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CO1 Assess the legal environment of business.
CO2. Explain how ethical frameworks shape business decisions.
CO3 Compare forms of alternative dispute resolution.
CO6 Distinguish the four forms of intellectual property
Instructions: Six months ago, Acme, Inc. received a patent on a drug that will provide immortality to all. Acme’s president has publicly stated he has no plans to market the drug. Beta, Inc. copies the drug and releases it on the market. Beta makes no profit on the sale of this drug and only charges enough to cover its costs in manufacturing. In 1500 – 2100 words, address the following:
- Identify the intellectual property implications in this scenario.
- Discuss how alternative dispute resolution applies.
- Identify the ethical dilemma faced by Acme, and the dilemma faced by Beta. Use two theories of ethical thoughts to discuss the recommended course of action by both companies.
Use at least four credible sources, one of which is the assigned textbook in this class. Your response must include four credible/quality references.
Your essay must be in APA 6th edition format, and include a title page and references page. An abstract is not required. Please name your assignment file as ‘lastnamefirstinitial-Midterm.
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Chapter 1
Introduction to Law and Legal Systems
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Distinguish different philosophies of law—schools of legal thought—and explain their
relevance.
2. Identify the various aims that a functioning legal system can serve.
3. Explain how politics and law are related.
4. Identify the sources of law and which laws have priority over other laws.
5. Understand some basic differences between the US legal system and other legal
systems.
Law has different meanings as well as different functions. Philosophers have considered issues of justice and law for
centuries, and several different approaches, or schools of legal thought, have emerged. In this chapter, we will look at
those different meanings and approaches and will consider how social and political dynamics interact with the ideas
that animate the various schools of legal thought. We will also look at typical sources of “positive law” in the United
States and how some of those sources have priority over others, and we will set out some basic differences between
the US legal system and other legal systems.
1.1 What Is Law?
Law is a word that means different things at different times. Black’s Law Dictionarysays that law is “a
body of rules of action or conduct prescribed by controlling authority, and having binding legal force. That
which must be obeyed and followed by citizens subject to sanctions or legal consequence is a law.”
[1]
Functions of the Law
In a nation, the law can serve to (1) keep the peace, (2) maintain the status quo, (3) preserve individual
rights, (4) protect minorities against majorities, (5) promote social justice, and (6) provide for orderly
social change. Some legal systems serve these purposes better than others. Although a nation ruled by an
authoritarian government may keep the peace and maintain the status quo, it may also oppress minorities
or political opponents (e.g., Burma, Zimbabwe, or Iraq under Saddam Hussein). Under colonialism,
European nations often imposed peace in countries whose borders were somewhat arbitrarily created by
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those same European nations. Over several centuries prior to the twentieth century, empires were built by
Spain, Portugal, Britain, Holland, France, Germany, Belgium, and Italy. With regard to the functions of
the law, the empire may have kept the peace—largely with force—but it changed the status quo and
seldom promoted the native peoples’ rights or social justice within the colonized nation.
In nations that were former colonies of European nations, various ethnic and tribal factions have
frequently made it difficult for a single, united government to rule effectively. In Rwanda, for example,
power struggles between Hutus and Tutsis resulted in genocide of the Tutsi minority. (Genocide is the
deliberate and systematic killing or displacement of one group of people by another group. In 1948, the
international community formally condemned the crime of genocide.) In nations of the former Soviet
Union, the withdrawal of a central power created power vacuums that were exploited by ethnic leaders.
When Yugoslavia broke up, the different ethnic groups—Croats, Bosnians, and Serbians—fought bitterly
for home turf rather than share power. In Iraq and Afghanistan, the effective blending of different groups
of families, tribes, sects, and ethnic groups into a national governing body that shares power remains to be
seen.
Law and Politics
In the United States, legislators, judges, administrative agencies, governors, and presidents make law,
with substantial input from corporations, lobbyists, and a diverse group of nongovernment organizations
(NGOs) such as the American Petroleum Institute, the Sierra Club, and the National Rifle Association. In
the fifty states, judges are often appointed by governors or elected by the people. The process of electing
state judges has become more and more politicized in the past fifteen years, with growing campaign
contributions from those who would seek to seat judges with similar political leanings.
In the federal system, judges are appointed by an elected official (the president) and confirmed by other
elected officials (the Senate). If the president is from one party and the other party holds a majority of
Senate seats, political conflicts may come up during the judges’ confirmation processes. Such a division
has been fairly frequent over the past fifty years.
In most nation-states (as countries are called in international law), knowing who has power to make and
enforce the laws is a matter of knowing who has political power; in many places, the people or groups that
have military power can also command political power to make and enforce the laws. Revolutions are
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difficult and contentious, but each year there are revolts against existing political-legal authority; an
aspiration for democratic rule, or greater “rights” for citizens, is a recurring theme in politics and law.
K E Y T A K E A W A Y
Law is the result of political action, and the political landscape is vastly different from nation to nation.
Unstable or authoritarian governments often fail to serve the principal functions of law.
E X E R C I S E S
1. Consider Burma (named Myanmar by its military rulers). What political rights do you
have that the average Burmese citizen does not?
2. What is a nongovernment organization, and what does it have to do with government?
Do you contribute to (or are you active in) a nongovernment organization? What kind of
rights do they espouse, what kind of laws do they support, and what kind of laws do they
oppose?
[1] Black’s Law Dictionary, 6th ed., s.v. “law.”
1.2 Schools of Legal Thought
L E A R N I N G O B J E C T I V E S
1. Distinguish different philosophies of law—schools of legal thought—and explain their
relevance.
2. Explain why natural law relates to the rights that the founders of the US political-legal
system found important.
3. Describe legal positivism and explain how it differs from natural law.
4. Differentiate critical legal studies and ecofeminist legal perspectives from both natural
law and legal positivist perspectives.
There are different schools (or philosophies) concerning what law is all about. Philosophy of law is also
called jurisprudence, and the two main schools arelegal positivism and natural law. Although there are
others (see Section 1.2.3 “Other Schools of Legal Thought”), these two are the most influential in how
people think about the law.
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Legal Positivism: Law as Sovereign Command
As legal philosopher John Austin concisely put it, “Law is the command of a sovereign.” Law is only law,
in other words, if it comes from a recognized authority and can be enforced by that authority,
or sovereign—such as a king, a president, or a dictator—who has power within a defined area or territory.
Positivism is a philosophical movement that claims that science provides the only knowledge precise
enough to be worthwhile. But what are we to make of the social phenomena of laws?
We could examine existing statutes—executive orders, regulations, or judicial decisions—in a fairly precise
way to find out what the law says. For example, we could look at the posted speed limits on most US
highways and conclude that the “correct” or “right” speed is no more than fifty-five miles per hour. Or we
could look a little deeper and find out how the written law is usually applied. Doing so, we might conclude
that sixty-one miles per hour is generally allowed by most state troopers, but that occasionally someone
gets ticketed for doing fifty-seven miles per hour in a fifty-five miles per hour zone. Either approach is
empirical, even if not rigorously scientific. The first approach, examining in a precise way what the rule
itself says, is sometimes known as the “positivist” school of legal thought. The second approach—which
relies on social context and the actual behavior of the principal actors who enforce the law—is akin to the
“legal realist” school of thought (see Section 1.2.3 “Other Schools of Legal Thought”).
Positivism has its limits and its critics. New Testament readers may recall that King Herod, fearing the
birth of a Messiah, issued a decree that all male children below a certain age be killed. Because it was the
command of a sovereign, the decree was carried out (or, in legal jargon, the decree was “executed”).
Suppose a group seizes power in a particular place and commands that women cannot attend school and
can only be treated medically by women, even if their condition is life-threatening and women doctors are
few and far between. Suppose also that this command is carried out, just because it is the law and is
enforced with a vengeance. People who live there will undoubtedly question the wisdom, justice, or
goodness of such a law, but it is law nonetheless and is generally carried out. To avoid the law’s impact, a
citizen would have to flee the country entirely. During the Taliban rule in Afghanistan, from which this
example is drawn, many did flee.
The positive-law school of legal thought would recognize the lawmaker’s command as legitimate;
questions about the law’s morality or immorality would not be important. In contrast, the natural-law
school of legal thought would refuse to recognize the legitimacy of laws that did not conform to natural,
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universal, or divine law. If a lawmaker issued a command that was in violation of natural law, a citizen
would be morally justified in demonstrating civil disobedience. For example, in refusing to give up her
seat to a white person, Rosa Parks believed that she was refusing to obey an unjust law.
Natural Law
The natural-law school of thought emphasizes that law should be based on a universal moral order.
Natural law was “discovered” by humans through the use of reason and by choosing between that which is
good and that which is evil. Here is the definition of natural law according to the Cambridge Dictionary of
Philosophy: “Natural law, also called the law of nature in moral and political philosophy, is an objective
norm or set of objective norms governing human behavior, similar to the positive laws of a human ruler,
but binding on all people alike and usually understood as involving a superhuman legislator.”
[1]
Both the US Constitution and the United Nations (UN) Charter have an affinity for the natural-law
outlook, as it emphasizes certain objective norms and rights of individuals and nations. The US
Declaration of Independence embodies a natural-law philosophy. The following short extract should
provide some sense of the deep beliefs in natural law held by those who signed the document.
The Unanimous Declaration of the Thirteen United States of America
July 4, 1776
When in the Course of human events, it becomes necessary for one people to dissolve the political bands
which have connected them with another, and to assume among the powers of the earth, the separate and
equal station to which the Laws of Nature and of Nature’s God entitle them, a decent respect to the
opinions of mankind requires that they should declare the causes which impel them to the separation.
We hold these truths to be self-evident, that all men are created equal, that they are endowed by their
Creator with certain unalienable Rights, that among these are Life, Liberty and the Pursuit of Happiness.
That to secure these rights, Governments are instituted among Men, deriving their just powers from the
consent of the governed.…
The natural-law school has been very influential in American legal thinking. The idea that certain rights,
for example, are “unalienable” (as expressed in the Declaration of Independence and in the writings of
John Locke) is consistent with this view of the law. Individuals may have “God-given” or “natural” rights
that government cannot legitimately take away. Government only by consent of the governed is a natural
outgrowth of this view.
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Civil disobedience—in the tradition of Henry Thoreau, Mahatma Gandhi, or Martin Luther King Jr.—
becomes a matter of morality over “unnatural” law. For example, in his “Letter from Birmingham Jail,”
Martin Luther King Jr. claims that obeying an unjust law is not moral and that deliberately disobeying an
unjust law is in fact a moral act that expresses “the highest respect for law”: “An individual who breaks a
law that conscience tells him is unjust, and who willingly accepts the penalty of imprisonment in order to
arouse the conscience of the community over its injustice, is in reality expressing the highest respect for
law.…One who breaks an unjust law must do so openly, lovingly, and with a willingness to accept the
penalty.”
[2]
Legal positivists, on the other hand, would say that we cannot know with real confidence what “natural”
law or “universal” law is. In studying law, we can most effectively learn by just looking at what the written
law says, or by examining how it has been applied. In response, natural-law thinkers would argue that if
we care about justice, every law and every legal system must be held accountable to some higher standard,
however hard that may be to define.
It is easier to know what the law “is” than what the law “should be.” Equal employment laws, for example,
have specific statutes, rules, and decisions about racial discrimination. There are always difficult issues of
interpretation and decision, which is why courts will resolve differing views. But how can we know the
more fundamental “ought” or “should” of human equality? For example, how do we know that “all men
are created equal” (from the Declaration of Independence)? Setting aside for the moment questions about
the equality of women, or that of slaves, who were not counted as men with equal rights at the time of the
declaration—can the statement be empirically proven, or is it simply a matter of a priori knowledge? (A
priori means “existing in the mind prior to and independent of experience.”) Or is the statement about
equality a matter of faith or belief, not really provable either scientifically or rationally? The dialogue
between natural-law theorists and more empirically oriented theories of “what law is” will raise similar
questions. In this book, we will focus mostly on the law as it is, but not without also raising questions
about what it could or should be.
Other Schools of Legal Thought
The historical school of law believes that societies should base their legal decisions today on the examples
of the past. Precedent would be more important than moral arguments.
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The legal realist school flourished in the 1920s and 1930s as a reaction to the historical school. Legal
realists pointed out that because life and society are constantly changing, certain laws and doctrines have
to be altered or modernized in order to remain current. The social context of law was more important to
legal realists than the formal application of precedent to current or future legal disputes. Rather than
suppose that judges inevitably acted objectively in applying an existing rule to a set of facts, legal realists
observed that judges had their own beliefs, operated in a social context, and would give legal decisions
based on their beliefs and their own social context.
The legal realist view influenced the emergence of the critical legal studies (CLS) school of thought. The
“Crits” believe that the social order (and the law) is dominated by those with power, wealth, and influence.
Some Crits are clearly influenced by the economist Karl Marx and also by distributive justice theory
(see Chapter 2 “Corporate Social Responsibility and Business Ethics”). The CLS school believes the
wealthy have historically oppressed or exploited those with less wealth and have maintained social control
through law. In so doing, the wealthy have perpetuated an unjust distribution of both rights and goods in
society. Law is politics and is thus not neutral or value-free. The CLS movement would use the law to
overturn the hierarchical structures of domination in the modern society.
Related to the CLS school, yet different, is the ecofeminist school of legal thought. This school
emphasizes—and would modify—the long-standing domination of men over both women and the rest of
the natural world. Ecofeminists would say that the same social mentality that leads to exploitation of
women is at the root of man’s exploitation and degradation of the natural environment. They would say
that male ownership of land has led to a “dominator culture,” in which man is not so much a steward of
the existing environment or those “subordinate” to him but is charged with making all that he controls
economically “productive.” Wives, children, land, and animals are valued as economic resources, and legal
systems (until the nineteenth century) largely conferred rights only to men with land. Ecofeminists would
say that even with increasing civil and political rights for women (such as the right to vote) and with some
nations’ recognizing the rights of children and animals and caring for the environment, the legacy of the
past for most nations still confirms the preeminence of “man” and his dominance of both nature and
women.
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K E Y T A K E A W A Y
Each of the various schools of legal thought has a particular view of what a legal system is or what it
should be. The natural-law theorists emphasize the rights and duties of both government and the
governed. Positive law takes as a given that law is simply the command of a sovereign, the political power
that those governed will obey. Recent writings in the various legal schools of thought emphasize long-
standing patterns of domination of the wealthy over others (the CLS school) and of men over women
(ecofeminist legal theory).
E X E R C I S E S
1. Vandana Shiva draws a picture of a stream in a forest. She says that in our society the
stream is seen as unproductive if it is simply there, fulfilling the need for water of
women’s families and communities, until engineers come along and tinker with it,
perhaps damming it and using it for generating hydropower. The same is true of a forest,
unless it is replaced with a monoculture plantation of a commercial species. A forest may
very well be productive—protecting groundwater; creating oxygen; providing fruit, fuel,
and craft materials for nearby inhabitants; and creating a habitat for animals that are
also a valuable resource. She criticizes the view that if there is no monetary amount that
can contribute to gross domestic product, neither the forest nor the river can be seen as
a productive resource. Which school of legal thought does her criticism reflect?
2. Anatole France said, “The law, in its majesty, forbids rich and poor alike from sleeping
under bridges.” Which school of legal thought is represented by this quote?
3. Adolf Eichmann was a loyal member of the National Socialist Party in the Third Reich and
worked hard under Hitler’s government during World War II to round up Jewish people
for incarceration—and eventual extermination—at labor camps like Auschwitz and
Buchenwald. After an Israeli “extraction team” took him from Argentina to Israel, he was
put on trial for “crimes against humanity.” His defense was that he was “just following
orders.” Explain why Eichmann was not an adherent of the natural-law school of legal
thought.
[1] Cambridge Dictionary of Philosophy, s.v. “natural law.”
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[2] Martin Luther King Jr., “Letter from Birmingham Jail.”
1.3 Basic Concepts and Categories of US Positive Law
L E A R N I N G O B J E C T I V E S
1. In a general way, differentiate contract law from tort law.
2. Consider the role of law in supporting ethical norms in our society.
3. Understand the differing roles of state law and federal law in the US legal system.
4. Know the difference between criminal cases and civil cases.
Most of what we discuss in this book is positive law—US positive law in particular. We will also consider
the laws and legal systems of other nations. But first, it will be useful to cover some basic concepts and
distinctions.
Law: The Moral Minimums in a Democratic Society
The law does not correct (or claim to correct) every wrong that occurs in society. At a minimum, it aims to
curb the worst kind of wrongs, the kinds of wrongs that violate what might be called the “moral
minimums” that a community demands of its members. These include not only violations of criminal law
(see Chapter 6 “Criminal Law”) but also torts (see Chapter 7 “Introduction to Tort Law”) and broken
promises (see Chapter 8 “Introduction to Contract Law”). Thus it may be wrong to refuse to return a
phone call from a friend, but that wrong will not result in a viable lawsuit against you. But if a phone (or
the Internet) is used to libel or slander someone, a tort has been committed, and the law may allow the
defamed person to be compensated.
There is a strong association between what we generally think of as ethical behavior and what the laws
require and provide. For example, contract law upholds society’s sense that promises—in general—should
be kept. Promise-breaking is seen as unethical. The law provides remedies for broken promises (in breach
of contract cases) but not for all broken promises; some excuses are accepted when it would be reasonable
to do so. For tort law, harming others is considered unethical. If people are not restrained by law from
harming one another, orderly society would be undone, leading to anarchy. Tort law provides for
compensation when serious injuries or harms occur. As for property law issues, we generally believe that
private ownership of property is socially useful and generally desirable, and it is generally protected (with
some exceptions) by laws. You can’t throw a party at my house without my permission, but my right to do
whatever I want on my own property may be limited by law; I can’t, without the public’s permission,
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operate an incinerator on my property and burn heavy metals, as toxic ash may be deposited throughout
the neighborhood.
The Common Law: Property, Torts, and Contracts
Even before legislatures met to make rules for society, disputes happened and judges decided them. In
England, judges began writing down the facts of a case and the reasons for their decision. They often
resorted to deciding cases on the basis of prior written decisions. In relying on those prior decisions, the
judge would reason that since a current case was pretty much like a prior case, it ought to be decided the
same way. This is essentially reasoning by analogy. Thus the use of precedent in common-law cases came
into being, and a doctrine of stare decisis (pronounced STAR-ay-de-SIGH-sus) became accepted in
English courts. Stare decisis means, in Latin, “let the decision stand.”
Most judicial decisions that don’t apply legislative acts (known as statutes) will involve one of three areas
of law—property, contract, or tort. Property law deals with the rights and duties of those who can legally
own land (real property), how that ownership can be legally confirmed and protected, how property can
be bought and sold, what the rights of tenants (renters) are, and what the various kinds of “estates” in
land are (e.g., fee simple, life estate, future interest, easements, or rights of way). Contract law deals with
what kinds of promises courts should enforce. For example, should courts enforce a contract where one of
the parties was intoxicated, underage, or insane? Should courts enforce a contract where one of the
parties seemed to have an unfair advantage? What kind of contracts would have to be in writing to be
enforced by courts? Tort law deals with the types of cases that involve some kind of harm and or injury
between the plaintiff and the defendant when no contract exists. Thus if you are libeled or a competitor
lies about your product, your remedy would be in tort, not contract.
The thirteen original colonies had been using English common law for many years, and they continued to
do so after independence from England. Early cases from the first states are full of references to already-
decided English cases. As years went by, many precedents were established by US state courts, so that
today a judicial opinion that refers to a seventeenth- or eighteenth-century English common-law case is
quite rare.
Courts in one state may look to common-law decisions from the courts of other states where the reasoning
in a similar case is persuasive. This will happen in “cases of first impression,” a fact pattern or situation
that the courts in one state have never seen before. But if the supreme court in a particular state has
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already ruled on a certain kind of case, lower courts in that state will always follow the rule set forth by
their highest court.
State Courts and the Domain of State Law
In the early years of our nation, federal courts were not as active or important as state courts. States had
jurisdiction (the power to make and enforce laws) over the most important aspects of business life. The
power of state law has historically included governing the following kinds of issues and claims:
Contracts, including sales, commercial paper, letters of credit, and secured transactions
Torts
Property, including real property, bailments of personal property (such as when you
check your coat at a theater or leave your clothes with a dry cleaner), trademarks,
copyrights, and the estates of decedents (dead people)
Corporations
Partnerships
Domestic matters, including marriage, divorce, custody, adoption, and visitation
Securities law
Environmental law
Agency law, governing the relationship between principals and their agents.
Banking
Insurance
Over the past eighty years, however, federal law has become increasingly important in many of these
areas, including banking, securities, and environmental law.
Civil versus Criminal Cases
Most of the cases we will look at in this textbook are civil cases. Criminal cases are certainly of interest to
business, especially as companies may break criminal laws. A criminal case involves a governmental
decision—whether state or federal—to prosecute someone (named as a defendant) for violating society’s
laws. The law establishes a moral minimum and does so especially in the area of criminal laws; if you
break a criminal law, you can lose your freedom (in jail) or your life (if you are convicted of a capital
offense). In a civil action, you would not be sent to prison; in the worst case, you can lose property
(usually money or other assets), such as when Ford Motor Company lost a personal injury case and the
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judge awarded $295 million to the plaintiffs or when Pennzoil won a $10.54 billion verdict against Texaco
(see Chapter 7 “Introduction to Tort Law”).
Some of the basic differences between civil law and criminal law cases are illustrated in Table 1.1
“Differences between Civil and Criminal Cases”.
Table 1.1 Differences between Civil and Criminal Cases
Civil Cases Criminal Cases
Parties
Plaintiff brings case; defendant must answer or
lose by default
Prosecutor brings case; defendant may
remain silent
Proof Preponderance of evidence Beyond a reasonable doubt
Reason
To settle disputes peacefully, usually between
private parties To maintain order in society
To punish the most blameworthy
To deter serious wrongdoing
Remedies Money damages (legal remedy) Fines, jail, and forfeitures
Injunctions (equitable remedy)
Specific performance (equity)
Regarding plaintiffs and prosecutors, you can often tell a civil case from a criminal case by looking at the
caption of a case going to trial. If the government appears first in the caption of the case (e.g., U.S. v.
Lieberman, it is likely that the United States is prosecuting on behalf of the people. The same is true of
cases prosecuted by state district attorneys (e.g., State v. Seidel). But this is not a foolproof formula.
Governments will also bring civil actions to collect debts from or settle disputes with individuals,
corporations, or other governments. Thus U.S. v. Mayer might be a collection action for unpaid taxes,
or U.S. v. Canada might be a boundary dispute in the International Court of Justice. Governments can be
sued, as well; people occasionally sue their state or federal government, but they can only get a trial if the
government waives its sovereign immunity and allows such suits. Warner v. U.S., for example, could be a
claim for a tax refund wrongfully withheld or for damage caused to the Warner residence by a sonic boom
from a US Air Force jet flying overhead.
Substance versus Procedure
Many rules and regulations in law are substantive, and others are procedural. We are used to seeing laws
as substantive; that is, there is some rule of conduct or behavior that is called for or some action that is
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proscribed (prohibited). The substantive rules tell us how to act with one another and with the
government. For example, all of the following are substantive rules of law and provide a kind of command
or direction to citizens:
Drive not more than fifty-five miles per hour where that speed limit is posted.
Do not conspire to fix prices with competitors in the US market.
Do not falsely represent the curative effects of your over-the-counter herbal remedy.
Do not drive your motor vehicle through an intersection while a red traffic signal faces
the direction you are coming from.
Do not discriminate against job applicants or employees on the basis of their race, sex,
religion, or national origin.
Do not discharge certain pollutants into the river without first getting a discharge
permit.
In contrast, procedural laws are the rules of courts and administrative agencies. They tell us how to
proceed if there is a substantive-law problem. For example, if you drive fifty-three miles per hour in a
forty mile-per-hour zone on Main Street on a Saturday night and get a ticket, you have broken a
substantive rule of law (the posted speed limit). Just how and what gets decided in court is a matter of
procedural law. Is the police officer’s word final, or do you get your say before a judge? If so, who goes
first, you or the officer? Do you have the right to be represented by legal counsel? Does the hearing or trial
have to take place within a certain time period? A week? A month? How long can the state take to bring its
case? What kinds of evidence will be relevant? Radar? (Does it matter what kind of training the officer has
had on the radar device? Whether the radar device had been tested adequately?) The officer’s personal
observation? (What kind of training has he had, how is he qualified to judge the speed of a car, and other
questions arise.) What if you unwisely bragged to a friend at a party recently that you went a hundred
miles an hour on Main Street five years ago at half past three on a Tuesday morning? (If the prosecutor
knows of this and the “friend” is willing to testify, is it relevant to the charge of fifty-three in a forty-mile-
per-hour zone?)
In the United States, all state procedural laws must be fair, since the due process clause of the Fourteenth
Amendment directs that no state shall deprive any citizen of “life, liberty, or property,” without due
process of law. (The $200 fine plus court costs is designed to deprive you of property, that is, money, if
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you violate the speed limit.) Federal laws must also be fair, because the Fifth Amendment to the US
Constitution has the exact same due process language as the Fourteenth Amendment. This suggests that
some laws are more powerful or important than others, which is true. The next section looks at various
types of positive law and their relative importance.
K E Y T A K E A W A Y
In most legal systems, like that in the United States, there is a fairly firm distinction between criminal law
(for actions that are offenses against the entire society) and civil law (usually for disputes between
individuals or corporations). Basic ethical norms for promise-keeping and not harming others are reflected
in the civil law of contracts and torts. In the United States, both the states and the federal government
have roles to play, and sometimes these roles will overlap, as in environmental standards set by both
states and the federal government.
E X E R C I S E S
1. Jenna gets a ticket for careless driving after the police come to investigate a car accident
she had with you on Hanover Boulevard. Your car is badly damaged through no fault of
your own. Is Jenna likely to face criminal charges, civil charges, or both?
2. Jenna’s ticket says that she has thirty days in which to respond to the charges against
her. The thirty days conforms to a state law that sets this time limit. Is the thirty-day
limit procedural law or substantive law?
1.4 Sources of Law and Their Priority
L E A R N I N G O B J E C T I V E S
1. Describe the different sources of law in the US legal system and the principal institutions
that create those laws.
2. Explain in what way a statute is like a treaty, and vice versa.
3. Explain why the Constitution is “prior” and has priority over the legislative acts of a
majority, whether in the US Congress or in a state legislature.
4. Describe the origins of the common-law system and what common law means.
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Sources of Law
In the United States today, there are numerous sources of law. The main ones are (1) constitutions—both
state and federal, (2) statutes and agency regulations, and (3) judicial decisions. In addition, chief
executives (the president and the various governors) can issue executive orders that have the effect of law.
In international legal systems, sources of law include treaties (agreements between states or countries)
and what is known as customary international law (usually consisting of judicial decisions from national
court systems where parties from two or more nations are in a dispute).
As you might expect, these laws sometimes conflict: a state law may conflict with a federal law, or a
federal law might be contrary to an international obligation. One nation’s law may provide one
substantive rule, while another nation’s law may provide a different, somewhat contrary rule to apply. Not
all laws, in other words, are created equal. To understand which laws have priority, it is essential to
understand the relationships between the various kinds of law.
Constitutions
Constitutions are the foundation for a state or nation’s other laws, providing the country’s legislative,
executive, and judicial framework. Among the nations of the world, the United States has the oldest
constitution still in use. It is difficult to amend, which is why there have only been seventeen amendments
following the first ten in 1789; two-thirds of the House and Senate must pass amendments, and three-
fourths of the states must approve them.
The nation’s states also have constitutions. Along with providing for legislative, executive, and judicial
functions, state constitutions prescribe various rights of citizens. These rights may be different from, and
in addition to, rights granted by the US Constitution. Like statutes and judicial decisions, a constitution’s
specific provisions can provide people with a “cause of action” on which to base a lawsuit (see Section
1.4.3 “Causes of Action, Precedent, and ” on “causes of action”). For example, California’s constitution
provides that the citizens of that state have a right of privacy. This has been used to assert claims against
businesses that invade an employee’s right of privacy. In the case of Virginia Rulon-Miller, her employer,
International Business Machines (IBM), told her to stop dating a former colleague who went to work for a
competitor. When she refused, IBM terminated her, and a jury fined the company for $300,000 in
damages. As the California court noted, “While an employee sacrifices some privacy rights when he enters
the workplace, the employee’s privacy expectations must be balanced against the employer’s
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interests.…[T]he point here is that privacy, like the other unalienable rights listed first in our
Constitution…is unquestionably a fundamental interest of our society.”
[1]
Statutes and Treaties in Congress
In Washington, DC, the federal legislature is known as Congress and has both a House of Representatives
and a Senate. The House is composed of representatives elected every two years from various districts in
each state. These districts are established by Congress according to population as determined every ten
years by the census, a process required by the Constitution. Each state has at least one district; the most
populous state (California) has fifty-two districts. In the Senate, there are two senators from each state,
regardless of the state’s population. Thus Delaware has two senators and California has two senators, even
though California has far more people. Effectively, less than 20 percent of the nation’s population can
send fifty senators to Washington.
Many consider this to be antidemocratic. The House of Representatives, on the other hand, is directly
proportioned by population, though no state can have less than one representative.
Each Congressional legislative body has committees for various purposes. In these committees, proposed
bills are discussed, hearings are sometimes held, and bills are either reported out (brought to the floor for
a vote) or killed in committee. If a bill is reported out, it may be passed by majority vote. Because of the
procedural differences between the House and the Senate, bills that have the same language when
proposed in both houses are apt to be different after approval by each body. A conference committee will
then be held to try to match the two versions. If the two versions differ widely enough, reconciliation of
the two differing versions into one acceptable to both chambers (House and Senate) is more difficult.
If the House and Senate can agree on identical language, the reconciled bill will be sent to the president
for signature or veto. The Constitution prescribes that the president will have veto power over any
legislation. But the two bodies can override a presidential veto with a two-thirds vote in each chamber.
In the case of treaties, the Constitution specifies that only the Senate must ratify them. When the Senate
ratifies a treaty, it becomes part of federal law, with the same weight and effect as a statute passed by the
entire Congress. The statutes of Congress are collected in codified form in the US Code. The code is
available online athttp://uscode.house.gov.
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Delegating Legislative Powers: Rules by Administrative Agencies
Congress has found it necessary and useful to create government agencies to administer various laws
(see Chapter 5 “Administrative Law”). The Constitution does not expressly provide for administrative
agencies, but the US Supreme Court has upheld the delegation of power to create federal agencies.
Examples of administrative agencies would include the Occupational Safety and Health Administration
(OSHA), the Environmental Protection Agency (EPA), and the Federal Trade Commission (FTC).
It is important to note that Congress does not have unlimited authority to delegate its lawmaking powers
to an agency. It must delegate its authority with some guidelines for the agency and cannot altogether
avoid its constitutional responsibilities (see Chapter 5 “Administrative Law”).
Agencies propose rules in the Federal Register, published each working day of the year. Rules that are
formally adopted are published in the Code of Federal Regulations, or CFR, available online
at http://www.access.gpo.gov/nara/cfr/cfr-table-search.html.
State Statutes and Agencies: Other Codified Law
Statutes are passed by legislatures and provide general rules for society. States have legislatures
(sometimes called assemblies), which are usually made up of both a senate and a house of representatives.
Like the federal government, state legislatures will agree on the provisions of a bill, which is then sent to
the governor (acting like the president for that state) for signature. Like the president, governors often
have a veto power. The process of creating and amending, or changing, laws is filled with political
negotiation and compromise.
On a more local level, counties and municipal corporations or townships may be authorized under a
state’s constitution to create or adopt ordinances. Examples of ordinances include local building codes,
zoning laws, and misdemeanors or infractions such as skateboarding or jaywalking. Most of the more
unusual laws that are in the news from time to time are local ordinances. For example, in Logan County,
Colorado, it is illegal to kiss a sleeping woman; in Indianapolis, Indiana, and Eureka, Nebraska, it is a
crime to kiss if you have a mustache. But reportedly, some states still have odd laws here and there.
Kentucky law proclaims that every person in the state must take a bath at least once a year, and failure to
do so is illegal.
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Judicial Decisions: The Common Law
Common law consists of decisions by courts (judicial decisions) that do not involve interpretation of
statutes, regulations, treaties, or the Constitution. Courts make such interpretations, but many cases are
decided where there is no statutory or other codified law or regulation to be interpreted. For example, a
state court deciding what kinds of witnesses are required for a valid will in the absence of a rule (from a
statute) is making common law.
United States law comes primarily from the tradition of English common law. By the time England’s
American colonies revolted in 1776, English common-law traditions were well established in the colonial
courts. English common law was a system that gave written judicial decisions the force of law throughout
the country. Thus if an English court delivered an opinion as to what constituted the common-law crime
of burglary, other courts would stick to that decision, so that a common body of law developed throughout
the country. Common law is essentially shorthand for the notion that a common body of law, based on
past written decisions, is desirable and necessary.
In England and in the laws of the original thirteen states, common-law decisions defined crimes such as
arson, burglary, homicide, and robbery. As time went on, US state legislatures either adopted or modified
common-law definitions of most crimes by putting them in the form of codes or statutes. This legislative
ability—to modify or change common law into judicial law—points to an important phenomenon: the
priority of statutory law over common law. As we will see in the next section, constitutional law will have
priority over statutory law.
Priority of Laws
The Constitution as Preemptive Force in US Law
The US Constitution takes precedence over all statutes and judicial decisions that are inconsistent. For
example, if Michigan were to decide legislatively that students cannot speak ill of professors in state-
sponsored universities, that law would be void, since it is inconsistent with the state’s obligation under the
First Amendment to protect free speech. Or if the Michigan courts were to allow a professor to bring a
lawsuit against a student who had said something about him that was derogatory but not defamatory, the
state’s judicial system would not be acting according to the First Amendment. (As we will see in Chapter 7
“Introduction to Tort Law”, free speech has its limits; defamation was a cause of action at the time the
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First Amendment was added to the Constitution, and it has been understood that the free speech rights in
the First Amendment did not negate existing common law.)
Statutes and Cases
Statutes generally have priority, or take precedence, over case law (judicial decisions). Under common-
law judicial decisions, employers could hire young children for difficult work, offer any wage they wanted,
and not pay overtime work at a higher rate. But various statutes changed that. For example, the federal
Fair Labor Standards Act (1938) forbid the use of oppressive child labor and established a minimum pay
wage and overtime pay rules.
Treaties as Statutes: The “Last in Time” Rule
A treaty or convention is considered of equal standing to a statute. Thus when Congress ratified the North
American Free Trade Agreement (NAFTA), any judicial decisions or previous statutes that were
inconsistent—such as quotas or limitations on imports from Mexico that were opposite to NAFTA
commitments—would no longer be valid. Similarly, US treaty obligations under the General Agreement
on Tariffs and Trade (GATT) and obligations made later through the World Trade Organization (WTO)
would override previous federal or state statutes.
One example of treaty obligations overriding, or taking priority over, federal statutes was the tuna-
dolphin dispute between the United States and Mexico. The Marine Mammal Protection Act amendments
in 1988 spelled out certain protections for dolphins in the Eastern Tropical Pacific, and the United States
began refusing to allow the importation of tuna that were caught using “dolphin-unfriendly” methods
(such as purse seining). This was challenged at a GATT dispute panel in Switzerland, and the United
States lost. The discussion continued at the WTO under its dispute resolution process. In short, US
environmental statutes can be ruled contrary to US treaty obligations.
Under most treaties, the United States can withdraw, or take back, any voluntary limitation on its
sovereignty; participation in treaties is entirely elective. That is, the United States may “unbind” itself
whenever it chooses. But for practical purposes, some limitations on sovereignty may be good for the
nation. The argument goes something like this: if free trade in general helps the United States, then it
makes some sense to be part of a system that promotes free trade; and despite some temporary setbacks,
the WTO decision process will (it is hoped) provide far more benefits than losses in the long run. This
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argument invokes utilitarian theory (that the best policy does the greatest good overall for society) and
David Ricardo’s theory of comparative advantage.
Ultimately, whether the United States remains a supporter of free trade and continues to participate as a
leader in the WTO will depend upon citizens electing leaders who support the process. Had Ross Perot
been elected in 1992, for example, NAFTA would have been politically (and legally) dead during his term
of office.
Causes of Action, Precedent, and Stare Decisis
No matter how wrong someone’s actions may seem to you, the only wrongs you can right in a court are
those that can be tied to one or more causes of action. Positive law is full of cases, treaties, statutes,
regulations, and constitutional provisions that can be made into a cause of action. If you have an
agreement with Harold Hill that he will purchase seventy-six trombones from you and he fails to pay for
them after you deliver, you will probably feel wronged, but a court will only act favorably on your
complaint if you can show that his behavior gives you a cause of action based on some part of your state’s
contract law. This case would give you a cause of action under the law of most states; unless Harold Hill
had some legal excuse recognized by the applicable state’s contract law—such as his legal incompetence,
his being less than eighteen years of age, his being drunk at the time the agreement was made, or his claim
that the instruments were trumpets rather than trombones or that they were delivered too late to be of use
to him—you could expect to recover some compensation for his breaching of your agreement with him.
An old saying in the law is that the law does not deal in trifles, or unimportant issues (in Latin, de minimis
non curat lex). Not every wrong you may suffer in life will be a cause to bring a court action. If you are
stood up for a Saturday night date and feel embarrassed or humiliated, you cannot recover anything in a
court of law in the United States, as there is no cause of action (no basis in the positive law) that you can
use in your complaint. If you are engaged to be married and your spouse-to-be bolts from the wedding
ceremony, there are some states that do provide a legal basis on which to bring a lawsuit. “Breach of
promise to marry” is recognized in several states, but most states have abolished this cause of action,
either by judicial decision or by legislation. Whether a runaway bride or groom gives rise to a valid cause
of action in the courts depends on whether the state courts still recognize and enforce this now-
disappearing cause of action.
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Your cause of action is thus based on existing laws, including decided cases. How closely your case “fits”
with a prior decided case raises the question of precedent.
As noted earlier in this chapter, the English common-law tradition placed great emphasis on precedent
and what is called stare decisis. A court considering one case would feel obliged to decide that case in a
way similar to previously decided cases. Written decisions of the most important cases had been spread
throughout England (the common “realm”), and judges hoped to establish a somewhat predictable,
consistent group of decisions.
The English legislature (Parliament) was not in the practice of establishing detailed statutes on crimes,
torts, contracts, or property. Thus definitions and rules were left primarily to the courts. By their nature,
courts could only decide one case at a time, but in doing so they would articulate holdings, or general
rules, that would apply to later cases.
Suppose that one court had to decide whether an employer could fire an employee for no reason at all.
Suppose that there were no statutes that applied to the facts: there was no contract between the employer
and the employee, but the employee had worked for the employer for many years, and now a younger
person was replacing him. The court, with no past guidelines, would have to decide whether the employee
had stated a “cause of action” against the employer. If the court decided that the case was not legally
actionable, it would dismiss the action. Future courts would then treat similar cases in a similar way. In
the process, the court might make a holding that employers could fire employees for any reason or for no
reason. This rule could be applied in the future should similar cases come up.
But suppose that an employer fired an employee for not committing perjury (lying on the witness stand in
a court proceeding); the employer wanted the employee to cover up the company’s criminal or unethical
act. Suppose that, as in earlier cases, there were no applicable statutes and no contract of employment.
Courts relying on a holding or precedent that “employers may fire employees for any reason or no reason”
might rule against an employee seeking compensation for being fired for telling the truth on the witness
stand. Or it might make an exception to the general rule, such as, “Employers may generally discharge
employees for any reason or for no reason without incurring legal liability; however, employers will incur
legal liability for firing an employee who refuses to lie on behalf of the employer in a court proceeding.”
In each case (the general rule and its exception), the common-law tradition calls for the court to explain
the reasons for its ruling. In the case of the general rule, “freedom of choice” might be the major reason.
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In the case of the perjury exception, the efficiency of the judicial system and the requirements of
citizenship might be used as reasons. Because the court’s “reasons” will be persuasive to some and not to
others, there is inevitably a degree of subjectivity to judicial opinions. That is, reasonable people will
disagree as to the persuasiveness of the reasoning a court may offer for its decision.
Written judicial opinions are thus a good playing field for developing critical thinking skills by identifying
the issue in a case and examining the reasons for the court’s previous decision(s), or holding.
What has the court actually decided, and why? Remember that a court, especially the US Supreme Court,
is not only deciding one particular case but also setting down guidelines (in its holdings) for federal and
state courts that encounter similar issues. Note that court cases often raise a variety of issues or questions
to be resolved, and judges (and attorneys) will differ as to what the real issue in a case is. A holding is the
court’s complete answer to an issue that is critical to deciding the case and thus gives guidance to the
meaning of the case as a precedent for future cases.
Beyond the decision of the court, it is in looking at the court’s reasoning that you are most likely to
understand what facts have been most significant to the court and what theories (schools of legal thought)
each trial or appellate judge believes in. Because judges do not always agree on first principles (i.e., they
subscribe to different schools of legal thought), there are many divided opinions in appellate opinions and
in each US Supreme Court term.
K E Y T A K E A W A Y
There are different sources of law in the US legal system. The US Constitution is foundational; US statutory
and common law cannot be inconsistent with its provisions. Congress creates statutory law (with the
signature of the president), and courts will interpret constitutional law and statutory law. Where there is
neither constitutional law nor statutory law, the courts function in the realm of common law. The same is
true of law within the fifty states, each of which also has a constitution, or foundational law.
Both the federal government and the states have created administrative agencies. An agency only has the
power that the legislature gives it. Within the scope of that power, an agency will often create regulations
(see Chapter 5 “Administrative Law”), which have the same force and effect as statutes. Treaties are never
negotiated and concluded by states, as the federal government has exclusive authority over relations with
other nation-states. A treaty, once ratified by the Senate, has the same force and effect as a statute
passed by Congress and signed into law by the president.
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Constitutions, statutes, regulations, treaties, and court decisions can provide a legal basis in the positive
law. You may believe you have been wronged, but for you to have a right that is enforceable in court, you
must have something in the positive law that you can point to that will support a cause of action against
your chosen defendant.
E X E R C I S E S
1. Give one example of where common law was overridden by the passage of a federal
statute.
2. How does common law change or evolve without any action on the part of a legislature?
3. Lindsey Paradise is not selected for her sorority of choice at the University of Kansas. She
has spent all her time rushing that particular sorority, which chooses some of her friends
but not her. She is disappointed and angry and wants to sue the sorority. What are her
prospects of recovery in the legal system? Explain.
[1] Rulon-Miller v. International Business Machines Corp., 162 Cal. App.3d 241, 255 (1984).
1.5 Legal and Political Systems of the World
L E A R N I N G O B J E C T I V E
1. Describe how the common-law system differs from the civil-law system.
Other legal and political systems are very different from the US system, which came from English
common-law traditions and the framers of the US Constitution. Our legal and political traditions are
different both in what kinds of laws we make and honor and in how disputes are resolved in court.
Comparing Common-Law Systems with Other Legal Systems
The common-law tradition is unique to England, the United States, and former colonies of the British
Empire. Although there are differences among common-law systems (e.g., most nations do not permit
their judiciaries to declare legislative acts unconstitutional; some nations use the jury less frequently), all
of them recognize the use of precedent in judicial cases, and none of them relies on the comprehensive,
legislative codes that are prevalent in civil-law systems.
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Civil-Law Systems
The main alternative to the common-law legal system was developed in Europe and is based in Roman
and Napoleonic law. A civil-law or code-law system is one where all the legal rules are in one or more
comprehensive legislative enactments. During Napoleon’s reign, a comprehensive book of laws—a code—
was developed for all of France. The code covered criminal law, criminal procedure, noncriminal law and
procedure, and commercial law. The rules of the code are still used today in France and in other
continental European legal systems. The code is used to resolve particular cases, usually by judges without
a jury. Moreover, the judges are not required to follow the decisions of other courts in similar cases. As
George Cameron of the University of Michigan has noted, “The law is in the code, not in the cases.” He
goes on to note, “Where several cases all have interpreted a provision in a particular way, the French
courts may feel bound to reach the same result in future cases, under the doctrine ofjurisprudence
constante. The major agency for growth and change, however, is the legislature, not the courts.”
Civil-law systems are used throughout Europe as well as in Central and South America. Some nations in
Asia and Africa have also adopted codes based on European civil law. Germany, Holland, Spain, France,
and Portugal all had colonies outside of Europe, and many of these colonies adopted the legal practices
that were imposed on them by colonial rule, much like the original thirteen states of the United States,
which adopted English common-law practices.
One source of possible confusion at this point is that we have already referred to US civil law in contrast to
criminal law. But the European civil law covers both civil and criminal law.
There are also legal systems that differ significantly from the common-law and civil-law systems. The
communist and socialist legal systems that remain (e.g., in Cuba and North Korea) operate on very
different assumptions than those of either English common law or European civil law. Islamic and other
religion-based systems of law bring different values and assumptions to social and commercial relations.
K E Y T A K E A W A Y
Legal systems vary widely in their aims and in the way they process civil and criminal cases. Common-law
systems use juries, have one judge, and adhere to precedent. Civil-law systems decide cases without a
jury, often use three judges, and often render shorter opinions without reference to previously decided
cases.
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E X E R C I S E
1. Use the Internet to identify some of the better-known nations with civil-law systems.
Which Asian nations came to adopt all or part of civil-law traditions, and why?
1.6 A Sample Case
Preliminary Note to Students
Title VII of the Civil Rights Act of 1964 is a federal statute that applies to all employers whose workforce
exceeds fifteen people. The text of Title VII says that
(a) it shall be an unlawful employment practice for an employer—
(1) to fail or refuse to hire or to discharge any individual, or otherwise to discriminate against any
individual with respect to his compensation, terms, conditions, or privileges of employment, because of
such individual’s race, color, religion, sex, or natural origin.
At common law—where judges decide cases without reference to statutory guidance—employers were
generally free to hire and fire on any basis they might choose, and employees were generally free to work
for an employer or quit an employer on any basis they might choose (unless the employer and the
employee had a contract). This rule has been called “employment at will.” State and federal statutes that
prohibit discrimination on any basis (such as the prohibitions on discrimination because of race, color,
religion, sex, or national origin in Title VII) are essentially legislative exceptions to the common-law
employment-at-will rule.
In the 1970s, many female employees began to claim a certain kind of sex discrimination: sexual
harassment. Some women were being asked to give sexual favors in exchange for continued employment
or promotion (quid pro quo sexual harassment) or found themselves in a working environment that put
their chances for continued employment or promotion at risk. This form of sexual discrimination came to
be called “hostile working environment” sexual harassment.
Notice that the statute itself says nothing about sexual harassment but speaks only in broad terms about
discrimination “because of” sex (and four other factors). Having set the broad policy, Congress left it to
employees, employers, and the courts to fashion more specific rules through the process of civil litigation.
This is a case from our federal court system, which has a trial or hearing in the federal district court, an
appeal to the Sixth Circuit Court of Appeals, and a final appeal to the US Supreme Court. Teresa Harris,
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having lost at both the district court and the Sixth Circuit Court of Appeals, here has petitioned for a writ
of certiorari (asking the court to issue an order to bring the case to the Supreme Court), a petition that is
granted less than one out of every fifty times. The Supreme Court, in other words, chooses its cases
carefully. Here, the court wanted to resolve a difference of opinion among the various circuit courts of
appeal as to whether or not a plaintiff in a hostile-working-environment claim could recover damages
without showing “severe psychological injury.”
Harris v. Forklift Systems
510 U.S. 17 (U.S. Supreme Court 1992)
JUDGES: O’CONNOR, J., delivered the opinion for a unanimous Court. SCALIA, J., and GINSBURG, J.,
filed concurring opinions.
JUSTICE O’CONNOR delivered the opinion of the Court.
In this case we consider the definition of a discriminatorily “abusive work environment” (also known as a
“hostile work environment”) under Title VII of the Civil Rights Act of 1964, 78 Stat. 253, as amended, 42
U.S.C. § 2000e et seq. (1988 ed., Supp. III).
I
Teresa Harris worked as a manager at Forklift Systems, Inc., an equipment rental company, from April
1985 until October 1987. Charles Hardy was Forklift’s president.
The Magistrate found that, throughout Harris’ time at Forklift, Hardy often insulted her because of her
gender and often made her the target of unwanted sexual innuendoes. Hardy told Harris on several
occasions, in the presence of other employees, “You’re a woman, what do you know” and “We need a man
as the rental manager”; at least once, he told her she was “a dumbass woman.” Again in front of others, he
suggested that the two of them “go to the Holiday Inn to negotiate [Harris’s] raise.” Hardy occasionally
asked Harris and other female employees to get coins from his front pants pocket. He threw objects on the
ground in front of Harris and other women, and asked them to pick the objects up. He made sexual
innuendoes about Harris’ and other women’s clothing.
In mid-August 1987, Harris complained to Hardy about his conduct. Hardy said he was surprised that
Harris was offended, claimed he was only joking, and apologized. He also promised he would stop, and
based on this assurance Harris stayed on the job. But in early September, Hardy began anew: While
Harris was arranging a deal with one of Forklift’s customers, he asked her, again in front of other
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employees, “What did you do, promise the guy…some [sex] Saturday night?” On October 1, Harris
collected her paycheck and quit.
Harris then sued Forklift, claiming that Hardy’s conduct had created an abusive work environment for her
because of her gender. The United States District Court for the Middle District of Tennessee, adopting the
report and recommendation of the Magistrate, found this to be “a close case,” but held that Hardy’s
conduct did not create an abusive environment. The court found that some of Hardy’s comments
“offended [Harris], and would offend the reasonable woman,” but that they were not “so severe as to be
expected to seriously affect [Harris’s] psychological well-being. A reasonable woman manager under like
circumstances would have been offended by Hardy, but his conduct would not have risen to the level of
interfering with that person’s work performance.
“Neither do I believe that [Harris] was subjectively so offended that she suffered injury.…Although Hardy
may at times have genuinely offended [Harris], I do not believe that he created a working environment so
poisoned as to be intimidating or abusive to [Harris].”
In focusing on the employee’s psychological well-being, the District Court was following Circuit precedent.
See Rabidue v. Osceola Refining Co., 805 F.2d 611, 620 (CA6 1986), cert. denied, 481 U.S. 1041, 95 L. Ed.
2d 823, 107 S. Ct. 1983 (1987). The United States Court of Appeals for the Sixth Circuit affirmed in a brief
unpublished decision…reported at 976 F.2d 733 (1992).
We granted certiorari, 507 U.S. 959 (1993), to resolve a conflict among the Circuits on whether conduct,
to be actionable as “abusive work environment” harassment (no quid pro quo harassment issue is present
here), must “seriously affect [an employee’s] psychological well-being” or lead the plaintiff to “suffer
injury.” Compare Rabidue (requiring serious effect on psychological well-being); Vance v. Southern Bell
Telephone & Telegraph Co., 863 F.2d 1503, 1510 (CA11 1989) (same); and Downes v. FAA, 775 F.2d 288,
292 (CA Fed. 1985) (same), with Ellison v. Brady, 924 F.2d 872, 877–878 (CA9 1991) (rejecting such a
requirement).
II
Title VII of the Civil Rights Act of 1964 makes it “an unlawful employment practice for an employer…to
discriminate against any individual with respect to his compensation, terms, conditions, or privileges of
employment, because of such individual’s race, color, religion, sex, or national origin.” 42 U.S.C. § 2000e-
2(a)(1). As we made clear in Meritor Savings Bank, FSB v. Vinson, 477 U.S. 57 (1986), this language “is
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not limited to ‘economic’ or ‘tangible’ discrimination. The phrase ‘terms, conditions, or privileges of
employment’ evinces a congressional intent ‘to strike at the entire spectrum of disparate treatment of men
and women’ in employment,” which includes requiring people to work in a discriminatorily hostile or
abusive environment. Id., at 64, quoting Los Angeles Dept. of Water and Power v. Manhart, 435 U.S. 702,
707, n.13, 55 L. Ed. 2d 657, 98 S. Ct. 1370 (1978). When the workplace is permeated with “discriminatory
intimidation, ridicule, and insult,” 477 U.S. at 65, that is “sufficiently severe or pervasive to alter the
conditions of the victim’s employment and create an abusive working environment,” Title VII is violated.
This standard, which we reaffirm today, takes a middle path between making actionable any conduct that
is merely offensive and requiring the conduct to cause a tangible psychological injury. As we pointed out
in Meritor, “mere utterance of an…epithet which engenders offensive feelings in an employee,” does not
sufficiently affect the conditions of employment to implicate Title VII. Conduct that is not severe or
pervasive enough to create an objectively hostile or abusive work environment—an environment that a
reasonable person would find hostile or abusive—is beyond Title VII’s purview. Likewise, if the victim
does not subjectively perceive the environment to be abusive, the conduct has not actually altered the
conditions of the victim’s employment, and there is no Title VII violation.
But Title VII comes into play before the harassing conduct leads to a nervous breakdown. A
discriminatorily abusive work environment, even one that does not seriously affect employees’
psychological well-being, can and often will detract from employees’ job performance, discourage
employees from remaining on the job, or keep them from advancing in their careers. Moreover, even
without regard to these tangible effects, the very fact that the discriminatory conduct was so severe or
pervasive that it created a work environment abusive to employees because of their race, gender, religion,
or national origin offends Title VII’s broad rule of workplace equality. The appalling conduct alleged in
Meritor, and the reference in that case to environments “‘so heavily polluted with discrimination as to
destroy completely the emotional and psychological stability of minority group workers,’” Id., at 66,
quoting Rogers v. EEOC, 454 F.2d 234, 238 (CA5 1971), cert. denied, 406 U.S. 957,32 L. Ed. 2d 343, 92 S.
Ct. 2058 (1972), merely present some especially egregious examples of harassment. They do not mark the
boundary of what is actionable.
We therefore believe the District Court erred in relying on whether the conduct “seriously affected
plaintiff’s psychological well-being” or led her to “suffer injury.” Such an inquiry may needlessly focus the
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fact finder’s attention on concrete psychological harm, an element Title VII does not require. Certainly
Title VII bars conduct that would seriously affect a reasonable person’s psychological well-being, but the
statute is not limited to such conduct. So long as the environment would reasonably be perceived, and is
perceived, as hostile or abusive, Meritor, supra, at 67, there is no need for it also to be psychologically
injurious.
This is not, and by its nature cannot be, a mathematically precise test. We need not answer today all the
potential questions it raises, nor specifically address the Equal Employment Opportunity Commission’s
new regulations on this subject, see 58 Fed. Reg. 51266 (1993) (proposed 29 CFR §§ 1609.1, 1609.2); see
also 29 CFR § 1604.11 (1993). But we can say that whether an environment is “hostile” or “abusive” can be
determined only by looking at all the circumstances. These may include the frequency of the
discriminatory conduct; its severity; whether it is physically threatening or humiliating, or a mere
offensive utterance; and whether it unreasonably interferes with an employee’s work performance. The
effect on the employee’s psychological well-being is, of course, relevant to determining whether the
plaintiff actually found the environment abusive. But while psychological harm, like any other relevant
factor, may be taken into account, no single factor is required.
III
Forklift, while conceding that a requirement that the conduct seriously affect psychological well-being is
unfounded, argues that the District Court nonetheless correctly applied the Meritor standard. We
disagree. Though the District Court did conclude that the work environment was not “intimidating or
abusive to [Harris],” it did so only after finding that the conduct was not “so severe as to be expected to
seriously affect plaintiff’s psychological well-being,” and that Harris was not “subjectively so offended that
she suffered injury,” ibid. The District Court’s application of these incorrect standards may well have
influenced its ultimate conclusion, especially given that the court found this to be a “close case.”
We therefore reverse the judgment of the Court of Appeals, and remand the case for further proceedings
consistent with this opinion.
So ordered.
Note to Students
This was only the second time that the Supreme Court had decided a sexual harassment case. Many
feminist legal studies scholars feared that the court would raise the bar and make hostile-working-
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environment claims under Title VII more difficult to win. That did not happen. When the question to be
decided is combined with the court’s decision, we get the holding of the case. Here, the question that the
court poses, plus its answer, yields a holding that “An employee need not prove severe psychological
injury in order to win a Title VII sexual harassment claim.” This holding will be true until such time as the
court revisits a similar question and answers it differently. This does happen, but happens rarely.
C A S E Q U E S T I O N S
1. Is this a criminal case or a civil-law case? How can you tell?
2. Is the court concerned with making a procedural rule here, or is the court making a
statement about the substantive law?
3. Is this a case where the court is interpreting the Constitution, a federal statute, a state
statute, or the common law?
4. In Harris v. Forklift, what if the trial judge does not personally agree that women should
have any rights to equal treatment in the workplace? Why shouldn’t that judge dismiss
the case even before trial? Or should the judge dismiss the case after giving the female
plaintiff her day in court?
5. What was the employer’s argument in this case? Do you agree or disagree with it? What
if those who legislated Title VII gave no thought to the question of seriousness of injury
at all?
1.7 Summary and Exercises
Summary
There are differing conceptions of what law is and of what law should be. Laws and legal systems differ
worldwide. The legal system in the United States is founded on the US Constitution, which is itself
inspired by natural-law theory and the idea that people have rights that cannot be taken by government
but only protected by government. The various functions of the law are done well or poorly depending on
which nation-state you look at. Some do very well in terms of keeping order, while others do a better job
of allowing civil and political freedoms. Social and political movements within each nation greatly affect
the nature and quality of the legal system within that nation.
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This chapter has familiarized you with a few of the basic schools of legal thought, such as natural law,
positive law, legal realism, and critical legal studies. It has also given you a brief background in common
law, including contracts, torts, and criminal law. The differences between civil and criminal cases,
substance and procedure, and the various sources of law have also been reviewed. Each source has a
different level of authority, starting with constitutions, which are primary and will negate any lower-court
laws that are not consistent with its principles and provisions. The basic differences between the common
law and civil law (continental, or European) systems of law are also discussed.
E X E R C I S E S
1. What is the common law? Where do the courts get the authority to interpret it and to
change it?
2. After World War II ended in 1945, there was an international tribunal at Nuremberg that
prosecuted various officials in Germany’s Third Reich who had committed “crimes
against humanity.” Many of them claim that they were simply “following orders” of
Adolf Hitler and his chief lieutenants. What law, if any, have they violated?
3. What does stare decisis mean, and why is it so basic to common-law legal tradition?
4. In the following situations, which source of law takes priority, and why?
a. The state statute conflicts with the common law of that state.
b. A federal statute conflicts with the US Constitution.
c. A common-law decision in one state conflicts with the US Constitution.
d. A federal statute conflicts with a state constitution.
S E L F – T E S T Q U E S T I O N S
1. The source of law that is foundational in the US legal system is
a.the common law
b. statutory law
c. constitutional law
d. administrative law
2. “Law is the command of a sovereign” represents what school of legal thought?
a. civil law
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b. constitutional law
c. natural law
d. ecofeminist law
e. positive law
3. Which of the following kinds of law are most often found in state law rather than federal law?
a. torts and contracts
b. bankruptcy
c. maritime law
d. international law
4. Where was natural law discovered?
a. in nature
b. in constitutions and statutes
c. in the exercise of human reason
d. in the Wall Street Journal
5. Wolfe is a state court judge in California. In the case of Riddick v. Clouse, which involves a
contract dispute, Wolfe must follow precedent. She establishes a logical relationship between
the Riddick case and a case decided by the California Supreme Court, Zhu v. Patel Enterprises,
Inc.She compares the facts of Riddick to the facts in Zhu and to the extent the facts are similar,
applies the same rule to reach her decision. This is
a. deductive reasoning
b. faulty reasoning
c. linear reasoning
d. reasoning by analogy
6. Moore is a state court judge in Colorado. In the case of Cassidy v. Seawell, also a contract
dispute, there is no Colorado Supreme Court or court of appeals decision that sets forth a rule
that could be applied. However, the California case of Zhu v. Patel Enterprises, Inc. is “very close”
on the facts and sets forth a rule of law that could be applied to the Cassidy case. What process
must Moore follow in considering whether to use the Zhu case as precedent?
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a. Moore is free to decide the case any way he wants, but he may not look at
decisions and reasons in similar cases from other states.
b. Moore must wait for the Colorado legislature and the governor to pass a law
that addresses the issues raised in the Cassidy case.
c. Moore must follow the California case if that is the best precedent.
d. Moore may follow the California case if he believes that it offers the best
reasoning for a similar case.
S E L F – T E S T A N S W E R S
1. c
2. e
3. a
4. c
5. d
6. d
Chapter 2
Corporate Social Responsibility and Business Ethics
A great society is a society in which [leaders] of business think greatly about their functions.
Alfred North Whitehead
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Define ethics and explain the importance of good ethics for business people and
business organizations.
2. Understand the principal philosophies of ethics, including utilitarianism, duty-based
ethics, and virtue ethics.
3. Distinguish between the ethical merits of various choices by using an ethical decision
model.
4. Explain the difference between shareholder and stakeholder models of ethical corporate
governance.
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5. Explain why it is difficult to establish and maintain an ethical corporate culture in a
business organization.
Few subjects are more contentious or important as the role of business in society, particularly, whether corporations
have social responsibilities that are distinct from maximizing shareholder value. While the phrase “business ethics” is
not oxymoronic (i.e., a contradiction in terms), there is plenty of evidence that businesspeople and firms seek to look
out primarily for themselves. However, business organizations ignore the ethical and social expectations of
consumers, employees, the media, nongovernment organizations (NGOs), government officials, and socially
responsible investors at their peril. Legal compliance alone no longer serves the long-term interests of many
companies, who find that sustainable profitability requires thinking about people and the planet as well as profits.
This chapter has a fairly modest aim: to introduce potential businesspeople to the differences between legal
compliance and ethical excellence by reviewing some of the philosophical perspectives that apply to business,
businesspeople, and the role of business organizations in society.
2.1 What Is Ethics?
L E A R N I N G O B J E C T I V E S
1. Explain how both individuals and institutions can be viewed as ethical or unethical.
2. Explain how law and ethics are different, and why a good reputation can be more
important than legal compliance.
Most of those who write about ethics do not make a clear distinction between ethics and morality. The question of
what is “right” or “morally correct” or “ethically correct” or “morally desirable” in any situation is variously phrased,
but all of the words and phrases are after the same thing: what act is “better” in a moral or ethical sense than some
other act? People sometimes speak of morality as something personal but view ethics as having wider social
implications. Others see morality as the subject of a field of study, that field being ethics. Ethics would be morality as
applied to any number of subjects, including journalistic ethics, business ethics, or the ethics of professionals such as
doctors, attorneys, and accountants. We will venture a definition of ethics, but for our purposes,
ethics and morality will be used as equivalent terms.
People often speak about the ethics or morality of individuals and also about the morality or ethics of corporations
and nations. There are clearly differences in the kind of moral responsibility that we can fairly ascribe to corporations
and nations; we tend to see individuals as having a soul, or at least a conscience, but there is no general agreement
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that nations or corporations have either. Still, our ordinary use of language does point to something significant: if we
say that some nations are “evil” and others are “corrupt,” then we make moral judgments about the quality of actions
undertaken by the governments or people of that nation. For example, if North Korea is characterized by the US
president as part of an “axis of evil,” or if we conclude that WorldCom or Enron acted “unethically” in certain respects,
then we are making judgments that their collective actions are morally deficient.
In talking about morality, we often use the word good; but that word can be confusing. If we say that Microsoft is a
“good company,” we may be making a statement about the investment potential of Microsoft stock, or their
preeminence in the market, or their ability to win lawsuits or appeals or to influence administrative agencies. Less
likely, though possibly, we may be making a statement about the civic virtue and corporate social responsibility of
Microsoft. In the first set of judgments, we use the word goodbut mean something other than ethical or moral; only
in the second instance are we using the word good in its ethical or moral sense.
A word such as good can embrace ethical or moral values but also nonethical values. If I like Daniel and try to
convince you what a “good guy” he is, you may ask all sorts of questions: Is he good-looking? Well-off? Fun to be
with? Humorous? Athletic? Smart? I could answer all of those questions with a yes, yet you would still not know any
of his moral qualities. But if I said that he was honest, caring, forthright, and diligent, volunteered in local soup
kitchens, or tithed to the church, many people would see Daniel as having certain ethical or moral qualities. If I said
that he keeps the Golden Rule as well as anyone I know, you could conclude that he is an ethical person. But if I said
that he is “always in control” or “always at the top of his game,” you would probably not make inferences or
assumptions about his character or ethics.
There are three key points here:
1. Although morals and ethics are not precisely measurable, people generally have similar
reactions about what actions or conduct can rightly be called ethical or moral.
2. As humans, we need and value ethical people and want to be around them.
3. Saying that someone or some organization is law-abiding does not mean the same as
saying a person or company is ethical.
Here is a cautionary note: for individuals, it is far from easy to recognize an ethical problem, have a clear and usable
decision-making process to deal it, and then have the moral courage to do what’s right. All of that is even more
difficult within a business organization, where corporate employees vary in their motivations, loyalties, commitments,
and character. There is no universally accepted way for developing an organization where employees feel valued,
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respected, and free to openly disagree; where the actions of top management are crystal clear; and where all the
employees feel loyal and accountable to one another.
Before talking about how ethics relates to law, we can conclude that ethics is the study of morality—“right” and
“wrong”—in the context of everyday life, organizational behaviors, and even how society operates and is governed.
How Do Law and Ethics Differ?
There is a difference between legal compliance and moral excellence. Few would choose a professional
service, health care or otherwise, because the provider had a record of perfect legal compliance, or always
following the letter of the law. There are many professional ethics codes, primarily because people realize
that law prescribes only a minimum of morality and does not provide purpose or goals that can mean
excellent service to customers, clients, or patients.
Business ethicists have talked for years about the intersection of law and ethics. Simply put, what is legal
is not necessarily ethical. Conversely, what is ethical is not necessarily legal. There are lots of legal
maneuvers that are not all that ethical; the well-used phrase “legal loophole” suggests as much.
Here are two propositions about business and ethics. Consider whether they strike you as true or whether
you would need to know more in order to make a judgment.
Individuals and organizations have reputations. (For an individual, moral reputation is
most often tied to others’ perceptions of his or her character: is the individual honest,
diligent, reliable, fair, and caring? The reputation of an organization is built on the
goodwill that suppliers, customers, the community, and employees feel toward it.
Although an organization is not a person in the usual sense, the goodwill that people feel
about the organization is based on their perception of its better qualities by a variety of
stakeholders: customers or clients, suppliers, investors, employees, government
officials).
The goodwill of an organization is to a great extent based on the actions it takes and on
whether the actions are favorably viewed. (This goodwill is usually specifically counted
in the sale of a business as an asset that the buyer pays for. While it is difficult to place a
monetary value on goodwill, a firm’s good reputation will generally call for a higher
evaluation in the final accounting before the sale. Legal troubles or a reputation for
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having legal troubles will only lessen the price for a business and will even lessen the
value of the company’s stock as bad legal news comes to the public’s attention.)
Another reason to think about ethics in connection with law is that the laws themselves are meant to
express some moral view. If there are legal prohibitions against cheating the Medicare program, it is
because people (legislators or their agents) have collectively decided that cheating Medicare is wrong. If
there are legal prohibitions against assisting someone to commit suicide, it is because there has been a
group decision that doing so is immoral. Thus the law provides some important cues as to what society
regards as right or wrong.
Finally, important policy issues that face society are often resolved through law, but it is important to
understand the moral perspectives that underlie public debate—as, for example, in the continuing
controversies over stem-cell research, medical use of marijuana, and abortion. Some ethical perspectives
focus on rights, some on social utility, some on virtue or character, and some on social justice. People
consciously (or, more often, unconsciously) adopt one or more of these perspectives, and even if they
completely agree on the facts with an opponent, they will not change their views. Fundamentally, the
difference comes down to incompatible moral perspectives, a clash of basic values. These are hot-button
issues because society is divided, not so much over facts, but over basic values. Understanding the varied
moral perspectives and values in public policy debates is a clarifying benefit in following or participating
in these important discussions.
Why Should an Individual or a Business Entity Be Ethical?
The usual answer is that good ethics is good business. In the long run, businesses that pay attention to
ethics as well as law do better; they are viewed more favorably by customers. But this is a difficult claim to
measure scientifically, because “the long run” is an indistinct period of time and because there are as yet
no generally accepted criteria by which ethical excellence can be measured. In addition, life is still lived in
the short run, and there are many occasions when something short of perfect conduct is a lot more
profitable.
Some years ago, Royal Dutch/Shell (one of the world’s largest companies) found that it was in deep
trouble with the public for its apparent carelessness with the environment and human rights. Consumers
were boycotting and investors were getting frightened, so the company took a long, hard look at its ethic
of short-term profit maximization. Since then, changes have been made. The CEO told one group of
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business ethicists that the uproar had taken them by surprise; they thought they had done everything
right, but it seemed there was a “ghost in the machine.” That ghost was consumers, NGOs, and the media,
all of whom objected to the company’s seeming lack of moral sensitivity.
The market does respond to unethical behavior. In Section 2.4 “Corporations and Corporate Governance”,
you will read about the Sears Auto Centers case. The loss of goodwill toward Sears Auto Centers was real,
even though the total amount of money lost cannot be clearly accounted for. Years later, there are people
who will not go near a Sears Auto Center; the customers who lost trust in the company will never return,
and many of their children may avoid Sears Auto Centers as well.
The Arthur Andersen story is even more dramatic. A major accounting firm, Andersen worked closely
with Enron in hiding its various losses through creative accounting measures. Suspiciously, Andersen’s
Houston office also did some shredding around the clock, appearing to cover up what it was doing for
Enron. A criminal case based on this shredding resulted in a conviction, later overturned by the Supreme
Court. But it was too late. Even before the conviction, many clients had found other accounting firms that
were not under suspicion, and the Supreme Court’s reversal came too late to save the company. Even
without the conviction, Andersen would have lost significant market share.
The irony of Andersen as a poster child for overly aggressive accounting practices is that the man who
founded the firm built it on integrity and straightforward practices. “Think straight, talk straight” was the
company’s motto. Andersen established the company’s reputation for integrity over a hundred years ago
by refusing to play numbers games for a potentially lucrative client.
Maximizing profits while being legally compliant is not a very inspiring goal for a business. People in an
organization need some quality or excellence to strive for. By focusing on pushing the edge of what is
legal, by looking for loopholes in the law that would help create short-term financial gain, companies have
often learned that in the long term they are not actually satisfying the market, the shareholders, the
suppliers, or the community generally.
K E Y T A K E A W A Y
Legal compliance is not the same as acting ethically. Your reputation, individually or corporately, depends
on how others regard your actions. Goodwill is hard to measure or quantify, but it is real nonetheless and
can best be protected by acting ethically.
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E X E R C I S E S
1. Think of a person who did something morally wrong, at least to your way of thinking.
What was it? Explain to a friend of yours—or a classmate—why you think it was wrong.
Does your friend agree? Why or why not? What is the basic principle that forms the basis
for your judgment that it was wrong?
2. Think of a person who did something morally right, at least to your way of thinking. (This
is not a matter of finding something they did well, like efficiently changing a tire, but
something good.) What was it? Explain to a friend of yours—or a classmate—why you
think it was right. Does your friend agree? Why or why not? What is the basic principle
that forms the basis for your judgment that it was right?
3. Think of an action by a business organization (sole proprietor, partnership, or
corporation) that was legal but still strikes you as wrong. What was it? Why do you think
it was wrong?
4. Think of an act by an individual or a corporation that is ethical but not legal. Compare
your answer with those of your classmates: were you more likely to find an example
from individual action or corporate action? Do you have any thoughts as to why?
2.2 Major Ethical Perspectives
L E A R N I N G O B J E C T I V E S
1. Describe the various major theories about ethics in human decision making.
2. Begin considering how the major theories about ethics apply to difficult choices in life
and business.
There are several well-respected ways of looking at ethical issues. Some of them have been around for
centuries. It is important to know that many who think a lot about business and ethics have deeply held
beliefs about which perspective is best. Others would recommend considering ethical problems from a
variety of different perspectives. Here, we take a brief look at (1) utilitarianism, (2) deontology, (3) social
justice and social contract theory, and (4) virtue theory. We are leaving out some important perspectives,
such as general theories of justice and “rights” and feminist thought about ethics and patriarchy.
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Utilitarianism
Utilitarianism is a prominent perspective on ethics, one that is well aligned with economics and the free-
market outlook that has come to dominate much current thinking about business, management, and
economics. Jeremy Bentham is often considered the founder of utilitarianism, though John Stuart Mill
(who wrote On Liberty and Utilitarianism) and others promoted it as a guide to what is good.
Utilitarianism emphasizes not rules but results. An action (or set of actions) is generally deemed good or
right if it maximizes happiness or pleasure throughout society. Originally intended as a guide for
legislators charged with seeking the greatest good for society, the utilitarian outlook may also be practiced
individually and by corporations.
Bentham believed that the most promising way to obtain agreement on the best policies for a society
would be to look at the various policies a legislature could pass and compare the good and bad
consequences of each. The right course of action from an ethical point of view would be to choose the
policy that would produce the greatest amount of utility, or usefulness. In brief, the utilitarian principle
holds that an action is right if and only if the sum of utilities produced by that action is greater than the
sum of utilities from any other possible act.
This statement describes “act utilitarianism”—which action among various options will deliver the
greatest good to society? “Rule utilitarianism” is a slightly different version; it asks, what rule or principle,
if followed regularly, will create the greatest good?
Notice that the emphasis is on finding the best possible results and that the assumption is that we can
measure the utilities involved. (This turns out to be more difficult that you might think.) Notice also that
“the sum total of utilities” clearly implies that in doing utilitarian analysis, we cannot be satisfied if an act
or set of acts provides the greatest utility to us as individuals or to a particular corporation; the test is,
instead, whether it provides the greatest utility to society as a whole. Notice that the theory does not tell us
what kinds of utilities may be better than others or how much better a good today is compared with a
good a year from today.
Whatever its difficulties, utilitarian thinking is alive and well in US law and business. It is found in such
diverse places as cost-benefit analysis in administrative and regulatory rules and calculations,
environmental impact studies, the majority vote, product comparisons for consumer information,
marketing studies, tax laws, and strategic planning. In management, people will often employ a form of
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utility reasoning by projecting costs and benefits for plan X versus plan Y. But the issue in most of these
cost-benefit analyses is usually (1) put exclusively in terms of money and (2) directed to the benefit of the
person or organization doing the analysis and not to the benefit of society as a whole.
An individual or a company that consistently uses the test “What’s the greatest good for me or the
company?” is not following the utilitarian test of the greatest good overall. Another common failing is to
see only one or two options that seem reasonable. The following are some frequent mistakes that people
make in applying what they think are utilitarian principles in justifying their chosen course of action:
1. Failing to come up with lots of options that seem reasonable and then choosing the one
that has the greatest benefit for the greatest number. Often, a decision maker seizes on
one or two alternatives without thinking carefully about other courses of action. If the
alternative does more good than harm, the decision maker assumes it’s ethically okay.
2. Assuming that the greatest good for you or your company is in fact the greatest good for
all—that is, looking at situations subjectively or with your own interests primarily in
mind.
3. Underestimating the costs of a certain decision to you or your company. The now-classic
Ford Pinto case demonstrates how Ford Motor Company executives drastically
underestimated the legal costs of not correcting a feature on their Pinto models that they
knew could cause death or injury. General Motors was often taken to task by juries that
came to understand that the company would not recall or repair known and dangerous
defects because it seemed more profitable not to. In 2010, Toyota learned the same
lesson.
4. Underestimating the cost or harm of a certain decision to someone else or some other
group of people.
5. Favoring short-term benefits, even though the long-term costs are greater.
6. Assuming that all values can be reduced to money. In comparing the risks to human
health or safety against, say, the risks of job or profit losses, cost-benefit analyses will
often try to compare apples to oranges and put arbitrary numerical values on human
health and safety.
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Rules and Duty: Deontology
In contrast to the utilitarian perspective, the deontological view presented in the writings of Immanuel
Kant purports that having a moral intent and following the right rules is a better path to ethical conduct
than achieving the right results. A deontologist like Kant is likely to believe that ethical action arises from
doing one’s duty and that duties are defined by rational thought. Duties, according to Kant, are not
specific to particular kinds of human beings but are owed universally to all human beings. Kant therefore
uses “universalizing“ as a form of rational thought that assumes the inherent equality of all human beings.
It considers all humans as equal, not in the physical, social, or economic sense, but equal before God,
whether they are male, female, Pygmy, Eskimoan, Islamic, Christian, gay, straight, healthy, sick, young, or
old.
For Kantian thinkers, this basic principle of equality means that we should be able to universalize any
particular law or action to determine whether it is ethical. For example, if you were to consider
misrepresenting yourself on a resume for a particular job you really wanted and you were convinced that
doing so would get you that job, you might be very tempted to do so. (What harm would it be? you might
ask yourself. When I have the job, I can prove that I was perfect for it, and no one is hurt, while both the
employer and I are clearly better off as a result!) Kantian ethicists would answer that your chosen course
of action should be a universal one—a course of action that would be good for all persons at all times.
There are two requirements for a rule of action to be universal: consistency and reversibility. Consider
reversibility: if you make a decision as though you didn’t know what role or position you would have after
the decision, you would more likely make an impartial one—you would more likely choose a course of
action that would be most fair to all concerned, not just you. Again, deontologyrequires that we put duty
first, act rationally, and give moral weight to the inherent equality of all human beings.
In considering whether to lie on your resume, reversibility requires you to actively imagine both that you
were the employer in this situation and that you were another well-qualified applicant who lost the job
because someone else padded his resume with false accomplishments. If the consequences of such an
exercise of the imagination are not appealing to you, your action is probably not ethical.
The second requirement for an action to be universal is the search for consistency. This is more abstract.
A deontologist would say that since you know you are telling a lie, you must be willing to say that lying, as
a general, universal phenomenon, is acceptable. But if everyone lied, then there would be no point to
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lying, since no one would believe anyone. It is only because honesty works well for society as a whole and
is generally practiced that lying even becomes possible! That is, lying cannot be universalized, for it
depends on the preexistence of honesty.
Similar demonstrations can be made for actions such as polluting, breaking promises, and committing
most crimes, including rape, murder, and theft. But these are the easy cases for Kantian thinkers. In the
gray areas of life as it is lived, the consistency test is often difficult to apply. If breaking a promise would
save a life, then Kantian thought becomes difficult to apply. If some amount of pollution can allow
employment and the harm is minimal or distant, Kantian thinking is not all that helpful. Finally, we
should note that the well-known Golden Rule, “Do unto others as you would have them do unto you,”
emphasizes the easier of the two universalizing requirements: practicing reversibility (“How would I like it
if someone did this to me?”).
Social Justice Theory and Social Contract Theory
Social justice theorists worry about “distributive justice”—that is, what is the fair way to distribute goods
among a group of people? Marxist thought emphasizes that members of society should be given goods to
according to their needs. But this redistribution would require a governing power to decide who gets what
and when. Capitalist thought takes a different approach, rejecting any giving that is not voluntary. Certain
economists, such as the late Milton Friedman (see the sidebar in Section 2.4 “Corporations and Corporate
Governance”) also reject the notion that a corporation has a duty to give to unmet needs in society,
believing that the government should play that role. Even the most dedicated free-market capitalist will
often admit the need for some government and some forms of welfare—Social Security, Medicare,
assistance to flood-stricken areas, help for AIDs patients—along with some public goods (such as defense,
education, highways, parks, and support of key industries affecting national security).
People who do not see the need for public goods (including laws, court systems, and the government
goods and services just cited) often question why there needs to be a government at all. One response
might be, “Without government, there would be no corporations.” Thomas Hobbes believed that people in
a “state of nature” would rationally choose to have some form of government. He called this
thesocial contract, where people give up certain rights to government in exchange for security and
common benefits. In your own lives and in this course, you will see an ongoing balancing act between
human desires for freedom and human desires for order; it is an ancient tension. Some commentators
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also see a kind of social contract between corporations and society; in exchange for perpetual duration
and limited liability, the corporation has some corresponding duties toward society. Also, if a corporation
is legally a “person,” as the Supreme Court reaffirmed in 2010, then some would argue that if this
corporate person commits three felonies, it should be locked up for life and its corporate charter revoked!
Modern social contract theorists, such as Thomas Donaldson and Thomas Dunfee (Ties that Bind, 1999),
observe that various communities, not just nations, make rules for the common good. Your college or
school is a community, and there are communities within the school (fraternities, sororities, the folks
behind the counter at the circulation desk, the people who work together at the university radio station,
the sports teams, the faculty, the students generally, the gay and lesbian alliance) that have rules, norms,
or standards that people can buy into or not. If not, they can exit from that community, just as we are free
(though not without cost) to reject US citizenship and take up residence in another country.
Donaldson and Dunfee’s integrative social contracts theory stresses the importance of studying the rules
of smaller communities along with the larger social contracts made in states (such as Colorado or
California) and nation-states (such as the United States or Germany). Our Constitution can be seen as a
fundamental social contract.
It is important to realize that a social contract can be changed by the participants in a community, just as
the US Constitution can be amended. Social contract theory is thus dynamic—it allows for structural and
organic changes. Ideally, the social contract struck by citizens and the government allows for certain
fundamental rights such as those we enjoy in the United States, but it need not. People can give up
freedom-oriented rights (such as the right of free speech or the right to be free of unreasonable searches
and seizures) to secure order (freedom from fear, freedom from terrorism). For example, many citizens in
Russia now miss the days when the Kremlin was all powerful; there was less crime and more equality and
predictability to life in the Soviet Union, even if there was less freedom.
Thus the rights that people have—in positive law—come from whatever social contract exists in the
society. This view differs from that of the deontologists and that of the natural-law thinkers such as
Gandhi, Jesus, or Martin Luther King Jr., who believed that rights come from God or, in less religious
terms, from some transcendent moral order.
Another important movement in ethics and society is the communitarian outlook. Communitarians
emphasize that rights carry with them corresponding duties; that is, there cannot be a right without a
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duty. Interested students may wish to explore the work of Amitai Etzioni. Etzioni was a founder of the
Communitarian Network, which is a group of individuals who have come together to bolster the moral,
social, and political environment. It claims to be nonsectarian, nonpartisan, and international in scope.
The relationship between rights and duties—in both law and ethics—calls for some explanations:
1. If you have a right of free expression, the government has a duty to respect that right but
can put reasonable limits on it. For example, you can legally say whatever you want
about the US president, but you can’t get away with threatening the president’s life.
Even if your criticisms are strong and insistent, you have the right (and our government
has the duty to protect your right) to speak freely. In Singapore during the 1990s, even
indirect criticisms—mere hints—of the political leadership were enough to land you in
jail or at least silence you with a libel suit.
2. Rights and duties exist not only between people and their governments but also between
individuals. Your right to be free from physical assault is protected by the law in most
states, and when someone walks up to you and punches you in the nose, your rights—as
set forth in the positive law of your state—have been violated. Thus other people have a
duty to respect your rights and to not punch you in the nose.
3. Your right in legal terms is only as good as your society’s willingness to provide legal
remedies through the courts and political institutions of society.
A distinction between basic rights and nonbasic rights may also be important. Basic rights may include
such fundamental elements as food, water, shelter, and physical safety. Another distinction is between
positive rights (the right to bear arms, the right to vote, the right of privacy) and negative rights (the right
to be free from unreasonable searches and seizures, the right to be free of cruel or unusual punishments).
Yet another is between economic or social rights (adequate food, work, and environment) and political or
civic rights (the right to vote, the right to equal protection of the laws, the right to due process).
Aristotle and Virtue Theory
Virtue theory, or virtue ethics, has received increasing attention over the past twenty years, particularly in
contrast to utilitarian and deontological approaches to ethics. Virtue theory emphasizes the value of
virtuous qualities rather than formal rules or useful results. Aristotle is often recognized as the first
philosopher to advocate the ethical value of certain qualities, or virtues, in a person’s character. As LaRue
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Hosmer has noted, Aristotle saw the goal of human existence as the active, rational search for excellence,
and excellence requires the personal virtues of honesty, truthfulness, courage, temperance, generosity,
and high-mindedness. This pursuit is also termed “knowledge of the good” in Greek philosophy.
[1]
Aristotle believed that all activity was aimed at some goal or perceived good and that there must be some
ranking that we do among those goals or goods. Happiness may be our ultimate goal, but what does that
mean, exactly? Aristotle rejected wealth, pleasure, and fame and embraced reason as the distinguishing
feature of humans, as opposed to other species. And since a human is a reasoning animal, happiness must
be associated with reason. Thus happiness is living according to the active (rather than passive) use of
reason. The use of reason leads to excellence, and so happiness can be defined as the active, rational
pursuit of personal excellence, or virtue.
Aristotle named fourteen virtues: (1) courage, particularly in battle; (2) temperance, or moderation in
eating and drinking; (3) liberality, or spending money well; (4) magnificence, or living well; (5) pride, or
taking pleasure in accomplishments and stature; (6) high-mindedness, or concern with the noble rather
than the petty; (7) unnamed virtue, which is halfway between ambition and total lack of effort; (8)
gentleness, or concern for others; (9) truthfulness; (10) wit, or pleasure in group discussions; (11)
friendliness, or pleasure in personal conduct; (12) modesty, or pleasure in personal conduct; (13)
righteous indignation, or getting angry at the right things and in the right amounts; and (14) justice.
From a modern perspective, some of these virtues seem old-fashioned or even odd. Magnificence, for
example, is not something we commonly speak of. Three issues emerge: (1) How do we know what a virtue
is these days? (2) How useful is a list of agreed-upon virtues anyway? (3) What do virtues have to do with
companies, particularly large ones where various groups and individuals may have little or no contact
with other parts of the organization?
As to the third question, whether corporations can “have” virtues or values is a matter of lively debate. A
corporation is obviously not the same as an individual. But there seems to be growing agreement that
organizations do differ in their practices and that these practices are value driven. If all a company cares
about is the bottom line, other values will diminish or disappear. Quite a few books have been written in
the past twenty years that emphasize the need for businesses to define their values in order to be
competitive in today’s global economy.
[2]
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As to the first two questions regarding virtues, a look at Michael Josephson’s core values may prove
helpful.
Josephson’s Core Values Analysis and Decision Process
Michael Josephson, a noted American ethicist, believes that a current set of core valueshas been
identified and that the values can be meaningfully applied to a variety of personal and corporate
decisions.
To simplify, let’s say that there are ethical and nonethical qualities among people in the United States.
When you ask people what kinds of qualities they admire in others or in themselves, they may say wealth,
power, fitness, sense of humor, good looks, intelligence, musical ability, or some other quality. They may
also value honesty, caring, fairness, courage, perseverance, diligence, trustworthiness, or integrity. The
qualities on the second list have something in common—they are distinctively ethical characteristics. That
is, they are commonly seen as moral or ethical qualities, unlike the qualities on the first list. You can be,
like the Athenian Alcibiades, brilliant but unprincipled, or, like some political leaders today, powerful but
dishonest, or wealthy but uncaring. You can, in short, have a number of admirable qualities (brilliance,
power, wealth) that are not per se virtuous. Just because Harold is rich or good-looking or has a good
sense of humor does not mean that he is ethical. But if Harold is honest and caring (whether he is rich or
poor, humorous or humorless), people are likely to see him as ethical.
Among the virtues, are any especially important? Studies from the Josephson Institute of Ethics in
Marina del Rey, California, have identified six core values in our society, values that almost everyone
agrees are important to them. When asked what values people hold dear, what values they wish to be
known by, and what values they wish others would exhibit in their actions, six values consistently turn up:
(1) trustworthiness, (2) respect, (3) responsibility, (4) fairness, (5) caring, and (6) citizenship.
Note that these values are distinctly ethical. While many of us may value wealth, good looks, and
intelligence, having wealth, good looks, and intelligence does not automatically make us virtuous in our
character and habits. But being more trustworthy (by being honest and by keeping promises) does make
us more virtuous, as does staying true to the other five core values.
Notice also that these six core values share something in common with other ethical values that are less
universally agreed upon. Many values taught in the family or in places of worship are not generally agreed
on, practiced, or admired by all. Some families and individuals believe strongly in the virtue of saving
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money or in abstaining from alcohol or sex prior to marriage. Others clearly do not, or at least don’t act on
their beliefs. Moreover, it is possible to have and practice core ethical values even if you take on heavy
debt, knock down several drinks a night, or have frequent premarital sex. Some would dispute this, saying
that you can’t really lead a virtuous life if you get into debt, drink heavily, or engage in premarital sex. But
the point here is that since people do disagree in these areas, the ethical traits of thrift, temperance, and
sexual abstinence do not have the unanimity of approval that the six core values do.
The importance of an individual’s having these consistent qualities of character is well known. Often we
remember the last bad thing a person did far more than any or all previous good acts. For example, Eliot
Spitzer and Bill Clinton are more readily remembered by people for their last, worst acts than for any good
they accomplished as public servants. As for a company, its good reputation also has an incalculable value
that when lost takes a great deal of time and work to recover. Shell, Nike, and other companies have
discovered that there is a market for morality, however difficult to measure, and that not paying attention
to business ethics often comes at a serious price. In the past fifteen years, the career of ethics and
compliance officer has emerged, partly as a result of criminal proceedings against companies but also
because major companies have found that reputations cannot be recovered retroactively but must be
pursued proactively. For individuals, Aristotle emphasized the practice of virtue to the point where virtue
becomes a habit. Companies are gradually learning the same lesson.
K E Y T A K E A W A Y
Throughout history, people have pondered what it means “to do what is right.” Some of the main answers
have come from the differing perspectives of utilitarian thought; duty-based, or deontological, thought;
social contract theory; and virtue ethics.
E X E R C I S E S
XYZ Motor Corporation begins to get customer complaints about two models of its automobiles.
Customers have had near-death experiences from sudden acceleration; they would be driving along a
highway at normal speed when suddenly the car would begin to accelerate, and efforts to stop the
acceleration by braking fail to work. Drivers could turn off the ignition and come to a safe stop, but XYZ
does not instruct buyers of its cars to do so, nor is this a common reaction among drivers who experience
sudden acceleration.
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Internal investigations of half a dozen accidents in US locations come to the conclusion that the accidents
are not being caused by drivers who mistake the gas pedal for the brake pedal. In fact, there appears to be
a possible flaw in both models, perhaps in a semiconductor chip, that makes sudden acceleration happen.
Interference by floor mats and poorly designed gas pedals do not seem to be the problem.
It is voluntary to report these incidents to the National Highway Traffic and Safety Administration (NHTSA),
but the company decides that it will wait awhile and see if there are more complaints. Recalling the two
models so that local dealers and their mechanics could examine them is also an option, but it would be
extremely costly. Company executives are aware that quarterly and annual profit-and-loss statements, on
which their bonuses depend, could be decisively worse with a recall. They decide that on a cost-benefit
basis, it makes more sense to wait until there are more accidents and more data. After a hundred or more
accidents and nearly fifteen fatalities, the company institutes a selective recall, still not notifying NHTSA,
which has its own experts and the authority to order XYZ to do a full recall of all affected models.
Experts have advised XYZ that standard failure-analysis methodology requires that the company obtain
absolutely every XYZ vehicle that has experienced sudden acceleration, using microscopic analysis of all
critical components of the electronic system. The company does not wish to take that advice, as it would
be—as one top executive put it—“too time-consuming and expensive.”
1. Can XYZ’s approach to this problem be justified under utilitarian theory? If so, how? If
not, why not?
2. What would Kant advise XYZ to do? Explain.
3. What would the “virtuous” approach be for XYZ in this situation?
[1] LaRue Tone Hosmer, Moral Leadership in Business (Chicago: Irwin Professional Publishing, 1994), 72.
[2] James O’Toole and Don Mayer, eds., Good Business: Exercising Effective and Ethical Leadership (London:
Routledge, 2010).
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2.3 An Ethical Decision Model
L E A R N I N G O B J E C T I V E
1. Understand one model for ethical decision making: a process to arrive at the most
ethical option for an individual or a business organization, using a virtue ethics approach
combined with some elements of stakeholder analysis and utilitarianism.
Josephson’s Core Values Model
Once you recognize that there is a decision that involves ethical judgment, Michael Josephson would first
have you ask as many questions as are necessary to get a full background on the relevant facts. Then,
assuming you have all the needed information, the decision process is as follows:
1. Identify the stakeholders. That is, who are the potential gainers and losers in the various
decisions that might be made here?
2. Identify several likely or reasonable decisions that could be made.
3. Consider which stakeholders gain or lose with each decision.
4. Determine which decision satisfies the greatest number of core values.
5. If there is no decision that satisfies the greatest number of core values, try to determine
which decision delivers the greatest good to the various stakeholders.
It is often helpful to identify who (or what group) is the most important stakeholder, and why. In Milton
Friedman’s view, it will always be the shareholders. In the view of John Mackey, the CEO of Whole Foods
Market, the long-term viability and profitability of the organization may require that customers come
first, or, at times, some other stakeholder group (see “Conscious Capitalism” in Section 2.4 “Corporations
and Corporate Governance”).
The Core Values
Here are the core values and their subcomponents as developed by the Josephson Institute of Ethics.
Trustworthiness: Be honest—tell the truth, the whole truth, and nothing but the truth; be sincere,
forthright; don’t deceive, mislead, or be tricky with the truth; don’t cheat or steal, and don’t betray a
trust. Demonstrate integrity—stand up for what you believe, walk the walk as well as talking the talk; be
what you seem to be; show commitment and courage. Be loyal—stand by your family, friends, co-workers,
community, and nation; be discreet with information that comes into your hands; don’t spread rumors or
engage in harmful gossip; don’t violate your principles just to win friendship or approval; don’t ask a
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friend to do something that is wrong. Keep promises—keep your word, honor your commitments, and pay
your debts; return what you borrow.
Respect: Judge people on their merits, not their appearance; be courteous, polite, appreciative, and
accepting of differences; respect others’ right to make decisions about their own lives; don’t abuse,
demean, mistreat anyone; don’t use, manipulate, exploit, or take advantage of others.
Responsibility: Be accountable—think about the consequences on yourself and others likely to be
affected before you act; be reliable; perform your duties; take responsibility for the consequences of your
choices; set a good example and don’t make excuses or take credit for other people’s work. Pursue
excellence: Do your best, don’t quit easily, persevere, be diligent, make all you do worthy of pride.
Exercise self-restraint—be disciplined, know the difference between what you have a right to do and what
is right to do.
Fairness: Treat all people fairly, be open-minded; listen; consider opposing viewpoints; be consistent;
use only appropriate considerations; don’t let personal feelings improperly interfere with decisions; don’t
take unfair advantage of mistakes; don’t take more than your fair share.
Caring: Show you care about others through kindness, caring, sharing, compassion, and empathy; treat
others the way you want to be treated; don’t be selfish, mean, cruel, or insensitive to others’ feelings.
Citizenship: Play by the rules, obey laws; do your share, respect authority, stay informed, vote, protect
your neighbors, pay your taxes; be charitable, help your community; protect the environment, conserve
resources.
When individuals and organizations confront ethical problems, the core values decision model offered by
Josephson generally works well (1) to clarify the gains and losses of the various stakeholders, which then
raises ethical awareness on the part of the decision maker and (2) to provide a fairly reliable guide as to
what the most ethical decision would be. In nine out of ten cases, step 5 in the decision process is not
needed.
That said, it does not follow that students (or managers) would necessarily act in accord with the results of
the core values decision process. There are many psychological pressures and organizational constraints
that place limits on people both individually and in organizations. These pressures and constraints tend to
compromise ideal or the most ethical solutions for individuals and for organizations. For a business, one
essential problem is that ethics can cost the organization money or resources, at least in the short term.
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Doing the most ethical thing will often appear to be something that fails to maximize profits in the short
term or that may seem pointless because if you or your organization acts ethically, others will not, and
society will be no better off, anyway.
K E Y T A K E A W A Y
Having a step-by-step process to analyze difficult moral dilemmas is useful. One such process is offered
here, based on the core values of trustworthiness, caring, respect, fairness, responsibility, and citizenship.
E X E R C I S E
1. Consider XYZ in the exercises for Section 2.2.5 “Josephson’s Core Values Analysis and
Decision Process” and use the core values decision-making model. What are XYZ’s
options when they first notice that two of their models are causing sudden acceleration
incidents that put their customers at risk? Who are the stakeholders? What options
most clearly meet the criteria for each of the core values?
2.4 Corporations and Corporate Governance
L E A R N I N G O B J E C T I V E S
1. Explain the basic structure of the typical corporation and how the shareholders own the
company and elect directors to run it.
2. Understand how the shareholder profit-maximization model is different from
stakeholder theory.
3. Discern and describe the ethical challenges for corporate cultures.
4. Explain what conscious capitalism is and how it differs from stakeholder theory.
Legal Organization of the Corporation
Figure 2.1 Corporate Legal Structure
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Figure 2.1 “Corporate Legal Structure”, though somewhat oversimplified, shows the basic legal structure
of a corporation under Delaware law and the laws of most other states in the United States. Shareholders
elect directors, who then hire officers to manage the company. From this structure, some very basic
realities follow. Because the directors of a corporation do not meet that often, it’s possible for the officers
hired (top management, or the “C-suite”) to be selective of what the board knows about, and directors are
not always ready and able to provide the oversight that the shareholders would like. Nor does the law
require officers to be shareholders, so that officers’ motivations may not align with the best interests of the
company. This is the “agency problem” often discussed in corporate governance: how to get officers and
other top management to align their own interests with those of the shareholders. For example, a CEO
might trade insider information to the detriment of the company’s shareholders. Even board members are
susceptible to misalignment of interets; for example, board members might resist hostile takeover bids
because they would likely lose their perks (short for perquisites) as directors, even though the tender offer
would benefit stockholders. Among other attempted realignments, the use of stock options was an
attempt to make managers more attentive to the value of company stock, but the law of unintended
consequences was in full force; managers tweaked and managed earnings in the bubble of the 1990s bull
market, and “managing by numbers” became an epidemic in corporations organized under US corporate
law. The rights of shareholders can be bolstered by changes in state and federal law, and there have been
some attempts to do that since the late 1990s. But as owners, shareholders have the ultimate power to
replace nonperforming or underperforming directors, which usually results in changes at the C-suite level
as well.
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Shareholders and Stakeholders
There are two main views about what the corporation’s duties are. The first view—maximizing profits—is
the prevailing view among business managers and in business schools. This view largely follows the idea
of Milton Friedman that the duty of a manager is to maximize return on investment to the owners. In
essence, managers’ legally prescribed duties are those that make their employment possible. In terms of
the legal organization of the corporation, the shareholders elect directors who hire managers, who have
legally prescribed duties toward both directors and shareholders. Those legally prescribed duties are a
reflection of the fact that managers are managing other people’s money and have a moral duty to act as a
responsible agent for the owners. In law, this is called the manager’s fiduciary duty. Directors have the
same duties toward shareholders. Friedman emphasized the primacy of this duty in his writings about
corporations and social responsibility.
Maximizing Profits: Milton Friedman
Economist Milton Friedman is often quoted as having said that the only moral duty a corporation has is to
make the most possible money, or to maximize profits, for its stockholders. Friedman’s beliefs are noted
at length (see sidebar on Friedman’s article from the New York Times), but he asserted in a now-famous
1970 article that in a free society, “there is one and only one social responsibility of business: to use its
resources and engage in activities designed to increase its profits as long as it stays within the rules of the
game, which is to say, engages in open and free competition without deception and fraud.” What follows is
a major portion of what Friedman had to say in 1970.
“The Social Responsibility of Business Is to Increase Its Profits”
Milton Friedman, New York Times Magazine, September 13, 1970
What does it mean to say that “business” has responsibilities? Only people can have responsibilities. A
corporation is an artificial person and in this sense may have artificial responsibilities, but “business” as a
whole cannot be said to have responsibilities, even in this vague sense.…
Presumably, the individuals who are to be responsible are businessmen, which means individual
proprietors or corporate executives.…In a free enterprise, private-property system, a corporate executive
is an employee of the owners of the business. He has direct responsibility to his employers. That
responsibility is to conduct the business in accordance with their desires, which generally will be to make
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as much money as possible while conforming to the basic rules of the society, both those embodied in law
and those embodied in ethical custom.…
…[T]he manager is that agent of the individuals who own the corporation or establish the eleemosynary
institution, and his primary responsibility is to them…
Of course, the corporate executive is also a person in his own right. As a person, he may have other
responsibilities that he recognizes or assumes voluntarily—to his family, his conscience, his feeling of
charity, his church, his clubs, his city, his country. He may feel impelled by these responsibilities to devote
part of his income to causes he regards as worthy, to refuse to work for particular corporations, even to
leave his job…But in these respects he is acting as a principal, not an agent; he is spending his own money
or time or energy, not the money of his employers or the time or energy he has contracted to devote to
their purposes. If these are “social responsibilities,” they are the social responsibilities of individuals, not
of business.
What does it mean to say that the corporate executive has a “social responsibility” in his capacity as
businessman? If this statement is not pure rhetoric, it must mean that he has to act in some way that is
not in the interest of his employers. For example, that he is to refrain from increasing the price of the
product in order to contribute to the social objective of preventing inflation, even though a price increase
would be in the best interests of the corporation. Or that he is to make expenditures on reducing pollution
beyond the amount that is in the best interests of the corporation or that is required by law in order to
contribute to the social objective of improving the environment. Or that, at the expense of corporate
profits, he is to hire “hardcore” unemployed instead of better qualified available workmen to contribute to
the social objective of reducing poverty.
In each of these cases, the corporate executive would be spending someone else’s money for a general
social interest. Insofar as his actions…reduce returns to stockholders, he is spending their money. Insofar
as his actions raise the price to customers, he is spending the customers’ money. Insofar as his actions
lower the wages of some employees, he is spending their money.
This process raises political questions on two levels: principle and consequences. On the level of political
principle, the imposition of taxes and the expenditure of tax proceeds are governmental functions. We
have established elaborate constitutional, parliamentary, and judicial provisions to control these
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functions, to assure that taxes are imposed so far as possible in accordance with the preferences and
desires of the public.…
Others have challenged the notion that corporate managers have no real duties except toward the owners
(shareholders). By changing two letters in shareholder, stakeholder theorists widened the range of people
and institutions that a corporation should pay moral consideration to. Thus they contend that a
corporation, through its management, has a set of responsibilities toward nonshareholder interests.
Stakeholder Theory
Stakeholders of a corporation include its employees, suppliers, customers, and the community.
Stakeholder is a deliberate play on the word shareholder, to emphasize that corporations have obligations
that extend beyond the bottom-line aim of maximizing profits. A stakeholder is anyone who most would
agree is significantly affected (positively or negatively) by the decision of another moral agent.
There is one vital fact about corporations: the corporation is a creation of the law. Without law (and
government), corporations would not have existence. The key concept for corporations is the legal fact of
limited liability. The benefit of limited liability for shareholders of a corporation meant that larger pools of
capital could be aggregated for larger enterprises; shareholders could only lose their investments should
the venture fail in any way, and there would be no personal liability and thus no potential loss of personal
assets other than the value of the corporate stock. Before New Jersey and Delaware competed to make
incorporation as easy as possible and beneficial to the incorporators and founders, those who wanted the
benefits of incorporation had to go to legislatures—usually among the states—to show a public purpose
that the company would serve.
In the late 1800s, New Jersey and Delaware changed their laws to make incorporating relatively easy.
These two states allowed incorporation “for any legal purpose,” rather than requiring some public
purpose. Thus it is government (and its laws) that makes limited liability happen through the corporate
form. That is, only through the consent of the state and armed with the charter granted by the state can a
corporation’s shareholders have limited liability. This is a right granted by the state, a right granted for
good and practical reasons for encouraging capital and innovation. But with this right comes a related
duty, not clearly stated at law, but assumed when a charter is granted by the state: that the corporate form
of doing business is legal because the government feels that it socially useful to do so.
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Implicitly, then, there is a social contract between governments and corporations: as long as corporations
are considered socially useful, they can exist. But do they have explicit social responsibilities? Milton
Friedman’s position suggests that having gone along with legal duties, the corporation can ignore any
other social obligations. But there are others (such as advocates of stakeholder theory) who would say that
a corporation’s social responsibilities go beyond just staying within the law and go beyond the
corporation’s shareholders to include a number of other important stakeholders, those whose lives can be
affected by corporate decisions.
According to stakeholder theorists, corporations (and other business organizations) must pay attention
not only to the bottom line but also to their overall effect on the community. Public perception of a
company’s unfairness, uncaring, disrespect, or lack of trustworthiness often leads to long-term failure,
whatever the short-term successes or profits may be. A socially responsible corporation is likely to
consider the impact of its decisions on a wide range of stakeholders, not just shareholders. As Table 2.1
“The Stakes of Various Stakeholders” indicates, stakeholders have very different kinds of interests
(“stakes”) in the actions of a corporation.
Table 2.1 The Stakes of Various Stakeholders
Ownership
The value of the organization has a direct impact on the wealth of
these stakeholders.
Managers
Directors who
own stock
Shareholders
Economic
Dependence
Stakeholders can be economically dependent without having
ownership. Each of these stakeholders relies on the corporation in
some way for financial well-being.
Salaried
managers
Creditors
Suppliers
Employees
Local
communities
Social Interests
These stakeholders are not directly linked to the organization but
have an interest in making sure the organization acts in a socially
responsible manner.
