Prof. Romberg
Contracts II
Spring 2010
CHAPTER 6
IMPLED TERMS & THE OBLIGATION OF GOOD FAITH
A. The Rationale For Implied Terms
Implied in fact =Any term that the court finds “implicit” in the parties’ words or conduct even though not literally expressed by them.
Implied by law = A term that the court does not find in the parties’ agreement, even as broadly viewed, but that the court holds should be made part of the agreement by operation of the rules of law rather than by the agreement of the parties themselves.
Sources = statute, common law, or appropriate implication
Wood v. Lucy, Lady Duff-Gordon
Wood received the right for one year to endorse designs with Lucy’s name and to market all her fashion designs.
The contract was renewable on a year-to-year basis if not terminated by 90 days’ notice
Lucy was to receive one-half of the profits derived.
Wood claims that Lucy breached the contract by placing her endorsement on designs without Wood’s knowledge.
Lucy claims that the agreement lacked the elements of a contract as Wood was not bound to do anything.
Wood promised to make monthly accounting and to acquire patents and copyrights as necessary showed the intention of the parties that the promise has value.
Wood obviously had some duties
The promise to pay Lucy half the profits and make monthly accounting was an implicit promise to use reasonable efforts to bring profits and revenues into existence.
RULE = If a promise may be implied from a writing even though it is imperfectly expressed, there is a valid contract.
HOLDING = Wood had an implied promise to use reasonable efforts to place Lucy’s endorsement and market her designs. Lucy gave an exclusive privilege and the acceptance of the exclusive agency was an acceptance of Wood’s duties. Lucy’s compensation was the one-half profits resulting from Wood’s efforts. Without an implied promise, the transaction would not have the business efficacy as the parties must have intended.
· Implied promise = finding sufficient consideration for an express promise
o Uphold agreements which seem to be illusory
UCC 2-306 – (Output, Requirements, and Exclusive Dealings)
· A terms which measures the quantity by the output of the seller or the requirements of the buyer means such actual output or requirements as may occur in good faith, except that no quantity unreasonably disproportionate to any state estimate or in the absence of a stated estimate to any normal or otherwise comparable prior output or requirements may be tendered or demanded.
· A lawful agreement by either the seller or the buyer for exclusive dealing in the kind of goods concerned imposes unless otherwise agreed an obligation by the seller to use best efforts to supply the goods and by the buyer to use best efforts to promote their sale.
o Comment (5) = Under such contracts the exclusive agent is required, although no express commitment has been made, to use reasonable effort and due diligence in the expansion of the market or the promotion of the product.
§ The principal is expected to refrain from supplying any other dealer or agent within the exclusive territory.
o Avoid problems of mutuality of obligation.
Leibel v. Raynor Manufacturing Co.
Raynor orally contracted with Leibel to become an area-exclusive distributor of Raynor’s products.
Raynor terminated Leibel and Leibel sued, contending that reasonable notice was not given prior to termination.
RULE = Reasonable notification is required in order to terminate an ongoing oral agreement creating a manufacturer-distributor relationship.
HOLDING = The UCC should apply because goods are the main purpose of the relationship created was to promote the sale of goods (garage doors). Section 2-309 provides that where successive performances over an indefinite period of time are involved, reasonable notification of termination is required. The distributor undoubtedly incurs expenses in this type of relationship so it is not unconscionable to require reasonable notification.
UCC 2-309 – (Absence of Specific Time Provisions; Notice of Termination)
(1) The time for shipment or delivery or any other action under a contract if not provided in this Article or agreed upon shall be a reasonable time.
(2) Where the contract provides for successive performances but is indefinite in duration, it is valid for a reasonable time but unless otherwise agreed may be terminated at any time by either party.
(3) Termination of a contract by one party, except on the happening of an agreed event, requires that reasonable notification be received by the other party and an agreement dispensing with notification is invalid if its operation would be unconscionable.
B. The Implied Obligation of Good Faith
Once a contract is concluded, its terms will be deemed to include an obligation of good faith that is binding on both parties.
Merchants are also held to “the observance of reasonable commercial standards of fair dealing in the trade.” UCC 2-103(1)(b)
Good faith should mean the protecting of “reasonable expectations” of the contracting parties considered in light of the background practices and customs in which the agreement arose.
A party cannot undermine the spirit of the contract.
By enabling the party to realize gains that in making the contract he had implicitly agreed to surrender, or
By unfairly denying the other party the fruits of the contract that she reasonably expected to receive.
Good Faith/Fair Dealing does not deal with contract formation.
Deals with performance of contract.
UCC 1-304 – (Obligation of Good Faith)
Every contract or duty with the Uniform Commercial Code imposes an obligation of good faith in its performance and enforcement.
· Comment 1 = This section does not support and independent cause of action for failure to perform or enforce in good faith. Rather, this sections means that a failure to perform or enforce constitutes a breach of that contract and makes unavailable, under particular circumstances, a remedial right or power.
UCC 1-201 (20) – Revised Provision of Good Faith
“Good faith,” except as otherwise provided in Article 5, means honesty in fact and the observance of reasonable commercial standards of fair dealing.
§205 – (Duty of Good Faith and Fair Dealing)
Every contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement.
Seidenberg v. Summit Bank
· Seidenberg and Raymond owned brokerage firms which they sold to Summit Bank
o The agreement expressed the parties’ joint obligation to work together with respect to the future performance of the brokerage firms.
§ Seidenberg’s compensation was tied to the growth and success of the firms and this line of business at Summit.
o Seidenberg was terminated and brought a claim that Summit had breached the implied covenant of good faith and fair dealing by failing to support, and even by actively thwarting, the growth of the firms and business.
