AN OVERVIEW OF CONTRACTS

INTRODUCTION

Contract law lies at the heart of every society. Although it will be discussed in more detail later, a contract
is essentially a legally enforceable promise that can be either oral or in writing. Although we might not
think of them as contracts, we engage in contracts on a daily basis, like buying a cup of coffee in the
morning or casebook at the law school bookstore. What’s the promise? It’s a promise to pay for an item,
and it’s performed on the spot when you pay for the item. Other transactions are more complicated.

Contract law provides the framework for each step. It is what determines the enforceability of promises as
well as the formation, interpretation, performance, and avoidance of those promises. It also provides rules
to remedy situations when things do not work out as planned (i.e., there was a breach of contract); this
could either happen by awarding damages or ordering a party to perform. This process is what makes a
free market society operate smoothly. It is the underpinning of all the private and commercial transactions
that take place.

Which Law Applies?

Contracts is primarily a common law subject, meaning that most of the rules are judge-made. However,
some statutes do still apply. The most important of these is Article 2 of the Uniform Commercial Code
(“UCC”), which has been adopted in every state except Louisiana. Any contract that involves a sale of
goods (as opposed to land or services) is governed by the rules in Article 2.

Contracts Basics

A contract is an agreement between parties that can be enforced in court. The agreement consists of a
promise or set of promises. Contract law imposes certain requirements to make an agreement
enforceable—and even if all of those things are present, certain defenses may be raised to prevent the
enforcement of the agreement.

Once an enforceable contract is formed, the parties have a duty to perform the contract as promised. If a
party fails to perform, the contract is breached, and the other party is entitled to a remedy. Remedies
include specific performance (a court order requiring a party to perform as promised) and damages
(money).

To form a contract, you need mutual assent (the agreement) and consideration. Mutual assent is usually in
the form of an offer and an acceptance. Most of us can readily understand the idea of an offer and
acceptance (for example, Offer: “Hey, want to buy my baseball glove for $15? Acceptance: “Sure”), but
many students have a difficult time understanding the concept of consideration. So let’s get the difficult
stuff out of the way first.

CONSIDERATION

Consideration is a bargained-for exchange of something of legal value. Promises are enforceable only if
they are part of a bargain in which something of legal value is exchanged for the promise. What has legal
value? What will make my promise enforceable? The person to whom I made my promise must give me a
promise or the act that I ask for. This is most often discussed as legal detriment. (What is a detriment?
The party does or agrees to do something he was not obligated to do or refrains from doing something he
has a right to do.)
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Consideration often has monetary value (for example, you give me a watch—worth about $100—in
return for my promise to pay you $100, or you promise to wash my car 10 times—a $100 value—in
return for my promise to pay you $100). However, consideration need not have monetary value. Perhaps
the most commonly used example of nonmonetary detriment is: “I promise to pay you $10,000 if you
promise to name your first child after me.” My promise to pay you $10,000 can be made enforceable by
your promise to name your first child after me, even though there is no real monetary value connected to
naming rights with respect to the naming of your baby.

Consideration may also consist of refraining from acting when the party had a right to act (for example, “I
will not bring a lawsuit against you if you pay me $10,000”).

Consideration must exist on both sides of a contract (that is, each party must provide something of legal
value) for it to be enforceable, as it does in all of the examples given above. Let’s look at my promise to
pay you $10,000 in exchange for your promise to name your first child after me. You are a promisor in
this contract as well as a promisee—because you are promising to name your first child after me. What
consideration supports your promise? My promise to pay you $10,000.

While most contracts involve an exchange of promises, a bargain may involve a promise in exchange for
an action. For example, I might promise to give you $10,000 if you name (as opposed to promise to
name) your first child after me. Such contracts are called unilateral contracts because there is only one
promise. The action (or forbearance—I’ll give you $10,000 if you promise to not name your child after
me) serves as the consideration.

Promises that Do Not Constitute Consideration

So now that we’ve cleared up the basics of what is consideration, let’s move on to discuss what is not
consideration.

Preexisting Duty
The general rule is that a promise to do something that you are already legally obligated to do is not
consideration. Let’s look at how this usually comes up in both practice and on the bar exam. Your client
has promised to perform an act—for example, build a house for landowner for $250,000. Halfway
through building the house, your client discovers that he is not going to make sufficient profit on the deal.
In fact, he is going to lose money. So, he calls the landowner and tells her that he will not finish the
construction unless she agrees to pay an additional $20,000 when the house is completed. The landowner
agrees, your client finishes the construction, but the landowner refuses to pay the additional $20,000.
Your client calls you and asks what his rights are. In most instances, you are now in the unenviable
position of telling your client that he cannot enforce the landowner’s promise to pay the additional
$20,000 because the client did not give anything of legal value in exchange for the promise—he was
already obligated to build the house.

However, if we change the facts—make some small change to the deal—we change the result. For
example, if the landowner had said, “OK, I’ll pay the additional $20,000 if you promise to finish the
house by July 1,” the landowner has bargained for something of legal value in exchange for her promise
to pay $20,000—completion by July 1. The promise to pay the additional $20,000 now is enforceable.
Why? Because it was supported by consideration. Note that it does not matter that other people would not
value finishing the house by July 1 as being worth $20,000. Generally, the amount of consideration is not
important; any amount is sufficient. Promises are difficult to value. For example, what is your promise to
name a child after me worth? $10,000? How would we even value that?
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Past Consideration
Something that is done before the bargain is made cannot serve as consideration (because it was not
bargained for). Suppose I give you my car freely and without any element of bargain. Because you are a
starving law student who needs a car, I give you my 1992 Ford Taurus with 178,000 miles on it. A week
later, while you are at my house drinking a beer and discussing contracts law, you notice that the paint is
peeling on my house. Feeling like you owe me something for my generosity, you say: “in consideration
of you giving me your car last week, I promise to paint your house.” Despite what was just said, there is
no consideration to support the deal. You did not obtain my car in exchange for your promise—there was
no bargain. Some like to say, “past consideration is no consideration” or “moral consideration is no
consideration,” at least not under traditional contract law.

Promissory Estoppel

There is one last thing to note about consideration—there are some substitutes and exceptions. (It’s law.
Without exception, there are exceptions.) The most important consideration substitute is detrimental
reliance, also known as the doctrine of promissory estoppel. This doctrine is used primarily to enforce
promises not supported by consideration, usually promises to make a gift. If I make a promise to you and
you give no consideration in return, but I know that you are likely to rely on the promise to your
detriment (that is, in a way that will cost you money, cause you to give up an opportunity, etc.), and you
do in fact rely on my promise, your reliance will substitute for consideration. However, unlike the usual
contract that may be enforced in the amount of the promise, many courts will enforce my promise only to
the extent of your detriment. Suppose, for example, a rich person promises to give a hospital $1 million
toward the purchase of a new piece of equipment. The hospital relies on the promise and buys the
equipment. Although the rich person received no bargained-for consideration, his promise is enforceable
through promissory estoppel/detrimental reliance. If, however, the equipment costs less than $1 million,
the rich person will be obligated to pay only the cost of the equipment, not the $1 million he originally
promised.

MUTUAL ASSENT (MEETING OF THE MINDS)

Okay, the hard part of contracts is over. We will now move on to the easy stuff—offer and acceptance.
The process by which parties reach a meeting of the minds generally involves some form of negotiation
during which, at some point, one party makes a proposal (an offer) and the other agrees to it (acceptance).

