As of this post, we have seen the
basic rule of Section 2-204(3) in operation multiple times within the text of
the Code. By way of review, that section states:
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.
In
the previous post we looked at the absence of a price term in a contract, and
saw that per Section 2-305, the parties can create an enforceable contract
without a price in place. That, like
the general rule of Section 2-204(3), requires the intent of the parties to
enter into such an agreement.
We now look at a situation in which
no specific quantity need be stated in order to have an enforceable
contract. In this instance, the quantity
term is supplied by the ‘requirements of the buyer’ or ‘the output of the
seller’. This situation is governed by
Section 2-306(1):
(1) A term which measures the quantity by
the output of the seller or the requirements of the buyer means such actual output or requirements as may occur in good faith, except that no
quantity unreasonably disproportionate to any stated estimate or in the absence
of a stated estimate to any normal or otherwise comparable prior output or
requirements may be tendered or demanded.
Although
the good faith requirement for output and requirements contracts is mandated by
Section 1-304, Section 2-306(1) explicitly states the good faith requirement in
output and requirements contracts.
The good faith component has
parameters placed upon it, in that no output or requirement may ‘be
unreasonably disproportionate to any stated estimate’. In the absence of any stated estimate, no
output or requirement may be tendered or demanded which is not ‘normal or
otherwise comparable prior output or requirements’.
It is clear from the text that if no quantity is
stated the seller’s output would be comprised of all units produced by the
seller. Similarly, if no specific amount
of requirements are stated, the buyer would be able to request all units to
fulfill its needs. Both of course are
subject to the limiting language of ‘normal or otherwise comparable output or
requirements’, and the good faith requirement of ‘honesty in fact and the
observance of reasonable commercial standards of fair dealing in the trade’.
A question appears to have arisen as
to what happens when the buyer provides a stated estimate and then chooses not
to purchase any units. Does the seller have any rights in that situation? A reading of the text of Section 2-306(1)
would appear to allow the seller to tender units to the buyer as long as the
amount tendered was not ‘unreasonably disproportionate’ to the stated
estimate. That however is not the result
reached in a 7th Circuit case that posed this precise question.
Empire
Gas Corp. v American Bakeries Co. 840 F.2d 1333 (7th Cir., 1988) Empire Gas was a retail distributor of
propane, and a provider of conversion units which convert gas engines to
propane engines. The major source of
profit for Empire was in the contract to purchase propane from Empire which
accompanied the sale of the conversion units
During the contract period in question, gasoline prices had risen
dramatically resulting in American Bakeries’ decision to convert to propane and
its resulting contract with Empire. The first contract drafted by Empire was
rejected by American, but the subsequent contract was accepted and executed,
which required American to purchase “ approximately three thousand (3,000) [conversion] units, more
or less depending upon requirements of Buyer”.
In discussing Section 2-306, the court
posed the question of whether or not a buyer who makes a ‘stated estimate’ of
its anticipated needs is actually bound by that estimate as stated in the
contract when a buyer decides to purchase no units, or whether that estimate,
embodied in a signed writing, is irrelevant and unenforceable. Judge Posner stated the question as follows:
So we must decide whether the
proviso should be read literally when the buyer is demanding less rather than
more than the stated estimate.
The
court discussed the applicability of the ‘stated estimate’ language to a buyer
who orders more than a stated estimate. The court reasoned that without the
limiting language, a buyer could order significantly more goods when the market
was favorable. In discussing the issue, the court noted that the statute and
Official Comment 3’ points to symmetrical treatment of the overdemanding and
underdemanding cases.’
Despite the clear language of the
statute and comment 3, the Court concluded that the stated estimate of the
buyer was of no legal significance when the buyer chose to purchase no units. In
reaching its conclusion, the court noted case law and respected commentary
which stands for the proposition that a buyer can reduce its requirements to
zero as long as it does so in good faith.
Such a reading is consistent with the statute when a buyer has agreed to
buy all of its requirements from a particular seller. Clearly, if it turns out that there are no
requirements, and that this is the result of a good faith decision by the
buyer, there is no breach.
I do not however, agree with the conclusion
that a stated estimate by a buyer is of no legal significance when the buyer
does not purchase any goods under the requirements contract. First, and foremost, such a result is in
conflict with the clear language of the statute. It is clear from the statute that a seller in
such a situation has the right to tender a quantity as long as the quantity is
not ‘unreasonably disproportionate to any stated estimate’.
The purpose of the ‘stated estimate’
is easy to grasp. It allows a seller of
goods to make preparations for the buyer while being able to fulfill other
orders. If, as in Empire Gas, seller knows that its buyer is committed to
purchasing a certain number of units, it can procure materials to accommodate
that order. Additional production may
also be required. The stated estimate
allows the seller to prepare. I
emphasize that the buyer can avoid this result by contracting for ‘all
requirements’, rather than a stated estimate.
As Judge Posner notes, the comments
clearly indicate the drafters’ intent that the "the agreed estimate is to be regarded as a center
around which the parties intend the variation to occur." A fair read of that language leads to the
conclusion that the drafters considered the ‘stated estimate’ to have legal
significance. Moreover, there is nothing
in the text or the comments which supports limiting the applicability to over
purchases by a buyer as opposed to no purchases by the buyer.
I emphasize again that the case involving the ‘stated
estimate’ is different than a pure requirements contract. If a contract is for ‘all requirements’ of a
buyer, and if the buyer in good faith has no requirements, the buyer is not
liable. On the other hand when, as in this case, the parties negotiated a
contract with a stated estimate of requirements under that contract, I believe
that the buyer is bound by that estimate within the variations permitted by the
Code. The buyer could easily have
limited exposure by simply contracting for ‘all requirements’.
Finally, of great significance is the recognition
throughout the Code of freedom of contract as an affirmative principle of the
Code as embodied in Section 1-302(a).
Moreover, recognizing the agreement of the parties is an underlying
principle upon which the Code was drafted per Section 1-103(a)(2). The parties in Empire agreed that American Bakeries would purchase approximately
3,000 units. This term was negotiated by
both parties. It is my opinion that the
‘stated estimate’, agreed to by the parties, has legal significance and is
binding.
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