Monday, March 10, 2014
As the New York Times reports here, dancers with the New York City Ballet (NYCB) have been operating without a contract since the summer of 2012. No details of the agreement are available, beyond the fact that the dancers are guaranteed pay for 38 weeks of work now, up from 37.
A bit of quick internet research suggests that a member of the NYCB corps de ballet makes $1500 a week. Let's assume the new contract is more generous and round up to $2000/week. If they get paid for 38 weeks of work, that comes out to $76,000/year, which is a good salary in New York City, so long as you can share a studio apartment in an outer borrough with two or more other members of of the corps (or you can marry and investment banker). There was a bit of controversy about five years ago when tax returns for Peter Martins, the NYCB's Ballet Master-in-Chief, surfaced and revealed that he made about $700,000. Some of that money comes from royalties he earns on his choreographies. In any case, it seems that was considered a lot of money for a dancer.
To put that in some perspective, the median salary for an NBA player is $1.75 milion, if we include players on short-term contracts. The top salary exceeds $30 million, and the lowest salary, as of the 2011-12 season according to nba.com, was just under $500,000 for a rookie.
And now, here is the New York City Ballet performing an excerpt from George Balanchine's Agon
Friday, March 7, 2014
A New Mexico law permits a court to strike down as unconscionable arbitration agreements that apply only or primarily to claims that only one party would bring. That is, if an arbitration agreement is drafted so that one party always has to go to arbitration while the other party can always go to court, such an agreement may well be unconscionable. In THI of New Mexico at Hobbs Center, LLC v. Patton, a Tenth Circuit panel unanimously held that the Federal Arbitration Act (FAA) preempts the New Mexico law. The Court reversed the District Court's ruling and remanded the case for the entry of an order compelling arbitration.
Lillie Mae Patton's husband was admitted to a nursing home in Hobbs, New Mexico operated by THI. When he was admitted, he agreed to an arbitration clause that required "the parties to arbitrate any dispute arising out of his care at the home except claims relating to guardianship proceedings, collection or eviction actions by THI, or disputes of less than $2,500." After he died, Ms. Patton sued THI on behalf of his estate, alleging negligence and misrepresentation. THI brought a claim in the federal district court to compel arbitration. At first, the District Court granted THI the relief it sought, but it reversed itself when the New Mexico Supreme Court found an identical arbitration clause unconscionable in Figueroa v. THI of New Mexico at Casa Arena Blanca, LLC, 306 P.3d 480 (N.M. Ct. App. 2012).
The Tenth Circuit reviewed the legislative purposes underlying the FAA and the case law firmly establishing the view that arbitration agreements are to be enforced notwithstanding federal statutes that seemd to imply hostility to arbitration or state law invalidating arbitration agreements. While a court may invalidate an arbitration agreement based on common law grounds such as unconscionability, it may not apply the common law in a way that discriminates against arbitral fora. Assuming that the agreement did indeed consign Ms. Patton to arbitration while allowing THI to bring its claims in court, and accepting the Figueroa Court's holding that the agreement is unsconscionable, the Tenth Circuit found that "the only way the arrangement can be deemed unfair or unconscionable is by assuming the inferiority of arbitration to litigation." However, "[a] court may not invalidate an arbitration agreement on the ground that arbitration is an inferior means of dispute resolution. As a result, the Court found that the FAA precludes Ms. Patton's unconscionability challenge to the enforceability of the arbitration agreement.
The Court distinguished this case from a Fifth Circuit case, Iberia Credit Bureau, Inc. v. Cingular Wireless LLC, 379 F.3d 159, 168–71 (2004), in whichthe Fifth Circuit found an arbitration agreement to be unenforceable where one party's claims had to be arbitrated while the other's could be either litigated or arbitrated. On the Court's reading of the arbitration agreement, THI did not have the option of arbitrating its claims; it would have to go to court. Rather ominously, the Tenth Circuit expressed its doubt about the Fifth Circuit's reasoning in Iberia Credit that having the option to choose between arbitration and litigation was superior to having arbitration as the only option.
There is a remarkable formalism to the Tenth Circuit's opinion. Absolutely nothing that smells of denigration of arbitration is permissible. The Court does not inquire into what might have motivated THI to provide that it gets to go to court with its claims, while its patients have to go to arbitration. Given that THI drew up the contract, that seems a relevant line of inquiry. If THI exploited its superior bargaining power and knowledge to create an unreasonably lopsided agreement that would not be detectable by the average consumer, the arbitration agreement is unconscionable and should not be enforced. Refusing to do so is not a global rejection of arbitration but a recognition that both litigation and arbitraiton have their advantages and disadvantages. The Tenth Circuit's approach permits the party with superior bargaining power exploit its superior knowledge to extract benefits from form contracts to which the other party cannot give meaningful assent.
Monday, March 3, 2014
Contracts between credit card holders and card issuers typically provide for late fees and “overlimit fees” (for making purchases in excess of the card limits) ranging from $15 to $40. Since these fees are said to greatly exceed the harm that the issuers suffer when their customers make late payments or exceed their credit limits, do they violate the Due Process Clause of the Constitution?
They do not, according to the United States Court of Appeals for the Ninth Circuit (In re Late Fee & Over-Limit Fee Litig, No. 08-1521 (9th Cir. 2014)). Although such fees may even be purely punitive, the court pointed out that the due process analyses of BMW of North America v. Gore and State Farm Mut. Auto Ins. Co. v. Campbell are not applicable in contractual contexts, but only to jury-awarded fees. In Gore, the Court held that the proper analysis for whether punitive damages are excessive is “whether there is a reasonable relationship between the punitive damages award and the harm likely to result from the defendant's conduct as well as the harm that actually has occurred” and finding the award of punitive damages 500 times greater than the damage caused to “raise a suspicious judicial eyebrow”. 517 U.S. 559, 581, 583 (1996). The State Farm Court held that “few awards exceeding a single-digit ratio between punitive and compensatory damages … will satisfy due process. 538 U.S. 408, 425 (2003).
Contractual penalty clauses are also not a violation of statutory law. Both the National Bank Act of 1864 and the Depository Institutions Deregulation and Monetary Control Act provide that banks may charge their customers “interest at the rate allowed by the laws of the State … where the bank is located.” 12 U.S.C. s 85, 12 U.S.C. S. 1831(d). “Interest” covers more than the annual percentage rates charged to any carried balances, it also covers late fees and overlimit fees. 12 C.F.R. 7.4001(a). Thus, as long as the fees are legal in the banks’ home states, the banks are permitted to charge them.
Freedom of contracting prevailed in this case. But should it? Because the types and sizes of fees charged by credit card issuers are mostly uniform from institution to institution, consumers do not really have a true, free choice in contracting. As J. Reinhardt said in his concurrence, consumers frequently _ have to_ enter into adhesion contracts such as the ones at issue to obtain many of the practical necessities of modern life as, for example, credit cards, cell phones, utilities and regular consumer goods. Because most providers of such goods and services also use very similar, if not identical, contract clauses, there really isn’t much real “freedom of contracting” in these cases. So, should the Due Process clause apply to contractual penalty clauses as well? These clauses often reflect a compensatory to penalty damages ratio higher than 1:100, much higher than the limit set forth by the Supreme Court in the torts context. According to J. Reinhardt, it should: The constitutional principles limiting punishments in civil cases when that punishment vastly exceeds the harm done by the party being punished may well occur even when the penalties imposed are foreseeable, as with contracts. Said Reinhardt: “A grossly disproportionate punishment is a grossly disproportionate punishment, regardless of whether the breaching party has previously ‘acquiesced’ to such punishment.”
Time may soon come for the Supreme Court to address this issue, especially given the ease with which companies can and do find out about each other’s practices and match each other’s terms. Many companies even actively encourage their customers to look for better prices elsewhere via “price guarantees” and promise various incentives or at least matched, lower prices if customers notify the companies. Such competition is arguably good for consumers and allow them at least some bargaining powers. But as shown, in other respects, consumers have very little real choice and no bargaining power. In the credit card context, it may be said that the best course of action would be for consumers to make sure that they do not exceed their credit limits and make their payments on time. However, in a tough economy with high unemployment, there are people for whom that is simply not feasible. As the law currently stands in the Ninth Circuit, that leaves companies free to virtually punish their own customers, a slightly odd result given the fact that contracts law is not meant to be punitive in nature, but rather to be a resource allocation vehicle in cases where financial harm is actually suffered.
