Tuesday, May 6, 2014
This just in from University of Minnesota Contracts Prof. Carol Chomsky:
The Antique Wine Company (AWC), a London-based wine dealer, is being sued for $25 million by Julian LeCraw Jr., an Atlanta real estate investor and wine collector, for allegedly selling 15 bottles of counterfeit rare old Bordeaux wine. The suit claims fraud and breach of contract based on sales of a bottle of Château d’Yquem 1787, a Yquem 1847, a 6-liter bottle of Château Margaux 1908, and 12 bottles of Château Lafite Rothschild ranging in vintage from 1784 to 1906.
Stephen Williams, founder and managing director of AWC, says “it duly researched the provenance of the wines it supplied and fully disclosed that information” to the buyer at the time of the purchases, but some of those claims are contested by statements made the château merchants themselves.
An “authenticity ticket” relied upon by AWC for the 1787 Yquem (purchased for $91,400, including insurance) was not an endorsement of the wine’s authenticity, according to those statements. “I signed it the way people sometimes sign a menu or a post card,” said Count Alexandre de Lur Salces; “I simply put a signature on it. It is out of the question that I could identify it as authentic.” There is also dispute over whether the logo on some of the buyer’s bottles was registered after the date on which the wine was allegedly rebottled and whether two bottles of Yquem 1847 allegedly identical to those sold to LeCraw still exist in the cellars of the Cruse family in Bordaux.
AWC’s lawyer suggests the issue is not whether the bottles are counterfeit, but whether the seller used a standard of care in keeping with the then-current industry practices in researching the provenance of the bottles. For more information, see the article in The Wine Spectator here. Makes me wonder if proving authenticity will include drinking one bottle of each!
Monday, May 5, 2014
In Block v. eBay, Inc., Marshall Block contended that eBay's automatic bidding system violates two provisions of its User Agreement as well as California's Unfair Competition Law. The District Court dismissed the case and the Ninth Circuit affirmed.
eBay conducts online auctions through its automatic bidding system. A bidder enters into the system the maximum amount she is willing to bid. This amount is kept confidential, but the system automatically and at pre-determined increments enters the bidder's bids until the bid price exceeds the maximum that the bidder is willing to pay. Block, an eBay seller, claimed that the system violates provisions of the User Agreement in which eBay represents that: 1) it is not involved in the actual transaction between buyers and sellers; and 2) the Agreement creates no agency, partnership, joint-venture, employer/employee or franchisor/franchisee relationship.
The District Court found that neither of these provisions constituted enforceable promises, and the Ninth Circuit agreed. The Court discerned no promissory language in the relevant provisions. Rather, the Court opined that the language in the User Agreement served as a general introductin to eBay's marketplace. While some of the language of the User Agreement are explicitly promissory; the language at issue here is informal and conversational in style.
While I agree with the Court's analysis here, I am a bit wary of its emphasis on the informal language used in the User Agreement. I noticed recently that Google changed the tone (but not the substance) of its Terms of Service by adding contractions and generally making the corporation sound more like an unthreatening hipster. Notwithstanding the verbal skinny jeans, companies engaged in e-commerce use these agreements to limit consumer rights and their own exposure to legal action, often to the verge of rendering these documents illusory agreements. I wish the Ninth Circuit had limited its opinion to a finding that there was no promise and had not equated informal language with a lack of intent to be bound.
Wednesday, April 30, 2014
According to this article in today's New York Times, 6,200 Allstate employees, who joined its Neighborhood Agents Program in the 1980s and 1990s, were called into meetings in 1999 at which they were told that they would now proceed as independent contractors, forfeiting health insurance, their retirement accounts or profit-sharing, and terminating the accrual of their pension benefits. If they wanted to continue to sell Allstate insurance, they had to sign waivers in which they agreed not to sue the insurer. Thirty-one agents signed but have now sued nonetheless, alleging age discrimination and breach of contract.
They sued thirteen years ago, but the case is still far from over. They are still seeking class certification. The Times article indicates that cases such as this one are hard to win, but the judge in this case has already stated that those that signed the waivers were made substantially worse off, that Allstate's claimed corporate reorganization was actually a disguised staff reduction, and that Allstate's conduct was "self-serving and, from most perspectives, underhanded." In addition, Allstate seems to have misrepresented to the agents the consequences of not signing the waiver, having told the agents that they would be barred for life from soliciting business from their former customers. Allstate has already paid $4.5 million to settle an age-discrimination claim brought by the EEOC on behalf of 90 of the agents.
Monday, April 28, 2014
The Sixth Circuit held that an employee does not have to arbitrate a claim that was already pending in court when he entered into an arbitration agreement with his employer. The facts of the case, Russell v. Citigroup, Inc., are as follows:
Keith Russell was employed at a Citicorp call center from 2004 to 2009. In 2012, he brought a class action lawsuit against the bank, alleging that he and other employees were not paid for time spent logging in and out of the Citicorp computer system. While there was an arbitration agreement in place covering this first period of employment, it did not reach class action claims, and so Russell was permitted to proceed in court.