Offers

An offer is simply a communication of willingness to enter into a contract. It creates the power of
acceptance in the offeree (the party to whom the offer is made). A valid offer requires two things: (i)
intent to enter into a bargain and (ii) definite terms.

Intent
Intent to enter a bargain is shown if a reasonable person would believe that his assent (agreement) would
create a contract. It is important to distinguish offers from mere invitations to deal or begin negotiations.
Words such as “I would consider” or “Would you,” indicate a preliminary negotiation, not an offer.
Words suggesting an offer include “I will sell,” “I will buy,” and “I offer.”

Definite Terms
The test for whether an offer’s terms are definite enough is whether they are specific enough that a court
could enforce a contract based on them. Typically, the identity of the offeree, the subject matter, and the
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price are important terms. However, the resulting agreement may be enforceable even if a material term is
missing if there is a standard for the court to supply the missing terms.

Identity of offeree: An offer must be directed toward a certain person or class of people (for example, the
first 10 people who purchase a suit at my store). Advertisements and catalogs are generally classified as
invitations to deal rather than offers because they are addressed to the general public. However, an ad can
be an offer if it limits the people who can accept. For example: “For Sale: 1992 Ford Taurus with 178,000
miles to the first person to tender $500” or “the first 10 people to buy a suit in my store today will receive
a free shirt and tie.” Since we have limited the people who can accept, the ads can constitute offers.

Subject matter: Different kinds of offers require different terms to be included. Examples:

• A land sale contract must clearly identify the land and the price term.
• An offer for the sale of goods must specify the type and quantity of the goods.
• An offer for employment must specify the work to be done.

In any case, the less specific the communication, the less likely a court will find the intent to make an
offer.

Termination of Offers

Offers are not valid forever. They can be terminated—either through the passage of time or by an act of a
party. The power of acceptance created by an offer ends when the offer is terminated. An offer may be
terminated in four ways: passage of time, death of either party, revocation by the offeror, or rejection by
the offeree.

Passage of Time
An offer is open (that is, it may be accepted) for as long as it says it is open. If it does not state a time,
then it is open for a reasonable time, considering the circumstances (for example, my offer to sell a block
of ice today at the county fair probably cannot be accepted tomorrow, but it might be reasonable to
assume my offer to sell my car for $500 will be open for weeks).

Death of Either Party

Except for irrevocable offers (see below), the death or incapacity of either party after the offer, but before
acceptance, terminates the offer.

Revocation by Offeror
The offeror may revoke an offer by communicating the revocation to the offeree before the offeree
accepts. This can be something simple, like, “Hi, I revoke my offer.” This, of course, does not make for
very interesting bar exam questions and you will seldom have a client come to your office asking you
about the legality of such a simple revocation. A more interesting and common revocation question arises
when the offeror has promised to keep the offer open. Such as the offer: “I will sell you my Ford Taurus
for $500. I promise not to revoke this offer for 30 days.” Is such an offer irrevocable for 30 days? Think
about what you’ve learned so far.

Nope. Why? There is no bargained-for consideration to support my promise. You have offered no benefit
to me or detriment to you in exchange for my promise to keep the offer open for 30 days. So I can revoke
any time by saying, “I revoke my offer.”
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But what if you give me consideration for my promise to keep the offer open? For example, “I will sell
you my Ford Taurus for $500. I promise I will not revoke this offer for 30 days if you pay me $25.” And
you pay me $25. Can I revoke this offer one week after I make it?

Nope. Why? We made a separate contract—a contract to keep the offer open for 30 days. Thus, I am
bound in contract to keep the offer open. Such contracts are called option contracts.

There is a special rule that can apply in the case of merchants selling goods called a merchant’s firm
offer. If a merchant in a signed writing agrees to hold an offer open for a length of time, the offer is
irrevocable for that period even without consideration.

An offer may be revoked even if it is not directly communicated to the offeree if the offeree obtains
reliable information indicating the offeror has taken action indicating revocation. For example, I offered
to sell you my trusty Taurus. Two days later, you see our mutual friend Dave driving my Taurus. You ask
him what gives, and he tells you he just bought the Taurus from me. My offer to you has just been
revoked because you found out from a reliable source that I have already sold my car.

Rejection by Offeree
An offer also is terminated if it is rejected by the offeree. For example, if I made my offer to sell you my
trusty Taurus and you responded with, “I wouldn’t be caught dead in that thing. No thanks,” the offer is
dead. If you have a change of heart tomorrow and say, “I accept,” I don’t have to sell you my Taurus (and
I won’t, because you hurt my feelings)—you terminated the offer by rejecting.

The most interesting fact twist in this area is the counteroffer. A counteroffer serves as both a rejection of
the original offer and a new offer. So, if in response to my offer to sell you my Taurus for $500, you say,
“no, but I’ll give you $400.” My offer (for a sale at $500) is dead, and you have just made an offer that I
can accept (a sale at $400). The fun comes in when the offeree asks probing questions instead of
counteroffering: “Would you consider taking $400” is not a rejection. Instead, it is a mere inquiry, and it
will not terminate the offer.

Acceptance

An acceptance is a communication indicating a desire to be bound on a contract, or, in the technical

language of contracts professors, “a manifestation of assent to the terms of the offer.” As a general rule,
only a party to whom an offer is made may accept the offer—offers are not assignable to third parties.
(There is an exception for option contracts, because an option contract is a contract, and contract rights
usually are assignable.)

The offeree must know of the offer to accept as well. Suppose you place an ad in a newspaper: “Reward
$500 for the safe return of my pet Pomeranian, PomPom.” I never see the ad, but I’m a friend to all
animals big and small. I see a Pomeranian prancing down my street alone. I approach it, look at a tag on
its collar that gives your address, and I take it to you. Do I get the reward? At common law, no. Why? I
did not know of your offer and so did not rescue PomPom as part of a bargain. (Note: Statutes in many
states change this rule—but such statutes are not part of contracts law for bar exam purposes.)

Methods of acceptance
If an offer specifies a manner of acceptance, that method must be used. However, most offers may be
accepted in any manner reasonable under the circumstances. Typically, offers are accepted through the
same manner in which the offers are made (for example, verbal offers are accepted through verbal
acceptances, e-mailed offers are accepted via e-mail, etc.). Generally, the acceptance must be actively
6 CONTRACTS OVERVIEW

communicated to the offeror. Silence usually will not suffice—even if it is stipulated in the offer. Why?
Think about it. What if I started sending letters to people in the mail offering to sell them online real
estate courses for $5,000, and the letters included a statement: “Your silence will be taken as assent to this
offer. If you do not wish to take this course, you must send a letter of rejection to the address below
within 10 days.” It would not be fair.

At common law, an offer seeking performance as acceptance (for example, “I will pay you $10,000 if you
name your first child after me”) can be accepted only through performance. However, in contracts for the
sale of goods, an offer to buy goods for current and prompt shipment can be accepted by either a promise
to ship or by current or prompt shipment. Thus, if you order a book from Amazon, Amazon may accept
your offer by promising you it will ship the book or merely by shipping the book.

An often tested and sometimes litigated problem arises out of this rule. What if Amazon sends you the
wrong book? Has Amazon accepted your offer? Surprisingly, yes, it has. Moreover, it has simultaneously
breached the contract as well—it did not perform under the terms of the contract because it sent the wrong
book. However, there is an exception (because, as I stated above, without exception there is always an
exception to every rule of law). If the seller sends a note with the nonconforming goods (for example, the
wrong book) that it sent the goods only as an accommodation, it is treated as a counteroffer, which the
buyer can accept or reject.

