Business Law 10th Edition Cheeseman Solution Manual

Business Law 10th Edition Cheeseman Solution Manual

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Chapter 1 Legal Heritage and the Digital Age Answer to Critical Legal Thinking Case 1.1 Fairness of the Law Many students will react that the statute is unfair as it does not afford women equal status in the workplace. In light of today’s standards, that position is well founded. However, it is a useful exercise to consider arguments for the opposite position in the context of the time period. In enacting such a statute, the legislature presumably entertained the view that women had special needs, were subject to certain weaknesses, and therefore the demands made on them had to be accommodated in the workplace. That these premises, i.e., special needs and presumed weaknesses, might be false does not necessarily preclude one from acting morally. Moralists might label this ignorance as excusable in that it is “invincible,” i.e., an ignorance that cannot be destroyed or offers no moral reason for doing so. Of course, modern experience and knowledge require that we question these premises. It almost certainly would not be lawful today. Not only have the items relevant to the test of equal protection broadened under present constitutional interpretations, but also Title VII of the Civil Rights Act of 1964 prohibits any discrimination on the basis of sex in the “terms, conditions and benefits of employment.” W. C. Ritchie & Co. v.

Wayman, Attorney for Cook Country, Illinois, 91 N.E. 695, 1910 Ill. Lexis 1958 (Supreme Court of Illinois)

Answers to Ethics Cases 1.2 Ethics Case Yes, the hunting, fishing, and gathering rights granted to the Mille Lacs Band of the Ojibwe Indians by the federal government in the 1837 treaty are valid and enforceable. The U.S. Supreme Court held that these rights were not extinguished when the state of Minnesota was

admitted as a state in 1858. The state of Minnesota argued that the Ojibwe’s rights under the treaty were extinguished when Minnesota was admitted to the Union. There is no clear evidence of federal congressional intent to extinguish the treaty rights of the Ojibwe Indians when Minnesota was admitted as a state in 1858. The language admitting Minnesota as a state made no mention of Indian treaty rights. It was illegal for the state of Minnesota to try to extinguish clearly delineated legal rights granted to the Ojibwe Native Americans more than 150 years before. The hunting, fishing, and gathering rights guaranteed to the Ojibwe Indians in the 1837 treaty are still valid and enforceable.

The state of Minnesota did not ethically when it tried to abolish the hunting, fishing, and gathering rights guaranteed to the Ojibwe Indians by treaty. The Ojibwe relied on the promises of the treaty, which must be kept by the government. Minnesota v. Mille Lacs Band of Chippewa Indians, 526 U.S. 172, 119 S.Ct. 1187, 1999 U.S. Lexis 2190 (Supreme Court of the United States)

1.3 Ethics Case The better case is made by the dissent. The law has not been progressive in this instance. It is likely that legislators entertained an unconscious premise that women should not be required to fight a war. This speculation might be supported by the fact that the majority of the Supreme Court summoned a technical legal point to justify their ruling. The Court held that Congress was the proper party to articulate the public policy that women should not fight at the front, thereby removing themselves from any further consideration of the substantive issue, i.e., whether equality was being served as a matter of fairness. Rostker, Director of the Selective Service v.

Goldberg, 453 U.S. 57, 101 S.Ct. 2646, 1981 U.S. Lexis 126 (Supreme Court of the United States)

Chapter 2 Courts and Jurisdiction

Answers to Critical Legal Thinking Cases

2.1 Personal Jurisdiction No, defendants Live Siri Art, Inc. and Siri Galliano are not subject to lawsuit in New York pursuant to New York’s long-arm statute. This is because defendant Live Siri Art, Inc, a California corporation, and defendant Siri Galliano, a California resident, did not have the requisite minimum contacts with the state of New York to make them subject to a lawsuit brought by plaintiff Richtone Design Group LLC (Richtone), a New York LLC, in a New York court pursuant to the New York long-arm statute. Assuming that the defendants did violate the plaintiff’s copyright by selling Richtone’s pilates manuals in New York using a website and made $1,000 in more than a decade doing so, this is but de minimis contact that does not arise to the minimum contact required by due process to subject them to a lawsuit in New York. The U.S. district court dismissed plaintiff Richtone’s New York lawsuit against the California defendants for lack of personal jurisdiction. Richtone Design Group, LLC v. Live Art, Inc., 2013 U.S. Dist. Lexis 157781 (United States District Court for the Southern District of New York, 2013)

2.2 Service of Process Yes, May Facebook, Inc. may use alternative service of process by sending email notices to the defendants’ websites. Facebook sued the defendants for trademark infringement, cybersquatting,

and false designation of origin by their use of typosquatting schemes whereby the defendants register internet domain names that are confusingly similar to facebook.com (e.g., facebock.com) so that potential users of Facebook’s website who enter a typographical error are diverted to the typesquatter’s website, which is designed to look strikingly similar in appearance to Facebook’s website, to trick users into thinking that they are using Facebook’s website. Facebook has introduced evidence that it has not been able to serve the defendants personally, by mail, or by telephone. The U.S. district court granted Facebook’s motion to be permitted to serve these defendants by sending an email notice to the defendants’ websites. The U.S. district court stated “Here, service by email is reasonably calculated to provide actual notice.” The U.S. district court issued an order permitting Facebook to serve the defendants by email. Facebook, Inc. v. Banana Ads LLC. 2012 U.S. Dist. Lexis 65834 (United States District Court for the Northern District of California, 2012)

2.3 Standing to Sue Michigan law, and not Ohio law, applies in this case. The court noted that because the accident took place in Michigan, there is a presumption that Michigan law applies absent any other jurisdiction having more substantial contacts. Plaintiff Bertram, however, contended that Ohio law should apply, because all of the parties were residents of Ohio at the time of the accident and all consequences flowing from his injury occurred in Ohio. The court disagreed. The court stated, ”Because the snowmobiling accident took place in Michigan, the place where the conduct causing Bertram’s injury occurred in Michigan and Michigan has enacted specific legislation involving the risks of snowmobiling, we find that Michigan law clearly controls in this case.

While all parties are residents of and have their relationships in the State of Ohio, we are not

persuaded by Bertram’s argument that this issue should control.” The Court of Appeals of Ohio held that the law of the state of Michigan, where the accident occurred, and not the law of the state of Ohio, the state of the residence of the parties, applied. The court applied the Michigan assumption of the risk statute and granted summary judgment to the three defendant friends of plaintiff Bertram. Bertram v. Norden, et al., 823 N.E.2d 478, 2004 Ohio App. Lexis 550 (Court of Appeals of Ohio, 2004)

2.4 Long-Arm Statute Yes, the Missouri court has personal jurisdiction over the Illinois casino based on Missouri’s long-arm statute. Although the Casino Queen casino is located in Illinois, it could reasonably foresee its pervasive advertising directed at Missouri residents would entice those residents, such a Mark Myers, to cross the state line into Illinois to participate in gambling at the Illinois casino.

If an Illinois defendant can reasonably foresee that his or her negligent actions have consequences felt in Missouri, personal jurisdiction is authorized under the Missouri long-arm statute. The U.S. court of appeals held that Casino Queen, which operated a casino in Illinois, is subject to personal jurisdiction in courts in Missouri under Missouri’s long-arm statute. The court of appeals stated, “While Myers’s injuries did not arise out of Casino Queen’s advertising in a strict proximate cause sense, his injuries are nonetheless related to Casino Queen’s advertising activities because he was injured after responding to the solicitation.” The court of appeals ruled that Casino Queen must stand trial in a Missouri court and defend the charges brought against it by Myers. Myers v. Casino Queen, Inc., 689 F.3d 904, (United States Court of Appeals for the Eighth Circuit, 2012)

2.5 Standing to Sue No. The U.S. District Court held that Phoenix of Broward, Inc. (Phoenix), a franchisee of Burger King did not have standing to sue McDonald’s and dismissed the case. In deciding the case the court noted that the goal of standing is to determine whether the plaintiff is a proper party to invoke judicial resolution of the dispute and the exercise of the court's remedial powers. It was Simon Marketing, Inc. (Simon), who McDonald’s hired to operate the promotional games, who committed fraud by steering cash prizes of up to $1 million to its conspirators. McDonald’s may have been negligent in allowing this to happen. Thus, McDonald’s customers who did not have a chance to win the cash prizes because of the fraud would have standing to sue Simon and McDonald’s. However, the court held that Phoenix of Broward, Inc. (Phoenix), a franchisee of Burger King, did not have standing to sue McDonald’s. The court stated, “In this case, the harm caused by McDonald's allegedly false advertisements more directly affects the customers who were denied the opportunity to compete for the high-value prizes criminally co-opted by Jacobson. While these customers do not have standing to sue under the Lanham Act, they could and did vindicate the public interest by suing McDonald's for fraud. Thus, there is no need to empower Phoenix to act as a private attorney general in this case.” Phoenix of Broward, Inc. v.

McDonald’s Corporation, 441 F.Supp.2d 1241, 2006 U.S. Dist. Lexis 55112 (United States District Court for the Northern District of Georgia, 2006)

2.6 U.S. Supreme Court Decision This is a plurality decision of the U.S. Supreme Court and does not create precedent for further cases. This is because although 5 justices upheld the Salinas’s verdict of guilty, 3 did so for one reason and 2 did so for a different reason. If the 5 justices would have agreed to the verdict of

guilty based on the same reason as to why the evidence of the defendant’s silence at the precustodical hearing could be admitted at trial, then it would have been a majority opinion, and a majority opinion would have become precedent. However, in this case, 5 justices upheld the guilty verdict, but 3 for one reason and 2 justices for another reason, with 4 justices dissenting, created a plurality decision that does not create precedent. Salinas v. Texas, 133 S.Ct. 2174, 2012 U.S. Lexis 4697 (Supreme Court of the United States, 2012)

Answers to Ethics Cases

2.7 Ethics Case Yes, the Maryland court has personal jurisdiction over the Florida defendant Ladawn Banks.

Chanel is engaged in the business of manufacturing and distributing throughout the world various luxury goods, including handbags, wallets, and numerous other products under the federally registered trademark “Chanel” and monogram marks. Chanel alleged that Banks owned and operated the fully interactive website www.lovenamebrands.com, through which she sold handbags and wallets bearing counterfeit trademarks identical to the registered Chanel marks.

According to Chanel, although defendant Banks is a resident of Florida, she conducted business in Maryland via several interactive websites. The Zippo court distinction between interactive, semi-interactive, and passive websites is particularly relevant. Defendant’s website at issue in this case was highly interactive and provided a platform for the commercial exchange of information, goods, and funds. Thus, the Maryland court, under its long-arm statute, has personal jurisdiction over the Florida defendant Banks in this matter. The court granted default judgment

to Chanel, assessed damages of $133,712 against Banks, and issued a permanent injunction prohibiting Banks from infringing on Chanel’s trademarks.

Regarding the issue of ethics, if defendant Ladawn Banks operated the website www.lovenamebrands.com and sold knock-off handbags and wallets bearing counterfeit trademarks identical to the registered Chanel marks, she has acted unethically. Stealing another party’s rightful trademarks and selling knock-off goods bearing those trademarks is not only unethical but it also constitutes illegal trademark infringement. Chanel, Inc. v. Banks, 2010 U.S. Dist. Lexis 135374 (United States District Court for Maryland, 2010)

2.8 Ethics Case No, Hertz Corporation is not a citizen of California and therefore is not subject to plaintiff Melinda Friend’s—a California citizen—suit in California state court. A corporation is a citizen of the state in which it is incorporated and in which it has its principal place of business. Hertz Corporation is incorporated in the state of Delaware and has its headquarters office in the state of New Jersey. Hertz is not incorporated in California nor does it have its principal place of business in California. The U.S. Supreme Court stated, “We conclude that the phrase ‘principal place of business’ refers to the place where the corporation’s high level officers direct, control, and coordinate the corporation’s activities. We believe that the ‘nerve center’ will typically be found at a corporation’s headquarters. The metaphor of a corporate ‘brain,’ while not precise, suggests a single location.” Here, that location for Hertz was Hertz’s headquarters office in New Jersey. Because Hertz was not a citizen of California, and plaintiff Friend was a resident of California, there was diversity of citizenship and Hertz can legally have Friend’s lawsuit moved from California state court to the U.S. district court in California.

It was probably not unethical for Hertz to deny citizenship in California even though it has

such a large presence in California with its 270 rental car locations and more than 2,000 employees in California. Finding diversity in this case does not mean that Friend cannot sue Hertz in California. Friend will get her day in court against Hertz, but it will be in a U.S. district court in California and not in a California state court. Hertz Corporation v. Friend, 130 S.Ct. 1181, 2010 U.S. Lexis 1897 (Supreme Court of the United States, 2010)

Chapter 3 Judicial, Alternative, and E-Dispute Resolution

Answers to Critical Legal Thinking Cases

4.1 Summary Judgment No, the defendants’ motions for summary judgment should not be granted. The U.S. district court found that substantial issues of fact needed to be decided at trial, which included whether the butter popcorn flavoring made by the defendants was dangerous, and if so the extent of the danger caused to someone who smelled and ate microwave popcorn, the amount of popcorn flavorings eaten by Deborah that was produced by each of the three defendants—Chr. Hansen, Inc., Symrise, Inc., and Firmenich, Inc.—and, if liability was found, what damages should be awarded and to what degree would each defendant be responsible. The court stated, “I find that the information and circumstances generate genuine issues of material fact as to whether defendants knew or had reason to know that their butter flavorings posed a potential risk, at some level, to consumers, thus triggering the necessity for a warning.” The U.S. district court denied the defendants’ motion for summary judgment based on failure to warn claims, thus permitting the case to go to trial. Daughetee v. Chr. Hansen, Inc., 2013 U.S. Dist. Lexis 50804 (United States District Court for the Northern District of Iowa, 2013)

4.2 Service of Process No, plaintiff Jon Summervold did not properly serve defendant Wal-Mart, Inc. South Dakota law requires that service of process on a corporate defendant be made on president, officer, director, or registered agent of a defendant corporation. Here, plaintiff served a nonofficer employee of Walmart, the assistant manager of the apparel department of the Walmart store in Aberdeen, South Dakota. Based on the fact that the president, directors, or officers of Wal-Mart, Inc. were not located in South Dakota at the time of the plaintiff’s lawsuit, the plaintiff should have had the process server serve the registered agent the service of process. Because the plaintiff had failed to comply with South Dakota’s applicable service of process statute, the court held that the

service of process was invalid. Because the three year statute of limitations had run on the plaintiff’s claim, the court dismissed the plaintiff’s lawsuit against Walmart. The judge stated “It is a most unpleasant task for any judge to dismiss a case at this stage.” Sommervold v. WalMart, Inc., 709 F.3d 1234, 2013 U.S. App. Lexis 4972 (United States Court of Appeals for the Eighth Circuit, 2013)

4.3 Summary Judgment Yes, Wal-Mart Stores, Inc. should be granted summary judgment. Summary judgment can be granted by a court where there is no dispute as to the material facts of the case. Here, the court of appeals held that there were no issues of material fact that needed to be heard by a jury and that the judge could therefore make a decision in this case. The court held that Wal-Mart did not provide a dangerous display and that the four corners of the display were clearing marked with “Watch Step” warning signs. The court stated that Walmart did not instruct the plaintiff to pick up her watermelon and take several steps around the display with it. The court noted that the safer option was for her to have pushed her shopping cart close to the display and then to have scooped the watermelon into her cart. This option would not have required her to take any steps, thus avoiding the unfortunate incident. The court rejected the contention that Walmart “created a trap” for the plaintiff. Based on the undisputed facts of the case, the court granted summary judgment to Walmart. Primrose v. Wal-Mart Stores, Inc., 127 So.3d 13, 2013 La. App. Lexis 1985 (Court of Appeals of Louisiana, 2013)

4.4 Class Certification Yes, the class should be certified. The homeowners who have installed the Pex home plumbing system manufactured by Zurn Pex, Inc. and Zurn Industries, Inc. (Zurn) allege that the system has a crucial defect in that the brass fitting and crimp that joins the Pex tubing together is defective because it corrodes over time. Many homeowners have experienced water damage because of the corrosion; other homeowners who have installed the Pex system have not yet experienced water leakage but are still covered by the 25-year warranty on the Pex plumbing system. Homeowners in Minnesota who have installed Zurn Pex plumbing, whether they have experienced water damage or not, seek class certification to bring a class action against Zurn to have Zurn repair or replace Pex plumbing systems according to the warranty. The U.S. district

court noted that the class is readily identifiable, the Pex product that is claimed to be defective is the same product that has been installed in all of the covered homes, the defendants are easily identifiable, and all of the homes are covered by a similar warranty. Therefore, the U.S. district court certified the following class: “All persons and entities that own a structure located within the State of Minnesota that contains a Zurn Pex plumbing system with Zurn brass crimp fittings.”

The U.S. court of appeals affirmed the class certification. In re Zurn Pex Plumbing Products Liability Litigation, 644 F.3d 604, 2011 U.S. App. Lexis 13663 (United States Court of Appeals for the Eighth Circuit, 2011)

4.5 Arbitration Yes, the contract dispute between the parties is subject to arbitration. The U.S. Supreme Court held that there was a valid arbitration agreement entered into between Nitro-Lift Technologies, L.L.C. and its former employees, Eddie Howard and Shane D. Schneider. When Howard and Schneider sued Nitro-Lift in Oklahoma state court to have the noncompetition agreement declared null and void, they ignored the arbitration clause contained in the same agreement. The U.S. Supreme Court held that the dispute was subject to the arbitration clause and must be submitted to arbitration. The U.S. Supreme Court held that the contract dispute in the case was to be heard by the arbitrator and not by the Oklahoma state court. The U.S. Supreme Court stated “The Oklahoma Supreme Court must abide by the Federal Arbitration Act (FAA), which is the Supreme Law of the Land.” Nitro-Lift Technologies, L.L.C. v. Howard, 133 S.Ct. 500, 2012 U.S. Lexis 8897 (Supreme Court of the United States, 2012)

Answers to Ethics Cases 4.6 Ethics Case Yes, the issuance of a default judgment against the defendants is warranted in the case. BMW North America, LLC and Rolls-Royce Motor Cars NA, LLC and their parent and affiliate companies (plaintiffs) filed a lawsuit in U.S. district court for trademark infringement against the corporate defendants, DinoDirect Corporation, DinoDirect China Ltd., and B2CForce International Corporation, and the individual defendant Kevin Feng, for selling counterfeit goods

bearing the trademark names “BMW” and “Rolls-Royce.” The plaintiffs properly served these defendants with the complaint against them. The defendants replied to the court with many emails but failed to appear in court or to file an answer to the complaint filed against them. After giving the defendants ample opportunities to appear and file an answer, the court issued a default judgment against the defendants holding them liable for trademark infringement. In the default judgment, the court permanently enjoined the defendants from engaging in similar trademark infringement in the future, issued an order for the destruction of any counterfeit goods in the possession of the defendants, and awarded the plaintiffs $1.5 million against the defendants for willful trademark infringement.

Selling counterfeit goods bearing valid trademarks of other companies is unethical behavior.

Here, the brand names BMW and Rolls-Royce are well recognized in the United States and around the world as being those of companies producing luxury automobiles and other products.

The defendants were trying to make illegal profits by selling counterfeit goods bearing these trademarks. Trademark owners lose hundreds of millions of dollars each year from counterfeiters illegally selling knock-off s bearing their trademarks. BMW of North America v. Dinodirect Corporation, 2012 U.S. Dist. Lexis 170667 (United States District Court for the Northern District of California, 2012)

4.7 Ethics Case No, the federal court should not vacate the arbitrator’s award. The agreement signed between Johnson Controls, Inc. and Edman Controls, Inc. gave Edman the exclusive rights to sell Johnson products in Panama. The agreement stipulated that any dispute arising from the parties’ arrangement would be resolved through arbitration using Wisconsin law. The court upheld the arbitrator’s finding that Johnson breached the agreement by attempting to sell its products directly to Panamanian developers, circumventing Edman. The U.S. district court upheld the arbitrator’s decision, as did the U.S. court of appeals. The court of appeals held that the parties had entered into a binding arbitration agreement and that the dispute between the parties had been properly decided by the arbitrator. The court noted “Attempts to obtain judicial review of an arbitrator’s decision undermine the integrity of the arbitral process.” The district court and court of appeals affirmed the arbitrator’s decision that Johnson had breached its contract with

Edman and upheld the arbitrator’s award $733,341 in lost profits and damages, $252,127 in attorney’s fees, $39,958 in costs, and $23,042 in prejudgment interest against Johnson.

Johnson acted unethically in two regards in this case. First, Johnson breached its agreement with Edman by directly competing with Edman in the Panama building market, violating the express terms of their agreement. Concerning this, the court of appeals stated, “Johnson breached the agreement, circumventing Edman. There was nothing subtle about this.” The second way Johnson acted unethically was by trying to avoid the arbitrator’s decision and award. In regards to Johnson’s attempt to avoid the arbitrator’s award by appealing to the courts, the court of appeals noted “Although arbitration is supposed to be a procedure through which a dispute can be resolved privately, losers sometimes cannot resist the urge to try for a second bite at the apple.

That is what has happened here.” Johnson Controls, Inc. v. Edman Controls, Inc., 712 F.3d 1021, 2013 U.S. Dist. Lexis 5583 (United States Court of Appeals for the Seventh Circuit, 2013)

Chapter 4 Constitutional Law for Business and E-Commerce

Answer to Critical Legal Thinking Cases

4.1 Supremacy Clause Yes. The U.S. Supreme Court held that the Massachusetts’ anti-Myanmar law conflicted with federal law and was therefore preempted by the Supremacy Clause of the U.S. Constitution. The Supreme Court stated, “Within the sphere defined by Congress, then, the federal statute has placed the president in a position with as much discretion to exercise economic leverage against Burma, with an eye toward national security, as our law will admit. It is simply implausible that Congress would have gone to such lengths to empower the president if it had been willing to compromise his effectiveness by deference to every provision of state statute or local ordinance that might, if enforced, blunt the consequences of discretionary presidential action.” The court stated that it was unlikely that Congress intended both to enable the president to protect national security by giving him the flexibility to suspend or terminate federal sanctions and simultaneously to allow Massachusetts to act at odds with the president’s judgment of what national security requires. And that is just what the Massachusetts Burma law would do in imposing a different, state system of economic pressure against the Burmese political regime.

The U.S. Supreme Court held that the Massachusetts anti-Myanmar law conflicted with federal law and was therefore preempted by the Supremacy Clause of the Constitution. The Supreme Court ruled in favor of the National Foreign Trade Council. Crosby, Secretary of Administration and Finance of Massachusetts v. National Foreign Trade Council, 530 U.S. 363, 120 S.Ct. 2288, 2000 U.S. Lexis 4153 (Supreme Court of the United States, 2000)

4.2 Establishment Clause Yes, the display of the Ten Commandments in the courthouses violates the Establishment Clause. The First Amendment’s Establishment Clause mandates governmental neutrality regarding religion, that is, a government cannot promote religion. However, the U.S. Supreme

Court has held that in some instances the display of a religious item may have obtained a secular purpose and therefore does not violate the Establishment Clause. Here, the Ten Commandments were not part of an historical display that may have taken on a secular meaning. Instead, the Ten Commandments were recently hung in the courtrooms, and were hung alone. Although the counties later added historical documents to the display—such as the Declaration of Independence and the Bill of Rights—this did not create a secular purpose. Here, the hanging of the additional material was a sham to hide the real purpose, which was to promote religion. The U.S. Supreme Court held that the Counties’ display of the Ten Commandments violated the Establishment Clause. McCreary County, Kentucky v. American Civil Liberties Union of Kentucky, 545 U.S. 844, 125 S.Ct. 2722, 2005 U.S. Lexis 5211 (Supreme Court of the United States, 2005)

4.3 Supremacy Clause Yes, South Coast’s fleet emission standards are preempted by federal environmental protection law. The Supremacy Clause of the U.S. Constitution stipulates that federal law is the supreme law of the United States, and that any conflicting state or local law is preempted by the relevant federal law. Congress enacted the Clean Air Act, a federal law that sets air pollution standards for vehicles and other sources of pollution. The South Coast Air Quality Management District (South Coast), which is a political entity of the state of California, adopted air pollution standards for fleets of vehicles, such as those operated by trucking companies that were more stringent than federal air pollution standards. The U.S. Supreme Court held that South Coast’s more stringent pollution law conflicted with the federal pollution law and was therefore preempted by the Clean Air Act. The Supreme Court stated, “Clearly, Congress contemplated the enforcement of emission standards. But if one state or political subdivision may enact such rules, then so may any other, and the end result would undo Congress’s carefully calibrated regulatory scheme. What is the use of imposing such a limitation if the states are entirely free to impose their own fleet purchase standards with entirely different specifications?” The U.S. Supreme Court held that the federal Clean Air Act preempted South Coast’s more stringent fleet emission standards. Engine Manufacturers Association v. South Coast Air Quality Management District, 541 U.S. 246, 124 S.Ct. 1756, 2004 U.S. Lexis 3232 (Supreme Court of the United States, 2004)

4.4 Due Process Yes, the Federal Communications Commission (FCC) violated the Fifth Amendment’s due process rights of Fox and ABC. A fundamental principle of the U.S. legal system as stated in the Due Process Clause of the Fifth Amendment is that laws which regulate persons and entities must give fair notice of conduct that is forbidden or required. The Fifth Amendment requires the invalidation of laws that are impermissibly vague. The U.S. Supreme Court held that the FCC failed to give Fox or ABC notice prior to the broadcasts in question that fleeting expletives and momentary nudity could be found actionably indecent and in violation of federal communications law. Therefore, the FCC’s 2004 standards as applied to the broadcasts in 2002 and 2003 were vague. The Supreme Court held that the defendants’ Fifth Amendment’s due process rights had been violated because the FCC had failed to give fair notice to Fox and ABC prior to the broadcasts in question that fleeting expletives and momentary nudity were indecent. Federal Communications Commission v. Fox Television Stations, Inc., 132 S.Ct. 2307, 2012 U.S. Lexis 4661 (Supreme Court of the United States, 2012)

4.5 Commerce Clause Yes, the federal Driver’s Privacy Protection Act (DPPA) was properly enacted by the U.S. Congress pursuant to the Commerce Clause power granted to the federal government by the U.S. Constitution. The DPPA is a proper exercise of Congress’s authority to regulate interstate commerce under the Commerce Clause. The personal, identifying information that the DPPA regulates is a thing in interstate commerce, and that the sale or release of that information in interstate commerce is therefore a proper subject of congressional regulation. The motor vehicle information that the states have historically sold is used by insurers, manufacturers, direct marketers, and others engaged in interstate commerce to contact automobile owners and drivers via customized solicitations. The information is also used in the stream of interstate commerce by various public and private entities for matters related to interstate motoring. Because automobile owners’ and drivers’ information is an article of commerce, its sale or release into the interstate stream of business is sufficient to support federal regulation. The U.S. Supreme Court held that Congress had the authority under the Commerce Clause of the U.S. Constitution to enact the federal Driver’s Privacy Protection Act. Therefore, a state cannot sell or otherwise distribute the personal information of registered drivers unless the state obtains that person’s affirmative consent to do so. Reno, Attorney General of the United States v. Condon, Attorney

General of South Carolina, 528 U.S. 141, 120 S.Ct. 666, 2000 U.S. Lexis 503 (Supreme Court of the United States, 2000)

4.6 Free Speech Yes, the Free Speech Clause of the First Amendment shields Phelps and the members of the Westboro Baptist Church from tort liability for their insensitive picketing speech at Lance Corporal Matthew Snyder’s funeral. Here, the Westboro congregation members picketed while standing on public land adjacent to a public street approximately 1,000 feet from the church. They carried placards that read “God Hates the USA/Thank God for 9/11,” “America Is Doomed,” and “Thank God for Dead Soldiers.” The picketers also sang hymns and recited Bible verses. The funeral procession passed within 200 to 300 feet of the picket site. However insensitive the picketing, the U.S. Supreme Court held that it was protected speech under the First Amendment. The Supreme Court stated, “Given that Westboro’s speech was at a public place on a matter of public concern, that speech is entitled to special protection under the First Amendment. Such speech cannot be restricted simply because it is upsetting or arouses contempt. Speech is powerful. It can stir people to action, move them to tears of both joy and sorrow, and—as it did here—inflict great pain. On the facts before us, we cannot react to that pain by punishing the speaker. As a Nation we have chosen a different course—to protect even hurtful speech on public issues to ensure that we do not stifle public debate. That choice requires that we shield Westboro from tort liability for its picketing in this case.”

Snyder v. Phelps, 562 U.S. 443, 131 S.Ct. 1207, 2011 U.S. Lexis 1903 (Supreme Court of the United States, 2011)

Answers to Ethics Cases 4.7 Ethics Case Yes, under the Supremacy Clause of the U.S. Constitution preemption provision in the federal NCVIA bar state law design-defect product liability claims against vaccine manufacturers? The Supremacy Clause establishes that the U.S. Constitution and federal treaties, statutes, and regulations are the supreme law of the land and that any state or local laws that conflict with valid federal law are preempted and without effect. In this case, Congress passed the National Childhood Vaccine Injury Act of 1986 (NCVIA) which relieved manufactures of vaccines from

liability from unavoidable side effects of immunization. The U.S. Supreme Court held that Hanna Bruesewitz’s lawsuit against the vaccine manufacturer Wyeth LLC for state law product liability is preempted by the NCVIA. The public policy for the Supremacy Clause is obvious: without the Clause states could enact laws that overrode federal law, and federal laws could always be ignored and preempted by state law. This would cause havoc to the concept of federalism of our form of government.

Is it ethical for the defendant to rely on the NCVIA to protect it from liability? In this case probably yes, because otherwise Wyeth LLC might not produce the very valuable vaccine against diphtheria, tetanus, and pertussis (DTP). Congress made a public policy choice when it enacted the NCVIA. Bruesewitz v. Wyeth LLC, 562 U.S. 223, 131 S.Ct. 1068, 2011 U.S. Lexis 1085 (Supreme Court of the United States, 2011)

4.8 Ethics Case Yes, unsolicited telemarketing calls is commercial speech that is subject to government regulation and the do-not-call registry restrictions do not violate the free speech rights of the plaintiff telemarketers. Commercial speech covers advertising, including telemarketing.

Commercial speech is provided limited protection under the Free Speech Clause of the U.S. Constitution and is subject to time, place, and manner restrictions. The U.S. Court of Appeals held that the “do-not-call” law is a proper time, place, and manner restriction on telemarketers’ commercial speech and did not did not violate the free speech rights of the plaintiff telemarketers. The U.S. Court of Appeals stated “The national do-not-call registry offers consumers a tool with which they can protect their homes against intrusions that Congress has determined to be particularly invasive.”

One of the major complaints of consumers, and the impetus for the passage of the do-not-call registry, was that telemarketers were calling people at their homes at dinner time and other inconvenient times. In addition, many telemarketers were overly aggressive, and others used computer generated calling systems. It may have been legal to have used these tactics prior to the enactment of the law, but it seems quite unethical to knowingly bother people at home with unsolicited telemarketing calls. Mainstream Marketing Services, Inc. v. Federal Trade Commission and Federal Communications Commission, 358 F.3d 1228, 2004 U.S. App. Lexis 2564 (United States Court of Appeals for the Tenth Circuit, 2004)

Chapter 5 Intentional Torts and Negligence Answers to Critical Legal Thinking Cases 5.1 Assumption of the Risk Yes, riding the mechanical bull was an open and obvious danger for which Lilya had voluntarily assumed the risk. The court found the danger stemming from riding the mechanical bull was the open and obvious characteristic of the ride: the possibility of falling off the mechanical bull.

Plaintiff John Lilya had previously seen a patron and his friend be tossed off the mechanical bull, and Lilya himself had been thrown from the mechanical bull prior to boarding the bull for his fateful ride. The supreme court of Alabama stated, “Additionally, the very name of the ride— “Rolling Thunder”—hanging on a banner above the ride, gives a somewhat graphic indication of what is the very nature of bull riding: an extremely turbulent ride, the challenge of which is to hang on and not fall off.” The court concluded “Volenti non fit injuria” (a person who knowingly and voluntarily risks danger cannot recover for any resulting injury). The supreme court of Alabama held that riding a mechanical bull and being thrown and injured by the bull is an open and obvious danger and that Lilya had voluntarily assumed the risk when he rode the bull and was thrown and injured. The state supreme court affirmed the grant of summary judgment in favor of defendant Gulf State Fair. Lilya v. The Greater Gulf State Fair, Inc., 855 So.2d 1049, 2003 Ala. Lexis 57 (Supreme Court of Alabama, 2003)

5.2 Negligence

No, the utility companies are not negligent. The utility poles were legally placed twenty-five feet from Edgewood Avenue at the far edge of the companies’ easement right of way. It was Sarah Mitchell, who was driving the car, with the backing of Adam Jacobs and David Messer, who decided to jump the “big hill” on Edgewood Avenue. In a 40 miles per hour zone Mitchell crested the hill at 80 miles per hour, went airborne, and landed on the road and spun out of control with the car hitting the two utility poles owned by defendants Bell Telephone Company and Indianapolis Power & Light Company. The court found that it was the negligence of Mitchell that caused the accident and the death of the passenger Adam Jacobs, and not the fault of the utility companies. And it was Adams, whose mother brings this lawsuit, who suggested that they jump the hill. The court of appeals stated, “It strains reason to suggest that the utility companies should foresee the sort of wilful disregard for the law and personal safety that indisputably led to this accident. There is nothing to suggest that the poles’ location is inherently dangerous to those who engage in the ordinary and normal public use of Edgewood Avenue.”

The court of appeals held that the defendants were not negligent and affirmed the trial court’s grant of summary judgment to the defendant utility companies. Carter v. Indianapolis Power & Light Company and Indiana Bell Telephone Company, Inc., 837 N.E.2d 509, 2005 Ind. App. Lexis 2129 (Court of Appeals of Indiana, 2005)

5.3 Proximate Cause No, Megan Adams’s conduct was not the proximate cause of Andrea Filer’s horse riding accident and her resulting injuries. Filer was an experienced horse rider, and she was not wearing a helmet when riding her horse. Adams, the jogger, slowed down to evaluate the horses and riders ahead of her, and, while she did not stop she did slow to a walk, and was still 50 yards away when the plaintiff and her daughter lost control of their horses. Filer alleges that Adams’s dog caused her horse to canter or a run when one of Adams’s dogs barked. The court held that Adams jogging and walking on a public road with her baby in a stroller and with her two dogs beside her was not the proximate cause of Filer’s riding accident 50 yards away. The appellate court concluded, “Plaintiff’s negligence claim fails because she alleged no facts from which it could be inferred that defendant’s actions, in walking on a public street, were the proximate cause of plaintiff’s injuries.” The appellate court upheld the trial court’s grant of summary judgment in favor of defendant Adams and dismissed plaintiff Filer’s complaint. Andrea v.

Adams, 966 N.Y.S.2d 553, 106 A.D.3d 1417, 2013 N.Y. App. Div. Lexis 3831 (Appellate Division of the Supreme Court of New York, 2013)

5.4 Disparagement No, Zagat is not liable for disparagement. Disparagement is an untrue statement of fact made by one person or business about the products, services, property, or reputation of another business.

To prove disparagement, the plaintiff must show that the defendant (1) made an untrue statement of fact about the plaintiff’s products, services, property, or business reputation; (2) published that untrue statement to a third party; (3) knew the statement was not true; and (4) made the statement maliciously (i.e., with intent to injure the plaintiff). Restaurant ratings and reviews almost invariably constitute expressions of opinion. In this case, Zagat’s ratings and comments about Lucky Cheng’s restaurant that appeared in the Zagat guide were not statements of fact. Instead, they were mere opinions and were therefore not actionable as disparagement. Therefore, disparagement did not occur. Themed Restaurants, Inc., Doing Business as Lucky Cheng’s v.

Zagat Survey, LLC, 801 N.Y.S.2d 38, 2005 N.Y. App. Div. Lexis 9275 (Supreme Court of New York, Appellate Division, 2005)

5.5 Negligence Yes. Wilhelm acted negligently by failing to warn Flores of the dangers of working with beehives. The plaintiffs’ allegations of negligence included failure to provide proper instructions.

The plaintiffs established a duty to warn of the dangerousness of bees. Foreseeability is the foremost and dominant consideration. There must be sufficient evidence indicating that the defendant knew or should have known that harm would eventually befall the victim. Bees are probably the number one cause of insect deaths. Defendant Wilhelm testified that he was an expert concerning insects, with a degree in entomology. At the time of this incident, Wilhelm had owned beehives for about five years. The court of appeals held that Wilhelm owed a duty to Flores to warn him of the danger of working with bees and breached that duty by not warning Flores of that danger. The court held that Wilhelm, the person working with the bees, was negligent, and that Black, the owner of a beehive business that contracted to purchase bees from Wilhelm, was also liable. The court awarded $1,500,000 in damages to the plaintiffs, and

apportioned liability fifty percent to Wilhelm and fifty percent to Black. Wilhelm v. Flores, 133 S.W.3d 726, 2003 Tex. App. Lexis 9335 (Court of Appeals of Texas, 2003)

5.6 Negligence Yes. The court held that Clancy was negligent when he fell asleep at the wheel while driving his truck and hit and injured Dianna Goad, who driving a motorcycle on the other side of the road.

The court held that Clancy owed a duty to drive his vehicle safely, and he did not do so by falling asleep at the wheel. Clancy did not mean for the accident to happen, but nonetheless he has been negligent. Clancy was the actual cause and proximate cause of the accident, and of causing the injuries to Dianna. Prior to the accident, Dianna was an active and athletic person.

She was an avid runner, often jogging three-and-a-half miles a day. She belonged to a health club where she regularly trained with free weights. Dianna enjoyed rollerblading, hiking, and cross country skiing. Dianna also worked full-time in a managerial accounting position where she planned to work until she retired.

The court found that the injuries Dianna received in the accident as a result of Clancy’s accident were catastrophic. She spent two weeks in a coma. Surgeries were performed to medically amputate her leg above the knee and to set her broken pelvic bones and her broken elbow. Dianna’s spleen could not be repaired and was inevitably removed, resulting in an increased lifetime risk of infection. Dianna has endured multiple skin graft procedures. At the time of the trial, Dianna had undergone seven surgeries, taken more than 6,800 pills, and her medical expenses totaled more than $368,000. Furthermore, Dianna’s medical expenses and challenges continue and are expected to continue indefinitely. In addition, Dianna has been fitted with a “C-leg,” a computerized prosthetic leg. A C-leg needs to be replaced every three to five years at full cost. The trial court took judicial notice that Dianna’s life expectancy is 35.4 years.

The jury returned a verdict finding Clancy 100 percent at fault for the accident and awarded Dianna $10 million in compensatory damages. The court of appeals affirmed the judgment of the trial court finding Clancy liable for negligence and upheld the jury verdict awarding Dianna $10 million in damages. Clancy v. Goad, 858 N.E.2d 653, 2006 Ind. App. Lexis 2576 (Court of Appeals of Indiana, 2006)

Answers to Ethics Cases

5.7 Ethics Case No. Walmart did not present sufficient evidence to prove that it should be protected by the merchant protection statute. Plaintiff Goodman sued Walmart for damages for false imprisonment when Walmart detained her for alleged shoplifting. Walmart defended, asserting that the merchant protection statute protected it from liability. In order to be shielded from liability under the merchant protection statute, a merchant must prove that there were reasonable grounds for the suspicion, the suspect was detained for only a reasonable time, and the merchant’s investigation was conducted in a reasonable manner. The court rejected Walmart’s defenses, including the shopkeeper’s privilege and its assertion that it had not maliciously prosecuted Goodman. The court awarded Goodman $200,000 in compensatory damages for her suffering. The court also decided that Walmart had acted so badly that it awarded Goodman $600,000 in punitive damages.

Did Walmart act ethically in this case? It could be argued that Walmart aggressively prosecuted Goodman when there was not sufficient evidence of possible shoplifting. In addition, bringing criminal charges without sufficient evidence violated Goodman’s right to be free from overaggressive acts of a large corporation. The court answered the question of ethics when it imposed punitive damages on Walmart for its conduct. Wal-Mart Stores, Inc. v. Goodman, 789 So.2d 166, 2000 Ala. Lexis 548 (Supreme Court of Alabama, 2000)

5.8 Ethics Case No. Defendant Skier’s Choice Inc. is not liable to plaintiff Colbert under the legal theory of negligent infliction of emotional distress. Colbert arrived on the scene after his daughter had fallen off a boat and witnessed the rescuers pulling his deceased daughter’s body from the water.

The tort of negligent infliction of emotional distress allows bystander family members to obtain damages for foreseeable intangible injuries caused by viewing a physically-injured loved one shortly after a traumatic accident. The court held that the facts do not meet the “shortly thereafter” requirement for establishing a bystander relative’s cause of action for negligent infliction of emotional distress. Colbert was not at the scene either to witness his daughter’s drowning or soon enough thereafter to witness the final seconds of her disappearance under the lake’s surface. Instead, he arrived at least 10 to 15 minutes after learning that his daughter has

fallen off a boat and disappeared in the lake. The court of appeals held that the elements for finding negligent infliction of emotional distress were not met in this case.

As far as the issue of ethics is concerned, it is doubtful that the defendant acted unethically in this case. It may have been negligent in the design of the boat that Colbert’s daughter fell from, but it seems that it did not act unethically. The law provides the elements necessary to find a negligent infliction of emotional distress. The defendant asserted its right in denying and proving it was not liable under the legal theory of negligent infliction of emotional distress. Colbert may sue the defendant under the doctrine of negligence, however. Colbert v. Moomba Sports, Inc. and Skier’s Choice, Inc., 135 P.3d 485, 2006 Wash. App. Lexis 975 (Court of Appeals of Washington, 2006)

Chapter 6 Product and Strict Liability Answers to Critical Legal Thinking Cases 6.1 Defect in Design Yes, Doncasters, Inc. is strictly liable for the death of the deceased parties of the crash of the Twin Otter airplane because of a defect in design of the blades used in the engine of the crashed airplane. The plaintiffs introduced sufficient evidence through expert witnesses to establish that Doncastors had knowledge that the aluminide coating and base metal alloy used in its engine blades were not safe for use in the engine of the crashed airplane. The jury issued a verdict that held Doncastors strictly liable for the plane crash that killed Victoria Berridge, Robert Cook, Robert Walsh, and Scott Cowan and awarded compensatory damages of $4 million for each death. The court of appeals upheld the decision that there was sufficient evidence for the jury to have reached its conclusion of liability. In justifying the award of compensatory damages the court stated “Here, substantial evidence was introduced to show that the decedents suffered from pre-impact terror prior to the crash of the Twin Otter.” The jury also awarded $5.6 million of punitive damages for each death. The court of appeals held that the award of punitive damages was justified because the defendant acted with “a complete indifference to or conscious disregard for the safety” of the decedents. Delacroix v. Doncasters, Inc., 407 S.W.3d 13, 2013 Mo. App. Lexis 567 (Missouri Court of Appeals, 2013)

6.2 Defect in Manufacture Yes, Western Manufacturing is strictly liable for Dorel Roman’s injuries based on the defect of manufacture. The court of appeals reviewed the evidence presented at trial and agreed with the jury’s finding that the mobile stucco pump produced by Western was defective in construction.