My student, Sam Henderson (who blogs here), directed my attention to this report on the Legal Informatics Blog about blockchain contracting and conveyancing systems. Blockchain technology is apparently one of the many things that makes Bitcoin transactions foolproof, genius-proof, and completely impervious to rampant speculation, financial catastrophe and the bankruptcy of major dealers in the virtual currency. So, like Bitcoin itself, applying blockchain technology could only democratize and decentralize commercial law, or so maintains this blog post on Thought Infection.
What a strange idea.
Contracts are private legislation. They are already about as democratic and decentralized as they could possibly be. Sure, they are governed by the relevant laws of the relevant jurisdictions, but blockchain technology would not change that. In any case, the law of contracts already permits the parties to choose the law that will govern them (within reason), so that's pretty decentralized and democratic.
What is not democratic and decentralized about commercial law is the fact that contracts tend to be drafted by the powerful and imposed upon people as take-it-or-leave it deals through form contracting. Given the complexity of the technologies associated with Bitcoin, it seems unlikely that adding layers of technology to commercial law would render it more democratic and less centralized.
Unfortunately, Thought Infection's post is misinformed about contracts. He writes
Whereas today contracts are restricted to deals with enough value to justify a lawyers time (mortgages, business deals, land transfer etc…), in the future there is no limit to what could be codified into simple contracts. You could imagine forming a self-enforcing contract around something as simple as sharing a lawnmower with your neighbor, hiring a babysitter, or forming a gourmet coffee club at work. Where this could really revolutionize things is in developing nations, where the ability to exchange small-scale microloans with self-enforcing contractual agreements that come at little or no cost would be a quantum leap forward.
Here are the problems with this as I see it:
- Contracts are not restricted; they are ubiquitous;
- Contracts do not require lawyers; they are formed all the time through informal dealings that are nonetheless legally binding so long as the requisite elements of contract formation are present;
- To some extent, Thought Infection's imagined contracts already are contracts, and to the extent that they are not contracts it is because people often choose to form relationships that are not governed by law (e.g., do you really want to think about the legal implications of hiring a baby sitter -- taxes, child-labor laws, workman's comp . . . yuck!); and
- Microloans are already in existence, and the transactions costs associated with contracts do not seem to be a major impediment.
Look, I'm not a Luddite (I blog too), but I also don't think that technology improves our lives with each touch. Technology usually makes our lives more efficient, but it can also make our lives suckier in a more efficient way. Technology does not only promote democracy and decentralization; it also promotes invasions of privacy by the panopticon state and panopticon corporations or other private actors, reification of human interactions, commidication and alienation. It has not helped address income disparity on the national or the global scale, ushered in an era of egalitarian harmony overseen by benevolent governments or pastoral anarchy.
As to contracts specifically, however, there are lots of ways to use technology that are available now and are generally useful. Last week, we discussed Kingsley Martin's presentation at KCON 9. Kingsley has lots of ideas about how to deploy technology to improve sophisticated contracting processes. But for the more mundane agreements, there is a nifty little app that a couple of people mentioned at KCON 9 called Shake. For those of you looking for a neat way to introduce simple contracts to your students, or for those of you who want to make the sorts of deals that Thought Infection thinks we need blockchain to achieve, Shake is highly interactive, fun and practical.
Friday, February 28, 2014
The Food and Drug Administration proposed big changes to nutrition labels on food packages. These changes would include putting calorie counts in large type. The serving sizes would also reflect typical serving sizes (meaning they will be bigger). The purpose of the redesign is to make certain information salient and to increase comprehension. Will it do so? There's evidence that lots of people already read nutrition labels (although apparently a lot of commenters at the NYT blog here don't). The redesign is intended to make it easier for those who already read labels to find the information they want (such as calorie count). What's interesting is that the goal here wasn't to improve reading of the labels - it was to make finding the information and understanding it easier for those who were already interested.
What does the revised nutrition label have to do with wrap contracts? Wrap contracts (browsewraps, clickwraps) are basically notices. Like nutrition labels, you take them or leave them. Will making information more salient increase reading? It has to - in other words, certain information (such as calorie count) can't be missed. But the goal isn't to increase reading. It's to increase awareness of certain information. By increasing awareness, the labels may encourage consumers who may not otherwise have cared, to pay attention to what's on the labels. But more importantly, it makes it harder for companies to get away with selling foods with excessive calories to unsuspecting consumers. For those suspecting consumers (those who know and don't care about calorie count), it does nothing and it's not intended to affect them. Furthermore, it may provide some marketplace incentives for companies to adjust their ingredients. As the NYT article notes, when the category for trans fats was added in 2006, it both raised consumer awareness and resulted in companies reducing or eliminating the ingredient from their food.
Wrap contracts, like nutrition labels, contain information that people care about but often can't find. It's clear, for example, that most people are starting to care about their online privacy. Privacy is the "calories" information. But it' s not easy to find out how companies are using personal information. Online privacy policies are densely written and typically hard to find, requiring several "clicks" to access. Why not have some "labeling" requirements for wrap contracts? It's high time that they had some sort of a redesign since consumers aren't reading them. I know many think disclosure requirements are a lost cause, but I'm not one of them. Naysayers always protest that consumers don't read terms, but that's because they're unreadable. Would requiring that terms be both salient and concise increase reading of terms? I think increasing reading as a goal is desirable but shouldn't be framed as the objective. The objective should be to increase the salience (prominence) of certain information. Increasing the prominence makes the information more relevant. This may ultimately increase reading, but that's not the goal (at least in my view). The goal is to heighten awareness of terms - that's different from encouraging consumers to read (which, given the state of contracts, is not efficient...) But in order for disclosure to work it has to be accompanied by redesign. The visual has to draw attention to the textul. Like nutrition labels, a redesign of wrap contracts is long overdue.
Some may say the new labeling won't work. The reason I think it will have a positive effect? Some food companies are already protesting. As my favorite nutritionist Marion Nestle (who likes the new labeling) said, the new labeling will be "wildly controversial." Nobody likes to draw attention to their flaws. Food companies are no exception.
Monday, February 17, 2014
Genuine, rigorous empirical analysis is always welcome in Contracts scholarship. It not only gives context to abstract principles, but also reminds us what is at stake. One of my favorite examples of empirical analysis in Contracts is Peter L. Fitzgerald’s 2008 article The International Contracting Practices Survey Project: An Empirical Study of the Value and Utility of the United Nations Convention on the International Sale of Goods (CISG) and the UNIDROIT Principles of International Commercial Contracts to Practitioners, Jurists, and Legal Academics in the United States. This is where many of us learned – or had our suspicions confirmed – that many practitioners and most judges were ignorant of the UN Convention on Contracts for the International Sale of Goods. In a broad 2006-2007 survey sampling practitioners, law professors, and state and federal judges in California, Florida, Hawaii, Montana, and New York, Professor Fitzgerald noted that U.S. practitioners reported relatively low levels of familiarity with the CISG (30 percent of reporting practitioners). Even more alarming was his finding that 82 percent of reporting judges indicated that they were “not at all familiar” with the CISG.
A fresh and thought-provoking example of empirical analysis has recently appeared, and every Contracts scholar and practitioner should be aware of it. Dysfunctional Contracts and the Laws and Practices That Enable Them: An Empirical Analysis features two empirical studies and an experiment that seem to have significant policy implications for contract law and consumer protection policy as applied to real estate transactions. These were designed and conducted by Professor Debra Pogrund Stark of John Marshall Law School, Dr. Jessica M. Choplin, a psychology professor at DePaul University, and Eileen Linnabery, a graduate student in industrial/organizational psychology at DePaul University.
The authors reviewed form purchase agreements used by condominium developers in Chicago, Illinois from 2003-2008, and found that 79 percent of the agreements contained what the authors considered “highly unfair, one-sided remedies clauses.” The form agreements provided that in the event of seller's breach, buyer's sole remedy was the return of the earnest money deposit., which did not cover any of the losses that would normally be the basis for relief in a breach of contract action, whether expectation damages, consequential damages, or reliance damages, or specific performance where that might have otherwise been warranted. In contrast, the contracts provided that in the event of buyer's breach, seller could retain buyer's deposit, typically between 5 and 10 percent of the purchase price. A survey of over one hundred attorneys in Illinois conducted by Professor Stark appears to corroborate the view that there were “serious problems with remedies clauses” in agreements like those in the Condo Contracts Study. The authors argue that these “dysfunctional contracts,” where the relatively more sophisticated party could deliberately default and terminate the contract with virtually no harm to itself, rendered the contracts “no true binding agreement from that party,” in effect unconscionable or illusory. It appears, however, that only a few Florida cases like Blue Lakes Apts., Ltd. v. George Gowing, Inc. and Port Largo Club, Inc. v. Warren have ruled such contracts to be illusory, whereas most state courts looking at the issue have so far rejected that argument.