Communities
Government
Media
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Corporate Culture and Codes of Ethics
A corporation is a “person” capable of suing, being sued, and having rights and duties in our legal system.
(It is a legal or juridical person, not a natural person, according to our Supreme Court.) Moreover, many
corporations have distinct cultures and beliefs that are lived and breathed by its members. Often, the
culture of a corporation is the best defense against individuals within that firm who may be tempted to
break the law or commit serious ethical misdeeds.
What follows is a series of observations about corporations, ethics, and corporate culture.
Ethical Leadership Is Top-Down
People in an organization tend to watch closely what the top managers do and say. Regardless of
managers’ talk about ethics, employees quickly learn what speech or actions are in fact rewarded. If the
CEO is firm about acting ethically, others in the organization will take their cues from him or her. People
at the top tend to set the target, the climate, the beliefs, and the expectations that fuel behavior.
Accountability Is Often Weak
Clever managers can learn to shift blame to others, take credit for others’ work, and move on before
“funny numbers” or other earnings management tricks come to light.
[1]
Again, we see that the manager is
often an agent for himself or herself and will often act more in his or her self-interest than for the
corporate interest.
Killing the Messenger
Where organizations no longer function, inevitably some employees are unhappy. If they call attention to
problems that are being covered up by coworkers or supervisors, they bring bad news. Managers like to
hear good news and discourage bad news. Intentionally or not, those who told on others, or blew the
whistle, have rocked the boat and become unpopular with those whose defalcations they report on and
with the managers who don’t really want to hear the bad news. In many organizations, “killing the
messenger” solves the problem. Consider James Alexander at Enron Corporation, who was deliberately
shut out after bringing problems to CEO Ken Lay’s attention.
[2]
When Sherron Watkins sent Ken Lay a
letter warning him about Enron’s accounting practices, CFO Andrew Fastow tried to fire her.
[3]
Ethics Codes
Without strong leadership and a willingness to listen to bad news as well as good news, managers do not
have the feedback necessary to keep the organization healthy. Ethics codes have been put in place—partly
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in response to federal sentencing guidelines and partly to encourage feedback loops to top management.
The best ethics codes are aspirational, or having an ideal to be pursued, not legalistic or compliance
driven. The Johnson & Johnson ethics code predated the Tylenol scare and the company’s oft-celebrated
corporate response.
[4]
The corporate response was consistent with that code, which was lived and
modeled by the top of the organization.
It’s often noted that a code of ethics is only as important as top management is willing to make it. If the
code is just a document that goes into a drawer or onto a shelf, it will not effectively encourage good
conduct within the corporation. The same is true of any kind of training that the company undertakes,
whether it be in racial sensitivity or sexual harassment. If the message is not continuously reinforced, or
(worse yet) if the message is undermined by management’s actions, the real message to employees is that
violations of the ethics code will not be taken seriously, or that efforts to stop racial discrimination or
sexual harassment are merely token efforts, and that the important things are profits and performance.
The ethics code at Enron seems to have been one of those “3-P” codes that wind up sitting on shelves—
“Print, Post, and Pray.” Worse, the Enron board twice suspended the code in 1999 to allow outside
partnerships to be led by a top Enron executive who stood to gain financially from them.
[5]
Ethics Hotlines and Federal Sentencing Guidelines
The federal sentencing guidelines were enacted in 1991. The original idea behind these guidelines was for
Congress to correct the lenient treatment often given to white-collar, or corporate, criminals. The
guidelines require judges to consider “aggravating and mitigating” factors in determining sentences and
fines. (While corporations cannot go to jail, its officers and managers certainly can, and the corporation
itself can be fined. Many companies will claim that it is one bad apple that has caused the problem; the
guidelines invite these companies to show that they are in fact tending their orchard well. They can show
this by providing evidence that they have (1) a viable, active code of ethics; (2) a way for employees to
report violations of law or the ethics code; and (3) an ethics ombudsman, or someone who oversees the
code.
In short, if a company can show that it has an ongoing process to root out wrongdoing at all levels of the
company, the judge is allowed to consider this as a major mitigating factor in the fines the company will
pay. Most Fortune 500 companies have ethics hotlines and processes in place to find legal and ethical
problems within the company.
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Managing by the Numbers
If you manage by the numbers, there is a temptation to lie about those numbers, based on the need to get
stock price ever higher. At Enron, “15 percent a year or better earnings growth” was the mantra. Jeffrey
Pfeffer, professor of organizational behavior at Stanford University, observes how the belief that “stock
price is all that matters” has been hardwired into the corporate psyche. It dictates not only how people
judge the worth of their company but also how they feel about themselves and the work that they are
doing. And, over time, it has clouded judgments about what is acceptable corporate behavior.
[6]
Managing by Numbers: The Sears Auto Center Story
If winning is the most important thing in your life, then you must be prepared to do anything to win.
—Michael Josephson
Most people want to be winners or associate with winners. As humans, our desire to associate with those
who have status provides plenty of incentive to glorify winners and ignore losers. But if an individual, a
team, or a company does whatever it takes to win, then all other values are thrown out in the goal to win
at all costs. The desire of some people within Sears & Roebuck Company’s auto repair division to win by
gaining higher profits resulted in the situation portrayed here.
Sears Roebuck & Company has been a fixture in American retailing throughout the twentieth century. At
one time, people in rural America could order virtually anything (including a house) from Sears. Not
without some accuracy, the company billed itself as “the place where Americans shop.” But in 1992, Sears
was charged by California authorities with gross and deliberate fraud in many of its auto centers.
The authorities were alerted by a 50 percent increase in consumer complaints over a three-year period.
New Jersey’s division of consumer affairs also investigated Sears Auto Centers and found that all six
visited by investigators had recommended unnecessary repairs. California’s department of consumer
affairs found that Sears had systematically overcharged by an average of $223 for repairs and routinely
billed for work that was not done. Sears Auto Centers were the largest providers of auto repair services in
the state.
The scam was a variant on the old bait-and-switch routine. Customers received coupons in the mail
inviting them to take advantage of hefty discounts on brake jobs. When customers came in to redeem
their coupons, sales staffers would convince them to authorize additional repairs. As a management tool,
Sears had also established quotas for each of their sales representatives to meet.
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Ultimately, California got Sears to settle a large number of lawsuits against it by threatening to revoke
Sears’ auto repair license. Sears agreed to distribute $50 coupons to nearly a million customers
nationwide who had obtained certain services between August 1, 1990, and January 31, 1992. Sears also
agreed to pay $3.5 million to cover the costs of various government investigations and to contribute $1.5
million annually to conduct auto mechanic training programs. It also agreed to abandon its repair service
quotas. The entire settlement cost Sears $30 million. Sears Auto Center sales also dropped about 15 to 20
percent after news of the scandal broke.
Note that in boosting sales by performing unnecessary services, Sears suffered very bad publicity. Losses
were incalculable. The short-term gains were easy to measure; long-term consequences seldom are. The
case illustrates a number of important lessons:
People generally choose short-term gains over potential long-term losses.
People often justify the harm to others as being minimal or “necessary” to achieve the
desired sales quota or financial goal.
In working as a group, we often form an “us versus them” mentality. In the Sears case, it
is likely that Sears “insiders” looked at customers as “outsiders,” effectively treating
them (in Kantian terms) as means rather than ends in themselves. In short, outsiders
were used for the benefit of insiders.
The long-term losses to Sears are difficult to quantify, while the short-term gains were
easy to measure and (at least for a brief while) quite satisfying financially.
Sears’ ongoing rip-offs were possible only because individual consumers lacked the
relevant information about the service being offered. This lack of information is a
market failure, since many consumers were demanding more of Sears Auto Center
services than they would have (and at a higher price) if relevant information had been
available to them earlier. Sears, like other sellers of goods and services, took advantage
of a market system, which, in its ideal form, would not permit such information
distortions.
People in the organization probably thought that the actions they took were necessary.
Noting this last point, we can assume that these key people were motivated by maximizing profits and had
lost sight of other goals for the organization.
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The emphasis on doing whatever is necessary to win is entirely understandable, but it is not ethical. The
temptation will always exist—for individuals, companies, and nations—to dominate or to win and to write
the history of their actions in a way that justifies or overlooks the harm that has been done. In a way, this
fits with the notion that “might makes right,” or that power is the ultimate measure of right and wrong.
Conscious Capitalism
One effort to integrate the two viewpoints of stakeholder theory and shareholder primacy is the conscious
capitalism movement. Companies that practiceconscious capitalism embrace the idea that profit and
prosperity can and must go hand in hand with social justice and environmental stewardship. They operate
with a holistic or systems view. This means that they understand that all stakeholders are connected and
interdependent. They reject false trade-offs between stakeholder interests and strive for creative ways to
achieve win-win-win outcomes for all.
[7]
The “conscious business” has a purpose that goes beyond maximizing profits. It is designed to maximize
profits but is focused more on its higher purpose and does not fixate solely on the bottom line. To do so, it
focuses on delivering value to all its stakeholders, harmonizing as best it can the interests of consumers,
partners, investors, the community, and the environment. This requires that company managers take a
“servant leadership” role, serving as stewards to the company’s deeper purpose and to the company’s
stakeholders.
Conscious business leaders serve as such stewards, focusing on fulfilling the company’s purpose,
delivering value to its stakeholders, and facilitating a harmony of interests, rather than on personal gain
and self-aggrandizement. Why is this refocusing needed? Within the standard profit-maximizing model,
corporations have long had to deal with the “agency problem.” Actions by top-level managers—acting on
behalf of the company—should align with the shareholders, but in a culture all about winning and money,
managers sometimes act in ways that are self-aggrandizing and that do not serve the interests of
shareholders. Laws exist to limit such self-aggrandizing, but the remedies are often too little and too late
and often catch only the most egregious overreaching. Having a culture of servant leadership is a much
better way to see that a company’s top management works to ensure a harmony of interests.
[1] See Robert Jackall, Moral Mazes: The World of Corporate Managers (New York: Oxford University Press, 1988).
[2] John Schwartz, “An Enron Unit Chief Warned, and Was Rebuffed,” New York Times, February 20, 2002.
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[3] Warren Bennis, “A Corporate Fear of Too Much Truth,” New York Times, February 17, 2002.
[4] University of Oklahoma Department of Defense Joint Course in Communication, Case Study: The Johnson &
Johnson Tylenol Crisis, accessed April 5, 2011.
[5] FindLaw, Report of Investigation by the Special Investigative Committee of the Board of Directors of Enron Corp.,
February 1, 2002, accessed April 5, 2011,http://news.findlaw.com/wsj/docs/enron/sicreport.
[6] Steven Pearlstein, “Debating the Enron Effect,” Washington Post, February 17, 2002.
[7] Milton Friedman, John Mackey, and T. J. Rodgers, “Rethinking the Social Responsibility of Business,”
Reason.com, October 2005, http://reason.com/archives/2005/10/01/rethinking-the-social-responsi.
2.5 Summary and Exercises
Summary
Doing good business requires attention to ethics as well as law. Understanding the long-standing
perspectives on ethics—utilitarianism, deontology, social contract, and virtue ethics—is helpful in sorting
out the ethical issues that face us as individuals and businesses. Each business needs to create or maintain
a culture of ethical excellence, where there is ongoing dialogue not only about the best technical practices
but also about the company’s ethical challenges and practices. A firm that has purpose and passion
beyond profitability is best poised to meet the needs of diverse stakeholders and can best position itself
for long-term, sustainable success for shareholders and other stakeholders as well.
E X E R C I S E S
1. Consider again Milton Friedman’s article.
a. What does Friedman mean by “ethical custom”?
b. If the laws of the society are limiting the company’s profitability, would the
company be within its rights to disobey the law?
c. What if the law is “on the books,” but the company could count on a lack of
enforcement from state officials who were overworked and underpaid? Should
the company limit its profits? Suppose that it could save money by discharging a
pollutant into a nearby river, adversely affecting fish and, potentially, drinking
water supplies for downstream municipalities. In polluting against laws that
aren’t enforced, is it still acting “within the rules of the game”? What if almost all
other companies in the industry were saving money by doing similar acts?
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Consider again the Harris v. Forklift case at the end of Chapter 1 “Introduction to Law and Legal
Systems”. The Supreme Court ruled that Ms. Harris was entitled to be heard again by the federal
district court, which means that there would be a trial on her claim that Mr. Hardy, owner of
Forklift Systems, had created a “hostile working environment” for Ms. Harris. Apart from the legal
aspects, did he really do anything unethical? How can you tell?
a. Which of his actions, if any, were contrary to utilitarian thinking?
b. If Kant were his second-in-command and advising him on ethical matters, would
he have approved of Mr. Hardy’s behavior? Why or why not?
Consider the behaviors alleged by Ms. Harris and assume for a moment that they
are all true. In terms of core values, which of these behaviors are not consistent with the
core values Josephson points to? Be specific.
Assume that Forklift Systems is a large public corporation and that the CEO engages
in these kinds of behaviors. Assume also that the board of directors knows about it.
What action should the board take, and why?
Assume that the year is 1963, prior to the passage of the Civil Rights Act of 1964 and the Title VII
provisions regarding equal employment opportunity that prohibit discrimination based on sex. So,
Mr. Hardy’s actions are not illegal, fraudulent, or deceitful. Assume also that he heads a large
public company and that there is a large amount of turnover and unhappiness among the women
who work for the company. No one can sue him for being sexist or lecherous, but are his actions
consistent with maximizing shareholder returns? Should the board be concerned?
Notice that this question is really a stand-in for any situation faced by a company today regarding
its CEO where the actions are not illegal but are ethically questionable. What would conscious
capitalism tell a CEO or a board to do where some group of its employees are regularly harassed
or disadvantaged by top management?
S E L F – T E S T Q U E S T I O N S
1. Milton Friedman would have been most likely to agree to which of the following statements?
a. The purpose of the corporation is to find a path to sustainable corporate
profits by paying careful attention to key stakeholders.
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b. The business of business is business.
c. The CEO and the board should have a single-minded focus on delivering
maximum value to shareholders of the business.
d. All is fair in love, war, and business.
Milton Friedman meant (using the material quoted in this chapter) that companies should
a. Find a path to sustainable profits by looking at the interconnected needs
and desires of all the stakeholders.
b. Always remember that the business of business is business.
c. Remind the CEO that he or she has one duty: to maximize shareholder
wealth by any means possible.
d. Maximize shareholder wealth by engaging in open competition without
fraud or deceit.
What are some key drawbacks to utilitarian thinking at the corporate level?
a. The corporation may do a cost-benefit analysis that puts the greatest good of
the firm above all other considerations.
b. It is difficult to predict future consequences; decision makers in for-profit
organizations will tend to overestimate the upside of certain decisions and
underestimate the downside.
c. Short-term interests will be favored over long-term consequences.
d. all of the above
e. a and b only
Which ethical perspective would allow that under certain circumstances, it might be ethical to lie
to a liar?
a. deontology
b. virtue ethics
c. utilitarianism
d. all of the above
Under conscious capitalism,
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a. Virtue ethics is ignored.
b. Shareholders, whether they be traders or long-term investors, are always the
first and last consideration for the CEO and the board.
c. Maximizing profits comes from a focus on higher purposes and harmonizing
the interests of various stakeholders.
d. Kantian duties take precedence over cost-benefit analyses.
S E L F – T E S T A N S W E R S
1. c
2. d
3. d
4. c
5. c
Chapter 3
Courts and the Legal Process
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Describe the two different court systems in the United States, and explain why some
cases can be filed in either court system.
2. Explain the importance of subject matter jurisdiction and personal jurisdiction and know
the difference between the two.
3. Describe the various stages of a civil action: from pleadings, to discovery, to trial, and to
appeals.
4. Describe two alternatives to litigation: mediation and arbitration.
In the United States, law and government are interdependent. The Constitution establishes the basic
framework of government and imposes certain limitations on the powers of government. In turn, the
various branches of government are intimately involved in making, enforcing, and interpreting the law.
Today, much of the law comes from Congress and the state legislatures. But it is in the courts that
legislation is interpreted and prior case law is interpreted and applied.
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As we go through this chapter, consider the case of Harry and Kay Robinson. In which court should the
Robinsons file their action? Can the Oklahoma court hear the case and make a judgment that will be
enforceable against all of the defendants? Which law will the court use to come to a decision? Will it use
New York law, Oklahoma law, federal law, or German law?
Robinson v. Audi
Harry and Kay Robinson purchased a new Audi automobile from Seaway Volkswagen, Inc. (Seaway), in
Massena, New York, in 1976. The following year the Robinson family, who resided in New York, left that
state for a new home in Arizona. As they passed through Oklahoma, another car struck their Audi in the
rear, causing a fire that severely burned Kay Robinson and her two children. Later on, the Robinsons
brought a products-liability action in the District Court for Creek County, Oklahoma, claiming that their
injuries resulted from the defective design and placement of the Audi’s gas tank and fuel system. They
sued numerous defendants, including the automobile’s manufacturer, Audi NSU Auto Union
Aktiengesellschaft (Audi); its importer, Volkswagen of America, Inc. (Volkswagen); its regional
distributor, World-Wide Volkswagen Corp. (World-Wide); and its retail dealer, Seaway.
Should the Robinsons bring their action in state court or in federal court? Over which of the defendants
will the court have personal jurisdiction?
3.1 The Relationship between State and Federal Court Systems
in the United States
L E A R N I N G O B J E C T I V E S
1. Understand the different but complementary roles of state and federal court systems.
2. Explain why it makes sense for some courts to hear and decide only certain kinds of
cases.
3. Describe the difference between a trial court and an appellate court.
Although it is sometimes said that there are two separate court systems, the reality is more complex.
There are, in fact, fifty-two court systems: those of the fifty states, the local court system in the District of
Columbia, and the federal court system. At the same time, these are not entirely separate; they all have
several points of contact.
State and local courts must honor both federal law and the laws of the other states. First, state courts must
honor federal law where state laws are in conflict with federal laws (under the supremacy clause of the
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Constitution; see Chapter 4 “Constitutional Law and US Commerce”). Second, claims arising under
federal statutes can often be tried in the state courts, where the Constitution or Congress has not explicitly
required that only federal courts can hear that kind of claim. Third, under the full faith and credit clause,
each state court is obligated to respect the final judgments of courts in other states. Thus a contract
dispute resolved by an Arkansas court cannot be relitigated in North Dakota when the plaintiff wants to
collect on the Arkansas judgment in North Dakota. Fourth, state courts often must consider the laws of
other states in deciding cases involving issues where two states have an interest, such as when drivers
from two different states collide in a third state. Under these circumstances, state judges will consult their
own state’s case decisions involving conflicts of laws and sometimes decide that they must apply another
state’s laws to decide the case (see Table 3.1 “Sample Conflict-of-Law Principles”).
As state courts are concerned with federal law, so federal courts are often concerned with state law and
with what happens in state courts. Federal courts will consider state-law-based claims when a case
involves claims using both state and federal law. Claims based on federal laws will permit the federal court
to take jurisdiction over the whole case, including any state issues raised. In those cases, the federal court
is said to exercise “pendent jurisdiction” over the state claims. Also, the Supreme Court will occasionally
take appeals from a state supreme court where state law raises an important issue of federal law to be
decided. For example, a convict on death row may claim that the state’s chosen method of execution using
the injection of drugs is unusually painful and involves “cruel and unusual punishment,” raising an Eighth
Amendment issue.
There is also a broad category of cases heard in federal courts that concern only state legal issues—
namely, cases that arise between citizens of different states. The federal courts are permitted to hear these
cases under their so-calleddiversity of citizenship jurisdiction (or diversity jurisdiction). A citizen of New
Jersey may sue a citizen of New York over a contract dispute in federal court, but if both were citizens of
New Jersey, the plaintiff would be limited to the state courts. The Constitution established diversity
jurisdiction because it was feared that local courts would be hostile toward people from other states and
that they would need separate courts. In 2009, nearly a third of all lawsuits filed in federal court were
based on diversity of citizenship. In these cases, the federal courts were applying state law, rather than
taking federal question jurisdiction, where federal law provided the basis for the lawsuit or where the
United States was a party (as plaintiff or defendant).
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Why are there so many diversity cases in federal courts? Defense lawyers believe that there is sometimes a
“home-court advantage” for an in-state plaintiff who brings a lawsuit against a nonresident in his local
state court. The defense attorney is entitled to ask for removal to a federal court where there is diversity.
This fits with the original reason for diversity jurisdiction in the Constitution—the concern that judges in
one state court would favor the in-state plaintiff rather than a nonresident defendant. Another reason
there are so many diversity cases is that plaintiffs’ attorneys know that removal is common and that it will
move the case along faster by filing in federal court to begin with. Some plaintiffs’ attorneys also find
advantages in pursuing a lawsuit in federal court. Federal court procedures are often more efficient than
state court procedures, so that federal dockets are often less crowded. This means a case will get to trial
faster, and many lawyers enjoy the higher status that comes in practicing before the federal bench. In
some federal districts, judgments for plaintiffs may be higher, on average, than in the local state court. In
short, not only law but also legal strategy factor into the popularity of diversity cases in federal courts.
State Court Systems
The vast majority of civil lawsuits in the United States are filed in state courts. Two aspects of civil
lawsuits are common to all state courts: trials and appeals. A court exercising a trial function
has original jurisdiction—that is, jurisdiction to determine the facts of the case and apply the law to them.
A court that hears appeals from the trial court is said to have appellate jurisdiction—it must accept the
facts as determined by the trial court and limit its review to the lower court’s theory of the applicable law.
Limited Jurisdiction Courts
In most large urban states and many smaller states, there are four and sometimes five levels of courts. The
lowest level is that of the limited jurisdiction courts. These are usually county or municipal courts with
original jurisdiction to hear minor criminal cases (petty assaults, traffic offenses, and breach of peace,
among others) and civil cases involving monetary amounts up to a fixed ceiling (no more than $10,000 in
most states and far less in many states). Most disputes that wind up in court are handled in the 18,000-
plus limited jurisdiction courts, which are estimated to hear more than 80 percent of all cases.
One familiar limited jurisdiction court is the small claims court, with jurisdiction to hear civil cases
involving claims for amounts ranging between $1,000 and $5,000 in about half the states and for
considerably less in the other states ($500 to $1,000). The advantage of the small claims court is that its
procedures are informal, it is often located in a neighborhood outside the business district, it is usually
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open after business hours, and it is speedy. Lawyers are not necessary to present the case and in some
states are not allowed to appear in court.
General Jurisdiction Courts
All other civil and criminal cases are heard in the general trial courts, or courts of general jurisdiction.
These go by a variety of names: superior, circuit, district, or common pleas court (New York calls its
general trial court the supreme court). These are the courts in which people seek redress for incidents
such as automobile accidents and injuries, or breaches of contract. These state courts also prosecute those
accused of murder, rape, robbery, and other serious crimes. The fact finder in these general jurisdiction
courts is not a judge, as in the lower courts, but a jury of citizens.
Although courts of general jurisdiction can hear all types of cases, in most states more than half involve
family matters (divorce, child custody disputes, and the like). A third were commercial cases, and slightly
over 10 percent were devoted to car accident cases and other torts (as discussed in Chapter 7
“Introduction to Tort Law”).
Most states have specialized courts that hear only a certain type of case, such as landlord-tenant disputes
or probate of wills. Decisions by judges in specialized courts are usually final, although any party
dissatisfied with the outcome may be able to get a new trial in a court of general jurisdiction. Because
there has been one trial already, this is known as a trial de novo. It is not an appeal, since the case
essentially starts over.
Appellate Courts
The losing party in a general jurisdiction court can almost always appeal to either one or two higher
courts. These intermediate appellate courts—usually called courts of appeal—have been established in
forty states. They do not retry the evidence, but rather determine whether the trial was conducted in a
procedurally correct manner and whether the appropriate law was applied. For example, the appellant
(the losing party who appeals) might complain that the judge wrongly instructed the jury on the meaning
of the law, or improperly allowed testimony of a particular witness, or misconstrued the law in question.
The appellee (who won in the lower court) will ask that the appellant be denied—usually this means that
the appellee wants the lower-court judgment affirmed. The appellate court has quite a few choices: it can
affirm, modify, reverse, or reverse and remand the lower court (return the case to the lower court for
retrial).
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The last type of appeal within the state courts system is to the highest court, the state supreme court,
which is composed of a single panel of between five and nine judges and is usually located in the state
capital. (The intermediate appellate courts are usually composed of panels of three judges and are situated
in various locations around the state.) In a few states, the highest court goes by a different name: in New
York, it is known as the court of appeals. In certain cases, appellants to the highest court in a state have
the right to have their appeals heard, but more often the supreme court selects the cases it wishes to hear.
For most litigants, the ruling of the state supreme court is final. In a relatively small class of cases—those
in which federal constitutional claims are made—appeal to the US Supreme Court to issue
a writ of certiorariremains a possibility.
The Federal Court System
District Courts
The federal judicial system is uniform throughout the United States and consists of three levels. At the
first level are the federal district courts, which are the trial courts in the federal system. Every state has
one or more federal districts; the less populous states have one, and the more populous states (California,
Texas, and New York) have four. The federal court with the heaviest commercial docket is the US District
Court for the Southern District of New York (Manhattan). There are forty-four district judges and fifteen
magistrates in this district. The district judges throughout the United States commonly preside over all
federal trials, both criminal and civil.
Courts of Appeal
Cases from the district courts can then be appealed to the circuit courts of appeal, of which there are
thirteen (Figure 3.1 “The Federal Judicial Circuits”). Each circuit oversees the work of the district courts in
several states. For example, the US Court of Appeals for the Second Circuit hears appeals from district
courts in New York, Connecticut, and Vermont. The US Court of Appeals for the Ninth Circuit hears
appeals from district courts in California, Oregon, Nevada, Montana, Washington, Idaho, Arizona, Alaska,
Hawaii, and Guam. The US Court of Appeals for the District of Columbia Circuit hears appeals from the
district court in Washington, DC, as well as from numerous federal administrative agencies (see Chapter 5
“Administrative Law”). The US Court of Appeals for the Federal Circuit, also located in Washington, hears
appeals in patent and customs cases. Appeals are usually heard by three-judge panels, but sometimes
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there will be a rehearing at the court of appeals level, in which case all judges sit to hear the case “en
banc.”
There are also several specialized courts in the federal judicial system. These include the US Tax Court,
the Court of Customs and Patent Appeals, and the Court of Claims.
United States Supreme Court
Overseeing all federal courts is the US Supreme Court, in Washington, DC. It consists of nine justices—the
chief justice and eight associate justices. (This number is not constitutionally required; Congress can
establish any number. It has been set at nine since after the Civil War.) The Supreme Court has selective
control over most of its docket. By law, the cases it hears represent only a tiny fraction of the cases that are
submitted. In 2008, the Supreme Court had numerous petitions (over 7,000, not including thousands of
petitions from prisoners) but heard arguments in only 87 cases. The Supreme Court does not sit in panels.
All the justices hear and consider each case together, unless a justice has a conflict of interest and must
withdraw from hearing the case.
Figure 3.1 The Federal Judicial Circuits
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Federal judges—including Supreme Court justices—are nominated by the president and
must be confirmed by the Senate. Unlike state judges, who are usually elected and
preside for a fixed term of years, federal judges sit for life unless they voluntarily retire
or are impeached.
K E Y T A K E A W A Y
Trial courts and appellate courts have different functions. State trial courts sometimes hear cases with
federal law issues, and federal courts sometimes hear cases with state law issues. Within both state and
federal court systems, it is useful to know the different kinds of courts and what cases they can decide.
E X E R C I S E S
1. Why all of this complexity? Why don’t state courts hear only claims based on state law,
and federal courts only federal-law-based claims?
2. Why would a plaintiff in Iowa with a case against a New Jersey defendant prefer to have
the case heard in Iowa?
3. James, a New Jersey resident, is sued by Jonah, an Iowa resident. After a trial in which
James appears and vigorously defends himself, the Iowa state court awards Jonah
$136,750 dollars in damages for his tort claim. In trying to collect from James in New
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Jersey, Jonah must have the New Jersey court certify the Iowa judgment. Why,
ordinarily, must the New Jersey court do so?
3.2 The Problem of Jurisdiction
L E A R N I N G O B J E C T I V E S
1. Explain the concept of subject matter jurisdiction and distinguish it from personal
jurisdiction.
2. Understand how and where the US Constitution provides a set of instructions as to what
federal courts are empowered by law to do.
3. Know which kinds of cases must be heard in federal courts only.
4. Explain diversity of citizenship jurisdiction and be able to decide whether a case is
eligible for diversity jurisdiction in the federal courts.
Jurisdiction is an essential concept in understanding courts and the legal system. Jurisdiction is a
combination of two Latin words: juris (law) and diction (to speak). Which court has the power “to speak
the law” is the basic question of jurisdiction.
There are two questions about jurisdiction in each case that must be answered before a judge will hear a
case: the question of subject matter jurisdiction and the question of personal jurisdiction. We will
consider the question of subject matter jurisdiction first, because judges do; if they determine, on the
basis of the initial documents in the case (the “pleadings”), that they have no power to hear and decide
that kind of case, they will dismiss it.
The Federal-State Balance: Federalism
State courts have their origins in colonial era courts. After the American Revolution, state courts
functioned (with some differences) much like they did in colonial times. The big difference after 1789 was
that state courts coexisted with federal courts.Federalism was the system devised by the nation’s founders
in which power is shared between states and the federal government. This sharing requires a division of
labor between the states and the federal government. It is Article III of the US Constitution that spells out
the respective spheres of authority (jurisdiction) between state and federal courts.
Take a close look at Article III of the Constitution. (You can find a printable copy of the Constitution
at http://www.findlaw.com.) Article III makes clear that federal courts are courts of limited power or
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jurisdiction. Notice that the only kinds of cases federal courts are authorized to deal with have strong
federal connections. For example, federal courts have jurisdiction when a federal law is being used by the
plaintiff or prosecutor (a “federal question” case) or the case arises “in admiralty” (meaning that the
problem arose not on land but on sea, beyond the territorial jurisdiction of any state, or in navigable
waters within the United States). Implied in this list is the clear notion that states would continue to have
their own laws, interpreted by their own courts, and that federal courts were needed only where the issues
raised by the parties had a clear federal connection. The exception to this is diversity jurisdiction,
discussed later.
The Constitution was constructed with the idea that state courts would continue to deal with basic kinds
of claims such as tort, contract, or property claims. Since states sanction marriages and divorce, state
courts would deal with “domestic” (family) issues. Since states deal with birth and death records, it stands
to reason that paternity suits, probate disputes, and the like usually wind up in state courts. You wouldn’t
go to the federal building or courthouse to get a marriage license, ask for a divorce, or probate a will: these
matters have traditionally been dealt with by the states (and the thirteen original colonies before them).
Matters that historically get raised and settled in state court under state law include not only domestic and
probate matters but also law relating to corporations, partnerships, agency, contracts, property, torts, and
commercial dealings generally. You cannot get married or divorced in federal court, because federal
courts have no jurisdiction over matters that are historically (and are still) exclusively within the domain
of state law.
In terms of subject matter jurisdiction, then, state courts will typically deal with the kinds of disputes just
cited. Thus if you are Michigan resident and have an auto accident in Toledo with an Ohio resident and
you each blame each other for the accident, the state courts would ordinarily resolve the matter if the
dispute cannot otherwise be settled. Why state courts? Because when you blame one another and allege
that it’s the other person’s fault, you have the beginnings of a tort case, with negligence as a primary
element of the claim, and state courts have routinely dealt with this kind of claim, from British colonial
times through Independence and to the present. (See alsoChapter 7 “Introduction to Tort Law”
of this text.) People have had a need to resolve this kind of dispute long before our federal courts were
created, and you can tell from Article III that the founders did not specify that tort or negligence claims
should be handled by the federal courts. Again, federal courts are courts of limited jurisdiction, limited to
the kinds of cases specified in Article III. If the case before the federal court does not fall within one of
those categories, the federal court cannot constitutionally hear the case because it does not have subject
matter jurisdiction.
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Always remember: a court must have subject matter jurisdiction to hear and decide a case. Without it, a
court cannot address the merits of the controversy or even take the next jurisdictional step of figuring out
which of the defendants can be sued in that court. The question of which defendants are appropriately
before the court is a question of personal jurisdiction.
Because there are two court systems, it is important for a plaintiff to file in the right court to begin with.
The right court is the one that has subject matter jurisdiction over the case—that is, the power to hear and
decide the kind of case that is filed. Not only is it a waste of time to file in the wrong court system and be
dismissed, but if the dismissal comes after the filing period imposed by the
applicable statute of limitations, it will be too late to refile in the correct court system. Such cases will be
routinely dismissed, regardless of how deserving the plaintiff might be in his quest for justice. (The
plaintiff’s only remedy at that point would be to sue his lawyer for negligence for failing to mind the clock
and get to the right court in time!)
Exclusive Jurisdiction in Federal Courts
With two court systems, a plaintiff (or the plaintiff’s attorney, most likely) must decide whether to file a
case in the state court system or the federal court system. Federal courts have exclusive jurisdiction over
certain kinds of cases. The reason for this comes directly from the Constitution. Article III of the US
Constitution provides the following:
The judicial Power shall extend to all Cases, in Law and Equity, arising under this Constitution, the Laws
of the United States, and Treaties made, or which shall be made, under their Authority; to all Cases
affecting Ambassadors, other public Ministers and Consuls; to all Cases of admiralty and maritime
Jurisdiction; to Controversies to which the United States shall be a Party; to Controversies between two or
more States; between a State and Citizens of another State; between Citizens of different States; between
Citizens of the same State claiming Lands under Grants of different States, and between a State, or the
Citizens thereof, and foreign States, Citizens or Subjects.
By excluding diversity cases, we can assemble a list of the kinds of cases that can only be heard in federal
courts. The list looks like this:
1. Suits between states. Cases in which two or more states are a party.
2. Cases involving ambassadors and other high-ranking public figures. Cases arising
between foreign ambassadors and other high-ranking public officials.
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3. Federal crimes. Crimes defined by or mentioned in the US Constitution or those defined
or punished by federal statute. Such crimes include treason against the United States,
piracy, counterfeiting, crimes against the law of nations, and crimes relating to the
federal government’s authority to regulate interstate commerce. However, most crimes
are state matters.
4. Bankruptcy. The statutory procedure, usually triggered by insolvency, by which a
person is relieved of most debts and undergoes a judicially supervised reorganization or
liquidation for the benefit of the person’s creditors.
5. Patent, copyright, and trademark cases
a. Patent. The exclusive right to make, use, or sell an invention for a specified
period (usually seventeen years), granted by the federal government to the inventor if
the device or process is novel, useful, and nonobvious.
b. Copyright. The body of law relating to a property right in an original work of authorship
(such as a literary, musical, artistic, photographic, or film work) fixed in any tangible
medium of expression, giving the holder the exclusive right to reproduce, adapt,
distribute, perform, and display the work.
c. Trademark. A word, phrase, logo, or other graphic symbol used by a manufacturer or
seller to distinguish its product or products from those of others.
Admiralty. The system of laws that has grown out of the practice of admiralty
courts: courts that exercise jurisdiction over all maritime contracts, torts, injuries, and
offenses.
Antitrust. Federal laws designed to protect trade and commerce from restraining
monopolies, price fixing, and price discrimination.
Securities and banking regulation. The body of law protecting the public by
regulating the registration, offering, and trading of securities and the regulation of
banking practices.
Other cases specified by federal statute. Any other cases specified by a federal
statute where Congress declares that federal courts will have exclusive jurisdiction.
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Concurrent Jurisdiction
When a plaintiff takes a case to state court, it will be because state courts typically hear that kind of case
(i.e., there is subject matter jurisdiction). If the plaintiff’s main cause of action comes from a certain
state’s constitution, statutes, or court decisions, the state courts have subject matter jurisdiction over the
case. If the plaintiff’s main cause of action is based on federal law (e.g., Title VII of the Civil Rights Act of
1964), the federal courts have subject matter jurisdiction over the case. But federal courts will also have
subject matter jurisdiction over certain cases that have only a state-based cause of action; those cases are
ones in which the plaintiff(s) and the defendant(s) are from different states and the amount in
controversy is more than $75,000. State courts can have subject matter jurisdiction over certain cases that
have only a federal-based cause of action. The Supreme Court has now made clear that state courts
haveconcurrent jurisdiction of any federal cause of action unless Congress has given exclusive jurisdiction
to federal courts.
In short, a case with a federal question can be often be heard in either state or federal court, and a case
that has parties with a diversity of citizenship can be heard in state courts or in federal courts where the
tests of complete diversity and amount in controversy are met. (See Note 3.18 “Summary of Rules on
Subject Matter Jurisdiction”.)
Whether a case will be heard in a state court or moved to a federal court will depend on the parties. If a
plaintiff files a case in state trial court where concurrent jurisdiction applies, a defendant may (or may
not) ask that the case be removed to federal district court.
Summary of Rules on Subject Matter Jurisdiction
1. A court must always have subject matter jurisdiction, and personal jurisdiction over at
least one defendant, to hear and decide a case.
2. A state court will have subject matter jurisdiction over any case that is not required to be brought in a
federal court.
Some cases can only be brought in federal court, such as bankruptcy cases, cases involving federal crimes,
patent cases, and Internal Revenue Service tax court claims. The list of cases for exclusive federal
jurisdiction is fairly short. That means that almost any state court will have subject matter jurisdiction
over almost any kind of case. If it’s a case based on state law, a state court will always have subject matter
jurisdiction.
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3. A federal court will have subject matter jurisdiction over any case that is either based on a federal law
(statute, case, or US Constitution)
OR
A federal court will have subject matter jurisdiction over any case based on state law where the parties are
(1) from different states and (2) the amount in controversy is at least $75,000.
(1) The different states requirement means that no plaintiff can have permanent residence in a state
where any defendant has permanent residence—there must be complete diversity of citizenship as
between all plaintiffs and defendants.
(2) The amount in controversy requirement means that a good-faith estimate of the amount the plaintiff
may recover is at least $75,000.
NOTE: For purposes of permanent residence, a corporation is considered a resident where it is
incorporated AND where it has a principal place of business.
4. In diversity cases, the following rules apply.
(1) Federal civil procedure rules apply to how the case is conducted before and during trial and any
appeals, but
(2) State law will be used as the basis for a determination of legal rights and responsibilities.
(a) This “choice of law” process is interesting but complicated. Basically, each state has its own set of
judicial decisions that resolve conflict of laws. For example, just because A sues B in a Texas court, the
Texas court will not necessarily apply Texas law. Anna and Bobby collide and suffer serious physical
injuries while driving their cars in Roswell, New Mexico. Both live in Austin, and Bobby files a lawsuit in
Austin. The court there could hear it (having subject matter jurisdiction and personal jurisdiction over
Bobby) but would apply New Mexico law, which governs motor vehicle laws and accidents in New Mexico.
Why would the Texas judge do that?
(b) The Texas judge knows that which state’s law is chosen to apply to the case can make a decisive
difference in the case, as different states have different substantive law standards. For example, in a
breach of contract case, one state’s version of the Uniform Commercial Code may be different from
another’s, and which one the court decides to apply is often exceedingly good for one side and dismal for
the other. In Anna v. Bobby, if Texas has one kind of comparative negligence statute and New Mexico has
a different kind of comparative negligence statute, who wins or loses, or how much is awarded, could well
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depend on which law applies. Because both were under the jurisdiction of New Mexico’s laws at the time,
it makes sense to apply New Mexico law.
(3) Why do some nonresident defendants prefer to be in federal court?
(a) In the state court, the judge is elected, and the jury may be familiar with or sympathetic to the “local”
plaintiff.
(b) The federal court provides a more neutral forum, with an appointed, life-tenured judge and a wider
pool of potential jurors (drawn from a wider geographical area).
(4) If a defendant does not want to be in state court and there is diversity, what is to be done?
(a) Make a motion for removal to the federal court.
(b) The federal court will not want to add to its caseload, or docket, but must take the case unless there
is not complete diversity of citizenship or the amount in controversy is less than $75,000.
To better understand subject matter jurisdiction in action, let’s take an example. Wile E. Coyote wants a
federal judge to hear his products-liability action against Acme, Inc., even though the action is based on
state law. Mr. Coyote’s attorney wants to “make a federal case” out of it, thinking that the jurors in the
federal district court’s jury pool will understand the case better and be more likely to deliver a “high value”
verdict for Mr. Coyote. Mr. Coyote resides in Arizona, and Acme is incorporated in the state of Delaware
and has its principal place of business in Chicago, Illinois. The federal court in Arizona can hear and
decide Mr. Coyote’s case (i.e., it has subject matter jurisdiction over the case) because of diversity of
citizenship. If Mr. Coyote was injured by one of Acme’s defective products while chasing a roadrunner in
Arizona, the federal district court judge would hear his action—using federal procedural law—and decide
the case based on the substantive law of Arizona on product liability.
But now change the facts only slightly: Acme is incorporated in Delaware but has its principal place of
business in Phoenix, Arizona. Unless Mr. Coyote has a federal law he is using as a basis for his claims
against Acme, his attempt to get a federal court to hear and decide the case will fail. It will fail because
there is not complete diversity of citizenship between the plaintiff and the defendant.
Robinson v. Audi
Now consider Mr. and Mrs. Robinson and their products-liability claim against Seaway Volkswagen and
the other three defendants. There is no federal products-liability law that could be used as a cause of
action. They are most likely suing the defendants using products-liability law based on common-law
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negligence or common-law strict liability law, as found in state court cases. They were not yet Arizona
residents at the time of the accident, and their accident does not establish them as Oklahoma residents,
either. They bought the vehicle in New York from a New York–based retailer. None of the other
defendants is from Oklahoma.
They file in an Oklahoma state court, but how will they (their attorney or the court) know if the state court
has subject matter jurisdiction? Unless the case is requiredto be in a federal court (i.e., unless the federal
courts have exclusive jurisdiction over this kind of case), any state court system will have subject matter
jurisdiction, including Oklahoma’s state court system. But if their claim is for a significant amount of
money, they cannot file in small claims court, probate court, or any court in Oklahoma that does not have
statutory jurisdiction over their claim. They will need to file in a court of general jurisdiction. In short,
even filing in the right court system (state versus federal), the plaintiff must be careful to find the court
that has subject matter jurisdiction.
If they wish to go to federal court, can they? There is no federal question presented here (the claim is
based on state common law), and the United States is not a party, so the only basis for federal court
jurisdiction would be diversity jurisdiction. If enough time has elapsed since the accident and they have
established themselves as Arizona residents, they could sue in federal court in Oklahoma (or elsewhere),
but only if none of the defendants—the retailer, the regional Volkswagen company, Volkswagen of North
America, or Audi (in Germany) are incorporated in or have a principal place of business in Arizona. The
federal judge would decide the case using federal civil procedure but would have to make the appropriate
choice of state law. In this case, the choice of conflicting laws would most likely be Oklahoma, where the
accident happened, or New York, where the defective product was sold.
Table 3.1 Sample Conflict-of-Law Principles
Substantive Law Issue Law to be Applied
Liability for injury caused by tortious conduct State in which the injury was inflicted
Real property State where the property is located
Personal Property: inheritance Domicile of deceased (not location of property)
Contract: validity State in which contract was made
Contract: breach State in which contract was to be performed*
*Or, in many states, the state with the most significant contacts with the contractual activities
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Substantive Law Issue Law to be Applied
Note: Choice-of-law clauses in a contract will ordinarily be honored by judges in state and federal
courts.
Legal Procedure, Including Due Process and Personal Jurisdiction
In this section, we consider how lawsuits are begun and how the court knows that it has both subject
matter jurisdiction and personal jurisdiction over at least one of the named defendants.
The courts are not the only institutions that can resolve disputes. In Section 3.8 “Alternative Means of
Resolving Disputes”, we will discuss other dispute-resolution forums, such as arbitration and mediation.
For now, let us consider how courts make decisions in civil disputes. Judicial decision making in the
context of litigation (civil lawsuits) is a distinctive form of dispute resolution.
First, to get the attention of a court, the plaintiff must make a claim based on existing laws. Second, courts
do not reach out for cases. Cases are brought to them, usually when an attorney files a case with the right
court in the right way, following the various laws that govern all civil procedures in a state or in the federal
system. (Most US states’ procedural laws are similar to the federal procedural code.)
Once at the court, the case will proceed through various motions (motions to dismiss for lack of
jurisdiction, for example, or insufficient service of process), the proofs (submission of evidence), and the
arguments (debate about the meaning of the evidence and the law) of contesting parties.
This is at the heart of the adversary system, in which those who oppose each other may attack the other’s
case through proofs and cross-examination. Every person in the United States who wishes to take a case
to court is entitled to hire a lawyer. The lawyer works for his client, not the court, and serves him as an
advocate, or supporter. The client’s goal is to persuade the court of the accuracy and justness of his
position. The lawyer’s duty is to shape the evidence and the argument—the line of reasoning about the
evidence—to advance his client’s cause and persuade the court of its rightness. The lawyer for the
opposing party will be doing the same thing, of course, for her client. The judge (or, if one is sitting, the
jury) must sort out the facts and reach a decision from this cross-fire of evidence and argument.
The method of adjudication—the act of making an order or judgment—has several important features.
First, it focuses the conflicting issues. Other, secondary concerns are minimized or excluded altogether.
Relevance is a key concept in any trial. The judge is required to decide the questions presented at the trial,
not to talk about related matters. Second, adjudication requires that the judge’s decision be reasoned, and
that is why judges write opinions explaining their decisions (an opinion may be omitted when the verdict
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comes from a jury). Third, the judge’s decision must not only be reasoned but also be responsive to the
case presented: the judge is not free to say that the case is unimportant and that he therefore will ignore it.
Unlike other branches of government that are free to ignore problems pressing upon them,
judges must decide cases. (For example, a legislature need not enact a law, no matter how many people
petition it to do so.) Fourth, the court must respond in a certain way. The judge must pay attention to the
parties’ arguments and his decision must result from their proofs and arguments. Evidence that is not
presented and legal arguments that are not made cannot be the basis for what the judge decides. Also,
judges are bound by standards of weighing evidence: the burden of proof in a civil case is generally a
“preponderance of the evidence.”
In all cases, the plaintiff—the party making a claim and initiating the lawsuit (in a criminal case the
plaintiff is the prosecution)—has the burden of proving his case. If he fails to prove it, the defendant—the
party being sued or prosecuted—will win.
Criminal prosecutions carry the most rigorous burden of proof: the government must prove its case
against the defendant beyond a reasonable doubt. That is, even if it seems very likely that the defendant
committed the crime, as long as there remains some reasonable doubt—perhaps he was not clearly
identified as the culprit, perhaps he has an alibi that could be legitimate—the jury must vote to acquit
rather than convict.
By contrast, the burden of proof in ordinary civil cases—those dealing with contracts, personal injuries,
and most of the cases in this book—is a preponderance of the evidence, which means that the plaintiff’s
evidence must outweigh whatever evidence the defendant can muster that casts doubts on the plaintiff’s
claim. This is not merely a matter of counting the number of witnesses or of the length of time that they
talk: the judge in a trial without a jury (a bench trial), or the jury where one is impaneled, must apply the
preponderance of evidence test by determining which side has the greater weight of credible, relevant
evidence.
Adjudication and the adversary system imply certain other characteristics of courts. Judges must be
impartial; those with a personal interest in a matter must refuse to hear it. The ruling of a court, after all
appeals are exhausted, is final. This principle is known as res judicata (Latin for “the thing is decided”),
and it means that the same parties may not take up the same dispute in another court at another time.
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Finally, a court must proceed according to a public set of formal procedural rules; a judge cannot make up
the rules as he goes along. To these rules we now turn.
How a Case Proceeds
Complaint and Summons
Beginning a lawsuit is simple and is spelled out in the rules of procedure by which each court system
operates. In the federal system, the plaintiff begins a lawsuit by filing a complaint—a document clearly
explaining the grounds for suit—with the clerk of the court. The court’s agent (usually a sheriff, for state
trial courts, or a US deputy marshal, in federal district courts) will then serve the defendant with the
complaint and a summons. The summons is a court document stating the name of the plaintiff and his
attorney and directing the defendant to respond to the complaint within a fixed time period.
The timing of the filing can be important. Almost every possible legal complaint is governed by a federal
or state statute of limitations, which requires a lawsuit to be filed within a certain period of time. For
example, in many states a lawsuit for injuries resulting from an automobile accident must be filed within
two years of the accident or the plaintiff forfeits his right to proceed. As noted earlier, making a correct
initial filing in a court that has subject matter jurisdiction is critical to avoiding statute of limitations
problems.
Jurisdiction and Venue
The place of filing is equally important, and there are two issues regarding location. The first is subject
matter jurisdiction, as already noted. A claim for breach of contract, in which the amount at stake is $1
million, cannot be brought in a local county court with jurisdiction to hear cases involving sums of up to
only $1,000. Likewise, a claim for copyright violation cannot be brought in a state superior court, since
federal courts have exclusive jurisdiction over copyright cases.
The second consideration is venue—the proper geographic location of the court. For example, every
county in a state might have a superior court, but the plaintiff is not free to pick any county. Again, a
statute will spell out to which court the plaintiff must go (e.g., the county in which the plaintiff resides or
the county in which the defendant resides or maintains an office).
Service of Process and Personal Jurisdiction
The defendant must be “served”—that is, must receive notice that he has been sued. Service can be done
by physically presenting the defendant with a copy of the summons and complaint. But sometimes the
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defendant is difficult to find (or deliberately avoids the marshal or other process server). The rules spell
out a variety of ways by which individuals and corporations can be served. These include using US Postal
Service certified mail or serving someone already designated to receive service of process. A corporation
or partnership, for example, is often required by state law to designate a “registered agent” for purposes of
getting public notices or receiving a summons and complaint.
One of the most troublesome problems is service on an out-of-state defendant. The personal jurisdiction
of a state court over persons is clear for those defendants found within the state. If the plaintiff claims that
an out-of-state defendant injured him in some way, must the plaintiff go to the defendant’s home state to
serve him? Unless the defendant had some significant contact with the plaintiff’s state, the plaintiff may
indeed have to. For instance, suppose a traveler from Maine stopped at a roadside diner in Montana and
ordered a slice of homemade pie that was tainted and caused him to be sick. The traveler may not simply
return home and mail the diner a notice that he is suing it in a Maine court. But if out-of-state defendants
have some contact with the plaintiff’s state of residence, there might be grounds to bring them within the
jurisdiction of the plaintiff’s state courts. In Burger King v. Rudzewicz, Section 3.9 “Cases”, the federal
court in Florida had to consider whether it was constitutionally permissible to exercise personal
jurisdiction over a Michigan franchisee.
Again, recall that even if a court has subject matter jurisdiction, it must also have personal jurisdiction
over each defendant against whom an enforceable judgment can be made. Often this is not a problem; you
might be suing a person who lives in your state or regularly does business in your state. Or a nonresident
may answer your complaint without objecting to the court’s “in personam” (personal) jurisdiction. But
many defendants who do not reside in the state where the lawsuit is filed would rather not be put to the
inconvenience of contesting a lawsuit in a distant forum. Fairness—and the due process clause of the
Fourteenth Amendment—dictates that nonresidents should not be required to defend lawsuits far from
their home base, especially where there is little or no contact or connection between the nonresident and
the state where a lawsuit is brought.
Summary of Rules on Personal Jurisdiction
1. Once a court determines that it has subject matter jurisdiction, it must find at least one
defendant over which it is “fair” (i.e., in accord with due process) to exercise personal
jurisdiction.
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2. If a plaintiff sues five defendants and the court has personal jurisdiction over just one, the case can be
heard, but the court cannot make a judgment against the other four.
1. But if the plaintiff loses against defendant 1, he can go elsewhere (to another state or
states) and sue defendants 2, 3, 4, or 5.
2. The court’s decision in the first lawsuit (against defendant 1) does not determine the
liability of the nonparticipating defendants.
This involves the principle of res judicata, which means that you can’t bring the same action against the
same person (or entity) twice. It’s like the civil side of double jeopardy. Res means “thing,”
and judicata means “adjudicated.” Thus the “thing” has been “adjudicated” and should not be judged
again. But, as to nonparticipating parties, it is not over. If you have a different case against the same
defendant—one that arises out of a completely different situation—that case is not barred by res judicata.
3. Service of process is a necessary (but not sufficient) condition for getting personal jurisdiction over a
particular defendant (see rule 4).
1. In order to get a judgment in a civil action, the plaintiff must serve a copy of the
complaint and a summons on the defendant.
2. There are many ways to do this.
The process server personally serves a complaint on the defendant.
The process server leaves a copy of the summons and complaint at the residence of the
defendant, in the hands of a competent person.
The process server sends the summons and complaint by certified mail, return receipt
requested.
The process server, if all other means are not possible, notifies the defendant by
publication in a newspaper having a minimum number of readers (as may be specified
by law).
4. In addition to successfully serving the defendant with process, a plaintiff must convince the court that
exercising personal jurisdiction over the defendant is consistent with due process and any statutes in that
state that prescribe the jurisdictional reach of that state (the so-called long-arm statutes). The Supreme
Court has long recognized various bases for judging whether such process is fair.
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1. Consent. The defendant agrees to the court’s jurisdiction by coming to court, answering
the complaint, and having the matter litigated there.
2. Domicile. The defendant is a permanent resident of that state.
3. Event. The defendant did something in that state, related to the lawsuit, that makes it
fair for the state to say, “Come back and defend!”
4. Service of process within the state will effectively provide personal jurisdiction over the
nonresident.
Again, let’s consider Mrs. Robinson and her children in the Audi accident. She could file a lawsuit
anywhere in the country. She could file a lawsuit in Arizona after she establishes residency there. But
while the Arizona court would have subject matter jurisdiction over any products-liability claim (or any
claim that was not required to be heard in a federal court), the Arizona court would face an issue of “in
personamjurisdiction,” or personal jurisdiction: under the due process clause of the Fourteenth
Amendment, each state must extend due process to citizens of all of the other states. Because fairness is
essential to due process, the court must consider whether it is fair to require an out-of-state defendant to
appear and defend against a lawsuit that could result in a judgment against that defendant.
Almost every state in the United States has a statute regarding personal jurisdiction, instructing judges
when it is permissible to assert personal jurisdiction over an out-of-state resident. These are called long-
arm statutes. But no state can reach out beyond the limits of what is constitutionally permissible under
the Fourteenth Amendment, which binds the states with its proviso to guarantee the due process rights of
the citizens of every state in the union. The “minimum contacts” test in Burger King v. Rudzewicz(Section
3.9 “Cases”) tries to make the fairness mandate of the due process clause more specific. So do other tests
articulated in the case (such as “does not offend traditional notions of fair play and substantial justice”).
These tests are posed by the Supreme Court and heeded by all lower courts in order to honor the
provisions of the Fourteenth Amendment’s due process guarantees. These tests are in addition to any
state long-arm statute’s instructions to courts regarding the assertion of personal jurisdiction over
nonresidents.
Choice of Law and Choice of Forum Clauses
In a series of cases, the Supreme Court has made clear that it will honor contractual choices of parties in a
lawsuit. Suppose the parties to a contract wind up in court arguing over the application of the contract’s
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terms. If the parties are from two different states, the judge may have difficulty determining which law to
apply (see Table 3.1 “Sample Conflict-of-Law Principles”). But if the contract says that a particular state’s
law will be applied if there is a dispute, then ordinarily the judge will apply that state’s law as a rule of
decision in the case. For example, Kumar Patel (a Missouri resident) opens a brokerage account with
Goldman, Sachs and Co., and the contractual agreement calls for “any disputes arising under this
agreement” to be determined “according to the laws of the state of New York.” When Kumar claims in a
Missouri court that his broker is “churning” his account, and, on the other hand, Goldman, Sachs claims
that Kumar has failed to meet his margin call and owes $38,568.25 (plus interest and attorney’s fees), the
judge in Missouri will apply New York law based on the contract between Kumar and Goldman, Sachs.
Ordinarily, a choice-of-law clause will be accompanied by a choice-of-forum clause. In a choice-of-forum
clause, the parties in the contract specify which court they will go to in the event of a dispute arising under
the terms of contract. For example, Harold (a resident of Virginia) rents a car from Alamo at the Denver
International Airport. He does not look at the fine print on the contract. He also waives all collision and
other insurance that Alamo offers at the time of his rental. While driving back from Telluride Bluegrass
Festival, he has an accident in Idaho Springs, Colorado. His rented Nissan Altima is badly damaged. On
returning to Virginia, he would like to settle up with Alamo, but his insurance company and Alamo cannot
come to terms. He realizes, however, that he has agreed to hear the dispute with Alamo in a specific court
in San Antonio, Texas. In the absence of fraud or bad faith, any court in the United States is likely to
uphold the choice-of-form clause and require Harold (or his insurance company) to litigate in San
Antonio, Texas.
K E Y T A K E A W A Y
There are two court systems in the United States. It is important to know which system—the state court
system or the federal court system—has the power to hear and decide a particular case. Once that is
established, the Constitution compels an inquiry to make sure that no court extends its reach unfairly to
out-of-state residents. The question of personal jurisdiction is a question of fairness and due process to
nonresidents.
E X E R C I S E S
1. The Constitution specifies that federal courts have exclusive jurisdiction over admiralty
claims. Mr. and Mrs. Shute have a claim against Carnival Cruise lines for the negligence
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of the cruise line. Mrs. Shute sustained injuries as a result of the company’s negligence.
Mr. and Mrs. Shute live in the state of Washington. Can they bring their claim in state
court? Must they bring their claim in federal court?
2. Congress passed Title VII of the Civil Rights Act of 1964. In Title VII, employers are
required not to discriminate against employees on the basis of race, color, sex, religion,
or national origin. In passing Title VII, Congress did not require plaintiffs to file only in
federal courts. That is, Congress made no statement in Title VII that federal courts had
“exclusive jurisdiction” over Title VII claims. Mrs. Harris wishes to sue Forklift Systems,
Inc. of Nashville, Tennessee, for sexual harassment under Title VII. She has gone through
the Equal Employment Opportunity Commission process and has a right-to-sue letter,
which is required before a Title VII action can be brought to court. Can she file a
complaint that will be heard by a state court?
3. Mrs. Harris fails to go to the Equal Employment Opportunity Commission to get her
right-to-sue letter against Forklift Systems, Inc. She therefore does not have a viable Title
VII cause of action against Forklift. She does, however, have her rights under
Tennessee’s equal employment statute and various court decisions from Tennessee
courts regarding sexual harassment. Forklift is incorporated in Tennessee and has its
principal place of business in Nashville. Mrs. Harris is also a citizen of Tennessee. Explain
why, if she brings her employment discrimination and sexual harassment lawsuit in a
federal court, her lawsuit will be dismissed for lack of subject matter jurisdiction.
4. Suppose Mr. and Mrs. Robinson find in the original paperwork with Seaway Volkswagen
that there is a contractual agreement with a provision that says “all disputes arising
between buyer and Seaway Volkswagen will be litigated, if at all, in the county courts of
Westchester County, New York.” Will the Oklahoma court take personal jurisdiction over
Seaway Volkswagen, or will it require the Robinsons to litigate their claim in New York?
3.3 Motions and Discovery
L E A R N I N G O B J E C T I V E S
1. Explain how a lawsuit can be dismissed prior to any trial.
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2. Understand the basic principles and practices of discovery before a trial.
The early phases of a civil action are characterized by many different kinds of motions and a complex
process of mutual fact-finding between the parties that is known as discovery. A lawsuit will start with
the pleadings (complaint and answer in every case, and in some cases a counterclaim by the defendant
against the plaintiff and the plaintiff’s reply to the defendant’s counterclaim). After the pleadings, the
parties may make various motions, which are requests to the judge. Motions in the early stages of a
lawsuit usually aim to dismiss the lawsuit, to have it moved to another venue, or to compel the other party
to act in certain ways during the discovery process.
Initial Pleadings, and Motions to Dismiss
The first papers filed in a lawsuit are called the pleadings. These include the plaintiff’s complaint and then
(usually after thirty or more days) the answer or response from the defendant. The answer may be
coupled with a counterclaim against the plaintiff. (In effect, the defendant becomes the plaintiff for the
claims she has against the original plaintiff.) The plaintiff may reply to any counterclaim by the defendant.
State and federal rules of civil procedure require that the complaint must state the nature of the plaintiff’s
claim, the jurisdiction of the court, and the nature of the relief that is being asked for (usually an award of
money, but sometimes an injunction, or a declaration of legal rights). In an answer, the defendant will
often deny all the allegations of the complaint or will admit to certain of its allegations and deny others.
A complaint and subsequent pleadings are usually quite general and give little detail. Cases can be decided
on the pleadings alone in the following situations: (1) If the defendant fails to answer the complaint, the
court can enter a default judgment, awarding the plaintiff what he seeks. (2) The defendant can move to
dismiss the complaint on the grounds that the plaintiff failed to “state a claim on which relief can be
granted,” or on the basis that there is no subject matter jurisdiction for the court chosen by the plaintiff,
or on the basis that there is no personal jurisdiction over the defendant. The defendant is saying, in effect,
that even if all the plaintiff’s allegations are true, they do not amount to a legal claim that can be heard by
the court. For example, a claim that the defendant induced a woman to stop dating the plaintiff (a so-
called alienation of affections cause of action) is no longer actionable in US state courts, and any court will
dismiss the complaint without any further proceedings. (This type of dismissal is occasionally still called a
demurrer.)
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A third kind of dismissal can take place on a motion for summary judgment. If there is no triable question
of fact or law, there is no reason to have a trial. For example, the plaintiff sues on a promissory note and,
at deposition (an oral examination under oath), the defendant admits having made no payment on the
note and offers no excuse that would be recognizable as a reason not to pay. There is no reason to have a
trial, and the court should grant summary judgment.
Discovery
If there is a factual dispute, the case will usually involve some degree of discovery, where each party tries
to get as much information out of the other party as the rules allow. Until the 1940s, when discovery
became part of civil procedure rules, a lawsuit was frequently a game in which each party hid as much
information as possible and tried to surprise the other party in court.
Beginning with a change in the Federal Rules of Civil Procedure adopted by the Supreme Court in 1938
and subsequently followed by many of the states, the parties are entitled to learn the facts of the case
before trial. The basic idea is to help the parties determine what the evidence might be, who the potential
witnesses are, and what specific issues are relevant. Discovery can proceed by several methods. A party
may serve an interrogatory on his adversary—a written request for answers to specific questions. Or a
party may depose the other party or a witness. A deposition is a live question-and-answer session at which
the witness answers questions put to him by one of the parties’ lawyers. His answers are recorded
verbatim and may be used at trial. Each party is also entitled to inspect books, documents, records, and
other physical items in the possession of the other. This is a broad right, as it is not limited to just
evidence that is admissible at trial. Discovery of physical evidence means that a plaintiff may inspect a
company’s accounts, customer lists, assets, profit-and-loss statements, balance sheets, engineering and
quality-control reports, sales reports, and virtually any other document.
The lawyers, not the court, run the discovery process. For example, one party simply makes a written
demand, stating the time at which the deposition will take place or the type of documents it wishes to
inspect and make copies of. A party unreasonably resisting discovery methods (whether depositions,
written interrogatories, or requests for documents) can be challenged, however, and judges are often
brought into the process to push reluctant parties to make more disclosure or to protect a party from
irrelevant or unreasonable discovery requests. For example, the party receiving the discovery request can
apply to the court for a protective order if it can show that the demand is for privileged material (e.g., a
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party’s lawyers’ records are not open for inspection) or that the demand was made to harass the opponent.
In complex cases between companies, the discovery of documents can run into tens of millions of pages
and can take years. Depositions can consume days or even weeks of an executive’s time.
K E Y T A K E A W A Y
Many cases never get to trial. They are disposed of by motions to dismiss or are settled after extensive
discovery makes clear to the parties the strengths and weaknesses of the parties to the dispute.
E X E R C I S E S
1. Mrs. Robinson (in the Volkswagen Audi case) never establishes residency in Arizona,
returns to New York, and files her case in federal district court in New York, alleging
diversity jurisdiction. Assume that the defendants do not want to have the case heard in
federal court. What motion will they make?
2. Under contributory negligence, the negligence of any plaintiff that causes or contributes
to the injuries a plaintiff complains of will be grounds for dismissal. Suppose that in
discovery, Mr. Ferlito in Ferlito v. Johnson & Johnson (Section 3.9 “Cases”) admits that he
brought the cigarette lighter dangerously close to his costume, saying, “Yes, you could
definitely say I was being careless; I had a few drinks under my belt.” Also, Mrs. Ferlito
admits that she never reads product instructions from manufacturers. If the case is
brought in a state where contributory negligence is the law, on what basis can Johnson
& Johnson have the case dismissed before trial?
3.4 The Pretrial and Trial Phase
L E A R N I N G O B J E C T I V E S
1. Understand how judges can push parties into pretrial settlement.
2. Explain the meaning and use of directed verdicts.
3. Distinguish a directed verdict from a judgment n.o.v. (“notwithstanding the verdict”).
After considerable discovery, one of the parties may believe that there is no triable issue of law or fact for
the court to consider and may file a motion with the court for summary judgment. Unless it is very clear,
the judge will deny a summary judgment motion, because that ends the case at the trial level; it is a “final
order” in the case that tells the plaintiff “no” and leaves no room to bring another lawsuit against the
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defendant for that particular set of facts (res judicata). If the plaintiff successfully appeals a summary
judgment motion, the case will come back to the trial court.
Prior to the trial, the judge may also convene the parties in an effort to investigate the possibilities of
settlement. Usually, the judge will explore the strengths and weaknesses of each party’s case with the
attorneys. The parties may decide that it is more prudent or efficient to settle than to risk going to trial.
Pretrial Conference
At various times during the discovery process, depending on the nature and complexity of the case, the
court may hold a pretrial conference to clarify the issues and establish a timetable. The court may also
hold a settlement conference to see if the parties can work out their differences and avoid trial altogether.
Once discovery is complete, the case moves on to trial if it has not been settled. Most cases are settled
before this stage; perhaps 85 percent of all civil cases end before trial, and more than 90 percent of
criminal prosecutions end with a guilty plea.
Trial
At trial, the first order of business is to select a jury. (In a civil case of any consequence, either party can
request one, based on the Sixth Amendment to the US Constitution.) The judge and sometimes the
lawyers are permitted to question the jurors to be sure that they are unbiased. This questioning is known
as the voir dire (pronounced vwahr-DEER). This is an important process, and a great deal of thought goes
into selecting the jury, especially in high-profile cases. A jury panel can be as few as six persons, or as
many as twelve, with alternates selected and sitting in court in case one of the jurors is unable to continue.
In a long trial, having alternates is essential; even in shorter trials, most courts will have at least two
alternate jurors.
In both criminal and civil trials, each side has opportunities to challenge potential jurors for cause. For
example, in the Robinsons’ case against Audi, the attorneys representing Audi will want to know if any
prospective jurors have ever owned an Audi, what their experience has been, and if they had a similar
problem (or worse) with their Audi that was not resolved to their satisfaction. If so, the defense attorney
could well believe that such a juror has a potential for a bias against her client. In that case, she could use
a challenge for cause, explaining to the judge the basis for her challenge. The judge, at her discretion,
could either accept the for-cause reason or reject it.
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Even if an attorney cannot articulate a for-cause reason acceptable to the judge, he may use one of several
peremptory challenges that most states (and the federal system) allow. A trial attorney with many years of
experience may have a sixth sense about a potential juror and, in consultation with the client, may decide
to use a peremptory challenge to avoid having that juror on the panel.
After the jury is sworn and seated, the plaintiff’s lawyer makes an opening statement, laying out the
nature of the plaintiff’s claim, the facts of the case as the plaintiff sees them, and the evidence that the
lawyer will present. The defendant’s lawyer may also make an opening statement or may reserve his right
to do so at the end of the plaintiff’s case.
The plaintiff’s lawyer then calls witnesses and presents the physical evidence that is relevant to her proof.
The direct testimony at trial is usually far from a smooth narration. The rules of evidence (that govern the
kinds of testimony and documents that may be introduced at trial) and the question-and-answer format
tend to make the presentation of evidence choppy and difficult to follow.
Anyone who has watched an actual televised trial or a television melodrama featuring a trial scene will
appreciate the nature of the trial itself: witnesses are asked questions about a number of issues that may
or may not be related, the opposing lawyer will frequently object to the question or the form in which it is
asked, and the jury may be sent from the room while the lawyers argue at the bench before the judge.
After direct testimony of each witness is over, the opposing lawyer may conduct cross-examination. This
is a crucial constitutional right; in criminal cases it is preserved in the Constitution’s Sixth Amendment
(the right to confront one’s accusers in open court). The formal rules of direct testimony are then relaxed,
and the cross-examiner may probe the witness more informally, asking questions that may not seem
immediately relevant. This is when the opposing attorney may become harsh, casting doubt on a witness’s
credibility, trying to trip her up and show that the answers she gave are false or not to be trusted. This use
of cross-examination, along with the requirement that the witness must respond to questions that are at
all relevant to the questions raised by the case, distinguishes common-law courts from those of
authoritarian regimes around the world.
Following cross-examination, the plaintiff’s lawyer may then question the witness again: this is called
redirect examination and is used to demonstrate that the witness’s original answers were accurate and to
show that any implications otherwise, suggested by the cross-examiner, were unwarranted. The cross-
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examiner may then engage the witness in re-cross-examination, and so on. The process usually stops after
cross-examination or redirect.
During the trial, the judge’s chief responsibility is to see that the trial is fair to both sides. One big piece of
that responsibility is to rule on the admissibility of evidence. A judge may rule that a particular question is
out of order—that is, not relevant or appropriate—or that a given document is irrelevant. Where the
attorney is convinced that a particular witness, a particular question, or a particular document (or part
thereof) is critical to her case, she may preserve an objection to the court’s ruling by saying “exception,” in
which case the court stenographer will note the exception; on appeal, the attorney may cite any number of
exceptions as adding up to the lack of a fair trial for her client and may request a court of appeals to order
a retrial.
For the most part, courts of appeal will not reverse and remand for a new trial unless the trial court
judge’s errors are “prejudicial,” or “an abuse of discretion.” In short, neither party is entitled to a perfect
trial, but only to a fair trial, one in which the trial judge has made only “harmless errors” and not
prejudicial ones.
At the end of the plaintiff’s case, the defendant presents his case, following the same procedure just
outlined. The plaintiff is then entitled to present rebuttal witnesses, if necessary, to deny or argue with the
evidence the defendant has introduced. The defendant in turn may present “surrebuttal” witnesses.
When all testimony has been introduced, either party may ask the judge for adirected verdict—a verdict
decided by the judge without advice from the jury. This motion may be granted if the plaintiff has failed to
introduce evidence that is legally sufficient to meet her burden of proof or if the defendant has failed to do
the same on issues on which she has the burden of proof. (For example, the plaintiff alleges that the
defendant owes him money and introduces a signed promissory note. The defendant cannot show that the
note is invalid. The defendant must lose the case unless he can show that the debt has been paid or
otherwise discharged.)
The defendant can move for a directed verdict at the close of the plaintiff’s case, but the judge will usually
wait to hear the entire case until deciding whether to do so. Directed verdicts are not usually granted,
since it is the jury’s job to determine the facts in dispute.
If the judge refuses to grant a directed verdict, each lawyer will then present a closing argument to the
jury (or, if there is no jury, to the judge alone). The closing argument is used to tie up the loose ends, as
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the attorney tries to bring together various seemingly unrelated facts into a story that will make sense to
the jury.
After closing arguments, the judge will instruct the jury. The purpose of jury instruction is to explain to
the jurors the meaning of the law as it relates to the issues they are considering and to tell the jurors what
facts they must determine if they are to give a verdict for one party or the other. Each lawyer will have
prepared a set of written instructions that she hopes the judge will give to the jury. These will be tailored
to advance her client’s case. Many a verdict has been overturned on appeal because a trial judge has
wrongly instructed the jury. The judge will carefully determine which instructions to give and often will
use a set of pattern instructions provided by the state bar association or the supreme court of the state.
These pattern jury instructions are often safer because they are patterned after language that appellate
courts have used previously, and appellate courts are less likely to find reversible error in the instructions.
After all instructions are given, the jury will retire to a private room and discuss the case and the answers
requested by the judge for as long as it takes to reach a unanimous verdict. Some minor cases do not
require a unanimous verdict. If the jury cannot reach a decision, this is called a hung jury, and the case
will have to be retried. When a jury does reach a verdict, it delivers it in court with both parties and their
lawyers present. The jury is then discharged, and control over the case returns to the judge. (If there is no
jury, the judge will usually announce in a written opinion his findings of fact and how the law applies to
those facts. Juries just announce their verdicts and do not state their reasons for reaching them.)
Posttrial Motions
The losing party is allowed to ask the judge for a new trial or for a judgment notwithstanding the verdict
(often called a judgment n.o.v., from the Latin non obstante veredicto). A judge who decides that a
directed verdict is appropriate will usually wait to see what the jury’s verdict is. If it is favorable to the
party the judge thinks should win, she can rely on that verdict. If the verdict is for the other party, he can
grant the motion for judgment n.o.v. This is a safer way to proceed because if the judge is reversed on
appeal, a new trial is not necessary. The jury’s verdict always can be restored, whereas without a jury
verdict (as happens when a directed verdict is granted before the case goes to the jury), the entire case
must be presented to a new jury.Ferlito v. Johnson & Johnson (Section 3.9 “Cases”) illustrates the
judgment n.o.v. process in a case where the judge allowed the case to go to a jury that was overly
sympathetic to the plaintiffs.
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Rule 50(b) of the Federal Rules of Civil Procedure provides the authorization for federal judges making a
judgment contrary to the judgment of the jury. Most states have a similar rule.
Rule 50(b) says,
Whenever a motion for a directed verdict made at the close of all the evidence is denied or for any reason
is not granted, the court is deemed to have submitted the action to the jury subject to a later
determination of the legal questions raised by the motion. Not later than 10 days after entry of judgment,
a party who has moved for a directed verdict may move to have the verdict and any judgment entered
thereon set aside and to have judgment entered in accordance with the party’s motion for a directed
verdict.…[A] new trial may be prayed for in the alternative. If a verdict was returned the court may allow
the judgment to stand or may reopen the judgment and either order a new trial or direct the entry of
judgment as if the requested verdict had been directed.
K E Y T A K E A W A Y
The purpose of a trial judge is to ensure justice to all parties to the lawsuit. The judge presides, instructs
the jury, and may limit who testifies and what they testify about what. In all of this, the judge will usually
commit some errors; occasionally these will be the kinds of errors that seriously compromise a fair trial for
both parties. Errors that do seriously compromise a fair trial for both parties are prejudicial, as opposed to
harmless. The appeals court must decide whether any errors of the trial court judge are prejudicial or not.
If a judge directs a verdict, that ends the case for the party who hasn’t asked for one; if a judge grants
judgment n.o.v., that will take away a jury verdict that one side has worked very hard to get. Thus a judge
must be careful not to unduly favor one side or the other, regardless of his or her sympathies.
E X E R C I S E S
1. What if there was not a doctrine of res judicata? What would the legal system be like?
2. Why do you think cross-examination is a “right,” as opposed to a “good thing”? What
kind of judicial system would not allow cross-examination of witnesses as a matter of
right?
3.5 Judgment, Appeal, and Execution
L E A R N I N G O B J E C T I V E S
1. Understand the posttrial process—how appellate courts process appeals.
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2. Explain how a court’s judgment is translated into relief for the winning party.
Judgment or Order
At the end of a trial, the judge will enter an order that makes findings of fact (often with the help of a jury)
and conclusions of law. The judge will also make a judgment as to what relief or remedy should be given.
Often it is an award of money damages to one of the parties. The losing party may ask for a new trial at
this point or within a short period of time following. Once the trial judge denies any such request, the
judgment—in the form of the court’s order—is final.
Appeal
If the loser’s motion for a new trial or a judgment n.o.v. is denied, the losing party may appeal but must
ordinarily post a bond sufficient to ensure that there are funds to pay the amount awarded to the winning
party. In an appeal, the appellant aims to show that there was some prejudicial error committed by the
trial judge. There will be errors, of course, but the errors must be significant (i.e., not harmless). The basic
idea is for an appellate court to ensure that a reasonably fair trial was provided to both sides. Enforcement
of the court’s judgment—an award of money, an injunction—is usually stayed (postponed) until the
appellate court has ruled. As noted earlier, the party making the appeal is called the appellant, and the
party defending the judgment is the appellee (or in some courts, the petitioner and the respondent).
During the trial, the losing party may have objected to certain procedural decisions by the judge. In
compiling a record on appeal, the appellant needs to show the appellate court some examples of mistakes
made by the judge—for example, having erroneously admitted evidence, having failed to admit proper
evidence that should have been admitted, or having wrongly instructed the jury. The appellate court must
determine if those mistakes were serious enough to amount to prejudicial error.
Appellate and trial procedures are different. The appellate court does not hear witnesses or accept
evidence. It reviews the record of the case—the transcript of the witnesses’ testimony and the documents
received into evidence at trial—to try to find a legal error on a specific request of one or both of the
parties. The parties’ lawyers prepare briefs (written statements containing the facts in the case), the
procedural steps taken, and the argument or discussion of the meaning of the law and how it applies to
the facts. After reading the briefs on appeal, the appellate court may dispose of the appeal without
argument, issuing a written opinion that may be very short or many pages. Often, though, the appellate
court will hear oral argument. (This can be months, or even more than a year after the briefs are filed.)
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Each lawyer is given a short period of time, usually no more than thirty minutes, to present his client’s
case. The lawyer rarely gets a chance for an extended statement because he is usually interrupted by
questions from the judges. Through this exchange between judges and lawyers, specific legal positions can
be tested and their limits explored.
Depending on what it decides, the appellate court will affirm the lower court’s
judgment, modify it, reverse it, or remand it to the lower court for retrial or other action directed by the
higher court. The appellate court itself does not take specific action in the case; it sits only to rule on
contested issues of law. The lower court must issue the final judgment in the case. As we have already
seen, there is the possibility of appealing from an intermediate appellate court to the state supreme court
in twenty-nine states and to the US Supreme Court from a ruling from a federal circuit court of appeal. In
cases raising constitutional issues, there is also the possibility of appeal to the Supreme Court from the
state courts.
Like trial judges, appellate judges must follow previous decisions, or precedent. But not every previous
case is a precedent for every court. Lower courts must respect appellate court decisions, and courts in one
state are not bound by decisions of courts in other states. State courts are not bound by decisions of
federal courts, except on points of federal law that come from federal courts within the state or from a
federal circuit in which the state court sits. A state supreme court is not bound by case law in any other
state. But a supreme court in one state with a type of case it has not previously dealt with may find
persuasive reasoning in decisions of other state supreme courts.
Federal district courts are bound by the decisions of the court of appeals in their circuit, but decisions by
one circuit court are not precedents for courts in other circuits. Federal courts are also bound by decisions
of the state supreme courts within their geographic territory in diversity jurisdiction cases. All courts are
bound by decisions of the US Supreme Court, except the Supreme Court itself, which seldom reverses
itself but on occasion has overturned its own precedents.
Not everything a court says in an opinion is a precedent. Strictly speaking, only the exact holding is
binding on the lower courts. A holding is the theory of the law that applies to the particular circumstances
presented in a case. The courts may sometimes declare what they believe to be the law with regard to
points that are not central to the case being decided. These declarations are called dicta (the
singular, dictum), and the lower courts do not have to give them the same weight as holdings.
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Judgment and Order
When a party has no more possible appeals, it usually pays up voluntarily. If not voluntarily, then the
losing party’s assets can be seized or its wages or other income garnished to satisfy the judgment. If the
final judgment is an injunction, failure to follow its dictates can lead to a contempt citation, with a fine or
jail time imposed.
K E Y T A K E A W A Y
The process of conducting a civil trial has many aspects, starting with pleadings and continuing with
motions, discovery, more motions, pretrial conferences, and finally the trial itself. At all stages, the rules of
civil procedure attempt to give both sides plenty of notice, opportunity to be heard, discovery of relevant
information, cross-examination, and the preservation of procedural objections for purposes of appeal. All
of these rules and procedures are intended to provide each side with a fair trial.
E X E R C I S E S
1. Mrs. Robinson has a key witness on auto safety that the judge believes is not qualified as
an expert. The judge examines the witness while the jury is in the jury room and
disqualifies him from testifying. The jury does not get to hear this witness. Her attorney
objects. She loses her case. What argument would you expect Mrs. Robinson’s attorney
to make in an appeal?
2. Why don’t appellate courts need a witness box for witnesses to give testimony under
oath?
3. A trial judge in Nevada is wondering whether to enforce a surrogate motherhood contract.
Penelope Barr, of Reno, Nevada, has contracted with Reuben and Tina Goldberg to bear the in
vitro fertilized egg of Mrs. Goldberg. After carrying the child for nine months, Penelope gives birth,
but she is reluctant to give up the child, even though she was paid $20,000 at the start of the
contract and will earn an additional $20,000 on handing over the baby to the Goldbergs. (Barr was
an especially good candidate for surrogate motherhood: she had borne two perfect children and
at age 28 drinks no wine, does not smoke or use drugs of any kind, practices yoga, and maintains a
largely vegetarian diet with just enough meat to meet the needs of the fetus within.)
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The Goldbergs have asked the judge for an order compelling Penelope to give up the baby, who
was five days old when the lawsuit was filed. The baby is now a month old as the judge looks in
vain for guidance from any Nevada statute, federal statute, or any prior case in Nevada that
addressed the issue of surrogate motherhood. He does find several well-reasoned cases, one from
New Jersey, one from Michigan, and one from Oregon. Are any of these “precedent” that he must
follow? May he adopt the reasoning of any of these courts, if he should find that reasoning
persuasive?
3.6 When Can Someone Bring a Lawsuit?
L E A R N I N G O B J E C T I V E S
1. Explain the requirements for standing to bring a lawsuit in US courts.
2. Describe the process by which a group or class of plaintiffs can be certified to file a class
action case.
Almost anyone can bring a lawsuit, assuming they have the filing fee and the help of an attorney. But the
court may not hear it, for a number of reasons. There may be no case or controversy, there may be no law
to support the plaintiff’s claim, it may be in the wrong court, too much time might have lapsed (a statute
of limitations problem), or the plaintiff may not have standing.
Case or Controversy: Standing to Sue
Article III of the US Constitution provides limits to federal judicial power. For some cases, the Supreme
Court has decided that it has no power to adjudicate because there is no “case or controversy.” For
example, perhaps the case has settled or the “real parties in interest” are not before the court. In such a
case, a court might dismiss the case on the grounds that the plaintiff does not have “standing” to sue.
For example, suppose you see a sixteen-wheel moving van drive across your neighbor’s flower bed,
destroying her beloved roses. You have enjoyed seeing her roses every summer, for years. She is forlorn
and tells you that she is not going to raise roses there anymore. She also tells you that she has decided not
to sue, because she has made the decision to never deal with lawyers if at all possible. Incensed, you
decide to sue on her behalf. But you will not have standing to sue because your person or property was not
directly injured by the moving van. Standing means that only the person whose interests are directly
affected has the legal right to sue.
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The standing doctrine is easy to understand in straightforward cases such as this but is often a fairly
complicated matter. For example, can fifteen or more state attorneys general bring a lawsuit for a
declaratory judgment that the health care legislation passed in 2010 is unconstitutional? What particular
injury have they (or the states) suffered? Are they the best set of plaintiffs to raise this issue? Time—and
the Supreme Court—will tell.
Class Actions
Most lawsuits concern a dispute between two people or between a person and a company or other
organization. But it can happen that someone injures more than one person at the same time. A driver
who runs a red light may hit another car carrying one person or many people. If several people are injured
in the same accident, they each have the right to sue the driver for the damage that he caused them. Could
they sue as a group? Usually not, because the damages would probably not be the same for each person,
and different facts would have to be proved at the trial. Plus, the driver of the car that was struck might
have been partially to blame, so the defendant’s liability toward him might be different from his liability
toward the passengers.
If, however, the potential plaintiffs were all injured in the same way and their injuries were identical, a
single lawsuit might be a far more efficient way of determining liability and deciding financial
responsibility than many individual lawsuits.
How could such a suit be brought? All the injured parties could hire the same lawyer, and she could
present a common case. But with a group numbering more than a handful of people, it could become
overwhelmingly complicated. So how could, say, a million stockholders who believed they were cheated by
a corporation ever get together to sue?
Because of these types of situations, there is a legal procedure that permits one person or a small group of
people to serve as representatives for all others. This is the class action. The class action is provided for in
the Federal Rules of Civil Procedure (Rule 23) and in the separate codes of civil procedure in the states.
These rules differ among themselves and are often complex, but in general anyone can file a class action in
an appropriate case, subject to approval of the court. Once the class is “certified,” or judged to be a legally
adequate group with common injuries, the lawyers for the named plaintiffs become, in effect, lawyers for
the entire class.
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Usually a person who doesn’t want to be in the class can decide to leave. If she does, she will not be
included in an eventual judgment or settlement. But a potential plaintiff who is included in the class
cannot, after a final judgment is awarded, seek to relitigate the issue if she is dissatisfied with the
outcome, even though she did not participate at all in the legal proceeding.
K E Y T A K E A W A Y
Anyone can file a lawsuit, with or without the help of an attorney, but only those lawsuits where a plaintiff
has standing will be heard by the courts. Standing has become a complicated question and is used by the
courts to ensure that civil cases heard are being pursued by those with tangible and particular injuries.
Class actions are a way of aggregating claims that are substantially similar and arise out of the same facts
and circumstances.
E X E R C I S E
1. Fuchs Funeral Home is carrying the body of Charles Emmenthaler to its resting place at Forest
Lawn Cemetery. Charles’s wife, Chloe, and their two children, Chucky and Clarice, are following
the hearse when the coffin falls on the street, opens, and the body of Charles Emmenthaler falls
out. The wife and children are shocked and aggrieved and later sue in civil court for damages.
Assume that this is a viable cause of action based on “negligent infliction of emotional distress” in
the state of California and that Charles’s brother, sister-in-law, and multiple cousins also were in
the funeral procession and saw what happened. The brother of Charles, Kingston Emmenthaler,
also sees his brother’s body on the street, but his wife, their three children, and some of Charles’s
other cousins do not.
Charles was actually emotionally closest to Kingston’s oldest son, Nestor, who was studying
abroad at the time of the funeral and could not make it back in time. He is as emotionally
distraught at his uncle’s passing as anyone else in the family and is especially grieved over the
description of the incident and the grainy video shot by one of the cousins on his cell phone. Who
has standing to sue Fuchs Funeral Home, and who does not?
3.7 Relations with Lawyers
L E A R N I N G O B J E C T I V E S
1. Understand the various ways that lawyers charge for services.
2. Describe the contingent fee system in the United States.
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3. Know the difference between the American rule and the British rule with regard to who
pays attorneys’ fees.
Legal Fees
Lawyers charge for their services in one of three different ways: flat rate, hourly rate, and contingent fee.
A flat rate is used usually when the work is relatively routine and the lawyer knows in advance
approximately how long it will take her to do the job. Drawing a will or doing a real estate closing are
examples of legal work that is often paid a flat rate. The rate itself may be based on a percentage of the
worth of the matter—say, 1 percent of a home’s selling price.
Lawyers generally charge by the hour for courtroom time and for ongoing representation in commercial
matters. Virtually every sizable law firm bills its clients by hourly rates, which in large cities can range
from $300 for an associate’s time to $500 and more for a senior partner’s time.
A contingent fee is one that is paid only if the lawyer wins—that is, it is contingent, or depends upon, the
success of the case. This type of fee arrangement is used most often in personal injury cases (e.g.,
automobile accidents, products liability, and professional malpractice). Although used quite often, the
contingent fee is controversial. Trial lawyers justify it by pointing to the high cost of preparing for such
lawsuits. A typical automobile accident case can cost at least ten thousand dollars to prepare, and a
complicated products-liability case can cost tens of thousands of dollars. Few people have that kind of
money or would be willing to spend it on the chance that they might win a lawsuit. Corporate and
professional defendants complain that the contingent fee gives lawyers a license to go big game hunting,
or to file suits against those with deep pockets in the hopes of forcing them to settle.
Trial lawyers respond that the contingent fee arrangement forces them to screen cases and weed out cases
that are weak, because it is not worth their time to spend the hundreds of hours necessary on such cases if
their chances of winning are slim or nonexistent.
Costs
In England and in many other countries, the losing party must pay the legal expenses of the winning
party, including attorneys’ fees. That is not the general rule in this country. Here, each party must pay
most of its own costs, including (and especially) the fees of lawyers. (Certain relatively minor costs, such
as filing fees for various documents required in court, are chargeable to the losing side, if the judge
decides it.) This type of fee structure is known as the American rule (in contrast to the British rule).
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There are two types of exceptions to the American rule. By statute, Congress and the state legislatures
have provided that the winning party in particular classes of cases may recover its full legal costs from the
loser—for example, the federal antitrust laws so provide and so does the federal Equal Access to Justice
Act. The other exception applies to litigants who either initiate lawsuits in bad faith, with no expectation
of winning, or who defend them in bad faith, in order to cause the plaintiff great expense. Under these
circumstances, a court has the discretion to award attorneys’ fees to the winner. But this rule is not
infinitely flexible, and courts do not have complete freedom to award attorneys’ fees in any amount, but
only “reasonable” attorney’s fees.
K E Y T A K E A W A Y
Litigation is expensive. Getting a lawyer can be costly, unless you get a lawyer on a contingent fee. Not all
legal systems allow contingent fees. In many legal systems, the loser pays attorneys’ fees for both parties.
E X E R C I S E S
1. Mrs. Robinson’s attorney estimates that they will recover a million dollars from
Volkswagen in the Audi lawsuit. She has Mrs. Robinson sign a contract that gives her firm
one-third of any recovery after the firm’s expenses are deducted. The judge does in fact
award a million dollars, and the defendant pays. The firm’s expenses are $100,000. How
much does Mrs. Robinson get?
2. Harry Potter brings a lawsuit against Draco Malfoy in Chestershire, England, for slander,
a form of defamation. Potter alleges that Malfoy insists on calling him a mudblood. Ron
Weasley testifies, as does Neville Chamberlain. But Harry loses, because the court has no
conception of wizardry and cannot make sense of the case at all. In dismissing the case,
however, who (under English law) will bear the costs of the attorneys who have brought
the case for Potter and defended the matter for Malfoy?
3.8 Alternative Means of Resolving Disputes
L E A R N I N G O B J E C T I V E S
1. Understand how arbitration and mediation are frequently used alternatives to litigation.
2. Describe the differences between arbitration and mediation.
3. Explain why arbitration is final and binding.
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Disputes do not have to be settled in court. No law requires parties who have a legal dispute to seek judicial resolution
if they can resolve their disagreement privately or through some other public forum. In fact, the threat of a lawsuit can
frequently motivate parties toward private negotiation. Filing a lawsuit may convince one party that the other party is
serious. Or the parties may decide that they will come to terms privately rather than wait the three or four years it can
frequently take for a case to move up on the court calendar.
Arbitration
Beginning around 1980, a movement toward alternative dispute resolution began to gain force throughout
the United States. Bar associations, other private groups, and the courts themselves wanted to find
quicker and cheaper ways for litigants and potential litigants to settle certain types of quarrels than
through the courts. As a result, neighborhood justice centers or dispute resolution centers have sprung up
in communities. These are where people can come for help in settling disputes, of both civil and criminal
nature, that should not consume the time and money of the parties or courts in lengthy proceedings.
These alternative forums use a variety of methods, including arbitration, mediation, and conciliation, to
bring about agreement or at least closure of the dispute. These methods are not all alike, and their
differences are worth noting.
Arbitration is a type of adjudication. The parties use a private decision maker, the arbitrator, and the rules
of procedure are considerably more relaxed than those that apply in the courtroom. Arbitrators might be
retired judges, lawyers, or anyone with the kind of specialized knowledge and training that would be
useful in making a final, binding decision on the dispute. In a contractual relationship, the parties can
decide even before a dispute arises to use arbitration when the time comes. Or parties can decide after a
dispute arises to use arbitration instead of litigation. In a predispute arbitration agreement (often part of a
larger contract), the parties can spell out the rules of procedure to be used and the method for choosing
the arbitrator. For example, they may name the specific person or delegate the responsibility of choosing
to some neutral person, or they may each designate a person and the two designees may jointly pick a
third arbitrator.
Many arbitrations take place under the auspices of the American Arbitration Association, a private
organization headquartered in New York, with regional offices in many other cities. The association uses
published sets of rules for various types of arbitration (e.g., labor arbitration or commercial arbitration);
parties who provide in contracts for arbitration through the association are agreeing to be bound by the
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association’s rules. Similarly, the National Association of Securities Dealers provides arbitration services
for disputes between clients and brokerage firms. International commercial arbitration often takes place
through the auspices of the International Chamber of Commerce. A multilateral agreement known as the
Convention on the Recognition and Enforcement of Arbitral Awards provides that agreements to
arbitrate—and arbitral awards—will be enforced across national boundaries.
Arbitration has two advantages over litigation. First, it is usually much quicker, because the arbitrator
does not have a backlog of cases and because the procedures are simpler. Second, in complex cases, the
quality of the decision may be higher, because the parties can select an arbitrator with specialized
knowledge.
Under both federal and state law, arbitration is favored, and a decision rendered by an arbitrator is
binding by law and may be enforced by the courts. The arbitrator’s decision is final and binding, with very
few exceptions (such as fraud or manifest disregard of the law by the arbitrator or panel of arbitrators).
Saying that arbitration is favored means that if you have agreed to arbitration, you can’t go to court if the
other party wants you to arbitrate. Under the Federal Arbitration Act, the other party can go to court and
get a stay against your litigation and also get an order compelling you to go to arbitration.
Mediation
Unlike adjudication, mediation gives the neutral party no power to impose a decision. The mediator is a
go-between who attempts to help the parties negotiate a solution. The mediator will communicate the
parties’ positions to each other, will facilitate the finding of common ground, and will suggest outcomes.
But the parties have complete control: they may ignore the recommendations of the mediator entirely,
settle in their own way, find another mediator, agree to binding arbitration, go to court, or forget the
whole thing!
K E Y T A K E A W A Y
Litigation is not the only way to resolve disputes. Informal negotiation between the disputants usually
comes first, but both mediation and arbitration are available. Arbitration, though, is final and binding.
Once you agree to arbitrate, you will have a final, binding arbitral award that is enforceable through the
courts, and courts will almost never allow you to litigate after you have agreed to arbitrate.
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E X E R C I S E S
1. When Mrs. Robinson buys her Audi from Seaway, there is a paragraph in the bill of sale,
which both the dealer and Mrs. Robinson sign, that says, “In the event of any complaint
by customer/buyer against Seaway regarding the vehicle purchased herein, such
complaint shall not be litigated, but may only be arbitrated under the rules of the
American Arbitration Association and in accordance with New York law.” Mrs. Robinson
did not see the provision, doesn’t like it, and wants to bring a lawsuit in Oklahoma
against Seaway. What result?
2. Hendrik Koster (Netherlands) contracts with Automark, Inc. (a US company based in
Illinois) to supply Automark with a large quantity of valve cap gauges. He does, and
Automark fails to pay. Koster thinks he is owed $66,000. There is no agreement to
arbitrate or mediate. Can Koster make Automark mediate or arbitrate?
3. Suppose that there is an agreement between Koster and Automark to arbitrate. It says,
“The parties agree to arbitrate any dispute arising under this agreement in accordance
with the laws of the Netherlands and under the auspices of the International Chamber of
Commerce’s arbitration facility.” The International Chamber of Commerce has
arbitration rules and will appoint an arbitrator or arbitral panel in the event the parties
cannot agree on an arbitrator. The arbitration takes place in Geneva. Koster gets an
arbitral award for $66,000 plus interest. Automark does not participate in any way. Will
a court in Illinois enforce the arbitral award?
3.9 Cases
Burger King v. Rudzewicz
Burger King Corp. v. Rudzewicz
471 U.S. 462 (U.S. Supreme Court 1985)
Summary
Burger King Corp. is a Florida corporation with principal offices in Miami. It principally conducts
restaurant business through franchisees. The franchisees are licensed to use Burger King’s trademarks
and service marks in standardized restaurant facilities. Rudzewicz is a Michigan resident who, with a
partner (MacShara) operated a Burger King franchise in Drayton Plains, Michigan. Negotiations for
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setting up the franchise occurred in 1978 largely between Rudzewicz, his partner, and a regional office of
Burger King in Birmingham, Michigan, although some deals and concessions were made by Burger King
in Florida. A preliminary agreement was signed in February of 1979. Rudzewicz and MacShara assumed
operation of an existing facility in Drayton Plains and MacShara attended prescribed management
courses in Miami during the four months following Feb. 1979.
Rudzewicz and MacShara bought $165,000 worth of restaurant equipment from Burger King’s Davmor
Industries division in Miami. But before the final agreements were signed, the parties began to disagree
over site-development fees, building design, computation of monthly rent, and whether Rudzewicz and
MacShara could assign their liabilities to a corporation they had formed. Negotiations took place between
Rudzewicz, MacShara, and the Birmingham regional office; but Rudzewicz and MacShara learned that the
regional office had limited decision-making power and turned directly to Miami headquarters for their
concerns. The final agreement was signed by June 1979 and provided that the franchise relationship was
governed by Florida law, and called for payment of all required fees and forwarding of all relevant notices
to Miami headquarters.
The Drayton Plains restaurant did fairly well at first, but a recession in late 1979 caused the franchisees to
fall far behind in their monthly payments to Miami. Notice of default was sent from Miami to Rudzewicz,
who nevertheless continued to operate the restaurant as a Burger King franchise. Burger King sued in
federal district court for the southern district of Florida. Rudzewicz contested the court’s personal
jurisdiction over him, since he had never been to Florida.
The federal court looked to Florida’s long arm statute and held that it did have personal jurisdiction over
the non-resident franchisees, and awarded Burger King a quarter of a million dollars in contract damages
and enjoined the franchisees from further operation of the Drayton Plains facility. Franchisees appealed
to the 11th Circuit Court of Appeals and won a reversal based on lack of personal jurisdiction. Burger King
petitioned the Supreme Ct. for a writ of certiorari.
Justice Brennan delivered the opinion of the court.
The Due Process Clause protects an individual’s liberty interest in not being subject to the binding
judgments of a forum with which he has established no meaningful “contacts, ties, or relations.”
International Shoe Co. v. Washington. By requiring that individuals have “fair warning that a particular
activity may subject [them] to the jurisdiction of a foreign sovereign,” the Due Process Clause “gives a
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degree of predictability to the legal system that allows potential defendants to structure their primary
conduct with some minimum assurance as to where that conduct will and will not render them liable to
suit.”…
Where a forum seeks to assert specific jurisdiction over an out-of-state defendant who has not consented
to suit there, this “fair warning” requirement is satisfied if the defendant has “purposefully directed” his
activities at residents of the forum, and the litigation results from alleged injuries that “arise out of or
relate to” those activities, Thus “[t]he forum State does not exceed its powers under the Due Process
Clause if it asserts personal jurisdiction over a corporation that delivers its products into the stream of
commerce with the expectation that they will be purchased by consumers in the forum State” and those
products subsequently injure forum consumers. Similarly, a publisher who distributes magazines in a
distant State may fairly be held accountable in that forum for damages resulting there from an allegedly
defamatory story.…
…[T]he constitutional touchstone remains whether the defendant purposefully established “minimum
contacts” in the forum State.…In defining when it is that a potential defendant should “reasonably
anticipate” out-of-state litigation, the Court frequently has drawn from the reasoning of Hanson v.
Denckla, 357 U.S. 235, 253 (1958):
The unilateral activity of those who claim some relationship with a nonresident defendant cannot satisfy
the requirement of contact with the forum State. The application of that rule will vary with the quality and
nature of the defendant’s activity, but it is essential in each case that there be some act by which the
defendant purposefully avails itself of the privilege of conducting activities within the forum State, thus
invoking the benefits and protections of its laws.
This “purposeful availment” requirement ensures that a defendant will not be haled into a jurisdiction
solely as a result of “random,” “fortuitous,” or “attenuated” contacts, or of the “unilateral activity of
another party or a third person,” [Citations] Jurisdiction is proper, however, where the contacts
proximately result from actions by the defendant himself that create a “substantial connection” with the
forum State. [Citations] Thus where the defendant “deliberately” has engaged in significant activities
within a State, or has created “continuing obligations” between himself and residents of the forum, he
manifestly has availed himself of the privilege of conducting business there, and because his activities are
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shielded by “the benefits and protections” of the forum’s laws it is presumptively not unreasonable to
require him to submit to the burdens of litigation in that forum as well.
Jurisdiction in these circumstances may not be avoided merely because the defendant did not physically
enter the forum State. Although territorial presence frequently will enhance a potential defendant’s
affiliation with a State and reinforce the reasonable foreseeability of suit there, it is an inescapable fact of
modern commercial life that a substantial amount of business is transacted solely by mail and wire
communications across state lines, thus obviating the need for physical presence within a State in which
business is conducted. So long as a commercial actor’s efforts are “purposefully directed” toward residents
of another State, we have consistently rejected the notion that an absence of physical contacts can defeat
personal jurisdiction there.
Once it has been decided that a defendant purposefully established minimum contacts within the forum
State, these contacts may be considered in light of other factors to determine whether the assertion of
personal jurisdiction would comport with “fair play and substantial justice.” International Shoe Co. v.
Washington, 326 U.S., at 320. Thus courts in “appropriate case[s]” may evaluate “the burden on the
defendant,” “the forum State’s interest in adjudicating the dispute,” “the plaintiff’s interest in obtaining
convenient and effective relief,” “the interstate judicial system’s interest in obtaining the most efficient
resolution of controversies,” and the “shared interest of the several States in furthering fundamental
substantive social policies.” These considerations sometimes serve to establish the reasonableness of
jurisdiction upon a lesser showing of minimum contacts than would otherwise be required. [Citations]
Applying these principles to the case at hand, we believe there is substantial record evidence supporting
the District Court’s conclusion that the assertion of personal jurisdiction over Rudzewicz in Florida for the
alleged breach of his franchise agreement did not offend due process.…
In this case, no physical ties to Florida can be attributed to Rudzewicz other than MacShara’s brief
training course in Miami. Rudzewicz did not maintain offices in Florida and, for all that appears from the
record, has never even visited there. Yet this franchise dispute grew directly out of “a contract which had a
substantial connection with that State.” Eschewing the option of operating an independent local
enterprise, Rudzewicz deliberately “reach[ed] out beyond” Michigan and negotiated with a Florida
corporation for the purchase of a long-term franchise and the manifold benefits that would derive from
affiliation with a nationwide organization. Upon approval, he entered into a carefully structured 20-year
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relationship that envisioned continuing and wide-reaching contacts with Burger King in Florida. In light
of Rudzewicz’ voluntary acceptance of the long-term and exacting regulation of his business from Burger
King’s Miami headquarters, the “quality and nature” of his relationship to the company in Florida can in
no sense be viewed as “random,” “fortuitous,” or “attenuated.” Rudzewicz’ refusal to make the
contractually required payments in Miami, and his continued use of Burger King’s trademarks and
confidential business information after his termination, caused foreseeable injuries to the corporation in
Florida. For these reasons it was, at the very least, presumptively reasonable for Rudzewicz to be called to
account there for such injuries.
…Because Rudzewicz established a substantial and continuing relationship with Burger King’s Miami
headquarters, received fair notice from the contract documents and the course of dealing that he might be
subject to suit in Florida, and has failed to demonstrate how jurisdiction in that forum would otherwise be
fundamentally unfair, we conclude that the District Court’s exercise of jurisdiction pursuant to Fla. Stat.
48.193(1)(g) (Supp. 1984) did not offend due process. The judgment of the Court of Appeals is accordingly
reversed, and the case is remanded for further proceedings consistent with this opinion.
It is so ordered.
C A S E Q U E S T I O N S
1. Why did Burger King sue in Florida rather than in Michigan?
2. If Florida has a long-arm statute that tells Florida courts that it may exercise personal
jurisdiction over someone like Rudzewicz, why is the court talking about the due process
clause?
3. Why is this case in federal court rather than in a Florida state court?
4. If this case had been filed in state court in Florida, would Rudzewicz be required to come
to Florida? Explain.
Ferlito v. Johnson & Johnson
Ferlito v. Johnson & Johnson Products, Inc.
771 F. Supp. 196 (U.S. District Ct., Eastern District of Michigan 1991)
Gadola, J.
Plaintiffs Susan and Frank Ferlito, husband and wife, attended a Halloween party in 1984 dressed as
Mary (Mrs. Ferlito) and her little lamb (Mr. Ferlito). Mrs. Ferlito had constructed a lamb costume for her
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husband by gluing cotton batting manufactured by defendant Johnson & Johnson Products (“JJP”) to a
suit of long underwear. She had also used defendant’s product to fashion a headpiece, complete with ears.
The costume covered Mr. Ferlito from his head to his ankles, except for his face and hands, which were
blackened with Halloween paint. At the party Mr. Ferlito attempted to light his cigarette by using a butane
lighter. The flame passed close to his left arm, and the cotton batting on his left sleeve ignited. Plaintiffs
sued defendant for injuries they suffered from burns which covered approximately one-third of Mr.
Ferlito’s body.