The jury found that the stucco pumps produced by Western did not contain a design defect but that the stucco pump that Roman was using had a specific defect in construction. Strict liability can be imposed for a defect in manufacturing. Based on the evidence, the jury determined that

the individual pump that had been used by Roman and his employee was defective in its construction. Therefore, there was a defect in manufacture for which Western was strictly liable.

The jury and the trial court awarded Roman $653,304 in damages. Roman v. Western Manufacturing, Incorporated, 691 F.3d 686, 2012 U.S. App. Lexis 17353 (United States Court of Appeals for the Fifth Circuit, 2012)

6.3 Design Defect Yes, Nissan Motor Company, Ltd. is strictly liable to Amanda Maddox for failing to design seat belt restraint systems to safely protect heavier persons such as her from injury during vehicle collisions. Evidence showed that Nissan tested its seat belt restraint system using test dummies weighing approximately 171 pounds. The company designed its restraint system to protect persons weighing somewhat in this range. Amanda alleged that because Nissan’s crash tests were only performed on one size of crash test dummies, Nissan failed to make vehicles safe for consumers of all sizes. Amanda’s expert witnesses stated that Nissan’s restraint system was not properly designed to protect heavier persons in an automobile crash and that her injuries, including the rupture of her gastric bypass, were caused by this design defect. The jury held that Nissan had created a design defect by failing to design its restraint systems to protect heavier persons. The jury held in favor of Amanda and awarded her $2,577,547 in compensatory damages and $2,500,000 in punitive damages against Nissan. Nissan Motor Company, Ltd. v.

Maddox, 2013 Ky. App. Lexis 133 (Court of Appeals of Kentucky, 2013)

6.4 Failure to Warn Yes, Taser International, Inc. was negligent in failing to warn the police of the dangers of discharging the Taser X26 at a suspect’s chest. Tasers emit a strong electrical current designed to be discharged at suspects to immobilize them so that they cannot flee a scene and or pose a danger to police when being apprehended. However, the electrical shock is quite forceful, so that in certain circumstances the taser poses a danger of injury to the person who is tased. Here, the police discharged the taser at the chest of Darryl Wayne Turner to immobilize him at the scene of a dispute and when he refused to comply with the police officer’s directives. Taser shock can cause cardiac arrest, especially when the electrical current from the taser is applied near the

subject’s heart. In this case, the police officer applied the Taser X26 on Turner’s chest, near his heart. Turner died of cardiac arrest. Taser’s manual did not warn that applying the taser X26 near a subject’s heart posed a risk of ventricular fibrillation, a cause of cadiac arrest. The jury found that Taser had negligently failed to warn users of X26 of the dangers of deploying the taser’s electrical current in proximity to the heart. The court awarded $5.5 million in compensatory damages to the plaintiff. Fontenot v. Taser International, Inc., 736 F.3d 318, 2013 U.S. App. Lexis 23510 (United States Court of Appeals for the Fourth Circuit, 2013)

6.5 Design Defect The court held that the Extreme Sno-Tube II that was designed and produced by Intex Recreation Corporation had a design defect that caused the accident and resulting injury to Higgins. The court found that there a design defect because the Sno-Tube could rotate while going downhill and had no guiding mechanism and no steering device. Evidence showed that a snow tube could be made that could just as fast but did not rotate because of ridges could be placed on the bottom of the device. Placement of ribs or ridges on the bottom of the Sno-Tube would keep the rider from facing downhill. The rider could then see obstacles and direct the tube. All this could be done without sacrificing speed. This is enough to prove an alternative safer design. The court stated, “Now, the ride down a snow-covered hill backward at 30 miles per hour may be a thrill.

But it has very little social value when compared to the risk of severe injury. We do not think the Sno-Tube is a product that is necessary regardless of the risks involved to the user.” The court held that a reasonable consumer would expect that a snow sliding product would not put him or her in a backward, high-speed slide. The court held that the Sno-Tube was defectively designed and found Intex Recreation Corporation strictly liable for causing the accident in which the plaintiff Higgens was rendered a quadriplegic. Higgins v. Intex Recreation Corporation, 199 P.3d 421, 2004 Wash. App. Lexis 2424 (Court of Appeals of Washington, 2004)

Answers to Ethics Cases 6.6 Ethics Case No. Overhead Door Corporation was not liable for strict liability for either design defect or failure to warn. Jolie Glenn could have easily avoided exposing her three-year old daughter

Brittany to dangerous levels of carbon monoxide by not leaving her in a car unattended for an extended period of time with the engine running and the garage door down. Proving that a manufacturer did not warn of some potential danger does not, by itself, prove that a defendant is liable. In order to prove failure to warn, the plaintiff must show that the user was ignorant of the danger warned against. Manufacturers and distributors have no duty to warn of dangers that are open and obvious or if the hazard associated with the product is common knowledge to the ordinary observer or consumer. Although Jolie Glenn testified that it never crossed her mind that her daughter could die from carbon monoxide poisoning, she did testify that she knew a person should never leave a child unattended in a car with the engine running. She also testified that she knew and appreciated the danger of carbon monoxide poisoning and that she knew the garage door would not open automatically. She needed no other warning. The court of appeals held that Overhead Door was not strictly liable for design defect or failure to warn.

Did Glenn act ethically in suing Overhead? It would seem that Glenn did not act unethically.

Glenn acted negligently herself, but she could still have a reasonable lawsuit against Overhead.

Maybe this would have been the case where the court imposed a duty on overhead garage door manufacturers to provide some form of alarm that detects carbon monoxide. Glenn v. Overhead Door Corporation, 935 S.2d 1074, 2006 Miss. App. Lexis 60 (Court of Appeals of Mississippi, 2006)

6.7 Ethics Case No, none of the defendants—Simatelex, Sunbeam, and Walmart—is strictly liable to Barbara K. Thompson for the injuries she suffered when she tried to adjust the beater in a Sunbeam hand mixer back into place while the mixer was still on. The U.S. court of appeals found that the instruction booklet for the Sunbeam mixer contained many conspicuous warnings to unplug the mixer before inserting or removing or adjusting the beaters. Thompson did not heed these warnings and tried to adjust a beater while the mixer was running. This caused her injury from which she had to have a finger amputated. The court held that the defendants had properly warned Thompson of the dangers associated with adjusting a beater on mixer while it was operating. The court also noted that the defense of a generally known danger relieved the defendants of liability. The U.S. court of appeals upheld the U.S. district court’s grant of summary judgment in favor of the defendants.

In this case, it is somewhat difficult issue as to whether the plaintiff acted unethically in bringing this lawsuit. But the facts seem so straight forward. The warnings were clear, explicit, and conspicuous not to inset, remove, or adjust the beaters while the mixer was running or turned on. Thompson clearly did not heed these warnings. Also, Thompson, who had substantial experience with the use of mixers, would have prior knowledge of the dangers of trying to adjust beaters while a mixer is running or turned on. Therefore, the balance of the evidence leans to finding Thompson’s lawsuit an unethical decision, although a lawful decision. Thompson v.

Sunbeam Products, Inc., 2012 U.S. App. Lexis 22530 (United States Court of Appeals for the Sixth Circuit, 2012)

Chapter 7 Intellectual Property and Cyber Piracy Answers to Critical Legal Thinking Cases 7.1 Patent No, the claimed invention is not patentable. To be patentable, the claimed invention must be novel and nonobvious. Laws of nature, physical phenomena, and abstract ideas do not meet these criteria and are therefore not patentable. The concepts covered by laws of nature and abstract ideas are part of the storehouse of knowledge of all men free to all men and reserved exclusively to none. Claims 1 and 4 of the patent application explain the basic concept of hedging, or protecting against risk. The U.S. Supreme Court stated, “Hedging is a fundamental economic practice long prevalent in our system of commerce and taught in any introductory finance class.

Allowing petitioners to patent risk hedging would preempt use of this approach in all fields, and would effectively grant a monopoly over an abstract idea.” The U.S. Supreme Court held that the concept of hedging is an abstract idea that cannot be patented. Bilski v. Kappos, Director, Patent and Trademark Office, 561 U.S. 593, 130 S.Ct. 3218, 2010 U.S. Lexis 5521 (Supreme Court of the United States, 2010)

7.2 Trademark Yes, Zura Kazhiloti is liable for trademark infringement. The store owners testified that they had purchased the counterfeit jewelry from Kazhiloti that contained the trademarks of Cartier International A.G and Van Cleef & Arpels and produced invoices showing the purchase of such jewelry. They also testified that Kazhiloti gave them certificates of authenticity that the jewelry came from Cartier and Van Cleefs & Arpels. The jewelry sold by Kazhiloti to the jewelry stores, which were then sold to unsuspecting customers, and the pieces seized from the jewelry stores, were high-quality counterfeits that contained plaintiffs’ trademarks. The court found that Kazhiloti’s counterfeiting was intentional. The court stated, “Mr. Kazhiloti has simply plead the Fifth Amendment throughout the course of this litigation and has not so much as denied that he

sold the counterfeit jewelry in question.” The court issued a permanent injunction against further infringement of the plaintiffs’ trademarks and awarded the plaintiffs a total of $43 million in total damages. The court also awarded the plaintiffs their attorneys’ fees, costs, and prejudgment interest. Cartier International A.G. and Van Cleef & Arpels S.A. v. Kazhiloti, 2013 U.S. Dist.

Lexis 145278 (United States District Court for the District of New Jersey, 2013)

7.3 Copyright The U.S. Court of Appeals held that the incorporation by the Beastie Boys of a short segment of a copyrighted musical composition of “Choir” into their new musical recording constituted fair use and not copyright infringement. The dispute between Newton and Beastie Boys centered around the copyright implications of the practice of “sampling” a practice now common to many types of popular music. Sampling entails the incorporation of short segments of prior sound recordings into new recordings. For an unauthorized use of a copyrighted work to be actionable, there must be substantial similarity between the plaintiff’s and defendant’s works. This means that even where the fact of copying is conceded, no legal consequences will follow from that fact unless the copying is substantial. The focus on the sample’s relation to the plaintiff’s work as a whole embodied the fundamental question in any infringement action: whether so much is taken that the value of the original is sensibly diminished. The court held that when viewed in relation to Newton’s composition as a whole, the sampled portion was neither quantitatively nor qualitatively significant. Quantitatively, the three-note sequence appeared only once in Newton’s composition. When played, the segment lasted six seconds and was roughly two percent of the four-and-a-half-minute “Choir.” Beastie Boys’ use of the “Choir” composition was de minimis.

The U.S. Court of Appeals held that the Beastie Boys’s de minimis sampling of Newton’s “Choir” composition constituted fair use and not copyright infringement. Newton v. Beastie Boys, 349 F.3d 591, 2003 U.S. App. Lexis 22635 (United States Court of Appeals for the Ninth Circuit, 2003)

7.4 Trademark Yes, Cracker Barrel Old Country Store, Inc. (CBOCS) use of the “Cracker Barrel” name on the food products it proposes to sell in grocery stores infringes on the Kraft Foods Group Brands LLC (Kraft) Cracker Barrel trademark. The words “Cracker Barrel” on both labels might lead

the shopper to think them both Kraft products. The U.S. court of appeals stated “Even savvy consumers might be fooled. A trademark’s value is the saving in search costs made possible by the information that the trademark conveys about the quality of the trademark owner’s brand.”

The particular danger for Kraft of CBOCS’s being allowed to sell food products through the same outlets under a trade name confusingly similar to Kraft’s “Cracker Barrel” trade name is that if CBOCS’s products are inferior in any respect to what the consumer expects — if a consumer has a bad experience with a CBOCS product and blames Kraft, thinking it the producer — Kraft’s sales of Cracker Barrel cheeses are likely to decline. The U.S. court of appeals affirmed the injunction issued by the U.S. district court that prevents CBOLS from selling food products in grocery stores using Kraft’s trademark name Cracker Barrel. Kraft Foods Group Brands LLC v. Cracker Barrel Old Country Store, Inc., 2013 U.S. App. Lexis 23124 (United States Court of Appeals for the Seventh Circuit, 2013)

7.5 Copyright Yes, Dodger Productions, Inc.’s use of the seven-second clip from The Ed Sullivan Show in the Jersey Boys musical production is fair use of a copyrighted work and is not copyright infringement. By using The Ed Sullivan Show clip for its biographical significance of introducing the rock ‘n roll band the Four Seasons in the play Jersey Boys, Dodger imbued it with new meaning and did so without usurping whatever demand there is for the original clip. The U.S. court of appeals held that the Jersey Boys is not a substitute for The Ed Sullivan Show. The court stated, “The clip is seven seconds long and only appears once in the play. Dodger’s use of the clip advances its own original creation without any reasonable threat to SOFA Entertainment’s business model. In the end, we are left with the following conclusion: Dodger’s use of the clip did not harm SOFA’s copyright in The Ed Sullivan Show. This case is a good example of why the ‘fair use’ doctrine exists.” The U.S. court of appeals held that Dodger’s use of the sevensecond clip from The Ed Sullivan Show in its Jersey Boys musical production was fair use of SOFA’s copyrighted work. SOFA Entertainment, Inc. v. Dodger Productions, Inc., 709 F.3d 1273, 2013 U.S. App. Lexis 4830 (United States Court of Appeals for the Ninth Circuit, 2013)

7.6 Copyright Yes, Cecilia Gonzalez is liable for copyright infringement. The U.S. court of appeals stated, “A

copy downloaded, played, and retained on one’s hard drive for future use is a direct substitute for a purchased copy. As file sharing has increased, the sales of recorded music have dropped. The events likely are related. Music downloaded for free from the Internet is a close substitute for purchased music; many people are bound to keep the downloaded files without buying originals.

That is exactly what Gonzalez did. Nor can she defend by observing that other persons were greater offenders; Gonzalez’s theme that she obtained ‘only 30’ (or ‘only 1,300’) copyrighted songs is no more relevant than a thief’s contention that he shoplifted ‘only 30’ compact discs, planning to listen to them at home and pay later for any he liked.” The U.S. district court granted summary judgment in favor of BMG Music, assessed $22,500 in damages against Gonzalez, and issued an injunction against Gonzalez, enjoining her from further copyright infringement. The U.S. court of appeals upheld the decision. BMG Music v. Gonzalez, 430 F.3d 888, 2005 U.S. App. Lexis 26903 (United States Court of Appeals for the Seventh Circuit, 2005)

Answers to Ethics Cases 7.7 Ethics Case Yes, there was infringement of Intel Corporations trademarks that warranted the issuance of a permanent injunction against Intelsys. Intel Corporation distributes its entire line of products and services under the registered trademark and service mark INTEL and well as under other trademarks that incorporate its INTEL mark, such as the marks INTEL INSIDE, INTEL SPEEDSTEP, INTEL XEON, and INTEL NETMERGE. The defendant uses the mark “Intelsys Software,” which incorporates Plaintiff’s INTEL trademark and adds the generic term “sys”—a common abbreviation for “systems”—and the generic term “software.” The defendant’s unauthorized use of the Intelsys Software name and trademark falsely indicates to consumers that defendant’s products and services are in some manner connected with, or related to, plaintiff Intel. The defendant’s use of the mark allows it to benefit from the goodwill established by Intel and will continue to have an adverse effect on the value of and distinctive quality of the INTEL mark. The U.S. district court granted judgment to Intel Corporation on its trademark infringement claims against Intelsys and issued a permanent injunction prohibiting the defendant from using the name Intelsys as a trade name or name of any products or services.

From the facts of the case it is easy to draw the conclusion that the defendant choose the

name Intelsys to play off of the name recognition of the “INTEL” trademark of Intel Corporation. The Intel Corporation used its trademark name Intel and added additional names to that word to create other recognizable trademarks. The defendant took the INTEL trademark and did the same by adding the abbreviated term sys to the mark INTEL. This was an obvious and unethical means of stealing the recognition and goodwill established by Intel Corporation’s INTEL trademark. Intel Corporation v. Intelsys Software, LLC, 2009 U.S. Dist. Lexis 14761 (United States District Court for the Northern District of California, 2009)

7.8 Ethics Case The U.S. Court of Appeals held that Passport’s use of the copyrighted Elvis Presley materials was not fair use but instead constituted copyright infringement. The Court of Appeals stated, “The King is dead. His legacy and those who wish to profit from it remain very much alive.” The Court of Appeals held that Passport’s use of others’ copyrighted materials was for commercial use rather than for a nonprofit purpose. The Court rejected Passport’s claim that the videos consisted of scholarly research that would be protected as fair use. Also, the use of other copyright holders’ materials that made up 5 to 10 percent of the Passport video is not de minimis, but is significant. The court found that Passport’s use of the copyrighted material caused market harm to the copyright holders because it would act as a substitute for the original copyrights and thus deny the copyright holders of the value of their copyrights. The Court of Appeals denied Passport’s claim of fair use and affirmed the District Court’s judgment that enjoined Passport from distributing its videos containing these copyrighted materials.

Concerning the ethics of Passport Video, it is obvious that Passport knew it was attempting to use copyrighted material for free. The amount of copyrighted material made up a significant portion of its Elvis Presley video. Passport itself would assert copyright protection for its video and would not want someone to copy 5 to 10 percent of the video. The question is whether Passport video could have realistically thought that its use of other parties’ copyrighted material was fair use. Although possible, it is highly unlikely that this would have been the case. Elvis Presley Enterprises, Inc. v. Passport Video, 349 F.3d 622, 2003 U.S. App. Lexis 22775 (United States Court of Appeals for the Ninth Circuit, 2003)

Chapter 8 Criminal Law and Cybercrime Answers to Critical Legal Thinking Cases 8.1 Search and Seizure No. The police officers’ use of the global positioning system (GPS) without first obtaining a search warrant does not constitute an unreasonable search in violation of the Fourth Amendment.

The Fourth Amendment forbids unreasonable searches and seizures. The U.S. Supreme Court has created a presumption that a warrant is required to conduct a search. However, a warrant is not required under certain circumstances. The Supreme Court has insisted that the meaning of a Fourth Amendment search must change to keep pace with the march of science. The police of Polk County, Wisconsin, where the events of this case unfolded, are not engaged in mass surveillance. They use GPS tracking only when they have a suspect in their sights. They had probable cause for suspecting the defendant in this case. The U.S. Court of Appeals held that the warrantless use of a GPS tracking system was not a search and therefore did not violate the Fourth Amendment. United States of America v. Garcia, 474 F.3d 994, 2007 U.S. App. Lexis 2272 (United States Court of Appeals for the Seventh Circuit, 2007)

8.2 Cruel and Unusual Punishment Yes, Alabama’s mandatory sentencing requirement of life imprisonment without the possibility of parole as applied to juvenile defendants constitutes cruel and unusual punishment in violation of the Fifth Amendment. The U.S. Supreme Court held that a mandatory life sentence as applied to a juvenile prevents the sentencer from taking into account a juvenile defendant’s youth as a consideration at sentencing. The Supreme Court noted that juveniles have a greater capacity for reform than adults. The Supreme Court stated that the sentencer should consider several factors, including the possibility of a juveniles lack of maturity and undeveloped sense of responsibility,

the vulnerability of juveniles from negative influences and outside pressures including from peers and family members, and a juvenile’s character that may not be as developed as an adult’s.

The Court stated, “Of special pertinence here, we insist that a sentencer have the ability to consider the mitigating qualities of youth.” The U.S. Supreme Court held that a mandatory life sentence without the possibility of parole for those under the age of 18 at the time of their crimes violates the Eighth Amendment’s prohibition against cruel and unusual punishment. The Supreme Court remanded the case for further proceedings regarding sentencing. Miller v.

Alabama, 132 S.Ct. 2455, 2012 U.S. Lexis 4873 (Supreme Court of the United States, 2012)

8.3 Search Yes, the warrantless search is constitutional. Although in the majority of cases a warrant is necessary to conduct a search, the warrant requirement is subject to certain reasonable exceptions. One well-recognized exception applies when the exigencies of the situation make the needs of law enforcement so compelling that a warrantless search is objectively reasonable under the Fourth Amendment. The Supreme Court permits police officers to enter premises without a warrant when they are in hot pursuit of a fleeing subject and to prevent the imminent destruction of evidence. The U.S. Supreme Court held that these exigent circumstances existed in this case and justified the warrantless search and seizure of the evidence used against King. The Supreme Court held that the evidence obtained by the warrantless search could be used against King at his criminal trial. Kentucky v. King, 131 S.Ct. 1849, 2011 U.S. Lexis 3541 (Supreme Court of the United States, 2011)

8.4 Search Yes, the record amply supports the trial court’s determination that Aldo’s alert gave Wheetley probable cause to search Harris’s truck. If a bona fide organization has certified a dog after testing his reliability in a controlled setting, a court can presume that the dog’s alert provides probable cause to search. The question—similar to every inquiry into probable cause—is whether all the facts surrounding a dog’s alert viewed through the lens of common sense, would make a reasonable prudent person think that a search would reveal contraband or evidence of a crime. The U.S. Supreme Court found that it did. The Court noted “A sniff is up to snuff when it meets that test. And here, Aldo’s did.” The U.S. Supreme Court found that the record amply

supported the trial court’s determination that Aldo’s alert gave Wheetley probable cause to search Harris’s truck. Florida v. Harris, 133 S.Ct. 1050, 2013 U.S. Lexis 1121 (Supreme Court of the United States, 2013)

8.5 Search and Seizure The U.S. Supreme Court held that the use of a thermal-imaging device aimed at a private home from a public street to detect relative amounts of heat within the home was a “search” within the meaning of the Fourth Amendment. The Supreme Court stated, “At the very core of the Fourth Amendment stands the right of a man to retreat into his own home and there be free from unreasonable government intrusion.” The Supreme Court noted that, with few exceptions, the question whether a warrantless search of a home is reasonable and hence constitutional must be answered no. The present case involves officers on a public street engaged in more than nakedeye surveillance of a home. The court framed the issue, “The question we confront today is what limits there are upon this power of technology to shrink the realm of guaranteed privacy.” The Supreme Court found that obtaining by sense-enhancing technology any information regarding the interior of the home that could not otherwise have been obtained without physical intrusion into a constitutionally protected area constitutes a search. This ruling assures preservation of that degree of privacy against government that existed when the Fourth Amendment was adopted. On the basis of this criterion, the Supreme Court held that the information obtained by the thermal imager in this case was the product of a search within the meaning of the Fourth Amendment.

Kyllo v. United States, 533 U.S. 27, 121 S.Ct. 2038, 2001 U.S. Lexis 4487 (Supreme Court of the United States, 2001)

8.6 Search and Seizure Yes, the Indianapolis highway checkpoint program violates the Fourth Amendment to the U.S. Constitution. In the highway checkpoint in this case the police, without individualized suspicion, stopped vehicles for the purpose of discovering illegal narcotics. The Fourth Amendment requires that searches and seizures be reasonable. A search or seizure is ordinarily unreasonable in the absence of individualized suspicion of wrongdoing. In only limited circumstances does this rule not apply. The Fourth Amendment does not approve a checkpoint program whose primary purpose is to detect evidence of ordinary criminal wrongdoing. Because the primary

purpose of the Indianapolis narcotics checkpoint program was to uncover evidence of ordinary criminal wrongdoing, the program contravenes the Fourth Amendment. Of course, certain circumstances might justify a law enforcement checkpoint where the primary purpose would be necessary for some emergency. For example, the Fourth Amendment would permit an appropriately tailored roadblock set up to thwart an imminent terrorist attack or to catch a dangerous criminal who is likely to flee by way of a particular route. But barring such emergencies—which did not exist in this case—the police cannot use a checkpoint program whose primary purpose is to detect evidence of ordinary criminal wrongdoing of possessing or using illegal narcotics. City of Indianapolis, Indiana v. Edmond, 531 U.S. 32, 121 S.Ct. 447, 2000 U.S. Lexis 8084 (Supreme Court of the United States, 2000)

Answers to Ethics Cases 8.7 Ethics Case Yes, the canine investigation was an unreasonable search. The U.S. Supreme Court noted that “When it comes to the Fourth Amendment, the home is first among equals.” At the Fourth Amendment’s very core stands the right of a man to retreat into his own home and there be free from unreasonable governmental intrusion. The Supreme Court held that the area immediately surrounding and associated with the home—what is call curtilage—is part of the home for Fourth Amendment purposes. The front porch is the classic example of an area adjacent to the home to which the activity of home life extends. The U.S. Supreme Court held that the government’s use of a trained narcotics detection dog to investigate the home and its immediate surroundings was an unreasonable search. The Supreme Court affirmed the judgment of the Florida Supreme Court that suppressed the evidence.

The question of whether it is ethical for a defendant to assert the Fourth Amendment to suppress evidence when he knows he is guilty of the crime charged is a close one. Literally, the answer would be no, because the defendant knows that he is getting away with a crime.

However, the privilege to be free from unreasonable searches was placed in the Constitution for a very important reason. So in reality, it could be said that the government is acting unethically when if tries to admit evidence it has unlawfully obtained. Florida v. Jardines, 133 S.Ct. 1409, 2013 U.S. Lexis 2542 (Supreme Court of the United States, 2013)

8.8 Ethics Case No, the search of Rodney Gant’s car was not a reasonable search. A search of a car incidence to an arrest is permissible and the evidence obtained may be admitted into evidence. The issue was whether the warrantless search of Gant’s automobile was justified as a search incident to an arrest. A warrantless search incident to arrest may only include the arrestee’s person and the area “within his immediate control.” Gant clearly was not within reaching distance of his car at the time of the search. Gant was arrested for driving with a suspended license—an offense for which police could not expect to find evidence in the passenger compartment of Gant’s car. Because police could not reasonably have believed either that Gant could have accessed his car at the time of the search or that evidence of the offense for which he was arrested might have been found therein, the U.S. Supreme Court held that the search was unreasonable and that the evidence found in Gant’s automobile must be suppressed.

The Fourth Amendment of the U.S. Constitution protects persons from unreasonable searches. This is a right granted by the highest law of the land. It could be argued that Gant acted unethically by trying to get evidence of his crime—the cocaine found in the passenger compartment of his car—excluded from his trial. However, it would be hard to label his conduct unethical when the U.S. Constitution grants him the right to be secure from unreasonable searches by the government. Arizona v. Gant, 129 S.Ct. 1710, 2009 U.S. Lexis 3120 (Supreme Court of the United States, 2009)

Chapter 9 Nature of Traditional and E-Contracts

Answers to Critical Legal Thinking Cases 9.1 Implied-in-Fact Contract Yes. There was an implied-in-fact contract between the parties. The law allows for recovery of damages for the breach of an implied-in-fact contract when the recipient of a valuable idea accepts and uses the information without paying for it even though he knows that compensation is expected. Here, the Court of Appeals found (1) that Landsberg’s disclosure of his manuscript was confidential and for the limited purpose of obtaining approval for the use of the Scrabble mark, and (2) given Landsberg’s express intention to exploit his manuscript commercially, the defendant’s use of any portion of it was conditioned on payment. The Court of Appeals held that an implied-in-fact contract had been formed between the parties and that defendant Scrabble had breached the implied contract. Landsberg was awarded the profits that S&R made on the sale of the book plus $100,000 punitive damages, bringing the total award to $440,300. Landsberg v.

Selchow & Richter Company, 802 F.2d 1193, 1986 U.S. App. Lexis 32453 (United States Court of Appeals for the Ninth Circuit)

9.2 Bilateral or Unilateral Contract The contract is a bilateral contract. A contract is bilateral if the offeror’s promise is answered with the offeree’s promise of acceptance. The court found that the agreement between Mr. Bickham and the bank on January 23, 1974, was a bilateral agreement. Bickham agreed to do his banking in return for the bank’s agreement to make loans at 7 1/2 percent. If Bickham had said “If you promise to loan me money at 7 1/2 percent, I will do all my banking with your bank,” the offer would have been to create a unilateral contract.

The court further held that bilateral contracts can only be altered with the consent of both parties and that the bank acted unilaterally in changing the interest rates on the loans. Therefore, the Appellate Court upheld the trial court’s ruling that the bank had breached its contract. In addition, the court held that each of the subsequently executed notes were bilateral contracts. The court stated that although the agreement was silent at the time, it would impute a “reasonable time” into the agreement. Bickham v. Washington Bank & Trust Company, 515 So.2d 457, 1987 La. App. Lexis 10442 (Court of Appeal of Louisiana)

9.3 Implied-in-Fact Contract Yes, an implied-in-fact contract can result from the conduct of unmarried persons who live together. An implied-in-fact contract arises where (1) the plaintiff provided property or services to the defendant, (2) the plaintiff expected to be paid for the property or services, and did not provide the property or services gratuitously, and (3) the defendant was given an opportunity to reject the property or services, but failed to do so. Here the plaintiff provided services while the defendant provided property. There is no more reason to presume that services are contributed as a gift. It is better to presume that the parties intended to deal fairly with each other. To hold otherwise would disproportionately enrich one partner at the expense of the other. Therefore, the court held that courts may inquire into the conduct of the parties to determine whether that conduct demonstrates an implied-in-fact contract. Marvin v. Marvin, 18 Cal.3d 660, 557 P.2d 106, 134 Cal. Rptr. 815, 1976 Cal. Lexis 377 (Supreme Court of California)

9.4 Objective Theory of Contracts The Mitchells own the money found in the safe. The Mitchells purchased a locked safe for $50 at an auction and later discovered $32,207 cash inside the safe when it was forcibly unlocked.

Under the objective theory of contracts, the outward manifestation of assent made by each party to the other is conclusive of the contract. The subjective intention of the parties is irrelevant. A contract is an obligation attached by the mere force of law to certain acts of the parties, usually words, which ordinarily accompany and represent a known intent. The Mitchells were aware of

the rule of the auction that all sales were final. Furthermore, the auctioneer made no statement reserving rights to any contents of the safe. Under these circumstances, reasonable persons would conclude that the auctioneer manifested an objective intent to sell the safe and its contents and that the parties entered into a contract for the sale of the safe and the contents of the locked compartment. Under the objective theory of contracts, a contract was formed between the seller and the buyer of the safe. Judgment was rendered in favor of the Mitchells. City of Everett, Washington v. Mitchell, 631 P.2d 366, 1981 Wash. Lexis 1139 (Supreme Court of Washington)

Answers to Ethics Cases 9.5 Ethics Case The contract is a unilateral contract and Chenard wins the car. A unilateral contract is one in which the offer can only be accepted by the performance of an act by the offeree. Here, Marcel Motors made a unilateral promise to give a car to anyone who shot a hole-in-one. There is no contract until the offeree, a golfer, performs the requested act by shooting a hole-in-one. The offer cannot be accepted by Chenard, a golfer, promising to get a hole-in-one. This would constitute a bilateral agreement. The court held that where Chenard, the offeree, shot a hole-in-one, he had accepted the offeror’s offer of a unilateral contract thereby obligating performance of the promise by Marcel Motors. Accordingly, the court ruled that Chenard is entitled to the car. It was unethical for Marcel Motors to refuse to give the automobile to Chenard. The car dealership’s offer to give an automobile to anyone who shot a hole-in-one was an inducement to get golfers to sign up for the golf tournament, and a breach of that offer is unethical. Chenard v. Marcel Motors, 387 A.2d 596, 1978 Me. Lexis 911 (Supreme Judicial Court of Maine)

9.6 Ethics Case No, Dr. Winkle does not receive the profit-sharing bonus orally promised to be paid him by Dr. Vranich. Under the equitable doctrine of quasi-contract, a court may award monetary damages to a plaintiff for providing work or services to a defendant even though no actual contract existed

between the parties. This doctrine does not apply where there is an enforceable contract between the parties. In this case, there was a written employment contract between the parties. Thus, for Winkle to be entitled to the profit-sharing bonus the court must find that the written employment contract was altered in writing or by an executed oral contract. Winkle testified that the agreement to receive profit-sharing was an oral agreement. Thus, the question becomes whether the oral agreement was executed, i.e., fully performed. The court held that because Winkle had not been paid his salary and bonus, the contract was not executed. Accordingly the appellate court reversed the trial court’s holding that Winkle was entitled to his bonus. Although the law favored Dr. Vranich, it was unethical for the doctor not to have performed his oral promise to pay Dr. Winkle the promised profit-sharing bonus. Winkel v. Family Health Care, P.C., 668 P.2d 208, 1983 Mont. Lexis 785 (Supreme Court of Montana)

Chapter 10 Agreement

Answers to Critical Legal Thinking Cases 10.1 Mirror Image Rule No. The court of appeal applied the mirror image rule and held that no contract had been created between the parties. The court stated, “Florida employs the ‘mirror image rule’ with respect to contracts. Under this rule, in order for a contract to be formed, an acceptance of an offer must be absolute, unconditional, and identical with the terms of the offer.” The court examined the facts of the case and found the following. Norma English made an offer to purchase a house owned by Michael and Lourie Montgomery (Montgomery) for $272,000 which included the purchase of some personal property of Montgomery, including paving stones and a fireplace screen worth $100. Montgomery then made a counteroffer whereby they made many changes to English’s offer, including deleting the paving stones and fireplace screen from the personal property that English wanted. When English replied, she accepted all of Montgomery’s changes except that she did not accept Montgomery’s change that deleted the paving stones and fireplace screen from the deal. Therefore, when Montgomery was selling their house to another buyer for $285,000, English sued and asked the court to find that an enforceable contract existed between Montgomery and her and to order Montgomery to specifically perform the contract. However, the court applied the mirror image rule and held that English had not accepted Montgomery’s counteroffer, so no contract existed between them. Montgomery was free to sell their house to another purchaser. The court concluded, “Applying the mirror image rule to these undisputed facts we hold that, as a matter of law, the parties failed to reach an agreement on the terms of the contract and, therefore, no enforceable contract was created.” Montgomery v. English, 902 So.2d 836, 2005 Fla. App. Lexis 4704 (Court of Appeal of Florida, 2005)

10.2 Agreement No. A contract to convey the real property does not exist between Heikkila and McLaughlin. A written offer does not evidence a completed contract and a written acceptance is required.

Minnesota has applied the “mirror image rule” in analyzing acceptance of offers. Under that rule, an acceptance must be coextensive with the offer and may not introduce additional terms or conditions. Heikkila’s alterations of the Purchase Agreements constituted a rejection of McLaughlin’s offer and constituted a counteroffer. Heikkila withdrew the counteroffer before McLaughlin provided a written acceptance of the counteroffer. Only a written acceptance by McLaughlin of the exact written terms proposed by Heikkila on the Purchase Agreements would have created a binding contract for the sale of land. Without a written acceptance and delivery to the other party to the agreement, no contract was formed. The court of appeals held that because McLaughlin did not sign or otherwise accept in writing Heikkila’s counteroffer, there was no contract for the sale of land between the parties. McLaughlin v. Heikkila, 697 N.W.2d 231, 2005 Minn. App. Lexis 591 (Court of Appeals of Minnesota, 2005)

10.3 Solicitation to Make an Offer No, there was no contract between the Mesaros and the United States Mint. This was because the U.S. Mint’s advertisement was a solicitation to make an offer and not an offer. Mesaros contends that the materials sent by the Mint, including the order form, constituted an offer that upon acceptance by the Mint created a binding contract between Mesaros and the government whereby the government was bound and obligated to deliver the coins ordered by Mesaros. But this is not the case here. A thorough reading and interpretation of the materials sent to Mesaros by the Mint makes clear that Mesaros’s contention that the materials were intended as an offer is unreasonable. This is especially true in view of the words “YES, Please accept my order” that were printed on the credit-card form, which showed that the credit-card order was an offer to the Mint to buy the coins, which offer might or might not be accepted by the Mint. Accordingly, the Mint materials were intended solely as solicitations of offers from customers that were subject to acceptance by the Mint before the Mint would be bound by a contract. Otherwise, the Mint could be bound by an excessive number of contracts requiring delivery of goods far in excess of the

500,000 gold coins authorized by the act of Congress. Thus, the advertising materials sent out by the U.S. Mint were a solicitation to make an offer and not an offer. Mesaros v. United States, 845 F.2d 1576, 1988 U.S. App. Lexis 6055 (United States Court of Appeals for the Federal Circuit)

10.4 Counteroffer No, there has not been a settlement of the lawsuit. A valid acceptance of an offer must be absolute and unqualified. A qualified acceptance that contains terms or conditions materially different from those in the original offer constitutes a counteroffer that terminates the power of the original offeree to accept the offer. In the instant case, the court held that the process of settlement is best served by allowing the law of contracts to control. Thus, the court held that the tenant’s qualified acceptance of the settlement offer, conditioned upon the execution of a new lease, constituted a counteroffer that terminated its ability to accept the settlement offer. The trial court’s denial of the tenant’s motion to compel entry of judgment due to the existence of the settlement was therefore affirmed. Glende Motor Company v. Superior Court, 159 Cal. App.3d 389, 205 Cal. Rptr. 682, 1984 Cal. App. Lexis 2435 (Court of Appeal of California)

Answer to Ethics Case 10.5 Ethics Case Yes. Dees is bound to the contract. The trial court agreed with Saban Entertainment, Inc., finding that the “Work-for-Hire/Independent Contractor Agreement” was an enforceable contract between the parties. The court held that Dees had transferred his ownership interests in the Mighty Morphin Power Rangers’ logo that he designed to Saban pursuant to an enforceable contract. The Court of Appeals affirmed the judgment in favor of Saban, stating, “The disputed agreement transferred plaintiff’s copyright in the Mighty Morphin Power Rangers’ logo with as much specificity as the law requires.” The Court applied the adage “a contract is a contract is a contract”, at least in this case.

There seems to be is no equity doctrine that Dees can raise in this case to save him from the contract he signed. He was an adult who choose not to obtain legal representation before he negotiated and signed the contract with Saban. Later developments—the success of the Mighty Morphin Power Rangers—cannot be introduced to change his contract. Does Saban owe an ethical duty to pay Dees more money? Probably not. When Saban signed the contract there was no certainty that the Mighty Morphin Power Rangers would be so successful or that the design Dees provided would work. Dees, d/b/a David Dees Illustration v. Saban Entertainment, Inc., 131 F.3d 146, 1997 U.S. App. Lexis 39173 (United States Court of Appeals for the Ninth Circuit)

Chapter 11 Consideration and Promissory Estoppel Answers to Critical Legal Thinking Cases 11.1 Gift Promise No. Presley’s promise to pay the mortgage is not enforceable. Presley’s promise to pay Ms. Allen’s mortgage was not executed by the time Presley died. That is, Presley died before he had paid Allen’s mortgage. Pressley’s promise to pay Alden’s mortgage was a gift promise that was not supported by any consideration from Allen. Allen had not promised to do anything in return for Presley’s promise to pay her mortgage off. In addition, Presley had not paid off the mortgage by the time he died, so there was no performance on Presley’s part that executed the promise.

Because the gift promise was not performed and there was no consideration given by Allen, Presley’s gift promise to pay Allen’s mortgage is unenforceable. Thus, Presley’s estate does not have to pay Allen’s mortgage. Alden v. Presley, 637 S.W.2d 862, 1982 Tenn. Lexis 340 (Supreme Court of Tennessee)

11.2 Consideration No, there was no consideration supporting Tallas’s promise to pay Dementas. Tallas had not changed his will to pay Dementas $50,000 when Tallas died, so Dementas cannot recover as a beneficiary of the will. Dementas is trying to enforce the promise that Tallas made prior to Tallas’s death whereby he promised to pay Dementas for past services that were rendered to Tallas. The burden of proving consideration is on the party seeking to recover on the contract.

Even though the testimony showed that Dementas rendered past services for Tallas, the promise

by Tallas to pay $50,000 for services that were previously performed by Dementas is not a promise supported by legal consideration. Events which occur prior to the making of the promise and that are not made with the purpose of inducing a promise in exchange are viewed as “past consideration” and are the legal equivalent of no consideration. There is no bargaining, there was no saying that if you will do this for me I will do that for you. A benefit conferred or detriment incurred in the past is not adequate consideration for a present bargain. Thus, Tallas’s promise to

pay Dementas $50,000 was unenforceable because it was based on past consideration. Dementas v. Estate of Tallas, 764 P.2d 628, 1988 Utah App. Lexis 174 (Court of Appeals of Utah)

Answer to Ethics Case 11.3 Ethics Case Yes. The appellate court held that the pledge agreement made by Raymond P. Wirth to pay $150,000 to Drexel University was supported by consideration and was therefore enforceable against the estate of Wirth. Even if Wirth anticipated consideration in return for his promise, there was no failure of consideration. The Pledge Agreement, which also was executed by representatives of Drexel, provided that the pledged sum “shall be used by” Drexel to create an endowed scholarship fund in the decedent’s name, per the terms of the attached Letter of Understanding. The Pledge Agreement further stated: “I acknowledge that Drexel’s promise to use the amount pledged by me shall constitute full and adequate consideration for this pledge.”