One might wonder about the extent to which courts are influenced by the assumption that these were bargained-for terms, and to that extent should escape such attacks. The authors have something to say about this. They ran a “Remedies Experiment” to gauge non-lawyer awareness of the imbalance of such remedy clauses. They found what they considered “a widespread failure of the participants to understand the impact of this type of clause on their rights after a breach.” This empirical insight might put into question the assumption in many unconscionability cases that buyer understands the clear wording of such clauses and in fact bargained for the result. If this is simply not true – and if the contrary assumption is being relied upon strategically by professional sellers – then perhaps the traditional unconscionability test needs to be rebooted in the real estate development context.
The authors conclude that buyers need greater protection, and they advocate four legal reforms in this regard. First, they recommend revision of unauthorized practice of law rules to require attorney review and approval of home purchase contracts, specifically by attorneys specially trained and licensed for this type of representation. Second, they recommend legislation to prohibit remedies clauses that limit buyer remedies to return of deposit and that create safe harbor rules based on mutuality of remedy and true bargaining in the home purchase contract. Third, they argue for the replacement of the substantive unconscionability test for limitation-of-remedies clauses with a “reasonable limitation of remedy” test in the home purchase context. Finally, they recommend legislation mandating award of attorneys’ fees to the prevailing party in litigation involving enforcement of rights in the context of home purchase agreements.
Regardless of one’s assessment of the desirability of these suggested reforms – or of their practical and political possibility – the analysis in Dysfunctional Contracts is rigorous, provocative, and compelling. This is a “must read” piece of Contracts scholarship.
This afternoon, since school is out (for reasons that are unclear to us), my daughter is going with a group to a "famly fun center" featuring laser tag, a laser maze, go carts, bumper cars and something called the Sky Trail. The organization that is arranging the group outing sent me the fun center's standard waiver form which, not surprisingly these days, states that I waive any claims I might have against the fun center for, among other things, serious injury, including the death of my daughter while she does whatever one does on a Sky Trail, even if that serious injury or death is the result of the fun center's negligence.
I took the liberty of crossing out the offensive language, which I would hope would be unenforceable in any case. Since I will not be with my daughter when she hands in the waiver form, there will be nothing to do if the fun center refuses to accept it, but I am counting on them not noticing. I guess I will find out when she gets home and either tells me how awesome the Sky Trail was or slams her door and doesn't speak to me for a week.
The truth is, if my daughter were killed due to the fun center's negligence, a law suit would not improve my life in any way, help me heal or make me feel somehow that justice had been done. Wrangling over responsibility for her death would only prolong the agony of losing a child. Still, I cannot sign the form as is and it seems farcical to me to suggest that any parents would really want to turn their children over to the custody of strangers and then pardon those strangers in advance for their deadly negligence.
Thursday, February 13, 2014
This is the third in a series of posts commenting on the cases cited in Jennifer Martin's summary of developments in Sales law published in The Businss Lawyer.
Professor Martin discusses two Statute of Frauds (SoF) cases. The first, Atlas Corp. v. H & W Corrugated Parts, Inc. does not cover any new territory. The second, E. Mishan & Sons, Inc., v. Homeland Housewares, LLC, raises more interesting issues and is a nice illustration of the status of e-mails as "writings" for the purposes of the SoF. The latter does not seem to be available on the web, but here's the cite: No. 10 Civ. 4931(DAB), 2012 WL 2952901 (S.D.N.Y. July 16, 2012).
In the first case, Atlas Corp. (Atlas) sold corrugated sheets and packaging products to H & W Corrugated Parts, Inc. (H&W). Atlas invoiced H&W for $133,405.24, but H&W never paid. Eventually, Atlas sued for breach of contract. H&W never answered the complaint, and Atlas moved for summary judgment. Although the motion was unopposed, the court considered whether the agreement was within the SoF, as the only writings in evidence were the invoices, which were not signed by the parties against whom enforcement was sought. Having had a reasonable opportunity to inspect the goods and not having rejected them, H&W is deemed to have received and accepted the goods, bringing the agreement within one of the exceptions to the SoF, 2-201(3)(c). The contract is thus enforceable notwithstanding the SoF, and H&W, not having paid for the goods, is liable for breach.
Homeland Housewares LLC (Homeland) manufactures the Magic Bullet blender. Homeland entered into an agreement with E. Mishan & Sons, which the Court refers to as "Emson," granting Emson the exclusive right to sell Magic Bullet blenders (not pictured at left) in the U.S. and Canada. Between March 2004 and March 2009, Emson ordered well over 1 million blenders from Household. Although the price fluctuated, it was generally about $21/blender, and Emson paid a 25% up-front deposit. After 2006, the parties operated without a written agreement.
In 2008-2009, the parties agreed to change their arrangement. Household sold directly to Bed, Bath & Beyond, Costco and Amazon, but Emson sought to remain as exclusive distributor to all other retailers. Emson alleges that the parties reached an oral agreement for a three year deal, the details of which were included in an e-mail confirmation that Emson sent on April 2, 2009. Homeland's principal responded the same day in an e-mail stating that Homeland "will need to add some provisions to this. We will [g]et back to you .” Although further discussions ensued, the parties dispute whether the disputed terms were material.
In any case, the parties continued to perform. Emson sought a per unit price reduction as called for in the e-mail confirmation. Homeland refused, citing increased costs. Emson did not push the point. That fact might suggest awareness that there was no binding agreement, or it might just suggest a modification of the existing agreement, which is permissible without consideration under UCC 2-209 so long as the parties agree to it. In March 2010, Emson learned that Homeland was soliciting direct sales to retailers. The parties tried to hammer out a new deal but the negotiations failed. By June 2010, Homeland had taken over all sales of the Magic Bullet in the U.S. and Canada.
Emson sued, and Homeland moved for summary judgment, claiming that the parties had no contract because the SoF bars enforcement of any alleged oral agreement for the sale of goods in excess of $500.
As I have remarked before, I find it curious that courts automatically apply the UCC to distributorship agreements. In this case, if I understand how the transaction worked, Emson may have operated as a bailee for goods that it passed on to retailers. Since it was dealing with large merchants, it likely would only order blenders that it already intended to pass on to merchants. It was basically just a broker. The court might well find that, because of assumption of risk and perhaps other matters, this agreement was in fact one in which goods were sold from Homeland to Emson and then again from Emson to retailers. But it is also possible that the goods passed through Emson and went straight to the retailers, in which case, I'm not sure the UCC should apply. But the parties agreed that the UCC applies to distributorship agreements and the court went along with that. Whatever.
Relying on the merchant exception to the SOF in UCC 2-201(2), Emson characterizes its April 2, 2009 e-mail as a written confirmation sent to a merchant, recieved and not objected to within 10 days. If that exception applies, the parties had a binding agreement. But Homeland argues that its response, referencing additional provisions, was a sufficient objection to take it outside of the ambit of the exception. The court did not resolve that issue but found that material questions of fact remained. The court denied Homeland's motion for summary judgment.
Monday, February 10, 2014
Vonage America, part of Vonage Holdings with operations in the United States, Canada, and the United Kingdom, has encountered judicial hostility to the rather ungenerous arbitration provisions in its Terms of Service (“TOS”) agreement. See Merkin v. Vonage America Inc. A class action suit filed in California state court in September 2013 (and later removed to federal district court for the Central District of California) charges that Vonage, a voice over Internet company, billed its customers for a monthly “Government Mandated” charge of $4.75 for a “County 911 Fee,” despite the fact that no government agency mandated such a fee. The suit claims violations of the California Unfair Competition Law, Cal Bus. & Prof.Code §§ 17200, et seq., obtaining money under false pretenses contrary to Cal.Penal Code § 496, violations of the Consumer Legal Remedies Act, Cal. Civ.Code §§ 1750 et seq., fraud, unjust enrichment, and money had and received.