Examiners sometimes like to try to confuse students with the above rule. Let’s see if you can see through
the following trap. You order 10 pairs of midnight blue socks from Amazon. Amazon instantaneously
sends you a reply back saying that your order has been accepted and promising to ship your order within
48 hours. Subsequently, the order picker at the Amazon fulfillment center discovers that they are out of
midnight blue socks and substitutes 10 pairs of black socks. The picker includes in the package a letter
explaining that Amazon is temporarily out of midnight blue socks and the black ones are intended only as
an accommodation. Is there a contract? Yes. Why isn’t this a counteroffer? Where’s the trick?

The rule is that if the seller accepts by shipping goods and the goods are nonconforming, and the seller
includes a notice that the shipment was made as an accommodation, we treat it as a counteroffer. Are all
of these conditions present? No. What’s missing? How did Amazon accept? It instantaneously sent a
reply saying, “your order has been accepted and will be shipped in 48 hours.” Amazon did not accept by
shipping nonconforming goods, it accepted by making a promise. The contract was formed when the
promise was communicated to you. Thus, the shipment of the black socks breaches the contract.

Mirror Image Rule

At common law, an acceptance is valid only if the offeree assents to every term of the offer. This is called
the mirror image rule (that is, the acceptance must mirror the terms of the offer). This can easily be done
with two words, “I accept.” An acceptance that includes new or different terms is treated as a rejection
and a counteroffer. For example, suppose I say, “I will pay you $100 if you will paint my fence today.”
You respond, “I accept, but I’ll have to paint tomorrow.” You have not accepted; instead, you have
rejected my offer and made a counteroffer.

Contracts for the sale of goods follow a different rule. Under Article 2, an acceptance that contains
additional terms is effective as an acceptance unless it is expressly made conditional on acceptance of the
new terms. How does this look? I send you a text offering to sell you my Ford Taurus for $500. You text
back, “I accept. Have it washed and vacuumed and bring it by.” At common law we would not have a
contract (because you added new terms—wash and vacuum the car), but under Article 2 we have a
contract. Do I have to wash and vacuum your car? If we are both merchants, yes. If not, no.
 CONTRACTS OVERVIEW 7

What if your response above was, “I accept, but only if you have it washed and vacuumed”? In both cases
you’ve made it clear that you want me to wash and vacuum the car first. But the difference in the way you
answered makes a difference in outcome. Here, you said you want the car only if I wash it and vacuum it;
in the preceding paragraph you did not go quite that far. Here, we have not yet formed a contract for the
sale and purchase of my Taurus because your acceptance was conditional upon acceptance of the new
term.

Mailbox Rule
The mailbox rule receives a fair bit of attention in bar review classes because it is commonly tested on the
bar exam. But it is unlikely you will ever have to deal with it in commercial litigation. It is a rule of
convenience. It provides that an acceptance is effective (that is, a contract is formed by an acceptance) the
moment the acceptance is dropped in a mailbox, properly addressed. And this is so even if the acceptance
never makes it to the offeror. There was no Internet when the rule was made, but it has been extended to
e-mail, web orders, faxes, voicemail, etc. The rule does not apply to rejections and terminations of
offers—they are effective only upon receipt—and bar examiners love this because we can have people
dropping acceptances in the mail and subsequently e-mailing an instantaneous rejection (technically too
late—the contract was formed as soon as the mail was dropped in the box) or dropping an acceptance in
the mail two days after the offeror dropped a termination of the offer in the mail but before the
termination letter was received (again, a contract would be formed).

An offeror may opt out of the mailbox rule and any attorney worth a dime will always do so in a
commercial contract. How? By including a statement in the offer that, “acceptance will be effective only
upon receipt.” Since it is so easy to opt out, why on earth would you ever take the chance of not knowing
whether and when an acceptance has been made? That is why you will not likely ever see a mailbox rule
issue in practice.

TERMS AND INTERPRETATION

Parol Evidence Rule

Although technically parol evidence is verbal evidence, such as by a witness testifying in court, the parol
evidence rule of contracts covers both the oral and written statements of the parties. Under the parol
evidence rule, if there is a written contract and that contract is an integration, written or oral statements
made prior to the writing (and oral expressions made contemporaneously with the writing) are not
admitted to vary the terms of a written contract. A contract is an integration if the parties intended it to be
the final and complete version of their agreement. For example, suppose we entered into a contract under
which I agree to paint your porch Dove Grey for $500. The contract states that it is our final and complete
agreement. When we signed the contract, you told me that it would be fine if I painted the porch Slate
Grey instead of Dove Grey. I paint the porch Slate Grey, and you sue me for breach. Can I testify to your
statement at the signing? No. The parol evidence rule will prevent it. By painting the porch the wrong
color, I have breached the contract.

Exceptions
The parol evidence rule does not bar evidence that affects the validity of the agreement. For example,
fraud, duress, mistake, etc., may be shown by extrinsic (outside) evidence. Similarly, evidence that the
parties agreed that the contract agreement was not to become effective until the occurrence of a particular
event (a condition precedent to effectiveness), such as a loan approval or an appraisal of a certain amount,
would also be admitted. Suppose, for example, that we enter into a written contract under which I agree to
buy your house for $200,000. The contract is silent as to conditions. Orally, we agree that the contract
will not be effective unless my mortgage loan application is approved. Evidence of that oral agreement
8 CONTRACTS OVERVIEW

will be admitted. The evidence in all of these instances shows that the agreement never came into being;
thus, the evidence is not being offered to vary the terms of a valid agreement.

Rules of Construction

Sometimes it is not completely clear what the parties meant when they used particular words or phrases in
their contract. For example, if I order a “car full” of corn, how much corn did I order? To resolve these
cases, there are several rules of construction that courts use when interpreting contracts. Some of the most
common are:

• Contracts are construed as a whole; specific clauses are subordinate to the general intent of the
contract.
• Words are construed according to their ordinary meaning.
• Try to interpret so the contract is valid and enforceable.
• Ambiguities in the contract are construed against the party who prepared the contract.

Article 2 Interpretation Provisions

Missing Terms
As noted above, a sale of goods contract requires a quantity term. If other key terms are missing,
however, Article 2 will supply the terms.

• If the price term is missing, the price is a reasonable price at the time for delivery.
• If the place for delivery is not specified, the place is the seller’s place of business. (If he does not
have a place of business, the place is his home.)
• If the time for shipment is missing, shipment/delivery is due in a reasonable time.
• If time for payment is not specified, payment is due at the time and place at which the buyer
receives the goods.

Delivery Terms and Risk of Loss

All contracts for the sale of goods require delivery of the goods in one way or another, although you
might not think of it as such. For example, assume you go to Walmart. You pick up a bag of potato chips
and go to the cashier. The cashier scans your item, and you hand the cashier the amount he asks for. The
cashier then hands you a plastic bag containing the potato chips. When the cashier handed you the bag,
that was a delivery. Of course, not all sales transactions are face-to-face. For example, what if you
ordered the same bag of chips from Amazon? Amazon will put the chips into a box and send it to you to
be delivered in a few days.