The court concluded, “In our view, pursuant to the terms of the Pledge Agreement, Drexel provided sufficient consideration by expressly accepting the terms of the Pledge Agreement and by promising to establish the scholarship fund in the decedent’s name.” The court further held that the fact that Mr. Wirth died before the initial gift was transferred into a special account set up by Drexel and therefore the scholarship fund was not yet implemented, did not negate the sufficiency of the promise as consideration to set up the fund. The appellate court held that the pledge agreement was supported by consideration and was therefore enforceable against the estate of Wirth. Based on the promise to Drexel, it was most likely unethical for Mr. Wirth’s estate to deny payment of the pledge amount. In the Matter of Wirth, 14 A.D.3d 572, 789 N.Y.S.2d 69, 2005 N.Y. App. Div. Lexis 424 (Supreme Court of New York, Appellate Division, 2005)

Chapter 12 Capacity and Legality Answers to Critical Legal Thinking Cases 12.1 Minor Yes. Fountain’s estate is liable to Yale under the doctrine of necessaries. The general rule is that a minor child’s contracts are voidable. The rule that a minor’s contracts are voidable, however, is not absolute. An exception to this rule, known as the doctrine of necessaries, is that a minor may not avoid a contract for goods or services necessary for his health and sustenance. Thus, when a medical service provider renders necessary medical care to an injured minor, two contracts arise: the primary contract between the provider and the minor’s parents; and an implied in law contract between the provider and the minor himself. Yale could not recover from Fountain’s mother because she had received a discharge of her debts in bankruptcy. The implied in law contract between the medical services provider and the minor arises from equitable considerations, including the law’s disfavor of unjust enrichment. Therefore, where necessary medical services are rendered to a minor whose parents do not pay for them, equity and justice demand that an implied in law contract arises between the medical services provider and the minor who has received the benefits of those services. These principles compel the conclusion that the estate of Fountain is liable to plaintiff Yale under the doctrine of necessaries for the $17,694 of services rendered by Yale to Fountain. Yale Diagnostic Radiology v. Estate of Fountain, 838 A.2d 179, 2004 Conn. Lexis 7 (Supreme Court of Connecticut, 2004)

12.2 Illegal Contract Yes. The appellate court held that the partnership agreement between Parente and Pirozzoli was an illegal contract and was therefore void and unenforceable. The partnership was formed for an illegal purpose, which was to obtain a liquor license for a bar in Pirozzoli’s name without disclosing to the state liquor commission that issued the license that Parente was also an owner of the business. If Parente’s prior criminal record had been disclosed to the liquor commission the bar would not have been issued a liquor license. The court stated, “Here, the partnership

agreement was not offensive on its face, but had an illegal, ulterior purpose, namely, to evade the strictures of the liquor control laws. Because the partnership agreement was made to facilitate, foster, or support patently illegal activity, we conclude that it is illegal as against public policy….” The court found that the partnership contract had an illegal purpose and refused to enforce the contract. The court left the parties where it found them—Pirozzoli had the liquor license for the business and Parente did not. The court stated, “Although the end result of holding the partnership agreement illegal may be to allow Pirozzoli a windfall at Parente’s expense, this result is common and necessary in many cases in which contracts are deemed unenforceable on the grounds of furthering overriding policies. Knowing that they will receive no help from the courts and must trust completely to each other’s good faith, the parties are less likely to enter an illegal arrangement in the first place.” The appellate court found that Pirozzoli was not liable to Parente, and held that Pirozzoli could keep the $138,000 windfall. Parente v. Pirozzoli, 866 A.2d 629, 2005 Conn. App. Lexis 25 (Appellate Court of Connecticut, 2005)

12.3 Infancy Doctrine Yes, Finish Line’s arbitration agreement is voidable by Lindsey under the infancy doctrine. The general law regarding the validity of minor’s contracts is clear: Minor’s contracts, generally speaking, are voidable. The minor can repudiate such contracts or can elect to claim their advantage. The party contracting with a minor, however, is bound on such voidable contracts if the minor elects to enforce them. Based on the infancy doctrine, because Lindsey was sixteen years old when she began working for Finish Line, her Finish Line employment contract was voidable. Lindsey effectively voided the contract by filing the lawsuit. Filing suit in court effectively repudiated Lindsey’s employment contract with Finish Line. Therefore, the arbitration clause of the employment contract is not enforceable against Lindsey and the plaintiffs can pursue their lawsuit against Finish Line, Inc. in federal court. Stroupes v. The Finish Line, Inc., 2005 U.S. Dist. Lexis 6975 (United States District Court for the Eastern District of Tennessee, 2005)

12.4 Capacity to Contract Yes, Martha M. Carr, because of her mental diseases of schizophrenia and depression lacked the mental capacity to enter into the contract with Raymond C. and Betty Campbell. Schizophrenia

is a psychotic disorder that is characterized by disturbances in perception, inferential thinking, delusions, hallucinations, and grossly disorganized behavior. Depression is characterized by altered moods and diminished ability to think or concentrate. Carr was taking prescription drugs for her mental diseases, which can also affect one’s judgment. In addition, Campbell knew the true value of the property—which was more than $160,000—yet took advantage of Carr by offering to pay only $54,000 for the property. The court stated “This inadequate consideration combined with Carr’s weakness of mind, due to her schizophrenia and depression, makes it inequitable to order specific performance.” The court of appeals held that Carr’s mental diseases of schizophrenia and depression affected her ability to make an informed decision regarding the sale of the property. The court held that Carr did not have to sell her property to Campbell.

Campbell v. Carr, 603 S.E.2d 625, 2004 S.C. App. Lexis 276 (Court of Appeals of South Carolina, 2004)

Answers to Ethics Cases 12.5 Ethics Case No, City Segway Tours of Washington DC, LLC (CST) is not liable to Norman Mero for the injuries he suffered while riding a Segway personal transportation vehicle provided by CST. The court held that the release of liability clause (exculpatory clause) that Mero signed with CST prior to using the Segway vehicle provided by CST for the tour was enforceable. The court found that the release of liability clause was clear and conspicuous. The court held that the release of liability clause waived CST’s liability for negligence. The court found that riding a Segway vehicle did not involve an issue of public interest that would make the release of liability clause ineffectual. The U.S. district court enforced the release of liability clause and granted CST’s motion for summary judgment.

It could be argued that CST, by placing a release of liability clause in its contract, acted unethically. However, release of liability clauses are well recognized by the law, and their use in certain kinds of contracts have been found to be enforceable. Mero did not have to ride the Segway, a personal transportation vehicle, to tour Washington DC. He choose to do so, and signed the release clause. The law provides for not enforcing release of liability clauses if they violate the public interest, but found the clause in this case not to have done so. Mero v. City

Segway Tours of Washington DC, 962 F.Supp.2d 92, 2013 U.S. Dist. Lexis 120304 (United States District Court for the District of Columbia, 2013)

12.6 Ethics An illegal contract is one where the object of the contract is unlawful. Courts have held that where a license is required to practice a profession, a person must have that license before providing services covered by the license. If a person does not have the required license, a contract to provide such services to a client is an illegal contract and therefore void and unenforceable. Here, Elena Sturdza was not licensed to provide architectural services in Washington DC. However, she entered into a contract with the United Arab Emirates (UAE), a country in the Middle East, to provide the architectural design for a new embassy to be built in Washington, D.C., and did provide many architectural services to UAE. Sturdza sued UAE for nonpayment for her architectural services. Here, the court held that Sturdza was not payment from UAE because the contract between Sturdza and UAE was an illegal contract and therefore void. As a decision based on law, it was the correct decision.

The UAE could have voluntarily paid Sturdza for her architectural work. But it did not. Did the UAE act ethically in this case by not paying Sturdza? This is a case where the law is on UAE’s side and stipulates that UAE does not have to pay Sturdza. However, the UAE selected her to provide architectural services, accepted such services, and worked with Sturdza to modify their design. They received the benefit of her work. It seems unethical for the UAE to hire Sturdza and then use the law to avoid making such payments to her. Sturdza v. United Arab Emirates, 11 A.3d 251, 2011 D.C. App. Lexis 2 (District of Columbia Court of Appeals, 2011)

Chapter 13 Genuineness of Assent and Undue Influence

Answers to Critical Legal Thinking Cases 13.1 Unilateral Mistake Yes, Schultz can rescind the contract. A unilateral mistake occurs when only one party to a contract is mistaken about a material fact regarding the subject matter of the contract. A mistake of fact includes a mistake not caused by the neglect of a legal duty on the part of the person making the mistake and a belief in the present existence of a thing material to the contract that does not exist. Generally, a mistaken party will not be permitted to rescind a contract; however, a court will consider any burdens and hardships imposed upon a party.

In this case, the plaintiff believed he was purchasing land on which to build himself a home.

Because the lot was unbuildable, the court found that his mistake of fact was material. Moreover, there was sufficient evidence that the plaintiff exercised at least that degree of diligence that may be expected from a reasonable person. Plaintiff made an on-site inspection of the parcel, had the title searched, and made reasonable efforts to contact governmental bodies involved. Considering the equities, the court held that if the contract were enforced, the plaintiff would bear the hardship of paying an amount in excess of the lot’s value and receiving land which was virtually useless, while the defendant received more than the lot was worth. Thus, the judgment of the lower court allowing rescission was affirmed. Schultz v. County of Contra Costa, California, 157 Cal. App.3d 242, 203 Cal. Rptr. 760, 1984 Cal. App. Lexis 2198 (Court of Appeal of California)

13.2 Fraud The Butners win and may recover for fraud against Deupree. Suppression of a material fact that a party is under an obligation to communicate constitutes fraudulent concealment. This obligation

depends on the relation of the parties, the value of the particular fact, the relative knowledge of the parties, and the particular circumstances of each case. In this case, Mr. Butner testified that he would not have closed on the town home contract if Deupree had disclosed the problems he was having getting the boat slips approved. The court determined that Deupree stood in a special relationship to the Butners, who had no knowledge of any impediments, and that they relied upon Deupree. Therefore, Deupree had an obligation to disclose his knowledge of those impediments at the time he took their money and such failure amounted to fraud, entitling the Butners to damages. Deupree v. Butner, 522 So.2d 242, 1988 Ala. Lexis 55 (Supreme Court of Alabama)

13.3 Undue Influence Yes, the conservator of the estate can cancel the deed transferring the farm to Lawrence. The court found that Conrad was subject to the influence of Lawrence, who was acting in a confidential relationship, that the opportunity to exercise undue influence existed, there was a disposition on the part of Lawrence to exercise such undue influence, and that the conveyance appeared to be the effect of such influence. The court held this was sufficient to establish a prima facie case of undue influence and that Lawrence had the burden of going forward with the evidence. Moreover, the court stated that one of the most important elements in determining whether this presumption can be rebutted is whether the grantor received independent counsel. In affirming the lower court’s judgment in favor of the conservator, the court found that it was apparent that Conrad was not afforded the opportunity to seek independent advice from any source other than Lawrence. Schaneman v. Schaneman, 291 N.W.2d 412, 1980 Neb. Lexis 823 (Supreme Court of Nebraska)

13.4 Duress Yes, Judith can rescind the settlement agreement because it was entered into under duress. In order to establish duress, there must be a wrongful act which compels a person to manifest apparent assent to a transaction without her volition or cause such fear as to preclude her from

exercising her own free will and judgment in the transaction. In such cases, three elements are commonly present: (1) one side involuntarily accepted the terms of another; (2) circumstances permitted no other alternative; and (3) the circumstances were the result of the coercive acts of the opposite party.

Here, the court found that Judith entered into the agreement under such circumstances as to preclude a finding that her actions were the product of her own free will. The contract was presented to her on a take it or leave basis under the threat that she would not receive her property and that she would be prevented from seeing or communicating with her children. With no funds, no clothes, no transportation, and no viable alternative, it is not surprising that the wife capitulated and signed the agreement. The court held that Judith did not enter into the agreement of her own free will and that rescission was appropriate under the circumstances. Eckstein v.

Eckstein, 379 A.2d 757, 1978 Md. App. Lexis 324 (Court of Special Appeals of Maryland)

Answer to Ethics Case 13.5 Ethics Case No. The court of appeal upheld held that Wells Fargo’s unilateral mistake did not entitle it to relief from the judicial sale. Here, Wells Fargo was the only party that committed a mistake at the judicial sale of real property when the paralegal it sent, Harley Martin, misread his bid instructions and bid the wrong amount. The court stated, “We accept the trial court’s conclusion that the amount of the sale was grossly inadequate. This inadequacy, however, occurred due to an avoidable, unilateral mistake by an agent of Wells Fargo. As between Wells Fargo and a good faith purchaser at the judicial sale, the trial court had the discretion to place the risk of this mistake upon Wells Fargo. This result seems harsh to Wells Fargo. Nevertheless, Mr. Martin’s bid was accepted when the clerk announced ‘sold.’” The court of appeal held that Wells Fargo’s unilateral mistake did not entitle it to relief from the judicial sale. Mr. Martin did not act unethically in this case. He showed up at the judicial sale, heard the Wells Fargo bid, and then made a higher bid and won the property. However, Wells Fargo may have acted unethically in trying to undo its unilateral mistake. If there was a rule of law that permitted persons to undo their bargains for unilateral mistakes, it would be almost impossible to apply this rule. How

would anyone know whether there was really a legitimate unilateral mistake? Wells Fargo Credit Corporation v. Martin, 650 So.2d 531, 1992 Fla. App. Lexis 9927 (Court of Appeal of Florida)

Chapter 14 Statute of Frauds and Equitable Exceptions

Answers to Critical Legal Thinking Cases 14.1 Statute of Frauds No, Hoffman and Frey do not win. Pursuant to the Statute of Frauds, an agreement for the sale of real property is invalid unless the agreement or some note or memorandum thereof is in writing and subscribed by the party to be charged. Failure to comply with the Statute of Frauds renders an oral agreement unenforceable both in an action at law for damages and in a suit in equity for specific performance. In this case, the lot sale agreement was never signed by Sun Valley.

Moreover, the letter sent by Hoffman was not sufficient to constitute a memorandum. It did not evidence the maturity date of the note, a point of beginning for the installment payments, the amount of the installment payments, or if and how the note was to be secured. Accordingly, the court affirmed the judgment of the lower court denying specific performance of the oral agreement between the parties. Hoffman v. Sun Valley Company, 628 P.2d 218, 1981 Ida. Lexis 320 (Supreme Court of Idaho)

14.2 Guaranty Contract No, the Wests are not liable on the guaranty contract. It is well settled that an agreement to guarantee the debt of another must be in writing. In this case, the lower court found that the bank reasonably relied on Mr. West’s statements and applied the doctrine of equitable estoppel to find that the Wests were liable under the guarantee. The Supreme Court of Idaho, however, held that the bank could not have relied on the oral statements made by Mr. West because the bank was in the business of making loans to its customers on a regular basis and knew, or should have

known, that a guarantee for the debt of another had to be in writing. Moreover, the court held that there was no meeting of the minds between the Wests and the bank, and without such a meeting of the minds there is no enforceable contract. Accordingly, the court held that the bank simply jumped the gun in giving Brown the loan and that the Wests were not liable as guarantors on the loan. First Interstate Bank of Idaho, N.A. v. West, 693 P.2d 1053, 1984 Ida. Lexis 600 (Supreme Court of Idaho)

14.3 Sufficiency of the Writing No, Knight is not correct; the writing was sufficient to satisfy the Statute of Frauds. The terms that are essential to the Statute of Frauds include the subject matter, the price, and the parties against whom enforcement is being sought. The court held that all terms were present, which the handwritten memorandum was sufficient without being typed, and that Knight’s initials, as opposed to a full signature, were sufficient to comply with the Statute of Frauds. Levin v. Knight, 865 F.2d 1271, 1989 U.S. App. Lexis 458 (United States Court of Appeals for the Ninth Circuit)

Answer to Ethics Case 14.4 Ethics Case The court ruled in favor of the son. Delaware law requires both an interest in land and a testamentary disposition to be in writing. Neither requirement is met by the father’s oral promise.

But if there is clear and convincing proof of part performance an exception to the writing requirement makes the oral promise enforceable. The evidence clearly shows that the son fully performed his obligation, and thus, provided consideration for the father’s promise creating an oral contract. Because of the son’s performance, the part performance exception applies. Because of the doctrine of part performance, the oral contract is enforceable even though it is not in writing. The daughter probably acted ethically in trying to defeat her father’s promise to leave the real property to her brother. She could have rejected the real property that was left to her in her father’s will. The son probably did not act unethically in trying to enforce his father’s oral

promise to transfer real property to him. The son performed as his father requested and should obtain the real estate based on that promise. Shepard v. Mozzetti, 545 A.2d 621, 1988 Del. Lexis 217 (Supreme Court of Delaware)

Chapter 15 Third-Party Rights and Discharge

Answers to Critical Legal Thinking Cases 15.1 Intended or Incidental Beneficiary Ramos/Carson/DePaul (RCD) was an incidental beneficiary of the Phillies-DH agreement. RCD was not an intended beneficiary of the Philadelphia Phillies Agreement with Driscoll/Hunt Joint Venture (DH). The court held that because RCD was merely an incidental beneficiary of the Phillies—DH Agreement, the Phillies could not be held liable to RCD. RCD had not proffered any evidence to show that the Phillies and DH intended to give RCD the right to demand payment directly from the Phillies. There is no evidence showing that either the Phillies or DH intended to benefit RCD or the other subcontractors in drafting the Agreement’s payment provisions. Since RCD has failed to show that it was an intended third—party beneficiary of the Agreement between the Phillies and DH, RCD’s breach of contract claim against the Phillies was dismissed. The court held that RCD was not an intended beneficiary of the Phillies—DH Agreement, but instead was an incidental beneficiary to the Agreement and therefore had no right to sue the Phillies as a third—party beneficiary. Ramos/Carson/DePaul, a Joint Venture v.

The Phillies, L.P., 2008 Phila. Ct. Com. Pl. Lexis 282 (Common Pleas Court of Philadelphia County, Pennsylvania, 2008)

15.2 Third-Party Beneficiary Lucas wins and may recover the $75,000 from Hamm. Generally, contracts made expressly for the benefit of a third person are enforceable. However, enforcement by persons who are only incidentally or remotely benefited is not permissible; intent to benefit a third person must be shown. Moreover, no specific manifestation of such intent is required. It is sufficient that the promisor understood that the promisee had such intent.

The liability to a third party is also a matter of policy involving the balancing of many factors. Such factors included the extent to which the transaction was intended to affect the plaintiff, the foreseeability of harm to him, the degree of certainty that plaintiff suffered injury, closeness of the connection between the defendant’s conduct and the injury suffered, and prevention of future harms. In this case, the court found that the main purpose of the transaction between the defendant and the testator was to provide for the transfer of property to the plaintiff, that the damage to the plaintiff was foreseeable, and that it was certain that upon the testator’s death the plaintiff would have received the property contemplated, absent negligence of the defendant. The court concluded that if persons such as the plaintiff were not permitted to recover for such negligence, no one would be able to do so, and the policy of preventing future harm would be impaired. Accordingly, the court held that the intended beneficiary of a will, who loses his testamentary rights because of the failure of an attorney to properly draft the will, can recover as a third-party beneficiary. Lucas v. Hamm, 56 Cal.2d 583, 364 P.2d 685, 15 Cal. Rptr. 821, 1961 Cal. Lexis 321 (Supreme Court of California)

15.3 Assignment Yes, Cunningham’s contract was validly assigned to the new owners. Generally, a personal service contract requiring special skills, and based upon the personal relationship between the parties cannot be assigned without the consent of the party rendering the services. However, where the character of the performance will not be changed, such contracts are assignable. The policy against assignability of personal service contracts is to prohibit an assignment in which the obligor undertakes to serve only the original obligee. In this case, the court found that the rendition of services by Cunningham could not have been affected by the personalities of successive corporate owners. Cunningham was not obligated to perform differently for the plaintiffs than he was for the Southern Sports Club. Accordingly, the court held that the contract was assignable to the new owners under the facts presented. Munchak Corporation v.

Cunningham, 457 F.2d 721, 1972 U.S. App. Lexis 10272 (United States Court of Appeals for the Fourth Circuit)

15.4 Delegation of Duties Milford wins and McKinnie must permit the stud services of Hired Chico provided in the Milford-Stewart agreement. In Texas, a party to a contract may perform his duty through a delegate by assigning or transferring the contract to a third party unless the other party has a substantial interest in having his original promisor perform or control the acts required by the contract. Moreover, all rights of a buyer can be assigned except where the assignment would materially change the duty of the other party, increase materially the burden of risk imposed on him by his contract, or impair materially his chance of obtaining return performance.

A general assignment of the contract will assign the rights and delegate the performance of the duties of the assignor, and its acceptance by the assignee constitutes a promise by him to perform those duties. This promise is enforceable by either the assignor or the other party to the contract, and the assignee becomes liable for the contractual performance of the original buyer, even though the original buyer remains liable on the contract. In this case, the court found that because none of the above exceptions apply, Stewart was permitted to delegate his duty of making the horse available to Milford and that McKinnie’s acceptance, with full knowledge of the contractual obligations, constitutes a promise by McKinnie to perform those duties.

Accordingly, the court held that Stewart’s promise is enforceable by Milford and that McKinnie must permit the stud services of Hired Chico as provided in the Milford-Stewart agreement.

McKinnie v. Milford, 597 S.W.2d 953, 1980 Tex. App. Lexis 3345 (Court of Appeals of Texas)

15.5 Condition Pace wins the lawsuit and does not have to pay OBS. Until a condition precedent is satisfied, the other terms of the contract are not enforceable. In most subcontract agreements, payment by the owner to the contractor is not intended to be a condition precedent to the contractor’s duty to pay the subcontractor. In order to properly shift the risk to the subcontractor, the subcontract must unambiguously express such an intention. In this case, the subcontract clearly states that payment from the owner shall be a condition precedent to the contractor’s obligation to make final payment to the subcontractor. Accordingly, the court held that OBS must bear the risk of

nonpayment by the owner. Pace Construction Corporation v. OBS Company, Inc., 531 So.2d 737, 1988 Fla. App. Lexis 4020 (Court of Appeal of Florida)

Answer to Ethics Case 15.6 Ethics Case Glueck wins. To determine whether satisfaction has been received pursuant to a contract that conditions a party’s duty of performance upon his own satisfaction, courts will apply either a good faith standard or a reasonable person standard. Under the reasonable person standard, dissatisfaction cannot be claimed arbitrarily, capriciously, or unreasonably. Satisfaction is received if a reasonable person in exactly the same circumstances would be satisfied. This standard is employed when a contract involves commercial quality, operative fitness, or mechanical utility that other persons can judge.

Under the good faith standard, the recipient of the work performed must be genuinely satisfied. This includes subjective satisfaction, although the mere statement by the recipient that he is dissatisfied is not conclusive. Most courts will recognize the recipient’s dissatisfaction only when he is honestly, even though unreasonably, dissatisfied and acts in good faith. The good faith standard is employed when the contract involves personal aesthetics or fancy. In this case, the construction of a parking lot concerns commercial quality and operative fitness rather than personal aesthetics. Therefore, the court applied the reasonable person standard and held that Tri-City breached the agreement by unreasonably withholding approval. In this case, it seems that Tri-City acted unethically by asserting the personal satisfaction standard in rejecting the plans, when in fact this standard did not apply to the facts of the case. Indiana Tri-City Plaza Bowl, Inc. v. Estate of Glueck, 422 N.E.2d 670, 1981 Ind. App. Lexis 1506 (Court of Appeals of Indiana)

Chapter 16 Breach of Contract and Remedies Answers to Critical Legal Thinking Cases 16.1 Liquidated Damages Yes, the liquidated damage clause is enforceable and 845 UN Limited Partnership (845 UN) may keep the $8 million down payments paid by Cem Uzan and Hakan Uzan for condominiums to be built by 845 UN as liquidated damages because of their breach of the contract. A liquidated damages clause is a clause in a contract that stipulates the damages that will be paid by a breaching party. Here, there was a liquidated damage clause in the contract between the builder and the buyers that permitted the builder to keep the buyer’s down payment as liquidated damages if the buyer breached the contract and failed to purchase the condominiums sold by 845 UN. The court found the liquidated damage not to be a penalty. The supreme court of New York, appellate division, sided with 845 UN and held that Cem and Hakan had breached their contract with 845 UN and that 845 UN was entitled to keep the 25 percent down payment as liquidated damages. The appellate court of New York affirmed the decision. Uzan v. 845 UN Limited Partnership, 10 A.D. 3d 230, 778 N.Y.S.2d 171, 2004 N.Y. App. Div. Lexis 8362 (Supreme Court of New York, Appellate Division, 2004)

16.2 Specific Performance Yes, C&H can recover the liquidated damages from Sun Ship. Contracts are contracts because they contain enforceable promises, and absent some overriding public policy, those promises are to be enforced. Here there was a liquidated damage clause entered into by two experienced businesses. They could have each assessed the value of the risk in this case. C&H faced an uncertain loss if Sun Ship did not deliver the boat at the agreed-upon time. C&H’s loss, should the boat not be delivered in time, could have been the loss of an entire season’s crop. Therefore,

the parties placed in their contract a liquidated damage clause that would protect C&H from reasonably estimated economic loss should Sun Ship fail to perform the contract on time. Proof of this possible future loss is difficult. Whatever the loss, the parties had promised each other that $17,000 per day was a reasonable measure. Where each of the parties is content to take the risk of the contract turning out in a particular way, a contracting party should not be released from the contract in the face of no misrepresentations or other want of fair dealing. Here, Sun Ship agreed to pay liquidated damages of a fixed amount after assessing its risks. Merely because the other party, C&H, figured out a way to have its sugar transferred from Hawaii to the processing plants in California while incurring slight actual damages does not relieve Sun Ship from its bargain. In this case, there is no evidence that the liquidated damage clause is a penalty. On the contrary, it was agreed upon by two experienced parties. Therefore, the liquidated damage clause should be enforced against Sun Ship. Therefore, C&H should be awarded the $4,413,000 in liquidated damages plus interest. California and Hawaiian Sugar Company v. Sun Ship, Inc., 794 F.2d 1433, 1986 U.S. App. Lexis 27376 (United States Court of Appeals for the Ninth Circuit)

16.3 Damages Yes, Microform materially breached its contract with Hawaiian Telephone. When a contract provides for a definite time for performance, failure to meet the deadline is a material breach of the contract. In this case, Microform was unable to design a system that handled 15,000 calls per hour with one second response time by the mid-February deadline. The court held that the failure to meet the delivery deadline was a material breach and that such inability to meet the contract specifications was a further breach. Accordingly, the court upheld the lower court’s judgment awarding breach of contract damages to Hawaiian Telephone. Hawaiian Telephone Co. v.

Microform Data Systems Inc., 829 F.2d 919, 1987 U.S. App. Lexis 13425 (United States Court of Appeals for the Ninth Circuit)

16.4 Damages Yes, Gundersons can recover the lost profits on the remaining two-thirds of the contract to build the golf course. A contractor is entitled to recover, from a breaching defendant, damages sufficient to place it in the position in which it would have been had the breach not occurred, including any incidental or consequential damages caused by the breach. Moreover, lost profits

may be awarded if they are shown with reasonable certainty and are not speculative, remote, or imaginary. In this case, the court concluded that the lost profit damages were shown with reasonable certainty where the president broke down the project into various components and testified as to separate costs to complete each part.

The court also held that where the nonbreaching party maintained a long-term lease for equipment used on the project and such equipment was left idle due to the breach, consequential damages were appropriate. Moreover, because a nonbreaching party is under a duty to use reasonable means to avoid loss and damage, consequential damages were awarded for costs incurred in attempting to mitigate damages by seeking substitute golf course construction contracts. Accordingly, Gundersons may collect for both lost profits and consequential damages.

Gundersons, Inc. v. Ptarmigan Investment Company, 678 P.2d 1061, 1983 Colo. App. Lexis 1133 (Court of Appeals of Colorado)

Answer to Ethics Case 16.5 Ethics Case Yes, an order of specific performance is an appropriate remedy in this case. Specific performance may be decreed where the goods are unique or in other circumstances where money damages do not adequately compensate the plaintiff. In this case, the court found that the uniqueness of Claiborne’s cosmetics line, including its distinctive package, is obvious.

Moreover, the court found that money damages would not adequately compensate Claiborne for such intangibles as how the destruction of the Claiborne cosmetic line will affect the other business carried on under the Claiborne name. The closing of a much-publicized venture and its failure to supply stores would do nothing to enhance its reputation with suppliers, distributors, retailers, and customers. Therefore, the court held that money damages would be inadequate to compensate Claiborne for damages to its reputation and ordered Avon to fill and deliver in a timely and diligent fashion, all purchase orders placed by Claiborne in accordance with the contract. Avon acted unethically in refusing to complete its obligations under its contract with Claiborne. Liz Claiborne, Inc. v. Avon Products, Inc., 141 A.D.2d 329, 530 N.Y.S.2d 425, 1988 N.Y. App. Div. Lexis 6423 (Supreme Court of New York)

16.6 Ethics Case Yes. Gallant Insurance Company is liable for a bad faith tort. The court found Gallant liable for a bad faith tort for not settling insured Narvaez’s against claim against it within the $20,000 limit of Narvaez’s insurance policy. The court noted that when O’Neill sued Narvaez and her insurance company Gallant, plaintiff O’Neill was willing to settle the claim by being paid $20,000 from Gallant. Gallant, even after being advised by its lawyer, its claims manager, and several of its insurance adjusters, refused to pay this amount and went to trial, where a jury assessed liability and issued a judgment for $711,063 against Narvaez and her insurance company Gallant. Gallant paid its insurance limits of $20,000 and left its insured, Narvaez, responsible for the remainder. If Gallant had originally settled the case for the policy limit of $20,000, Narvaez would not have been liable for damages. The appellate court stated: “Where an insurer is pursued for its refusal to settle a claim, ‘bad faith’ lies in an insurer’s failure to give at least equal consideration to the insured’s interests when the insurer arrives at a decision on whether to settle the claim.” The court sided with O’Neill and against Gallant on the extent to which the evidence established the existence of reprehensible conduct on the part of Narvaez’s insurance provider. The court held that Gallant was liable for a bad faith tort and awarded O’Neill $710,063 in actual damages and $2.3 million in punitive damages.

This is a case where, by finding Gallant liable for a bad faith tort, the court has also decided that Gallant acted unethically. Gallant owed a fiduciary duty to its insured Narvaez to take into consideration her interests as while as its interests in deciding whether to settle the case. Here, Gallant ignored the interests of Narvaez when it refused to settle the case for $20,000, as recommended by many of its executive and expert employees. O’Neill v. Gallant Insurance Company, 769 N.E.2d 100, 2002 Ill. App. Lexis 311 (Appellate Court of Illinois, 2002)

Chapter 17 Digital Law and E-Commerce

Answers to Critical Legal Thinking Cases

17.1 Cybersquatting Ernest & Julio Gallo Winery (Gallo) wins. Gallo registered the trademark “Ernest & Julio Gallo” in 1964 with the United States Patent and Trademark Office (PTO). The company spent over $500 million promoting its brand name and sold more than 4 billion bottles of wine. Its name has taken on a secondary meaning as a famous trademark name. Spider Webs, which registered the domain name ernestandjuliogallo.com, and its owners Steve, Pierce, and Fred Thumann, argue that they did not act with a “bad faith intent to profit,” which is required to find a violation of the federal Anticybersquatting Consumer Protection Act (ACPA). Spider Webs has no intellectual property rights or trademark in the name “ernestandjuliogallo,” aside from its registered domain name. The domain name does not contain the name of Spider Webs or any of its owner defendants. Spider Webs had no prior use or any current use of the domain name in connection with the bona fide offering of goods or services. Steve Thumann admitted that the domain name was valuable and that they hoped Gallo would contact them so that they could “assist” Gallo in some way. There is uncontradicted evidence that Spider Webs was engaged in commerce in the selling of domain names and that they hoped to sell this domain name someday. In sum, the factors support a finding of bad faith. The U.S. Court of Appeals held that the name Ernest and Julio Gallo was a famous trademark name and that Spider Web Ltd. and the Thumanns acted in bad faith when they registered the Internet domain name ernestandjuliogallo.com. The court ordered the defendants to transfer the domain name to plaintiff E. & J. Gallo Winery. E. & J. Gallo Winery v. Spider Webs Ltd., 286 F.3d 270, 2002 U.S. App. Lexis 5928 (United States Court of Appeals for the Fifth Circuit, 2002)

17.2 Internet Service Provider No, GTE Corporation, the ISP, is not liable for damages to the plaintiff football players. Part of the federal Communications Decency Act of 1996 provides: “No provider or user of an interactive computer service shall be treated as the publisher or speaker of any information provided by another information content provider.” Just as the telephone company is not liable as an aider and abettor for recordings or narcotics sold by phone, and the Postal Service is not liable for recordings sold and delivered by mail, so a Web host cannot be classified as an aider and abettor of criminal activities conducted through access to the Internet. GTE is not a “publisher or speaker.” Therefore, GTE cannot be liable under any state law theory to the persons harmed by Franco’s material. Thus, GTE Corporation, the ISP, is not liable for the nude video-recordings of the football players transmitted over its system by Franco Productions. John Doe v. GTE Corporation, 347 F.3d 655, 2003 U.S. App. Lexis 21345 (United States Court of Appeals for the Seventh Circuit, 2003)

17.3 E-Mail Contract West Coast Steel Company wins. Contracts can be legally negotiated and completed by e-mail as long as they meet the requirements necessary to form a traditional contract. This includes capacity, lawful object, agreement, and consideration. The element of capacity is met because both parties are businesses, and the object of the contract, the purchase of steel, is a lawful object. Consideration exists because the buyer, Little Steel Company, would be paying money and West Coast Steel Company would be delivering steel. An agreement is reached by exchanging e-mails. Exchanging e-mails is an acceptable method of negotiating and entering into a sales agreement. Thus, the traditional elements of forming a contract are met by the exchange of e-mails between the parties. Little Steel Company’s bases its rejection of the shipment of steel

by West Coast Steel Company by alleging the defense of the Statute of Frauds. Little Steel Company argues that an e-mail contract, which is electronic, is not in writing according to the Statute of Frauds and is therefore unenforceable. The U.S. Congress has enacted the Electronic Signatures in Global and National Commerce Act (E-SIGN Act). This federal law recognizes

that electronic contracts meet the writing requirement of the Statute of Frauds. Thus, the contract can be enforced against Little Steel Company.

17.4 Electronic Signature Yes. David’s electronic signature is enforceable against him. David Abacus used the Internet and placed an order to license software for his computer from Inet.License, Inc. (Inet), through Inet’s electronic website ordering system. David received the software program from Inet and installed it on his computer. When he refused to pay for the license, he justified his refusal by arguing that his electronic signature was not a valid signature under the Statute of Frauds. The U.S. Congress has enacted the Electronic Signatures in Global and National Commerce Act (E-SIGN Act). This federal law stipulates that electronic signatures meet the signature requirement of the Statute of Frauds. The E-SIGN Act recognizes electronic signatures (e-signatures) and gives an e-signature the same force and effect as a pen-inscribed signature on paper. Here, a web license between the parties has been formed and the electronic signature is valid. Therefore, the web license is enforceable against David.

Answers to Ethics Cases

17.5 Ethics Case Macy’s Inc., the ExxonMobil Corporation, and the General Motors Corporation win.

BluePeace.org has used domain names that include all three of these company’s trademarked names. Not only has BluePeace used their trademarked names, but it has used additional information in the domain names that cause tarnishment to the company’s names. In addition, the content on the websites significantly disparage the products of these companies. The U.S. Congress enacted the Anticybersquatting Consumer Protection Act (ACPA), a federal law specifically aimed at parties who misappropriation other’s domain names. The act has two fundamental requirements: (1) the name must be famous and (2) the domain name must have

been registered in bad faith. In this case the first element is met because the names “Macy’s,” “Exxon,” and “General Motors” are famous trademarked names. The second issue is whether the famous names have been registered in bad faith. The registered domain names used the companies’ trademarked names. BluePeace has no connection with these names. Here, BluePeace has registered the domain names in bad faith in violation of the ACPA. BluePeace.org, an environmental organization, may have its opinion as to the unethical conduct it believes the three companies have engaged in. But it cannot steal the companies’ trademarked names to draw attention its cause. BluePeace may have thought they were doing society well by pointing out what it thinks is inappropriate conduct by the targeted companies.

However, BluePeace cannot break the law in asserting its position. BluePeace can engage in other lawful activities to draw attention to its grievances against the target companies.

17.6 Ethics Case Apricot.com wins. Bates licensed Apricot.com’s software “Match” for a period of five years with a license fee of $200 per month. Bates did not pay Apricot.com the required monthly licensing fee for any of the three months he used the software. After using the Match software but refusing to pay Apricot.com its licensing fee, Apricot.com activated the disabling bug in the software and disabled the Match software on Bates’ computer. The disabling of a software program for nonpayment of license fees is an appropriate self-help remedy that software licensors may use where there has been a breach of the license agreement. However, to be lawfully used, the disabling cannot cause physical harm to a person or cause damage to other software programs and data that the user may have stored on his computer. Here, there is no evidence of such damage. Therefore, Apricot’s disabling of its software on Bates’ computer is lawful.

Bates breached the contract. If he had good reason not to pay for the software program (e.g., it did not work properly, fraud) then his actions would be justified. However, without evidence of any problem with the software or fraudulent or unethical conduct by Apricot.com, Bates has breached the contract and his ethical duty to perform the contract.

Chapter 18 Formation of Sales and Lease Contracts

Answers to Critical Legal Thinking Cases 18.1 Good or Service No, Article 2 does not apply to this transaction. Article 2 applies solely to transactions in goods.

Sometimes a sale involves the provision of service and a good. This is called a mixed sale.

Article 2 only applies if the provision of the good is the predominant part of the transaction.

Courts decide whether a given transaction is primarily for goods or services based upon the facts of the case. In this situation, the court held that the contract was primarily one for services. The contract described the transaction as a furnishing of labor and materials. The contract also stated that Stylarama was to construct the pool and install a vinyl liner. Because Article 2 of the UCC does not cover service contracts, Gulash was not able to recover against Stylarama by referring to the UCC. Gulash v. Stylarama, 364 A.2d 1221, 1975 Conn. Super. Lexis 209 (Superior Court of Connecticut)

18.2 Battle of the Forms No, the clauses in the delivery memo were not part of the contract. Because the court found Miller and Newsweek to be merchants in regards to photographs, UCC Section 2-207 applies. If two merchants negotiate a sales contract and then exchange preprinted forms, the additional terms materially alter the original contract. In this case, the court held that a valid contract had been formed between Newsweek and Miller during their phone conversation. The two parties had agreed on the price of the photographs, the delivery date, and the terms, i.e., Newsweek was to pay for each photo used. The delivery memo contained terms additional to the original contract.

The court held that the additional terms materially altered the contract because Newsweek probably would not have agreed to them in the original contract, and they would work a great

hardship upon Newsweek. The court did not believe that Newsweek would agree to pay over $100,000 if it accidentally lost the photos. Because the inclusion of this term was a unilateral action by Miller, the court held that it materially altered the original contract. Applying UCC 2-207, additional terms do not become part of contracts between merchants if they materially alter the contract. Therefore, Miller was not able to collect $1,500 a piece for the missing photos.

Miller v. Newsweek, Inc., 660 F.Supp. 852, 1987 U.S. Dist. Lexis 4338 (United States District Court for the District of Delaware)

18.3 Open Terms Yes, a valid sales contract had been formed. Under the UCC, a contract does not fail for indefiniteness if (1) the parties intended to form a contract, and (2) there is a reasonably certain basis for giving an appropriate remedy. The UCC allows “open terms” to be determined at a later date. One such open term is the price, which may be determined by a market rate. If the market price is not available, the court will imply a reasonable price. The court did not agree with Schmieding’s claim that the contract was void for indefiniteness. The court found that the contract specified the type of potatoes ordered, the quantity in terms of acreage, and the approximate delivery date. Market prices for commodities like potatoes are readily available from government agencies. The court determined that the parties had intended to form a contract, and that it was possible to supply any open terms in that contract. Although this agreement would have been too indefinite under the common law, the appellate court found it to be a valid contract under the UCC. H. C. Schmieding Produce Co. v. Cagle, 529 So.2d 243, 1988 Ala. Lexis 284 (Supreme Court of Alabama)

18.4 Good or Service Cedars-Sinai Medical Center wins. The court held that the installation of a pacemaker by a hospital is not the sale of a good that is subject to Article 2 (Sales) of the Uniform Commercial Code (UCC). The surgical operation performed at Cedars-Sinai was primarily the provision of a service and not the sale of a good. A physician’s services depend upon his skill and judgment

derived from his specialized training, knowledge, experience, and skill. A doctor diagnosing and treating a patient normally is not selling a product. A hospital is not ordinarily engaged in the business of selling any of the products or equipment it uses in providing its medical services. The essence of the relationship between a hospital and its patients does not relate essentially to any product or piece of equipment it uses but to the professional services it provides. The treatment provided by Cedars-Sinai in relation to implantation of pacemakers includes pre- and postoperative care, nursing care, a surgical operating room, and technicians. As a provider of services rather than a seller of a product, the hospital is not subject to liability under Article 2 (Sales) for a defective product provided to the patient during the course of his treatment. Therefore, CedarsSinai is not liable for breach of warranty under the UCC Article 2 (Sales) because the UCC does not apply. Hector v. Cedars-Sinai Medical Center, 180 Cal.App.3d 493, 225 Cal. Rptr. 595, 1986 Cal. App. Lexis 1523 (Court of Appeal of California)

Answers to Ethics Cases 18.5 Ethics Case Perschke wins the suit. The contract between Perschke and Sebasty is not unenforceable due to the Statute of Frauds because the statute can be satisfied by a written confirmation. When both parties to an agreement are merchants, the Statute of Frauds is met if (1) one of the parties to an oral agreement sends a written confirmation of the sale to the other party within a reasonable time and (2) the other party does not give written notice of an objection to the contract within 10 days of receiving the confirmation. In this case, the court held that the memorandum sent by Perschke’s office manager was a written confirmation. Because the memorandum was sent on the same day Perschke had his phone conversation with Sebasty, it was sent within a reasonable time. Finally, there was no evidence that Sebasty had ever made a written objection to the contract. Because Perschke’s memorandum was a written confirmation of an oral sales contract that Sebasty did not object to, the Statute of Frauds did not bar his claim against Sebasty. It was not unethical for Perschke to raise the UCC confirmation rule in this case. The UCC has established clear rules regarding the written confirmation rule. Sebasty could have protected itself if it had made a reasonable objection to Perschke’s written confirmation of the oral

agreement between the parties. Sebasty v. Perschke, 404 N.E.2d 1200, 1980 Ind. App. Lexis 1489 (Court of Appeals of Indiana)

18.6 Ethics Case Coronis wins the lawsuit; the UCC recognizes an acceptance to the common law rule that allows an offeror to revoke his offer any time prior to its acceptance. This exception is known as the firm offer rule. This rule provides as follows: If a merchant offers to buy or sell goods and gives a written and signed assurance on a separate form that the offer will be held open, the offeror cannot revoke the offer for the time stated, or if no time is stated, then for a reasonable time. In this situation, the court held that the firm offer rule did not apply. Although the letter from Coronis to Gordon may have been a signed form sent between merchants, it only quoted a price.

