Brief Fact Summary. At issue was a potential breach of an output contract between two companies involved in recycling. One corporation was obligated to provide another with a certain amount of material per month, but never met their obligation.
Synopsis of Rule of Law. Under New York law, in an output contract, instead of the stated estimate, good faith controls whether a breach has occurred.
Issue. "[W]hat is the effect of an estimate in an output contract when the supplier produces less than the stated estimate"?
Held. Under New York law, in an output contract, instead of the stated estimate, good faith would control whether a breach has occurred. Section 2-306 of the Uniform Commercial Code ("UCC") governs output contracts. It reads in pertinent part: "A term which measures the quantity by the output of the seller or the requirements of the buyer means such actual output or requirements as may occur in good faith, except that no quantity unreasonably disproportionate to any stated estimate or in the absence of a stated estimate to any normal or otherwise comparable prior output or requirements may be tendered or demanded." The court relied on three different cases, two of which were from other jurisdictions. Those cases included [Feld v. Henry S. Levy & Sons, Inc.], [Empire Gas Corp. v. America Bakeries Co.], and [Atlantic Track & Turnout Co. v. Perini Corp.]. The court found their reasoning compelling, first, because "good faith is the general standard by which output contracts are measured." Second, as the [Empire Gas] court recognized, the "unreasonably disproportionate" language in §2-306 is "a specific construction of good faith in the context of increased output or demand, and has no relationship to a good faith analysis of a decrease." Like a requirements contract, the court determined that "in an output contract, the buyer takes the risk that the seller may reduce its production to zero." Additionally, "[a]pplying good faith rather than an estimate does not give the seller an un-bargained for advantage; rather, it merely preserves the essential character of contracts that lack a fixed term, albeit through the somewhat elusive concept of good faith." The court additionally refused to treat the estimate as a fixed goods contract. Further, the court concluded that the Defendant did not demonstrate good faith because the only explanation given for the failure to meet the agreed upon estimates was that "it would cost more to clean the material to reach the ONP 8 standard [ ] especially where there is no showing that the additional costs would not have made the contract unprofitable."
Discussion. This case includes an interesting discussion about the role of good faith in commercial output contracts.