some other specific, designated time)2.

Exam Strategy

Question: Producer does not want Artist to pilot an airplane during the term of the contract. Would that

provision be a warranty and representation or a covenant? How would you phrase it?

Strategy: Warranties and representations are about events in the past or present. A covenant is a promise

for the future. If, for example, Producer wanted to know that Artist had never used drugs in the past, that

provision would be a warranty and representation.

Result: A promise not to pilot an airplane is a covenant. The contract could say, “Until Artist completes

all services required hereunder, he shall not pilot an airplane.”

Boilerplate

These standard previsions are typically placed in a section entitled Miscellaneous; they play an important

protective role. In essence, boilerplate creates a private law that governs disputes between the parties.

Choice of Law and Forum. Choice of law provisions determine which state’s laws will be used to

interpret the contract. Choice of forum determines the state in which any litigation would take place. (One

state’s courts can apply another state’s laws.)

Modification. Contracts should contain a provision governing modification.

If a contract has a provision requiring that amendments be in writing, there are three ways to amend it:

Signing an amendment (or rider).

Crossing out by hand the wrong language and replacing it with the correct terms. It is good

practice for both parties to initial each change. This method is typically used before the document

is signed, say, at the closing if the parties notice a mistake.

Rewriting the entire contract to include the changed provisions. In this case, the contract is

typically renamed: The Amended and Restated Agreement. This method is most appropriate if

there are many, complex alterations.

2 Although, technically, there is a slight difference between a representation and a warranty, many lawyers confuse

the two terms and the distinction is not important. We will treat them as synonyms, as many lawyers do.

Assignment of Rights and Delegation of Duties. An assignment of rights is a transfer of your benefits

under a contract to another person, while delegation of duties is a transfer of your obligations.

Arbitration. Some contracts prohibit the parties from suing in court, and require that disputes be settled

by an arbitrator. Arbitration has its advantages – flexibility and savings in time and money. It also has

downsides.

Attorney’s fees. As a general rule, parties to a contract must pay their own legal fees, no matter who is in

the wrong. But contracts may override this general rule and provide that the losing party in a dispute pays

the attorney’s fees for both sides.

Integration. During contract negotiations, the parties may discuss many ideas that are not ultimately

included in the final version. The point of an integration clause is to prevent either side from later

claiming that the two parties had agreed to additional provisions.

Exam Strategy

Question: Daniel and Annie signed a contract providing that Annie would sell craft beers to Daniel’s

grocery stores at a price of $20 per case. During negotiations, Daniel and Annie agreed that the price

would go up to $22 per case once he had bought 1,000 cases. This provision never made it into the

contract. After the contract had been signed, Daniel agreed to a price of $23 per case once volume

exceeded 1,000 cases. The contract had an integration provision but no modification clause. What price

must Daniel pay for cases in excess of 1,000?

Strategy: If a contract has an integration provision, then side agreements made during negotiations are

unenforceable unless included in the written contract. Without a modification provision, oral agreements

made after the contract was signed may be enforceable.

Result: A court would not enforce the side agreement that required Daniel to pay $22 a case. It is possible

that a court would enforce the $23 agreement – which leaves Daniel with a choice of paying $23 a case or

the cost of having his lawyer defend a lawsuit.

Severability. If, for whatever reason, some part of the contract turns out to be unenforceable, a

severability provision asks the court simply to delete the offending clause and enforce the rest of the

contract.

Force Majeure. A force majeure event is a disruptive, unexpected occurrence for which neither party is to

blame that prevents one or both parties from complying with the contract. Force majeure events typically

include war, terrorist attack, fire, flood, or general Act of God.

Additional Note: Force Majeure Clauses

You are an executive vice-president of StikM, a company that manufactures various adhesive

products and sells them to manufacturers and retailers. Your company uses large quantities of

Apocryphonium, an essential chemical that is manufactured by only one corporation, ToxIck.

You are negotiating with ToxIck for a three-year requirements contract for Apocryphonium.

Question: First, a refresher: what is a requirements contract?

Answer: In a requirements contract, the buyer (StikM) agrees to purchase 100 percent of its needs for a

particular product from the seller (ToxIck). The seller agrees to supply whatever the buyer reasonably

needs.

Question: What problems might this force majeure clause cause you?

Answer: Its language is quite broad. Although such open-ended clauses are very common, you may

desire greater specificity. Exactly what are the “acts of God”—hurricanes? tornados? floods? blizzards?

Question: What steps can one take to protect against nonperformance based on force majeure?

Answer: Attempt to pass through the risk in contracts with your own buyers with a clause that

Notices. After a contract is signed, there may be times when the parties want to send each other official

notices – of a breach, an objection, or an approval, for example. In this section, the parties list the

addresses where these notices can be sent.