The letter gave no assurance that the bid would be held open. In order for the firm offer rule to apply, the offeror must explicitly state that the offer will be held open. Because they had made no such statements, Coronis had properly revoked its offer on June 1. The question of whether Coronis act unethically in withdrawing its offer is questionable. However, since both sides knew the rules of the UCC, and knew that Coronis had the right to withdraw the offer, Coronis did not act unethically in making the decision to withdraw its offer. E. A. Coronis Associates v. Gordon Construction Co., 216 A.2d 246, 1966 N.J. Super. Lexis 368 (Superior Court of New Jersey)

Chapter 19 Title to Goods and Risk of Loss Answers to Critical Legal Thinking Cases 19.1 Conditional Sale Prewitt wins. Prewitt is not responsible for the loss of the coins in the mail. The delivery of coins by seller Numismatic to buyer Prewitt was a “sale on approval.” Under the provisions of the Uniform Commercial Code (UCC) relating to risk of loss in a sale on approval contract, the risk of loss remains with the seller. Numismatic shipped the coins to Prewitt through the U.S. Postal Service and Numismatic gave no instructions to Prewitt on the method of return. Since the parties had not expressly agreed upon a method of return, Prewitt’s use of the U.S. Postal Service to return the coins was justified. There was no implied duty for Prewitt to ship the goods fully insured by Federal Express. In this sale on approval contract, Numismatic, the owner of the coins, bore the risk of their loss during the return shipment from Prewitt. Prewitt is not liable for the loss of the coins. Prewitt v. Numismatic Funding Corporation, 745 F.2d 1175, 1984 U.S. App. Lexis 17926 (United States Court of Appeals for the Eighth Circuit)

19.2 Identification of Goods Yes, the fire truck was identified to the sales contract. Until a seller identifies goods to a sales contract, title to the goods remains with the seller. Identification means that the goods in the contract have been distinguished from the seller’s other goods. Identification can occur in different ways. The good sold can be specifically named in the contract. In the case of a good that is part of a large mass of goods, the good is identified when the seller explicitly separates or designates the good sold to the buyer. In this case, the court held that the fire truck had been identified to the contract when Hamerly painted the fire department’s name on the cab. By painting the fire department’s name on the truck, Hamerly, as the seller, was distinguishing this particular truck from other trucks they owned. This had the effect of separating or designating the specific item sold to the fire department. Because the specific truck sold had been

distinguished from the seller’s other trucks, the court held that the goods had been identified to the contract. Big Knob Volunteer Fire Co. v. Lowe and Meyer Garage, 487 A.2d 953, 1985 Pa. Super. Lexis 5540 (Superior Court of Pennsylvania)

19.3 Entrustment Rule Ryan has a valid title to the house. The UCC provides that: where an owner entrusts the possession of his or her goods to a merchant who deals in goods of that kind, the merchant has the power to transfer all rights (including title) to the goods to a buyer in the ordinary course of business. The real owner cannot reclaim goods from this buyer. The court in this case found that MMM was a dealer in respect to prefabricated homes. On at least seven occasions MMM had sold Fuqua modular houses to retail customers. Ryan was a buyer in the ordinary course of business because he had no knowledge of the security interest Fuqua held in the house that MMM sold to him. Because MMM was a merchant of prefabricated homes, they were able to transfer title to Ryan as a buyer in the ordinary course of business. Ryan now holds title to the home and Fuqua cannot reclaim it. Fuqua Homes, Inc. v. Evanston Bldg. & Loan Co., 370 N.E.2d 780, 1977 Ohio App. Lexis 6968 (Court of Appeals of Ohio)

19.4 Risk of Loss A. M. Knitwear wins the case, and All America must pay for the stolen yarn. A contract that specifies the delivery terms F.O.B. point of shipment is a shipment contract. An F.O.B. point of shipment contract requires that the seller place the goods in the carrier’s possession. The seller bears the expense and risk of loss until the goods are placed in the carrier’s possession. If the goods are destroyed during transportation, the risk of loss falls on the buyer. The court in this case held that even though the term F.O.B. seller’s plant was used in reference to price, this was enough to make the agreement a shipment contract. When Knitwear placed the yarn in the possession of the truck, the risk of loss passed from Knitwear to All America. Because the yarn was stolen when All America bore the risk of loss, All America must pay for the yarn. A. M. Knitwear v. All America, Etc., 41 N.Y.2d 14, 359 N.E.2d 342, 390 N.Y.S.2d 832, 1976 N.Y. Lexis 3201 (Court of Appeals of New York)

Answer to Ethics Case

19.5 Ethics Case Michaels Jewelers has valid title to the stolen jewelry. It is true that a good faith purchaser for value can obtain valid title to goods from a seller who only has voidable title to them. However, a good faith purchaser cannot obtain valid title to goods sold by a seller who has void title to them. A thief only has void title to the goods he has stolen. The buyer of a good from a seller who has void title to that good cannot obtain valid title against the original owner. In this case, Torniero had stolen jewelry from Michaels. This meant that Torniero only had void title to the jewels. Even though G&W was a good faith purchaser of the goods, they could not obtain valid title to them. The court held that the original owner of the jewelry, Michaels Jewelers, had title to the goods and returned the jewelry to it.

Of course John Torniero acted illegally and unethically when he stole the jewelry. G&W did not have knowledge that the jewelry was stolen when it purchased the jewelry from Torniero, so therefore G&W did not act unethically in this case. However, even though G&W did not act unethically, it ends up bearing the loss by having to return the jewelry to Michaels Jewelry, the rightful owner. United States v. Micheals Jewelers, Inc., 42 UCC Rep. Serv. 141, 1985 U.S. Dist.

Lexis 15142 (United States District Court for the District of Connecticut)

19.6 Ethics Case The farmers own the tractors. The UCC provides that if an owner of goods entrusts those goods with a merchant who deals in the goods of that kind, the owner empowers that merchant to pass title to the goods to a purchaser in the ordinary course of business. Executive allowed MohrLoyd Leasing, a party who dealt in the leasing of farm equipment, to retain possession of the tractors. This constituted an entrusting. Thus, Mohr-Loyd Leasing was empowered to pass title to the tractors to purchasers in the ordinary course of business. The farmers who purchased the tractors from Mohr and Loyd were such purchasers. Therefore, the farmers received good title.

Mohr and Loyd did not act ethically in this case. They took tractors owned by Executive but that were left in their possession and sold the tractors to farmers who paid Mohr and Loyd money, which they kept. Executive Financial Services, Inc. v. Pagel, 715 P.2d 381, 1986 Kan. Lexis 290 (Supreme Court of Kansas)

Chapter 20 Remedies for Breach of Sales and Lease Contracts Answers to Critical Legal Thinking Cases 20.1 Nonconforming Goods Hartz wins the lawsuit based upon the buyer’s right to reject nonconforming goods. Sales transactions are subject to the perfect tender rule. This rule states that the seller is under a duty to deliver conforming goods. If the goods or tender of delivery fails in any way to conform to the contract, the buyer may elect to reject the whole shipment, accept the whole shipment, or reject part and accept part. The court held that Coleman had violated the perfect tender rule by shipping soybeans with a 65 percent germination level, instead of the contracted 80 percent level. Thus, because the soybeans failed to conform to the contract, Hartz elected to reject the entire shipment. The Appellate Court ruled that Hartz’s action was appropriate, based upon the buyer’s right to reject nonconforming goods. Jacob Hartz Seed Co. v. Coleman, 612 S.W.2d 91, 1981 Ark. Lexis 1153 (Supreme Court of Arkansas)

20.2 Right to Cure Grady wins the lawsuit. When the buyer rejects a nonconforming tender where the seller had reasonable grounds to believe that it would be accepted by the buyer, the seller may have additional “reasonable time” to substitute a conforming tender if he reasonably notifies the buyer. Reasonable time is determined on a case-by-case basis. Thompson objected to the trial court’s decision that Grady had not given Thompson a reasonable time to cure the nonconforming tender, the defective Chevette. The court held that since Thompson believed that Grady would accept the car, Thompson had a reasonable time to cure the defect. In the court’s opinion, since Grady had allowed Thompson over two months to repair the car, there was an adequate opportunity for Thompson to cure the defect. Subsequently, when Thompson was unable to repair the Chevette in this two-month period, Grady was able to revoke the sales

contract. The Appellate Court affirmed the trial court’s decision that Grady had given Thompson an adequate opportunity to cure the defect. General Motors Acceptance Corp. v. Grady, 501 N.E.2d 68, 1985 Ohio App. Lexis 10353 (Court of Appeals of Ohio)

20.3 Specific Performance Yes, the Sedmaks can obtain specific performance of the sales contract for the limited edition Corvette. When a sales contract is for a unique good, the UCC provides that a buyer may obtain specific performance because an award of monetary damages is not a sufficient remedy. Sales contracts for works of art and antiques are the type of contracts for which courts will order specific performance. In this case the court held that the Indy Pace Car Special Edition Corvette was a unique good. Even though the car was not one of a kind, it was sufficiently limited in number so that an award of monetary damages would not be a sufficient remedy. The fact that Charlie’s was attempting to auction the car indicates that the Corvette was unique and was worth more than its sticker price. When Charlie’s breached the sales contract for the Corvette, the Sedmaks were entitled to obtain specific performance. The court ordered Charlie’s to sell the Indy Pace Car Corvette to the Sedmaks. Sedmak v. Charlie’s Chevrolet, Inc., 622 S.W.2d. 694, 1981 Mo. App. Lexis 2911 (Court of Appeals of Missouri)

20.4 Right to Cover Nowlin wins the lawsuit. If a seller fails to make a delivery of goods, the buyer may cover by purchasing substitute goods. A buyer’s cover must be made in good faith and without unreasonable delay. If the buyer covers the undelivered goods, the buyer may sue the seller to recover as damages the difference between the cost of cover and the original contract price. This is called the cover minus the contract price measure of damages. The court held that C&E had failed to make a delivery when it shipped Nowlin only 2,099 tons of paving material instead of the contracted 20,000 tons. C&E’s failure to deliver gave Nowlin the right to cover. By immediately contracting with another commercial supplier of gravel, Gallop Sand and Gravel Company, Nowlin covered in good faith and in reasonable time. Because Nowlin covered in good faith, the company was entitled to the difference between the original contract price and the price paid to Gallup. The court awarded Nowlin the cover minus the contract price measure of

damages. Concrete Sales & Equipment Rental Company, Inc. v. Kent Nowlin Construction, Inc., 746 P.2d 645, 1987 N.M. Lexis 3808 (Supreme Court of New Mexico)

Answer to Ethics Case 20.5 Ethics Case Yes, it was commercially reasonable for Lincoln to request the delivery of sand during December. The UCC does not specifically define what is commercially reasonable. Instead, the term is defined in reference to the course of dealing between the parties, the usage of trade, and other factors. In this case, the court held that Lincoln’s request was reasonable, and Allsopp’s refusal of the request was unreasonable. Lincoln’s request was reasonable because it came within the one-year period covered by the contract, and the contract did mention the availability of delivery by special arrangement. Lincoln’s offer to send an employee to help with the loading also favorably influenced the court’s decision. Since Allsopp already had the sand stockpiled, it was not reasonable for it to charge an extra amount to load during December. Therefore, its refusal of Lincoln’s request was unreasonable. Lincoln was allowed out of its contractual obligations. Allsopp could be considered to have acted unethically because it did not act in a commercially reasonable manner, Allsopp Sand and Gravel v. Lincoln Sand and Gravel, 525 N.E.2d 1185, 1988 Ill. App. Lexis 939 (Appellate Court of Illinois)

20.6 Right to Recover Lost Profits Yes, Saber has the right to recover its lost profits. When a buyer has breached a sales contract for specially manufactured goods, the seller can be made whole by reselling the goods and then suing the buyer for the difference between the resale and contract price. However, this remedy will not put the seller of ordinary items in the same position as if the buyer had performed the sales contract. When the goods are ordinary items or of relatively unlimited supply, the seller would have made two sales instead of one if the original buyer had not breached. Therefore the seller can be awarded its lost profits, including reasonable overhead, on the contract.

Saber was the seller of an ordinary item, gasoline. When Tri-State breached its contract, the gasoline Tri-State had originally bought was resold. However, Saber would have been able to

make this second sale even if its supply of gasoline had not been increased by Tri-State’s breach.

In other words, Tri-State’s breach meant that Saber made only one sale instead of two. Because of this situation, the court held that Saber was entitled to its lost profits.

Tri-State acted unethically when it breached its contract with Saber and refused to perform its duties under the contract. Also, Tri-State acted unethically when it argued that it owed no damages to Saber. Saber lost the profits it would have made had Tri-State performed the contract, so therefore Saber is entitled to the recovery of lost profits from Tri-State. Tri-State Petroleum Corporation v. Saber Energy, Inc. 845 F.2d 575, 1988 U.S. App. Lexis 6819 (United States Court of Appeals for the Fifth Circuit)

Chapter 21 Warranties Answers to Critical Legal Thinking Cases 21.1 Express Warranty Yes. An express warranty was made by Ashe regarding the quality of the diamonds in the bracelet. The Supreme Court of Virginia held that the term v.v.s. quality created an express warranty that the jeweler gave when he sold the bracelet to Daughtrey. It is not necessary to the creation of an express warranty that the seller use formal words such as “warrant” or “guarantee.” Here, Ashe did more than give a mere opinion of the value of the goods; he specifically described them as diamonds of “H color and v.v.s. quality.” Ashe’s description of the goods was more than his opinion; rather, he intended it to be a statement of a fact. The Supreme Court of Virginia held that an express warranty had been created and remanded the case to the trial court for a determination of appropriate damages to be awarded to Daughtrey.

Daughtrey v. Ashe, 413 S.E.2d 336, 1992 Va. Lexis 152 (Supreme Court of Virginia) 21.2 “As Is” Warranty Disclaimer Yes, the “as is” disclaimer was conspicuous and properly disclaimed the implied warranty of merchantability. An “as is” disclaimer properly disclaims all express and implied warranties.

Therefore, an “as is” disclaimer properly disclaims an implied warranty of merchantability if the disclaimer is conspicuous. A disclaimer is conspicuous if it is so written that a reasonable person against whom it is to operate ought to have noticed it. A printed heading in capital letters is conspicuous. Here, the heading “AS IS” was in capital letters. Language in the body of a form purchase contract is conspicuous if it is larger than the rest of the contract. Here, the words “THIS USED MOTOR VEHICLE IS SOLD AS IS. THE PURCHASER WILL BEAR THE ENTIRE EXPENSE OF REPAIRING OR CORRECTING ANY DEFECTS THAT PRESENTLY EXIST OR THAT MAY OCCUR IN THE VEHICLE” were all in capital letters in the purchase contract that Mitsch signed. The “as is” disclaimer in the purchase contract was

conspicuous and therefore disclaimed the implied warranty of merchantability. Therefore, Rockenbach Chevrolet was granted summary judgment, and Mitsch’s lawsuit was dismissed.

Mitsch v. Rockenbach Chevrolet, 833 N.E.2d 936, 2005 Ill. App. Lexis 699 (Appellate Court of Illinois, 2005)

Answer to Ethics Case 21.3 Ethics Case No, Ingersoll Rand is not liable for the breach of implied warranty of merchantability because it properly disclaimed any such warranty. Disclaimers of the merchantability warranty must specifically mention the term “merchantability.” If the disclaimer is in writing, it must be conspicuous. The court held that the UCC applies to contracts for leases, in the same way it applies to contracts for the sale of goods. In the agreement between Ingersoll Rand and Cole Energy, the disclaimer clearly mentions merchantability. The disclaimer is set out in large type and the section is clearly labeled “Warranties.” This passes the UCC test for conspicuousness.

Because Ingersoll Rand had properly disclaimed the implied warranty of merchantability, Cole Energy was not able to recover. It could be argued that it is unethical for a seller of a product to disclaim liability for implied warranties for the goods that it sells. The UCC, by letting companies disclaim such implied warranties, basically has eliminated substantial protections otherwise afforded purchasers. Ingersoll-Rand probably acted ethically in denying liability for the failure of a product it sold as allowed by the UCC. Cole Energy Development Company v.

Ingersoll Rand Company, 678 F.Supp. 208, 1988 U.S. Dist. Lexis 923 (United States District Court for the Central District of Illinois)

Chapter 22 Creation of Negotiable Instruments Answers to Critical Legal Thinking Cases 22.1 Negotiable Instrument Yes, the note executed by Dr. Bailey was a negotiable instrument. To be a negotiable instrument, a writing must contain either an unconditional promise, or order to pay. To be negotiable, a promise to pay must be an affirmative undertaking. The mere acknowledgment of a debt or an implied promise to pay is not sufficient. Negotiable instruments must also be payable either to order or to bearer. An instrument is an order instrument if it is payable to the order or assigns of any person specified with reasonable certainty. The use of the words “order” or “assigns” usually indicates that a note is an order instrument. The note in this was an order instrument with an unconditional promise to pay. The language in Dr. Bailey’s note was unambiguous in stating that he “promises to pay.” The note also states that the promise to pay is made “to the order to CALIFORNIA DREAMSTREET.” Although this language is somewhat unusual in that most order instruments are made payable “to the order of,” the court determined that the note should still be classified as an order instrument. Therefore, Dr. Bailey’s note was both a promise to pay and an order instrument. Cooperative Centrale Raiffeisen-Boerenleenbank B.A. v. Bailey, 710 F.Supp. 737, 1989 U.S. Dist. Lexis 4488 (United States District Court for the Central District of California)

22.2 Formal Requirements Yes, a check printed on an envelope meets the requirements of the UCC for classification as a negotiable instrument. Three requirements are necessary for a negotiable instrument: (1) the instrument be in writing, (2) be permanent, and (3) be portable. The requisite writing is often on a preprinted form. Most writings on paper meet the permanency requirement. The portability requirement is intended to insure free transfer of the instrument. Any writing that is placed on an object that is small enough to be easily handled qualifies as portable. The check that Holsonback

used to pay for the Corvette was a negotiable instrument. The check was written on a paper object, an envelope that was standard sized making the check easily portable. Thus, since the check was in writing, permanent, and portable, it met the requirements of the UCC for a negotiable instrument. Holsonback v. First State Bank of Albertville, 394 So.2d 381, 1980 Ala. Civ. App. Lexis 1208 (Court of Civil Appeals of Alabama)

22.3 Reference to Another Agreement Yes, the reference to the mortgage set forth in the promissory note caused the note to be nonnegotiable. The UCC allows negotiable instruments to be secured by mortgages. However, the negotiability of an instrument is destroyed if it incorporates by reference the terms and conditions of a mortgage. The court noted that “mere reference to a note being secured by a mortgage does not impede the negotiability of the note.” The court, however, found that this was not the situation with Holly Hill’s promissory note. The court observed that the language of the note incorporated the terms of the mortgage into the note. Therefore, the terms of payment could not be determined by looking solely at the face of the note itself. Thus, the court held that, “the note, having incorporated the terms of the purchase money mortgage, was not negotiable.” Holly Hill Acres, Ltd. v. Charter Bank of Gainesville, 314 So.2d 209, 1975 Fla. App. Lexis 13715 (Court of Appeals of Florida)

Answer to Ethics Case

22.4 Ethics Case Yes, the promissory note signed by Stewart Blanchard when he borrowed $50,000 from Progressive Bank and Trust Company was a demand instrument. The UCC requires that an instrument be payable either on demand or at a definite time. Demand notes include those instruments that are payable on demand, payable at sight, payable upon presentation, and those instruments that have no specified payment date. The court in this case held that the note was payable on demand, and that the language which indicated the note was a demand note was controlling. It found that the note was payable on demand and that the language which referred to monthly payments was an additional agreement. The Court stated: “The notation [about

monthly payments] was indicative of a collateral agreement made by the parties to provide for monthly installments but did not destroy the demand nature of the note.” Since the monthly installments provided for in the note did not destroy the demand nature of the instrument, the note was a demand instrument. Because the promissory note expressly stated that it was a demand note, the bank did not act unethically when it demanded payment of the note.

Blanchard’s mistake of believing otherwise was his own failure to understand the express terms of the demand note. Blanchard v. Progressive Bank & Trust Co., 413 So.2d 589, 1982 La. App. Lexis 7213 (Court of Appeal of Louisiana)

Chapter 23 Holder in Due Course and Transferability

Answers to Critical Legal Thinking Cases 23.1 Payable Jointly No, Johnson’s signature alone was not sufficient to negotiate the check to Midland. An instrument can be payable to two or more persons either jointly or alternatively. If an instrument is payable jointly, then each person’s indorsement is necessary to negotiate the instrument. The use of the word “and” between two named payees creates an instrument which is payable jointly.

An instrument which is payable in the alternative is payable if either party indorses it. The use of the word “or” effectively creates an instrument payable in the alternative. In this case, Murray clearly intended for his check to be made payable jointly to GE and Johnson. Murray indicated this intent on the check by using the word “and.” Johnson’s indorsement alone was not sufficient to negotiate the check to Midland because the check was made payable to two parties jointly.

Murray Walter, Inc. v. Marine Midland Bank, 103 A.D.2d 466, 480 N.Y.S.2d 631, 1984 N.Y. App. Div. Lexis 19962 (Supreme Court of New York).

23.2 Assignment No. The thirty-one promissory notes are not negotiable instruments and cannot be enforced against FFP Marketing Company, Inc. (FFP). To be subject to the Uniform Commercial Code (UCC) governance, a promissory note must be a negotiable instrument. A promissory note is a negotiable instrument subject to the UCC if it is a written unconditional promise to pay a sum certain in money, upon demand or at a definite time, and is payable to order or to bearer. In the case before us, the notes held by Long Lane Master Trust IV (LLMT) broadly define the maker’s liability to include obligations found outside the four corners of the notes. This defeats the sum certain requirement because one cannot determine from the face of each note the extent of the

maker’s liability. In addition, the notes fail the requirement for an unconditional promise because each note specifically “incorporates by reference” the terms of other documents, requiring one to examine those documents to determine if they place conditions on payment. The court of appeals held that the 31 promissory notes were not negotiable instruments and therefore the provisions of the UCC regarding negotiable instruments did not apply. However, contract law governs the contracts. FFP Marketing Company, Inc. v. Long Lane Master Trust IV, 169 S.W.3d 402, 2005 Tex. App. Lexis 5277 (Court of Appeals of Texas, 2005)

Answer to Ethics Case 23.3 Ethics Case The check was order paper at the time CM National Bank accepted it. The UCC states that an instrument is payable to the bearer when the only or the last indorsement is in blank. A specifically indorsed instrument must be indorsed by the one to whom it is payable before it becomes negotiable. In this case, the court established that St. Mary’s indorsement was in blank.

This converted the original order paper into bearer paper. Subsequently, St. Mary successfully negotiated this bearer instrument when he delivered the check to Coltharp. Thus, when Coltharp specifically indorsed the check making it payable only to the City Savings Bank, this special indorsement converted the check back to order paper. Under the UCC, this special indorsement converted the check back to order paper and the check became payable only upon indorsement of City Savings Bank. Coltharp’s intention that the check be converted into order paper was evident by his use of the words “pay to the order of” in his indorsement. Therefore, the check was order paper at the time it was accepted by the CM National Bank. The person who stole the check and cashed it at City Savings Bank acted unethically and illegally. Coltharp v. Calcasieu-Marine National Bank of Lake Charles, Inc, 199 So.2d 568, 1967 La. App. Lexis 5203 (Court of Appeal of Louisiana)

Chapter 24 Liability, Defenses, and Discharge Answers to Critical Legal Thinking Cases 24.1 Transfer Warranty No, the Pontiac State Bank is not liable to Matco for breach of a transfer warranty. A party who transfers an instrument and receives value for the instrument warrants to the transferee that the transferor has good title to the instrument or is authorized to obtain payment on behalf of one who does have good title. In this case, Matco claimed that Cox did not have good title to the $24,960 check because he had not obtained the indorsement of Matco, a copayee. However, Cox did not need Matco’s indorsement because he had been specifically authorized by the company to collect on checks listing Matco as a payee. Therefore, Matco’s indorsement was not needed.

The court also held that a copayee cannot sue a depository bank on a transfer warranty claim, because the Bank never transferred the instrument to Matco. Thus, Cox had warranted the transfer to Pontiac and Pontiac warranted the transfer to the payor bank. Because of this chain of transfers, the only party who could sue Pontiac State Bank on a transfer warranty claim was the payor bank. Matco Tools Corporation v. Pontiac State Bank. 614 F.Supp. 1059, 1985 U.S. Dist.

Lexis 17234 (United States District Court for the Eastern District of Michigan)

24.2 Presentment Warranty Yes, the First National Bank of Azle breached its presentment warranty of good title. A presenter of a negotiable instrument for payment warrants three things to the party to whom he presents the instrument. The presenter warrants that he has good title to the instrument, that he has no knowledge that the signatures on the instrument are unauthorized, and that the instrument has not been materially altered. In this case, the court held that the Bank of Azle had breached the warranty of good title when it presented Waddell’s check for payment to Longview. A presentment warranty is “an assurance that no one has better title to the check than the warrantor.” The Bank of Azle did not have better title to the check than the E.G. Smith Corporation, because E.G. Smith had not indorsed the check. Thus, the bank breached the

presentment of good title because the company still had good title to it when the Bank of Azle presented the check for payment without E.G. Smith’s indorsement. Longview Bank & Trust Company v. First National Bank of Azle, 750 S.W.2d 297, 1988 Tex. App. Lexis 1377 (Court of Appeals of Texas)

Answer to Ethics Case 24.3 Ethics Case Yes. Mrs. Humphrey is a co-maker of the line of credit promissory note and is primarily liable for the outstanding principal balance of the note, plus interest. Under the provisions of Nebraska Uniform Commercial Code (UCC) Section 3-413(1), the maker of a note engages that he or she will pay the instrument according to its tenor at the time of his or her engagement. Mrs. Humphrey admits that she signed the promissory note and the supplemental agreement.

Consequently, as a co-maker of the note, she is jointly and severally liable for the obligations of the note. Grand Island Production Credit Association (Grand Island) entered into this transaction in reliance upon the promise of both Mr. Humphrey and Mrs. Humphrey that they would be liable and would pay the amounts so advanced. The state supreme court held that Mrs. Humphrey was a co-maker on the line of credit promissory note and was therefore primarily liable to Grand Island in the amount of $13,936.71 plus interest.

Since Mrs. Humphrey signed the promissory note as a co-maker, it seems unethical for her to deny liability on the note. The fact that she is getting a divorce from her husband does not change her liability to pay the note. Grand Island Production Credit Association v. Humphrey, 388 N.W.2d 807, 1986 Neb. Lexis 1185 (Supreme Court of Nebraska)

Chapter 25 Banking System and Electronic Financial Transactions Answers to Critical Legal Thinking Cases 25.1 Cashier’s Check Wood wins, because Wood’s stop-payment order should not have been effective. A cashier’s check, which is drawn on the issuing bank itself, is a debt of the bank. The bank, which has been paid for the check, guarantees payment of the check. When the check is presented for payment, the bank debits its own account. Neither the purchaser nor the issuer of a cashier’s check can stop payment of the check. In this case, Wood had paid the Bank $6,000 to issue a cashier’s check payable to Walker. The check became negotiable upon issue and should not have been subject to a stop-payment order. As the court stated: “A cashier’s check is the obligation of the bank which issues it; it is not an item payable from a customer’s account. A cashier’s check is accepted in advance by the act of its issuance and is not subject to a stop-payment order. Such a rule is necessary to insure the public’s confidence in and reliance upon our banking system.”

Because a stop-payment order is not effective against a cashier’s check, the Bank should not have honored Wood’s request. Wood v. Central Bank of the South, 435 So.2d 1287, 1982 Ala. Civ. App. Lexis 1362 (Court of Civil Appeals of Alabama)

25.2 Overdraft The Pulaski State Bank wins because it had the legal right to create the overdraft in Kalbe’s account. When there are insufficient funds in a customer’s checking account to pay a check that is presented for payment, the payor bank can either dishonor the check, or honor the check and create an overdraft in the customer’s account. The payor bank can create the overdraft because there is an implied promise between the customer and the bank that the customer will reimburse the bank for paying checks he or she has written. The bank can sue the customer to recover this amount, if the customer does not subsequently place sufficient funds in the checking account to cover the amount of the overdraft. In this case, Kalbe had a checking account with Pulaski State

Bank. She drafted a check for $7,260 made payable to cash, drawn against her checking account.

Therefore, when the check was presented for payment, Pulaski, as the payor bank, had a duty to honor it, because the last check was never reported to the bank. Subsequently, Pulaski was relieved of this duty, when the bank discovered that there were insufficient funds in Kalbe’s account to pay the check. However, because of the provisions of UCC 4-401(1), the Pulaski State Bank had the option to create an overdraft in Kalbe’s account rather than dishonor the check.

Pulaski State Bank v. Kalbe, 364 N.W. 2d 162, 1985 Wisc. App. Lexis 3034 (Court of Appeals of Wisconsin)

25.3 Wrongful Dishonor City National Bank of Fort Smith (CNB) wins. The court held that punitive damages are not recoverable in a conversion action simply because CNB intentionally exercised control or dominion over Goodwin’s account. In general, the act of conversion alone will not support an award of punitive damages. Such an award would require that CNB had intentionally exercised control or dominion over Goodwin’s account for the purpose of violating their right to the money or for the purpose of causing damages such as returned checks. In the present case, there was no evidence that CNB converted Goodwin’s money for the purpose of violating his rights to the money or for the purpose of causing damages. It is only apparent that CNB mistakenly confused the identity of Larry K. Goodwin and Larry J. Goodwin, whereby CNB accidentally exercised dominion over the wrong Goodwin’s funds. Similarly, in order to receive consequential damages, Goodwin must show that CNB acted in bad faith or that it deliberately or willfully dishonored the checks. Thus, because the bank mistakenly confused the identities of the Goodwins and acted in good faith, the court held that punitive and consequential damages were not allowable. City National Bank of Fort Smith v. Goodwin, 783 S.W.2d 335, 1990 Ark. Lexis 49 (Supreme Court of Arkansas)

25.4 Stale Check Ragusa wins because Community Bank is liable for the $5,000 since the bank had paid a stale check. A check that has been outstanding for more than six months is considered stale. A bank is under no obligation to pay a check that is presented for payment more than six months after its date. Most states hold a bank liable for paying a stale check without the drawer’s permission. In

this case, the Community Bank had paid a check that was over three years old. The court found that Ragusa’s oral stop payment had expired, but this was of no importance in relation to the payment of the check. Ragusa should not have needed a stop-payment order to prevent the Community Bank from paying on a three-year-old check. The fact that the check was stale should have been sufficient to keep the check from being paid. Thus, the court ordered the bank to recredit Ragusa’s account for $5,000. Charles Ragusa & Son v. Community State Bank, 360 So.2d 231, 1978 La. App. Lexis 3435 (Court of Appeal of Louisiana)

25.5 Postdated Check Yes, the New England Bank will have to recredit Siegel’s account for the $20,000. However, because the New England Bank is subrogated to the rights of the payee, Peter Peters, the bank can collect this money from Siegel on the date of the check. A postdated check is created when a drawer writes a check and dates it for a time in the future. If a payor bank pays on a postdated check prior to its date, the bank is liable for any damages incurred by the drawer. The drawer can also sue the bank to recredit the account for the improperly paid check. Because the payor bank is subrogated to the rights of the payee, and may later collect the amount of the check, the drawer usually suffers little or no loss when a postdated check is paid early. In this case, the court ordered the New England Bank to recredit Siegel’s account $20,000 because the bank had improperly paid a postdated check. The court also remanded the case back to the trial court to allow the New England Bank to assert its rights as a subrogor and recover the $20,000. Siegel v.

New England Merchants National Bank, 437 N.E.2d 218, 1982 Mass. Lexis 1559 (Supreme Judicial Court of Massachusetts)

25.6 Stop Payment Dynamite Enterprises wins the suit because Eagle National had paid after a valid stop- payment order request. A stop-payment order is an order by a drawer of a check to the payor bank to not pay or certify a check. A written stop payment is valid for six months. The bank must receive a stop-payment order within a reasonable time, and in a reasonable manner, to afford the bank an opportunity to act on it. In this case, Dynamite Enterprises was the drawer of a check, and informed the payor bank of this check, Eagle National, that Dynamite wanted a stop- payment order placed on the check. This written request was made before the check had been cashed or

deposited. Although the bank stated that this request was not valid because Dynamite did not have sufficient funds to pay the check when the request was made, the court held a check written against an account with insufficient funds to be irrelevant. The court stated that “a bank customer has a right to stop payment on an overdrawn check.” Thus, the bank was found liable for the amount of the check, because Eagle National violated this right. Dynamite Enterprises, Inc. v.

Eagle National Bank of Miami, 517 So.2d 112, 1987 Fla. App. Lexis 11791 (Court of Appeal of Florida)

Answer to Ethics Case 25.7 Ethics Case Peoples National Bank & Trust Co. wins. Peoples Bank is not liable for paying on the 25 forged checks because Gennone failed to promptly examine his bank statements, and the losses were the result of a series of forgeries. A customer has a duty to examine bank statements and canceled checks and promptly report any forged signatures to the Bank. The customer is liable if the bank suffers a loss because of the customer’s failure to promptly examine bank statements and report forgeries. In this case, it was proven that Gennone had an opportunity to examine his bank statement because the People’s Bank held them for his personal receipt. Since Gennone simply failed to examine these records for over three years, Peoples Bank was relieved of any liability for the forgeries. The Bank was also relieved of liability because the losses were the result of a series of forgeries by the same wrongdoer. When a series of forgeries occurs, the customer has only fourteen calendar days after receipt of his or her statement to report any such forgeries. The failure of Gennone to report a series of forgeries by his wife was an alternative basis to relieve the Peoples Bank of any liability. Gennone probably acted unethically in suing the bank. This is because he failed to examine his bank statements for three years during which time his wife was forging his name on checks. He should not expect that the bank would be liable when he himself was the negligent party. Gennone v. Peoples National Bank & Trust Co., 9 U.C.C. Rep. Serv.

707, 1971 Pa. Dist. & Cnty. Dec. Lexis 551 (Common Pleas Court of Montgomery County, Pennsylvania)

Chapter 26 Credit, Real Property Financing, and Debtor’s Rights Answers to Critical Legal Thinking Cases 26.1 Lien Graco Fishing and Rental Tools, Inc. (Graco), the materialman, wins. The court held that Graco had properly perfected its materialman’s lien and could foreclose on the lien when it was not paid the rental charges for the equipment rented by Lantz Drilling and Exploration Company, Inc. (Lantz). Utah law provides “Contractors, subcontractors and all persons performing any services or furnishing or renting any premises in any manner shall have a lien upon the property upon or concerning which they have rendered service, performed labor or furnished or rented materials or equipment for the value of the service rendered, labor performed or materials or equipment furnished or rented by each respectively.”

The court held that Graco’s materialman’s lien against the property leased by Ironwood Exploration, Inc. (Ironwood) was properly perfected and that proper notice of the lien had been given to Ironwood. Therefore, the court upheld Graco’s materialman’s lien against the property when Lantz failed to pay the rental charges for equipment it had leased from Graco to drill the oil well on Ironwood’s property. Graco Fishing and Rental Tools, Inc. v. Ironwood Exploration, Inc., 766 P.2d 1074, 1988 Utah Lexis 125 (Supreme Court of Utah)

26.2 Foreclosure Camden National Bank wins and may retain the proceeds in excess of the mortgage which were obtained in the sale of the mortgaged property under strict foreclosure. The State of Maine recognizes the doctrine of strict foreclosure. Under this doctrine, upon default by the mortgagor, title to the secured real property reverts to the mortgagee, who may keep or sell the property in full satisfaction of the debt. The mortgagor is given no right to any surplus. Thus, when Atlantic Ocean Kampgrounds, Inc. (Atlantic) defaulted on the mortgage, and Camden National Bank

strictly foreclosed on the property, the bank was entitled to retain the surplus received when it sold the property to a third party. Under strict foreclosure, Atlantic had no rights in surplus.

Note that under either (1) a power of sale or (2) a foreclosure sale, the mortgagor is entitled to recover any surplus in the value of the foreclosed on property beyond that of the mortgage amount and any costs and fees associated with the foreclosing proceeding. Atlantic Ocean Kampgrounds, Inc. v. Camden National Bank, 473 A.2d 884, 1984 Me. Lexis 666 (Supreme Judicial Court of Maine)

26.3 Redemption No, Hans cannot be forced to execute a quitclaim deed prior to the foreclosure sale concerning the subject property. The State of Illinois recognizes the doctrine of equitable redemption. The equitable right of redemption arises at the time of default and generally lasts until such time as there is a foreclosure sale. Thus, under such doctrine of equitable redemption, Hans has until the date of the foreclosure sale to redeem the property from foreclosure by paying the amount due on the mortgage. Since the date of the foreclosure sale has not yet arrived, Hans still has an equitable right of redemption. Thus the bank may not order Hans to execute a quitclaim deed in favor of the bank because this would destroy Hans’ equitable right of redemption. This equitable right of redemption exists until the time of the foreclosure sale. Note that even after the foreclosure sale, state law may provide a statutory right of redemption during which time the mortgagor may redeem the property even after the foreclosure sale. First Illinois National Bank v. Hans, 493 N.E.2d 1171, 1986 Ill. App. Lexis 2287 (Appellate Court of Illinois).

26.4 Deficiency Judgment Buffalo Federal Savings and Loan Association wins and may recover a deficiency judgment against Fitch for the $84,209 balance due on the note. If a state has enacted an antideficiency statute and a loan that is secured by real property, the lender can only look to the property as security for the loan. That is, the lender can foreclose on the property but may not recover a personal deficiency judgment for any unpaid balance against the borrower. However, the State of Wyoming has not enacted an antideficiency statute, thus permitting lenders to obtain personal judgments against defaulting borrowers if the value of the real property securing a loan is not sufficient to pay off the loan. The court stated: “The fact pattern set out above is a side effect of

Wyoming’s “boom or bust” economy. Appellant executed a promissory note secured by a mortgage when land prices and interest rates were high. She defaulted and the mortgage was foreclosed upon when land values were low. As a result, the mortgagee’s bid on the property at the sheriff’s sale reduced the outstanding debt of the loan by less than half. The lender now has the land and expects to be fully paid on the note. The mortgagor would rather not think about the inevitable deficiency judgment and a possible rendezvous with bankruptcy courts. Chances are that the mortgagee’s best hope to recover on the note is through a prompt resale of the property.

Unfortunately for the appellant, Wyoming mortgage law convinces us that a deficiency action after foreclosure by power of sale is proper.” The court found that the deficiency remaining on the loan after the real estate was sold was $84,209. The court granted Buffalo Federal a deficiency judgment against Sally Fitch for this amount. Fitch v. Buffalo Federal Savings and Loan Association, 751 P.2d 1309, 1988 Wyo. Lexis 27 (Supreme Court of Wyoming)

Answers to Ethics Cases 26.5 Ethics Case Yes, Mrs. Sales is liable as a guarantor for the payment of the medical services provided to her sister, Mrs. Lynch, by the Forsyth County Hospital. A guaranty is a promise to answer for the payment of some debt in the case of the failure of the person who is primarily liable to pay the debt. A guaranty is a collateral and independent undertaking creating secondary liability, and the creditor’s cause of action against the guarantor ripens immediately upon the failure of the principal debtor to pay the debt at maturity. The court held that Mrs. Sales personally guaranteed the payment of Mrs. Lynch’s medical costs when she signed the form admitting Mrs. Lynch to the hospital. Thus, Mrs. Sales is personally liable for the moneys owed by Mrs. Lynch to the hospital.

There could be some question whether Mrs. Sales acted unethically when she denied liability as the guarantor for Mrs. Lynch’s medical expenses. Mrs. Sales did sign the admission form including the guaranty agreement, but what would have happened to Mrs. Lynch if Mrs. Sales did not sign the agreement? Mrs. Sales probably felt a moral obligation to sign the guaranty agreement so that her sister Mrs. Lynch could obtain the necessary medical services. But Mrs. Sales may not have appreciated the legal ramifications of signing such an agreement under those

circumstances. Forsyth County Memorial Hospital Authority, Inc. v. Sales., 346 S.E.2d 212, 1986 N.C. App. Lexis 2432 (Court of Appeals of North Carolina)

26.6 Ethics Case Valentine wins since the loan violated the Truth-In-Lending Act. The TILA requires that a creditor make certain disclosures to a debtor in connection with a covered extension of credit.

Covered creditors include those who arrange credit in the ordinary course of business. The TILA only covers the extension of consumer credit, credit extended for persons, and family, or household uses. The TILA requires that the creditor disclose certain information about the loan.

This information includes the finance charge and a description of any security interest involved.

The court held that Salmon was a covered creditor because the loan association was in the business of extending credit. This was a consumer loan because Valentine wanted the money for an improvement to her house. The court held that the loan violated TILA because the finance charge was never discussed by the use of the term “Finance Charge.” The loan agreement also failed to include a full description of the security interest involved. The paperwork did not specify whether the security interest was in real or personal property, or whether the security interest included the property bought to improve the home. Because the loan agreement failed to disclose this information, the court ruled that the loan violated TILA. Valentine v. Influential Savings and Loan, 572 F. Supp. 36, 1983 U.S. Dist. Lexis 15884 (United States District Court for the Eastern District of Pennsylvania).

Chapter 27 Secured Transactions Answers to Critical Legal Thinking Cases 27.1 Financing Statement No. The bankruptcy court held that creditor PSC Metals, Inc.’s filing of the financing statement under the debtor’s trade name “Keystone Steel & Wire Co.” rather than under its corporate name “Keystone Consolidated Industries, Inc.” was a defective filing. It is undisputed that under Revised Article 9, PSC’s financing statement would be insufficient as a matter of law. Revised Article 9 requires that a financing statement contain the name of a corporate debtor as indicated on the public record of the debtor’s jurisdiction of organization. Revised Article 9 states that a financing statement that provides only the debtor’s trade name does not sufficiently provide the name of the debtor. In reaching its conclusion the court stated, “One of the mantras espoused by the experts was the necessity of using the debtor’s correct legal name, not a trade name or nickname. PSC knew the debtor’s correct legal name. PSC ignored the correct legal name and filed under the trade name at its own peril.” The bankruptcy court held that PSC’s filing of the financing statement under Keystone’s trade name and not under Keystone’s legal name was a defective filing. Therefore, the bankruptcy court could avoid PSC’s unperfected security interest.

PSC became an unsecured creditor for the debt owed to it by Keystone. In re FV Steel and Wire Company, 310 B.R. 390, 2004 Bankr. Lexis 748 (United States Bankruptcy Court for the Eastern District of Wisconsin, 2004)

27.2 Financing Statement No, S&D does not have a security interest in the Mack truck. A lender can take a security interest in the property of a debtor to serve as collateral when credit is being extended. One way to create such a security interest is for the creditor to file a financing statement. The purpose of the financing statement is to notify others who are contemplating extending credit to the debtor that certain property of the debtor is already subject to a security interest. The financing statement

must contain such information as the names and addresses of the parties involved in the transaction and the type of collateral secured. In order to perfect, i.e., make valid the security agreement, the financing statement must be filed with the proper government entity, such as the Secretary of State, or County Clerk.