In December 2013, Vonage moved to compel arbitration under the mandatory arbitration provision in the TOS, and to dismiss or stay the case. Vonage contended that every customer who signs up for Vonage services is required to agree to the TOS as part of the subscription process, whether that process is performed online at Vonage's website, or by phone with Vonage sales personnel. The court considered it to be “of particular importance” that the TOS changed repeatedly since the two named plaintiffs signed up in 2004 and 2006. The April 2004 version provided
. . . Vonage may change the terms and conditions of this Agreement from time to time. Notices [of changes in the TOS] will be considered given and effective on the date posted on to the “Service Announcements” section of Vonage's website. . . . Such changes will become binding on Customer, on the date posted to the Vonage website and no further notice by Vonage is required. This Agreement as posted supersedes all previously agreed to electronic and written terms of service, including without limitation any terms included with the packaging of the Device and also supersedes any written terms provided to Retail Customers in connection with retail distribution, including without limitation any written terms enclosed within the packaging of the Device.
The court noted that Vonage modified the TOS 36 times between April 2004 and October 2013 without providing notice to its customers other than posting changes to the TOS on its website. And how it grew! The court estimated that the 2004 version consisted of some 7,500 words organized into 6 sections, while the current 2013 version consists of 13,000 words organized in 18 sections. Still, Vonage insisted that each version contained a mandatory agreement to arbitrate and a mutual waiver of the right to bring or participate in a class action. For example, the current version of the TOS contains a provision that states:
Vonage and you agree to arbitrate any and all disputes and claims between you and Vonage. Arbitration means that all disputes and claims will be resolved by a neutral arbitrator instead of by a judge or jury in a court. This agreement to arbitrate is intended to be given the broadest possible meaning under the law.
The current version of the TOS also contained language restricting the consumer from bringing claims “as a plaintiff or class member in any purported class or representative proceeding.” (The provision purported to restrict both the consumer and Vonage, but the operative language of the restriction clearly applied lopsidedly to the consumer.) Naturally, Vonage took the position that the TOS arbitration provisions covered the individual plaintiffs' claims and barred them from proceeding in a representative capacity.
In response, the plaintiffs argued that they never agreed to the TOS, but the court could not countenance this. Vonage had shown that service sign-up could not be completed, nor could a customer use the service, without accepting the TOS. The best the Plaintiffs could do was to say that they did not “recall ever clicking on an ‘I agree to the Terms of Service’ button, or something similar to that.” Clearly, this was insufficient in the face of clear design information. Further, if the argument is simply about never reading the clickwrap language, the court made it clear that “failure to read a contract is no defense to [a] claim that [a] contract was formed. Moreover, courts routinely enforce similar “clickwrap” contracts where the terms are made available to the party assenting to the contract,” citing Guadagno v. E*Trade Bank and Inter–Mark USA, Inc. v. Intuit, Inc.
The plaintiffs’ ultimate position, however, was that in any event the TOS was unconscionable, and therefore unenforceable under California law, relying on the Ninth Circuit’s 2013 decision in Kilgore v. KeyBank, Nat. Ass'n, which in turn relied upon the Supreme Court’s 1996 decision in Doctor's Assocs., Inc. v. Casarotto. The import of these cases was that generally applicable contract defenses – including fraud, duress, or unconscionability – were available to invalidate an arbitration agreement without contravening the mandate of the Federal Arbitration Act to counteract “widespread judicial hostility to arbitration agreements” and to reflect “a liberal federal policy favoring arbitration,” as the Supreme Court noted in its 2011 decision in AT&T Mobility LLC v. Concepcion.
On the issue of unconscionability, the parties launched into an extended debate as to which version of the TOS was relevant to the argument – the version as of the date of sign-up, or the current version, which was arguably more “consumer friendly.” The court swept all of this aside, declaring that it was “not necessary to resolve which version of the TOS controls for purposes of the unconscionability analysis. Even assuming that Vonage is correct and the current (allegedly more consumer-friendly) TOS is the salient version of the TOS, the Court finds that . . . the arbitration agreement contained in the current TOS is unconscionable.” Hence, the court assumed for purposes of its analysis and explanation that the current TOS governed.
Unlike the situation in Rent–A–Center, West, Inc. v. Jackson, the TOS did not include any provision “delegating” the issue of unconscionability to the arbitrator, despite the language giving the arbitration agreement “the broadest possible meaning under the law.” The court therefore proceeded with its own analysis. It began with the basic proposition that, per Kilgore, to be considered invalid under California law a contract must be both procedurally and substantively unconscionable. As to procedural unconscionability, the court found that the TOS evinced “a substantial degree of both oppression and surprise.” There was no dispute that the TOS was a contract of adhesion, which was the threshold inquiry. The consumer was confronted with the TOS during sign-up, and there was no real choice or possibility of negotiation. The consumer “must either accept the TOS in the entirety, or else reject it and forego Vonage services.” While there is support in older California case law for the proposition that adhesion and oppression are not identical (see, e.g., Dean Witter Reynolds, Inc. v. Superior Court), recent Ninth Circuit case law on the subject argues that contracts of adhesion are per se oppressive. See Newton v. Am. Debt Servs., Inc. Beyond this, the court found other clear features of oppression – the company’s unilateral ability to modify the TOS, “the largely unfettered power to control the terms of its relationship with its subscribers,” the lack of any “balance of bargaining power” – and concluded that the TOS involved a high degree of oppression.
The second factor in procedural unconscionability analysis is the question of surprise. The court was quick to emphasize that “surprise is not a necessary prerequisite for procedural unconscionability where, as here, there are indicia of oppressiveness,” citing the 2004 California case Nyulassy v. Lockheed Martin Corp. However, the court did find that there were significant features of surprise – arbitration terms buried within a lengthy contract, no separately provided arbitration agreement, no requirement that consumers separately agree to the agreement – although there was a TOS table of contents and a bolded, cautionary instruction introducing the provision. On balance, however, the court considered the finding of surprise to be “augmented by Vonage's repeated modification of the TOS” in 36 versions updated without any prior notice to the consumers. This led to a strong showing of surprise, and the court concluded that “[b]ecause the arbitration provision involves high levels of both oppression and surprise, the Court finds a high degree of procedural unconscionability.”
As to substantive unconscionability, the court’s view of the pertinent case law was that an arbitration provision was substantively unconscionable if it was “overly harsh“ or generated “one-sided results.” The court found that the TOS lacked mutuality – while purporting to require arbitration of “any and all disputes between [the consumer] and Vonage,” the TOS actually carved out exceptions for any type of claim likely to be brought by Vonage, for example, small claims, debt collection, disputes over intellectual property rights, claims concerning fraudulent or unauthorized use, theft, or piracy of services. Accordingly, the court concluded that the arbitration provision lacked even a “modicum of bilaterality,” and was therefore substantively unconscionable. Given the high degree of procedural unconscionability as well, the court found that the arbitration provision was unconscionable.
For several reasons, severance of the offending features was not appropriate. The high degree of procedural unconscionability tainted “not just the specific carve-out provision, but also the TOS and arbitration provision more generally.” Furthermore, previous versions of the TOS as well contained a variety of provisions that were likely to operate in an unconscionable way – a forum selection provision likely to be extremely inconvenient for consumers, restrictions on the ability of arbitrators to award relief to consumers, a shortened limitations period. Finally, the repeated modifications of the TOS made it difficult for the court to determine “what the TOS would look like in the absence of the offending provision.” In light of the repeated modification of the contract, it was unclear what contractual relationship could or should be conserved.
Two final points of general application are worth noting. First, the implications of the case suggest a broader impact on the telecommunications sector generally. Vonage had tried to argue that the contract was not oppressive because the plaintiffs had the option to procure telecommunications services from other providers, and thus had meaningful alternatives to contracting with Vonage. The court found this argument unpersuasive, and observed, somewhat ominously,
Vonage presents no evidence that plaintiffs in fact had meaningful alternatives to agreeing to arbitrate their claims. At most, Vonage presents evidence that the telecommunications market is competitive. . . . But Vonage does not demonstrate that plaintiffs could have procured equivalent telecommunications services from these competitors without being required to sign a similarly restrictive arbitration agreement. Indeed, as Vonage itself points out, “a ‘sizable percentage’ of [telecommunications and financial services companies] use arbitration clauses in [their] consumer contracts.” . . .
One might well wonder who among Vonage’s competitors will be next up for a class action challenge. Will they be “vonaged” as well?