Following a jury verdict entered for plaintiffs November 2, 1989, the Honorable Ralph M. Freeman
entered a judgment for plaintiff Frank Ferlito in the amount of $555,000 and for plaintiff Susan Ferlito in
the amount of $ 70,000. Judgment was entered November 7, 1989. Subsequently, on November 16, 1989,
defendant JJP filed a timely motion for judgment notwithstanding the verdict pursuant to Fed.R.Civ.P.
50(b) or, in the alternative, for new trial. Plaintiffs filed their response to defendant’s motion December
18, 1989; and defendant filed a reply January 4, 1990. Before reaching a decision on this motion, Judge
Freeman died. The case was reassigned to this court April 12, 1990.
MOTION FOR JUDGMENT NOTWITHSTANDING THE VERDICT
Defendant JJP filed two motions for a directed verdict, the first on October 27, 1989, at the close of
plaintiffs’ proofs, and the second on October 30, 1989, at the close of defendant’s proofs. Judge Freeman
denied both motions without prejudice. Judgment for plaintiffs was entered November 7, 1989; and
defendant’s instant motion, filed November 16, 1989, was filed in a timely manner.
The standard for determining whether to grant a j.n.o.v. is identical to the standard for evaluating a
motion for directed verdict:
In determining whether the evidence is sufficient, the trial court may neither weigh the evidence, pass on
the credibility of witnesses nor substitute its judgment for that of the jury. Rather, the evidence must be
viewed in the light most favorable to the party against whom the motion is made, drawing from that
evidence all reasonable inferences in his favor. If after reviewing the evidence…the trial court is of the
opinion that reasonable minds could not come to the result reached by the jury, then the motion for
j.n.o.v. should be granted.
To recover in a “failure to warn” product liability action, a plaintiff must prove each of the following four
elements of negligence: (1) that the defendant owed a duty to the plaintiff, (2) that the defendant violated
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that duty, (3) that the defendant’s breach of that duty was a proximate cause of the damages suffered by
the plaintiff, and (4) that the plaintiff suffered damages.
To establish a prima facie case that a manufacturer’s breach of its duty to warn was a proximate cause of
an injury sustained, a plaintiff must present evidence that the product would have been used differently
had the proffered warnings been given.
[1]
[Citations omitted] In the absence of evidence that a warning
would have prevented the harm complained of by altering the plaintiff’s conduct, the failure to warn
cannot be deemed a proximate cause of the plaintiff’s injury as a matter of law. [In accordance with
procedure in a diversity of citizenship case, such as this one, the court cites Michigan case law as the basis
for its legal interpretation.]
…
A manufacturer has a duty “to warn the purchasers or users of its product about dangers associated with
intended use.” Conversely, a manufacturer has no duty to warn of a danger arising from an unforeseeable
misuse of its product. [Citation] Thus, whether a manufacturer has a duty to warn depends on whether
the use of the product and the injury sustained by it are foreseeable. Gootee v. Colt Industries Inc., 712
F.2d 1057, 1065 (6th Cir. 1983); Owens v. Allis-Chalmers Corp., 414 Mich. 413, 425, 326 N.W.2d 372
(1982). Whether a plaintiff’s use of a product is foreseeable is a legal question to be resolved by the court.
Trotter, supra. Whether the resulting injury is foreseeable is a question of fact for the jury.
[2]
Thomas v.
International Harvester Co., 57 Mich. App. 79, 225 N.W.2d 175 (1974).
In the instant action no reasonable jury could find that JJP’s failure to warn of the flammability of cotton
batting was a proximate cause of plaintiffs’ injuries because plaintiffs failed to offer any evidence to
establish that a flammability warning on JJP’s cotton batting would have dissuaded them from using the
product in the manner that they did.
Plaintiffs repeatedly stated in their response brief that plaintiff Susan Ferlito testified that “she would
never again use cotton batting to make a costume…However, a review of the trial transcript reveals that
plaintiff Susan Ferlito never testified that she would never again use cotton batting to make a costume.
More importantly, the transcript contains no statement by plaintiff Susan Ferlito that a flammability
warning on defendant JJP’s product would have dissuaded her from using the cotton batting to construct
the costume in the first place. At oral argument counsel for plaintiffs conceded that there was no
testimony during the trial that either plaintiff Susan Ferlito or her husband, plaintiff Frank J. Ferlito,
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would have acted any different if there had been a flammability warning on the product’s package. The
absence of such testimony is fatal to plaintiffs’ case; for without it, plaintiffs have failed to prove
proximate cause, one of the essential elements of their negligence claim.
In addition, both plaintiffs testified that they knew that cotton batting burns when it is exposed to flame.
Susan Ferlito testified that she knew at the time she purchased the cotton batting that it would burn if
exposed to an open flame. Frank Ferlito testified that he knew at the time he appeared at the Halloween
party that cotton batting would burn if exposed to an open flame. His additional testimony that he would
not have intentionally put a flame to the cotton batting shows that he recognized the risk of injury of
which he claims JJP should have warned. Because both plaintiffs were already aware of the danger, a
warning by JJP would have been superfluous. Therefore, a reasonable jury could not have found that
JJP’s failure to provide a warning was a proximate cause of plaintiffs’ injuries.
The evidence in this case clearly demonstrated that neither the use to which plaintiffs put JJP’s product
nor the injuries arising from that use were foreseeable. Susan Ferlito testified that the idea for the
costume was hers alone. As described on the product’s package, its intended uses are for cleansing,
applying medications, and infant care. Plaintiffs’ showing that the product may be used on occasion in
classrooms for decorative purposes failed to demonstrate the foreseeability of an adult male encapsulating
himself from head to toe in cotton batting and then lighting up a cigarette.
ORDER
NOW, THEREFORE, IT IS HEREBY ORDERED that defendant JJP’s motion for judgment
notwithstanding the verdict is GRANTED.
IT IS FURTHER ORDERED that the judgment entered November 2, 1989, is SET ASIDE.
IT IS FURTHER ORDERED that the clerk will enter a judgment in favor of the defendant JJP.
C A S E Q U E S T I O N S
1. The opinion focuses on proximate cause. As we will see in Chapter 7 “Introduction to
Tort Law”, a negligence case cannot be won unless the plaintiff shows that the
defendant has breached a duty and that the defendant’s breach has actually and
proximately caused the damage complained of. What, exactly, is the alleged breach of
duty by the defendant here?
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2. Explain why Judge Gadola reasoning that JJP had no duty to warn in this case. After this
case, would they then have a duty to warn, knowing that someone might use their
product in this way?
[1] By “prima facie case,” the court means a case in which the plaintiff has presented all the basic elements of the
cause of action alleged in the complaint. If one or more elements of proof are missing, then the plaintiff has fallen
short of establishing a prima facie case, and the case should be dismissed (usually on the basis of a directed
verdict).
[2] Note the division of labor here: questions of law are for the judge, while questions of “fact” are for the jury.
Here, “foreseeability” is a fact question, while the judge retains authority over questions of law. The division
between questions of fact and questions of law is not an easy one, however.
Chapter 4
Constitutional Law and US Commerce
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Explain the historical importance and basic structure of the US Constitution.
2. Know what judicial review is and what it represents in terms of the separation of powers
between the executive, legislative, and judicial branches of government.
3. Locate the source of congressional power to regulate the economy under the
Constitution, and explain what limitations there are to the reach of congressional power
over interstate commerce.
4. Describe the different phases of congressional power over commerce, as adjudged by
the US Supreme Court over time.
5. Explain what power the states retain over commerce, and how the Supreme Court may
sometimes limit that power.
6. Describe how the Supreme Court, under the supremacy clause of the Constitution,
balances state and federal laws that may be wholly or partly in conflict.
7. Explain how the Bill of Rights relates to business activities in the United States.
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The US Constitution is the foundation for all of US law. Business and commerce are directly affected by the words,
meanings, and interpretations of the Constitution. Because it speaks in general terms, its provisions raise all kinds of
issues for scholars, lawyers, judges, politicians, and commentators. For example, arguments still rage over the nature
and meaning of “federalism,” the concept that there is shared governance between the states and the federal
government. The US Supreme Court is the ultimate arbiter of those disputes, and as such it has a unique role in the
legal system. It has assumed the power of judicial review, unique among federal systems globally, through which it
can strike down federal or state statutes that it believes violate the Constitution and can even void the president’s
executive orders if they are contrary to the Constitution’s language. No knowledgeable citizen or businessperson can
afford to be ignorant of its basic provisions.
4.1 Basic Aspects of the US Constitution
L E A R N I N G O B J E C T I V E S
1. Describe the American values that are reflected in the US Constitution.
2. Know what federalism means, along with separation of powers.
3. Explain the process of amending the Constitution and why judicial review is particularly
significant.
The Constitution as Reflecting American Values
In the US, the one document to which all public officials and military personnel pledge their unswerving
allegiance is the Constitution. If you serve, you are asked to “support and defend” the Constitution
“against all enemies, foreign and domestic.” The oath usually includes a statement that you swear that this
oath is taken freely, honestly, and without “any purpose of evasion.” This loyalty oath may be related to a
time—fifty years ago—when “un-American” activities were under investigation in Congress and the press;
the fear of communism (as antithetical to American values and principles) was paramount. As you look at
the Constitution and how it affects the legal environment of business, please consider what basic values it
may impart to us and what makes it uniquely American and worth defending “against all enemies, foreign
and domestic.”
In Article I, the Constitution places the legislature first and prescribes the ways in which representatives
are elected to public office. Article I balances influence in the federal legislature between large states and
small states by creating a Senate in which the smaller states (by population) as well as the larger states
have two votes. In Article II, the Constitution sets forth the powers and responsibilities of the branch—the
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presidency—and makes it clear that the president should be the commander in chief of the armed forces.
Article II also gives states rather than individuals (through the Electoral College) a clear role in the
election process. Article III creates the federal judiciary, and the Bill of Rights, adopted in 1791, makes
clear that individual rights must be preserved against activities of the federal government. In general, the
idea of rights is particularly strong.
The Constitution itself speaks of rights in fairly general terms, and the judicial interpretation of various
rights has been in flux. The “right” of a person to own another person was notably affirmed by the
Supreme Court in the Dred Scott decision in 1857.
[1]
The “right” of a child to freely contract for long,
tedious hours of work was upheld by the court in Hammer v. Dagenhart in 1918. Both decisions were
later repudiated, just as the decision that a woman has a “right” to an abortion in the first trimester of
pregnancy could later be repudiated if Roe v. Wade is overturned by the Supreme Court.
[2]
General Structure of the Constitution
Look at the Constitution. Notice that there are seven articles, starting with Article I (legislative powers),
Article II (executive branch), and Article III (judiciary). Notice that there is no separate article for
administrative agencies. The Constitution also declares that it is “the supreme Law of the Land” (Article
VI). Following Article VII are the ten amendments adopted in 1791 that are referred to as the Bill of
Rights. Notice also that in 1868, a new amendment, the Fourteenth, was adopted, requiring states to
provide “due process” and “equal protection of the laws” to citizens of the United States.
Federalism
The partnership created in the Constitution between the states and the federal government is
called federalism. The Constitution is a document created by the states in which certain powers are
delegated to the national government, and other powers are reserved to the states. This is made explicit in
the Tenth Amendment.
Separation of Powers and Judicial Review
Because the Founding Fathers wanted to ensure that no single branch of the government, especially the
executive branch, would be ascendant over the others, they created various checks and balances to ensure
that each of the three principal branches had ways to limit or modify the power of the others. This is
known as theseparation of powers. Thus the president retains veto power, but the House of
Representatives is entrusted with the power to initiate spending bills.
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Power sharing was evident in the basic design of Congress, the federal legislative branch. The basic power
imbalance was between the large states (with greater population) and the smaller ones (such as
Delaware). The smaller ones feared a loss of sovereignty if they could be outvoted by the larger ones, so
the federal legislature was constructed to guarantee two Senate seats for every state, no matter how small.
The Senate was also given great responsibility in ratifying treaties and judicial nominations. The net effect
of this today is that senators from a very small number of states can block treaties and other important
legislation. The power of small states is also magnified by the Senate’s cloture rule, which currently
requires sixty out of one hundred senators to vote to bring a bill to the floor for an up-or-down vote.
Because the Constitution often speaks in general terms (with broad phrases such as “due process” and
“equal protection”), reasonable people have disagreed as to how those terms apply in specific cases. The
United States is unique among industrialized democracies in having a Supreme Court that reserves for
itself that exclusive power to interpret what the Constitution means. The famous case of Marbury v.
Madison began that tradition in 1803, when the Supreme Court had marginal importance in the new
republic. The decision in Bush v. Gore, decided in December of 2000, illustrates the power of the court to
shape our destiny as a nation. In that case, the court overturned a ruling by the Florida Supreme Court
regarding the way to proceed on a recount of the Florida vote for the presidency. The court’s ruling was
purportedly based on the “equal protection of the laws” provision in the Fourteenth Amendment.
From Marbury to the present day, the Supreme Court has articulated the view that the US Constitution
sets the framework for all other US laws, whether statutory or judicially created. Thus any statute (or
portion thereof) or legal ruling (judicial or administrative) in conflict with the Constitution is not
enforceable. And as the Bush v. Gore decision indicates, the states are not entirely free to do what they
might choose; their own sovereignty is limited by their union with the other states in a federal sovereign.
If the Supreme Court makes a “bad decision” as to what the Constitution means, it is not easily
overturned. Either the court must change its mind (which it seldom does) or two-thirds of Congress and
three-fourths of the states must make an amendment (Article V).
Because the Supreme Court has this power of judicial review, there have been many arguments about how
it should be exercised and what kind of “philosophy” a Supreme Court justice should have. President
Richard Nixon often said that a Supreme Court justice should “strictly construe” the Constitution and not
add to its language. Finding law in the Constitution was “judicial activism” rather than “judicial restraint.”
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The general philosophy behind the call for “strict constructionist” justices is that legislatures make laws in
accord with the wishes of the majority, and so unelected judges should not make law according to their
own views and values. Nixon had in mind the 1960s Warren court, which “found” rights in the
Constitution that were not specifically mentioned—the right of privacy, for example. In later years, critics
of the Rehnquist court would charge that it “found” rights that were not specifically mentioned, such as
the right of states to be free from federal antidiscrimination laws. See, for example, Kimel v. Florida
Board of Regents, or the Citizens United v. Federal Election Commission case (Section 4.6.5), which held
that corporations are “persons” with “free speech rights” that include spending unlimited amounts of
money in campaign donations and political advocacy.
[3]
Because Roe v. Wade has been so controversial, this chapter includes a seminal case on “the right of
privacy,” Griswold v. Connecticut, Section 4.6.1. Was the court was correct in recognizing a “right of
privacy” in Griswold? This may not seem like a “business case,” but consider: the manufacture and
distribution of birth control devices is a highly profitable (and legal) business in every US state. Moreover,
Griswold illustrates another important and much-debated concept in US constitutional law: substantive
due process (see Section 4.5.3 “Fifth Amendment”). The problem of judicial review and its proper scope is
brought into sharp focus in the abortion controversy. Abortion became a lucrative service business
after Roe v. Wade was decided in 1973. That has gradually changed, with state laws that have limited
rather than overruledRoe v. Wade and with persistent antiabortion protests, killings of abortion doctors,
and efforts to publicize the human nature of the fetuses being aborted. The key here is to understand that
there is no explicit mention in the Constitution of any right of privacy. As Justice Harry Blackmun argued
in his majority opinion in Roe v. Wade,
The Constitution does not explicitly mention any right of privacy. In a line of decisions, however, the
Court has recognized that a right of personal privacy or a guarantee of certain areas or zones of privacy,
does exist under the Constitution.…[T]hey also make it clear that the right has some extension to activities
relating to marriage…procreation…contraception…family relationships…and child rearing and
education.…The right of privacy…is broad enough to encompass a woman’s decision whether or not to
terminate her pregnancy.
In short, justices interpreting the Constitution wield quiet yet enormous power through judicial review. In
deciding that the right of privacy applied to a woman’s decision to abort in the first trimester, the
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Supreme Court did not act on the basis of a popular mandate or clear and unequivocal language in the
Constitution, and it made illegal any state or federal legislative or executive action contrary to its
interpretation. Only a constitutional amendment or the court’s repudiation of Roe v. Wade as a precedent
could change that interpretation.
K E Y T A K E A W A Y
The Constitution gives voice to the idea that people have basic rights and that a civilian president is also
the commander in chief of the armed forces. It gives instructions as to how the various branches of
government must share power and also tries to balance power between the states and the federal
government. It does not expressly allow for judicial review, but the Supreme Court’s ability to declare
what laws are (or are not) constitutional has given the judicial branch a kind of power not seen in other
industrialized democracies.
E X E R C I S E S
1. Suppose the Supreme Court declares that Congress and the president cannot authorize
the indefinite detention of terrorist suspects without a trial of some sort, whether
military or civilian. Suppose also that the people of the United States favor such
indefinite detention and that Congress wants to pass a law rebuking the court’s decision.
What kind of law would have to be passed, by what institutions, and by what voting
percentages?
2. When does a prior decision of the Supreme Court deserve overturning? Name one
decision of the Supreme Court that you think is no longer “good law.” Does the court
have to wait one hundred years to overturn its prior case precedents?
[1] In Scott v. Sanford (the Dred Scott decision), the court states that Scott should remain a slave, that as a slave he
is not a citizen of the United States and thus not eligible to bring suit in a federal court, and that as a slave he is
personal property and thus has never been free.
[2] Roe v. Wade, 410 US 113 (1973).
[3] Kimel v. Florida Board of Regents, 528 US 62 (2000).
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4.2 The Commerce Clause
L E A R N I N G O B J E C T I V E S
1. Name the specific clause through which Congress has the power to regulate commerce.
What, specifically, does this clause say?
2. Explain how early decisions of the Supreme Court interpreted the scope of the
commerce clause and how that impacted the legislative proposals and programs of
Franklin Delano Roosevelt during the Great Depression.
3. Describe both the wider use of the commerce clause from World War II through the
1990s and the limitations the Supreme Court imposed in Lopez and other cases.
First, turn to Article I, Section 8. The commerce clause gives Congress the exclusive power to make laws
relating to foreign trade and commerce and to commerce among the various states. Most of the federally
created legal environment springs from this one clause: if Congress is not authorized in the Constitution
to make certain laws, then it acts unconstitutionally and its actions may be ruled unconstitutional by the
Supreme Court. Lately, the Supreme Court has not been shy about ruling acts of Congress
unconstitutional.
Here are the first five parts of Article I, Section 8, which sets forth the powers of the federal legislature.
The commerce clause is in boldface. It is short, but most federal legislation affecting business depends on
this very clause:
Section 8
[Clause 1] The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the
Debts and provide for the common Defence and general Welfare of the United States; but all Duties,
Imposts and Excises shall be uniform throughout the United States;
[Clause 2] To borrow Money on the credit of the United States;
[Clause 3] To regulate Commerce with foreign Nations, and among the several States, and
with the Indian Tribes;
[Clause 4] To establish a uniform Rule of Naturalization, and uniform Laws on the subject of
Bankruptcies throughout the United States;
[Clause 5] To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights
and Measures;
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Early Commerce Clause Cases
For many years, the Supreme Court was very strict in applying the commerce clause: Congress could only
use it to legislate aspects of the movement of goods from one state to another. Anything else was deemed
local rather than national. For example, InHammer v. Dagenhart, decided in 1918, a 1916 federal statute
had barred transportation in interstate commerce of goods produced in mines or factories employing
children under fourteen or employing children fourteen and above for more than eight hours a day. A
complaint was filed in the US District Court for the Western District of North Carolina by a father in his
own behalf and on behalf of his two minor sons, one under the age of fourteen years and the other
between fourteen and sixteen years, who were employees in a cotton mill in Charlotte, North Carolina.
The father’s lawsuit asked the court to enjoin (block) the enforcement of the act of Congress intended to
prevent interstate commerce in the products of child labor.
The Supreme Court saw the issue as whether Congress had the power under the commerce clause to
control interstate shipment of goods made by children under the age of fourteen. The court found that
Congress did not. The court cited several cases that had considered what interstate commerce could be
constitutionally regulated by Congress. In Hipolite Egg Co. v. United States, the Supreme Court had
sustained the power of Congress to pass the Pure Food and Drug Act, which prohibited the introduction
into the states by means of interstate commerce impure foods and drugs.
[1]
In Hoke v. United States, the
Supreme Court had sustained the constitutionality of the so-called White Slave Traffic Act of 1910,
whereby the transportation of a woman in interstate commerce for the purpose of prostitution was
forbidden. In that case, the court said that Congress had the power to protect the channels of interstate
commerce: “If the facility of interstate transportation can be taken away from the demoralization of
lotteries, the debasement of obscene literature, the contagion of diseased cattle or persons, the impurity of
food and drugs, the like facility can be taken away from the systematic enticement to, and the enslavement
in prostitution and debauchery of women, and, more insistently, of girls.”
[2]
In each of those instances, the Supreme Court said, “[T]he use of interstate transportation was necessary
to the accomplishment of harmful results.” In other words, although the power over interstate
transportation was to regulate, that could only be accomplished by prohibiting the use of the facilities of
interstate commerce to effect the evil intended. But in Hammer v. Dagenhart, that essential element was
lacking. The law passed by Congress aimed to standardize among all the states the ages at which children
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could be employed in mining and manufacturing, while the goods themselves are harmless. Once the
labor is done and the articles have left the factory, the “labor of their production is over, and the mere fact
that they were intended for interstate commerce transportation does not make their production subject to
federal control under the commerce power.”
In short, the early use of the commerce clause was limited to the movement of physical goods between
states. Just because something might enter the channels of interstate commerce later on does not make it
a fit subject for national regulation. The production of articles intended for interstate commerce is a
matter of local regulation. The court therefore upheld the result from the district and circuit court of
appeals; the application of the federal law was enjoined. Goods produced by children under the age of
fourteen could be shipped anywhere in the United States without violating the federal law.
From the New Deal to the New Frontier and the Great Society:1930s–1970
During the global depression of the 1930s, the US economy saw jobless rates of a third of all workers, and
President Roosevelt’s New Deal program required more active federal legislation. Included in the New
Deal program was the recognition of a “right” to form labor unions without undue interference from
employers. Congress created the National Labor Relations Board (NLRB) in 1935 to investigate and to
enjoin employer practices that violated this right.
In NLRB v. Jones & Laughlin Steel Corporation, a union dispute with management at a large steel-
producing facility near Pittsburgh, Pennsylvania, became a court case. In this case, the NLRB had charged
the Jones & Laughlin Steel Corporation with discriminating against employees who were union members.
The company’s position was that the law authorizing the NLRB was unconstitutional, exceeding
Congress’s powers. The court held that the act was narrowly constructed so as to regulate industrial
activities that had the potential to restrict interstate commerce. The earlier decisions under the commerce
clause to the effect that labor relations had only an indirect effect on commerce were effectively reversed.
Since the ability of employees to engage in collective bargaining (one activity protected by the act) is “an
essential condition of industrial peace,” the national government was justified in penalizing corporations
engaging in interstate commerce that “refuse to confer and negotiate” with their workers. This was,
however, a close decision, and the switch of one justice made this ruling possible. Without this switch, the
New Deal agenda would have been effectively derailed.
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The Substantial Effects Doctrine: World War II to the 1990s
Subsequent to NLRB v. Jones & Laughlin Steel Corporation, Congress and the courts generally accepted
that even modest impacts on interstate commerce were “reachable” by federal legislation. For example,
the case of Wickard v. Filburn, from 1942, represents a fairly long reach for Congress in regulating what
appear to be very local economic decisions (Section 4.6.2).
Wickard established that “substantial effects” in interstate commerce could be very local indeed! But
commerce clause challenges to federal legislation continued. In the 1960s, the Civil Rights Act of 1964 was
challenged on the ground that Congress lacked the power under the commerce clause to regulate what
was otherwise fairly local conduct. For example, Title II of the act prohibited racial discrimination in
public accommodations (such as hotels, motels, and restaurants), leading to the famous case
of Katzenbach v. McClung (1964).
Ollie McClung’s barbeque place in Birmingham, Alabama, allowed “colored” people to buy takeout at the
back of the restaurant but not to sit down with “white” folks inside. The US attorney sought a court order
to require Ollie to serve all races and colors, but Ollie resisted on commerce clause grounds: the federal
government had no business regulating a purely local establishment. Indeed, Ollie did not advertise
nationally, or even regionally, and had customers only from the local area. But the court found that some
42 percent of the supplies for Ollie’s restaurant had moved in the channels of interstate commerce. This
was enough to sustain federal regulation based on the commerce clause.
[3]
For nearly thirty years following, it was widely assumed that Congress could almost always find some
interstate commerce connection for any law it might pass. It thus came as something of a shock in 1995
when the Rehnquist court decided U.S. v. Lopez. Lopez had been convicted under a federal law that
prohibited possession of firearms within 1,000 feet of a school. The law was part of a twenty-year trend
(roughly 1970 to 1990) for senators and congressmen to pass laws that were tough on crime. Lopez’s
lawyer admitted that Lopez had had a gun within 1,000 feet of a San Antonio school yard but challenged
the law itself, arguing that Congress exceeded its authority under the commerce clause in passing this
legislation. The US government’s Solicitor General argued on behalf of the Department of Justice to the
Supreme Court that Congress was within its constitutional rights under the commerce clause because
education of the future workforce was the foundation for a sound economy and because guns at or near
school yards detracted from students’ education. The court rejected this analysis, noting that with the
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government’s analysis, an interstate commerce connection could be conjured from almost anything.
Lopez went free because the law itself was unconstitutional, according to the court.
Congress made no attempt to pass similar legislation after the case was decided. But in passing
subsequent legislation, Congress was often careful to make a record as to why it believed it was addressing
a problem that related to interstate commerce. In 1994, Congress passed the Violence Against Women Act
(VAWA), having held hearings to establish why violence against women on a local level would impair
interstate commerce. In 1994, while enrolled at Virginia Polytechnic Institute (Virginia Tech), Christy
Brzonkala alleged that Antonio Morrison and James Crawford, both students and varsity football players
at Virginia Tech, had raped her. In 1995, Brzonkala filed a complaint against Morrison and Crawford
under Virginia Tech’s sexual assault policy. After a hearing, Morrison was found guilty of sexual assault
and sentenced to immediate suspension for two semesters. Crawford was not punished. A second hearing
again found Morrison guilty. After an appeal through the university’s administrative system, Morrison’s
punishment was set aside, as it was found to be “excessive.” Ultimately, Brzonkala dropped out of the
university. Brzonkala then sued Morrison, Crawford, and Virginia Tech in federal district court, alleging
that Morrison’s and Crawford’s attack violated 42 USC Section 13981, part of the VAWA), which provides
a federal civil remedy for the victims of gender-motivated violence. Morrison and Crawford moved to
dismiss Brzonkala’s suit on the ground that Section 13981’s civil remedy was unconstitutional. In
dismissing the complaint, the district court found that that Congress lacked authority to enact Section
13981 under either the commerce clause or the Fourteenth Amendment, which Congress had explicitly
identified as the sources of federal authority for the VAWA. Ultimately, the court of appeals affirmed, as
did the Supreme Court.
The Supreme Court held that Congress lacked the authority to enact a statute under the commerce clause
or the Fourteenth Amendment because the statute did not regulate an activity that substantially affected
interstate commerce nor did it redress harm caused by the state. Chief Justice William H. Rehnquist
wrote for the court that “under our federal system that remedy must be provided by the Commonwealth of
Virginia, and not by the United States.” Dissenting, Justice Stephen G. Breyer argued that the majority
opinion “illustrates the difficulty of finding a workable judicial Commerce Clause touchstone.” Justice
David H. Souter, dissenting, noted that VAWA contained a “mountain of data assembled by
Congress…showing the effects of violence against women on interstate commerce.”
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The absence of a workable judicial commerce clause touchstone remains. In 1996, California voters
passed the Compassionate Use Act, legalizing marijuana for medical use. California’s law conflicted with
the federal Controlled Substances Act (CSA), which banned possession of marijuana. After the Drug
Enforcement Administration (DEA) seized doctor-prescribed marijuana from a patient’s home, a group of
medical marijuana users sued the DEA and US Attorney General John Ashcroft in federal district court.
The medical marijuana users argued that the CSA—which Congress passed using its constitutional power
to regulate interstate commerce—exceeded Congress’s commerce clause power. The district court ruled
against the group, but the Ninth Circuit Court of Appeals reversed and ruled the CSA unconstitutional
because it applied to medical marijuana use solely within one state. In doing so, the Ninth Circuit relied
on U.S. v. Lopez (1995) and U.S. v. Morrison (2000) to say that using medical marijuana did not
“substantially affect” interstate commerce and therefore could not be regulated by Congress.
But by a 6–3 majority, the Supreme Court held that the commerce clause gave Congress authority to
prohibit the local cultivation and use of marijuana, despite state law to the contrary. Justice John Paul
Stevens argued that the court’s precedents established Congress’s commerce clause power to regulate
purely local activities that are part of a “class of activities” with a substantial effect on interstate
commerce. The majority argued that Congress could ban local marijuana use because it was part of such a
class of activities: the national marijuana market. Local use affected supply and demand in the national
marijuana market, making the regulation of intrastate use “essential” to regulating the drug’s national
market.
Notice how similar this reasoning is to the court’s earlier reasoning in Wickard v. Filburn (Section 4.6.2).
In contrast, the court’s conservative wing was adamant that federal power had been exceeded. Justice
Clarence Thomas’s dissent in Gonzalez v. Raich stated that Raich’s local cultivation and consumption of
marijuana was not “Commerce…among the several States.” Representing the “originalist” view that the
Constitution should mostly mean what the Founders meant it to mean, he also said that in the early days
of the republic, it would have been unthinkable that Congress could prohibit the local cultivation,
possession, and consumption of marijuana.
K E Y T A K E A W A Y
The commerce clause is the basis on which the federal government regulates interstate economic activity.
The phrase “interstate commerce” has been subject to differing interpretations by the Supreme Court
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over the past one hundred years. There are certain matters that are essentially local or intrastate, but the
range of federal involvement in local matters is still considerable.
E X E R C I S E S
1. Why would Congress have power under the Civil Rights Act of 1964 to require
restaurants and hotels to not discriminate against interstate travelers on the basis of
race, color, sex, religion, or national origin? Suppose the Holiday Restaurant near I-80 in
Des Moines, Iowa, has a sign that says, “We reserve the right to refuse service to any
Muslim or person of Middle Eastern descent.” Suppose also that the restaurant is very
popular locally and that only 40 percent of its patrons are travelers on I-80. Are the
owners of the Holiday Restaurant in violation of the Civil Rights Act of 1964? What would
happen if the owners resisted enforcement by claiming that Title II of the act (relating to
“public accommodations” such as hotels, motels, and restaurants) was unconstitutional?
2. If the Supreme Court were to go back to the days of Hammer v. Dagenhart and rule that
only goods and services involving interstate movement could be subject to federal law,
what kinds of federal programs might be lacking a sound basis in the commerce clause?
“Obamacare”? Medicare? Homeland security? Social Security? What other powers are
granted to Congress under the Constitution to legislate for the general good of society?
[1] Hipolite Egg Co. v. United States, 220 US 45 (1911).
[2] Hoke v. United States, 227 US 308 (1913).
[3] Katzenbach v. McClung, 379 US 294 (1964).
4.3 Dormant Commerce Clause
L E A R N I N G O B J E C T I V E S
1. Understand that when Congress does not exercise its powers under the commerce
clause, the Supreme Court may still limit state legislation that discriminates against
interstate commerce or places an undue burden on interstate commerce.
2. Distinguish between “discrimination” dormant-commerce-clause cases and “undue
burden” dormant-commerce-clause cases.
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Congress has the power to legislate under the commerce clause and often does legislate. For example,
Congress might say that trucks moving on interstate highways must not be more than seventy feet in
length. But if Congress does not exercise its powers and regulate in certain areas (such as the size and
length of trucks on interstate highways), states may make their own rules. States may do so under the so-
called historic police powers of states that were never yielded up to the federal government.
These police powers can be broadly exercised by states for purposes of health, education, welfare, safety,
morals, and the environment. But the Supreme Court has reserved for itself the power to determine when
state action is excessive, even when Congress has not used the commerce clause to regulate. This power is
claimed to exist in the dormant commerce clause.
There are two ways that a state may violate the dormant commerce clause. If a state passes a law that is an
“undue burden” on interstate commerce or that “discriminates” against interstate commerce, it will be
struck down. Kassel v. Consolidated Freightways, in Section 4.7 “Summary and Exercises”, is an example
of a case where Iowa imposed an undue burden on interstate commerce by prohibiting double trailers on
its highways.
[1]
Iowa’s prohibition was judicially declared void when the Supreme Court judged it to be an
undue burden.
Discrimination cases such as Hunt v. Washington Apple Advertising Commission(Section 4.6 “Cases”)
pose a different standard. The court has been fairly inflexible here: if one state discriminates in its
treatment of any article of commerce based on its state of origin, the court will strike down the law. For
example, in Oregon Waste Systems v. Department of Environmental Quality, the state wanted to place a
slightly higher charge on waste coming from out of state.
[2]
The state’s reasoning was that in-state
residents had already contributed to roads and other infrastructure and that tipping fees at waste facilities
should reflect the prior contributions of in-state companies and residents. Out-of-state waste handlers
who wanted to use Oregon landfills objected and won their dormant commerce clause claim that Oregon’s
law discriminated “on its face” against interstate commerce. Under the Supreme Court’s rulings, anything
that moves in channels of interstate commerce is “commerce,” even if someone is paying to get rid of
something instead of buying something.
Thus the states are bound by Supreme Court decisions under the dormant commerce clause to do nothing
that differentiates between articles of commerce that originate from within the state from those that
originate elsewhere. If Michigan were to let counties decide for themselves whether to take garbage from
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outside of the county or not, this could also be a discrimination based on a place of origin outside the
state. (Suppose, for instance, each county were to decide not to take waste from outside the county; then
all Michigan counties would effectively be excluding waste from outside of Michigan, which is
discriminatory.)
[3]
The Supreme Court probably would uphold any solid waste requirements that did not differentiate on the
basis of origin. If, for example, all waste had to be inspected for specific hazards, then the law would apply
equally to in-state and out-of-state garbage. Because this is the dormant commerce clause, Congress could
still act (i.e., it could use its broad commerce clause powers) to say that states are free to keep out-of-state
waste from coming into their own borders. But Congress has declined to do so. What follows is a
statement from one of the US senators from Michigan, Carl Levin, in 2003, regarding the significant
amounts of waste that were coming into Michigan from Toronto, Canada.
Dealing with Unwelcome Waste
Senator Carl Levin, January 2003
Michigan is facing an intolerable situation with regard to the importation of waste from other states and
Canada.
Canada is the largest source of waste imports to Michigan. Approximately 65 truckloads of waste come in
to Michigan per day from Toronto alone, and an estimated 110–130 trucks come in from Canada each day.
This problem isn’t going to get any better. Ontario’s waste shipments are growing as the Toronto area
signs new contracts for waste disposal here and closes its two remaining landfills. At the beginning of
1999, the Toronto area was generating about 2.8 million tons of waste annually, about 700,000 tons of
which were shipped to Michigan. By early this year, barring unforeseen developments, the entire 2.8
million tons will be shipped to Michigan for disposal.
Why can’t Canada dispose of its trash in Canada? They say that after 20 years of searching they have not
been able to find a suitable Ontario site for Toronto’s garbage. Ontario has about 345,000 square miles
compared to Michigan’s 57,000 square miles. With six times the land mass, that argument is laughable.
The Michigan Department of Environmental Quality estimates that, for every five years of disposal of
Canadian waste at the current usage volume, Michigan is losing a full year of landfill capacity. The
environmental impacts on landfills, including groundwater contamination, noise pollution and foul odors,
are exacerbated by the significant increase in the use of our landfills from sources outside of Michigan.
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I have teamed up with Senator Stabenow and Congressman Dingell to introduce legislation that would
strengthen our ability to stop shipments of waste from Canada.
We have protections contained in a 17 year-old international agreement between the U.S. and Canada
called the Agreement Concerning the Transboundary Movement of Hazardous Waste. The U.S. and
Canada entered into this agreement in 1986 to allow the shipment of hazardous waste across the
U.S./Canadian border for treatment, storage or disposal. In 1992, the two countries decided to add
municipal solid waste to the agreement. To protect both countries, the agreement requires notification of
shipments to the importing country and it also provides that the importing country may withdraw consent
for shipments. Both reasons are evidence that these shipments were intended to be limited. However, the
agreement’s provisions have not been enforced by the United States.
Canada could not export waste to Michigan without the 1986 agreement, but the U.S. has not
implemented the provisions that are designed to protect the people of Michigan. Although those of us that
introduced this legislation believe that the Environmental Protection Agency has the authority to enforce
this agreement, they have not done so. Our bill would require the EPA [Environmental Protection Agency]
to enforce the agreement.
In order to protect the health and welfare of the citizens of Michigan and our environment, we must
consider the impact of the importation of trash on state and local recycling efforts, landfill capacity, air
emissions, road deterioration resulting from increased vehicular traffic and public health and the
environment.
Our bill would require the EPA to consider these factors in determining whether to accept imports of trash
from Canada. It is my strong view that such a review should lead the EPA to say “no” to the status quo of
trash imports.
K E Y T A K E A W A Y
Where Congress does not act pursuant to its commerce clause powers, the states are free to legislate on
matters of commerce under their historic police powers. However, the Supreme Court has set limits on
such powers. Specifically, states may not impose undue burdens on interstate commerce and may not
discriminate against articles in interstate commerce.
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E X E R C I S E S
1. Suppose that the state of New Jersey wishes to limit the amount of hazardous waste
that enters into its landfills. The general assembly in New Jersey passes a law that
specifically forbids any hazardous waste from entering into the state. All landfills are
subject to tight regulations that will allow certain kinds of hazardous wastes originating
in New Jersey to be put in New Jersey landfills but that impose significant criminal fines
on landfill operators that accept out-of-state hazardous waste. The Baldessari Brothers
Landfill in Linden, New Jersey, is fined for taking hazardous waste from a New York State
transporter and appeals that ruling on the basis that New Jersey’s law is
unconstitutional. What is the result?
2. The state of Arizona determines through its legislature that trains passing through the
state cannot be longer than seventy cars. There is some evidence that in Eastern US
states longer trains pose some safety hazards. There is less evidence that long trains are
a problem in Western states. Several major railroads find the Arizona legislation costly
and burdensome and challenge the legislation after applied-for permits for longer trains
are denied. What kind of dormant commerce clause challenge is this, and what would it
take for the challenge to be successful?
4.4 Preemption: The Supremacy Clause
L E A R N I N G O B J E C T I V E S
1. Understand the role of the supremacy clause in the balance between state and federal
power.
2. Give examples of cases where state legislation is preempted by federal law and cases
where state legislation is not preempted by federal law.
When Congress does use its power under the commerce clause, it can expressly state that it wishes to have
exclusive regulatory authority. For example, when Congress determined in the 1950s to promote nuclear
power (“atoms for peace”), it set up the Nuclear Regulatory Commission and provided a limitation of
liability for nuclear power plants in case of a nuclear accident. The states were expressly told to stay out of
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the business of regulating nuclear power or the movement of nuclear materials. Thus Rochester,
Minnesota, or Berkeley, California, could declare itself a nuclear-free zone, but the federal government
would have preempted such legislation. If Michigan wished to set safety standards at Detroit Edison’s
Fermi II nuclear reactor that were more stringent than the federal Nuclear Regulatory Commission’s
standards, Michigan’s standards would be preempted and thus be void.
Even where Congress does not expressly preempt state action, such action may be impliedly pre-empted.
States cannot constitutionally pass laws that interfere with the accomplishment of the purposes of the
federal law. Suppose, for example, that Congress passes a comprehensive law that sets standards for
foreign vessels to enter the navigable waters and ports of the United States. If a state creates a law that
sets standards that conflict with the federal law or sets standards so burdensome that they interfere with
federal law, the doctrine of preemption will (in accordance with the supremacy clause) void the state
law or whatever parts of it are inconsistent with federal law.
But Congress can allow what might appear to be inconsistencies; the existence of federal statutory
standards does not always mean that local and state standards cannot be more stringent. If California
wants cleaner air or water than other states, it can set stricter standards—nothing in the Clean Water Act
or Clean Air Act forbids the state from setting stricter pollution standards. As the auto industry well
knows, California has set stricter standards for auto emissions. Since the 1980s, most automakers have
made both a federal car and a California car, because federal Clean Air Act emissions restrictions do not
preempt more rigorous state standards.
Large industries and companies actually prefer regulation at the national level. It is easier for a large
company or industry association to lobby in Washington, DC, than to lobby in fifty different states.
Accordingly, industry often asks Congress to put preemptive language into its statutes. The tobacco
industry is a case in point.
The cigarette warning legislation of the 1960s (where the federal government required warning labels on
cigarette packages) effectively preempted state negligence claims based on failure to warn. When the
family of a lifetime smoker who had died sued in New Jersey court, one cause of action was the company’s
failure to warn of the dangers of its product. The Supreme Court reversed the jury’s award based on the
federal preemption of failure to warn claims under state law.
[1]
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The Supremacy Clause
Article VI
This Constitution, and the Laws of the United States which shall be made in Pursuance thereof; and all
Treaties made, or which shall be made, under the Authority of the United States, shall be the supreme
Law of the Land; and the Judges in every State shall be bound thereby, any Thing in the Constitution or
Laws of any State to the Contrary notwithstanding.
The preemption doctrine derives from the supremacy clause of the Constitution, which states that the
“Constitution and the Laws of the United States…shall be the supreme Law of the Land…any Thing in the
Constitutions or Laws of any State to the Contrary notwithstanding.” This means of course,
that any federal law—even a regulation of a federal agency—would control over any conflicting state law.
Preemption can be either express or implied. When Congress chooses to expressly preempt state law, the
only question for courts becomes determining whether the challenged state law is one that the federal law
is intended to preempt. Implied preemption presents more difficult issues. The court has to look beyond
the express language of federal statutes to determine whether Congress has “occupied the field” in which
the state is attempting to regulate, or whether a state law directly conflicts with federal law, or whether
enforcement of the state law might frustrate federal purposes.
Federal “occupation of the field” occurs, according to the court in Pennsylvania v. Nelson (1956), when
there is “no room” left for state regulation. Courts are to look to the pervasiveness of the federal scheme of
regulation, the federal interest at stake, and the danger of frustration of federal goals in making the
determination as to whether a challenged state law can stand.
In Silkwood v. Kerr-McGee (1984), the court, voting 5–4, found that a $10 million punitive damages
award (in a case litigated by famed attorney Gerry Spence) against a nuclear power plant was not
impliedly preempted by federal law. Even though the court had recently held that state regulation of the
safety aspects of a federally licensed nuclear power plant was preempted, the court drew a different
conclusion with respect to Congress’s desire to displace state tort law—even though the tort actions might
be premised on a violation of federal safety regulations.
Cipollone v. Liggett Group (1993) was a closely watched case concerning the extent of an express
preemption provision in two cigarette labeling laws of the 1960s. The case was a wrongful death action
brought against tobacco companies on behalf of Rose Cipollone, a lung cancer victim who had started
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smoking cigarette in the 1940s. The court considered the preemptive effect on state law of a provision that
stated, “No requirement based on smoking and health shall be imposed under state law with respect to
the advertising and promotion of cigarettes.” The court concluded that several types of state tort actions
were preempted by the provision but allowed other types to go forward.
K E Y T A K E A W A Y
In cases of conflicts between state and federal law, federal law will preempt (or control) state law because
of the supremacy clause. Preemption can be express or implied. In cases where preemption is implied, the
court usually finds that compliance with both state and federal law is not possible or that a federal
regulatory scheme is comprehensive (i.e., “occupies the field”) and should not be modified by state
actions.
E X E R C I S E S
1. For many years, the United States engaged in discussions with friendly nations as to the
reciprocal use of ports and harbors. These discussions led to various multilateral
agreements between the nations as to the configuration of oceangoing vessels and how
they would be piloted. At the same time, concern over oil spills in Puget Sound led the
state of Washington to impose fairly strict standards on oil tankers and requirements for
the training of oil tanker pilots. In addition, Washington’s state law imposed many other
requirements that went above and beyond agreed-upon requirements in the
international agreements negotiated by the federal government. Are the Washington
state requirements preempted by federal law?
2. The Federal Arbitration Act of 1925 requires that all contracts for arbitration be treated
as any other contract at common law. Suppose that the state of Alabama wishes to
protect its citizens from a variety of arbitration provisions that they might enter into
unknowingly. Thus the legislation provides that all predispute arbitration clauses be in
bold print, that they be of twelve-point font or larger, that they be clearly placed within
the first two pages of any contract, and that they have a separate signature line where
the customer, client, or patient acknowledges having read, understood, and signed the
arbitration clause in addition to any other signatures required on the contract. The
legislation does preserve the right of consumers to litigate in the event of a dispute
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arising with the product or service provider; that is, with this legislation, consumers will
not unknowingly waive their right to a trial at common law. Is the Alabama law
preempted by the Federal Arbitration Act?
4.5 Business and the Bill of Rights
L E A R N I N G O B J E C T I V E S
1. Understand and describe which articles in the Bill of Rights apply to business activities
and how they apply.
2. Explain the application of the Fourteenth Amendment—including the due process clause
and the equal protection clause—to various rights enumerated in the original Bill of
Rights.
We have already seen the Fourteenth Amendment’s application in Burger King v. Rudzewicz (Section 3.9
“Cases”). In that case, the court considered whether it was constitutionally correct for a court to assert
personal jurisdiction over a nonresident. The states cannot constitutionally award a judgment against a
nonresident if doing so would offend traditional notions of fair play and substantial justice. Even if the
state’s long-arm statute would seem to allow such a judgment, other states should not give it full faith and
credit (see Article V of the Constitution). In short, a state’s long-arm statute cannot confer personal
jurisdiction that the state cannot constitutionally claim.
The Bill of Rights (the first ten amendments to the Constitution) was originally meant to apply to federal
actions only. During the twentieth century, the court began to apply selected rights to state action as well.
So, for example, federal agents were prohibited from using evidence seized in violation of the Fourth
Amendment, but state agents were not, until Mapp v. Ohio (1960), when the court applied the guarantees
(rights) of the Fourth Amendment to state action as well. In this and in similar cases, the Fourteenth
Amendment’s due process clause was the basis for the court’s action. The due process clause commanded
that states provide due process in cases affecting the life, liberty, or property of US citizens, and the court
saw in this command certain “fundamental guarantees” that states would have to observe. Over the years,
most of the important guarantees in the Bill of Rights came to apply to state as well as federal action. The
court refers to this process as selective incorporation.
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Here are some very basic principles to remember:
1. The guarantees of the Bill of Rights apply only to state and federal government action.
They do not limit what a company or person in the private sector may do. For example,
states may not impose censorship on the media or limit free speech in a way that offends
the First Amendment, but your boss (in the private sector) may order you not to talk to
the media.
2. In some cases, a private company may be regarded as participating in “state action.” For
example, a private defense contractor that gets 90 percent of its business from the
federal government has been held to be public for purposes of enforcing the
constitutional right to free speech (the company had a rule barring its employees from
speaking out in public against its corporate position). It has even been argued that
public regulation of private activity is sufficient to convert the private into public
activity, thus subjecting it to the requirements of due process. But the Supreme Court
rejected this extreme view in 1974 when it refused to require private power companies,
regulated by the state, to give customers a hearing before cutting off electricity for
failure to pay the bill.
[1]
3. States have rights, too. While “states rights” was a battle cry of Southern states before
the Civil War, the question of what balance to strike between state sovereignty and
federal union has never been simple. In Kimel v. Florida, for example, the Supreme
Court found in the words of the Eleventh Amendment a basis for declaring that states
may not have to obey certain federal statutes.
First Amendment
In part, the First Amendment states that “Congress shall make no law…abridging the freedom of speech,
or of the press.” The Founding Fathers believed that democracy would work best if people (and the press)
could talk or write freely, without governmental interference. But the First Amendment was also not
intended to be as absolute as it sounded. Oliver Wendell Holmes’s famous dictum that the law does not
permit you to shout “Fire!” in a crowded theater has seldom been answered, “But why not?” And no one in
1789 thought that defamation laws (torts for slander and libel) had been made unconstitutional.
Moreover, because the apparent purpose of the First Amendment was to make sure that the nation had a
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continuing, vigorous debate over matters political, political speech has been given the highest level of
protection over such other forms of speech as (1) “commercial speech,” (2) speech that can and should be
limited by reasonable “time, place, and manner” restrictions, or (3) obscene speech.
Because of its higher level of protection, political speech can be false, malicious, mean-spirited, or even a
pack of lies. A public official in the United States must be prepared to withstand all kinds of false
accusations and cannot succeed in an action for defamation unless the defendant has acted with “malice”
and “reckless disregard” of the truth. Public figures, such as CEOs of the largest US banks, must also be
prepared to withstand accusations that are false. In any defamation action, truth is a defense, but a
defamation action brought by a public figure or public official must prove that the defendant not only has
his facts wrong but also lies to the public in a malicious way with reckless disregard of the truth.
Celebrities such as Lindsay Lohan and Jon Stewart have the same burden to go forward with a defamation
action. It is for this reason that the National Enquirer writes exclusively about public figures, public
officials, and celebrities; it is possible to say many things that aren’t completely true and still have the
protection of the First Amendment.
Political speech is so highly protected that the court has recognized the right of people to support political
candidates through campaign contributions and thus promote the particular viewpoints and speech of
those candidates. Fearing the influence of money on politics, Congress has from time to time placed
limitations on corporate contributions to political campaigns. But the Supreme Court has had mixed
reactions over time. Initially, the court recognized the First Amendment right of a corporation to donate
money, subject to certain limits.
[2]
In another case, Austin v. Michigan Chamber of Commerce (1990), the
Michigan Campaign Finance Act prohibited corporations from using treasury money for independent
expenditures to support or oppose candidates in elections for state offices. But a corporation could make
such expenditures if it set up an independent fund designated solely for political purposes. The law was
passed on the assumption that “the unique legal and economic characteristics of corporations necessitate
some regulation of their political expenditures to avoid corruption or the appearance of corruption.”
The Michigan Chamber of Commerce wanted to support a candidate for Michigan’s House of
Representatives by using general funds to sponsor a newspaper advertisement and argued that as a
nonprofit organization, it was not really like a business firm. The court disagreed and upheld the Michigan
law. Justice Marshall found that the chamber was akin to a business group, given its activities, linkages
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with community business leaders, and high percentage of members (over 75 percent) that were business
corporations. Furthermore, Justice Marshall found that the statute was narrowly crafted and
implemented to achieve the important goal of maintaining integrity in the political process. But as you
will see in Citizens United v. Federal Election Commission(Section 4.6 “Cases”), Austin was overruled;
corporations are recognized as “persons” with First Amendment political speech rights that cannot be
impaired by Congress or the states without some compelling governmental interest with restrictions on
those rights that are “narrowly tailored.”
Fourth Amendment
The Fourth Amendment says, “all persons shall be secure in their persons, houses, papers, and effects
from unreasonable searches and seizures, and no warrants shall issue, but upon probable cause, before a
magistrate and upon Oath, specifically describing the persons to be searched and places to be seized.”
The court has read the Fourth Amendment to prohibit only those government searches or seizures that
are “unreasonable.” Because of this, businesses that are in an industry that is “closely regulated” can be
searched more frequently and can be searched without a warrant. In one case, an auto parts dealer at a
junkyard was charged with receiving stolen auto parts. Part of his defense was to claim that the search
that found incriminating evidence was unconstitutional. But the court found the search reasonable,
because the dealer was in a “closely regulated industry.”
In the 1980s, Dow Chemical objected to an overflight by the US Environmental Protection Agency (EPA).
The EPA had rented an airplane to fly over the Midland, Michigan, Dow plant, using an aerial mapping
camera to photograph various pipes, ponds, and machinery that were not covered by a roof. Because the
court’s precedents allowed governmental intrusions into “open fields,” the EPA search was ruled
constitutional. Because the literal language of the Fourth Amendment protected “persons, houses, papers,
and effects,” anything searched by the government in “open fields” was reasonable. (The court’s opinion
suggested that if Dow had really wanted privacy from governmental intrusion, it could have covered the
pipes and machinery that were otherwise outside and in open fields.)
Note again that constitutional guarantees like the Fourth Amendment apply to governmental action. Your
employer or any private enterprise is not bound by constitutional limits. For example, if drug testing of all
employees every week is done by government agency, the employees may have a cause of action to object
based on the Fourth Amendment. However, if a private employer begins the same kind of routine drug
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testing, employees have no constitutional arguments to make; they can simply leave that employer, or
they may pursue whatever statutory or common-law remedies are available.
Fifth Amendment
The Fifth Amendment states, “No person shall be…deprived of life, liberty, or property, without due
process of law; nor shall private property be taken for public use, without just compensation.”
The Fifth Amendment has three principal aspects: procedural due process, thetakings clause,
and substantive due process. In terms of procedural due process, the amendment prevents government
from arbitrarily taking the life of a criminal defendant. In civil lawsuits, it is also constitutionally essential
that the proceedings be fair. This is why, for example, the defendant in Burger King v. Rudzewicz had a
serious constitutional argument, even though he lost.
The takings clause of the Fifth Amendment ensures that the government does not take private property
without just compensation. In the international setting, governments that take private property engage in
what is called expropriation. The standard under customary international law is that when governments
do that, they must provide prompt, adequate, and effective compensation. This does not always happen,
especially where foreign owners’ property is being expropriated. The guarantees of the Fifth Amendment
(incorporated against state action by the Fourteenth Amendment) are available to property owners where
state, county, or municipal government uses the power of eminent domain to take private property for
public purposes. Just what is a public purpose is a matter of some debate. For example, if a city were to
condemn economically viable businesses or neighborhoods to construct a baseball stadium with public
money to entice a private enterprise (the baseball team) to stay, is a public purpose being served?
In Kelo v. City of New London, Mrs. Kelo and other residents fought the city of New London, in its
attempt to use powers of eminent domain to create an industrial park and recreation area that would have
Pfizer & Co. as a principal tenant.
[3]
The city argued that increasing its tax base was a sufficient public
purpose. In a very close decision, the Supreme Court determined that New London’s actions did not
violate the takings clause. However, political reactions in various states resulted in a great deal of new
state legislation that would limit the scope of public purpose in eminent domain takings and provide
additional compensation to property owners in many cases.
In addition to the takings clause and aspects of procedural due process, the Fifth Amendment is also the
source of what is called substantive due process. During the first third of the twentieth century, the
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Supreme Court often nullified state and federal laws using substantive due process. In 1905, for example,
in Lochner v. New York, the Supreme Court voided a New York statute that limited the number of hours
that bakers could work in a single week. New York had passed the law to protect the health of employees,
but the court found that this law interfered with the basic constitutional right of private parties to freely
contract with one another. Over the next thirty years, dozens of state and federal laws were struck down
that aimed to improve working conditions, secure social welfare, or establish the rights of unions.
However, in 1934, during the Great Depression, the court reversed itself and began upholding the kinds of
laws it had struck down earlier.
Since then, the court has employed a two-tiered analysis of substantive due process claims. Under the first
tier, legislation on economic matters, employment relations, and other business affairs is subject to
minimal judicial scrutiny. This means that a law will be overturned only if it serves no rational
government purpose. Under the second tier, legislation concerning fundamental liberties is subject to
“heightened judicial scrutiny,” meaning that a law will be invalidated unless it is “narrowly tailored to
serve a significant government purpose.”
The Supreme Court has identified two distinct categories of fundamental liberties. The first category
includes most of the liberties expressly enumerated in the Bill of Rights. Through a process known as
selective incorporation, the court has interpreted the due process clause of the Fourteenth Amendment to
bar states from denying their residents the most important freedoms guaranteed in the first ten
amendments to the federal Constitution. Only the Third Amendment right (against involuntary
quartering of soldiers) and the Fifth Amendment right to be indicted by a grand jury have not been made
applicable to the states. Because these rights are still not applicable to state governments, the Supreme
Court is often said to have “selectively incorporated” the Bill of Rights into the due process clause of the
Fourteenth Amendment.
The second category of fundamental liberties includes those liberties that are not expressly stated in the
Bill of Rights but that can be seen as essential to the concepts of freedom and equality in a democratic
society. These unstated liberties come from Supreme Court precedents, common law, moral philosophy,
and deeply rooted traditions of US legal history. The Supreme Court has stressed that he
word libertycannot be defined by a definitive list of rights; rather, it must be viewed as a rational
continuum of freedom through which every aspect of human behavior is protected from arbitrary
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impositions and random restraints. In this regard, as the Supreme Court has observed, the due process
clause protects abstract liberty interests, including the right to personal autonomy, bodily integrity, self-
dignity, and self-determination.
These liberty interests often are grouped to form a general right to privacy, which was first recognized
in Griswold v. Connecticut (Section 4.6.1), where the Supreme Court struck down a state statute
forbidding married adults from using, possessing, or distributing contraceptives on the ground that the
law violated the sanctity of the marital relationship. According to Justice Douglas’s plurality opinion, this
penumbra of privacy, though not expressly mentioned in the Bill of Rights, must be protected to establish
a buffer zone or breathing space for those freedoms that are constitutionally enumerated.
But substantive due process has seen fairly limited use since the 1930s. During the 1990s, the Supreme
Court was asked to recognize a general right to die under the doctrine of substantive due process.
Although the court stopped short of establishing such a far-reaching right, certain patients may exercise a
constitutional liberty to hasten their deaths under a narrow set of circumstances. In Cruzan v. Missouri
Department of Health, the Supreme Court ruled that the due process clause guarantees the right of
competent adults to make advanced directives for the withdrawal of life-sustaining measures should they
become incapacitated by a disability that leaves them in a persistent vegetative state.
[4]
Once it has been
established by clear and convincing evidence that a mentally incompetent and persistently vegetative
patient made such a prior directive, a spouse, parent, or other appropriate guardian may seek to terminate
any form of artificial hydration or nutrition.
Fourteenth Amendment: Due Process and Equal Protection Guarantees
The Fourteenth Amendment (1868) requires that states treat citizens of other states with due process.
This can be either an issue of procedural due process (as in Section 3.9 “Cases”, Burger King v.
Rudzewicz) or an issue of substantive due process. For substantive due process, consider what happened
in an Alabama court not too long ago.
[5]
The plaintiff, Dr. Ira Gore, bought a new BMW for $40,000 from a dealer in Alabama. He later discovered
that the vehicle’s exterior had been slightly damaged in transit from Europe and had therefore been
repainted by the North American distributor prior to his purchase. The vehicle was, by best estimates,
worth about 10 percent less than he paid for it. The distributor, BMW of North America, had routinely
sold slightly damaged cars as brand new if the damage could be fixed for less than 3 percent of the cost of
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the car. In the trial, Dr. Gore sought $4,000 in compensatory damages and also punitive damages. The
Alabama trial jury considered that BMW was engaging in a fraudulent practice and wanted to punish the
defendant for a number of frauds it estimated at somewhere around a thousand nationwide. The jury
awarded not only the $4,000 in compensatory damages but also $4 million in punitive damages, which
was later reduced to $2 million by the Alabama Supreme Court. On appeal to the US Supreme Court, the
court found that punitive damages may not be “grossly excessive.” If they are, then they violate
substantive due process. Whatever damages a state awards must be limited to what is reasonably
necessary to vindicate the state’s legitimate interest in punishment and deterrence.
“Equal protection of the laws” is a phrase that originates in the Fourteenth Amendment, adopted in 1868.
The amendment provides that no state shall “deny to any person within its jurisdiction the equal
protection of the laws.” This is the equal protection clause. It means that, generally speaking,
governments must treat people equally. Unfair classifications among people or corporations will not be
permitted. A well-known example of unfair classification would be race discrimination: requiring white
children and black children to attend different public schools or requiring “separate but equal” public
services, such as water fountains or restrooms. Yet despite the clear intent of the 1868 amendment,
“separate but equal” was the law of the land until Brown v. Board of Education (1954).
[6]
Governments make classifications every day, so not all classifications can be illegal under the equal
protection clause. People with more income generally pay a greater percentage of their income in taxes.
People with proper medical training are licensed to become doctors; people without that training cannot
be licensed and commit a criminal offense if they do practice medicine. To know what classifications are
permissible under the Fourteenth Amendment, we need to know what is being classified. The court has
created three classifications, and the outcome of any equal protection case can usually be predicted by
knowing how the court is likely to classify the case:
Minimal scrutiny: economic and social relations. Government actions are usually upheld
if there is a rational basis for them.
Intermediate scrutiny: gender. Government classifications are sometimes upheld.
Strict scrutiny: race, ethnicity, and fundamental rights. Classifications based on any of
these are almost never upheld.
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Under minimal scrutiny for economic and social regulation, laws that regulate economic or social issues
are presumed valid and will be upheld if they are rationally related to legitimate goals of government. So,
for example, if the city of New Orleans limits the number of street vendors to some rational number (more
than one but fewer than the total number that could possibly fit on the sidewalks), the local ordinance
would not be overturned as a violation of equal protection.
Under intermediate scrutiny, the city of New Orleans might limit the number of street vendors who are
men. For example, suppose that the city council decreed that all street vendors must be women, thinking
that would attract even more tourism. A classification like this, based on sex, will have to meet a sterner
test than a classification resulting from economic or social regulation. A law like this would have to
substantially relate to important government objectives. Increasingly, courts have nullified government
sex classifications as societal concern with gender equality has grown. (See Shannon Faulkner’s case
against The Citadel, an all-male state school.)
[7]
Suppose, however, that the city of New Orleans decided that no one of Middle Eastern heritage could
drive a taxicab or be a street vendor. That kind of classification would be examined with strict scrutiny to
see if there was any compelling justification for it. As noted, classifications such as this one are almost
never upheld. The law would be upheld only if it were necessary to promote a compelling state interest.
Very few laws that have a racial or ethnic classification meet that test.
The strict scrutiny test will be applied to classifications involving racial and ethnic criteria as well as
classifications that interfere with a fundamental right. In Palmore v. Sidoti, the state refused to award
custody to the mother because her new spouse was racially different from the child.
[8]
This practice was
declared unconstitutional because the state had made a racial classification; this was presumptively
invalid, and the government could not show a compelling need to enforce such a classification through its
law. An example of government action interfering with a fundamental right will also receive strict
scrutiny. When New York State gave an employment preference to veterans who had been state residents
at the time of entering the military, the court declared that veterans who were new to the state were less
likely to get jobs and that therefore the statute interfered with the right to travel, which was deemed a
fundamental right.
[9]
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K E Y T A K E A W A Y
The Bill of Rights, through the Fourteenth Amendment, largely applies to state actions. The Bill of Rights
has applied to federal actions from the start. Both the Bill of Rights and the Fourteenth Amendment apply
to business in various ways, but it is important to remember that the rights conferred are rights against
governmental action and not the actions of private enterprise.
E X E R C I S E S
1. John Hanks works at ProLogis. The company decides to institute a drug-testing policy.
John is a good and longtime employee but enjoys smoking marijuana on the weekends.
The drug testing will involve urine samples and, semiannually, a hair sample. It is nearly
certain that the drug-testing protocol that ProLogis proposes will find that Hanks is a
marijuana user. The company has made it clear that it will have zero tolerance for any
kind of nonprescribed controlled substances. John and several fellow employees wish to
go to court to challenge the proposed testing as “an unreasonable search and seizure.”
Can he possibly succeed?
2. Larry Reed, majority leader in the Senate, is attacked in his reelection campaign by a
series of ads sponsored by a corporation (Global Defense, Inc.) that does not like his
voting record. The corporation is upset that Reed would not write a special provision
that would favor Global Defense in a defense appropriations bill. The ads run constantly
on television and radio in the weeks immediately preceding election day and contain
numerous falsehoods. For example, in order to keep the government running financially,
Reed found it necessary to vote for a bill that included a last-minute rider that defunded
a small government program for the handicapped, sponsored by someone in the
opposing party that wanted to privatize all programs for the handicapped. The ad is
largely paid for by Global Defense and depicts a handicapped child being helped by the
existing program and large letters saying “Does Larry Reed Just Not Care?” The ad
proclaims that it is sponsored by Citizens Who Care for a Better Tomorrow. Is this
protected speech? Why or why not? Can Reed sue for defamation? Why or why not?
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4.6 Cases
Griswold v. Connecticut
Griswold v. Connecticut
381 U.S. 479 (U.S. Supreme Court 1965)
A nineteenth-century Connecticut law made the use, possession, or distribution of birth control devices
illegal. The law also prohibited anyone from giving information about such devices. The executive
director and medical director of a planned parenthood association were found guilty of giving out such
information to a married couple that wished to delay having children for a few years. The directors
were fined $100 each.
They appealed throughout the Connecticut state court system, arguing that the state law violated
(infringed) a basic or fundamental right of privacy of a married couple: to live together and have sex
together without the restraining power of the state to tell them they may legally have intercourse but
not if they use condoms or other birth control devices. At each level (trial court, court of appeals, and
Connecticut Supreme Court), the Connecticut courts upheld the constitutionality of the convictions.
Plurality Opinion by Justice William O. Douglass
We do not sit as a super legislature to determine the wisdom, need, and propriety of laws that touch
economic problems, business affairs, or social conditions. The [Connecticut] law, however, operates
directly on intimate relation of husband and wife and their physician’s role in one aspect of that relation.
[Previous] cases suggest that specific guarantees in the Bill of Rights have penumbras, formed by
emanations from those guarantees that help give them life and substance.…Various guarantees create
zones of privacy. The right of association contained in the penumbra of the First Amendment is one.…The
Third Amendment in its prohibition against the quartering of soldiers “in any house” in time of peace
without the consent of the owner is another facet of that privacy. The Fourth Amendment explicitly
affirms the “right of the people to be secure in their persons, houses, papers and effects, against
unreasonable searches and seizures.” The Fifth Amendment in its Self-Incrimination Clause enables the
citizen to create a zone of privacy which the government may not force him to surrender to his detriment.
The Ninth Amendment provides: “The enumeration in the Constitution, of certain rights, shall not be
construed to deny or disparage others retained by the people.”
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The Fourth and Fifth Amendments were described…as protection against all governmental invasions “of
the sanctity of a man’s home and the privacies of life.” We recently referred in Mapp v. Ohio…to the
Fourth Amendment as creating a “right to privacy, no less important than any other right carefully and
particularly reserved to the people.”
[The law in question here], in forbidding the use of contraceptives rather than regulating their
manufacture or sale, seeks to achieve its goals by having a maximum destructive impact on [the marital]
relationship. Such a law cannot stand.…Would we allow the police to search the sacred precincts of
marital bedrooms for telltale signs of the use of contraceptives? The very idea is repulsive to the notions of
privacy surrounding the marital relationship.
We deal with a right of privacy older than the Bill of Rights—older than our political parties, older than
our school system. Marriage is a coming together for better or for worse, hopefully enduring, and intimate
to the degree of being sacred. It is an association that promotes a way of life, not causes; a harmony in
living, not political faiths; a bilateral loyalty, not commercial or social projects. Yet it is an association for
as noble a purpose as any involved in our prior decisions.
Mr. Justice Stewart, whom Mr. Justice Black joins, dissenting.
Since 1879 Connecticut has had on its books a law which forbids the use of contraceptives by anyone. I
think this is an uncommonly silly law. As a practical matter, the law is obviously unenforceable, except in
the oblique context of the present case. As a philosophical matter, I believe the use of contraceptives in the
relationship of marriage should be left to personal and private choice, based upon each individual’s moral,
ethical, and religious beliefs. As a matter of social policy, I think professional counsel about methods of
birth control should be available to all, so that each individual’s choice can be meaningfully made. But we
are not asked in this case to say whether we think this law is unwise, or even asinine. We are asked to hold
that it violates the United States Constitution. And that I cannot do.
In the course of its opinion the Court refers to no less than six Amendments to the Constitution: the First,
the Third, the Fourth, the Fifth, the Ninth, and the Fourteenth. But the Court does not say which of these
Amendments, if any, it thinks is infringed by this Connecticut law.
…
As to the First, Third, Fourth, and Fifth Amendments, I can find nothing in any of them to invalidate this
Connecticut law, even assuming that all those Amendments are fully applicable against the States. It has
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not even been argued that this is a law “respecting an establishment of religion, or prohibiting the free
exercise thereof.” And surely, unless the solemn process of constitutional adjudication is to descend to the
level of a play on words, there is not involved here any abridgment of “the freedom of speech, or of the
press; or the right of the people peaceably to assemble, and to petition the Government for a redress of
grievances.” No soldier has been quartered in any house. There has been no search, and no seizure.
Nobody has been compelled to be a witness against himself.
The Court also quotes the Ninth Amendment, and my Brother Goldberg’s concurring opinion relies
heavily upon it. But to say that the Ninth Amendment has anything to do with this case is to turn
somersaults with history. The Ninth Amendment, like its companion the Tenth, which this Court held
“states but a truism that all is retained which has not been surrendered,” United States v. Darby, 312 U.S.
100, 124, was framed by James Madison and adopted by the States simply to make clear that the adoption
of the Bill of Rights did not alter the plan that the Federal Government was to be a government of express
and limited powers, and that all rights and powers not delegated to it were retained by the people and the
individual States. Until today no member of this Court has ever suggested that the Ninth Amendment
meant anything else, and the idea that a federal court could ever use the Ninth Amendment to annul a law
passed by the elected representatives of the people of the State of Connecticut would have caused James
Madison no little wonder.
What provision of the Constitution, then, does make this state law invalid? The Court says it is the right of
privacy “created by several fundamental constitutional guarantees.” With all deference, I can find no such
general right of privacy in the Bill of Rights, in any other part of the Constitution, or in any case ever
before decided by this Court.
At the oral argument in this case we were told that the Connecticut law does not “conform to current
community standards.” But it is not the function of this Court to decide cases on the basis of community
standards. We are here to decide cases “agreeably to the Constitution and laws of the United States.” It is
the essence of judicial duty to subordinate our own personal views, our own ideas of what legislation is
wise and what is not. If, as I should surely hope, the law before us does not reflect the standards of the
people of Connecticut, the people of Connecticut can freely exercise their true Ninth and Tenth
Amendment rights to persuade their elected representatives to repeal it. That is the constitutional way to
take this law off the books.
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C A S E Q U E S T I O N S
1. Which opinion is the strict constructionist opinion here—Justice Douglas’s or that of
Justices Stewart and Black?
2. What would have happened if the Supreme Court had allowed the Connecticut Supreme
Court decision to stand and followed Justice Black’s reasoning? Is it likely that the
citizens of Connecticut would have persuaded their elected representatives to repeal the
law challenged here?
Wickard v. Filburn
Wickard v. Filburn
317 U.S. 111 (U.S. Supreme Court 1942)
Mr. Justice Jackson delivered the opinion of the Court.
Mr. Filburn for many years past has owned and operated a small farm in Montgomery County, Ohio,
maintaining a herd of dairy cattle, selling milk, raising poultry, and selling poultry and eggs. It has been
his practice to raise a small acreage of winter wheat, sown in the Fall and harvested in the following July;
to sell a portion of the crop; to feed part to poultry and livestock on the farm, some of which is sold; to use
some in making flour for home consumption; and to keep the rest for the following seeding.
His 1941 wheat acreage allotment was 11.1 acres and a normal yield of 20.1 bushels of wheat an acre. He
sowed, however, 23 acres, and harvested from his 11.9 acres of excess acreage 239 bushels, which under
the terms of the Act as amended on May 26, 1941, constituted farm marketing excess, subject to a penalty
of 49 cents a bushel, or $117.11 in all.
The general scheme of the Agricultural Adjustment Act of 1938 as related to wheat is to control the
volume moving in interstate and foreign commerce in order to avoid surpluses and shortages and the
consequent abnormally low or high wheat prices and obstructions to commerce. [T]he Secretary of
Agriculture is directed to ascertain and proclaim each year a national acreage allotment for the next crop
of wheat, which is then apportioned to the states and their counties, and is eventually broken up into
allotments for individual farms.
It is urged that under the Commerce Clause of the Constitution, Article I, § 8, clause 3, Congress does not
possess the power it has in this instance sought to exercise. The question would merit little consideration
since our decision in United States v. Darby, 312 U.S. 100, sustaining the federal power to regulate
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production of goods for commerce, except for the fact that this Act extends federal regulation to
production not intended in any part for commerce but wholly for consumption on the farm.
Kassel v. Consolidated Freightways Corp.
Kassel v. Consolidated Freightways Corp.
450 U.S. 662 (U.S. Supreme Court 1981)
JUSTICE POWELL announced the judgment of the Court and delivered an opinion, in which JUSTICE
WHITE, JUSTICE BLACKMUN, and JUSTICE STEVENS joined.
The question is whether an Iowa statute that prohibits the use of certain large trucks within the State
unconstitutionally burdens interstate commerce.
I
Appellee Consolidated Freightways Corporation of Delaware (Consolidated) is one of the largest common
carriers in the country: it offers service in 48 States under a certificate of public convenience and necessity
issued by the Interstate Commerce Commission. Among other routes, Consolidated carries commodities
through Iowa on Interstate 80, the principal east-west route linking New York, Chicago, and the west
coast, and on Interstate 35, a major north-south route.
Consolidated mainly uses two kinds of trucks. One consists of a three-axle tractor pulling a 40-foot two-
axle trailer. This unit, commonly called a single, or “semi,” is 55 feet in length overall. Such trucks have
long been used on the Nation’s highways. Consolidated also uses a two-axle tractor pulling a single-axle
trailer which, in turn, pulls a single-axle dolly and a second single-axle trailer. This combination, known
as a double, or twin, is 65 feet long overall. Many trucking companies, including Consolidated,
increasingly prefer to use doubles to ship certain kinds of commodities. Doubles have larger capacities,
and the trailers can be detached and routed separately if necessary. Consolidated would like to use 65-foot
doubles on many of its trips through Iowa.
The State of Iowa, however, by statute, restricts the length of vehicles that may use its highways. Unlike all
other States in the West and Midwest, Iowa generally prohibits the use of 65-foot doubles within its
borders.
…
Because of Iowa’s statutory scheme, Consolidated cannot use its 65-foot doubles to move commodities
through the State. Instead, the company must do one of four things: (i) use 55-foot singles; (ii) use 60-foot
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doubles; (iii) detach the trailers of a 65-foot double and shuttle each through the State separately; or (iv)
divert 65-foot doubles around Iowa. Dissatisfied with these options, Consolidated filed this suit in the
District Court averring that Iowa’s statutory scheme unconstitutionally burdens interstate commerce.
Iowa defended the law as a reasonable safety measure enacted pursuant to its police power. The State
asserted that 65-foot doubles are more dangerous than 55-foot singles and, in any event, that the law
promotes safety and reduces road wear within the State by diverting much truck traffic to other states.
In a 14-day trial, both sides adduced evidence on safety and on the burden on interstate commerce
imposed by Iowa’s law. On the question of safety, the District Court found that the “evidence clearly
establishes that the twin is as safe as the semi.” 475 F.Supp. 544, 549 (SD Iowa 1979). For that reason,
“there is no valid safety reason for barring twins from Iowa’s highways because of their
configuration.…The evidence convincingly, if not overwhelmingly, establishes that the 65-foot twin is as
safe as, if not safer than, the 60-foot twin and the 55-foot semi.…”
“Twins and semis have different characteristics. Twins are more maneuverable, are less sensitive to wind,
and create less splash and spray. However, they are more likely than semis to jackknife or upset. They can
be backed only for a short distance. The negative characteristics are not such that they render the twin less
safe than semis overall. Semis are more stable, but are more likely to ‘rear-end’ another vehicle.”
In light of these findings, the District Court applied the standard we enunciated inRaymond Motor
Transportation, Inc. v. Rice, 434 U.S. 429 (1978), and concluded that the state law impermissibly
burdened interstate commerce: “[T]he balance here must be struck in favor of the federal interests.
The total effect of the law as a safety measure in reducing accidents and casualties is so slight and
problematical that it does not outweigh the national interest in keeping interstate commerce free from
interferences that seriously impede it.”
The Court of Appeals for the Eighth Circuit affirmed. 612 F.2d 1064 (1979). It accepted the District Court’s
finding that 65-foot doubles were as safe as 55-foot singles. Id. at 1069. Thus, the only apparent safety
benefit to Iowa was that resulting from forcing large trucks to detour around the State, thereby reducing
overall truck traffic on Iowa’s highways. The Court of Appeals noted that this was not a constitutionally
permissible interest. It also commented that the several statutory exemptions identified above, such as
those applicable to border cities and the shipment of livestock, suggested that the law, in effect, benefited
Iowa residents at the expense of interstate traffic. Id. at 1070-1071. The combination of these exemptions
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weakened the presumption of validity normally accorded a state safety regulation. For these reasons, the
Court of Appeals agreed with the District Court that the Iowa statute unconstitutionally burdened
interstate commerce.
Iowa appealed, and we noted probable jurisdiction. 446 U.S. 950 (1980). We now affirm.
II
It is unnecessary to review in detail the evolution of the principles of Commerce Clause adjudication. The
Clause is both a “prolific ‘ of national power and an equally prolific source of conflict with legislation of the
state[s].” H. P. Hood & Sons, Inc. v. Du Mond, 336 U.S. 525, 336 U.S. 534 (1949). The Clause permits
Congress to legislate when it perceives that the national welfare is not furthered by the independent
actions of the States. It is now well established, also, that the Clause itself is “a limitation upon state power
even without congressional implementation.” Hunt v. Washington Apple Advertising Comm’n, 432 U.S.
333 at 350 (1977). The Clause requires that some aspects of trade generally must remain free from
interference by the States. When a State ventures excessively into the regulation of these aspects of
commerce, it “trespasses upon national interests,” Great A&P Tea Co. v. Cottrell, 424 U.S. 366, 424 U.S.
373 (1976), and the courts will hold the state regulation invalid under the Clause alone.
The Commerce Clause does not, of course, invalidate all state restrictions on commerce. It has long been
recognized that, “in the absence of conflicting legislation by Congress, there is a residuum of power in the
state to make laws governing matters of local concern which nevertheless in some measure affect
interstate commerce or even, to some extent, regulate it.” Southern Pacific Co. v. Arizona, 325 U.S. 761
(1945).
The extent of permissible state regulation is not always easy to measure. It may be said with confidence,
however, that a State’s power to regulate commerce is never greater than in matters traditionally of local
concern. Washington Apple Advertising Comm’n, supra at 432 U.S. 350. For example, regulations that
touch upon safety—especially highway safety—are those that “the Court has been most reluctant to
invalidate.” Raymond, supra at 434 U.S. 443 (and other cases cited). Indeed, “if safety justifications are
not illusory, the Court will not second-guess legislative judgment about their importance in comparison
with related burdens on interstate commerce.”Raymond, supra at 434 U.S. at 449. Those who would
challenge such bona fide safety regulations must overcome a “strong presumption of validity.” Bibb v.
Navajo Freight Lines, Inc., 359 U.S. 520 at (1959).
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But the incantation of a purpose to promote the public health or safety does not insulate a state law from
Commerce Clause attack. Regulations designed for that salutary purpose nevertheless may further the
purpose so marginally, and interfere with commerce so substantially, as to be invalid under the
Commerce Clause. In the Court’s recent unanimous decision in Raymond we declined to “accept the
State’s contention that the inquiry under the Commerce Clause is ended without a weighing of the
asserted safety purpose against the degree of interference with interstate commerce.” This “weighing” by a
court requires—and indeed the constitutionality of the state regulation depends on—“a sensitive
consideration of the weight and nature of the state regulatory concern in light of the extent of the burden
imposed on the course of interstate commerce.” Id. at 434 U.S. at 441; accord, Pike v. Bruce Church, Inc.,
397 U.S. 137 at 142 (1970); Bibb, supra, at 359 U.S. at 525-530.
III
Applying these general principles, we conclude that the Iowa truck length limitations unconstitutionally
burden interstate commerce.
In Raymond Motor Transportation, Inc. v. Rice, the Court held that a Wisconsin statute that precluded
the use of 65-foot doubles violated the Commerce Clause. This case is Raymond revisited. Here, as
in Raymond, the State failed to present any persuasive evidence that 65-foot doubles are less safe than 55-
foot singles. Moreover, Iowa’s law is now out of step with the laws of all other Midwestern and Western
States. Iowa thus substantially burdens the interstate flow of goods by truck. In the absence of
congressional action to set uniform standards, some burdens associated with state safety regulations must
be tolerated. But where, as here, the State’s safety interest has been found to be illusory, and its
regulations impair significantly the federal interest in efficient and safe interstate transportation, the state
law cannot be harmonized with the Commerce Clause.
A
Iowa made a more serious effort to support the safety rationale of its law than did Wisconsin in Raymond,
but its effort was no more persuasive. As noted above, the District Court found that the “evidence clearly
establishes that the twin is as safe as the semi.” The record supports this finding. The trial focused on a
comparison of the performance of the two kinds of trucks in various safety categories. The evidence
showed, and the District Court found, that the 65-foot double was at least the equal of the 55-foot single in
the ability to brake, turn, and maneuver. The double, because of its axle placement, produces less splash
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and spray in wet weather. And, because of its articulation in the middle, the double is less susceptible to
dangerous “off-tracking,” and to wind.
None of these findings is seriously disputed by Iowa. Indeed, the State points to only three ways in which
the 55-foot single is even arguably superior: singles take less time to be passed and to clear intersections;
they may back up for longer distances; and they are somewhat less likely to jackknife.
The first two of these characteristics are of limited relevance on modern interstate highways. As the
District Court found, the negligible difference in the time required to pass, and to cross intersections, is
insignificant on 4-lane divided highways, because passing does not require crossing into oncoming traffic
lanes, Raymond, 434 U.S. at 444, and interstates have few, if any, intersections. The concern over backing
capability also is insignificant, because it seldom is necessary to back up on an interstate. In any event, no
evidence suggested any difference in backing capability between the 60-foot doubles that Iowa permits
and the 65-foot doubles that it bans. Similarly, although doubles tend to jackknife somewhat more than
singles, 65-foot doubles actually are less likely to jackknife than 60-foot doubles.
Statistical studies supported the view that 65-foot doubles are at least as safe overall as 55-foot singles and
60-foot doubles. One such study, which the District Court credited, reviewed Consolidated’s comparative
accident experience in 1978 with its own singles and doubles. Each kind of truck was driven 56 million
miles on identical routes. The singles were involved in 100 accidents resulting in 27 injuries and one
fatality. The 65-foot doubles were involved in 106 accidents resulting in 17 injuries and one fatality. Iowa’s
expert statistician admitted that this study provided “moderately strong evidence” that singles have a
higher injury rate than doubles. Another study, prepared by the Iowa Department of Transportation at the
request of the state legislature, concluded that “[s]ixty-five foot twin trailer combinations have not been
shown by experiences in other states to be less safe than 60-foot twin trailer combinations orconventional
tractor-semitrailers.”
In sum, although Iowa introduced more evidence on the question of safety than did Wisconsin
in Raymond, the record as a whole was not more favorable to the State.
B
Consolidated, meanwhile, demonstrated that Iowa’s law substantially burdens interstate commerce.
Trucking companies that wish to continue to use 65-foot doubles must route them around Iowa or detach
the trailers of the doubles and ship them through separately. Alternatively, trucking companies must use
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the smaller 55-foot singles or 65-foot doubles permitted under Iowa law. Each of these options engenders
inefficiency and added expense. The record shows that Iowa’s law added about $12.6 million each year to
the costs of trucking companies.
Consolidated alone incurred about $2 million per year in increased costs.
In addition to increasing the costs of the trucking companies (and, indirectly, of the service to
consumers), Iowa’s law may aggravate, rather than, ameliorate, the problem of highway accidents. Fifty-
five-foot singles carry less freight than 65-foot doubles. Either more small trucks must be used to carry the
same quantity of goods through Iowa or the same number of larger trucks must drive longer distances to
bypass Iowa. In either case, as the District Court noted, the restriction requires more highway miles to be
driven to transport the same quantity of goods. Other things being equal, accidents are proportional to
distance traveled. Thus, if 65-foot doubles are as safe as 55-foot singles, Iowa’s law tends to increase the
number of accidents and to shift the incidence of them from Iowa to other States.
[IV. Omitted]
V
In sum, the statutory exemptions, their history, and the arguments Iowa has advanced in support of its
law in this litigation all suggest that the deference traditionally accorded a State’s safety judgment is not
warranted. See Raymond, supra at 434 U.S. at 444-447. The controlling factors thus are the findings of
the District Court, accepted by the Court of Appeals, with respect to the relative safety of the types of
trucks at issue, and the substantiality of the burden on interstate commerce.
Because Iowa has imposed this burden without any significant countervailing safety interest, its statute
violates the Commerce Clause. The judgment of the Court of Appeals is affirmed.
It is so ordered.
C A S E Q U E S T I O N S
1. Under the Constitution, what gives Iowa the right to make rules regarding the size or
configuration of trucks upon highways within the state?
2. Did Iowa try to exempt trucking lines based in Iowa, or was the statutory rule
nondiscriminatory as to the origin of trucks that traveled on Iowa highways?
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3. Are there any federal size or weight standards noted in the case? Is there any kind of
truck size or weight that could be limited by Iowa law, or must Iowa simply accept
federal standards or, if none, impose no standards at all?
Hunt v. Washington Apple Advertising Commission
Hunt v. Washington Apple Advertising Commission
432 U.S. 33 (U.S. Supreme Court 1977)
MR. CHIEF JUSTICE BURGER delivered the opinion of the Court.
In 1973, North Carolina enacted a statute which required, inter alia, all closed containers of apples sold,
offered for sale, or shipped into the State to bear “no grade other than the applicable U.S. grade or
standard.”…Washington State is the Nation’s largest producer of apples, its crops accounting for
approximately 30% of all apples grown domestically and nearly half of all apples shipped in closed
containers in interstate commerce. [Because] of the importance of the apple industry to the State, its
legislature has undertaken to protect and enhance the reputation of Washington apples by establishing a
stringent, mandatory inspection program [that] requires all apples shipped in interstate commerce to be
tested under strict quality standards and graded accordingly. In all cases, the Washington State grades
[are] the equivalent of, or superior to, the comparable grades and standards adopted by the [U.S. Dept. of]
Agriculture (USDA).
[In] 1972, the North Carolina Board of Agriculture adopted an administrative regulation, unique in the 50
States, which in effect required all closed containers of apples shipped into or sold in the State to display
either the applicable USDA grade or a notice indicating no classification. State grades were expressly
prohibited. In addition to its obvious consequence—prohibiting the display of Washington State apple
grades on containers of apples shipped into North Carolina—the regulation presented the Washington
apple industry with a marketing problem of potentially nationwide significance. Washington apple
growers annually ship in commerce approximately 40 million closed containers of apples, nearly 500,000
of which eventually find their way into North Carolina, stamped with the applicable Washington State
variety and grade. [Compliance] with North Carolina’s unique regulation would have required
Washington growers to obliterate the printed labels on containers shipped to North Carolina, thus giving
their product a damaged appearance. Alternatively, they could have changed their marketing practices to
accommodate the needs of the North Carolina market, i.e., repack apples to be shipped to North Carolina
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in containers bearing only the USDA grade, and/or store the estimated portion of the harvest destined for
that market in such special containers. As a last resort, they could discontinue the use of the preprinted
containers entirely. None of these costly and less efficient options was very attractive to the industry.
Moreover, in the event a number of other States followed North Carolina’s lead, the resultant inability to
display the Washington grades could force the Washington growers to abandon the State’s expensive
inspection and grading system which their customers had come to know and rely on over the 60-odd
years of its existence.…
Unsuccessful in its attempts to secure administrative relief [with North Carolina], the Commission
instituted this action challenging the constitutionality of the statute. [The] District Court found that the
North Carolina statute, while neutral on its face, actually discriminated against Washington State growers
and dealers in favor of their local counterparts [and] concluded that this discrimination [was] not justified
by the asserted local interest—the elimination of deception and confusion from the marketplace—arguably
furthered by the [statute].
…
[North Carolina] maintains that [the] burdens on the interstate sale of Washington apples were far
outweighed by the local benefits flowing from what they contend was a valid exercise of North Carolina’s
[police powers]. Prior to the statute’s enactment,…apples from 13 different States were shipped into North
Carolina for sale. Seven of those States, including [Washington], had their own grading systems which,
while differing in their standards, used similar descriptive labels (e.g., fancy, extra fancy, etc.). This
multiplicity of inconsistent state grades [posed] dangers of deception and confusion not only in the North
Carolina market, but in the Nation as a whole. The North Carolina statute, appellants claim, was enacted
to eliminate this source of deception and confusion. [Moreover], it is contended that North Carolina
sought to accomplish this goal of uniformity in an evenhanded manner as evidenced by the fact that its
statute applies to all apples sold in closed containers in the State without regard to their point of origin.
[As] the appellants properly point out, not every exercise of state authority imposing some burden on the
free flow of commerce is invalid, [especially] when the State acts to protect its citizenry in matters
pertaining to the sale of foodstuffs. By the same token, however, a finding that state legislation furthers
matters of legitimate local concern, even in the health and consumer protection areas, does not end the
inquiry. Rather, when such state legislation comes into conflict with the Commerce Clause’s overriding
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requirement of a national “common market,” we are confronted with the task of effecting an
accommodation of the competing national and local interests. We turn to that task.
As the District Court correctly found, the challenged statute has the practical effect of not only burdening
interstate sales of Washington apples, but also discriminating against them. This discrimination takes
various forms. The first, and most obvious, is the statute’s consequence of raising the costs of doing
business in the North Carolina market for Washington apple growers and dealers, while leaving those of
their North Carolina counterparts unaffected. [This] disparate effect results from the fact that North
Carolina apple producers, unlike their Washington competitors, were not forced to alter their marketing
practices in order to comply with the statute. They were still free to market their wares under the USDA
grade or none at all as they had done prior to the statute’s enactment. Obviously, the increased costs
imposed by the statute would tend to shield the local apple industry from the competition of Washington
apple growers and dealers who are already at a competitive disadvantage because of their great distance
from the North Carolina market.
Second, the statute has the effect of stripping away from the Washington apple industry the competitive
and economic advantages it has earned for itself through its expensive inspection and grading system. The
record demonstrates that the Washington apple-grading system has gained nationwide acceptance in the
apple trade. [The record] contains numerous affidavits [stating a] preference [for] apples graded under
the Washington, as opposed to the USDA, system because of the former’s greater consistency, its
emphasis on color, and its supporting mandatory inspections. Once again, the statute had no similar
impact on the North Carolina apple industry and thus operated to its benefit.
Third, by prohibiting Washington growers and dealers from marketing apples under their State’s grades,
the statute has a leveling effect which insidiously operates to the advantage of local apple producers.
[With] free market forces at work, Washington sellers would normally enjoy a distinct market advantage
vis-à-vis local producers in those categories where the Washington grade is superior. However, because of
the statute’s operation, Washington apples which would otherwise qualify for and be sold under the
superior Washington grades will now have to be marketed under their inferior USDA counterparts. Such
“downgrading” offers the North Carolina apple industry the very sort of protection against competing out-
of-state products that the Commerce Clause was designed to prohibit. At worst, it will have the effect of an
embargo against those Washington apples in the superior grades as Washington dealers withhold them
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from the North Carolina market. At best, it will deprive Washington sellers of the market premium that
such apples would otherwise command.
Despite the statute’s facial neutrality, the Commission suggests that its discriminatory impact on
interstate commerce was not an unintended by-product, and there are some indications in the record to
that effect. The most glaring is the response of the North Carolina Agriculture Commissioner to the
Commission’s request for an exemption following the statute’s passage in which he indicated that before
he could support such an exemption, he would “want to have the sentiment from our apple
producers since they were mainly responsible for this legislation being passed.” [Moreover], we find it
somewhat suspect that North Carolina singled out only closed containers of apples, the very means by
which apples are transported in commerce, to effectuate the statute’s ostensible consumer protection
purpose when apples are not generally sold at retail in their shipping containers. However, we need not
ascribe an economic protection motive to the North Carolina Legislature to resolve this case; we conclude
that the challenged statute cannot stand insofar as it prohibits the display of Washington State grades
even if enacted for the declared purpose of protecting consumers from deception and fraud in the
marketplace.
…
Finally, we note that any potential for confusion and deception created by the Washington grades was not
of the type that led to the statute’s enactment. Since Washington grades are in all cases equal or superior
to their USDA counterparts, they could only “deceive” or “confuse” a consumer to his benefit, hardly a
harmful result.
In addition, it appears that nondiscriminatory alternatives to the outright ban of Washington State grades
are readily available. For example, North Carolina could effectuate its goal by permitting out-of-state
growers to utilize state grades only if they also marked their shipments with the applicable USDA label. In
that case, the USDA grade would serve as a benchmark against which the consumer could evaluate the
quality of the various state grades.…
[The court affirmed the lower court’s holding that the North Carolina statute was unconstitutional.]
C A S E Q U E S T I O N S
1. Was the North Carolina law discriminatory on its face? Was it, possibly, an undue burden
on interstate commerce? Why wouldn’t it be?
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2. What evidence was there of discriminatory intent behind the North Carolina law? Did
that evidence even matter? Why or why not?
Citizens United v. Federal Election Commission
Citizens United v. Federal Election Commission
588 U.S. ____; 130 S.Ct. 876 (U.S. Supreme Court 2010)
Justice Kennedy delivered the opinion of the Court.
Federal law prohibits corporations and unions from using their general treasury funds to make
independent expenditures for speech defined as an “electioneering communication” or for speech
expressly advocating the election or defeat of a candidate. 2 U.S.C. §441b. Limits on electioneering
communications were upheld inMcConnell v. Federal Election Comm’n, 540 U.S. 93, 203–209 (2003).
The holding ofMcConnell rested to a large extent on an earlier case, Austin v. Michigan Chamber of
Commerce, 494 U.S. 652 (1990). Austin had held that political speech may be banned based on the
speaker’s corporate identity.
In this case we are asked to reconsider Austin and, in effect, McConnell. It has been noted that
“Austin was a significant departure from ancient First Amendment principles,” Federal Election Comm’n
v. Wisconsin Right to Life, Inc., 551 U.S. 449, 490 (2007) (WRTL) (Scalia, J., concurring in part and
concurring in judgment). We agree with that conclusion and hold that stare decisis does not compel the
continued acceptance of Austin. The Government may regulate corporate political speech through
disclaimer and disclosure requirements, but it may not suppress that speech altogether. We turn to the
case now before us.
I
A
Citizens United is a nonprofit corporation. It has an annual budget of about $12 million. Most of its funds
are from donations by individuals; but, in addition, it accepts a small portion of its funds from for-profit
corporations.
In January 2008, Citizens United released a film entitled Hillary: The Movie. We refer to the film
as Hillary. It is a 90-minute documentary about then-Senator Hillary Clinton, who was a candidate in the
Democratic Party’s 2008 Presidential primary elections. Hillary mentions Senator Clinton by name and
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depicts interviews with political commentators and other persons, most of them quite critical of Senator
Clinton.…
In December 2007, a cable company offered, for a payment of $1.2 million, to makeHillary available on a
video-on-demand channel called “Elections ’08.”…Citizens United was prepared to pay for the video-on-
demand; and to promote the film, it produced two 10-second ads and one 30-second ad for Hillary. Each
ad includes a short (and, in our view, pejorative) statement about Senator Clinton, followed by the name
of the movie and the movie’s Website address. Citizens United desired to promote the video-on-demand
offering by running advertisements on broadcast and cable television.
B
Before the Bipartisan Campaign Reform Act of 2002 (BCRA), federal law prohibited—and still does
prohibit—corporations and unions from using general treasury funds to make direct contributions to
candidates or independent expenditures that expressly advocate the election or defeat of a candidate,
through any form of media, in connection with certain qualified federal elections.…BCRA §203 amended
§441b to prohibit any “electioneering communication” as well. An electioneering communication is
defined as “any broadcast, cable, or satellite communication” that “refers to a clearly identified candidate
for Federal office” and is made within 30 days of a primary or 60 days of a general election. §434(f)(3)(A).
The Federal Election Commission’s (FEC) regulations further define an electioneering communication as
a communication that is “publicly distributed.” 11 CFR §100.29(a)(2) (2009). “In the case of a candidate
for nomination for President…publicly distributed means” that the communication “[c]an be received by
50,000 or more persons in a State where a primary election…is being held within 30 days.” 11 CFR
§100.29(b)(3)(ii). Corporations and unions are barred from using their general treasury funds for express
advocacy or electioneering communications. They may establish, however, a “separate segregated fund”
(known as a political action committee, or PAC) for these purposes. 2 U.S.C. §441b(b)(2). The moneys
received by the segregated fund are limited to donations from stockholders and employees of the
corporation or, in the case of unions, members of the union. Ibid.
C
Citizens United wanted to make Hillary available through video-on-demand within 30 days of the 2008
primary elections. It feared, however, that both the film and the ads would be covered by §441b’s ban on
corporate-funded independent expenditures, thus subjecting the corporation to civil and criminal
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penalties under §437g. In December 2007, Citizens United sought declaratory and injunctive relief against
the FEC. It argued that (1) §441b is unconstitutional as applied to Hillary; and (2) BCRA’s disclaimer and
disclosure requirements, BCRA §§201 and 311, are unconstitutional as applied to Hillary and to the three
ads for the movie.
The District Court denied Citizens United’s motion for a preliminary injunction, and then granted the
FEC’s motion for summary judgment.
…
The court held that §441b was facially constitutional under McConnell, and that §441b was constitutional
as applied to Hillary because it was “susceptible of no other interpretation than to inform the electorate
that Senator Clinton is unfit for office, that the United States would be a dangerous place in a President
Hillary Clinton world, and that viewers should vote against her.” 530 F. Supp. 2d, at 279. The court also
rejected Citizens United’s challenge to BCRA’s disclaimer and disclosure requirements. It noted that “the
Supreme Court has written approvingly of disclosure provisions triggered by political speech even though
the speech itself was constitutionally protected under the First Amendment.” Id. at 281.
II
[Omitted: the court considers whether it is possible to reject the BCRA without declaring certain
provisions unconstitutional. The court concludes it cannot find a basis to reject the BCRA that does not
involve constitutional issues.]
III
The First Amendment provides that “Congress shall make no law…abridging the freedom of speech.”
Laws enacted to control or suppress speech may operate at different points in the speech process.…The
law before us is an outright ban, backed by criminal sanctions. Section 441b makes it a felony for all
corporations—including nonprofit advocacy corporations—either to expressly advocate the election or
defeat of candidates or to broadcast electioneering communications within 30 days of a primary election
and 60 days of a general election. Thus, the following acts would all be felonies under §441b: The Sierra
Club runs an ad, within the crucial phase of 60 days before the general election, that exhorts the public to
disapprove of a Congressman who favors logging in national forests; the National Rifle Association
publishes a book urging the public to vote for the challenger because the incumbent U.S. Senator supports
a handgun ban; and the American Civil Liberties Union creates a Web site telling the public to vote for a
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Presidential candidate in light of that candidate’s defense of free speech. These prohibitions are classic
examples of censorship.
Section 441b is a ban on corporate speech notwithstanding the fact that a PAC created by a corporation
can still speak. PACs are burdensome alternatives; they are expensive to administer and subject to
extensive regulations. For example, every PAC must appoint a treasurer, forward donations to the
treasurer promptly, keep detailed records of the identities of the persons making donations, preserve
receipts for three years, and file an organization statement and report changes to this information within
10 days.
And that is just the beginning. PACs must file detailed monthly reports with the FEC, which are due at
different times depending on the type of election that is about to occur.…
PACs have to comply with these regulations just to speak. This might explain why fewer than 2,000 of the
millions of corporations in this country have PACs. PACs, furthermore, must exist before they can speak.
Given the onerous restrictions, a corporation may not be able to establish a PAC in time to make its views
known regarding candidates and issues in a current campaign.
Section 441b’s prohibition on corporate independent expenditures is thus a ban on speech. As a
“restriction on the amount of money a person or group can spend on political communication during a
campaign,” that statute “necessarily reduces the quantity of expression by restricting the number of issues
discussed, the depth of their exploration, and the size of the audience reached.” Buckley v. Valeo, 424 U.S.
1 at 19 (1976).…
Speech is an essential mechanism of democracy, for it is the means to hold officials accountable to the
people. See Buckley, supra, at 14–15 (“In a republic where the people are sovereign, the ability of the
citizenry to make informed choices among candidates for office is essential.”) The right of citizens to
inquire, to hear, to speak, and to use information to reach consensus is a precondition to enlightened self-
government and a necessary means to protect it. The First Amendment “‘has its fullest and most urgent
application’ to speech uttered during a campaign for political office.”
For these reasons, political speech must prevail against laws that would suppress it, whether by design or
inadvertence. Laws that burden political speech are “subject to strict scrutiny,” which requires the
Government to prove that the restriction “furthers a compelling interest and is narrowly tailored to
achieve that interest.”
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…
The Court has recognized that First Amendment protection extends to corporations. This protection has
been extended by explicit holdings to the context of political speech. Under the rationale of these
precedents, political speech does not lose First Amendment protection “simply because its source is a
corporation.” Bellotti, supra, at 784. The Court has thus rejected the argument that political speech of
corporations or other associations should be treated differently under the First Amendment simply
because such associations are not “natural persons.”
The purpose and effect of this law is to prevent corporations, including small and nonprofit corporations,
from presenting both facts and opinions to the public. This makes Austin’s antidistortion rationale all the
more an aberration. “[T]he First Amendment protects the right of corporations to petition legislative and
administrative bodies.” Bellotti, 435 U.S., at 792, n. 31.…
Even if §441b’s expenditure ban were constitutional, wealthy corporations could still lobby elected
officials, although smaller corporations may not have the resources to do so. And wealthy individuals and
unincorporated associations can spend unlimited amounts on independent expenditures. See, e.g., WRTL,
551 U.S., at 503–504 (opinion of Scalia, J.) (“In the 2004 election cycle, a mere 24 individuals contributed
an astounding total of $142 million to [26 U.S.C. §527 organizations]”). Yet certain disfavored
associations of citizens—those that have taken on the corporate form—are penalized for engaging in the
same political speech.
When Government seeks to use its full power, including the criminal law, to command where a person
may get his or her information or what distrusted source he or she may not hear, it uses censorship to
control thought. This is unlawful. The First Amendment confirms the freedom to think for ourselves.
What we have said also shows the invalidity of other arguments made by the Government. For the most
part relinquishing the anti-distortion rationale, the Government falls back on the argument that corporate
political speech can be banned in order to prevent corruption or its appearance.…
When Congress finds that a problem exists, we must give that finding due deference; but Congress may
not choose an unconstitutional remedy. If elected officials succumb to improper influences from
independent expenditures; if they surrender their best judgment; and if they put expediency before
principle, then surely there is cause for concern. We must give weight to attempts by Congress to seek to
dispel either the appearance or the reality of these influences. The remedies enacted by law, however,
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must comply with the First Amendment; and, it is our law and our tradition that more speech, not less, is
the governing rule. An outright ban on corporate political speech during the critical preelection period is
not a permissible remedy. Here Congress has created categorical bans on speech that are asymmetrical to
preventing quid pro quocorruption.
Our precedent is to be respected unless the most convincing of reasons demonstrates that adherence to it
puts us on a course that is sure error. “Beyond workability, the relevant factors in deciding whether to
adhere to the principle of stare decisis include the antiquity of the precedent, the reliance interests at
stake, and of course whether the decision was well reasoned.” [citing prior cases]
These considerations counsel in favor of rejecting Austin, which itself contravened this Court’s earlier
precedents in Buckley and Bellotti. “This Court has not hesitated to overrule decisions offensive to the
First Amendment.” WRTL, 551 U.S., at 500 (opinion of Scalia, J.). “[S]tare decisis is a principle of policy
and not a mechanical formula of adherence to the latest decision.” Helvering v. Hallock, 309 U.S. 106 at
119 (1940).
Austin is undermined by experience since its announcement. Political speech is so ingrained in our
culture that speakers find ways to circumvent campaign finance laws. See, e.g., McConnell, 540 U.S., at
176–177 (“Given BCRA’s tighter restrictions on the raising and spending of soft money, the incentives…to
exploit [26 U.S.C. §527] organizations will only increase”). Our Nation’s speech dynamic is changing, and
informative voices should not have to circumvent onerous restrictions to exercise their First Amendment
rights. Speakers have become adept at presenting citizens with sound bites, talking points, and scripted
messages that dominate the 24-hour news cycle. Corporations, like individuals, do not have monolithic
views. On certain topics corporations may possess valuable expertise, leaving them the best equipped to
point out errors or fallacies in speech of all sorts, including the speech of candidates and elected officials.
Rapid changes in technology—and the creative dynamic inherent in the concept of free expression—
counsel against upholding a law that restricts political speech in certain media or by certain speakers.
Today, 30-second television ads may be the most effective way to convey a political message. Soon,
however, it may be that Internet sources, such as blogs and social networking Web sites, will provide
citizens with significant information about political candidates and issues. Yet, §441b would seem to ban a
blog post expressly advocating the election or defeat of a candidate if that blog were created with
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corporate funds. The First Amendment does not permit Congress to make these categorical distinctions
based on the corporate identity of the speaker and the content of the political speech.
Due consideration leads to this conclusion: Austin should be and now is overruled. We return to the
principle established in Buckley and Bellotti that the Government may not suppress political speech on
the basis of the speaker’s corporate identity. No sufficient governmental interest justifies limits on the
political speech of nonprofit or for-profit corporations.