Then, rather bizarrely, Russell applied to be rehired at the same call center and, more bizarrely still, Citicorp rehired him. He began work again in 2013. He signed a new arbitration agreement that does cover class claims. Citicorp thus sought to compel arbitration in the suit, which had by then proceeded to discovery.
The District Court denied Citicorp's motion to compel. The Sixth Circuit reviewed the language of the new arbitration agreement and found that it clearly applied only prospectively. Russell clearly did not intend for the new arbitration agreement to apply to his old claim, and Citicorp also seemed to have no such intention. If its legal department did intend to bind Russell through the second arbitration agreement to drop his class action claim, then it would have violated ethical rules by sending the second agreement to Russell rather than to his attorney. The Sixth Circuit found that Citicorp had no such intention, and so neither party intended for the second arbitration agreement to apply to Russell's class action claim. As the Federal Arbitration Act requires courts to enforce the intent of the parties, the Sixth Circuit affirmed the District Court's denial of Citicorp's motion to compel arbitration.
Wednesday, April 23, 2014
I just stumbled upon an interesting damages decision from the Australian High Court in December. In a thouroughly modern context (sale of frozen sperm), it raises the age-old question of how to measure expectation damages when the buyer is able to recoup the costs of replacement in a forward contract.
Plaintiff and Defendant are doctors specializing in “assisted reproductive technology services.” For just over $380,000 (AUD), Plaintiff agreed to buy the assets of a company operating a fertility clinic, a company controlled by Defendant. The asset sale included a stock of frozen sperm. The company warranted that the identification of the donors of that sperm complied with specified regulatory guidelines. (Defendant guaranteed the company’s obligations under the contract).
The stock of sperm delivered contained 1,996 straws that were in breach of warranty. Specifically, it did not comply with regulatory requirements concerning consents, screening tests and identification of donors. For this reason, the sperm was unusable by Plaintiff. Plaintiff was unable to find suitable replacement sperm in Australia and eventually found only one alternative source of sperm from a U.S. supplier for over $1.2million (AUD). Plaintiff “accepted that ethically she could not charge, and in fact had not charged, any patient a fee for using donated sperm greater than the amount [she] had outlaid to acquire it.”
The question before the High Court: how should Plaintiff’s damages for breach of warranty be calculated? The primary judge assessed the damages as the amount that the Plaintiff would have had to pay the U.S. company (at the time the contract was breached) to buy 1,996 straws of sperm. On appeal, the Court of Appeal held that the Plaintiff should have no damages because the Plaintiff was able to pass on the increased costs to her patients. The Court of Appeal held that the Plaintiff had thus avoided any loss she would otherwise have sustained.
The parties did not dispute damages should be "that sum of money which will put the party who has been injured ... in the same position as he [or she] would have been in if he [or she] had not sustained the wrong for which he [or she] is now getting his [or her] compensation or reparation.” Nor did they dispute that the Plaintiff was entitled to be put in the position she would have been in had the contract been performed. The parties disputed how these principles should be applied to this particular case.
First, there might be a loss constituted by the amount by which the promisee is worse off because the promisor did not perform the contract. That amount would include the value of whatever the promisee outlaid in reliance on the promise being fulfilled. Second, the loss might be assessed by looking not at the promisee's position but at what the defaulting promisor gained by making the promise but not performing it. Third, there is the loss of the value of what the promisee would have received if the promise had been performed. Subject to some limitations, none of which was said to be engaged in this case, damages for breach of contract must be measured by reference to the third kind of loss: the loss of the value of what the promisee would have received if the promise had been performed.
After a nod to Fuller and Purdue, Justice Hayne explained how to value what Plaintiff should have received:
Under the contract which the [Plaintiff] made, she should have received 1,996 more straws of sperm having the warranted qualities than she did receive. The relevant question in the litigation was: what was the value of what the [Plaintiff] did not receive? The answer she proffered in this Court was that it was the amount it would have cost (at the date of the breach of warranty) to acquire 1,996 straws of sperm from [the U.S. company]. That answer should be accepted.
The answer depends upon determining the content of the unperformed promise. The answer does not depend upon whether the contract can be described as one for the sale of goods or for the sale of a business. How much the [Plaintiff] paid for the benefit of the promise is not relevant. It does not matter whether the value of what she did not receive was more than the price she had agreed to pay under the contract or (if it could have been determined) the price she had agreed to pay for the stock of sperm. The extent to which the [Plaintiff] could have turned the performance of the promise to profit would be relevant only if the [Plaintiff] had claimed for loss of profit. She did not. She sought, and was rightly allowed by the primary judge, the value of what should have been, but was not, delivered under the contract.
