3. Consideration. Consideration is the legal value which supports a promise in a contract relationship, and may con- sist of a legal detriment to the promissee or a legal benefit to the promissor. A legal detriment is achieved where the promissee agrees to forebear from doing something he is entitled to do or agrees to perform an act which he is not legally required to do. A legal benefit is something which the promissor receives but has no legal right to claim. The above concepts are difficult to identify and enforce. Look instead for a bargained-for exchange and value given by each side to the contract. Ask whether each party is giving up something new as opposed to something the party was already obligated to receive or to provide. Another way to see the consideration element is by comparing a contract to a gift situation. Because consideration is typically present today, it is many times defined in the negative, with categories of cases showing that it is missing. a. Legal sufficiency requirement. This is the exchange for value. The long-held rule is that the court will not look to the "adequacy" of consideration. A bad bargain made shall nevertheless be enforced. However, where consideration is so very inadequate as to suggest the presence of fraud, duress, undue influence, and the like, the court may rule not to enforce a given contract for a "failure of consideration," which is a very inadequate consideration given. A related concept is mutuality. Contracts must have a mutuality of obligation, because consideration is an exchange; if one side is bound but the other side is not, there is no exchange and no binding contract. Employments at will lack mutuality, because the employee can quit at any time. The courts therefore say the employer can fire at any time, because contract law requires mutuality. b. Illusory contracts, where one side is bound but the other side can do what it wants in its discretion, are not enforceable. c. Pre-existing duty. After a contract is made, the parties have their respective contract duties defined that they must perform. However, during performance, one party may insist on additional pay or different work than addressed by the contract. The pre-existing duty rule avoids such unjustified contract modifications. The proponent of additional money must show an unforeseeable condition has occurred or that the work is of a different nature or additional nature, and therefore not covered by the agreement, and therefore supportable by con- sideration - that is, additional money for additional work. The UCC modifies this rule as between merchants (UCC §2-209), stating that contract modifications, including price increases, do not require any consideration to be binding. The law of settlements and accord and satis- faction focuses on whether the amount at hand is disputed or undisputed, with different rules applicable to find or not find consideration. d. Current exchange. The bargain must feature a current exchange of consideration, and one's promise must not be premised upon receipt in the past of "gifts" from the other party or driven by feelings of "moral obligation" to pay back the other party. Past consideration, such as receipt of gifts or favors, is not considered sufficient to make a current new promise. Statutes are modifying this area. Note: Consideration substitutes. Consideration substitutes include special rules with respect to reaffirmation of barred promises (statute of limitations, infancy, and post- bankruptcy), promissory estoppel (promise reasonably expected to cause reliance, reasonable reliance - in the area of some dona- tions and construction bids). F. Contract Defenses. Along with the development of com- mon-law contracts and the "freedom to contract" are public policies articulated in defenses which have been used to avoid contract formation or avoid enforcement of the contract after formation, in furtherance of some social policy. Because contracts are instruments resulting from the free will of the contracting parties, wrongful conduct that destroys the free will can lead to a defense, such as duress and undue influence. Because a contract requires good faith and a meeting of the minds, defenses such as fraud, misrepresentation, and mistake are available. Because certain contracts or contract terms that vio- late criminal law are void. Contract terms so powerful as to be wholly unfair to one party are scrutinized for their fairness or their uncon- scionability. In that certain classes of individuals are deemed in need of social protection from contract, an incapacity defense is afforded an infant, an incompetent, and, in some cases, intoxi- cated contracting parties. As certain categories of contracts, when made orally, have led to fraud, some contracts must be in writing, as governed by the statute of frauds. Where, however, there is a writing, it is to be respected and not subject to attack with evidence of prior or contemporary oral or parol modification, and thus, the parol evidence rule. By the invocation of a defense, the innocent victim to the contract typically seeks to rescind the contract and prevent its enforcement (void and voidable contracts are of this nature) and to obtain back consideration given through restitution. Occasionally, the facts supporting the defense also provide a basis to sue as plaintiff for an intentional tort (for example, fraud). 