In this case, S&D did not have a security interest in C&H’s Mack truck because a financing statement regarding the truck had not been filed as required by state law. Thus, S&D had no interest in the truck, because the security agreement was not perfected. However, S&D is able to recover from its attorney, Clifton Tamsett, for malpractice. Tamsett was liable for malpractice for failing to properly file a financial statement securing an interest in the truck as collateral for the loan to C&H. S&D Petroleum Company, Inc. v. Tamsett, 144 A.D.2d 849, 534 N.Y.S.2d 800, 1988 N.Y. App. Div. Lexis 11258 (Supreme Court of New York)

27.3 Floating Lien Columbus Junction State Bank wins the case. The Bank is a secured creditor of Joseph Jones based upon a properly filed security agreement. Once filed, a perfected security interest is valid for five years. The creditor may continue his perfected interest for another five years by filing a continuation statement. A continuation statement may be filed up to six months prior to the expiration of the financing statement’s five-year term. Once filed, they are effective for another five years and may be re-filed. Subsequently, when a creditor has obtained a security interest and the debtor goes bankrupt, the secured party’s interest is satisfied out of the specific property given as collateral for the loan. Secured creditors have priority over other creditors. In this case, Columbus Bank was a secured creditor because it had properly purchased a security interest in Jones’ property by filing a financing statement. The Bank subsequently filed a valid continuation statement six weeks prior to the expiration of the perfected security interest. Thus, Columbus Bank, a secured creditor, had first priority in obtaining the property of the bankrupt Jones. The Court awarded the Bank $10,075 and Jones’ soybeans. In Re Jones, 79 B.R. 839, 1987 Bankr.

Lexis 1825 (United States Bankruptcy Court for the Northern District of Iowa)

27.4 Purchase Money Security Interest Yes, International Harvester’s (IH) security interest in the tractor takes priority over the Bank of California’s security interest in the same collateral. This is because IH had a purchase money

security interest in the tractor that takes priority over any general security interest in the same property. A perfected purchase money security interest prevails over a perfected nonpurchase money security interest in after acquired property. If the collateral in question is not inventory, the purchase money security interest must be perfected within ten days of the debtor receiving the collateral to take priority over a perfected nonpurchase money security interest. In this case, both parties had an interest in the Prior Brothers’ after-acquired property, the model 1066 tractor.

IH’s interest was a purchase money security interest because IH had extended credit to the Prior Brothers to purchase the collateral. IH perfected its security interest in the tractor within ten days of the Prior Brothers accepting the tractor. The Court held that such acceptance acts as the starting point for the ten-day deadline for perfecting the interest in a sale on approval. Since IH had a perfected purchase money security interest, their claim took priority over the Bank’s. In the Matter of Prior Brothers, Inc., 632 P.2d 522, 1981 Wash. App. Lexis 2507 (Court of Appeals of Washington)

27.5 Buyer in the Ordinary Course of Business Ford Motor Credit Corporation (FMCC) wins because its purchase money security interest in the two automobiles has priority over the security interest of First National Bank and Trust Company of El Dorado. First National’s security interest would have taken priority if the two officers of Heritage Ford who financed the cars had been buyers in the ordinary course of business. A buyer in the ordinary course of business who purchases goods from a merchant takes the goods free of any security interest of a creditor in the merchant’s inventory, even if that security interest is perfected. This rule is necessary because buyers would be reluctant to purchase goods from merchants if the merchants’ creditors could recover the goods from the buyer when the merchant defaulted on loans owed to second creditors. In this case, the Court held that the two officers who financed the cars were not buyers in the ordinary course of business. However, both men worked for the merchant offering the goods for sale, Heritage Ford, and were using the financing as a way to raise funds for the dealership. FMCC’s perfected security interest had priority since the two men were not buyers in the ordinary course of business. First National Bank and Trust Company of El Dorado v. Ford Motor Credit Company, 646 P.2d 1057, 1982 Kan. Lexis 280 (Supreme Court of Kansas)

Answers to Ethics Cases 27.6 Ethics Case Yes. The court of appeals held in favor of Randall and Christina Alderson and ordered Indianapolis Car Exchange (ICE) to release the lien it held on the truck. The Indiana Uniform Commercial Code stipulates “A buyer in ordinary course of business takes free of a security interest created by the buyer's seller, even if the security interest is perfected and the buyer knows of its existence." There is no question that ICE, the creditor, had a perfected security interest in the vehicles on its debtor’s Top Quality Auto Sales used car lot. However, a buyer in the ordinary course of business who purchases vehicles from Top Quality takes the vehicle free of ICE’s perfected security interest in the vehicle. In this case, Chrisman was a buyer in the ordinary course of business when she purchased the vehicle from Top Quality because Top Quality was in the business of selling used cars. When the Aldersons bought the truck from Chrisman, a used car dealer, they too were buyers in the ordinary course of business. Thus, Chrisman took free of ICE's security interest in the truck and had the power to transfer title to the Aldersons free of that security interest. The court ordered ICE to release the lien on the truck.

Indianapolis Car Exchange v. Alderson, 910 N.E.2d 802 (Court of Appeals of Indiana, 2009)

27.7 Ethics Case The Vos Brothers win since IHCC’s financing statement was not properly filed by Harder. Many states, including Michigan, require that an Article 9 financing statement be filed locally with the County Clerk of the county of residence of the debtor. The UCC specifically requires that financing statements for farm equipment be filed with the County Clerk. In this case, the financing statement was invalid because the debtor, Blaser, had been a resident of Ionia County when the financing statement was filed in Barry County. Although Blaser subsequently moved to Barry County, this did not correct the original misfiling. Since this misfiling had made it impossible for the Vos Brothers to determine whether there was any prior security interest in the International Harvester tractor, the Court ruled that the misfiling prevented IHCC from obtaining a perfected security interest. The purpose of filing is to inform other potential creditors and buyers of the goods of any prior existing security interests. Subsequently, because the misfiling denied the Vos Brothers this notice, they were allowed to retain the tractor. International

Harvester Credit Corporation v. Vos, 290 N.W.2d 401, 1980 Mich. App. Lexis 2430 (Michigan Court of Appeals)

Chapter 28 Bankruptcy and Reorganization Answers to Critical Legal Thinking Cases 28.1 Bankruptcy Estate No, the debtor’s jewelry does not qualify as necessary and proper wearing apparel and is therefore not exempt property from the bankruptcy estate. Mrs. Lebovitz’s jewelry is part of the bankruptcy estate. The debtor argues that she should be able to exempt all of her jewelry as wearing apparel because the items are worn by the debtor regularly, have sentimental value to her because they were given to her by her husband, and were not purchased for investment.

However, under Tennessee law the debtor is not entitled to claim her jewelry as exempt because the items are neither necessary nor proper wearing apparel for a bankruptcy debtor. Thus, the debtor is not entitled to claim her jewelry as exempt from the bankruptcy estate. As difficult as this case is given the unfortunate illness of Dr. Lebovitz that led to the bankruptcy filing, the law is clear. Whether the debtor’s jewelry is valued at its wholesale value or retail value, the items constitute luxury items. The items constitute luxury items, not necessary or proper wearing apparel. The debtor’s luxury jewelry do not qualify as necessary and proper wearing apparel and are not exempt property from the debtor’s bankruptcy estate. The debtor’s jewelry is property that must be included in the bankruptcy estate. In re Lebovitz, 344 B.R. 556, 2006 Bankr. Lexis 1044 (United States Bankruptcy Court for the Western District of Tennessee, 2006)

28.2 Automatic Stay Yes, First Interstate, as the mortgagee, should be granted a release from stay so that it can foreclose on the debtor’s residence. Normally, the filing of a bankruptcy petition stays legal proceedings against the debtor and his property. However, the Bankruptcy Code provides that the court may grant a creditor relief from stay if there is lack of adequate protection of the creditor’s interest in the property or the debtor does not have adequate equity in the property and it is not necessary to an effective reorganization.

In this case, the Bankruptcy Court held that the debtor’s equity cushion of 11.5 percent does not constitute adequate protection of the mortgagee’s interest in the property. Further, other evidence showed that the property was deteriorating and the debtor did not have the financial ability to maintain or insure the property, and that the Greybull/Basin area in which the property was located was suffering tough economic times, and the real estate market was declining. Based upon this evidence, the Bankruptcy Court granted First Interstate’s motion for relief from the stay. First Interstate foreclosed on the property and sold it. In re Kost, 102 B.R. 829, 1989 U.S. Dist. Lexis 8316 (United States District Court for the District of Wyoming)

28.3 Student Loan No, the debtor’s student loan should not be discharged in bankruptcy. Congress, which was concerned about debtors who incurred student loans and then filed bankruptcy after leaving school, enacted Section 523(a)(8)(B) of the Bankruptcy Code to make it more difficult for student loans to be discharged in bankruptcy. This section provides that during the first five years after a student loan becomes due and payable, it is not dischargeable in bankruptcy unless payment would cause “undue hardship” on the debtor and his dependents. After this five-year period has run, student loans are dischargeable in the same manner as other loans. Section 523(a)(8)(B) is strictly construed by the courts, and the debtor bears the burden of proof as to undue hardship.

The Bankruptcy Court held that since the debtor’s student loan became due and payable one month before he declared bankruptcy, it falls within the five-year period and is subject to the “undue burden” standard of dischargeability. The court held that the debtor’s two children were reasonably well shielded from the effects of the debtor’s liability for the student loan by virtue of the state court’s order that he pay $300 per month for the support of the children. In addition, the court found that the debtor’s former wife was not dependent on the debtor. Therefore, the only question was whether the liability for the student loan would impose an undue hardship on the debtor. The court, recognizing that this was a “close case,” held that the monthly payment of $50 per month toward paying off the student loan would not cause an undue burden on the debtor.

The court held that the debtor’s liability for the student loan was not dischargeable in bankruptcy. In re Doyle, 106 B.R. 272, 1989 Bankr. Lexis 1772 (United States Bankruptcy Court for the Northern District of Alabama)

28.4 Discharge Yes. A debt arising from a medical malpractice judgment that is attributable to negligence or reckless conduct is dischargeable in bankruptcy. The Bankruptcy Code provides that a debt for willful and malicious injury by the debtor to another is not dischargeable. The U.S. Supreme Court stated, “The question before us is whether a debt arising from a medical malpractice judgment, attributable to negligent or reckless conduct, falls within this statutory exception. We hold that it does not and that the debt is dischargeable.” Thus, the debt arising from the malpractice judgment in this case arose out of the negligence of the doctor and not willful or malicious conduct. The U.S. Supreme Court ruled that a medical malpractice judgment based on negligent or reckless conduct—and not willful conduct—is dischargeable in bankruptcy.

Kawaauhau v. Geiger, 523 U.S. 57, 118 S.Ct. 974, 1998 U.S. Lexis 1595 (Supreme Court of the United States)

Answers to Ethics Cases 28.5 Ethics Case The bankruptcy trustee wins, and the debtors’ transfer of their house to their daughters may be set aside as a fraudulent transfer. The court held that the bankruptcy trustee could not employ the one-year fraudulent transfer provision of the Bankruptcy Code because the debtors’ transfer of their residence to their daughters took place approximately 1 1/2 years prior to the filing of their bankruptcy petition. However, the trustee can use the six-year limitation period of the New York fraudulent transfer statute because the transfer of the house was made for no consideration, which raised a presumption of insolvency that the debtors did not overcome. The court held that the transfer could therefore be avoided as a fraudulent transfer and that the residence became part of the bankruptcy estate. The Debtors clearly act unethically in this case by making a fraudulent transfer of their house prior to declaring bankruptcy so that their house would not be part of the bankruptcy estate. In re Tabala, 11 B.R. 405, 1981 Bankr. Lexis 3663 (United States Bankruptcy Court for the Southern District of New York)

28.6 Executory Contract Yes, The Record Company may reject the purchase agreement to buy the record stores from Bummbusiness. The Bankruptcy Code permits a debtor in a Chapter 11 case to reject executory contracts. An executory contract is defined as one under which the obligations of both the debtor and the other party are so far unperformed that the failure of either party to complete performance would constitute a material breach. The Bankruptcy Court held that the purchase agreement in the instant case fit this definition. The Record Company still owed Bummbusiness $10,000 and was obligated to keep paying on the $380,000 trade debt. The performance outstanding of Bummbusiness included not competing with the buyer and using its efforts to obtain extensions of the due dates for the trade debt. The court held that the sum total of the performance outstanding by both parties made the purchase agreement an executory contract. As such, the court permitted The Record Company to reject the purchase agreement. It is difficult to find that The Record Company acted unethically in rejecting the purchase agreement.

Bankruptcy law is very clear on permitting the rejection of executory contracts. If The Record Company’s action in this case is determined to be unethical, then it would seem that anyone who uses bankruptcy to rid themselves of unpaid debts or contracts are acting unethically. In re The Record Company, 8 B.R. 57, 1981 Bankr. Lexis 5157 (United States Bankruptcy Court for the Southern District of Indiana)

Chapter 29 Agency Formation and Termination

Answers to Critical Legal Thinking Cases 29.1 Scope of Employment No. The court held that James Goldick, an employee of Lapp Roofing and Sheet Metal Company, Inc., was not acting within the scope of his employment when, after drinking at a bar, he injured several persons while driving a vehicle that had been placed in his possession by Lapp Roofing. The court stated, “There comes a point in every litigation where common sense will make some conclusions obvious.” The court noted that obviously a crew who is assigned for several days or weeks to a remote location will need to utilize the company vehicle to get meals or other necessities associated with that stay. The court stated, “Therefore, if this event had occurred as the employees were leaving Happy Harry’s after they obtained a needed prescription or from Denny’s Restaurant after a meal, the court believes these foreseeable and logical consequences of a lengthy stay away from home would bring the conduct within the scope of employment under the dual purpose rationale.” The court continued, “However, no reasonable person could conclude this limitation on available transportation would provide the mechanism to expand the coverage to a drunken brawl that occurred after hours and was unassociated with the employee’s work or associated with his stay.” The court found that such conduct is so adverse to the employer that no conceivable benefit could be derived. It is completely unrelated to the employer’s business and does not advance the work for which the employees were sent to this location. This incident did not occur during working hours and Goldick decided to go to Gators Bar and become intoxicated for purely personal reasons and not to serve Lapp Roofing’s interests whatsoever. The court held that Goldick was not acting within the course and scope of his employment when his negligent conduct occurred. The court granted summary judgment to Lapp Roofing on this issue. Keating v. Goldick and Lapp Roofing and Sheet Metal Company, Inc., 2004 Del. Super. Lexis 102 (Superior Court of Delaware, 2004)

29.2 Independent Contractor No, Samuelson is not liable to Mercedes Connolly. The court held that African Adventures was an independent contractor and that Samuelson acted as a broker in selling Connolly the tour package. The court held that travel agents have no duty to advise tourists that a walking tour was part of the itinerary, to advise tourists of proper footwear, to know the walking conditions of the destination of the tour, or to provide tourists with a safe and secure tour. Connolly v. Samuelson, 671 F.Supp. 1312, 1987 U.S. Dist. Lexis 8308 (United States District Court for the District of Kansas) 29.3 Power of Attorney Yes, King is liable to Bankerd for gifting the property to Mrs. Bankerd. A power of attorney creates a principal-agent relationship. Broadly defined, a power of attorney is a written document by which one party as principal appoints another as agent (attorney in fact) and confers upon the latter the authority to perform specified acts on behalf of the principal. The power of attorney delineates the extent of the agent’s authority and is strictly construed by the court.

The court held that the general power of attorney in this case which authorized the agent to sell and convey the property on such terms as the attorney in fact deems proper, did not, however, authorize the agent to make a gift of the property. This violated the agent’s duty of loyalty that he owed to the principal. The Appellate Court affirmed the trial court’s grant of summary judgment in favor of Bankerd that awarded $13,555 in damages against King. King v.

Bankerd, 492 A.2d 608, 1985 Md. Lexis 589 (Court of Appeals of Maryland) 29.4 Apparent Agency Bolus wins the lawsuit and may recover damages against United Penn Bank. A jury may find that an alleged agent had either actual or apparent authority to bind the principal. Here, Ziobro did not have actual authority to commit the bank to the loan because his loan limit was expressly set at $10,000. However, Ziobro had apparent authority to commit the bank to financing Bolus’s project. Apparent authority is authority that the principal has by words or conduct held the alleged agent out as having. Ziobro was employed as a loan officer of the bank, Bolus was referred to Ziobro when he contacted the bank about the possibility of financing the Bartonsville

project, and the limit on Ziobro’s authority to make loans was not communicated to Bolus. Thus, the bank clothed Ziobro with apparent authority to commit the bank to financing Bolus’s project.

The Appellate Court affirmed a jury verdict in favor of Bolus. Bolus v. United Penn Bank, 525 A.2d 1215, 1987 Pa. Super. Lexis 7258 (Superior Court of Pennsylvania) 29.5 Imputed Knowledge Yes, Boulevard Investment Company (Boulevard) is liable to Iota Management Corporation (Iota) for breach of contract. The knowledge of an agent of corporate principal regarding matters within the agent’s scope of employment and authority is imputed to the principal. The court held that Cecil Lillibridge, who was Boulevard’s maintenance supervisor, had acquired knowledge of the condition of the pipes through his work at the hotel, clearly within the scope of his employment and authority. The court held that this knowledge was imputed to the corporate principal, Boulevard. The appellate court affirmed the trial court’s decision that permitted Iota to rescind the contract. Iota Management Corporation v. Boulevard Investment Company, 731 S.W.2d 399, 1987 Mo. App. Lexis 4027 (Court of Appeals of Missouri)

Answer to Ethics Case 29.6 Ethics Case Yes, the real estate listing agreement was terminated when the Hagues sent the termination letter to Hilgendorf, the real estate agent, prior to the expiration of the listing agreement. Since an agency is a consensual relationship, a principal has the power to terminate an agency although the contract is for a period that has not yet expired. The agent’s authority to bind the principal ceases. Thus, the Hagues had the power to terminate the exclusive listing agreement with Hilgendorf.

However, absent some legal ground, the principal does not have the right to terminate an unexpired agency contract, and may subject himself to damages by doing so. The court held that the Hagues had no legal ground for terminating their agency agreement with Hilgendorf and were liable for wrongful termination of the agreement. Where the principal terminates an exclusive agency listing within the term, the agent may show that he would, but for the

termination, have sold the property within the unexpired period at the listing price, and then he can recover his lost profits as ordinarily measured by the commission he would have earned. The court held the Hagues liable for terminating the listing agreement and awarded the amount of the commission that Hilgendorf would have received had he sold the Hagues property. Here, the Hagues acted unethically when they terminated the exclusive agency agreement with Hilgendorf prior to the expiration of the listing agreement. Hilgendorf v. Hague, 293 N.W.2d 272, 1980 Iowa Sup. Lexis 882 (Supreme Court of Iowa)

Chapter 30 Liability of Principals, Agents, and Independent Contractors

Answers to Critical Legal Thinking Cases 30.1 Frolic and Detour No. The court held that Spires was not acting within the scope of his employment at the time of the accident that injured Siegenthaler, and therefore his employer, Johnson Welded Products, was not liable for Spires’s negligent conduct. Spires was on a lunch break, and he had left the premises of his employer, and was therefore on a frolic and detour at the time of the accident.

The court noted that under the doctrine of respondeat superior, an employer will be held liable for the negligent act of its employee if the employee was acting within the course and scope of his employment. The court concluded that “No reasonable finder of fact could find from this evidence that Spires was subject to the direction and control of Johnson Welded Products as to the operation of his truck at the time of the collision, while he was on his way to a friend’s house for lunch. We can see no reason why Johnson Welded Products would have any desire to control the manner in which its employees drive to or from work.” The court held that Spires was not acting within his scope of employment when he collided with and injured Siegenthaler. The court of appeals affirmed the grant of summary judgment to Johnson Welded Products.

Siegenthaler v. Johnson Welded Products, Inc., 2006 Ohio App. Lexis 5616 (Court of Appeals of Ohio, 2006) 30.2 Agent No. The court of appeal held that the coming and going rule did not apply in this case. The undisputed evidence was that at the time of the accident, Brandon, an employee of Warner Bros.

Entertainment, Inc., was traveling from the airport to his home, with no intention of going to his office. Brandon's route from the airport coincidentally passed his office, which happened to be on his return route home. A special errand continues for the entirety of the trip. The court stated,

“It would be nonsensical to base the employer's liability on whether the employee coincidentally chose a route that passed the workplace.” Brandon intended to return to his home, and there were no intervening personal deviations to remove him from the course and scope of employment.

Therefore, the special errand continued until such time as he arrived at his destination. The court noted that an offshoot of the doctrine of respondeat superior is the so-called “going and coming rule.” Under this rule, an employee is not regarded as acting within the scope of employment while going to or coming from the workplace. However, exceptions will be made to the going and coming rule where the trip involves an incidental benefit to the employer, not common to commute trips by ordinary members of the work force. When an employee is engaged in a special errand or a special mission for the employer it will negate the going and coming rule. The court held that the coming and going rule did not apply and did not grant summary judgment to Warner Bros. Entertainment. Jeewarat v. Warner Bros. Entertainment, Inc., 177 Cal. App.4th 427, 98 Cal. Rptr.3d 837, 2009 Cal. App. Lexis 1478 (Court of Appeal of California, 2009) 30.3 Independent Contractor Sanchez wins. Generally, a principal is not liable for the negligent or intentional conduct of an independent contractor it hires. However, there is an exception to this rule that provides that a principal is liable for negligent or intentional conduct of an independent contractor if it hired the independent contractor to perform an inherently dangerous activity. The law prohibits the repossession of a vehicle if a breach of peace would occur. The court held that MBank, the principal, was liable for the tortious conduct of El Paso Recovery Service, its independent contractor. The court found that El Paso was involved in an inherently dangerous activity while acting on behalf of MBank. The court held that the act of repossessing an automobile from a defaulting debtor is an inherently dangerous activity and a nondelegable duty. The court concluded that El Paso had breached the peace in repossessing the car from Sanchez and caused her physical and emotional harm. Therefore, MBank, the principal, could not escape liability by hiring an independent contractor to repossess the car. The court found MBank liable to Sanchez.

MBank El Paso, N.A. v. Sanchez, 836 S.W.2d 151, 1992 Tex. Lexis 97 (Supreme Court of Texas) 30.4 Tort Liability

Yes, the Newspaper Agency Corporation (NAC) may be held liable to the Johnsons for the negligence of its employee-agent, Donald Rogers. An agent is always liable for his own negligence caused when acting on behalf of his principal, and the principal is liable for the negligence of its agent if the agent was acting within the scope of his employment when the accident occurred. The court also held that the Johnsons could recover punitive damages from NAC. Punitive damages may be imposed for conduct that is willful and malicious or that manifests a knowing and reckless indifference and disregard toward the rights of others. It is the extreme, outrageous, and shocking behavior that justifies their imposition in drunken driving cases. The state Supreme Court rejected NAC’s motion for summary judgment on the issue of punitive damages. Johnson v. Rogers, 763 P.2d 771, 1988 Utah Lexis 81 (Supreme Court of Utah)

30.5 Tort Liability Yes, Intrastate Radiotelephone, Inc., is liable to Largey for the injuries caused by its agent, Kranhold. Generally, a principal is responsible to third persons for the negligence of its agents, including acts committed by such agents while acting within the scope of their employment.

Ordinarily, while an employee is going to or coming from his place of employment, he is outside the scope of his employment during that period. There is an exception to the “coming and going” rule—if it is an implied or express condition of the agent’s employment that he use his vehicle in attending to his duties, then the employer will be vicariously liable for any accidents incurred while the employee is driving to or from work. The court held that there was sufficient and substantial evidence for the jury to have inferred that Kranhold was acting within the scope of his employment when the accident in question occurred. Therefore, the exception to the coming and going rule applies in this case. The appellate court affirmed the judgment of the trial court that was entered in favor of Largey against Intrastate. Largey v. Intrastate Radiotelephone, Inc., 136 Cal. App.3d 660, 186 Cal. Rptr. 520, 1982 Cal. App. Lexis 2049 (Court of Appeal of California)

Answer to Ethics Case

30.6 Ethics Case D. Hays Trucking, Inc. an independent contractor of Hercules, Inc. Therefore, Hercules, Inc. is not liable for the negligence of Mr. Hays of D. Hayes Trucking, Inc. when he negligently drove his large truck into the car driven by Phyllis Lewis, killing her. D. Hays Trucking, Inc. delivered tree trunks to Hercules, Inc.’s processing plant, but did so as an independent contractor. Hays owns its own equipment and delivery vehicles, hires its own truckers and other employees, pays for its employees’ workers’ compensation coverage, and withholds federal and state taxes from employees’ paychecks. Hays directed the work of its employees who pulled stumps from the ground and the truckers who delivered the stumps to Hercules. The U.S. district court stated “It is Hays who determined the time, manner, and method of his work. Therefore no reasonable jury could determine that Hays is an employee and not an independent contractor.” The U.S. district court held that Hays was an independent contractor, and not an employee, of Hercules, Inc. The court granted Hercules’s motion for summary judgment.

It is doubtful that Lewis acted unethically when she sued Hercules for the accident caused by Hays. In most lawsuits of this sort, the plaintiff sues all of the parties involved. In this case it included Mr. Hays, who caused the accident, his company D. Hayes Trucking, Inc., and Hercules, Inc. However, Hercules had to spend money on lawyer’s fees and other costs of defending the lawsuit. Lewis v. D. Hays Trucking, Inc., 701 F.Supp.2d 1300, 2010 U.S. Dist.

Lexis 28035 (United States District Court for the Northern District of Georgia, 2010)

Chapter 31 Employment, Worker Protection, and Immigration Law

Answers to Critical Legal Thinking Cases

31.1 Workers’ Compensation Yes. Medrano’s actions at the time of the automobile accident were within the course and scope of his employment, thus entitling his heirs to workers’ compensation benefits. MEC argued that it received no benefit from Medrano’s attendance at the apprenticeship class and the death claim was not compensable. However, the court held that there was substantial and competent evidence to support a finding that the classroom instruction was beneficial to Medrano and his employer.

Mike Mills, the owner and president of MEC, testified: “The training made the employees more valuable to MEC by improving the quality of service to customers.” The court stated that the record was sufficient to show that MEC derived substantial benefit from having its employees travel from Marshall to Sedalia to fully participate in the apprenticeship program. MEC encouraged employees to attend the classroom instruction and covered the costs of tuition. Even though employees like Medrano obtained personal benefits in formalizing their education, MEC mutually benefited from the program as a convenient way for MEC to train its employees and ultimately provide a better quality of service to its customers. The court of appeals held that Medrano was acting within the course and scope of his employment when he was fatally injured in the car crash and that his family was entitled to receive workers’ compensation death benefits.

Medrano v. Marshall Electrical Contracting Inc., 173 S.W.3d 333, 2005 Mo. App. Lexis 1088 (Court of Appeals of Missouri, 2005)

31.2 Workers’ Compensation Yes. Smith’s activities at the time of the accident were employment related. Decedent was a temporary instructor at Modesto High. As such, he was especially vulnerable to pressure or suggestion that he participate in extracurricular activities to better his chances of being rehired.

The math club was an official school club. The food for the event was paid for out of the math club funds. The school was more than minimally involved in the picnic. Teachers were encouraged to involve themselves in extracurricular activities of the school, thus conferring the benefit of better teacher–student relationships. More importantly, teachers were evaluated on whether they shared equally in the sponsorship or the supervision of out-of-classroom student activities, and decedent had been commended for his participation in this area. The court rejected the employer’s argument which alleged that if Smith’s attendance at the picnic was required by his employment, then his activities in using the windsurfer were outside the course and scope of his employment. Because attendance at the picnic was an implied requirement of decedent’s employment, his accident that resulted from his engaging in the recreational activities that were part and parcel of the picnic’s entertainment is causally connected to his employment. The court held that when the accident occurred, from which Smith died, he was engaged in employmentrelated activities that permit his surviving wife and family to recover workers’ compensation benefits. Smith v. Workers’ Compensation Appeals Board, 191 Cal. App.3d 127, 236 Cal. Rptr.248, 1987 Cal. App. Lexis 1587 (Court of Appeal of California)

31.3 Occupational Safety The Occupational Safety and Health Review Commission prevails because an employer is required to furnish a safe place of employment for its employees. The court stated that to violate the Occupational Safety and Health Act, the secretary must prove that (1) the employer failed to render its workplace “free” of a hazard that was (2) recognized, and (3) causing or likely to cause death or serious physical harm. In this case, the failure to pressure test a pressure vessel before activation was an apparent and obvious hazard that was likely to cause serious injury.

Furthermore, it created an extremely high probability of rupture and ensuing harm. Thus, the court stated that it is clear the hazard at issue here was both “recognized” and likely to cause

serious harm, as well as preventable by the simple expedient of pressure testing. Getty Oil Company v. Occupational Safety and Health Review Commission, 530 F.2d 1143, 1976 U.S. App. Lexis 11640 (United States Court of Appeals for the Fifth Circuit)

31.4 Occupational Safety Yes. Corbesco, Inc. violated an Occupational Safety and Health Administration (OSHA) safety standard. The court held that Corbesco had violated OSHA’s safety standard that requires that safety nets be provided when workers are more than 25 feet above the ground. Here, the building on which Roger Matthew, a Corbesco employee, was working was 60 feet above the ground.

When Matthew was on his knees installing insulation on the roof, he lost his balance and fell 60 feet to the concrete below and died from the fall. In this working situation, the OSHA standard required Corbesco to provide safety nets in case a worker were to fall off such a high building.

Because Corbesco did not have such safety nets installed, it violated the OSHA safety standard.

The court rejected Corbesco’s defense that the flat roof upon which Matthew was working constituted the required “safety net.” The court stated, “The purpose of the safety devices listed in the regulation is to provide fall protection, and a roof cannot provide fall protection if workers must operate along the perimeter.” The court held that Corbesco had violated OSHA’s rules by not providing a safety net below its employees who were working more than 25 feet above the ground. Corbesco, Inc. v. Dole, Secretary of Labor, 926 F.2d 422, 1991 U.S. App. Lexis 3369 (United States Court of Appeals for the Fifth Circuit)

Answers to Ethics Cases 31.5 Ethics Case The intentional tort exception did not apply in this case. The undisputed evidence compels no other conclusion than that there was no intentional tort. Though a number of employees had received shocks from the apparatus, there is no evidence that anyone, except for the decedent, suffered a similar electrocution. All of those employees who previously received the shocks suffered no more than a transient physical buzz or numbing. These minor incidents occurred over

a period where there was a continuous, daily use of the apparatus at a busy manufacturing assembly line. Given these circumstances, an electrocution could not have been envisioned as a certain danger.

Moreover, it is undisputed that the Nordyne’s management, once aware of the apparatus’s problem, took measures, however effective they may have been, to repair the apparatus.

Nordyne’s management also took another safety measure: warning the employees of the possibility of shocks. If anything, these remedial measures would have diminished the likelihood of any future electrical shocks. These measures would not have made an electrocution a certainty.

To be sure, there was a risk of an injury arising from the use of the testing apparatus. Some, such as the plaintiff’s expert, may even assert that the risk was quite high because the apparatus was defectively designed and built. However, given the record presented here, including the pleadings, briefs, affidavits, and deposition testimony of Bryson and Kendra, there is simply no evidence indicating that the electrocution injury was certain to occur at Nordyne’s manufacturing plant in Holland, Michigan, on April 20, 1988. Glockzin v. Nordyne, Inc., 815 F. Supp.1050, 1992 U.S. Dist. Lexis 8059 (United States District Court for the Western District of Michigan)

31.6 Ethics Case Employees can engage in self-help under certain circumstances under OSHA regulations. The secretary of labor has promulgated a regulation providing that an employee may choose not to perform his assigned tasks if he has a reasonable apprehension of death or serious injury coupled with a reasonable belief that no less drastic alternative is available, without being subject to subsequent discrimination. The issue here is whether that regulation is valid. The fundamental purpose of OSHA is to prevent occupational deaths and serious injuries. This legislation is broad in nature. It would be anomalous to construe this act as to not allowing the employee to withdraw from a dangerous workplace. Further, there is an affirmative duty on all employers to provide a safe workplace. Since an OSHA inspector cannot be present all the time, this regulation allows the employee to get the benefit of a safe workplace in all circumstances. The regulation is valid.

Whirlpool Corp. v. Marshall, Secretary of Labor, 445 U.S. 1, 100 S.Ct. 883, 1980 U.S. Lexis 81 (Supreme Court of the United States)

Chapter 32 Labor Law Answers to Critical Legal Thinking Cases 32.1 Unfair Labor Practice Yes, the president of the Sinclair Company violated federal labor law by unlawfully interfering with the union election. The Supreme Court held that although an employer is free to communicate to his employees his general views about unionism or his specific views about a particular union his statements may not contain a threat of reprisal, force, or coercion. He may make predictions of the effects he believes unionization will have on his company. The court held that the president’s statements were not cast as predictions but rather as threats of retaliatory action if the employees elected a union. The court concluded that the intended and understood import of the president’s messages was to threaten to throw the employees out of work if the union won the election. The Supreme Court held that the president of the Sinclair Company interfered with the election and ordered that the election be set aside. NLRB v. Gissel Packing Co., 395 U.S. 575, 89 S.Ct. 1918, 1969 U.S. Lexis 3172 (Supreme Court of the United States)

32.2 Right-to-Work Law The union wins and its agency shop agreement is legal and enforceable. The U.S. Supreme Court held that Texas’ right-to-work law did not apply to the workers in this case. The court held that the predominant job situs was the controlling factor in determining whether a state’s right-to-work law applies. Here, the court reasoned that because most of the employees’ work is done on the high seas and outside the territorial bounds of the state of Texas, Texas’ right-to-work law did not apply to these workers. The court commented that it is immaterial that Texas may have more contacts than any other state with the workers, and that there is no reason to require every employment situation to be subject to some state’s law with respect to union security agreements. Oil, Chemical & Atomic Workers International Union, AFL-CIO v. Mobile

Oil Corporation, 426 U.S. 407, 96 S.Ct. 2140, 1976 U.S. Lexis 106 (Supreme Court of the United States)

32.3 Unfair Labor Practice Yes, the Carpenters’ Union’s refusal to hang the prefabricated doors at the job site was a lawful work stoppage and does not violate federal labor law. The object of the union’s action was to preserve work traditionally done by its members. The Supreme Court held that the preservation of work traditionally done by union members is a proper subject of collective bargaining, and therefore the union’s “will not handle” rule that had been bargained for and agreed to by the employer was lawful. The Supreme Court upheld the NLRB’s decision to dismiss the charges.

National Woodwork Manufacturers Association v. N.L.R.B., 386 U.S. 612, 87 S.Ct. 1250, 1967 U.S. Lexis 2858 (Supreme Court of the United States)

32.4 Illegal Strike No, Bownds and the employees who engaged in the walkout cannot get their jobs back. Bownds, who was discharged for his actions in cutting the bags of flour, was properly discharged for his conduct. The court found that the other employees had engaged in an illegal “wildcat strike” that was not sanctioned by their union. The National Labor Relations Act indicates a preference for collective bargaining. Since the employer is required to bargain with the representative of the workers, it must have some assurance as to the identity of that agent and that it can deal with that agent as a responsible spokesperson for the employees of the unit. There cannot be bargaining in any splinter groups. The court held that because this was an illegal wildcat strike, then the workers were illegal strikers who could be discharged without the right to reinstatement.

N.L.R.B. v. Shop Rite Foods, Inc., 430 F.2d 786, 1970 U.S. App. Lexis 7613 (United States Court of Appeals for the Fifth Circuit)

32.5 Replacement Workers No, the company’s offer of 20-years’ superseniority for layoff and recall purposes is not lawful and constitutes an unfair labor practice in violation of federal labor law. The Supreme Court held that the superseniority award had the effect of offering individual benefits to certain employees who were induced to abandon the strike and operated to the detriment of those who participated

in the strike. The court held that the company unlawfully discriminated between workers in violation of the National Labor Relations Act. The court upheld the NLRB’s finding of an unfair labor practice.

Note: Under the Supreme Court’s ruling in Trans World Airlines, Inc. v. Independent Federation of Flight Attendants, 489 U.S., 109 S.Ct. 1225 (1989), today the company could offer the crossovers the seniority they had prior to the strike. N.L.R.B. v. Erie Resistor Company, 373 U.S. 221, 83 S.Ct. 1139, 1963 U.S. Lexis 2492 (Supreme Court of the United States)

Answer to Ethics Case 32.6 Ethics Case Yes, American Ship Building can lawfully lay off the employees in what is called an employer lockout. Federal labor law permits an employer to lockout employees if it reasonably anticipates a strike or has reached an impasse in collective bargaining negotiations and there is a threat of damage to the employer’s property. In this case, evidence showed an impasse had been reached in collective bargaining; there was a threat of an impending strike by the unions that would shut the shipyard down for the winter months.

The Supreme Court held that the use of a temporary layoff of employees by the employer in this case solely as a means to bring economic pressure to bear in support of its bargaining position was lawful under the National Labor Relations Act. The court held that an employer can engage in a lockout and preempt the threatened strike by the unions, and that in this case the lockout was a reasonable response to the threatened strike. American Ship Building Company v.

N.L.R.B., 380 U.S. 300, 85 S.Ct. 955, 1965 U.S. Lexis 2310 (Supreme Court of the United States)

Chapter 33 Equal Opportunity in Employment Answers to Critical Legal Thinking Cases

33.1 Sexual Harassment Yes. An employer can be held liable when the sexual harassment conduct of its employees is so severe that the victim of the harassment resigns. The U.S. Supreme Court stated “To establish hostile work environment, plaintiffs like Suders must show harassing behavior sufficiently severe or pervasive to alter the conditions of their employment.” The very fact that the discriminatory conduct was so severe or pervasive that it created a work environment abusive to employees because of their gender offends Title VII’s broad rule of workplace equality.

Essentially, Suders presents a “worse case” harassment scenario, harassment ratcheted up to the breaking point. Harassment so intolerable as to cause a resignation may be effected through coworker conduct, unofficial supervisory conduct, or official company acts. Unlike an actual termination, which is always effected through an official act of the company, a constructive discharge need not be. A constructive discharge involves both an employee’s decision to leave and precipitating conduct. The U.S. Supreme Court held that an employer can be held liable when the sexual harassment conduct of its employees is so severe that the victim of the harassment resigns. Pennsylvania State Police v. Suders, 542 U.S. 129, 124 S.Ct. 2342, 2004 U.S. Lexis 4176 (Supreme Court of the United States, 2004)

33.2 Sexual Harassment Teresa Harris wins. When the workplace is permeated with discriminatory intimidation, ridicule, and insult that are sufficiently severe or pervasive to alter the conditions of the victim’s employment and create an abusive working environment, Title VII is violated. 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. 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, there is no need for it also to be psychologically injurious. The U.S. Supreme Court held that Title VII does not require a victim to prove that the challenged conduct seriously affected her psychological well-being in order to bring a Title VII lawsuit. Harris v. Forklift Systems Incorporated, 510 U.S. 17, 114 S.Ct. 367, 1993 U.S. Lexis 7155 (Supreme Court of the United States)

33.3 National Origin Discrimination Yes. The court held that Baccarat had engaged in national origin discrimination in violation of Title VII. Under Equal Employment Opportunity Commission (EEOC) regulations, national origin discrimination includes the denial of employment opportunity because an individual has the linguistic characteristics of a national origin group. The court stated “Accent and national origin are obviously inextricably intertwined in many cases.” Thus, unless any employee’s accent materially interferes with her job performance, it cannot legally be the basis for an adverse employment action. In this case, Ms. Rivera testified that during her one face-to-face meeting with Mr. Negre, he specifically stated that he did not like her accent. It is a statement by the president of the company who himself made the decision to terminate Ms. Rivera. Mr. Negre’s criticism of Ms. Rivera’s accent, his statement that he did not want Hispanic sale employees, and the fact that two Hispanic sales representatives were discharged while the nonHispanic salesperson was retained, all buttress the finding of liability. The court held that Baccarat had engaged in national origin discrimination in violation of Title VII and awarded Ms. Rivera $104,373 in damages, attorneys’ fees of $102,437, and prejudgment interest. Rivera v.

Baccarat, Inc., 10 F.Supp.2d 318, 1998 U.S. Dist. Lexis 9099 (United States District Court for the Southern District of New York)

33.4 Bona Fide Occupational Qualification (BFOQ) Johnson Controls’ fetal-protection policy is not a bona fide occupational qualification (BFOQ).

The U.S. Supreme Court ruled that Johnson Controls’ fetal-protection policy did not qualify as bona fide occupational qualification (BFOQ), and therefore constituted sex discrimination in violation of Title VII. The U.S. Supreme Court stated, “The bias in Johnson Controls’ policy is

obvious. Fertile men, but not fertile women, are given a choice as to whether they wish to risk their reproductive health for a particular job. Johnson Controls’ fetal-protection policy explicitly discriminates against women on the basis of their sex.” The Supreme Court stated that it had no difficulty concluding that Johnson Controls could not establish a BFOQ, stating, “We have no difficulty concluding that Johnson Controls cannot establish a BFOQ. Fertile women, as far as appears in the record, participate in the manufacture of batteries as efficiently as anyone else.

Johnson Controls’ professed moral and ethical concerns about the welfare of the next generation do not suffice to establish a BFOQ of female sterility. Decisions about the welfare of future children must be left to the parents who conceive, bear, support, and raise them rather than to the employers who hire those parents.” The U.S. Supreme Court held that Johnson Controls’s fetalprotection policy did not qualify as a BFOQ, but was instead sex discrimination in violation of Title VII. International Union, United Automobile, Aerospace and Agricultural Implement Workers of America, UAW v. Johnson Controls, Inc., 499 U.S. 187, 111 S.Ct. 1196, 1991 U.S. Lexis 1715 (Supreme Court of the United States)

Answers to Ethics Cases 33.5 Ethics Case Rawlinson proved a prima facie case of sex discrimination by showing that the state’s racially neutral height and weight restrictions to be a prison guard disparately impacted upon women.

