292: Listen and Learn -- Excuses for Non-Performance of a Contract

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Today, we are going to be talking about three commonly tested excuses for non-performance of a contract: impossibility, impracticability, and frustration of purpose. Unlike defenses to formation, such as mistake or unconscionability, a party asserting an excuse is not claiming that they are not contractually obligated to perform; rather, they are claiming that their contractual obligations should be discharged as a result of supervening events that occurred after the formation of the contract.

So, let's review the rules for these excuses, starting with impossibility. Performance is discharged when it is objectively impossible to perform a contract because of, [1] death or physical incapacity of the person necessary to effectuate the contract; [2] an anticipated destruction of the subject matter necessary to fulfill the contract; or [3] a new law or regulation that was unanticipated makes performance extremely and unreasonably difficult or expensive.

To illustrate, let's look at the landmark 1863 English case of Taylor v. Caldwell. As you may recall, in Taylor, the plaintiffs contracted with the defendants to use a music hall for concerts and other events over the course of four days. A week before the first concert, through no fault of either party, the hall was destroyed by fire.

The court held that because the fire was not the fault of either party and the destruction of the hall rendered it impossible for the plaintiffs to utilize the venue as intended, the parties were excused from performing their respective duties. Okay, let's move on to impracticability.

Performance is discharged as impracticable when, [1] an event occurs after contract formation; [2] that is unanticipated by both parties at contract formation; [3] making performance extremely and unreasonably difficult or expensive. This doctrine is interpreted narrowly by the courts. Generally, an increased cost to perform a contractual obligation is not sufficient to render the contract excused due to impracticability.

In the words of the Restatement, "A mere change in the degree of difficulty or expense due to such causes as increased wages, prices of raw materials, or costs of construction, unless well beyond the normal range, does not amount to impracticability since it is this sort of risk that a fixed-price contract is intended to cover."

The case law on this issue, while not always consistent, makes clear that mere increased cost, lack of profitability, or even financial loss does not by itself rise to the level of impracticability. For example, in the government contracting context, courts have held that increases in costs of 57% and 70% did not by themselves constitute commercial impracticability.

In contrast, courts have found performance to be impracticable when compliance with the contract would entail an extreme increase in cost, coupled with an extreme increase in the difficulty of performance. For example, in one case performance was held to be impracticable where it would have taken more than eight times longer and cost more than 20 times more than originally anticipated.

In another case performance was held impracticable where it would have taken almost seven times longer and about 150% more than anticipated. You likely did not cover these cases in law school and you don't need to be familiar with them to analyze an impracticability case. The important thing is that you understand that generally speaking performance is not impracticable merely because a party will have to spend more money.

Before we move on, it's worth quickly noting that the terminology here is not always consistent. For example, the Restatement substitutes "impossibility" with "impracticability". In other words, under the Restatement view, physical impossibility is considered a type of impracticability. And that might be the way you learned it in law school. If that's the case, you should write your rule statements accordingly.

But for the purpose of our discussion today, we will be treating impossibility and impracticability as separate concepts. You should also treat them as separate concepts on the bar exam. Okay, now that we've cleared that up, let's move on to frustration of purpose. The frustration of purpose doctrine discharges performance under a contract if the purpose of the contract no longer exists.

Performance is excused if, [1] a party's principal purpose is substantially frustrated without his fault; [2] by an unforeseeable supervening event outside the parties' control; and [3] both parties knew the purpose at the time of formation. To illustrate, let's go back to England for the case of Krell v. Henry. You may recall Henry entered into an agreement with Krell to use Krell's flat for two days to watch the king's coronation.

Henry approached Krell about the flat in response to a flyer hanging in Krell's window, announcing the availability of the flat for rent to see the coronation. The written agreement, however, did not mention the coronation or any other purpose for the rental. When the king became ill, the coronation was canceled, and Henry refused to pay for the flat.

