Pitfalls in Contract Law: Background and Materials

Introduction to Issues in Contract Law

When it comes to legal disputes, the most common interactions are contractual disputes. In these disputes, the parties involved often allege non-performance of a contract, however, the adjudication of these disputes frequently reveal even more complex issues that arise during the formation and performance of contracts. Contract law, in its essence, is about the enforcement and limitation of promises, and involves the judicial enforcement of duties that the parties undertake voluntarily. While the law seeks to uphold these voluntary obligations, it also observes with suspicion some of them, and some of them it refuses to observe at all, leaving the court system open to deciding whether a promise or obligation should be enforced or fulfilled.
Contract law seeks to answer why a party should be held liable for a promise they did not intend to uphold, and for the other party to obtain the satisfaction of the order from the court if the defendant is unable to perform what they promised. But the answer is always burdened with complications and difficulties. Contract law, like every other area of law, has changes in principles, doctrines, practices, rules, and even history. A dispute over a contract may seem mundane at first, until it is revealed that the reason behind the dispute is actually a consequence of complex legislative developments and judicial attempts at solving new problems that arise from those developments .
Contract law deals, inevitably, with many "what ifs". It is thus important, whether you are a legal practitioner or a legal student, to appreciate the depth behind this area of law and the problems behind many of the cases in contracts, so as to better understand their resolution. Many of the contract law cases we analyze and dispute involve issues that arise from previous adjudications of disputes, including but not limited to, the issue of interpretation of the contract, the liability of a party for damage suffered by another party in assumption of a risk made by that party, the limits of price variation, the legal and practical limits of performance requested by the client, and the limits of indemnity.
There are many areas of contract law that traverse their way into the consciousness of many legal practitioners, students, and even those without a legal background. It may be said of contract law that it is a collision of many different types of disputes. At the same time, these disputes do not occur in a legal vacuum. Many of them have been influenced by other legal areas, including and not limited to, tort, intention and liability, company and competition, and banking law. In that sense, contract law is more representative of the intersection of those different areas of law.

Ambiguities in Contract Language

One of the most frequent ways in which litigants trip, and fall into litigation, is over an obvious seeming ambiguity or even omission in a contract term. For instance, an assignment of rents in leases is often poorly constructed and ambiguous. Ambiguities, as in the commonly cited cases, leading to conflict, often arise from omissions: an anchor tenant issue in a lease for a shopping center, a relationship between warehouse owners and suppliers of goods shipped to customers for them, etc. Where there is a dispute as to which party is the intended party in a chain of parties having some obligations, a common situation is in testimonials of workers that they are not, on their face, clear, and unless testimony is provided as to the true intention, there is wide-spread conflict between witnesses with regard to duty, and this leads even more often to conflict. Consider the case of Muñoz v. B.A. Velez, Inc., 92 N.Y.2d 714 (1998), and its progeny in which the various assignment and sale documents seem to be inconsistent: an intent to assign the property is not supported by the sale or loan documents, and there is a welcome ambiguity toward a result likely opposite to an expected, intended outcome. Suppose, instead, that the documents were clear, and the chain of documents indicated only an intention to assign the property and to loan money toward the development. The folks on Wall Street do this all the time; at least as a premise. The assignment of an entity to a new owner is confirmed by an agreement that keeps the owner on the hook for payments due. This item is often much less than the value of the entity. It is not a bad deal for the lender, even presuming some recovery on secured assets, as it means that: When those decisions are made, without regard to the rights, obligations and duties to which the assignor is subject, then there is no solution in sight and then there is no recourse. Further, where those assignments are intended to shift liability to the lender, as against a putative seller, then those methods are rarely used. So a great solution to those unanticipated conflicts is to be clear, and to use clear language, not necessarily using simplistic language. Specific obligations have to be clearly set out, not just by reference to other documents, but in the very document: incorporated by reference does not make clear the intention. There was a case about that recently.