What would have happened if the Walmart clerk stumbled while picking up the bag with your chips and
crushed them? What would happen if the chips from Amazon were crushed when a much heavier box fell
on it in the delivery truck? Would you still have to pay for the chips in each of these cases? The answer
depends on who had the risk of loss when the chips were destroyed. Article 2 includes risk of loss rules,
and those rules depend on the delivery terms.

If under the delivery terms the goods will not be moved by a common carrier (for example, truck, train,
ship), and the seller is a merchant, the risk of loss passes to the buyer when the buyer takes possession of
the goods. So in our Walmart example—where no shipment of the goods is involved—risk of loss would
pass when the clerk hands over the bag after you have paid. If the clerk sneezed and crushed the chips
before she handed them to you, Walmart would owe you a new bag of chips.
 CONTRACTS OVERVIEW 9

If the seller is not a merchant, the risk passes to the buyer when the seller has the goods ready for pickup
(tender of delivery). For example, assume you call me about the Ford Taurus that I have for sale. On the
phone we agree that you will buy it for $450 and I tell you that you can pick it up any time. That night, a
fierce storm knocks down a tree in my yard, crushing the trusty Taurus. You come to pick up the Taurus
the next day. Do you have to pay me? Yes. I am an author, not a car merchant, and I told you that you
could pick up the car any time, which included immediately after the phone call. That is when risk of loss
passed to you.

If a common carrier is authorized by the contract, the risk of loss usually passes to the buyer when the
seller delivers the goods to the carrier unless the contract specifies otherwise. Thus, if goods are destroyed
in transit, the buyer is still required to pay for the goods. (The buyer usually can recover from the carrier
or has insurance on goods.)

Warranties
A warranty is a guarantee. Contracts for the sale of goods automatically include certain warranties. Sellers
may make express warranties as to goods by making a statement of fact (for example, “this car gets 40
miles to the gallon of gas”) at a time that the buyer could have relied on it when she entered into the
contract. This means that the seller is guaranteeing that the goods will conform to the description given.
In the example above, the seller is guaranteeing that the car will get 40 miles to the gallon of gas. If the
car actually gets 30 miles to the gallon, the warranty is breached. In addition to express warranties, Article
2 implies certain warranties:

Warranty of title: There is an automatic warranty that the seller will convey good title (that is, the goods
are not stolen) and that the transfer is rightful.

Implied warranty of merchantability: Implied in every contract for a sale of goods by a merchant who
deals in that type of goods, there is a warranty that the goods are merchantable. To be merchantable,
goods must at least be fit for the ordinary purpose for which such goods are used. For example, if you buy
a vacuum cleaner that, instead of vacuuming dirt from the floor, merely blows air, the vacuum is not fit
for its ordinary purpose and breaches the implied warranty of merchantability. A seller need not have any
knowledge of the defect to be liable.

Implied warranty of fitness for a particular purpose: If (i) a seller has reason to know of the particular
purpose for which the goods are to be used and that the buyer is relying on the seller’s judgment to select
the goods, and (ii) the buyer does rely on the seller’s skill, the seller warrants that the goods will be fit for
that purpose.

Breach: A breach of warranty (that is, the goods do not meet the warranty) is a breach of contract, and the
buyer is entitled to money damages. The measure of damages is the difference in value of the goods
accepted and the value of the goods as promised. This is discussed in the Remedies section below.

DEFENSES—REASONS TO NOT ENFORCE THE CONTRACT

Even if there is a contract because there is mutual assent and consideration, contract rights may be
unenforceable because there is a defense to formation of the contract, a defect in a party’s capacity, or a
defense to enforcement of certain terms. Here are the most common defenses:
10 CONTRACTS OVERVIEW

Statute of Frauds

The most important defense for exam purposes is the Statute of Frauds. The Statute of Frauds is a
universal statute requiring that certain types of contracts be evidenced by a writing and signed by the
party being sued (the party to be charged). The writing need not be a formal contract or even one
document—it can be, among other things, a receipt, a letter, a memo line, or a written offer that was
accepted orally. There must be enough in the writing to enable a court to enforce the contract. If a term is
contained in the writing, evidence is admissible to explain the particulars, but evidence cannot be
admitted to add a missing term. Contracts that must be evidenced by a writing include:

• Promises creating an interest in land (for example, sale of land, leases for more than one year, and
mortgages).

• Promises which by their terms cannot be performed within one year (contracts for services). If the
contract is possible to complete within one year, it is not within the Statute, even though actual
performance may extend beyond the one-year period. Suppose on March 15 I enter into an oral
contract to work for your law firm for one year beginning on April 1. If the law firm calls on
March 30 and tells me they have changed their minds and no longer need my services, can I sue?
No. The time for the Statute begins to run from the time when the contract is entered into, not the
time for performance. Thus, this contract is for more than one year. Because it is not evidenced
by a signed writing, it is not enforceable.

• Contracts for the sale of goods priced at $500 or more.

Failure to comply with the Statute means the contract is unenforceable at the option of the party being
sued.

Mistake

Mutual Mistake
If both parties are mistaken about existing facts, the contract may be voidable if the mistake concerns a
basic assumption of the contract, the mistake has a material effect on the agreed-upon exchange, and the
party seeking to avoid the contract did not assume the risk of the mistake. For example, if we sign a
contract under which I agree to sell you my prize show dog for $2,000, and unbeknownst to either of us,
the dog had died the night before while in transit to a show, you may void the contract. Both of us were
mistaken as to a basic assumption (the dog was alive), the mistake materially affected the exchange, and
you did not assume the risk of the mistake. Or suppose we contract for the sale of a diamond, and in
reality, the stone is a really well-made cubic zirconia, which has 1/100 of the value of the diamond. That
mistake is material, and the contract is voidable by the buyer. However, if we’re not sure whether or not
it’s a diamond, agree on a price, and it later turns out not to be a diamond, the contract is not voidable—
by agreeing to the price knowing that he did not know whether or not the stone was a diamond, the buyer
assumed the risk of the mistake.

Unilateral Mistake
If only one party is mistaken about the facts and the nonmistaken party knew or had reason to know of the
mistake, the mistaken party may void the contract. This type of mistake usually occurs when a party
makes an error in computation, such as when a subcontractor’s bid is way off or the acreage in a land sale
contract is miscalculated. Suppose a general contractor asks for plumbing bids for a new office building
he is constructing. The bids that come in are for $150,000, $140,000, $135,000, and $65,000. The last bid
was the result of a computational error. If the general contractor accepts the $65,000 bid and tries to
 CONTRACTS OVERVIEW 11

enforce it, the bidder can defend on the basis of unilateral mistake. The general contractor had reason to
know of the mistake because of the discrepancy between that bid and the others.

Misunderstanding
If there is contract language with two possible meanings and neither party is aware of the ambiguity, there
is no contract unless both parties happen to intend the same meaning. Similarly, if both parties are aware
of the ambiguity, there is no contract unless both parties intend the same meaning. If only one party is
aware of the ambiguity, a contract will be enforced according to the meaning of the party who was
unaware of the ambiguity.

Misrepresentation

If a party is induced to enter a contract because he justifiably (reasonably) relied on a misrepresentation,

the contract is voidable by the innocent party. If the misrepresentation was fraudulent (the party asserting
the information knew it was untrue), only justifiable reliance need be shown. Concealing a fact, such as
covering water damage in a home sale, can also be fraudulent misrepresentation. If the party asserting the
misinformation didn’t know it was untrue, the innocent party may void the contract only if the
misrepresentation was material.