[IV. Omitted]
V
When word concerning the plot of the movie Mr. Smith Goes to Washington reached the circles of
Government, some officials sought, by persuasion, to discourage its distribution. See Smoodin,
“Compulsory” Viewing for Every Citizen: Mr. Smith and the Rhetoric of Reception, 35 Cinema Journal 3,
19, and n. 52 (Winter 1996) (citing Mr. Smith Riles Washington, Time, Oct. 30, 1939, p. 49); Nugent,
Capra’s Capitol Offense, N. Y. Times, Oct. 29, 1939, p. X5. Under Austin, though, officials could have done
more than discourage its distribution—they could have banned the film. After all, it, likeHillary, was
speech funded by a corporation that was critical of Members of Congress.Mr. Smith Goes to
Washington may be fiction and caricature; but fiction and caricature can be a powerful force.
Modern day movies, television comedies, or skits on YouTube.com might portray public officials or public
policies in unflattering ways. Yet if a covered transmission during the blackout period creates the
background for candidate endorsement or opposition, a felony occurs solely because a corporation, other
than an exempt media corporation, has made the “purchase, payment, distribution, loan, advance,
deposit, or gift of money or anything of value” in order to engage in political speech. 2 U.S.C.
§431(9)(A)(i). Speech would be suppressed in the realm where its necessity is most evident: in the public
dialogue preceding a real election. Governments are often hostile to speech, but under our law and our
tradition it seems stranger than fiction for our Government to make this political speech a crime. Yet this
is the statute’s purpose and design.
Some members of the public might consider Hillary to be insightful and instructive; some might find it to
be neither high art nor a fair discussion on how to set the Nation’s course; still others simply might
suspend judgment on these points but decide to think more about issues and candidates. Those choices
and assessments, however, are not for the Government to make. “The First Amendment underwrites the
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freedom to experiment and to create in the realm of thought and speech. Citizens must be free to use new
forms, and new forums, for the expression of ideas. The civic discourse belongs to the people, and the
Government may not prescribe the means used to conduct it.” McConnell, supra, at 341 (opinion of
Kennedy, J.).
The judgment of the District Court is reversed with respect to the constitutionality of 2 U.S.C. §441b’s
restrictions on corporate independent expenditures. The case is remanded for further proceedings
consistent with this opinion.
It is so ordered.
C A S E Q U E S T I O N S
1. What does the case say about disclosure? Corporations have a right of free speech under
the First Amendment and may exercise that right through unrestricted contributions of
money to political parties and candidates. Can the government condition that right by
requiring that the parties and candidates disclose to the public the amount and origin of
the contribution? What would justify such a disclosure requirement?
2. Are a corporation’s contributions to political parties and candidates tax deductible as a
business expense? Should they be?
3. How is the donation of money equivalent to speech? Is this a strict construction of the
Constitution to hold that it is?
4. Based on the Court’s description of the Austin case, what purpose do you think
the Austin court was trying to achieve by limiting corporate campaign contributions?
Was that purpose consistent (or inconsistent) with anything in the Constitution, or is the
Constitution essentially silent on this issue?
4.7 Summary and Exercises
Summary
The US. Constitution sets the framework for all other laws of the United States, at both the federal and the
state level. It creates a shared balance of power between states and the federal government (federalism)
and shared power among the branches of government (separation of powers), establishes individual rights
against governmental action (Bill of Rights), and provides for federal oversight of matters affecting
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interstate commerce and commerce with foreign nations. Knowing the contours of the US legal system is
not possible without understanding the role of the US Constitution.
The Constitution is difficult to amend. Thus when the Supreme Court uses its power of judicial review to
determine that a law is unconstitutional, it actually shapes what the Constitution means. New meanings
that emerge must do so by the process of amendment or by the passage of time and new appointments to
the court. Because justices serve for life, the court changes its philosophical outlook slowly.
The Bill of Rights is an especially important piece of the Constitutional framework. It provides legal
causes of action for infringements of individual rights by government, state or federal. Through the due
process clause of the Fifth Amendment and the Fourteenth Amendment, both procedural and (to some
extent) substantive due process rights are given to individuals.
E X E R C I S E S
1. For many years, the Supreme Court believed that “commercial speech” was entitled to less
protection than other forms of speech. One defining element of commercial speech is that its
dominant theme is to propose a commercial transaction. This kind of speech is protected by the
First Amendment, but the government is permitted to regulate it more closely than other forms of
speech. However, the government must make reasonable distinctions, must narrowly tailor the
rules restricting commercial speech, and must show that government has a legitimate goal that
the law furthers.
Edward Salib owned a Winchell’s Donut House in Mesa, Arizona. To attract customers, he
displayed large signs in store windows. The city ordered him to remove the signs because they
violated the city’s sign code, which prohibited covering more than 30 percent of a store’s windows
with signs. Salib sued, claiming that the sign code violated his First Amendment rights. What was
the result, and why?
2. Jennifer is a freshman at her local public high school. Her sister, Jackie, attends a nearby
private high school. Neither school allows them to join its respective wrestling team;
only boys can wrestle at either school. Do either of them have a winning case based on
the equal protection clause of the Fourteenth Amendment?
3. The employees of the US Treasury Department that work the border crossing between
the United States and Mexico learned that they will be subject to routine drug testing.
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The customs bureau, which is a division of the treasury department, announces this
policy along with its reasoning: since customs agents must routinely search for drugs
coming into the United States, it makes sense that border guards must themselves be
completely drug-free. Many border guards do not use drugs, have no intention of using
drugs, and object to the invasion of their privacy. What is the constitutional basis for
their objection?
4. Happy Time Chevrolet employs Jim Bydalek as a salesman. Bydalek takes part in a Gay
Pride March in Los Angeles, is interviewed by a local news camera crew, and reports that
he is gay and proud of it. His employer is not, and he is fired. Does he have any
constitutional causes of action against his employer?
5. You begin work at the Happy-Go-Lucky Corporation on Halloween. On your second day
at work, you wear a political button on your coat, supporting your choice for US senator
in the upcoming election. Your boss, who is of a different political persuasion, looks at
the button and says, “Take that stupid button off or you’re fired.” Has your boss violated
your constitutional rights?
6. David Lucas paid $975,000 for two residential parcels on the Isle of Palms near
Charleston, South Carolina. His intention was to build houses on them. Two years later,
the South Carolina legislature passed a statute that prohibited building beachfront
properties. The purpose was to leave the dunes system in place to mitigate the effects of
hurricanes and strong storms. The South Carolina Coastal Commission created the rules
and regulations with substantial input from the community and from experts and with
protection of the dune system primarily in mind. People had been building on the
shoreline for years, with harmful results to localities and the state treasury. When Lucas
applied for permits to build two houses near the shoreline, his permits were rejected. He
sued, arguing that the South Carolina legislation had effectively “taken” his property. At
trial, South Carolina conceded that because of the legislation, Lucas’s property was
effectively worth zero. Has there been a taking under the Fifth Amendment (as
incorporated through the Fourteenth Amendment), and if so, what should the state owe
to Lucas? Suppose that Lucas could have made an additional $1 million by building a
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house on each of his parcels. Is he entitled to recover his original purchase price or his
potential profits?
S E L F – T E S T Q U E S T I O N S
1. Harvey filed a suit against the state of Colorado, claiming that a Colorado state law violates the
commerce clause. The court will agree if the statute
a. places an undue burden on interstate commerce
b. promotes the public health, safety, morals, or general welfare of Colorado
c. regulates economic activities within the state’s borders
d. a and b
e. b and c
The state legislature in Maine enacts a law that directly conflicts with a federal law. Mapco
Industries, located in Portland, Maine, cannot comply with both the state and the federal law.
a. Because of federalism, the state law will have priority, as long as
Maine is using its police powers.
b. Because there’s a conflict, both laws are invalid; the state and the
federal government will have to work out a compromise of some sort.
c. The federal law preempts the state law.
d. Both laws govern concurrently.
Hannah, who lives in Ada, is the owner of Superior Enterprises, Inc. She believes that certain
actions in the state of Ohio infringe on her federal constitutional rights, especially those found in the Bill
of Rights. Most of these rights apply to the states under
a. the supremacy clause
b. the protection clause
c. the due process clause of the Fourteenth Amendment
d. the Tenth Amendment
Minnesota enacts a statute that bans all advertising that is in “bad taste,” “vulgar,” or
“indecent.” In Michigan, Aaron Calloway and his brother, Clarence “Cab” Calloway, create unique beer
that they decide to call Old Fart Ale. In their marketing, the brothers have a label in which an older man in
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a dirty T-shirt is sitting in easy chair, looking disheveled and having a three-day growth of stubble on his
chin. It appears that the man is in the process of belching. He is also holding a can of Old Fart Ale. The
Minnesota liquor commission orders all Minnesota restaurants, bars, and grocery stores to remove Old
Fart Ale from their shelves. The state statute and the commission’s order are likely to be held by a court
to be
a. a violation of the Tenth Amendment
b. a violation of the First Amendment
c. a violation of the Calloways’ right to equal protection of the laws
d. a violation of the commerce clause, since only the federal laws can prevent an
article of commerce from entering into Minnesota’s market
Raunch Unlimited, a Virginia partnership, sells smut whenever and wherever it can. Some of its
material is “obscene” (meeting the Supreme Court’s definition under Miller v. California) and includes
child pornography. North Carolina has a statute that criminalizes obscenity. What are possible results if a
store in Raleigh, North Carolina, carries Raunch merchandise?
a. The partners could be arrested in North Carolina and may well be
convicted.
b. The materials in Raleigh may be the basis for a criminal conviction.
c. The materials are protected under the First Amendment’s right of free
speech.
d. The materials are protected under state law.
e. a and b
S E L F – T E S T A N S W E R S
1. a
2. c
3. c
4. b
5. e
Chapter 5
Administrative Law
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L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Understand the purpose served by federal administrative agencies.
2. Know the difference between executive branch agencies and independent agencies.
3. Understand the political control of agencies by the president and Congress.
4. Describe how agencies make rules and conduct hearings.
5. Describe how courts can be used to challenge administrative rulings.
From the 1930s on, administrative agencies, law, and procedures have virtually remade our government
and much of private life. Every day, business must deal with rules and decisions of state and federal
administrative agencies. Informally, such rules are often called regulations, and they differ (only in their
source) from laws passed by Congress and signed into law by the president. The rules created by agencies
are voluminous: thousands of new regulations pour forth each year. The overarching question of whether
there is too much regulation—or the wrong kind of regulation—of our economic activities is an important
one but well beyond the scope of this chapter, in which we offer an overview of the purpose of
administrative agencies, their structure, and their impact on business.
5.1 Administrative Agencies: Their Structure and Powers
L E A R N I N G O B J E C T I V E S
1. Explain the reasons why we have federal administrative agencies.
2. Explain the difference between executive branch agencies and independent agencies.
3. Describe the constitutional issue that questions whether administrative agencies could
have authority to make enforceable rules that affect business.
Why Have Administrative Agencies?
The US Constitution mentions only three branches of government: legislative, executive, and judicial
(Articles I, II, and III). There is no mention of agencies in the Constitution, even though federal agencies
are sometimes referred to as “the fourth branch of government.” The Supreme Court has recognized the
legitimacy of federaladministrative agencies to make rules that have the same binding effect as statutes by
Congress.
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Most commentators note that having agencies with rule-making power is a practical necessity: (1)
Congress does not have the expertise or continuity to develop specialized knowledge in various areas (e.g.,
communications, the environment, aviation). (2) Because of this, it makes sense for Congress to set forth
broad statutory guidance to an agency and delegate authority to the agency to propose rules that further
the statutory purposes. (3) As long as Congress makes this delegating guidance sufficiently clear, it is not
delegating improperly. If Congress’s guidelines are too vague or undefined, it is (in essence) giving away
its constitutional power to some other group, and this it cannot do.
Why Regulate the Economy at All?
The market often does not work properly, as economists often note. Monopolies, for example, happen in
the natural course of human events but are not always desirable. To fix this, well-conceived and
objectively enforced competition law (what is called antitrust law in the United States) is needed.
Negative externalities must be “fixed,” as well. For example, as we see in tort law (Chapter 7 “Introduction
to Tort Law”), people and business organizations often do things that impose costs (damages) on others,
and the legal system will try—through the award of compensatory damages—to make fair adjustments. In
terms of the ideal conditions for a free market, think of tort law as the legal system’s attempt to
compensate for negative externalities: those costs imposed on people who have not voluntarily consented
to bear those costs.
In terms of freedoms to enter or leave the market, the US constitutional guarantees of equal protection
can prevent local, state, and federal governments from imposing discriminatory rules for commerce that
would keep minorities, women, and gay people from full participation in business. For example, if the
small town of Xenophobia, Colorado, passed a law that required all business owners and their employees
to be Christian, heterosexual, and married, the equal protection clause (as well as numerous state and
federal equal opportunity employment laws) would empower plaintiffs to go to court and have the law
struck down as unconstitutional.
Knowing that information is power, we will see many laws administered by regulatory agencies that seek
to level the playing field of economic competition by requiring disclosure of the most pertinent
information for consumers (consumer protection laws), investors (securities laws), and citizens (e.g., the
toxics release inventory laws in environmental law).
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Ideal Conditions for a Free Market
1. There are many buyers and many sellers, and none of them has a substantial share of
the market.
2. All buyers and sellers in the market are free to enter the market or leave it.
3. All buyers and all sellers have full and perfect knowledge of what other buyers and
sellers are up to, including knowledge of prices, quantity, and quality of all goods being
bought or sold.
4. The goods being sold in the market are similar enough to each other that participants do
not have strong preferences as to which seller or buyer they deal with.
5. The costs and benefits of making or using the goods that are exchanged in the market
are borne only by those who buy or sell those goods and not by third parties or people
“external” to the market transaction. (That is, there are no “externalities.”)
6. All buyers and sellers are utility maximizers; each participant in the market tries to get
as much as possible for as little as possible.
7. There are no parties, institutions, or governmental units regulating the price, quantity,
or quality of any of the goods being bought and sold in the market.
In short, some forms of legislation and regulation are needed to counter a tendency toward consolidation
of economic power (Chapter 48 “Antitrust Law”) and discriminatory attitudes toward certain individuals
and groups (Chapter 50 “Employment Law”) and to insist that people and companies clean up their own
messes and not hide information that would empower voluntary choices in the free market.
But there are additional reasons to regulate. For example, in economic systems, it is likely for natural
monopolies to occur. These are where one firm can most efficiently supply all of the good or service.
Having duplicate (or triplicate) systems for supplying electricity, for example, would be inefficient, so
most states have a public utilities commission to determine both price and quality of service. This is direct
regulation.
Sometimes destructive competition can result if there is no regulation. Banking and insurance are good
examples of this. Without government regulation of banks (setting standards and methods), open and
fierce competition would result in widespread bank failures. That would erode public confidence in banks
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and business generally. The current situation (circa 2011) of six major banks that are “too big to fail” is,
however, an example of destructive noncompetition.
Other market imperfections can yield a demand for regulation. For example, there is a need to regulate
frequencies for public broadcast on radio, television, and other wireless transmissions (for police, fire,
national defense, etc.). Many economists would also list an adequate supply of public goods as something
that must be created by government. On its own, for example, the market would not provide public goods
such as education, a highway system, lighthouses, a military for defense.
True laissez-faire capitalism—a market free from any regulation—would not try to deal with market
imperfections and would also allow people to freely choose products, services, and other arrangements
that historically have been deemed socially unacceptable. These would include making enforceable
contracts for the sale and purchase of persons (slavery), sexual services, “street drugs” such as heroin or
crack cocaine, votes for public office, grades for this course in business law, and even marriage
partnership.
Thus the free market in actual terms—and not in theory—consists of commerce legally constrained by
what is economically desirable and by what is socially desirable as well. Public policy objectives in the
social arena include ensuring equal opportunity in employment, protecting employees from unhealthy or
unsafe work environments, preserving environmental quality and resources, and protecting consumers
from unsafe products. Sometimes these objectives are met by giving individuals statutory rights that can
be used in bringing a complaint (e.g., Title VII of the Civil Rights Act of 1964, for employment
discrimination), and sometimes they are met by creating agencies with the right to investigate and
monitor and enforce statutory law and regulations created to enforce such law (e.g., the Environmental
Protection Agency, for bringing a lawsuit against a polluting company).
History of Federal Agencies
Through the commerce clause in the US Constitution, Congress has the power to regulate trade between
the states and with foreign nations. The earliest federal agency therefore dealt with trucking and railroads,
to literally set the rules of the road for interstate commerce. The first federal agency, the Interstate
Commerce Commission (ICC), was created in 1887. Congress delegated to the ICC the power to enforce
federal laws against railroad rate discrimination and other unfair pricing practices. By the early part of
this century, the ICC gained the power to fix rates. From the 1970s through 1995, however, Congress
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passed deregulatory measures, and the ICC was formally abolished in 1995, with its powers transferred to
the Surface Transportation Board.
Beginning with the Federal Trade Commission (FTC) in 1914, Congress has created numerous other
agencies, many of them familiar actors in American government. Today more than eighty-five federal
agencies have jurisdiction to regulate some form of private activity. Most were created since 1930, and
more than a third since 1960. A similar growth has occurred at the state level. Most states now have
dozens of regulatory agencies, many of them overlapping in function with the federal bodies.
Classification of Agencies
Independent agencies are different from federal executive departments and other executive agencies by
their structural and functional characteristics. Most executive departments have a single director,
administrator, or secretary appointed by the president of the United States. Independent agencies almost
always have a commission or board consisting of five to seven members who share power over the agency.
The president appoints the commissioners or board subject to Senate confirmation, but they often serve
with staggered terms and often for longer terms than a usual four-year presidential term. They cannot be
removed except for “good cause.” This means that most presidents will not get to appoint all the
commissioners of a given independent agency. Most independent agencies have a statutory requirement
of bipartisan membership on the commission, so the president cannot simply fill vacancies with members
of his own political party.
In addition to the ICC and the FTC, the major independent agencies are the Federal Communications
Commission (1934), Securities and Exchange Commission (1934), National Labor Relations Board (1935),
and Environmental Protection Agency (1970). See Note 5.4 “Ideal Conditions for a Free Market” in the
sidebar.
By contrast, members of executive branch agencies serve at the pleasure of the president and are therefore
far more amenable to political control. One consequence of this distinction is that the rules that
independent agencies promulgate may not be reviewed by the president or his staff—only Congress may
directly overrule them—whereas the White House or officials in the various cabinet departments may
oversee the work of the agencies contained within them (unless specifically denied the power by
Congress).
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Powers of Agencies
Agencies have a variety of powers. Many of the original statutes that created them, like the Federal
Communications Act, gave them licensing power. No party can enter into the productive activity covered
by the act without prior license from the agency—for example, no utility can start up a nuclear power
plant unless first approved by the Nuclear Regulatory Commission. In recent years, the move toward
deregulation of the economy has led to diminution of some licensing power. Many agencies also have the
authority to set the rates charged by companies subject to the agency’s jurisdiction. Finally, the agencies
can regulate business practices. The FTC has general jurisdiction over all business in interstate commerce
to monitor and root out “unfair acts” and “deceptive practices.” The Securities and Exchange Commission
(SEC) oversees the issuance of corporate securities and other investments and monitors the practices of
the stock exchanges.
Unlike courts, administrative agencies are charged with the responsibility of carrying out a specific
assignment or reaching a goal or set of goals. They are not to remain neutral on the various issues of the
day; they must act. They have been given legislative powers because in a society growing ever more
complex, Congress does not know how to legislate with the kind of detail that is necessary, nor would it
have the time to approach all the sectors of society even if it tried. Precisely because they are to do what
general legislative bodies cannot do, agencies are specialized bodies. Through years of experience in
dealing with similar problems they accumulate a body of knowledge that they can apply to accomplish
their statutory duties.
All administrative agencies have two different sorts of personnel. The heads, whether a single
administrator or a collegial body of commissioners, are political appointees and serve for relatively
limited terms. Below them is a more or less permanent staff—the bureaucracy. Much policy making
occurs at the staff level, because these employees are in essential control of gathering facts and presenting
data and argument to the commissioners, who wield the ultimate power of the agencies.
The Constitution and Agencies
Congress can establish an agency through legislation. When Congress gives powers to an agency, the
legislation is known as an enabling act. The concept that Congress can delegate power to an agency is
known as the delegation doctrine. Usually, the agency will have all three kinds of power: executive,
legislative, and judicial. (That is, the agency can set the rules that business must comply with, can
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investigate and prosecute those businesses, and can hold administrative hearings for violations of those
rules. They are, in effect, rule maker, prosecutor, and judge.) Because agencies have all three types of
governmental powers, important constitutional questions were asked when Congress first created them.
The most important question was whether Congress was giving away its legislative power. Was the
separation of powers violated if agencies had power to make rules that were equivalent to legislative
statutes?
In 1935, in Schechter Poultry Corp. v. United States, the Supreme Court overturned the National
Industrial Recovery Act on the ground that the congressional delegation of power was too broad.
[1]
Under
the law, industry trade groups were granted the authority to devise a code of fair competition for the
entire industry, and these codes became law if approved by the president. No administrative body was
created to scrutinize the arguments for a particular code, to develop evidence, or to test one version of a
code against another. Thus it was unconstitutional for the Congress to transfer all of its legislative powers
to an agency. In later decisions, it was made clear that Congress could delegate some of its legislative
powers, but only if the delegation of authority was not overly broad.
Still, some congressional enabling acts are very broad, such as the enabling legislation for the
Occupational Safety and Health Administration (OSHA), which is given the authority to make rules to
provide for safe and healthful working conditions in US workplaces. Such a broad initiative power gives
OSHA considerable discretion. But, as noted in Section 5.2 “Controlling Administrative Agencies”, there
are both executive and judicial controls over administrative agency activities, as well as ongoing control by
Congress through funding and the continuing oversight of agencies, both in hearings and through
subsequent statutory amendments.
K E Y T A K E A W A Y
Congress creates administrative agencies through enabling acts. In these acts, Congress must delegate
authority by giving the agency some direction as to what it wants the agency to do. Agencies are usually
given broad powers to investigate, set standards (promulgating regulations), and enforce those standards.
Most agencies are executive branch agencies, but some are independent.
E X E R C I S E S
1. Explain why Congress needs to delegate rule-making authority to a specialized agency.
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2. Explain why there is any need for interference in the market by means of laws or
regulations.
[1] Schechter Poultry Corp. v. United States, 295 US 495 (1935).
5.2 Controlling Administrative Agencies
L E A R N I N G O B J E C T I V E S
1. Understand how the president controls administrative agencies.
2. Understand how Congress controls administrative agencies.
3. Understand how the courts can control administrative agencies.
During the course of the past seventy years, a substantial debate has been conducted, often in shrill terms, about the
legitimacy of administrative lawmaking. One criticism is that agencies are “captured” by the industry they are directed
to regulate. Another is that they overregulate, stifling individual initiative and the ability to compete. During the
1960s and 1970s, a massive outpouring of federal law created many new agencies and greatly strengthened the hands
of existing ones. In the late 1970s during the Carter administration, Congress began to deregulate American society,
and deregulation increased under the Reagan administration. But the accounting frauds of WorldCom, Enron, and
others led to the Sarbanes-Oxley Act of 2002, and the financial meltdown of 2008 has led to reregulation of the
financial sector. It remains to be seen whether the Deepwater Horizon oil blowout of 2010 will lead to more
environmental regulations or a rethinking on how to make agencies more effective regulators.
Administrative agencies are the focal point of controversy because they are policy-making bodies, incorporating facets
of legislative, executive, and judicial power in a hybrid form that fits uneasily at best in the framework of American
government (seeFigure 5.1 “Major Administrative Agencies of the United States”). They are necessarily at the center
of tugging and hauling by the legislature, the executive branch, and the judiciary, each of which has different means of
exercising political control over them. In early 1990, for example, the Bush administration approved a Food and Drug
Administration regulation that limited disease-prevention claims by food packagers, reversing a position by the
Reagan administration in 1987 permitting such claims.
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Figure 5.1 Major Administrative Agencies of the United States
Legislative Control
Congress can always pass a law repealing a regulation that an agency promulgates. Because this is a time-
consuming process that runs counter to the reason for creating administrative bodies, it happens rarely.
Another approach to controlling agencies is to reduce or threaten to reduce their appropriations. By
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retaining ultimate control of the purse strings, Congress can exercise considerable informal control over
regulatory policy.
Executive Control
The president (or a governor, for state agencies) can exercise considerable control over agencies that are
part of his cabinet departments and that are not statutorily defined as independent. Federal agencies,
moreover, are subject to the fiscal scrutiny of the Office of Management and Budget (OMB), subject to the
direct control of the president. Agencies are not permitted to go directly to Congress for increases in
budget; these requests must be submitted through the OMB, giving the president indirect leverage over
the continuation of administrators’ programs and policies.
Judicial Review of Agency Actions
Administrative agencies are creatures of law and like everyone else must obey the law. The courts have
jurisdiction to hear claims that the agencies have overstepped their legal authority or have acted in some
unlawful manner.
Courts are unlikely to overturn administrative actions, believing in general that the agencies are better
situated to judge their own jurisdiction and are experts in rulemaking for those matters delegated to them
by Congress. Some agency activities are not reviewable, for a number of reasons. However, after a
business (or some other interested party) has exhausted all administrative remedies, it may seek judicial
review of a final agency decision. The reviewing court is often asked to strike down or modify agency
actions on several possible bases (see Section 5.5.2 “Strategies for Obtaining Judicial Review” on
“Strategies for Obtaining Judicial Review”).
K E Y T A K E A W A Y
Administrative agencies are given unusual powers: to legislate, investigate, and adjudicate. But these
powers are limited by executive and legislative controls and by judicial review.
E X E R C I S E S
1. Find the website of the Consumer Product Safety Commission (CPSC). Identify from that
site a product that has been banned by the CPSC for sale in the United States. What
reasons were given for its exclusion from the US market?
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2. What has Congress told the CPSC to do in its enabling act? Is this a clear enough
mandate to guide the agency? What could Congress do if the CPSC does something that
may be outside of the scope of its powers? What can an affected business do?
5.3 The Administrative Procedure Act
L E A R N I N G O B J E C T I V E S
1. Understand why the Administrative Procedure Act was needed.
2. Understand how hearings are conducted under the act.
3. Understand how the act affects rulemaking by agencies.
In 1946, Congress enacted the Administrative Procedure Act (APA). This fundamental statute detailed for all
federal administrative agencies how they must function when they are deciding cases or issuing regulations, the two
basic tasks of administration. At the state level, the Model State Administrative Procedure Act, issued in 1946 and
revised in 1961, has been adopted in twenty-eight states and the District of Columbia; three states have adopted the
1981 revision. The other states have statutes that resemble the model state act to some degree.
Trial-Type Hearings
Deciding cases is a major task of many agencies. For example, the Federal Trade Commission (FTC) is
empowered to charge a company with having violated the Federal Trade Commission Act. Perhaps a seller
is accused of making deceptive claims in its advertising. Proceeding in a manner similar to a court, staff
counsel will prepare a case against the company, which can defend itself through its lawyers. The case is
tried before an administrative law judge (ALJ), formerly known as an administrative hearing examiner.
The change in nomenclature was made in 1972 to enhance the prestige of ALJs and more accurately
reflect their duties. Although not appointed for life as federal judges are, the ALJ must be free of
assignments inconsistent with the judicial function and is not subject to supervision by anyone in the
agency who carries on an investigative or prosecutorial function.
The accused parties are entitled to receive notice of the issues to be raised, to present evidence, to argue,
to cross-examine, and to appear with their lawyers. Ex parte (eks PAR-tay) communications—contacts
between the ALJ and outsiders or one party when both parties are not present—are prohibited. However,
the usual burden-of-proof standard followed in a civil proceeding in court does not apply: the ALJ is not
bound to decide in favor of that party producing the more persuasive evidence. The rule in most
administrative proceedings is “substantial evidence,” evidence that is not flimsy or weak, but is not
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necessarily overwhelming evidence, either. The ALJ in most cases will write an opinion. That opinion is
not the decision of the agency, which can be made only by the commissioners or agency head. In effect,
the ALJ’s opinion is appealed to the commission itself.
Certain types of agency actions that have a direct impact on individuals need not be filtered through a full-
scale hearing. Safety and quality inspections (grading of food, inspection of airplanes) can be made on the
spot by skilled inspectors. Certain licenses can be administered through tests without a hearing (a test for
a driver’s license), and some decisions can be made by election of those affected (labor union elections).
Rulemaking
Trial-type hearings generally impose on particular parties liabilities based on past or present facts.
Because these cases will serve as precedents, they are a partial guide to future conduct by others. But they
do not directly apply to nonparties, who may argue in a subsequent case that their conduct does not fit
within the holding announced in the case. Agencies can affect future conduct far more directly by
announcing rules that apply to all who come within the agency’s jurisdiction.
The acts creating most of the major federal agencies expressly grant them authority to engage in
rulemaking. This means, in essence, authority to legislate. The outpouring of federal regulations has been
immense. The APA directs agencies about to engage in rulemaking to give notice in
the Federal Register of their intent to do so. The Federal
Register is published daily, Monday through Friday, in Washington, DC, and contains notice of various
actions, including announcements of proposed rulemaking and regulations as adopted. The notice must
specify the time, place, and nature of the rulemaking and offer a description of the proposed rule or the
issues involved. Any interested person or organization is entitled to participate by submitting written
“data, views or arguments.” Agencies are not legally required to air debate over proposed rules, though
they often do so.
The procedure just described is known as “informal” rulemaking. A different procedure is required for
“formal” rulemaking, defined as those instances in which the enabling legislation directs an agency to
make rules “on the record after opportunity for an agency hearing.” When engaging in formal rulemaking,
agencies must hold an adversary hearing.
Administrative regulations are not legally binding unless they are published. Agencies must publish in
the Federal Register the text of final regulations, which ordinarily do not become effective until thirty
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days later. Every year the annual output of regulations is collected and reprinted in
the Code of Federal Regulations (CFR), a multivolume
paperback series containing all federal rules and regulations keyed to the fifty titles of the US Code (the
compilation of all federal statutes enacted by Congress and grouped according to subject).
K E Y T A K E A W A Y
Agencies make rules that have the same effect as laws passed by Congress and the president. But such
rules (regulations) must allow for full participation by interested parties. The Administrative Procedure Act
(APA) governs both rulemaking and the agency enforcement of regulations, and it provides a process for
fair hearings.
E X E R C I S E S
1. Go to http://www.regulations.gov/search/Regs/home.html#home. Browse the site. Find
a topic that interests you, and then find a proposed regulation. Notice how comments
on the proposed rule are invited.
2. Why would there be a trial by an administrative agency? Describe the process.
5.4 Administrative Burdens on Business Operations
L E A R N I N G O B J E C T I V E S
1. Describe the paperwork burden imposed by administrative agencies.
2. Explain why agencies have the power of investigation, and what limits there are to that
power.
3. Explain the need for the Freedom of Information Act and how it works in the US legal
system.
The Paperwork Burden
The administrative process is not frictionless. The interplay between government agency and private
enterprise can burden business operations in a number of ways. Several of these are noted in this section.
Deciding whether and how to act are not decisions that government agencies reach out of the blue. They
rely heavily on information garnered from business itself. Dozens of federal agencies require corporations
to keep hundreds of types of records and to file numerous periodic reports. The Commission on Federal
Paperwork, established during the Ford administration to consider ways of reducing the paperwork
burden, estimated in its final report in 1977 that the total annual cost of federal paperwork amounted to
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$50 billion and that the 10,000 largest business enterprises spent $10 billion annually on paperwork
alone. The paperwork involved in licensing a single nuclear power plant, the commission said, costs
upward of $15 million.
Not surprisingly, therefore, businesses have sought ways of avoiding requests for data. Since the 1940s,
the Federal Trade Commission (FTC) has collected economic data on corporate performance from
individual companies for statistical purposes. As long as each company engages in a single line of
business, data are comparable. When the era of conglomerates began in the 1970s, with widely divergent
types of businesses brought together under the roof of a single corporate parent, the data became useless
for purposes of examining the competitive behavior of different industries. So the FTC ordered dozens of
large companies to break out their economic information according to each line of business that they
carried on. The companies resisted, but the US Court of Appeals for the District of Columbia Circuit,
where much of the litigation over federal administrative action is decided, directed the companies to
comply with the commission’s order, holding that the Federal Trade Commission Act clearly permits the
agency to collect information for investigatory purposes.
[1]
In 1980, responding to cries that businesses, individuals, and state and local governments were being
swamped by federal demands for paperwork, Congress enacted the Paperwork Reduction Act. It gives
power to the federal Office of Management and Budget (OMB) to develop uniform policies for
coordinating the gathering, storage, and transmission of all the millions of reports flowing in each year to
the scores of federal departments and agencies requesting information. These reports include tax and
Medicare forms, financial loan and job applications, questionnaires of all sorts, compliance reports, and
tax and business records. The OMB was given the power also to determine whether new kinds of
information are needed. In effect, any agency that wants to collect new information from outside must
obtain the OMB’s approval.
Inspections
No one likes surprise inspections. A section of the Occupational Safety and Health Act of 1970 empowers
agents of the Occupational Safety and Health Administration (OSHA) to search work areas for safety
hazards and for violations of OSHA regulations. The act does not specify whether inspectors are required
to obtain search warrants, required under the Fourth Amendment in criminal cases. For many years, the
government insisted that surprise inspections are not unreasonable and that the time required to obtain a
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warrant would defeat the surprise element. The Supreme Court finally ruled squarely on the issue in 1978.
In Marshall v. Barlow’s, Inc., the court held that no less than private individuals, businesses are entitled
to refuse police demands to search the premises unless a court has issued a search warrant.
[2]
But where a certain type of business is closely regulated, surprise inspections are the norm, and no
warrant is required. For example, businesses with liquor licenses that might sell to minors are subject to
both overt and covert inspections (e.g., an undercover officer may “search” a liquor store by sending an
underage patron to the store). Or a junkyard that specializes in automobiles and automobile parts may
also be subject to surprise inspections, on the rationale that junkyards are highly likely to be active in the
resale of stolen autos or stolen auto parts.
[3]
It is also possible for inspections to take place without a search warrant and without the permission of the
business. For example, the Environmental Protection Agency (EPA) wished to inspect parts of the Dow
Chemical facility in Midland, Michigan, without the benefit of warrant. When they were refused, agents of
the EPA obtained a fairly advanced aerial mapping camera and rented an airplane to fly over the Dow
facility. Dow went to court for a restraining order against the EPA and a request to have the EPA turn over
all photographs taken. But the Supreme Court ruled that the areas photographed were “open fields” and
not subject to the protections of the Fourth Amendment.
[4]
Access to Business Information in Government Files
In 1966, Congress enacted the Freedom of Information Act (FOIA), opening up to the citizenry many of
the files of the government. (The act was amended in 1974 and again in 1976 to overcome a tendency of
many agencies to stall or refuse access to their files.) Under the FOIA, any person has a legally enforceable
right of access to all government documents, with nine specific exceptions, such as classified military
intelligence, medical files, and trade secrets and commercial or financial information if “obtained from a
person and privileged or confidential.” Without the trade-secret and financial-information exemptions,
business competitors could, merely by requesting it, obtain highly sensitive competitive information
sitting in government files.
A federal agency is required under the FOIA to respond to a document request within ten days. But in
practice, months or even years may pass before the government actually responds to an FOIA request.
Requesters must also pay the cost of locating and copying the records. Moreover, not all documents are
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available for public inspection. Along with the trade-secret and financial-information exemptions, the
FOIA specifically exempts the following:
records required by executive order of the president to be kept secret in the interest of
national defense or public policy
records related solely to the internal personnel rules and practice of an agency
records exempted from disclosure by another statute
interagency memos or decisions reflecting the deliberative process
personnel files and other files that if disclosed, would constitute an unwarranted
invasion of personal privacy
information compiled for law enforcement purposes
geological information concerning wells
Note that the government may provide such information but is not required to provide such information;
it retains discretion to provide information or not.
Regulated companies are often required to submit confidential information to the government. For these
companies, submitting such information presents a danger under the FOIA of disclosure to competitors.
To protect information from disclosure, the company is well advised to mark each document as privileged
and confidential so that government officials reviewing it for a FOIA request will not automatically
disclose it. Most agencies notify a company whose data they are about to disclose. But these practices are
not legally required under the FOIA.
K E Y T A K E A W A Y
Government agencies, in order to do their jobs, collect a great deal of information from businesses. This
can range from routine paperwork (often burdensome) to inspections, those with warrants and those
without. Surprise inspections are allowed for closely regulated industries but are subject to Fourth
Amendment requirements in general. Some information collected by agencies can be accessed using the
Freedom of Information Act.
E X E R C I S E S
1. Give two examples of a closely regulated industry. Explain why some warrantless
searches would be allowed.
2. Find out why FOIA requests often take months or years to accomplish.
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[1] In re FTC Line of Business Report Litigation, 595 F.2d 685 (D.C. Cir. 1978).
[2] Marshall v. Barlow’s, Inc., 436 US 307 (1978).
[3] New York v. Burger, 482 US 691 (1987).
[4] Dow Chemical Co. v. United States Environmental Protection Agency, 476 US 227 (1986).
5.5 The Scope of Judicial Review
L E A R N I N G O B J E C T I V E S
1. Describe the “exhaustion of remedies” requirement.
2. Detail various strategies for obtaining judicial review of agency rules.
3. Explain under what circumstances it is possible to sue the government.
Neither an administrative agency’s adjudication nor its issuance of a regulation is necessarily final. Most
federal agency decisions are appealable to the federal circuit courts. To get to court, the appellant must
overcome numerous complex hurdles. He or she must have standing—that is, be in some sense directly
affected by the decision or regulation. The case must be ripe for review; administrative remedies such as
further appeal within the agency must have been exhausted.
Exhaustion of Administrative Remedies
Before you can complain to court about an agency’s action, you must first try to get the agency to
reconsider its action. Generally, you must have asked for a hearing at the hearing examiner level, there
must have been a decision reached that was unfavorable to you, and you must have appealed the decision
to the full board. The full board must rule against you, and only then will you be heard by a court. The
broadest exception to this exhaustion of administrative remedies requirement is if the agency had no
authority to issue the rule or regulation in the first place, if exhaustion of remedies would be impractical
or futile, or if great harm would happen should the rule or regulation continue to apply. Also, if the agency
is not acting in good faith, the courts will hear an appeal without exhaustion.
Strategies for Obtaining Judicial Review
Once these obstacles are cleared, the court may look at one of a series of claims. The appellant might
assert that the agency’s action was ultra vires (UL-truh VI-reez)—beyond the scope of its authority as set
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down in the statute. This attack is rarely successful. A somewhat more successful claim is that the agency
did not abide by its own procedures or those imposed upon it by the Administrative Procedure Act.
In formal rulemaking, the appellant also might insist that the agency lacked substantial evidence for the
determination that it made. If there is virtually no evidence to support the agency’s findings, the court
may reverse. But findings of fact are not often overturned by the courts.
Likewise, there has long been a presumption that when an agency issues a regulation, it has the authority
to do so: those opposing the regulation must bear a heavy burden in court to upset it. This is not a
surprising rule, for otherwise courts, not administrators, would be the authors of regulations.
Nevertheless, regulations cannot exceed the scope of the authority conferred by Congress on the agency.
In an important 1981 case before the Supreme Court, the issue was whether the secretary of labor, acting
through the Occupational Health and Safety Administration (OSHA), could lawfully issue a standard
limiting exposure to cotton dust in the workplace without first undertaking a cost-benefit analysis. A
dozen cotton textile manufacturers and the American Textile Manufacturers Institute, representing 175
companies, asserted that the cotton dust standard was unlawful because it did not rationally relate the
benefits to be derived from the standard to the costs that the standard would impose. See Section 5.6
“Cases”,American Textile Manufacturers Institute v. Donovan.
In summary, then, an individual or a company may (after exhaustion of administrative remedies)
challenge agency action where such action is the following:
not in accordance with the agency’s scope of authority
not in accordance with the US Constitution or the Administrative Procedure Act
not in accordance with the substantial evidence test
unwarranted by the facts
arbitrary, capricious, an abuse of discretion, or otherwise not in accord with the law
Section 706 of the Administrative Procedure Act sets out those standards. While it is difficult to show that
an agency’s action is arbitrary and capricious, there are cases that have so held. For example, after the
Reagan administration set aside a Carter administration rule from the National Highway Traffic and
Safety Administration on passive restraints in automobiles, State Farm and other insurance companies
challenged the reversal as arbitrary and capricious. Examining the record, the Supreme Court found that
the agency had failed to state enough reasons for its reversal and required the agency to review the record
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and the rule and provide adequate reasons for its reversal. State Farm and other insurance companies
thus gained a legal benefit by keeping an agency rule that placed costs on automakers for increased
passenger safety and potentially reducing the number of injury claims from those it had insured.
[1]
Suing the Government
In the modern administrative state, the range of government activity is immense, and administrative
agencies frequently get in the way of business enterprise. Often, bureaucratic involvement is wholly
legitimate, compelled by law; sometimes, however, agencies or government officials may overstep their
bounds, in a fit of zeal or spite. What recourse does the private individual or company have?
Mainly for historical reasons, it has always been more difficult to sue the government than to sue private
individuals or corporations. For one thing, the government has long had recourse to the doctrine of
sovereign immunity as a shield against lawsuits. Yet in 1976, Congress amended the Administrative
Procedure Act to waive any federal claim to sovereign immunity in cases of injunctive or other
nonmonetary relief. Earlier, in 1946, in the Federal Tort Claims Act, Congress had waived sovereign
immunity of the federal government for most tort claims for money damages, although the act contains
several exceptions for specific agencies (e.g., one cannot sue for injuries resulting from fiscal operations of
the Treasury Department or for injuries stemming from activities of the military in wartime). The act also
contains a major exception for claims “based upon [an official’s] exercise or performance or the failure to
exercise or perform a discretionary function or duty.” This exception prevents suits against parole boards
for paroling dangerous criminals who then kill or maim in the course of another crime and suits against
officials whose decision to ship explosive materials by public carrier leads to mass deaths and injuries
following an explosion en route.
[2]
In recent years, the Supreme Court has been stripping away the traditional immunity enjoyed by many
government officials against personal suits. Some government employees—judges, prosecutors,
legislators, and the president, for example—have absolute immunity against suit for official actions. But
many public administrators and government employees have at best a qualified immunity. Under a
provision of the Civil Rights Act of 1871 (so-called Section 1983 actions), state officials can be sued in
federal court for money damages whenever “under color of any state law” they deprive anyone of his
rights under the Constitution or federal law. In Bivens v. Six Unknown Federal Narcotics Agents, the
Supreme Court held that federal agents may be sued for violating the plaintiff’s Fourth Amendment rights
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against an unlawful search of his home.
[3]
Subsequent cases have followed this logic to permit suits for
violations of other constitutional provisions. This area of the law is in a state of flux, and it is likely to
continue to evolve.
Sometimes damage is done to an individual or business because the government has given out erroneous
information. For example, suppose that Charles, a bewildered, disabled navy employee, is receiving a
federal disability annuity. Under the regulations, he would lose his pension if he took a job that paid him
in each of two succeeding years more than 80 percent of what he earned in his old navy job. A few years
later, Congress changed the law, making him ineligible if he earned more than 80 percent in anyone year.
For many years, Charles earned considerably less than the ceiling amount. But then one year he got the
opportunity to make some extra money. Not wishing to lose his pension, he called an employee relations
specialist in the US Navy and asked how much he could earn and still keep his pension. The specialist
gave him erroneous information over the telephone and then sent him an out-of-date form that said
Charles could safely take on the extra work. Unfortunately, as it turned out, Charles did exceed the salary
limit, and so the government cut off his pension during the time he earned too much. Charles sues to
recover his lost pension. He argues that he relied to his detriment on false information supplied by the
navy and that in fairness the government should be estopped from denying his claim.
Unfortunately for Charles, he will lose his case. In Office of Personnel Management v. Richmond, the
Supreme Court reasoned that it would be unconstitutional to permit recovery.
[4]
The appropriations
clause of Article I says that federal money can be paid out only through an appropriation made by law.
The law prevented this particular payment to be made. If the court were to make an exception, it would
permit executive officials in effect to make binding payments, even though unauthorized, simply by
misrepresenting the facts. The harsh reality, therefore, is that mistakes of the government are generally
held against the individual, not the government, unless the law specifically provides for recompense (as,
for example, in the Federal Tort Claims Act just discussed).
K E Y T A K E A W A Y
After exhausting administrative remedies, there are numerous grounds for seeking judicial review of an
agency’s order or of a final rule. While courts defer to agencies to some degree, an agency must follow its
own rules, comply with the Administrative Procedure Act, act within the scope of its delegated authority,
avoid acting in an arbitrary manner, and make final rules that are supported by substantial evidence.
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E X E R C I S E S
1. Why would US courts require that someone seeking judicial review of an agency order
first exhaust administrative remedies?
2. On the Internet, find a case where someone has successfully sued the US government
under the Federal Tort Claims Act. What kind of case was it? Did the government argue
sovereign immunity? Does sovereign immunity even make sense to you?
[1] Motor Vehicle Manufacturers’ Assn. v. State Farm Mutual Ins., 463 US 29 (1983).
[2] Dalehite v. United States, 346 US 15 (1953).
[3] Bivens v. Six Unknown Federal Narcotics Agents, 403 US 388 (1971).
[4] Office of Personnel Management v. Richmond, 110 S. Ct. 2465 (1990).
5.6 Cases
Marshall v. Barlow’s, Inc.
Marshall v. Barlow’s, Inc.
436 U.S. 307 (U.S. Supreme Court 1978)
MR. JUSTICE WHITE delivered the opinion of the Court.
Section 8(a) of the Occupational Safety and Health Act of 1970 (OSHA or Act) empowers agents of the
Secretary of Labor (Secretary) to search the work area of any employment facility within the Act’s
jurisdiction. The purpose of the search is to inspect for safety hazards and violations of OSHA regulations.
No search warrant or other process is expressly required under the Act.
On the morning of September 11, 1975, an OSHA inspector entered the customer service area of Barlow’s,
Inc., an electrical and plumbing installation business located in Pocatello, Idaho. The president and
general manager, Ferrol G. “Bill” Barlow, was on hand; and the OSHA inspector, after showing his
credentials, informed Mr. Barlow that he wished to conduct a search of the working areas of the business.
Mr. Barlow inquired whether any complaint had been received about his company. The inspector
answered no, but that Barlow’s, Inc., had simply turned up in the agency’s selection process. The inspector
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again asked to enter the nonpublic area of the business; Mr. Barlow’s response was to inquire whether the
inspector had a search warrant.
The inspector had none. Thereupon, Mr. Barlow refused the inspector admission to the employee area of
his business. He said he was relying on his rights as guaranteed by the Fourth Amendment of the United
States Constitution.
Three months later, the Secretary petitioned the United States District Court for the District of Idaho to
issue an order compelling Mr. Barlow to admit the inspector. The requested order was issued on
December 30, 1975, and was presented to Mr. Barlow on January 5, 1976. Mr. Barlow again refused
admission, and he sought his own injunctive relief against the warrantless searches assertedly permitted
by OSHA.…The Warrant Clause of the Fourth Amendment protects commercial buildings as well as
private homes. To hold otherwise would belie the origin of that Amendment, and the American colonial
experience.
An important forerunner of the first 10 Amendments to the United States Constitution, the Virginia Bill of
Rights, specifically opposed “general warrants, whereby an officer or messenger may be commanded to
search suspected places without evidence of a fact committed.” The general warrant was a recurring point
of contention in the Colonies immediately preceding the Revolution. The particular offensiveness it
engendered was acutely felt by the merchants and businessmen whose premises and products were
inspected for compliance with the several parliamentary revenue measures that most irritated the
colonists.…
* * *
This Court has already held that warrantless searches are generally unreasonable, and that this rule
applies to commercial premises as well as homes. In Camara v. Municipal Court, we held:
[E]xcept in certain carefully defined classes of cases, a search of private property without proper consent
is ‘unreasonable’ unless it has been authorized by a valid search warrant.
On the same day, we also ruled: As we explained in Camara, a search of private houses is presumptively
unreasonable if conducted without a warrant. The businessman, like the occupant of a residence, has a
constitutional right to go about his business free from unreasonable official entries upon his private
commercial property. The businessman, too, has that right placed in jeopardy if the decision to enter and
inspect for violation of regulatory laws can be made and enforced by the inspector in the field without
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official authority evidenced by a warrant. These same cases also held that the Fourth Amendment
prohibition against unreasonable searches protects against warrantless intrusions during civil as well as
criminal investigations. The reason is found in the “basic purpose of this Amendment…[which] is to
safeguard the privacy and security of individuals against arbitrary invasions by governmental officials.” If
the government intrudes on a person’s property, the privacy interest suffers whether the government’s
motivation is to investigate violations of criminal laws or breaches of other statutory or regulatory
standards.…
[A]n exception from the search warrant requirement has been recognized for “pervasively regulated
business[es],” United States v. Biswell, 406 U.S. 311, 316 (1972), and for “closely regulated” industries
“long subject to close supervision and inspection,” Colonnade Catering Corp. v. United States, 397 U.S.
72, 74, 77 (1970). These cases are indeed exceptions, but they represent responses to relatively unique
circumstances. Certain industries have such a history of government oversight that no reasonable
expectation of privacy could exist for a proprietor over the stock of such an enterprise. Liquor
(Colonnade) and firearms (Biswell) are industries of this type when an entrepreneur embarks upon such a
business, he has voluntarily chosen to subject himself to a full arsenal of governmental regulation.
* * *
The clear import of our cases is that the closely regulated industry of the type involved
inColonnade and Biswell is the exception. The Secretary would make it the rule. Invoking the Walsh-
Healey Act of 1936, 41 U.S.C. § 35 et seq., the Secretary attempts to support a conclusion that all
businesses involved in interstate commerce have long been subjected to close supervision of employee
safety and health conditions. But…it is quite unconvincing to argue that the imposition of minimum
wages and maximum hours on employers who contracted with the Government under the Walsh-Healey
Act prepared the entirety of American interstate commerce for regulation of working conditions to the
minutest detail. Nor can any but the most fictional sense of voluntary consent to later searches be found in
the single fact that one conducts a business affecting interstate commerce. Under current practice and
law, few businesses can be conducted without having some effect on interstate commerce.
* * *
The critical fact in this case is that entry over Mr. Barlow’s objection is being sought by a Government
agent. Employees are not being prohibited from reporting OSHA violations. What they observe in their
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daily functions is undoubtedly beyond the employer’s reasonable expectation of privacy. The Government
inspector, however, is not an employee. Without a warrant he stands in no better position than a member
of the public. What is observable by the public is observable, without a warrant, by the Government
inspector as well. The owner of a business has not, by the necessary utilization of employees in his
operation, thrown open the areas where employees alone are permitted to the warrantless scrutiny of
Government agents. That an employee is free to report, and the Government is free to use, any evidence of
noncompliance with OSHA that the employee observes furnishes no justification for federal agents to
enter a place of business from which the public is restricted and to conduct their own warrantless search.
* * *
[The District Court judgment is affirmed.]
C A S E Q U E S T I O N S
1. State, as briefly and clearly as possible, the argument that Barlow’s is making in this case.
2. Why would some industries or businesses be “closely regulated”? What are some of
those businesses?
3. The Fourth Amendment speaks of “people” being secure in their “persons, houses,
papers, and effects.” Why would the Fourth Amendment apply to a business, which is
not in a “house”?
4. If the Fourth Amendment does not distinguish between closely regulated industries and
those that are not, why does the court do so?
American Textile Manufacturers Institute v. Donovan
American Textile Manufacturers Institute v. Donovan
452 U.S. 490 (1981)
JUSTICE BRENNAN delivered the opinion of the Court.
Congress enacted the Occupational Safety and Health Act of 1970 (Act) “to assure so far as possible every
working man and woman in the Nation safe and healthful working conditions.…“The Act authorizes the
Secretary of Labor to establish, after notice and opportunity to comment, mandatory nationwide
standards governing health and safety in the workplace. In 1978, the Secretary, acting through the
Occupational Safety and Health Administration (OSHA), promulgated a standard limiting occupational
exposure to cotton dust, an airborne particle byproduct of the preparation and manufacture of cotton
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products, exposure to which produces a “constellation of respiratory effects” known as “byssinosis.” This
disease was one of the expressly recognized health hazards that led to passage of the Act.
Petitioners in these consolidated cases representing the interests of the cotton industry, challenged the
validity of the “Cotton Dust Standard” in the Court of Appeals for the District of Columbia Circuit
pursuant to § 6 (f) of the Act, 29 U.S.C. § 655 (f). They contend in this Court, as they did below, that the
Act requires OSHA to demonstrate that its Standard reflects a reasonable relationship between the costs
and benefits associated with the Standard. Respondents, the Secretary of Labor and two labor
organizations, counter that Congress balanced the costs and benefits in the Act itself, and that the Act
should therefore be construed not to require OSHA to do so. They interpret the Act as mandating that
OSHA enact the most protective standard possible to eliminate a significant risk of material health
impairment, subject to the constraints of economic and technological feasibility.
The Court of Appeals held that the Act did not require OSHA to compare costs and benefits.
We granted certiorari, 449 U.S. 817 (1980), to resolve this important question, which was presented but
not decided in last Term’s Industrial Union Dept. v. American Petroleum Institute, 448 U.S. 607 (1980),
and to decide other issues related to the Cotton Dust Standard.
* * *
Not until the early 1960’s was byssinosis recognized in the United States as a distinct occupational hazard
associated with cotton mills. In 1966, the American Conference of Governmental Industrial Hygienists
(ACGIH), a private organization, recommended that exposure to total cotton dust be limited to a
“threshold limit value” of 1,000 micrograms per cubic meter of air (1,000 g/m3.) averaged over an 8-hour
workday. See 43 Fed. Reg. 27351, col. 1 (1978). The United States Government first regulated exposure to
cotton dust in 1968, when the Secretary of Labor, pursuant to the Walsh-Healey Act, 41 U.S.C. 35 (e),
promulgated airborne contaminant threshold limit values, applicable to public contractors, that included
the 1,000 g/m3 limit for total cotton dust. 34 Fed. Reg. 7953 (1969). Following passage of the Act in 1970,
the 1,000 g/m3. standard was adopted as an “established Federal standard” under 6 (a) of the Act, 84 Stat.
1593, 29 U.S.C. 655 (a), a provision designed to guarantee immediate protection of workers for the period
between enactment of the statute and promulgation of permanent standards.
That same year, the Director of the National Institute for Occupational Safety and Health (NIOSH),
pursuant to the Act, 29 U.S.C. §§ 669(a)(3), 671 (d)(2), submitted to the Secretary of Labor a
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recommendation for a cotton dust standard with a permissible exposure limit (PEL) that “should be set at
the lowest level feasible, but in no case at an environmental concentration as high as 0.2 mg lint-free
cotton dust/cu m,” or 200 g/m3. of lint-free respirable dust. Several months later, OSHA published an
Advance Notice of Proposed Rulemaking, 39 Fed.Reg. 44769 (1974), requesting comments from
interested parties on the NIOSH recommendation and other related matters. Soon thereafter, the Textile
Worker’s Union of America, joined by the North Carolina Public Interest Research Group, petitioned the
Secretary, urging a more stringent PEL of 100 g/m3.
On December 28, 1976, OSHA published a proposal to replace the existing federal standard on cotton dust
with a new permanent standard, pursuant to § 6(b)(5) of the Act, 29 U.S.C. § 655(b)(5). 41 Fed.Reg.
56498. The proposed standard contained a PEL of 200 g/m3 of vertical elutriated lint-free respirable
cotton dust for all segments of the cotton industry. Ibid. It also suggested an implementation strategy for
achieving the PEL that relied on respirators for the short term and engineering controls for the long-term.
OSHA invited interested parties to submit written comments within a 90-day period.
* * *
The starting point of our analysis is the language of the statute itself. Section 6(b)(5) of the Act, 29 U.S.C.
§ 655(b)(5) (emphasis added), provides:
The Secretary, in promulgating standards dealing with toxic materials or harmful physical agents under
this subsection, shall set the standard which most adequately assures, to the extent feasible, on the
basis of the best available evidence, that no employee will suffer material impairment of health or
functional capacity even if such employee has regular exposure to the hazard dealt with by such standard
for the period of his working life. Although their interpretations differ, all parties agree that the phrase “to
the extent feasible” contains the critical language in § 6(b)(5) for purposes of these cases.
The plain meaning of the word “feasible” supports respondents’ interpretation of the statute. According to
Webster’s Third New International Dictionary of the English Language 831 (1976), “feasible” means
“capable of being done, executed, or effected.” In accord, the Oxford English Dictionary 116 (1933)
(“Capable of being done, accomplished or carried out”); Funk & Wagnalls New “Standard” Dictionary of
the English Language 903 (1957) (“That may be done, performed or effected”). Thus, § 6(b)(5) directs the
Secretary to issue the standard that “most adequately assures…that no employee will suffer material
impairment of health,” limited only by the extent to which this is “capable of being done.” In effect then,
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as the Court of Appeals held, Congress itself defined the basic relationship between costs and benefits, by
placing the “benefit” of worker health above all other considerations save those making attainment of this
“benefit” unachievable. Any standard based on a balancing of costs and benefits by the Secretary that
strikes a different balance than that struck by Congress would be inconsistent with the command set forth
in § 6(b)(5). Thus, cost-benefit analysis by OSHA is not required by the statute because feasibility analysis
is.
When Congress has intended that an agency engage in cost-benefit analysis, it has clearly indicated such
intent on the face of the statute. One early example is the Flood Control Act of 1936, 33 U.S.C. § 701:
[T]he Federal Government should improve or participate in the improvement of navigable waters or their
tributaries, including watersheds thereof, for flood control purposes if the benefits to whomsoever
they may accrue are in excess of the estimated costs, and if the lives and social security of people
are otherwise adversely affected. (emphasis added)
A more recent example is the Outer Continental Shelf Lands Act Amendments of 1978, providing that
offshore drilling operations shall use the best available and safest technologies which the Secretary
determines to be economically feasible, wherever failure of equipment would have a significant effect on
safety, health, or the environment, except where the Secretary determines that the incremental benefits
are clearly insufficient to justify the incremental costs of using such technologies.
These and other statutes demonstrate that Congress uses specific language when intending that an agency
engage in cost-benefit analysis. Certainly in light of its ordinary meaning, the word “feasible” cannot be
construed to articulate such congressional intent. We therefore reject the argument that Congress
required cost-benefit analysis in § 6(b)(5).
C A S E Q U E S T I O N S
1. What is byssinosis? Why should byssinosis be anything that the textile companies are
responsible for, ethically or legally? If it is well-known that textile workers get cotton
dust in their systems and develop brown lung, don’t they nevertheless choose to work
there and assume the risk of all injuries?
2. By imposing costs on the textile industry, what will be the net effect on US textile
manufacturing jobs?
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3. How is byssinosis a “negative externality” that is not paid for by either the manufacturer
or the consumer of textile products? How should the market, to be fair and efficient,
adjust for these negative externalities other than by setting a reasonable standard that
shares the burden between manufacturers and their employees? Should all the burden
be on the manufacturer?
5.7 Summary and Exercises
Summary
Administrative rules and regulations constitute the largest body of laws that directly affect business.
These regulations are issued by dozens of federal and state agencies that regulate virtually every aspect of
modern business life, including the natural environment, corporate finance, transportation,
telecommunications, energy, labor relations, and trade practices. The administrative agencies derive their
power to promulgate regulations from statutes passed by Congress or state legislatures.
The agencies have a variety of powers. They can license companies to carry on certain activities or prohibit
them from doing so, lay down codes of conduct, set rates that companies may charge for their services,
and supervise various aspects of business.
E X E R C I S E S
1. The Equal Employment Opportunity Commission seeks data about the racial composition
of Terrific Textiles’ labor force. Terrific refuses on the grounds that inadvertent
disclosure of the numbers might cause certain “elements” to picket its factories. The
EEOC takes Terrific to court to get the data. What is the result?
2. In order to police the profession, the state legislature has just passed a law permitting
the State Plumbers’ Association the power to hold hearings to determine whether a
particular plumber has violated the plumbing code of ethics, written by the association.
Sam, a plumber, objects to the convening of a hearing when he is accused by Roger, a
fellow plumber, of acting unethically by soliciting business from Roger’s customers. Sam
goes to court, seeking to enjoin the association’s disciplinary committee from holding
the hearing. What is the result? How would you argue Sam’s case? The association’s
case?
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3. Assume that the new president of the United States was elected overwhelmingly by
pledging in his campaign to “do away with bureaucrats who interfere in your lives.” The
day he takes the oath of office he determines to carry out his pledge. Discuss which of
the following courses he may lawfully follow: (a) Fire all incumbent commissioners of
federal agencies in order to install new appointees. (b) Demand that all pending
regulations being considered by federal agencies be submitted to the White House for
review and redrafting, if necessary. (c) Interview potential nominees for agency positions
to determine whether their regulatory philosophy is consistent with his.
4. Dewey owned a mine in Wisconsin. He refused to allow Department of Labor agents into
the mine to conduct warrantless searches to determine whether previously found safety
violations had been corrected. The Federal Mine Safety and Health Amendments Act of
1977 authorizes four warrantless inspections per year. Is the provision for warrantless
inspections by this agency constitutional?
[1]
5. In determining the licensing requirements for nuclear reactors, the Nuclear Regulatory
Commission (NRC) adopted a zero-release assumption: that the permanent storage of
certain nuclear waste would have no significant environmental impact and that potential
storage leakages should not be a factor discussed in the appropriate environmental
impact statement (EIS) required before permitting construction of a nuclear power
plant. This assumption is based on the NRC’s belief that technology would be developed
to isolate the wastes from the environment, and it was clear from the record that the
NRC had “digested a massive material and disclosed all substantial risks” and had
considered that the zero-release assumption was uncertain. There was a remote
possibility of contamination by water leakage into the storage facility. An environmental
NGO sued, asserting that the NRC had violated the regulations governing the EIS by
arbitrarily and capriciously ignoring the potential contamination. The court of appeals
agreed, and the power plant appealed. Had the NRC acted arbitrarily and capriciously?
[2]
S E L F – T E S T Q U E S T I O N S
1. Most federal administrative agencies are created by
a. an executive order by the president
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b. a Supreme Court decision
c. the passage of enabling legislation by Congress, signed by the president
d. a and c
The Federal Trade Commission, like most administrative agencies of the federal government, is
part of
a. the executive branch of government
b. the legislative branch of government
c. the judicial branch of government
d. the administrative branch of government
In the Clean Water Act, Congress sets broad guidelines, but it is the Environmental Protection
Agency that proposes rules to regulate industrial discharges. Where do proposed rules originally appear?
a. in the Congressional record
b. in the Federal Register
c. in the Code of Federal Regulations
d. in the United States code service
The legal basis for all administrative law, including regulations of the Federal Trade Commission,
is found in
a. the Administrative Procedure Act
b. the US Constitution
c. the commerce clause
d. none of the above
The Federal Trade Commission, like other administrative agencies, has the power to
a. issue proposed rules
b. undertake investigations of firms that may have violated FTC regulations
c. prosecute firms that have violated FTC regulations
d. none of the above
e. all of the above
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S E L F – T E S T A N S W E R S
1. c
2. a
3. b
4. b
5. e
[1] Donovan v. Dewey, 452 US 594 (1981).
[2] Baltimore Gas and Electric Co. v. Natural Resources Defense Council Inc., 462 US 87 (1983).
Chapter 6
Criminal Law
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Explain how criminal law differs from civil law.
2. Categorize the various types of crimes and define the most serious felonies.
3. Discuss and question the criminal “intent” of a corporation.
4. Explain basic criminal procedure and the rights of criminal defendants.
At times, unethical behavior by businesspeople can be extreme enough that society will respond by criminalizing
certain kinds of activities. Ponzi schemes, arson, various kinds of fraud, embezzlement, racketeering, foreign corrupt
practices, tax evasion, and insider trading are just a few. A corporation can face large fines, and corporate managers
can face both fines and jail sentences for violating criminal laws. This chapter aims to explain how criminal law differs
from civil law, to discuss various types of crimes, and to relate the basic principles of criminal procedure.
6.1 The Nature of Criminal Law
Criminal law is the most ancient branch of the law. Many wise observers have tried to define and explain it, but the
explanations often include many complex and subtle distinctions. A traditional criminal law course would include a
lot of discussions on criminal intent, the nature of criminal versus civil responsibility, and the constitutional rights
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accorded the accused. But in this chapter, we will consider only the most basic aspects of intent, responsibility, and
constitutional rights.
Unlike civil actions, where plaintiffs seek compensation or other remedies for themselves, crimes involve “the state”
(the federal government, a state government, or some subunit of state government). This is because crimes involve
some “harm to society” and not just harm to certain individuals. But “harm to society” is not always evident in the act
itself. For example, two friends of yours at a party argue, take the argument outside, and blows are struck; one has a
bloody nose and immediately goes home. The crimes of assault and battery have been committed, even though no one
else knows about the fight and the friends later make up. By contrast, suppose a major corporation publicly
announces that it is closing operations in your community and moving operations to Southeast Asia. There is plenty
of harm to society as the plant closes down and no new jobs take the place of the company’s jobs. Although the effects
on society are greater in the second example, only the first example is a crime.
Crimes are generally defined by legislatures, in statutes; the statutes describe in general terms the nature of the
conduct they wish to criminalize. For government punishment to be fair, citizens must have clear notice of what is
criminally prohibited. Ex post facto laws—laws created “after the fact” to punish an act that was legal at the time—are
expressly prohibited by the US Constitution. Overly vague statutes can also be struck down by courts under a
constitutional doctrine known as “void for vagueness.”
What is considered a crime will also vary from society to society and from time to time. For example, while cocaine
use was legal in the United States at one time, it is now a controlled substance, and unauthorized use is now a crime.
Medical marijuana was not legal fifty years ago when its use began to become widespread, and in some states its use
or possession was a felony. Now, some states make it legal to use or possess it under some circumstances. In the
United States, you can criticize and make jokes about the president of the United States without committing a crime,
but in many countries it is a serious criminal act to criticize a public official.
Attitudes about appropriate punishment for crimes will also vary considerably from nation to nation. Uganda has
decreed long prison sentences for homosexuals and death to repeat offenders. In Saudi Arabia, the government has
proposed to deliberately paralyze a criminal defendant who criminally assaulted someone and unintentionally caused
the victim’s paralysis. Limits on punishment are set in the United States through the Constitution’s prohibition on
“cruel or unusual punishments.”
It is often said that ignorance of the law is no excuse. But there are far too many criminal laws for anyone to know
them all. Also, because most people do not actually read statutes, the question of “criminal intent” comes up right
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away: if you don’t know that the legislature has made driving without a seat belt fastened a misdemeanor, you cannot
have intended to harm society. You might even argue that there is no harm to anyone but yourself!
The usual answer to this is that the phrase “ignorance of the law is no excuse” means that society (through its elected
representatives) gets to decide what is harmful to society, not you. Still, you may ask, “Isn’t it my choice whether to
take the risk of failing to wear a seat belt? Isn’t this a victimless crime? Where is the harm to society?” A policymaker
or social scientist may answer that your injuries, statistically, are generally going to be far greater if you don’t wear
one and that your choice may actually impose costs on society. For example, you might not have enough insurance, so
that a public hospital will have to take care of your head injuries, injuries that would likely have been avoided by your
use of a seat belt.
But, as just noted, it is hard to know the meaning of some criminal laws. Teenagers hanging around the sidewalks on
Main Street were sometimes arrested for “loitering.” The constitutional void-for-vagueness doctrine has led the courts
to overturn statutes that are not clear. For example, “vagrancy” was long held to be a crime, but US courts began some
forty years ago to overturn vagrancy and “suspicious person” statutes on the grounds that they are too vague for
people to know what they are being asked not to do.
This requirement that criminal statutes not be vague does not mean that the law always defines crimes in ways that
can be easily and clearly understood. Many statutes use terminology developed by the common-law courts. For
example, a California statute defines murder as “the unlawful killing of a human being, with malice aforethought.” If
no history backed up these words, they would be unconstitutionally vague. But there is a rich history of judicial
decisions that provides meaning for much of the arcane language like “malice aforethought” strewn about in the
statute books.
Because a crime is an act that the legislature has defined as socially harmful, the parties involved cannot agree among
themselves to forget a particular incident, such as a barroom brawl, if the authorities decide to prosecute. This is one
of the critical distinctions between criminal and civil law. An assault is both a crime and a tort. The person who was
assaulted may choose to forgive his assailant and not to sue him for damages. But he cannot stop the prosecutor from
bringing an indictment against the assailant. (However, because of crowded dockets, a victim that declines to press
charges may cause a busy prosecutor to choose to not to bring an indictment.)
A crime consists of an act defined as criminal—an actus reus—and the requisite “criminal intent.” Someone who has a
burning desire to kill a rival in business or romance and who may actually intend to murder but does not act on his
desire has not committed a crime. He may have a “guilty mind”—the translation of the Latin phrase mens rea—but he
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is guilty of no crime. A person who is forced to commit a crime at gunpoint is not guilty of a crime, because although
there was an act defined as criminal—an actus reus—there was no criminal intent.
K E Y T A K E A W A Y
Crimes are usually defined by statute and constitute an offense against society. In each case, there must
be both an act and some mens rea (criminal intent).
E X E R C I S E S
1. Other than deterring certain kinds of conduct, what purpose does the criminal law
serve?
2. Why is ignorance of the law no excuse? Why shouldn’t it be an excuse, when criminal
laws can be complicated and sometimes ambiguous?
6.2 Types of Crimes
L E A R N I N G O B J E C T I V E S
1. Categorize various types of crimes.
2. Name and define the major felonies in criminal law.
3. Explain how white-collar crime differs from other crimes.
4. Define a variety of white-collar crimes.
Most classifications of crime turn on the seriousness of the act. In general, seriousness is defined by the
nature or duration of the punishment set out in the statute. A felony is a crime punishable (usually) by
imprisonment of more than one year or by death. (Crimes punishable by death are sometimes known as
capital crimes; they are increasingly rare in the United States.) The major felonies include murder, rape,
kidnapping, armed robbery, embezzlement, insider trading, fraud, and racketeering. All other crimes are
usually known as misdemeanors, petty offenses, or infractions. Another way of viewing crimes is by the
type of social harm the statute is intended to prevent or deter, such as offenses against the person,
offenses against property, and white-collar crime.
Offenses against the Person
Homicide
Homicide is the killing of one person by another. Not every killing is criminal. When the law permits one
person to kill another—for example, a soldier killing an enemy on the battlefield during war, or a killing in
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self-defense—the death is considered the result of justifiable homicide. An excusable homicide, by
contrast, is one in which death results from an accident in which the killer is not at fault.
All other homicides are criminal. The most severely punished form is murder, defined as homicide
committed with “malice aforethought.” This is a term with a very long history. Boiled down to its
essentials, it means that the defendant had the intent to kill. A killing need not be premeditated for any
long period of time; the premeditation might be quite sudden, as in a bar fight that escalates in that
moment when one of the fighters reaches for a knife with the intent to kill.
Sometimes a homicide can be murder even if there is no intent to kill; an intent to inflict great bodily
harm can be murder if the result is the death of another person. A killing that takes place while a felony
(such as armed robbery) is being committed is also murder, whether or not the killer intended any harm.
This is the so-called felony murder rule. Examples are the accidental discharge of a gun that kills an
innocent bystander or the asphyxiation death of a fireman from smoke resulting from a fire set by an
arsonist. The felony murder rule is more significant than it sounds, because it also applies to the
accomplices of one who does the killing. Thus the driver of a getaway car stationed a block away from the
scene of the robbery can be convicted of murder if a gun accidentally fires during the robbery and
someone is killed. Manslaughter is an act of killing that does not amount to murder. Voluntary
manslaughter is an intentional killing, but one carried out in the “sudden heat of passion” as the result of
some provocation. An example is a fight that gets out of hand. Involuntary manslaughter entails a lesser
degree of willfulness; it usually occurs when someone has taken a reckless action that results in death
(e.g., a death resulting from a traffic accident in which one driver recklessly runs a red light).
Assault and Battery
Ordinarily, we would say that a person who has struck another has “assaulted” him. Technically, that is
a battery—the unlawful application of force to another person. The force need not be violent. Indeed, a
man who kisses a woman is guilty of a battery if he does it against her will. The other person may consent
to the force. That is one reason why surgeons require patients to sign consent forms, giving the doctor
permission to operate. In the absence of such a consent, an operation is a battery. That is also why football
players are not constantly being charged with battery. Those who agree to play football agree to submit to
the rules of the game, which of course include the right to tackle. But the consent does not apply to all acts
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of physical force: a hockey player who hits an opponent over the head with his stick can be prosecuted for
the crime of battery.
Criminal assault is an attempt to commit a battery or the deliberate placing of another in fear of receiving
an immediate battery. If you throw a rock at a friend, but he manages to dodge it, you have committed an
assault. Some states limit an assault to an attempt to commit a battery by one who has a “present ability”
to do so. Pointing an unloaded gun and threatening to shoot would not be an assault, nor, of course, could
it be a battery. The modem tendency, however, is to define an assault as an attempt to commit a battery by
one with an apparent ability to do so.
Assault and battery may be excused. For example, a bar owner (or her agent, the bouncer) may use
reasonable force to remove an unruly patron. If the use of force is excessive, the bouncer can be found
guilty of assault and battery, and a civil action could arise against the bar owner as well.
Offenses against Property
Theft: Larceny, Robbery, Embezzlement, False Pretenses
The concept of theft is familiar enough. Less familiar is the way the law has treated various aspects of the
act of stealing. Criminal law distinguishes among many different crimes that are popularly known as theft.
Many technical words have entered the language—burglary, larceny, robbery—but are often used
inaccurately. Brief definitions of the more common terms are discussed here.
The basic crime of stealing personal property is larceny. By its old common-law definition, still in use
today, larceny is the wrongful “taking and carrying away of the personal property of another with intent to
steal the same.”
The separate elements of this offense have given rise to all kinds of difficult cases. Take the theft of fruit,
for example, with regard to the essential element of “personal property.” If a man walking through an
orchard plucks a peach from a tree and eats it, he is not guilty of larceny because he has not taken
away personal property (the peach is part of the land, being connected to the tree). But if he picks up a
peach lying on the ground, he is guilty of larceny. Or consider the element of “taking” or “carrying away.”
Sneaking into a movie theater without paying is not an act of larceny (though in most states it is a criminal
act). Taking electricity by tapping into the power lines of an electric utility was something that baffled
judges late in the nineteenth century because it was not clear whether electricity is a “something” that can
be taken. Modern statutes have tended to make clear that electricity can be the object of larceny. Or
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consider the element of an “intent to steal the same.” If you borrow your friend’s BMW without his
permission in order to go to the grocery store, intending to return it within a few minutes and then do
return it, you have not committed larceny. But if you meet another friend at the store who convinces you
to take a long joyride with the car and you return hours later, you may have committed larceny.
A particular form of larceny is robbery, which is defined as larceny from a person by means of violence or
intimidation.
Larceny involves the taking of property from the possession of another. Suppose that a person legitimately
comes to possess the property of another and wrongfully appropriates it—for example, an automobile
mechanic entrusted with your car refuses to return it, or a bank teller who is entitled to temporary
possession of cash in his drawer takes it home with him. The common law had trouble with such cases
because the thief in these cases already had possession; his crime was in assuming ownership. Today,
such wrongful conversion, known as embezzlement, has been made a statutory offense in all states.
Statutes against larceny and embezzlement did not cover all the gaps in the law. A conceptual problem
arises in the case of one who is tricked into giving up his title to property. In larceny and embezzlement,
the thief gains possession or ownership without any consent of the owner or custodian of the property.
Suppose, however, that an automobile dealer agrees to take his customer’s present car as a trade-in. The
customer says that he has full title to the car. In fact, the customer is still paying off an installment loan
and the finance company has an interest in the old car. If the finance company repossesses the car, the
customer—who got a new car at a discount because of his false representation—cannot be said to have
taken the new car by larceny or embezzlement. Nevertheless, he tricked the dealer into selling, and the
dealer will have lost the value of the repossessed car. Obviously, the customer is guilty of a criminal act;
the statutes outlawing it refer to this trickery as the crime of false pretenses, defined as obtaining
ownership of the property of another by making untrue representations of fact with intent to defraud.
A number of problems have arisen in the judicial interpretation of false-pretense statutes. One concerns
whether the taking is permanent or only temporary. The case ofState v. Mills (Section 6.7 “Cases”) shows
the subtle questions that can be presented and the dangers inherent in committing “a little fraud.”
In the Mills case, the claim was that a mortgage instrument dealing with one parcel of land was used
instead for another. This is a false representation of fact. Suppose, by contrast, that a person
misrepresents his state of mind: “I will pay you back tomorrow,” he says, knowing full well that he does
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not intend to. Can such a misrepresentation amount to false pretenses punishable as a criminal offense?
In most jurisdictions it cannot. A false-pretense violation relates to a past event or existing fact, not to a
statement of intention. If it were otherwise, anyone failing to pay a debt might find himself facing criminal
prosecution, and business would be less prone to take risks.
The problem of proving intent is especially difficult when a person has availed himself of the services of
another without paying. A common example is someone leaving a restaurant without paying for the meal.
In most states, this is specifically defined in the statutes as theft of services.
Receiving Stolen Property
One who engages in receiving stolen property with knowledge that it is stolen is guilty of a felony or
misdemeanor, depending on the value of the property. The receipt need not be personal; if the property is
delivered to a place under the control of the receiver, then he is deemed to have received it. “Knowledge”
is construed broadly: not merely actual knowledge, but (correct) belief and suspicion (strong enough not
to investigate for fear that the property will turn out to have been stolen) are sufficient for conviction.
Forgery
Forgery is false writing of a document of legal significance (or apparent legal significance!) with intent to
defraud. It includes the making up of a false document or the alteration of an existing one. The writing
need not be done by hand but can be by any means—typing, printing, and so forth. Documents commonly
the subject of forgery are negotiable instruments (checks, money orders, and the like), deeds, receipts,
contracts, and bills of lading. The forged instrument must itself be false, not merely contain a falsehood. If
you fake your neighbor’s signature on one of his checks made out to cash, you have committed forgery.
But if you sign a check of your own that is made out to cash, knowing that there is no money in your
checking account, the instrument is not forged, though the act may be criminal if done with the intent to
defraud.
The mere making of a forged instrument is unlawful. So is the “uttering” (or presentation) of such an
instrument, whether or not the one uttering it actually forged it. The usual example of a false signature is
by no means the only way to commit forgery. If done with intent to defraud, the backdating of a
document, the modification of a corporate name, or the filling in of lines left blank on a form can all
constitute forgery.
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Extortion
Under common law, extortion could only be committed by a government official, who corruptly collected
an unlawful fee under color of office. A common example is a salaried building inspector who refuses to
issue a permit unless the permittee pays him. Under modern statutes, the crime of extortion has been
broadened to include the wrongful collection of money or something else of value by anyone by means of a
threat (short of a threat of immediate physical violence, for such a threat would make the demand an act
of robbery). This kind of extortion is usually called blackmail. The blackmail threat commonly is to expose
some fact of the victim’s private life or to make a false accusation about him.
Offenses against Habitation and Other Offenses
Burglary
Burglary is not a crime against property. It is defined as “the breaking and entering of the dwelling of
another in the nighttime with intent to commit a felony.” The intent to steal is not an issue: a man who
sneaks into a woman’s home intent on raping her has committed a burglary, even if he does not carry out
the act. The student doing critical thinking will no doubt notice that the definition provides plenty of room
for argument. What is “breaking”? (The courts do not require actual destruction; the mere opening of a
closed door, even if unlocked, is enough.) What is entry? When does night begin? What kind of intent?
Whose dwelling? Can a landlord burglarize the dwelling of his tenant? (Yes.) Can a person burglarize his
own home? (No.)
Arson
Under common law, arson was the malicious burning of the dwelling of another. Burning one’s own house
for purposes of collecting insurance was not an act of arson under common law. The statutes today make
it a felony intentionally to set fire to any building, whether or not it is a dwelling and whether or not the
purpose is to collect insurance.
Bribery
Bribery is a corrupt payment (or receipt of such a payment) for official action. The payment can be in cash
or in the form of any goods, intangibles, or services that the recipient would find valuable. Under common
law, only a public official could be bribed. In most states, bribery charges can result from the bribe of
anyone performing a public function.
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Bribing a public official in government procurement (contracting) can result in serious criminal charges.
Bribing a public official in a foreign country to win a contract can result in charges under the Foreign
Corrupt Practices Act.
Perjury
Perjury is the crime of giving a false oath, either orally or in writing, in a judicial or other official
proceeding (lies made in proceedings other than courts are sometimes termed “false swearing”). To be
perjurious, the oath must have been made corruptly—that is, with knowledge that it was false or without
sincere belief that it was true. An innocent mistake is not perjury. A statement, though true, is perjury if
the maker of it believes it to be false. Statements such as “I don’t remember” or “to the best of my
knowledge” are not sufficient to protect a person who is lying from conviction for perjury. To support a
charge of perjury, however, the false statement must be “material,” meaning that the statement is relevant
to whatever the court is trying to find out.
White-Collar Crime
White-collar crime, as distinguished from “street crime,” refers generally to fraud-related acts carried out
in a nonviolent way, usually connected with business. Armed bank robbery is not a white-collar crime, but
embezzlement by a teller or bank officer is. Many white-collar crimes are included within the statutory
definitions of embezzlement and false pretenses. Most are violations of state law. Depending on how they
are carried out, many of these same crimes are also violations of federal law.
Any act of fraud in which the United States postal system is used or which involves interstate phone calls
or Internet connections is a violation of federal law. Likewise, many different acts around the buying and
selling of securities can run afoul of federal securities laws. Other white-collar crimes include tax fraud;
price fixing; violations of food, drug, and environmental laws; corporate bribery of foreign companies;
and—the newest form—computer fraud. Some of these are discussed here; others are covered in later
chapters.
Mail and Wire Fraud
Federal law prohibits the use of the mails or any interstate electronic communications medium for the
purpose of furthering a “scheme or artifice to defraud.” The statute is broad, and it is relatively easy for
prosecutors to prove a violation. The law also bans attempts to defraud, so the prosecutor need not show
that the scheme worked or that anyone suffered any losses. “Fraud” is broadly construed: anyone who
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uses the mails or telephone to defraud anyone else of virtually anything, not just of money, can be
convicted under the law. In one case, a state governor was convicted of mail fraud when he took bribes to
influence the setting of racing dates. The court’s theory was that he defrauded the citizenry of its right to
his “honest and faithful services” as governor.
[1]
Violations of Antitrust Law
In Chapter 48 “Antitrust Law” we consider the fundamentals of antitrust law, which for the most part
affects the business enterprise civilly. But violations of Section 1 of the Sherman Act, which condemns
activities in “restraint of trade” (including price fixing), are also crimes.
Violations of the Food and Drug Act
The federal Food, Drug, and Cosmetic Act prohibits any person or corporation from sending into
interstate commerce any adulterated or misbranded food, drug, cosmetics, or related device. For example,
in a 2010 case, Allergen had to pay a criminal fine for marketing Botox as a headache or pain reliever, a
use that had not been approved by the Food and Drug Administration. Unlike most criminal statutes,
willfulness or deliberate misconduct is not an element of the act. As the United States v. Park case
(Section 6.7 “Cases”) shows, an executive can be held criminally liable even though he may have had no
personal knowledge of the violation.
Environmental Crimes
Many federal environmental statutes have criminal provisions. These include the Federal Water Pollution
Control Act (commonly called the Clean Water Act); the Rivers and Harbors Act of 1899 (the Refuse Act);
the Clean Air Act; the Federal Insecticide, Fungicide, and Rodenticide Act (FIFRA); the Toxic Substances
Control Act (TSCA); and the Resource Conservation and Recovery Act (RCRA). Under the Clean Water
Act, for example, wrongful discharge of pollutants into navigable waters carries a fine ranging from
$2,500 to $25,000 per day and imprisonment for up to one year. “Responsible corporate officers” are
specifically included as potential defendants in criminal prosecutions under the act. They can include
officers who have responsibility over a project where subcontractors and their employees actually caused
the discharge.
[2]
Violations of the Foreign Corrupt Practices Act
As a byproduct of Watergate, federal officials at the Securities and Exchange Commission and the Internal
Revenue Service uncovered many instances of bribes paid by major corporations to officials of foreign
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governments to win contracts with those governments. Congress responded in 1977 with the Foreign
Corrupt Practices Act, which imposed a stringent requirement that the disposition of assets be accurately
and fairly accounted for in a company’s books and records. The act also made illegal the payment of bribes
to foreign officials or to anyone who will transmit the money to a foreign official to assist the payor (the
one offering and delivering the money) in getting business.
Violations of the Racketeering Influenced and Corrupt Organizations Act
In 1970 Congress enacted the Racketeering Influenced and Corrupt Organizations Act (RICO), aimed at
ending organized crime’s infiltration into legitimate business. The act tells courts to construe its language
broadly “to effectuate its remedial purpose,” and many who are not part of organized crime have been
successfully prosecuted under the act. It bans a “pattern of racketeering,” defined as the commission of at
least two acts within ten years of any of a variety of already-existing crimes, including mail, wire, and
securities fraud. The act thus makes many types of fraud subject to severe penalties.
Computer Crime
Computer crime generally falls into four categories: (1) theft of money, financial instruments, or property;
(2) misappropriation of computer time; (3) theft of programs; and (4) illegal acquisition of information.
The main federal statutory framework for many computer crimes is the Computer Fraud and Abuse Act
(CFAA; see Table 6.1 “Summary of Provisions of the Computer Fraud and Abuse Act”). Congress only
prohibited computer fraud and abuse where there was a federal interest, as where computers of the
government were involved or where the crime was interstate in nature.
Table 6.1 Summary of Provisions of the Computer Fraud and Abuse Act
Obtaining national security information Sec. (a)(1)
10 years maximum (20 years second
offense)
Trespassing in a government computer Sec. (a)(3) 1 year (5)
Compromising the confidentiality of a
computer Sec. (a)(2) 1 year (10)
Accessing a computer to defraud and obtain
value Sec. (a)4 5 years (10)
Intentional access and reckless damage (a)(5)(A)(ii) 5 years (20)
Trafficking in passwords (a)(6) 1 year (10)
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K E Y T A K E A W A Y
Offenses can be against persons, against property, or against public policy (as when you bribe a public
official, commit perjury, or use public goods such as the mails or the Internet to commit fraud, violate
antitrust laws, or commit other white-collar crimes).
E X E R C I S E S
1. Which does more serious harm to society: street crimes or white-collar crimes?
2. Why are various crimes so difficult to define precisely?
3. Hungry Harold goes by the home of Juanita Martinez. Juanita has just finished baking a
cherry pie and sets it in the open windowsill to cool. Harold smells the pie from the
sidewalk. It is twilight; while still light, the sun has officially set. Harold reaches into the
window frame and removes the pie. Technically, has Harold committed burglary? What
are the issues here based on the definition of burglary?
4. What is fraud? How is it different from dishonesty? Is being dishonest a criminal
offense? If so, have you been a criminal already today?
[1] United States v. Isaacs, 493 F.2d 1124 (7th Cir. 1974), cert. denied, 417 US 976 (1974).
[2] U.S. v. Hanousek, 176 F.3d 1116 (9th Cir. 1999).
6.3 The Nature of a Criminal Act
L E A R N I N G O B J E C T I V E S
1. Understand how it is possible to commit a criminal act without actually doing anything
that you think might be criminal.
2. Analyze and explain the importance of intention in criminal law and criminal
prosecutions.
3. Explain how a corporation can be guilty of a crime, even though it is a corporation’s
agents that commit the crime.
To be guilty of a crime, you must have acted. Mental desire or intent to do so is insufficient. But what constitutes an
act? This question becomes important when someone begins to commit a crime, or does so in association with others,
or intends to do one thing but winds up doing something else.
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Attempt
It is not necessary to commit the intended crime to be found guilty of a criminal offense. An attempt to
commit the crime is punishable as well, though usually not as severely. For example, Brett points a gun at
Ashley, intending to shoot her dead. He pulls the trigger but his aim is off, and he misses her heart by four
feet. He is guilty of an attempt to murder. Suppose, however, that earlier in the day, when he was
preparing to shoot Ashley, Brett had been overheard in his apartment muttering to himself of his
intention, and that a neighbor called the police. When they arrived, he was just snapping his gun into his
shoulder holster.
At that point, courts in most states would not consider him guilty of an attempt because he had not passed
beyond the stage of preparation. After having buttoned his jacket he might have reconsidered and put the
gun away. Determining when the accused has passed beyond mere preparation and taken an actual step
toward perpetrating the crime is often difficult and is usually for the jury to decide.
Impossibility
What if a defendant is accused of attempting a crime that is factually impossible? For example, suppose
that men believed they were raping a drunken, unconscious woman, and were later accused of attempted
rape, but defended on the grounds of factual impossibility because the woman was actually dead at the
time sexual intercourse took place? Or suppose that a husband intended to poison his wife with
strychnine in her coffee, but put sugar in the coffee instead? The “mens rea” or criminal intent was there,
but the act itself was not criminal (rape requires a live victim, and murder by poisoning requires the use of
poison). States are divided on this, but thirty-seven states have ruled out factual impossibility as a defense
to the crime of attempt.
Legal impossibility is different, and is usually acknowledged as a valid defense. If the defendant completes
all of his intended acts, but those acts do not fulfill all the required elements of a crime, there could be a
successful “impossibility” defense. If Barney (who has poor sight), shoots at a tree stump, thinking it is his
neighbor, Ralph, intending to kill him, has he committed an attempt? Many courts would hold that he has
not. But the distinction between factual impossibility and legal impossibility is not always clear, and the
trend seems to be to punish the intended attempt.
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Conspiracy
Under both federal and state laws, it is a separate offense to work with others toward the commission of a
crime. When two or more people combine to carry out an unlawful purpose, they are engaged in a
conspiracy. The law of conspiracy is quite broad, especially when it is used by prosecutors in connection
with white-collar crimes. Many people can be swept up in the net of conspiracy, because it is unnecessary
to show that the actions they took were sufficient to constitute either the crime or an attempt. Usually, the
prosecution needs to show only (1) an agreement and (2) a single overt act in furtherance of the
conspiracy. Thus if three people agree to rob a bank, and if one of them goes to a store to purchase a gun
to be used in the holdup, the three can be convicted of conspiracy to commit robbery. Even the purchase
of an automobile to be used as the getaway car could support a conspiracy conviction.
The act of any one of the conspirators is imputed to the other members of the conspiracy. It does not
matter, for instance, that only one of the bank robbers fired the gun that killed a guard. All can be
convicted of murder. That is so even if one of the conspirators was stationed as a lookout several blocks
away and even if he specifically told the others that his agreement to cooperate would end “just as soon as
there is shooting.”
Agency and Corporations
A person can be guilty of a crime if he acts through another. Again, the usual reason for “imputing” the
guilt of the actor to another is that both were engaged in a conspiracy. But imputation of guilt is not
limited to a conspiracy. The agent may be innocent even though he participates. A corporate officer
directs a junior employee to take a certain bag and deliver it to the officer’s home. The employee
reasonably believes that the officer is entitled to the bag. Unbeknownst to the employee, the bag contains
money that belongs to the company, and the officer wishes to keep it. This is not a conspiracy. The
employee is not guilty of larceny, but the officer is, because the agent’s act is imputed to him.
Since intent is a necessary component of crime, an agent’s intent cannot be imputed to his principal if the
principal did not share the intent. The company president tells her sales manager, “Go make sure our
biggest customer renews his contract for next year”—by which she meant, “Don’t ignore our biggest
customer.” Standing before the customer’s purchasing agent, the sales manager threatens to tell the
purchasing agent’s boss that the purchasing agent has been cheating on his expense account, unless he
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signs a new contract. The sales manager could be convicted of blackmail, but the company president could
not.
Can a corporation be guilty of a crime? For many types of crimes, the guilt of individual employees may be
imputed to the corporation. Thus the antitrust statutes explicitly state that the corporation may be
convicted and fined for violations by employees. This is so even though the shareholders are the ones who
ultimately must pay the price—and who may have had nothing to do with the crime nor the power to stop
it. The law of corporate criminal responsibility has been changing in recent years. The tendency is to hold
the corporation liable under criminal law if the act has been directed by a responsible officer or group
within the corporation (the president or board of directors).
K E Y T A K E A W A Y
Although proving the intent to commit a crime (the mens rea) is essential, the intent can be established by
inference (circumstantially). Conspirators may not actually commit a crime, for example, but in preparing
for a criminal act, they may be guilty of the crime of conspiracy. Certain corporate officers, as well, may
not be directly committing criminal acts but may be held criminally responsible for acts of their agents and
contractors.
E X E R C I S E S
1. Give an example of how someone can intend to commit a crime but fail to commit one.
2. Describe a situation where there is a conspiracy to commit a crime without the crime
actually taking place.
3. Create a scenario based on current events where a corporation could be found guilty of
committing a crime even though the CEO, the board of directors, and the shareholders
have not themselves done a criminal act.
6.4 Responsibility
L E A R N I N G O B J E C T I V E S
1. Explain why criminal law generally requires that the defendant charged with a crime
have criminal “intent.”
2. Know and explain the possible excuses relating to responsibility that are legally
recognized by courts, including lack of capacity.
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In General
The mens rea requirement depends on the nature of the crime and all the circumstances surrounding the
act. In general, though, the requirement means that the accused must in some way have intended the
criminal consequences of his act. Suppose, for example, that Charlie gives Gabrielle a poison capsule to
swallow. That is the act. If Gabrielle dies, is Charlie guilty of murder? The answer depends on what his
state of mind was. Obviously, if he gave it to her intending to kill her, the act was murder.
What if he gave it to her knowing that the capsule was poison but believing that it would only make her
mildly ill? The act is still murder, because we are all liable for the consequences of any intentional act that
may cause harm to others. But suppose that Gabrielle had asked Harry for aspirin, and he handed her two
pills that he reasonably believed to be aspirin (they came from the aspirin bottle and looked like aspirin)
but that turned out to be poison, the act would not be murder, because he had neither intent nor a state of
knowledge from which intent could be inferred.
Not every criminal law requires criminal intent as an ingredient of the crime. Many regulatory codes
dealing with the public health and safety impose strict requirements. Failure to adhere to such
requirements is a violation, whether or not the violator had mens rea. The United States v.
Park case, Section 6.7 “Cases”, a decision of the US Supreme Court, shows the different considerations
involved in mens rea.
Excuses That Limit or Overcome Responsibility
Mistake of Fact and Mistake of Law
Ordinarily, ignorance of the law is not an excuse. If you believe that it is permissible to turn right on a red
light but the city ordinance prohibits it, your belief, even if reasonable, does not excuse your violation of
the law. Under certain circumstances, however, ignorance of law will be excused. If a statute imposes
criminal penalties for an action taken without a license, and if the government official responsible for
issuing the license formally tells you that you do not need one (though in fact you do), a conviction for
violating the statute cannot stand. In rare cases, a lawyer’s advice, contrary to the statute, will be held to
excuse the client, but usually the client is responsible for his attorney’s mistakes. Otherwise, as it is said,
the lawyer would be superior to the law.
Ignorance or mistake of fact more frequently will serve as an excuse. If you take a coat from a restaurant,
believing it to be yours, you cannot be convicted of larceny if it is not. Your honest mistake of fact negates
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the requisite intent. In general, the rule is that a mistaken belief of fact will excuse criminal responsibility
if (1) the belief is honestly held, (2) it is reasonable to hold it, and (3) the act would not have been criminal
if the facts were as the accused supposed them to have been.
Entrapment
One common technique of criminal investigation is the use of an undercover agent or decoy—the
policeman who poses as a buyer of drugs from a street dealer or the elaborate “sting” operations in which
ostensibly stolen goods are “sold” to underworld “fences.” Sometimes these methods are the only way by
which certain kinds of crime can be rooted out and convictions secured.
But a rule against entrapment limits the legal ability of the police to play the role of criminals. The police
are permitted to use such techniques to detect criminal activity; they are not permitted to do so to
instigate crime. The distinction is usually made between a person who intends to commit a crime and one
who does not. If the police provide the former with an opportunity to commit a criminal act—the sale of
drugs to an undercover agent, for example—there is no defense of entrapment. But if the police knock on
the door of one not known to be a drug user and persist in a demand that he purchase drugs from them,
finally overcoming his will to resist, a conviction for purchase and possession of drugs can be overturned
on the ground of entrapment.
Other Excuses
A number of other circumstances can limit or excuse criminal liability. These include compulsion (a gun
pointed at one’s head by a masked man who apparently is unafraid to use the weapon and who demands
that you help him rob a store), honest consent of the “victim” (the quarterback who is tackled), adherence
to the requirements of legitimate public authority lawfully exercised (a policeman directs a towing
company to remove a car parked in a tow-away zone), the proper exercise of domestic authority (a parent
may spank a child, within limits), and defense of self, others, property, and habitation. Each of these
excuses is a complex subject in itself.
Lack of Capacity
A further defense to criminal prosecution is the lack of mental capacity to commit the crime. Infants and
children are considered incapable of committing a crime; under common law any child under the age of
seven could not be prosecuted for any act. That age of incapacity varies from state to state and is now
usually defined by statutes. Likewise, insanity or mental disease or defect can be a complete defense.
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Intoxication can be a defense to certain crimes, but the mere fact of drunkenness is not ordinarily
sufficient.
K E Y T A K E A W A Y
In the United States, some crimes can be committed by not following strict regulatory requirements for
health, safety, or the environment. The law does provide excuses from criminal liability for mistakes of
fact, entrapment, and lack of capacity.
E X E R C I S E S
1. Describe several situations in which compulsion, consent, or other excuses take away
criminal liability.
2. Your employee is drunk on the job and commits the crime of assault and battery on a
customer. He claims lack of capacity as an excuse. Should the courts accept this excuse?
Why or why not?
6.5 Procedure
L E A R N I N G O B J E C T I V E S
1. Describe the basic steps in pretrial criminal procedure that follow a government’s
determination to arrest someone for an alleged criminal act.
2. Describe the basic elements of trial and posttrial criminal procedure.
The procedure for criminal prosecutions is complex. Procedures will vary from state to state. A criminal case begins
with an arrest if the defendant is caught in the act or fleeing from the scene; if the defendant is not caught, a warrant
for the defendant’s arrest will issue. The warrant is issued by a judge or a magistrate upon receiving a complaint
detailing the charge of a specific crime against the accused. It is not enough for a police officer to go before a judge
and say, “I’d like you to arrest Bonnie because I think she’s just murdered Clyde.” She must supply enough
information to satisfy the magistrate that there is probable cause (reasonable grounds) to believe that the accused
committed the crime. The warrant will be issued to any officer or agency that has power to arrest the accused with
warrant in hand.
The accused will be brought before the magistrate for a preliminary hearing. The purpose of the hearing is to
determine whether there is sufficient reason to hold the accused for trial. If so, the accused can be sent to jail or be
permitted to make bail. Bail is a sum of money paid to the court to secure the defendant’s attendance at trial. If he
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fails to appear, he forfeits the money. Constitutionally, bail can be withheld only if there is reason to believe that the
accused will flee the jurisdiction.
Once the arrest is made, the case is in the hands of the prosecutor. In the fifty states, prosecution is a function of the
district attorney’s office. These offices are usually organized on a county-by-county basis. In the federal system,
criminal prosecution is handled by the office of the US attorney, one of whom is appointed for every federal district.
Following the preliminary hearing, the prosecutor must either file an information (a document stating the crime of
which the person being held is accused) or ask thegrand jury for an indictment. The grand jury consists of twenty-
three people who sit to determine whether there is sufficient evidence to warrant a prosecution. It does not sit to
determine guilt or innocence. The indictment is the grand jury’s formal declaration of charges on which the accused
will be tried. If indicted, the accused formally becomes a defendant.
The defendant will then be arraigned, that is, brought before a judge to answer the accusation in the indictment. The
defendant may plead guilty or not guilty. If he pleads not guilty, the case will be tried before a jury (sometimes
referred to as a petit jury). The jury cannot convict unless it finds the defendant guilty beyond a reasonable doubt.
The defendant might have pleaded guilty to the offense or to a lesser charge (often referred to as a “lesser included
offense”—simple larceny, for example, is a lesser included offense of robbery because the defendant may not have
used violence but nevertheless stole from the victim). Such a plea is usually arranged throughplea bargaining with
the prosecution. In return for the plea, the prosecutor promises to recommend to the judge that the sentence be
limited. The judge most often, but not always, goes along with the prosecutor’s recommendation.
The defendant is also permitted to file a plea of nolo contendere (no contest) in prosecutions for certain crimes. In so
doing, he neither affirms nor denies his guilt. He may be sentenced as though he had pleaded guilty, although usually
a nolo plea is the result of a plea bargain. Why plead nolo? In some offenses, such as violations of the antitrust laws,
the statutes provide that private plaintiffs may use a conviction or a guilty plea as proof that the defendant violated
the law. This enables a plaintiff to prove liability without putting on witnesses or evidence and reduces the civil trial to
a hearing about the damages to plaintiff. The nolo plea permits the defendant to avoid this, so that any plaintiff will
have to not only prove damages but also establish civil liability.
Following a guilty plea or a verdict of guilt, the judge will impose a sentence after presentencing reports are written by
various court officials (often, probation officers). Permissible sentences are spelled out in statutes, though these
frequently give the judge a range within which to work (e.g., twenty years to life). The judge may sentence the
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defendant to imprisonment, a fine, or both, or may decide to suspend sentence (i.e., the defendant will not have to
serve the sentence as long as he stays out of trouble).
Sentencing usually comes before appeal. As in civil cases, the defendant, now convicted, has the right to take at least
one appeal to higher courts, where issues of procedure and constitutional rights may be argued.
K E Y T A K E A W A Y
Criminal procedure in US courts is designed to provide a fair process to both criminal defendants and to
society. The grand jury system, prosecutorial discretion, plea bargains, and appeals for lack of a fair trial
are all part of US criminal procedure.
E X E R C I S E S
1. Harold is charged with the crime of assault with a deadly weapon with intent to kill or
inflict serious bodily injury. It is a more serious crime than simple assault. Harold’s
attorney wants the prosecutor to give Harold a break, but Harold is guilty of at least
simple assault and may also have had the intent to kill. What is Harold’s attorney likely
to do?
2. Kumar was driving his car, smoking marijuana, and had an accident with another vehicle.
The other driver was slightly injured. When the officer arrived, she detected a strong
odor of marijuana in Kumar’s car and a small amount of marijuana in the glove
compartment. The other driver expects to bring a civil action against Kumar for her
injuries after Kumar’s criminal case. What should Kumar plead in the criminal case—
careless driving or driving under the influence?
6.6 Constitutional Rights of the Accused
L E A R N I N G O B J E C T I V E S
1. Describe the most significant constitutional rights of defendants in US courts, and name
the source of these rights.
2. Explain the Exclusionary rule and the reason for its existence.
Search and Seizure
The rights of those accused of a crime are spelled out in four of the ten constitutional amendments that
make up the Bill of Rights (Amendments Four, Five, Six, and Eight). For the most part, these
amendments have been held to apply to both the federal and the state governments. The Fourth
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Amendment says in part that “the right of the people to be secure in their persons, houses, papers, and
effects, against unreasonable searches and seizures, shall not be violated.” Although there are numerous
and tricky exceptions to the general rule, ordinarily the police may not break into a person’s house or
confiscate his papers or arrest him unless they have a warrant to do so. This means, for instance, that a
policeman cannot simply stop you on a street corner and ask to see what is in your pockets (a power the
police enjoy in many other countries), nor can your home be raided without probable cause to believe that
you have committed a crime. What if the police do search or seize unreasonably?
The courts have devised a remedy for the use at trial of the fruits of an unlawful search or seizure.
Evidence that is unconstitutionally seized is excluded from the trial. This is the so-called exclusionary
rule, first made applicable in federal cases in 1914 and brought home to the states in 1961.
The exclusionary rule is highly controversial, and there are numerous exceptions to it. But it remains
generally true that the prosecutor may not use evidence willfully taken by the police in violation of
constitutional rights generally, and most often in the violation of Fourth Amendment rights. (The fruits of
a coerced confession are also excluded.)
Double Jeopardy
The Fifth Amendment prohibits the government from prosecuting a person twice for the same offense.
The amendment says that no person shall be “subject for the same offence to be twice put in jeopardy of
life or limb.” If a defendant is acquitted, the government may not appeal. If a defendant is convicted and
his conviction is upheld on appeal, he may not thereafter be reprosecuted for the same crime.
Self-Incrimination
The Fifth Amendment is also the source of a person’s right against self-incrimination (no person “shall be
compelled in any criminal case to be a witness against himself”). The debate over the limits of this right
has given rise to an immense literature. In broadest outline, the right against self-incrimination means
that the prosecutor may not call a defendant to the witness stand during trial and may not comment to the
jury on the defendant’s failure to take the stand. Moreover, a defendant’s confession must be excluded
from evidence if it was not voluntarily made (e.g., if the police beat the person into giving a confession).