The trial court found that the height rule excluded over 32 percent of women but less than 2 percent of men. The weight requirement excluded over 22 percent of women but less than 2.5 percent of men. Together, these restrictions would exclude over 41 percent of women but less than 1 percent of men. Dothard argues that height and weight are job related, because they have a relationship to strength that is required. The court held that a strength test should be given to establish strength, rather than using height and weight, for which there was no correlation proven. Regarding this rule, the state could be cited as acting unethically because it knew that the rule would eliminate a substantial number of females from the position. However, the state may have thought that size and weight correlated with strength and did not have an unethical

motive. Dothard, Director, Department of Public Safety of Alabama v. Rawlinson, 433 U.S. 321, 97 S.Ct. 2720, 1977 U.S. Lexis 143 (Supreme Court of the United States)

33.6 Ethics Case Yes. The U.S. Supreme Court held that the Americans with Disabilities Act (ADA) requires the PGA Tour, Inc., to accommodate Casey Martin, a disabled professional golfer, by permitting him to use a golf cart while playing in PGA-sponsored golf tournaments. The U.S. Supreme Court noted that golf carts started appearing with increasing regularity on American golf courses in the 1950s and that today they are everywhere. The Supreme Court stated, “As an initial matter, we observe that the use of carts is not itself inconsistent with the fundamental character of the game of golf. From early on, the essence of the game has been shot-making—using clubs to cause a ball to progress from the teeing ground to a hole some distance away with as few strokes as possible.” The Supreme Court continued, “The force of petitioner PGA Tour’s argument is, first of all, mitigated by the fact that golf is a game in which it is impossible to guarantee that all competitors will play under exactly the same conditions or that an individual’s ability will be the sole determinant of the outcome. A lucky bounce may save a shot or two. Whether such happenstance events are more or less probable than the likelihood that a golfer afflicted with Klippel-Trenaunay-Weber Syndrome would one day qualify for the PGA Tour, they at least demonstrate that pure chance may have a greater impact on the outcome of elite golf tournaments than the fatigue resulting from the enforcement of the walking rule.” The Supreme Court affirmed the judgment of the U.S. Court of Appeals that held that the ADA required that the PGA Tour, Inc., to accommodate Casey Martin, a disabled professional golfer, by allowing him to use golf carts while competing in PGA-sponsored professional golf tournaments. It would seem that the PGA did not have unethical motives when it instituted the cart rule and held that Martin did not meet this rule. PGA Tour v. Martin, 532 U.S. 661, 212 S.Ct. 1879, 2001 U.S. Lexis 4115 (Supreme Court of the United States, 2001)

Chapter 33 Equal Opportunity in Employment Answers to Critical Legal Thinking Cases

33.1 Sexual Harassment Yes. An employer can be held liable when the sexual harassment conduct of its employees is so severe that the victim of the harassment resigns. The U.S. Supreme Court stated “To establish hostile work environment, plaintiffs like Suders must show harassing behavior sufficiently severe or pervasive to alter the conditions of their employment.” The very fact that the discriminatory conduct was so severe or pervasive that it created a work environment abusive to employees because of their gender offends Title VII’s broad rule of workplace equality.

Essentially, Suders presents a “worse case” harassment scenario, harassment ratcheted up to the breaking point. Harassment so intolerable as to cause a resignation may be effected through coworker conduct, unofficial supervisory conduct, or official company acts. Unlike an actual termination, which is always effected through an official act of the company, a constructive discharge need not be. A constructive discharge involves both an employee’s decision to leave and precipitating conduct. The U.S. Supreme Court held that an employer can be held liable when the sexual harassment conduct of its employees is so severe that the victim of the harassment resigns. Pennsylvania State Police v. Suders, 542 U.S. 129, 124 S.Ct. 2342, 2004 U.S. Lexis 4176 (Supreme Court of the United States, 2004)

33.2 Sexual Harassment Teresa Harris wins. When the workplace is permeated with discriminatory intimidation, ridicule, and insult that are sufficiently severe or pervasive to alter the conditions of the victim’s employment and create an abusive working environment, Title VII is violated. 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. 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, there is no need for it also to be psychologically injurious. The U.S. Supreme Court held that Title VII does not require a victim to prove that the challenged conduct seriously affected her psychological well-being in order to bring a Title VII lawsuit. Harris v. Forklift Systems Incorporated, 510 U.S. 17, 114 S.Ct. 367, 1993 U.S. Lexis 7155 (Supreme Court of the United States)

33.3 National Origin Discrimination Yes. The court held that Baccarat had engaged in national origin discrimination in violation of Title VII. Under Equal Employment Opportunity Commission (EEOC) regulations, national origin discrimination includes the denial of employment opportunity because an individual has the linguistic characteristics of a national origin group. The court stated “Accent and national origin are obviously inextricably intertwined in many cases.” Thus, unless any employee’s accent materially interferes with her job performance, it cannot legally be the basis for an adverse employment action. In this case, Ms. Rivera testified that during her one face-to-face meeting with Mr. Negre, he specifically stated that he did not like her accent. It is a statement by the president of the company who himself made the decision to terminate Ms. Rivera. Mr. Negre’s criticism of Ms. Rivera’s accent, his statement that he did not want Hispanic sale employees, and the fact that two Hispanic sales representatives were discharged while the nonHispanic salesperson was retained, all buttress the finding of liability. The court held that Baccarat had engaged in national origin discrimination in violation of Title VII and awarded Ms. Rivera $104,373 in damages, attorneys’ fees of $102,437, and prejudgment interest. Rivera v.

Baccarat, Inc., 10 F.Supp.2d 318, 1998 U.S. Dist. Lexis 9099 (United States District Court for the Southern District of New York)

33.4 Bona Fide Occupational Qualification (BFOQ) Johnson Controls’ fetal-protection policy is not a bona fide occupational qualification (BFOQ).

The U.S. Supreme Court ruled that Johnson Controls’ fetal-protection policy did not qualify as bona fide occupational qualification (BFOQ), and therefore constituted sex discrimination in violation of Title VII. The U.S. Supreme Court stated, “The bias in Johnson Controls’ policy is

obvious. Fertile men, but not fertile women, are given a choice as to whether they wish to risk their reproductive health for a particular job. Johnson Controls’ fetal-protection policy explicitly discriminates against women on the basis of their sex.” The Supreme Court stated that it had no difficulty concluding that Johnson Controls could not establish a BFOQ, stating, “We have no difficulty concluding that Johnson Controls cannot establish a BFOQ. Fertile women, as far as appears in the record, participate in the manufacture of batteries as efficiently as anyone else.

Johnson Controls’ professed moral and ethical concerns about the welfare of the next generation do not suffice to establish a BFOQ of female sterility. Decisions about the welfare of future children must be left to the parents who conceive, bear, support, and raise them rather than to the employers who hire those parents.” The U.S. Supreme Court held that Johnson Controls’s fetalprotection policy did not qualify as a BFOQ, but was instead sex discrimination in violation of Title VII. International Union, United Automobile, Aerospace and Agricultural Implement Workers of America, UAW v. Johnson Controls, Inc., 499 U.S. 187, 111 S.Ct. 1196, 1991 U.S. Lexis 1715 (Supreme Court of the United States)

Answers to Ethics Cases 33.5 Ethics Case Rawlinson proved a prima facie case of sex discrimination by showing that the state’s racially neutral height and weight restrictions to be a prison guard disparately impacted upon women.

The trial court found that the height rule excluded over 32 percent of women but less than 2 percent of men. The weight requirement excluded over 22 percent of women but less than 2.5 percent of men. Together, these restrictions would exclude over 41 percent of women but less than 1 percent of men. Dothard argues that height and weight are job related, because they have a relationship to strength that is required. The court held that a strength test should be given to establish strength, rather than using height and weight, for which there was no correlation proven. Regarding this rule, the state could be cited as acting unethically because it knew that the rule would eliminate a substantial number of females from the position. However, the state may have thought that size and weight correlated with strength and did not have an unethical

motive. Dothard, Director, Department of Public Safety of Alabama v. Rawlinson, 433 U.S. 321, 97 S.Ct. 2720, 1977 U.S. Lexis 143 (Supreme Court of the United States)

33.6 Ethics Case Yes. The U.S. Supreme Court held that the Americans with Disabilities Act (ADA) requires the PGA Tour, Inc., to accommodate Casey Martin, a disabled professional golfer, by permitting him to use a golf cart while playing in PGA-sponsored golf tournaments. The U.S. Supreme Court noted that golf carts started appearing with increasing regularity on American golf courses in the 1950s and that today they are everywhere. The Supreme Court stated, “As an initial matter, we observe that the use of carts is not itself inconsistent with the fundamental character of the game of golf. From early on, the essence of the game has been shot-making—using clubs to cause a ball to progress from the teeing ground to a hole some distance away with as few strokes as possible.” The Supreme Court continued, “The force of petitioner PGA Tour’s argument is, first of all, mitigated by the fact that golf is a game in which it is impossible to guarantee that all competitors will play under exactly the same conditions or that an individual’s ability will be the sole determinant of the outcome. A lucky bounce may save a shot or two. Whether such happenstance events are more or less probable than the likelihood that a golfer afflicted with Klippel-Trenaunay-Weber Syndrome would one day qualify for the PGA Tour, they at least demonstrate that pure chance may have a greater impact on the outcome of elite golf tournaments than the fatigue resulting from the enforcement of the walking rule.” The Supreme Court affirmed the judgment of the U.S. Court of Appeals that held that the ADA required that the PGA Tour, Inc., to accommodate Casey Martin, a disabled professional golfer, by allowing him to use golf carts while competing in PGA-sponsored professional golf tournaments. It would seem that the PGA did not have unethical motives when it instituted the cart rule and held that Martin did not meet this rule. PGA Tour v. Martin, 532 U.S. 661, 212 S.Ct. 1879, 2001 U.S. Lexis 4115 (Supreme Court of the United States, 2001)

Chapter 34 Small Business, Entrepreneurship, and General Partnerships

Answers to Critical Legal Thinking Cases 34.1 Sole Proprietorship No. Jerry Schuster is not liable for the warranty made by his father. James Schuster, the father, was a sole proprietor doing business as (d.b.a.) “Diversity Heating and Plumbing” when he made the warranty to Vernon, the purchaser of the boiler. Jerry Schuster, the son, was a sole proprietor when he later operated his sole proprietorship “Diversity Heating and Plumbing.” The court held that James Schuster’s sole proprietorship ended when he died. When Jerry, his son, began a new sole proprietorship, he began a separate business from that of his father. The court stated, “It is well settled that a sole proprietorship has no legal identity separate from that of the individual who owns it. There is generally no continuity of existence because on the death of the sole proprietor, the sole proprietorship obviously ends.” In this case, Diversity Heating has no separate legal existence. Diversity Heating was only a pseudonym for James Schuster. Once he died, Diversity Heating ceased to exist. Now, Diversity Heating is only a pseudonym for Jerry Schuster. James Schuster and Jerry Schuster, one succeeding the other, cannot be the same entity. Even though defendant Jerry Schuster inherited Diversity Heating from his father, Jerry would not have continued his father’s sole proprietorship, but rather would have started a new sole proprietorship. The court held that Jerry Schuster, as a sole proprietor, was not liable for the warranty previously made by his father. Vernon v. Schuster, d/b/a/ Diversity Heating and Plumbing, 688 N.E.2d 1172, 1997 Ill. Lexis 482 (Supreme Court of Illinois)

34.2 Liability of General Partners

Yes. Doctor Antenucci is jointly and severally liable for the medical malpractice of his partner, Doctor Pena. Pena was found negligent in treating Elaine Zuckerman during her pregnancy, which caused her son, Daniel, to be born with severe physical problems. Doctor Antenucci and Doctor Pena were partners of a medical practice operated as a general partnership. When a tort is committed by the general partnership, the wrong is imputable to all of the general partners jointly and severally, and an action may be brought against all or any of them in their individual capacities or against the partnership as an entity. Therefore, even though the jury found that defendant Antenucci was not guilty of any malpractice in his treatment of the patient Zuckerman, but that defendant Pena, his partner, was guilty of malpractice in his treatment of the patient, they were then both jointly and severally liable for the malpractice committed by defendant Pena under general partnership law. The fact that Antenucci was not liable for malpractice does not change the result. Zuckerman v. Antenucci, 478 N.Y.S.2d 578, 1984 N.Y. Misc. Lexis 3283 (Supreme Court of New York)

34.3 Tort Liability No, the law firm and the other partners are not liable for McGrath’s tortious conduct in shooting Hayes. The court noted that a master is responsible for the servant’s acts under the doctrine of respondeat superior when the servant acts within the scope of his employment and in the furtherance of the master’s business. Where a servant steps aside from the master’s business in order to affect some purpose of his own, the master is not liable. The court found no evidence to indicate, either directly or by inference that McGrath was acting in the scope of his employment when he shot Hayes. There was no evidence that McGrath transacted law firm business or engaged in any promotional activities on behalf of the law firm, and its other partners were not liable for McGrath’s tortious conduct. Hayes v. Tarbenson, Thatcher, McGrath, Treadwell & Schoonmaker, 749 P.2d 178, 1988 Wash. App. Lexis 27 (Court of Appeals of Washington)

Answer to Ethics Case 34.4 Ethics Case

Gilroy wins. The court held that Conway had breached his fiduciary duty that he owed to his copartner, Gilroy, by misappropriating partnership assets and failing to pay or account for income from the partnership. Partnership law provides that partners owe a fiduciary duty to one another, and provides that as such they owe each other a duty of loyalty. This duty is implied by law and cannot be waived.

The court held that Conway had breached this duty by taking for himself benefits of the partnership and failed to pay the income there from to the partnership; had misappropriated partnership accounts and assets; withdrew capital of the partnership for personal use; failed to pay capital and income due Gilroy; and took possession of, and used as his own, partnership property, including inventory, equipment, customer lists, contract rights and expectancies, and accounts. The court characterized this case as a “classic study of greed” and found that Conway had literally destroyed the partnership by knowingly and willfully converting partnership assets in violation of his fiduciary duty. The court awarded Gilroy $53,779—his one-half interest in the partnership—plus attorney’s fees. Gilroy v. Conway, 391 N.W.2d 419, 1986 Mich. App. Lexis 2633 (Court of Appeals of Michigan)

Chapter 35 Limited Partnerships and Special Partnerships

Answers to Critical Legal Thinking Cases 35.1 Liability of Limited Partners No, the limited partners are not individually liable to Day. A limited partnership is a domestic limited partnership in the state in which it is organized, and a foreign limited partnership in all other states. Under Kentucky law, a foreign limited partnership is required to register with the state before conducting business in that state. If a foreign limited partnership fails to do so, the only loss of right is that it cannot initiate litigation in Kentucky. Failure to register does not, however, impair the validly of any act of the partnership or prevent it from defending itself in any legal proceeding in the state or affect the limited liability status of the limited partners. The court, therefore, held that the limited partners were not individually liable to Day for his injuries.

Virginia Partners, the limited partnership, and its general partners could be held liable to Day. Virginia Partners, Ltd. v. Day, 738 S.W.2d 837, 1987 Ky. App. Lexis 564 (Court of Appeals of Kentucky)

35.2 Liability of Partners Molander can only recover against the assets of the limited partnership and its corporate general and limited partners. He cannot recover against Calvin Raugust personally. Under limited partnership law, a limited partnership is liable on its own contracts; in addition, the general partner is individually liable for the debts and obligations of a limited partnership. Limited partners may be held liable for the obligations of the limited partnership if the limited partnership has been defectively formed. Otherwise, limited partners’ liability is limited to their capital

contribution to the limited partnership. The court held that the limited partnership had been defectively formed because the parties had not even executed the limited partnership agreement and a certificate of limited partnership had not been filed with the state as required by law. Thus, because of this defect the limited partners also became liable on Molander’s contract. Thus, Molander can recover against the assets of the partnership, the assets of the corporate general partner, and the assets of the corporate limited partners. However, because all of these entities are corporations, Molander can only recover against the shareholders of these entities. That is, Molander cannot recover against Calvin Raugust, the shareholder of the corporate general partner, individually. If the assets of these defendant corporate entities are insufficient to pay Molander’s claim, he cannot recover against Raugust’s personal assets. In reaching this conclusion, the court stated: Few people are aware of the organizational intricacies of businesses with which they are dealing and unless there is an agreement to be personally liable, absent fraud or a similar basis, personal liability cannot be imposed just because a person seeks a corporate entity.

A professional architect doing business in a complex financial world cannot escape the legal consequences of failure to protect himself by professing ignorances as to corporate and partnership liability. Subjective expectations or postdisaster wishful thinking is not a substitute for legal advice and appropriate contract language. The Court of Appeals overturned the trial court’s $447,011 judgment against Calvin Raugust. Note: If Molander wanted to make Calvin Raugust personally liable for the architectural services, he should have required Raugust to sign a personal guarantee of the performance of the contract.

Molander v. Raugust-Mathwig, Inc., 722 P.2d 103, 1986 Wash. App. Lexis 2992 (Court of Appeals of Washington)

Answer to Ethics Case 35.3 Ethics Case Yes, the limited partners of Cosmopolitan are individually liable on the contract between the partnership and Dwinell’s Central Neon. Partnership law provides that if a limited partnership “substantially complies” with the legal requirements for organizing a limited partnership, the

limited partners are not individually liable for the debts of the partnership, and are only liable up to the extent of their capital contribution to the limited partnership. However, if substantial compliance is not met, the partnership is a general partnership, and the purported limited partners are individually liable as general partners.

The court held that Cosmopolitan had not substantially complied with the legal requirements for the organization of a limited partnership at the time it had entered into the contract with Dwinell’s. This was because the certificate of limited partnership had not been filed with the state until several months after the contract was signed. Obviously, the purpose of the filing requirement is to acquaint third persons, such as Dwinell’s, of the existence of the limited partnership and the limited liability of the limited partners. In this case, no filing was made at the time Dwinell’s entered into the contract, so it had no way of appraising itself of the asserted limited liability. Further, the contract only identified Cosmopolitan as a “partnership,” not as a limited partnership. The court held that there was a defective formation of Cosmopolitan as a limited partnership, and that it was a general partnership at the time the contract was signed with Dwinell’s. Therefore, the court held the purported limited partners individually liable as general partners on the debt due Dwinell’s. It could be concluded that the limited partners acted unethically in denying liability on the contract because the law was quite clear that there was no limited partnership because of the defective formation and therefore they were general partners liable on the contract with Dwinell’s. Dwinell’s Central Neon v. Cosmopolitan Chinook Hotel, 587 P.2d 191, 1978 Wash. App. Lexis 2735 (Court of Appeals of Washington)

Chapter 36 Corporate Formation and Financing Answers to Critical Legal Thinking Cases 36.1 Legal Entity Yes, Deister Corporation can be sued. Corporations are the most dominant form of business organization today. When a corporation is properly incorporated pursuant to the laws of the state of incorporation, the corporation becomes a separate legal entity for most purposes. Corporations are treated, in effect, as artificial persons created by the state that can sue or be sued in their own names. Deister was a business properly incorporated under the laws of the state of Pennsylvania.

When the corporation became involved in a dispute with Sammak, Sammak decided to sue.

Because the law views the corporation as a legal person for most purposes, Sammak was able to bring suit directly against the Deister Corporation. Blackwood Coal v. Deister Co., Inc., 626 F.Supp. 727, 1985 U.S. Dist. Lexis 12767 (United States District Court for the Eastern District of Pennsylvania)

36.2 Corporation Hutchinson Baseball Enterprises, Inc., is a private, nonprofit corporation. Nonprofit corporations are formed for charitable, educational, religious, or scientific purposes. Although nonprofit corporations may make a profit, they are prohibited by law from distributing this profit to their members, directors, or officers. Hutchinson Baseball Enterprises was formed for a charitable purpose, to promote Little League and other amateur baseball teams in Hutchinson, Kansas.

Although the corporation does generate revenue from ticket sales and concession stands, this money is never distributed to Hutchinson’s officers or directors. All revenue that the corporation generates is used to fund the corporation’s activities. Because of the corporation’s nature, Hutchinson Baseball was incorporated under Kansas law as a nonprofit corporation. Hutchinson Baseball Enterprises, Inc. v. Commissioner of Internal Revenue, 696 F.2d 757, 1982 U.S. App. Lexis 23179 (United States Court of Appeals for the Tenth Circuit)

36.3 Corporation Florida Fashions was a domestic corporation in the state of Pennsylvania. This meant that Florida Fashions was a foreign corporation in the state of Florida, unlawfully doing business due to its failure to register. A corporation is a domestic corporation in the state in which it is incorporated. It is a foreign corporation in all other states and jurisdictions. Foreign corporations have to qualify, i.e., register, to conduct business in states other than their state of incorporation.

Florida Fashions was illegally taking orders and doing business in Florida because the corporation had never qualified to conduct business in the state. Mysels v. Barry, 332 So.2d 38, 1976 Fla. App. Lexis 14344 (Court of Appeal of Florida) 36.4 Promoters’ Contracts Jacobson is incorrect, since a novation of the contract between the two parties did not occur. A corporation can become liable on a promoter’s contract by executing a novation. A novation is a three-party agreement whereby one party (the corporation) agrees to assume the contractual liability of another party (the promoter) with the consent of the original contracting party (the third party). When a novation is executed, the promoter is released from liability on the contract.

In this case, Jacobson was the promoter who formed a contract for architectural services with Stern. Jacobson later formed a corporation, Lake Enterprises, to own and operate the new casino for which Stern was drawing plans. Although the corporation may have adopted this promoter’s contract, Stern, the third party, never gave his consent for a novation. Thus, Jacobson remains liable for the contract with Stern, since a novation cannot occur without the consent of the third party. Jacobson v. Stern, 605 P.2d 198, 1980 Nev. Lexis 522 (Supreme Court of Nevada)

36.5 Preferred Stock The one million shares of preferred stock issued by Commonwealth Edison on June 24, 1970, were shares of redeemable preferred stock. Redeemable preferred stock (or callable preferred stock) permits the corporation to redeem, i.e., buy back, the preferred stock at some future date.

The terms of the redemption are established when the shares are issued. Corporations will usually redeem the shares when the current interest rate falls below the dividend rate of the preferred shares. Commonwealth Edison had set the dividend rate of the one million preferred

shares higher than it wanted due to market conditions. Thus, when the market changed, Edison was able to buy back the stock for $110 a share, $10 a share more than it had to sell the shares for, because the preferred stock was redeemable. By issuing redeemable preferred stock, the corporation is able to protect itself from changing market conditions. The Franklin Life Insurance Company v. Commonwealth Edison Company, 451 F.Supp. 602, 1978 U.S. Dist. Lexis 17604 (United States District Court for the Southern District of Illinois)

Answer to Ethics Case 36.6 Ethics Case Yes, Goodman can be held personally liable for the renovation contract with DDS. A corporation becomes liable for a contract entered into by a promoter before the corporation was formed if it agrees to be bound by ratification, adoption, or novation. Liability for the contract does not automatically transfer because the promoter was acting as the agent of a nonexistent principal when the contract was entered into. In this case, ratification of the promoter’s contracts was not allowed in the state of Washington, and no novation had occurred place. Therefore, if the newly formed corporation chose to be bound by the renovation contract, it would have to be by adoption. Upon adoption, the corporation becomes liable for the contract. However, the promoter remains personally liable on the contract, unless the third party agrees to release him. Since DDS did not agree to release Goodman from liability on the renovation contract, he remained personally liable with the newly formed corporation. It probably was unethical for Goodman to deny liability because the law states that a promoter is liable on contracts unless the third party releases the promoter from the contract. Here, DDS did not relieve Goodman, the promoter, from liability. Goodman v. Darden, Doman & Stafford Associates, 670 P.2d 648, 1983 Wash. Lexis 1776 (Supreme Court of Washington)

Chapter 37 Corporate Governance and Sarbanes-Oxley-Act

Answers to Critical Legal Thinking Cases 37.1 Proxy No, Smith and Gibbons cannot reverse their proxy agreement with Zollar. A normal proxy, unless otherwise stated, is valid for 11 months. A proxy becomes irrevocable for a longer period if the proxy states that it is irrevocable, and it is coupled with an interest. Smith and Gibbons had given Zollar a proxy that specifically stated that it was irrevocable for a period of ten years. The court held that the proxy was coupled with an interest in that Smith and Gibbons had given their proxies in exchange for Zollar’s contribution to the corporation. Smith and Gibbons were attempting to reverse their proxy after only one had passed. Because the proxy agreement was to last for ten years, and the proxy met the requirements for irrevocability, the court held that the proxies were still valid. Zollar v. Smith, 710 S.W.2d 155, 1986 Tex. App. Lexis 12900 (Court of Appeals of Texas)

37.2 Dividends Gay’s Super Markets wins the suit. The payment of dividends is at the discretion of the board of directors. The directors are responsible for determining when, where, how, and how much will be paid in dividends. Corporations often do not pay dividends, but retain profits in the corporation to be used for research expense, internal expansion, and other anticipated needs.

Courts will only order a corporation to declare a dividend if the directors have abused their discretion in not paying. Gay’s Super Markets’ board stated valid reasons, such as expansion, for not granting a dividend at their January 1972 meeting. This decision was well within the board’s

discretion. Because Gay’s had usually decided to retain earnings due to increased competition and planned expansion, the court did not interfere with their decision. Gay v. Gay’s Super Markets, Inc., 343 A.2d 577, 1975 Me. Lexis 391 (Supreme Judicial Court of Maine)

37.3 Duty of Loyalty Hellenbrand wins since he can obtain an injunction to prevent Berk from leasing the club.

Directors and officers of corporations owe the corporation a duty of loyalty. This duty requires that officers and directors subordinate their own personal interests to those of the corporation and its shareholders. The duty of loyalty prevents officers and directors from competing with the corporation and usurping corporate opportunities. Berk was an officer of a corporation, and a vice president of Comedy Cottage, Inc. Berk usurped a corporate opportunity when he arranged for the Comedy Cottage’s lease to be drawn in his own name. When this action was discovered, Berk used his former position to retain the lease and open his own Comedy Club. This new club was in direct competition with his old corporation. Because of these two actions, the court held that Berk had breached his duty of loyalty to the Comedy Cottage, and granted Hellenbrand the injunction he sought. Comedy Cottage, Inc. v. Berk, 495 N.E.2d 1006, 1986 Ill. App. Lexis 2486 (Appellate Court of Illinois)

37.4 Piercing the Corporate Veil Yes, Walters can be held personally liable, because Wildhorn Ranch, Inc., was merely his alter ego. When a shareholder dominates a corporation and does not maintain any separation between himself and the corporation, that corporation is merely his alter ego. When this occurs, the shareholder may be held personally liable for the corporation’s debts and obligations. A shareholder may be held liable if the corporation fails to follow the necessary formatting required by applicable statutes, such as holding shareholders meetings, and keeping minutes of these meetings. In this case, Walters dominated the affairs of Wildhorn Ranch, Inc., and ran the corporation without observing any of the necessary corporate formalities. Walters paid Wildhorn’s debts with money from his other corporations, kept no minutes of shareholders

meetings, and held the meetings in his living room. Because Walters failed to separate himself from the corporation, he was found liable for the corporation’s torts and other debts. Geringer v, Wildhorn Ranch, Inc., 706 F.Supp. 1442, 1988 U.S. Dist. Lexis 15701 (United States District Court for the District of Colorado)

Answers to Ethics Cases 37.5 Ethics Case Chelsea wins and can recover from Gaffney and his partners. Directors and officers of a corporation owe a duty of loyalty to the corporation. Part of this duty is to not compete with the corporation, unless full disclosure of the competing activity is made, and a majority of the disinterested shareholders approve of the activity. Directors and officers cannot use the facilities, personnel, or funds of the corporation for their own benefit. The corporation can recover any profits made by the nonapproved competition and any other damages caused to the corporation.

Gaffney and his partners were all officers of Ideal. Gaffney and the others set up a competing business without informing the corporation or its shareholders. They also used Ideal’s assets and facilities to build their own business and recruit customers for it. These actions by Gaffney and the other officers constituted a breach of their duty of loyalty to Ideal, and the corporation was able to recover damages from them. Gaffney definitely acted unethically in this case. He owed and substantially breached the duty of loyalty that he owed to his employer. Chelsea Industries, Inc. v. Gaffney, 449 N.E.2d 320, 1983 Mass. Lexis 1413 (Supreme Judicial Court of Massachusetts)

37.6 Ethics Case The District Court correctly found Farms to be the alter ego of Chemicals. First, Farms did not have a separate financial existence. The $10,000 investment created a thin corporation (diaphanous) that depended upon its parent Chemicals for transfusions of working capital.

Second, the nature of the loans to Farms from Chemicals reveals that whenever Farms could not

pay its debts Chemicals wrote a check for payment. There were no corporate resolutions authorizing these extraordinary “loans.” Third, the use of Chemicals’ offices and computers justify the district court’s finding of joint use and ownership of property. Finally, regardless of whether the fraudulent papers were signed by Thomas as Farms’ president or Thomas as Chemical the corporate entity was appropriately disregarded. Observance of corporate formalities is only one aspect of corporateness; by itself it does not create a separate existence for an entity. Thomas act unethically in this case by engaging in fraudulent conduct by which he and his companies stole millions of dollars from the federal government. United States of America v.

Jon-T Chemicals, Inc., 768 F.2d 686, 1985 U.S. App. Lexis 21255 (United States Court of Appeals for the Fifth Circuit)

Chapter 38 Corporate Acquisitions and Multinational Corporations Answers to Critical Legal Thinking Cases 38.1 Shareholder Resolution Yes, the Medical Committee’s proposed shareholder resolution could be stated in terms to meet the requirements of Section 14(a) to be included in Dow Chemical’s proxy materials. If a shareholder meets the ownership requirements of Section 14(a) (which the Committee met), he has a right to place a proposal in the proxy materials of the corporation if the proposal relates to the corporation’s business, concerns a policy issue and not the day-to-day operations of the corporation, and does not solely relate to a social or religious purpose.

In this case, Dow Chemical was manufacturing napalm, a chemical substance that was used as a defoliant in Vietnam during the Vietnam conflict. Napalm, which was often dropped from airplanes, caused damage to humans who were burned by it and those who were exposed to it.

There was substantial public criticism and demonstration against Dow for making napalm. In addition, many young people of college age refused to work for Dow because of its manufacture of napalm.

These reasons—the bad publicity and inability to recruit young professionals—were sufficient to support the Committee’s request to include its shareholder proposal in Dow’s proxy materials. In addition, the Committee could have also asserted that Dow’s manufacture of napalm made it susceptible to product liability lawsuits by those injured by it. All of these are reasons that the Committee could have asserted to support the inclusion of its shareholder proposal in Dow’s proxy materials. Merely stating that the making of napalm violated the Commission’s credo for the concern for human life would not be sufficient to require the proposal to be included in Dow’s proxy materials. Medical Community for Human Rights v.

Securities and Exchange Commission, 432 F.2d 659, 1970 U.S. App. Lexis 8284 (United States Court of Appeals for the District of Columbia Circuit)

38.2 Dissenting Shareholder Appraisal Rights No, John Bershad may not obtain dissenting shareholder appraisal rights. To obtain appraisal rights, a dissenting shareholder must (1) file a written objection to the merger prior to the vote of shareholders, (2) not vote in favor of the proposed merger, and (3) make a written demand for payment of his shares. Failure to comply with these statutory procedures results in loss of appraisal rights. In this case, Bershad failed to comply with the statutory requirements. He failed to make a written objection to the merger prior to the vote of shareholders, he tendered his shares for the merger and received payment for his shares, and he failed to make a written demand for payment of his shares. The court held that since Bershad did not meet the statutory procedure, he did not qualify to bring an action to recover dissenting shareholder appraisal rights or any other remedy. Bershad v. Curtiss-Wright Corporation, 535 A.2d 840, 1987 Del. Lexis 1313 (Supreme Court of Delaware)

38.3 Tender Offer Mobil Corporation wins. The court held that Marathon Oil Company had violated Section 14(e) of the Williams Act. Section 14(e) prohibits fraudulent, deceptive, and manipulative practices in connection with tender offers. The court held that both the stock option and Yates Field option that Marathon granted to U.S. Steel was a fraudulent, deceptive, and manipulative practice in violation of Section 14(e).

First, the stock option was fraudulent in that it gave U.S. Steel the right to purchase 30 million shares of Marathon common stock for $90 per share. This was fraudulent because it was below the fair market value of the stock, which was currently around $125 per share. This stock option violated Section 14(e) because it subsidized U.S. Steel’s purchase of Marathon. No other suitor, particularly Mobil, was given this same right.

Second, the Yates Field option which gave U.S. Steel the irrevocable right to purchase Marathon’s interest in Yates Field for $2.8 billion if a third party gained control of Marathon violated Section 14(e). This was because the fair market value of Marathon’s interest in the Yates Field was worth up to $3.6 billion. This is called selling the “crown jewel” because Marathon was selling one of the most important assets that attracted Mobil to make the tender offer for Marathon’s share in the first place.

The court held that both the stock option and Yates Field option granted by Marathon to U.S. Steel violated Section 14(e) of the Williams Act. The court ordered that U.S. Steel’s $125 per share offer be kept open for a reasonable time but free of the inhibiting and unlawful impact of these two options. Note: U.S. Steel acquired Marathon Oil through a tender offer and follow-up merger. Mobil Corporation v. Marathon Oil Company, 669 F.2d 366, 1981 U.S. App. Lexis 14958 (United States Court of Appeals for the Sixth Circuit)

38.4 State Antitakeover Statute The court held that Wisconsin’s antitakeover statute was lawful and did not conflict with the federal Williams Act or violate the Commerce Clause of the U.S. Constitution. The Court of Appeals reached this decision by applying the reasoning used by the U.S. Supreme Court in upholding a state antitakeover statute in CTS Corporation v. Dynamics Corporation of America, 481 U.S. 69, 107 S. Ct. 1637 (1987).

The court in the present case held that the Williams Act regulates the process of tender offers, i.e., timing, disclosures, proration, best price rule, and such. None of these provisions are violated by the Wisconsin act; it does not alter any of the procedures governed by federal regulation. The court also held that the Wisconsin act does not unduly burden interstate commerce. It is an accepted part of the business landscape in this country for states to create corporations, prescribe their powers, and regulate their internal affairs. Wisconsin has done no more than that in this case. The court held that the Wisconsin antitakeover statute did not conflict with the Williams Act or violate the Commerce Clause of the U.S. Constitution. Amanda Acquisition Corporation v. Universal Foods, 877 F.2d 496, 1989 U.S. App. Lexis 9024 (United States Court of Appeals for the Seventh Circuit)

Answer to Ethics Case 38.5 Ethics Case Yes, the actions of Fruehauf’s management violated the business judgment rule. The business judgment rule requires management of a company to act in good faith and in the best interests of the corporation’s shareholders. Management must not put their personal interests before those of

the company’s shareholders. In this case, the court held that the management and directors of Fruehauf violated the business rule in the following respects: 1. The payment of a breakup fee to Merrill Lynch—which was payable even if the management-led MBO was not misuse of the corporation’s funds. This was really a payment by competing management-led MBO to Merrill Lynch out of the corporate treasury.

2. The “no shop” agreement violated Fruehauf management’s responsibility to shareholders to find the best and highest price for their shares. This can hardly be done when management has agreed not to look for a higher bidder to compete with their own bid for the company.

3. Fruehauf management’s continued preference for their own bid over that of the Edelman group by giving Merrill Lynch information not given to the Edelman group was a violation of their duty to give all suitors an equal opportunity to bid for the company.

4. Granting such lucrative “golden parachutes” to themselves, which would be triggered by their own bid for the company and used as their equity investment to purchase the company, violated their fiduciary duty to the shareholders.

The court held that all of the actions by Fruehauf’s management were a breach of their fiduciary duties to shareholders and a violation of the business judgment rule. The court enjoined Fruehauf management from instituting their actions. Fruehauf’s management’s breach of their duty of good faith constituted unquestionable unethical conduct. Edelman v. Fruehauf Corporation, 798 F.2d 882, 1986 U.S. App. Lexis 27911 (United States Court of Appeals for the Sixth Circuit)

Chapter 39 Limited Liability Companies and Limited Liability Partnerships Answers to Critical Legal Thinking Cases 39.1 Limited Liability Yes. The plaintiffs who sued Bone are required to pay the legal fees he incurred while fighting the plaintiffs’ lawsuit. Limited liability law provides that the owners and managers of a limited liability company (LLC) do not have personal liability for the debts and obligations of the LLC. North Carolina General Statutes Section 57C-3-30 provides “(a) A person who is a member or manager, or both, of a limited liability company is not liable for the obligations of a limited liability company solely by reason of being a member or manager or both, and does not become so by participating, in whatever capacity, in the management or control of the business; (b) A member of a limited liability company is not a proper party to proceedings by or against a limited liability company.” The court of appeals held that Bone, as a member of Roscoe, LLC, was not liable as a matter of law for the acts of the LLC and was therefore improperly named as a defendant in the lawsuit filed by the plaintiffs. The plaintiffs were held liable for sanctions and were required to pay Bone’s attorneys’ fees that he expended in defending against the plaintiffs’ lawsuit. Page v. Roscoe, LLC, 497 S.E.2d 422, 1998 N.C. App. Lexis 169 (Court of Appeals of North Carolina)

39.2 Liability of Members Only Microhard.com, LLC is liable. Harold, Jasmine, Caesar, and Yuan, the owners Microhard.com, LLC, are not liable. Heather, the LLC’s employee who caused the accident is personally liable to Singer, the pedestrian she negligently injured. An LLC is liable for any loss or injury caused to anyone as a result of a wrongful act or omission by a member, a manager, an agent, or an employee of the LLC who commits the wrongful act while acting within the ordinary course of business of the LLC or with authority of the LLC. Thus, the LLC is liable for

the negligence of its employee. However, the debts, obligations, and liabilities of an LLC, whether arising from contracts, torts, or otherwise, are solely those of the LLC. The general rule is that members of an LLC are not personally liable to third parties for the debts, obligations, and liabilities of an LLC beyond their capital contribution. Therefore, the owners of Microhard.com, LLC—Harold, Jasmine, Caesar, and Yuan—are not personally liable to the pedestrian injured by the LLC’s employee.

39.3 Manager-Managed LLC Unlimited, LLC is bound to the lease entered into by Min-Yi but it is not bound to the lease entered into by Chelsea. In a member-managed LLC all of the member-owners are agents of the LLC and can bind the LLC to contracts. However, in this case the LLC is a manager-managed LLC, whereby only the designed managers can bind the LLC to contracts. The ownernonmanager members cannot bind the LLC to contracts. Min-Yi is the member manager of the LLC and therefore had authority to enter into the lease with Landlord, Inc. to lease the store location for the LLC on Rodeo Drive in Beverly Hills, California. Chelsea is a member but not a manger of the LLC and does not have the authority to bind the LLC to contracts. Therefore, the LLC is not bound to the lease that Chelsea purportedly entered into on behalf of the LLC with Real Estate, Inc. to lease a store location on North Michigan Avenue in Chicago. Chelsea is personally liable for that lease, however.

39.4 Duty of Loyalty Yes, Ally is liable. Members of a member-managed LLC owe a fiduciary duty of loyalty to the LLC. This means that the members must act honestly in their dealings with the LLC. One of these duties is to not compete with the LLC. In a manager-managed LLC, the managers owe a duty of loyalty to the LLC. However, in a manager-managed LLC the nonmanager members do not owe a duty of loyalty to the LLC. This means that the nonmanager members can compete with the LLC. Because Ally is a manager member of Movers & You, LLC, she owes a duty of loyalty to the LLC and cannot compete with the LLC. Therefore, by becoming an owner member of Lana & Me, LLC, which competes with Movers & You, LLC, she has breached her duty of loyalty to Movers & You, LLC. Ally is liable for any damages caused to Movers & You, LLC.

Answers to Ethics Cases 39.5 Ethics Case Fuzzy Toys, LLC and its insurer, Allied Insurance Company, are liable. Angela, Yoko, Cherise, and Serena are not liable. The LLC is liable for the $10 million judgment because it produced the defective doll that injured Catherine, the 7-year old child who was severely injured by the toy.

The LLC’s insurance company, Allied Insurance Company, is also liable. So, Allied must pay the $800,000 of insurance to Catherine, but after that its obligation is over. Fuzzy Toys, LLC, is also liable, but only has $200,000 of assets at the time of the injury. The LLC is obligated to pay $200,000 to Catherine. In total, Catherine has collected $1 million. There is still $9 million of unpaid judgment. Angela, Yoko, Cherise, and Serena, as owner members of the LLC, are not personally liable for any of the judgment. One of the reasons for forming and operating as an LLC is to shield the owners from personal liability. And that is what happens here. So the injured Catherine can recover $800,000 liability insurance from Allied and can recover the $200,000 that Fuzzy Toys, LLC has, but she cannot recover anything from the owner members of the LLC. Do persons act ethically by forming an LLC knowing that they cannot be held personally liable for the debts and obligations of the LLC? This is a difficult question to answer. By permitting members of LLCs to avoid personal liability, commerce is greatly facilitated. Without such a limited liability shield, many people would not start or invest in LLCs, and business in this country would be severely hampered. When balancing competing interests, the social benefit of permitting limited liability to LLC owners outweighs the reason for holding the owners personally liable. The ethical thing for owners of LLCs to do is to acquire sufficient liability insurance to pay most claims. That way, injured parties will be compensated for injuries and the owners will not be subject to personal liability.

39.6 Ethics Case Yes. Melony is liable. A member of a member-managed LLC and a manager of a managermanaged LLC owe a fiduciary duty of loyalty to the LLC. This means that these parties must act honestly in their dealings with the LLC. A major breach of the duty of loyalty occurs where a member sells the LLC’s secrets to another party. The member who sells the secrets is doing so

for personal gain and not for the benefit of the LLC that she is member of. Here, Melony sold the plans and drawings for a valuable secret asset of the LLC to another party. Melony has breached her duty of loyalty and is liable to the LLC for any damages her breach of loyalty causes the LLC. In this case, there is no question that Melony acted unethically. Not only the law but also ethical principles were violated by her actions. She owed a fiduciary duty to her co-owners to not reveal secrets to any other party. She acted unethically by breaching this duty of trust.

Chapter 40 Franchise and Special Forms of Business

Answers to Critical Legal Thinking Cases 40.1 Agency No, Re/Max International, Inc. (Re/Max) is not liable for the automobile accident caused by Nascimento that injured plaintiff Ana Maria de Oliveira Fernandes. Re/Max, as a franchisor, had granted a franchise to a franchisee in Illinois. The franchise agreement stated that the franchisee was an independent contractor of Re/Max. Re/Max did not control the daily operations of its franchisee or the daily activities of Nascimento. Nasimento was an independent contractor real estate agent of the franchisee. Re/Max did not hire Nasimento, nor require him to work certain hours or to attend meetings or in any other manner control the day-to-day operation of its franchisee and Nasimento. Pursuant to the franchise agreement the franchisee was required to notify clients that it was an independent contractor. This the franchisee did in several ways, including having this fact stated on the business card that Nascimento gave to his client Fernandes. The appellate court held that Nascimento was not the actual or apparent agent of Re/Max at the time of the accident that injured Fernandes. Just because Nascimento did not carry insurance that could pay for part or all of Fernandes’ injuries does not make Re/Max, the franchisor, responsible for damages. Oliveira-Brooks v. Re/Max International, 865 N.E.2d 252, 2007 Ill. App. Lexis 250 (Appellate Court of Illinois, 2007)

40.2 Tort Liability No. The Costa Mesa 7-Eleven franchisee was not an agent of the franchisor, the Southland Corporation. Also, the doctrine of apparent agency does not apply to the facts of the case.