As for mitigation, the Justice wrote:
As already noted, however, the Court of Appeal concluded that the [Plaintiff] had mitigated her loss by buying replacement sperm from [the US. Company]. In respect of "the loss of each straw of replacement sperm actually sourced from [the U.S. company]" before the date of assessment of damages, Tobias AJA concluded that the chief component of the [Plaintiff’s] "loss" would be "the sum (if any) representing that part of the overall cost of acquisition of that straw not recouped from a patient". And in respect of "the residue of the 'lost' 1996 straws over and above those in fact replaced by [U.S.] sperm up to the date of trial", Tobias AJA concluded that "the appropriate course would have been to assume that [the Plaintiff] would continue to source straws of donor sperm from [the U.S. company] at a cost consistent with that which had prevailed since August 2005, and that she would continue to recoup from patients the same proportion of that cost as she had done in the past". On this footing, Tobias AJA concluded that the [Plaintiff’s] damages in respect of straws not "replaced" would be "the aggregate of the discounted present value of the un recouped balances (if any) of that cost as at the date of their assessment" (emphasis added).
Two points must be made about this analysis. First, the calculations described would reveal whether, and to what extent, the [Plaintiff] was, or would be, worse off as a result of the breach of warranty. That is, the calculations of the net amount which the [Plaintiff] had outlaid, and would thereafter have to outlay, would reveal the amount needed to put the [Plaintiff] in the position she would have been in if the contract had not been made. The calculations would not, and did not, identify the value of what the [Plaintiff] would have received if the contract had been performed. Second, the reference to mitigation of damage was apt to mislead. In order to explain why, it is necessary to say something about what is meant by "mitigation" of damage.
For present purposes, "mitigation" can be seen as embracing two separate ideas. First, a plaintiff cannot recover damages for a loss which he or she ought to have avoided, and second, a plaintiff cannot recover damages for a loss which he or she did avoid. * * *
The [Plaintiff’s] subsequent purchases and use of replacement sperm left her neither better nor worse off than she was before she undertook those transactions. In particular, * * * the [Plaintiff] obtained no relevant benefit from her subsequent purchases of sperm. The purchases replaced what the vendor had agreed to supply.
The purchase price paid for the replacement sperm revealed the value of what was lost when the vendor did not perform the contract. But the commercial consequences flowing from the [Plaintiff’s] subsequent use of those replacements would have been relevant to assessing the value of what should have been supplied under the contract only if she had obtained some advantage from their use, or if she had alleged that the replacement transactions had left her even worse off than she already was as a result of the vendor's breach. If she had obtained some advantage, the value of the advantage would have mitigated the loss she otherwise suffered. If she had been left even worse off (for example by losing profit that otherwise would have been made), that additional loss may have aggravated her primary loss. But the [Plaintiff] was not shown to have obtained any advantage from the later transactions and she did not claim that they had left her any worse off. Those transactions neither mitigated nor aggravated the loss she suffered from the vendor not supplying what it had agreed to supply. The value of that loss was revealed by what the [Plaintiff] paid to buy replacement sperm from [the U.S. company].
Showing that the [Plaintiff] had charged, or could charge, third parties (her patients) the amount she had paid to acquire replacement sperm from [the U.S. company] was irrelevant to deciding what was the value of what the vendor should have, but had not, supplied. If the contract had been performed according to its terms, the [Plaintiff] would have had a stock of sperm having the warranted qualities which she could use as she chose. She could have stored it, given it away or used it in her practice. In particular, she could have used it in her practice and charged her patients nothing for its supply. But because the vendor breached the contract, the [Plaintiff] could put herself in the position she should have been in (if the contract had been performed) only by buying replacement sperm from [the U.S. company]. Whatever transactions she then chose to make with her patients are irrelevant to determining the value of what should have been, but was not, provided under the contract.
Thus, Justice Hayne, joined by Justices Crennan and Bell, allowed Plaintiff’s appeal and ordered the she receive damages on the terms she sought. Justice Keane agreed with the result. Justice Gageler did not.
The appropriate measure of [the Plaintiff’s] loss is so much of the cost to [the Plaintiff] of sourcing 1,996 straws of replacement sperm for the treatment of her patients as she had been, and would be, unable to recoup from those patients. That measure, adopted by the Court of Appeal, is appropriate because it yields an amount which places [the Plaintiff] in the same position as if the contract had been performed so as to provide her with the expected use in the normal course of her practice of 1,996 straws of the frozen sperm delivered to her by the company.
To [the Plaintiff’s] protest that adoption of that measure leaves her without an award of damages in circumstances where the company has been found to have breached its warranty, the answer lies in the way she has chosen to put her case. She has made a forensic choice to eschew the measure which, together with the Court of Appeal, I would hold to be the appropriate measure.
Clark v. Macourt,  HCA 56 (Dec. 18, 2013).
Monday, April 14, 2014
Last month, the First Circuit decided Grand Wireless, Inc. v. Verizon Wireless, Inc. In 2002, Grand Wireless (Grand) entered into an Agreement to serve as an exclusive agent for Verizon Wireless (Verizon) within a defined geographic area. The Agreement had a five-year term, after which it became month-to-month, terminable on thirty days' written notice. The Agrement also provided for arbitration of all disputes by the American Arbitration Association (AAA).