The Battle of the Forms

Investors are going to look at their water bill and say, "wow!" I’m glad we fixed that leak before it showed up on our books… plus it’s nice to have water flowing again. The contractor is going to look at his repair bill and try to get as much of it taken care of by the owner by claiming that he was not aware of the leak until after the invoice had been submitted. The owner is going to look at United Water’s bill and tell the contractor that he slipped up and should absorb most of the hit. And the parties’ lawyers are going to look at their own hourly rates and battle it out in court over who was supposed to pay what.
Alfred E. Neuman, felt pen and all, helped introduce most people to the phrase "What Me, Worry?" So what? Well, as a contracting attorney, he was a bit of a genius. Look at the construction world today where there is so much contractual overlap between subcontractors, contractors, architects, engineers, and owners that most lawyers don’t understand the contract’s provisions. And the contracting process is further complicated by new modules being added to the forms everyday which are not understood by anyone who has to "live" the contract. One example is the use of "battle of the forms" by multiple standardized documents ("Warranties," "Product Information," "Payment Requests" and "Invoices" for instance) between the owner, architect, contractor and subcontractors, and suppliers at all levels. One contracting party finds that it has agreed to terms which it has no idea how to negotiate because it simply does not understand them. So, they either agree to them, or they are taken to court to fight over the terms.
One recent case decision involved an owner who was charged over $45,000 by a subcontractor for which the contractor claimed he required and needed that amount to deal with a broken water main and leak on the site. The contractor stated he provided the water and the repair, and that he was entitled to be paid for those expenses. Unfortunately, the form that the contractor used to claim the reimbursement was not the one that the owner accepted, but one that the owner rejected at the outset of the project. The court held that the contractor was not entitled to reimbursement for the costs incurred as it was on the contractor to provide ample notice to the owner of his expenditure. And he did not.
There are many other "battle of the forms" cases involving projects. But there are less than a handful of attorneys who truly understand the battle because they have to deal with it on a daily basis.

Force Majeure Events and Their Legal Ramifications

Force majeure clauses are a common feature of many standard business agreements, dramatically narrowing the scope of liability arising from causes entirely outside the control of the parties. While most of us think of natural disasters when it comes to force majeure events, they can take many forms, including but not limited to strikes, embargoes, floods, terrorist acts, hurricanes, earthquakes, acts of government, inclement weather. It is also not uncommon for contracts to be silent as to force majeure altogether.
Whether a particular situation constitutes a force majeure event warrants a case-by-case analysis that may turn on the governing law. In Negley v The Latham Group Inc, 2008 WL 4348935 (E.D.NY), the defendants argued that their nonperformance of contract obligations was excused by the collapse of the World Trade Center, which made it impossible for them to continue their legal representation of the plaintiff. The Eastern District of New York noted that a "force majeure clause . . . frees a party from nonperformance when an ‘event beyond its control’ renders performance impossible or impracticable." The court further opined that the applicability of a force majeure clause depends on whether, considering the nature and purpose of the contract, parties to an agreement would reasonably have considered certain events to render performance impossible, and concluded that defendants could not have reasonably believed that the circumstances rendered the representation contract impossible to perform, and that relief was not available under the force majeure clause.
In AMG National Trust Bank v PNC Bank, 628 F.Supp.2d 155 (S.D.NY), the Southern District of New York quoted from an earlier decision by the same court in Metro Pneumatic Corp v Airtech Service Group, Inc, 7 A.D.3d 304 (N.Y.A.D. 2 Dept., 2004), which suggests a more practical approach: "A delay in the performance of this Agreement caused by a force majeure event shall result in an extension of time for performance by an equivalent period, except that the time for performance of any required payments shall be extended only at the discretion of the non-defaulting party, provided that the party claiming force majeure must use its reasonable best efforts to remove the force majeure event and resume performance with reasonable dispatch." AMG at 160. Here, the force majeure events ran the gamut from September 11th and several hurricanes to the merger of a defendant bank. The court found that the events "represent delays, not impossibilities, in performance" and therefore did not release defendant from its obligations to perform.