§ Did Summit ever have the intention to perform its side of the bargain?
RULE = A claim for breach of the implied covenant of good faith and fair dealing is not precluded because the parties possessed equal bargaining power, because the plaintiff was not financially vulnerable during the contract’s formation, and because the plaintiff negotiated the contract with assistance of highly competent counsel.
RULE = When a plaintiff asserts a claim of breach of the implied covenant of good faith and fair dealing, the parol evidence rule does not impact the plaintiff’s ability to substantiate claims of reasonable expectations arising from the contract or that the defendant failed to perform its contractual obligations in good faith.
RULE = A claim of breach of the implied covenant of good faith and fair dealing may not be dismissed where the complaint alleges facts that if proven true show that the defendant exercised a right to terminate in bad faith or used its discretionary rights to thwart the contract’s purpose.
RULE = Allegations of bad faith and ill motives are sufficient to survive dismissal where it is asserted that the plaintiff suffered from defendant’s actions that were “wanton and willful and without privilege or right.”
· The implied covenant is applied in three situations:
o Where the terms and conditions which have not been expressly set forth in the written contract need to be added to give effect to the parties’ expectations,
o Where there has been the bad faith performance of an agreement even when the defendant has not breached any express terms, and
o Where a party’s exercise of discretion expressly granted by a contract’s terms is in derogation of the parties’ expectations.
Comment: Requirements and Output Contracts
· The seller may undertake to supply all goods of a given type that the buyer may “require” during the term of their contract.
· The buyer may be obliged to buy all of the seller’s “output” of a given commodity.
· Consideration exists became of the commitment to either buy goods from the designated seller or not buy at all.
o An agreement that does not to some appreciable degree bind the buyer to buy only from the particular seller is likely to be viewed as invalid and unenforceable for lack of consideration or mutuality of obligation
o Court may find an implied promise of exclusivity that makes contract binding.
· A “ballooning” of demand by a requirements buyer is often held to be in bad faith.
· The UCC protects from a bad faith reduction in the buyer’s demands.
o A buyer may reduce its level of purchases even as long as it acts in good faith.
o A buyer that attempts to procure its requirements more cheaply elsewhere or with intent to harm the seller is clearly acting in bad faith.
o Termination of output by a seller will be judged in the same manner as reduction by the buyer.
· Good faith standard applies even if
ed from the writing due to mistake.
Done only by clear and convincing evidence that parties really did intend their written agreement to contain the term in question.
VERY HARD TO PROVE
Does not apply to evidence introduced to establish a collateral agreement between parties
§216(2) says an agreement will not be regarded as fully integrated if the parties have made a consistent additional agreement which is either agreed to for separate consideration or is “such a term in the circumstances might naturally be omitted from the writing.”
UCC 2-202(b) says consistent additional terms are only excluded if court concludes that such terms would “certainly have been included in the document” if they had been agreed upon.
Thompson (seller/plaintiff) v. Libby (buyer/defendant)
· Parties entered into agreement for sale of logs.
· Contract contained all necessary terms.
· Libby refused to pay for the logs and Thompson brought suit for the contract price.
o Libby defended on the basis of a parol contemporary warranty which was allegedly breached by Thompson.
o Trial court allowed this evidence and found for Libby; Thompson appealed
RULE = When a contract is complete on its face, parol testimony is inadmissible to vary its terms, such as warranties of quality.
RULE = For a collateral contract to be formed, it is necessary to show that the matter is collateral and would not normally have been included in the principal contract.
RULE = A finding of integration should always depend on the actual intent of the parties.
HOLDING = In the case of a sale of personal property, a warranty of quality is considered a part of the contract and not a collateral contract. Since a warranty is considered a contract term, it must be included in the contract. The contract here is complete on its face, so parol evidence of the warranty should not have been admitted. REVERSED.
Complete integration = a writing that is intended to be a final and exclusive expression of the agreement of the parties.
Partial Integration = a writing that is intended to be final but not complete because it deals with some but not all aspects of a transaction between the parties.
Merger Clause = states that the writing is intended to be final and complete because all prior understandings are deemed to have been merged into or superseded by the final writing.
Taylor (p) v. State Farm (d)
· Taylor was insured by State Farm when he was involved in an accident with two others cars.
· Other parties obtained $2.5million in excess of Taylor’s insurance policy limits.
· Taylor sued State Farm for bad faith, seeking damages for excess judgment
(a) Taylor claims State Farm improperly failed to settle within policy limits
(b) Judge found that the release signed by Taylor was ambiguous and therefore parol evidence was admissible at trial to aid in interpreting the release.
(c) TC granted Taylor $2.1million plus attorney’s fees; AP reversed.
RULE = A judge must first consider the offered evidence and, if he finds that the contract language is “reasonably susceptible” to the interpretation asserted by its proponent, admit the evidence to determine the meaning intended by the parties.
HOLDING = Because the legal character of bad faith was and is not universally established, the release reasonably could be interpreted as Taylor asserts. The trial court did not err in concluding that the text of the release did not necessarily cover claims for bad faith. Since interpretation was needed because the extrinsic evidence established controversy over what occurred and what inferences to draw from the events, the matter was properly submitted to the jury.
· Farnsworth = “plain meaning view”
o If a writing appears to be plain and unambiguous on its face, its meaning must be determined from the four corners of the instrument.
· Corbin = court may consider surrounding circumstances and all of the proffered evidence to determine its relevance to parties’ intent.