Verizon gave notice of its intention to terminate the relationship on July 19, 2011. At Grand's request, the relationship was extended until October 31, 2011 so that Grand could sell its stores to another Verizon agent. Grand alleged that, during the month of October 2011, Verizon employee Erin McCahill sent out a postcard to Grand's customers notifying them that Grand's stores had closed and directing them to the nearest Verizon dealers. Grand alleged that McCahill knew that this information was false when she sent it out. Grand further alleged that this mailing caused its business to collapse as the mailing caused its negotiations with T-Mobile to fail. Grand filed an action in state court against McCahill and Verizon alleging fraud and federal RICO violations.
Verizon removed the case to federal court and then moved to compel arbitration. The District Court denied the motion without opinion, simply adopting the arguments in Grand's memorandum of law. So the District Court agreed with Grand that its claims were not covered by the arbitration clause and that McCahill, a non-party, could not rely on the arbitration clause.
The First Circuit reversed. As to the first issue, the First Circuit found it "clear that Grand’s claims 'arise out of or relate to' the Agreement and therefore fall within the scope of the arbitration clause." Even if it were a close call, the Court noted, the presumption in favor of arbitration would apply.
As to the second issue, Verizon argued that because "Ms. McCahill was acting as an agent of Verizon and the claims against her 'relate solely to her performance as an employee,' she is entitled to invoke the arbitration clause." The First Circuit agreed: "Verizon and Grand certainly wished to have their disputes settled by arbitration. Since Verizon could operate only through the actions of its employees, it would have made little sense to have agreed to arbitrate if the employees could be sued separately without regard to the arbitration clause."
This ruling is consistent with those of other Circuit Courts that have addressed the issue. However, in Arthur Andersen LLP v. Carlisle, 556 U.S. 624 (2009), the U.S. Supreme Court held that state law controls whether a non-party to an arbitration agreement seek protection under that agreement. But Carlisle did not address whether employees could avail themselves of the arbitration agreements entered into by their employers, and the case indicated no intention to overrule the Circuit Court rulings indicating that employees could avail themselves of such agreements. In any case, the Court found that Grand had identified no principle of New York state law indicating that McCahill should be prohibited form enjoying the protections of her employer's arbitration agreement.
Friday, April 11, 2014
I opened the box of wine for this case out of N.Y. Civil Court (where else?!):
In January 2013, defendants sent plaintiff, via email, an advertisement advising plaintiff of the availability for purchase of up to 240 bottles of 2009 Cune Vina Rioja Crianza wines. The advertisement stated:
Yesterday, we sampled the 2009 Cune Vina Real Crianza and we were very impressed. The old world style of Rioja is on a roll. Much to the chagrin of Jorge Ordonez and Eric Solomon. Even Robert Parker [ed note: wikipedia bio] could not hide his approval of this wine, blasting out a 91 point score on this one. I am not sure what 91 points means these days, but you probably do…
The rest of the advertisement contained a WA score of 91 and a quotation from Robert Parker describing the wine and the $12.99 per bottle price of the wine. Based upon this advertisement and believing that the 2009 Cune Vina Rioja Crianza was the equivalent of a Marquis Riscal, plaintiff purchased six bottles of the offered wine. After receiving the wine, plaintiff did not like the wine, found it mediocre and to be of poor quality and determined based upon his own opinions that the wine was worth no more than seven dollars per bottle. Plaintiff then demanded a refund for the six bottles he purchased. Citing store policy, defendants refused to refund plaintiff but offered to allow plaintiff to return the five unopened bottles for store credit.
After an email exchange of name calling, plaintiff then commenced a lawsuit alleging, among other things, that defendants fraudulently induced plaintiff into purchasing the wine. The court dismissed plaintiff's claim as flabby and austere, with hints of barnyard:
In order to plead a prima facie case of fraud, a plaintiff must allege each of the elements of fraud with particularity and must support each element with an allegation of fact (Fink v. Citizens Mortg. Banking Ltd., 148 AD2d 578 [2nd Dept 1989]). To plead a prima facie case of fraud the plaintiff must allege representation of a material existing fact, falsity, scienter, deception and injury (Lanzi v. Brooks, 54 AD2d 1057 [3rd Dept 1976]). Plaintiff has not made out a prima facie case on several of the elements. Plaintiff has focused his fraud claim on the fact that defendant represented the wine as a 91 point wine. The advertisement states that even Robert Parker rated this as a 91 point wine and continued that defendants were not sure what a 91 point wine wasanymore. Plaintiff alleges that this advertisement fraudulently induced him into buying the wine. However, plaintiff does not provide even a scintilla of evidence that the advertisement contained any fraud at all. Plaintiff does not allege that Robert Parker did not rate this wine 91 points and plaintiff has acknowledged that defendants did not themselves give the wine a rating. Rather, plaintiff assumed on his own that the wine was "even better than a Marquis de Riscal" and decided to purchase the wine based upon this. When the wine did not measure up to his subjective tastes, he decided that the wine was not as advertised. However, plaintiff has not demonstrated at even the minimum prima facie level that any deception took place, that there was any falsity or anything other than plaintiff's assumptions were incorrect. Thus, the second cause of action is dismissed.