The court held that Henry's performance was excused because the contract was implicitly founded on the assumption that the coronation would take place. In other words, without the coronation taking place, the contract was essentially valueless to Henry. It's important to know that frustration of purpose is a very narrow excuse that is invoked successfully even less frequently than impracticability.

As with impracticability, frustration of purpose cannot be invoked merely because a contract is no longer profitable. Let's move on to our first hypo. This one is adapted from the February 2009 California bar exam: "Developer had an option to purchase a five-acre parcel named The Highlands in City from Owner, and was planning to build a residential development there. Developer could not proceed with the project until City approved the extension of utilities to The Highlands parcel.

In order to encourage development, City had a well-known and long-standing policy of reimbursing developers for their cost of installing utilities in new areas. Developer signed a contract with Builder for the construction of 10 single family homes on The Highlands parcel.

During pre-contract negotiations, Developer specifically informed Builder that he could not proceed with the project unless City followed its usual policy of reimbursing the developer for the installation of utilities, and Builder acknowledged that he understood such a condition to be implicit in the contract.

In a change of policy, City approved necessary utility extensions to The Highlands parcel, but only on the condition that Developer bear the entire cost, which was substantial without reimbursement by City. Because this additional cost made the project unprofitable, Developer abandoned plans for the development and did not exercise his option to purchase The Highlands parcel from Owner. Builder, claiming breach of contract, sued Developer for the profit he would've made on the project.

Was Developer's performance excused?" Alright, you probably noticed that there are a few different issues here, but we're just going to be focusing on our three excuses. Let's start with impossibility. It's clear that the first two types of impossibility don't apply, because neither party died or was incapacitated; nor was there any destruction of the subject matter necessary to fulfill the contract. The third type might apply, however.

We're told that City had a well-known and long-standing policy of reimbursing developers for the cost of installing utilities in new areas. We're then told that in a change of policy, City approved the utility extensions but without reimbursing the developer, thereby rendering the project unprofitable to Developer. Based on these facts, Developer would argue that City's change in policy was an unanticipated new law or regulation that made his performance extremely and unreasonably expensive.

But there are two problems with this argument. First, it's not entirely clear that the change in policy constitutes a new law or regulation. For one thing, it's not clear that the policy itself is a law or regulation, rather than the city's historical approach when considering applications for utility extensions. It's also not clear whether the change in policy was a universal change rather than a deviation from their usual approach when considering this specific application.

In any case, even if the change in policy does constitute an unanticipated new law, it's highly unlikely that the added expense to Developer would be considered extreme or unreasonable. After all, it's not even clear that Developer would lose any money on this project. All we know is that he wouldn't make a profit. While the change in policy definitely makes this a worse deal for Developer, it doesn't render his performance impossible. But remember, it can still be impractical.

Okay, that covers impossibility, so let's move forward onto impracticability. The first element requires an event that occurs after contract formation. That's satisfied, because City's policy changed after Developer and Builder had already entered into the contract. The second element requires that the event be unanticipated by both parties at contract formation.

That's also satisfied, because we're told that Developer specifically informed Builder that he could not proceed with the project unless City followed its usual policy of reimbursing the developer for the installation of utilities. And Builder acknowledged that he understood such a condition to be implicit in the contract. The third element requires that the event made performance extremely and unreasonably difficult or expensive.

Developer would argue that this element is satisfied, because he would no longer make any profit on the contract. While we don't have all of the facts here, including the amount of anticipated profit relative to the total value of the contract, it's unlikely that Developer's argument will succeed. While the facts state that the increased cost is substantial, there is no indication that it is beyond the normal range as required by the Restatement.

Moreover, aside from the increased cost to Developer, there is no indication that Developer's performance would be any more burdensome. Accordingly, Developer's performance would likely not be considered extremely and unreasonably difficult or expensive. Now we just have to address frustration of purpose. We know that City's change of policy was unforeseeable and out of the parties' control, which satisfies the second element.