Consideration and Legal Shortcomings

A critical element for the validity of any contract is consideration. Consideration, in essence, lends something of value to the terms of a contract. Consideration thus takes the place of a bartered item such as goods, services, or money in an exchange between parties to a contract. Without consideration, a contract is invalid. For this reason, it might make sense to focus on consideration because, for instance, a contract that seems solid might fall short of consideration altogether, thus invalidating it. However, because of the ease with which the concept of consideration seems to mesh with other areas of contract law, issues related to and surrounding what constitutes the "legal sufficiency" of consideration are often overlooked. In the landmark 1951 case of Batsidis v. Evans, the Maryland Court of Appeals agreed with the Circuit Court and found that the consideration that a debtor offered the creditor-to pay a smaller sum of money, in exchange for the debt being satisfied-while sufficient in amount, was not "legally sufficient" as is required by law. At the heart of the issue was a creditor who wanted a larger payment than what the debtor offered. As a compromise, both parties agreed to a third party bringing a separate claim against the debtor. The creditor would then "settle" with the debtor for the debtor paying the creditor the amount he consented to pay and the creditor would "settle by crediting to [] Evans $300." In its decision, the Maryland Court of Appeals found that the payment was not legally sufficient when it stated: The payment of $1,850.00 (the amount involved) was not the payment called for by the contract (a payment of $2,395.63). It was not a cash payment of the full amount called for by the contract. It was not a payment at the time or times called for by the contract. It was not ‘of that much, or up to that amount,’ as Evans contends. It was, on the face of the contract it purports to satisfy, less than the amount called for by the contract, and plainly its true consideration was a promise to pay an amount considerably less than the amount called for by the contract. And, as we have held, when the promise to pay $1,850.00 was made, the balance on the contract had been due and unpaid for several years. Since its enactment, consideration remains an important element in contract law today. The issue of sufficiency is important because it embodies fairness in commercial dealings. The Batsidis case addressed both the issue on the sufficiency requirement and the question of fairness.

Contractual Capacity and Illegality

The importance of contract capacity and legality in the formation of an agreement cannot be overstated. The capacity of a party to enter into a contract is governed by the relevant rules contained in the legislature’s Children’s Act (Act 38 of 2005) and in the common law. Statutory requirements for the capacity of a minor include the test of "necessaries" provided in section 41(1) of the Children’s Act, whilst a general understanding of the institutions of "insanity" and "doli incapax" in the common law remains relevant. The common law requirements of capacity deal with aliénation, marriage and insanity, whilst the statutory capacity requirements also deal with minors and mentally ill persons.
There can be no valid contract unless both parties have the necessary capacity. In the event that the party does not possess the necessary capacity to contract, an agreement may be set-a-side by a court. In the matter of Peters v Peters NO 2011 JDR 0334, the court had to deal with the capacity of a minor, as the contract was entered into by the minor jointly with his mother who was his natural guardian in terms of section 22 of the Children’s Act 38 of 2005. The area of contract law in relation to children is sensitive, as it is recognised at common law that children are presumed to be incapable of entering into or performing contractual obligations. The general rule is that a contract entered into by a minor may be set-a-side by the minor after reaching the age of 21 years.
It has, however, become recognised and accepted that there are exceptions to this rule . If the contract is still enforceable against a minor it is referred to as binding on a minor. The court in Peters v Peters found that the contract was binding on the minor because it was entered into with the minor’s mother, as she was his natural guardian and was therefore contractually capable in her own right. This case noted that the ability of the minor to contract came down to the principle of necessity. A minor will be liable where the nature of the subject matter of the contract relates to necessaries. Necessaries refer to what is needed to sustain life and situation. The crucial factor is whether the subject of the agreement bears a reasonable relation to the minor’s present state of affairs and whether it is suitable to his condition both in respect of quality and price. This means that the contract must be fair, honest and just and mitigate the needs of the minor.
The court has the power to set-aside the contract if the minor has contracted too unnecessarily. In Khumalo v Minister of Safety and Security (54882/08) ZASCA (29 March 2010), the question arose as whether certain contracts were validly concluded with a minor. As a result of the invalidity of the contracts, the minor could not be held liable for payment of the premiums and all amounts paid in terms of the contracts, as well as the transfer of shares to the primary witness, constituted unlawful conduct. An unauthorised alienation occurs when a minor alienates property which cannot be recovered from the minor without a court order. This was found in Kameni v Kameni (2246/2007) [2008] ZAWCHC 91 (31 October 2008) and Peters v Peters NO 2011 JDR 0334.