This makes a fun fact pattern if you change the claims to breach of express or implied warranties. In particular, is a 91 wine score (whatever that means) a statement of opinion or fact?
Seldon v. Grapes, CV-20953/13-NY, NYLJ 1202650165299, at *1 (Civ., NY, Decided March 20, 2014).
Thursday, April 3, 2014
Supreme Court Finds Breach of the Implied Duty of Good Faith and Fair Dealing Claim Barred by the Airline Deregulation Act
We have been following this case, Northwest, Inc. v. Ginsberg, which departed from the Ninth Circuit and arrived in the Supreme Court, which heard oral argument in the case in December. The facts are amusing and all-too-familiar.
Mr. Ginsberg joined Northwest's frequent flyer program in 1999 and in 2005 he achieved "Platinum Elite" status. In June 2008, Northwest Airlines (Northwest) sent Mr. Ginsberg a letter revoking his Platinum Elite membership with Northwest for "abuse." This was done, Northwest alleged, in accordance with its contractual right to terminate membership for abuse, as determined in its sole discretion. The letter noted that Mr. Ginsberg has contacted Northwest 24 times over a roughly six-month period to report, among other things, "9 incidents of your bag arriving late at the luggage carousel. . . ."
At this point, we interrupt this blog post for a bit of a rant. . . .
Wait a minute! Northwest compensated Mr. Ginsberg with travel vouchers, points and $491 in cash reimbursements, so one might think that Mr. Ginsberg's complaints were, at least in part, justified. So, over the course of six months, his bags were delayed or lost nine times, and Northwest accuses him of abuse. That, I think Mr. Ginsberg would agree, takes chutzpah!
We now return to our more sober summary of the case . . . .
The issue before the Supreme Court was whether Mr. Ginsberg's claim that Northwest had vioalted the implied covenant of good faith and fair dealing was preempted under the Airline Deregulation Act (the Act). The Act includes a preemption provisions which provides that . . .
a State, political subdivision of a State, or political authority of at least 2 States may not enact or enforce a law, regulation, or other provision having the force and effect of law related to a price, route, or service of an air carrier that may provide air transportation under this subpart.
The Act thus should preclude claims related to a price, route, or service. The Court had twice previously struck down state statutory schemes that regulated practices in the arline industry, including practices related to frequent flyer programs. The central issue before the Supreme Court was whether Northwest had voluntarily taken on additional contratual duties pursuant to its frequent flyer program. The Supreme Court, unanimously reversing the Ninth Circuit, held that it had not. Because the implied duty of good faith and fair dealing is implied, the Court held, it was imposed upon Northwest by the state and thus constituted a form of state regulation preempted by the Act.
The Court suggested that Ginsberg, or at least other, similarly situated plaintiffs, are not without alternative remedies. If Northwest really is abusing its discretion in administering its frequent flyer program, the Court suggests, airline passengers can choose to join some other airline's frequent flyer program (assuming there are significant differences and Mr. Ginsberg lives near an airport serviced by multiple airlines), and the Department of Transportation has authority to investigate and sanction the airline. Finally, the Court noted that while Mr. Ginsberg's good faith and fair dealing claim was pre-empted, his abandoned breach of contract claim might not have been.
Monday, March 31, 2014
More on the Fairness of Contractual Penalties
By Myanna Dellinger
In my March 3 blog post, I described how the Ninth Circuit Court of Appeals just held that contractual liquidated damages clauses in the form of late and overlimit fees on credit cards do not violate due process law. A new California appellate case addresses a related issue, namely whether the breach of a loan settlement agreement calling for the repayment of the entire underlying loan and not just the settled-upon amount in the case of breach is a contractually prohibited penalty. It is.
In the case, Purcell v. Schweitzer (Cal. App. 4th Dist., Mar. 17, 2014), an individual borrowed $85,000 from a private lender and defaulted. The parties agreed to settle the dispute for $38,000. A provision in the settlement provided that if the borrower also defaulted on that amount, the entire amount would become due as “punitive damages.” When the borrower only owed $67 or $1,776 (depending on who you ask), he again defaulted, and the lender applied for and obtained a default judgment for $85,000.
Liquidated damages clauses in contracts are “enforceable if the damages flowing from the breach are likely to be difficult to ascertain or prove at the time of the agreement, and the liquidated damages sum represents a good faith effort by the parties to appraise the benefit of the bargain.” Piñon v. Bank of Am., 741 F.3d 1022, 1026 (Ninth Cir. 2014). The relevant “breach” to be analyzed is the breach of the stipulation, not the breach of the underlying contract. Purcell. On the other hand, contractual provisions are unenforceable as penalties if they are designed “not to estimate probable actual damages, but to punish the breaching party or coerce his or her performance.” Piñon, 741 F.3d at 1026.