1. Duress. Involves use of physical force or vio- lence to obtain consent. Such contracts are void. Duress by improper threats, such as economic duress, makes contract void- able. Economic duress is available only if plaintiff shows situation created by acts of defendant. Look for a "take it or leave it" circumstance created by the other contracting party. Note that refusal to perform contract does not by itself consti- tute economic duress. Look for factors such as no time to talk to attorney, unusual times for negotiation, one-sided agreements, and failures of consideration. 2. Undue influence. Available where the dominant figure in a confidential or fiduciary relationship uses position to take advantage, through unequal bargaining power, of the pro- tected party. Look for a fiduciary relationship. Fiduciaries have a duty to disclose opportunities and act in utmost good faith and fair dealing. Contracts between fiduciary and beneficiary are subject to close scrutiny. 3. Fraud. Two types: Fraud in the execution (mis- representation of character of document or key terms) and fraud in the inducement. This defense is also the five-element intentional tort fraud, fraud in the elements: a. False representation of fact - can be active or passive. Generally, there is no duty to speak, and therefore no passive concealment. Exceptions include latent defects, a fiduciary relationship, and special rules by regulation or statute governing certain individuals, such as real estate agents. Fact - must not be mere opinion (sales puffing). Compare where there is superior knowledge of opinion-giver. b. Material - considered a substantial factor in the other party's contract decision. c. Known falsity with intent to cause reliance - actual knowledge false or reckless disregard for truth. d. Caused justifiable reliance - not available if victim knew falsity. e. Damage (value as represented - value as actual). 4. Misrepresentation. Includes negligent and inno- cent misrepresentations. 5. Mistake. Includes mutual mistake (typically void- able) but requires mistake to go to basic assumption of contract or identity of subject matter; unilateral mistake (sometimes voidable where other party knows of mistake and takes advantage); voidability strengthened by fraud facts and strengthened by facts leading to unconscionability but weakened by negligence on part of mistaken party. 6. Illegality - void for illegality if contract violates a regulatory or licensing as opposed to mere revenue- raising statute. Examples include contractor licensing statute, gambling statute, Sunday blue laws, usury statutes, RICO, and any criminal statute or regulation. 7. Public policy violations - contracts to perform a tortious act, restrain trade, obstruct justice, corrupt officials, exculpate own negligence, or take extreme advantage (unconscionability) all provide bases. a. Generally, restraint of trade is unfavored and is criminal and/or in violation of anti-trust laws. An exception made is the covenant not to compete in the sale ancillary to the sale of business or ancillary to an employment agreement. The court will look to see if the covenant is reason- able in time and geography and no more necessary than to protect interests of the other party. Such covenants are upheld by injunction and, if provided, liquidated damages. b. Exculpatory clauses are disfavored and strictly construed. Negligence can be excluded if conspicuous and clear statement. Not available to employers, common carriers, and residential landlords. Not available for reckless and intentional acts. c. Unconscionable contracts (UCC §2-302 and the common law). Where (1) there is unequal bargaining power and (2) no meaningful choice, the court can strike the unconscionable clause or the entire agreement, because the clause is one-sided and outrageously unfair. 8. Incapacity. For certain classes, their protection outweighs the need for stability and predictability of contract enforcement. a. Infants - voidable at infant's option, pro- vided timely disaffirmance and no ratification. Duty on disaf- firmance varies from jurisdiction, most states holding mere return of consideration without more. Special rules apply for necessities - infant to pay in quasi-contract for reasonable value and cannot disaffirm. Issue is one of station in life to decide if luxury. Misrepresentation of age causes courts to divide, some courts holding infant can still disaffirm, and others not. b. Incompetents - contracts with a person under a guardianship are void. Those without a court-appointed guardian who are mentally ill may be able to avoid agreement. In all cases, there is liability for necessities. Problems arise where one party does not know of the incompetency, many courts holding liability for reasonable value. c. Intoxication - courts are far more strict with this defense, requiring substantially intoxicated state and a very fast disaffirmance. 9. Impossibility. Objective impossibility is a defense. Objective impossibility, however, is rare. Certain instances include the destruction of a unique good that is the subject of a contract for the sale of goods, or the death of an agent under a personal service agreement. Acts of God can make contract performance impossible by property destruction or death of the agent to perform. Parties will want to have a "force majeur" clause spelling out that acts of God relieve the parties. A related defense is that of "impracticability" under the UCC - where changed circumstances unforeseen would cause a party great losses in performing the contract - not a strong defense. 