Lack of Capacity

A minor (a person under age 18) generally lacks the capacity to enter into a contract binding on himself.
However, the contractual promises of an adult made to a minor bind the adult.

Contracts procured by improper threat (duress), such as a threat of violence, are voidable, as are those
procured by overpowering the free will of the party by excessive pressure (undue influence).

Unconscionability

A court may refuse to enforce a contract (or a provision of a contract) to avoid unfair terms that result
from some unfairness in the bargaining process. Unfair price alone is not sufficient for a finding of
unconscionability. Unconscionable terms include inconspicuous or incomprehensible terms (that is, fine
print) and clauses releasing a party from liability for his own intentional wrongful acts.

EXCUSE OF PERFORMANCE

Once the contract is formed, if none of the above defenses apply, both parties are under a duty to perform
as promised. That duty must be either discharged or excused; otherwise the contract is breached. Of
course, duties are discharged when performed, but certain events that occur after the contract is formed
also excuse or discharge the duty to perform.

Express Condition Did Not Occur

Some contracts contain provisions that a party does not have to perform unless an event occurs or if some
event occurs the obligation to perform is terminated. Suppose we enter into a written contract for you to
purchase my house for $100,000 if you are able to obtain a mortgage at 4% interest or lower. If after a
good faith effort, you are not able to obtain a mortgage at that rate, your performance is excused—you are
not obligated to purchase my house. Watch for words such as “if,” “only if,” “provided that,” “so long
as,” “subject to,” “in the event that,” “unless,” “when,” “until,” and “on condition that” in the contract.
These indicate a condition.
12 CONTRACTS OVERVIEW

Waiver of Condition

One who has the benefit of a condition under a contract may indicate by words or conduct that she will
not insist on the condition being met.

Other Party’s Breach

If one party breaches the contract, the other party’s duty to perform is excused. For common law contracts
(those not for the sale of goods), the breach must be material (see below).

Anticipatory Repudiation
If, before the time to perform occurs, one party unequivocally indicates that he will not perform, that is
anticipatory repudiation. Suppose we have a contract for me to paint your house by August 1 for $1,000,
and you are to pay me when the work is complete. After I paint part of the house, I get a much better offer
from your neighbor. I call and explain to you that I can’t pass up the neighbor’s offer and I won’t be
returning to finish painting. That is an anticipatory repudiation—neither of us has fully performed and I
have unequivocally indicated that I will not perform. This is treated as a breach, and you can immediately
sue me for damages caused by my breach and are discharged from performing your end of the bargain.
You actually have two other options, though. You can ignore my anticipatory repudiation and hope I
perform on time and then sue me if I don’t, or you can simply cancel the contract.

Insecurity About Other Party’s Performance

What if the other party has not unequivocally indicated that she will not perform, but you think there is a
good chance she won’t? If the words or conduct of one party give reasonable grounds for insecurity, the
other party can, in writing, demand adequate assurance (a statement intended to give confidence that
performance will occur) and can suspend his performance until it gets adequate assurance. If the party
does not provide adequate assurance, the innocent party is excused from performing and may treat the
contract as repudiated.

Changed Circumstances—Impossibility, Impracticability, and Frustration

The occurrence of an unanticipated or extraordinary event may make contractual duties impossible or
impracticable (extremely difficult) to perform or may frustrate the purpose for making the contract. If the
event not occurring was a basic assumption of the parties and neither party assumed the risk, the contract
is discharged.

Impossibility
Occurrences that may make a contract impossible to perform include:

• The death or incapacity of a person necessary to carry out the contract (for example, death of
cellist under contract to perform a concert);
• The subject of the contract becomes illegal after the contract is made; and
• The subject matter of the contract is destroyed.

The last one is tricky. Suppose I contract with you for you to remodel my house. When the job is almost
complete, my house is destroyed by a tornado. The contract is discharged because there is no longer a
house to remodel (although you will be able to recover something for your work in restitution (below)).
Here’s the shocking twist: If I had contracted with you for you to build a house for me and the nearly
completed house was destroyed, the contract would not be discharged! Because it is still possible for you
 CONTRACTS OVERVIEW 13

to build a new house, you would still have a duty to build a house for me—although your deadline would
probably be extended.

Impracticability
Impracticability means that the party has encountered extreme and unreasonable difficulty or expense in
performing under the contract. Events that rise to the level of impracticability include: a shortage of raw
materials or other difficulty due to war, embargo, catastrophic crop failure, or a shutdown of a major
supplier. Mere increases in cost are rarely sufficient.

Frustration
Frustration is generally raised by a party who has a duty to pay money. If the purpose of the contract was
known to both parties and it has become valueless because of an unforeseen event that was not the fault of
the party seeking discharge, his duty to pay may be discharged. Suppose a restaurant enters into a contract
with a linen service to provide fresh linens on a weekly basis for one year. If the restaurant burns down
after six months, the value of the linen service contract to the restaurant owner has been destroyed—there
is no longer a restaurant in need of linens. Since both parties knew the purpose of the contract was to have
linens for the restaurant, the restaurant owner will be discharged.

Subsequent Agreement

Rescission
If a contract is still executory (not fully performed) on both sides, it can be discharged by an express
agreement between the parties to rescind or “call off” the contract. The agreement to rescind is itself a
binding contract that is adequately supported by consideration because each party surrenders its right to
require performance by the other.

Accord and Satisfaction

An accord is an agreement in which one party to an existing contract agrees to accept, instead of the
performance that she is supposed to receive from the other party to the existing contract, some other,
different performance. Suppose I owe you $100 under a contract and instead of paying the $100, I
promise to give you my watch to settle the debt. If you agree to accept the watch, the agreement is an
accord. An accord is a contract and requires consideration. But remember any difference in the type of
consideration will suffice. Suppose I offered to pay you $75 instead of $100 and because you are not sure
I have the means to pay the full amount, you accept. That is not sufficient consideration because I had a
preexisting duty to pay $100. If, however, there was a genuine dispute about the amount I owed, the
reduced amount would be sufficient to support an accord because I would be giving consideration—I’d be
giving up the right to sue you to determine the true amount owed.

Satisfaction is the performance of the accord. When I give you my watch, it discharges both the accord
and the contract.

Modification
If a contract is subsequently modified by the parties, this will serve to discharge those terms of the
original contract that are the subject of the modification. It will not serve to discharge the entire contract.
Generally, to modify a contract, there must be mutual assent and consideration. Article 2 does not require
consideration to modify sale of goods contracts; it requires only that it be sought in good faith.

Novation
A novation is a new contract between both parties to an existing contract that provides for the substitution
of a new party, that is, same performance, different party. Novation excuses the performance of the party
14 CONTRACTS OVERVIEW

who is replaced. Suppose you and I enter into a contract, under which I supply your business with tech
assistance for one year. After three months, I decide I’d like to move to Tokyo and suggest TechCo as a
replacement. You agree, so we enter into a new contract (a novation) under which TechCo is substituted
for me in supplying tech assistance to your company for the remainder of the year, and I am discharged
from any duties under the contract.

PERFORMANCE AND BREACH

If a contract has been formed, one of the parties fails to perform as promised, and the performance has not
been excused or discharged, a breach of contract occurs.

Common Law

At common law, breaches are divided into two categories: material breach and minor breach.

