4 Sales Formation & Terms Product Liability Performance of Sales Contract Remedies for Breach of Sales Contracts McGraw-Hill/Irwin Business Law, 13/e © 2007 The McGraw-Hill Companies, Inc. All rights reserved.

Performance of Sales Contracts 21 C H A P T E R Performance of Sales Contracts “Business neglected is business lost.” Daniel Defoe, novelist, The Complete English Tradesman (1726)

Learning Objectives General rules of performance under the Uniform Commercial Code Delivery, inspection, and payment Acceptance, revocation, and rejection Assurance, repudiation, and excuse 21 - 4

General Rules of The UCC The UCC is flexible, but general rules apply: Parties must act in good faith in the performance of a sales contract [1–203] If express terms of contract conflict with past course of dealing between parties, express terms prevail [1–205(4)] If express terms of contract conflict with trade usage, express terms prevail [1–205(4)] Consideration not required to support modification of contract, but parties may specify that writing required [2–209] 21 - 5

More General Rules If first party repeatedly fails to perform as agreed and second party fails to object, second party may waive rights to cancel contract based on inadequate performance [2–208(3), 2–209(4)] Second party may retract waiver by reasonable notice to first party requiring strict performance [2–209(5)] 21 - 6

Delivery Under The UCC Basic duty of seller is to deliver goods that conform to contract with the buyer and basic duty of buyer is to accept and pay for goods if they conform to contract [2–301] Goods are to be delivered at seller’s place of business unless otherwise specified by contract Within reasonable hours and for a reasonable period of time, so buyer can take possession of goods [2–503] 21 - 7

Inspection Under The UCC Generally, buyer has right to inspect goods before he accepts or pays for them If goods conform to contract, buyer must pay expenses of inspection, but if goods do not conform to contract, buyer may recover inspection expenses from seller [2–513(2); 2–715(1)] 21 - 8

Payment Under The UCC Buyer and seller may agree that price of goods is to be paid in money or other goods, services, or real property Payment may be more difficult in international sales, thus seller often insists on receiving an irrevocable letter of credit (see page 526 for diagram) Resolves currency issues and payment assurance Irrevocable letter of credit: Buyer obtains a letter of credit from a bank in buyer’s country. The letter of credit obligates buyer’s bank to pay the amount of sales contract to seller. To obtain payment, seller must produce a negotiable bill of lading and other documents proving that it shipped goods required by the sales contract in conformity with the terms of the letter of credit. A letter of credit is irrevocable when buyer’s bank cannot withdraw its obligation to pay without the consent of seller and buyer. Letters of credit may be confirmed or advised. Under a confirmed letter of credit, seller’s bank agrees to assume liability on the letter of credit. Typically, under a confirmed letter of credit, buyer’s bank issues a letter of credit to the seller; the seller’s bank confirms the letter of credit; seller delivers the goods to a carrier; the carrier issues a negotiable bill of lading to the seller; seller delivers the bill of lading to the seller’s bank and presents a draft drawn on the buyer demanding demanding payment for the goods; seller’s bank pays seller for the goods; buyer’s bank reimburses seller’s bank; and buyer reimburses its bank. With an advised letter of credit, seller’s bank merely acts as an agent for collection of amount owed to the seller. The seller’s bank acts as agent for the seller by collecting from the buyer’s bank and giving the payment to the seller. The buyer’s bank is reimbursed by the buyer. 21 - 9

Acceptance & Revocation Once goods accepted, buyer obligated to pay Example: Weil v. Murray Buyer may revoke acceptance of nonconforming goods where: Nonconformity substantially impairs value Buyer accepted goods without knowledge of non-conformity (discovering nonconformity difficult) Buyer accepted goods because seller assured buyer it would cure defect [2–608(1)] Example: North River Homes, Inc. v. Bosarge 21 - 10