Second, the Merkin decision may raise questions about the effectiveness of ostensible “opt-out” provisions that on-line providers tout in anticipation of criticism of their subscription practices. Vonage tried to argue that the TOS was not oppressive because a provision gave subscribers the possibility of opting out of any substantive change to the arbitration provision, through the transmittal of an “opt-out notice” within thirty days of the time the TOS was modified. The Court found this claim to be unpersuasive in the absence of prior notice. As the court explained,
Vonage did not provide separate notice to its subscribers when modifying the TOS; modifications were instead effective at the time they were posted to the Vonage website. As such, opting out would require a subscriber to constantly monitor the Vonage website for modifications to the TOS in order to ensure that the brief thirty-day window did not elapse. Indeed, Vonage itself appears to admit that no Vonage subscriber has ever availed himself of the thirty-day opt-out. . . . In such circumstances, the right to opt-out does not act as a meaningful check on Vonage's power to unilaterally impose modifications on its subscribers and provide subscribers with a meaningful opportunity to avoid the impact of those modifications.
Should the Merkin court’s view of the linkage between prior notice, opt-out, and validity become widely endorsed, online merchants might well find themselves in the shocking position of being required to provide meaningful notice to their consumers if they wish to continue to oppress them. Would this be crazy . . . or crazy generous to consumers?
Thursday, February 6, 2014
This is the fifth in a series of posts that draw on Michael Dorelli and Kimberly Cohen's recent article in the Indiana Law Review on developments in contracts law in Indiana.
Defendant Dean V. Kruse Foundation (Kruse) operates a World War II and automobile museum in Auburn, IN. It owned a property, but it could not generate sufficient income on the property to meet expenses, and so it sought to sell the property. Plaintiff Jerry Gates (Gates) eventually purchased the property at auction for $4.2 million.
The Purchase Agreement required a deposit of $100,000 in earnest money. After voicing concerns about the property's condition and title, Gates terminated the Purchase Agreement. Kruse threatened that it would seek specific performance. Eventually, it sold the property to a third party for $2.35 million.
Gates eventually sued Kruse and its realtor for breach of contract, fraud and conversion. Kruse counterclaimed for breach of contract and slander of title. The trial court granted summary judgment to Gates and ordered Kruse to return the earnest money with interest. The Indiana Court of Appeals reversed and remanded with instructions to enter summary judgment in favor of Kruse and to hold a hearing on damages. At that hearing, Kruse sought damages of about $2.5 million plus prejudgment interest. The damages represented the difference between the contract price and the price on resale. Kruse also sought a $200,000 buyer's premium that was part of the Purchase Agreement, but was willing to set off the $100,000 earnest money against the amount owed.
The trial court determined that the provision for $100,000 in earnest money was a liquidated damages clause. Kruse had the additional option of suing for specific performance, but it did not do so. The trial court therefore held that its dmaages were limited to the $100,000. Kruse appealed. In Dean V. Kruse Foundation v. Gates, the Court of Appeals once again reversed the trial court and remanded with instructions.
Kruse argued that the liquidated damages clause was in fact an impermissible penalty clause, among other reasons because the Purchase Agreement provided for specific performance. Under Indiana Law, "liquidated damages clauses are generally enforceable where the nature of the agreement is such that damages for breach would be uncertain, difficult, or impossible to ascertain." After reviewing relevant precedents, the Court of Appeals concluded that the clause at issueindicated an intent "to penalize the purchaser for a breach rather than an intent to compensate the seller in the event of breach." The first prong of the test thus suggested a penalty clause.
The Court next considered whether the alleged penalty was disproportionate in relation to the amount to be lost in case of breach. The Court could not determine whether it was at the time Gates bid on the property. Liquidated damages clauses are used where the potential harm is uncertain. So, the question was whether or not damages were uncertain. Incredibly, the Court of Appeals found that they were not, because there was expert testimony presented that the market value of the property at the time of the breach was $3.5 million.
Huh? The property sold once for $4.2 million and then again for $2.35 million. Since the parties could not know in advance when a breach would occur, and factual record reveals that the value of the property fluctuated considerably, to say that the parties could have known in advance the harm that would result from a breach seems quite fanciful. Nevertheless, the Court of Appeals struck down the earnest money provision as a penalty clause.
Kruse also argued on appeal that its remedies were not limited to the liquidated damages provision and specific performance. The Court agreed, since the parties had not expressly limited their remedies.
The outcome of the case is that Kruse retained all of its contractual remedies except for the two clearly provided for in the Purchase Agreement: the earnest money, which was struck down as a penalty, and the right of specific performance, which Kruse chose not to exercise. This all seems quite backwards. If it was a penalty clasue, it was a penalty clause that protected Kruse's interest in forcing Gates to stick with the deal. If the penalty proved inaccurate, it seems quite odd that Kruse should have standing to argue that the penalty it imposed was inappropriate. I have never heard of a penalty clause being struck in favor of a claim for damages 25 times higher than the alleged penalty.
The case was remanded back to the trial court again for a calculation of damages.
Monday, February 3, 2014
We learn more about public policy limits on enforcement of arbitration clauses in a January 2014 ruling of the SDNY in National Credit Union Admin. Bd. v. Goldman, Sachs & Co. The case is a $40 million suit filed in September 2013 by the National Credit Union Adminsitration as Liquidating Agent of failed credit unions Southwest Corporate Federal Credit Union and Members United Corporate Federal Credit Union. A spinoff from the capital markets collapse of 2008, the complaint alleges that Goldman, Sachs – through GS Mortgage Securities Corp. – misrepresented the quality of securities sold in 2006 and 2007 to the two credit unions, in violation of sections 11 and 12(a)(2) of the Securities Act of 1933, 15 U.S.C. §§ 77k, 77l(a)(2), and the Texas Securities Act, Tex.Rev.Civ. Stat. Ann. art. 581, § 33 (2013).
Goldman’s immediate response was to move for an order to compel arbitration, based on arbitration provisions in a 1992 cash account contract between Goldman and Southwest that appeared to govern “any controversy” between the parties. Citing 12 U.S.C. § 1787(c), the NCUA had repudiated the Cash Account Agreement between Southwest and Goldman Sachs. The court found that the NCUA had met the requirements of the statutory provision, and therefore the agency had broad authority to repudiate contracts that might burden its administration of a troubled credit union. Accordingly, the court denied Goldman’s motion.
While this ruling is certainly consistent with growing policy skepticism about arbitration clauses discussed in an earlier Global K post, we need to keep in mind what the ruling does and does not represent. First, it is by no means the final word in this litigation. As the court noted in passing, Goldman had expressly reserved the right to file a motion to dismiss in the event that the court rejected the motion to compel arbitration. There is no reason to doubt that such a motion will be forthcoming.
Second, we should not over-read the ruling as a repudiation of arbitration clauses. In the course of its discussion, the court was careful to note the strong policy of the Federal Arbitration Act (FAA) “to counteract ‘widespread judicial hostility to arbitration agreements’ and [to] reflect ‘a liberal federal policy favoring arbitration,’ ” quoting AT&T Mobility LLC v. Concepcion.
Nevertheless, the ruling does accord considerable credibility to the position that, despite the strong and longstanding FAA policy in favor of arbitration, a broad arbitration clause frustrates supervisory efforts to resolve institutional failures and should not be enforced in a financial institutions receivership. This observation leads to the third point to be noted – that in a regulated industry, contract law expectations skew in favor of overarching supervisory policy. Like the corresponding policy that applies to failed banks in FDIC receivership under 12 U.S.C. § 1821(d) and § 1823(e), § 1787(c) allows the NCUA as conservator or liquidating agent to “disaffirm or repudiate” any contract or lease of which the failed credit union is a party, if the conservator or liquidating agent determines in its discretion that the performance would be “burdensome” to it, and the disaffirmance or repudiation would “promote the orderly administration of the credit union's affairs.” Significantly, the Second Circuit has long taken the same position as National Credit Union Administration in cases dealing with bank receiverships. See, e.g., Resolution Trust Corp. (“RTC”) v. Diamond, 45 F.3d 665, 670 (2d Cir.1995); Westport Bank & Trust Co. v. Geraghty, 90 F.3d 661, 668 (2d Cir.1996). While the credit union statute allows for claims for damages for the contract repudiation, such claims are “limited to actual direct compensatory damages,” and expressly exclude claims for “lost profits or opportunity.” We must await further developments in this litigation to assess how far contracts principles skew in favor of supervisory intervention.