Therefore, Southland is not liable for the alleged tortious conduct of its franchisee. In the field of franchise agreements, the question of whether the franchisee is an independent contractor or an agent depends on whether the franchisor exercises complete or substantial control over the franchisee. The Southland agreement recites that the franchisees are independent contractors, and provisions in the agreement give the Trujillos, the franchisees, the right to make all inventory, employment and operational decisions. As provided under the franchise agreement, the franchisee exercised full and complete control over the store’s employees, including the hiring, firing, disciplining, compensation, and work schedules. The franchisee could purchase whatever inventory it chose and from whatever supplier it want to purchase them from. It was the sole decision of the franchisee to sell clove cigarettes. Southland did not advertise, promote or merchandise the clove cigarettes sold at the franchisee’s store. Therefore, the Costa Mesa 7Eleven franchisee was not an express or apparent agent of Southland, but was an independent contractor. The Southland Corporation, the franchisor, is not liable for the franchisee’s alleged tortious conduct in this case. Cislaw v. Southland Corporation, 4 Cal. App.4th 1284, 6 Cal. Rptr.2d 386, 1992 Cal. App. Lexis 375 (Court of Appeal of California)

40.3 Trademark Ramada Inns wins. The court held that Gadsden Motel Company (Gadsden) had infringed on Ramada Inns’ trademarks and service marks by its unauthorized use of such marks. The franchise agreement granted Gadsden, the franchisee, a license to use the “Ramada Inns” marks during the course of the franchise. However, when Ramada Inns properly terminated the franchise agreement with Gadsden on November 17, 1983, Gadsden lost the right to use the Ramada Inn trademarks and service marks. Evidence showed, however, that Gadsden continued to use the “Ramada Inns” marks for at least six months past that date. Therefore, the court found that Gadsden had engaged in trademark infringement in violation of the Lanham Act. The court of appeals affirmed the trial court’s judgment which awarded Ramada Inns $47,165 in trademark infringement damages, $29,610 in lost franchise fees for the six-month “hold over” period, $15,000 for advertising to restore Ramada Inns’ good reputation, and $20,000 in attorney fees.

Ramada Inns, Inc. v. Gadsden Motel Company, 804 F.2d 1562, 1986 U.S. App. Lexis 34279 (United States Court of Appeals for the Eleventh Circuit)

40.4 Termination of a Franchise The dealership wins. The court found that Kawasaki USA had wrongfully terminated the franchise held by Kawasaki Shop of Aurora (Dealer). Illinois franchise law provides that a franchise agreement may not impose “unreasonable” restrictions on motor vehicle dealers. The court held that the site-control provision in the franchise agreement that required the franchisor’s written approval before the franchisee could relocate within its exclusive territory was an unreasonable restriction in violation of the law. The court cited evidence that Kawasaki USA had objected to the move because the dealer was creating a multiline franchise location from which it would sell Honda, Suzuki, and Yamaha motorcycles as well as Kawasaki motorcycles. The court held that a multiline franchise dealership was expressly permitted by the franchise agreement.

Thus, Kawasaki was wrongfully using the site-control provision to violate the multiline dealership provision in the franchise agreement. Based on the evidence, the court held that Kawasaki USA had wrongfully terminated the Dealer and awarded the Dealer $323,690 as compensatory damages and $79,422 in attorney fees. Kawasaki Shop of Aurora, Inc. v. Kawasaki Motors Corporation, U.S.A., 544 N.E.2d 457, 1989 Ill. App. Lexis 1442 (Appellate Court of Illinois)

Answer to Ethics Case 40.5 Ethics Case No, Southland is not legally liable for the tortious acts of its 7-11 franchisee Campbell, who sold liquor to a minor, who then caused an automobile accident that killed one person and severely injured two other persons.. Campbell, as a franchisee, was not an agent of Southland. Only Campbell managed the day-to-day activities of the store: she hired and fired employees, and set their wages; and the franchise agreement provided that the relationship was one of independent contractor. The only evidence of agency is the fact that the liquor license was issued to “Campbell Valerie Southland #13974,” but this is simply an identification of the licensee as a franchisee of Southland and did not create an agency relationship. Here, Southland and Campbell

were independent contractors of each other. There was no agency relationship between them.

Only Campbell, the franchisee, is liable to the plaintiffs who were harmed in the automobile accident. Under the facts of this case it seems that Southland is not morally responsible for the harm caused by the under aged drinker. If Southland, and all other franchisors, were compelled by moral duty to pay for the harm caused by their franchisees, there would be no reason to operate franchises as separate operations. Wickham v. The Southland Corporation, 168 Cal. App.3d 49, 213 Cal. Rptr. 825, 1985 Cal. App. Lexis 2070 (Court of Appeal of California)

Chapter 41 Investor Protection and E-Securities Transactions

Answers to Critical Legal Thinking Cases 41.1 Definition of a Security The notes issued by the Co-Op are “securities.” In order for the defendant, Ernst & Young, to be subject to federal securities laws in this case, the instrument at issue must be found to be a security. The U.S. Supreme Court found the note issued by the Co-Op to be a security, thus subjecting the Co-Op’s auditor, Ernst & Young, to a securities lawsuit. The Supreme Court applied a “family resemblance test” in finding the note a security. The Court reasoned that the notes were securities because (1) the Co-Op sold them to raise capital, (2) there was common trading in the notes, (3) the public reasonably perceived from advertisements for the sale of the notes that they were investments, and (4) there was no risk-reducing factor that would make the application of the Securities Acts unnecessary. Thus, the notes are securities that are subject to federal securities laws. Reeves v. Ernst & Young, 494 U.S. 56, 110 S.Ct. 945, 1990 U.S. Lexis 1051 (Supreme Court of the United States).

41.2 Definition of Security Yes, the Dare sales scheme is a security that should have been registered with the Securities and Exchange Commission (SEC). In SEC v. W.J. Howey Co., the U.S. Supreme Court defined an “investment contract” as a scheme that involves (1) an investment of money (2) in a common enterprise (3) with the profits to come solely from the efforts of others. The Supreme Court stated that this definition should be broadly and flexibility construed.

The court applied the Howey test in the instant case and held that the Dare multilevel sales scheme was an investment contract. There was obviously an investment of money in a common enterprise. The only difficult issue was whether the Dare plan derived profits for the investors from the efforts of others. The court held that the word “solely” should not be read literally. The court held although investors must exert some effort—mainly convincing friends, neighbors, and others to attend the Adventure Meetings—primarily their profits came from the efforts of others, i.e., from the efforts of the Dare people at the meetings to convince the attendees to sign up and pay money for one of the Adventure levels.

The court held that the Dare multilevel sales scheme was an “investment contract” and therefore a security that had to be registered with the SEC before it was sold. The court held that Turner had sold unregistered securities in violation of securities laws and granted an injunction against Turner from selling any more Dare plans. Previous purchasers could sue to rescind the purchase agreement and recover the money they paid. Securities and Exchange Commission v.

Glenn W. Turner Enterprises, Inc., 474 F.2d 476, 1973 U.S. App. Lexis 11903 (United States Court of Appeals for the Ninth Circuit)

41.3 Intrastate Offering Exemption No, the issue of securities by McDonald Investment Company (McDonald) does not qualify for the intrastate offering exemption from registration. The company met most of the requirements for an intrastate offering exemption, such as (1) the company was a resident of Minnesota, i.e., it was incorporated in Minnesota; (2) its principal place of business was in Minnesota; (3) it was doing business in Minnesota with over 80 percent of its assets located in the state and over 80 percent of its revenues derived from within the state; and (4) the purchasers of the securities were all residents of the state. However, to qualify for the exemption, at least 80 percent of the proceeds from the offering must be invested in the state. Here, the entire proceeds from the securities issue were invested in loans on real estate and other assets located outside the state of Minnesota. Because of this fact, the Court held that the transaction did not qualify for an intrastate offering exemption from registration and issued an injunction prohibiting the continued sale of the securities. Note: Investors who purchased the securities could also rescind their

purchase agreement. Securities and Exchange Commission v. McDonald Investment Company, 343 F.Supp. 343, 1972 U.S. Dist. Lexis 13547 (United States District Court for the District of Minnesota)

41.4 Transaction Exemption No, the sale of the Continental securities by Wolfson and his family and associates does not qualify for an exemption from registration as a sale “not by an issuer, underwriter, or dealer.”

The Court held that an issuer includes any person who directly or indirectly controls the issuer.

In this case, Wolfson controlled Continental. He was its largest shareholder, made the policy decisions for the corporation, and controlled and directed the company’s officers.

The court found that the defendants had tried to conceal the sale of the securities by selling them over an 18-month period through many different brokers. The court held that these sales constituted a major “distribution” of Continental securities that should have been registered with the Securities Exchange Commission if the sales did not qualify for an exemption from registration. The court held that the securities sales did not qualify as a sale “not by an issuer” because Wolfson had been found to have been in control of the issuer of the securities— Continental. The court held that Wolfson and his family and associates should have registered the securities with the SEC, and that they had violated Section 5 of the Securities Act of 1933 because they had not registered the securities. United States v. Wolfson, 405 F.2d 779, 1968 U.S. App. Lexis 4342 (United States Court of Appeals for the Second Circuit)

41.5 Section 10(b) The plaintiff investors win and may sue the defendants for the alleged violations of Section 10(b) of the Securities Exchange Act of 1934. The defendants had asserted that the common-law defense of in pari delicto (“unclean hands”) prohibited the plaintiffs from suing because they had participated in the fraud with the defendants, i.e., the plaintiffs thought they were trading on “inside information” when they purchased the TONM securities. Under the in pari delicto theory, if two parties to illegal conduct are mutually or equally at fault, they cannot use the court

system to sue the other party to the illegal conduct. The issue in the instant case is whether the in pari delicto theory should be applied to securities laws.

The U.S. Supreme Court held that the in pari delicto theory does not apply to actions brought for alleged violations of securities laws. Thus, the plaintiffs in this case who had participated in the insider-trading scheme with the defendants could sue the defendants for disclosing false inside information to them. The Supreme Court stated: “We conclude that the public interest will most frequently be advanced if defrauded tippees are permitted to bring suit and to expose illegal practices by corporate insiders and broker dealers to full public view for appropriate sanctions.”

The court held that the in pari delicto theory did not apply to suits alleging violations of Section 10(b) and that the plaintiffs could maintain their lawsuit against the defendants. Bateman Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299, 105 S.Ct. 2622, 1985 U.S. Lexis 95 (Supreme Court of the United States)

Answer to Ethics Case 41.6 Ethics Case The misappropriation theory stipulates that a person commits fraud in connection with a securities transaction when he or she misappropriates confidential information for securities in breach of a duty owed to the source of the information and uses that information to trade in the securities of another company. Basically, the misappropriation theory outlaws trading on the basis of nonpublic information by a corporate “outsider in breach of a duty owed not to a trading party, but to the source of the information.

Here, O’Hagan violated the misappropriation theory and is guilty of violating securities law.

He is the classic outsider to which the misappropriation theory applies. O’Hagan was a lawyer hired by one company, Grand Metropolitan PLC (Grand Met), to prepare documents for the possible tender offer by Grand Met for the shares of Pillsbury Company. O’Hagan used the inside information he knew about the tender offer and purchased shares and options on Pillsbury stock. O’Hagan made a profit of more than $4 million when the tender offer was announced. In this case, O’Hagan breached his fiduciary duty to Grand Met when he misappropriated that

information and purchased the shares and options on Pillsbury stock. O’Hagan is guilty of securities fraud under the misappropriation theory.

O’Hagan acted unethically in this case. He used proprietary confidential information from a client to make a profit by trading in the securities of another corporation. He violated his fiduciary duty to his client Gran Met when he used secret information for his own personal benefit. O’Hagan would have acted unethically even if his conduct had not been made illegal.

But the U.S. Supreme Court, in applying the misappropriation theory, judged that his unethical conduct was also illegal. United States v. O’Hagan, 521 U.S. 642, 117 S.Ct. 2199, 1997 U.S. Lexis 4033 (Supreme Court of the United States)

41.7 Ethics Case Yes, the defendant executives Crawford and Coates are each liable for engaging in insider trading, in violation of Section 10(b) of the Securities Exchange Act of 1934. The insiders here were not trading on an equal footing with the outside investors. They alone were in a position to evaluate the probability and magnitude of what seemed from the outset to be a major ore strike.

Crawford telephoned his orders to his Chicago broker about midnight on the day before the announcement and again at 8:30 in the morning of the day of the announcement with instructions to buy at the opening of the stock exchange that morning. Crawford sought to, and did, “beat the news.” Before insiders may act upon material information, such information must have been effectively disclosed in a manner sufficient to ensure its availability to the investing public. Here, where a formal announcement to the entire financial news media had been promised in a prior official release known to the media, all insider activity must await dissemination of the promised official announcement. Crawford, an insider, traded while in the possession of material nonpublic information and is therefore liable for violating Section 10(b).

Coates’s telephone order was placed shortly before 10:20 A.M. on the day of the announcement, which occurred a few minutes after the public announcement. When Coates purchased the stock, the news could not be considered already a matter of public information.

Insiders should keep out of the market until the established procedures for public release of the

information are carried out instead of hastening to execute transactions in advance of, and in frustration of, the objectives of the release. Assuming that the contents of the official release could instantaneously be acted upon, at a minimum, Coates should have waited until the news could reasonably have been expected to appear over the media of widest circulation, rather than hastening to ensure an advantage to himself and his broker son-in-law.

Both Crawford and Coates, insider executives of Texas Gulf Sulphur Company, engaged in illegal insider trading, in violation of Section 10(b) of the Securities Exchange Act of 1934.

It is not difficult to conclude that Crawford act unethically in this case. As an insider he had knowledge of the substantial and valuable ore strike of the company, and telephoned his orders to buy the company’s stock to his Chicago broker about midnight on the day before the announcement and again at 8:30 in the morning of the day of the announcement. This way he beat the market. His actions were both unethical and illegal. Coates, who purchased securities of the company just minutes after the public announcement was made, knew that he was going to beat most of the market. He too acted unethically in making these purchases. Securities and Exchange Commission v. Texas Gulf Sulphur Company, 401 F.2d 833, 1968 U.S. App. Lexis 5797 (United States Court of Appeals for the Second Circuit)

Chapter 42 Ethics and Social Responsibility of Business Answers to Critical Legal Thinking Cases 42.1 False Advertising No. Papa John’s advertising slogan “Better Ingredients. Better Pizza” is not false advertising.

One form of non-actionable statements of general opinion under Lanham Act has been referred to as “puffery.” Prosser and Keeton on the Law of Torts (5th edition) define “puffing” as “a seller’s privilege to lie his head off, so long as he says nothing specific, on the theory that no reasonable man would believe him, or that no reasonable man would be influenced by such talk.”

Bisecting the slogan “Better Ingredients. Better Pizza,” it is clear that the assertion by Papa John’s that it makes a “Better Pizza” is a general statement of opinion regarding the superiority of its product over all others. Consequently, it appears indisputable that Papa John’s assertion “Better Pizza” is non-actionable puffery. Moving next to consider the phrase “Better Ingredients,” the same conclusion holds true. Like “Better Pizza” it is typical puffery. Thus, it is equally clear that Papa John’s assertion that it uses “Better Ingredients” is one of opinion not actionable under the Lanham Act. Consequently, the slogan as a whole is a statement of nonactionable opinion. The U.S. Court of Appeals found that no false advertising had occurred and held in favor of Papa John’s. Pizza Hut, Inc. v. Papa John’s International, Inc., 227 F.3d 489, 2000 U.S. App. Lexis 23444 (United States Court of Appeals for the Fifth Circuit, 2000)

42.2 Bribery No, Sun-Diamond did not violate the federal anti-bribery and gratuity statute by giving items to the U.S. Secretary of Agriculture. A criminal conviction under the federal anti-bribery and gratuity statute requires a showing of a direct nexus between the value conferred on the public official and the official act performed by the public official in favor of the giver. The anti-bribery and gratuity statute requires more than a showing that a gift was motivated, at least in part, by the recipient’s capacity to exercise governmental power or influence in the donor’s favor without

necessarily showing that it was connected to a particular official act. This meaning of the statute is incorrect because of the peculiar results that it would produce: It would criminalize, for example, token gifts to the president based on his official position and not linked to any identifiable act—such as the replica jerseys given by championship sports teams each year during ceremonial White House visits. There must be proof of a direct nexus between the gratuity given and the public official’s act before the federal anti-bribery and gratuity statute is violated. Because no such direct nexus was shown in this case, there is no violation of the federal anti-bribery and gratuity statute.

Is it ethical for a public employee to accept a gift by a company or other party when the public official will be voting on or deciding an issue that affects the giver? Most person’s answers would be that it is unethical for the public official to accept such gifts. How can a government official be totally objective when he or she has been given a gift by a party who has an issue to be decided, a law to be passed, or a license to be granted, by the public official who is the recipient of the gift. And if the public official decides against the party who has given him or her the gift, does the public official consider that the gifts might then stop? United States v. SunDiamond Growers of California, 526 U.S. 398, 119 S.Ct. 1402, 1999 U.S. Lexis 3001 (Supreme Court of the United States)

42.3 Liability Yes, an ethicist applying the utilitarian approach to the question of bankruptcy might approve of the company’s decision to seek bankruptcy protection. Identifying and weighing the good and bad in this case would reveal some of the following. Filing a petition in bankruptcy erects a barrier against those claimants who have already gone to court to demand immediate relief in the form of compensation for their terrible loss. The initial order of relief granted by a bankruptcy court freezes all such proceedings pending in other courts. The benefits (the good) from filing in bankruptcy include preserving the assets of the company so that it can ultimately accept responsibility and compensate many more, if not all, who have a valid claim. Further, it would do the company employees no good for the company assets to be quickly dissipated by payment to those first in line. There are other goods that flow inferentially from those stated above. Given the points raised above, the company has met its social responsibility. A director could ethically, and practically, have voted for a filing in bankruptcy for the reasons stated above. In re Johns-

Manville Corporation, 36 B.R. 727, 1984 Bankr. Lexis 6384 (United States Bankruptcy Court for the Southern District of New York)

Answers to Ethics Cases 42.4 Ethics Case No. Plaintiff Jazlyn Bradley has not stated a valid case against McDonald’s for deceptive and unfair acts and practices in violation of the New York Consumer Protection Act. It is well-known that fast food in general, and McDonald’s products in particular, contain high levels of cholesterol, fat, salt and sugar, and that such attributes are bad for one. The plaintiff therefore either knew or should have known enough of the critical facts. Bradley is alleged to have “consumed McDonald’s foods her entire life during school lunch breaks and before and after school, approximately five times per week, ordering two meals per day.” What the plaintiff has not done, however, is to address the role that a number of other factors other than diet may come to play in obesity and the health problems of which the plaintiff complains. In order to allege that McDonald’s products were a significant factor in the plaintiff’s obesity and health problems, the complaint must address these other variables and, if possible, eliminate them or show that a McDiet is a substantial factor despite these other variables. Similarly, with regards to plaintiff’s health problems that she claims resulted from her obesity, it would be necessary to allege that such diseases were not merely hereditary or caused by environmental or other factors. Without this additional information, McDonald’s does not have sufficient information to determine if its foods are the cause of the plaintiff’s obesity, or if instead McDonald’s foods are only a contributing factor. The U.S. District Court granted the motion of defendant McDonald’s to dismiss the plaintiff’s complaint.

McDonald’s knew that it sold food products that could cause obesity. As required by law, McDonalds and other fast food restaurants must now disclose calorie and other information about its food products. McDonald’s does not, however, disclose at its restaurants that “super heavy users”—defined as those persons who eat McDonald’s ten times or more a month—make up approximately 75 percent of McDonald’s sales. Bradley v. McDonald’s Corporation, 2003 U.S. Dist. Lexis 15202 (United States District Court for the Southern District of New York, 2003)

42.5 Ethics Case The question as to whether companies owe a duty of social responsibility to provide an affirmative action program is dependent upon which ethical view a moral judge takes of the corporate purpose. If corporations are merely organizational vehicles to achieve profit for their owners, the extent to which they should expend assets for the general benefit of society is limited. Following a legal analogy, one can see why a company should donate funds to a local hospital that would ultimately take care of its employees. That such a company should donate to another hospital in a town some distance away is questionable unless the company entertains a corporate citizenship stance.

By analogy, affirmative action programs are almost like the hypothetical hospital some distance away. Further, affirmative action programs bear an additional burden. The moral position for affirmative action is based on a restitution theory that, unfortunately, looks for relief from those who did not cause the loss. The U.S. Constitution demands equality, equal protection, and an ethical position. To suspend such equality for the purposes of restitution seems fair if the party required to contribute caused the loss.

In this case, the training program is legal under Title VII. Despite the plain language of the statute, which prohibits discrimination in the terms, conditions, and benefits of employment, the Court reasoned that: This situation was one the statute was intended to remedy; the method chosen was agreed to by the union as representative of all workers; the number and duration of the minority preference was limited to such time as the percentage of minorities in skilled jobs mirrored the population in the local workforce. United Steelworkers of America v. Weber, 443 U.S. 193, 99 S.Ct. 2721, 1979 U.S. Lexis 40 (Supreme Court of the United States)

42.6 Ethics Case Whether Warner-Lambert acted unethically would depend upon the extent to which it knew the claims it was making were false. Ethicists would point out that one does not have to have perfect vision and information in order to recommend a product. The state of science is such that medical positions today will be supplanted by others tomorrow. For example, in 1879, alcohol, Listerine’s major ingredient, was presumed to kill certain germs. This is even today a partial

truth. The company’s claim is misleading. Warner-Lambert was ordered to include a disclaimer that “Listerine does not kill the germs that cause colds” on its labels for two years. The court declined to include prefatory language requested by the FTC, “Contrary to previous claims.”

Warner-Lambert Company v. Federal Trade Commission, 562 F.2d 749, 1977 U.S. App. Lexis 11599 (United States Court of Appeals for the District of Columbia Circuit)

Chapter 43 Administrative Law and Regulatory Agencies

Answers to Critical Legal Thinking Cases 43.1 Government Regulation Yes, the Federal Communications Commission’s (FCC) regulation and censoring of Pacifica Foundation (Pacifica) in this case was lawful and constitutional. The U.S. Supreme Court held that Congress had asserted the Federal Communications Act which specifically forbids the use of any “obscene, indecent, or profane language by means of radio communications.” The Supreme Court held that the FCC did not exceed its delegated power when it found George Carlin’s “Filthy Words” monologue to be indecent and thereby not proper to be broadcast by a radio station.

The Supreme Court also addressed the First Amendment Freedom of Speech issue that was raised by Pacifica. The court held that all forms of communication broadcasting have the most limited First Amendment protection. The court stated that radio stations were subject to “time, place, and manner” restrictions regarding broadcasts. Thus, the Communications Act’s prohibition against “indecent” broadcasts was justified because (1) the broadcast media have a uniquely pervasive presence in the lives of all Americans and (2) broadcasting is uniquely accessible to children. Based on this reasoning, the Supreme Court upheld the FCC’s order against Pacifica Foundation.

Justice Brennan wrote a dissenting opinion in which he stated that the government’s regulation of the content of broadcasting isolated the Free Speech Clause of the First Amendment. Brennan wrote that Court’s decision reduces the adult population to hearing only what is fit for children, conflicts with the time-honored right of a parent to raise a child as he sees fit, and could lead to a banning from radio of a myriad of literary works, novels, poems, and plays by the likes of Shakespeare, Joyce, and Hemingway. Brennan argued that if people were

offended by what was on the radio they could turn it off with a minimum of effort. Federal Communications Commission v. Pacifica Foundation, 438 U.S. 726, 98 S.Ct. 3026, 1978 U.S. Lexis 135 (Supreme Court of the United States).

43.2 Administrative Search Yes, the warrantless searches of stone quarries authorized by the Federal Mine Safety and Health Act are constitutional. The Fourth Amendment to the U.S. Constitution protects persons and businesses from unreasonable searches. Inspections of commercial property may be unreasonable if they are not authorized by law or are unnecessary for the furtherance of federal interests. Generally, searches made pursuant to a validly issued warrant are reasonable. However, the assurance of regularity provided by a warrant may be unnecessary under certain inspection schemes.

The Supreme Court held that warrantless inspections required by the Mine Safety and Health Act do not offend the Fourth Amendment. The court stated that it is undisputed that there is a substantial federal interest in improving the health and safety conditions in the nation’s underground and surface mines. In enacting the statute, Congress was plainly aware that the mining industry is among the most hazardous in the country and that the poor health and safety record of this industry has significant deleterious effects on interstate commerce.

The Supreme Court stated that in designing an inspection program, Congress expressly recognized that a warrant requirement could be effectively frustrated by the notorious ease with which many safety and health hazards may be concealed if advance warning of an inspection had to be given. The Supreme Court held that the warrantless search provision of the act is specifically tailored to address these concerns, and that the owner of a mine cannot help but be aware that he will be subject to effective inspection. The Supreme Court held that warrantless search of mines does not violate the Fourth Amendment. Donovan, Secretary of Labor v. Dewey, 452 U.S. 594, 101 S.Ct. 2534, 1980 U.S. Lexis 58 (Supreme Court of the United States).

Answer to Ethics Case

43.3 Ethics Case No, there was not a violation of due process when the Wisconsin Examining Board investigated the matter against the appellee, issued charges against him, held a hearing over the matter, issued an order finding that the appellee had violated Wisconsin statutes and temporarily suspended appellee’s license to practice medicine in Wisconsin. The court found the constitutionality as being whether “for the Examining Board temporarily to suspend Dr. Larkin’s license at its own contested hearing on charges evolving from its own investigation would constitute a denial to him of his rights to due process.”

The Supreme Court stated that a fair trial in a fair tribunal is a basic requirement of due process. This applies to administrative agencies that adjudicate as well as to the courts. In pursuit of this end, various situations have been identified in which experience teaches that the probability of actual bias on the part of the judge or decision maker is too high to be constitutionally tolerable; for example, where the judge has a financial interest in the outcome of the case. Regarding administrative agencies, the court stated: The contention that the combination of investigative and adjudicative functions necessarily creates an unconstitutional risk of bias in administrative adjudication has a much more difficult burden of persuasion to carry. It must overcome a presumption of honesty and integrity in those serving as adjudicators and it must convince that, under a realistic appraisal of psychological tendencies and human weakness, conferring investigative and adjudicative powers on the same individuals poses much risk of actual bias or prejudgment that the practice must be forbidden if the guarantee of due process is to be adequately implemented.

The Supreme Court held that it is not a violation of procedural due process for an administrative agency to possess and use investigative adjudicative powers concerning the same matter. The only requirement is that different members of the agency perform each of these functions.

Withrow v. Larkin, 421 U.S. 35, 95 S.Ct. 1456, 1975 U.S. Lexis 56 (Supreme Court of the United States).

Chapter 44 Consumer Protection and Product Safety Answers to Critical Legal Thinking Cases 44.1 Food Regulation Yes, Engel and Gel Spice violated the section of the Federal Food Drug and Cosmetic Act that concerns adulterated foods. The FDA prohibits the shipment, distribution, or sale of adulterated food. Under the act, a food is deemed adulterated if it consists in whole or in part of any “filthy, putrid, or decomposed substance,” or if it is otherwise “unfit for food.” The court found that Gel Spice was in the business of shipping, distributing, and selling spices that were used as food. Gel Spice had allowed rodents to infest their McDonald Avenue warehouse, and these rodents had caused the spice to become adulterated. The presence of rat droppings, rodent urine, and insects in the spice meant that the spice consisted in part of “filthy and putrid substances” and was, therefore, “unfit for food.” Because Engel and Gel Spice had allowed food to become adulterated, the court found that Engel and his company had violated the FDA. United States v.

Gel Spice Co., Inc., 601 F.Supp. 1205, 1984 U.S. Dist. Lexis 21041 (United States District Court for the Eastern District of New York)

44.2 Cosmetics Regulation The government wins the case and has the right to seize the French Bronze Tablets. Under the Food, Drug, and Cosmetic Act of 1938, the Federal Drug Administration is empowered to regulate the composition of cosmetics. Cosmetics include substances and preparations for cleaning, altering the appearance of, and promoting the attractiveness of a person. The Color Additives Amendment to the FDA requires the approval of the FDA before color additives can be used in cosmetics. The court held that French Bronze Tablets were cosmetics within the definition of the FDA. The French Bronze Tablets were a substance used both to alter the appearance of and to promote the attractiveness of the consumer. Because the tablets were a cosmetic, the FDA had to approve the use of any color additive in them. Because canthaxanthin

had never been approved for use as a color additive in cosmetics, the French Bronze Tablets violated the FDA and could be seized and condemned. U.S. v. Eight Unlabeled Cases of an Article of Cosmetic, 888 F.2d 945, 1989 U.S. App. Lexis 15589 (United States Court of Appeals for the Second Circuit)

Answer to Ethics Case 44.3 Ethics Case Yes. The defendants have engaged in false and deceptive advertising in violation of Section 5 of the Federal Trade Commission Act (FTC Act). The U.S. Supreme Court held that the undisclosed use of Plexiglas in the commercial was a material deceptive practice. The Supreme Court stated, “The defendants claimed that it would be impractical to inform the viewing public that it is not seeing an actual test, experiment or demonstration, but we think it inconceivable that the ingenious advertising world will be unable, if it so desires, to conform to the Federal Trade Commission’s insistence that the public be not misinformed.” If it becomes impossible or impracticable to show simulated demonstrations on television in a truthful manner, this indicates that television is not a medium that lends itself to this type of commercial. If the inherent limitations of a method do not permit its use in the way a seller desires, the seller cannot by material misrepresentation compensate for those limitations. The U.S. Supreme Court held that defendants Colgate-Palmolive Company (Colgate) and its advertising agency Ted Bates & Company had engaged in false and deceptive advertising in violation of Section 5 of the FTC Act. Colgate and Bates engaged in unethical conduct. They engaged in deceptive advertising without informing the public that what it was seeing in the television commercial was not actually what the defendants claimed it to be. The defendants had the intent to deceive the public by its false advertising. It is difficult to justify the defendants’ acts in this case. Federal Trade Commission v. Colgate-Palmolive Company, 380 U.S. 374, 85 S.Ct. 1035, 1965 U.S. Lexis 2300 (Supreme Court of the United States)

Chapter 45 Environmental Protection Answers to Critical Legal Thinking Cases 45.1 Wetlands The Army Corps of Engineers (Army Corps) prevail pursuant to the Clean Water Act (CWA).

The CWA provides that the Secretary of the Army may issue permits for the discharge of dredged or fill material into the navigable waters at specified disposal sites. Furthermore, before any discharge or fill is carried out, a permit must be granted or such discharging or filling is unlawful. In this case, the court held that the Army Corps could require Leslie Salt to obtain a permit before draining and filling the land since the property had also acquired some natural “aquatic characteristics,” such as fish, wildlife, and migratory birds. Leslie Salt Co. v. United States, 896 F.2d 354, 1990 U.S. App. Lexis 1524 (United States Court of Appeals for the Ninth Circuit)

45.2 Clean Water Act The United States prevails. The court held that the dumping of approximately 67,000 tons of carcinogenic waste into Lake Superior polluted the public water supplies in violation of its state discharge permit. In reaching this outcome, the court relied on the evidence that the discharges were causing discoloration of the surface waters outside of the zone of discharge. Since Reserve Mining was in violation of their permit, Reserve was fined for each day that the violation occurred. United States v. Reserve Mining Co., 543 F.2d 1210, 1976 U.S. App. Lexis 6503 (United States Court of Appeals for the Eighth Circuit)

45.3 Hazardous Waste The United States prevails. In this case, the Environmental Protection Agency (EPA) determined that the paint drums that were buried were hazardous materials and can only be disposed of at facilities with EPA permits. No such permit had been obtained by Hoflin. The court stated that

those individuals who handle hazardous waste are required to provide information to the EPA in order to secure permits. Placing this burden on those handling hazardous waste materials makes it possible for the EPA to know who is handling hazardous waste, monitor their activities, and enforce compliance with the statute. Thus, since Hoflin failed to inform the EPA of its disposal of the paint, he was liable for the dumping of hazardous waste. United States v. Hoflin, 880 F.2d 1033, 1989 U.S. App. Lexis 10169 (United States Court of Appeals for the Ninth Circuit)

Answer to Ethics Case 45.4 Nuclear Waste The U.S. Supreme Court held that there were not sufficient reasons to prevent the reopening of the nuclear power plant. The National Environmental Policy Act (NEPA) requires that the Nuclear Regulatory Commission (NRC) evaluate the potential psychological health effects of reopening the nuclear power plant. The court indicated that the renewed operation may well cause psychological health problems. Although such problems include anxiety, tension, and fear, the court held that this harm is simply too remote from the physical environment to justify requiring the NRC to investigate the psychological health damage by the reopening the nuclear plant. Thus, the court held that the NRC does not need to consider the allegations made by the group People Against Nuclear Energy (PANE).

Whether it is socially responsible for the federal government to permit the operation of nuclear power plants is an extremely complex issue. On the one hand, nuclear power can provide a source of energy that replaces the use of oil, burning of coal, and the use other sources of energy that pollute the environment. The use of nuclear power in the United States also makes the country less dependent upon foreign sources of oil. However, the tradeoff is that the use of nuclear power presents risks if something should go wrong, which could cause immediate harm to humans, animals, other creatures, and the environment. Metropolitan Edison Co. v. People Against Nuclear Energy, 460 U.S. 766, 103 S.Ct. 1556, 1983 U.S. Lexis 21 (Supreme Court of the United States).

Chapter 46 Antitrust Law and Unfair Trade Practices Answers to Critical Legal Thinking Cases 46.1 Division of Markets Yes, BRG of Georgia, Inc. (BRG) and Harcourt Brace Jovanovich (HBJ) are liable for violating Section 1 of the Sherman Act. The BRG–HBJ agreement constitutes a division of markets and is therefore a per se violation of Section 1 of the Sherman Act. The revenue-sharing formula in the agreement between BRG and HBJ, coupled with the price increase that took place immediately after the parties agreed to cease competing with each other, indicates that this agreement was formed for the purpose and with the effect of raising the price of the bar review course. Here, HBJ and BRG had previously competed in the Georgia market; under their allocation agreement, BRG received the Georgia market, while HBJ received the remainder of the United States. Each agreed not to compete in the other’s territories. Such agreements are per se anticompetitive.

Thus, the agreement between HBJ and BRG is unlawful on its face. The U.S. Supreme Court held that the agreement between BRG and HBJ is a division of markets and as such is a per se violation of Section 1 of the Sherman Act. Palmer v. BRG of Georgia, Inc., 498 U.S. 46, 111 S.Ct. 401, 1990 U.S. Lexis 5901 (Supreme Court of the United States)

46.2 Price Fixing The State of Arizona wins. The U.S. Supreme Court held that the defendants, the Medical Society, Foundation, and its members, engaged in price fixing in violation of Section 1 of the Sherman Act. The Supreme Court held that price fixing is a per se violation of Section 1 of the Sherman Act, i.e., once price fixing is found, no defenses may be raised to try to justify the price fixing. The defendants argued that Section 1 only prohibited the fixing of minimum prices and did not prohibit the fixing of maximum prices, as set by the doctors in this case. The Supreme Court rejected this argument, holding that the setting of a maximum price is really the setting of a minimum price if all doctors agreed to charge the maximum price. The court reaffirmed that all

price fixing, whether the setting of minimum or maximum prices, is judged by the per se rule and not the rule of reason. Therefore, the Supreme Court refused to consider evidence of the procompetitive effects alleged by the doctors to justify their price fixing. The Supreme Court held that the doctors’ price fixing was a per se unreasonable restraint of trade that violated Section 1 of the Sherman Act. Arizona v. Maricopa County Medical Society, 457 U.S. 332, 102 S.Ct. 2466, 1982 U.S. Lexis 5 (Supreme Court of the United States)

46.3 Tying Arrangement Metrix Warehouse, Inc. wins. The court held that Mercedes-Benz of North America (MBNA) engaged in an illegal tying arrangement when it required its franchised dealers to purchase their replacement parts for Mercedes-Benz automobiles from MBNA. A tying arrangement occurs when a seller refuses to sell one product or service (the tying item) unless the customer purchases another product or service (the tied item). In this case, the court held that the Mercedes-Benz franchise granted by MBNA to dealers was the tying product and the replacement parts it required the dealers to purchase were the tied products.

Although some tying arrangements are considered so anticompetitive as to be per se illegal, in this case the court did not find the tie to rise to this level of unlawfulness. Instead, the court applied the rule of reason and examined the procompetitive and anticompetitive nature of the tying arrangement. The court concluded that the anticompetitive aspects outweighed the procompetitive aspects. The court rejected MBNA’s claims that the tie was necessary as a device to regulate quality control. The court found that there were less anticompetitive methods for assuring quality control, such as setting published quality control standards that must be met by all manufacturers of Mercedes-Benz replacement parts. Applying the rule of reason, the court held that the tying arrangement in this case was an unreasonable restraint of trade that violated Section 1 of the Sherman Act. Metrix Warehouse v. Mercedes-Benz of North America, Inc., 828 F.2d 1033, 1987 U.S. App. Lexis 12341 (United States Court of Appeals for the Fourth Circuit)

46.4 Merger The proposed merger between Lipton Tea Co. (Lipton) and Celestial Seasonings would be a horizontal merger. A horizontal merger occurs when two or more firms in the same line of commerce (product market) serving the same section of the country (geographical market)

merge. The relevant “line of commerce” in this case was the production and distribution of herbal teas nationally; the relevant “section of the country” was the nation. Since both firms were in the same line of commerce and served the same section of the country, their proposed merger would be a horizontal merger.

If Lipton and Celestial Seasonings were to merge, the resulting firm would control 84 percent of the national market for herbal teas. The next largest competitor, plaintiff Bigelow, would only have a 13 percent market share. The remaining 3 percent of the market was comprised of “trace” competitors. The merger of Lipton, the second largest competitor with 32 percent market, and Celestial Seasonings, the largest competitor with 52 percent market share, would create a merged firm that would have “monopoly power” over the marketplace. The size of the resulting firm and increase in concentration that it would cause would violate the “presumptive illegality” test announced by the U.S. Supreme Court in Philadelphia National Bank.

Although the presumption of illegality is rebuttable, the court held that it is unlikely to be rebutted in this case because of the market shares controlled by Lipton and Celestial Seasonings and the monopoly power that would result from their proposed merger. Based upon the alleged deliberate acquisition of monopoly power in the herbal tea market, the court found that there may be a substantial lessening of competition in that market if the merger were consummated. The court ordered that the proposed horizontal merger between Lipton and Celestial Seasonings be enjoined. R.C. Bigelow, Inc. v. Unilever, N.V., 867 F.2d 102, 1989 U.S. App. Lexis 574 (United States Court of Appeals for the Second Circuit)

Answer to Ethics Case 46.5 Ethics Case Yes, Corn Products engaged in price discrimination in violation of Section 2(a) of the Robinson-Patman Act. The U.S. Supreme Court held that the “base-point pricing” system, whereby every purchaser paid the freight charges from Chicago even if the glucose was shipped from Kansas City, constituted indirect price discrimination. This pricing scheme created a favorable zone around Chicago and vicinity. The “phantom freight” paid by nonfavored buyers not located in the favored zone caused them to pay a higher price for glucose than did the favored buyers located in the favored price zone. Evidence showed that this difference in price

was important enough to cause several manufacturers of low-priced candy to move their plants to the Chicago area to avoid having to pay the phantom freight charge. The Supreme Court held that Corn Products had engaged in “indirect” price discrimination in violation of Section 2(a) of the Robinson-Patman Act, and upheld the trial court’s judgment against Corn Products.

Corn Products acted unethically in adopting its base point pricing system. It engaged in intentional conduct whereby it charged phantom freight to some customers, thereby overcharging them. Corn Products adopted its base-point pricing system to willfully engage in price discrimination favoring certain customers, thereby violating antitrust law. Corn Products Refining Company v. Federal Trade Commission, 324 U.S. 726, 65 S.Ct. 961, 1945 U.S. Lexis 2749 (Supreme Court of the United States)

Chapter 47 Personal Property and Bailment Answers to Critical Legal Thinking Cases 47.1 Mislaid Property The money was mislaid property. Mislaid property is property that is intentionally put into a certain place and later forgotten. Mislaid property is presumed to have been left in the custody of the owner or occupier of the premises upon which it is found. A finder of mislaid property acquires no ownership rights in it, and, where such property is found upon another’s premises, the finder is required to turn it over to the owner of the premises. The owner of such premises becomes a gratuitous bailee by operation of law, with a duty to use ordinary care to return it to the owner and is absolutely liable for a misdelivery. The place where money or property is found is an important factor in the determination of the question of whether it was lost or mislaid. Here, the fact that the money was placed in the drawer supports a finding that the property was not abandoned or lost, but was mislaid. The court of appeals held that the money was mislaid property and awarded the money to Kazi, the hotel owner. Franks v. Kazi, 197 S.W.3d 5, 2004 Ark. App. Lexis 771 (Court of Appeals of Arkansas, 2004)

47.2 Bailment No. A bailment was not created between Meaux and the Sisters of Charity. A bailee has the duty to exercise ordinary care over the goods and is therefore responsible for the bailor’s goods. In contrast, a lease is a transfer of interest in and possession of property for a prescribed period of time in exchange for an agreed consideration called rent. The lessor does not have a duty to exercise care regarding the lessee’s property stored on the premises. The lessor is therefore not responsible for the property of the lessee. As between the owner of premises and the owner of personal property left in a locker on the premises when exclusive possession thereof has not been delivered and control and dominion of the property is dependent in no degree upon the cooperation of the owner of the premises, a landlord and tenant relationship is created. Having

failed to establish the delivery and acceptance of exclusive possession in the defendant or the defendant’s specific knowledge of articles entrusted to him, plaintiff has failed to establish the necessary elements of bailment. The court of appeals held that a landlord–tenant agreement, and not a bailment, had been created between Meaux and the Sisters of Charity. The court concluded that the Sisters of Charity were not liable for Meaux’s loss. Sisters of Charity of the Incarnate Word v. Meaux, 122 S.W.3d 428, 2003 Tex. App. Lexis 10189 (Court of Appeals of Texas, 2003)

47.3 Gift Yes. Victor Gruen made a valid gift inter vivos of the Klimt painting to his son Michael. An inter vivos gift requires that the donor intends to make an irrevocable present transfer of ownership.