Weil v. Murray Facts: Weil consigned a Degas painting to Murray for a private inspection and sale Weil agreed to full payment of $1 Million on 12/8 Murray never paid and Weil brought suit Trial Court: Undisputed that Murray accepted the goods, had reasonable time to inspect goods, and even had the painting cleaned Summary judgment for Weil Mark Murray, a New York art dealer and gallery owner, traveled to Montgomery, Alabama, to view various paintings in art collection owned by Robert Weil. Murray examined one painting under ultraviolet light—a painting by Edgar Degas entitled “Aux Courses.” Murray discussed the Degas with Ian Peck, another art dealer, who indicated an interest in buying it and asked Murray to arrange to have it brought to New York. Murray and Weil executed an agreement which provided for consignment of the Degas to Murray’s gallery “for a private inspection in New York for a period of a week from November 3” to be extended only with express permission of the consignor. The director of Murray’s Gallery picked up the painting, which was subsequently shown by Murray to Peck. Peck agreed to purchase the painting for $1,225,000 with Murray acting as a broker. On Nov. 8, Murray advised Weil that he had a buyer for the Degas and they orally agreed to the sale. Subsequently, they entered into a written agreement for sale of the painting for $1 million that indicated, among other things, that if Weil did not receive full payment by December 8, Murray would disclose the name of the undisclosed principal on whose behalf he was acting. Neither Murray nor anyone else ever paid Weil the $1 million. Nonetheless, Murray maintained possession of the Degas from November 3, 1997, through March 25, 1998, when Weil requested its return. At some point in mid-November, Weil and Peck took the Degas to an art conservator. A condition report prepared by the conservator and dated December 3, 1997, showed that the conservator had cleaned the painting and sought to correct some deterioration. Weil brought an action to recover the price of the painting from Murray. 21 - 11

Rejection Under The UCC If a buyer rejects a delivery of goods, buyer must act within reasonable time after delivery and give seller notice of the rejection, preferably in writing [2–602] Buyer should state all defects on which rejection is based Seller may be able to cure nonconformity Example: Central District Alarm, Inc. v. Hal-Tuc, Inc. 21 - 12

Assurance Under The UCC If one party has reasonable basis for concern that other party may not perform, the concerned party may demand assurance from the other party that the contract will be performed Example: Koch Materials Co. v. Shore Slurry Seal, Inc. If assurances not given within reasonable time (< 30 days), contract considered repudiated [2–609] Repudiation may be withdrawn by clear indication of intention to perform Must occur before other party cancels contract 21 - 13

Koch Materials Co. v. Shore Slurry Seal, Inc. Facts: Koch bought a manufacturing plant and license rights to a product from Shore under complex contract covering payments and materials supply Owner of Shore notified Koch of impending sale of company and Koch requested assurance of performance, but Shore’s response prompted Koch to file suit claiming lack of adequate assurances equated to repudiation of contract Koch Materials Company manufactures asphalt and other road surfacing materials. In February 1998, Koch bought from Shore Slurry Seal, Inc., an asphalt plant in New Jersey as well the domestic license rights to a specialty road surfacing substance known as “Novachip.” Koch’s purchase price was $5 million, payable in three installments. The last and smallest of the three installments in the amount of $500,000 was not due until 2004. As part of the sale, Shore entered into two side contracts with Koch. First, Shore and Koch signed an Exclusive Supply Agreement, under which Shore agreed that for the seven years following the sale it would purchase all of its asphalt requirements from Koch, and in any event at least two million gallons of asphalt per year. The Agreement provided that, in the event Shore purchased less than six million gallons over the first three years of the contract, the $500,000 installment payment would be reduced by the same percentage by which Shore missed the six million gallon mark. Second, Shore promised to utilize at least 2.5 million square yards of Novachip annually, either in its own business or through sublicense agreements in certain permitted regions, and to pay royalties to Koch accordingly. For the first three years of the contract, Shore met or exceeded its two million gallon minimum under the Exclusive Supply contract, but sold somewhat less than the 7.5 million square yards of Novachip the Sublicense Agreement called for. As the contracts provided, parties adjusted third-year installment payment to account for the shortfall. On March 16, 2001, Robert Capoferri (“Capoferri”), president and sole shareholder of Shore, sent a letter to Koch’s general manager that stated in relevant part: “I have decided to retire from the road construction business. . . . The attorney for the buyer purchasing my assets has been in contact with our legal counsel, and they are close to having drafts prepared for the proposed purchase agreement. In addition to the sale of all balance sheet assets, it is also intended that 100% of any and all existing Shore Slurry Seal, Inc., contracts will be assigned and/or sold to the prospective buyer. Given that the Nova Chip Sublicense Agreement is not part of this proposed asset sale, Shore Slurry Seal, Inc., will continue to exist beyond the closing date in order to primarily collect and remit Nova Chip royalties on behalf of Koch Pavement Solutions. Koch responded on April 3, 2001, with a letter from its attorney to the attorney for Shore, stating: “ We have concerns about the sale because, during the next four years, Koch is owed a substantial amount of money from Shore under the February, 1998, Sale and Purchase Agreement, namely under the two schedules providing for exclusive supply and for Novachip royalties. In particular, we are concerned as to Shore’s continued capacity to live up to its two million gallon per year commitment to buy asphalt emulsions and cutbacks and to meet its minimum square yardage requirements for Novachip. Mr. Capoferri’s secrecy surrounding Shore’s negotiations and the terms and conditions of sale are adding to our discomfort. We do not know the prospective purchaser, the closing date or what, if any, arrangements have been made to provide for an assignment of Shore’s obligations to the new purchaser. Further, we have no indication that Shore is providing, or is willing to provide any type of security to satisfy its obligations to Koch. To date we know only that the sign in front of Shore’s current offices has been changed to read “Asphalt Paving Systems” and that several company vehicles are now bearing this new moniker. . . . Of course, once Shore has provided Koch with adequate assurance of performance of its obligations to Koch the process which we began with this letter can be terminated. Shore’s answer, on April 6, 2001, was again a letter from Capoferri to Koch’s general manager. Capoferri noted that he had conferred with his attorney, and went on to argue that: There has not been a failure to pay amounts due or to comply with requirements under any of the agreements we have with Koch. Nothing in any of the agreements drafted by Koch prohibit me from retiring business, nor do they require me to provide any type of security, collateral, or personal guarantee of payments similar to those we imposed upon our Nova Chip sublicensees. Regarding the assertion of secrecy contained in Mr. Hull’s letter of April 3, 2001, I am not aware of provisions within our agreements requiring me to notify Koch of any business negotiations that I may be involved in. Finding little comfort in Shore’s response, Koch filed a lawsuit seeking recognition of their right to treat Shore’s failure to give adequate assurances as a repudiation of the contract, pursuant to New Jersey’s Uniform Commercial Code, 2–609(1) (1962), and the common law of contracts. 21 - 14