Tuesday, January 28, 2014
Last week, Myanna Dellinger posted about tipping and Uber. One piece of information she provided in that post that was new to me was that servers were tipped only about 10% on the West Coast until about ten years ago. It seemed odd to me that there should be a more stingy tipping culture in the West. After all, one does not imagine Hollywood players threatening one another with "You'll never tip 10% in this town again."
Yesterday's New York Times provides a timely explanation of this anomaly. It turns out, tips may be lower on the West Coast because wages are higher. While the federal minimum wage for waiters who earn tips is only $2.13, states are free to mandate higher miniumum wages, and states in the West are most likely to do so. In Washington State, a waiter's base pay is $9.32/hour.
Myanna has lived in Europe so she knows that the real solution to the problem is to pay servers a living wage. If restaurant patrons want to reward them for especially fine service, they are welcome to do so, but with many servers living below the poverty line, they should be protected against economic surges and depressions that are beyond their control.
The restaurant industry protests against any rise in the minimum wage and is fighting legislation supported by the Obama administration that would incrementally increase the minimum wage for tip-earners to $7.25/hour. But restaurants can learn from cabbies. Pass increased costs onto customers by increasing menu prices, but then recommend that patrons tip only 10%. Across the nation, people with math phobia will delight in the ease of calculation.
Myanna's post about Uber got me thinking about a recent trip to New York City. New York City was the first city in which I took the occasional cab. I went to college and to law school there. When I was in college, some kindly relative told me that cabbies should get a 10% tip, and I have lived by that ever since. Turns out my kindly relative was a cheapskate.
As this article from The New York Times from about a year ago indicates, as early as 1947, cabbies expected at least 12½%, and until recently average tips exceeded 20%. Tips have come down as fares have gone up, and as of a year ago they averaged just over 15%.
New York City cabs are now equipped with credit card readers that offer riders the option to leave a tip. The reader will automatically add a tip, and it gives riders the option of tipping 15%, 20% or 25%. Behavioral economics suggests that most people will choose the middle one, and so it seems that the aim of the screen is to get cabbies' tips back up to where they were before the fares increased. When I saw these three options, I felt oppressed and manipulated, since I was still operating on the assumption that 10% is what is expected. Now I feel guilty that I did not tip more reasonably. In my own defense, I didn't save myself any money, since the my law school reimbursed me for my travel expenses on that trip. So you see, I wasn't being cheap; I was being a responsible steward of my law school's resources. But no more stingy tips for me.
I am a work in progress. I was as astonished as was Jerry Seinfeld (the character) to learn that chambermaids expect $5 a night (see the scene below, starting about 1:40 in).
Ann Landers is an even bigger cheapsake than my relative. Before we saw this, I would tip $2 a night, and I still think $5 a night is rather high. After all, Jerry Seinfeld (the character) is an experienced traveler, and he seems pretty free with his money. If he gives $1, $2 seems okay. But my wife and daughter agree with the suspected serial killer. Five dollars it is. It would have been interesting to see if chambermaids noticed an increase in generosity following the airing of this episode. And I wonder if they now wish that cable channels would stop showing Seinfeld reruns. The episode is now at least fifteen years old, so if $5 a night was a good tip then, one should expect $10 /a night now.
Monday, January 27, 2014
Offshore friends and colleagues are often confused or frustrated by the U.S. approach to resolving financial exploitation or manipulation of consumers. Why is it assumed that private remedies are the appropriate response to such pervasive problems, they ask. How is it that U.S. consumer protection law is so often merely a matter of perfunctory disclosures that noone reads, they complain. Certainly, much of the run-up to the capital markets collapse of 2008 involved rather blatant abuse of consumers, but when the Great Reccession emerged, only the high end of the economy received massive government support, while affected mortgagors were left largely to whatever remedies or defenses they could fashion from applicable transactional law. One might legitimately wonder at these official responses.
A recent decision, In re Late Fee and Over–Limit Fee Litigation, issued by the Ninth Circuit on January 21, 2014, offers an interesting variation on this problem. The case also highlights the limits of ordinary principles of contract law in addressing contemporary issues of consumer protection.
A group of credit cardholders, who had allegedly paid excessive late fees and over-limit fees to issuing banks, brought a class action against the issuers, claiming on a flurry of legal grounds that the fees should not be enforceable. Some of these grounds were regulatory. Others sought to align the judicial treatment of torts remedies with that of contracts remedies. Among other things, the plaintiffs argued that the fees violated usury limits under the National Bank Act, 12 U.S.C. §§ 85–86, or were otherwise excessive under the corresponding provisions of the Depository Institutions Deregulation and Monetary Control Act (“DIDMCA”), 12 U.S.C. § 1831d(a), which applied to state-chartered, FDIC-insured banks. Even if seemingly in compliance with these regulatory statutes, plaintiffs asserted, the fees were so excessive as to be unconstitutionally punitive. They also made a try at arguing that the issuing banks had conspired to fix prices and maintain a price floor for late fees in violation of the Sherman Act, 15 U.S.C. § 1 et seq. Furthermore, the plaintiffs alleged, the fees violated the California Unfair Competition Law, Cal. Bus. & Prof.Code § 17200 et seq.
The district court found it hard to accept these challenges given the routine practices of the issuers. In accordance with federal law, the fees had been disclosed in the contracts between the issuers and the cardholders, and were fairly uniform and typically between $15 and $39 – amounts that the plaintiffs argued still vastly exceeded the harm the issuers actually suffered when their customers charged beyond their credit limits or made late payments. The Northern District of California dismissed the action for failure to state a claim.
On appeal, the cardholders argued that the fees should be treated like the punitive damages that were subjected to substantive due process limits in the Supreme Court’s 1996 decision in BMW of North America, Inc. v. Gore and its 2003 decision in State Farm Mut. Auto. Ins. Co. v. Campbell. Hence, even if permitted by federal regulatory law, the fees should be refused enforcement on constitutional grounds. Nevertheless, the Ninth Circuit affirmed, holding that substantive due process principles – developed in the context of jury-awarded punitive damages in tort cases – did not apply to liquidated damages clauses in contracts cases. As the court explained, “[t]he jurisprudence developed to limit punitive damages in the tort context does not apply to contractual penalties, such as the credit card fees at issue in this case.” It also held that the banks could not be liable for excessive charges under the state unfair competition law, since the late fees and over-limit fees were charged by banks in conformity with federal law. As Judge Nelson observed in her opinion for the court, “[b]ecause we conclude that the issuers' conduct did not violate the National Bank Act or the DIDMCA, there is no derivative liability under the Unfair Competition Law.”
Judge Nelson recognized that the case turned on the relative similarities and differences between liquidated damages and punitive damages. It is a commonplace of contracts remedies that “liquidated damages” are enforceable if the damages are likely to be difficult to determine at the time of agreement and the liquidated sum represents a good faith effort by the parties to quantify. See, e.g., UCC § 2–718(1). However, if the liquidated damages provision were “unreasonably large,” it would be treated as an unenforceable penalty.
Judge Nelson also acknowledged that “[l]ike the common-law rule against contractual penalty clauses, punitive damages have an ancient provenance.” The key to the case was the plaintffs’ attempt to meld these two historical traditions to invalidate otherwise enforceable contractual fees, on a constitutional basis. This the court refused to do. “[C]onsidering that the penalty clauses at issue originate from the parties' private – albeit adhesive – contracts, they are distinct from the jury-determined punitive damages awards,” Judge Nelson concluded. “Adhesive” though the contracts may be, the court was not prepared to invalidate fees ostensibly permitted by federal law.
Ironically, the problem seems to be that contracts law had already long assimilated excessiveness as a ground for unenforceability of a penalty clause without the invocation of due process notions. Hence, if a regulatory statute interevened – as the National Bank Act and DIDAMCA provisions arguably had – to permit a standardized fee that might otherwise be argued to be excessive, the question was whether a litigant could resuscitate the excessiveness argument with a jolt of due process. The basic reason for not exploring this possibility is that this had only been done in tort remedies theory, not contracts.