At first blush, these two cases seem to reach the same legally and logically correct conclusion on similar backgrounds. But do they? The Ninth Circuit case in effect condones large national banks and credit card companies charging relatively small individual, but in sum very significant, fees that arguably bear little relationship to the actual damages suffered by banks when their customers pay late or exceed their credit limits. (See, in general, concurrence in Piñon). In 2002, for example, credit card companies collected $7.3 billion in late fees. Seana Shiffrin, Are Credit Card Law Fees Unconstitutional?, 15 Wm. & Mary Bill Rts. J. 457, 460 (2006). Thus, although the initial cost to each customer may be small (late fees typically range from $15 to $40), the ultimate result is still that very large sums of money are shifted from millions of private individuals to a few large financial entities for, as was stated by the Ninth Circuit, contractual violations that do not really cost the companies much. These fees may “reflect a compensatory to penalty damages ratio of more than 1:100, which far exceeds the ratio” condoned by the United States Supreme Court in tort cases. Piñon, 741 F.3d at 1028. In contrast, the California case shows that much smaller lenders of course also have no right to punitive damages that bear no relationship to the actual damages suffered, although in that case, the ratio was “only” about 1:2.
The United States Supreme Court should indeed resolve the issue of whether due process jurisprudence is applicable to contractual penalty clauses even though they originate from the parties’ private contracts and are thus distinct from the jury-determined punitive damages awards at issue in the cases that limited punitive damages in torts cases to a certain ratio. Government action is arguably involved by courts condoning, for example, the imposition of late fees if it is true that they do not reflect the true costs to the companies of contractual breaches by their clients. In my opinion, the California case represents the better outcome simply because it barred provisions that were clearly punitive in nature. But “fees” imposed by various corporations not only for late payments that may have little consequence for companies that typically get much money back via large interest rates, but also for a range of other items appear to be a way for companies to simply earn more money without rendering much in return.
At the end of the day, it is arguably economically wasteful from society’s point of view to siphon large amounts of money in “late fees” from private individuals to large national financial institutions many of which have not in recent history demonstrated sound economic savvy themselves, especially in the current economic environment. Courts should remember that whether or not liquidated damages clauses are actually a disguise for penalties depends on “the actual facts, not the words which may have been used in the contract.” Cook v. King Manor and Convalescent Hospital, 40 Cal. App. 3d 782, 792 (1974).
Eleventh Circuit Joins Others in Holding that Bank Agreement without Arbitration Clause Supersedes Prior Customer Agreement
Last month, the Eleventh Circuit Court of Appeals decided Dasher v. RBC Bank, in which Mr. Dasher alleges excessive overdraft fees and which is part of a larger multidistrict litigation pending in the Southern District of Florida. RBC Bank (RBC) moved to compel arbitration, and the District Court denied the motion.
The procedural history of the case is complicated. The parties' relationship was originally governed by a 2008 agreement (the RBC Agreement) which included an arbitration clause. Before the Supreme Court decided Concepcion, the District Court refused to enforce the arbitration clause because it made it impossible for Mr. Dasher and others to vindicate their rights. While the case was awaiting reconsideration after Concepcion, PNC Financial Services Group (PNC) aquired RBC and a 2012 PNC Agreement replaced the 2008 RBC Agreement which had previously governed the parties' relationship. The PNC agreement did not mention arbitration. The District Court ruled that the PNC Agreement applied to this litigation and that it superseded the RBC Agreement. The District Court thus again denied RBC's motion to compel arbitration, and the Eleventh Circuit affirmed on the same grounds.
While the Court acknowledged the general public policy in favor of arbitration, courts cannot compel arbitration where the parties have not agreed to arbitration. Here, the Court found that the parties expressed a "clear and definite intent" that the PNC Agreement superseded the RBC Agreement, and the former had no arbitration clause. The Court was unmoved by RBC's arguments that it had not waived its right to demand arbitration. There was no question of waiver where the right to demand arbitration did not exist in the relevant agreement. Similarly, the Court rejected RBC's argument that mere silence was not enough to overturn an arbitration clause. While RBC cited cases that seemed to support its position, those cases all involved new agreements that did not entirely supersede prior agreements. Two other Circuit Courts have addressed the issue in the context of superseding agreements, and both have held that an arbitration clause from a prior agreement is unenforceable, and the Sixth Circuit was especially clear that prior arbitration agreements are unenforceable even where the superseding agreement is silent on the subject.
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.
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.