Minor Breach
A breach is said to be minor if the promisee (that is, the person who is to receive the performance) obtains
the substantial benefit of what was bargained for. For example, suppose I hire you to paint my house
starting on Monday and we agree that you will finish by 5 p.m. Friday. What happens if you are not
finished until 7 p.m. or if you forget to paint the inside of my mudroom coat closet? I received most of
what I bargained for. Under the doctrine of minor breach, I would still have to pay you but I could offset
any damage I suffered for the failure of performance.

Material Breach
But what if your breach is more serious? What if you stopped painting halfway through the job? Should I
have to pay you now? No. I did not get what I bargained for. We treat the contract as at an end and I can
immediately sue for damages.

Factors to Consider
To determine whether a breach is material or minor a court will consider a number of factors, and these
are pretty much based on common sense: (i) the amount of the benefit the nonbreaching party received,
(ii) whether the nonbreaching party can be compensated with money damages, (iii) the extent of
performance, (iv) the hardship to the breaching party, (v) whether the breach was willful or negligent, and
(vi) the likelihood the breaching party will fully perform.

Time Is of the Essence

As a general rule, the fact that a contract is not completed by the time stated in the contract is not a
material breach unless the nature of the contract is such as to make performance on the exact day of vital
importance. So, if you finished painting my house under the contract discussed a few paragraphs ago at 7
p.m. rather than 5 p.m., I’ll most likely have to pay you for all the work you did. But what if the contract
was that you will take pictures at my wedding on Saturday and you show up ready to shoot on Sunday?
The nature of the contract made time of the essence and you breached. I would not have to pay you
anything and can sue you for damages arising from your breach.

Article 2 Contract (Sale of Goods)

Perfect Tender Rule

In contracts for the sale of goods, the substantial performance doctrine does not apply. There is no such
thing as a minor breach. A buyer is entitled to a perfect tender—goods and delivery that conform
 CONTRACTS OVERVIEW 15

perfectly to the contract in every respect. And if such goods are not delivered as promised, the buyer has a
few options:

(i) Reject all of the nonconforming goods and cancel the contract or sue for damages;

(ii) Accept all of the goods and sue for damages; or

(iii) Accept any number of commercial units of the goods, reject the rest, and sue for damages.
(Commercial units refers to how the goods are packed—it could be a single item, a pallet full of
items, a container full, etc.)

Limitations on the Perfect Tender Rule

The perfect tender rule is a bit harsh, since it allows a party to get out of a contract for the slightest of
defects. However, it is tempered by a number of doctrines.

Acceptance
The right to reject under the perfect tender rule is cut off by acceptance of the goods, which sounds pretty
straightforward and makes a lot of sense. Acceptance marks the time when the buyer has effectively said,
“Yes, these goods will do. I’ll take them.” Of course, nothing in the law is that simple. For one thing, how
do we even determine the time of acceptance? My usual purchase involves me handing money to a
cashier, who hands me a bag. The cashier usually says, “Thank you. Have a nice day,” and I usually say
something pithy, like, “You’re welcome,” or “you have a nice day too.” So naturally, Article 2 must
impose specific rules for determining when a buyer accepts goods. If you think about them, they do make
sense. A buyer accepts goods when:

(i) After a reasonable opportunity to inspect the goods, she indicates to the seller that they conform
to requirements or that she will keep them even though they fail to conform (this is the fantasy
one—the statement, “yes, these goods will do”);

(ii) She fails to reject within a reasonable time after tender or delivery of the goods or fails to
seasonably (that is, within a reasonable time) notify the seller of her rejection (this is one of the
norms—we take our goods and don’t say anything about any problem); or

(iii) She does any act inconsistent with the seller’s ownership (this is far and away the most
common—we actually use the goods).

Of course, there are exceptions to these rules. We can’t possibly have rules without exceptions in law.
Indeed, that’s what makes contracts law difficult—all of the exceptions. However, the exceptions
generally make a lot of sense if you think about real life. For example, have you ever had an experience
like the following?

You go to your favorite electronics store and tell the clerk you need a headset with a USB
plug. He hands you a package off the shelf. It is impossible to open the tough plastic shell
showing the headset, and cardboard covers the wires. You take the headset home, slice
open a finger along with the package, and much to your dismay discover that the wire
does not end in a USB plug but rather a 1/4 inch stereo plug.

Do we say, too bad, so sad; you cannot reject because you already accepted? Sorry friend, you did an act
inconsistent with the seller’s ownership—you completely ripped the packaging apart (and bled on it to
boot). No. An exception comes to your rescue:
16 CONTRACTS OVERVIEW

If goods are accepted because of the difficulty of discovering defects or because of the
seller’s assurance that the goods conformed to the contract, the buyer may revoke
acceptance.

Similarly, if a buyer buys goods on the assurance that a defect will be cured and the seller does not cure it,
acceptance may be revoked.

Naturally, there are a few qualifications on these rules, but they go beyond the scope of our introduction
here. You will learn about them later in the course, but it is important to see the basic rule and exception
and understand that the rationale for these rules and exceptions typically are quite practical.

Right to Cure
Another limitation on the perfect tender doctrine is the right to cure. Sure, you can reject goods that do
not conform to the contract in every way, but if the time for performance on the contract has not yet
passed, we allow the seller to say, “Oops. Sorry about that. I’ll have those goods picked up and send you
the correct ones right away.” That is, there is a right to cure. Notice the limitation—there must be time
left to perform. Often in contracts for the sale of goods, delivery dates are not firm or the seller sends the
goods days before delivery is due. So often there is time to cure.

Of course, there is an exception that is heavily tested and probably comes up fairly often in real life as
well (that is, if you go into commercial litigation, you are likely to run into this, so pay attention): What if
I send you goods that do not conform to our contract, but I have a darn good reason for thinking you’d
take them anyway, and the time for delivery passes? Let’s hammer away at this.

Suppose you have a hardware store and I have a wholesale business. You order a dozen
16 ounce hammers from me, delivery due tomorrow. I discover that I am out of 16 ounce
hammers. However, in the past, when I was out of 16 ounce hammers, I sent 18 ounce
hammers and you always accepted. When my truck arrives at your store the next day, you
reject the 18 ounce hammers. In such circumstances, Article 2 makes our reasonable
expectations a reality. It does not make you accept hammers you do not want, but it does
not punish me for expecting that things would be fine as usual either.

The rule: If a buyer rejects nonconforming goods that the seller reasonably believed would be acceptable,
the seller, upon a reasonable notification to the buyer, has a further reasonable time beyond the original
contract time within which to send goods that conform to the contract.

Installment Contracts
Not all contracts involve a single delivery. For example, you and I might have an arrangement that I am to
deliver to your hardware store on the first day of each month for the next 12 months a dozen 16 ounce
hammers. Such an arrangement is called an installment contract (because delivery is in discrete parts or
installments). Special rules apply to rejecting goods in an installment contract:

(i) An installment can be rejected only if the nonconformity substantially impairs the value of that
installment and cannot be cured; and
(ii) The defect in the installment will constitute a breach of the whole contract only if the
nonconformity substantially impairs the value of the entire contract.

In essence, Article 2 treats installment contracts like common law contracts. You can’t reject an
installment for a minor breach—if you received most of the benefit of your bargain, you can’t refuse the
 CONTRACTS OVERVIEW 17

delivery of an installment. And even if an installment has a substantial defect, you can’t get out of the
whole contract unless somehow that defect causes some major problem with the rest of the contract.