In Miranda v. Arizona, the Supreme Court ruled that no confession is admissible if the police have not
first advised a suspect of his constitutional rights, including the right to have a lawyer present to advise
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him during the questioning.
[1]
These so-called Miranda warnings have prompted scores of follow-up cases
that have made this branch of jurisprudence especially complex.
Speedy Trial
The Sixth Amendment tells the government that it must try defendants speedily. How long a delay is too
long depends on the circumstances in each case. In 1975, Congress enacted the Speedy Trial Act to give
priority to criminal cases in federal courts. It requires all criminal prosecutions to go to trial within
seventy-five days (though the law lists many permissible reasons for delay).
Cross-Examination
The Sixth Amendment also says that the defendant shall have the right to confront witnesses against him.
No testimony is permitted to be shown to the jury unless the person making it is present and subject to
cross-examination by the defendant’s counsel.
Assistance of Counsel
The Sixth Amendment guarantees criminal defendants the right to have the assistance of defense counsel.
During the eighteenth century and before, the British courts frequently refused to permit defendants to
have lawyers in the courtroom during trial. The right to counsel is much broader in this country, as the
result of Supreme Court decisions that require the state to pay for a lawyer for indigent defendants in
most criminal cases.
Cruel and Unusual Punishment
Punishment under the common law was frequently horrifying. Death was a common punishment for
relatively minor crimes. In many places throughout the world, punishments still persist that seem cruel
and unusual, such as the practice of stoning someone to death. The guillotine, famously in use during and
after the French Revolution, is no longer used, nor are defendants put in stocks for public display and
humiliation. In pre-Revolutionary America, an unlucky defendant who found himself convicted could face
brutal torture before death.
The Eighth Amendment banned these actions with the words that “cruel and unusual punishments [shall
not be] inflicted.” Virtually all such punishments either never were enacted or have been eliminated from
the statute books in the United States. Nevertheless, the Eighth Amendment has become a source of
controversy, first with the Supreme Court’s ruling in 1976 that the death penalty, as haphazardly applied
in the various states, amounted to cruel and unusual punishment. Later Supreme Court opinions have
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made it easier for states to administer the death penalty. As of 2010, there were 3,300 defendants on
death row in the United States. Of course, no corporation is on death row, and no corporation’s charter
has ever been revoked by a US state, even though some corporations have repeatedly been indicted and
convicted of criminal offenses.
Presumption of Innocence
The most important constitutional right in the US criminal justice system is the presumption of
innocence. The Supreme Court has repeatedly cautioned lower courts in the United States that juries must
be properly instructed that the defendant is innocent until proven guilty. This is the origin of the “beyond
all reasonable doubt” standard of proof and is an instruction given to juries in each criminal case. The
Fifth Amendment notes the right of “due process” in federal proceedings, and the Fourteenth Amendment
requires that each state provide “due process” to defendants.
K E Y T A K E A W A Y
The US Constitution provides several important protections for criminal defendants, including a
prohibition on the use of evidence that has been obtained by unconstitutional means. This would include
evidence seized in violation of the Fourth Amendment and confessions obtained in violation of the Fifth
Amendment.
E X E R C I S E S
1. Do you think it is useful to have a presumption of innocence in criminal cases? What if
there were not a presumption of innocence in criminal cases?
2. Do you think public humiliation, public execution, and unusual punishments would
reduce the amount of crime? Why do you think so?
3. “Due process” is another phrase for “fairness.” Why should the public show fairness
toward criminal defendants?
[1] Miranda v. Arizona, 384 US 436 (1966).
6.7 Cases
False Pretenses
State v. Mills
96 Ariz. 377, 396 P.2d 5 (Ariz. 1964)
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LOCKWOOD, VICE CHIEF JUSTICE
Defendants appeal from a conviction on two counts of obtaining money by false pretenses in violation of
AR.S. §§ 13-661.A3. and 13-663.A1. The material facts, viewed “…in the light most favorable to sustaining
the conviction,” are as follows: Defendant William Mills was a builder and owned approximately 150
homes in Tucson in December, 1960. Mills conducted his business in his home. In 1960 defendant
Winifred Mills, his wife, participated in the business generally by answering the telephone, typing, and
receiving clients who came to the office.
In December 1960, Mills showed the complainant, Nathan Pivowar, a house at 1155 Knox Drive and
another at 1210 Easy Street, and asked Pivowar if he would loan money on the Knox Drive house. Pivowar
did not indicate at that time whether he would agree to such a transaction. Later in the same month
Nathan Pivowar told the defendants that he and his brother, Joe Pivowar, would loan $5,000 and $4,000
on the two houses. Three or four days later Mrs. Mills, at Pivowar’s request, showed him these homes
again.
Mills had prepared two typed mortgages for Pivowar. Pivowar objected to the wording, so in Mills’ office
Mrs. Mills retyped the mortgages under Pivowar’s dictation. After the mortgages had been recorded on
December 31, 1960, Pivowar gave Mills a bank check for $5,791.87, some cash, and a second mortgage
formerly obtained from Mills in the approximate sum of $3,000. In exchange Mills gave Pivowar two
personal notes in the sums of $5,250.00 and $4,200.00 and the two mortgages as security for the loan.
Although the due date for Mills’ personal notes passed without payment being made, the complainant did
not present the notes for payment, did not demand that they be paid, and did not sue upon them. In 1962
the complainant learned that the mortgages which he had taken as security in the transaction were not
first mortgages on the Knox Drive and Easy Street properties. These mortgages actually covered two
vacant lots on which there were outstanding senior mortgages. On learning this, Pivowar signed a
complaint charging the defendants with the crime of theft by false pretenses.
On appeal defendants contend that the trial court erred in denying their motion to dismiss the
information. They urge that a permanent taking of property must be proved in order to establish the
crime of theft. Since the complainant had the right to sue on the defendants’ notes, the defendants assert
that complainant cannot be said to have been deprived of his property permanently. Defendants
misconceive the elements of the crime of theft by false pretenses. Stated in a different form, their
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argument is that although the complainant has parted with his cash, a bank check, and a second
mortgage, the defendants intend to repay the loan.
Defendants admit that the proposition of law which they assert is a novel one in this jurisdiction.
Respectable authority in other states persuades us that their contention is without merit. A creditor has a
right to determine for himself whether he wishes to be a secured or an unsecured creditor. In the former
case, he has a right to know about the security. If he extends credit in reliance upon security which is
falsely represented to be adequate, he has been defrauded even if the debtor intends to repay the debt. His
position is now that of an unsecured creditor. At the very least, an unreasonable risk of loss has been
forced upon him by reason of the deceit. This risk which he did not intend to assume has been imposed
upon him by the intentional act of the debtor, and such action constitutes an intent to defraud.
* * *
The cases cited by defendants in support of their contention are distinguishable from the instant case in
that they involved theft by larceny. Since the crime of larceny is designed to protect a person’s possessory
interest in property whereas the crime of false pretenses protects one’s title interest, the requirement of a
permanent deprivation is appropriate to the former. Accordingly, we hold that an intent to repay a loan
obtained on the basis of a false representation of the security for the loan is no defense.
* * *
Affirmed in part, reversed in part, and remanded for resentencing.
C A S E Q U E S T I O N S
1. False pretenses is a crime of obtaining ownership of property of another by making
untrue representations of fact with intent to defraud. What were the untrue
representations of fact made by Mills?
2. Concisely state the defendant’s argument as to why Pivowar has not been deprived of
any property.
3. If Pivowar had presented the notes and Mills had paid, would a crime have been
committed?
White-Collar Crimes
United States v. Park
421 U.S. 658 (1975)
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MR. CHIEF JUSTICE BURGER delivered the opinion of the Court.
We granted certiorari to consider whether the jury instructions in the prosecution of a corporate officer
under § 301 (k) of the Federal Food, Drug, and Cosmetic Act, 52 Stat. 1042, as amended, 21 U.S.C. § 331
(k), were appropriate under United States v. Dotterweich, 320 U.S. 277 (1943). Acme Markets, Inc., is a
national retail food chain with approximately 36,000 employees, 874 retail outlets, 12 general
warehouses, and four special warehouses. Its headquarters, including the office of the president,
respondent Park, who is chief executive officer of the corporation, are located in Philadelphia,
Pennsylvania. In a five-count information filed in the United States District Court for the District of
Maryland, the Government charged Acme and respondent with violations of the Federal Food, Drug, and
Cosmetic Act. Each count of the information alleged that the defendants had received food that had been
shipped in interstate commerce and that, while the food was being held for sale in Acme’s Baltimore
warehouse following shipment in interstate commerce, they caused it to be held in a building accessible to
rodents and to be exposed to contamination by rodents. These acts were alleged to have resulted in the
food’s being adulterated within the meaning of 21 U.S.C. §§ 342 (a)(3) and (4), in violation of 21 U.S.C. §
331 (k).
Acme pleaded guilty to each count of the information. Respondent pleaded not guilty. The evidence at
trial demonstrated that in April 1970 the Food and Drug Administration (FDA) advised respondent by
letter of insanitary conditions in Acme’s Philadelphia warehouse. In 1971 the FDA found that similar
conditions existed in the firm’s Baltimore warehouse. An FDA consumer safety officer testified concerning
evidence of rodent infestation and other insanitary conditions discovered during a 12-day inspection of
the Baltimore warehouse in November and December 1971. He also related that a second inspection of the
warehouse had been conducted in March 1972. On that occasion the inspectors found that there had been
improvement in the sanitary conditions, but that “there was still evidence of rodent activity in the building
and in the warehouses and we found some rodent-contaminated lots of food items.”
The Government also presented testimony by the Chief of Compliance of the FDA’s Baltimore office, who
informed respondent by letter of the conditions at the Baltimore warehouse after the first inspection.
There was testimony by Acme’s Baltimore division vice president, who had responded to the letter on
behalf of Acme and respondent and who described the steps taken to remedy the insanitary conditions
discovered by both inspections. The Government’s final witness, Acme’s vice president for legal affairs
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and assistant secretary, identified respondent as the president and chief executive officer of the company
and read a bylaw prescribing the duties of the chief executive officer. He testified that respondent
functioned by delegating “normal operating duties” including sanitation, but that he retained “certain
things, which are the big, broad, principles of the operation of the company and had “the responsibility of
seeing that they all work together.”
At the close of the Government’s case in chief, respondent moved for a judgment of acquittal on the
ground that “the evidence in chief has shown that Mr. Park is not personally concerned in this Food and
Drug violation.” The trial judge denied the motion, stating that United States v. Dotterweich, 320 U.S. 277
(1943), was controlling.
Respondent was the only defense witness. He testified that, although all of Acme’s employees were in a
sense under his general direction, the company had an “organizational structure for responsibilities for
certain functions” according to which different phases of its operation were “assigned to individuals who,
in turn, have staff and departments under them.” He identified those individuals responsible for
sanitation, and related that upon receipt of the January 1972 FDA letter, he had conferred with the vice
president for legal affairs, who informed him that the Baltimore division vice president “was investigating
the situation immediately and would be taking corrective action and would be preparing a summary of the
corrective action to reply to the letter.” Respondent stated that he did not “believe there was anything [he]
could have done more constructively than what [he] found was being done.”
On cross-examination, respondent conceded that providing sanitary conditions for food offered for sale to
the public was something that he was “responsible for in the entire operation of the company” and he
stated that it was one of many phases of the company that he assigned to “dependable subordinates.”
Respondent was asked about and, over the objections of his counsel, admitted receiving, the April 1970
letter addressed to him from the FDA regarding insanitary conditions at Acme’s Philadelphia warehouse.
He acknowledged that, with the exception of the division vice president, the same individuals had
responsibility for sanitation in both Baltimore and Philadelphia. Finally, in response to questions
concerning the Philadelphia and Baltimore incidents, respondent admitted that the Baltimore problem
indicated the system for handling sanitation “wasn’t working perfectly” and that as Acme’s chief executive
officer he was “responsible for any result which occurs in our company.”
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At the close of the evidence, respondent’s renewed motion for a judgment of acquittal was denied. The
relevant portion of the trial judge’s instructions to the jury challenged by respondent is set out in the
margin. Respondent’s counsel objected to the instructions on the ground that they failed fairly to reflect
our decision in United States v. Dotterweich supra, and to define “‘responsible relationship.’” The trial
judge overruled the objection. The jury found respondent guilty on all counts of the information, and he
was subsequently sentenced to pay a fine of $50 on each count. The Court of Appeals reversed the
conviction and remanded for a new trial.
* * *
The question presented by the Government’s petition for certiorari in United States v. Dotterweich, and
the focus of this Court’s opinion, was whether the manager of a corporation, as well as the corporation
itself, may be prosecuted under the Federal Food, Drug, and Cosmetic Act of 1938 for the introduction of
misbranded and adulterated articles into interstate commerce. In Dotterweich, a jury had disagreed as to
the corporation, a jobber purchasing drugs from manufacturers and shipping them in interstate
commerce under its own label, but had convicted Dotterweich, the corporation’s president and general
manager. The Court of Appeals reversed the conviction on the ground that only the drug dealer, whether
corporation or individual, was subject to the criminal provisions of the Act, and that where the dealer was
a corporation, an individual connected therewith might be held personally only if he was operating the
corporation as his ‘alter ego.’
In reversing the judgment of the Court of Appeals and reinstating Dotterweich’s conviction, this Court
looked to the purposes of the Act and noted that they “touch phases of the lives and health of people
which, in the circumstances of modern industrialism, are largely beyond self-protection. It observed that
the Act is of “a now familiar type” which “dispenses with the conventional requirement for criminal
conduct-awareness of some wrongdoing: In the interest of the larger good it puts the burden of acting at
hazard upon a person otherwise innocent but standing in responsible relation to a public danger. Central
to the Court’s conclusion that individuals other than proprietors are subject to the criminal provisions of
the Act was the reality that the only way in which a corporation can act is through the individuals, who act
on its behalf.
* * *
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The Court recognized that, because the Act dispenses with the need to prove “consciousness of
wrongdoing,” it may result in hardship even as applied to those who share “responsibility in the business
process resulting in” a violation.…The rule that corporate employees who have “a responsible share in the
furtherance of the transaction which the statute outlaws” are subject to the criminal provisions of the Act
was not formulated in a vacuum. Cf. Morissette v. United States, 342 U.S. 246, 258 (1952). Cases under
the Federal Food and Drugs Act of 1906 reflected the view both that knowledge or intent were not
required to be proved in prosecutions under its criminal provisions, and that responsible corporate agents
could be subjected to the liability thereby imposed.
* * *
The rationale of the interpretation given the Act in Dotterweich…has been confirmed in our subsequent
cases. Thus, the Court has reaffirmed the proposition that the public interest in the purity of its food is so
great as to warrant the imposition of the highest standard of care on distributors.
Thus Dotterweich and the cases which have followed reveal that in providing sanctions which reach and
touch the individuals who execute the corporate mission—and this is by no means necessarily confined to
a single corporate agent or employee—the Act imposes not only a positive duty to seek out and remedy
violations when they occur but also, and primarily, a duty to implement measures that will insure that
violations will not occur. The requirements of foresight and vigilance imposed on responsible corporate
agents are beyond question demanding, and perhaps onerous, but they are no more stringent than the
public has a right to expect of those who voluntarily assume positions of authority in business enterprises
whose services and products affect the health and well-being of the public that supports them.
* * *
Reading the entire charge satisfies us that the jury’s attention was adequately focused on the issue of
respondent’s authority with respect to the conditions that formed the basis of the alleged violations.
Viewed as a whole, the charge did not permit the jury to find guilt solely on the basis of respondent’s
position in the corporation; rather, it fairly advised the jury that to find guilt it must find respondent “had
a responsible relation to the situation,” and “by virtue of his position…had…authority and responsibility”
to deal with the situation.
The situation referred to could only be “food…held in unsanitary conditions in a warehouse with the result
that it consisted, in part, of filth or…may have been contaminated with filth.”
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Our conclusion that the Court of Appeals erred in its reading of the jury charge suggests as well our
disagreement with that court concerning the admissibility of evidence demonstrating that respondent was
advised by the FDA in 1970 of insanitary conditions in Acme’s Philadelphia warehouse. We are satisfied
that the Act imposes the highest standard of care and permits conviction of responsible corporate officials
who, in light of this standard of care, have the power to prevent or correct violations of its provisions.
* * *
Reversed.
C A S E Q U E S T I O N S
1. Did Park have criminal intent to put adulterated food into commerce? If not, how can
Park’s conduct be criminalized?
2. To get a conviction, what does the prosecutor have to show, other than that Park was
the CEO of Acme and therefore responsible for what his company did or didn’t do?
6.8 Summary and Exercises
Summary
Criminal law is that branch of law governing offenses against society. Most criminal law requires a specific
intent to commit the prohibited act (although a very few economic acts, made criminal by modern
legislation, dispense with the requirement of intent). In this way, criminal law differs from much of civil
law—for example, from the tort of negligence, in which carelessness, rather than intent, can result in
liability.
Major crimes are known as felonies. Minor crimes are known as misdemeanors. Most people have a
general notion about familiar crimes, such as murder and theft. But conventional knowledge does not
suffice for understanding technical distinctions among related crimes, such as larceny, robbery, and false
pretenses. These distinctions can be important because an individual can be found guilty not merely for
committing one of the acts defined in the criminal law but also for attempting or conspiring to commit
such an act. It is usually easier to convict someone of attempt or conspiracy than to convict for the main
crime, and a person involved in a conspiracy to commit a felony may find that very little is required to put
him into serious trouble.
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Of major concern to the business executive is white-collar crime, which encompasses a host of offenses,
including bribery, embezzlement, fraud, restraints of trade, and computer crime. Anyone accused of crime
should know that they always have the right to consult with a lawyer and should always do so.
E X E R C I S E S
1. Bill is the chief executive of a small computer manufacturing company that desperately
needs funds to continue operating. One day a stranger comes to Bill to induce him to
take part in a cocaine smuggling deal that would net Bill millions of dollars.
Unbeknownst to Bill, the stranger is an undercover policeman. Bill tells the stranger to
go away. The stranger persists, and after five months of arguing and cajoling, the
stranger wears down Bill’s will to resist. Bill agrees to take delivery of the cocaine and
hands over a down payment of $10,000 to the undercover agent, who promptly arrests
him for conspiracy to violate the narcotics laws. What defenses does Bill have?
2. You are the manager of a bookstore. A customer becomes irritated at having to stand in
line and begins to shout at the salesclerk for refusing to wait on him. You come out of
your office and ask the customer to calm down. He shouts at you. You tell him to leave.
He refuses. So you and the salesclerk pick him up and shove him bodily out the door. He
calls the police to have you arrested for assault. Should the police arrest you? Assuming
that they do, how would you defend yourself in court?
3. Marilyn is arrested for arson against a nuclear utility, a crime under both state and
federal law. She is convicted in state court and sentenced to five years in jail. Then the
federal government decides to prosecute her for the same offense. Does she have a
double-jeopardy defense against the federal prosecution?
4. Tectonics, a US corporation, is bidding on a project in Nigeria, and its employee wins the
bid by secretly giving $100,000 to the Nigerian public official that has the most say about
which company will be awarded the contract. The contract is worth $80 million, and
Tectonics expects to make at least $50 million on the project. Has a crime under US law
been committed?
5. Suppose that the CEO of Tectonics, Ted Nelson, is not actually involved in bribery of the
Nigerian public official Adetutu Adeleke. Instead, suppose that the CFO, Jamie Skillset, is
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very accomplished at insulating both top management and the board of directors from
some of the “operational realities” within the company. Skillset knows that Whoopi
Goldmine, a Nigerian employee of Tectonics, has made the deal with Adeleke and
secured the contract for Tectonics. Is it possible that Nelson, as well as Skillset, can be
found guilty of a crime?
6. You have graduated from college and, after working hard for ten years, have scraped
enough money together to make a down payment on a forty-acre farm within driving
distance to the small city where you work in Colorado. In town at lunch one day, you run
into an old friend from high school, Hayley Mills, who tells you that she is saving her
money to start a high-end consignment shop in town. You allow her to have a room in
your house for a few months until she has enough money to go into business. Over the
following weeks, however, you realize that old acquaintances from high school are
stopping by almost daily for short visits. When you bring this up to Hayley, she admits
that many old friends are now relying on her for marijuana. She is not a licensed
caregiver in Colorado and is clearly violating the law. Out of loyalty, you tell her that she
has three weeks to move out, but you do not prevent her from continuing sales while
she is there. What crime have you committed?
7. The Center Art Galleries—Hawaii sells artwork, and much of it involves art by the famous
surrealist painter Salvador Dali. The federal government suspected the center of selling
forged Dali artwork and obtained search warrants for six locations controlled by the
center. The warrants told the executing officer to seize any items that were “evidence of
violations of federal criminal law.” The warrants did not describe the specific crime
suspected, nor did the warrants limit the seizure of items solely to Dali artwork or
suspected Dali forgeries. Are these search warrants valid?
[1]
S E L F – T E S T Q U E S T I O N S
1. Jared has made several loans to debtors who have declared bankruptcy. These are unsecured
claims. Jared “doctors” the documentation to show amounts owed that are higher than the
debtors actually owe. Later, Jared is charged with the federal criminal offense of filing false claims.
The standard (or “burden”) of proof that the US attorney must meet in the prosecution is
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a. beyond all doubt
b. beyond a reasonable doubt
c. clear and convincing evidence
d. a preponderance of the evidence
Jethro, a businessman who resides in Atlanta, creates a disturbance at a local steakhouse and is
arrested for being drunk and disorderly. Drunk and disorderly is a misdemeanor under Georgia
law. A misdemeanor is a crime punishable by imprisonment for up to
a. one year
b. two years
c. five years
d. none of the above
Yuan is charged with a crime. To find him guilty, the prosecutor must show
a. actus reus and mens rea
b. mens rea only
c. the performance of a prohibited act
d. none of the above
Kira works for Data Systems Ltd. and may be liable for larceny if she steals
a. a competitor’s trade secrets
b. company computer time
c. the use of Data Systems’ Internet for personal business
d. any of the above
Candace is constructing a new office building that is near its completion. She offers Paul $500 to
overlook certain things that are noncompliant with the city’s construction code. Paul accepts the
money and overlooks the violations. Later, Candace is charged with the crime of bribery. This
occurred when
a. Candace offered the bribe.
b. Paul accepted the bribe.
c. Paul overlooked the violations.
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d. none of the above
S E L F – T E S T A N S W E R S
1. b
2. a
3. a
4. d
5. a
[1] Center Art Galleries—Hawaii, Inc. v. United States, 875 F.2d 747 (9th Cir. 1989).
Chapter 7
Introduction to Tort Law
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should be able to do the following:
1. Know why most legal systems have tort law.
2. Identify the three kinds of torts.
3. Show how tort law relates to criminal law and contract law.
4. Understand negligent torts and defenses to claims of negligence.
5. Understand strict liability torts and the reasons for them in the US legal system.
In civil litigation, contract and tort claims are by far the most numerous. The law attempts to adjust for harms done
by awarding damages to a successful plaintiff who demonstrates that the defendant was the cause of the plaintiff’s
losses. Torts can be intentional torts, negligent torts, or strict liability torts. Employers must be aware that in many
circumstances, their employees may create liability in tort. This chapter explains the different kind of torts, as well as
available defenses to tort claims.
7.1 Purpose of Tort Laws
L E A R N I N G O B J E C T I V E S
1. Explain why a sound market system requires tort law.
2. Define a tort and give two examples.
3. Explain the moral basis of tort liability.
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4. Understand the purposes of damage awards in tort.
Definition of Tort
The term tort is the French equivalent of the English word wrong. The word tort is also derived from the
Latin word tortum, which means twisted or crooked or wrong, in contrast to the word rectum, which
means straight (rectitude uses that Latin root). Thus conduct that is twisted or crooked and not straight is
a tort. The term was introduced into the English law by the Norman jurists.
Long ago, tort was used in everyday speech; today it is left to the legal system. A judge will instruct a jury
that a tort is usually defined as a wrong for which the law will provide a remedy, most often in the form of
money damages. The law does not remedy all “wrongs.” The preceding definition of tort does not reveal
the underlying principles that divide wrongs in the legal sphere from those in the moral sphere. Hurting
someone’s feelings may be more devastating than saying something untrue about him behind his back; yet
the law will not provide a remedy for saying something cruel to someone directly, while it may provide a
remedy for “defaming” someone, orally or in writing, to others.
Although the word is no longer in general use, tort suits are the stuff of everyday headlines. More and
more people injured by exposure to a variety of risks now seek redress (some sort of remedy through the
courts). Headlines boast of multimillion-dollar jury awards against doctors who bungled operations,
against newspapers that libeled subjects of stories, and against oil companies that devastate entire
ecosystems. All are examples of tort suits.
The law of torts developed almost entirely in the common-law courts; that is, statutes passed by
legislatures were not the source of law that plaintiffs usually relied on. Usually, plaintiffs would rely on the
common law (judicial decisions). Through thousands of cases, the courts have fashioned a series of rules
that govern the conduct of individuals in their noncontractual dealings with each other. Through
contracts, individuals can craft their own rights and responsibilities toward each other. In the absence of
contracts, tort law holds individuals legally accountable for the consequences of their actions. Those who
suffer losses at the hands of others can be compensated.
Many acts (like homicide) are both criminal and tortious. But torts and crimes are different, and the
difference is worth noting. A crime is an act against the people as a whole. Society punishes the murderer;
it does not usually compensate the family of the victim. Tort law, on the other hand, views the death as a
private wrong for which damages are owed. In a civil case, the tort victim or his family, not the state,
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brings the action. The judgment against a defendant in a civil tort suit is usually expressed in monetary
terms, not in terms of prison times or fines, and is the legal system’s way of trying to make up for the
victim’s loss.
Kinds of Torts
There are three kinds of torts: intentional torts, negligent torts, and strict liability torts. Intentional torts
arise from intentional acts, whereas unintentional torts often result from carelessness (e.g., when a
surgical team fails to remove a clamp from a patient’s abdomen when the operation is finished). Both
intentional torts and negligent torts imply some fault on the part of the defendant. In strict liability torts,
by contrast, there may be no fault at all, but tort law will sometimes require a defendant to make up for
the victim’s losses even where the defendant was not careless and did not intend to do harm.
Dimensions of Tort Liability
There is a clear moral basis for recovery through the legal system where the defendant has been careless
(negligent) or has intentionally caused harm. Using the concepts that we are free and autonomous beings
with basic rights, we can see that when others interfere with either our freedom or our autonomy, we will
usually react negatively. As the old saying goes, “Your right to swing your arm ends at the tip of my nose.”
The law takes this even one step further: under intentional tort law, if you frighten someone by swinging
your arms toward the tip of her nose, you may have committed the tort of assault, even if there is no actual
touching (battery).
Under a capitalistic market system, rational economic rules also call for no negative externalities. That is,
actions of individuals, either alone or in concert with others, should not negatively impact third parties.
The law will try to compensate third parties who are harmed by your actions, even as it knows that a
money judgment cannot actually mend a badly injured victim.
Figure 7.1 Dimensions of Tort Liability
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Dimensions of Tort: Fault
Tort principles can be viewed along different dimensions. One is the fault dimension. Like criminal law,
tort law requires a wrongful act by a defendant for the plaintiff to recover. Unlike criminal law, however,
there need not be a specific intent. Since tort law focuses on injury to the plaintiff, it is less concerned than
criminal law about the reasons for the defendant’s actions. An innocent act or a relatively innocent one
may still provide the basis for liability. Nevertheless, tort law—except for strict liability—relies on
standards of fault, or blameworthiness.
The most obvious standard is willful conduct. If the defendant (often called thetortfeasor—i.e., the one
committing the tort) intentionally injures another, there is little argument about tort liability. Thus all
crimes resulting in injury to a person or property (murder, assault, arson, etc.) are also torts, and the
plaintiff may bring a separate lawsuit to recover damages for injuries to his person, family, or property.
Most tort suits do not rely on intentional fault. They are based, rather, on negligent conduct that in the
circumstances is careless or poses unreasonable risks of causing damage. Most automobile accident and
medical malpractice suits are examples of negligence suits.
The fault dimension is a continuum. At one end is the deliberate desire to do injury. The middle ground is
occupied by careless conduct. At the other end is conduct that most would consider entirely blameless, in
the moral sense. The defendant may have observed all possible precautions and yet still be held liable.
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This is calledstrict liability. An example is that incurred by the manufacturer of a defective product that is
placed on the market despite all possible precautions, including quality-control inspection. In many
states, if the product causes injury, the manufacturer will be held liable.
Dimensions of Tort: Nature of Injury
Tort liability varies by the type of injury caused. The most obvious type is physical harm to the person
(assault, battery, infliction of emotional distress, negligent exposure to toxic pollutants, wrongful death)
or property (trespass, nuisance, arson, interference with contract). Mental suffering can be redressed if it
is a result of physical injury (e.g., shock and depression following an automobile accident). A few states
now permit recovery for mental distress alone (a mother’s shock at seeing her son injured by a car while
both were crossing the street). Other protected interests include a person’s reputation (injured by
defamatory statements or writings), privacy (injured by those who divulge secrets of his personal life), and
economic interests (misrepresentation to secure an economic advantage, certain forms of unfair
competition).
Dimensions of Tort: Excuses
A third element in the law of torts is the excuse for committing an apparent wrong. The law does not
condemn every act that ultimately results in injury.
One common rule of exculpation is assumption of risk. A baseball fan who sits along the third base line
close to the infield assumes the risk that a line drive foul ball may fly toward him and strike him. He will
not be permitted to complain in court that the batter should have been more careful or that management
should have either warned him or put up a protective barrier.
Another excuse is negligence of the plaintiff. If two drivers are careless and hit each other on the highway,
some states will refuse to permit either to recover from the other. Still another excuse is consent: two
boxers in the ring consent to being struck with fists (but not to being bitten on the ear).
Damages
Since the purpose of tort law is to compensate the victim for harm actually done, damages are usually
measured by the extent of the injury. Expressed in money terms, these include replacement of property
destroyed, compensation for lost wages, reimbursement for medical expenses, and dollars that are
supposed to approximate the pain that is suffered. Damages for these injuries are
called compensatory damages.
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In certain instances, the courts will permit an award of punitive damages. As the word punitive implies,
the purpose is to punish the defendant’s actions. Because a punitive award (sometimes called exemplary
damages) is at odds with the general purpose of tort law, it is allowable only in aggravated situations. The
law in most states permits recovery of punitive damages only when the defendant has deliberately
committed a wrong with malicious intent or has otherwise done something outrageous.
Punitive damages are rarely allowed in negligence cases for that reason. But if someone sets out
intentionally and maliciously to hurt another person, punitive damages may well be appropriate. Punitive
damages are intended not only to punish the wrongdoer, by exacting an additional and sometimes heavy
payment (the exact amount is left to the discretion of jury and judge), but also to deter others from similar
conduct. The punitive damage award has been subject to heavy criticism in recent years in cases in which
it has been awarded against manufacturers. One fear is that huge damage awards on behalf of a multitude
of victims could swiftly bankrupt the defendant. Unlike compensatory damages, punitive damages are
taxable.
K E Y T A K E A W A Y
There are three kinds of torts, and in two of them (negligent torts and strict liability torts), damages are
usually limited to making the victim whole through an enforceable judgment for money damages. These
compensatory damages awarded by a court accomplish only approximate justice for the injuries or
property damage caused by a tortfeasor. Tort laws go a step further toward deterrence, beyond
compensation to the plaintiff, in occasionally awarding punitive damages against a defendant. These are
almost always in cases where an intentional tort has been committed.
E X E R C I S E S
1. Why is deterrence needed for intentional torts (where punitive damages are awarded)
rather than negligent torts?
2. Why are costs imposed on others without their consent problematic for a market
economy? What if the law did not try to reimpose the victim’s costs onto the tortfeasor?
What would a totally nonlitigious society be like?
7.2 Intentional Torts
L E A R N I N G O B J E C T I V E S
1. Distinguish intentional torts from other kinds of torts.
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2. Give three examples of an intentional tort—one that causes injury to a person, one that
causes injury to property, and one that causes injury to a reputation.
The analysis of most intentional torts is straightforward and parallels the substantive crimes already
discussed in Chapter 6 “Criminal Law”. When physical injury or damage to property is caused, there is
rarely debate over liability if the plaintiff deliberately undertook to produce the harm. Certain other
intentional torts are worth noting for their relevance to business.
Assault and Battery
One of the most obvious intentional torts is assault and battery. Both criminal law and tort law serve to
restrain individuals from using physical force on others. Assault is (1) the threat of immediate harm or
offense of contact or (2) any act that would arouse reasonable apprehension of imminent harm. Battery is
unauthorized and harmful or offensive physical contact with another person that causes injury.
Often an assault results in battery, but not always. In Western Union Telegraph Co. v. Hill, for example,
the defendant did not touch the plaintiff’s wife, but the case presented an issue of possible assault even
without an actual battery; the defendant employee attempted to kiss a customer across the countertop,
couldn’t quite reach her, but nonetheless created actionable fear (or, as the court put it, “apprehension”)
on the part of the plaintiff’s wife. It is also possible to have a battery without an assault. For example, if
someone hits you on the back of the head with an iron skillet and you didn’t see it coming, there is a
battery but no assault. Likewise, if Andrea passes out from drinking too much at the fraternity party and a
stranger (Andre) kisses her on the lips while she is passed out, she would not be aware of any threat of
offensive contact and would have no apprehension of any harm. Thus there has been no tort of assault,
but she could allege the tort of battery. (The question of what damages, if any, would be an interesting
argument.)
Under the doctrine of transferred intent, if Draco aims his wand at Harry but Harry ducks just in time and
the impact is felt by Hermione instead, English law (and American law) would transfer Draco’s intent
from the target to the actual victim of the act. Thus Hermione could sue Draco for battery for any damages
she had suffered.
False Imprisonment
The tort of false imprisonment originally implied a locking up, as in a prison, but today it can occur if a
person is restrained in a room or a car or even if his or her movements are restricted while walking down
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the street. People have a right to be free to go as they please, and anyone who without cause deprives
another of personal freedom has committed a tort. Damages are allowed for time lost, discomfort and
resulting ill health, mental suffering, humiliation, loss of reputation or business, and expenses such as
attorneys’ fees incurred as a result of the restraint (such as a false arrest). But as the case of Lester v.
Albers Super Markets, Inc. (Section 7.5 “Cases”) shows, the defendant must be shown to have restrained
the plaintiff in order for damages to be allowed.
Intentional Infliction of Emotional Distress
Until recently, the common-law rule was that there could be no recovery for acts, even though
intentionally undertaken, that caused purely mental or emotional distress. For a case to go to the jury, the
courts required that the mental distress result from some physical injury. In recent years, many courts
have overthrown the older rule and now recognize the so-called new tort. In an employment context,
however, it is rare to find a case where a plaintiff is able to recover. The most difficult hurdle is proving
that the conduct was “extreme” or “outrageous.”
In an early California case, bill collectors came to the debtor’s home repeatedly and threatened the
debtor’s pregnant wife. Among other things, they claimed that the wife would have to deliver her child in
prison. The wife miscarried and had emotional and physical complications. The court found that the
behavior of the collection company’s two agents was sufficiently outrageous to prove the tort of
intentional infliction of emotional distress. In Roche v. Stern (New York), the famous cable television talk
show host Howard Stern had tastelessly discussed the remains of Deborah Roche, a topless dancer and
cable access television host.
[1]
The remains had been brought to Stern’s show by a close friend of Roche,
Chaunce Hayden, and a number of crude comments by Stern and Hayden about the remains were
videotaped and broadcast on a national cable television station. Roche’s sister and brother sued Howard
Stern and Infinity broadcasting and were able to get past the defendant’s motion to dismiss to have a jury
consider their claim.
A plaintiff’s burden in these cases is to show that the mental distress is severe. Many states require that
this distress must result in physical symptoms such as nausea, headaches, ulcers, or, as in the case of the
pregnant wife, a miscarriage. Other states have not required physical symptoms, finding that shame,
embarrassment, fear, and anger constitute severe mental distress.
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Trespass and Nuisance
Trespass is intentionally going on land that belongs to someone else or putting something on someone
else’s property and refusing to remove it. This part of tort law shows how strongly the law values the rights
of property owners. The right to enjoy your property without interference from others is also found in
common law of nuisance. There are limits to property owners’ rights, however. In Katko v. Briney, for
example, the plaintiff was injured by a spring gun while trespassing on the defendant’s property.
[2]
The
defendant had set up No Trespassing signs after ten years of trespassing and housebreaking events, with
the loss of some household items. Windows had been broken, and there was “messing up of the property
in general.” The defendants had boarded up the windows and doors in order to stop the intrusions and
finally had set up a shotgun trap in the north bedroom of the house. One defendant had cleaned and oiled
his 20-gauge shotgun and taken it to the old house where it was secured to an iron bed with the barrel
pointed at the bedroom door. “It was rigged with wire from the doorknob to the gun’s trigger so would fire
when the door was opened.” The angle of the shotgun was adjusted to hit an intruder in the legs. The
spring could not be seen from the outside, and no warning of its presence was posted.
The plaintiff, Katko, had been hunting in the area for several years and considered the property
abandoned. He knew it had long been uninhabited. He and a friend had been to the house and found
several old bottles and fruit jars that they took and added to their collection of antiques. When they made
a second trip to the property, they entered by removing a board from a porch window. When the plaintiff
opened the north bedroom door, the shotgun went off and struck him in the right leg above the ankle
bone. Much of his leg was blown away. While Katko knew he had no right to break and enter the house
with intent to steal bottles and fruit jars, the court held that a property owner could not protect an
unoccupied boarded-up farmhouse by using a spring gun capable of inflicting death or serious injury.
In Katko, there is an intentional tort. But what if someone trespassing is injured by the negligence of the
landowner? States have differing rules about trespass and negligence. In some states, a trespasser is only
protected against the gross negligence of the landowner. In other states, trespassers may be owed the duty
of due care on the part of the landowner. The burglar who falls into a drained swimming pool, for
example, may have a case against the homeowner unless the courts or legislature of that state have made
it clear that trespassers are owed the limited duty to avoid gross negligence. Or a very small child may
wander off his own property and fall into a gravel pit on a nearby property and suffer death or serious
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injury; if the pit should (in the exercise of due care) have been filled in or some barrier erected around it,
then there was negligence. But if the state law holds that the duty to trespassers is only to avoid gross
negligence, the child’s family would lose, unless the state law makes an exception for very young
trespassers. In general, guests, licensees, and invitees are owed a duty of due care; a trespasser may not be
owed such a duty, but states have different rules on this.
Intentional Interference with Contractual Relations
Tortious interference with a contract can be established by proving four elements:
1. There was a contract between the plaintiff and a third party.
2. The defendant knew of the contract.
3. The defendant improperly induced the third party to breach the contract or made
performance of the contract impossible.
4. There was injury to the plaintiff.
In a famous case of contract interference, Texaco was sued by Pennzoil for interfering with an agreement
that Pennzoil had with Getty Oil. After complicated negotiations between Pennzoil and Getty, a takeover
share price was struck, a memorandum of understanding was signed, and a press release announced the
agreement in principle between Pennzoil and Getty. Texaco’s lawyers, however, believed that Getty oil was
“still in play,” and before the lawyers for Pennzoil and Getty could complete the paperwork for their
agreement, Texaco announced it was offering Getty shareholders an additional $12.50 per share over
what Pennzoil had offered.
Texaco later increased its offer to $228 per share, and the Getty board of directors soon began dealing
with Texaco instead of Pennzoil. Pennzoil decided to sue in Texas state court for tortious interference with
a contract. After a long trial, the jury returned an enormous verdict against Texaco: $7.53 billion in actual
damages and $3 billion in punitive damages. The verdict was so large that it would have bankrupted
Texaco. Appeals from the verdict centered on an obscure rule of the Securities and Exchange Commission
(SEC), Rule 10(b)-13, and Texaco’s argument was based on that rule and the fact that the contract had not
been completed. If there was no contract, Texaco could not have legally interfered with one. After the SEC
filed a brief that supported Texaco’s interpretation of the law, Texaco agreed to pay $3 billion to Pennzoil
to dismiss its claim of tortious interference with a contract.
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Malicious Prosecution
Malicious prosecution is the tort of causing someone to be prosecuted for a criminal act, knowing that
there was no probable cause to believe that the plaintiff committed the crime. The plaintiff must show that
the defendant acted with malice or with some purpose other than bringing the guilty to justice. A mere
complaint to the authorities is insufficient to establish the tort, but any official proceeding will support the
claim—for example, a warrant for the plaintiff’s arrest. The criminal proceeding must terminate in the
plaintiff’s favor in order for his suit to be sustained.
A majority of US courts, though by no means all, permit a suit for wrongful civil proceedings. Civil
litigation is usually costly and burdensome, and one who forces another to defend himself against baseless
accusations should not be permitted to saddle the one he sues with the costs of defense. However,
because, as a matter of public policy, litigation is favored as the means by which legal rights can be
vindicated—indeed, the Supreme Court has even ruled that individuals have a constitutional right to
litigate—the plaintiff must meet a heavy burden in proving his case. The mere dismissal of the original
lawsuit against the plaintiff is not sufficient proof that the suit was unwarranted. The plaintiff in a suit for
wrongful civil proceedings must show that the defendant (who was the plaintiff in the original suit) filed
the action for an improper purpose and had no reasonable belief that his cause was legally or factually
well grounded.
Defamation
Defamation is injury to a person’s good name or reputation. In general, if the harm is done through the
spoken word—one person to another, by telephone, by radio, or on television—it is called slander. If the
defamatory statement is published in written form, it is called libel.
The Restatement (Second) of Torts defines a defamatory communication as one that “so tends to harm the
reputation of another as to lower him in the estimation of the community or to deter third persons from
associating or dealing with him.”
[3]
A statement is not defamatory unless it is false. Truth is an absolute defense to a charge of libel or slander.
Moreover, the statement must be “published”—that is, communicated to a third person. You cannot be
libeled by one who sends you a letter full of false accusations and scurrilous statements about you unless a
third person opens it first (your roommate, perhaps). Any living person is capable of being defamed, but
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the dead are not. Corporations, partnerships, and other forms of associations can also be defamed, if the
statements tend to injure their ability to do business or to garner contributions.
The statement must have reference to a particular person, but he or she need not be identified by name. A
statement that “the company president is a crook” is defamatory, as is a statement that “the major
network weathermen are imposters.” The company president and the network weathermen could show
that the words were aimed at them. But statements about large groups will not support an action for
defamation (e.g., “all doctors are butchers” is not defamatory of any particular doctor).
The law of defamation is largely built on strict liability. That a person did not intend to defame is
ordinarily no excuse; a typographical error that converts a true statement into a false one in a newspaper,
magazine, or corporate brochure can be sufficient to make out a case of libel. Even the exercise of due care
is usually no excuse if the statement is in fact communicated. Repeating a libel is itself a libel; a libel
cannot be justified by showing that you were quoting someone else. Though a plaintiff may be able to
prove that a statement was defamatory, he is not necessarily entitled to an award of damages. That is
because the law contains a number of privileges that excuse the defamation.
Publishing false information about another business’s product constitutes the tort of slander of quality, or
trade libel. In some states, this is known as the tort of product disparagement. It may be difficult to
establish damages, however. A plaintiff must prove that actual damages proximately resulted from the
slander of quality and must show the extent of the economic harm as well.
Absolute Privilege
Statements made during the course of judicial proceedings are absolutely privileged, meaning that they
cannot serve as the basis for a defamation suit. Accurate accounts of judicial or other proceedings are
absolutely privileged; a newspaper, for example, may pass on the slanderous comments of a judge in
court. “Judicial” is broadly construed to include most proceedings of administrative bodies of the
government. The Constitution exempts members of Congress from suits for libel or slander for any
statements made in connection with legislative business. The courts have constructed a similar privilege
for many executive branch officials.
Qualified Privilege
Absolute privileges pertain to those in the public sector. A narrower privilege exists for private citizens. In
general, a statement that would otherwise be actionable is held to be justified if made in a reasonable
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manner and for a reasonable purpose. Thus you may warn a friend to beware of dealing with a third
person, and if you had reason to believe that what you said was true, you are privileged to issue the
warning, even though false. Likewise, an employee may warn an employer about the conduct or character
of a fellow or prospective employee, and a parent may complain to a school board about the competence
or conduct of a child’s teacher. There is a line to be drawn, however, and a defendant with nothing but an
idle interest in the matter (an “officious intermeddler”) must take the risk that his information is wrong.
In 1964, the Supreme Court handed down its historic decision in New York Times v. Sullivan, holding
that under the First Amendment a libel judgment brought by a public official against a newspaper cannot
stand unless the plaintiff has shown “actual malice,” which in turn was defined as “knowledge that [the
statement] was false or with a reckless disregard of whether it was false or not.”
[4]
In subsequent cases,
the court extended the constitutional doctrine further, applying it not merely to government officials but
to public figures, people who voluntarily place themselves in the public eye or who involuntarily find
themselves the objects of public scrutiny. Whether a private person is or is not a public figure is a difficult
question that has so far eluded rigorous definition and has been answered only from case to case. A CEO
of a private corporation ordinarily will be considered a private figure unless he puts himself in the public
eye—for example, by starring in the company’s television commercials.
Invasion of Privacy
The right of privacy—the right “to be let alone”—did not receive judicial recognition until the twentieth
century, and its legal formulation is still evolving. In fact there is no single right of privacy. Courts and
commentators have discerned at least four different types of interests: (1) the right to control the
appropriation of your name and picture for commercial purposes, (2) the right to be free of intrusion on
your “personal space” or seclusion, (3) freedom from public disclosure of embarrassing and intimate facts
of your personal life, and (4) the right not to be presented in a “false light.”
Appropriation of Name or Likeness
The earliest privacy interest recognized by the courts was appropriation of name or likeness: someone else
placing your photograph on a billboard or cereal box as a model or using your name as endorsing a
product or in the product name. A New York statute makes it a misdemeanor to use the name, portrait, or
picture of any person for advertising purposes or for the purposes of trade (business) without first
obtaining written consent. The law also permits the aggrieved person to sue and to recover damages for
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unauthorized profits and also to have the court enjoin (judicially block) any further unauthorized use of
the plaintiff’s name, likeness, or image. This is particularly useful to celebrities.
Because the publishing and advertising industries are concentrated heavily in New York, the statute plays
an important part in advertising decisions made throughout the country. Deciding what “commercial” or
“trade” purposes are is not always easy. Thus a newsmagazine may use a baseball player’s picture on its
cover without first obtaining written permission, but a chocolate manufacturer could not put the player’s
picture on a candy wrapper without consent.
Personal Space
One form of intrusion upon a person’s solitude—trespass—has long been actionable under common law.
Physical invasion of home or other property is not a new tort. But in recent years, the notion of intrusion
has been broadened considerably. Now, taking photos of someone else with your cell phone in a locker
room could constitute invasion of the right to privacy. Reading someone else’s mail or e-mail could also
constitute an invasion of the right to privacy. Photographing someone on a city street is not tortious, but
subsequent use of the photograph could be. Whether the invasion is in a public or private space, the
amount of damages will depend on how the image or information is disclosed to others.
Public Disclosure of Embarassing Facts
Circulation of false statements that do injury to a person are actionable under the laws of defamation.
What about true statements that might be every bit as damaging—for example, disclosure of someone’s
income tax return, revealing how much he earned? The general rule is that if the facts are truly private
and of no “legitimate” concern to the public, then their disclosure is a violation of the right to privacy. But
a person who is in the public eye cannot claim the same protection.
False Light
A final type of privacy invasion is that which paints a false picture in a publication. Though false, it might
not be libelous, since the publication need contain nothing injurious to reputation. Indeed, the publication
might even glorify the plaintiff, making him seem more heroic than he actually is. Subject to the First
Amendment requirement that the plaintiff must show intent or extreme recklessness, statements that put
a person in a false light, like a fictionalized biography, are actionable.
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K E Y T A K E A W A Y
There are many kinds of intentional torts. Some of them involve harm to the physical person or to his or
her property, reputation or feelings, or economic interests. In each case of intentional tort, the plaintiff
must show that the defendant intended harm, but the intent to harm does not need to be directed at a
particular person and need not be malicious, as long as the resulting harm is a direct consequence of the
defendant’s actions.
E X E R C I S E S
1. Name two kinds of intentional torts that could result in damage to a business firm’s
bottom line.
2. Name two kinds of intentional torts that are based on protection of a person’s property.
3. Why are intentional torts more likely to result in a verdict not only for compensatory
damages but also for punitive damages?
[1] Roche v. Stern, 675 N.Y.S.2d 133 (1998).
[2] Katko v. Briney, 183 N.W.2d 657 (Iowa 1971).
[3] Restatement (Second) of Torts, Section 559 (1965).
[4] Times v. Sullivan, 376 US 254 (1964).
7.3 Negligence
L E A R N I N G O B J E C T I V E S
1. Understand how the duty of due care relates to negligence.
2. Distinguish between actual and proximate cause.
3. Explain the primary defenses to a claim of negligence.
Elements of Negligence
Physical harm need not be intentionally caused. A pedestrian knocked over by an automobile does not
hurt less because the driver intended no wrong but was merely careless. The law imposes a duty of care on
all of us in our everyday lives. Accidents caused by negligence are actionable.
Determining negligence is not always easy. If a driver runs a red light, we can say that he is negligent
because a driver must always be careful to ascertain whether the light is red and be able to stop if it is.
Suppose that the driver was carrying a badly injured person to a nearby hospital and that after slowing
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down at an intersection, went through a red light, blowing his horn, whereupon a driver to his right,
seeing him, drove into the intersection anyway and crashed into him. Must one always stop at a red light?
Is proof that the light was red always proof of negligence? Usually, but not always: negligence is an
abstract concept that must always be applied to concrete and often widely varying sets of circumstances.
Whether someone was or was not negligent is almost always a question of fact for a jury to decide. Rarely
is it a legal question that a judge can settle.
The tort of negligence has four elements: (1) a duty of due care that the defendant had, (2)
the breach of the duty of due care, (3) connection between cause and injury, and (4) actual damage or loss.
Even if a plaintiff can prove each of these aspects, the defendant may be able to show that the law excuses
the conduct that is the basis for the tort claim. We examine each of these factors below.
Standard of Care
Not every unintentional act that causes injury is negligent. If you brake to a stop when you see a child dart
out in front of your car, and if the noise from your tires gives someone in a nearby house a heart attack,
you have not acted negligently toward the person in the house. The purpose of the negligence standard is
to protect others against the risk of injury that foreseeably would ensue from unreasonably dangerous
conduct.
Given the infinite variety of human circumstances and conduct, no general statement of a reasonable
standard of care is possible. Nevertheless, the law has tried to encapsulate it in the form of the famous
standard of “the reasonable man.” This fictitious person “of ordinary prudence” is the model that juries
are instructed to compare defendants with in assessing whether those defendants have acted negligently.
Analysis of this mythical personage has baffled several generations of commentators. How much
knowledge must he have of events in the community, of technology, of cause and effect? With what
physical attributes, courage, or wisdom is this nonexistent person supposedly endowed? If the defendant
is a person with specialized knowledge, like a doctor or an automobile designer, must the jury also treat
the “reasonable man” as having this knowledge, even though the average person in the community will
not? (Answer: in most cases, yes.)
Despite the many difficulties, the concept of the reasonable man is one on which most negligence cases
ultimately turn. If a defendant has acted “unreasonably under the circumstances” and his conduct posed
an unreasonable risk of injury, then he is liable for injury caused by his conduct. Perhaps in most
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instances, it is not difficult to divine what the reasonable man would do. The reasonable man stops for
traffic lights and always drives at reasonable speeds, does not throw baseballs through windows, performs
surgical operations according to the average standards of the medical profession, ensures that the floors of
his grocery store are kept free of fluids that would cause a patron to slip and fall, takes proper precautions
to avoid spillage of oil from his supertanker, and so on. The “reasonable man” standard imposes hindsight
on the decisions and actions of people in society; the circumstances of life are such that courts may
sometimes impose a standard of due care that many people might not find reasonable.
Duty of Care and Its Breach
The law does not impose on us a duty to care for every person. If the rule were otherwise, we would all, in
this interdependent world, be our brothers’ keepers, constantly unsure whether any action we took might
subject us to liability for its effect on someone else. The law copes with this difficulty by limiting the
number of people toward whom we owe a duty to be careful.
In general, the law imposes no obligation to act in a situation to which we are strangers. We may pass the
drowning child without risking a lawsuit. But if we do act, then the law requires us to act carefully. The
law of negligence requires us to behave with due regard for the foreseeable consequences of our actions in
order to avoid unreasonable risks of injury.
During the course of the twentieth century, the courts have constantly expanded the notion of
“foreseeability,” so that today many more people are held to be within the zone of injury than was once the
case. For example, it was once believed that a manufacturer or supplier owed a duty of care only to
immediate purchasers, not to others who might use the product or to whom the product might be resold.
This limitation was known as the rule of privity. And users who were not immediate purchasers were said
not to be in privity with a supplier or manufacturer. In 1916, Judge Benjamin N. Cardozo, then on the
New York Court of Appeals, penned an opinion in a celebrated case that exploded the theory of privity,
though it would take half a century before the last state—Mississippi in 1966—would fall in line.
Determining a duty of care can be a vexing problem. Physicians, for example, are bound by principles of
medical ethics to respect the confidences of their patients. Suppose a patient tells a psychiatrist that he
intends to kill his girlfriend. Does the physician then have a higher legal duty to warn prospective victim?
The California Supreme Court has said yes.
[1]
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Establishing a breach of the duty of due care where the defendant has violated a statute or municipal
ordinance is eased considerably with the doctrine of negligence per se, a doctrine common to all US state
courts. If a legislative body sets a minimum standard of care for particular kinds of acts to protect a
certain set of people from harm and a violation of that standard causes harm to someone in that set, the
defendant is negligent per se. If Harvey is driving sixty-five miles per hour in a fifty-five-mile-per-hour
zone when he crashes into Haley’s car and the police accident report establishes that or he otherwise
admits to going ten miles per hour over the speed limit, Haley does not have to prove that Harvey has
breached a duty of due care. She will only have to prove that the speeding was an actual and proximate
cause of the collision and will also have to prove the extent of the resulting damages to her.
Causation: Actual Cause and Proximate Cause
“For want of a nail, the kingdom was lost,” as the old saying has it. Virtually any cause of an injury can be
traced to some preceding cause. The problem for the law is to know when to draw the line between causes
that are immediate and causes too remote for liability reasonably to be assigned to them. In tort theory,
there are two kinds of causes that a plaintiff must prove: actual cause and proximate
cause.Actual cause (causation in fact) can be found if the connection between the defendant’s act and the
plaintiff’s injuries passes the “but for” test: if an injury would not have occurred “but for” the defendant’s
conduct, then the defendant is the cause of the injury. Still, this is not enough causation to create liability.
The injuries to the plaintiff must also be foreseeable, or not “too remote,” for the defendant’s act to create
liability. This is proximate cause: a cause that is not too remote or unforseeable.
Suppose that the person who was injured was not one whom a reasonable person could have expected to
be harmed. Such a situation was presented in one of the most famous US tort cases, Palsgraf v. Long
Island Railroad (Section 7.5 “Cases”), which was decided by Judge Benjamin Cardozo. Although Judge
Cardozo persuaded four of his seven brethren to side with his position, the closeness of the case
demonstrates the difficulty that unforeseeable consequences and unforeseeable plaintiffs present.
Damages
For a plaintiff to win a tort case, she must allege and prove that she was injured. The fear that she might
be injured in the future is not a sufficient basis for a suit. This rule has proved troublesome in medical
malpractice and industrial disease cases. A doctor’s negligent act or a company’s negligent exposure of a
worker to some form of contamination might not become manifest in the body for years. In the meantime,
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the tort statute of limitations might have run out, barring the victim from suing at all. An increasing
number of courts have eased the plaintiff’s predicament by ruling that the statute of limitations does not
begin to run until the victim discovers that she has been injured or contracted a disease.
The law allows an exception to the general rule that damages must be shown when the plaintiff stands in
danger of immediate injury from a hazardous activity. If you discover your neighbor experimenting with
explosives in his basement, you could bring suit to enjoin him from further experimentation, even though
he has not yet blown up his house—and yours.
Problems of Proof
The plaintiff in a tort suit, as in any other, has the burden of proving his allegations.
He must show that the defendant took the actions complained of as negligent, demonstrate the
circumstances that make the actions negligent, and prove the occurrence and extent of injury. Factual
issues are for the jury to resolve. Since it is frequently difficult to make out the requisite proof, the law
allows certain presumptions and rules of evidence that ease the plaintiff’s task, on the ground that without
them substantial injustice would be done. One important rule goes by the Latin phraseres ipsa loquitur,
meaning “the thing speaks for itself.” The best evidence is always the most direct evidence: an eyewitness
account of the acts in question. But eyewitnesses are often unavailable, and in any event they frequently
cannot testify directly to the reasonableness of someone’s conduct, which inevitably can only be inferred
from the circumstances.
In many cases, therefore, circumstantial evidence (evidence that is indirect) will be the only evidence or
will constitute the bulk of the evidence. Circumstantial evidence can often be quite telling: though no one
saw anyone leave the building, muddy footprints tracing a path along the sidewalk are fairly conclusive.
Res ipsa loquitur is a rule of circumstantial evidence that permits the jury to draw an inference of
negligence. A common statement of the rule is the following: “There must be reasonable evidence of
negligence but where the thing is shown to be under the management of the defendant or his servants,
and the accident is such as in the ordinary course of things does not happen if those who have the
management use proper care, it affords reasonable evidence, in the absence of explanation by the
defendants, that the accident arose from want of care.”
[2]
If a barrel of flour rolls out of a factory window and hits someone, or a soda bottle explodes, or an airplane
crashes, courts in every state permit juries to conclude, in the absence of contrary explanations by the
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defendants, that there was negligence. The plaintiff is not put to the impossible task of explaining
precisely how the accident occurred. A defendant can always offer evidence that he acted reasonably—for
example, that the flour barrel was securely fastened and that a bolt of lightning, for which he was not
responsible, broke its bands, causing it to roll out the window. But testimony by the factory employees
that they secured the barrel, in the absence of any further explanation, will not usually serve to rebut the
inference. That the defendant was negligent does not conclude the inquiry or automatically entitle the
plaintiff to a judgment. Tort law provides the defendant with several excuses, some of which are discussed
briefly in the next section.
Excuses
There are more excuses (defenses) than are listed here, but contributory negligence or comparative
negligence, assumption of risk, and act of God are among the principal defenses that will completely or
partially excuse the negligence of the defendant.
Contributory and Comparative Negligence
Under an old common-law rule, it was a complete defense to show that the plaintiff in a negligence suit
was himself negligent. Even if the plaintiff was only mildly negligent, most of the fault being chargeable to
the defendant, the court would dismiss the suit if the plaintiff’s conduct contributed to his injury. In a few
states today, this rule ofcontributory negligence is still in effect. Although referred to as negligence, the
rule encompasses a narrower form than that with which the defendant is charged, because the plaintiff’s
only error in such cases is in being less careful of himself than he might have been, whereas the defendant
is charged with conduct careless toward others. This rule was so manifestly unjust in many cases that
most states, either by statute or judicial decision, have changed to some version
of comparative negligence. Under the rule of comparative negligence, damages are apportioned according
to the defendant’s degree of culpability. For example, if the plaintiff has sustained a $100,000 injury and
is 20 percent responsible, the defendant will be liable for $80,000 in damages.
Assumption of Risk
Risk of injury pervades the modern world, and plaintiffs should not win a lawsuit simply because they
took a risk and lost. The law provides, therefore, that when a person knowingly takes a risk, he or she
must suffer the consequences.
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The assumption of risk doctrine comes up in three ways. The plaintiff may have formally agreed with the
defendant before entering a risky situation that he will relieve the defendant of liability should injury
occur. (“You can borrow my car if you agree not to sue me if the brakes fail, because they’re worn and I
haven’t had a chance to replace them.”) Or the plaintiff may have entered into a relationship with the
defendant knowing that the defendant is not in a position to protect him from known risks (the fan who is
hit by a line drive in a ballpark). Or the plaintiff may act in the face of a risky situation known in advance
to have been created by the defendant’s negligence (failure to leave, while there was an opportunity to do
so, such as getting into an automobile when the driver is known to be drunk).
The difficulty in many cases is to determine the dividing line between subjectivity and objectivity. If the
plaintiff had no actual knowledge of the risk, he cannot be held to have assumed it. On the other hand, it is
easy to claim that you did not appreciate the danger, and the courts will apply an objective standard of
community knowledge (a “but you should have known” test) in many situations. When the plaintiff has no
real alternative, however, assumption of risk fails as a defense (e.g., a landlord who negligently fails to
light the exit to the street cannot claim that his tenants assumed the risk of using it).
At the turn of the century, courts applied assumption of risk in industrial cases to bar relief to workers
injured on the job. They were said to assume the risk of dangerous conditions or equipment. This rule has
been abolished by workers’ compensation statutes in most states.
Act of God
Technically, the rule that no one is responsible for an “act of God,” or force majeure as it is sometimes
called, is not an excuse but a defense premised on a lack of causation. If a force of nature caused the harm,
then the defendant was not negligent in the first place. A marina, obligated to look after boats moored at
its dock, is not liable if a sudden and fierce storm against which no precaution was possible destroys
someone’s vessel. However, if it is foreseeable that harm will flow from a negligent condition triggered by
a natural event, then there is liability. For example, a work crew failed to remove residue explosive gas
from an oil barge. Lightning hit the barge, exploded the gas, and injured several workmen. The plaintiff
recovered damages against the company because the negligence consisted in the failure to guard against
any one of a number of chance occurrences that could ignite the gas.
[3]
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Vicarious Liability
Liability for negligent acts does not always end with the one who was negligent. Under certain
circumstances, the liability is imputed to others. For example, an employer is responsible for the
negligence of his employees if they were acting in the scope of employment. This rule of vicarious liability
is often called respondeat superior, meaning that the higher authority must respond to claims brought
against one of its agents. Respondeat superior is not limited to the employment relationship but extends
to a number of other agency relationships as well.
Legislatures in many states have enacted laws that make people vicariously liable for acts of certain people
with whom they have a relationship, though not necessarily one of agency. It is common, for example, for
the owner of an automobile to be liable for the negligence of one to whom the owner lends the car. So-
called dram shop statutes place liability on bar and tavern owners and others who serve too much alcohol
to one who, in an intoxicated state, later causes injury to others. In these situations, although the injurious
act of the drinker stemmed from negligence, the one whom the law holds vicariously liable (the bartender)
is not himself necessarily negligent—the law is holding him strictly liable, and to this concept we now
turn.
K E Y T A K E A W A Y
The most common tort claim is based on the negligence of the defendant. In each negligence claim, the
plaintiff must establish by a preponderance of the evidence that (1) the defendant had a duty of due care,
(2) the defendant breached that duty, (3) that the breach of duty both actually and approximately has
caused harm to the plaintiff, and (4) that the harm is measurable in money damages.
It is also possible for the negligence of one person to be imputed to another, as in the case of respondeat
superior, or in the case of someone who loans his automobile to another driver who is negligent and
causes injury. There are many excuses (defenses) to claims of negligence, including assumption of risk and
comparative negligence. In those few jurisdictions where contributory negligence has not been modified
to comparative negligence, plaintiffs whose negligence contributes to their own injuries will be barred
from any recovery.
E X E R C I S E S
1. Explain the difference between comparative negligence and contributory negligence.
2. How is actual cause different from probable cause?
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3. What is an example of assumption of risk?
4. How does res ipsa loquitur help a plaintiff establish a case of negligence?
[1] Tarasoff v. Regents of University of California, 551 P.2d 334 (Calif. 1976).
[2] Scott v. London & St. Katherine Docks Co., 3 H. & C. 596, 159 Eng.Rep. 665 (Q.B. 1865).
[3] Johnson v. Kosmos Portland Cement Co., 64 F.2d 193 (6th Cir. 1933).
7.4 Strict Liability
L E A R N I N G O B J E C T I V E S
1. Understand how strict liability torts differ from negligent torts.
2. Understand the historical origins of strict liability under common law.
3. Be able to apply strict liability concepts to liability for defective products.
4. Distinguish strict liability from absolute liability, and understand the major defenses to a
lawsuit in products-liability cases.
Historical Basis of Strict Liability: Animals and Ultrahazardous Activities
To this point, we have considered principles of liability that in some sense depend upon the “fault” of the
tortfeasor. This fault is not synonymous with moral blame.
Aside from acts intended to harm, the fault lies in a failure to live up to a standard of reasonableness or
due care. But this is not the only basis for tort liability. Innocent mistakes can be a sufficient basis. As we
have already seen, someone who unknowingly trespasses on another’s property is liable for the damage
that he does, even if he has a reasonable belief that the land is his. And it has long been held that someone
who engages in ultrahazardous (or sometimes, abnormally dangerous) activities is liable for damage that
he causes, even though he has taken every possible precaution to avoid harm to someone else.
Likewise, the owner of animals that escape from their pastures or homes and damage neighboring
property may be liable, even if the reason for their escape was beyond the power of the owner to stop (e.g.,
a fire started by lightning that burns open a barn door). In such cases, the courts invoke the principle of
strict liability, or, as it is sometimes called, liability without fault. The reason for the rule is explained
in Klein v. Pyrodyne Corporation (Section 7.5 “Cases”).
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Strict Liability for Products
Because of the importance of products liability, this text devotes an entire chapter to it (Chapter 20
“Products Liability”). Strict liability may also apply as a legal standard for products, even those that are
not ultrahazardous. In some national legal systems, strict liability is not available as a cause of action to
plaintiffs seeking to recover a judgment of products liability against a manufacturer, wholesaler,
distributor, or retailer. (Some states limit liability to the manufacturer.) But it is available in the United
States and initially was created by a California Supreme Court decision in the 1962 case ofGreenman v.
Yuba Power Products, Inc.
In Greenman, the plaintiff had used a home power saw and bench, the Shopsmith, designed and
manufactured by the defendant. He was experienced in using power tools and was injured while using the
approved lathe attachment to the Shopsmith to fashion a wooden chalice. The case was decided on the
premise that Greenman had done nothing wrong in using the machine but that the machine had a defect
that was “latent” (not easily discoverable by the consumer). Rather than decide the case based on
warranties, or requiring that Greenman prove how the defendant had been negligent, Justice Traynor
found for the plaintiff based on the overall social utility of strict liability in cases of defective products.
According to his decision, the purpose of such liability is to ensure that the “cost of injuries resulting from
defective products is borne by the manufacturers…rather than by the injured persons who are powerless
to protect themselves.”
Today, the majority of US states recognize strict liability for defective products, although some states limit
strict liability actions to damages for personal injuries rather than property damage. Injured plaintiffs
have to prove the product caused the harm but do not have to prove exactly how the manufacturer was
careless. Purchasers of the product, as well as injured guests, bystanders, and others with no direct
relationship with the product, may sue for damages caused by the product.
The Restatement of the Law of Torts, Section 402(a), was originally issued in 1964. It is a widely accepted
statement of the liabilities of sellers of goods for defective products. The Restatement specifies six
requirements, all of which must be met for a plaintiff to recover using strict liability for a product that the
plaintiff claims is defective:
1. The product must be in a defective condition when the defendant sells it.
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2. The defendant must normally be engaged in the business of selling or otherwise
distributing the product.
3. The product must be unreasonably dangerous to the user or consumer because of its
defective condition.
4. The plaintiff must incur physical harm to self or to property by using or consuming the
product.
5. The defective condition must be the proximate cause of the injury or damage.
6. The goods must not have been substantially changed from the time the product was sold
to the time the injury was sustained.
Section 402(a) also explicitly makes clear that a defendant can be held liable even though the defendant
has exercised “all possible care.” Thus in a strict liability case, the plaintiff does not need to show “fault”
(or negligence).
For defendants, who can include manufacturers, distributors, processors, assemblers, packagers, bottlers,
retailers, and wholesalers, there are a number of defenses that are available, including assumption of risk,
product misuse and comparative negligence, commonly known dangers, and the knowledgeable-user
defense. We have already seen assumption of risk and comparative negligence in terms of negligence
actions; the application of these is similar in products-liability actions.
Under product misuse, a plaintiff who uses a product in an unexpected and unusual way will not recover
for injuries caused by such misuse. For example, suppose that someone uses a rotary lawn mower to trim
a hedge and that after twenty minutes of such use loses control because of its weight and suffers serious
cuts to his abdomen after dropping it. Here, there would be a defense of product misuse, as well as
contributory negligence. Consider the urban (or Internet) legend of Mervin Gratz, who supposedly put his
Winnebago on autopilot to go back and make coffee in the kitchen, then recovered millions after his
Winnebago turned over and he suffered serious injuries. There are multiple defenses to this alleged
action; these would include the defenses of contributory negligence, comparative negligence, and product
misuse. (There was never any such case, and certainly no such recovery; it is not known who started this
legend, or why.)
Another defense against strict liability as a cause of action is the knowledgeable user defense. If the
parents of obese teenagers bring a lawsuit against McDonald’s, claiming that its fast-food products are
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defective and that McDonald’s should have warned customers of the adverse health effects of eating its
products, a defense based on the knowledgeable user is available. In one case, the court found that the
high levels of cholesterol, fat, salt, and sugar in McDonald’s food is well known to users. The court stated,
“If consumers know (or reasonably should know) the potential ill health effects of eating at McDonald’s,
they cannot blame McDonald’s if they, nonetheless, choose to satiate their appetite with a surfeit of
supersized McDonald’s products.”
[1]
K E Y T A K E A W A Y
Common-law courts have long held that certain activities are inherently dangerous and that those who
cause damage to others by engaging in those activities will be held strictly liable. More recently, courts in
the United States have applied strict liability to defective products. Strict liability, however, is not absolute
liability, as there are many defenses available to defendants in lawsuits based on strict liability, such as
comparative negligence and product abuse.
E X E R C I S E S
1. Someone says, “Strict liability means that you’re liable for whatever you make, no
matter what the consumer does with your product. It’s a crazy system.” Respond to and
refute this statement.
2. What is the essential difference between strict liability torts and negligent torts? Should
the US legal system even allow strict liability torts? What reasons seem persuasive to
you?
[1] Pellman v. McDonald’s Corp., 237 F.2d 512 (S.D.N.Y. 2003).
7.5 Cases
Intentional Torts: False Imprisonment
Lester v. Albers Super Markets, Inc.
94 Ohio App. 313, 114 N.E.2d 529 (Ohio 1952)
Facts: The plaintiff, carrying a bag of rolls purchased at another store, entered the defendant’s grocery
store to buy some canned fruit. Seeing her bus outside, she stepped out of line and put the can on the
counter. The store manager intercepted her and repeatedly demanded that she submit the bag to be
searched. Finally she acquiesced; he looked inside and said she could go. She testified that several people
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witnessed the scene, which lasted about fifteen minutes, and that she was humiliated. The jury awarded
her $800. She also testified that no one laid a hand on her or made a move to restrain her from leaving by
any one of numerous exits.
* * *
MATTHEWS, JUDGE.
As we view the record, it raises the fundamental question of what is imprisonment. Before any need for a
determination of illegality arises there must be proof of imprisonment. In 35 Corpus Juris Secundum
(C.J.S.), False Imprisonment, § II, pages 512–13, it is said: “Submission to the mere verbal direction of
another, unaccompanied by force or by threats of any character, cannot constitute a false imprisonment,
and there is no false imprisonment where an employer interviewing an employee declines to terminate the
interview if no force or threat of force is used and false imprisonment may not be predicated on a person’s
unfounded belief that he was restrained.”
Many cases are cited in support of the text.
* * *
In Fenn v. Kroger Grocery & Baking Co., Mo. Sup., 209 S.W. 885, 887, the court said:
A case was not made out for false arrest. The plaintiff said she was intercepted as she started to leave the
store; that Mr. Krause stood where she could not pass him in going out. She does not say that he made any
attempt to intercept her. She says he escorted her back to the desk, that he asked her to let him see the
change.
…She does not say that she went unwillingly…Evidence is wholly lacking to show that she was detained by
force or threats. It was probably a disagreeable experience, a humiliating one to her, but she came out
victorious and was allowed to go when she desired with the assurance of Mr. Krause that it was all right.
The demurrer to the evidence on both counts was properly sustained.
The result of the cases is epitomized in 22 Am.Jur. 368, as follows:
A customer or patron who apparently has not paid for what he has received may be detained for a
reasonable time to investigate the circumstances, but upon payment of the demand, he has the
unqualified right to leave the premises without restraint, so far as the proprietor is concerned, and it is
false imprisonment for a private individual to detain one for an unreasonable time, or under unreasonable
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circumstances, for the purpose of investigating a dispute over the payment of a bill alleged to be owed by
the person detained for cash services.
* * *
For these reasons, the judgment is reversed and final judgment entered for the defendant-appellant.
C A S E Q U E S T I O N S
1. The court begins by saying what false imprisonment is not. What is the legal definition of
false imprisonment?
2. What kinds of detention are permissible for a store to use in accosting those that may
have been shoplifting?
3. Jody broke up with Jeremy and refused to talk to him. Jeremy saw Jody get into her car
near the business school and parked right behind her so she could not move. He then
stood next to the driver’s window for fifteen minutes, begging Jody to talk to him. She
kept saying, “No, let me leave!” Has Jeremy committed the tort of false imprisonment?
Negligence: Duty of Due Care
Whitlock v. University of Denver
744 P.2d 54 (Supreme Court of Colorado1987)
On June 19, 1978, at approximately 10:00 p.m., plaintiff Oscar Whitlock suffered a paralyzing injury while
attempting to complete a one-and-three-quarters front flip on a trampoline. The injury rendered him a
quadriplegic. The trampoline was owned by the Beta Theta Pi fraternity (the Beta house) and was situated
on the front yard of the fraternity premises, located on the University campus. At the time of his injury,
Whitlock was twenty years old, attended the University of Denver, and was a member of the Beta house,
where he held the office of acting house manager. The property on which the Beta house was located was
leased to the local chapter house association of the Beta Theta Pi fraternity by the defendant University of
Denver.
Whitlock had extensive experience jumping on trampolines. He began using trampolines in junior high
school and continued to do so during his brief tenure as a cadet at the United States Military Academy at
West Point, where he learned to execute the one-and-three-quarters front flip. Whitlock testified that he
utilized the trampoline at West Point every other day for a period of two months. He began jumping on
the trampoline owned by the Beta house in September of 1977. Whitlock recounted that in the fall and
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spring prior to the date of his injury, he jumped on the trampoline almost daily. He testified further that
prior to the date of his injury, he had successfully executed the one-and-three-quarters front flip between
seventy-five and one hundred times.
During the evening of June 18 and early morning of June 19, 1978, Whitlock attended a party at the Beta
house, where he drank beer, vodka and scotch until 2:00 a.m. Whitlock then retired and did not awaken
until 2:00 p.m. on June 19. He testified that he jumped on the trampoline between 2:00 p.m. and 4:00
p.m., and again at 7:00 p.m. At 10:00 p.m., the time of the injury, there again was a party in progress at
the Beta house, and Whitlock was using the trampoline with only the illumination from the windows of
the fraternity house, the outside light above the front door of the house, and two street lights in the area.
As Whitlock attempted to perform the one-and-three-quarters front flip, he landed on the back of his
head, causing his neck to break.
Whitlock brought suit against the manufacturer and seller of the trampoline, the University, the Beta
Theta Pi fraternity and its local chapter, and certain individuals in their capacities as representatives of
the Beta Theta Pi organizations. Whitlock reached settlements with all of the named defendants except
the University, so only the negligence action against the University proceeded to trial. The jury returned a
verdict in favor of Whitlock, assessing his total damages at $ 7,300,000. The jury attributed twenty-eight
percent of causal negligence to the conduct of Whitlock and seventy-two percent of causal negligence to
the conduct of the University. The trial court accordingly reduced the amount of the award against the
University to $ 5,256,000.
The University moved for judgment notwithstanding the verdict, or, in the alternative, a new trial. The
trial court granted the motion for judgment notwithstanding the verdict, holding that as a matter of law,
no reasonable jury could have found that the University was more negligent than Whitlock, and that the
jury’s monetary award was the result of sympathy, passion or prejudice.
A panel of the court of appeals reversed…by a divided vote. Whitlock v. University of Denver, 712 P.2d
1072 (Colo. App. 1985). The court of appeals held that the University owed Whitlock a duty of due care to
remove the trampoline from the fraternity premises or to supervise its use.…The case was remanded to
the trial court with orders to reinstate the verdict and damages as determined by the jury. The University
then petitioned for certiorari review, and we granted that petition.
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II.
A negligence claim must fail if based on circumstances for which the law imposes no duty of care upon the
defendant for the benefit of the plaintiff. [Citations] Therefore, if Whitlock’s judgment against the
University is to be upheld, it must first be determined that the University owed a duty of care to take
reasonable measures to protect him against the injury that he sustained.
Whether a particular defendant owes a legal duty to a particular plaintiff is a question of law. [Citations]
“The court determines, as a matter of law, the existence and scope of the duty—that is, whether the
plaintiff’s interest that has been infringed by the conduct of the defendant is entitled to legal protection.”
[Citations] In Smith v. City & County of Denver, 726 P.2d 1125 (Colo. 1986), we set forth several factors to
be considered in determining the existence of duty in a particular case:
Whether the law should impose a duty requires consideration of many factors including, for example, the
risk involved, the foreseeability and likelihood of injury as weighed against the social utility of the actor’s
conduct, the magnitude of the burden of guarding against injury or harm, and the consequences of placing
the burden upon the actor.
…A court’s conclusion that a duty does or does not exist is “an expression of the sum total of those
considerations of policy which lead the law to say that the plaintiff is [or is not] entitled to protection.”
…
We believe that the fact that the University is charged with negligent failure to act rather than negligent
affirmative action is a critical factor that strongly militates against imposition of a duty on the University
under the facts of this case. In determining whether a defendant owes a duty to a particular plaintiff, the
law has long recognized a distinction between action and a failure to act—“that is to say, between active
misconduct working positive injury to others [misfeasance] and passive inaction or a failure to take steps
to protect them from harm [nonfeasance].” W. Keeton, § 56, at 373. Liability for nonfeasance was slow to
receive recognition in the law. “The reason for the distinction may be said to lie in the fact that by
‘misfeasance’ the defendant has created a new risk of harm to the plaintiff, while by ‘nonfeasance’ he has
at least made his situation no worse, and has merely failed to benefit him by interfering in his
affairs.” Id. The Restatement (Second) of Torts § 314 (1965) summarizes the law on this point as follows:
The fact that an actor realizes or should realize that action on his part is necessary for another’s aid or
protection does not of itself impose upon him a duty to take such action.
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Imposition of a duty in all such cases would simply not meet the test of fairness under contemporary
standards.
In nonfeasance cases the existence of a duty has been recognized only during the last century in situations
involving a limited group of special relationships between parties. Such special relationships are
predicated on “some definite relation between the parties, of such a character that social policy justifies
the imposition of a duty to act.” W. Keeton, § 56, at 374. Special relationships that have been recognized
by various courts for the purpose of imposition of a duty of care include common carrier/passenger,
innkeeper/guest, possessor of land/invited entrant, employer/employee, parent/child, and
hospital/patient. See Restatement (Second) of Torts § 314 A (1965); 3 Harper and James, § 18.6, at 722–
23. The authors of theRestatement (Second) of Torts § 314 A, comment b (1965), state that “the law
appears…to be working slowly toward a recognition of the duty to aid or protect in any relation of
dependence or of mutual dependence.”
…
III.
The present case involves the alleged negligent failure to act, rather than negligent action. The plaintiff
does not complain of any affirmative action taken by the University, but asserts instead that the
University owed to Whitlock the duty to assure that the fraternity’s trampoline was used only under
supervised conditions comparable to those in a gymnasium class, or in the alternative to cause the
trampoline to be removed from the front lawn of the Beta house.…If such a duty is to be recognized, it
must be grounded on a special relationship between the University and Whitlock. According to the
evidence, there are only two possible sources of a special relationship out of which such a duty could arise
in this case: the status of Whitlock as a student at the University, and the lease between the University and
the fraternity of which Whitlock was a member. We first consider the adequacy of the student-university
relationship as a possible basis for imposing a duty on the University to control or prohibit the use of the
trampoline, and then examine the provisions of the lease for that same purpose.
A.
The student-university relationship has been scrutinized in several jurisdictions, and it is generally agreed
that a university is not an insurer of its students’ safety. [Citations] The relationship between a university
and its students has experienced important change over the years. At one time, college administrators and
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faculties stood in loco parentis to their students, which created a special relationship “that imposed a duty
on the college to exercise control over student conduct and, reciprocally, gave the students certain rights
of protection by the college.” Bradshaw, 612 F.2d at 139. However, in modern times there has evolved a
gradual reapportionment of responsibilities from the universities to the students, and a corresponding
departure from the in loco parentis relationship. Id. at 139–40. Today, colleges and universities are
regarded as educational institutions rather than custodial ones. Beach, 726 P.2d at 419 (contrasting
colleges and universities with elementary and high schools).
…
…By imposing a duty on the University in this case, the University would be encouraged to exercise more
control over private student recreational choices, thereby effectively taking away much of the
responsibility recently recognized in students for making their own decisions with respect to private
entertainment and personal safety. Such an allocation of responsibility would “produce a repressive and
inhospitable environment, largely inconsistent with the objectives of a modern college
education.” Beach, 726 P.2d at 419.
The evidence demonstrates that only in limited instances has the University attempted to impose
regulations or restraints on the private recreational pursuits of its students, and the students have not
looked to the University to assure the safety of their recreational choices. Nothing in the University’s
student handbook, which contains certain regulations concerning student conduct, reflects an effort by
the University to control the risk-taking decisions of its students in their private recreation.…Indeed,
fraternity and sorority self-governance with minimal supervision appears to have been fostered by the
University.
…
Aside from advising the Beta house on one occasion to put the trampoline up when not in use, there is no
evidence that the University officials attempted to assert control over trampoline use by the fraternity
members. We conclude from this record that the University’s very limited actions concerning safety of
student recreation did not give Whitlock or the other members of campus fraternities or sororities any
reason to depend upon the University for evaluation of the safety of trampoline use.…Therefore, we
conclude that the student-university relationship is not a special relationship of the type giving rise to a
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duty of the University to take reasonable measures to protect the members of fraternities and sororities
from risks of engaging in extra-curricular trampoline jumping.
The plaintiff asserts, however, that we should recognize a duty of the University to take affirmative action
to protect fraternity members because of the foreseeability of the injury, the extent of the risks involved in
trampoline use, the seriousness of potential injuries, and the University’s superior knowledge concerning
these matters. The argument in essence is that a duty should spring from the University’s natural interest
in the welfare and safety of its students, its superior knowledge of the nature and degree of risk involved
in trampoline use, and its knowledge of the use of trampolines on the University campus. The evidence
amply supports a conclusion that trampoline use involves risks of serious injuries and that the potential
for an injury such as that experienced by Whitlock was foreseeable. It shows further that prior injuries
resulting from trampoline accidents had been reported to campus security and to the student clinic, and
that University administrators were aware of the number and severity of trampoline injuries nationwide.
The record, however, also establishes through Whitlock’s own testimony that he was aware of the risk of
an accident and injury of the very nature that he experienced.…
We conclude that the relationship between the University and Whitlock was not one of dependence with
respect to the activities at issue here, and provides no basis for the recognition of a duty of the University
to take measures for protection of Whitlock against the injury that he suffered.
B.
We next examine the lease between the University and the fraternity to determine whether a special
relationship between the University and Whitlock can be predicated on that document. The lease was
executed in 1929, extends for a ninety-nine year term, and gives the fraternity the option to extend the
term for another ninety-nine years. The premises are to be occupied and used by the fraternity “as a
fraternity house, clubhouse, dormitory and boarding house, and generally for religious, educational, social
and fraternal purposes.” Such occupation is to be “under control of the tenant.” (emphasis added) The
annual rental at all times relevant to this case appears from the record to be one dollar. The University has
the obligation to maintain the grounds and make necessary repairs to the building, and the fraternity is to
bear the cost of such maintenance and repair.
…
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We conclude that the lease, and the University’s actions pursuant to its rights under the lease, provide no
basis of dependence by the fraternity members upon which a special relationship can be found to exist
between the University and the fraternity members that would give rise to a duty upon the University to
take affirmative action to assure that recreational equipment such as a trampoline is not used under
unsafe conditions.
IV.
Considering all of the factors presented, we are persuaded that under the facts of this case the University
of Denver had no duty to Whitlock to eliminate the private use of trampolines on its campus or to
supervise that use. There exists no special relationship between the parties that justifies placing a duty
upon the University to protect Whitlock from the well-known dangers of using a trampoline. Here, a
conclusion that a special relationship existed between Whitlock and the University sufficient to warrant
the imposition of liability for nonfeasance would directly contravene the competing social policy of
fostering an educational environment of student autonomy and independence.
We reverse the judgment of the court of appeals and return this case to that court with directions to
remand it to the trial court for dismissal of Whitlock’s complaint against the University.
C A S E Q U E S T I O N S
1. How are comparative negligence numbers calculated by the trial court? How can the jury
say that the university is 72 percent negligent and that Whitlock is 28 percent negligent?
2. Why is this not an assumption of risk case?
3. Is there any evidence that Whitlock was contributorily negligent? If not, why would the
court engage in comparative negligence calculations?
Negligence: Proximate Cause
Palsgraf v. Long Island R.R.
248 N.Y. 339,162 N.E. 99 (N.Y. 1928)
CARDOZO, Chief Judge
Plaintiff was standing on a platform of defendant’s railroad after buying a ticket to go to Rockaway Beach.
A train stopped at the station, bound for another place. Two men ran forward to catch it. One of the men
reached the platform of the car without mishap, though the train was already moving. The other man,
carrying a package, jumped aboard the car, but seemed unsteady as if about to fall. A guard on the car,
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who had held the door open, reached forward to help him in, and another guard on the platform pushed
him from behind. In this act, the package was dislodged, and fell upon the rails. It was a package of small
size, about fifteen inches long, and was covered by a newspaper. In fact it contained fireworks, but there
was nothing in its appearance to give notice of its contents. The fireworks when they fell exploded. The
shock of· the explosion threw down some scales at the other end of the platform many feet away. The
scales struck the plaintiff, causing injuries for which she sues.
The conduct of the defendant’s guard, if a wrong in its relation to the holder of the package, was not a
wrong in its relation to the plaintiff, standing far away. Relatively to her it was not negligence at all.
Nothing in the situation gave notice that the falling package had in it the potency of peril to persons thus
removed. Negligence is not actionable unless it involves the invasion of a legally protected interest, the
violation of a right. “Proof of negligence in the air, so to speak, will not do.…If no hazard was apparent to
the eye of ordinary vigilance, an act innocent and harmless, at least to outward seeming, with reference to
her, did not take to itself the quality of a tort because it happened to be a wrong, though apparently not
one involving the risk of bodily insecurity, with reference to someone else.…The plaintiff sues in her own
right for a wrong personal to her, and not as the vicarious beneficiary of a breach of duty to another.
A different conclusion will involve us, and swiftly too, in a maze of contradictions. A guard stumbles over
a package which has been left upon a platform.
It seems to be a bundle of newspapers. It turns out to be a can of dynamite. To the eye of ordinary
vigilance, the bundle is abandoned waste, which may be kicked or trod on with impunity. Is a passenger at
the other end of the platform protected by the law against the unsuspected hazard concealed beneath the
waste? If not, is the result to be any different, so far as the distant passenger is concerned, when the guard
stumbles over a valise which a truckman or a porter has left upon the walk?…The orbit of the danger as
disclosed to the eye of reasonable vigilance would be the orbit of the duty. One who jostles one’s neighbor
in a crowd does not invade the rights of others standing at the outer fringe when the unintended contact
casts a bomb upon the ground. The wrongdoer as to them is the man who carries the bomb, not the one
who explodes it without suspicion of the danger. Life will have to be made over, and human nature
transformed, before prevision so extravagant can be accepted as the norm of conduct, the customary
standard to which behavior must conform.
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The argument for the plaintiff is built upon the shifting meanings of such words as “wrong” and
“wrongful” and shares their instability. For what the plaintiff must show is a “wrong” to herself; i.e., a
violation of her own right, and not merely a “wrong” to someone else, nor conduct “wrongful” because
unsocial, but not a “wrong” to anyone. We are told that one who drives at reckless speed through a
crowded city street is guilty of a negligent act and therefore of a wrongful one, irrespective of the
consequences.
Negligent the act is, and wrongful in the sense that it is unsocial, but wrongful and unsocial in relation to
other travelers, only because the eye of vigilance perceives the risk of damage. If the same act were to be
committed on a speedway or a race course, it would lose its wrongful quality. The risk reasonably to be
perceived defines the duty to be obeyed, and risk imports relation; it is risk to another or to others within
the range of apprehension. This does not mean, of course, that one who launches a destructive force is
always relieved of liability, if the force, though known to be destructive, pursues an unexpected
path.…Some acts, such as shooting are so imminently dangerous to anyone who may come within reach of
the missile however unexpectedly, as to impose a duty of prevision not far from that of an insurer. Even
today, and much oftener in earlier stages of the law, one acts sometimes at one’s peril.…These cases aside,
wrong-is defined in terms of the natural or probable, at least when unintentional.…Negligence, like risk, is
thus a term of relation.
Negligence in the abstract, apart from things related, is surely not a tort, if indeed it is understandable at
all.…One who seeks redress at law does not make out a cause of action by showing without more that
there has been damage to his person. If the harm was not willful, he must show that the act as to him had
possibilities of danger so many and apparent as to entitle him to be protected against the doing of it
though the harm was unintended.
* * *
The judgment of the Appellate Division and that of the Trial Term should be reversed, and the complaint
dismissed, with costs in all courts.
C A S E Q U E S T I O N S
1. Is there actual cause in this case? How can you tell?
2. Why should Mrs. Palsgraf (or her insurance company) be made to pay for injuries that
were caused by the negligence of the Long Island Rail Road?
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3. How is this accident not foreseeable?
Klein v. Pyrodyne Corporation
Klein v. Pyrodyne Corporation
810 P.2d 917 (Supreme Court of Washington 1991)
Pyrodyne Corporation (Pyrodyne) is a licensed fireworks display company that contracted to display
fireworks at the Western Washington State Fairgrounds in Puyallup, Washington, on July 4,1987. During
the fireworks display, one of the mortar launchers discharged a rocket on a horizontal trajectory parallel
to the earth. The rocket exploded near a crowd of onlookers, including Danny Klein. Klein’s clothing was
set on fire, and he suffered facial burns and serious injury to his eyes. Klein sued Pyrodyne for strict
liability to recover for his injuries. Pyrodyne asserted that the Chinese manufacturer of the fireworks was
negligent in producing the rocket and therefore Pyrodyne should not be held liable. The trial court applied
the doctrine of strict liability and held in favor of Klein. Pyrodyne appealed.
Section 519 of the Restatement (Second) of Torts provides that any party carrying on an “abnormally
dangerous activity” is strictly liable for ensuing damages. The public display of fireworks fits this
definition. The court stated: “Any time a person ignites rockets with the intention of sending them aloft to
explode in the presence of large crowds of people, a high risk of serious personal injury or property
damage is created. That risk arises because of the possibility that a rocket will malfunction or be
misdirected.” Pyrodyne argued that its liability was cut off by the Chinese manufacturer’s negligence. The
court rejected this argument, stating, “Even if negligence may properly be regarded as an intervening
cause, it cannot function to relieve Pyrodyne from strict liability.”
The Washington Supreme Court held that the public display of fireworks is an abnormally dangerous
activity that warrants the imposition of strict liability.
Affirmed.
C A S E Q U E S T I O N S
1. Why would certain activities be deemed ultrahazardous or abnormally dangerous so that
strict liability is imposed?
2. If the activities are known to be abnormally dangerous, did Klein assume the risk?
3. Assume that the fireworks were negligently manufactured in China. Should Klein’s only
remedy be against the Chinese company, as Pyrodyne argues? Why or why not?
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7.6 Summary and Exercises
Summary
The principles of tort law pervade modern society because they spell out the duties of care that we owe
each other in our private lives. Tort law has had a significant impact on business because modern
technology poses significant dangers and the modern market is so efficient at distributing goods to a wide
class of consumers.
Unlike criminal law, tort law does not require the tortfeasor to have a specific intent to commit the act for
which he or she will be held liable to pay damages. Negligence—that is, carelessness—is a major factor in
tort liability. In some instances, especially in cases involving injuries caused by products, a no-fault
standard called strict liability is applied.
What constitutes a legal injury depends very much on the circumstances. A person can assume a risk or
consent to the particular action, thus relieving the person doing the injury from tort liability. To be liable,
the tortfeasor must be the proximate cause of the injury, not a remote cause. On the other hand, certain
people are held to answer for the torts of another—for example, an employer is usually liable for the torts
of his employees, and a bartender might be liable for injuries caused by someone to whom he sold too
many drinks. Two types of statutes—workers’ compensation and no-fault automobile insurance—have
eliminated tort liability for certain kinds of accidents and replaced it with an immediate insurance
payment plan.
Among the torts of particular importance to the business community are wrongful death and personal
injury caused by products or acts of employees, misrepresentation, defamation, and interference with
contractual relations.
E X E R C I S E S
1. What is the difference in objectives between tort law and criminal law?
2. A woman fell ill in a store. An employee put the woman in an infirmary but provided no
medical care for six hours, and she died. The woman’s family sued the store for wrongful
death. What arguments could the store make that it was not liable? What arguments
could the family make? Which seem the stronger arguments? Why?
3. The signals on a railroad crossing are defective. Although the railroad company was
notified of the problem a month earlier, the railroad inspector has failed to come by and
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repair them. Seeing the all-clear signal, a car drives up and stalls on the tracks as a train
rounds the bend. For the past two weeks the car had been stalling, and the driver kept
putting off taking the car to the shop for a tune-up. As the train rounds the bend, the
engineer is distracted by a conductor and does not see the car until it is too late to stop.
Who is negligent? Who must bear the liability for the damage to the car and to the train?
4. Suppose in the Katko v. Briney case (Section 7.2 “Intentional Torts”) that instead of
setting such a device, the defendants had simply let the floor immediately inside the
front door rot until it was so weak that anybody who came in and took two steps straight
ahead would fall through the floor and to the cellar. Will the defendant be liable in this
case? What if they invited a realtor to appraise the place and did not warn her of the
floor? Does it matter whether the injured person is a trespasser or an invitee?
5. Plaintiff’s husband died in an accident, leaving her with several children and no money
except a valid insurance policy by which she was entitled to $5,000. Insurance Company
refused to pay, delaying and refusing payment and meanwhile “inviting” Plaintiff to
accept less than $5,000, hinting that it had a defense. Plaintiff was reduced to accepting
housing and charity from relatives. She sued the insurance company for bad-faith refusal
to settle the claim and for the intentional infliction of emotional distress. The lower
court dismissed the case. Should the court of appeals allow the matter to proceed to
trial?
S E L F – T E S T Q U E S T I O N S
1. Catarina falsely accuses Jeff of stealing from their employer. The statement is defamatory only if
a. a third party hears it
b. Nick suffers severe emotional distress as a result
c. the statement is the actual and proximate cause of his distress
d. the statement is widely circulated in the local media and on Twitter
Garrett files a suit against Colossal Media Corporation for defamation. Colossal has said that
Garrett is a “sleazy, corrupt public official” (and provided some evidence to back the claim). To
win his case, Garrett will have to show that Colossal acted with
a. malice
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b. ill will
c. malice aforethought
d. actual malice
Big Burger begins a rumor, using social media, that the meat in Burger World is partly composed
of ground-up worms. The rumor is not true, as Big Burger well knows. Its intent is to get some customers
to shift loyalty from Burger World to Big Burger. Burger World’s best cause of action would be
a. trespass on the case
b. nuisance
c. product disparagement
d. intentional infliction of emotional distress
Wilfred Phelps, age 65, is driving his Nissan Altima down Main Street when he suffers the first
seizure of his life. He loses control of his vehicle and runs into three people on the sidewalk. Which
statement is true?
a. He is liable for an intentional tort.
b. He is liable for a negligent tort.
c. He is not liable for a negligent tort.
d. He is liable under strict liability, because driving a car is abnormally dangerous.
Jonathan carelessly bumps into Amanda, knocking her to the ground. He has committed the tort
of negligence
a. only if Amanda is injured
b. only if Amanda is not injured
c. whether or not Amanda is injured
S E L F – T E S T A N S W E R S
1. a
2. d
3. c
4. c
5. a
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Chapter 8
Introduction to Contract Law
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. Why and how contract law has developed
2. What a contract is
3. What topics will be discussed in the contracts chapter of this book
4. What the sources of contract law are
5. How contracts are classified (basic taxonomy)
8.1 General Perspectives on Contracts
L E A R N I N G O B J E C T I V E S
1. Explain contract law’s cultural roots: how it has evolved as capitalism has evolved.
2. Understand that contracts serve essential economic purposes.
3. Define contract.
4. Understand the basic issues in contract law.
The Role of Contracts in Modern Society
Contract is probably the most familiar legal concept in our society because it is so central to the essence of
our political, economic, and social life. In common parlance, contract is used interchangeably
with agreement, bargain, undertaking, or deal. Whatever the word, the concept it embodies is our notion
of freedom to pursue our own lives together with others. Contract is central because it is the means by
which a free society orders what would otherwise be a jostling, frenetic anarchy.
So commonplace is the concept of contract—and our freedom to make contracts with each other—that it is
difficult to imagine a time when contracts were rare, when people’s everyday associations with one
another were not freely determined. Yet in historical terms, it was not so long ago that contracts were
rare, entered into if at all by very few: that affairs should be ordered based on mutual assent was mostly
unknown. In primitive societies and in feudal Europe, relationships among people were largely fixed;
traditions spelled out duties that each person owed to family, tribe, or manor. People were born into an
ascribed position—a status (not unlike the caste system still existing in India)—and social mobility was
limited. Sir Henry Maine, a nineteenth-century British historian, wrote that “the movement of the
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progressive societies has…been a movement from status to contract.”
[1]
This movement was not
accidental—it developed with the emerging industrial order. From the fifteenth to the nineteenth century,
England evolved into a booming mercantile economy, with flourishing trade, growing cities, an expanding
monetary system, the commercialization of agriculture, and mushrooming manufacturing. With this
evolution, contract law was created of necessity.
Contract law did not develop according to a conscious plan, however. It was a response to changing
conditions, and the judges who created it frequently resisted, preferring the imagined quieter pastoral life
of their forefathers. Not until the nineteenth century, in both the United States and England, did a full-
fledged law of contracts arise together with, and help create, modern capitalism.
Modern capitalism, indeed, would not be possible without contract law. So it is that in planned
economies, like those of the former Soviet Union and precapitalistic China, the contract did not determine
the nature of an economic transaction. That transaction was first set forth by the state’s planning
authorities; only thereafter were the predetermined provisions set down in a written contract. Modern
capitalism has demanded new contract regimes in Russia and China; the latter adopted its Revised
Contract Law in 1999.
Contract law may be viewed economically as well as culturally. In An Economic Analysis of Law, Judge
Richard A. Posner (a former University of Chicago law professor) suggests that contract law performs
three significant economic functions. First, it helps maintain incentives for individuals to exchange goods
and services efficiently. Second, it reduces the costs of economic transactions because its very existence
means that the parties need not go to the trouble of negotiating a variety of rules and terms already
spelled out. Third, the law of contracts alerts the parties to troubles that have arisen in the past, thus
making it easier to plan the transactions more intelligently and avoid potential pitfalls.
[2]
The Definition of Contract
As usual in the law, the legal definition of contract is formalistic. The Restatement (Second) of Contracts
(Section 1) says, “A contract is a promise or a set of promises for the breach of which the law gives a
remedy, or the performance of which the law in some way recognizes as a duty.” Similarly, the Uniform
Commercial Code says, “‘Contract’ means the total legal obligation which results from the parties’
agreement as affected by this Act and any other applicable rules of law.”
[3]
As operational definitions,
these two are circular; in effect, a contract is defined as an agreement that the law will hold the parties to.
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Most simply, a contract is a legally enforceable promise. This implies that not every promise or agreement
creates a binding contract; if every promise did, the simple definition set out in the preceding sentence
would read, “A contract is a promise.” But—again—a contract is not simply a promise: it is a legally
enforceable promise. The law takes into account the way in which contracts are made, by whom they are
made, and for what purposes they are made. For example, in many states, a wager is unenforceable, even
though both parties “shake” on the bet. We will explore these issues in the chapters to come.
Overview of the Contracts Chapter
Although contract law has many wrinkles and nuances, it consists of four principal inquiries, each of
which will be taken up in subsequent chapters:
1. Did the parties create a valid contract? Four elements are necessary for a valid contract:
a. Mutual assent (i.e., offer and acceptance), Chapter 9 “The Agreement”
b. Real assent (no duress, undue influence, misrepresentation, mistake, or
incapacity), Chapter 10 “Real Assent”
c. Consideration, Chapter 11 “Consideration”
d. Legality, Chapter 12 “Legality”
What does the contract mean, and is it in the proper form to carry out this
meaning? Sometimes contracts need to be in writing (or evidenced by some writing), or
they can’t be enforced. Sometimes it isn’t clear what the contract means, and a court has
to figure that out. These problems are taken up in Chapter 13 “Form and Meaning”.
Do persons other than the contracting parties have rights or duties under the
contract? Can the right to receive a benefit from the contract be assigned, and can the
duties be delegated so that a new person is responsible? Can persons not a party to the
contract sue to enforce its terms? These questions are addressed inChapter 14 “Third-
Party Rights”.
How do contractual duties terminate, and what remedies are available if a party
has breached the contract? These issues are taken up in Chapter 15 “Discharge of
Obligations” and Chapter 16 “Remedies”.
Together, the answers to these four basic inquiries determine the rights and obligations of contracting
parties.
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K E Y T A K E A W A Y
Contract law developed when the strictures of feudalism dissipated, when a person’s position in society
came to be determined by personal choice (by mutual agreement) and not by status (by how a person was
born). Capitalism and contract law have developed together, because having choices in society means that
people decide and agree to do things with and to each other, and those agreements bind the parties; the
agreements must be enforceable.
E X E R C I S E S
1. Why is contract law necessary in a society where a person’s status is not predetermined
by birth?
2. Contract law serves some economic functions. What are they?
[1] Sir Henry Maine, Ancient Law (1869), 180–82.
[2] Richard A. Posner, Economic Analysis of Law (New York: Aspen, 1973).
[3] Uniform Commercial Code, Section 1-201(11).
8.2 Sources of Contract Law
L E A R N I N G O B J E C T I V E S
1. Understand that contract law comes from two sources: judges (cases) and legislation.
2. Know what the Restatement of Contracts is.
3. Recognize the Convention on Contracts for the International Sale of Goods.
The most important sources of contract law are state case law and state statutes (though there are also
many federal statutes governing how contracts are made by and with the federal government).
Case Law
Law made by judges is called case law. Because contract law was made up in the common-law courtroom
by individual judges as they applied rules to resolve disputes before them, it grew over time to formidable
proportions. By the early twentieth century, tens of thousands of contract disputes had been submitted to
the courts for resolution, and the published opinions, if collected in one place, would have filled dozens of
bookshelves. Clearly this mass of material was too unwieldy for efficient use. A similar problem also had
developed in the other leading branches of the common law.
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Disturbed by the profusion of cases and the resulting uncertainty of the law, a group of prominent
American judges, lawyers, and law teachers founded the American Law Institute (ALI) in 1923 to attempt
to clarify, simplify, and improve the law. One of the ALI’s first projects, and ultimately one of its most
successful, was the drafting of theRestatement of the Law of Contracts, completed in 1932. A revision—the
Restatement (Second) of Contracts—was undertaken in 1964 and completed in 1979. Hereafter, references
to “the Restatement” pertain to the Restatement (Second) of Contracts.
The Restatements—others exist in the fields of torts, agency, conflicts of laws, judgments, property,
restitution, security, and trusts—are detailed analyses of the decided cases in each field. These analyses
are made with an eye to discerning the various principles that have emerged from the courts, and to the
maximum extent possible, the Restatements declare the law as the courts have determined it to be. The
Restatements, guided by a reporter (the director of the project) and a staff of legal scholars, go through
several so-called tentative drafts—sometimes as many as fifteen or twenty—and are screened by various
committees within the ALI before they are eventually published as final documents.
The Restatement (Second) of Contracts won prompt respect in the courts and has been cited in
innumerable cases. The Restatements are not authoritative, in the sense that they are not actual judicial
precedents; but they are nevertheless weighty interpretive texts, and judges frequently look to them for
guidance. They are as close to “black letter” rules of law as exist anywhere in the American common-law
legal system.
Common law, case law (the terms are synonymous), governs contracts for the sale of real estate and
services. “Services” refer to acts or deeds (like plumbing, drafting documents, driving a car) as opposed to
the sale of property.
Statutory Law: The Uniform Commercial Code
Common-law contract principles govern contracts for real estate and services. Because of the historical
development of the English legal system, contracts for the sale of goods came to be governed by a different
body of legal rules. In its modern American manifestation, that body of rules is an important statute:
theUniform Commercial Code (UCC), especially Article 2, which deals with the sale of goods.