The real issue here is whether Developer's principal purpose was substantially frustrated. Developer would argue that his principal purpose was to make a profit on the contract. In other words, he would not have entered into the contract with Builder if he could not make a profit on the development. While that's likely true, the same is also true of almost every party that enters into a commercial contract.

And the doctrine of frustration of purpose is not meant to protect against a loss of profit. Accordingly, Builder will successfully argue that the purpose of the contract was not to make a specified profit, but rather to develop a residential community. City's change in policy did not frustrate that purpose. Builder can still build the homes and Developer can still sell the homes.

While the contract is undoubtedly less valuable to Developer now that he cannot make a profit, it is not essentially valueless. Thus the purpose of the contract was not substantially frustrated. Alright, let's do one more hypo to make sure we really understand these rules. This one is adapted from the July 2006 California bar exam: "On Monday, Resi-Clean advertised its house cleaning services by hanging paper advertisements on door knobs in residential areas.

Maria, a homeowner, responded to the advertisement, phoned RC on the same day, spoke to a manager and said she wanted a top-to-bottom house cleaning as described in the advertisement. Within minutes after the phone conversation ended, the RC manager deposited in the mail a confirmation of order form to Maria. The form stated, 'We hereby confirm your top-to-bottom house cleaning for $500.

Our crew will arrive at your house before noon on Friday.' About an hour later, Maria sent Resi-Clean an email, which RC received, stating, 'I just want to explain that it's important that your cleaning crew do a good job, because my house is up for sale and I want it to look exceptionally good.' On Thursday evening, before RC's cleaning crew was to show up, Maria accepted an offer for the sale of her house.

The next morning, Friday, at 10:00 AM, Maria sent RC another email stating, 'No need to send your crew. I sold my house last night and I no longer need your services.' By that time, however, RC's crew was en route to Maria's house. When RC billed, Maria refused to pay. Is Maria's performance excused?" Alright, as with our first hypo, let's start by addressing impossibility.

None of the types of impossibility exist here - there is no death or incapacity, no destruction of the subject matter of the contract, and no change in a law or regulation. Maria might not want the cleaning anymore, but Resi-Clean could still clean Maria's house and Maria could still pay Resi-Clean for their services. Therefore, Maria's performance is not excused on impossibility grounds. What about impracticability?

We're told that the sale of Maria's house occurred after she and Resi-Clean entered into a contract. So the first element is satisfied. There is no indication, however, that the sale of the house was unanticipated at contract formation. In other words, the non-occurrence of the sale was not a basic assumption of the contract.

While Maria later informed Resi-Clean that her house was up for sale, all Resi-Clean knew at the time of the contract formation was that she wanted a top-to-bottom cleaning. Moreover, the fact that Maria no longer wants the cleaning does not render her performance extremely or unreasonably difficult or expensive. Maria would still pay the exact same amount for the cleaning, and Resi-Clean would provide exactly the same service that it agreed to provide.

Therefore, Maria's performance is also not excused on impracticability grounds. What about frustration of purpose? Maria will argue that the purpose of the contract was to have a clean house for prospective buyers. When Maria sold the house, that purpose was frustrated. Resi-Clean will successfully argue, however, that the sale of the house was foreseeable and entirely within Maria's control.

However, at the time Resi-Clean entered into the contract, it had no idea that Maria was selling her house. Therefore, Maria's performance is also not excused on frustration of purpose grounds. And with that, we're done with today's hypos. At this point, you might be asking yourself what it would take for one of these exceptions to succeed. And the answer is, quite a bit.

Impossibility, impracticability, and frustration of purpose are meant to excuse performance only in the most extreme or unusual circumstances. As you saw today, just because performance becomes much harder or more expensive doesn't mean it is excused. So, be careful when discussing these excuses, and if in doubt, err on the side of concluding that they will not succeed.

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