Here, Victor intended to transfer ownership of the painting to Michael but to retain a life estate in it. Victor did transfer a remainder interest in the painting to his son at that time. The letters unambiguously establish that Victor Gruen intended to make a present gift of title. In order to have a valid inter vivos gift, there must be a delivery of the gift, either by a physical delivery of the subject of the gift or a constructive or symbolic delivery. What Victor Gruen gave plaintiff was not all rights to the Klimt painting, but only title to it with no right of possession until his death. The appellate court held that Victor Gruen had made a valid gift inter vivos of the Klimt painting to his son Michael and awarded the painting to Michael. Gruen v. Gruen, 68 N.Y.2d 48, 496 N.E.2d 869, 505 N.Y.S.2d 849, 1986 N.Y. Lexis 19366 (Court of Appeals of New York)

47.4 Bailment No, a bailment was not created between Merritt and Nationwide Warehouse Co., Ltd. (Nationwide). A bailment is a delivery of personal property by a bailor to a bailee for a particular purpose. The creation of a bailment requires actual or constructive delivery of personal property to the bailee. Such full delivery must be made as to entitle the bailee to exclude the possession of all other persons and put him in sole custody and control of the bailed property. The court in this case held that no bailment was created when Merritt stored his personal possessions in a locker leased from Nationwide. This was because there was no delivery of the goods to Nationwide as a bailor, and Nationwide was not given exclusive possession and control over the goods. Merritt merely leased a locker, locked the premises with his own lock and key, and did not furnish a key

to Nationwide. The court held that because there was no delivery of the goods by Merritt to Nationwide, no bailment was created. Merritt v. Nationwide Warehouse Co., Ltd., 605 S.W.2d 250, 1980 Tenn. App. Lexis 338 (Court of Appeals of Tennessee)

47.5 Abandoned Property No, Green and Vogel, the owners of the apartment building where Fuentes was shot, and the $58,591 in cash was found, have no legal claim to the money. Green and Vogel asserted that they were entitled to the money because it was property that was abandoned on their premises. The court noted that it is true that under common law the finder of abandoned property—unlike the finder of lost or misplaced property—is entitled to claim absolute ownership of the property. The common law defines abandoned property as that which the owner voluntarily relinquishes all rights and title thereto. The court held that Fuentes had not abandoned the money at the time he was removed from the apartment and was taken to the hospital suffering from debilitating gunshot wounds in his neck and shoulder. If he ever did abandon the money, it was later after the money was in the possession of the City of Miami police. Therefore, the court held that Green and Vogel were not entitled to $58,591 found in Fuentes’ apartment under the theory of abandonment. The court also held that Green and Vogel had no claim to the money as lost or misplaced property or as treasure trove. Note: The court held that under the Florida Disposition of Unclaimed Property Act, the state acquires title to unclaimed property if it remains unclaimed by the true owner for more than seven years. State of Florida v. Green, 456 So.2d 1309, 1984 Fla. App. Lexis 15340 (Court of Appeal of Florida)

Answers to Ethics Cases 47.6 Ethics Case The legatees of the residual portion of Dr. Edwards’s estate win, and are entitled to the stock certificates and the passbook and other bank account statements found in Dr. Edwards’s condominium, and Souders, who inherited the condominium, is not entitled to stocks and bank accounts found in the condominium. The court held that the stock certificates and bank account passbooks and statements represented intangible personal property and not tangible personal

property. The court held that the word “contents” as used by Dr. Edwards did not include intangible personal property, such as the stock certificates and passbook and other bank accounts that he stored in his condominium for safekeeping. The court held against Souders and awarded the stocks and passbook and other bank statements to the residual legatees of Dr. Edwards’s estate. In answering the question of whether Souders acted ethically in this case, most people would not consider stock certificates and passbooks and bank account statements as being included in the contents of a condominium. Dr. Edwards left Souders the condominium and its contents, and left his other assets, which includes the stock certificates and bank accounts statements found at the condominium, to other persons. Souders v. Johnson, 501 So.2d 745, 1987 Fla. App. Lexis 6579 (Court of Appeal of Florida)

47.7 Ethics Case No, Red Roof Inns, Inc., is not liable for the alleged value of the jewelry contained in Nova Stylings sample jewelry case, which was stolen from the Inn. In common law, an innkeeper was strictly liable for guests’ property that was lost or stolen from the possession of the innkeeper.

Most states, including Kansas, have adopted statutes that abrogate this common law rule and limit an innkeeper’s liability if certain statutory requirements are met. Kansas Statute Section 36402(b) limits an innkeeper’s liability to $250 if the guest notifies the innkeeper of the nature of the merchandise and gives the innkeeper an itemized list of the property. The innkeeper has no dollar liability if the guest does not meet these requirements. For the act to apply, the innkeeper is required to post a notice containing the requirements of Section 36-402(b) in the guest’s room.

The evidence showed that Red Roof Inn properly posted the required notice in Ms. Ruston’s room. The evidence further showed that Ruston did not notify the hotel clerk that Kulwin’s bag contained sample jewelry or give the clerk an itemized list of the property in the bag. The court held that Red Roof Inns had complied with the requirements of the statute. Therefore, the court held that the Red Roof Inns was not liable to Nova Stylings for the loss of the sample jewelry bag. Nova Stylings, Inc. v. Red Roof Inns, Inc., 747 P.2d 107, 1987 Kan. Lexis 469 (Supreme Court of Kansas)

Chapter 48 Real Property Answers to Critical Legal Thinking Cases 48.1 Recording Statute No. Howard Savings Bank’s mortgage on the property was not properly recorded and indexed and therefore did not give notice of its existence to subsequent parties. The fundamental purpose of the Recording Act is to provide notice to subsequent parties in interest and the protection of purchasers and encumbrancers of real property against undisclosed titles and liens. Mortgagors and lenders would hesitate to be involved in commercial transactions where they could not be confident that a reasonable search of the record would reveal prior interests or where they feared being held liable for a clerk’s misindexing error. Obviously, one effect of finding a duty in the mortgagee to see that his instrument is properly indexed will be that the mortgagee will be required to conduct a search or to employ some other similar mechanism for ensuring that his interest is properly indexed. Furthermore, placing the burden upon the mortgagee to ensure that the requisite notice has been given is not out of step with the equitable maxim that where a loss must be borne by one of two innocent parties, equity will impose the loss on the party whose first act would have prevented the loss. The court held that the Howard Saving Bank’s mortgage was not properly recorded as to give the necessary notice to subsequent parties because it was not indexed. The Howard Savings Bank v. Brunson, 582 A.2d 1305, 1990 N.J. Super. Lexis 436 (Superior Court of New Jersey)

48.2 Reversion The school board wins. A reversion is a right of possession that returns to the grantor after the expiration of a limited or contingent event. In this case, the court held that the site was still being used for “school purposes” where the property was being used as a warehouse for storage of school supplies and materials. The court found that in order to accommodate changing school populations, storage facilities are necessary to house surplus equipment and supplies and to

replace worn out and damaged items over time. Accordingly, the court held that having such equipment and supplies on hand clearly furthers the ultimate goal of educating students and that the property does not revert back to the Mahrenholzes. Mahrenholz v. County Board of School Trustees of Lawrence County, 544 N.E.2d 128, 1989 Ill. App. Lexis 1445 (Appellate Court of Illinois)

48.3 Adverse Possession The Naabs win. In West Virginia the doctrine of adverse possession enables one who has been in possession of a piece of real property for more than ten years to bring an action asserting that he is now the owner of that piece of property even when title rests in another. One who asserts title under the doctrine of adverse possession must prove that (1) he has held the tract adversely; (2) the possession has been actual; (3) it has been open and notorious; (4) possession has been exclusive; (5) possession has been continuous; and (6) possession has been under color of title.

In this case, the record revealed that the predecessors in title of both the Naabs and the Nolans accepted the erection of the concrete garage sometime before 1952. The record also indicated that when the Naabs’ predecessors built the garage no complaint was registered by the Nolans’ predecessors. Accordingly, because the owner of the burdened premises is bound by the actions or inactions of his predecessors in title, the court held that the evidence was sufficient to establish title by adverse possession in that portion of the Nolans’ lot occupied by the Naabs’ garage. Naab v. Nolan, 327 S.E.2d 151, 1985 W.Va. Lexis 476 (Supreme Court of Appeals of West Virginia)

Answer to Ethics Case 48.4 Ethics Case Garber acquired title to the land up to the old fence line by adverse possession. Adverse possession occurs when there is actual open, notorious, exclusive, and continuous possession of another’s property for the statutory period of ten years. There is no question that the Garbers met this criterion of possession because the fence line had been in place for over 50 years at the time the Garbers acquired their property. Unbeknownst to the Garbers, the placement of the fence gave them 3 extra acres from the adjoining property. When the Doentzes bought the adjacent

property and had a survey done, they discovered that the old fence line gave the Garbers the 3 extra acres. The Garbers acquired the 3 acres through adverse possession. All of the elements of adverse possession existed. Therefore, the Garbers have acquired the land by adverse possession.

The question of ethics in an adverse possession claim is sometimes difficult to answer. The Garbers, who did not have a survey done and relied on the old fence line, end up acquiring 3 acres that they would not have acquired if the old fence line had been constructed properly. The Garbers did not act unethically in claiming title to property that was on their side of the legal lot line. Courts tend to like old fence lines, however. Doentz v. Garber, 665 P.2d 932, 1983 Wyo. Lexis 339 (Supreme Court of Wyoming)

Chapter 49 Landlord-Tenant Law and Land Use Regulation

Answers to Critical Legal Thinking Cases

49.1 Americans with Disabilities Act Yes. Cinemark’s wheel-chair seating arrangement in its stadium-style theaters violates Standard 4.33.3 and Title III of the Americans with Disabilities Act (ADA). The regulation at issue appears plainly to require that wheelchair patrons have something more than a merely unobstructed view in seating adjacent to other patrons. The regulation requires more than “lines of sight” for wheelchair patrons, it requires comparable lines of sight. The regulation thus is plain in its requirement that the wheelchair lines of sight be similar, or at least roughly similar, to those of other patrons. The U.S. Court of Appeals concluded that the term lines of sight comparable to those for members of the general public requires that wheelchair users be afforded comparable viewing angles to those provided for the general public. Only then will wheelchair users have “equal enjoyment” with the general public. The U.S. Court of Appeals ruled that Title III of the ADA and the Department of Justice’s Standard 4.33.3 required Cinemark to provide lines of sight for wheelchair-using patrons comparable to those offered to the general public and that its current seating configuration for wheelchair-using patrons violates the law. The court of appeals remanded the case to the U.S. District Court to determine how to remedy the situation.

United States of America v. Cinemark USA, Inc., 348 F.3d 569, 2003 U.S. App. Lexis 22757 (United States Court of Appeals for the Sixth Circuit, 2003)

49.2 Implied Warranty of Habitability

Yes, the landlord breached the implied warranty of habitability. In determining whether the implied warranty of habitability has been breached, the law implies a “reasonable expectation” test. This means that the premises are to be maintained in accordance with the reasonable expectations of the tenant. Tenants have obvious expectations of a uniquely designed all-glassenclosed building on Manhattan’s fashionable Upper East Side. Add to this the comparatively high rents exacted for these apartments, and one can assume that the expectations of the tenants encompassed more than the minimal amenities. The warranty certainly entitled them to freedom from conditions threatening their life, health, and safety, and their high rents justified increased expectations of a well-run, impeccably clean building with consistent and reliable services. The reality fell far short of their expectations. As to the public areas the landlord breached the implied warranty of habitability. The court held that the tenants rent should be abated by 80 percent until the landlord corrects the problems. Solow v. Wellner, 150 Misc.2d 642, 569 N.Y.S.2d 882, 1991 N.Y. Misc. Lexis 169 (Civil Court of the City of New York)

Answers to Ethics Cases 49.3 Ethics Case The tenants were constructively evicted. Constructive eviction is an act done with intention that has the effect of substantially interfering with the tenants’ beneficial enjoyment of the leased property. It is a wrongful act by the landlord that makes the premises unsafe, unfit, or unsuitable for occupancy for the purposes for which they were leased. The evidence shows that the number of customers dropped drastically after the renovation began and that the shops in the area appeared to be closed because of the elimination of sidewalks and parking. The premises had become unsafe, unfit, and unsuitable for occupancy. Therefore, the tenants were constructively evicted. Bermuda Avenue Shopping Center Associates v. Rappaport, 565 So.2d 805, 1990 Fla. App. Lexis 5354 (Court of Appeal of Florida).

49.4 Ethics Case

Greater Middleton Association wins because a mutual equitable servitude was created. In general, mutual equitable servitude is a method of imposing reasonable land use controls and private restrictions on the property of a grantee provided that certain requirements are met.

Mutual servitude comes into existence between the first parcel conveyed and the balance of the parcels at the time of the first conveyance. As each conveyance follows, the burden and the benefit of the mutual restrictions imposed by the preceding conveyances as between the particular parcel conveyed and those previously conveyed pass as an incident of the ownership of the parcel. Similar restrictions are created by the conveyance as between the lot conveyed and the lots still retained by the original owner.

The court stated, that for a servitude to exist three requirements must be shown: (1) that the deeds evidence an intention on the part of both the grantor and the grantee that the land conveyed is to be restricted pursuant to the general plan, (2) that the deeds show that the parcel conveyed is subject to the restriction at issue in accordance with the plan for the benefit of all the other parcels in the subdivision and such other parcels are subject to like restriction for its benefit, and (3) that the dominant and servient tenements be adequately shown. In the present case all three requirements were satisfied and thus Holmes was enjoined from commercially developing his property. Greater Middleton Assn. v. Holmes Lumber Co., 222 Cal. App.3d 980, 271 Cal. Rptr.

917, 1990 Cal. App. Lexis 816 (Court of Appeal of California).

Chapter 50 Insurance Answers to Critical Legal Thinking Cases 50.1 Exclusion from Insurance Policy No, this accident is not covered by the homeowners’ policy issued by National America.

Although most homeowners’ policies include personal liability insurance, which provides coverage for accidents occurring on the insured’s property, accidents of the type involved in this suit had been specifically excluded from coverage by Usher’s policy. Most insurance policies contain such exclusions, limiting the liability of the insurer in certain instances. In this case, Usher’s policy excluded from coverage personal injuries occurring during the loading or unloading of motor vehicles. Graham Coburn was killed when a Chevrolet van that Usher had been loading was accidentally set in motion. The Court held that the exclusionary clause of the policy was clear and unambiguous and, therefore, there was no coverage for this accident under the policy. Because his homeowners’ policy did not cover this accident, Richard Usher was forced to pay any judgment against him out of his own pocket. National American Insurance Co. of California v. Coburn, 209 Cal. App.3d 914, 257 Cal. Rptr. 591, 1989 Cal. App. Lexis 356 (Court of Appeal of California)

50.2 Automobile Insurance Haynes wins. Surber had a basic automobile liability policy that contained the expanded coverage of an omnibus or other driver clause. There are several different types of automotive insurance policies, including collision insurance, comprehensive insurance, and liability insurance. The purpose of liability insurance is to cover damages that the insured causes to third parties. The injuries covered include both bodily harm and property damage. A basic automobile liability policy protects the insured while driving his or her automobile. An omnibus or other driver clause expands the coverage of the policy to protect the owner when someone else drives the owner’s car with his or her permission. In this case, Surber had purchased a policy from the

Farmer’s Insurance Company that covered: “Any person using your insured car.” Because of the expanded coverage of this liability policy, when Bruce Martin borrowed Surber’s Mercedes, the policy covered any damage he might cause to third parties while driving. When Martin had a collision with Loretta Haynes, Farmers agreed to pay for her injuries and the damage to her car because of their policy’s omnibus clause. Mid-Century Insurance Company v. Haynes, 218 Cal. App.3d 737, 267 Cal. Rptr. 248, 1990 Cal. App. Lexis 219 (Court of Appeal of California)

50.3 Automobile Insurance Munoz wins. Munoz’s widow was attempting to collect on the uninsured motorist coverage of her late husband’s automobile insurance policy. People insured in a car accident usually look to the insurer of the party at fault to recover for their personal injury. A person who is injured by an uninsured motorist or a hit-and-run driver may be protected if he or she has purchased uninsured motorist coverage. Such coverage provides payment for injuries sustained by drivers and passengers caused by uninsured third parties. In this case, the Appellate Court had to determine whether Munoz’s death was covered by the uninsured motorist provisions of his insurance policy. Munoz’s insurance covered accidents “arising out of the ... use of the uninsured vehicle.”

The Appellate Court found that the shooting arose out of the use of the uninsured vehicle because the gunmen’s car provided a means for their speedy rescue. The shooting could not have taken place without a vehicle, and the car made a unique contribution to Munoz’s injury. The gunman’s car was, in the words of the court, “a launching pad for the missile fired at Munoz.”

For these reasons, the Appellate Court allowed the claim brought under the uninsured motorist provision of Munoz’s insurance. Nationwide Mutual Insurance Company v. Munoz, 199 Cal. App.3d 1076, 245 Cal. Rptr. 324, 1988 Cal. App. Lexis 259 (Court of Appeal of California).

50.4 Malpractice Insurance Yes, Travelers is liable. The insurance policy the law firm held is a type of business insurance known as professional malpractice insurance. Professionals, such as attorneys, dentists, physicians, and engineers are liable for injuries resulting from their negligence in practicing their professions. These professionals can purchase malpractice insurance to insure against such liability. In this case, the law firm of Winokor Schoenberg had given erroneous advice to Barker regarding the drafting of his will. This erroneous advice cause Barker’s beneficiaries to pay

several million dollars more in taxes than they otherwise would have. Because of this erroneous advice, Barker’s beneficiaries sued the firm and received a $2 million settlement. The law firm’s malpractice insurance policy with Travelers covered “all sums which the insured shall become legally obligated to pay as damages because of any act or omission of the insured.” Based upon this language, the court held that Travelers was liable for the $2 million settlement despite the fact that Baker died after the policy expired. The policy had been in effect in 1977, the time of the “act or omission” by the law firm which gave rise to the malpractice suit. Because the malpractice policy was in effect at the time of the firm’s negligence, the fact that the damage to Barker’s beneficiaries did not occur until after the policy had expired was irrelevant. Travelers Insurance was found liable for the $2 million. Travelers Ins. Company v. National Union Fire Ins. Company, 207 Cal. App.3d 1390, 255 Cal. Rptr. 727, 1989 Cal. App. Lexis 130 (Court of Appeal of California).

50.5 Duty to Defend Cranford wins since he did not have a duty to defend Jaffe against the criminal charges brought against him. An insurer has a duty to defend the insured against any suit brought against him or her that involves a claim within the coverage of the policy. An insurer who wrongfully refuses to defend a lawsuit against one of its insurers is liable for damages, including the cost of any judgment or settlement and attorneys’ fees and litigation costs. In this case, Jaffe was insured against professional malpractice by the Cranford Insurance Company. The policy covered damages arising from Jaffe’s negligence in the practice of psychiatry. Jaffe had asked Cranford to defend him from criminal charges involving fraud and theft. These charges were not within the coverage of the policy because the policy only covered “damages.” The outcome of Jaffe’s criminal case could not result in damages payable under the policy because neither imprisonment nor fines constitute “damages” for insurance purposes. As the court concluded, “where there is no potential for coverage, there is no duty to defend.” Because the outcome of Jaffe’s trial was not within the scope of his malpractice coverage, Cranford had no duty to defend him. Jaffe v.

Cranford Insurance Company, 168 Cal. App.3d 930, 214 Cal. Rptr. 567, 1985 Cal. App. Lexis 2153 (Court of Appeal of California).

Answer to Ethics Case 50.6 Ethics Case No, Ila cannot recover 50 percent of the insurance proceeds. The Columbia Insurance Group (Columbia) insurance policy with Gary and Ila Fedderson explicitly voided the policy if “any insured” misrepresented a material fact or committed fraud relating to the policy. Here, Gary was convicted of the arson and insurance fraud. Columbia legally declined to pay the insurance claim. Ila cannot recover 50 percent of the insurance proceeds as an “innocent insured” because the contract of insurance stipulated that no insurance proceeds would be paid if Gary or Ila misrepresented a material fact or committed fraud relating to the policy. Under the terms of the insurance policy Ila was specifically responsible for Gary’s fraud.

Obviously, Gary Fedderson acted illegally and unethically by committing arson to try to fraudulently recover fire insurance proceeds. Ila did not act unethically in trying to recover onehalf of the insurance proceeds. She was an innocent party who did not know about nor was a participant in Gary’s arson or insurance fraud. She had the right to bring the lawsuit and have a court interpret the insurance contract. Fedderson v. Columbia Insurance Group, 824 N.W.2d 793, 2012 S.D. Lexis 164 (Supreme Court of South Dakota, 2012)

Chapter 51 Accountants’ Duties and Liability

Answers to Critical Legal Thinking Cases

51.1 Accountant’s Liability to a Third Party No, George Korbakes & Company, LLP (GKCO), the auditor of Brandon Apparel Group, Inc. (Brandon), is not liable to Johnson Bank for negligent misrepresentation under Section 552 of the Restatement (Second) of Torts. Under Section 552, an accountant is liable for his or her negligence to any member of a limited class of intended users for whose benefit the accountant has been employed to prepare the client’s financial statements or to whom the accountant knows the client will supply copies of the financial statements. At the time GKCO prepared the most recent audit and financial statements for Brandon it did not know that Brandon would later provide those financial statements to Johnson Bank to obtain further loans from the bank.

Therefore, Johnson Bank was not a member of a limited class of intended users for whose benefit GKCO was employed by Brandon to complete an audit and prepare financial statements, and GKCO was not informed by Brandon that Brandon would later provide its financial statements to Johnson Bank to secure additional loans from the bank. The U.S. court of appeals stated “The audit report might flunk Accounting 101, but if the report didn’t mislead anyone toward whom the auditor had a duty of care, the auditor would not have committed a tort.” The U.S. court of appeals held that GKCO, the auditor of Brandon, was not liable to Johnson Bank for negligent misrepresentation under Section 552 of the Restatement (Second) of Torts. Johnson Bank v. George Korbakes & Company, LLP, 472 F.3d 439, 2006 U.S. App. Lexis 31058 (United States Court of Appeals for the Seventh Circuit, 2006) 51.2 Auditor’s Liability to Third Party

No, Ernst & Whinney is not liable for either fraud or negligence in this case. To be held for fraud, a party must have participated in the fraudulent activity or acted with recklessness or gross negligence. The court found that Ernst & Whinney had no knowledge of the fraudulent activity, and did not act recklessly or with gross negligence. There was no evidence that the work done by Ernst & Whinney was done to defraud or deceive Hutton, or with reckless disregard of Hutton’s interest. Therefore, the court held that Ernst & Whinney was not liable to Hutton for fraud.

With regards to the negligence claim, the court held that Ernst & Whinney was not liable for negligence to Hutton either. This was because the court found that any negligence by Ernst & Whinney was not the proximate cause of Hutton’s losses. The court found that Hutton’s losses were caused solely by the massive fraud of Mr. Cotts and by Hutton’s own negligence in not discovering the fraud by not investigating the loans more cautiously before purchasing them from FAMCO. Therefore, the court dismissed Hutton’s petition against Ernst & Whinney for fraud and negligence. E.F. Hutton Mortgage Corporation v. Pappas, 690 F.Supp. 1465, 1988 U.S. Dist. Lexis 6444 (United States District Court for the District of Maryland)

51.3 Accountant’s Liability to Third Party Following is a discussion of Touche’s liability under the three major theories of accountants’ tort liability to third parties: 1. The Ultramares Doctrine. Under the Ultramares doctrine, an accountant is only liable for his negligence to third parties who are in privity of contract or a privity-type relationship with the accountant. Here, the Rosenblums are not in privity of contract or a privity-type relationship with Touche. Touche is only in privity of contract with Giant, who employed it to conduct the audit. The Rosenblums had no involvement with Giant when Touche conducted the audit. Therefore, under the Ultramares doctrine, Touche owes no duty to the Rosenblums and is not liable to them for its negligence.

2. Section 552 of the Restatement. (Second) of Torts. Under Section 552, an accountant may be held liable for his negligence to any member of a limited class of intended users for whose benefit the accountant has been employed to audit the company and prepare its financial statements. Here, Touche was not employed to conduct the audit of Giant for

the Rosenblums’ benefit. In fact, Touche had no knowledge of the Rosenblums when it conducted the audit, and had no knowledge that Giant’s audited financial statements would be used by the Rosenblums to assist them in their sale of their business to Giant.

The Rosenblums did not qualify as “intended users” of the financial statements.

Therefore, Touche did not owe a duty to the Rosenblums and is not liable to them for accounting malpractice under Section 552 of the Restatement (Second) of Torts.

3. The Foreseeability Standard. The foreseeability standard stipulates that accountants are liable for their negligence to any foreseeable user of the client’s financial statements. This is the broadest standard of liability for accounting malpractice. Under this standard, Touche would be liable to the Rosenblums. This is because it is foreseeable that the client would provide its audited financial statements to third parties, including parties like the Rosenblums who are contemplating selling a business to the client in exchange for stock of the client.

The Supreme Court of New Jersey adopted the foreseeability standard for judging an accountant’s negligence liability to third parties. The court stated: When the independent auditor furnishes an opinion with no limitation in the certificate as to whom the company may disseminate the financial statements, he has a duty to all those whom that auditor should reasonably foresee as recipients from the company of the statements for its proper business purposes, provided that the recipients rely on the statements pursuant to those business purposes.

The court found that the Rosenblums were foreseeable recipients of the financial statements and that they relied on the statements when they made their decision to sell their business to Giant.

The court held Touche liable to the Rosenblums for accounting malpractice. H. Rosenblum, Inc. v. Adler, 461 A.2d 138, 1983 N.J. Lexis 2717 (Supreme Court of New Jersey)

51.4 Ultramares Doctrine Following is a discussion of Cooper’s liability under the three major theories of accountants’ tort liability to third parties:

1. The Ultramares Doctrine. Under the Ultramares doctrine, an accountant is only liable for his negligence to third parties who are in privity of contract or a privity-type relationship with the accountant. Here, the Lindner Funds were not in privity of contract or a privity-type relationship with Coopers. Coopers was only in privity of contract with Texscan, its client who employed it to conduct the audit. The Lindner Funds had no involvement with Texscan when Coopers conducted the audit. Under the Ultramares doctrine, Coopers owes no duty to the Lindner Funds and cannot be held liable to them for its alleged negligence.

2. Section 552 of the Restatement (Second) of Torts. Under Section 552, an accountant may be held liable for his negligence to any member of a limited class of intended users for whose benefit the accountant has been employed. Here, Coopers was not employed to conduct the audit of Texscan for the benefit of the Lindner Funds. Coopers did not have knowledge that Texscan’s audited financial statements would be used by the Lindner Funds in making their decision to invest in the company. The Lindner Funds do not belong to a very small group of persons for whose guidance Coopers prepared the financial statements. Therefore, under Section 552 of the Restatement (Second) of Torts, Coopers did not owe a duty to the Lindner Funds and is not liable to them for their alleged negligence.

The Missouri Court of Appeals took this middle ground and chose to apply a balancing test to determine whether Coopers could be held liable to the Lindner Funds.

The court held that the Lindner Funds did not state a cause of action against Coopers and dismissed the complaint.

3. The Foreseeability Standard. The foreseeability standard stipulates that accountants are liable for their negligence to any foreseeable user of the client’s financial statements. This is the broadest standard of liability for accounting malpractice. Under this standard, Coopers could be held liable to the Lindner Funds for its alleged negligence in preparing the audited financial statements of Texscan. This is because it is foreseeable that potential investors—such as the Lindner Funds—would obtain, review, and rely on the audited financial statements of a company before investing in that company. Thus, under the

foreseeability standard, Coopers could be held liable to the Lindner Funds for its alleged negligence in conducting the audit of the Texscan Corporation.

Lindner Fund v. Abney, 770 S.W.2d 437, 1989 Mo. App. Lexis 490 (Court of Appeals of Missouri)

Answers to Ethics Cases

51.5 Ethics Case Yes, Coopers & Lybrand (Coopers) is liable to the Archdiocese of Miami for the amount of the defalcations of the insurance premiums by McGee. Accountants are liable for their negligence in performing audit services for the client. The court held that Coopers was negligent in failing to adhere to the audit program by not obtaining a copy of the stop-loss policy from Lloyd’s and not verifying the existence of the insurance. If Coopers had done so, the court found, McGee’s defalcations would have been discovered and reported to the Archdiocese. An accounting expert testified that Coopers’ conduct violated General Accepted Auditing Standards (GAASs). The court held that Coopers was negligent and therefore liable to its client. The court remanded the case for a determination of the losses suffered by the Archdiocese. Coopers & Lybrand v.

Trustees of the Archdiocese of Miami, 536 So.2d 278, 1988 Fla. App. Lexis 5348 (Court of Appeal of Florida)

51.6 Ethics Case Yes, Howard is criminally liable for violating Section 24 of the Securities Act of 1933. Section 24 makes it a crime for any person to “willfully” violate any provision of the 1933 Act. The court found that Howard, as the accountant for American Equities, made false and misleading statements in the pro forma accounting reports he prepared for the company. The evidence was sufficient to find that (1) Howard knew that his reports were going to be used by brokers to sell American Equities’ securities to investors, (2) the accounting reports were little more than a

regurgitation of materially misleading statements requested by Mende to be included in the accounting reports, and (3) Howard acted willfully and had the state of mind required for criminal conviction. The Court of Appeals affirmed Howard’s conviction. The willful and knowing commission of a crime definitely qualifies as unethical conduct. United States v.

Howard, 328 F.2d 854, 1964 U.S. App. Lexis 6343 (United States Court of Appeals for the Second Circuit)

Chapter 52 Wills, Trusts, and Estates Answers to Critical Legal Thinking Cases 52.1 Ademption Yes, the bequests to Anderson and Baker were specific bequests that were adeemed when the stock was sold. Therefore, Anderson and Baker are not entitled to the money in the bank accounts. Ademption is the doctrine by which a specific bequest becomes inoperative because of the disappearance of its subject matter from a testatrix’s estate during her lifetime. A specific bequest is one comprised of specific articles of the testatrix’s estate distinguished from all others of the same kind. Because ademption applies only to specific bequests, a preliminary determination must be made as to whether a bequest is specific or general. The intention of the testatrix must be ascertained at the time the will was executed and from the four corners of the will. Ramchissel clearly intended the gifts of stock at issue to be specific bequests. Thus, ademption occurred when specific shares of stock described were sold and converted to cash prior to the testatrix’s death. Therefore, the cash proceeds of these stock sales do not pass to Anderson and Baker but instead pass to Boysville, Inc., pursuant to the residuary clause of Ramchissel’s will. Opperman v. Anderson, 782 S.W.2d 8, 1989 Tex. App. Lexis 3175 (Court of Appeals of Texas)

52.2 Will The first will, executed on or about June 10, 1959, should be admitted into probate. In Texas, every will must be in writing, signed by the testator, and if not wholly in the handwriting of the testator, attested by two or more witnesses. In this case, it is uncontroverted that the handwritten document is not signed by the deceased and that the typewritten document, although signed, was not executed before at least two witnesses. Appellant contends, however, that although neither instrument by itself is sufficient, both instruments taken together constitute a valid will. The

court held that none of the authorities cited support such a proposition and that the clear statutory requirements are satisfied only with respect to the first document. In re Estate of Jansa, 670 S.W.2d 767, 1984 Tex. App. Lexis 5503 (Court of Appeals of Texas)

52.3 Will Lois wins. Generally, the intentional destruction or cancellation by the testator of a copy of his duplicate will creates a presumption that he intended to revoke the entire will and all copies thereof. In this case, the court held that this presumption was not rebutted where the testator declared his intention to revoke his entire will and contemporaneously destroyed an original thereof. Accordingly, the entire estate will be left to Lois under the laws of intestacy. Succession of Talbot, 530 So.2d 1132, 1988 La. Lexis 1597 (Supreme Court of Louisiana)

52.4 Intestacy Miss Campbell’s daughter and son from her prior marriage share in one-half of the estate. Mr. Campbell’s three sisters and brother share in the other half. Pursuant to the Uniform Simultaneous Death Act, where there is no sufficient evidence that two joint tenants or tenants by the entirety have died otherwise than simultaneously, the property so held shall be distributed one-half as if one had survived and one-half as if the other had survived. The burden of proof is on the party whose claim depends upon survivorship. A court will not speculate as to which scenario is most probable; survivorship is a question of fact that must be proved by the evidence.

In this case, the defendants reasonably argued that Mrs. Campbell likely survived her husband because she was in better health and because Mr. Campbell could not swim. The court held, however, that the defendants did not sustain their burden of proof because although their contentions are plausible, there are numerous scenarios, equally plausible, which would have resulted in Mr. Campbell’s having survived Mrs. Campbell. The court stated that to hold otherwise would be mere speculation or conjecture. Accordingly, the court affirmed the lower court’s holding directing the property to be divided pursuant to the Uniform Simultaneous Death Act. In re Estate of Campbell, 641 P.2d 610, 1982 Ore. App. Lexis 2448 (Court of Appeals of Oregon)

52.5 Murder

No, Loretta cannot recover under the will or take her elective share under the intestate statute.

Generally, most states provide that a person who murders another person cannot inherit the victim’s property. Moreover, the murderer cannot participate in the proceeds of life insurance policies on the victim’s life. Public policy provides that no one shall be permitted to profit by his own fraud, or to take advantage of his own wrong, or to acquire property by his own crime. In this case, the court concluded that if Loretta was permitted to receive any portion of the estate, she would benefit from her own fraud and involvement in criminally obtaining the death of her supposed benefactor. Loretta argued, however, that there was no proof that Stith murdered her husband, a condition precedent to holding her vicariously liable for murder and barring her inheritance. The court held that Loretta’s criminal conviction should be accepted as conclusive evidence that she was involved in the murder and that the killing of her husband was not done in self-defense. Accordingly, the judgment of the lower court barring Loretta’s inheritance was affirmed. In Re Estate of Danforth, 705 S.W.2d 609, 1986 Mo. App. Lexis 3757 (Court of Appeals of Missouri)

Answer to Ethics Case 52.6 Ethics Case The two children who introduced the 1967 will for probate win. A joint will arises where two testators execute the same instrument as their will. The question in such cases is whether the will was mutual and contractual. Generally, a court will find a will to be mutual and contractual where it (1) sets forth a comprehensive plan for the disposition of the testator’s property; (2) treats the property of both testators as one; (3) provides for the disposition of property upon the death of the first to die; and (4) provides for the disposition of any property remaining at the death of the survivor.

In this case, the court found that a conditional or defeasible fee was granted the survivor, and that the estates were united for final testamentary disposition. There was a comprehensive plan for disposition of all property of the testators with both estates being controlled through the joint will. Additionally, the court concluded that the parties jointly planned the disposition of their combined estates with the intention that the survivor would carry out the plan and thereby

formed a binding contract. Accordingly, the court held that the will was mutual and contractual, and that the wife was not free to alter the terms of that contract. Jones v. Jones, 718 S.W.2d 416, 1986 Tex. App. Lexis 8929 (Court of Appeals of Texas)

Chapter 53 Family Law Answers to Critical Legal Thinking Cases 53.1 Marital Assets Mississippi follows the doctrine of equitable distribution. However, since this doctrine refers to a fair distribution and not necessarily an equal distribution, there was still conflict between the two parties. George Neville requested the valuation of Dr. Tina Neville’s medical license and practice. However, the Mississippi Supreme Court has never held that a professional practice is an asset subject to the equitable distribution of marital assets. The courts feel that there are several options in which to properly compensate a spouse in this situation besides awarding an equitable percentage of the income-producing enterprise that was made possible by the other spouse's professional degree. The court awarded a means of relief in the amount of $168,000.

George should not win on appeal because the court had already assessed the disparity in the earning capacity of the two parties. Mr. Neville was awarded a substantial sum of money to equalize that disparity to some degree for a period of ten years following the dissolution of a marriage that only lasted seven years (measured to the time of separation). Neville v. Neville, 734 So.2d 352, 1999 Miss. App. Lexis 68 (Court of Appeals of Mississippi)

53.2 Marital Assets Since this case took place in Massachusetts, we again address the issues surrounding the doctrine of equitable distribution. The court determines that both parties were given unencumbered or encumbered properties in an equitable distribution. The husband then transferred his properties to his business and encumbered them. The court stated that his argument that the distribution then became unfair was wrong, and the wife should not have to bear a share of this indebtedness.

It additionally pointed out that he was awarded the business without a valuation, so that his share

was more than equitable. Johnston v. Johnston, 649 N.E.2d 799, 1995 Mass. App. Lexis 429 (Appeals Court of Massachusetts).

Answer to Ethics Case 53.3 Ethics Case Yes, the $2.4 million lottery prize was a marital asset. The parties to a divorce action remain as husband and wife until the entry of the final decree of divorce. The parties to a divorce action have a continuing duty to provide information about changes in their financial condition until the entry of a final judgment of divorce. In the present case the husband won the lottery prize four months before the Family Court entered its final judgment. The parties remained as husband and wife until the entry of the final judgment. Because the parties’ marriage remained in effect throughout the waiting period, so did the property rights each spouse had in the property acquired by the other spouse during that period. Therefore, since the husband won the $2.4 million lottery prize during the existence of the parties’ marriage, the prize is a marital asset and is subject to the equitable-distribution statute. The wife is entitled to her share of the lottery winnings.

Did Mr. Giha act ethically in this case? Definitely not. Mr. Giha won the lottery prize but intentionally kept it secret from Mrs. Giha until the statutory waiting period required for a divorce to be final had run out. And even then he waited another six months to claim the prize. It seems that Mr. Giha knew what the law required and he was trying to avoid the law which required him to share the proceeds of the lottery winnings with Mrs. Giha. Giha v. Giha, 609 A.2d 945, 1992 R.I. Lexis 133 (Supreme Court of Rhode Island)

Chapter 54 International and World Trade Law Answers to Critical Legal Thinking Cases 54.1

Foreign Sovereign Immunity

Yes. Argentina is subject to the lawsuit in the United States. The commercial activity exception to the Foreign Sovereign Immunities Act permits the plaintiffs to sue Argentina in a U.S. court.

When a foreign government acts as a private player in a financial market, the foreign sovereign’s actions are “commercial” within the meaning of the Foreign Sovereign Immunities Act (FSIA).

The commercial character of the Bonods is confirmed by the fact that they are in almost all respects garden-variety debt instruments: They may be held by private parties; they are negotiable and may be traded on the international market; and they promise a future stream of cash income. Argentina’s issuance of the Bonods was a commercial activity under the FSIA. Argentina’s issuance of the bonds, and its unilateral rescheduling of the maturity dates on the Bonods, was a commercial activity that had a direct effect in the United States. Therefore, the commercial activity exception to the Foreign Sovereign Immunities Act applied, which allows the plaintiffs to sue Argentina in a U.S. court. Republic of Argentina v. Weltover, Inc., 504 U.S. 607, 112 S.Ct. 2160, 1992 U.S. Lexis 3542 (Supreme Court of the United States)

54.2 Act of State Doctrine The United States government owns the depository account. The U.S. Supreme Court held that the United States government, which has the power to deal in foreign affairs, properly recognized the government of the Soviet Union. Thus, the government entered into a valid international compact with the Soviet Union that covered the Petrograd Metal Work’s (Petrograd) deposit with August Belmont & Co. (Belmont) in the United States. The Soviet Union had confiscated Petrograd’s deposit with Belmont and then assigned this deposit to the United States in settlement of claims between the two countries. Under the Act of State Doctrine,

which is recognized by the United States, an act of government in its own country is not subject to suit in another country’s court. Therefore, the act of the Soviet Union in confiscating the property of Petrograd is not subject to suit in the courts of the United States. The Supreme Court reasoned that although the U.S. Constitution provides that private property shall not be taken without payment of just compensation, under the Act of State Doctrine, the United States must recognize the Soviet Union’s right to confiscate property in its own country without payment of compensation. Therefore, Petrograd’s original deposit account with Belmont now belongs to the United States government pursuant to the international compact entered into with the Soviet Union. United States v. Belmont, 301 U.S. 324, 57 S.Ct. 758, 1937 U.S. Lexis 293 (Supreme Court of the United States)

54.3 Act of State Doctrine The private United States lending bank wins. The borrowing bank, Banco National de Costa Rica that was wholly owned by the government of Costa Rica, is not protected by the Act of State Doctrine, even though the government of Costa Rica has enacted a law prohibiting the repayment of foreign debt. The United States District Court held that the Act of State Doctrine did not preclude the court from hearing and deciding the case. The Act of State Doctrine provides that judges of one country cannot question the validity of an act committed by another country within that country’s own borders. This restraint is based upon the doctrine of separation of powers, that only the executive branch of government, and not the judicial branch, may arrange affairs with foreign governments. However, in the instant case, the court held that the source of the debt was in New York, not Costa Rica, since the court considered where the loan and promissory notes were signed and where the money was to be repaid. Thus, the U.S. District court can hear and decided the case. Libra Bank Limited v. Banco Nacional de Costa Rica, 570 F.Supp. 870, 1983 U.S. Dist. Lexis 14677 (United States District Court for the Southern District of New York)

54.4 Forum-Selection Clause Unterweser Reederei GMBH (Unterweser) is correct that the forum selection clause in its contract with Zapata Off-Shore Company (Zapata) is enforceable. A forum selection clause (or choice of forum selection) is a clause in a contract that designates which nation’s courts have

jurisdiction to hear cases or disputes that arise concerning the performance of the contract. In the instant case, the contract between Unterweser, a German corporation, and Zapata, a United States corporation, contained a clause that provided that “Any dispute arising must be treated before the London Court of Justice.” The United States Supreme Court stated that a forum selection clause should be specifically enforced unless it is clearly shown that such enforcement would be unreasonable or unjust or that the clause was obtained by fraud or overreaching. In the instant case, the Supreme Court found that the forum selection clause had been agreed to by sophisticated companies who conducted international business. The court found no unfairness in the clause, fraud, or overreach in its inclusion in the Unterweser-Zapata contract. Therefore, the Supreme Court held that the forum selection clause designating the London Court of Justice as the tribunal to hear the dispute between Unterweser and Zapata was valid and enforceable. M/S Bremen and Unterweser Reederei, GMBH v. Zapata Off-Shore Company, 407 U.S. 1, 92 S.Ct. 1907, 1972 U.S. Lexis 114 (Supreme Court of the United States)

Answer to Ethics Case 54.5 Ethics Case Texas Trading and Milling Corporation (Texas Trading) wins. The U.S. district court held that the Federal Republic of Nigeria (Nigeria) could not raise the doctrine of sovereign immunity to avoid paying for the cement it had ordered from Texas Trading. The doctrine of sovereign immunity provides that countries are immune from lawsuits in the courts of another country. The United States has enacted the Foreign Sovereign Immunities Act of 1976 (FSIA), which provides an exception to this general rule where a foreign nation is involved in a “commercial activity” that is carried on in the United States, but causes a “direct effect” in the United States. The district court found that Nigeria was carrying on a “commercial activity” when it signed the contract to purchase cement from Texas Trading to be used in building roads, dams, and other infrastructure in the country. The court also held that this commercial activity had a “direct effect” in the United States because many U.S. companies contracted to sell Nigerian cement.

The district court held that the contract in the instant case fell within the “commercial activity” exception of the FSIA, and therefore that the doctrine of sovereign immunity did not protect the country of Nigeria from lawsuit in the court of the United States. Texas Trading & Milling Corp.

v Federal Republic of Nigeria, 647 F.2d 300, 1981 U.S. App. Lexis 14231 (United States Court of Appeals for the Second Circuit)