I am not sure that that is a very compelling reason. Apparently, neither did the Ninth Circuit. Judge Reinhardt concurred in the judgment “reluctantly.” In his view, the Supreme Court would be “well advised” to apply the prinicples of BMW of North America, Inc. and State Farm Mut. Auto. Ins. Co. “to prevent disproportionate penalties from being imposed on consumers when they breach contracts of adhesion.” He reluctantly admitted that the opinion of the court was correct in recognizing that due process constraints in the Constitution had not yet been interpreted so widely, but he gave a stirring and persuasive analysis of why it should be.
Judge Reinhardt’s separate opinion deserves the serious attention of contracts scholars and practitioners, as a possible map of future developments. Apparently, Judge Nelson, the author of the court’s opinion, agrees with me, because – in an extraordinary gesture – Judge Nelson also wrote separately to join Judge Reinhardt's concurrence, “although [she] agree[s] that the district court reached the correct result under currently applicable law and should be affirmed.” Are they suggesting the need for further judicial review?
Last week, we noted Michael Dorelli and Kimberly Cohen's recent article in the Indiana Law Review on developments in contracts law in Indiana. This week, we will be summarizing some of the important cases discussed in that article.
East Porter County School Corporation v. Gough, Inc. is a pretty typical bid case. Gough, Inc. (Gough) submitted a bid of around $3 million to the East Porter County School Coporation (the County) on some additions, presumably to school buildings. Just after the deadline for the submission of bids, but likely before the bids were unsealed, Gough tried to withdraw its bid, claiming that its bid was the result of an inadvertent clerical error. One month later, the County awarded the contract to Gough. Gough's president notified the County that the bid was incorrect and stated that Gough would not accept the contract. Gough returned the contract to the County unsigned.
When the County tried to enforce the contract, Gough brought suit, seeking a declaration that its bid be rescinded and its bid bond released. The County counterclaimed, alleging breach of contract by both Gough and its bid bonding agency, Travelers Casualty and Surety Company of America (Travelers). The trial court granted the Gough and Travelers summary judgment, citing a 1904 case that permitted excuse of a contractor's bid based on mistake.
The law in Indiana excuses bids based on mistakes in calculation or clerical errors but not based on errors in judgment. Gough's presidnet submitted an affidavit in which he stated that on the day that Gough submitted its bid, its total of the bids of its subcontractors and its own cost estimates came to just over $3.3 million. "For psychological reasons," Gough wanted to get the bid below $3.3 million, but they spoke of trying to get to 299 or 2998. They thus mistakenly wrote down a bid of $2.998 million, which they then arbitrarily cut down to $2,997,900, when they apparently intended $3,299,700. Gough then quickly realized that the error would result in a $200,000 loss on the project, so Gough attempted to pull the bid.
The Court of Appeals found that, as a result of the error, the minds of the parties never met and the County "would obtain an unconscionable advantage" as a result of Gough's mistake. Because Gough timely notified the County of the mistake, the County was not in any way harmed by its withdrawal of its bid. As a result, the Court ruled that the County had no right to enforce Gough's erroneous bid, nor did Traveler's have any obligation to pay its bid bond.
I have no problem with this result, but the "meeting of the minds" language strikes me as misplaced in this context. Many contracts professors dislike the phrase "meeting of the minds" because it suggests that subjective agreement on terms is what is required when the test for whether or not a contract formation is objective. Twenty bishops could attest to Gough's president's veracity and still he would be bound if a contract had actually been formed. But here no contract was formed because the bid was withdrawn before it was accepted. In this circumstance, courts should really only ask two questions. First, was the bid irrevocable? If so, Gough should bear the burden of its own mistake -- and the existence of the bond suggests that the parties have allocated the burden. If not, the second question is whether the bid was relied upon, and it was not. So really the case should turn on whether or not the bid was irrevocable and not on whether the parties "minds" met or on how the court categorizes Gough's mistake.
This is not to find fault with the Court in this case, which simply followed Indiana precedent. But the case nicely illustrates the difficulties in distinguishing between clerical or calculation errors and errors of judgment. Sure, Gough's principals made a clerical mistake reducing their bid by $330,000 when they meant to reduce it by only $30,000, but one could also argue that the decision to reduce the bid is a judgment, especially when one does so for "psychological reasons." Once they made the decision to reduce their bid, the fact that they committed a clerical error in carrying out that judgment is epiphenomenal.
Monday, January 20, 2014
In the mid-1990s, the Walt Disney Company hired Michael Ovitz to be its #2 executive. After slightly over a year in the position, Disney's Board of Directors fired Ovitz, having determined that he was an ineffective executive for the company. He received over $100 million in severance pay. After years of litigation, the Delaware courts found that Disney's Board of Directors did not breach its duty of care in approving an excecutive compensation scheme that made Ovitz better off for having been terminated than he would have been had he stayed on the job. The Delaware Supreme Court noted that Disney's corporate governanace was far from optimal and should not pass muster in a post-Enron/WorldCom etc., world. I have written about the case here.
According to this article in The New York Times, Yahoo! was not paying attention. In 2012, Yahoo! hired Henrique de Castro to be its #2 executive. He lasted a little over a year and is now walking away with at least $88 million. The Times quotes Charles M. Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware, who says that such hiring decisions are usually made by the corporation's CEO and that the Board can't tell the CEO whom to hire. However, Professor Elson also notes that Boards have an obligation to "ask hard questions," especially when executive compensation seems "out of whack." Mr. de Castro was the eighth highest paid executive in the region, earning more than Yahoo!'s CEO.
I suppose it is usually true that a Board cannot tell a CEO whom to hire, but the Board and its Compensation Committee do set executive pay. And nobody at that level can be hired without Board approval. In order to lure an executive of de Castro's experience, a corporation must offer "downside protection." That is, a business person of de Castro's experience is not going to leave a secure, well-compensated position without a guarantee that he will be well-compensated at the new position, even if the relationship sours. However, as the Times points out, de Castro's record at Google was mixed. He had been demoted and then promoted again, which suggests his position was not that secure. In any case, his compensation seems to have been well in excess of what was necessary to protect his potential downside.
Board capture apparently is still a major problem in U.S. public companies, and the Times suggests that the problem is especially bad in Silicon Valley. The real problem is that executive pay remains absurdly, stratospherically high in this country. No pay package should be structured to guarantee millions in dollars of severance even in cases of abject failure.
Friday, January 17, 2014
The main character of James Joyce's short story, "A Mother" (beginning on p, 103 of the link), is a naturally pale woman with an unbending manner who made few friends at school. She became Mrs. Kearney out of spite, Joyce tells us, when her friends began to loosen their tongues regarding her impending spinsterhood. Hoppy Holohan had been attempting for nearly a month to arrange a series of concerts for the Eire Abu Society, but he had no success until he came across Mrs. Kearney, who then "arranged everything."
She did so because she desired that her daughter, Kathleen, perform as accompanist at the Society's concerts. Once Mr. Holohan approached her, Mrs. Kearney "entered heart and soul into the details of the enterprise, advised and dissuaded: and finally a contract was drawn up by which Kathleen was to receive eight guineas for her services as accompanist at the four grand concerts."
The relationship sours as soon as the concerts begin. Wednesday's concert is poorly attended. Thursday's concert is better attended, but the audience "behaved indecorously, as if the concert were an informal dress rehearsal." Moreover, as Mrs. Kearney noted, and Mr. Holohan conceded, "the artistes" were not good. But the real conflict arose over a decision by the "Cometty" of the Society to reduce the number of concerts from four to three. Mrs. Kearney attempted to protest to Mr. Holohan that any such decision did not alter the contract, and her daughter would be paid for all four concerts.
We none of us can help our natures, and Mrs. Kearney's frosty and haughty disposition, coupled with Mr. Holohan's well-intentioned ineptitude combine to form the equivalent of Chekhov's gun introduced in Act I which must be fired in Act III. When Mrs. Kearney threatens that her daughter be paid in advance or she will not perform in the final contract, Mr. Holohan attempts to disclaim all authority and refers her to the elusive Mr. Fitzpatrick.
One Mr. O 'Madden Burke was to write a notice of the concert for The Freeman. Joyce describes him as "a suave, elderly man who balanced his imposing body, when at rest, upon a large silk umbrella. His magniloquent western name was the moral umbrella upon which he balanced the fine problem of his finances. He was widely respected." After a few rounds of haggling over Ms. Kearney's pay, Mr. O 'Madden Burke declared that "Ms. Kathleen Kearney's musical career was ended in Dublin."
There are dangers in insisting that contractual promises are irrevocable.