For example, suppose we have a contract under which I, a fruit wholesaler, am to supply you, a grocery
store owner, with 120 apples (20 each of 6 varieties) every two days for the next six months. On one of
the delivery days three weeks into the contract, I deliver 24 of each five varieties of apples, because I was
unable to obtain any Granny Smiths. Does it seem fair that you’d be able to reject the entire installment
for the lack of Granny Smiths? No, and Article 2 so provides. And would it be fair to allow you to cancel
the entire six-month contract for the lack of Granny Smiths in one delivery—it would be preposterous.

REMEDIES
So where are we? We have a contract and there has been a breach. To what remedy are we entitled—how
do we make things all better? The number one thing to remember is that the goal of contracts remedies is
to put the nonbreaching party in the position he would have been in if there had been no breach.
Always keep this sentence in mind. Indeed, it is almost always appropriate to include this sentence in any
essay answer or brief you might have occasion to write throughout your legal career. There are many
specific rules in contract law that are nothing more than an application of this general rule to a specific set
of facts. So if you do not remember a more specific rule on an exam, try to figure out what it would take
to put the nonbreaching party in the position he would have been in if the contract had been completed
according to the terms of the agreement, and you will probably be correct.

Compensatory Damages

The normal remedy for breach of contract is money damages—we make the breaching party give the
nonbreaching party enough money to make up for the breach. You can often figure these rules out even if
you don’t remember the exact rule.

One of the main measures of damages is enough money to allow the nonbreaching party to pay for
substitute performance. In common law contracts this is called expectation damages or benefit of the
bargain damages. In contracts for the sale of goods, it is called the cost of cover. How does this look?

We enter into a contract for you to buy my 1992 Ford Taurus with 168,000 miles on it for
$500. I decide the Taurus and I have been through a lot together and refuse to sell. You
go online and find a similar Taurus for $1,250. What are your expectation damages?
What is the cost of cover? I hope you did not say $1,250. You were going to give me
$500. Under the bargain you made with me, you were going to get a 1992 Ford Taurus
for $500, and instead you had to pay $1,250. The benefit of your bargain was that we
agreed to a price $750 below market price. So that is what I owe you.

But wait, is that all my breach cost you? Perhaps not. You might have incurred expenses incidental to my
breach. For example, as an incident of my breach, perhaps you had to take a cab across town to purchase
the other Ford Taurus and you incurred a $15 cab fare. And since you didn’t know that Taurus as well as
you knew mine, perhaps you took it to a mechanic to have it checked out and you had to pay the
mechanic $65. Would you have had to incur a $15 cab fare if I had gone through with my deal? Would
you have had to pay a mechanic $65? If not, then your incurring the cab fare and the mechanic’s fee were
incidents of my breach and I must pay you your incidental damages in addition to your expectation
damages. What type of expenses constitute incidental damages? All those that are reasonably incurred as
a natural consequence of any breach. Things like inspection costs, transportation costs, storage fees,
return fees, etc.
18 CONTRACTS OVERVIEW

But what if you were counting on having my Taurus to go on a job interview as a pizza
delivery person? To get the job you had to show that you had a reliable car. Because I
backed out of the deal less than 24 hours before your interview, you had no car to show
and could not get the job. Do I owe you damages for these consequences of my breach?

Realize that the consequences I just described are not always incidents of a breach. The consequences
were dependent on your particular circumstances. That is, when I breach a contract to sell my car to
someone, I can expect that they will incur certain expenses looking for another car and so I should always
have to pay for these expenses if incurred. But how was I supposed to know that you’d lose your pizza
delivery job as a consequence of my breach? And that’s the rule. If I had no way of knowing of the
possibility of such consequential damages, I am not liable for them. But if I did know that they might
result, I am liable. How would I know? You would have had to have told me: “Hey Steve, I’m glad I’ll be
getting your car from you Friday evening, because on Saturday morning, I’m going for a job as a pizza
delivery person and I have to prove that I own a reliable car.” Now, I’m liable for the consequential
damages as well as the incidental damages and the benefit of the bargain damages.

Compensatory Damages in Warranty Cases

The damages measure we discussed above is used when there is a complete or partial breach and
substitute performance must be purchased in whole or in part. But in contracts for the sale of goods there
is another possibility. Warranties often accompany contracts for the sale of goods (essentially guarantees
that the goods will have certain qualities, such as the hammers will be 16 ounce hammers). Damages
under such contracts do not have to be all or nothing. I might want to keep the defective goods and get
money for the difference in value between what the goods are worth in their actual state and what they
would have been worth if they were as promised. So how does this work?

Let’s suppose you ordered a diamond engagement ring online. It was described as: “.75
carat D diamond (that is, it was described by its size and color—D is “colorless”). The
price was $2,000, but such rings normally retail for $6,000. When the ring arrives, you
have it appraised. Two appraisers tell you that what you have received is a .6 carat G
diamond (smaller and “almost colorless”) worth $3,000. What are your options? You
could send it back and obtain a cure (that is, allow the merchant to send you a ring that
conforms to the contract). Let’s assume the merchant refuses. What other options do you
have? You can return the ring and sue the merchant for the cost of cover ($6,000 retail
price minus $2,000 agreed price = $4,000 damages). But what if your fiancée wants HER
diamond—the one in the ring you just ordered. In that case, you keep the ring and sue in
warranty for the difference in value the ring would have had if it had been as warranted
($6,000) and the value it has as delivered ($3,000)—so you would recover $3,000 under
the warranty measure.

Reliance Damages

Sometimes expectation damages can be speculative (that is, only a guess). What do I mean? How do we
know you would have landed the job as a pizza delivery person even if you had my car? And since
income in such a job is highly dependent on tips, how much would I owe you for not landing a job? To be
sure, there are ways that we could try proving these things (what does the average pizza delivery person
make at that pizza parlor; can you prove the job was in the bag; etc.). But if the court does not believe
such an argument, it will not grant damages that are mere speculation. In such situations, instead of
expectation damages, the court might award reliance damages—the costs that you incurred in relying on
my promise. Such damages fall outside of our normal rule—they will not put you in the position you
 CONTRACTS OVERVIEW 19

would have been in had there been no breach—but the courts find it unfair to grant expectation damages
when the amount or existence of such damages is uncertain.

Liquidated Damages

Liquidated damages clauses often arise on the bar exam and in practice as well. In essence, it is an
agreement that if there is a breach, the nonbreaching party will be entitled to a specific amount of money.
It makes the cost of breach a little more certain, which is a good thing in a commercial context. However,
such clauses are enforceable only if two requirements are met: (i) actual damages that will result from a
breach must be difficult to predict at the time the contract is made; and (ii) the amount must have been a
reasonable forecast of the actual damages that will result. The rationale for the second prong is that we do
not allow punitive damages in a contract, and we do not want to allow parties to get around this rule by
inserting a penalty clause into their contract.

Savings and Other Considerations of Nonbreaching Party

Let’s think hard about what it takes to put the nonbreaching party in the position he would have been in
had the contract been performed. What if I had agreed to paint your house for $5,000 and you breached
weeks before I was to start. Am I entitled to the full $5,000? It depends (it always depends in law—you
have to think about the circumstances). Did that price include the cost of paint which I now do not have to
buy? If so, we need to deduct that amount. Was I going to have to hire a helper who I don’t have to pay
now? Yes, let’s remove that too. You see how this works? So what I would be able to recover is my
expected profit plus any expenses that I have incurred.