History of the UCC
A bit of history is in order. Before the UCC was written, commercial law varied, sometimes greatly, from
state to state. This first proved a nuisance and then a serious impediment to business as the American
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economy became nationwide during the twentieth century. Although there had been some uniform laws
concerned with commercial deals—including the Uniform Sales Act, first published in 1906—few were
widely adopted and none nationally. As a result, the law governing sales of goods, negotiable instruments,
warehouse receipts, securities, and other matters crucial to doing business in an industrial market
economy was a crazy quilt of untidy provisions that did not mesh well from state to state.
The UCC is a model law developed by the ALI and the National Conference of Commissioners on Uniform
State Laws; it has been adopted in one form or another by the legislatures in all fifty states, the District of
Columbia, and the American territories. It is a “national” law not enacted by Congress—it is not federal
law but uniform state law.
Initial drafting of the UCC began in 1942 and was ten years in the making, involving the efforts of
hundreds of practicing lawyers, law teachers, and judges. A final draft, promulgated by the ALI, was
endorsed by the American Bar Association and published in 1951. Various revisions followed in different
states, threatening the uniformity of the UCC. The ALI responded by creating a permanent editorial board
to oversee future revisions. In one or another of its various revisions, the UCC has been adopted in whole
or in part in all American jurisdictions. The UCC is now a basic law of relevance to every business and
business lawyer in the United States, even though it is not entirely uniform because different states have
adopted it at various stages of its evolution—an evolution that continues still.
Organization of the UCC
The UCC consists of nine major substantive articles; each deals with separate though related subjects. The
articles are as follows:
Article 1: General Provisions
Article 2: Sales
Article 2A: Leases
Article 3: Commercial Paper
Article 4: Bank Deposits and Collections
Article 4A: Funds Transfers
Article 5: Letters of Credit
Article 6: Bulk Transfers
Article 7: Warehouse Receipts, Bills of Lading, and Other Documents of Title
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Article 8: Investment Securities
Article 9: Secured Transactions
Article 2 deals only with the sale of goods, which the UCC defines as “all things…which are movable at the
time of identification to the contract for sale other than the money in which the price is to be paid.”
[1]
The
only contracts and agreements covered by Article 2 are those relating to the present or future sale of
goods.
Article 2 is divided in turn into six major parts: (1) Form, Formation, and Readjustment of Contract; (2)
General Obligation and Construction of Contract; (3) Title, Creditors, and Good Faith Purchasers; (4)
Performance; (5) Breach, Repudiation, and Excuse; and (6) Remedies. These topics will be discussed
in Chapter 17 “Introduction to Sales and Leases”, Chapter 18 “Title and Risk of Loss”, Chapter 19
“Performance and Remedies”, Chapter 20 “Products Liability”, and Chapter 21 “Bailments and the
Storage, Shipment, and Leasing of Goods”.
Figure 8.1 Sources of Law
International Sales Law
The Convention on Contracts for the International Sale of Goods
A Convention on Contracts for the International Sale of Goods (CISG) was approved in 1980 at a
diplomatic conference in Vienna. (A convention is a preliminary agreement that serves as the basis for a
formal treaty.) The CISG has been adopted by more than forty countries, including the United States.
The CISG is significant for three reasons. First, it is a uniform law governing the sale of goods—in effect,
an international Uniform Commercial Code. The major goal of the drafters was to produce a uniform law
acceptable to countries with different legal, social, and economic systems. Second, although provisions in
the CISG are generally consistent with the UCC, there are significant differences. For instance, under the
CISG, consideration (discussed in Chapter 11 “Consideration”) is not required to form a contract, and
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there is no Statute of Frauds (a requirement that certain contracts be evidenced by a writing). Third, the
CISG represents the first attempt by the US Senate to reform the private law of business through its treaty
powers, for the CISG preempts the UCC. The CISG is not mandatory: parties to an international contract
for the sale of goods may choose to have their agreement governed by different law, perhaps the UCC, or
perhaps, say, Japanese contract law. The CISG does not apply to contracts for the sale of (1) ships or
aircraft, (2) electricity, or (3) goods bought for personal, family, or household use, nor does it apply (4)
where the party furnishing the goods does so only incidentally to the labor or services part of the contract.
K E Y T A K E A W A Y
Judges have made contract law over several centuries by deciding cases that create, extend, or change the
developing rules affecting contract formation, performance, and enforcement. The rules from the cases
have been abstracted and organized in the Restatements of Contracts. To facilitate interstate commerce,
contract law for many commercial transactions—especially the sale of goods—not traditionally within the
purview of judges has been developed by legal scholars and presented for the states to adopt as the
Uniform Commercial Code. There is an analogous Convention on Contracts for the International Sale of
Goods, to which the United States is a party.
E X E R C I S E S
1. How do judges make contract law?
2. What is the Restatement of the Law of Contracts, and why was it necessary?
3. Why was the Uniform Commercial Code developed, and by whom?
4. Who adopts the UCC as governing law?
5. What is the Convention on Contracts for the International Sale of Goods?
[1] Uniform Commercial Code, Section 2-105.
8.3 Basic Taxonomy of Contracts
L E A R N I N G O B J E C T I V E S
1. Understand that contracts are classified according to the criteria of explicitness,
mutuality, enforceability, and degree of completion and that some noncontract
promises are nevertheless enforceable under the doctrine of promissory estoppel.
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2. Keep your eyes (and ears) alert to the use of suffixes (word endings) in legal terminology
that express relationships between parties.
Some contracts are written, some oral; some are explicit, some not. Because contracts can be formed, expressed, and
enforced in a variety of ways, a taxonomy of contracts has developed that is useful in grouping together like legal
consequences. In general, contracts are classified along four different dimensions: explicitness, mutuality,
enforceability, and degree of completion. Explicitness is the degree to which the agreement is manifest to those not
party to it. Mutuality takes into account whether promises are given by two parties or only one. Enforceability is the
degree to which a given contract is binding. Completion considers whether the contract is yet to be performed or
whether the obligations have been fully discharged by one or both parties. We will examine each of these concepts in
turn.
Explicitness
Express Contract
An express contract is one in which the terms are spelled out directly. The parties to an express contract,
whether it is written or oral, are conscious that they are making an enforceable agreement. For example,
an agreement to purchase your neighbor’s car for $5,500 and to take title next Monday is an express
contract.
Implied Contract (Implied in Fact)
An implied contract is one that is inferred from the actions of the parties. When parties have not
discussed terms, an implied contract exists if it is clear from the conduct of both parties that they intended
there be one. A delicatessen patron who asks for a turkey sandwich to go has made a contract and is
obligated to pay when the sandwich is made. By ordering the food, the patron is implicitly agreeing to the
price, whether posted or not.
The distinction between express and implied contracts has received a degree of notoriety in the so-called
palimony cases, in which one member of an unmarried couple seeks a division of property after a long-
standing live-together relationship has broken up. When a married couple divorces, their legal marriage
contract is dissolved, and financial rights and obligations are spelled out in a huge body of domestic
relations statutes and judicial decisions. No such laws exist for unmarried couples. However, about one-
third of the states recognize common-law marriage, under which two people are deemed to be married if
they live together with the intent to be married, regardless of their failure to have obtained a license or
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gone through a ceremony. Although there is no actual contract of marriage (no license), their behavior
implies that the parties intended to be treated as if they were married.
Quasi-Contract
A quasi-contract (implied in law) is—unlike both express and implied contracts, which embody an actual
agreement of the parties—an obligation said to be “imposed by law” in order to avoid unjust enrichment of
one person at the expense of another. A quasi-contract is not a contract at all; it is a fiction that the courts
created to prevent injustice. Suppose, for example, that the local lumberyard mistakenly delivers a load of
lumber to your house, where you are repairing your deck. It was a neighbor on the next block who ordered
the lumber, but you are happy to accept the load for free; since you never talked to the lumberyard, you
figure you need not pay the bill. Although it is true there is no contract, the law implies a contract for the
value of the material: of course you will have to pay for what you got and took. The existence of this
implied contract does not depend on the intention of the parties.
Mutuality
Bilateral Contract
The typical contract is one in which the parties make mutual promises. Each is both promisor and
promisee; that is, each pledges to do something, and each is the recipient of such a pledge. This type of
contract is called a bilateral contract.
Unilateral Contract
Mutual promises are not necessary to constitute a contract. Unilateral contracts, in which one party
performs an act in exchange for the other party’s promise, are equally valid. An offer of a reward—for
catching a criminal or for returning a lost cat—is an example of a unilateral contract: there is an offer on
one side, and the other side accepts by taking the action requested.
Figure 8.2 Bilateral and Unilateral Contracts
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Enforceability
Void
Not every agreement between two people is a binding contract. An agreement that is lacking one of the
legal elements of a contract is said to be a void contract—that is, not a contract at all. An agreement that is
illegal—for example, a promise to commit a crime in return for a money payment—is void. Neither party
to a void “contract” may enforce it.
Voidable
By contrast, a voidable contract is one that may become unenforceable by one party but can be enforced
by the other. For example, a minor (any person under eighteen, in most states) may “avoid” a contract
with an adult; the adult may not enforce the contract against the minor if the minor refuses to carry out
the bargain. But the adult has no choice if the minor wishes the contract to be performed. (A contract may
be voidable by both parties if both are minors.)
Ordinarily, the parties to a voidable contract are entitled to be restored to their original condition.
Suppose you agree to buy your seventeen-year-old neighbor’s car. He delivers it to you in exchange for
your agreement to pay him next week. He has the legal right to terminate the deal and recover the car, in
which case you will of course have no obligation to pay him. If you have already paid him, he still may
legally demand a return to the status quo ante (previous state of affairs). You must return the car to him;
he must return the cash to you.
A voidable contract remains a valid contract until it is voided. Thus a contract with a minor remains in
force unless the minor decides he or she does not wish to be bound by it. When the minor reaches
majority, he or she may “ratify” the contract—that is, agree to be bound by it—in which case the contract
will no longer be voidable and will thereafter be fully enforceable.
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Unenforceable
An unenforceable contract is one that some rule of law bars a court from enforcing. For example, Tom
owes Pete money, but Pete has waited too long to collect it and the statute of limitations has run out. The
contract for repayment is unenforceable and Pete is out of luck, unless Tom makes a new promise to pay
or actually pays part of the debt. (However, if Pete is holding collateral as security for the debt, he is
entitled to keep it; not all rights are extinguished because a contract is unenforceable.) A debt becomes
unenforceable, too, when the debtor declares bankruptcy.
A bit more on enforceability is in order. A promise or what seems to be a promise is usually enforceable
only if it is otherwise embedded in the elements necessary to make that promise a contract. Those
elements are mutual assent, real assent, consideration, capacity, and legality. Sometimes, though, people
say things that seem like promises, and on which another person relies. In the early twentieth century,
courts began, in some circumstances, to recognize that insisting on the existence of the traditional
elements of contract to determine whether a promise is enforceable could work an injustice where there
has been reliance. Thus developed the equitable doctrine ofpromissory estoppel, which has become an
important adjunct to contract law. The Restatement (Section 90) puts it this way: “A promise which the
promisor should reasonably expect to induce action or forbearance on the party of the promisee or a third
person and which does induce such action or forbearance is binding if injustice can be avoided only by
enforcement of the promise. The remedy granted for breach may be limited as justice requires.”
To be “estopped” means to be prohibited from denying now the validity of a promise you made before.
The doctrine has an interesting background. In 1937, High Trees House Ltd. (a British corporation) leased
a block of London apartments from Central London Properties. As World War II approached, vacancy
rates soared because people left the city. In 1940 the parties agreed to reduce the rent rates by half, but no
term was set for how long the reduction would last. By mid-1945, as the war was ending, occupancy was
again full, and Central London sued for the full rental rates from June on. The English court, under Judge
Alfred Thompson Denning (1899–1999), had no difficulty finding that High Trees owed the full amount
once full occupancy was again achieved, but Judge Denning went on. In an aside (called a dicta—a
statement “by the way”—that is, not necessary as part of the decision), he mused about what would have
happened if in 1945 Central London had sued for the full-occupancy rate back to 1940. Technically, the
1940 amendment to the 1937 contract was not binding on Central London—it lacked consideration—and
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Central London could have reached back to demand full-rate payment. But Judge Denning said that High
Trees would certainly have relied on Central London’s promise that a reduced-rate rent would be
acceptable, and that would have been enough to bind it, to prevent it from acting inconsistently with the
promise. He wrote, “The courts have not gone so far as to give a cause of action in damages for the breach
of such a promise, but they have refused to allow the party making it to act inconsistently with it.”
[1]
In the years since, though, courts have gone so far as to give a cause of action in damages for various
noncontract promises. Contract protects agreements; promissory estoppel protects reliance, and that’s a
significant difference. The law of contracts continues to evolve.
Degree of Completion
An agreement consisting of a set of promises is called an executory contract before any promises are
carried out. Most executory contracts are enforceable. If John makes an agreement to deliver wheat to
Humphrey and does so, the contract is called apartially executed contract: one side has performed, the
other has not. When John pays for the wheat, the contract is fully performed. A contract that has been
carried out fully by both parties is called an executed contract.
Terminology: Suffixes Expressing Relationships
Although not really part of the taxonomy of contracts (i.e., the orderly classification of the subject), an
aspect of contractual—indeed, legal—terminology should be highlighted here. Suffixes (the end syllables
of words) in the English language are used to express relationships between parties in legal terminology.
Here are examples:
Offeror. One who makes an offer.
Offeree. One to whom an offer is made.
Promisor. One who makes a promise.
Promisee. One to whom a promise is made.
Obligor. One who makes and has an obligation.
Obligee. One to whom an obligation is made.
Transferor. One who makes a transfer.
Transferee. One to whom a transfer is made.
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K E Y T A K E A W A Y
Contracts are described and thus defined on the basis of four criteria: explicitness (express, implied, or
quasi-contracts), mutuality (bilateral or unilateral), enforceability (void, voidable, unenforceable), and
degree of completion (executory, partially executed, executed). Legal terminology in English often
describes relationships between parties by the use of suffixes, to which the eye and ear must pay
attention.
E X E R C I S E S
1. Able writes to Baker: “I will mow your lawn for $20.” If Baker accepts, is this an express
or implied contract?
2. Able telephones Baker: “I will mow your lawn for $20.” Is this an express or implied
contract?
3. What is the difference between a void contract and a voidable one?
4. Carr staples this poster to a utility pole: “$50 reward for the return of my dog, Argon.”
Describe this in contractual terms regarding explicitness, mutuality, enforceability, and
degree of completion.
5. Is a voidable contract always unenforceable?
6. Contractor bids on a highway construction job, incorporating Guardrail Company’s bid
into its overall bid to the state. Contractor cannot accept Guardrail’s offer until it gets
the nod from the state. Contractor gets the nod from the state, but before it can accept
Guardrail’s offer, the latter revokes it. Usually a person can revoke an offer any time
before it is accepted. Can Guardrail revoke its offer in this case?
[1] Central London Property Trust Ltd. v. High Trees House Ltd. (1947) KB 130.
8.4 Cases
Explicitness: Implied Contract
Roger’s Backhoe Service, Inc. v. Nichols
681 N.W.2d 647 (Iowa 2004)
Carter, J.
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Defendant, Jeffrey S. Nichols, is a funeral director in Muscatine.…In early 1998 Nichols decided to build a
crematorium on the tract of land on which his funeral home was located. In working with the Small
Business Administration, he was required to provide drawings and specifications and obtain estimates for
the project. Nichols hired an architect who prepared plans and submitted them to the City of Muscatine
for approval. These plans provided that the surface water from the parking lot would drain onto the
adjacent street and alley and ultimately enter city storm sewers. These plans were approved by the city.
Nichols contracted with Roger’s [Backhoe Service, Inc.] for the demolition of the foundation of a building
that had been razed to provide room for the crematorium and removal of the concrete driveway and
sidewalk adjacent to that foundation. Roger’s completed that work and was paid in full.
After construction began, city officials came to the jobsite and informed Roger’s that the proposed
drainage of surface water onto the street and alley was unsatisfactory. The city required that an effort be
made to drain the surface water into a subterranean creek, which served as part of the city’s storm sewer
system. City officials indicated that this subterranean sewer system was about fourteen feet below the
surface of the ground.…Roger’s conveyed the city’s mandate to Nichols when he visited the jobsite that
same day.
It was Nichols’ testimony at trial that, upon receiving this information, he advised…Roger’s that he was
refusing permission to engage in the exploratory excavation that the city required. Nevertheless, it
appears without dispute that for the next three days Roger’s did engage in digging down to the
subterranean sewer system, which was located approximately twenty feet below the surface. When the
underground creek was located, city officials examined the brick walls in which it was encased and
determined that it was not feasible to penetrate those walls in order to connect the surface water drainage
with the underground creek. As a result of that conclusion, the city reversed its position and once again
gave permission to drain the surface water onto the adjacent street and alley.
[T]he invoices at issue in this litigation relate to charges that Roger’s submitted to Nichols for the three
days of excavation necessary to locate the underground sewer system and the cost for labor and materials
necessary to refill the excavation with compactable materials and attain compaction by means of a
tamping process.…The district court found that the charges submitted on the…invoices were fair and
reasonable and that they had been performed for Nichols’ benefit and with his tacit approval.…
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The court of appeals…concluded that a necessary element in establishing an implied-in-fact contract is
that the services performed be beneficial to the alleged obligor. It concluded that Roger’s had failed to
show that its services benefited Nichols.…
In describing the elements of an action on an implied contract, the court of appeals stated in [Citation],
that the party seeking recovery must show:
(1) the services were carried out under such circumstances as to give the recipient reason to understand:
(a) they were performed for him and not some other person, and
(b) they were not rendered gratuitously, but with the expectation of compensation from the recipient; and
(2) the services were beneficial to the recipient.
In applying the italicized language in [Citation] to the present controversy, it was the conclusion of the
court of appeals that Roger’s’ services conferred no benefit on Nichols. We disagree. There was substantial
evidence in the record to support a finding that, unless and until an effort was made to locate the
subterranean sewer system, the city refused to allow the project to proceed. Consequently, it was
necessary to the successful completion of the project that the effort be made. The fact that examination of
the brick wall surrounding the underground creek indicated that it was unfeasible to use that source of
drainage does not alter the fact that the project was stalemated until drainage into the underground creek
was fully explored and rejected. The district court properly concluded that Roger’s’ services conferred a
benefit on Nichols.…
Decision of court of appeals vacated; district court judgment affirmed.
C A S E Q U E S T I O N S
1. What facts must be established by a plaintiff to show the existence of an implied
contract?
2. What argument did Nichols make as to why there was no implied contract here?
3. How would the facts have to be changed to make an express contract?
Mutuality of Contract: Unilateral Contract
SouthTrust Bank v. Williams
775 So.2d 184 (Ala. 2000)
Cook, J.
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SouthTrust Bank (“SouthTrust”) appeals from an order denying its motion to compel arbitration of an
action against it by checking-account customers Mark Williams and Bessie Daniels. We reverse and
remand.
Daniels and Williams began their relationship with SouthTrust in 1981 and 1995, respectively, by
executing checking-account “signature cards.” The signature card each customer signed contained a
“change-in-terms” clause. Specifically, when Daniels signed her signature card, she “agree[d] to be subject
to the Rules and Regulations as may now or hereafter be adopted by the Bank.” (Emphasis
added.)…[Later,] SouthTrust added paragraph 33 to the regulations:…
ARBITRATION OF DISPUTES. You and we agree that the transactions in your account involve
‘commerce’ under the Federal Arbitration Act (‘FAA’). ANY CONTROVERSY OR CLAIM BETWEEN YOU
AND US…WILL BE SETTLED BY BINDING ARBITRATION UNDER THE FAA.…
This action…challenges SouthTrust’s procedures for paying overdrafts, and alleges that SouthTrust
engages in a “uniform practice of paying the largest check(s) before paying multiple smaller checks…[in
order] to generate increased service charges for [SouthTrust] at the expense of [its customers].”
SouthTrust filed a “motion to stay [the] lawsuit and to compel arbitration.” It based its motion on
paragraph 33 of the regulations. [T]he trial court…entered an order denying SouthTrust’s motion to
compel arbitration. SouthTrust appeals.…
Williams and Daniels contend that SouthTrust’s amendment to the regulations, adding paragraph 33, was
ineffective because, they say, they did not expressly assent to the amendment. In other words, they object
to submitting their claims to arbitration because, they say, when they opened their accounts, neither the
regulations nor any other relevant document contained an arbitration provision. They argue that “mere
failure to object to the addition of a material term cannot be construed as an acceptance of it.”…They
contend that SouthTrust could not unilaterally insert an arbitration clause in the regulations and make it
binding on depositors like them.
SouthTrust, however, referring to its change-of-terms clause insists that it “notified” Daniels and Williams
of the amendment in January 1997 by enclosing in each customer’s “account statement” a complete copy
of the regulations, as amended. Although it is undisputed that Daniels and Williams never affirmatively
assented to these amended regulations, SouthTrust contends that their assent was evidenced by their
failure to close their accounts after they received notice of the amendments.…Thus, the disposition of this
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case turns on the legal effect of Williams and Daniels’s continued use of the accounts after the regulations
were amended.
Williams and Daniels argue that “[i]n the context of contracts between merchants [under the UCC], a
written confirmation of an acceptance may modify the contractunless it adds a material term, and
arbitration clauses are material terms.”…
Williams and Daniels concede—as they must—…that Article 2 governs “transactions in goods,” and,
consequently, that it is not applicable to the transactions in this case. Nevertheless, they argue:
It would be astonishing if a Court were to consider the addition of an arbitration clause a material
alteration to a contract between merchants, who by definition are sophisticated in the trade to which the
contract applies, but not hold that the addition of an arbitration clause is a material alteration pursuant to
a change-of-terms clause in a contract between one sophisticated party, a bank, and an entire class of less
sophisticated parties, its depositors.…
In response, SouthTrust states that “because of the ‘at-will’ nature of the relationship, banks by necessity
must contractually reserve the right to amend their deposit agreements from time to time.” In so stating,
SouthTrust has precisely identified the fundamental difference between the transactions here and those
transactions governed by [Article 2].
Contracts for the purchase and sale of goods are essentially bilateral and executory in nature. See
[Citation] “An agreement whereby one party promises to sell and the other promises to buy a thing at a
later time…is a bilateral promise of sale or contract to sell”.…“[A] unilateral contract results from an
exchange of a promise for an act; a bilateral contract results from an exchange of promises.”…Thus, “in a
unilateral contract, there is no bargaining process or exchange of promises by parties as in a bilateral
contract.” [Citation] “[O]nly one party makes an offer (or promise) which invites performance by another,
and performance constitutes both acceptance of that offer and consideration.” Because “a ‘unilateral
contract’ is one in which no promisor receives promise as consideration for his promise,” only one party is
bound.…The difference is not one of semantics but of substance; it determines the rights and
responsibilities of the parties, including the time and the conditions under which a cause of action accrues
for a breach of the contract.
This case involves at-will, commercial relationships, based upon a series of unilateral transactions. Thus,
it is more analogous to cases involving insurance policies, such as [Citations]. The common thread
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running through those cases was the amendment by one of the parties to a business relationship of a
document underlying that relationship—without the express assent of the other party—to require the
arbitration of disputes arising after the amendment.…
The parties in [the cited cases], like Williams and Daniels in this case, took no action that could be
considered inconsistent with an assent to the arbitration provision. In each case, they continued the
business relationship after the interposition of the arbitration provision. In doing so, they implicitly
assented to the addition of the arbitration provision.…
Reversed and remanded.
C A S E Q U E S T I O N S
1. Why did the plaintiffs think they should not be bound by the arbitration clause?
2. The court said this case involved a unilateral contract. What makes it that, as opposed to
a bilateral contract?
3. What should the plaintiffs have done if they didn’t like the arbitration requirement?
Unilateral Contract and At-Will Employment
Woolley v. Hoffmann-La Roche, Inc.
491 A.2d 1257 (N.J. 1985)
Wilntz, C. J.
Plaintiff, Richard Woolley, was hired by defendant, Hoffmann-La Roche, Inc., in October 1969, as an
Engineering Section Head in defendant’s Central Engineering Department at Nutley. There was no
written employment contract between plaintiff and defendant. Plaintiff began work in mid-November
1969. Sometime in December, plaintiff received and read the personnel manual on which his claims are
based.
[The company’s personnel manual had eight pages;] five of the eight pages are devoted to “termination.”
In addition to setting forth the purpose and policy of the termination section, it defines “the types of
termination” as “layoff,” “discharge due to performance,” “discharge, disciplinary,” “retirement” and
“resignation.” As one might expect, layoff is a termination caused by lack of work, retirement a
termination caused by age, resignation a termination on the initiative of the employee, and discharge due
to performance and discharge, disciplinary, are both terminations for cause. There is no category set forth
for discharge without cause. The termination section includes “Guidelines for discharge due to
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performance,” consisting of a fairly detailed procedure to be used before an employee may be fired for
cause. Preceding these definitions of the five categories of termination is a section on “Policy,” the first
sentence of which provides: “It is the policy of Hoffmann-La Roche to retain to the extent consistent with
company requirements, the services of all employees who perform their duties efficiently and effectively.”
In 1976, plaintiff was promoted, and in January 1977 he was promoted again, this latter time to Group
Leader for the Civil Engineering, the Piping Design, the Plant Layout, and the Standards and Systems
Sections. In March 1978, plaintiff was directed to write a report to his supervisors about piping problems
in one of defendant’s buildings in Nutley. This report was written and submitted to plaintiff’s immediate
supervisor on April 5, 1978. On May 3, 1978, stating that the General Manager of defendant’s Corporate
Engineering Department had lost confidence in him, plaintiff’s supervisors requested his resignation.
Following this, by letter dated May 22, 1978, plaintiff was formally asked for his resignation, to be
effective July 15, 1978.
Plaintiff refused to resign. Two weeks later defendant again requested plaintiff’s resignation, and told him
he would be fired if he did not resign. Plaintiff again declined, and he was fired in July.
Plaintiff filed a complaint alleging breach of contract.…The gist of plaintiff’s breach of contract claim is
that the express and implied promises in defendant’s employment manual created a contract under which
he could not be fired at will, but rather only for cause, and then only after the procedures outlined in the
manual were followed. Plaintiff contends that he was not dismissed for good cause, and that his firing was
a breach of contract.
Defendant’s motion for summary judgment was granted by the trial court, which held that the
employment manual was not contractually binding on defendant, thus allowing defendant to terminate
plaintiff’s employment at will. The Appellate Division affirmed. We granted certification.
The employer’s contention here is that the distribution of the manual was simply an expression of the
company’s “philosophy” and therefore free of any possible contractual consequences. The former
employee claims it could reasonably be read as an explicit statement of company policies intended to be
followed by the company in the same manner as if they were expressed in an agreement signed by both
employer and employees.…
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This Court has long recognized the capacity of the common law to develop and adapt to current
needs.…The interests of employees, employers, and the public lead to the conclusion that the common law
of New Jersey should limit the right of an employer to fire an employee at will.
In order for an offer in the form of a promise to become enforceable, it must be accepted. Acceptance will
depend on what the promisor bargained for: he may have bargained for a return promise that, if given,
would result in a bilateral contract, both promises becoming enforceable. Or he may have bargained for
some action or nonaction that, if given or withheld, would render his promise enforceable as a unilateral
contract. In most of the cases involving an employer’s personnel policy manual, the document is prepared
without any negotiations and is voluntarily distributed to the workforce by the employer. It seeks no
return promise from the employees. It is reasonable to interpret it as seeking continued work from the
employees, who, in most cases, are free to quit since they are almost always employees at will, not simply
in the sense that the employer can fire them without cause, but in the sense that they can quit without
breaching any obligation. Thus analyzed, the manual is an offer that seeks the formation of a unilateral
contract—the employees’ bargained-for action needed to make the offer binding being their continued
work when they have no obligation to continue.
The unilateral contract analysis is perfectly adequate for that employee who was aware of the manual and
who continued to work intending that continuation to be the action in exchange for the employer’s
promise; it is even more helpful in support of that conclusion if, but for the employer’s policy manual, the
employee would have quit. See generally M. Petit, “Modern Unilateral Contracts,” 63 Boston Univ. Law
Rev. 551 (1983) (judicial use of unilateral contract analysis in employment cases is widespread).
…All that this opinion requires of an employer is that it be fair. It would be unfair to allow an employer to
distribute a policy manual that makes the workforce believe that certain promises have been made and
then to allow the employer to renege on those promises. What is sought here is basic honesty: if the
employer, for whatever reason, does not want the manual to be capable of being construed by the court as
a binding contract, there are simple ways to attain that goal. All that need be done is the inclusion in a
very prominent position of an appropriate statement that there is no promise of any kind by the employer
contained in the manual; that regardless of what the manual says or provides, the employer promises
nothing and remains free to change wages and all other working conditions without having to consult
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anyone and without anyone’s agreement; and that the employer continues to have the absolute power to
fire anyone with or without good cause.
Reversed and remanded for trial.
C A S E Q U E S T I O N S
1. What did Woolley do to show his acceptance of the terms of employment offered to
him?
2. In part of the case not included here, the court notes that Mr. Woolley died “before oral
arguments on this case.” How can there be any damages if the plaintiff has died? Who
now has any case to pursue?
3. The court here is changing the law of employment in New Jersey. It is making case law,
and the rule here articulated governs similar future cases in New Jersey. Why did the
court make this change? Why is it relevant that the court says it would be easy for an
employer to avoid this problem?
8.5 Summary and Exercises
Summary
Contract law developed as the status-centered organization of feudal society faded and people began to
make choices about how they might order their lives. In the capitalistic system, people make choices about
how to interact with others, and—necessarily—those choices expressed as promises must be binding and
enforceable.
The two fundamental sources of contract law are (1) the common law as developed in the state courts and
as summarized in the Restatement (Second) of Contracts and (2) the Uniform Commercial Code for the
sale of goods. In general, the UCC is more liberal than the common law in upholding the existence of a
contract.
Types of contracts can be distinguished by four criteria: (1) express and implied, including quasi-contracts
implied by law; (2) bilateral and unilateral; (3) enforceable and unenforceable; and (4) completed
(executed) and uncompleted (executory). To understand contract law, it is necessary to master these
distinctions and their nuances.
E X E R C I S E S
1.
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a. Mr. and Mrs. Smith, an elderly couple, had no relatives. When Mrs. Smith became
ill, the Smiths asked a friend, Henrietta, to help with various housekeeping
chores, including cleaning and cooking. Although the Smiths never promised to
pay her, Henrietta performed the chores for eighteen months. Henrietta now
claims that she is entitled to the reasonable value of the services performed. Is
she correct? Explain.
b. Assume instead that the Smiths asked Mrs. Smith’s sister, Caroline, who lived
nearby, to help with the housekeeping. After eighteen months, Caroline claims
she is entitled to the reasonable value of the services performed. Is she correct?
Explain.
A letter from Bridge Builders Inc. to the Allied Steel Company stated, “We offer to
purchase 10,000 tons of No. 4 steel pipe at today’s quoted price for delivery two months
from today. Your acceptance must be received in five days.” Does Bridge Builders intend
to create a bilateral or a unilateral contract? Why?
Roscoe’s barber persuaded him to try a new hair cream called Sansfree, which the
barber applied to Roscoe’s hair and scalp. The next morning Roscoe had a very
unpleasant rash along his hairline. Upon investigation he discovered that the rash was
due to an improper chemical compound in Sansfree. If Roscoe filed a breach of contract
action against the barber, would the case be governed by the Uniform Commercial Code
or common law? Explain.
Rachel entered into a contract to purchase a 2004 Dodge from Hanna, who lived in
the neighboring apartment. When a dispute arose over the terms of the contract, Hanna
argued that, because neither she nor Rachel was a merchant, the dispute should be
decided under general principles of common law. Rachel, on the other hand, argued that
Hanna was legally considered to be a merchant because she sold the car for profit and
that, consequently, the sale was governed by the Uniform Commercial Code. Who is
correct? Explain.
Lee and Michelle decided to cohabit. When they set up house, Michelle gave up her
career, and Lee promised to share his earnings with her on a fifty-fifty basis. Several
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years later they ended their relationship, and when Lee failed to turn over half of his
earnings, Michelle filed suit on the basis of Lee’s promise. What kind of contract would
Michelle allege that Lee had breached? Explain.
Harry and Wilma were divorced in 2008, and Harry was ordered in the divorce
decree to pay his ex-wife $10,000. In 2009 and 2010 Harry was hospitalized, incurring
$3,000 in bills. He and Wilma discussed the matter, and Wilma agreed to pay the bill
with her own money, even though Harry still owed her $5,000 from the divorce decree.
When Harry died in late 2010, Wilma made a claim against his estate for $8,000 (the
$3,000 in medical bills and the $5,000 from the decree), but the estate was only willing
to pay the $5,000 from the decree, claiming she had paid the hospital bill voluntarily and
had no contract for repayment. Is the estate correct? Explain.
Louie, an adult, entered into a contract to sell a case of scotch whiskey to Leroy, a
minor. Is the contract void or voidable? Explain.
James Mann owned a manufacturing plant that assembled cell phones. A CPA audit determined
that several phones were missing. Theft by one or more of the workers was suspected.
Accordingly, under Mann’s instructions, the following sign was placed in the employees’ cafeteria:
Reward. We are missing phones. I want all employees to watch for thievery. A reward of $500 will
be paid for information given by any employee that leads to the apprehension of employee
thieves.
—James Mann
Waldo, a plant employee, read the notice and immediately called Mann, stating, “I accept your
offer. I promise to watch other employees and provide you with the requested information.” Has
a contract been formed? Explain.
Almost every day Sally took a break at lunch and went to the International News
Stand—a magazine store—to browse the newspapers and magazines and chat with the
owner, Conrad. Often she bought a magazine. One day she went there, browsed a bit,
and took a magazine off the rack. Conrad was busy with three customers. Sally waved
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the magazine at Conrad and left the store with it. What kind of a contract, if any, was
created?
Joan called Devon Sand & Gravel and ordered two “boxes” (dump-truck loads) of
gravel to be spread on her rural driveway by the “shoot and run” method: the tailgate is
partially opened, the dump-truck bed is lifted, and the truck moves down the driveway
spreading gravel as it goes. The driver mistakenly graveled the driveway of Joan’s
neighbor, Watson, instead of Joan’s. Is Devon entitled to payment by Watson? Explain.
S E L F – T E S T Q U E S T I O N S
1. An implied contract
a. must be in writing
b. is one in which the terms are spelled out
c. is one inferred from the actions of the parties
d. is imposed by law to avoid an unjust result
e. may be avoided by one party
The Convention on Contracts for the International Sale of Goods is
a. an annual meeting of international commercial purchasing agents.
b. contract law used in overseas US federal territories
c. a customary format or template for drafting contracts
d. a kind of treaty setting out international contract law, to which the United States
is a party
e. the organization that develops uniform international law
An unenforceable contract is
a. void, not a contract at all
b. one that a court will not enforce for either side because of a rule of law
c. unenforceable by one party but enforceable by the other
d. one that has been performed by one party but not the other
e. too indefinite to be valid
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Betty Baker found a bicycle apparently abandoned near her house. She took it home and spent
$150 repairing and painting it, after which Carl appeared and proved his ownership of it. Under
what theory is Betty able to get reimbursed for her expenditures?
a. express contract
b. implied contract
c. apparent or quasi-contract
d. executory contract
e. none: she will not get reimbursed
Alice discusses with her neighbor Bob her plan to hire Woodsman to cut three trees on her side
of their property line, mentioning that she can get a good deal because Woodsman is now
between jobs. Bob says, “Oh, don’t do that. My brother is going to cut some trees on my side, and
he can do yours too for free.” Alice agrees. But Bob’s brother is preoccupied and never does the
job. Three weeks later Alice discovers Woodsman’s rates have risen prohibitively. Under what
theory does Alice have a cause of action against Bob?
a. express contract
b. promissory estoppel
c. quasi-contract
d. implied contract
e. none: she has no cause of action against Bob
S E L F – T E S T A N S W E R S
1. c
2. d
3. c
4. c
5. b
Chapter 9
The Agreement
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L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. What a contract offer is, and what proposals are not offers
2. How an offer is communicated
3. How definite the offer needs to be
4. How long an offer is good for
5. How an offer is accepted, who can accept it, and when acceptance is effective
In this chapter, we begin the first of the four broad inquiries of contract law mentioned in Chapter 8 “Introduction to
Contract Law”: Did the parties create a valid contract? The answer is not always obvious; the range of factors that
must be taken into account can be large, and their relationships subtle. Since businesspeople frequently conduct
contract negotiations without the assistance of a lawyer, it is important to attend to the nuances in order to avoid legal
trouble at the outset. Whether a contract has been formed depends in turn on whether
1. the parties reached an agreement (the focus of this chapter);
2. consideration was present;
3. the agreement was legal; and
4. the parties entered into the contract of their own free will, with knowledge of the facts,
and with the capacity to make a contract.
Factors 2, 3, and 4 are the subjects of subsequent chapters.
9.1 The Agreement in General
L E A R N I N G O B J E C T I V E S
1. Recognize that not all agreements or promises are contracts.
2. Understand that whether a contract exists is based on an objective analysis of the
parties’ interaction, not on a subjective one.
The Significance of Agreement
The core of a legal contract is the agreement between the parties. This is not a necessary ingredient; in
Communist nations, contracts were (or are, in the few remaining Communist countries) routinely
negotiated between parties who had the terms imposed on them. But in the West, and especially in the
United States, agreement is of the essence. That is not merely a matter of convenience; it is at the heart of
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our philosophical and psychological beliefs. As the great student of contract law Samuel Williston put it,
“It was a consequence of the emphasis laid on the ego and the individual will that the formation of a
contract should seem impossible unless the wills of the parties concurred. Accordingly we find at the end
of the eighteenth century, and the beginning of the nineteenth century, the prevalent idea that there must
be a “meeting of the minds” (a new phrase) in order to form a contract.”
[1]
Although agreements may take any form, including unspoken conduct between the parties, they are
usually structured in terms of an offer and an acceptance.
[2]
These two components will be the focus of
our discussion. Note, however, that not every agreement, in the broadest sense of the word, need consist
of an offer and an acceptance, and that it is entirely possible, therefore, for two persons to reach
agreement without forming a contract. For example, people may agree that the weather is pleasant or that
it would be preferable to go out for Chinese food rather than to see a foreign film; in neither case has a
contract been formed. One of the major functions of the law of contracts is to sort out those agreements
that are legally binding—those that are contracts—from those that are not.
The Objective Test
In interpreting agreements, courts generally apply an objective standard (outwardly, as an observer would
interpret; not subjectively). The Restatement (Second) of Contracts defines agreement as a
“manifestation of mutual assent by two or more persons to one another.”
[3]
The Uniform Commercial
Code defines agreement as “the bargain of the parties in fact as found in their language or by implication
from other circumstances including course of dealing or usage of trade or course of performance.”
[4]
The
critical question is what the parties said or did, not what they thought they said or did, or not what
impression they thought they were making.
The distinction between objective and subjective standards crops up occasionally when one person claims
he spoke in jest. The vice president of a company that manufactured punchboards, used in gambling,
testified to the Washington State Game Commission that he would pay $100,000 to anyone who found a
“crooked board.” Barnes, a bartender, who had purchased two boards that were crooked some time
before, brought one to the company office and demanded payment. The company refused, claiming that
the statement was made in jest (the audience at the commission hearing had laughed when the offer was
made). The court disagreed, holding that it was reasonable to interpret the pledge of $100,000 as a means
of promoting punchboards:
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[I]f the jest is not apparent and a reasonable hearer would believe that an offer was being made, then the
speaker risks the formation of a contract which was not intended. It is the objective manifestations of the
offeror that count and not secret, unexpressed intentions. If a party’s words or acts, judged by a
reasonable standard, manifest an intention to agree in regard to the matter in question, that agreement is
established, and it is immaterial what may be the real but unexpressed state of the party’s mind on the
subject.
[5]
Lucy v. Zehmer (Section 9.4.1 “Objective Intention” at the end of the chapter) illustrates that a party’s real
state of mind must be expressed to the other party, rather than in an aside to one’s spouse.
K E Y T A K E A W A Y
Fundamentally, a contract is a legally binding “meeting of the minds” between the parties. It is not the
unexpressed intention in the minds of the parties that determines whether there was “a meeting.” The
test is objective: how would a reasonable person interpret the interaction?
E X E R C I S E S
1. For the purposes of determining whether a party had a contractual intention, why do
courts employ an objective rather than a subjective test?
2. What is the relationship between “the emphasis laid on the ego and the individual will”
in modern times (Williston) and the concept of the contractual agreement?
[1] Samuel Williston, “Freedom of Contract,” Cornell Law Quarterly 6 (1921), 365.
[2] Uniform Commercial Code, Section 2-204(1).
[3] Uniform Commercial Code, Section 3.
[4] Uniform Commercial Code, Section 1-201(3).
[5] Barnes v. Treece, 549 P.2d 1152 (Wash. App. 1976).
9.2 The Offer
L E A R N I N G O B J E C T I V E S
1. Know the definition of offer.
2. Recognize that some proposals are not offers.
3. Understand the three essentials of an offer: intent, communication, and definiteness.
4. Know when an offer expires and can no longer be accepted.
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Offer and acceptance may seem to be straightforward concepts, as they are when two people meet face-to-
face. But in a commercial society, the ways of making offers and accepting them are nearly infinite. A
retail store advertises its merchandise in the newspaper. A seller makes his offer by mail or over the
Internet. A telephone caller states that his offer will stand for ten days. An offer leaves open a crucial term.
An auctioneer seeks bids. An offeror gives the offeree a choice. All these situations can raise tricky
questions, as can corresponding situations involving acceptances.
The Definition of Offer
The Restatement defines offer as “the manifestation of willingness to enter into a bargain, so made as to
justify another person in understanding that his assent to that bargain is invited and will conclude
it.”
[1]
Two key elements are implicit in that definition: the offer must be communicated, and it must be
definite. Before considering these requirements, we examine the threshold question of whether an offer
was intended. Let us look at proposals that may look like, but are not, offers.
Proposals That Are Not Offers
Advertisements
Most advertisements, price quotations, and invitations to bid are not construed as offers. A notice in the
newspaper that a bicycle is on sale for $800 is normally intended only as an invitation to the public to
come to the store to make a purchase. Similarly, a statement that a seller can “quote” a unit price to a
prospective purchaser is not, by itself, of sufficient definiteness to constitute an offer; quantity, time of
delivery, and other important factors are missing from such a statement. Frequently, in order to avoid
construction of a statement about price and quantity as an offer, a seller or buyer may say, “Make me an
offer.” Such a statement obviously suggests that no offer has yet been made. This principle usually applies
to invitations for bids (e.g., from contractors on a building project). Many forms used by sales
representatives as contracts indicate that by signing, the customer is making an offer to be accepted by the
home office and is not accepting an offer made by the sales representative.
Although advertisements, price quotations, and the like are generally not offers, the facts in each case are
important. Under the proper circumstances, an advertised statement can be construed as an offer, as
shown in the well-known Lefkowitz case (Section 9.4.2 “Advertisements as Offers” at the end of the
chapter), in which the offended customer acted as his own lawyer and pursued an appeal to the Minnesota
Supreme Court against a Minneapolis department store that took back its advertised offer.
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Despite the common-law rule that advertisements are normally to be considered invitations rather than
offers, legislation and government regulations may offer redress. For many years, retail food stores have
been subject to a rule, promulgated by the Federal Trade Commission (FTC), that goods advertised as
“specials” must be available and must be sold at the price advertised. It is unlawful for a retail chain not to
have an advertised item in each of its stores and in sufficient quantity, unless the advertisement
specifically states how much is stocked and which branch stores do not carry it. Many states have enacted
consumer protection statutes that parallel the FTC rule.
Invitations to Bid
Invitations to bid are also not generally construed as offers. An auctioneer does not make offers but
solicits offers from the crowd: “May I have an offer?—$500? $450? $450! I have an offer for $450. Do I
hear $475? May I have an offer?”
Communication
A contract is an agreement in which each party assents to the terms of the other party. Without mutual
assent there cannot be a contract, and this implies that the assent each person gives must be with
reference to that of the other. If Toni places several alternative offers on the table, only one of which can
be accepted, and invites Sandy to choose, no contract is formed if Sandy says merely, “I accept your
terms.” Sandy must specify which offer she is assenting to.
From this general proposition, it follows that no contract can be legally binding unless an offer is in fact
communicated to the offeree. If you write an e-mail to a friend with an offer to sell your car for a certain
sum and then get distracted and forget to send it, no offer has been made. If your friend coincidentally e-
mails you the following day and says that she wants to buy your car and names the same sum, no contract
has been made. Her e-mail to you is not an acceptance, since she did not know of your offer; it is, instead,
an offer or an invitation to make an offer. Nor would there have been a contract if you had sent your
communication and the two e-mails crossed in cyberspace. Both e-mails would be offers, and for a valid
contract to be formed, it would still be necessary for one of you to accept the other’s offer. An offer is not
effective until it is received by the offeree (and that’s also true of a revocation of the offer, and a rejection
of the offer by the offeree).
The requirement that an offer be communicated does not mean that every term must be communicated.
You call up your friend and offer to sell him your car. You tell him the price and start to tell him that you
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will throw in the snow tires but will not pay for a new inspection, and that you expect to keep the car
another three weeks. Impatiently, he cuts you off and says, “Never mind about all that; I’ll accept your
offer on whatever terms you want.” You and he have a contract.
These principles apply to unknown offers of reward. An offer of a reward constitutes a unilateral contract
that can be made binding only by performing the task for which the reward is offered. Suppose that
Bonnie posts on a tree a sign offering a reward for returning her missing dog. If you saw the sign, found
the dog, and returned it, you would have fulfilled the essentials of the offer. But if you chanced upon the
dog, read the tag around its neck, and returned it without ever having been aware that a reward was
offered, then you have not responded to the offer, even if you acted in the hope that the owner would
reward you. There is no contractual obligation.
In many states, a different result follows from an offer of a reward by a governmental entity. Commonly,
local ordinances provide that a standing reward of, say, $1,000 will be paid to anyone providing
information that leads to the arrest and conviction of arsonists. To collect the reward, it is not necessary
for a person who does furnish local authorities with such information to know that a reward ordinance
exists. In contract terms, the standing reward is viewed as a means of setting a climate in which people
will be encouraged to act in certain ways in the expectation that they will earn unknown rewards. It is also
possible to view the claim to a reward as noncontractual; the right to receive it is guaranteed, instead, by
the local ordinance.
Although a completed act called for by an unknown private offer does not give rise to a contract, partial
performance usually does. Suppose Apex Bakery posts a notice offering a one-week bonus to all bakers
who work at least six months in the kitchen. Charlene works two months before discovering the notice on
the bulletin board. Her original ignorance of the offer will not defeat her claim to the bonus if she
continues working, for the offer serves as an inducement to complete the performance called for.
Definiteness
The common law reasonably requires that an offer spell out the essential proposed terms with
sufficient definiteness—certainty of terms that enables a court to order enforcement or measure damages
in the event of a breach. As it has often been put, “The law does not make contracts for the parties; it
merely enforces the duties which they have undertaken” (Simpson, 1965, p. 19). Thus a supposed promise
to sell “such coal as the promisor may wish to sell” is not an enforceable term because the seller, the coal
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company, undertakes no duty to sell anything unless it wishes to do so. Essential terms certainly include
price and the work to be done. But not every omission is fatal; for example, as long as a missing term can
be fixed by referring to some external standard—such as “no later than the first frost”—the offer is
sufficiently definite.
In major business transactions involving extensive negotiations, the parties often sign a preliminary
“agreement in principle” before a detailed contract is drafted. These preliminary agreements may be
definite enough to create contract liability even though they lack many of the terms found in a typical
contract. For example, in a famous 1985 case, a Texas jury concluded that an agreement made “in
principle” between the Pennzoil Company and the Getty Oil Company and not entirely finished was
binding and that Texaco had unlawfully interfered with their contract. As a result, Texaco was held liable
for over $10 billion, which was settled for $3 billion after Texaco went into bankruptcy.
Offers that state alternatives are definitive if each alternative is definite. David offers Sheila the
opportunity to buy one of two automobiles at a fixed price, with delivery in two months and the choice of
vehicle left to David. Sheila accepts. The contract is valid. If one of the cars is destroyed in the interval
before delivery, David is obligated to deliver the other car. Sometimes, however, what appears to be an
offer in the alternative may be something else. Charles makes a deal to sell his business to Bernie. As part
of the bargain, Charles agrees not to compete with Bernie for the next two years, and if he does, to pay
$25,000. Whether this is an alternative contract depends on the circumstances and intentions of the
parties. If it is, then Charles is free to compete as long as he pays Bernie $25,000. On the other hand, the
intention might have been to prevent Charles from competing in any event; hence a court could order
payment of the $25,000 as damages for a breach and still order Charles to refrain from competition until
the expiration of the two-year period.
The UCC Approach
The Uniform Commercial Code (UCC) is generally more liberal in its approach to definiteness than is the
common law—at least as the common law was interpreted in the heyday of classical contract doctrine.
Section 2-204(3) states the rule: “Even though one or more terms are left open, a contract for sale does
not fail for indefiniteness if the parties have intended to make a contract and there is a reasonably certain
basis for giving an appropriate remedy.”
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The drafters of the UCC sought to give validity to as many contracts as possible and grounded that validity
on the intention of the parties rather than on formalistic requirements. As the official comment to Section
2-204(3) notes, “If the parties intend to enter into a binding agreement, this subsection recognizes that
agreement as valid in law, despite missing terms, if there is any reasonably certain basis for granting a
remedy.…Commercial standards on the point of ‘indefiniteness’ are intended to be applied.” Other
sections of the UCC spell out rules for filling in such open provisions as price, performance, and
remedies.
[2]
One of these sections, Section 2-306(1), provides that a contract term under which a buyer agrees to
purchase the seller’s entire output of goods (an “outputs contract”) or a seller agrees to meet all the
buyer’s requirements (a “requirements” or “needs” contract) means output or requirements that occur in
good faith. A party to such a contract cannot offer or demand a quantity that is “unreasonably
disproportionate” to a stated estimate or past quantities.
Duration of Offer
An offer need not be accepted on the spot. Because there are numerous ways of conveying an offer and
numerous contingencies that may be part of the offer’s subject matter, the offeror might find it necessary
to give the offeree considerable time to accept or reject the offer. By the same token, an offer cannot
remain open forever, so that once given, it never lapses and cannot be terminated. The law recognizes
seven ways by which the offer can expire (besides acceptance, of course): revocation, rejection by the
offeree, counteroffer, acceptance with counteroffer, lapse of time, death or insanity of a person or
destruction of an essential term, and illegality. We will examine each of these in turn.
Revocation
People are free to make contracts and, in general, to revoke them.
Revocability
The general rule, both in common law and under the UCC, is that the offeror may revoke his or her offer
at any time before acceptance, even if the offer states that it will remain open for a specified period of
time. Neil offers Arlene his car for $5,000 and promises to keep the offer open for ten days. Two days
later, Neil calls Arlene to revoke the offer. The offer is terminated, and Arlene’s acceptance thereafter,
though within the ten days, is ineffective. But if Neil had sent his revocation (the taking back of an offer
before it is accepted) by mail, and if Arlene, before she received it, had telephoned her acceptance, there
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would be a contract, since revocation is effective only when the offeree actually receives it. There is an
exception to this rule for offers made to the public through newspaper or like advertisements. The offeror
may revoke a public offering by notifying the public by the same means used to communicate the offer. If
no better means of notification is reasonably available, the offer is terminated even if a particular offeree
had no actual notice.
Revocation may be communicated indirectly. If Arlene had learned from a friend that Neil had sold his car
to someone else during the ten-day period, she would have had sufficient notice. Any attempt to accept
Neil’s offer would have been futile.
Irrevocable Offers
Not every type of offer is revocable. One type of offer that cannot be revoked is theoption contract (the
promisor explicitly agrees for consideration to limit his right to revoke). Arlene tells Neil that she cannot
make up her mind in ten days but that she will pay him $25 to hold the offer open for thirty days. Neil
agrees. Arlene has an option to buy the car for $5,000; if Neil should sell it to someone else during the
thirty days, he will have breached the contract with Arlene. Note that the transactions involving Neil and
Arlene consist of two different contracts. One is the promise of a thirty-day option for the promise of $25.
It is this contract that makes the option binding and is independent of the original offer to sell the car for
$5,000. The offer can be accepted and made part of an independent contract during the option period.
Partial performance of a unilateral contract creates an option. Although the option is not stated explicitly,
it is recognized by law in the interests of justice. Otherwise, an offeror could induce the offeree to go to
expense and trouble without ever being liable to fulfill his or her part of the bargain. Before the offeree
begins to carry out the contract, the offeror is free to revoke the offer. But once performance begins, the
law implies an option, allowing the offeree to complete performance according to the terms of the offer. If,
after a reasonable time, the offeree does not fulfill the terms of the offer, then it may be revoked.
Revocability under the UCC
The UCC changes the common-law rule for offers by merchants. Under Section 2-205, a firm offer (a
written and signed promise by a merchant to hold an offer to buy or sell goods for some period of time) is
irrevocable. That is, an option is created, but no consideration is required. The offer must remain open for
the time period stated or, if no time period is given, for a reasonable period of time, which may not exceed
three months.
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Irrevocability by Law
By law, certain types of offers may not be revoked (statutory irrevocability), despite the absence of
language to that effect in the offer itself. One major category of such offers is that of the contractor
submitting a bid to a public agency. The general rule is that once the period of bidding opens, a bidder on
a public contract may not withdraw his or her bid unless the contracting authority consents. The
contractor who purports to withdraw is awarded the contract based on the original bid and may be sued
for damages for nonperformance.
Rejection by the Offeree
Rejection (a manifestation of refusal to agree to the terms of an offer) of the offer is effective when the
offeror receives it. A subsequent change of mind by the offeree cannot revive the offer. Donna calls Chuck
to reject Chuck’s offer to sell his lawn mower. Chuck is then free to sell it to someone else. If Donna
changes her mind and calls Chuck back to accept after all, there still is no contract, even if Chuck has
made no further effort to sell the lawn mower. Having rejected the original offer, Donna, by her second
call, is not accepting but making an offer to buy. Suppose Donna had written Chuck to reject, but on
changing her mind, decided to call to accept before the rejection letter arrived. In that case, the offer
would have been accepted.
Counteroffer
A counteroffer, a response that varies the terms of an offer, is a rejection. Jones offers Smith a small
parcel of land for $10,000 and says the offer will remain open for one month. Smith responds ten days
later, saying he will pay $5,000. Jones’s original offer has thereby been rejected. If Jones now declines
Smith’s counteroffer, may Smith bind Jones to his original offer by agreeing to pay the full $10,000? He
may not, because once an original offer is rejected, all the terms lapse. However, an inquiry by Smith as to
whether Jones would consider taking less is not a counteroffer and would not terminate the offer.
Acceptance with Counteroffer
This is not really an acceptance at all but is a counteroffer: an acceptance that changes the terms of the
offer is a counteroffer and terminates the offer. The common law imposes a mirror image rule: the
acceptance must match the offer in all its particulars or the offer is rejected. However, if an acceptance
that requests a change or an addition to the offer does not require the offeror’s assent, then the acceptance
is valid. The broker at Friendly Real Estate offers you a house for $320,000. You accept but include in
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your acceptance “the vacant lot next door.” Your acceptance is a counteroffer, which serves to terminate
the original offer. If, instead, you had said, “It’s a deal, but I’d prefer it with the vacant lot next door,” then
there is a contract because you are not demanding that the broker abide by your request. If you had said,
“It’s a deal, and I’d also like the vacant lot next door,” you have a contract, because the request for the lot
is a separate offer, not a counteroffer rejecting the original proposal.
The UCC and Counteroffers
The UCC is more liberal than the common law in allowing contracts to be formed despite counteroffers
and in incorporating the counteroffers into the contracts. This UCC provision is necessary because the use
of routine forms for contracts is very common, and if the rule were otherwise, much valuable time would
be wasted by drafting clauses tailored to the precise wording of the routine printed forms. A buyer and a
seller send out documents accompanying or incorporating their offers and acceptances, and the
provisions in each document rarely correspond precisely. Indeed, it is often the case that one side’s form
contains terms favorable to it but inconsistent with terms on the other side’s form. Section 2-207 of the
UCC attempts to resolve this “battle of the forms” by providing that additional terms or conditions in an
acceptance operate as such unless the acceptance is conditioned on the offeror’s consent to the new or
different terms. The new terms are construed as offers but are automatically incorporated in any contract
between merchants for the sale of goods unless “(a) the offer expressly limits acceptance to the terms of
the offer; (b) [the terms] materially alter it; or (c) notification of objection to them has already been given
or is given within a reasonable time after notice of them is received.”
An example of terms that become part of the contract without being expressly agreed to are clauses
providing for interest payments on overdue bills. Examples of terms that would materially alter the
contract and hence need express approval are clauses that negate the standard warranties that sellers give
buyers on their merchandise.
Frequently, parties use contract provisions to prevent the automatic introduction of new terms. A typical
seller’s provision is as follows:
Amendments
Any modification of this document by the Buyer, and all additional or different terms included in Buyer’s
purchase order or any other document responding to this offer, are hereby objected to. BY ORDERING
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THE GOODS HERE FOR SHIPMENT, BUYER AGREES TO ALL THE TERMS AND CONDITIONS
CONTAINED ON BOTH SIDES OF THIS DOCUMENT.
Section 2-207 of the UCC, liberalizing the mirror image rule, is pervasive, covering all sorts of contracts,
from those between industrial manufacturers to those between friends.
Lapse of Time
Offers are not open-ended; they lapse after some period of time. An offer may contain its own specific
time limitation—for example, “until close of business today.”
In the absence of an expressly stated time limit, the common-law rule is that the offer expires at the end of
a “reasonable” time. Such a period is a factual question in each case and depends on the particular
circumstances, including the nature of the service or property being contracted for, the manner in which
the offer is made, and the means by which the acceptance is expected to be made. Whenever the contract
involves a speculative transaction—the sale of securities or land, for instance—the time period will depend
on the nature of the security and the risk involved. In general, the greater the risk to the seller, the shorter
the period of time. Karen offers to sell Gary a block of oil stocks that are fluctuating rapidly hour by hour.
Gary receives the offer an hour before the market closes; he accepts by fax two hours after the market has
opened the next morning and after learning that the stock has jumped up significantly. The time period
has lapsed if Gary was accepting a fixed price that Karen set, but it may still be open if the price is market
price at time of delivery. (Under Section 41 of the Restatement, an offer made by mail is “seasonably
accepted if an acceptance is mailed at any time before midnight on the day on which the offer is
received.”)
For unilateral contracts, both the common law and the UCC require the offeree to notify the offeror that
he has begun to perform the terms of the contract. Without notification, the offeror may, after a
reasonable time, treat the offer as having lapsed.
Death or Insanity of the Offeror
The death or insanity of the offeror prior to acceptance terminates the offer; the offer is said to die with
the offeror. (Notice, however, that the death of a party to a contractdoes not necessarily terminate the
contract: the estate of a deceased person may be liable on a contract made by the person before death.)
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Destruction of Subject Matter Essential to the Offer
Destruction of something essential to the contract also terminates the offer. You offer to sell your car, but
the car is destroyed in an accident before your offer is accepted; the offer is terminated.
Postoffer Illegality
A statute making unlawful the object of the contract will terminate the offer if the statute takes effect after
the offer was made. Thus an offer to sell a quantity of herbal weight-loss supplements will terminate if the
Food and Drug Administration outlaws the sale of such supplements.
K E Y T A K E A W A Y
An offer is a manifestation of willingness to enter into a contract, effective when received. It must be
communicated to the offeree, be made intentionally (according to an objective standard), and be definite
enough to determine a remedy in case of breach. An offer terminates in one of seven ways: revocation
before acceptance (except for option contracts, firm offers under the UCC, statutory irrevocability, and
unilateral offers where an offeree has commenced performance); rejection; counteroffer; acceptance with
counteroffer; lapse of time (as stipulated or after a reasonable time); death or insanity of the offeror
before acceptance or destruction of subject matter essential to the offer; and postoffer illegality.
E X E R C I S E S
1. Why is it said an offer is a “manifestation” of willingness to enter into a contract? How
could willingness be “manifested”?
2. Which kind of standard is used to determine whether a person has made an offer—
subjective or objective?
3. If Sandra posts a written notice offering “to the kitchen staff at Coldwater Bay (Alaska)
transportation to Seattle at the end of the fishing season,” and if David, one of the
maintenance workers, says to her, “I accept your offer of transportation to Seattle,” is
there a contract?
4. What are the seven ways an offer can terminate?
[1] Restatement (Second) of Contracts, Section 24.
[2] Chiefly, Uniform Commercial Code, Sections 2-305 through 2-310.
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9.3 The Acceptance
L E A R N I N G O B J E C T I V E S
1. Define acceptance.
2. Understand who may accept an offer.
3. Know when the acceptance is effective.
4. Recognize when silence is acceptance.
General Definition of Acceptance
To result in a legally binding contract, an offer must be accepted by the offeree. Just as the law helps
define and shape an offer and its duration, so the law governs the nature and manner of acceptance. The
Restatement defines acceptance of an offer as “a manifestation of assent to the terms thereof made by the
offeree in a manner invited or required by the offer.”
[1]
The assent may be either by the making of a mutual
promise or by performance or partial performance. If there is doubt about whether the offer requests a
return promise or a return act, the Restatement, Section 32, provides that the offeree may accept with
either a promise or performance. The Uniform Commercial Code (UCC) also adopts this view; under
Section 2-206(1)(a), “an offer to make a contract shall be construed as inviting acceptance in any manner
and by any medium reasonable in the circumstances” unless the offer unambiguously requires a certain
mode of acceptance.
Who May Accept?
The identity of the offeree is usually clear, even if the name is unknown. The person to whom a promise is
made is ordinarily the person whom the offeror contemplates will make a return promise or perform the
act requested. But this is not invariably so. A promise can be made to one person who is not expected to
do anything in return. The consideration necessary to weld the offer and acceptance into a legal contract
can be given by a third party. Under the common law, whoever is invited to furnish consideration to the
offeror is the offeree, and only an offeree may accept an offer. A common example is sale to a minor.
George promises to sell his automobile to Bartley, age seventeen, if Bartley’s father will promise to pay
$3,500 to George. Bartley is the promisee (the person to whom the promise is made) but not the offeree;
Bartley cannot legally accept George’s offer. Only Bartley’s father, who is called on to pay for the car, can
accept, by making the promise requested. And notice what might seem obvious: apromise to perform as
requested in the offer is itself a binding acceptance.
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When Is Acceptance Effective?
As noted previously, an offer, a revocation of the offer, and a rejection of the offer are not effective until
received. The same rule does not always apply to the acceptance.
Instantaneous Communication
Of course, in many instances the moment of acceptance is not in question: in face-to-face deals or
transactions negotiated by telephone, the parties extend an offer and accept it instantaneously during the
course of the conversation. But problems can arise in contracts negotiated through correspondence.
Stipulations as to Acceptance
One common situation arises when the offeror stipulates the mode of acceptance (e.g., return mail, fax, or
carrier pigeon). If the offeree uses the stipulated mode, then the acceptance is deemed effective when sent.
Even though the offeror has no knowledge of the acceptance at that moment, the contract has been
formed. Moreover, according to the Restatement, Section 60, if the offeror says that the offer can be
accepted only by the specified mode, that mode must be used. (It is said that “the offeror is the master of
the offer.”)
If the offeror specifies no particular mode, then acceptance is effective when transmitted, as long as the
offeree uses a reasonable method of acceptance. It is implied that the offeree can use the same means used
by the offeror or a means of communication customary to the industry.
The “Mailbox Rule”
The use of the postal service is customary, so acceptances are considered effective when mailed,
regardless of the method used to transmit the offer. Indeed, the so-calledmailbox rule has a lineage
tracing back more than one hundred years to the English courts.
[2]
The mailbox rule may seem to create particular difficulties for people in business, since the acceptance is
effective even though the offeror is unaware of the acceptance, and even if the letter is lost and never
arrives. But the solution is the same as the rationale for the rule. In contracts negotiated through
correspondence, there will always be a burden on one of the parties. If the rule were that the acceptance is
not effective until received by the offeror, then the offeree would be on tenterhooks, rather than the other
way around, as is the case with the present rule. As between the two, it seems fairer to place the burden on
the offeror, since he or she alone has the power to fix the moment of effectiveness. All the offeror need do
is specify in the offer that acceptance is not effective until received.
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In all other cases—that is, when the offeror fails to specify the mode of acceptance and the offeree uses a
mode that is not reasonable—acceptance is deemed effective only when received.
Acceptance “Outruns” Rejection
When the offeree sends a rejection first and then later transmits a superseding acceptance, the “effective
when received” rule also applies. Suppose a seller offers a buyer two cords of firewood and says the offer
will remain open for a week. On the third day, the buyer writes the seller, rejecting the offer. The following
evening, the buyer rethinks his firewood needs, and on the morning of the fifth day, he sends an e-mail
accepting the seller’s terms. The previously mailed letter arrives the following day. Since the letter had not
yet been received, the offer had not been rejected. For there to be a valid contract, the e-mailed acceptance
must arrive before the mailed rejection. If the e-mail were hung up in cyberspace, although through no
fault of the buyer, so that the letter arrived first, the seller would be correct in assuming the offer was
terminated—even if the e-mail arrived a minute later. In short, where “the acceptance outruns the
rejection” the acceptance is effective. See Figure 9.1.
Figure 9.1
When Is Communication Effective?
Electronic Communications
Electronic communications have, of course, become increasingly common. Many contracts are negotiated
by e-mail, accepted and “signed” electronically. Generally speaking, this does not change the rules.
TheUniform Electronic Transactions Act (UETA) was promulgated (i.e., disseminated for states to adopt)
in 1999. It is one of a number of uniform acts, like the Uniform Commercial Code. As of June 2010, forty-
seven states and the US Virgin Islands had adopted the statute. The introduction to the act provides that
“the purpose of the UETA is to remove barriers to electronic commerce by validating and effectuating
electronic records and signatures.”
[3]
In general, the UETA provides the following:
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a. A record or signature may not be denied legal effect or enforceability solely
because it is in electronic form.
b. A contract may not be denied legal effect or enforceability solely because an electronic
record was used in its formation.
c. If a law requires a record to be in writing, an electronic record satisfies the law.
d. If a law requires a signature, an electronic signature satisfies the law.
The UETA, though, doesn’t address all the problems with electronic contracting. Clicking on a computer
screen may constitute a valid acceptance of a contractual offer, but only if the offer is clearly
communicated. In Specht v. Netscape Communications Corp., customers who had downloaded a free
online computer program complained that it effectively invaded their privacy by inserting into their
machines “cookies”; they wanted to sue, but the defendant said they were bound to arbitration.
[4]
They
had clicked on the Download button, but hidden below it were the licensing terms, including the
arbitration clause. The federal court of appeals held that there was no valid acceptance. The court said,
“We agree with the district court that a reasonably prudent Internet user in circumstances such as these
would not have known or learned of the existence of the license terms before responding to defendants’
invitation to download the free software, and that defendants therefore did not provide reasonable notice
of the license terms. In consequence, the plaintiffs’ bare act of downloading the software did not
unambiguously manifest assent to the arbitration provision contained in the license terms.”
If a faxed document is sent but for some reason not received or not noticed, the emerging law is that the
mailbox rule does not apply. A court would examine the circumstances with care to determine the reason
for the nonreceipt or for the offeror’s failure to notice its receipt. A person has to have fair notice that his
or her offer has been accepted, and modern communication makes the old-fashioned mailbox rule—that
acceptance is effective upon dispatch—problematic.
[5]
Silence as Acceptance
General Rule: Silence Is Not Acceptance
Ordinarily, for there to be a contract, the offeree must make some positive manifestation of assent to the
offeror’s terms. The offeror cannot usually word his offer in such a way that the offeree’s failure to
respond can be construed as an acceptance.
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Exceptions
The Restatement, Section 69, gives three situations, however, in which silence can operate as an
acceptance. The first occurs when the offeree avails himself of services proffered by the offeror, even
though he could have rejected them and had reason to know that the offeror offered them expecting
compensation. The second situation occurs when the offer states that the offeree may accept without
responding and the offeree, remaining silent, intends to accept. The third situation is that of previous
dealings, in which only if the offeree intends not to accept is it reasonable to expect him to say so.
As an example of the first type of acceptance by silence, assume that a carpenter happens by your house
and sees a collapsing porch. He spots you in the front yard and points out the deterioration. “I’m a
professional carpenter,” he says, “and between jobs. I can fix that porch for you. Somebody ought to.” You
say nothing. He goes to work. There is an implied contract, with the work to be done for the carpenter’s
usual fee.
To illustrate the second situation, suppose that a friend has left her car in your garage. The friend sends
you a letter in which she offers you the car for $4,000 and adds, “If I don’t hear from you, I will assume
that you have accepted my offer.” If you make no reply, with the intention of accepting the offer, a
contract has been formed.
The third situation is illustrated by Section 9.4.3 “Silence as Acceptance”, a well-known decision made by
Justice Oliver Wendell Holmes Jr. when he was sitting on the Supreme Court of Massachusetts.
K E Y T A K E A W A Y
Without an acceptance of an offer, no contract exists, and once an acceptance is made, a contract is
formed. If the offeror stipulates how the offer should be accepted, so be it. If there is no stipulation, any
reasonable means of communication is good. Offers and revocations are usually effective upon receipt,
while an acceptance is effective on dispatch. The advent of electronic contracting has caused some
modification of the rules: courts are likely to investigate the facts surrounding the exchange of offer and
acceptance more carefully than previously. But the nuances arising because of the mailbox rule and
acceptance by silence still require close attention to the facts.
E X E R C I S E S
1. Rudy puts this poster, with a photo of his dog, on utility poles around his neighborhood:
“$50 reward for the return of my lost dog.” Carlene doesn’t see the poster, but she finds
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the dog and, after looking at the tag on its collar, returns the dog to Rudy. As she leaves
his house, her eye falls on one of the posters, but Rudy declines to pay her anything.
Why is Rudy correct that Carlene has no legal right to the reward?
2. How has the UCC changed the common law’s mirror image rule, and why?
3. When is an offer generally said to be effective? A rejection of an offer? A counteroffer?
4. How have modern electronic communications affected the law of offer and acceptance?
5. When is silence considered an acceptance?
[1] Restatement (Second) of Contracts, Section 24.
[2] Adams v. Lindsell, 1 Barnewall & Alderson 681 (K.B. 1818).
[3] The National Conference of Commissioners on Uniform State Laws, Uniform Electronic Transactions Act
(1999) (Denver: National Conference of Commissioners on Uniform State Laws, 1999), accessed March 29,
2011,http://www.law.upenn.edu/bll/archives/ulc/fnact99/1990s/ueta99 .
[4] Specht v. Netscape Communications Corp., 306 F.3d 17 (2d Cir. 2002).
[5] See, for example, Clow Water Systems Co. v. National Labor Relations Board, 92 F.3d 441 (6th Cir. 1996).
9.4 Cases
Objective Intention
Lucy v. Zehmer
84 S.E.2d 516 (Va. 1954)
Buchanan, J.
This suit was instituted by W. O. Lucy and J. C. Lucy, complainants, against A. H. Zehmer and Ida S.
Zehmer, his wife, defendants, to have specific performance of a contract by which it was alleged the
Zehmers had sold to W. O. Lucy a tract of land owned by A. H. Zehmer in Dinwiddie county containing
471.6 acres, more or less, known as the Ferguson farm, for $50,000. J. C. Lucy, the other complainant, is
a brother of W. O. Lucy, to whom W. O. Lucy transferred a half interest in his alleged purchase.
The instrument sought to be enforced was written by A. H. Zehmer on December 20, 1952, in these words:
“We hereby agree to sell to W. O. Lucy the Ferguson farm complete for $50,000.00, title satisfactory to
buyer,” and signed by the defendants, A. H. Zehmer and Ida S. Zehmer.
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The answer of A. H. Zehmer admitted that at the time mentioned W. O. Lucy offered him $50,000 cash
for the farm, but that he, Zehmer, considered that the offer was made in jest; that so thinking, and both he
and Lucy having had several drinks, he wrote out “the memorandum” quoted above and induced his wife
to sign it; that he did not deliver the memorandum to Lucy, but that Lucy picked it up, read it, put it in his
pocket, attempted to offer Zehmer $5 to bind the bargain, which Zehmer refused to accept, and realizing
for the first time that Lucy was serious, Zehmer assured him that he had no intention of selling the farm
and that the whole matter was a joke. Lucy left the premises insisting that he had purchased the farm.…
In his testimony Zehmer claimed that he “was high as a Georgia pine,” and that the transaction “was just a
bunch of two doggoned drunks bluffing to see who could talk the biggest and say the most.” That claim is
inconsistent with his attempt to testify in great detail as to what was said and what was done.…
If it be assumed, contrary to what we think the evidence shows, that Zehmer was jesting about selling his
farm to Lucy and that the transaction was intended by him to be a joke, nevertheless the evidence shows
that Lucy did not so understand it but considered it to be a serious business transaction and the contract
to be binding on the Zehmers as well as on himself. The very next day he arranged with his brother to put
up half the money and take a half interest in the land. The day after that he employed an attorney to
examine the title. The next night, Tuesday, he was back at Zehmer’s place and there Zehmer told him for
the first time, Lucy said, that he wasn’t going to sell and he told Zehmer, “You know you sold that place
fair and square.” After receiving the report from his attorney that the title was good he wrote to Zehmer
that he was ready to close the deal.
Not only did Lucy actually believe, but the evidence shows he was warranted in believing, that the contract
represented a serious business transaction and a good faith sale and purchase of the farm.
In the field of contracts, as generally elsewhere, “We must look to the outward expression of a person as
manifesting his intention rather than to his secret and unexpressed intention. The law imputes to a person
an intention corresponding to the reasonable meaning of his words and acts.”
At no time prior to the execution of the contract had Zehmer indicated to Lucy by word or act that he was
not in earnest about selling the farm. They had argued about it and discussed its terms, as Zehmer
admitted, for a long time. Lucy testified that if there was any jesting it was about paying $50,000 that
night. The contract and the evidence show that he was not expected to pay the money that night. Zehmer
said that after the writing was signed he laid it down on the counter in front of Lucy. Lucy said Zehmer
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handed it to him. In any event there had been what appeared to be a good faith offer and a good faith
acceptance, followed by the execution and apparent delivery of a written contract. Both said that Lucy put
the writing in his pocket and then offered Zehmer $5 to seal the bargain. Not until then, even under the
defendants’ evidence, was anything said or done to indicate that the matter was a joke. Both of the
Zehmers testified that when Zehmer asked his wife to sign he whispered that it was a joke so Lucy
wouldn’t hear and that it was not intended that he should hear.
The mental assent of the parties is not requisite for the formation of a contract. If the words or other acts
of one of the parties have but one reasonable meaning, his undisclosed intention is immaterial except
when an unreasonable meaning which he attaches to his manifestations is known to the other party.
“* * * The law, therefore, judges of an agreement between two persons exclusively from those expressions
of their intentions which are communicated between them. * * *.” [Citation]
An agreement or mutual assent is of course essential to a valid contract but the law imputes to a person an
intention corresponding to the reasonable meaning of his words and acts. If his words and acts, judged by
a reasonable standard, manifest an intention to agree, it is immaterial what may be the real but
unexpressed state of his mind.
So a person cannot set up that he was merely jesting when his conduct and words would warrant a
reasonable person in believing that he intended a real agreement.
Whether the writing signed by the defendants and now sought to be enforced by the complainants was the
result of a serious offer by Lucy and a serious acceptance by the defendants, or was a serious offer by Lucy
and an acceptance in secret jest by the defendants, in either event it constituted a binding contract of sale
between the parties.…
Reversed and remanded.
C A S E Q U E S T I O N S
1. What objective evidence was there to support the defendants’ contention that they
were just kidding when they agreed to sell the farm?
2. Suppose the defendants really did think the whole thing was a kind of joke. Would that
make any difference?
3. As a matter of public policy, why does the law use an objective standard to determine
the seriousness of intention, instead of a subjective standard?
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4. It’s 85 degrees in July and 5:00 p.m., quitting time. The battery in Mary’s car is out of
juice, again. Mary says, “Arrgh! I will sell this stupid car for $50!” Jason, walking to his car
nearby, whips out his checkbook and says, “It’s a deal. Leave your car here. I’ll give you a
ride home and pick up your car after you give me the title.” Do the parties have a
contract?
Advertisements as Offers
Lefkowitz v. Great Minneapolis Surplus Store
86 N.W.2d 689 (Minn. 1957)
Murphy, Justice.
This is an appeal from an order of the Municipal Court of Minneapolis denying the motion of the
defendant for amended findings of fact, or, in the alternative, for a new trial. The order for judgment
awarded the plaintiff the sum of $138.50 as damages for breach of contract.
This case grows out of the alleged refusal of the defendant to sell to the plaintiff a certain fur piece which it
had offered for sale in a newspaper advertisement. It appears from the record that on April 6, 1956, the
defendant published the following advertisement in a Minneapolis newspaper:
Saturday 9 A.M. Sharp
3 Brand New Fur Coats Worth to $100.00
First Come
First Served
$1 Each
[The $100 coat would be worth about $800 in 2010 dollars.] On April 13, the defendant again published
an advertisement in the same newspaper as follows:
Saturday 9 A.M.
2 Brand New Pastel Mink 3-Skin Scarfs
Selling for. $89.50
Out they go Saturday. Each…$1.00
1 Black Lapin Stole Beautiful, worth $139.50…$1.00
First Come First Served
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The record supports the findings of the court that on each of the Saturdays following the publication of the
above-described ads the plaintiff was the first to present himself at the appropriate counter in the
defendant’s store and on each occasion demanded the coat and the stole so advertised and indicated his
readiness to pay the sale price of $1. On both occasions, the defendant refused to sell the merchandise to
the plaintiff, stating on the first occasion that by a “house rule” the offer was intended for women only and
sales would not be made to men, and on the second visit that plaintiff knew defendant’s house rules.
The trial court properly disallowed plaintiff’s claim for the value of the fur coats since the value of these
articles was speculative and uncertain. The only evidence of value was the advertisement itself to the effect
that the coats were “Worth to $100.00,” how much less being speculative especially in view of the price for
which they were offered for sale. With reference to the offer of the defendant on April 13, 1956, to sell the
“1 Black Lapin Stole * * * worth $139.50 * * *” the trial court held that the value of this article was
established and granted judgment in favor of the plaintiff for that amount less the $1 quoted purchase
price.
1. The defendant contends that a newspaper advertisement offering items of merchandise for sale at a
named price is a “unilateral offer” which may be withdrawn without notice. He relies upon authorities
which hold that, where an advertiser publishes in a newspaper that he has a certain quantity or quality of
goods which he wants to dispose of at certain prices and on certain terms, such advertisements are not
offers which become contracts as soon as any person to whose notice they may come signifies his
acceptance by notifying the other that he will take a certain quantity of them. Such advertisements have
been construed as an invitation for an offer of sale on the terms stated, which offer, when received, may be
accepted or rejected and which therefore does not become a contract of sale until accepted by the seller;
and until a contract has been so made, the seller may modify or revoke such prices or terms. [Citations]
…On the facts before us we are concerned with whether the advertisement constituted an offer, and, if so,
whether the plaintiff’s conduct constituted an acceptance.
There are numerous authorities which hold that a particular advertisement in a newspaper or circular
letter relating to a sale of articles may be construed by the court as constituting an offer, acceptance of
which would complete a contract. [Citations]
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The test of whether a binding obligation may originate in advertisements addressed to the general public
is “whether the facts show that some performance was promised in positive terms in return for something
requested.” 1 Williston, Contracts (Rev. ed.) s 27.
The authorities above cited emphasize that, where the offer is clear, definite, and explicit, and leaves
nothing open for negotiation, it constitutes an offer, acceptance of which will complete the contract.…
Whether in any individual instance a newspaper advertisement is an offer rather than an invitation to
make an offer depends on the legal intention of the parties and the surrounding circumstances. [Citations]
We are of the view on the facts before us that the offer by the defendant of the sale of the Lapin fur was
clear, definite, and explicit, and left nothing open for negotiation. The plaintiff having successfully
managed to be the first one to appear at the seller’s place of business to be served, as requested by the
advertisement, and having offered the stated purchase price of the article, he was entitled to performance
on the part of the defendant. We think the trial court was correct in holding that there was in the conduct
of the parties a sufficient mutuality of obligation to constitute a contract of sale.
2. The defendant contends that the offer was modified by a “house rule” to the effect that
only women were qualified to receive the bargains advertised. The advertisement
contained no such restriction. This objection may be disposed of briefly by stating that,
while an advertiser has the right at any time before acceptance to modify his offer, he
does not have the right, after acceptance, to impose new or arbitrary conditions not
contained in the published offer. [Citations]
Affirmed.
C A S E Q U E S T I O N S
1. If the normal rule is that display advertisements in newspapers and the like are not
offers, but rather invitations to make an offer, why was this different? Why did the court
hold that this was an offer?
2. What is the rationale for the rule that a display ad is usually not an offer?
3. If a newspaper display advertisement reads, “This offer is good for two weeks,” is it still
only an invitation to make an offer, or is it an offer?
4. Is a listing by a private seller for the sale of a trailer on Craigslist or in the weekly
classified advertisements an offer or an invitation to make an offer?
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Silence as Acceptance
Hobbs v.Massasoit Whip Co.
33 N.E. 495 (Mass. 1893)
Holmes, J.
This is an action for the price of eel skins sent by the plaintiff to the defendant, and kept by the defendant
some months, until they were destroyed. It must be taken that the plaintiff received no notice that the
defendant declined to accept the skins. The case comes before us on exceptions to an instruction to the
jury that, whether there was any prior contract or not, if skins are sent to the defendant, and it sees fit,
whether it has agreed to take them or not, to lie back, and to say nothing, having reason to suppose that
the man who has sent them believes that it is taking them, since it says nothing about it, then, if it fails to
notify, the jury would be warranted in finding for the plaintiff.
Standing alone, and unexplained, this proposition might seem to imply that one stranger may impose a
duty upon another, and make him a purchaser, in spite of himself, by sending goods to him, unless he will
take the trouble, and bear the expense, of notifying the sender that he will not buy. The case was argued
for the defendant on that interpretation. But, in view of the evidence, we do not understand that to have
been the meaning of the judge and we do not think that the jury can have understood that to have been his
meaning. The plaintiff was not a stranger to the defendant, even if there was no contract between them.
He had sent eel skins in the same way four or five times before, and they had been accepted and paid for.
On the defendant’s testimony, it was fair to assume that if it had admitted the eel skins to be over 22
inches in length, and fit for its business, as the plaintiff testified and the jury found that they were, it
would have accepted them; that this was understood by the plaintiff; and, indeed, that there was a
standing offer to him for such skins.
In such a condition of things, the plaintiff was warranted in sending the defendant skins conforming to
the requirements, and even if the offer was not such that the contract was made as soon as skins
corresponding to its terms were sent, sending them did impose on the defendant a duty to act about them;
and silence on its part, coupled with a retention of the skins for an unreasonable time, might be found by
the jury to warrant the plaintiff in assuming that they were accepted, and thus to amount to an
acceptance. [Citations] The proposition stands on the general principle that conduct which imports
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acceptance or assent is acceptance or assent, in the view of the law, whatever may have been the actual
state of mind of the party—a principle sometimes lost sight of in the cases. [Citations]
Exceptions overruled.
C A S E Q U E S T I O N S
1. What is an eel, and why would anybody make a whip out of its skin?
2. Why did the court here deny the defendant’s assertion that it never accepted the
plaintiff’s offer?
3. If it reasonably seems that silence is acceptance, does it make any difference what the
offeree really intended?
9.5 Summary and Exercises
Summary
Whether a legally valid contract was formed depends on a number of factors, including whether the
parties reached agreement, whether consideration was present, and whether the agreement was legal.
Agreement may seem like an intuitive concept, but intuition is not a sufficient guide to the existence of
agreement in legal terms. The most common way of examining an agreement for legal sufficiency is by
determining whether a valid offer and acceptance were made.
An offer is a manifestation of willingness to enter into a bargain such that it would be reasonable for
another individual to conclude that assent to the offer would complete the bargain. Offers must be
communicated and must be definite; that is, they must spell out terms to which the offeree can assent.
An important aspect of the offer is its duration. An offer can expire in any one of several ways: (1)
rejection, (2) counteroffer, (3) acceptance with counteroffer, (4) lapse of time, (5) death or insanity of the
offeror or destruction of an essential term, (6) illegality, and (7) revocation. No understanding of
agreement is complete without a mastery of these conditions.
To constitute an agreement, an offer must be accepted.
The offeree must manifest his assent to the terms of the offer in a manner invited or required by the offer.
Complications arise when an offer is accepted indirectly through correspondence. Although offers and
revocations of offers are not effective until received, an acceptance is deemed accepted when sent if the
offeree accepts in the manner specified by the offeror. But the nuances that arise because of the mailbox
rule and acceptance by silence require close attention to the circumstances of each agreement.
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E X E R C I S E S
1. Sarah’s student apartment was unfurnished. She perused Doug’s List, an online classified
ad service (for nonmerchants), and saw this advertisement: “Moving. For sale: a very
nice brown leather couch, almost new, $600.” There was an accompanying photo and
contact information. Sarah e-mailed the contact, saying she wanted to buy the couch.
Does Sarah have a contract with the seller? Explain.
2. Seller called Buyer on the telephone and offered to sell his used stereo. Buyer agreed to
buy it without asking the price. The next day Buyer changed her mind and attempted to
back out of the agreement. Do the parties have a contract? Explain.
3. On August 1, Ernie wrote to Elsie offering to sell Elsie his car for $7,600, and he promised
to hold the offer open for ten days. On August 4 Ernie changed his mind; he sent Elsie a
letter revoking the offer. On August 5 Elsie e-mailed Ernie, accepting the offer. Ernie’s
letter of revocation arrived on August 6. Is there a contract? Explain.
4. On August 1 Grover visited a local electronics shop to purchase a new television. He saw
one he liked but wasn’t sure if he could afford the $750. The store owner agreed to write
up and sign an offer stating that it would be held open for ten days, which he did. On
August 2 the owner changed his mind and sent Grover an e-mail revoking the offer,
which Grover received immediately. On August 3 Grover sent a reply e-mail accepting
the original offer. Is there a contract? Explain.
5. Acme Corporation sent the following letter, here set out in its entirety:
January 2, 2012
Acme Corporation
We hereby offer you 100 Acme golden widgets, size 6. This offer will be good for 10 days.
[Signed] Roberta Acme
Owner, Acme Corporation
Is this offer irrevocable for the time stated? Explain.
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6. On November 26, Joe wrote to Kate offering to purchase a farm that she owned. Upon
receiving the letter on November 28, Kate immediately sent Joe a letter of acceptance.
However, shortly after mailing the letter, Kate had second thoughts and called Joe to
advise him that she was rejecting his offer. The call was made before Joe received the
letter of acceptance. Has a contract been formed? Why?
7. On a busy day just before April 15, Albert Accountant received a call from a local car
dealer. The dealer said, “Hi, Mr. Accountant. Now, while you have income from doing
clients’ taxes, I have an excellent offer for you. You can buy a new Buick Century
automobile completely loaded for $36,000. Al, I know you’re busy. If I don’t hear from
you by the end of the day, I’ll assume you want the car.” Albert, distracted, did not
respond immediately, and the dealer hung up. Then followed an exhausting day of
working with anxiety-ridden tax clients. Albert forgot about the conversation. Two days
later a statement arrived from the dealer, with instructions on how Albert should pick up
the car at the dealership. Is there a contract? Explain.
8. Mr. and Mrs. Mitchell, the owners of a small secondhand store, attended an auction
where they bought a used safe for $50. The safe, part of the Sumstad estate, had a
locked compartment inside, a fact the auctioneer mentioned. After they bought the safe,
the Mitchells had a locksmith open the interior compartment; it contained $32,000 in
cash. The locksmith called the police, who impounded the safe, and a lawsuit ensued
between the Mitchells and the Sumstad estate to determine the ownership of the cash.
Who should get it, and why?
9. Ivan Mestrovic, an internationally renowned artist, and his wife lived for years in a house
in Indiana. Ivan died in 1982. His widow remained in the house for some years; upon her
death the contents of the house were willed to her children. When the Wilkens bought
the house from the estate, it was very cluttered. A bank representative (the executor of
the estate) said, “You can clean it yourself and keep whatever items you want, or we—as
executor of Mrs. Mestrovic’s estate—will hire a rubbish removal service to dispose of it.”
The Wilkens opted to clean it up themselves, and amid the mess, behind sofas and in
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odd closets, were six apparently valuable paintings by Mestrovic. The estate claimed
them; the Wilkens claimed them. Who gets the paintings, and why?
10. David Kidd’s dog bit Mikaila Sherrod. On June 14, 2010, the Kidds offered to settle for
$32,000. On July 12 the Sherrods sued the Kidds. On July 20 the Kidds bumped their
offer up to $34,000. The suit was subject to mandatory arbitration, which proceeded on
April 28, 2011. On May 5 the arbitrator awarded the Sherrods $25,000. On May 9 the
Sherrods wrote to the Kidds and purported to accept their last offer of $34,000, made
the year before. The Sherrods’ attorney moved to enforce that purported $34,000
“settlement agreement.” The court concluded that the offer was properly accepted
because it had not been withdrawn and entered judgment against the Kidds for $34,000.
The Kidds appealed. What result should obtain on appeal, and why?
[1]
S E L F – T E S T Q U E S T I O N S
1. In interpreting agreements for the purpose of establishing whether a valid contract exists, courts
generally apply
a. subjective standards
b. objective standards
c. either a subjective or an objective standard
d. none of the above
A valid offer must be
a. written
b. written and intended
c. communicated by letter
d. communicated and definite
An offer
a. must specify time, place, and manner of acceptance
b. must be accepted immediately to be valid
c. need not be accepted immediately
d. can only be accepted by the same means it was made
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An offer generally
a. is rejected by a counteroffer
b. can be revoked if the offeror changes his or her mind
c. can lapse after a reasonable period of time
d. involves all of the above
An acceptance is generally considered effective
a. when a letter is received by the offeror
b. when a letter is mailed
c. when the offeree is silent
d. only when the acceptance is transmitted in writing
S E L F – T E S T A N S W E R S
1. b
2. d
3. c
4. d
5. b
[1] Sherrod ex rel. Cantone v. Kidd, 155 P.3d 976 (Wash. Ct. App., 2007).
Chapter 10
Real Assent
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. Contracts require “a meeting of the minds” between competent parties, and if there is
no such “meeting,” the agreement is usually voidable.
2. Parties must enter the contract voluntarily, without duress or undue influence.
3. Misrepresentation or fraud, when proven, vitiates a contract.
4. A mistake may make a contract voidable.
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5. Parties to a contract must have capacity—that is, not labor under infancy, intoxication,
or insanity.
We turn to the second of the four requirements for a valid contract. In addition to manifestation of assent, a party’s
assent must be real; he or she must consent to the contract freely, with adequate knowledge, and must have capacity.
The requirement of real assent raises the following major questions:
1. Did the parties enter into the contract of their own free will, or was one forced to agree
under duress or undue influence?
2. Did the parties enter into the contract with full knowledge of the facts, or was one or
both led to the agreement through fraud or mistake?
3. Did both parties have the capacity to make a contract?
10.1 Duress and Undue Influence
L E A R N I N G O B J E C T I V E S
1. Recognize that if a person makes an agreement under duress (being forced to enter a
contract against his or her will), the agreement is void.
2. Understand what undue influence is and what the typical circumstances are when it
arises to make a contract voidable.
Duress
When a person is forced to do something against his or her will, that person is said to have been the victim
of duress—compulsion. There are two types of duress: physical duress and duress by improper threat. A
contract induced by physical violence is void.
Physical Duress
If a person is forced into entering a contract on threat of physical bodily harm, he or she is the victim
of physical duress. It is defined by the Restatement (Second) of Contracts in Section 174: “If conduct that
appears to be a manifestation of assent by a party who does not intend to engage in that conduct is
physically compelled by duress, the conduct is not effective as a manifestation of assent.”
Comment (a) to Section 174 provides in part, “This Section involves an application of that principle to
those relatively rare situations in which actual physical force has been used to compel a party to appear
to assent to a contract.…The essence of this type of duress is that a party is compelled by physical force to
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do an act that he has no intention of doing. He is, it is sometimes said, ‘a mere mechanical instrument.’
The result is that there is no contract at all, or a ‘void contract’ as distinguished from a voidable one”
(emphasis added).
The Restatement is undoubtedly correct that there are “relatively rare situations in which actual physical
force” is used to compel assent to a contract. Extortion is a crime.
Duress by Threat
The second kind of duress is duress by threat; it is more common than physical duress. Here the
perpetrator threatens the victim, who feels there is no reasonable alternative but to assent to the contract.
It renders the contract voidable. This rule contains a number of elements.
First, the threat must be improper. Second, there must be no reasonable alternative. If, for example, a
supplier threatens to hold up shipment of necessary goods unless the buyer agrees to pay more than the
contract price, this would not be duress if the buyer could purchase identical supplies from someone else.
Third, the test for inducement is subjective. It does not matter that the person threatened is unusually
timid or that a reasonable person would not have felt threatened. The question is whether the threat in
fact induced assent by the victim. Such facts as the victim’s belief that the threatener had the ability to
carry out the threat and the length of time between the threat and assent are relevant in determining
whether the threat did prompt the assent.
There are many types of improper threats that might induce a party to enter into a contract: threats to
commit a crime or a tort (e.g., bodily harm or taking of property), to instigate criminal prosecution, to
instigate civil proceedings when a threat is made in bad faith, to breach a “duty of good faith and fair
dealing under a contract with the recipient,” or to disclose embarrassing details about a person’s private
life.
Jack buys a car from a local used-car salesman, Mr. Olson, and the next day realizes he bought a lemon.
He threatens to break windows in Olson’s showroom if Olson does not buy the car back for $2,150, the
purchase price. Mr. Olson agrees. The agreement is voidable, even though the underlying deal is fair, if
Olson feels he has no reasonable alternative and is frightened into agreeing. Suppose Jack knows that
Olson has been tampering with his cars’ odometers, a federal offense, and threatens to have Olson
prosecuted if he will not repurchase the car. Even though Olson may be guilty, this threat makes the
repurchase contract voidable, because it is a misuse for personal ends of a power (to go to the police)
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given each of us for other purposes. If these threats failed, suppose Jack then tells Olson, “I’m going to
haul you into court and sue your pants off.” If Jack means he will sue for his purchase price, this is not an
improper threat, because everyone has the right to use the courts to gain what they think is rightfully
theirs. But if Jack meant that he would fabricate damages done him by a (falsely) claimed odometer
manipulation, that would be an improper threat. Although Olson could defend against the suit, his
reputation would suffer in the meantime from his being accused of odometer tampering.
A threat to breach a contract that induces the victim to sign a new contract could be improper. Suppose
that as part of the original purchase price, Olson agrees to make all necessary repairs and replace all failed
parts for the first ninety days. At the end of one month, the transmission dies, and Jack demands a
replacement. Olson refuses to repair the car unless Jack signs a contract agreeing to buy his next car from
Olson. Whether this threat is improper depends on whether Jack has a reasonable alternative; if a
replacement transmission is readily available and Jack has the funds to pay for it, he might have an
alternative in suing Olson in small claims court for the cost. But if Jack needs the car immediately and he
is impecunious, then the threat would be improper and the contract voidable. A threat to breach a
contract is not necessarily improper, however. It depends on whether the new contract is fair and
equitable because of unanticipated circumstances. If, for example, Olson discovers that he must purchase
a replacement transmission at three times the anticipated cost, his threat to hold up work unless Jack
agrees to pay for it might be reasonable.
Undue Influence
The Restatement of Contracts (Second) characterizes undue influence as “unfair persuasion.”
[1]
It is a
milder form of duress than physical harm or threats. The unfairness does not lie in any
misrepresentation; rather, it occurs when the victim is under the domination of the persuader or is one
who, in view of the relationship between them, is warranted in believing that the persuader will act in a
manner detrimental to the victim’s welfare if the victim fails to assent. It is the improper use of trust or
power to deprive a person of free will and substitute instead another’s objective. Usually the fact pattern
involves the victim being isolated from receiving advice except from the persuader. Falling within this rule
are situations where, for example, a child takes advantage of an infirm parent, a doctor takes advantage of
an ill patient, or a lawyer takes advantage of an unknowledgeable client. If there has been undue
influence, the contract is voidable by the party who has been unfairly persuaded. Whether the relationship
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is one of domination and the persuasion is unfair is a factual question. The answer hinges on a host of
variables, including “the unfairness of the resulting bargain, the unavailability of independent advice, and
the susceptibility of the person persuaded.”
[2]
See Section 10.5.1 “Undue Influence”, Hodge v. Shea.
K E Y T A K E A W A Y
A contract induced by physical duress—threat of bodily harm—is void; a contract induced by improper
threats—another type of duress—is voidable. Voidable also are contracts induced by undue influence,
where a weak will is overborne by a stronger one.
E X E R C I S E S
1. What are the two types of duress?
2. What are the elements necessary to support a claim of undue influence?
[1] Restatement (Second) of Contracts, Section 177.
[2] Restatement (Second) of Contracts, Section 177(b).
10.2 Misrepresentation
L E A R N I N G O B J E C T I V E S
1. Understand the two types of misrepresentation: fraudulent and nonfraudulent.
2. Distinguish between fraudulent misrepresentation in the execution and fraudulent
misrepresentation in the inducement.
3. Know the elements necessary to prove fraudulent and nonfraudulent misrepresentation.
4. Recognize the remedies for misrepresentation.
General Description
The two types of misrepresentation are fraudulent and nonfraudulent. Within the former are fraud in the
execution and fraud in the inducement. Within the latter are negligent misrepresentation and innocent
misrepresentation.
Misrepresentation is a statement of fact that is not consistent with the truth. If misrepresentation is
intentional, it is fraudulent misrepresentation; if it is not intentional, it is nonfraudulent
misrepresentation, which can be either negligent or innocent.
In further taxonomy, courts distinguish between fraud in the execution and fraud in the
inducement. Fraud in the execution is defined by the Restatement as follows: “If a misrepresentation as to
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the character or essential terms of a proposed contract induces conduct that appears to be a manifestation
of assent by one who neither knows nor has reasonable opportunity to know of the character or essential
terms of the proposed contract, his conduct is not effective as a manifestation of assent.”
[1]
For example,
Alphonse and Gaston decide to sign a written contract incorporating terms to which they have agreed. It is
properly drawn up, and Gaston reads it and approves it. Before he can sign it, however, Alphonse
shrewdly substitutes a different version to which Gaston has not agreed. Gaston signs the substitute
version. There is no contract. There has been fraud in the execution.
Fraud in the inducement is more common. It involves some misrepresentation about the subject of the
contract that induces assent. Alphonse tells Gaston that the car Gaston is buying from Alphonse has just
been overhauled—which pleases Gaston—but it has not been. This renders the contract voidable.
Fraudulent Misrepresentation
Necessary to proving fraudulent misrepresentation (usually just “fraud,” though technically “fraud” is the
crime and “fraudulent misrepresentation” is the civil wrong) is a misstatement of fact that is intentionally
made and justifiably relied upon.
Misstatement of Fact
Again, generally, any statement not in accord with the facts (a fact is something amenable to testing as
true) is a misrepresentation. Falsity does not depend on intent. A typist’s unnoticed error in a letter
(inadvertently omitting the word “not,” for example, or transposing numbers) can amount to a
misrepresentation on which the recipient may rely (it is not fraudulent misrepresentation). A half-truth
can amount to a misrepresentation, as, for example, when the seller of a hotel says that the income is from
both permanent and transient guests but fails to disclose that the bulk of the income is from single-night
stopovers by seamen using the hotel as a brothel.
[2]
Concealment
Another type of misrepresentation is concealment. It is an act that is equivalent to a statement that the
facts are to the contrary and that serves to prevent the other party from learning the true statement of
affairs; it is hiding the truth. A common example is painting over defects in a building—by concealing the
defects, the owner is misrepresenting the condition of the property. The act of concealment need not be
direct; it may consist of sidetracking the other party from gaining necessary knowledge by, for example,
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convincing a third person who has knowledge of the defect not to speak. Concealment is always a
misrepresentation.
Nondisclosure
A more passive type of concealment is nondisclosure. Although generally the law imposes no obligation
on anyone to speak out, nondisclosure of a fact can operate as a misrepresentation under certain
circumstances. This occurs, for example, whenever the other party has erroneous information, or, as Reed
v. King (Section 10.5.2 “Misrepresentation by Concealment”) shows, where the nondisclosure amounts to
a failure to act in good faith, or where the party who conceals knows or should know that the other side
cannot, with reasonable diligence, discover the truth.
In a remarkable 1991 case out of New York, a New York City stockbroker bought an old house upstate
(basically anyplace north of New York City) in the village of Nyack, north of New York City, and then
wanted out of the deal when he discovered—the defendant seller had not told him—that it was “haunted.”
The court summarized the facts: “Plaintiff, to his horror, discovered that the house he had recently
contracted to purchase was widely reputed to be possessed by poltergeists [ghosts], reportedly seen by
defendant seller and members of her family on numerous occasions over the last nine years. Plaintiff
promptly commenced this action seeking rescission of the contract of sale. Supreme Court reluctantly
dismissed the complaint, holding that plaintiff has no remedy at law in this jurisdiction.”
The high court of New York ruled he could rescind the contract because the house was “haunted as a
matter of law”: the defendant had promoted it as such on village tours and in Reader’s Digest. She had
concealed it, and no reasonable buyer’s inspection would have revealed the “fact.” The dissent basically
hooted, saying, “The existence of a poltergeist is no more binding upon the defendants than it is upon this
court.”
[3]
Statement Made False by Subsequent Events
If a statement of fact is made false by later events, it must be disclosed as false. For example, in idle
chatter one day, Alphonse tells Gaston that he owns thirty acres of land. In fact, Alphonse owns only
twenty-seven, but he decided to exaggerate a little. He meant no harm by it, since the conversation had no
import. A year later, Gaston offers to buy the “thirty acres” from Alphonse, who does not correct the
impression that Gaston has. The failure to speak is a nondisclosure—presumably intentional, in this
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situation—that would allow Gaston to rescind a contract induced by his belief that he was purchasing
thirty acres.
Statements of Opinion
An opinion, of course, is not a fact; neither is sales puffery. For example, the statements “In my opinion
this apple is very tasty” and “These apples are the best in the county” are not facts; they are not expected
to be taken as true. Reliance on opinion is hazardous and generally not considered justifiable.
If Jack asks what condition the car is in that he wishes to buy, Mr. Olson’s response of “Great!” is not
ordinarily a misrepresentation. As the Restatement puts it: “The propensity of sellers and buyers to
exaggerate the advantages to the other party of the bargains they promise is well recognized, and to some
extent their assertions must be discounted.”
[4]
Vague statements of quality, such as that a product is
“good,” ought to suggest nothing other than that such is the personal judgment of the opinion holder.
Despite this general rule, there are certain exceptions that justify reliance on opinions and effectively
make them into facts. Merely because someone is less astute than the one with whom she is bargaining
does not give rise to a claim of justifiable reliance on an unwarranted opinion. But if the person is
inexperienced and susceptible or gullible to blandishments, the contract can be voided, as illustrated
in Vokes v. Arthur Murray, Inc. in Section 10.5.3 “Misrepresentation by Assertions of Opinion”.
Misstatement of Law
Incorrect assertions of law usually do not give rise to any relief, but sometimes they do. An assertion that
“the city has repealed the sales tax” or that a court has cleared title to a parcel of land is a statement of
fact; if such assertions are false, they are governed by the same rules that govern misrepresentations of
fact generally. An assertion of the legal consequences of a given set of facts is generally an opinion on
which the recipient relies at his or her peril, especially if both parties know or assume the same facts.
Thus, if there is a lien on a house, the seller’s statement that “the courts will throw it out, you won’t be
bothered by it” is an opinion. A statement that “you can build a five-unit apartment on this property” is
not actionable because, at common law, people are supposed to know what the local and state laws are,
and nobody should rely on a layperson’s statement about the law. However, if the statement of law is
made by a lawyer or real estate broker, or some other person on whom a layperson may justifiably rely,
then it may be taken as a fact and, if untrue, as the basis for a claim of misrepresentation. (Assertions
about foreign laws are generally held to be statements of fact, not opinion.)
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Assertions of Intention
Usually, assertions of intention are not considered facts. The law allows considerable leeway in the
honesty of assertions of intention. The Restatement talks in terms of “a misrepresentation of
intention…consistent with reasonable standards of fair dealing.”
[5]
The right to misstate intentions is
useful chiefly in the acquisition of land; the cases permit buyers to misrepresent the purpose of the
acquisition so as not to arouse the suspicion of the seller that the land is worth considerably more than his
asking price. To be a misrepresentation that will permit rescission, an assertion of intention must be false
at the time made; that is, the person asserting an intention must not then have intended it. That later he
or she does not carry out the stated intention is not proof that there was no intention at the time asserted.