Misrepresentation and Fraud In Contracts

Misrepresentation—whether intentional or unintentional—can lead to a contract’s rescission. It is not enough, however, for a misrepresentation to be proven; the misrepresentation must also be deemed material. Simply put, a material misrepresentation is one that, had it been known, would have caused the other party not to enter the agreement. For example, granting a person’s request to build a road across your property when the person fraudulently represents that they own the property is a material misrepresentation, and you will be able to get the agreement set aside if you can convince a court that, had you known the truth, you would never have agreed to the construction project.
There are two types of misrepresentation. Fraudulent misrepresentation is a known lie that is relied on by a party to their detriment. An example of this is the scenario outlined above. When the person who wants to build the road knows that they are not the true owner of your land, but lies to you so that they can do so anyway, this is an intentional and fraudulent act of misrepresentation.
In the case of negligent misrepresentation, the person genuinely believes that they are telling the truth, but they still have misrepresented the facts. For example, if that same person legitimately believes that they own your land, but fail to do an ownership title search, then they have negligently misrepresented the facts to you. It is not required that the misrepresentation be intentional; if it is made without the proper care, this will meet the legal standard of being negligent.
Fraudulent misrepresentations can be much more serious than just that, though. There can also be actionable fraud, which is the level of intent that will get any fraudster in big trouble with the law. For actionable fraud to exist, a party must have specifically intended to creates an advantage for themselves in the future by lying to the other party. Both of these types of misrepresentations will likely mean that the contract will either be rescinded or voided.
There are several other types of frauds that will not necessarily result in a contract being invalidated. These include:
There are a few cases that really stand out when it comes to misrepresentation in contract law. One of the most famous cases is that of Oscar Grillo v Birkett, 1991 CanLII 7805. In this case, the landowner agreed to go into business with the lessee, being compensated through the profits of the new business. They entered into a partnership, but later the landowner backed out of the agreement and said he was no longer able to provide his cooperation. The lessee sued, as there was no reason the partnership should not have continued to run for several years into the future. The landowners lied when they said they could no longer participate in the business; thus, the agreement was found to be void.

The Use of Precedent in Contract Disputes

The conundrum of contract is that we can only be obligated to that which we have voluntarily agreed to. As in all areas of the law, case precedent plays a powerful role in what law applies to contractual disputes. Generally speaking, a court will use previous rulings on similar matters to help resolve a current contractual dispute. All laws on contracts from statutes are considered to be searchable by contract and case. Therefore, all laws governing contracts are searchable through each legal action under contract law. The line from contract to dispute is blurry and not subject to clear determinations. For example, in 2000, the Supreme Court of Virginia held that an insurance carrier’s liability under the terms of its policy—that is, its contractual obligation to defend the insured—does not depend on whether the carrier’s denial of defense came before or after it was formally declared an insurer. This ruling might serve as precedent in a future case where the date issues of liability and duty to defend are in dispute.

Dispute Resolution for Contract Matters: Mediation and Arbitration

Resolving contract disputes often takes place through alternative dispute resolution (ADR) methods such as mediation or arbitration. Mediation is a non-binding process, while arbitration is legally binding under statutory and case law. ADR methods are effective because they are quicker, less formal, and less expensive than court intervention. Mediation focuses on settlement and settlement between parties. Mediation resolves disputes quickly and facilitates finding a middle ground. It is confidential, and anything said in the mediation is protected by a confidentiality obligation and privilege that is invocable in court. Arbitration is typically included in contracts. Contracting parties often agree to arbitration rather than litigation. The agreement to arbitrate by contract is controlling. It is automatically enforced by courts. State law controls arbitration and the Arbitration Act of 1925 is the Federal law that controls arbitration agreements in interstate commerce. Arbitration may not be secretive or confidential. The result of the arbitration is disclosed and known as award. The award is subject to appeal or enforcement challenges in court under limited circumstances. Arbitration is usually more expedient than litigation, but a court deciding an appeal or challenge may take years after the arbitration has concluded. Parties to a contract may decide to use ADR methods for resolving contract issues at any time. Courts are mandatory venues for contract disputes unless the parties forego court. In state or federal court, a judge may order parties to mediate or arbitrate. Parties also may agree to mediate or arbitrate in court. Similarly, courts may refer matters to outside professionals (such as accountants or engineers) to resolve certain issues (such as the value of goods or services provided under a contract).

Conclusion: Navigating Pitfalls of Contract Law

As we have seen in this discussion, contract law is fraught with potential pitfalls and complex issues that can have significant consequences for the parties involved. From the risk of unenforceable agreements to difficulties in identifying the correct jurisdiction, practitioners and students of contract law must navigate an often murky set of rules and regulations.
After examining the common challenges we outlined here , we believe that the following best practices can help legal professionals manage contract law issues more effectively:
Of course, it is not possible to truly succeed in contract law without a thorough familiarity with all of the complexities and nuances of the field, and as we have seen, the legal landscape is always changing. The law of contracts is changing all the time, which means that these issues are worth careful study and continual reexamination if you plan to practice contract law.