But let’s think about that profit. Since you just freed up a week of my time and I can paint elsewhere now,
should I be able to recover my profit? Is that fair? Well, it depends. Again, you always have to think
about the facts. If I am always booked solid and I can get other work for “your” week, I might not be able
to recover my whole profit, but only the portion that I lost out on.

Lost Volume Seller

For some reason when we shift the above discussion to contracts for goods, students and practitioners
sometimes get confused—maybe because we have a special name for a special situation—the lost volume
seller. Suppose I go back to my Ford Taurus. You offered to buy it from me for $500—a bargain to be
sure—but on Friday night, you tell me you won’t be stopping by to buy it on Saturday because you’ve
decided to buy a different car. So, on Saturday morning, I get into my Taurus and drive it straight over to
Carmax, which gives me $500 for the Taurus on the spot. Do you owe me any damages? Maybe. What?
My costs of going to Carmax. You don’t owe me anything for the profit; I had only one Taurus and I sold
all the Tauruses I had at the price we had agreed to. I am already in the position I would have been in if
you had performed.

But what if you had agreed to buy a new Taurus from a Ford dealer, you back out of the deal, and the
dealer sells the Taurus to someone else? Can the dealer get damages from you? Is the dealer out anything?
Probably. The Ford dealer likely has a ready supply of Tauruses. Thus, the dealer lost out on a sale: it
could have sold the Taurus you had picked out to you and a different Taurus to the second buyer. The
dealer has lost sales volume by your breach, so it is allowed to recover from you the profit it would have
made on the additional sale. So lost volume damages are available when the seller can obtain all of the
goods he can sell.
20 CONTRACTS OVERVIEW

Mitigation (Avoidable Damages)

A party cannot recover damages that could easily have been avoided. This is a simple and straightforward
rule. It can become interesting, however, in breach of employment contract situations. Suppose I hire you
as my store manager for one year, but after three months I decide things are not working out and I fire
you. Can you sit around for nine months and collect your salary? It depends. On what? Facts I haven’t
given you. (Hopefully you are beginning to see how facts shape all answers.) Were you able to find
comparable work (not just another job, but a similar position in the same general locale)? If so, I can
offset the wages you would have earned or did earn against any amount I owe you. But if no comparable
work was available, I have to pay you the agreed-upon wages.

Specific Performance

Specific performance is a court order requiring a party to perform as promised. It is available only if
money damages are inadequate—that is, when money can’t buy substitute performance. When does that
happen? When the subject matter of the contract is land (because all land is considered unique) and when
goods are unique or in short supply (for example, a one-of-a-kind painting). While in some cases services
might be considered unique, a court typically will not grant specific performance of a contract for
services, both because the Fourteenth Amendment to the Constitution prohibits involuntary servitude and
because it would be difficult for the court to supervise (that is, how could the court tell if you were
working competently?).

Cancellation

One remedy that may be available for material breach that does not put the nonbreaching party in the
position he would have been in had the contract been performed but that is nevertheless a possibility is
cancellation. The party to whom performance is owed can just say, “never mind, let’s cancel the
contract.”

Restitution

Restitution is an area of law separate and apart from contract law, although restitutionary remedies are
often applied to contract situations when the contract remedy is not available. In such cases, restitution
steps in to prevent unjust enrichment (that is, it steps in to prevent someone getting an undeserved benefit
at another’s expense). When a contract does not exist or is unenforceable, we often call the restitutionary
remedy a quasi-contract or an action for quantum meruit. The typical example arises when a party
commits a material breach after beginning performance. For example, if I agree to paint your house for
$5,000 and when I am 70% done, I breach, we have learned above that you do not have to pay me under
contract law. You did not receive the substantial benefit of the bargain. But perhaps you can hire someone
to finish the job for $2,000. Is it fair to let you hire someone, pay $2,000 and have a fully repainted
house? No.

The courts don’t think so either. Let’s use the parlance from above. Although I do not have a contract
remedy, you have the benefit of the painting work that I performed (painting 70% of the house) and
should have to pay for that. But how much? Because I am the party who breached and I am seeking to
recover, my recovery may depend on whether my breach was intentional. If the breach was intentional,
some courts will not grant the breaching party restitution; modern courts, however, will permit
restitutionary recovery but limit it to the contract price less damages incurred as a result of the breach.
Thus, I could recover $5,000 minus the $2,000 it cost to finish the job and any other costs you incurred
because of the breach.
 CONTRACTS OVERVIEW 21

Quasi-Contract When No Contract Involved

The term quasi-contract or implied in law contract is used to describe the restitutionary remedy when
there is no contract between the parties, such as when:

(i) The plaintiff conferred a benefit on the defendant;

(ii) The plaintiff had a reasonable expectation of being compensated;

(iii) The defendant had reason to know of the expectation; and

(iv) The defendant would be unjustly enriched if he were allowed to keep the benefit without paying
for it.

The typical example is a doctor who renders services at the scene of an accident. The doctor can recover
usual fees for helping.

Rescission and Reformation

Rescission is a remedy that seeks to restore parties to the position they would have been in if there were
no contract. It is available in certain circumstances in which one or both parties had an inaccurate belief
about one of the terms of the contract. Reformation is the other side of the coin. The parties agree to a
certain deal, but the written contract does not accurately reflect the agreed-upon terms. In such cases, the
courts allow the parties to request the court to amend the contract to reflect the agreed-upon terms.

THIRD-PARTY RIGHTS

Generally, a contract operates to confer rights and impose duties only on the parties to the contract and on
no other person. However, there are two important exceptions: (i) contract rights involving third-party
beneficiaries, and (ii) contract rights or duties that are transferred to third parties.

Third-Party Beneficiaries

Suppose I enter into a contract with Owen in which I agree to paint Owen’s house for $1,000, and in
return Owen promises to pay you (not me) $1,000. In this scenario, you are a third-party beneficiary, and
as such, you have rights under the contract. If I paint Owen’s house and he refuses to pay you, you can
sue Owen for the payment. However, if I fail to the paint the house, whether you can sue me depends on
whether I was giving you the $1,000 as a gift or whether I owed you money from a previous transaction.
If it was a gift, you cannot sue (unless there was detrimental reliance), but if I owed you the money, you
can sue me on the original debt.

Assignment of Rights and Delegation of Duties

Suppose in the above example Owen and I enter into the same contract, but the contract itself doesn’t
mention you. Instead, Owen agrees to pay me the $1,000. Sometime later, I assign my rights under the
contract to you. The assignment establishes a relationship (privity of contract) between the obligor
(Owen) and the assignee (you), while extinguishing the relationship between the obligor (Owen) and
assignor (me). You then replace me as the real party in interest, and you alone are entitled to performance
under the contract (the payment of $1,000). If the assignment is made for consideration or for an existing
debt, it is for value and is irrevocable. All other assignments are revocable.
22 CONTRACTS OVERVIEW

If instead of the above situation, suppose you owed me $1,000 and offered to paint Owen’s house for me.
I can delegate my duties (transfer my obligations) under my contract with Owen to you. Generally, unless
personal judgment or skill are involved, all contract duties can be delegated, and the obligee (here, Owen)
must accept the performance from the delegate (here, you). However, unlike how it worked with
assignments, I will remain liable to Owen for the painting. If you fail to do the work, Owen can and will
sue me.