Moreover, to render a contract voidable, the false assertion of intention must be harmful in some way to
other interests of the recipient. Thus, in the common example, the buyer of land tells the seller that he
intends to build a residence on the lot, but he actually intends to put up a factory and has lied because he
knows that otherwise the seller will not part with it because her own home is on an adjacent lot. The
contract is voidable by the seller. So a developer says, as regards the picturesque old barn on the property,
“I’ll sure try to save it,” but after he buys the land he realizes it would be very expensive (and in the way),
so he does not try to save it. No misrepresentation.
Intentionally Made Misrepresentation
The second element necessary to prove fraud is that the misrepresentation was intentionally made. A
misrepresentation is intentionally made “if the maker intends his assertion to induce a party to manifest
his assent and the maker (a) knows or believes that the assertion is not in accord with the facts, or (b)
does not have the confidence that he states or implies in the truth of the assertion, or (c) knows that he
does not have the basis that he states or implies for the assertion.”
[6]
The question of intent often has practical consequences in terms of the remedy available to the plaintiff. If
the misrepresentation is fraudulent, the plaintiff may, as an alternative to avoiding the contract, recover
damages. Some of this is discussed inSection 10.2.4 “Remedies” and more fully in Chapter 16 “Remedies”,
where we see that some states would force the plaintiff to elect one of these two remedies, whereas other
states would allow the plaintiff to pursue both remedies (although only one type of recovery would
eventually be allowed). If the misrepresentation is not intentional, then the common law allowed the
plaintiff only the remedy of rescission. But the Uniform Commercial Code (UCC), Section 2-721, allows
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both remedies in contracts for the sale of goods, whether the misrepresentation is fraudulent or not, and
does not require election of remedies.
Reliance
The final element necessary to prove fraud is reliance by the victim. He or she must show that the
misrepresentation induced assent—that is, he or she relied on it. The reliance need not be solely on the
false assertion; the defendant cannot win the case by demonstrating that the plaintiff would have assented
to the contract even without the misrepresentation. It is sufficient to avoid the contract if the plaintiff
weighed the assertion as one of the important factors leading him to make the contract, and he believed it
to be true. The person who asserts reliance to avoid a contract must have acted in good faith and
reasonably in relying on the false assertion. Thus if the victim failed to read documents given him that
truly stated the facts, he cannot later complain that he relied on a contrary statement, as, for example,
when the purchaser of a car dealership was told the inventory consisted of new cars, but the supporting
papers, receipt of which he acknowledged, clearly stated how many miles each car had been driven. If Mr.
Olson tells Jack that the car Jack is interested in is “a recognized classic,” and if Jack doesn’t care a whit
about that but buys the car because he likes its tail fins, he will have no case against Mr. Olson when he
finds out the car is not a classic: it didn’t matter to him, and he didn’t rely on it.
Ordinarily, the person relying on a statement need not verify it independently. However, if verification is
relatively easy, or if the statement is one that concerns matters peculiarly within the person’s purview, he
or she may not be held to have justifiably relied on the other party’s false assertion. Moreover, usually the
rule of reliance applies to statements about past events or existing facts, not about the occurrence of
events in the future.
Nonfraudulent Misrepresentation
Nonfraudulent misrepresentation may also be grounds for some relief. There are two types: negligent
misrepresentation and innocent misrepresentation.
Negligent Misrepresentation
Where representation is caused by carelessness, it is negligent misrepresentation. To prove it, a plaintiff
must show a negligent misstatement of fact that is material and justifiably relied upon.
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Negligent
As an element of misrepresentation, “negligent” here means the party who makes the representation was
careless. A potential buyer of rural real estate asks the broker if the neighborhood is quiet. The broker
assures her it is. In fact, the neighbors down the road have a whole kennel of hunting hounds that bark a
lot. The broker didn’t know that; she just assumed the neighborhood was quiet. That is negligence: failure
to use appropriate care.
Misstatement of Fact
Whether a thing is a fact may be subject to the same general analysis used in discussing fraudulent
misrepresentation. (A person could negligently conceal a fact, or negligently give an opinion, as in legal
malpractice.)
Materiality
A material misrepresentation is one that “would be likely to induce a reasonable person to manifest his
assent” or that “the maker knows…would be likely to induce the recipient to do so.”
[7]
An honestly
mistaken statement that the house for sale was built in 1922 rather than 1923 would not be the basis for
avoiding the contract because it is not material unless the seller knew that the buyer had sentimental or
other reasons for purchasing a house built in 1922.
We did not mention materiality as an element of fraud; if the misrepresentation is fraudulent, the victim
can avoid the contract, no matter the significance of the misrepresentation. So although materiality is not
technically required for fraudulent misrepresentation, it is usually a crucial factor in determining whether
the plaintiff did rely. Obviously, the more immaterial the false assertion, the less likely it is that the victim
relied on it to his detriment. This is especially the case when the defendant knows that he does not have
the basis that he states for an assertion but believes that the particular point is unimportant and therefore
immaterial. And of course it is usually not worth the plaintiff’s while to sue over an immaterial fraudulent
misrepresentation. Consequently, for practical purposes, materiality is an important consideration in
most cases. Reed v. King (Section 10.5.2 “Misrepresentation by Concealment”) discusses materiality (as
well as nondisclosure).
Justifiable Reliance
The issues here for negligent misrepresentation are the same as those set out for fraudulent
misrepresentation.
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Negligent misrepresentation implies culpability and is usually treated the same as fraudulent
misrepresentation; if the representation is not fraudulent, however, it cannot be the basis for rescission
unless it is also material.
Innocent Misrepresentation
The elements necessary to prove innocent misrepresentation are, reasonably enough, based on what we’ve
looked at so far, as follows: an innocent misstatement of fact that is material and justifiably relied upon.
It is not necessary here to go over the elements in detail. The issues are the same as previously discussed,
except now the misrepresentation is innocent. The plaintiffs purchased the defendants’ eighteen-acre
parcel on the defendants’ representation that the land came with certain water rights for irrigation, which
they believed was true. It was not true. The plaintiffs were entitled to rescission on the basis of innocent
misrepresentation.
[8]
Remedies
Remedies will be taken up in Chapter 16 “Remedies”, but it is worth noting the difference between
remedies for fraudulent misrepresentation and remedies for nonfraudulent misrepresentation.
Fraudulent misrepresentation has traditionally given the victim the right to rescind the contract promptly
(return the parties to the before-contract status) or affirm it and bring an action for damages caused by
the fraud, but not both.
[9]
The UCC (Section 2-721) has rejected the “election of remedies” doctrine; it
allows cumulative damages, such that the victim can both return the goods and sue for damages. And this
is the modern trend for fraudulent misrepresentation: victims may first seek damages, and if that does not
make them whole, they may seek rescission.
[10]
In egregious cases of fraud where the defendant has
undertaken a pattern of such deceit, the rare civil remedy of punitive damages may be awarded against
the defendant.
One further note: the burden of proof for fraudulent misrepresentation is that it must be proved not just
“by a preponderance of the evidence,” as in the typical civil case, but rather “by clear, cogent, and
convincing evidence”; the fact finder must believe the claim of fraud is very probably true.
[11]
K E Y T A K E A W A Y
Misrepresentation may be of two types: fraudulent (in the execution or in the inducement) and
nonfraudulent (negligent or innocent). Each type has different elements that must be proved, but in
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general there must be a misstatement of fact by some means that is intentionally made (for fraud),
material (for nonfraudulent), and justifiably relied upon.
E X E R C I S E S
1. Distinguish between fraudulent misrepresentation and nonfraudulent
misrepresentation, between fraud in the execution and fraud in the inducement, and
between negligent and innocent misrepresentation.
2. List the elements that must be shown to prove the four different types of
misrepresentation noted in Exercise 1.
3. What is the difference between the traditional common-law approach to remedies for
fraud and the UCC’s approach?
[1] Restatement (Second) of Contracts, Section 163.
[2] Ikeda v. Curtis, 261 P.2d 684 (Wash. 1951).
[3] Stambovsky v. Ackley, 169 A.D.2d 254 (N.Y. 1991).
[4] Restatement (Second) of Contracts, Section 168(d).
[5] Restatement (Second) of Contracts, Section 171(1).
[6] Restatement (Second) of Contracts, Section 162(1).
[7] Restatement (Second) of Contracts, Section 162(2).
[8] Lesher v. Strid, 996 P.2d 988 (Or. Ct. App. 2000).
[9] Merritt v. Craig, 753 A.2d 2 (Md. Ct. App. 2000).
[10] Ehrman v. Mann, 979 So.2d 1011 (Fla. Ct. App. 2008).
[11] Kirkham v. Smith, 23 P.3d 10 (Wash. Ct. App. 2001).
10.3 Mistake
L E A R N I N G O B J E C T I V E S
1. Recognize under what circumstances a person may be relieved of a unilateral mistake.
2. Recognize when a mutual mistake will be grounds for relief, and the types of mutual
mistakes.
In discussing fraud, we have considered the ways in which trickery by the other party makes a contract
void or voidable. We now examine the ways in which the parties might “trick” themselves by making
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assumptions that lead them mistakenly to believe that they have agreed to something they have not. A
mistake is “a belief about a fact that is not in accord with the truth.”
[1]
Mistake by One Party
Unilateral Mistake
Where one party makes a mistake, it is a unilateral mistake. The rule: ordinarily, a contract is not voidable
because one party has made a mistake about the subject matter (e.g., the truck is not powerful enough to
haul the trailer; the dress doesn’t fit).
Exceptions
If one side knows or should know that the other has made a mistake, he or she may not take advantage of
it. A person who makes the mistake of not reading a written document will usually get no relief, nor will
relief be afforded to one whose mistake is caused by negligence (a contractor forgets to add in the cost of
insulation) unless the negligent party would suffer unconscionable hardship if the mistake were not
corrected. Courts will allow the correction of drafting errors in a contract (“reformation”) in order to make
the contract reflect the parties’ intention.
[2]
Mutual Mistake
In the case of mutual mistake—both parties are wrong about the subject of the contract—relief may be
granted.
The Restatement sets out three requirements for successfully arguing mutual mistake.
[3]
The party seeking
to avoid the contract must prove that
1. the mistake relates to a “basic assumption on which the contract was made,”
2. the mistake has a material effect on the agreed exchange of performances,
3. the party seeking relief does not bear the risk of the mistake.
Basic assumption is probably clear enough. In the famous “cow case,” the defendant sold the plaintiff a
cow—Rose of Abalone—believed by both to be barren and thus of less value than a fertile cow (a promising
young dairy cow in 2010 might sell for $1,800).
[4]
Just before the plaintiff was to take Rose from the
defendant’s barn, the defendant discovered she was “large with calf”; he refused to go on with the
contract. The court held this was a mutual mistake of fact—“a barren cow is substantially a different
creature than a breeding one”—and ruled for the defendant. That she was infertile was “a basic
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assumption,” but—for example—that hay would be readily available to feed her inexpensively was not, and
had hay been expensive, that would not have vitiated the contract.
Material Effect on the Agreed-to Exchange of Performance
“Material effect on the agreed-to exchange of performance” means that because of the mutual mistake,
there is a significant difference between the value the parties thought they were exchanging compared
with what they would exchange if the contract were performed, given the standing facts. Again, in the cow
case, had the seller been required to go through with the deal, he would have given up a great deal more
than he anticipated, and the buyer would have received an unagreed-to windfall.
Party Seeking Relief Does Not Bear the Risk of the Mistake
Assume a weekend browser sees a painting sitting on the floor of an antique shop. The owner says, “That
old thing? You can have it for $100.” The browser takes it home, dusts it off, and hangs it on the wall. A
year later a visitor, an expert in art history, recognizes the hanging as a famous lost El Greco worth $1
million. The story is headlined; the antique dealer is chagrined and claims the contract for sale should be
voided because both parties mistakenly thought they were dickering over an “old, worthless” painting. The
contract is valid. The owner is said to bear the risk of mistake because he contracted with conscious
awareness of his ignorance: he knew he didn’t know what the painting’s possible value might be, but he
didn’t feel it worthwhile to have it appraised. He gambled it wasn’t worth much, and lost.
K E Y T A K E A W A Y
A mistake may be unilateral, in which case no relief will be granted unless the other side knows of the
mistake and takes advantage of it. A mistake may be mutual, in which case relief may be granted if it is
about a basic assumption on which the contract was made, if the mistake has a material effect on the
agreed-to exchange, and if the person adversely affected did not bear the risk of the mistake.
E X E R C I S E S
1. Why is relief usually not granted for unilateral mistakes? When is relief granted for
them?
2. If there is a mutual mistake, what does the party seeking relief have to show to avoid the
contract?
[1] Restatement (Second) of Contracts, Section 151.
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[2] Sikora v. Vanderploeg, 212 S.W.3d 277 (Tenn. Ct. App. 2006).
10.4 Capacity
L E A R N I N G O B J E C T I V E S
1. Understand that infants may avoid their contracts, with limitations.
2. Understand that insane or intoxicated people may avoid their contracts, with limitations.
3. Understand the extent to which contracts made by mentally ill persons are voidable,
void, or effectively enforceable.
4. Recognize that contracts made by intoxicated persons may be voidable.
A contract is a meeting of minds. If someone lacks mental capacity to understand what he is assenting
to—or that he is assenting to anything—it is unreasonable to hold him to the consequences of his act. At
common law there are various classes of people who are presumed to lack the requisite capacity. These
include infants (minors), the mentally ill, and the intoxicated.
Minors (or “Infants”)
The General Rule
The general rule is this: minors (or more legalistically “infants”) are in most states persons younger than
seventeen years old; they can avoid their contracts, up to and within a reasonable time after reaching
majority, subject to some exceptions and limitations. The rationale here is that infants do not stand on an
equal footing with adults, and it is unfair to require them to abide by contracts made when they have
immature judgment.
The words minor and infant are mostly synonymous, but not exactly, necessarily. In a state where the
legal age to drink alcohol is twenty-one, a twenty-year-old would be a minor, but not an infant, because
infancy is under eighteen. A seventeen-year-old may avoid contracts (usually), but an eighteen-year-old,
while legally bound to his contracts, cannot legally drink alcohol. Strictly speaking, the better term for one
who may avoid his contracts is infant, even though, of course, in normal speaking we think of an infant as
a baby.
The age of majority (when a person is no longer an infant or a minor) was lowered in all states except
Mississippi during the 1970s (to correspond to the Twenty-Sixth Amendment, ratified in 1971,
guaranteeing the right to vote at eighteen) from twenty-one to either eighteen or nineteen. Legal rights for
those under twenty-one remain ambiguous, however. Although eighteen-year-olds may assent to binding
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contracts, not all creditors and landlords believe it, and they may require parents to cosign. For those
under twenty-one, there are also legal impediments to holding certain kinds of jobs, signing certain kinds
of contracts, marrying, leaving home, and drinking alcohol. There is as yet no uniform set of rules.
The exact day on which the disability of minority vanishes also varies. The old common-law rule put it on
the day before the twenty-first birthday. Many states have changed this rule so that majority commences
on the day of the eighteenth birthday.
An infant’s contract is voidable, not void. An infant wishing to avoid the contract need do nothing positive
to disaffirm. The defense of infancy to a lawsuit is sufficient; although the adult cannot enforce the
contract, the infant can (which is why it is said to be voidable, not void).
Exceptions and Complications
There are exceptions and complications here. We call out six of them.
Necessities
First, as an exception to the general rule, infants are generally liable for the reasonable cost of necessities
(for the reason that denying them the right to contract for necessities would harm them, not protect
them). At common law, a necessity was defined as food, medicine, clothing, or shelter. In recent years,
however, the courts have expanded the concept, so that in many states today, necessities include property
and services that will enable the infant to earn a living and to provide for those dependent on him. If the
contract is executory, the infant can simply disaffirm. If the contract has been executed, however, the
infant must face more onerous consequences. Although he will not be required to perform under the
contract, he will be liable under a theory of “quasi-contract” for the reasonable value of the necessity.
In Gastonia Personnel Corp. v. Rogers, an emancipated infant, nineteen years old (before the age of
minority was reduced), needed employment; he contracted with a personnel company to find him a job,
for which it would charge him a fee.
[1]
The company did find him a job, and when he attempted to
disaffirm his liability for payment on the grounds of infancy, the North Carolina court ruled against him,
holding that the concepts of necessities “should be enlarged to include such…services as are reasonable
and necessary to enable the infant to earn the money required to provide the necessities of life for
himself” and his dependents.
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Nonvoidable Contracts
Second, state statutes variously prohibit disaffirmation for such contracts as insurance, education or
medical care, bonding agreements, stocks, or bank accounts. In addition, an infant will lose her power to
avoid the contract if the rights of third parties intervene. Roberta, an infant, sells a car to Oswald; Oswald,
in turn, shortly thereafter sells it to Byers, who knows nothing of Roberta. May Roberta—still an infant—
recover it from Byers? No: the rights of the third party have intervened. To allow the infant seller recovery
in this situation would undermine faith in commercial transactions.
Misrepresentation of Age
A third exception involves misrepresentation of age. Certainly, that the adult reasonably believed the
infant was an adult is of no consequence in a contract suit. In many states, an infant may misrepresent his
age and disaffirm in accordance with the general rule. But it depends. If an infant affirmatively lies about
his age, the trend is to deny disaffirmation. A Michigan statute, for instance, prohibits an infant from
disaffirming if he has signed a “separate instrument containing only the statement of age, date of signing
and the signature.” And some states estop him from claiming to be an infant even if he less expressly
falsely represented himself as an adult. Estoppel is a refusal by the courts on equitable grounds to allow a
person to escape liability on an otherwise valid defense; unless the infant can return the consideration, the
contract will be enforced. It is a question of fact how far a nonexpress (an implied) misrepresentation will
be allowed to go before it is considered so clearly misleading as to range into the prohibited area. Some
states hold the infant liable for damages for the tort of misrepresentation, but others do not. As William
Prosser, the noted torts scholar, said of cases paying no attention to an infant’s lying about his age, “The
effect of the decisions refusing to recognize tort liability for misrepresentation is to create a privileged
class of liars who are a great trouble to the business world.”
[2]
Ratification
Fourth, when the infant becomes an adult, she has two choices: she may ratify the contract or disaffirm it.
She may ratify explicitly; no further consideration is necessary. She may also do so by implication—for
instance, by continuing to make payments or retaining goods for an unreasonable period of time. If the
child has not disaffirmed the contract while still an infant, she may do so within a reasonable time after
reaching majority; what is a “reasonable time” depends on the circumstances.
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Duty to Return Consideration Received
Fifth, in most cases of disavowal, the infant’s only obligation is to return the goods (if he still has them) or
repay the consideration (unless it has been dissipated); he does not have to account for what he wasted,
consumed, or damaged during the contract. But since the age of majority has been lowered to eighteen or
nineteen, when most young people have graduated from high school, some courts require, if appropriate
to avoid injustice to the adult, that the infant account for what he got. (In Dodson v. Shrader, the supreme
court of Tennessee held that an infant would–if the contract was fair–have to pay for the pickup truck he
bought and wrecked.)
[3]
Tort Connected with a Contract
Sixth, the general rule is that infants are liable for their torts (e.g., assault, trespass, nuisance, negligence)
unless the tort suit is only an indirect method of enforcing a contract. Henry, age seventeen, holds himself
out to be a competent mechanic. He is paid $500 to overhaul Baker’s engine, but he does a careless job
and the engine is seriously damaged. He offers to return the $500 but disaffirms any further contractual
liability. Can Baker sue him for his negligence, a tort? No, because such a suit would be to enforce the
contract.
Persons Who Are Mentally Ill or Intoxicated
Mentally Ill Persons
The general rule is that a contract made by person who is mentally ill is voidable by the person when she
regains her sanity, or, as appropriate, by a guardian. If, though, a guardian has been legally appointed for
a person who is mentally ill, any contract made by the mentally ill person is void, but may nevertheless be
ratified by the ward (the incompetent person who is under a guardianship) upon regaining sanity or by
the guardian.
[4]
However, if the contract was for a necessity, the other party may have a valid claim against the estate of
the one who is mentally ill in order to prevent unjust enrichment. In other cases, whether a court will
enforce a contract made with a person who is mentally ill depends on the circumstances. Only if the
mental illness impairs the competence of the person in the particular transaction can the contract be
avoided; the test is whether the person understood the nature of the business at hand. Upon avoidance,
the mentally ill person must return any property in her possession. And if the contract was fair and the
other party had no knowledge of the mental illness, the court has the power to order other relief.
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Intoxicated Persons
If a person is so drunk that he has no awareness of his acts, and if the other person knows this, there is no
contract. The intoxicated person is obligated to refund the consideration to the other party unless he
dissipated it during his drunkenness. If the other person is unaware of his intoxicated state, however, an
offer or acceptance of fair terms manifesting assent is binding.
If a person is only partially inebriated and has some understanding of his actions, “avoidance depends on
a showing that the other party induced the drunkenness or that the consideration was inadequate or that
the transaction departed from the normal pattern of similar transactions; if the particular transaction is
one which a reasonably competent person might have made, it cannot be avoided even though entirely
executory.”
[5]
A person who was intoxicated at the time he made the contract may nevertheless
subsequently ratify it. Thus where Mervin Hyland, several times involuntarily committed for alcoholism,
executed a promissory note in an alcoholic stupor but later, while sober, paid the interest on the past-due
note, he was denied the defense of intoxication; the court said he had ratified his contract.
[6]
In any event,
intoxicated is a disfavored defense on public policy grounds.
K E Y T A K E A W A Y
Infants may generally disaffirm their contracts up to majority and within a reasonable time afterward, but
the rule is subject to some exceptions and complications: necessities, contracts made nonvoidable by
statute, misrepresentation of age, extent of duty to return consideration, ratification, and a tort connected
with the contract are among these exceptions.
Contracts made by insane or intoxicated people are voidable when the person regains competency. A
contract made by a person under guardianship is void, but the estate will be liable for necessities. A
contract made while insane or intoxicated may be ratified.
E X E R C I S E S
1. Ivar, an infant, bought a used car—not a necessity—for $9,500. Seller took advantage of
Ivar’s infancy: the car was really worth only $5,500. Can Ivar keep the car but disclaim
liability for the $4,000 difference?
2. If Ivar bought the car and it was a necessity, could he disclaim liability for the $4,000?
3. Alice Ace found her adult son’s Christmas stocking; Mrs. Ace herself had made it fifty
years before. It was considerably deteriorated. Isabel, sixteen, handy with knitting,
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agreed to reknit it for $100, which Mrs. Ace paid in advance. Isabel, regrettably, lost the
stocking. She returned the $100 to Mrs. Ace, who was very upset. May Mrs. Ace now sue
Isabel for the loss of the stocking (conversion) and emotional distress?
4. Why is voluntary intoxication a disfavored defense?
[1] Gastonia Personnel Corp. v. Rogers, 172 S.E.2d 19 (N.C. 1970).
[2] William L. Prosser, Handbook of the Law of Torts, 4th ed. (St. Paul, MN: West, 1971), 999.
[3] Dodson v. Shrader, 824 S.W.2d 545 (Tenn. 1992).
[4] Restatement (Second) of Contracts, Section 13.
[5] Restatement (Second) of Contracts, Section 16(b).
[6] First State Bank of Sinai v. Hyland, 399 N.W.2d 894 (S.D. 1987).
10.5 Cases
Undue Influence
Hodge v. Shea
168 S.E.2d 82 (S.C. 1969)
Brailsford, J.
In this equitable action the circuit court decreed specific performance of a contract for the sale of land,
and the defendant has appealed. The plaintiff is a physician, and the contract was prepared and executed
in his medical office on August 19, 1965. The defendant had been plaintiff’s patient for a number of years.
On the contract date, he was seventy-five years of age, was an inebriate of long standing, and was afflicted
by grievous chronic illnesses, including arteriosclerosis, cirrhosis of the liver, neuritises, arthritis of the
spine and hip and varicose veins of the legs. These afflictions and others required constant medication
and frequent medical attention, and rendered him infirm of body and mind, although not to the point of
incompetency to contract.
During the period immediately before and after August 19, 1965, George A. Shea, the defendant, was
suffering a great deal of pain in his back and hip and was having difficulty in voiding. He was attended
professionally by the plaintiff, Dr. Joseph Hodge, either at the Shea home, at the doctor’s office or in the
hospital at least once each day from August 9 through August 26, 1965, except for August 17. The contract
was signed during the morning of August 19. One of Dr. Hodge’s frequent house calls was made on the
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afternoon of that day, and Mr. Shea was admitted to the hospital on August 21, where he remained until
August 25.
Mr. Shea was separated from his wife and lived alone. He was dependent upon Dr. Hodge for house calls,
which were needed from time to time. His relationship with his physician, who sometimes visited him as a
friend and occasionally performed non-professional services for him, was closer than ordinarily arises
from that of patient and physician.…
“Where a physician regularly treats a chronically ill person over a period of two years, a confidential
relationship is established, raising a presumption that financial dealings between them are fraudulent.”
[Citation]
A 125 acre tract of land near Mr. Shea’s home, adjacent to land which was being developed as residential
property, was one of his most valuable and readily salable assets. In 1962, the developer of this contiguous
land had expressed to Mr. Shea an interest in it at $1000.00 per acre. A firm offer of this amount was
made in November, 1964, and was refused by Mr. Shea on the advice of his son-in-law that the property
was worth at least $1500.00 per acre. Negotiations between the developer and Mr. Ransdell commenced
at that time and were in progress when Mr. Shea, at the instance of Dr. Hodge and without consulting Mr.
Ransdell or anyone else, signed the contract of August 19, 1965. Under this contract Dr. Hodge claims the
right to purchase twenty choice acres of the 125 acre tract for a consideration calculated by the circuit
court to be the equivalent of $361.72 per acre. The market value of the land on the contract date has been
fixed by an unappealed finding of the master at $1200.00 per acre.…
The consideration was expressed in the contract between Dr. Hodge and Mr. Shea as follows:
The purchase price being (Cadillac Coupe DeVille 6600) & $4000.00 Dollars, on the following terms: Dr.
Joseph Hodge to give to Mr. George Shea a new $6600 coupe DeVille Cadillac which is to be registered in
name of Mr. George A. Shea at absolutely no cost to him. In return, Mr. Shea will give to Dr. Joe Hodge
his 1964 Cadillac coupe DeVille and shall transfer title of this vehicle to Dr. Hodge. Further, Dr. Joseph
Hodge will pay to Mr. George A. Shea the balance of $4000.00 for the 20 acres of land described above
subject to survey, title check, less taxes on purchase of vehicle.
Dr. Hodge was fully aware of Mr. Shea’s financial troubles, the liens on his property and his son-in-law’s
efforts in his behalf. He was also aware of his patient’s predilection for new Cadillacs. Although he was not
obligated to do so until the property was cleared of liens, which was not accomplished until the following
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June, Dr. Hodge hastened to purchase a 1965 Cadillac Coupe DeVille and delivered it to Mr. Shea on the
day after his discharge from the hospital on August 25, 1965. If he acted in haste in an effort to fortify
what he must have realized was a dubious contract, he has so far succeeded.…
The case at hand is attended by gross inadequacy of consideration, serious impairment of the grantor’s
mentality from age, intemperance and disease, and a confidential relationship between the grantee and
grantor. Has the strong presumption of vitiating unfairness arising from this combination of
circumstances been overcome by the evidence? We must conclude that it has not. The record is devoid of
any evidence suggesting a reason, compatible with fairness, for Mr. Shea’s assent to so disadvantageous a
bargain. Disadvantageous not only because of the gross disparity between consideration and value, but
because of the possibility that the sale would impede the important negotiations in which Mr. Ransdell
was engaged. Unless his memory failed him, Mr. Shea knew that his son-in-law expected to sell the 125
acre tract for about $1500.00 per acre as an important step toward raising sufficient funds to satisfy the
tax and judgment liens against the Shea property. These circumstances furnish strong evidence that Mr.
Shea’s assent to the contract, without so much as notice to Mr. Ransdell, was not the product of a
deliberate Exercise of an informed judgment.…
Finally, on this phase of the case, it would be naive not to recognize that the 1965 Cadillac was used to
entice a highly susceptible old man into a hard trade. Mr. Shea was fatuously fond of new Cadillacs, but
was apparently incapable of taking care of one. His own 1964 model (he had also had a 1963 model) had
been badly abused. According to Dr. Hodge, it ‘smelled like a toilet. * * * had several fenders bumped,
bullet holes in the top and the car was just filthy * * *. It was a rather foul car.’…Knowing the condition of
Mr. Shea’s car, his financial predicament and the activities of his son-in-law in his behalf, Dr. Hodge used
the new automobile as a means of influencing Mr. Shea to agree to sell. The means was calculated to
becloud Mr. Shea’s judgment, and, under the circumstances, its use was unfair.…
Reversed and remanded.
C A S E Q U E S T I O N S
1. Why is it relevant that Mr. Shea was separated from his wife and lived alone?
2. Why is it relevant that it was his doctor who convinced him to sell the real estate?
3. Why did the doctor offer the old man a Cadillac as part of the deal?
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4. Generally speaking, if you agree to sell your real estate for less than its real value, that’s
just a unilateral mistake and the courts will grant no relief. What’s different here?
Misrepresentation by Concealment
Reed v. King
193 Cal. Rptr. 130 (Calif. Ct. App. 1983)
Blease, J.
In the sale of a house, must the seller disclose it was the site of a multiple murder? Dorris Reed purchased
a house from Robert King. Neither King nor his real estate agents (the other named defendants) told Reed
that a woman and her four children were murdered there ten years earlier. However, it seems “truth will
come to light; murder cannot be hid long.” (Shakespeare, Merchant of Venice, Act II, Scene II.) Reed
learned of the gruesome episode from a neighbor after the sale. She sues seeking rescission and damages.
King and the real estate agent defendants successfully demurred to her first amended complaint for
failure to state a cause of action. Reed appeals the ensuing judgment of dismissal. We will reverse the
judgment.
Facts
We take all issuable facts pled in Reed’s complaint as true. King and his real estate agent knew about the
murders and knew the event materially affected the market value of the house when they listed it for sale.
They represented to Reed the premises were in good condition and fit for an “elderly lady” living alone.
They did not disclose the fact of the murders. At some point King asked a neighbor not to inform Reed of
that event. Nonetheless, after Reed moved in neighbors informed her no one was interested in purchasing
the house because of the stigma. Reed paid $76,000, but the house is only worth $65,000 because of its
past.…
Discussion
Does Reed’s pleading state a cause of action? Concealed within this question is the nettlesome problem of
the duty of disclosure of blemishes on real property which are not physical defects or legal impairments to
use.
Numerous cases have found non-disclosure of physical defects and legal impediments to use of real
property are material. [Citation] However, to our knowledge, no prior real estate sale case has faced an
issue of non-disclosure of the kind presented here. Should this variety of ill-repute be required to be
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disclosed? Is this a circumstance where “non-disclosure of the fact amounts to a failure to act in good faith
and in accordance with reasonable standards of fair dealing [?]” (Rest.2d Contracts, § 161, subd. (b).)
The paramount argument against an affirmative conclusion is it permits the camel’s nose of unrestrained
irrationality admission to the tent. If such an “irrational” consideration is permitted as a basis of
rescission the stability of all conveyances will be seriously undermined. Any fact that might disquiet the
enjoyment of some segment of the buying public may be seized upon by a disgruntled purchaser to void a
bargain. In our view, keeping this genie in the bottle is not as difficult a task as these arguments assume.
We do not view a decision allowing Reed to survive a demurrer in these unusual circumstances as
endorsing the materiality of facts predicating peripheral, insubstantial, or fancied harms.
The murder of innocents is highly unusual in its potential for so disturbing buyers they may be unable to
reside in a home where it has occurred. This fact may foreseeably deprive a buyer of the intended use of
the purchase. Murder is not such a common occurrence that buyers should be charged with anticipating
and discovering this disquieting possibility. Accordingly, the fact is not one for which a duty of inquiry
and discovery can sensibly be imposed upon the buyer.
Reed alleges the fact of the murders has a quantifiable effect on the market value of the premises. We
cannot say this allegation is inherently wrong and, in the pleading posture of the case, we assume it to be
true. If information known or accessible only to the seller has a significant and measureable effect on
market value and, as is alleged here, the seller is aware of this effect, we see no principled basis for making
the duty to disclose turn upon the character of the information. Physical usefulness is not and never has
been the sole criterion of valuation. Stamp collections and gold speculation would be insane activities if
utilitarian considerations were the sole measure of value.
Reputation and history can have a significant effect on the value of realty. “George Washington slept here”
is worth something, however physically inconsequential that consideration may be. Ill-repute or “bad will”
conversely may depress the value of property. Failure to disclose such a negative fact where it will have a
forseeably depressing effect on income expected to be generated by a business is tortuous. [Citation] Some
cases have held that unreasonable fears of the potential buying public that a gas or oil pipeline may
rupture may depress the market value of land and entitle the owner to incremental compensation in
eminent domain.
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Whether Reed will be able to prove her allegation the decade-old multiple murder has a significant effect
on market value we cannot determine. If she is able to do so by competent evidence she is entitled to a
favorable ruling on the issues of materiality and duty to disclose. Her demonstration of objective tangible
harm would still the concern that permitting her to go forward will open the floodgates to rescission on
subjective and idiosyncratic grounds.…
The judgment is reversed.
C A S E Q U E S T I O N S
1. Why is it relevant that the plaintiff was “an elderly lady living alone”?
2. How did Mrs. Reed find out about the gruesome fact here?
3. Why did the defendants conceal the facts?
4. What is the concern about opening “floodgates to rescission on subjective and
idiosyncratic grounds”?
5. Why did George Washington sleep in so many places during the Revolutionary War?
6. Did Mrs. Reed get to rescind her contract and get out of the house as a result of this
case?
Misrepresentation by Assertions of Opinion
Vokes v. Arthur Murray, Inc.
212 S.2d. 906 (Fla. 1968)
Pierce, J.
This is an appeal by Audrey E. Vokes, plaintiff below, from a final order dismissing with prejudice, for
failure to state a cause of action, her fourth amended complaint, hereinafter referred to as plaintiff’s
complaint.
Defendant Arthur Murray, Inc., a corporation, authorizes the operation throughout the nation of dancing
schools under the name of “Arthur Murray School of Dancing” through local franchised operators, one of
whom was defendant J. P. Davenport whose dancing establishment was in Clearwater.
Plaintiff Mrs. Audrey E. Vokes, a widow of 51 years and without family, had a yen to be “an accomplished
dancer” with the hopes of finding “new interest in life.” So, on February 10, 1961, a dubious fate, with the
assist of a motivated acquaintance, procured her to attend a “dance party” at Davenport’s “School of
Dancing” where she whiled away the pleasant hours, sometimes in a private room, absorbing his
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accomplished sales technique, during which her grace and poise were elaborated upon and her rosy future
as “an excellent dancer” was painted for her in vivid and glowing colors. As an incident to this interlude,
he sold her eight 1/2-hour dance lessons to be utilized within one calendar month therefrom, for the sum
of $14.50 cash in hand paid, obviously a baited “come-on.”
Thus she embarked upon an almost endless pursuit of the terpsichorean art during which, over a period of
less than sixteen months, she was sold fourteen “dance courses” totaling in the aggregate 2302 hours of
dancing lessons for a total cash outlay of $31,090.45 [about $220,000 in 2010 dollars] all at Davenport’s
dance emporium. All of these fourteen courses were evidenced by execution of a written “Enrollment
Agreement-Arthur Murray’s School of Dancing” with the addendum in heavy black print, “No one will be
informed that you are taking dancing lessons. Your relations with us are held in strict confidence”, setting
forth the number of “dancing lessons” and the “lessons in rhythm sessions” currently sold to her from
time to time, and always of course accompanied by payment of cash of the realm.
These dance lesson contracts and the monetary consideration therefore of over $31,000 were procured
from her by means and methods of Davenport and his associates which went beyond the unsavory, yet
legally permissible, perimeter of “sales puffing” and intruded well into the forbidden area of undue
influence, the suggestion of falsehood, the suppression of truth, and the free Exercise of rational
judgment, if what plaintiff alleged in her complaint was true. From the time of her first contact with the
dancing school in February, 1961, she was influenced unwittingly by a constant and continuous barrage of
flattery, false praise, excessive compliments, and panegyric encomiums, to such extent that it would be
not only inequitable, but unconscionable, for a Court exercising inherent chancery power to allow such
contracts to stand.
She was incessantly subjected to overreaching blandishment and cajolery. She was assured she had “grace
and poise”; that she was “rapidly improving and developing in her dancing skill”; that the additional
lessons would “make her a beautiful dancer, capable of dancing with the most accomplished dancers”;
that she was “rapidly progressing in the development of her dancing skill and gracefulness”, etc., etc. She
was given “dance aptitude tests” for the ostensible purpose of “determining” the number of remaining
hours of instructions needed by her from time to time.
At one point she was sold 545 additional hours of dancing lessons to be entitled to an award of the
“Bronze Medal” signifying that she had reached “the Bronze Standard”, a supposed designation of dance
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achievement by students of Arthur Murray, Inc.…At another point, while she still had over 1,000 unused
hours of instruction she was induced to buy 151 additional hours at a cost of $2,049.00 to be eligible for a
“Student Trip to Trinidad”, at her own expense as she later learned.…
Finally, sandwiched in between other lesser sales promotions, she was influenced to buy an additional 481
hours of instruction at a cost of $6,523.81 in order to “be classified as a Gold Bar Member, the ultimate
achievement of the dancing studio.”
All the foregoing sales promotions, illustrative of the entire fourteen separate contracts, were procured by
defendant Davenport and Arthur Murray, Inc., by false representations to her that she was improving in
her dancing ability, that she had excellent potential, that she was responding to instructions in dancing
grace, and that they were developing her into a beautiful dancer, whereas in truth and in fact she did not
develop in her dancing ability, she had no “dance aptitude,” and in fact had difficulty in “hearing that
musical beat.” The complaint alleged that such representations to her “were in fact false and known by the
defendant to be false and contrary to the plaintiff’s true ability, the truth of plaintiff’s ability being fully
known to the defendants, but withheld from the plaintiff for the sole and specific intent to deceive and
defraud the plaintiff and to induce her in the purchasing of additional hours of dance lessons.” It was
averred that the lessons were sold to her “in total disregard to the true physical, rhythm, and mental
ability of the plaintiff.” In other words, while she first exulted that she was entering the “spring of her life”,
she finally was awakened to the fact there was “spring” neither in her life nor in her feet.
The complaint prayed that the Court decree the dance contracts to be null and void and to be cancelled,
that an accounting be had, and judgment entered against, the defendants “for that portion of the
$31,090.45 not charged against specific hours of instruction given to the plaintiff.” The Court held the
complaint not to state a cause of action and dismissed it with prejudice. We disagree and reverse.
It is true that “generally a misrepresentation, to be actionable, must be one of fact rather than of opinion.”
[Citations] But this rule has significant qualifications, applicable here. It does not apply where there is a
fiduciary relationship between the parties, or where there has been some artifice or trick employed by the
representor, or where the parties do not in general deal at “arm’s length” as we understand the phrase, or
where the representee does not have equal opportunity to become apprised of the truth or falsity of the
fact represented. [Citation] As stated by Judge Allen of this Court in [Citation]:
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“* * * A statement of a party having * * * superior knowledge may be regarded as a statement of fact
although it would be considered as opinion if the parties were dealing on equal terms.”…
In [Citation] it was said that “* * * what is plainly injurious to good faith ought to be considered as a fraud
sufficient to impeach a contract.”… [Reversed.]
C A S E Q U E S T I O N S
1. What was the motivation of the “motivated acquaintance” in this case?
2. Why is it relevant that Mrs. Vokes was a “widow of 51 years and without family”?
3. How did the defendant J. P. Davenport entice her into spending a lot of money on dance
lessons?
4. What was the defendants’ defense as to why they should not be liable for
misrepresentation, and why was that defense not good?
5. Would you say the court here is rather condescending to Mrs. Vokes, all things
considered?
Mutual Mistake
Konic International Corporation v. Spokane Computer Services, Inc.,
708 P.2d 932 (Idaho 1985)
The magistrate found the following facts. David Young, an employee of Spokane Computer, was instructed
by his employer to investigate the possibility of purchasing a surge protector, a device which protects
computers from damaging surges of electrical current. Young’s investigation turned up several units
priced from $50 to $200, none of which, however, were appropriate for his employer’s needs. Young then
contacted Konic. After discussing Spokane Computer’s needs with a Konic engineer, Young was referred
to one of Konic’s salesmen. Later, after deciding on a certain unit, Young inquired as to the price of the
selected item. The salesman responded, “fifty-six twenty.” The salesman meant $5,620. Young in turn
thought $56.20.
The salesman for Konic asked about Young’s authority to order the equipment and was told that Young
would have to get approval from one of his superiors. Young in turn prepared a purchase order for $56.20
and had it approved by the appropriate authority. Young telephoned the order and purchase order
number to Konic who then shipped the equipment to Spokane Computer. However, because of internal
processing procedures of both parties the discrepancy in prices was not discovered immediately. Spokane
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Computer received the surge protector and installed it in its office. The receipt and installation of the
equipment occurred while the president of Spokane Computer was on vacation. Although the president’s
father, who was also chairman of the board of Spokane Computer, knew of the installation, he only
inquired as to what the item was and who had ordered it. The president came back from vacation the day
after the surge protector had been installed and placed in operation and was told of the purchase. He
immediately ordered that power to the equipment be turned off because he realized that the equipment
contained parts which alone were worth more than $56 in value. Although the president then told Young
to verify the price of the surge protector, Young failed to do so. Two weeks later, when Spokane Computer
was processing its purchase order and Konic’s invoice, the discrepancy between the amount on the invoice
and the amount on the purchase order was discovered. The president of Spokane Computer then
contacted Konic, told Konic that Young had no authority to order such equipment, that Spokane
Computer did not want the equipment, and that Konic should remove it. Konic responded that Spokane
Computer now owned the equipment and if the equipment was not paid for, Konic would sue for the
price. Spokane Computer refused to pay and this litigation ensued.
Basically what is involved here is a failure of communication between the parties. A similar failure to
communicate arose over 100 years ago in the celebrated case ofRaffles v. Wichelhaus, [Citation] which
has become better known as the case of the good ship “Peerless.” In Peerless, the parties agreed on a sale
of cotton which was to be delivered from Bombay by the ship “Peerless.” In fact, there were two ships
named “Peerless” and each party, in agreeing to the sale, was referring to a different ship. Because the
sailing time of the two ships was materially different, neither party was willing to agree to shipment by the
“other” Peerless. The court ruled that, because each party had a different ship in mind at the time of the
contract, there was in fact no binding contract. The Peerless rule later was incorporated into section 71 of
the Restatement of Contracts and has now evolved into section 20 of Restatement (Second) of Contracts
(1981). Section 20 states in part:
(1) There is no manifestation of mutual assent to an exchange if the parties attach materially different
meanings to their manifestations and
(a) neither knows or has reason to know the meaning attached by the other.
Comment (c) to Section 20 further explains that “even though the parties manifest mutual assent to the
same words of agreement, there may be no contract because of a material difference of understanding as
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to the terms of the exchange.” Another authority, Williston, discussing situations where a mistake will
prevent formation of a contract, agrees that “where a phrase of contract…is reasonably capable of different
interpretations…there is no contract.” [Citation]
In the present case, both parties attributed different meanings to the same term, “fifty-six twenty.” Thus,
there was no meeting of the minds of the parties. With a hundred fold difference in the two prices,
obviously price was a material term. Because the “fifty-six twenty” designation was a material term
expressed in an ambiguous form to which two meanings were obviously applied, we conclude that no
contract between the parties was ever formed. Accordingly, we do not reach the issue of whether Young
had authority to order the equipment.
[Affirmed.]
C A S E Q U E S T I O N S
1. Why is it reasonable to say that no contract was made in this case?
2. A discrepancy in price of one hundred times is, of course, enormous. How could such an
egregious mistake have occurred by both parties? In terms of running a sensible
business, how could this kind of mistake be avoided before it resulted in expensive
litigation?
10.6 Summary and Exercises
Summary
No agreement is enforceable if the parties did not enter into it (1) of their own free will, (2) with adequate
knowledge of the terms, and (3) with the mental capacity to appreciate the relationship.
Contracts coerced through duress will void a contract if actually induced through physical harm and will
make the contract voidable if entered under the compulsion of many types of threats. The threat must be
improper and leave no reasonable alternative, but the test is subjective—that is, what did the person
threatened actually fear, not what a more reasonable person might have feared.
Misrepresentations may render an agreement void or voidable. Among the factors to be considered are
whether the misrepresentation was deliberate and material; whether the promisee relied on the
misrepresentation in good faith; whether the representation was of fact, opinion, or intention; and
whether the parties had a special relationship.
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Similarly, mistaken beliefs, not induced by misrepresentations, may suffice to avoid the bargain. Some
mistakes on one side only make a contract voidable. More often, mutual mistakes of facts will show that
there was no meeting of the minds.
Those who lack capacity are often entitled to avoid contract liability. Although it is possible to state the
general rule, many exceptions exist—for example, in contracts for necessities, infants will be liable for the
reasonable value of the goods purchased.
E X E R C I S E S
1. Eulrich, an auto body mechanic who had never operated a business, entered into a Snap-
On Tools franchise agreement. For $22,000 invested from his savings and the promise of
another $22,000 from the sale of inventory, he was provided a truck full of tools. His job
was to drive around his territory and sell them. The agreement allowed termination by
either party; if Eulrich terminated, he was entitled to resell to Snap-On any new tools he
had remaining. When he complained that his territory was not profitable, his supervisors
told him to work it harder, that anybody could make money with Snap-On’s marketing
system. (In fact, the evidence was the system made money for the supervisors and little
for dealers; dealers quickly failed and were replaced by new recruits.) Within several
months Eulrich was out of money and desperate. He tried to “check in” his truck to get
money to pay his household bills and uninsured medical bills for his wife; the supervisors
put him off for weeks. On the check-in day, the exhausted Eulrich’s supervisors berated
him for being a bad businessman, told him no check would be forthcoming until all the
returned inventory was sold, and presented him with a number of papers to sign,
including a “Termination Agreement” whereby he agreed to waive any claims against
Snap-On; he was not aware that was what he had signed. He sued to rescind the
contract and for damages. The defendants held up the waiver as a defense. Under what
theory might Eulrich recover?
[1]
2. Chauncey, a college student, worked part-time in a restaurant. After he had worked for
several months, the owner of the restaurant discovered that Chauncey had stolen
$2,000 from the cash register. The owner called Chauncey’s parents and told them that
if they did not sign a note for $2,000, he would initiate criminal proceedings against
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Chauncey. The parents signed and delivered the note to the owner but later refused to
pay. May the owner collect on the note? Why?
3. A restaurant advertised a steak dinner that included a “juicy, great-tasting steak, a fresh
crisp salad, and a warm roll.” After reading the ad, Clarence visited the restaurant and
ordered the steak dinner. The steak was dry, the lettuce in the salad was old and limp
with brown edges, and the roll was partly frozen. May Clarence recover from the
restaurant on the basis of misrepresentation? Why?
4. Bert purchased Ernie’s car. Before selling the car, Ernie had stated to Bert, “This car runs
well and is reliable. Last week I drove the car all the way from Seattle to San Francisco to
visit my mother and back again to Seattle.” In fact, Ernie was not telling the truth: he had
driven the car to San Francisco to visit his paramour, not his mother. Upon discovery of
the truth, may Bert avoid the contract? Why?
5. Randolph enrolled in a business law class and purchased a new business law textbook
from the local bookstore. He dropped the class during the first week and sold the book
to his friend Scott. Before making the sale, Randolph told Scott that he had purchased
the book new and had owned it for one week. Unknown to either Randolph or Scott, the
book was in fact a used one. Scott later discovered some underlining in the middle of the
book and attempted to avoid the contract. Randolph refused to refund the purchase
price, claiming that he had not intentionally deceived his friend. May Scott avoid the
contract? Why?
6. Langstraat was seventeen when he purchased a motorcycle. When applying for
insurance, he signed a “Notice of Rejection,” declining to purchase uninsured motorist
coverage. He was involved in an accident with an uninsured motorist and sought to
disaffirm his rejection of the uninsured motorist coverage on the basis of infancy. May
he do so?
7. Waters was attracted to Midwest Supply by its advertisements for doing federal income
taxes. The ads stated “guaranteed accurate tax preparation.” Waters inquired about
amending past returns to obtain refunds. Midwest induced him to apply for and receive
improper refunds. When Waters was audited, he was required to pay more taxes, and
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the IRS put tax liens on his wages and bank accounts. In fact, Midwest hired people with
no knowledge about taxes at all; if a customer inquired about employees’ qualifications,
Midwest’s manual told the employees to say, “Midwest has been preparing taxes for
twenty years.” The manual also instructed office managers never to refer to any
employee as a “specialist” or “tax expert,” but never to correct any news reporters or
commentators if they referred to employees as such. What cause of action has Waters,
and for what remedies?
8. Mutschler Grain Company (later Jamestown Farmers Elevator) agreed to sell General Mills 30,000
bushels of barley at $1.22 per bushel. A dispute arose: Mutschler said that transportation was to
be by truck but that General Mills never ordered any trucks to pick up the grain; General Mills said
the grain was to be shipped by rail (railcars were in short supply). Nine months later, after
Mutschler had delivered only about one-tenth the contracted amount, the price of barley was
over $3.00 per bushel. Mutschler defaulted on, and then repudiated, the contract. Fred Mutschler
then received this telephone call from General Mills: “We’re General Mills, and if you don’t deliver
this grain to us, why we’ll have a battery of lawyers in there tomorrow morning to visit you, and
then we are going to the North Dakota Public Service (Commission); we’re going to the
Minneapolis Grain Exchange and we’re going to the people in Montana and there will be no more
Mutschler Grain Company. We’re going to take your license.”
Mutchsler then shipped 22,000 bushels of barley at the $1.22 rate and sued General Mills for the
difference between that price and the market price of over $3.00. Summary judgment issued for
General Mills. Upon what basis might Mutschler Grain appeal?
9. Duke decided to sell his car. The car’s muffler had a large hole in it, and as a result, the
car made a loud noise. Before showing the car to potential buyers, Duke patched the
hole with muffler tape to quiet it. Perry bought the car after test-driving it. He later
discovered the faulty muffler and sought to avoid the contract, claiming fraud. Duke
argued that he had not committed fraud because Perry had not asked about the muffler
and Duke had made no representation of fact concerning it. Is Duke correct? Decide and
explain.
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10. At the end of the term at college, Jose, talking in the library with his friend Leanne, said,
“I’ll sell you my business law notes for $25.” Leanne agreed and paid him the money.
Jose then realized he’d made a mistake in that he had offered his notes when he meant
to offer his book. Leanne didn’t want the book; she had a book. She wanted the notes.
Would Leanne have a cause of action against Jose if he refused to deliver the notes?
Decide and explain.
S E L F – T E S T Q U E S T I O N S
1. Misrepresentation that does not go to the core of a contract is
a. fraud in the execution
b. fraud in the inducement
c. undue influence
d. an example of mistake
In order for a misrepresentation to make a contract voidable,
a. it must have been intentional
b. the party seeking to void must have relied on the misrepresentation
c. it must always be material
d. none of the above is required
A mistake by one party will not invalidate a contract unless
a. the other party knew of the mistake
b. the party making the mistake did not read the contract closely
c. the parties to the contract had never done business before
d. the party is mistaken about the law
Upon reaching the age of majority, a person who entered into a contract to purchase goods
while a minor may
a. ratify the contract and keep the goods without paying for them
b. disaffirm the contract and keep the goods without paying for them
c. avoid paying for the goods by keeping them without ratifying or disaffirming the
contract
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d. none of these
Seller does not disclose to Buyer that the foundation of a house is infested with termites. Upon
purchasing the house and remodeling part of the basement, Buyer discovers the termites. Has Buyer a
cause of action against Seller?
a. yes
b. no
S E L F – T E S T A N S W E R S
1. a
2. d
3. a
4. e
5. b
Chapter 11
Consideration
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. What “consideration” is in contract law, what it is not, and what purposes it serves
2. How the sufficiency of consideration is determined
3. In what common situations an understanding of consideration is important
4. What promises are enforceable without consideration
11.1 General Perspectives on Consideration
L E A R N I N G O B J E C T I V E S
1. Understand what “consideration” is in contract law.
2. Recognize what purposes the doctrine serves.
3. Understand how the law determines whether consideration exists.
4. Know the elements of consideration.
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The Purpose of Consideration
This chapter continues our inquiry into whether the parties created a valid contract. InChapter 9 “The
Agreement”, we saw that the first requisite of a valid contract is an agreement: offer and acceptance. In
this chapter, we assume that agreement has been reached and concentrate on one of its crucial aspects:
the existence of consideration. Which of the following, if any, is a contract?
1. Betty offers to give a book to Lou. Lou accepts.
2. Betty offers Lou the book in exchange for Lou’s promise to pay twenty-five dollars. Lou
accepts.
3. Betty offers to give Lou the book if Lou promises to pick it up at Betty’s house. Lou
agrees.
In American law, only the second situation is a binding contract, because only that contract
contains consideration, a set of mutual promises in which each party agrees to give up something to the
benefit of the other. This chapter will explore the meaning and rationale of that statement.
The question of what constitutes a binding contract has been answered differently throughout history and
in other cultures. For example, under Roman law, a contract without consideration was binding if certain
formal requirements were met. And in the Anglo-American tradition, the presence of a seal—the wax
impression affixed to a document—was once sufficient to make a contract binding without any other
consideration. The seal is no longer a substitute for consideration, although in some states it creates a
presumption of consideration; in forty-nine states, the Uniform Commercial Code (UCC) has abolished
the seal on contracts for the sale of goods. (Louisiana has not adopted UCC Article 2.)
Whatever its original historical purposes, and however apparently arcane, the doctrine of consideration
serves some still-useful purposes. It provides objective evidence for asserting that a contract exists; it
distinguishes between enforceable and unenforceable bargains; and it is a check against rash,
unconsidered action, against thoughtless promise making.
[1]
A Definition of Consideration
Consideration is said to exist when the promisor receives some benefit for his promise and the promisee
gives up something in return; it is the bargained-for price you pay for what you get. That may seem simple
enough. But as with much in the law, the complicating situations are never very far away. The
“something” that is promised or delivered cannot be just anything, such as a feeling of pride, warmth,
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amusement, or friendship; it must be something known as a legal detriment—an act, forbearance, or a
promise of such from the promisee. The detriment need not be an actual detriment; it may in fact be a
benefit to the promisee, or at least not a loss. The detriment to one side is usually a legal benefit to the
other, but the detriment to the promisee need not confer a tangible benefit on the promisor; the promisee
can agree to forego something without that something being given to the promisor. Whether
consideration is legally sufficient has nothing to do with whether it is morally or economically adequate to
make the bargain a fair one. Moreover, legal consideration need not even be certain; it can be a promise
contingent on an event that may never happen. Consideration is a legal concept, and it centers on the
giving up of a legal right or benefit.
Consideration has two elements. The first, as just outlined, is whether the promisee has incurred a legal
detriment—given up something, paid some “price,” though it may be, for example, the promise to do
something, like paint a house. (Some courts—although a minority—take the view that a bargained-for
legal benefit to the promisor is sufficient consideration.) The second element is whether the legal
detriment was bargained for: did the promisor specifically intend the act, forbearance, or promise in
return for his promise? Applying this two-pronged test to the three examples given at the outset of the
chapter, we can easily see why only in the second is there legally sufficient consideration. In the first, Lou
incurred no legal detriment; he made no pledge to act or to forbear from acting, nor did he in fact act or
forbear from acting. In the third example, what might appear to be such a promise is not really so. Betty
made a promise on a condition that Lou comes to her house; the intent clearly is to make a gift.
K E Y T A K E A W A Y
Consideration is—with some exceptions—a required element of a contract. It is the bargained-for giving
up of something of legal value for something in return. It serves the purposes of making formal the
intention to contract and reducing rash promise making.
E X E R C I S E S
1. Alice promises to give her neighbor a blueberry bush; the neighbor says, “Thank you!”
Subsequently, Alice changes her mind. Is she bound by her promise?
2. Why, notwithstanding its relative antiquity, does consideration still serve some useful
purposes?
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3. Identify the exchange of consideration in this example: A to B, “I will pay you $800 if you
paint my garage.” B to A, “Okay, I’ll paint your garage for $800.”
[1] Lon L. Fuller, “Consideration and Form,” Columbia Law Review 41 (1941): 799.
11.2 Legal Sufficiency
L E A R N I N G O B J E C T I V E S
1. Know in general what “legal sufficiency” means when examining consideration.
2. Recognize how the concept operates in such common situations as threat of litigation,
and accord and satisfaction.
3. Understand why illusory promises are unenforceable, and how courts deal with needs,
outputs, and exclusive dealings contracts.
The Concept of Legal Sufficiency
As suggested in Section 11.1 “General Perspectives on Consideration”, what is required in contract is the
exchange of a legal detriment and a legal benefit; if that happens, the consideration is said to
have legal sufficiency.
Actual versus Legal Detriment
Suppose Phil offers George $500 if George will quit smoking for one year. Is Phil’s promise binding?
Because George is presumably benefiting by making and sticking to the agreement—surely his health will
improve if he gives up smoking—how can his act be considered a legal detriment? The answer is that there
is forbearance on George’s part: George is legally entitled to smoke, and by contracting not to, he suffers a
loss of his legal right to do so. This is a legal detriment; consideration does not require an actual
detriment.
Adequacy of Consideration
Scrooge offers to buy Caspar’s motorcycle, worth $700, for $10 and a shiny new fountain pen (worth $5).
Caspar agrees. Is this agreement supported by adequate consideration? Yes, because both have agreed to
give up something that is theirs: Scrooge, the cash and the pen; Caspar, the motorcycle. Courts are not
generally concerned with the economic adequacy of the consideration but instead with whether it is
present. As Judge Richard A. Posner puts it, “To ask whether there is consideration is simply to inquire
whether the situation is one of exchange and a bargain has been struck. To go further and ask whether the
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consideration is adequate would require the court to do what…it is less well equipped to do than the
parties—decide whether the price (and other essential terms) specified in the contract are
reasonable.”
[1]
In short, “courts do not inquire into the adequacy of consideration.”
Of course, normally, parties to contracts will not make such a one-sided deal as Scrooge and Caspar’s. But
there is a common class of contracts in which nominal consideration—usually one dollar—is recited in
printed forms. Usually these are option contracts, in which “in consideration of one dollar in hand paid
and receipt of which is hereby acknowledged” one party agrees to hold open the right of the other to make
a purchase on agreed terms. The courts will enforce these contracts if the dollar is intended “to support a
short-time option proposing an exchange on fair terms.”
[2]
If, however, the option is for an unreasonably
long period of time and the underlying bargain is unfair (the Restatement gives as an example a ten-year
option permitting the optionee to take phosphate rock from a widow’s land at a per-ton payment of only
one-fourth the prevailing rate), then the courts are unlikely to hold that the nominal consideration makes
the option irrevocable.
Because the consideration on such option contracts is nominal, its recital in the written instrument is
usually a mere formality, and it is frequently never paid; in effect, the recital of nominal consideration is
false. Nevertheless, the courts will enforce the contract—precisely because the recital has become a
formality and nobody objects to the charade. Moreover, it would be easy enough to upset an option based
on nominal consideration by falsifying oral testimony that the dollar was never paid or received. In a
contest between oral testimonies where the incentive to lie is strong and there is a written document
clearly incorporating the parties’ agreement, the courts prefer the latter. However, as Section 11.4.1
“Consideration for an Option”, Board of Control of Eastern Michigan University v. Burgess,
demonstrates, the state courts are not uniform on this point, and it is a safe practice always to deliver the
consideration, no matter how nominal.
Applications of the Legal Sufficiency Doctrine
This section discusses several common circumstances where the issue of whether the consideration
proffered (offered up) is adequate.
Threat of Litigation: Covenant Not to Sue
Because every person has the legal right to file suit if he or she feels aggrieved, a promise to refrain from
going to court is sufficient consideration to support a promise of payment or performance. In Dedeaux v.
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Young, Dedeaux purchased property and promised to make certain payments to Young, the broker.
[3]
But
Dedeaux thereafter failed to make these payments, and Young threatened suit; had he filed papers in
court, the transfer of title could have been blocked. To keep Young from suing, Dedeaux promised to pay a
5 percent commission if Young would stay out of court. Dedeaux later resisted paying on the ground that
he had never made such a promise and that even if he had, it did not amount to a contract because there
was no consideration from Young. The court disagreed, holding that the evidence supported Young’s
contention that Dedeaux had indeed made such a promise and upholding Young’s claim for the
commission because “a request to forbear to exercise a legal right has been generally accepted as sufficient
consideration to support a contract.” If Young had had no grounds to sue—for example, if he had
threatened to sue a stranger, or if it could be shown that Dedeaux had no obligation to him originally—
then there would have been no consideration because Young would not have been giving up a legal right.
A promise to forebear suing in return for settlement of a dispute is called
a covenant not to sue(covenant is another word for agreement).
Accord and Satisfaction Generally
Frequently, the parties to a contract will dispute the meaning of its terms and conditions, especially the
amount of money actually due. When the dispute is genuine (and not the unjustified attempt of one party
to avoid paying a sum clearly due), it can be settled by the parties’ agreement on a fixed sum as the
amount due. This second agreement, which substitutes for the disputed first agreement, is called an
accord, and when the payment or other term is discharged, the completed second contract is known as
an accord and satisfaction. A suit brought for an alleged breach of the original contract could be defended
by citing the later accord and satisfaction.
An accord is a contract and must therefore be supported by consideration. Suppose Jan owes Andy
$7,000, due November 1. On November 1, Jan pays only $3,500 in exchange for Andy’s promise to release
Jan from the remainder of the debt. Has Andy (the promisor) made a binding promise? He has not,
because there is no consideration for the accord. Jan has incurred no detriment; she has received
something (release of the obligation to pay the remaining $3,500), but she has given up nothing. But if
Jan and Andy had agreed that Jan would pay the $3,500 on October 25, then there would be
consideration; Jan would have incurred a legal detriment by obligating herself to make a payment earlier
than the original contract required her to. If Jan had paid the $3,500 on November 11 and had given Andy
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something else agreed to—a pen, a keg of beer, a peppercorn—the required detriment would also be
present.
Let’s take a look at some examples of the accord and satisfaction principle. The dispute that gives rise to
the parties’ agreement to settle by an accord and satisfaction may come up in several typical ways: where
there is an unliquidated debt; a disputed debt; an “in-full-payment check” for less than what the creditor
claims is due; unforeseen difficulties that give rise to a contract modification, or a novation; or a
composition among creditors. But no obligation ever arises—and no real legal dispute can arise—where a
person promises a benefit if someone will do that which he has a preexisting obligation to, or where a
person promises a benefit to someone not to do that which the promisee is already disallowed from doing,
or where one makes an illusory promise.
Settling an Unliquidated Debt
An unliquidated debt is one that is uncertain in amount. Such debts frequently occur when people consult
professionals in whose offices precise fees are rarely discussed, or where one party agrees, expressly or by
implication, to pay the customary or reasonable fees of the other without fixing the exact amount. It is
certain that a debt is owed, but it is not certain how much. (A liquidated debt, on the other hand, is one
that is fixed in amount, certain. A debt can be liquidated by being written down in unambiguous terms—
“IOU $100”—or by being mathematically ascertainable—$1 per pound of ice ordered and 60 pounds
delivered; hence the liquidated debt is $60.)
Here is how the matter plays out: Assume a patient goes to the hospital for a gallbladder operation. The
cost of the operation has not been discussed beforehand in detail, although the cost in the metropolitan
area is normally around $8,000. After the operation, the patient and the surgeon agree on a bill of
$6,000. The patient pays the bill; a month later the surgeon sues for another $2,000. Who wins? The
patient: he has forgone his right to challenge the reasonableness of the fee by agreeing to a fixed amount
payable at a certain time. The agreement liquidating the debt is an accord and is enforceable. If, however,
the patient and the surgeon had agreed on an $8,000 fee before the operation, and if the patient
arbitrarily refused to pay this liquidated debt unless the surgeon agreed to cut her fee in half, then the
surgeon would be entitled to recover the other half in a lawsuit, because the patient would have given no
consideration—given up nothing, “suffered no detriment”—for the surgeon’s subsequent agreement to cut
the fee.
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Settling a Disputed Debt
A disputed debt arises where the parties did agree on (liquidated) the price or fee but subsequently get
into a dispute about its fairness, and then settle. When this dispute is settled, the parties have given
consideration to an agreement to accept a fixed sum as payment for the amount due. Assume that in the
gallbladder case the patient agrees in advance to pay $8,000. Eight months after the operation and as a
result of nausea and vomiting spells, the patient undergoes a second operation; the surgeons discover a
surgical sponge embedded in the patient’s intestine. The patient refuses to pay the full sum of the original
surgeon’s bill; they settle on $6,000, which the patient pays. This is a binding agreement because
subsequent facts arose to make legitimate the patient’s quarrel over his obligation to pay the full bill. As
long as the dispute is based in fact and is not trumped up, as long as the promisee is acting in good faith,
then consideration is present when a disputed debt is settled.
The “In-Full-Payment” Check Situation
To discharge his liquidated debt for $8,000 to the surgeon, the patient sends a check for $6,000 marked
“payment in full.” The surgeon cashes it. There is no dispute. May the surgeon sue for the remaining
$2,000? This may appear to be an accord: by cashing the check, the surgeon seems to be agreeing with
the patient to accept the $6,000 in full payment. But consideration is lacking. Because the surgeon is
owed more than the face amount of the check, she causes the patient no legal detriment by accepting the
check. If the rule were otherwise, debtors could easily tempt hard-pressed creditors to accept less than the
amount owed by presenting immediate cash. The key to the enforceability of a “payment in full” legend is
the character of the debt. If unliquidated, or if there is a dispute, then “payment in full” can serve as
accord and satisfaction when written on a check that is accepted for payment by a creditor. But if the debt
is liquidated and undisputed, there is no consideration when the check is for a lesser amount. (However, it
is arguable that if the check is considered to be an agreement modifying a sales contract, no consideration
is necessary under Uniform Commercial Code (UCC) Section 2-209.)
Unforeseen Difficulties
An unforeseen difficulty arising after a contract is made may be resolved by an accord and satisfaction,
too. Difficulties that no one could foresee can sometimes serve as catalyst for a further promise that may
appear to be without consideration but that the courts will enforce nevertheless. Suppose Peter contracts
to build Jerry a house for $390,000. While excavating, Peter unexpectedly discovers quicksand, the
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removal of which will cost an additional $10,000. To ensure that Peter does not delay, Jerry promises to
pay Peter $10,000 more than originally agreed. But when the house is completed, Jerry reneges on his
promise. Is Jerry liable? Logically perhaps not: Peter has incurred no legal detriment in exchange for the
$10,000; he had already contracted to build the house. But most courts would allow Peter to recover on
the theory that the original contract was terminated, or modified, either by mutual agreement or by an
implied condition that the original contract would be discharged if unforeseen difficulties developed. In
short, the courts will enforce the parties’ own mutual recognition that the unforeseen conditions had
made the old contract unfair. The parties either have modified their original contract (which requires
consideration at common law) or have given up their original contract and made a new one (called
anovation).
It is a question of fact whether the new circumstance is new and difficult enough to make a preexisting
obligation into an unforeseen difficulty. Obviously, if Peter encounters only a small pocket of quicksand—
say two gallons’ worth—he would have to deal with it as part of his already-agreed-to job. If he encounters
as much quicksand as would fill an Olympic-sized swimming pool, that’s clearly unforeseen, and he
should get extra to deal with it. Someplace between the two quantities of quicksand there is enough of the
stuff so that Peter’s duty to remove it is outside the original agreement and new consideration would be
needed in exchange for its removal.
Creditors’ Composition
A creditors’ composition may give rise to debt settlement by an accord and satisfaction. It is an agreement
whereby two or more creditors of a debtor consent to the debtor’s paying them pro rata shares of the debt
due in full satisfaction of their claims. A composition agreement can be critically important to a business
in trouble; through it, the business might manage to stave off bankruptcy. Even though the share accepted
is less than the full amount due and is payable after the due date so that consideration appears to be
lacking, courts routinely enforce these agreements. The promise of each creditor to accept a lesser share
than that owed in return for getting something is taken as consideration to support the promises of the
others. A debtor has $3,000 on hand. He owes $3,000 each to A, B, and C. A, B, and C agree to accept
$1,000 each and discharge the debtor. Each creditor has given up $2,000 but in return has at least
received something, the $1,000. Without the composition, one might have received the entire amount
owed her, but the others would have received nothing.
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Preexisting Duty
Not amenable to settlement by an accord and satisfaction is the situation where a party has
a preexisting duty and he or she is offered a benefit to discharge it. When the only consideration offered
the promisor is an act or promise to act to carry out a preexisting duty, there is no valid contract.
As Denney v. Reppert (Section 11.4.2 “Consideration: Preexisting Obligation”) makes clear, the promisee
suffers no legal detriment in promising to undertake that which he is already obligated to do. Where a
person is promised a benefit not to do that which he is already disallowed from doing, there is no
consideration. David is sixteen years old; his uncle promises him $50 if he will refrain from smoking. The
promise is not enforceable: legally, David already must refrain from smoking, so he has promised to give
up nothing to which he had a legal right. As noted previously, the difficulty arises where it is unclear
whether a person has a preexisting obligation or whether such unforeseen difficulties have arisen as to
warrant the recognition that the parties have modified the contract or entered into a novation. What if
Peter insists on additional payment for him to remove one wheelbarrow full of quicksand from the
excavation? Surely that’s not enough “unforeseen difficulty.” How much quicksand is enough?
Illusory Promises
Not every promise is a pledge to do something. Sometimes it is an illusory promise, where the terms of the
contract really bind the promisor to give up nothing, to suffer no detriment. For example, Lydia offers to
pay Juliette $10 for mowing Lydia’s lawn. Juliette promises to mow the lawn if she feels like it. May
Juliette enforce the contract? No, because Juliette has incurred no legal detriment; her promise is illusory,
since by doing nothing she still falls within the literal wording of her promise. The doctrine that such
bargains are unenforceable is sometimes referred to as the rule of mutuality of obligation: if one party to a
contract has not made a binding obligation, neither is the other party bound. Thus if A contracts to hire B
for a year at $6,000 a month, reserving the right to dismiss B at any time (an “option to cancel” clause),
and B agrees to work for a year, A has not really promised anything; A is not bound to the agreement, and
neither is B.
The illusory promise presents a special problem in agreements for exclusive dealing, outputs, and needs
contracts.
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Exclusive Dealing Agreement
In an exclusive dealing agreement, one party (the franchisor) promises to deal solely with the other party
(the franchisee)—for example, a franchisor-designer agrees to sell all of her specially designed clothes to a
particular department store (the franchisee). In return, the store promises to pay a certain percentage of
the sales price to the designer. On closer inspection, it may appear that the store’s promise is illusory: it
pays the designer only if it manages to sell dresses, but it may sell none. The franchisor-designer may
therefore attempt to back out of the deal by arguing that because the franchisee is not obligated to do
anything, there was no consideration for her promise to deal exclusively with the store.
Courts, however, have upheld exclusive dealing contracts on the theory that the franchisee has an
obligation to use reasonable efforts to promote and sell the product or services. This obligation may be
spelled out in the contract or implied by its terms. In the classic statement of this concept, Judge
Benjamin N. Cardozo, then on the New York Court of Appeals, in upholding such a contract, declared:
It is true that [the franchisee] does not promise in so many words that he will use reasonable efforts to
place the defendant’s endorsements and market her designs. We think, however, that such a promise is
fairly to be implied. The law has outgrown its primitive stage of formalism when the precise word was the
sovereign talisman, and every slip was fatal. It takes a broader view today. A promise may be lacking, and
yet the whole writing may be “instinct with an obligation,” imperfectly expressed.…His promise to pay the
defendant one-half of the profits and revenues resulting from the exclusive agency and to render accounts
monthly was a promise to use reasonable efforts to bring profits and revenues into existence.
[4]
The UCC follows the same rule. In the absence of language specifically delineating the seller’s or buyer’s
duties, an exclusive dealing contract under Section 2-306(2) imposes “an obligation by the seller to use
best efforts to supply the goods and by the buyer to use best efforts to promote their sale.”
Outputs Contracts and Needs Contracts
A similar issue arises with outputs contracts and needs contracts. In anoutputs contract, the seller—say a
coal company—agrees to sell its entire yearly output of coal to an electric utility. Has it really agreed to
produce and sell any coal at all? What if the coal-mine owner decides to shut down production to take a
year’s vacation—is that a violation of the agreement? Yes. The law imposes upon the seller here a duty to
produce and sell a reasonable amount. Similarly, if the electric utility contracted to buy all its
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requirements of coal from the coal company—aneeds contract—could it decide to stop operation entirely
and take no coal? No, it is required to take a reasonable amount.
K E Y T A K E A W A Y
Courts do not inquire into the adequacy of consideration, but (with some exceptions) do require the
promisor to incur a legal detriment (the surrender of any legal right he or she possesses—to give up
something) in order to receive the bargained-for benefit. The surrender of the right to sue is a legal
detriment, and the issue arises in analyzing various kinds of dispute settlement agreements (accord and
satisfaction): the obligation to pay the full amount claimed by a creditor on a liquidated debt, an
unliquidated debt, and a disputed debt. Where unforeseen difficulties arise, an obligor will be entitled to
additional compensation (consideration) to resolve them either because the contract is modified or
because the parties have entered into a novation, but no additional consideration is owing to one who
performs a preexisting obligation or forbears from performing that which he or she is under a legal duty
not to perform. If a promisor gives an illusory promise, he or she gives no consideration and no contract is
formed; but exclusive dealing agreements, needs contracts, and outputs contracts are not treated as
illusory.
E X E R C I S E S
1. What is meant by “legally sufficient” consideration?
2. Why do courts usually not “inquire into the adequacy of consideration”?
3. How can it be said there is consideration in the following instances: (a) settlement of an
unliquidated debt? (b) settlement of a disputed debt? (c) a person agreeing to do more
than originally contracted for because of unforeseen difficulties? (d) a creditor agreeing
with other creditors for each of them to accept less than they are owed from the
debtor?
4. Why is there no consideration where a person demands extra compensation for that
which she is already obligated to do, or for forbearing to do that which she already is
forbidden from doing?
5. What is the difference between a contract modification and a novation?
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6. How do courts resolve the problem that a needs or outputs contract apparently imposes
no detriment—no requirement to pass any consideration to the other side—on the
promisor?
[1] Richard A. Posner, Economic Analysis of Law (New York: Aspen, 1973), 46.
[2] Restatement (Second) of Contracts, Section 87(b).
[3] Dedeaux v. Young, 170 So.2d 561 (1965).
[4] Otis F. Wood v. Lucy, Lady Duff-Gordon, 118 N.E. 214 (1917).
11.3 Promises Enforceable without Consideration
L E A R N I N G O B J E C T I V E
1. Understand the exceptions to the requirement of consideration.
For a variety of policy reasons, courts will enforce certain types of promises even though consideration
may be absent. Some of these are governed by the Uniform Commercial Code (UCC); others are part of
the established common law.
Promises Enforceable without Consideration at Common Law
Past Consideration
Ordinarily, past consideration is not sufficient to support a promise. By past consideration, the courts
mean an act that could have served as consideration if it had been bargained for at the time but that was
not the subject of a bargain. For example, Mrs. Ace’s dog Fluffy escapes from her mistress’s condo at dusk.
Robert finds Fluffy, sees Mrs. Ace, who is herself out looking for her pet, and gives Fluffy to her. She says,
“Oh, thank you for finding my dear dog. Come by my place tomorrow morning and I’ll give you fifty
dollars as a reward.” The next day Robert stops by Mrs. Ace’s condo, but she says, “Well, I don’t know.
Fluffy soiled the carpet again last night. I think maybe a twenty-dollar reward would be plenty.” Robert
cannot collect the fifty dollars. Even though Mrs. Ace might have a moral obligation to pay him and honor
her promise, there was no consideration for it. Robert incurred no legal detriment; his contribution—
finding the dog—was paid out before her promise, and his past consideration is invalid to support a
contract. There was no bargained-for exchange.
However, a valid consideration, given in the past to support a promise, can be the basis for another, later
contract under certain circumstances. These occur when a person’s duty to act for one reason or another
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has become no longer binding. If the person then makes a new promise based on the unfulfilled past duty,
the new promise is binding without further consideration. Three types of cases follow.
Promise Revived after Statute of Limitations Has Passed
A statute of limitations is a law requiring a lawsuit to be filed within a specified period of years. For
example, in many states a contract claim must be sued on within six years; if the plaintiff waits longer
than that, the claim will be dismissed, regardless of its merits. When the time period set forth in the
statute of limitations has lapsed, the statute is said to have “run.” If a debtor renews a promise to pay or
acknowledges a debt after the running of a statute of limitations, then under the common law the promise
is binding, although there is no consideration in the usual sense. In many states, this promise or
acknowledgment must be in writing and signed by the debtor. Also, in many states, the courts will imply a
promise or acknowledgment if the debtor makes a partial payment after the statute has run.
Voidable Duties
Some promises that might otherwise serve as consideration are voidable by the promisor, for a variety of
reasons, including infancy, fraud, duress, or mistake. But a voidable contract does not automatically
become void, and if the promisor has not avoided the contract but instead thereafter renews his promise,
it is binding. For example, Mr. Melvin sells his bicycle to Seth, age thirteen. Seth promises to pay Mr.
Melvin one hundred dollars. Seth may repudiate the contract, but he does not. When he turns eighteen, he
renews his promise to pay the one hundred dollars. This promise is binding. (However, a promise made
up to the time he turned eighteen would not be binding, since he would still have been a minor.)
Promissory Estoppel
We examined the meaning of this forbidding phrase in Chapter 8 “Introduction to Contract Law” (recall
the English High Trees case). It represents another type of promise that the courts will enforce without
consideration. Simply stated,promissory estoppel means that the courts will stop the promisor from
claiming that there was no consideration. The doctrine of promissory estoppel is invoked in the interests
of justice when three conditions are met: (1) the promise is one that the promisor should reasonably
expect to induce the promisee to take action or forbear from taking action of a definite and substantial
character; (2) the action or forbearance is taken; and (3) injustice can be avoided only by enforcing the
promise. (The complete phraseology is “promissory estoppel with detrimental reliance.”)
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Timko served on the board of trustees of a school. He recommended that the school purchase a building
for a substantial sum of money, and to induce the trustees to vote for the purchase, he promised to help
with the purchase and to pay at the end of five years the purchase price less the down payment. At the end
of four years, Timko died. The school sued his estate, which defended on the ground that there was no
consideration for the promise. Timko was promised or given nothing in return, and the purchase of the
building was of no direct benefit to him (which would have made the promise enforceable as a unilateral
contract). The court ruled that under the three-pronged promissory estoppel test, Timko’s estate was
liable.
[1]
Cases involving pledges of charitable contributions have long been troublesome to courts. Recognizing the
necessity to charitable institutions of such pledges, the courts have also been mindful that a mere pledge
of money to the general funds of a hospital, university, or similar institution does not usually induce
substantial action but is, rather, simply a promise without consideration. When the pledge does prompt a
charitable institution to act, promissory estoppel is available as a remedy. In about one-quarter of the
states, another doctrine is available for cases involving simple pledges: the “mutual promises” theory,
whereby the pledges of many individuals are taken as consideration for each other and are binding against
each promisor. This theory was not available to the plaintiff in Timko because his was the only promise.
Moral Obligation
The Restatement allows, under some circumstances, the enforcement of past-consideration contracts. It
provides as follows in Section 86, “Promise for Benefit Received”:
A promise made in recognition of a benefit previously received by the promisor from the promisee is
binding to the extent necessary to prevent injustice.
A promise is not binding under Subsection (1)
if the promisee conferred the benefit as a gift or for other reasons the promisor has not been unjustly
enriched; or
to the extent that its value is disproportionate to the benefit.
Promises Enforceable without Consideration by Statute
We have touched on several common-law exceptions to the consideration requirement. Some also are
provided by statute.
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Under the UCC
The UCC permits one party to discharge, without consideration, a claim or right arising out of an alleged
breach of contract by the other party. This is accomplished by delivering to the other party a signed
written waiver or renunciation.
[2]
This provision applies to any contract governed by the UCC and is not
limited to the sales provisions of Article 2.
The UCC also permits a party to discharge the other side without consideration when there is no breach,
and it permits parties to modify their Article 2 contract without consideration.
[3]
The official comments to
the UCC section add the following: “However, modifications made thereunder must meet the test of good
faith imposed by this Act. The effective use of bad faith to escape performance on the original contract
terms is barred, and the extortion of a “modification” without legitimate commercial reason is ineffective
as a violation of the duty of good faith.”
Seller agrees to deliver a ton of coal within seven days. Buyer needs the coal sooner and asks Seller to
deliver within four days. Seller agrees. This promise is binding even though Seller received no additional
consideration beyond the purchase price for the additional duty agreed to (the duty to get the coal to
Buyer sooner than originally agreed). The UCC allows a merchant’s firm offer, signed, in writing, to bind
the merchant to keep the offer to buy or sell open without consideration.
[4]
This is the UCC’s equivalent of
a common-law option, which, as you recall, does require consideration.
Section 1-207 of the UCC allows a party a reservation of rights while performing a contract. This section
raises a difficult question when a debtor issues an in-full-payment check in payment of a disputed debt. As
noted earlier in this chapter, because under the common law the creditor’s acceptance of an in-full-
payment check in payment of a disputed debt constitutes an accord and satisfaction, the creditor cannot
collect an amount beyond the check. But what if the creditor, in cashing the check, reserves the right
(under Section 1-207) to sue for an amount beyond what the debtor is offering? The courts are split on the
issue: regarding the sale of goods governed by the UCC, some courts allow the creditor to sue for the
unpaid debt notwithstanding the check being marked “paid in full,” and others do not.
Bankruptcy
Bankruptcy is, of course, federal statutory law. The rule here regarding a promise to pay after the
obligation is discharged is similar to that governing statutes of limitations. Traditionally, a promise to
repay debts after a bankruptcy court has discharged them makes the debtor liable once again. This
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traditional rule gives rise to potential abuse; after undergoing the rigors of bankruptcy, a debtor could be
badgered by creditors intoreaffirmation, putting him in a worse position than before, since he must wait
six years before being allowed to avail himself of bankruptcy again.
The federal Bankruptcy Act includes certain procedural protections to ensure that the debtor knowingly
enters into a reaffirmation of his debt. Among its provisions, the law requires the debtor to have
reaffirmed the debt before the debtor is discharged in bankruptcy; he then has sixty days to rescind his
reaffirmation. If the bankrupt party is an individual, the law also requires that a court hearing be held at
which the consequences of his reaffirmation must be explained, and reaffirmation of certain consumer
debts is subject to court approval if the debtor is not represented by an attorney.
International Contracts
Contracts governed by the Convention on Contracts for the International Sale of Goods (as mentioned
in Chapter 8 “Introduction to Contract Law”) do not require consideration to be binding.
K E Y T A K E A W A Y
There are some exceptions to the consideration requirement. At common law, past consideration doesn’t
count, but no consideration is necessary in these cases: where a promise barred by the statute of
limitations is revived, where a voidable duty is reaffirmed, where there has been detrimental reliance on a
promise (i.e., promissory estoppel), or where a court simply finds the promisor has a moral obligation to
keep the promise.
Under statutory law, the UCC has several exceptions to the consideration requirement. No consideration is
needed to revive a debt discharged in bankruptcy, and none is called for under the Convention on
Contracts for the International Sale of Goods.
E X E R C I S E S
1. Melba began work for Acme Company in 1975 as a filing clerk. Thirty years later she had
risen to be comptroller. At a thirty-year celebration party, her boss, Mr. Holder, said,
“Melba, I hope you work here for a long time, and you can retire at any time, but if you
decide to retire, on account of your years of good service, the company will pay you a
monthly pension of $2,000.” Melba continued to work for another two years, then
retired. The company paid the pension for three years and then, in an economic
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downturn, stopped. When Melba sued, the company claimed it was not obligated to her
because the pension was of past consideration. What will be the result?
2. What theories are used to enforce charitable subscriptions?
3. What are the elements necessary for the application of the doctrine of promissory
estoppel?
4. Under what circumstances does the Restatement employ moral obligation as a basis for
enforcing an otherwise unenforceable contract?
5. Promises unenforceable because barred by bankruptcy or by the running of the statute
of limitations can be revived without further consideration. What do the two
circumstances have in common?
6. Under the UCC, when is no consideration required where it would be in equivalent
situations at common law?
[1] Estate of Timko v. Oral Roberts Evangelistic Assn., 215 N.W.2d 750 (Mich. App. 1974).
[2] Uniform Commercial Code, Section 1-107.
[3] Uniform Commercial Code, Sections 2-209(4) and 2-209(1).
[4] Uniform Commercial Code, Section 2-205.
11.3 Promises Enforceable without Consideration
L E A R N I N G O B J E C T I V E
1. Understand the exceptions to the requirement of consideration.
For a variety of policy reasons, courts will enforce certain types of promises even though consideration
may be absent. Some of these are governed by the Uniform Commercial Code (UCC); others are part of
the established common law.
Promises Enforceable without Consideration at Common Law
Past Consideration
Ordinarily, past consideration is not sufficient to support a promise. By past consideration, the courts
mean an act that could have served as consideration if it had been bargained for at the time but that was
not the subject of a bargain. For example, Mrs. Ace’s dog Fluffy escapes from her mistress’s condo at dusk.
Robert finds Fluffy, sees Mrs. Ace, who is herself out looking for her pet, and gives Fluffy to her. She says,
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“Oh, thank you for finding my dear dog. Come by my place tomorrow morning and I’ll give you fifty
dollars as a reward.” The next day Robert stops by Mrs. Ace’s condo, but she says, “Well, I don’t know.
Fluffy soiled the carpet again last night. I think maybe a twenty-dollar reward would be plenty.” Robert
cannot collect the fifty dollars. Even though Mrs. Ace might have a moral obligation to pay him and honor
her promise, there was no consideration for it. Robert incurred no legal detriment; his contribution—
finding the dog—was paid out before her promise, and his past consideration is invalid to support a
contract. There was no bargained-for exchange.
However, a valid consideration, given in the past to support a promise, can be the basis for another, later
contract under certain circumstances. These occur when a person’s duty to act for one reason or another
has become no longer binding. If the person then makes a new promise based on the unfulfilled past duty,
the new promise is binding without further consideration. Three types of cases follow.
Promise Revived after Statute of Limitations Has Passed
A statute of limitations is a law requiring a lawsuit to be filed within a specified period of years. For
example, in many states a contract claim must be sued on within six years; if the plaintiff waits longer
than that, the claim will be dismissed, regardless of its merits. When the time period set forth in the
statute of limitations has lapsed, the statute is said to have “run.” If a debtor renews a promise to pay or
acknowledges a debt after the running of a statute of limitations, then under the common law the promise
is binding, although there is no consideration in the usual sense. In many states, this promise or
acknowledgment must be in writing and signed by the debtor. Also, in many states, the courts will imply a
promise or acknowledgment if the debtor makes a partial payment after the statute has run.
Voidable Duties
Some promises that might otherwise serve as consideration are voidable by the promisor, for a variety of
reasons, including infancy, fraud, duress, or mistake. But a voidable contract does not automatically
become void, and if the promisor has not avoided the contract but instead thereafter renews his promise,
it is binding. For example, Mr. Melvin sells his bicycle to Seth, age thirteen. Seth promises to pay Mr.
Melvin one hundred dollars. Seth may repudiate the contract, but he does not. When he turns eighteen, he
renews his promise to pay the one hundred dollars. This promise is binding. (However, a promise made
up to the time he turned eighteen would not be binding, since he would still have been a minor.)
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Promissory Estoppel
We examined the meaning of this forbidding phrase in Chapter 8 “Introduction to Contract Law” (recall
the English High Trees case). It represents another type of promise that the courts will enforce without
consideration. Simply stated,promissory estoppel means that the courts will stop the promisor from
claiming that there was no consideration. The doctrine of promissory estoppel is invoked in the interests
of justice when three conditions are met: (1) the promise is one that the promisor should reasonably
expect to induce the promisee to take action or forbear from taking action of a definite and substantial
character; (2) the action or forbearance is taken; and (3) injustice can be avoided only by enforcing the
promise. (The complete phraseology is “promissory estoppel with detrimental reliance.”)
Timko served on the board of trustees of a school. He recommended that the school purchase a building
for a substantial sum of money, and to induce the trustees to vote for the purchase, he promised to help
with the purchase and to pay at the end of five years the purchase price less the down payment. At the end
of four years, Timko died. The school sued his estate, which defended on the ground that there was no
consideration for the promise. Timko was promised or given nothing in return, and the purchase of the
building was of no direct benefit to him (which would have made the promise enforceable as a unilateral
contract). The court ruled that under the three-pronged promissory estoppel test, Timko’s estate was
liable.
[1]
Cases involving pledges of charitable contributions have long been troublesome to courts. Recognizing the
necessity to charitable institutions of such pledges, the courts have also been mindful that a mere pledge
of money to the general funds of a hospital, university, or similar institution does not usually induce
substantial action but is, rather, simply a promise without consideration. When the pledge does prompt a
charitable institution to act, promissory estoppel is available as a remedy. In about one-quarter of the
states, another doctrine is available for cases involving simple pledges: the “mutual promises” theory,
whereby the pledges of many individuals are taken as consideration for each other and are binding against
each promisor. This theory was not available to the plaintiff in Timko because his was the only promise.
Moral Obligation
The Restatement allows, under some circumstances, the enforcement of past-consideration contracts. It
provides as follows in Section 86, “Promise for Benefit Received”:
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A promise made in recognition of a benefit previously received by the promisor from the promisee is
binding to the extent necessary to prevent injustice.
A promise is not binding under Subsection (1)
if the promisee conferred the benefit as a gift or for other reasons the promisor has not been unjustly
enriched; or
to the extent that its value is disproportionate to the benefit.
Promises Enforceable without Consideration by Statute
We have touched on several common-law exceptions to the consideration requirement. Some also are
provided by statute.
Under the UCC
The UCC permits one party to discharge, without consideration, a claim or right arising out of an alleged
breach of contract by the other party. This is accomplished by delivering to the other party a signed
written waiver or renunciation.
[2]
This provision applies to any contract governed by the UCC and is not
limited to the sales provisions of Article 2.
The UCC also permits a party to discharge the other side without consideration when there is no breach,
and it permits parties to modify their Article 2 contract without consideration.
[3]
The official comments to
the UCC section add the following: “However, modifications made thereunder must meet the test of good
faith imposed by this Act. The effective use of bad faith to escape performance on the original contract
terms is barred, and the extortion of a “modification” without legitimate commercial reason is ineffective
as a violation of the duty of good faith.”
Seller agrees to deliver a ton of coal within seven days. Buyer needs the coal sooner and asks Seller to
deliver within four days. Seller agrees. This promise is binding even though Seller received no additional
consideration beyond the purchase price for the additional duty agreed to (the duty to get the coal to
Buyer sooner than originally agreed). The UCC allows a merchant’s firm offer, signed, in writing, to bind
the merchant to keep the offer to buy or sell open without consideration.
[4]
This is the UCC’s equivalent of
a common-law option, which, as you recall, does require consideration.
Section 1-207 of the UCC allows a party a reservation of rights while performing a contract. This section
raises a difficult question when a debtor issues an in-full-payment check in payment of a disputed debt. As
noted earlier in this chapter, because under the common law the creditor’s acceptance of an in-full-
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payment check in payment of a disputed debt constitutes an accord and satisfaction, the creditor cannot
collect an amount beyond the check. But what if the creditor, in cashing the check, reserves the right
(under Section 1-207) to sue for an amount beyond what the debtor is offering? The courts are split on the
issue: regarding the sale of goods governed by the UCC, some courts allow the creditor to sue for the
unpaid debt notwithstanding the check being marked “paid in full,” and others do not.
Bankruptcy
Bankruptcy is, of course, federal statutory law. The rule here regarding a promise to pay after the
obligation is discharged is similar to that governing statutes of limitations. Traditionally, a promise to
repay debts after a bankruptcy court has discharged them makes the debtor liable once again. This
traditional rule gives rise to potential abuse; after undergoing the rigors of bankruptcy, a debtor could be
badgered by creditors intoreaffirmation, putting him in a worse position than before, since he must wait
six years before being allowed to avail himself of bankruptcy again.
The federal Bankruptcy Act includes certain procedural protections to ensure that the debtor knowingly
enters into a reaffirmation of his debt. Among its provisions, the law requires the debtor to have
reaffirmed the debt before the debtor is discharged in bankruptcy; he then has sixty days to rescind his
reaffirmation. If the bankrupt party is an individual, the law also requires that a court hearing be held at
which the consequences of his reaffirmation must be explained, and reaffirmation of certain consumer
debts is subject to court approval if the debtor is not represented by an attorney.
International Contracts
Contracts governed by the Convention on Contracts for the International Sale of Goods (as mentioned
in Chapter 8 “Introduction to Contract Law”) do not require consideration to be binding.
K E Y T A K E A W A Y
There are some exceptions to the consideration requirement. At common law, past consideration doesn’t
count, but no consideration is necessary in these cases: where a promise barred by the statute of
limitations is revived, where a voidable duty is reaffirmed, where there has been detrimental reliance on a
promise (i.e., promissory estoppel), or where a court simply finds the promisor has a moral obligation to
keep the promise.
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Under statutory law, the UCC has several exceptions to the consideration requirement. No consideration is
needed to revive a debt discharged in bankruptcy, and none is called for under the Convention on
Contracts for the International Sale of Goods.
E X E R C I S E S
1. Melba began work for Acme Company in 1975 as a filing clerk. Thirty years later she had
risen to be comptroller. At a thirty-year celebration party, her boss, Mr. Holder, said,
“Melba, I hope you work here for a long time, and you can retire at any time, but if you
decide to retire, on account of your years of good service, the company will pay you a
monthly pension of $2,000.” Melba continued to work for another two years, then
retired. The company paid the pension for three years and then, in an economic
downturn, stopped. When Melba sued, the company claimed it was not obligated to her
because the pension was of past consideration. What will be the result?
2. What theories are used to enforce charitable subscriptions?
3. What are the elements necessary for the application of the doctrine of promissory
estoppel?
4. Under what circumstances does the Restatement employ moral obligation as a basis for
enforcing an otherwise unenforceable contract?
5. Promises unenforceable because barred by bankruptcy or by the running of the statute
of limitations can be revived without further consideration. What do the two
circumstances have in common?
6. Under the UCC, when is no consideration required where it would be in equivalent
situations at common law?
Next
[1] Estate of Timko v. Oral Roberts Evangelistic Assn., 215 N.W.2d 750 (Mich. App. 1974).
[2] Uniform Commercial Code, Section 1-107.
[3] Uniform Commercial Code, Sections 2-209(4) and 2-209(1).
[4] Uniform Commercial Code, Section 2-205.
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11.4 Cases
Consideration for an Option
Board of Control of Eastern Michigan University v. Burgess
206 N.W.2d 256 (Mich. 1973)
Burns, J.
On February 15, 1966, defendant signed a document which purported to grant to plaintiff a 60-day option
to purchase defendant’s home. That document, which was drafted by plaintiff’s agent, acknowledged
receipt by defendant of “One and no/100 ($1.00) Dollar and other valuable consideration.” Plaintiff
concedes that neither the one dollar nor any other consideration was ever paid or even tendered to
defendant. On April 14, 1966, plaintiff delivered to defendant written notice of its intention to exercise the
option. On the closing date defendant rejected plaintiff’s tender of the purchase price. Thereupon, plaintiff
commenced this action for specific performance.
At trial defendant claimed that the purported option was void for want of consideration, that any
underlying offer by defendant had been revoked prior to acceptance by plaintiff, and that the agreed
purchase price was the product of fraud and mutual mistake. The trial judge concluded that no fraud was
involved, and that any mutual mistake was not material. He also held that defendant’s acknowledgment of
receipt of consideration bars any subsequent contention to the contrary. Accordingly, the trial judge
entered judgment for plaintiff.
Options for the purchase of land, if based on valid consideration, are contracts which may be specifically
enforced. [Citations] Conversely, that which purports to be an option, but which is not based on valid
consideration, is not a contract and will not be enforced. [Citations] One dollar is valid consideration for
an option to purchase land, provided the dollar is paid or at least tendered. [Citations] In the instant case
defendant received no consideration for the purported option of February 15, 1966.
A written acknowledgment of receipt of consideration merely creates a rebuttable presumption that
consideration has, in fact, passed. Neither the parol evidence rule nor the doctrine of estoppel bars the
presentation of evidence to contradict any such acknowledgment. [Citation]
It is our opinion that the document signed by defendant on February 15, 1966, is not an enforceable
option, and that defendant is not barred from so asserting.
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The trial court premised its holding to the contrary on Lawrence v. McCalmont…(1844). That case is
significantly distinguishable from the instant case. Mr. Justice Story held that ‘(t)he guarantor
acknowledged the receipt of one dollar, and is now estopped to deny it.’ However, in reliance upon the
guaranty substantial credit had been extended to the guarantor’s sons. The guarantor had received
everything she bargained for, save one dollar. In the instant case defendant claims that she never received
any of the consideration promised her.
That which purports to be an option for the purchase of land, but which is not based on valid
consideration, is a simple offer to sell the same land. [Citation] An option is a contract collateral to an
offer to sell whereby the offer is made irrevocable for a specified period. [Citation] Ordinarily, an offer is
revocable at the will of the offeror. Accordingly, a failure of consideration affects only the collateral
contract to keep the offer open, not the underlying offer.
A simple offer may be revoked for any reason or for no reason by the offeror at any time prior to its
acceptance by the offeree. [Citation] Thus, the question in this case becomes, ‘Did defendant effectively
revoke her offer to sell before plaintiff accepted that offer?’…
Defendant testified that within hours of signing the purported option she telephoned plaintiff’s agent and
informed him that she would not abide by the option unless the purchase price was increased. Defendant
also testified that when plaintiff’s agent delivered to her on April 14, 1966, plaintiff’s notice of its intention
to exercise the purported option, she told him that ‘the option was off’.
Plaintiff’s agent testified that defendant did not communicate to him any dissatisfaction until sometime in
July, 1966.
If defendant is telling the truth, she effectively revoked her offer several weeks before plaintiff accepted
that offer, and no contract of sale was created. If plaintiff’s agent is telling the truth, defendant’s offer was
still open when plaintiff accepted that offer, and an enforceable contract was created. The trial judge
thought it unnecessary to resolve this particular dispute. In light of our holding the dispute must be
resolved.
An appellate court cannot assess the credibility of witnesses. We have neither seen nor heard them testify.
[Citation] Accordingly, we remand this case to the trial court for additional findings of fact based on the
record already before the court.…
Reversed and remanded for proceedings consistent with this opinion. Costs to defendant.
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C A S E Q U E S T I O N S
1. Why did the lower court decide the option given by the defendant was valid?
2. Why did the appeals court find the option invalid?
3. The case was remanded. On retrial, how could the plaintiff (the university) still win?
4. It was not disputed that the defendant signed the purported option. Is it right that she
should get out of it merely because she didn’t really get the $1.00?
Consideration: Preexisting Obligation
Denney v. Reppert
432 S.W.2d 647 (Ky. 1968)
R. L. Myre, Sr., Special Commissioner.
The sole question presented in this case is which of several claimants is entitled to an award for
information leading to the apprehension and conviction of certain bank robbers.…
On June 12th or 13th, 1963, three armed men entered the First State Bank, Eubank, Kentucky, and with a
display of arms and threats robbed the bank of over $30,000 [about $208,000 in 2010 dollars]. Later in
the day they were apprehended by State Policemen Garret Godby, Johnny Simms and Tilford Reppert,
placed under arrest, and the entire loot was recovered. Later all of the prisoners were convicted and
Garret Godby, Johnny Simms and Tilford Reppert appeared as witnesses at the trial.
The First State Bank of Eubank was a member of the Kentucky Bankers Association which provided and
advertised a reward of $500.00 for the arrest and conviction of each bank robber. Hence the outstanding
reward for the three bank robbers was $1,500.00 [about $11,000 in 2010 dollars]. Many became
claimants for the reward and the Kentucky State Bankers Association being unable to determine the
merits of the claims for the reward asked the circuit court to determine the merits of the various claims
and to adjudge who was entitled to receive the reward or share in it. All of the claimants were made
defendants in the action.
At the time of the robbery the claimants Murrell Denney, Joyce Buis, Rebecca McCollum and Jewell
Snyder were employees of the First State Bank of Eubank and came out of the grueling situation with
great credit and glory. Each one of them deserves approbation and an accolade. They were vigilant in
disclosing to the public and the peace officers the details of the crime, and in describing the culprits, and
giving all the information that they possessed that would be useful in capturing the robbers. Undoubtedly,
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they performed a great service. It is in the evidence that the claimant Murrell Denney was conspicuous
and energetic in his efforts to make known the robbery, to acquaint the officers as to the personal
appearance of the criminals, and to give other pertinent facts.
The first question for determination is whether the employees of the robbed bank are eligible to receive or
share in the reward. The great weight of authority answers in the negative. [Citation] states the rule
thusly:
‘To the general rule that, when a reward is offered to the general public for the performance of some
specified act, such reward may be claimed by any person who performs such act, is the exception of
agents, employees and public officials who are acting within the scope of their employment or official
duties. * * *.’…
At the time of the robbery the claimants Murrell Denney, Joyce Buis, Rebecca McCollum, and Jewell
Snyder were employees of the First State Bank of Eubank. They were under duty to protect and conserve
the resources and moneys of the bank, and safeguard every interest of the institution furnishing them
employment. Each of these employees exhibited great courage, and cool bravery, in a time of stress and
danger. The community and the county have recompensed them in commendation, admiration and high
praise, and the world looks on them as heroes. But in making known the robbery and assisting in
acquainting the public and the officers with details of the crime and with identification of the robbers,
they performed a duty to the bank and the public, for which they cannot claim a reward.
The claims of Corbin Reynolds, Julia Reynolds, Alvie Reynolds and Gene Reynolds also must fail.
According to their statements they gave valuable information to the arresting officers. However, they did
not follow the procedure as set forth in the offer of reward in that they never filed a claim with the
Kentucky Bankers Association. It is well established that a claimant of a reward must comply with the
terms and conditions of the offer of reward. [Citation]
State Policemen Garret Godby, Johnny Simms and Tilford Reppert made the arrest of the bank robbers
and captured the stolen money. All participated in the prosecution. At the time of the arrest, it was the
duty of the state policemen to apprehend the criminals. Under the law they cannot claim or share in the
reward and they are interposing no claim to it.
This leaves the defendant, Tilford Reppert the sole eligible claimant. The record shows that at the time of
the arrest he was a deputy sheriff in Rockcastle County, but the arrest and recovery of the stolen money
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took place in Pulaski County. He was out of his jurisdiction, and was thus under no legal duty to make the
arrest, and is thus eligible to claim and receive the reward. In [Citation] it was said:
‘It is * * * well established that a public officer with the authority of the law to make an arrest may accept
an offer of reward or compensation for acts or services performed outside of his bailiwick or not within
the scope of his official duties. * * *.’…
It is manifest from the record that Tilford Reppert is the only claimant qualified and eligible to receive the
reward. Therefore, it is the judgment of the circuit court that he is entitled to receive payment of the
$1,500.00 reward now deposited with the Clerk of this Court.
The judgment is affirmed.
C A S E Q U E S T I O N S
1. Why did the Bankers Association put the resolution of this matter into the court’s
hands?
2. Several claimants came forward for the reward; only one person got it. What was the
difference between the person who got the reward and those who did not?
Consideration: Required for Contract Modification
Gross v. Diehl Specialties International, Inc.
776 S.W.2d 879 (Missouri Ct. App. 1989)
Smith, J.
Plaintiff appeals from a jury verdict and resultant judgment for defendant in a breach of employment
contract case.…
Plaintiff was employed under a fifteen year employment contract originally executed in 1977 between
plaintiff and defendant. Defendant, at that time called Dairy Specialties, Inc., was a company in the
business of formulating ingredients to produce non-dairy products for use by customers allergic to cow’s
milk. Plaintiff successfully formulated [Vitamite]…for that usage.
Thereafter, on August 24, 1977, plaintiff and defendant corporation entered into an employment contract
employing plaintiff as general manager of defendant for fifteen years. Compensation was established at
$14,400 annually plus cost of living increases. In addition, when 10% of defendant’s gross profits
exceeded the annual salary, plaintiff would receive an additional amount of compensation equal to the
difference between his compensation and 10% of the gross profits for such year. On top of that plaintiff
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was to receive a royalty for the use of each of his inventions and formulae of 1% of the selling price of all of
the products produced by defendant using one or more of plaintiff’s inventions or formulae during the
term of the agreement. That amount was increased to 2% of the selling price following the term of the
agreement. The contract further provided that during the term of the agreement the inventions and
formulae would be owned equally by plaintiff and defendant and that following the term of the agreement
the ownership would revert to plaintiff. During the term of the agreement defendant had exclusive rights
to use of the inventions and formulae and after the term of agreement a non-exclusive right of use.
At the time of the execution of the contract, sales had risen from virtually nothing in 1976 to $750,000
annually from sales of Vitamite and a chocolate flavored product formulated by plaintiff called Chocolite.
