January 15, 2013
Teaching Sales, Issue 1: Mixed Contracts Under the UCC
As indicated in Monday's post, I am teaching Sales for the first time this semester, and this is the first in what I hope will be a series of posts in which I highlight but do not resolve tricky issues addressed in the course.
The situation is quite common. A contract involves the provision of both services and goods: a construction contract covers both building supplies and labor costs; a medical contract covers both the costs of the surgery and the prosthetic device to be inserted in toto the body; a software company will both design and maintain the software, while also providing computer hardware to run it. Are these transactions covered under Article 2?
Most courts seem to favor a version of the "predominant purpose" test, although it goes by various names. In such cases, the court's analysis aims to determine whether the contract is predominantly one for goods or one for services. But what does it mean to have services of goods predominate? It could mean that the parties thought of the contract as one for good or as one for services, in which case the inquiry will largely turn on the parties' testimony, although if the contract is named "Sercies Agreement" or "Purchase Agreement" that might help. Or the court might have to look to which component counted for a larger portion of the contract price.
Contracts scholar and FOB (Friend of the Blog) Steven Feldman (pictured) has provided a more detailed account of the predominant purpose test including a list of factors that courts (in his example in Tennessee) weigh in appyling that test:
Where a contract has a mix of goods and services, relevant criteria for determining whether the UCC will control a contract will include the contract language, the nature of the seller's business, the reason for entering the contract, and the amounts charged under the contract for the goods and services.
Fleet Business Credit, LLC v. Grindstaff, Inc., 2008 WL 2579231 (Tenn. Ct. App. 2008). But the fact that the test is multi-factor and nuanced only renders it more problemmatic in my view, on which more below.
Other courts use the gravamen of the action test. They look not to what the contract as a whole was about but to whether the issues in the case relate to faulty service or faulty goods. So, for example, I am using the Whaley & McJohn casebook on sales, which includes a Maryland case about a faulty diving board installed as part of the installation of an in-ground pool. The case related not to the installation of the pool but to the design of the board, which was slippery on the end. The court applied the gravamen of the action test and found that the UCC applied.
The gravamen of the action test seems right to me, and I'm surprised that more states have not adopted it. Predominant purpose is vague and hard to apply, and it seems artibtrary that whether or not a contractor's work should be covered on a warranty should turn on whether 45% of 55% of the cost was related to the provision of goods. Moreover, the fact that a party sold a good as part of a services contract should not affect the warranties that run with the sale of a good. And on the other side, if there was a failure in the services provided in connection with a provision of goods, then the warranties that relate to the goods should not be relevant in an assessment of whether or not the service provider was at fault.
The gravamen rule also seems better to me in terms of putting the parties on notice of potential liabilities in store. Faced with a multi-factor test like the predominant purpose test, parties to mixed contracts cannot know in advance whether their contract will be governed by the UCC or not. If the gravamen rule applies, parties should always know that the UCC will apply to the goods portion of the contract. And if a service provider wants to protect itself from liability relating to the goods it installs, that legal certainty can be very valuable.
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I teach sales in Canada and sometimes use the UCC as a comparison point in my teaching. I have trouble with both the multifactorial predominant purpose test and the gravamen of the action test, for essentially the same reason, which is unpredictability. Commercial parties (I'm leaving aside consumer contracts for now) should be able to know ex ante what law will govern a dispute should one arise. The predominant purpose test is problematic for the reasons mentioned, and the gravamen of the action test still leads parties having to wait until a dispute arises and then consult a lawyer before they can even have a decent chance of knowing the score. My preferred test is the way that things have turned out under the UN Sales Convention (CISG). The CISG sets out a preponderant purpose test in Art. 3(2), but there's a reasonably consistent line of case law and commentary that predominant purpose should be measured according to a monetary value criterion. That is, if the sales part of the contract accounts for the majority of the purchase price, then the CISG applies; if the services account for the majority of the purchase price, then the CISG does not apply. The test is reasonably fair and, while it can sometimes be tricky to parcel out the price in a lump sum contract, any commercial party can apply the test without consulting outside counsel.
Posted by: Joshua Karton | Jan 15, 2013 9:33:49 AM
That method may well create certainty (although cost estimates may shift during performance), but it does so through a formalist rule that may not relate to the nature of the claim. Even if 70% of a contract price is accounted for by the price of the goods, why should Article 2 apply if the alleged problem is not with the goods but with the installation?
I think there is greater certainty with the gravamen test because the parties know for certain that Article 2 will apply if there is a problem with the goods and it won't apply if there is a problem with the services. They can then take precautions against, e.g., warranty liability on the goods (e.g. through an indemnification agreement with the manufacturer) and will not have to worry about such liability where it would not and should not apply.
Posted by: Jeremy Telman | Jan 15, 2013 3:58:05 PM