Tuesday, February 11, 2014
... at least, Florida's non-compete law is "truly obnoxious" to New York public policy. The intermediate appellate court in New York (Fourth Department) recently refused to enforce a Florida choice of law provision in a non-compete agreement. Here's the analysis:
We nevertheless conclude that the Florida choice-of-law provision in the Agreement is unenforceable because it is “ ‘truly obnoxious’" to New York public policy (Welsbach, 7 NY3d at 629). In New York, agreements that restrict an employee from competing with his or her employer upon termination of employment are judicially disfavored because “ ‘powerful considerations of public policy . . . militate against sanctioning the loss of a [person’s] livelihood’ ” (Reed, Roberts Assoc. v Strauman, 40 NY2d 303, 307, rearg denied 40 NY2d 918, quoting Purchasing Assoc. v Weitz, 13 NY2d 267, 272, rearg denied 14 NY2d 584; see Columbia Ribbon & Carbon Mfg. Co. v A-1-A Corp., 42 NY2d 496, 499; D&W Diesel v McIntosh, 307 AD2d 750, 750). “So potent is this policy that covenants tending to restrain anyone from engaging in any lawful vocation are almost uniformly disfavored and are sustained only to the extent that they are reasonably necessary to protect the legitimate interests of the employer and not unduly harsh or burdensome to the one restrained” (Post v Merrill Lynch, Pierce, Fenner & Smith, 48 NY2d 84, 86-87, rearg denied 48 NY2d 975 [emphasis added]). The determination whether a restrictive covenant is reasonable involves the application of a three-pronged test: “[a] restraint is reasonable only if it: (1) is no greater than is required for the protection of the legitimate interest of the employer, (2) does not impose undue hardship on the employee, and (3) is not injurious to the public” (BDO Seidman v Hirshberg, 93 NY2d 382, 388-389 [emphasis omitted]). “A violation of any prong renders the covenant invalid” (id. at 389). Thus, under New York law, a restrictive covenant that imposes an undue hardship on the restrained employee is invalid and unenforceable (see id.). Employee non-compete agreements “will be carefully scrutinized by the courts” to ensure that they comply with the “prevailing standard of reasonableness” (id. at 388-389).
By contrast, Florida law expressly forbids courts from considering the hardship imposed upon an employee in evaluating the reasonableness of a restrictive covenant. Florida Statutes § 542.335(1) (g) (1) provides that, “[i]n determining the enforceability of a restrictive covenant, a court . . . [s]hall not consider any individualized economic or other hardship that might be caused to the person against whom enforcement is sought” (emphasis added). The statute, effective July 1, 1996, also provides that a court considering the enforceability of a restrictive covenant must construe the covenant “in favor of providing reasonable protection to all legitimate business interests established by the person seeking enforcement” and “shall not employ any rule of contract construction that requires the court to construe a restrictive covenant narrowly, against the restraint, or against the drafter of the contract” (§ 542.335  [h]; see Environmental Servs., Inc. v Carter, 9 So3d 1258, 1262 [Fla Dist Ct App]). Thus, although the statute requires courts to consider whether the restrictions are reasonably necessary to protect the legitimate business interests of the party seeking enforcement (see § 542.335  [c]; Environmental Servs., Inc., 9 So3d at 1262), the statute prohibits courts from considering the hardship on the employee against whom enforcement is sought when conducting its analysis (see Atomic Tattoos, LLC v Morgan, 45 So3d 63, 66 [Fla Dist Ct App]).
Based on the foregoing, we conclude that Florida law prohibiting courts from considering the hardship imposed on the person against whom enforcement is sought is “ ‘truly obnoxious’ ” to New York public policy (Welsbach, 7 NY3d at 629), inasmuch as under New York law, a restrictive covenant that imposes an undue hardship on the employee is invalid and unenforceable for that reason (see BDO Seidman, 93 NY2d at 388-389). Furthermore, while New York judicially disfavors such restrictive covenants, and New York courts will carefully scrutinize such agreements and enforce them “only to the extent that they are reasonably necessary to protect the legitimate interests of the employer and not unduly harsh or burdensome to the one restrained” (Post, 48 NY2d at 87; see BDO Seidman, 93 NY2d at 388-389; Columbia Ribbon & Carbon Mfg. Co., 42 NY2d at 499; Reed, 40 NY2d at 307; Purchasing Assoc., 13 NY2d at 272), Florida law requires courts to construe such restrictive covenants in favor of the party seeking to protect its legitimate business interests (see Florida Statutes § 542.335  [h]).
According to the NYLJ, courts in Alabama, Georgia and Illinois have also rejected the Florida law.
You know what else is truly obnoxious? All of the Floridians who complain about how cold it is when it hits 55 degrees...
Brown & Brown v. Johnson (N.Y. App. Div. 4th Dep't Feb. 7, 2014)
This is the second 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.
Yesterday, we reviewed a case in which a contract for installation of a home entertainment system was deemed to be a contract for the sale of goods. Well, what about a roof installation contract? The agreement in question in Buddy’s Plant Plus Corp. v. CentiMark Corp. was labeled a Sales Agreement. It provided that Centimark would intall a 10-year acrylic coating to the roofs of nine buildings belonging to Buddy's Plant Plus (Buddy's). After CeniMark completed the work, the roof leaked, and despite years of attempted repairs, the leaks persisted. Eventually, Buddy's brought suit, which after a change of venue, ended up in the District Court for the Western District of Pennsylvania. Buddy's alleged breaches of various warranties, breach of contract and fraudulent misrepresentation.
