Economic Loss Rule Requires Reversal of $2.7M Damage Verdict In Furniture Maker’s Lawsuit- 7th Circuit

In a case that invokes Hadley v. Baxendale** – the storied British Court of Exchequer case published just three years after Moby-Dick (“Call me ‘Wikipedia’ guy?”) and is a stalwart of all first year Contracts courses across the land – the Seventh Circuit reversed a multi-million dollar judgment for a furniture maker.

The plaintiff in JMB Manufacturing, Inc. v. Child Craft, LLC, sued the defendant furniture manufacturer for failing to pay for about $90,000 worth of wood products it ordered.  The furniture maker in turn countersued for breach of contract and negligent misrepresentation versus the wood supplier and its President alleging that the defective wood products caused the furniture maker to go out of business – resulting in millions of dollars in damages.

The trial court entered a $2.7M money judgment for the furniture maker on its counterclaims after a bench trial.

The Seventh Circuit reversed the judgment for the counter-plaintiff based on Indiana’s economic loss rule.  

Indiana follows the economic loss doctrine which posits that “there is no liability in tort for pure economic loss caused unintentionally.”  Pure economic loss means monetary loss that is not accompanied with any property damage (to other property) or personal injury.  The rule is based on the principal that contract law is better suited than tort law to handle economic loss lawsuits.  The economic loss rule prevents a commercial party from recovering losses under a tort theory where the party could have protected itself from those losses by negotiating a contractual warranty or indemnification term.

Recognized exceptions to the economic loss rule in Indiana include claims for negligent misrepresentation, where there is no privity of contract between a plaintiff and defendant and where there is a special or fiduciary relationship between a plaintiff and defendant. 

The court focused on the negligent misrepresentation exception – which is bottomed on the principle that a plaintiff should be protected where it reasonably relies on advice provided by a defendant who is in the business of supplying information. (p. 17).

The furniture maker counter-plaintiff’s negligent misrepresentation claim versus the corporate president defendant failed based on the agent of a disclosed principal rule.  Since all statements concerning the moisture content of the wood imputed to the counter-defendant’s president were made in his capacity as an agent of the corporate plaintiff/counter-defendant, the negligent misrepresentation claim failed.

The court also declined to find that there was a special relationship between the parties that took this case outside the scope of the economic loss rule.  Under Indiana law, a garden-variety contractual relationship cannot be bootstrapped into a special relationship just because one side to the agreement has more formal training than the other in the contract’s subject matter.

Lastly, the court declined to find that the corporate officer defendant was in the business of providing information.  Any information supplied to the counter-plaintiff was ancillary to the main purpose of the contract – the supply of wood products.

In the end, the court found that the counter-plaintiff negotiated for protection against defective wood products by inserting a contract term entitling it to $30/hour in labor costs for re-working deficient products.  The court found that the counter-plaintiff’s damages should have been capped at the amount representing man hours expended in reconfiguring the damaged wood times $30/hour – an amount that totaled $11,000. (pp. 9-17, 24).

Take-aways:

1/ This case provides a good statement of the economic loss rule as well as its philosophical underpinnings.  It’s clear that where two commercially sophisticated parties are involved, the court will require them to bargain for advantageous contract terms that protect them from defective goods or other contingencies;

2/ Where a corporate officer acts unintentionally (i.e. is negligent only), his actions will not bind his corporate employer under the agent of a disclosed principal rule;

3/ A basic contractual relationship between two merchants won’t qualify as a “special relationship” that will take the contract outside the limits of Indiana’s economic loss rule.

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** Hadley v. Baxendale is the seminal breach of contract case that involves consequential damages.  The case stands for the proposition that the non-breaching party’s recoverable damages must be foreseeable (ex: if X fails to deliver widgets to Y and Y loses a $1M account as a result, X normally wouldn’t be responsible for the $1M loss (unless Y made it clear to X that if X breached, Y would lose the account, e.g.) [https://en.wikipedia.org/wiki/Hadley_v_Baxendale]

No Future Damages Allowed in Wage Payment and Collection Act Claim – IL 2d Dist.

Eakins v. Hanna Cylinders, LLC, 2015 IL App (2d) 140944 is the third in a trio of recent Illinois Wage Payment and Collection Act, 820 ILCS 115/1 et seq., (“Wage Act”) cases that address an employee’s rights to recover future damages after an employer prematurely terminates a multi-year contract.

(The other two cases – Majmundar v. House of Spices (India), Inc., 2013 IL App (1st) 130292 and Elsener v. Brown, 2013 IL App (2d) 120209 are summarized here and here.)

The Eakins plaintiff sued after he was fired 14 months into a 24-month contract to serve as a plant manager for the industrial company defendant.  The employment contract was silent on grounds for termination.  The plaintiff sought as damages, compensation for the ten month remaining on the employment contract under a breach of contract theory and he joined a Wage Act claim.  The trial court entered summary judgment for the defendant on both claims and the plaintiff appealed.

Held: Breach of contract judgment reversed; Wage Act judgment for employer affirmed.

Q: Why?

A: The appeals court reversed the breach of contract judgment for the defendant employer.  In Illinois, an employment agreement with no fixed duration can be ended at the will of either party.  The contract here was clearly for a fixed term, 24 months, and so wasn’t at will.  By firing the plaintiff 14 months into the contract term, the defendant breached.

