Wednesday, April 28, 2010

anticipatory breach (anticipatory repudiation)

In April 1852, Mr. De La Tour hired Mr. Hochester as a courier. Hochester was supposed to start work on June 1, but on May 11, De La Tour told him he wouldn’t need his services. On May 22, Hochester sued for breach and De La Tour responded that no breach could occur until the services were due to begin, on June 1 (which had been the rule until that time). The English court, in a landmark case, ruled that a contract is breached once one party unconditionally refuses to perform as promised, regardless of when performance is supposed to take place. This unconditional refusal is known as a “repudiation.”

Once one party to a contract indicates—either through words or actions—that it’s not going to perform its contract obligations, the other party can immediately claim a breach and seek remedies such as payment.

When does repudiation occur? Courts usually recognize three types of repudiation:

  • A positive and unconditional refusal is made to the other party (“express repudiation”). The other party must tell you, in essence, “I’m not going through with the deal.” It’s not enough to make a qualified or ambiguous refusal (“Unless this drought breaks, I won’t be able to deliver the apples.”). The repudiation must be clear, straightforward, and directed at the other party (“I will not be delivering the apples as promised.”).
  • A voluntary act makes it impossible for the other party to perform. When it comes to repudiation, actions speak as loudly as words. For example, a couple was supposed to repay two loans from the profits of their business. Instead, the couple voluntarily ran the business into the ground, incurring lots of other debts and making it impossible to pay back their original loans. Their reckless actions counted as a repudiation of the original loan agreements.[i]
  • The property that is the subject of the deal is transferred to someone else. If the contract is for the sale of property, repudiation occurs when one party transfers (or makes a deal to transfer) the property to a third party. For example, if you’ve contracted to buy a house and you learn that the other party has subsequently sold it to his brother, your sales contract has been repudiated (even if you never heard a word about it from the other party).

UCC rules for sale of goods. The Uniform Commercial Code (UCC)—legal rules governing the sale of goods—prescribes a procedure for dealing with anticipatory breach. If you have reason to believe that the other party is not going to fulfill its obligations, you have a right to demand “adequate assurance of performance,”[ii] and you can suspend your own performance until the assurance is provided. If, after 30 days, the other party fails to comply with your request for assurances, the contract is officially over (“repudiated”).

EXAMPLE: In April, Steve orders 100 computers from Compco. He is supposed to pay $50,000 on May 1 and receive the computers on July 1. On April 29, Compco’s CEO tells a television reporter, “Unless chip production increases, Compco may have trouble filling its summer orders.” Steve demands an assurance from Compco and withholds payment of the $50,000 due on May 1. When Compco hasn’t responded to Steve’s request for assurance by the end of the month, Steve terminates the contract.

As you can see, under UCC rules, a qualified repudiation (“Compco may have trouble filling its summer orders”) is enough to stop the clock on the contract, at least until the other side provides the requested assurances. Many commentators have argued that all contracts—not just those governed by the UCC—should follow these rules for requesting and providing assurance.

Retracting repudiation. It’s possible for a party to repudiate the contract and then later retract the repudiation, as long as the other party hasn’t made a “material change” in position because of the repudiation.

EXAMPLE: Tom is supposed to deliver 100 cases of cauliflowers to Bob. Tom’s tractor breaks down, and he tells Bob he can’t fill the order. Bob immediately makes a new cauliflower deal with Sam. Two days later, Tom buys a new tractor and tells Tom he can fulfill the order. But it’s too late to retract the repudiation because Bob relied on it in making his new deal with Sam (a “material change”).

When only a payment remains. In what may seem like an odd quirk, the rules described in this section don’t apply if the only contract obligation remaining is for one party to pay money to the other. In these cases, the party seeking the payment must wait until the due date for the payment has passed. (No claim of anticipatory breach can be made.).

EXAMPLE 1: Greta agrees to steam clean Sam’s houseboat on May 1; Sam will pay Greta $2,000 on June 1. Greta completes the steam cleaning on time and on May 15, Sam tells Greta he can’t pay her. Because the only contract obligation remaining is payment, Greta must wait until June 1 to sue for breach.

EXAMPLE 2: Same facts as above: Greta agrees to steam clean Sam’s houseboat on May 1; Sam will pay Greta $2,000 on June 1. This time, Greta starts the work but within the hour Sam announces he can’t pay her. In this case, Greta does not have to wait until June 1 to sue for breach because Greta hadn’t completed her steam cleaning (her obligation). She can claim an anticipatory breach.

Duty to mitigate. There’s one last twist to anticipatory breach: if one party repudiates the contract, most courts require the other party to act swiftly to avoid incurring unnecessary costs or expenses. This is referred to as “mitigating damages,” and generally means that you can’t sit around and let the situation get worse. This also explains why some parties repudiate a contract: It gives the other party more time to cut its losses, which reduces the damages available for the breach. For instance, in our houseboat example, if Sam repudiates two weeks before Greta starts work, she may be able to find another client to fill that slot—and limit or even wipe out any damages she could have collected from Sam as a result of the breach. If she can make up the money with another job, it’s essentially a situation of “no harm, no foul.”

See: breach of contract, UCC, mitigating damages

[i] Zogarts v. Smith, 86 Cal.App.2d 165 (1948).

[ii] U.C.C. Sec. 2-609

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