10. Statute of frauds - writing requirement. Some contracts must be in writing to be enforceable. When not enforceable, the typical result is a rescission of the contract and a return of all consideration. Where required, there must be a "sufficient writing," "signed" by "the party to be charged" (the party asserting the lack of writing). a. Categories requiring a writing: (1) Debt of another - must be a collateral, not a direct or main purpose promise. (2) Estate executor's promise - only as to promise to pay executor's own money for estate debt. (3) Marriage as consideration - prenuptials and antenuptials. (4) Interests in land - real estate con- tracts and leases over five years, easements, and others. Compare oral real estate contracts and part improvement or full performance. (5) Contract not to be performed within one year - apply the possibilities test. Runs from date of contract, not date performance is to start. (6) Sale of goods (UCC §2-201) - goods over $500. Contract cannot be enforced unless writing "signed," looks contractual, and contains a quantity term. Between merchants, writing satisfied by a written confirmation and no ten-day objec- tion, or if goods are special, or if goods have been paid and accepted or received and accepted. (Enforceable only as to part.) b. Sufficient writing. Common law required all key terms, including names of parties, subject matter, and other key contract terms, and a signature. UCC liberalizes and has writing substitutes, such as written confirmation, special goods, etc. c. Parol evidence rule. After a written con- tract has been achieved which is intended as a "complete integra- tion" of the parties' agreement, then no prior or contemporaneous written or oral agreements or statements can be introduced into evidence. Subsequent oral and written evidence, however, can be introduced to show contract modification. In addition, prior and contemporaneous oral and written evidence can be introduced, not to modify the writing, but rather, to explain ambiguous terms or to supplement the missing terms, if any. See UCC §2-202, which allows course of performance and usage in trade to supplement or explain ambiguous terms. G. Third Parties to Contracts. Third parties can acquire rights in a contract by receiving an assignment of right. Third parties can also become obligated to perform the contract by a delegation of duty. Further, original parties to the contract can agree to make a third party a contract beneficiary (donee beneficiary for a gift, or creditor beneficiary for payment of a pre-existing debt). The latter beneficiaries are intended beneficiaries (as opposed to someone who incidentally benefits and is not entitled to enforce the third-party arrangement, called incidental beneficiary). 1. Assignment of rights. Most contract rights are assignable. The most common contract right may be assigned as the right to receive payment of money (such as the right to receive accounts receivable, to receive payment for your mortgage, to receive payments on an installment payment plan). Some rights are not assignable. Where an assignment would affect the performance of a different duty, that right is not assignable. The classic example is the assignment of a personal service contract. Look for a different duty imposed by the assignment. Generally, express prohibitions against assignment are ineffective (see UCC 2-210). Other problems include assignments contrary to public policy and statutory law, rights of assignee (no greater than assignor), notice requirements (preventing loss by assignee of rights), implied warranty, warranties of assignor, and successive assignment of the same right. 2. Delegation of duties. Unlike assignment, which cuts off the right to receive performance by assignor, delegation of duty does not relieve the delegator of duty to perform. Both delegator and delegatee are liable unless there is a contract novation relieving delegator. A delegation involves delegation of duties and is the other side of an assignment of right. 3. Third-party beneficiary contracts. These involve donee beneficiaries (the classic case is beneficiaries of an ordinary life insurance policy) and creditor beneficiaries (many times seen in sales of businesses where buyer also promises to retire debts owed creditors of seller -- seller's creditors are creditor beneficiaries). Only intended beneficiaries (be they donee or creditor) can enforce third-party agreements. Incidental beneficiaries (those who incidentally benefit and were not intended to be benefited by the contract) cannot. The issue of vesting is raised (intended beneficiaries may not vest an interest until the specific time provided by contract -- states vary). H. Performance or Breach. After contract formation (offer, acceptance, and consideration), the next issue is one of contract performance or breach. If the contract is fully per- formed by both sides, there is no breach of contract and the parties are discharged from contractual duties. If, on the other hand, before performance is complete, there is a non-compliance with a term of the contract (the most blatant example being com- plete repudiation of the agreement to perform any part of the contract), then there has been a breach by non-performance. Through centuries of court cases and experience, con- tract performance and breach rules have developed. Several con- tinue under the UCC: 1. Perfect tender rule: The common law requires perfect compliance with all terms of the agreement. Failure to provide perfect tender is a breach of contract. Examples include buyer's failure to pay, buyer's repudiation of the agreement, seller's failure to provide conforming goods or services, seller's repudiation of the agreement to sell, seller's fraud or misrepresentation, etc. The perfect tender rule can result in a harsh outcome, and it is not always followed. 