[Dairy’s owner] was in declining health and in 1982 desired to sell his company. At that time yearly sales
were $7,500,000. [Owner] sold the company to the Diehl family enterprises for 3 million dollars.
Prior to sale Diehl insisted that a new contract between plaintiff and defendant be executed or Diehl
would substantially reduce the amount to be paid for [the company]. A new contract was executed August
24, 1982. It reduced the expressed term of the contract to 10 years, which provided the same expiration
date as the prior contract. It maintained the same base salary of $14,400 effective September 1982,
thereby eliminating any cost of living increases incurred since the original contract. The 10% of gross
profit provision remained the same. The new contract provided that plaintiff’s inventions and formula
were exclusively owned by defendant during the term of the contract and after its termination. The 1%
royalty during the term of the agreement remained the same, but no royalties were provided for after the
term of the agreement. No other changes were made in the agreement. Plaintiff received no compensation
for executing the new contract. He was not a party to the sale of the company by [Owner] and received
nothing tangible from that sale.
After the sale plaintiff was given the title and responsibilities of president of defendant with additional
duties but no additional compensation. In 1983 and 1984 the business of the company declined severely
and in October 1984, plaintiff’s employment with defendant was terminated by defendant. This suit
followed.…
We turn now to the court’s holding that the 1982 agreement was the operative contract. Plaintiff contends
this holding is erroneous because there existed no consideration for the 1982 agreement. We agree. A
modification of a contract constitutes the making of a new contract and such new contract must be
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supported by consideration. [Citation] Where a contract has not been fully performed at the time of the
new agreement, the substitution of a new provision, resulting in a modification of the obligations
on bothsides, for a provision in the old contract still unperformed is sufficient consideration for the new
contract. While consideration may consist of either a detriment to the promisee or a benefit to the
promisor, a promise to carry out an already existing contractual duty does not constitute consideration.
[Citation]
Under the 1982 contract defendant assumed no detriment it did not already have. The term of the
contract expired on the same date under both contracts. Defendant undertook no greater obligations than
it already had. Plaintiff on the other hand received less than he had under the original contract. His base
pay was reduced back to its amount in 1977 despite the provision in the 1977 contract for cost of living
adjustments. He lost his equal ownership in his formulae during the term of the agreement and his
exclusive ownership after the termination of the agreement. He lost all royalties after termination of the
agreement and the right to use and license the formulae subject to defendant’s right to non-exclusive use
upon payment of royalties. In exchange for nothing, defendant acquired exclusive ownership of the
formulae during and after the agreement, eliminated royalties after the agreement terminated, turned its
non-exclusive use after termination into exclusive use and control, and achieved a reduction in plaintiff’s
base salary. Defendant did no more than promise to carry out an already existing contractual duty. There
was no consideration for the 1982 agreement.
Defendant asserts that consideration flowed to plaintiff because the purchase of defendant by the Diehls
might not have occurred without the agreement and the purchase provided plaintiff with continued
employment and a financially viable employer. There is no evidence to support this contention. Plaintiff
had continued employment with the same employer under the 1977 agreement. Nothing in the 1982
agreement provided for any additional financial protection to plaintiff. The essence of defendant’s
position is that [the owner] received more from his sale of the company because of the new agreement
than he would have without it. We have difficulty converting [the owner’s] windfall into a benefit to
plaintiff.
[Remanded to determine how much plaintiff should receive.]
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C A S E Q U E S T I O N S
1. Why did the court determine that Plaintiff’s postemployment benefits should revert to
those in his original contract instead being limited to those in the modified contract?
2. What argument did Defendant make as to why the terms of the modified contract
should be valid?
11.5 Summary and Exercises
Summary
Most agreements—including contract modification at common law (but not under the Uniform
Commercial Code [UCC])—are not binding contracts in the absence of what the law terms
“consideration.” Consideration is usually defined as a “legal detriment”—an act, forbearance, or a
promise. The act can be the payment of money, the delivery of a service, or the transfer of title to property.
Consideration is a legal concept in that it centers on the giving up of a legal right or benefit.
An understanding of consideration is important in many commonplace situations, including those in
which (1) a debtor and a creditor enter into an accord that is later disputed, (2) a duty is preexisting, (3) a
promise is illusory, and (4) creditors agree to a composition.
Some promises are enforceable without consideration. These include certain promises under the UCC and
other circumstances, including (1) contracts barred by the statute of limitations, (2) promises by a
bankrupt to repay debts, and (3) situations in which justice will be served by invoking the doctrine of
promissory estoppel. Determining whether an agreement should be upheld despite the lack of
consideration, technically defined, calls for a diligent assessment of the factual circumstances.
E X E R C I S E S
1. Hornbuckle purchased equipment from Continental Gin (CG) for $6,300. However, after
some of the equipment proved defective, Hornbuckle sent CG a check for $4,000 marked
“by endorsement this check is accepted in full payment,” and CG endorsed and
deposited the check. May CG force Hornbuckle to pay the remaining $2,300? Why?
2. Joseph Hoffman alleged that Red Owl Stores promised him that it would build a store
building in Chilton, Wisconsin, and stock it with merchandise for Hoffman to operate in
return for Hoffman’s investment of $18,000. The size, cost, design, and layout of the
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store building was not discussed, nor were the terms of the lease as to rent,
maintenance, and purchase options. Nevertheless, in reliance on Red Owl’s promise, the
Hoffmans sold their bakery and grocery store business, purchased the building site in
Chilton, and rented a residence there for the family. The deal was never consummated:
a dispute arose, Red Owl did not build the store, and it denied liability to Hoffman on the
basis that its promise to him was too indefinite with respect to all details for a contract
to have resulted. Is Hoffman entitled to some relief? On what theory?
3. Raquel contracted to deliver one hundred widgets to Sam on December 15, for which he
would pay $4,000. On November 25, Sam called her and asked if she could deliver the
widgets on December 5. Raquel said she could, and she promised delivery on that day. Is
her promise binding? Why?
4. Richard promised to have Darlene’s deck awning constructed by July 10. On June 20,
Darlene called him and asked if he could get the job done by July 3, in time for
Independence Day. Richard said he could, but he failed to do so, and Darlene had to rent
two canopies at some expense. Darlene claims that because Richard breached his
promise, he is liable for the cost of awning rental. Is she correct—was his promise
binding? Why?
5. Seller agreed to deliver gasoline to Buyer at $3.15 per gallon over a period of one year.
By the sixth month, gasoline had increased in price over a dollar a gallon. Although Seller
had gasoline available for sale, he told Buyer the price would have to increase by that
much or he would be unable to deliver. Buyer agreed to the increase, but when billed,
refused to pay the additional amount. Is Buyer bound by the promise? Explain.
6. Montbanks’s son, Charles, was seeking an account executive position with Dobbs, Smith
& Fogarty, Inc., a large brokerage firm. Charles was independent and wished no
interference by his well-known father. The firm, after several weeks’ deliberation,
decided to hire Charles. They made him an offer on April 12, 2010, and Charles accepted.
Montbanks, unaware that his son had been hired and concerned that he might not be,
mailed a letter to Dobbs on April 13 in which he promised to give the brokerage firm
$150,000 in commission business if the firm would hire his son. The letter was received
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by Dobbs, and the firm wishes to enforce it against Montbanks. May Dobbs enforce the
promise? Why?
7. In 1869, William E. Story promised his nephew, William E. Story II (then sixteen years
old), $5,000 (about $120,000 in today’s money) if “Willie” would abstain from drinking
alcohol, smoking, swearing, and playing cards or billiards for money until the nephew
reached twenty-one years of age. All of these were legally permissible activities for the
teenager at that time in New York State. Willie accepted his uncle’s promise and did
refrain from the prohibited acts until he turned twenty-one. When the young man asked
for the money, his uncle wrote to him that he would honor the promise but would rather
wait until Willie was older before delivering the money, interest added on. Willie agreed.
Subsequently, Willie assigned the right to receive the money to one Hamer (Willie
wanted the money sooner), and Story I died without making any payment. The estate,
administered by Franklin Sidway, refused to pay, asserting there was no binding contract
due to lack of consideration: the boy suffered no “detriment,” and the uncle got no
benefit. The trial court agreed with the estate, and the plaintiff appealed. Should the
court on appeal affirm or reverse? Explain.
8. Harold Pearsall and Joe Alexander were friends for over twenty-five years. About twice a
week, they bought what they called a package: a half-pint of vodka, orange juice, two
cups, and two lottery tickets. They went to Alexander’s house to watch TV, drink
screwdrivers, and scratch the lottery tickets. The two had been sharing tickets and
screwdrivers since the Washington, DC, lottery began. On the evening in issue, Pearsall
bought the package and asked Alexander, “Are you in on it?” Alexander said yes. Pearsall
asked for his half of the purchase price, but Alexander had no money. A few hours later,
Alexander, having come by some funds of his own, bought another package. He handed
one ticket to Pearsall, and they both scratched the tickets; Alexander’s was a $20,000
winner. When Pearsall asked for his share, Alexander refused to give him anything. Are
the necessary elements of offer, acceptance, and consideration present here so as to
support Pearsall’s assertion the parties had a contract?
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9. Defendant, Lee Taylor, had assaulted his wife, who took refuge in the house of Plaintiff,
Harrington. The next day, Taylor gained access to the house and began another assault
upon his wife. Mrs. Taylor knocked him down with an axe and was on the point of
cutting his head open or decapitating him while he was lying on the floor when Plaintiff
intervened and caught the axe as it was descending. The blow intended for Defendant
fell upon Harrington’s hand, mutilating it badly, but saving Defendant’s life.
Subsequently, Defendant orally promised to pay Plaintiff her damages but, after paying a
small sum, failed to pay anything more. Is Harrington entitled to enforce Taylor’s entire
promise?
10. White Sands Forest Products (Defendant) purchased logging equipment from Clark
Corporation (Plaintiff) under an installment contract that gave Plaintiff the right to
repossess and resell the equipment if Defendant defaulted on the contract. Defendant
did default and agreed to deliver the equipment to Plaintiff if Plaintiff would then
discharge Defendant from further obligation. Plaintiff accepted delivery and resold the
equipment, but the sale left a deficiency (there was still money owing by Defendant).
Plaintiff then sued for the deficiency, and Defendant set up as a defense the accord and
satisfaction. Is the defense good?
S E L F – T E S T Q U E S T I O N S
1. Consideration
a. can consist of a written acknowledgment of some benefit received, even
if in fact the benefit is not delivered
b. cannot be nominal in amount
c. is a bargained-for act, forbearance, or promise from the promisee
d. is all of the above
An example of valid consideration is a promise
a. by a seventeen-year-old to refrain from drinking alcohol
b. to refrain from going to court
c. to cook dinner if the promisor can get around to it
d. to repay a friend for the four years of free legal advice he had provided
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An unliquidated debt is a debt
a. one is not able to pa
b. not yet paid
c. of uncertain amount
d. that is unenforceable debt
The rule that if one party to a contract has not made a binding obligation, the other party is not
bound is called
a. revocation
b. mutuality of obligation
c. accord and satisfaction
d. estoppel
Examples of promises enforceable without consideration include
a. an agreement modifying a sales contract
b. a promise to pay a debt after the statute of limitations has run
c. a debtor’s promise to repay a debt that has been discharged in
bankruptcy
d. all of the above
S E L F – T E S T A N S W E R S
1. c
2. b
3. c
4. b
5. d
Chapter 12
Legality
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L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. The types of contracts (bargains) that are deemed illegal
2. How courts deal with disputes concerning illegal contracts
3. Under what circumstances courts will enforce otherwise illegal contracts
12.1 General Perspectives on Illegality
L E A R N I N G O B J E C T I V E S
1. Understand why courts refuse to enforce illegal agreements.
2. Recognize the rationale behind exceptions to the rule.
We have discussed the requirements of mutual assent, real assent, and consideration. We now turn to the
fourth of the five requirements for a valid contract: the legality of the underlying bargain. The basic rule is
that courts will not enforce an illegal bargain. (The term illegal bargain is better than illegal
contract because a contract is by definition a legal agreement, but the latter terminology prevails in
common usage.) Why should this be? Why should the courts refuse to honor contracts made privately by
people who presumably know what they are doing—for example, a wager on the World Series or a
championship fight? Two reasons are usually given. One is that refusal to enforce helps discourage
unlawful behavior; the other is that honoring such contracts would demean the judiciary. Are these
reasons valid? Yes and no, in the opinion of one contracts scholar:
[D]enying relief to parties who have engaged in an illegal transaction…helps to effectuate the public policy
involved by discouraging the conduct that is disapproved. Mere denial of contractual and quasi-
contractual remedy [however] rarely has a substantial effect in discouraging illegal conduct. A man who is
hired to perform a murder is not in the least deterred by the fact that the courts are not open to him to
collect his fee. Such a man has other methods of enforcement, and they are in fact more effective than
legal process. The same is true in varying degrees where less heinous forms of illegal conduct are involved.
Even in the matter of usury it was found that mere denial of enforcement was of little value in the effort to
eliminate the loan shark. And restraints of trade were not curbed to an appreciable extent until contracts
in restraint of trade were made criminal.
In most instances, then, the protection of the good name of the judicial institution must provide the
principal reason for the denial of a remedy to one who has trafficked in the forbidden. This is, moreover, a
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very good reason. The first duty of an institution is to preserve itself, and if the courts to any appreciable
extent busied themselves with “justice among thieves,” the community…would be shocked and the courts
would be brought into disrepute.
[1]
Strictly enforced, the rule prohibiting courts from ordering the parties to honor illegal contracts is harsh.
It means that a promisee who has already performed under the contract can neither obtain performance
of the act for which he bargained nor recover the money he paid or the value of the performance he made.
The court will simply leave the parties where it finds them, meaning that one of the parties will have
received an uncompensated benefit.
Not surprisingly, the severity of the rule against enforcement has led courts to seek ways to moderate its
impact, chiefly by modifying it according to the principle ofrestitution. In general, restitution requires that
one who has conferred a benefit or suffered a loss should not unfairly be denied compensation.
Pursuing this notion, the courts have created several exceptions to the general rule. Thus a party who is
excusably ignorant that his promise violates public policy and a party who is not equally in the wrong may
recover. Likewise, when a party “would otherwise suffer a forfeiture that is disproportionate in relation to
the contravention of public policy involved,” restitution will be allowed.
[2]
Other exceptions exist when the
party seeking restitution withdraws from the transaction contemplated in the contract before the illegal
purpose has been carried out and when “allowing the claim would put an end to a continuing situation
that is contrary to the public interest.”
[3]
An example of the latter situation occurs when two bettors place
money in the hands of a stakeholder. If the wager is unlawful, the loser of the bet has the right to recover
his money from the stakeholder before it is paid out to the winner.
Though by and large courts enforce contracts without considering the worth or merits of the bargain they
incorporate, freedom of contract can conflict with other public policies. Tensions arise between the desire
to let people pursue their own ends and the belief that certain kinds of conduct should not be encouraged.
Thus a patient may agree to be treated by an herbalist, but state laws prohibit medical care except by
licensed physicians. Law and public policies against usury, gambling, obstructing justice, bribery, corrupt
influence, perjury, restraint of trade, impairment of domestic relations, and fraud all significantly affect
the authority and willingness of courts to enforce contracts.
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In this chapter, we will consider two types of illegality: (1) that which results from a bargain that violates a
statute and (2) that which the courts deem contrary to public policy, even though not expressly set forth in
statutes.
K E Y T A K E A W A Y
Courts refuse to enforce illegal bargains notwithstanding the basic concept of freedom to contract
because they do not wish to reward illegal behavior or sully themselves with adjudication of that which is
forbidden to undertake. However, fairness sometimes compels courts to make exceptions.
E X E R C I S E S
1. Why is illegal contract a contradiction in terms?
2. Why do courts refuse to enforce contracts (or bargains) made by competent adults if the
contracts harm no third party but are illegal?
[1] Harold C. Havighurst, review of Corbin on Contracts, by Arthur L. Corbin, Yale Law Journal61 (1952): 1143,
1144–45.
[2] Restatement (Second) of Contracts, Section 197(b).
[3] Restatement (Second) of Contracts, Section 197(b).
12.2 Agreements in Violation of Statute
L E A R N I N G O B J E C T I V E S
1. Understand that various types of bargains may be made illegal by statute, including
gambling, some service-for-fee agreements involving unlicensed practitioners, and
usury.
2. Recognize that while gambling contracts are often illegal, some agreements that might
appear to involve gambling are not.
Overview
Any bargain that violates the criminal law—including statutes that govern extortion, robbery,
embezzlement, forgery, some gambling, licensing, and consumer credit transactions—is illegal. Thus
determining whether contracts are lawful may seem to be an easy enough task. Clearly, whenever the
statute itself explicitly forbids the making of the contract or the performance agreed upon, the bargain
(such as a contract to sell drugs) is unlawful. But when the statute does not expressly prohibit the making
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of the contract, courts examine a number of factors, as discussed in Section 12.5.1 “Extension of Statutory
Illegality Based on Public Policy” involving the apparently innocent sale of a jewelry manufacturing firm
whose real business was making marijuana-smoking paraphernalia.
Types of Bargains Made Illegal by Statute
Gambling Contracts
All states have regulations affecting gambling (wagering) contracts because gambling tends to be an
antiutilitarian activity most attractive to those who can least afford it, because gambling tends to reinforce
fatalistic mind-sets fundamentally incompatible with capitalism and democracy, because gambling can be
addictive, and because gambling inevitably attracts criminal elements lured by readily available money.
With the spread of antitax enthusiasms over the last thirty-some years, however, some kinds of gambling
have been legalized and regulated, including state-sponsored lotteries. Gambling is betting on an outcome
of an event over which the bettors have no control where the purpose is to play with the risk.
But because the outcome is contingent on events that lie outside the power of the parties to control does
not transform a bargain into a wager. For example, if a gardener agrees to care for the grounds of a
septuagenarian for life in return for an advance payment of $10,000, the uncertainty of the date of the
landowner’s death does not make the deal a wager. The parties have struck a bargain that accurately
assesses, to the satisfaction of each, the risks of the contingency in question. Likewise, the fact that an
agreement is phrased in the form of a wager does not make it one. Thus a father says to his daughter, “I’ll
bet you can’t get an A in organic chemistry. If you do, I’ll give you $50.” This is a unilateral contract, the
consideration to the father being the daughter’s achieving a good grade, a matter over which she has
complete control.
Despite the general rule against enforcing wagers, there are exceptions, most statutory but some rooted in
the common law. The common law permits the sale or purchase of securities: Sally invests $6,000 in
stock in Acme Company, hoping the stock will increase in value, though she has no control over the firm’s
management. It is not called gambling; it is considered respectable risk taking in the capitalist system, or
“entrepreneurialism.” (It really is gambling, though, similar to horse-race gambling.) But because there
are speculative elements to some agreements, they are subject to state and federal regulation.
Insurance contracts are also speculative, but unless one party has no insurable interest (a concern for the
person or thing insured) in the insured, the contract is not a wager. Thus if you took out a life insurance
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contract on the life of someone whose name you picked out of the phone book, the agreement would be
void because you and the insurance company would have been gambling on a contingent event. (You bet
that the person would die within the term of the policy, the insurance company that she would not.) If,
however, you insure your spouse, your business partner, or your home, the contingency does not make the
policy a wagering agreement because you will have suffered a direct loss should it occur, and the
agreement, while compensating for a possible loss, does not create a new risk just for the “game.”
Sunday Contracts
At common law, contracts entered into on Sundays, as well as other commercial activities, were valid and
enforceable. But a separate, religious tradition that traces to the Second Commandment frowned on work
performed on “the Lord’s Day.” In 1781 a New Haven city ordinance banning Sunday work was printed on
blue paper, and since that time such laws have been known as blue laws. The first statewide blue law was
enacted in the United States in 1788; it prohibited travel, work, sports and amusements, and the carrying
on of any business or occupation on Sundays. The only exceptions in most states throughout most of the
nineteenth century were mutual promises to marry and contracts of necessity or charity. As the Puritan
fervor wore off, and citizens were, more and more, importuned to consider themselves “consumers” in a
capitalistic economic system, the laws have faded in importance and are mostly repealed, moribund, or
unenforced. Washington State, up until 2008, completely prohibited hard alcohol sales on Sunday, and all
liquor stores were closed, but subsequently the state—desperate for tax revenue—relaxed the prohibition.
Usury
A usury statute is one that sets the maximum allowable interest that may be charged on a loan; usury is
charging illegal interest rates. Formerly, such statutes were a matter of real importance because the
penalty levied on the lender—ranging from forfeiture of the interest, or of both the principal and the
interest, or of some part of the principal—was significant. But usury laws, like Sunday contract laws, have
been relaxed to accommodate an ever-more-frenzied consumer society. There are a number of
transactions to which the laws do not apply, varying by state: small consumer loans, pawn shop loans,
payday loans, and corporate loans. In Marquette v. First Omaha Service Corp., the Supreme Court ruled
that a national bank could charge the highest interest rate allowed in its home state to customers living
anywhere in the United States, including states with restrictive interest caps.
[1]
Thus it was that in 1980
Citibank moved its credit card headquarters from cosmopolitan New York City to the somewhat less
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cosmopolitan Sioux Falls, South Dakota. South Dakota had recently abolished its usury laws, and so, as
far as credit-card interest rates, the sky was the limit. That appealed to Citibank and a number of other
financial institutions, and to the state: it became a major player in the US financial industry, garnering
many jobs.
[2]
Licensing Statutes
To practice most professions and carry on the trade of an increasing number of occupations, states require
that providers of services possess licenses—hairdressers, doctors, plumbers, real estate brokers, and egg
inspectors are among those on a long list. As sometimes happens, though, a person may contract for the
services of one who is unlicensed either because he is unqualified and carrying on his business without a
license or because for technical reasons (e.g., forgetting to mail in the license renewal application) he does
not possess a license at the moment. Robin calls Paul, a plumber, to install the pipes for her new kitchen.
Paul, who has no license, puts in all the pipes and asks to be paid. Having discovered that Paul is
unlicensed, Robin refuses to pay. May Paul collect?
To answer the question, a three-step analysis is necessary. First, is a license required? Some occupations
may be performed without a license (e.g., lawn mowing). Others may be performed with or without
certain credentials, the difference lying in what the professional may tell the public. (For instance, an
accountant need not be a certified public accountant to carry on most accounting functions.) Let us
assume that the state requires everyone who does any sort of plumbing for pay to have a valid license.
The second step is to determine whether the licensing statute explicitly bars recovery by someone who has
performed work while unlicensed. Some do; many others contain no specific provision on the point.
Statutes that do bar recovery must of course govern the courts when they are presented with the question.
If the statute is silent, courts must, in the third step of the analysis, distinguish between “regulatory” and
“revenue” licenses. A regulatory license is intended to protect the public health, safety, and welfare. To
obtain these licenses, the practitioner of the art must generally demonstrate his or her abilities by taking
some sort of examination, like the bar exam for lawyers or the medical boards for doctors. A plumber’s or
electrician’s licensing requirement might fall into this category. A revenue license generally requires no
such examination and is imposed for the sake of raising revenue and to ensure that practitioners register
their address so they can be found if a disgruntled client wants to serve them legal papers for a lawsuit.
Some revenue licenses, in addition to requiring registration, require practitioners to demonstrate that
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they have insurance. A license to deliver milk, open to anyone who applies and pays the fee, would be an
example of a revenue license. (In some states, plumbing licenses are for revenue purposes only.)
Generally speaking, failure to hold a regulatory license bars recovery, but the absence of a revenue or
registration license does not—the person may obtain the license and then move to recover. See Section
12.5.2 “Unlicensed Practitioner Cannot Collect Fee” for an example of a situation in which the state statute
demands practitioners be licensed.
K E Y T A K E A W A Y
Gambling, interest rates, and Sunday contracts are among the types of contracts that have, variously, been
subject to legislative illegality. Laws may require certain persons to have licenses in order to practice a
trade or profession. Whether an unlicensed person is barred from recovering a fee for service depends on
the language of the statute and the purpose of the requirement: if it is a mere revenue-raising or
registration statute, recovery will often be allowed. If the practitioner is required to prove competency, no
recovery is possible for an unlicensed person.
E X E R C I S E S
1. List the typical kinds of contracts made illegal by statute.
2. Why are some practitioners completely prohibited from collecting a fee for service if
they don’t have a license, and others allowed to collect the fee after they get the
license?
3. If no competency test is required, why do some statutes require the practitioner to be
licensed?
[1] Marquette v. First Omaha Service Corp., 439 US 299 (1978).
[2] See Thomas M. Reardon, “T. M. Reardon’s first-hand account of Citibank’s move to South
Dakota,” NorthWestern Financial Review, September 15, 2004, accessed March 1,
2011,http://www.highbeam.com/doc/1P3-708279811.html. Mr. Reardon was a member of the South Dakota
Bankers’ Association.
12.3 Bargains Made Illegal by Common Law
L E A R N I N G O B J E C T I V E
1. Understand what contracts or bargains have been declared illegal by courts.
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Overview
Public policy is expressed by courts as well as legislatures. In determining whether to enforce a contract
where there is no legislative dictate, courts must ordinarily balance the interests at stake. To strike the
proper balance, courts must weigh the parties’ expectations, the forfeitures that would result from denial
of enforcement, and the public interest favoring enforcement against these factors: the strength of the
policy, whether denying enforcement will further the policy, the seriousness and deliberateness of the
violation, and how direct the connection is between the misconduct and the contractual term to be
enforced.
[1]
Types of Bargains Made Illegal by Common Law
Common-Law Restraint of Trade
One of the oldest public policies evolved by courts is the common-law prohibition against restraint of
trade. From the early days of industrialism, the courts took a dim view of ostensible competitors who
agreed among themselves to fix prices or not to sell in each other’s territories. Since 1890, with the
enactment of the Sherman Act, the law of restraint of trade has been absorbed by federal and state
antitrust statutes. But the common-law prohibition still exists. Though today it is concerned almost
exclusively with promises not to compete in sales of businesses and employment contracts, it can arise in
other settings. For example, George’s promise to Arthur never to sell the parcel of land that Arthur is
selling to him is void because it unreasonably restrains trade in the land.
The general rule is one of reason: not every restraint of trade is unlawful; only unreasonable ones are. As
the Restatement puts it, “Every promise that relates to business dealings or to a professional or other
gainful occupation operates as a restraint in the sense that it restricts the promisor’s future activity. Such
a promise is not, however, unenforceable, unless the restraint that it imposes is unreasonably detrimental
to the smooth operation of a freely competitive private economy.”
[2]
An agreement that restrains trade
will be construed as unreasonable unless it is ancillary to a legitimate business interest and is no greater
than necessary to protect the legitimate interest. Restraint-of-trade cases usually arise in two settings: (1)
the sale of a business and an attendant agreement not to compete with the purchasers and (2) an
employee’s agreement not to compete with the employer should the employee leave for any reason.
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Sale of a Business
A first common area where a restraint-of-trade issue may arise is with the sale of a business. Regina sells
her lingerie store to Victoria and promises not to establish a competing store in town for one year. Since
Victoria is purchasing Regina’s goodwill (the fact that customers are used to shopping at her store), as
well as her building and inventory, there is clearly a property interest to be protected. And the
geographical limitation (“in town”) is reasonable if that is where the store does business. But if Regina had
agreed not to engage in any business in town, or to wait ten years before opening up a new store, or not to
open up a new store anywhere within one hundred miles of town, she could avoid the noncompetition
terms of the contract because the restraint in each case (nature, duration, and geographic area of
restraint) would have been broader than necessary to protect Victoria’s interest. Whether the courts will
uphold an agreement not to compete depends on all the circumstances of the particular case, as the
Connecticut barber in Section 12.5.3 “Unconscionability” discovered.
Employment Noncompete Agreements
A second common restraint-of-trade issue arises with regard tononcompete agreements in employment
contracts. As a condition of employment by the research division of a market research firm, Bruce, a
product analyst, is required to sign an agreement in which he promises, for a period of one year after
leaving the company, not to “engage, directly or indirectly, in any business competing with the company
and located within fifty miles of the company’s main offices.” The principal reason recited in the
agreement for this covenant not to compete is that by virtue of the employment, Bruce will come to learn a
variety of internal secrets, including client lists, trade or business secrets, reports, confidential business
discussions, ongoing research, publications, computer programs, and related papers. Is this agreement a
lawful restraint of trade?
Here both the property interest of the employer and the extent of the restraint are issues. Certainly an
employer has an important competitive interest in seeing that company information not walk out the door
with former employees. Nevertheless, a promise by an employee not to compete with his or her former
employer is scrutinized carefully by the courts, and an injunction (an order directing a person to stop
doing what he or she should not do) will be issued cautiously, partly because the prospective employee is
usually confronted with a contract of adhesion (take it or leave it) and is in a weak bargaining position
compared to the employer, and partly because an injunction might cause the employee’s unemployment.
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Many courts are not enthusiastic about employment noncompete agreements. The California Business
and Professions Code provides that “every contract by which anyone is restrained from engaging in a
lawful profession, trade, or business of any kind is to that extent void.”
[3]
As a result of the statute, and to
promote entrepreneurial robustness, California courts typically interpret the statute broadly and refuse to
enforce noncompete agreements. Other states are less stingy, and employers have attempted to avoid the
strictures of no-enforcement state rulings by providing that their employment contracts will be
interpreted according to the law of a state where noncompetes are favorably viewed.
If a covenant not to compete is ruled unlawful, the courts can pursue one of three courses by way of
remedy. A court can refuse to enforce the entire covenant, freeing the employee to compete thenceforth.
The court could delete from the agreement only that part that is unreasonable and enforce the remainder
(the “blue pencil” rule). In some states, the courts have moved away from this rule and have actually taken
to rewriting the objectionable clause themselves. Since the parties intended that there be some form of
restriction on competition, a reasonable modification would achieve a more just result.
[4]
Unconscionable Contracts
Courts may refuse to enforce unconscionable contracts, those that are very one-sided, unfair, the product
of unequal bargaining power, or oppressive; a court may find the contract divisible and enforce only the
parts that are not unconscionable.
The common-law rule is reflected in Section 208 of the Restatement: “If a contract or term thereof is
unconscionable at the time the contract is made a court may refuse to enforce the contract, or may enforce
the remainder of the contract without the unconscionable term, or may so limit the application of any
unconscionable term as to avoid any unconscionable result.”
And the Uniform Commercial Code (UCC) (again, of course, a statute, not common law) provides a
similar rule in Section 2-302(1): “If the court as a matter of law finds the contract or any clause of the
contract to have been unconscionable at the time it was made the court may refuse to enforce the contract,
or it may enforce the remainder of the contract without the unconscionable clause, or it may so limit the
application of any unconscionable clause as to avoid any unconscionable result.”
Unconscionable is not defined in the Restatement or the UCC, but cases have given gloss to the meaning,
as in Section 12.5.3 “Unconscionability”, Williams v. Walker-Thomas Furniture Co., a well-known early
interpretation of the section by the DC Court of Appeals.
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Unconscionability may arise procedurally or substantively. A term is procedurally unconscionable if it is
imposed upon the “weaker” party because of fine or inconspicuous print, unexpected placement in the
contract, lack of opportunity to read the term, lack of education or sophistication that precludes
understanding, or lack of equality of bargaining power. Substantive unconscionability arises where the
affected terms are oppressive and harsh, where the term deprives a party of any real remedy for breach.
Most often—but not always—courts find unconscionable contracts in the context of consumer transactions
rather than commercial transactions. In the latter case, the assumption is that the parties tend to be
sophisticated businesspeople able to look out for their own contract interests.
Exculpatory Clauses
The courts have long held that public policy disfavors attempts to contract out of tort
liability. Exculpatory clauses that exempt one party from tort liability to the other for harm caused
intentionally or recklessly are unenforceable without exception. A contract provision that exempts a party
from tort liability for negligence is unenforceable under two general circumstances: (1) when it “exempts
an employer from liability to an employee for injury in the course of his employment” or (2) when it
exempts one charged with a duty of public service and who is receiving compensation from liability to one
to whom the duty is owed.
[5]
Contract terms with offensive exculpatory clauses may be considered
somewhat akin to unconscionability.
Put shortly, exculpatory clauses are OK if they are reasonable. Put not so shortly, exculpatory clauses will
generally be held valid if (1) the agreement does not involve a business generally thought suitable for
public regulation (a twenty-kilometer bicycle race, for example, is probably not one thought generally
suitable for public regulation, whereas a bus line is); (2) the party seeking exculpation is not performing a
business of great importance to the public or of practical necessity for some members of the public; (3) the
party does not purport to be performing the service to just anybody who comes along (unlike the bus
line); (4) the parties are dealing at arms’ length, able to bargain about the contract; (5) the person or
property of the purchaser is not placed under control of the seller, subject to his or his agent’s
carelessness; or (6) the clause is conspicuous and clear.
[6]
Obstructing the Administration of Justice or Violating a Public Duty
It is well established under common law that contracts that would interfere with the administration of
justice or that call upon a public official to violate a public duty are void and unenforceable. Examples of
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such contracts are numerous: to conceal or compound a crime, to pay for the testimony of a witness in
court contingent on the court’s ruling, to suppress evidence by paying a witness to leave the state, or to
destroy documents. Thus, in an unedifying case in Arkansas, a gambler sued a circuit court judge to
recover $1,675 allegedly paid to the judge as protection money, and the Arkansas Supreme Court affirmed
the dismissal of the suit, holding, “The law will not aid either party to the alleged illegal and void
contract…‘but will leave them where it finds them, if they have been equally cognizant of the
illegality.’”
[7]
Also in this category are bribes, agreements to obstruct or delay justice (jury tampering,
abuse of the legal process), and the like.
Family Relations
Another broad area in which public policy intrudes on private contractual arrangements is that of
undertakings between couples, either prior to or during marriage. Marriage is quintessentially a
relationship defined by law, and individuals have limited ability to change its scope through legally
enforceable contracts. Moreover, marriage is an institution that public policy favors, and agreements that
unreasonably restrain marriage are void. Thus a father’s promise to pay his twenty-one-year-old daughter
$100,000 if she refrains from marrying for ten years would be unenforceable. However, a promise in
a postnuptial (after marriage) agreementthat if the husband predeceases the wife, he will provide his wife
with a fixed income for as long as she remains unmarried is valid because the offer of support is related to
the need. (Upon remarriage, the need would presumably be less pressing.) Property settlements before,
during, or upon the breakup of a marriage are generally enforceable, since property is not considered to
be an essential incident of marriage. But agreements in the form of property arrangements that tend to be
detrimental to marriage are void—for example, a prenuptial (premarital) contract in which the wife-to-be
agrees on demand of the husband-to-be to leave the marriage and renounce any claims upon the
husband-to-be at any time in the future in return for which he will pay her $100,000. Separation
agreements are not considered detrimental to marriage as long as they are entered after or in
contemplation of immediate separation; but a separation agreement must be “fair” under the
circumstances, and judges may review them upon challenge. Similarly, child custody agreements are not
left to the whim of the parents but must be consistent with the best interest of the child, and the courts
retain the power to examine this question.
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The types of contracts or bargains that might be found illegal are innumerable, limited only by the
ingenuity of those who seek to overreach.
K E Y T A K E A W A Y
Courts will not enforce contracts that are, broadly speaking, contrary to public policy. These include some
noncompete agreements, exculpatory clauses, unconscionable bargains, contracts to obstruct the public
process or justice, and contracts interfering with family relations.
E X E R C I S E S
1. Why are employment noncompete agreements viewed less favorably than sale-of-
business noncompete agreements?
2. Can a person by contract exculpate herself from liability for gross negligence? For
ordinary negligence?
3. A parking lot agreement says the parking lot is “not responsible for loss of contents or
damage to the vehicle.” Is that acceptable? Explain.
4. A valet parking lot agreement—where the car owner gives the keys to the attendant
who parks the car—has the same language as that for the lot in Exercise 3. Is that
acceptable? Explain.
[1] Restatement (Second) of Contracts, Section 178.
[2] Restatement (Second) of Contracts, Section 186(a).
[3] California Business and Professions Code, Section 16600.
[4] Raimondo v. Van Vlerah, 325 N.E.2d 544 (Ohio 1975).
[5] Restatement (Second) of Contracts, Section 195.
[6] Henrioulle v. Marin Ventures, Inc., 573 P.2d 465 (Calif. 1978).
[7] Womack v. Maner, 301 S.W.2d 438 (Ark. 1957).
12.4 Effect of Illegality and Exceptions
L E A R N I N G O B J E C T I V E S
1. Recognize that courts will not enforce illegal bargains.
2. Know that there are exceptions to that rule.
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Effect of Illegality
The general rule is this: courts will not enforce illegal bargains. The parties are left where the court found
them, and no relief is granted: it’s a hands-off policy. The illegal agreement is void, and that a wrongdoer
has benefited to the other’s detriment does not matter.
For example, suppose a specialty contractor, statutorily required to have a license, constructs a waterslide
for Plaintiff, when the contractor knew or should have known he was unlicensed. Plaintiff discovers the
impropriety and refuses to pay the contractor $80,000 remaining on the deal. The contractor will not get
paid.
[1]
In another example, a man held himself out to be an architect in a jurisdiction requiring that
architects pass a test to be licensed. He was paid $80,000 to design a house costing $900,000. The
project was late and over budget, and the building violated relevant easement building-code rules. The
unlicensed architect was not allowed to keep his fee.
[2]
Exceptions
As always in the law, there are exceptions. Of relevance here are situations where a court might permit
one party to recover: party withdrawing before performance, party protected by statute, party not equally
at fault, excusable ignorance, and partial illegality.
Party Withdrawing before Performance
Samantha and Carlene agree to bet on a soccer game and deliver their money to the stakeholder.
Subsequently, but before the payout, Carlene decides she wants out; she can get her money from the
stakeholder. Ralph hires Jacob for $5,000 to arrange a bribe of a juror. Ralph has a change of heart; he
can get his money from Jacob.
Party Protected by Statute
An airline pilot, forbidden by federal law from working overtime, nevertheless does so; she would be
entitled to payment for the overtime worked. Securities laws forbid the sale or purchase of unregistered
offerings—such a contract is illegal; the statute allows the purchaser rescission (return of the money paid).
An attorney (apparently unwittingly) charged his client beyond what the statute allowed for procuring for
the client a government pension; the pensioner could get the excess from the attorney.
Party Not Equally at Fault
One party induces another to make an illegal contract by undue influence, fraud, or duress; the victim can
recover the consideration conveyed to the miscreant if possible.
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Excusable Ignorance
A woman agrees to marry a man not knowing that he is already married; bigamy is illegal, the marriage is
void, and she may sue him for damages. A laborer is hired to move sealed crates, which contain
marijuana; it is illegal to ship, sell, or use marijuana, but the laborer is allowed payment for his services.
Partial Illegality
A six-page employment contract contains two paragraphs of an illegal noncompete agreement. The illegal
part is thrown out, but the legal parts are enforceable.
K E Y T A K E A W A Y
There are a number of exceptions to the general rule that courts give no relief to either party to an illegal
contract. The rule may be relaxed in cases where justice would be better served than by following the
stricture of hands off.
E X E R C I S E S
1. When, in general, will a court allow a party relief from an illegal contract (or bargain)?
2. A and B engage in a game of high-stakes poker under circumstances making the game
illegal in the jurisdiction. A owes B $5,000 when A loses. When A does not pay, B sues.
Does B get the money? What if A had paid B the $5,000 and then sued to get it back?
[1] Pacific Custom Pools, Inc. v. Turner Construction, 94 Cal. Rptr. 2d 756 (Calif. 2000).
[2] Ransburg v. Haase, 586 N.E. 2d 1295 (Ill. Ct. App. 1992).
12.5 Cases
Extension of Statutory Illegality Based on Public Policy
Bovard v. American Horse Enterprises
247 Cal. Rptr. 340 (Calif. 1988)
[Bovard sued Ralph and American Horse Enterprises (a corporation) to recover on promissory notes that
were signed when Ralph purchased the corporation, ostensibly a jewelry-making business. The trial court
dismissed Bovard’s complaint.]
Puglia, J.
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The court found that the corporation predominantly produced paraphernalia used to smoke marijuana
[roach clips and bongs] and was not engaged significantly in jewelry production, and that Bovard had
recovered the corporate machinery through self-help [i.e., he had repossessed it]. The parties do not
challenge these findings. The court acknowledged that the manufacture of drug paraphernalia was not
itself illegal in 1978 when Bovard and Ralph contracted for the sale of American Horse Enterprises, Inc.
However, the court concluded a public policy against the manufacture of drug paraphernalia was implicit
in the statute making the possession, use and transfer of marijuana unlawful. The trial court held the
consideration for the contract was contrary to the policy of express law, and the contract was therefore
illegal and void. Finally, the court found the parties were in pari delicto [equally at fault] and thus with
respect to their contractual dispute should be left as the court found them.
The trial court concluded the consideration for the contract was contrary to the policy of the law as
expressed in the statute prohibiting the possession, use and transfer of marijuana. Whether a contract is
contrary to public policy is a question of law to be determined from the circumstances of the particular
case. Here, the critical facts are not in dispute. Whenever a court becomes aware that a contract is illegal,
it has a duty to refrain from entertaining an action to enforce the contract. Furthermore the court will not
permit the parties to maintain an action to settle or compromise a claim based on an illegal contract.…
[There are several] factors to consider in analyzing whether a contract violates public policy: “Before
labeling a contract as being contrary to public policy, courts must carefully inquire into the nature of the
conduct, the extent of public harm which may be involved, and the moral quality of the conduct of the
parties in light of the prevailing standards of the community [Citations]”
These factors are more comprehensively set out in the Restatement Second of Contracts section 178:
(1) A promise or other term of an agreement is unenforceable on grounds of public policy if legislation
provides that it is unenforceable or the interest in its enforcement is clearly outweighed in the
circumstances by a public policy against the enforcement of such terms.
(2) In weighing the interest in the enforcement of a term, account is taken of
(a) the parties’ justified expectations,
(b) any forfeiture that would result if enforcement were denied, and
(c) any special public interest in the enforcement of the particular term.
(3) In weighing a public policy against enforcement of a term, account is taken of
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(a) the strength of that policy as manifested by legislation or judicial decisions,
(b) the likelihood that a refusal to enforce the term will further that policy,
(c) the seriousness of any misconduct involved and the extent to which it was deliberate, and
(d) the directness of the connection between that misconduct and the term.
Applying the Restatement test to the present circumstances, we conclude the interest in enforcing this
contract is very tenuous. Neither party was reasonably justified in expecting the government would not
eventually act to geld American Horse Enterprises, a business harnessed to the production of
paraphernalia used to facilitate the use of an illegal drug. Moreover, although voidance of the contract
imposed a forfeiture on Bovard, he did recover the corporate machinery, the only assets of the business
which could be used for lawful purposes, i.e., to manufacture jewelry. Thus, the forfeiture was
significantly mitigated if not negligible. Finally, there is no special public interest in the enforcement of
this contract, only the general interest in preventing a party to a contract from avoiding a debt.
On the other hand, the Restatement factors favoring a public policy against enforcement of this contract
are very strong. As we have explained, the public policy against manufacturing paraphernalia to facilitate
the use of marijuana is strongly implied in the statutory prohibition against the possession, use, etc., of
marijuana, a prohibition which dates back at least to 1929.…Obviously, refusal to enforce the instant
contract will further that public policy not only in the present circumstances but by serving notice on
manufacturers of drug paraphernalia that they may not resort to the judicial system to protect or advance
their business interests. Moreover, it is immaterial that the business conducted by American Horse
Enterprises was not expressly prohibited by law when Bovard and Ralph made their agreement since both
parties knew that the corporation’s products would be used primarily for purposes which were expressly
illegal. We conclude the trial court correctly declared the contract contrary to the policy of express law and
therefore illegal and void.
C A S E Q U E S T I O N S
1. Why did the court think it was significant that Bovard had repossessed the jewelry-
making equipment?
2. What did Bovard want in this case?
3. If it was not illegal to make bongs and roach clips, why did the court determine that this
contract should not be enforced?
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Unlicensed Practitioner Cannot Collect Fee
Venturi & Company v. Pacific Malibu Development Corp.
172 Cal.App.4th 1417 (Calif. Ct. App. 2009)
Rubin, J.
In June 2003, plaintiff Venturi & Company LLC and defendant Pacific Malibu Development Corp. entered
into a contract involving development of a high-end resort on undeveloped property on the Bahamian
island of Little Exuma. Under the contract, plaintiff agreed to serve as a financial advisor and find
financing for the Little Exuma project.…[P]laintiff was entitled to some payment under the contract even
if plaintiff did not secure financing for the project [called a success fee].
After signing the contract, plaintiff contacted more than 60 potential sources of financing for the
project.…[I]n the end, defendants did not receive financing from any source that plaintiff had identified.
Defendants terminated the contract in January 2005. Two months earlier, however, defendants had
signed a [financing agreement] with the Talisker Group. Plaintiff was not involved in defendants’
negotiations with the Talisker Group.…Nevertheless, plaintiff claimed the contract’s provision for a
success fee entitled plaintiff to compensation following the [agreement]. When defendants refused to pay
plaintiff’s fee, plaintiff sued defendants for the fee and for the reasonable value of plaintiff’s services.
Defendants moved for summary judgment. They argued plaintiff had provided the services of a real estate
broker by soliciting financing for the Little Exuma project yet did not have a broker’s license. Thus,
defendants asserted…the Business and Professions Code barred plaintiff from receiving any compensation
as an unlicensed broker.…Plaintiff opposed summary judgment. It argued that one of its managing
principals, Jane Venturi, had a real estate sales license and was employed by a real estate broker (whom
plaintiff did not identify) when defendants had signed their term sheet with the Talisker Group, the
document that triggered plaintiff’s right to a fee.
The court entered summary judgment for defendants. The court found plaintiff had acted as a real estate
broker when working on the Little Exuma project. The court pointed, however, to plaintiff’s lack of
evidence that Jane Venturi’s unnamed broker had employed or authorized her to work on the
project.…[Summary judgment was issued in favor of defendants, denying plaintiff any recovery.] This
appeal followed.
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The court correctly ruled plaintiff could not receive compensation for providing real estate broker services
to defendants because plaintiff was not a licensed broker. (Section 11136 [broker’s license required to
collect compensation for broker services].) But decisions such as Lindenstadt [Citation] establish that the
court erred in denying plaintiff compensation to the extent plaintiff’s services were not those of a real
estate broker. In Lindenstadt, the parties entered into 25 to 30 written agreements in which the plaintiff
promised to help the defendant find businesses for possible acquisition. After the plaintiff found a number
of such businesses, the defendant refused to compensate the plaintiff. The defendant cited the plaintiff’s
performance of broker’s services without a license as justifying its refusal to pay. On appeal, the appellate
court rejected the defendant’s sweeping contention that the plaintiff’s unlicensed services
forsome business opportunities meant the plaintiff could not receive compensation for anybusiness
opportunity. Rather, the appellate court directed the trial court to examine individually each business
opportunity to determine whether the plaintiff acted as an unlicensed broker for that transaction or
instead provided only services for which it did not need a broker’s license.
Likewise here, the contract called for plaintiff to provide a range of services, some apparently requiring a
broker’s license, others seemingly not. Moreover, and more to the point, plaintiff denied having been
involved in arranging, let alone negotiating, defendants’ placement of Securities with the Talisker Group
for which plaintiff claimed a “success fee” under the contract’s provision awarding it a fee even if it had no
role in procuring the financing. Thus, triable issues existed involving the extent to which plaintiff provided
either unlicensed broker services or, alternatively, non-broker services for which it did not need a license.
(Accord: [Citation] [severability allowed partial enforcement of personal manager employment contract
when license required for some, but not all, services rendered under the contract].)
[T]he contract here…envisioned plaintiff directing its efforts toward many potential sources of financing.
As to some of those sources, plaintiff may have crossed the line into performing broker services. But for
other sources, plaintiff may have provided only financial and marketing advice for which it did not need a
broker’s license. (See, e.g. [Citation] [statute barring unlicensed contractor from receiving fees for some
services did not prohibit recovery for work not within scope of licensing statute].) And finally, as to the
Talisker Group, plaintiff may have provided even less assistance than financial and marketing advice,
given that plaintiff denied involvement with the group. Whether plaintiff crossed the line into providing
broker services is thus a triable issue of fact that we cannot resolve on summary judgment.
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…Plaintiff…did not have a broker’s license, and therefore was not entitled to compensation for broker’s
services. Plaintiff contends it was properly licensed because one of its managers, Jane Venturi, obtained a
real estate sales license in February 2004. Thus, she, and plaintiff claims by extension itself, were licensed
when defendants purportedly breached the contract by refusing to pay plaintiff months later for the
Talisker Group placement. Jane Venturi’s sales license was not, however, sufficient; only a licensed broker
may provide broker services. A sales license does not permit its holder to represent another unless the
salesperson acts under a broker’s authority.
The judgment for defendants is vacated, and the trial court is directed to enter a new order denying
defendants’ motion for summary judgment.…
C A S E Q U E S T I O N S
1. Why did the plaintiff think it should be entitled to full recovery under the contract,
including for services rendered as a real estate broker? Why did the court deny that?
2. Even if the plaintiff were not a real estate broker, why would that mean it could not
recover for real estate services provided to the defendant?
3. The appeals court remanded the case; what did it suggest the plaintiff should recover on
retrial?
Unconscionability
Williams v. Walker-Thomas Furniture Co.
350 F.2d 445 (D.C. Ct. App. 1965)
Wright, J.
Appellee, Walker-Thomas Furniture Company, operates a retail furniture store in the District of
Columbia. During the period from 1957 to 1962 each appellant in these cases purchased a number of
household items from Walker-Thomas, for which payment was to be made in installments. The terms of
each purchase were contained in a printed form contract which set forth the value of the purchased item
and purported to lease the item to appellant for a stipulated monthly rent payment. The contract then
provided, in substance, that title would remain in Walker-Thomas until the total of all the monthly
payments made equaled the stated value of the item, at which time appellants could take title. In the event
of a default in the payment of any monthly installment, Walker-Thomas could repossess the item.
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The contract further provided that ‘the amount of each periodical installment payment to be made by
(purchaser) to the Company under this present lease shall be inclusive of and not in addition to the
amount of each installment payment to be made by (purchaser) under such prior leases, bills or accounts;
and all payments now and hereafter made by (purchaser) shall be credited pro rata on all outstanding
leases, bills and accounts due the Company by (purchaser) at the time each such payment is made.’ The
effect of this rather obscure provision was to keep a balance due on every item purchased until the balance
due on all items, whenever purchased, was liquidated. As a result, the debt incurred at the time of
purchase of each item was secured by the right to repossess all the items previously purchased by the
same purchaser, and each new item purchased automatically became subject to a security interest arising
out of the previous dealings.
On May 12, 1962, appellant Thorne purchased an item described as a daveno, three tables, and two lamps,
having total stated value of $391.11 [about $2,800 in 2011 dollars]. Shortly thereafter, he defaulted on his
monthly payments and appellee sought to replevy [repossess] all the items purchased since the first
transaction in 1958. Similarly, on April 17, 1962, appellant Williams bought a stereo set of stated value of
$514.95 [about $3,600 in 2011 dollars]. She too defaulted shortly thereafter, and appellee sought to
replevy all the items purchased since December, 1957. The Court of General Sessions granted judgment
for appellee. The District of Columbia Court of Appeals affirmed, and we granted appellants’ motion for
leave to appeal to this court.
Appellants’ principal contention, rejected by both the trial and the appellate courts below, is that these
contracts, or at least some of them, are unconscionable and, hence, not enforceable. [In its opinion the
lower court said:]
The record reveals that prior to the last purchase appellant had reduced the balance in her account to
$164. The last purchase, a stereo set, raised the balance due to $678. Significantly, at the time of this and
the preceding purchases, appellee was aware of appellant’s financial position. The reverse side of the
stereo contract listed the name of appellant’s social worker and her $218 monthly stipend from the
government. Nevertheless, with full knowledge that appellant had to feed, clothe and support both herself
and seven children on this amount, appellee sold her a $514 stereo set.
We cannot condemn too strongly appellee’s conduct. It raises serious questions of sharp practice and
irresponsible business dealings. A review of the legislation in the District of Columbia affecting retail sales
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and the pertinent decisions of the highest court in this jurisdiction disclose, however, no ground upon
which this court can declare the contracts in question contrary to public policy. We note that were the
Maryland Retail Installment Sales Act…or its equivalent, in force in the District of Columbia, we could
grant appellant appropriate relief. We think Congress should consider corrective legislation to protect the
public from such exploitive contracts as were utilized in the case at bar.
We do not agree that the court lacked the power to refuse enforcement to contracts found to be
unconscionable. In other jurisdictions, it has been held as a matter of common law that unconscionable
contracts are not enforceable. While no decision of this court so holding has been found, the notion that
an unconscionable bargain should not be given full enforcement is by no means novel.…
Since we have never adopted or rejected such a rule, the question here presented is actually one of first
impression.…[W]e hold that where the element of unconscionability is present at the time a contract is
made, the contract should not be enforced.
Unconscionability has generally been recognized to include an absence of meaningful choice on the part of
one of the parties together with contract terms which are unreasonably favorable to the other party.
Whether a meaningful choice is present in a particular case can only be determined by consideration of all
the circumstances surrounding the transaction. In many cases the meaningfulness of the choice is negated
by a gross inequality of bargaining power. The manner in which the contract was entered is also relevant
to this consideration. Did each party to the contract, considering his obvious education or lack of it, have a
reasonable opportunity to understand the terms of the contract, or were the important terms hidden in a
maze of fine print and minimized by deceptive sales practices? Ordinarily, one who signs an agreement
without full knowledge of its terms might be held to assume the risk that he has entered a one-sided
bargain. But when a party of little bargaining power, and hence little real choice, signs a commercially
unreasonable contract with little or no knowledge of its terms, it is hardly likely that his consent, or even
an objective manifestation of his consent, was ever given to all the terms. In such a case the usual rule that
the terms of the agreement are not to be questioned should be abandoned and the court should consider
whether the terms of the contract are so unfair that enforcement should be withheld.…
In determining reasonableness or fairness, the primary concern must be with the terms of the contract
considered in light of the circumstances existing when the contract was made. The test is not simple, nor
can it be mechanically applied. The terms are to be considered ‘in the light of the general commercial
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background and the commercial needs of the particular trade or case.’ Corbin suggests the test as being
whether the terms are ‘so extreme as to appear unconscionable according to the mores and business
practices of the time and place.’ We think this formulation correctly states the test to be applied in those
cases where no meaningful choice was exercised upon entering the contract. So ordered.
Danaher, J. (dissenting):
[The lower] court…made no finding that there had actually been sharp practice. Rather the appellant
seems to have known precisely where she stood.
There are many aspects of public policy here involved. What is a luxury to some may seem an outright
necessity to others. Is public oversight to be required of the expenditures of relief funds? A washing
machine, e.g., in the hands of a relief client might become a fruitful source of income. Many relief clients
may well need credit, and certain business establishments will take long chances on the sale of items,
expecting their pricing policies will afford a degree of protection commensurate with the risk. Perhaps a
remedy when necessary will be found within the provisions of the D.C. “Loan Shark” law, [Citation].
I mention such matters only to emphasize the desirability of a cautious approach to any such problem,
particularly since the law for so long has allowed parties such great latitude in making their own contracts.
I dare say there must annually be thousands upon thousands of installment credit transactions in this
jurisdiction, and one can only speculate as to the effect the decision in these cases will have.
C A S E Q U E S T I O N S
1. Did the court here say that cross-collateral contracts are necessarily unconscionable?
2. Why is it relevant that the plaintiff had seven children and was on welfare?
3. Why did the defendant have a cross-collateral clause in the contract? What would
happen if no such clauses were allowed?
4. What are the elements of unconscionability that the court articulates?
12.6 Summary and Exercises
Summary
In general, illegal contracts are unenforceable. The courts must grapple with two types of illegalities: (1)
statutory violations and (2) violations of public policy not expressly declared unlawful by statute. The
former include gambling contracts, contracts with unlicensed professionals, and Sunday contracts.
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Contracts that violate public policy include many types of covenants not to compete. No general rule for
determining their legality can be given, except to say that the more rigid their restrictions against working
or competing, the less likely they will withstand judicial scrutiny. Other types of agreements that may
violate public policy and hence are unenforceable include provisions that waive tort liability and contracts
that interfere with family relationships.
The exceptions to the rule that illegal agreements will not be enforced and that courts leave the parties
where they are generally involve situations where the hands-off approach would lead to an unfair result:
where the parties are not equally at fault, where one is excusably ignorant or withdraws before
performance, or where one is protected by a statute. A court may sometimes divide a contract, enforcing
the legal part and not the illegal part.
E X E R C I S E S
1. Henrioulle was an unemployed widower with two children who received public
assistance from the Marin County (California) Department of Social Services. There was a
shortage of housing for low-income residents in Marin County. He entered into a lease
agreement on a printed form by which the landlord disclaimed any liability for any injury
sustained by the tenants anywhere on the property. Henrioulle fractured his wrist when
he tripped on a rock on the common stairs in the apartment building. The landlord had
been having a hard time keeping the area clean. Is the disclaimer valid? Explain.
2. Albert Bennett, an amateur cyclist, entered a bicycle race sponsored by the United States Cycling
Federation. He signed a release exculpating the federation for liability: “I further understand that
serious accidents occasionally occur during bicycle racing and that participants in bicycle racing
occasionally sustain mortal or serious personal injuries, and/or property damage, as a
consequence thereof. Knowing the risks of bicycle racing, nevertheless I hereby agree to assume
those risks and to release and hold harmless all the persons or entities mentioned above who
(through negligence or carelessness) might otherwise be liable to me (or my heirs or assigns) for
damages.”
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During the race, Bennett was hit by an automobile that had been allowed on the otherwise
blocked-off street by agents of the defendant. Bennett sued; the trial court dismissed the case on
summary judgment. Bennett appealed. What was the decision on appeal?
3. Ramses owned an industrial supply business. He contracted to sell the business to Tut. Clause VI
of their Agreement of Sale provided as follows: “In further consideration for the purchase, Ramses
agrees that he shall not compete, either directly or indirectly, in the same business as is conducted
by the corporation in its established territory.”
Two months after the sale, Ramses opened a competing business across the street from the
business now owned by Tut, who brought suit, asking the court to close Ramses’s business on the
basis of Clause VI. What should the court decide? Why?
4. After taking a business law class at State U, Elke entered into a contract to sell her
business law book to a classmate, Matthew, for $45. As part of the same contract, she
agreed to prepare a will for Matthew’s mother for an additional $110. Elke prepared the
will and sent the book to Matthew, but he refused to pay her. Is she entitled to any
payment? Explain.
5. Elmo, a door-to-door salesman, entered into a contract to sell the Wilson family $320
worth of household products on credit. The Wilsons later learned that Elmo had failed to
purchase a city license to make door-to-door sales and refused to pay him. May Elmo
collect from the Wilsons? Why?
6. Gardner purchased from Singer a sewing machine ($700) and three vacuums (about
$250 each), one after the other, on Singer’s “1 to 36 month plan.” Gardner defaulted
after paying a total of $400 on account, and Singer sued to repossess all the purchases.
Gardner defended by claiming the purchase plan was unconscionable and pointed to
the Williams case (Section 12.5.3 “Unconscionability”) as controlling law (that cross-
collateral contracts are unconscionable). The trial court ruled for Gardner; Singer
appealed. What was the result on appeal?
7. Blubaugh leased a large farm combine from John Deere Leasing by signing an agreement
printed on very lightweight paper. The back side of the form was “written in such fine,
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light print as to be nearly illegible.…The court was required to use a magnifying glass.”
And the wording was “unreasonably complex,” but it contained terms much in John
Deere’s favor. When Blubaugh defaulted, John Deere repossessed the combine, sold it
for more than he had paid, and sued him for additional sums in accordance with the
default clauses on the back side of the lease. Blubaugh defended by asserting the clauses
were unconscionable. Is this a case of procedural, substantive, or no unconscionability?
Decide.
8. Sara Hohe, a fifteen-year-old junior at Mission Bay High School in San Diego, was injured
during a campus hypnotism show sponsored by the PTSA as a fund-raiser for the senior
class. Hypnotism shows had been held annually since 1980, and Sara had seen the
previous year’s show. She was selected at random from a group of many volunteers. Her
participation in the “Magic of the Mind Show” was conditioned on signing two release
forms. Hohe’s father signed a form entitled “Mission Bay High School PTSA Presents Dr.
Karl Santo.” Hohe and her father both signed a form titled “Karl Santo Hypnotist,”
releasing Santo and the school district from all liability. During the course of the show,
while apparently hypnotized, Hohe slid from her chair and also fell to the floor about six
times and was injured. She, through her father, then sued the school district. The Hohes
claimed the release was contrary to public policy; the trial court dismissed the suit on
summary judgment. Was the release contrary to public policy? Decide.
9. In 1963 the Southern Railway Company was disturbed by an order issued by the
Interstate Commerce Commission, a federal agency, which would adversely affect the
firm’s profit by some $13 million [about $90 million in 2011 dollars]. Southern hired a
lawyer, Robert Troutman, who was a friend of President John F. Kennedy, to lobby the
president that the latter might convince the attorney general, Robert Kennedy, to back
Southern’s position in a lawsuit against the ICC. It worked; Southern won. Southern then
refused to pay Troutman’s bill in the amount of $200,000 [about $14 million in 2011
dollars] and moved for summary judgment dismissing Troutman’s claim, asserting—
among other things—that contracts whereby one person is hired to use his influence
with a public official are illegal bargains. Should summary judgment issue? Decide.
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10. Buyer, representing himself to be experienced in timber negotiations, contracted to buy
the timber on Seller’s land. The first $11,500 would go to Buyer, the next $2,000 would
go to Seller, and the rest would be divided fifty-fifty after costs of removal of the timber.
Buyer said the timber would be worth $18,000–$20,000. When Seller discovered the
timber was in fact worth more than $50,000, he sued, claiming the contract was
unconscionable. How should the court rule?
S E L F – T E S T Q U E S T I O N S
1. Gambling contracts are
a. always unenforceable
b. enforceable if written
c. in effect enforceable in certain situations involving the sale of securities
d. always enforceable when made with insurance companies
In State X, plumbers must purchase a license but do not have to pass an examination. This is an
example of
a. a regulatory license
b. a revenue license
c. both a and b
d. neither a nor b
A contract to pay a lobbyist to influence a public official is generally illegal.
a. true
b. false
Exculpatory clauses are sometimes enforceable when they relieve someone from liability for
a. an intentional act
b. recklessness
c. negligence
d. all of the above
An employee’s promise not to compete with the employer after leaving the company
a. s never enforceable because it restrains trade
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b. is always enforceable if in writing
c. is always enforceable
d. is enforceable if related to the employer’s property interests
S E L F – T E S T A N S W E R S
1. c
2. b
3. b
4. c
5. d
Chapter 13
Form and Meaning
L E A R N I N G O B J E C T I V E S
After reading this chapter, you should understand the following:
1. What kinds of contracts must be evidenced by some writing under the Statute of Frauds,
what the exceptions to the requirements are, and what satisfies a writing requirement
2. What effect prior or contemporaneous “side” agreements have on a written contract
3. How a contract is to be interpreted if its meaning is disputed
In four chapters, we have focused on the question of whether the parties created a valid contract and have examined
the requirements of (1) agreement (offer and acceptance), (2) real consent (free will, knowledge, and capacity), (3)
consideration, and (4) legality. Assuming that these requirements have been met, we now turn to the form and
meaning of the contract itself. Does the contract have to be in a written form, and—if there is a dispute—what does the
contract mean?
13.1 The Statute of Frauds
L E A R N I N G O B J E C T I V E S
1. Know which contracts are required to be evidenced by some writing to be enforceable.
2. Understand the exceptions to that requirement.
3. Recognize what the writing requirement means.
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4. Understand the effect of noncompliance with the Statute of Frauds.
Overview of the Statute of Frauds
The general rule is this: a contract need not be in writing to be enforceable. An oral agreement to pay a
high-fashion model $2 million to pose for photographs is as binding as if the language of the deal were
printed on vellum and signed in the presence of twenty bishops. For three centuries, however, a large
exception grew up around the Statute of Frauds, first enacted in England in 1677 under the formal name
“An Act for the Prevention of Frauds and Perjuries.” The Statute of Frauds requires that some contracts be
evidenced by a writing, signed by the party to be bound. The English statute’s two sections dealing with
contracts read as follows:
[Sect. 4]…no action shall be brought
1. whereby to charge any executor or administrator upon any special promise, to answer
damages out of his own estate;
2. or whereby to charge the defendant upon any special promise to answer for the debt,
default or miscarriages of another person;
3. or to charge any person upon any agreement made upon consideration of marriage;
4. or upon any contract or sale of lands, tenements or hereditaments, or any interest in or
concerning them;
5. or upon any agreement that is not to be performed within the space of one year from the
making thereof;
unless the agreement upon which such action shall be brought, or some memorandum or note thereof,
shall be in writing, and signed by the party to be charged therewith, or some other person thereunto by
him lawfully authorized.
[Sect. 17]…no contract for the sale of any goods, wares and merchandizes, for the price of ten pounds
sterling or upwards, shall be allowed to be good, except the buyer shall accept part of the goods so sold,
and actually receive the same, or give something in earnest to bind the bargain or in part of payment, or
that some note or memorandum in writing of the said bargain be made and signed by the parties to be
charged by such contract, or their agents thereunto lawfully authorized.
As may be evident from the title of the act and its language, the general purpose of the law is to provide
evidence, in areas of some complexity and importance, that a contract was actually made. To a lesser
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degree, the law serves to caution those about to enter a contract and “to create a climate in which parties
often regard their agreements as tentative until there is a signed writing.”
[1]
Notice, of course, that this is
a statute; it is a legislative intrusion into the common law of contracts. The name of the act is somewhat
unfortunate: insofar as it deals with fraud at all, it does not deal with fraud as we normally think of it. It
tries to avoid the fraud that occurs when one person attempts to impose on another a contract that never
was agreed to.
The Statute of Frauds has been enacted in form similar to the seventeenth-century act in every state but
Maryland and New Mexico, where judicial decisions have given it legal effect, and Louisiana. With minor
exceptions in Minnesota, Wisconsin, North Carolina, and Pennsylvania, the laws all embrace the same
categories of contracts that are required to be in writing. Early in the twentieth century, Section 17 was
replaced by a section of the Uniform Sales Act, and this in turn has now been replaced by provisions in the
Uniform Commercial Code (UCC).
Figure 13.1 Contracts Required to Be in Writing
However ancient, the Statute of Frauds is alive and well in the United States. Today it is
used as a technical defense in many contract actions, often with unfair results: it can be
used by a person to wriggle out of an otherwise perfectly fine oral contract (it is said
then to be used “as a sword instead of a shield”). Consequently, courts interpret the law
strictly and over the years have enunciated a host of exceptions—making what appears
to be simple quite complex. Indeed, after more than half a century of serious scholarly
criticism, the British Parliament repealed most of the statute in 1954. As early as 1885, a
British judge noted that “in the vast majority of cases [the statute’s] operation is simply
to enable a man to break a promise with impunity because he did not write it down with
sufficient formality.” A proponent of the repeal said on the floor of the House of
Commons that “future students of law will, I hope, have their labours lightened by the
passage of this measure.” In the United States, students have no such reprieve from the
Statute of Frauds, to which we now turn for examination.
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Types of Contracts Required in Writing and the Exceptions
Promises to Pay the Debt of Another
The rule: a promise to pay the debt of another person must be evidenced by some writing if it is a
“collateral promise of suretyship (or ‘guaranty’).” A collateral promise is one secondary or ancillary to
some other promise. A surety or guarantor(the terms are essentially synonymous) is one who promises to
perform upon the default of another. Consider this:
A and B agree to pay C.
Here, both A and B are making a direct promise to pay C. Although A is listed first, both are promising to
pay C. Now consider this:
B agrees to pay C if A does not.
Here it is clear that there must be another agreement somewhere for A to pay C, but that is not contained
in this promise. Rather, B is making an agreement with C that iscollateral—on the side—to the promise A
is making to C. Sometimes the other agreement somewhere for A to pay C is actually in the same
document as B’s promise to pay C if A does not. That does not make B’s promise a direct promise as
opposed to a collateral one.
Suppose Lydia wishes to purchase on credit a coat at Miss Juliette’s Fine Furs. Juliette thinks Lydia’s
creditworthiness is somewhat shaky. So Lydia’s friend Jessica promises Miss Juliette’s that if the store
will extend Lydia credit, Jessica will pay whatever balance is due should Lydia default. Jessica is a surety
for Lydia, and the agreement is subject to the Statute of Frauds; an oral promise will not be
enforceable.
[2]
Suppose Jessica very much wants Lydia to have the coat, so she calls the store and says,
“Send Lydia the fur, and I will pay for it.” This agreement does not create a suretyship, because Jessica is
primarily liable: she is making a direct promise to pay. To fall within the Statute of Frauds, the surety
must back the debt of another person to a third-party promisee (also known as the obligee of the principal
debtor). The “debt,” incidentally, need not be a money obligation; it can be any contractual duty. If Lydia
had promised to work as a cashier on Saturdays at Miss Juliette’s in return for the coat, Jessica could
become surety to that obligation by agreeing to work in Lydia’s place if she failed to show up. Such a
promise would need to be in writing to be enforceable.
The exception: the main purpose doctrine. The main purpose doctrine is a major exception to the surety
provision of the Statute of Frauds. It holds that if the promisor’s principal reason for acting as surety is to
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secure her own economic advantage, then the agreement is not bound by the Statute of Frauds writing
requirement. Suppose, in the previous example, that Jessica is really the one who wants the fur coat but
cannot, for reasons of prudence, let it be known that she has bought one. So she proposes that Lydia “buy”
it for her and that she will guarantee Lydia’s payments. Since the main purpose of Jessica’s promise is to
advance her own interests, an oral agreement is binding. Normally, the main purpose rule comes into play
when the surety desires a financial advantage to herself that cannot occur unless she provides some
security. For example, the board chairman of a small company, who also owns all the voting stock, might
guarantee a printer that if his company defaulted in paying the bill for desperately needed catalogs, he
would personally pay the bill. If his main purpose in giving the guarantee was to get the catalogues printed
in order to stave off bankruptcy, and thus to preserve his own interest in the company, he would be bound
by an oral agreement.
[3]
The same principle can be used to bind other creditors to oral agreements, as the
bank discovered in Section 13.4.1 “The Statute of Frauds’ Main Purpose Doctrine” (Wilson Floors).
Agreements of Executor or Administrator
The rule: the promise by an executor or administrator of an estate to answer personally for the debt or
other duty of the deceased is analogous to the surety provision—it must be evidenced by some writing if it
is to be enforced over an objection by the would-be obligor. For an agreement to be covered by the statute,
there must have been an obligation before the decedent’s death. Thus if the executor arranges for a
funeral and guarantees payment should the estate fail to pay the fee, an oral contract is binding, because
there was no preexisting obligation. If, however, the decedent has made his own arrangements and signed
a note obligating his estate to pay, the executor’s promise to guarantee payment would be binding only if
written.
The exception: the main purpose exception to the surety provision applies to this section of the Statute
of Frauds as well as to the “promises to pay the debts of another” section, noted earlier.
The Marriage Provision
The rule: if any part of the marriage or the promise to marry consists also of a promise to exchange some
consideration, the Statute of Frauds requires that part to be evidenced by some writing.
[4]
Mutual
promises to marry are not within the rule. John and Sally exchange promises to marry; the promise would
not be unenforceable for failure to be evidenced by some writing. (Of course courts are very unlikely to
force anybody to keep a promise to marry; the point is, the Statute of Frauds doesn’t apply). But if Sally
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understands John to say, “If you marry me, I will deed to you my property in the Catskill Mountains,” the
part about the property would need to be evidenced by some writing to be enforced over John’s denial.
The Statute of Frauds governs such promises regardless of who makes them. Suppose John’s father had
said, “If you marry Sally and settle down, I will give you $1 million,” and John agrees and marries Sally.
The father’s promise is not enforceable unless written, if he denies it.
Sometimes couples—especially rich people like movie stars—execute written property settlement
agreements to satisfy the statute, stipulating how their assets will be treated upon marriage or upon
divorce or death. If done before marriage, they are calledprenuptial (premarital) agreements; if after
marriage,postnuptial (after marriage) agreements (“prenupts” and “postnupts” in lawyer lingo).
The exception: there is no “named” exception here, but courts are free to make equitable adjustments of
property of the marriage to avoid an injustice.
The factors to be considered in the division of the marital estate are set forth at [Citation], which states,
inter alia [among other things], that the court shall finally and equitably apportion the property of the
parties, however and whenever acquired. The statute vests wide discretion in the district court. [Citation].
The court is free to adopt any reasonable valuation of marital property which is supported by the
record.
[5]
Contracts Affecting an Interest in Real Estate
The rule: almost all contracts involving an interest in real estate are subject to the Statute of Frauds. “An
interest in land” is a broad description, including the sale, mortgaging, and leasing of real property
(including homes and buildings); profits from the land; the creation of easements; and the establishment
of other interests through restrictive covenants and agreements concerning use. Short-term leases, usually
for a term of one year or less, are exempt from the provision.
The exception: the part performance doctrine. The name here is a misnomer, because it is a doctrine of
reliance, and the acts taken in reliance on the contract are not necessarily partial performances under it.
As in all such cases, the rationale is that it is unjust not to give the promisee specific performance if he or
she acted in reasonable reliance on the contract and the promisor has continued to manifest assent to its
terms. An oral contract to sell land is not binding simply because the buyer has paid the purchase price;
payment is not by itself reliance, and if the seller refuses to transfer title, the buyer may recover the
purchase price. However, if the buyer has taken possession and made improvements on the property,
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courts will usually say the case is out of the statute, and the party claiming an oral contract can attempt to
prove the existence of the oral contract.
The One-Year Rule
The rule: any agreement that cannot be performed within one year from its making must be evidenced
by some writing to be enforceable. The purpose of this part is perhaps more obvious than most of the
statute’s provisions: memories fade regarding the terms of oral contracts made long ago; people die;
disputes are not uncommon. Notice the critical time frame is not how long it will take to perform the
contract, but how long from the time it is made until performance is complete. If a contract is made on
January 1 for a house to be constructed starting on June 1 and to be completed on February 1 of the next
year, the performance will be completed in eight months from the time it was begun, but thirteen months
from the time the contract was made. It falls within the statute.
The exception: the possibility test. The statute’s one-year rule has been universally interpreted to mean
a contract that is impossible to be fully performed within one year; if there is even the slightest chance of
carrying out the agreement completely within the year, an oral contract is enforceable. Thus an oral
agreement to pay a sum of money on a date thirteen months hence is within the statute and not
enforceable, but one calling for payment “within thirteen months” would be enforceable, since it is
possible under the latter contract to pay in less than a year. Because in many cases strict application of the
statute would dictate harsh results, the courts often strain for an interpretation that finds it possible to
perform the agreement within the year. Courts will even hold that because any person may die within the
year, a contract without a fixed term may be fully performed in under a year and does not, therefore, fall
within the statute.
Under the UCC
The rule: contracts for the sale of goods in an amount greater than $500 must be evidenced by some
writing to be enforceable. Section 2-201 of the UCC requires all contracts for the sale of goods for the price
of $500 or more to be in writing, but oral agreements for the sale of goods valued at less than $500 are
fully enforceable without exception.
Other Writing Requirements
In addition to these requirements, the UCC provides that agreements for the sale of securities (e.g., most
stocks and bonds) usually need to be evidenced by a writing, and agreements for property not included in
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the sales or securities articles of the UCC that exceed $5,000 in value need to be so evidenced.
[6]
Included
here would be intangible property such as rights to royalties and to mortgage payments, and other rights
created by contract. And in many states, other statutes require a writing for several different kinds of
contracts. These include agreements to pay commissions to real estate brokers, to make a will, to pay
debts already discharged in bankruptcy, to arbitrate rather than litigate, to make loans, and to make
installment contracts.
Exceptions under the UCC
There are four exceptions to the UCC’s Statute of Frauds requirement that are relevant here.
The Ten-Day-Reply Doctrine
This provides that, as between merchants, if an oral agreement is reached and one party sends the other a
written statement confirming it, the other party has ten days to object in writing or the agreement is
enforceable.
[7]
“Specially Manufactured Goods”
This exception provides that a seller who has manufactured goods to the buyer’s specifications or who has
made “either a substantial beginning of their manufacture or commitments for their procurement” will
not be stuck if the buyer repudiates, assuming that the goods are unsuitable for sale to others.
[8]
The “Admission” Exception
This exception arises—reasonably enough—when the party against whom enforcement is sought admits in
testimony or legal papers that a contract was in fact made.
[9]
However, the admission will not permit
enforcement of all claimed terms of the contract; enforcement is limited to the quantity of goods
admitted.
The “Payment or Delivery and Acceptance” Exception
The UCC provides that an oral contract for goods in excess of $500 will be upheld if payment has already
been made and accepted, or if the goods have been received and accepted.
[10]
Sufficiency of the Required Writing
At Common Law
We have been careful not to say “the contract needs to be in writing.” We have said, “a contractual
intention must be evidenced by some writing, signed by the party to be bound.” A signed contract is not
required. What is required in most states, following the wording of the original statute, is that there be at
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least some memorandum or note concerning the agreement—a logical consequence of the statute’s
purpose to evidence the making of the contract. The words need not appear in a formal document; they
are sufficient in any form in a will, or on a check or receipt, or in longhand on the back of an envelope—so
long as the document is signed by the party to be charged (i.e., the party being sued on the contract).
Although the writing need not contain every term, it must recite the subject matter of the contract. It need
not do so, however, in terms comprehensible to those who were not party to the negotiations; it is enough
if it is understandable in context. A written agreement to buy a parcel of land is usually sufficiently
definitive if it refers to the parcel in such a way that it could be mistaken for no other—for example,
“seller’s land in Tuscaloosa,” assuming that the seller owned only one parcel there. Beyond the subject
matter, the essential terms of promises to be performed must be written out; all details need not be. If an
essential term is missing, it cannot be enforced, unless it can be inferred or imposed by rule of law. A
written contract for the sale of land containing every term but the time for payment, which the parties
orally agreed would be upon delivery of the deed, is sufficient. (A contract that omitted the selling price
would not be.)
The parties must be named in the writing in a manner sufficient to identify them. Their whole names need
not be given if initials or some other reference makes it inescapable that the writing does concern the
actual parties. Reference to the agent of a party identifies the party. Possession of the writing may even be
sufficient: if a seller gives a memorandum of an oral agreement for the sale of his land, stating all the
terms, to the buyer, the latter may seek specific performance even though the writing omits to name or
describe him or his agent.
[11]
In a few states, consideration for the promise must be stated in writing, even if the consideration has
already been given. Consequently, written contracts frequently contain such language as “for value
received.” But in most states, failure to refer to consideration already given is unnecessary: “the prevailing
view is that error or omission in the recital of past events does not affect the sufficiency of a
memorandum.”
[12]
The situation is different, however, when the consideration is a return promise yet to
be performed. Usually the return promise is an essential term of the agreement, and failure to state it will
vitiate the writing.
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Under the UCC
In contracts for the sale of goods, the writing must be signed by the party to be charged, and the parties
must be sufficiently identified.
[13]
But consideration, including the selling price, need not be set forth for
the memorandum to meet the requirements of the UCC (“a writing is not insufficient because it omits or
incorrectly states a term agreed upon”), though obviously it makes sense to do so whenever possible. By
contrast, UCC Sections 1-206 and 3-319 concerning intangible personal property and investment
securities require “a defined or stated price.”
Electronic Communications
One of the primary purposes of the Electronic Signatures in Global and National Commerce Act, S. 761,
popularly referred to as ESign, is to repeal state law requirements for written instruments as they apply to
electronic agreements and to make almost anything reasonably indicative of a signature good enough
electronically.
[14]
It provides the following:
Notwithstanding any statute, regulation, or other rule of law [other than subsequent parts of this same
statute], with respect to any transactions in or affecting interstate or foreign commerce—
1. a signature, contract, or other record relating to such transaction may not be denied
legal effect, validity or enforceability solely because it is in electronic form; and
2. a contract relating to such transaction may not be denied legal effect, validity or
enforceability solely because an electronic signature or electronic record was used in its
formation.…
The term “transaction” means an action or set of actions relating to the conduct of a business, consumer
or commercial affairs between two or more persons, including any of the following types of conduct—
1. the sale, lease, exchange, or other disposition of [personal property and intangibles]
2. the sale, lease, exchange or other disposition of any interest in real property, or any
combination thereof.
The term “electronic signature” means an electronic sound, symbol, or process, attached to or logically
associated with a contract or other record and executed or adopted by a person with the intent to sign the
record.
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Effect of Noncompliance and Exceptions; Oral Rescission
The basic rule is that contracts governed by the Statute of Frauds are unenforceable if they are not
sufficiently written down. If the agreement contains several promises, the unenforceability of one will
generally render the others unenforceable also.
The Statute of Frauds can work injustices. In addition to the exceptions already noted, there are some
general exceptions.
Full Performance
First, certainly, if the contract has been performed fully by both sides, its unenforceability under the
statute is moot. Having fulfilled its function (neither side having repudiated the contract), the agreement
cannot be rescinded on the ground that it should have been, but was not, reduced to writing.
Detrimental Reliance
Second, some relief may be granted to one who has relied on an oral contract to her detriment (similar to
the part performance doctrine mentioned already). For a partially performed contract unenforceable
under the Statute of Frauds, restitution may be available. Suppose George agrees orally to landscape
Arthur’s fifteen acres, in return for which George is to receive title to one acre at the far end of the lot.
George is not entitled to the acre if Arthur defaults, but he may recover for the reasonable value of the
services he has performed up to the time of repudiation. Somewhat related, if one side has reasonably and
foreseeably relied upon a promise in such a way that injustice can only be avoided by enforcing it, some
courts will use promissory estoppel to preclude the necessity of a writing, but the connection between the
alleged oral contract and the detrimental reliance must be convincing.
Oral Rescission
Third, most contracts required to be in writing may be rescinded orally. The new agreement is treated in
effect as a modification of the old one, and since a complete rescission will not usually trigger any action
the statute requires to be in writing, the rescission becomes effective in the absence of any signed
memorandum.
Some agreements, however, may not be rescinded orally. Those that by their terms preclude oral
rescission are an obvious class. Under the UCC, certain agreements for the sale of goods may not be orally
rescinded, depending on the circumstances. For instance, if title has already passed to the buyer under a
written agreement that satisfies the statute, the contract can be rescinded only by a writing. Contracts for
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the sale of land are another class of agreements that generally may not be orally rescinded. If title has
already been transferred, or if there has been a material change of position in reliance on the contract,
oral agreements to rescind are unenforceable. But a contract that remains wholly executory, even though
enforceable because in writing, may be rescinded orally in most states.
Contract Modification
Fourth, contracts governed by the Statute of Frauds may be modified orally if the resulting contract, taken
as a whole, falls outside the statute. The same rule applies under the UCC.
[15]
Thus a written contract for
the sale of a new bicycle worth $1,200 may be orally modified by substituting the sale of a used bicycle
worth $450, but not by substituting the sale of a used bike worth $600. The modified contract effectively
rescinds the original contract.
K E Y T A K E A W A Y
The Statute of Frauds, an ancient legislative intrusion into common-law contracts, requires that certain
contracts be evidenced by some writing, signed by the party to be bound, to be enforceable. Among those
affected by the statute are contracts for an interest in real estate, contracts that by their terms cannot be
performed within one year, contracts whereby one person agrees to pay the debt of another, contracts
involving the exchange of consideration upon promise to marry (except mutual promises to marry), and,
under the UCC, contracts in an amount greater than $500. For each contract affected by the statute, there
are various exceptions intended to prevent the statute from being used to avoid oral contracts when it is
very likely such were in fact made.
The writing need not be a contract; anything in writing, signed by the person to be bound, showing
adequate contractual intention will take the matter out of the statute and allow a party to attempt to
show the existence of the oral contract.
There may be relief under restitution or promissory estoppel. Contracts affected by the statute can usually
be orally rescinded. Any contract can be modified or rescinded; if the new oral contract as modified does
not fall within the statute, the statute does not apply.
E X E R C I S E S
1. What is the purpose of the Statute of Frauds?
2. What common-law contracts are affected by it, and what are the exceptions?
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3. How does the UCC deal with the Statute of Frauds?
4. How is the requirement of the statute satisfied?
5. Contracts can always be modified. How does the Statute of Frauds play with contract
modification?
[1] Restatement (Second) of Contracts, Chapter 5, statutory note.
[2] Of course, if Jessica really did orally promise Miss Juliette’s to pay in case Lydia didn’t, it would be bad faith to
lie about it. The proper course for Jessica is not to say, “Ha, ha, I promised, but it was only oral, so I’m not bound.”
Jessica should say, “I raise the Statute of Frauds as a defense.”
[3] Stuart Studio, Inc. v. National School of Heavy Equipment, Inc., 214 S.E.2d 192 (N.C. 1975).
[4] Restatement (Second) of Contracts, Section 125.
[5] In re Marriage of Rada, 402, 869 P.2d 254 (Mont. 1994).
[6] Uniform Commercial Code, Sections 8-319 and 1-206.
[7] Uniform Commercial Code, Section 2-201(2).
[8] Uniform Commercial Code, Section 2-201(3)(a).
[9] Uniform Commercial Code, Section 2-201(3)(b).
[10] Uniform Commercial Code, Section 2-20l(3)(c).
[11] Restatement (Second) of Contracts, Section 207(f).
[12] Restatement (Second) of Contracts, Section 207(h).
[13] Uniform Commercial Code, Section 2-210(1).
[14] Electronic Signatures in Global and National Commerce Act, 15 U.S.C. § 96, 106th Congress (2000).
[15] Uniform Commercial Code, Section 2-209(3).
13.2 The Parol Evidence Rule
L E A R N I N G O B J E C T I V E S
1. Understand the purpose and operation of the parol evidence rule, including when it
applies and when it does not.
2. Know how the Uniform Commercial Code (UCC) deals with evidence to show a contract’s
meaning.
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The Purpose of the Rule
Unlike Minerva sprung forth whole from the brow of Zeus in Greek mythology, contracts do not appear at
a stroke memorialized on paper. Almost invariably, negotiations of some sort precede the concluding of a
deal. People write letters, talk by telephone, meet face-to-face, send e-mails, and exchange thoughts and
views about what they want and how they will reciprocate. They may even lie and cajole in duplicitous
ways, making promises they know they cannot or will not keep in order not to kill the contract talks. In
the course of these discussions, they may reach tentative agreements, some of which will ultimately be
reflected in the final contract, some of which will be discarded along the way, and some of which perhaps
will not be included in the final agreement but will nevertheless not be contradicted by it. Whether any
weight should be given to these prior agreements is a problem that frequently arises.
Parol Evidence at Common-Law
The Rule
The rule at common law is this: a written contract intended to be the parties’ complete understanding
discharges all prior or contemporaneous promises, statements, or agreements that add to, vary, or conflict
with it.
The parol evidence rule (parol means oral; it is related to parliament and parly—talking) is a substantive
rule of law that operates to bar the introduction of evidence intended to show that the parties had agreed
to something different from what they finally arrived at and wrote down. It applies to prior written as well
as oral discussions that don’t make it into the final written agreement. Though its many apparent
exceptions make the rule seem difficult to apply, its purposes are simple: to give freedom to the parties to
negotiate without fear of being held to the consequences of asserting preliminary positions, and to give
finality to the contract.
The rule applies to all written contracts, whether or not the Statute of Frauds requires them to be in
writing. The Statute of Frauds gets to whether there was a contract at all; the parol evidence rule says,
granted there was a written contract, does it express the parties’ understanding? But the rule is concerned
only with events that transpired before the contract in dispute was signed. It has no bearing on
agreements reached subsequently that may alter the terms of an existing contract.
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The Exemptions and Exceptions
Despite its apparent stringency, the parol evidence rule does not negate all prior agreements or
statements, nor preclude their use as evidence. A number of situations fall outside the scope of the rule
and hence are not technically exceptions to it, so they are better phrased as exemptions (something not
within the scope of a rule).
Not an Integrated Contract
If the parties never intended the written contract to be their full understanding—if they intended it to be
partly oral—then the rule does not apply. If the document is fully integrated, no extrinsic evidence will be
permitted to modify the terms of the agreement, even if the modification is in addition to the existing
terms, rather than a contradiction of them. If the contract is partially integrated, prior consistent
additional terms may be shown. It is the duty of the party who wants to exclude the parol evidence to
show the contract was intended to be integrated. That is not always an easy task. To prevent a party later
from introducing extrinsic evidence to show that there were prior agreements, the contract itself can
recite that there were none. Here, for example, is the final clause in the National Basketball Association
Uniform Player Contract: “This agreement contains the entire agreement between the parties and there
are no oral or written inducements, promises or agreements except as contained herein.” Such a clause is
known as a merger clause.
Void or Voidable Contracts
Parol evidence is admissible to show the existence of grounds that would cause the contract to be void.
Such grounds include illegality, fraud, duress, mistake, and lack of consideration. And parol evidence is
allowed to show evidence of lack of contractual capacity. Evidence of infancy, incompetency, and so on
would not change the terms of the contract at all but would show it was voidable or void.
Contracts Subject to a Condition Precedent
When the parties orally agree that a written contract is contingent on the occurrence of an event or some
other condition (a condition precedent), the contract is not integrated and the oral agreement may be
introduced. The classic case is that of an inventor who sells in a written contract an interest in his
invention. Orally, the inventor and the buyer agree that the contract is to take effect only if the buyer’s
engineer approves the invention. (The contract was signed in advance of approval so that the parties
would not need to meet again.) The engineer did not approve it, and in a suit for performance, the court
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permitted the evidence of the oral agreement because it showed “that in fact there never was any
agreement at all.”
[1]
Note that the oral condition does not contradict a term of the written contract; it
negates it. The parol evidence rule will not permit evidence of an oral agreement that is inconsistent with
a written term, for as to that term the contract is integrated.
Untrue Recital or Errors
The parol evidence rule does not prevent a showing that a fact stated in a contract is untrue. The rule
deals with prior agreements; it cannot serve to choke off inquiry into the facts. Thus the parol evidence
rule will not bar a showing that one of the parties is a minor, even if the contract recites that each party is
over eighteen. Nor will it prevent a showing that a figure in the contract had a typographical error—for
example, a recital that the rate charged will be the plumber’s “usual rate of $3 per hour” when both parties
understood that the usual rate was in fact $30 per hour. A court would allowreformation (correction) of
such errors.
Ambiguity
To enforce a contract, its terms must be understood, so parol evidence would be allowed, but a claim of
ambiguity cannot be used to alter, vary, or change the contract’s meaning.
Postcontract Modification
Ordinarily, an additional consistent oral term may be shown only if the contract was partially integrated.
The parol evidence rule bars evidence of such a term if the contract was fully integrated. However, when
there is additional consideration for the term orally agreed, it lies outside the scope of
the integrated contract and may be introduced. In effect, the law treats each separate consideration as
creating a new contract; the integrated written document does not undercut the separate oral agreement,
as long as they are consistent. Buyer purchases Seller’s business on a contract; as part of the agreement,
Seller agrees to stay on for three weeks to help Buyer “learn the ropes.” Buyer realizes she is not yet
prepared to go on her own. She and Seller then agree that Seller will stay on as a salaried employee for five
more weeks. Buyer cannot use the parol evidence rule to preclude evidence of the new agreement: it is a
postcontract modification supported by new consideration. Similarly, parties could choose to rescind a
previously made contract, and the parol evidence rule would not bar evidence of that.
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The UCC Approach
Under Section 2-202 of the UCC, a course of dealing, a usage of trade, or a course of performance can be
introduced as evidence to explain or supplement any written contract for the sale of goods.
A course of dealing is defined as “a sequence of previous conduct between the parties to a particular
transaction which is fairly to be regarded as establishing a common basis of understanding for
interpreting their expressions and other conduct.” A usage of trade is “any practice or method of dealing
having such regularity of observance in a place, vocation or trade as to justify an expectation that it will be
observed with respect to the transaction in question.” Acourse of performance is the conduct of a party in
response to a contract that calls for repeated action (e.g., a purchase agreement for a factory’s monthly
output, or an undertaking to wash a neighbor’s car weekly).
K E Y T A K E A W A Y
The parol evidence rule is intended to preserve “the four corners” of the contract: it generally prohibits
the introduction of contemporaneous oral or written elements of negotiation that did not get included in
the written contract, subject to a number of exemptions.
The UCC allows evidence of course of dealing, course of performance, or usage of trade to give meaning to
the contract.
E X E R C I S E S
1. What is the purpose of the parol evidence rule?
2. How does it operate to crystallize the intention of the contracting parties?
3. To what kinds of contract issues does the rule not apply?
4. What “help” does the UCC give to fleshing out the parties’ contractual understanding?
[1] Pym v. Campbell, 119 Eng. Rep. 903 (Q.B. 1856).
13.3 Interpretation of Agreements: Practicalities versus
Legalities
L E A R N I N G O B J E C T I V E S
1. Understand the purpose of contractual interpretation.
2. Know the tools courts use to interpret contracts.
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3. Recognize that in everyday life, businesspeople tolerate oral contracts or poorly written
ones, but a writing remains useful.
The General Problem and the Purpose of Contractual Interpretation
The General Problem
As any reader knows, the meaning of words depends in part on context and in part on the skill and care of
the writer. As Justice Oliver Wendell Holmes Jr. once succinctly noted, “A word is not a crystal,
transparent and unchanged; it is the skin of a living thought and may vary greatly in color and content
according to the circumstances and the time in which it is used.”
[1]
Words and phrases can be ambiguous,
either when they stand alone or when they take on a different coloration from words and phrases near
them. A writer can be careless and contradict himself without intending to; people often read hurriedly
and easily miss errors that a more deliberate perusal might catch. Interpretation difficulties can arise for
any of a number of reasons: a form contract might contain language that is inconsistent with provisions
specifically annexed; the parties might use jargon that is unclear; they might forget to incorporate a
necessary term; assumptions about prior usage or performance, unknown to outsiders like judges, might
color their understanding of the words they do use. Because ambiguities do arise, courts are frequently
called on to give content to the words on paper.
The Basic Rule of Interpretation
Courts attempt to give meaning to the parties’ understanding when they wrote the contract.
The intention of the parties governs, and if their purpose in making the contract is known or can be
ascertained from all the circumstances, it will be given great weight in determining the meaning of an
obscure, murky, or ambiguous provision or a pattern of conduct. A father tells the college bookstore that
in consideration of its supplying his daughter, a freshman, with books for the coming year, he will
guarantee payment of up to $350. His daughter purchases books totaling $400 the first semester, and he
pays the bill. Midway through the second semester, the bookstore presents him with a bill for an
additional $100, and he pays that. At the end of the year, he refuses to pay a third bill for $150. A court
could construe his conduct as indicating a purpose to ensure that his daughter had whatever books she
needed, regardless of cost, and interpret the contract to hold him liable for the final bill.
Tools of Interpretation
The policy of uncovering purpose has led to a number of tools of judicial interpretation:
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More specific terms or conduct are given more weight than general terms or
unremarkable conduct. Thus a clause that is separately negotiated and added to a
contract will be counted as more significant than a standard term in a form contract.
A writing is interpreted as a whole, without undue attention to one clause.
Common words and terms are given common meaning; technical terms are given their
technical meaning.
In the range of language and conduct that helps in interpretation, the courts prefer the
following items in the order listed: express terms, course of performance, course of
dealing, and usage of trade.
If an amount is given in words and figures that differ, the words control.
Writing controls over typing; typing controls over printed forms.
Ambiguities are construed against the party that wrote the contract.
In this chapter, we have considered a set of generally technical legal rules that spell out the consequences
of contracts that are wholly or partially oral or that, if written, are ambiguous or do not contain every term
agreed upon. These rules fall within three general headings: the Statute of Frauds, the parol evidence rule,
and the rules of interpretation. Obviously, the more attention paid to the contract before it is formally
agreed to, the fewer the unforeseen consequences. In general, the conclusion is inescapable that a written
contract will avoid a host of problems. Writing down an agreement is not always sensible or practical, but
it can probably be done more often than it is. Writing almost fifty years ago—and it is still true—a law
professor studying business practices noted the following:
Businessmen often prefer to rely on “a man’s word” in a brief letter, a handshake or “common honesty
and decency”—even when the transaction involves exposure to serious risks. Seven lawyers from law firms
with business practices were interviewed. Five thought that businessmen often entered contracts with
only a minimal degree of advanced planning. They complained that businessmen desire to “keep it simple
and avoid red tape” even where large amounts of money and significant risks are involved.…Another said
that businessmen when bargaining often talk only in pleasant generalities, think they have a contract, but
fail to reach agreement on any of the hard, unpleasant questions until forced to do so by a lawyer.
[2]
Written contracts do not, to be sure, guarantee escape from disputes and litigation. Sometimes
ambiguities are not seen; sometimes they are necessary if the parties are to reach an agreement at all.
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Rather than back out of the deal, it may be worth the risk to one or both parties deliberately to go along
with an ambiguous provision and hope that it never arises to be tested in a dispute that winds up in court.
Nevertheless, it is generally true that a written contract has at least three benefits over oral ones, even
those that by law are not required to be in writing. (1) The written contract usually avoids ambiguity. (2) It
can serve both as a communications device and as a device for the allocation of power, especially within
large companies. By alerting various divisions to its formal requirements, the contract requires the sales,
design, quality-control, and financial departments to work together. By setting forth requirements that
the company must meet, it can place the power to take certain actions in the hands of one division or
another. (3) Finally, should a dispute later arise, the written contract can immeasurably add to proof both
of the fact that a contract was agreed to and of what its terms were.
K E Y T A K E A W A Y
It is not uncommon for the meaning of a contract to be less than entirely clear. When called upon to
interpret the meaning of a contract, courts try to give it the meaning the parties intended when they made
it. Various tools of interpretation are used.
Businesspeople usually do not like to seem overbearing; they do not wish to appear untrusting; they often
dislike unpleasantries. Therefore it is not uncommon for even big deals to be sealed with a handshake. But
it’s a trade-off, because a written contract has obvious benefits, too.
E X E R C I S E S
1. Why do courts fairly frequently have to interpret the meaning of contracts?
2. What is the purpose of contractual interpretation?
3. What tools do the courts use in interpreting contracts?
4. What is the social “cost” of insisting upon a written contract in a business setting? What
are the benefits of the contract?
[1] Towne v. Eisner, 245 US 418, 425 (1917).
[2] Stewart Macaulay, “Non-contractual Relations in Business: A Preliminary Study,” American Sociological
Review 28, no. 1 (1963): 58–59.
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13.4 Cases
The Statute of Frauds’ Main Purpose Doctrine
Wilson Floors Co. v. Sciota Park, Ltd., and Unit, Inc.
377 N.E.2d 514 (1978)
Sweeny, J.
In December of 1971, Wilson Floors Company (hereinafter “Wilson”) entered into a contract with Unit,
Inc. (hereinafter “Unit”), a Texas corporation to furnish and install flooring materials for “The Cliffs”
project, a development consisting of new apartments and an office building to be located in Columbus,
Ohio. Unit…was the general manager for the project. The Pittsburgh National Bank (hereinafter the
bank), as the construction lender for the project, held mortgages on The Cliffs property security for
construction loans which the bank had made to Unit.
As the work progressed on the project Unit fell behind in making payments to Wilson for its completed
work in the spring of 1973. At that time, the project was approximately two-thirds completed, the first
mortgage money of seven million dollars having been fully dispersed by the bank to Unit. Appellant
[Wilson] thereupon stopped work in May of 1973 and informed Unit that it would not continue until
payments were forthcoming. On May 15, 1973, the bank conducted a meeting with the subcontractors in
The Cliffs project, including Wilson.
At the meeting, the bank sought to determine whether it would be beneficial at that stage of the project to
lend more money to Unit, foreclose on the mortgage and hire a new contractor to complete the work, or
do nothing. Subcontractors were requested to furnish the bank an itemized account of what Unit owed
them, and a cost estimate of future services necessary to complete their job contracts. Having reviewed
the alternatives, the bank determined that it would be in its best interest to provide additional financing
for the project. The bank reasoned that to foreclose on the mortgage and hire a new contractor at this
stage of construction would result in higher costs.
There is conflicting testimony in regard to whether the bank made assurances to Wilson at this meeting
that it would be paid for all work to be rendered on the project. However, after the May meeting, Wilson,
along with the other subcontractors, did return to work.
Payments from Unit again were not forthcoming, resulting in a second work stoppage. The bank then
arranged another meeting to be conducted on June 28, 1973.
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At this second meeting, there is conflicting testimony concerning the import of the statements made by
the bank representative to the subcontractors. The bank representative who spoke at the meeting testified
at trial that he had merely advised the subcontractors that adequate funds would be available to complete
the job. However, two representatives of Wilson, also in attendance at the meeting, testified that the bank
representative had assured Wilson that if it returned to work, it would be paid.
After the meeting, Wilson returned to work and continued to submit its progress billings to Unit for
payment. Upon completion of its portion of The Cliffs project, Wilson submitted its final invoice of
$15,584.50 to Unit. This amount was adjusted downward to $15,443.06 upon agreement of Unit and
Wilson. However, Wilson was not paid this amount.
As a result of nonpayment, Wilson filed suit…against Unit and the bank to recover the $15,443.06 [about
$60,700 in 2010 dollars]. On September 26, 1975, Wilson and Unit stipulated that judgment for the sum
of $15,365.84, plus interest, be entered against Unit. When Unit failed to satisfy the judgment, appellant
proceeded with its action against the bank. [The trial court decided in favor of Wilson, but the
intermediate appellate court reversed the trial court decision.]…[The Ohio statute of frauds provides]:
No action shall be brought whereby to charge the defendant, upon a special promise, to answer for the
debt, default, or miscarriage of another person…unless the agreement…or some memorandum thereof, is
in writing and signed by the party to be charged.…
In paragraph one of Crawford v. Edison [an 1887 Ohio case], however, this court stated:
When the leading object of the promisor is, not to answer for another, but to subserve some pecuniary or
business purpose of his own, involving a benefit to himself…his promise is not within the statute of frauds,
although it may be in form a promise to pay the debt of another and its performance may incidentally
have the effect of extinguishing that liability.…
So long as the promisor undertakes to pay the subcontractor whatever his services are worth irrespective
of what he may owe the general contractor and so long as the main purpose of the promisor is to further
his own business or pecuniary interest, the promise is enforceable.…
The facts in the instant case reflect that the bank made its guarantee to Wilson to subserve its own
business interest of reducing costs to complete the project. Clearly, the bank induced Wilson to remain on
the job and rely on its credit for future payments. To apply the statute of frauds and hold that the bank
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had no contractual duty to Wilson despite its oral guarantees would not prevent the wrong which the
statute’s enactment was to prevent, but would in reality effectuate a wrong.
Therefore, this court affirms the finding of the Court of Common Pleas that the verbal agreement made by
the bank is enforceable by Wilson, and reverses the judgment of the Court of Appeals.
C A S E Q U E S T I O N S
1. The exception to the Statute of Frauds in issue here is the main purpose doctrine. How
does this doctrine relate to the concept of promissory estoppel?
2. What was the main purpose behind the bank’s purported promise?
The Statute of Frauds’ One-Year Rule
Iacono v. Lyons
16 S.W.3d 92 (Texas Ct. App. 2000)
O’Connor, J.
Mary Iacono, the plaintiff below and appellant here, appeals from a take-nothing summary judgment
rendered in favor of Carolyn Lyons, the defendant below and appellee here. We reverse and remand.
The plaintiff [Iacono] and defendant [Lyons] had been friends for almost 35 years. In late 1996, the
defendant invited the plaintiff to join her on a trip to Las Vegas, Nevada. There is no dispute that the
defendant paid all the expenses for the trip, including providing money for gambling.
The plaintiff contended she was invited to Las Vegas by the defendant because the defendant thought the
plaintiff was lucky. Sometime before the trip, the plaintiff had a dream about winning on a Las Vegas slot
machine. The plaintiff’s dream convinced her to go to Las Vegas, and she accepted the defendant’s offer to
split “50-50” any gambling winnings.
In February 1997, the plaintiff and defendant went to Las Vegas. They started playing the slot machines at
Caesar’s Palace. The plaintiff contends that, after losing $47, the defendant wanted to leave to see a show.
The plaintiff begged the defendant to stay, and the defendant agreed on the condition that she (the
defendant) put the coins into the machines because doing so took the plaintiff too long. (The plaintiff, who
suffers from advanced rheumatoid arthritis, was in a wheelchair.) The plaintiff agreed, and took the
defendant to a dollar slot machine that looked like the machine in her dream. The machine did not pay on
the first try. The plaintiff then said, “Just one more time,” and the defendant looked at the plaintiff and
said, “This one’s for you, Puddin.”
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The slot machine paid $1,908,064. The defendant refused to share the winnings with the plaintiff, and
denied they had an agreement to split any winnings. The defendant told Caesar’s Palace she was the sole
winner and to pay her all the winnings.
The plaintiff sued the defendant for breach of contract. The defendant moved for summary judgment on
the grounds that any oral agreement was unenforceable un