The court found the parol evidence rule barred the introduction of evidence relating to Buddy's fraudulent misrepresentation claim, so that claim was dismissed. The court also dismissed Buddy's breach of express and implied warranties claims to the extent that they sounded in the UCC. Applying the predominant purpose test, the court found that the Sales Agreement was in fact a contract for services and not a contract for the sale of goods.
It turns out that there is a body of law on roofing contracts, and the authorities weigh heavily in favor of treating such contracts as predominantly involving services. This case was a bit different, since CentiMark did not install a new roof; it installed an acrylic coating. Still, the court found that the coating was incidental to the predominant purpose of the contract, which was the installation of a new roofing system.
The case was permitted to proceed on Buddy's breach of contract claim and on its claim that CentiMark violated the warranty to perform in a workmanlike manner.
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?
A couple of weeks ago, we noted Jennifer Martin's summary of developments in Sales law published in The Businss Lawyer. Today's is the first in a series of posts commenting on the caselaw featured in that article.
Stephen Tanzer (Tanzer) hired Audio Visual Artsitry (AVA) to install electronic and entertainment equipment in Tanzer's home. We're not talking about an 8-track player and a Walkman. The contract called for nearly $80,000 of work, including about $56,000 worth of equipment and just under $10,000 in labor and programming costs. AVA's work was completed during construction of Tanzer's 15,000 square foot, $3.5 million home. Three years, one flood, one lightning strike, and innumerable changes and disputes after the parties entered into their agreement, Tanzer fired AVA. AVA delivered its invoice for about $120,000, of which just over $43,000 was outstanding. Tanzer disputed the amount and AVA sued for breach of contract.
The trial court found in AVA's favor awarded damages of about $35,000. Tanzer appealed, and the main issue of interst to us in Audio Visual Artistry v. Tanzer was his claim that the UCC should not apply to the transaction. In determining whether Article 2 of the UCC applies to a mixed contract involving both goods and services, Tennessee applies the predominant purpose test. In applying the test, Tennessee courts look to four factors:
- the language of the contract;
- the nature of the business of the supplier of goods and services;
- the reason the parties entered into the contract, and
- the amounts paid for the rendition of the services and goods, respectively.
Rejecting Tanzer's appeal and affirming the trial court, Tennesse's Court of Appeals found that all four factors weighed in favor of treating the transaction as a sale of goods covered by the UCC's Article 2. In short, this is an easy case under the predominant purpose test. But what if the court had applied the gravamen test? Then it might have to work out the nature of the problems with the contract. Was this a case of faulty goods or faulty installation?
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.
Wednesday, February 5, 2014
This is the fourth 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.
In teaching contracts, we often feel a bit guilty about presenting the world of contracts as if contracts involved two people meeting, dickering over terms and then knowingly consenting to an agreement. Most contracts don't happen that way nowadays. Most contracts that consumers enter into are standard form contracts with terms to which they agree without knowing what they are. And contracts among business entities tend to be relational contracts in which it is difficult to extract from the parties' complex interactions the moment when an offer was made and acceptance occurred.
So it's nice to have a straightforward case involving two homeowners dissatisfied with the quality of work performed by a man hired to lay tile in their home. Interesting contractual issues arise in such cases as well.
In 2008, Ramon and Stacey Halum entered into a written contract (how quaint!) with Michael Thalheimer for Thalheimer to remove carpeting and tiles from their home and to install new tiles. When Thalheimer completed the work, the Halums paid him in full and also gave him two $100 gift cards, which he regarded as a bonus. But the parties also agreed that Thalheimer would return to fix six unsatisfactory tiles.
Thalheimer never came, and the Halums hired someone else to do the work. They then sued Thalheimer for breach of contract, negligence and breach of the implied warranty of habitability. After a bench trial, they won a judgment of over $14,000 against Thalheimer, covering labor and materials paid to the man who re-did their floors.
On appeal in Thalheimer v. Halum, Thalheimer invoked the economic loss doctrine, seeking to limit recovery to damages for breach of contract where the Halums' loss was purely economic in nature. In response to this, the Halums noted that their son was injured by the improperly installed tiles. The trial court found Thalheimer liable both for breach of contract and for negligence in connection with the Halums' son's injury. The Court of Appeals found that the economic loss doctrine does not preclude recovery in a case such as this one in which an independent tort has been alleged. The Court of Appeals construed Thalheimer's remaining objections as a claim that the son was not really injured, but the Court of Appeals refused to be drawn into a factual dispute already resolved at trial.
The warranty issue is a bit more interesting. The parties' agreement included the following warranty:
“All workmanship guaranteed for two (2) years from date of completion.”
On my reading of the case, it seems that Thalheimer argued that he should have beeen permitted to repair the tiles himself rather than having to pay for the full replacement costs. But the Court of Appeals agreed with the trial court that by being dilatory in responding to the Halums' requests that he repair the faulty tile, Thalheimer had voided the warranty, freeing the Halums to hire another installer. There was a potentially relevant ambiguity in the warranty, which might have guaranteed only quality workmanship and not quality tile, but the Court of Appeals found that the trial court did not err in construing the ambiguity against Thalheimer, the drafter. Contra proferentem lives!