Closing. To indicate that the parties have agreed to the terms of the contract, they must sign it. A simple

signature is sufficient, but contracts often contain flourishes.

When a party to the contract is a corporation, the signature lines should read like this:

Company Name, Inc.

By:______________________

Name:

Title:

Multiple Choice Questions

1. In the Quake case, the appellate court ruled:

(a) The Letter of Intent was a valid contract.

(b) Letters of Intent are never a valid contract.

(d) The trial court had to determine if the Letter of Intent was a valid contract.

2. In the Cipriano case:

(a) The jury decided in favor of Cipriano because arson is vandalism.

(b) The jury decided against Cipriano because arson is not vandalism.

(d) The judge granted the motion for summary judgment because the contract was not ambiguous.

3. In the case of a scrivener’s error:

(a) A court will not reform the contract. The parties must live with the document they signed.

(b) A court will reform the contract if there is clear and convincing evidence that the clause in

question does not reflect the true intent of the parties.

in question does not reflect the true intent of the parties.

(d) A court will invalidate the contract in its entirety.

4. In the LeMond case, the court ruled:

(a) PTI’s failure to supply marketing and media plans was a material breach of the contract because,

without those plans, LCI could not monitor sales.

(b) PTI’s failure to supply marketing and media plans was a material breach of the contract because

PTI had agreed to supply the plans.

not enforceable because the term was ambiguous.

(d) PTI’s failure to supply marketing and media plans was not a material breach of the contract.

5. A contract states (1) that Buzz Co. legally exists and (2) will provide 2,000 lbs. of wild salmon each

week.

(a) Clause 1 is a covenant and Clause 2 is a representation.

(b) Clause 1 is a representation and Clause 2 is a covenant.

(d) Both clauses are covenants.

Essay Questions

1. List three types of contracts that should definitely be in writing, and one that probably does not need

to be.

Answer: Should be in writing: The sale of stock, a merger agreement, the sale of land, anything that

falls under the statute of frauds. Need not be in writing: an agreement with friends in which not much

2. Make a list of provisions that you would expect in an employment contract.

Answer: Duties, Status (job title), period of employment, full-time and energy, compensation – fixed

3. List three provisions in a contract that would be material and three that would not be.

4. Slimline and Distributor signed a contract providing that Distributor would use reasonable efforts to

promote and sell Slimline’s diet drink. Slimline was already being sold in Warehouse Club. After the

contract was signed, Distributor stopped conducting in-store demos of Slimline. It did not repackage

the product as Slimline and Warehouse requested. Sales of Slimline continued to increase during the

term of the contract. Slimline sued Distributor, alleging a violation of the agreement. Who should

win?

5. You Be the Judge: WRITING PROBLEM Chip bought an insurance policy on his

house from Insurance Co. The policy covered damage from fire but explicitly excluded coverage for

harm caused “by or through an earthquake.” When an earthquake struck, Chip’s house suffered no

fire damage but the earthquake caused a building some blocks away to catch on fire. That fire

ultimately spread to Chip’s house, burning it down. Is Insurance Co. liable to Chip? Argument for

Insurance Co.: The policy could not have been clearer or more explicit. If there had been no

earthquake, Chip’s house would still be standing. The policy does not cover his loss. Argument for

Chip: His house was not damaged by an earthquake, it burned down. The policy covered fire

damage. If a contract is ambiguous, it must be interpreted against the drafter of the contract.

Discussion Questions

1. In the movie contract, which side was the more successful negotiator? Can you think of any terms

that either party left out? Are any of the provisions unreasonable?

2. What are the advantages and disadvantages of hiring a lawyer to draft or review a contract?

Answer: Advantages: Lawyers understand the law. They can protect you against unexpected events in

the future. They can be the “bad guys” in negotiations – you can blame them for playing hardball.

3. What are the penalties if Artist breaches the movie contract?

Answer: Producer does not have to pay Artist any further compensation but Artist gets to keep what

he has been paid to date. No producer wants a reputation for playing hardball with an actor. (Note that

4. ETHICS In the Heritage case, the two companies had agreed to a price change of $0.01. When

Heritage’s lawyer pointed out to his client the change to $0.10, the Heritage officer did not tell Phibro.

The change was subtle in appearance but important in its financial impact. Was Heritage’s behavior

ethical? When the opposing side makes a mistake in a contract, do you have an ethical obligation to

tell them? What Life Principles would you apply in this situation?

5. Blair Co.’s top officers approached an investment bank to find a buyer for the company. The bank

sent an engagement letter to Blair with the following language:

If, within 24 months after the termination of this agreement, Blair is bought by anyone with whom

bank has had substantial discussions about such a sale, Blair must pay bank its full fee.

Is there any problem with the drafting of this provision? What could be done to clarify the language?

Answer: Answers will vary. This case ended up in litigation over the definition of the word