Tuesday, January 14, 2014
$350,000. That’s the value an anonymous American big game hunter is willing to pay to shoot one of the world’s last 5,000 black rhinoceroses. 1,700 of these live in Namibia, which recently auctioned off a permit to kill an old bull through the Dallas Safari Club.
Contracts are meant to assign market values to various items and services in order to facilitate commercial exchanges of these. But does this make sense with critically endangered species?
Namibia and the Safari Club tout the sustainability of the sale claiming that the bull is an “old, geriatric male that is no longer contributing to the herd.” All $350,000 will allegedly go to conservation measures. That is, of course, unless some of the funds disappear to corruptness, not unheard of in the USA and perhaps not in Namibia either. Although the male may no longer be contributing to his herd, he does contribute to the enjoyment of, just as one example, people potentially able to see him and his likes on safari trips as well as to a much greater number of people around the world who simply enjoy the rich diversity of nature as it still is even if unable to personally see the animals.
Conservationists thus decry the sale, claiming that it is “perverse” to kill even one of a species that is so rapidly becoming extinct. The argument has been made that critically endangered species should not be valued more dead than alive. If humans cull the aging, natural predators will have to go one step “down the ladder” for the next one; a healthier one. Who are we to continually mess with nature in these ways? Counterarguments are made that poachers are the real problem, not a “single sale.” And so it goes.
At bottom, the irony in killing such an animal to “increase” the population is, indeed, great. This particular contract was not.
Monday, January 13, 2014
Over the past year, there has been an explosion of interest – and a frenzied up-swing in trading – in bitcoins. Writing in The New York Times in late December 2013, in an article called Into the Bitcoin Mines, Nathaniel Popper noted that “The scarcity — along with a speculative mania that has grown up around digital money — has made each new Bitcoin worth as much as $1,100 in recent weeks.” From a socio-economic perspective, this offers an unusual opportunity to observe the emergence and development of an entirely new, and so far unregulated, kind of market. Scholars like Wallace C. Turbeville interested in the law and policy of financial services regulation are now presented with an important opportunity to test assumptions we often blithely make about the ways in which regulation interacts with business and commercial activity.
Policymakers may confront a moment of truth – to regulate or not to regulate, and when, and how. Earlier this month, National Taxpayer Advocate Nina Olson argued that the IRS should give taxpayers clear rules on how it will handle transactions involving bitcoin and other digital currencies accepted as payment by vendors. The Senate Homeland Security and Governmental Affairs Committee held hearings on bitcoins and other “cryptocurrencies” several weeks ago, and may have a report on the situation early next year after further consideration, but Committee Chair Sen. Thomas Carper (D-Del.) seems to be taking a “wait and see” attitude. Meanwhile, the People’s Republic of China has already banned banks from using bitcoins as a currency, while U.S. regulators have not addressed the use of virtual currencies, even as an increasing number of vendors – including Overstock.com – have announced that they will accept them in payment for transactions.
One basic problem is the difficulty in determining what is involved in bitcoin creation and trading. Unfortunately, we are as yet at the mercy of metaphors. For example, within the first six paragraphs of his NYT piece, Popper refers to bitcoins as “virtual currency,” “invisible money,” “a speculative investment,” “online currency,” and “a largely speculative commodity.” In point of fact, bitcoins are book-entry tokens awarded for successfully solving highly complex algorithms generated by an open-source program, The program is disseminated by a mysterious, anonymous sponsor or group known only as Satoshi Nakamoto – the digital world’s version of Keyser Söze.
Determination of the proper legal characterization of bitcoins is essential if we are to choose appropriate transactional and regulatory approaches. For example, if bitcoins really are a “virtual currency” – a meaningless phrase, a glib metaphor – then fiscal supervision by the Federal Reserve might be the most appropriate approach to regulating bitcoin activity. Further, if they are in any significant sense “currency,” then treatment under the U.S. securities regulation framework would be problematic, since “currency” is excluded from the statutory definition of “security” in section 3(a)(10) of the Securities Exchange Act. Similarly, if bitcoins are viewed as some sort of currency, they would then likely be an “excluded commodity” under section 1a(19)(i) of the Commodity Exchange Act. On the other hand, if bitcoins are viewed as derivatives of currency or futures contracts in currency, then they may be subject to securities regulation, or possibly commodities regulation, depending upon the basic characteristics and rights of the financial product itself. The exact delimitation between treatment as a security and treatment as a commodity is currently the subject of study and proposed rulemakings by the SEC and the CFTC.
Recent news reports have noted that bitcoins are beginning to be accepted by more and more vendors as a form of payment. If in fact it becomes a commonplace that bitcoins operate as a payment mechanism, then we must deal with the possibility that they should be subject to transactional rules of the UCC and the procedures of payment clearance centers. It is at this point that the contractual aspects of bitcoins become critical features of our analysis.
Conceivably, we might go further and argue that bitcoins are functionally a type of note – relatively short-term promises to pay the holder – in which case, they would be subject to UCC article 3, exempt or excluded from securities registration requirements, but possibly still subject to securities antifraud rules. This is an attractive alternative, since it would give us some definite transactional rules to work with, plus antifraud protection against market manipulation – if we could figure out what “manipulation” should mean in the strange new world of cryptocurrencies.
Sunday, January 5, 2014
The recent discussion of the December 2013 decision by the Ninth Circuit in In re Wal-Mart Wage & calls to mind the contrast in attitudes between international and domestic practice. Mention “arbitration” among international practitioners and profs, and you are likely to get a bit of a swoon from most – arbitration, properly structured, rescues us from the risks and uncertainties of unfamiliar legal systems and provides a comfort level in terms of predictability of process if not outcome. Mention "arbitration" in domestic circles, particularly with respect to consumer protection issues, and you encounter a growing skepticism if not outright hostility about the imposition of arbitration as an exclusive contract remedy.
There are delicate ironies in these contrasting attitudes. Many would say that the contrast – to the extent it actually exists – simply reflects the difference between complex disputes at the “wholesale” level, between commercial actors with more or less equal bargaining power, and consumer disputes in which arbitration is imposed by the dominant party on the “retail” party. However, In re Wal-Mart itself undermines that neat dichotomy, since it involves parties with, presumably, more or less equal bargaining power. In any event, there is certainly nothing in principle or in text that suggests a wholesale-retail split in the approach to deciding arbitration challenges. (Consider, for example, the Supremes’ 2011 AT & T Mobility LLC v. Concepcion, upholding an arbitration provision in a class-action consumer suit, and the Ninth Circuit’s own 2003 en banc decision in Kyocera Corp. v. Prudential–Bache Trade Servs., Inc., upholding arbitration in what was ostensibly a “wholesale” transaction between commercial parties.) It is nevertheless clear that there is a growing conception – or preconception – that arbitration clauses may be hostile to, or at least incompatible with, consumer interests.
This conception does have textual support in the 2010 enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Section 1414(a) of the Act added a provision to the Truth in Lending Act, 15 U.S.C. § 1639c(e)(1), that prohibits the inclusion in any home mortgage or home equity loan of “terms which require arbitration or any other nonjudicial procedure as the method for resolving any controversy or settling any claims arising out of the transaction.” However, as with so many of the provisions of the Dodd-Frank Act, § 1639c contained a special delayed effective date, namely, the date on which final regulations implementing the prohibition took effect, or a date 18 months after the transfer of authority to the new Consumer Financial Protection Bureau, whichever is earlier. Nevertheless, in the November 2013 case State ex rel. Ocwen Loan Servicing, LLC v. Webster, the Supreme Court of Appeal of West Virginia found that the delayed effective date “only applies to those portions of Title XIV that require administrative regulations to be implemented.” Accordingly, the effective date of this prohibition was the general effective date of the act, July 22, 2010. Good for us, not so good for the consumer plaintiffs suing the mortgage servicer, since their mortgage agreement containing an arbitration clause was entered into several years prior to the enactment of the Dodd-Frank Act. The West Virginia court refused to apply the Dodd-Frank Act retroactively, and proceeded to decide that it was compelled to enforce the arbitration clause in light of the mandate of the Federal Arbitration Act, which generally favors the application and enforcement of such clauses, despite the plaintiffs’ claims that the arbitration clause was procedurally and substantively unconscionable. Ocwen Loan Servicing is worth a careful read, particularly in light of its consideration of the interplay among emerging statutory policy with respect to consumer protection, general federal policy in favor of arbitration, and the contract doctrine of unconscionability.