2. Material/immaterial breach: If the non- performance is so serious that it goes to the "essence of the contract," the courts will construe the breach as "material." The result is that the non-breaching party is relieved from any further duty to perform the agreement and can sue for damages for breach of contract. Examples of a material breach include com- plete repudiation of the agreement, substantial qualitative or quantitative disparities in performance, intentional breaches of contract, failures to perform where there is a "time of the essence" (TOTE) clause. In contrast, the "immaterial breach" is a technical breach of contract (probably not perfect tender, but nevertheless one that is not so serious as to relieve the non- breaching party from performance, so that the non-breaching party must perform, but can obtain some damages to compensate for the defective performance). 3. Substantial performance: The performance test for construction contracts. Differences in a construction project do not relieve the other party from the obligation to perform - they only provide a basis for some damages. Essentially, the "immaterial breach" doctrine, stated in different terms. Note: if deviations even in a construction project are so serious and profound that the whole contract is breached, the court may con- clude a "material breach" has occurred and apply that rule. 4. Conditions: Some contract terms expressly state that one party's duty to perform is conditional upon the occur- rence or non-occurrence of an event. Conditions precedent are those events that must occur before a duty to perform arises. Conditions subsequent are events that, if they occur after the contract is performed, relieve the party from a duty to perform. 5. Discharge by agreement: Parties can, by mutual agreement, rescind the contract, substitute it with another con- tract (accord and satisfaction), or replace one of the parties with another (novation). 6. Discharge by operation of law: The contract defenses of impossibility, impracticability, bankruptcy, and the statute of limitations can discharge performance obligations. I. Remedies. Assuming breach of contract, various remedies are available. 1. Damages. This remedy at law is the most common remedy available in contract law. a. Compensatory. To place the party as if con- tract were performed. The UCC encourages contract performance and breach prevention by affording buyers and sellers the right to cure their breaches and a wide variety of remedies. However, the UCC stresses the idea of "cover." As such, a key measure of compensatory damages is the difference between service received and cost of obtaining it elsewhere. UCC - sellers is contract price minus market price = damages. Buyers is market price minus contract price = damages. There are additional remedies for buyers and sellers under UCC, including the equitable remedy of specific performance and consequential damages. See Part 7 - Remedies, UCC, Article II. Special rules measure compensatory damages for real estate, employment, and construction. b. Consequential damages. In addition, damages for losses caused by the breach. Must be foreseeable. Includes such things as personal injury and property damage in products liability cases, and lost profits or loss of use in contract cases. c. Incidental damages. Incidental costs of breach. d. Punitive damages. Generally not available for contract. Look for intentional tort conduct. Awardable in products liability cases for willful actions. 2. Equitable remedies. Where damages would be inadequate and the injury from breach irreparable, equitable remedies are available. a. Injunction and specific performance. Court- ordered contract performance, special goods, real estate. Never for personal service contracts, except to enforce covenants not to compete. b. Rescission. The contract is declared void. For victims of voidable contracts due to duress, undue influence, incapacity, fraud and mistake, etc. c. Restitution. Means return of consideration given. Frauds defense or incapacity. Term also used to refer to quasi-contract recovery. d. Reformation. Court corrects a typographical error. 3. Limitations on remedies. Remedies are not always available, particularly where there are rights of third parties (good faith purchasers), delay in suing (statute of limitations), actions contradictory to the relief sought (ratification and affirmation by infants and bankrupts), and many others. a. Liquidated damages clauses. These clauses specify damages at a predetermined fixed sum. They are enforce- able so long as the damages for breach are hard to determine and the amount specified as liquidated damages is not grossly in excess of any possible damages. If either aspect fails, the LDC clause will be declared a "penalty" and declared unenforceable. b. Duty to mitigate damages. Victims of con- tract breach must nevertheless do whatever is reasonably necessary to prevent running up damages. This is mitigation. The duty to mitigate under the UCC is built into damage measurements. Other contracts not governed by the UCC, such as personal service contracts, require acceptance of reasonably similar work. jrbrown C:\TEMP\Business Highlights 3.PDF
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