The court rejected defendant’s argument that the plaintiff’s failure to meet certain performance metrics (e.g. keep costs down, grow market share, meet sales quotas, etc.) justified defendant’s premature termination of the plaintiff.  The court found that since the contract didn’t specify poor performance (as opposed to outright failure to perform – e.g. by not showing up to work) as a ground for contractual cancellation, the defendant breached by firing plaintiff before the 24 months was up.

Otherwise, according to the court, any employer could transmute a fixed-term contract into an at-will one by claiming the employee didn’t meet the employer’s performance requirements.  The court remanded to the lower court so it could decide plaintiff’s money damages. (¶¶ 23-29).

The court did affirm judgment for the defendant on the Wage Act claim though.  Looking to Majmundar for guidance, the court held that unpaid future compensations coming due under an untimely ended employment contract doesn’t qualify as “final compensation” under the Wage Act.  The reason for this is that once an employee is fired, he no longer performs any services for the employer.  So the employer isn’t receiving anything of value from the employee to support an obligation to make future payments. (¶¶ 31-32).

Take-aways:

Where a contract is for a fixed term and doesn’t provide for “for cause” firing or otherwise spell out grounds for termination, the contract will be enforced as written in the employee’s favor and his failure to meet an employer’s subjective work standards won’t constitute a basis for nullifying the contract;

Future payments due under a fixed-term contract aren’t considered final compensation under the Wage Act since there is no reciprocal exchange (services for wages) once an employee is fired;

Procedurally, the case makes clear that the denial of a summary judgment motion is appealable so long as there are cross-motions for summary judgment filed and the disposition of those motions resolves all issues in a given case.

 

Legal Malpractice Claims: Elements and Damages: Illinois Case Snippets (2015)

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Two First District cases – one published, the other not – decided some eight days apart in April 2015, provide good capsule summaries of the pleading and proof elements of a legal malpractice claim in Illinois, the nature and reach of the attorney-client relationship (“A-C Relationship”) and the universe of possible damages that a plaintiff can recover in legal malpractice suits.

The plaintiff in Tuckaway Development, LLC v. Schain, Burney, Ross & Citron, Ltd., 2015 IL App (1st) 140621-U asked for over $1M but was awarded just over $1,000 in a case involving a late-recorded mortgage in connection with a related real estate deal.  Meriturn Partners, LLC v. Banner and Witcoff, Ltd.’s plaintiff (2015 IL App (1st) 131883) fared much better.  There, a jury awarded the private equity firm plaintiff a cool $6M in a case involving an intellectual property lawyer’s misguided advice concerning patents owned by a waste disposal company the plaintiff planned to invest in.

Here are some key legal malpractice points distilled from the two cases:

1/ To win a legal malpractice suit, a plaintiff must prove the existence of an A-C Relationship;

2/ An A-C Relationship requires both the attorney and client to consent to the relationship’s formation;

3/ That consent (to the formation of an A-C Relationship) can be express (by words) or implied (by conduct);

4/ A client can’t unilaterally create an A-C Relationship and his subjective belief that such a relationship exists isn’t enough to bind the attorney;

5/ Where an attorney knows a person is relying on his services or advice, an A-C Relationship exists;

6/ In some cases, third-party non-clients can establish that an attorney owes contractual duties to them (the third parties);

7/ An attorney’s obligations can extend to third-party non-clients where they are intended beneficiaries of the attorneys’ services;

8/ The measure of damages in an attorney malpractice suit are those damages that would put plaintiff in a position he would have been in had the attorney not been negligent;

9/ Legal malpractice damages present a question for a jury and that damage assessment is entitled to great deference;

10/ Absent evidence that the jury failed to follow the law, considered erroneous evidence or that the verdict was the result of passion or prejudice, an appeals court can’t negate the verdict.

Tuckaway, ¶¶ 28-30; Meriturn, ¶¶ 10, 18.

In Meriturn, the court ruled that the IP lawyer’s duties extended to third party investors even though he never signed a contract with them. The key evidence supporting the finding included testimony and e-mails that showed that the lawyer knew that outside investors were relying on his patent opinions and also illustrated some direct communications between the lawyer and the (non-client) third party investors.  

The lawyer’s failure to limit the scope of his representation to the plaintiff investment firm made it easy for the court to find the lawyer’s fiduciary duties extended beyond his immediate client, the plaintiff.  

The court also upheld the jury’s $6M damage verdict in Meriturn against the plaintiff’s claim that it was too low (the plaintiff sought over $23M,)  While the plaintiff sought lost profits (profits lost as a result of the investment going bad due to the bad patent advice), those damages were foreclosed by the “new business” rule.  

Since the plaintiff’s investment in the waste disposal company was a new venture for both the plaintiff and the company, any claimed lost profits were purely speculative and couldn’t be recovered.

Tuckaway’s paltry damages sum awarded to the plaintiff was also supported by the evidence.  There, the lawyer defendant offered uncontested expert testimony that the property that was subject of the late mortgage recording was worth next to nothing since it was already encumbered by a prior mortgage.  

As a result, the jury’s damage amount – some 800 times less than was claimed by the plaintiff – was supported by the evidence.

Take-aways:

1/ An attorney who doesn’t clearly define and limit the scope of his representation can find himself owing duties to third party “strangers” to his attorney-client agreement;

2/ A jury is given wide latitude in fashioning damage awards.  Unless there is obvious error or where it’s clear they considered improper evidence, their damage assessment will be sustained.