Teaching Assistants: Victor Goldberg on Valuation of the Contract as an Asset

Last week, we resumed our series of posts on Victor Goldberg's collected writings on contracts. Links to previous posts on  Rethinking Contract Law and Contract Design (RCL) can be found here.  Last week's post was the first in a new series of posts on the second volume, Rethinking the Law of Contract Damages (RLCD).   Today's post covers the first chapter of RLCD.

Expectation damages are the standard measure of contracts damages, and they put a party in as good a position as they would have been had the promise been performed.  But how does one measure expectation?  Professor Goldberg proposes that the best way to do so is to value the contract as an asset and seek to restore to the non-breaching party the value of the asset at the time of the breach.  He illustrates this approach in connection with concepts of cover, lost profits, and mitigation.

As to cover costs, Professor Goldberg begins with a discussion of the controversy over UCC sections 2-706 and 2-708, which seem to give the non-breaching seller the option of choosing between contract price and market price at the time of the breach or contract price and market price at the time of sale.  It seems like using the latter could result in a windfall to the seller if the price rises after sale.  Courts seem to allow it, and this has always annoyed me.  For Professor Goldberg, the issue is simple.  Give the seller the value of the contract at the time of the breach.  If the price has dropped, seller may choose to recover the certainty of expectation damages, and Professor Goldberg notes that a seller that recovers expectation damages from a breaching buyer under § 2-708(1) retains the goods.  If the seller then sells those goods at a price above the contract price, the result is the same as if the seller had waited and recovered the difference between contract price and re-sale price under § 2-706.  E.g., a seller may have a contract to sell goods for $100,000.  When the buyer breaches, the market price is $70,000.  Seller can recover $30,000 in expectation damages, but he might then re-sells the goods six months later for $120,000.  The outcome is the same if we take the difference between re-sale price and contract price.  In both cases seller gets $120,000 for the goods (RLCD, 4-9).  No windfall; no tension between the sections.  Eureka!

Professor Goldberg also notes in passing the reason why buyers' remedies are more limited than sellers.  The court in Peace River Seed Co-operative explained the difference in terms of the conjunctions used in Article 2.  "The issue was not grammar," Professor Goldberg observes, "it was economics" (RLCD, 7-8).

As to anticipatory repudiation where the court decision comes after all performance was due, Professor Goldberg argues that damages should be reckoned from the time the repudiation was accepted (or deemed accepted) (RLCD, 10).  This accords with the general approach of awarding damages that treat the contract as an asset.  In cases of repudiation, the cover price is often good evidence of that value (RLCD, 15), but is not the only evidence, and so we ought not to become overly enamored of cover.  Yet Professor Goldberg concedes that calculation of damages in this context can be challenging, especially in thin markets (Id.).

The challenge becomes more daunting when a party repudiates a twenty-year contract in year three.  To make matters worse, the contract might not be for a fixed quantity and the price might be variously indexed.  Courts attempt to value the goods at the time of the repudiation, but that is a mistake.  What they need to do is value the contract at the time of the repudiation (RLCD, 16).  Judge Richard Posner (left) took this approach in NIPSCO v. Carbon County Coal (RLCD, 17).  Courts struggle to fit such contracts into the boxes provided in UCC damage provisions. 

"Take-or-pay" contracts, in which parties commit to buying a certain quantity or, in the alternative, to pay for a percentage of the contract quantity at a certain price, pose special challenges.  Here too, courts err in trying to figure out the price of the underlying commodities rather than trying to value the contracts as assets, taking all of their components into account (RLCD, 17-23). 

On the whole, the UCC's damages provisions work well enough when the problem is shortfalls in installment contracts.  But courts struggle with repudiations of long-term contracts, because the UCC's damages provisions do not address fluctuating quantities, and it ignores relevant contractual provisions, like termination rights and price re-determination rights.  And overall, the model is incorrect to the extent that it focuses on the valuation of the goods rather than the valuation of the contract as an asset (RLCD 24-25).

Professor Goldberg's approach to minimum quantity contracts, such as that at issue in Lake River Corp. v. Carborundum, another Posner decision previously discussed in Chapter 7 of RCL, is essentially the same:

The damages should be the change in the value of the contract at the moment of repudiation -- the present value of the difference in expected cash flows.  That would be based on the projected market-contract price differential or the lost profits, depending on whether the seller could do something else with the goods in the remaining years (RLCD, 30).

Professor Goldberg entertains the possibility of alternatives.  Courts could order specific performance, although Judge Posner gave good reasons why doing so was less than ideal in NIPSCO.  But an order of specific performance can be a good way to foster settlement, and Professor Goldberg thinks the parties might do a better job valuing the contract as an asset than the courts do (RLCD, 31-32). 

While Professor Goldberg suggests that damages should be measured at the time of breach, because the value of the contract will fluctuate, the parties could pick any time to measure damages.  All that matters is that they set the time for measuring damages before the dispute arises.  While cover that occurs immediately after breach is highly useful evidence of the value of a contract, cover becomes less relevant in long-term contracts, where the court is going to have to determine damages before cover is possible (RLCD, 32).  

Professor Goldberg concludes the chapter by returning to his acknowledgement of the uncertainties involved in calculating damages for repudiation of long-term contracts.  He ruminates on the wide variation in valuation reports presented before the Chancery Court and proposes ways to return us from "the outer margins of plausibility" where these expert reports too often reside (RLCD, 33-34).