Koch Materials Co. v. Shore Slurry Seal, Inc. Legal Reasoning: Judge reviewed state’s UCC law A party with reasonable grounds for concern may demand assurance and failure to provide assurance is repudiation Applied law to facts Relevant agreements and lack of sale details were reasonable grounds for concern Shore’s letters failed to provide Koch adequate assurance, thus repudiated contract Court: “When, in a contract for the sale of goods, one party has reasonable grounds to doubt that the other party will be able to perform, the doubting party may demand of its counterpart assurance that performance will occur. Section 2–609 (1). If no adequate assurance is forthcoming within a commercially reasonable time, or in any event within 30 days, the doubting party may treat its counterparty as having repudiated the contract. Section 609(3), (4).” Court: “I conclude that no reasonable fact-finder could fail to conclude that Koch had a commercially reasonable basis for demanding assurances on both the Exclusive Supply and Sublicense Agreements…. Courts have often refused to permit assignment or delegation of duties under requirements or “best efforts” contracts where the assignment or delegation would be contrary to the justified expectations of the opposite contracting party…. I conclude, therefore, that Shore was required to give Koch adequate assurances that it would perform the contracts. The remaining question, then, is whether it did so. Based on the summary judgment record, it appears that any reasonable fact-finder would determine that Shore did not…. I conclude, therefore, that Shore repudiated the ESA and Sublicense Agreement as of May 3, 2001.” ” 21 - 15

Assurances & International Contracts Convention on Contracts for the International Sale of Goods Art. 71: party may suspend performance if it becomes apparent that other party will not perform substantial part of obligations due to: (a) a serious deficiency in ability to perform or credit-worthiness; or (b) his conduct in preparing to perform or in performing the contact Suspending performance requires immediate notice to other party and must continue with performance if other party provides assurances 21 - 16

Excuse for Non-Performance Code rules for determining when a party is excused from performing similar to general contract rules Test of impossibility In most situations, however, Code uses the test of commercial impracticability Performance highly impracticable, unreasonably expensive, or little value to promisee [UCC 2–615] 21 - 17

Test Your Knowledge True=A, False = B Goods are to be delivered at buyer’s place of business unless otherwise specified by contract If goods delivered conform to the contract, the buyer must pay any expenses of inspection. Buyer may revoke its acceptance of goods not conforming to the contract if the nonconformity substantially impairs the value of the goods False. Goods are to be delivered at seller’s place of business unless otherwise specified by contract True. 21 - 18

Test Your Knowledge Multiple Choice Jersey Steel contracted to deliver 50 M12 metric threaded rods to HomeCo each week for nine months. Four months later, Jersey Steel erected a new sign at their site with the name “United Steel.” HomeCo may: (a) Cancel the contract (b) Demand assurances of performance from Jersey Steel (c) Stop any payments until all nine months of deliveries have been received (d) None of the above The correct answer is (b). 21 - 19

Thought Question If you contracted with another party for a long-term sale of goods contract, what kind of activities would prompt you to demand assurances of performance? Opportunity to discuss long-term contracts and potential risks involved. 21 - 20