Mind the Gaps

10/16/2018 / James Sander

Are you minding the gaps in your construction buy/sell agreement? Article 2 of the Uniform Commercial Code (UCC), as adopted across the country, may be changing your contract risk exposure. Constructing a building involves thousands of physical parts and pieces. Each of them is “movable” when the builder purchases it. These parts and pieces are legally defined as “goods,” which puts them in the ambit of Article 2 of the UCC.

At its core, the UCC is a set of contract rules designed to expedite the sale of goods. A UCC contract can be formed in any manner sufficient to show agreement on a few essential terms. This is in contrast to the common law “mirror image” contract rules, where in order to form a contract, the parties must have express agreement on all material terms. When a builder/buyer and a supplier/seller exchange paperwork over some product with conflicting terms, but the parties still want to buy and sell the product, a “battle of the forms” can result. If the seller ships the goods, and the builder takes delivery of the goods, they have acted like they intended to make the deal. The UCC treats that “deal” as an enforceable “contract by conduct.” (UCC, Art. 2, Part 3, Sec. 2-207 (3).)

What happens, however, if there is a dispute about the goods later? The buy/sell paperwork terms did not line up and “gaps” exist; points along the fault line where the paperwork does not line up on an important issue such as time for delivery or product warranty. The UCC provides a set of standardized default terms often called “gap fillers” which provide an answer for some of the inconsistencies in the buy/sell paperwork for goods. The gap filler may not be what either side originally thought they agreed to, and the UCC may force a seller or buyer to assume some major and costly risks.

At the interface of the builder and supplier, this can lead to surprises for the unwary —some of them expensive or unpleasant. Consider these three common examples of the UCC inserting default terms where the contracting parties left a “gap” in contract terms.

Example 1: Delivery Date Delays

Builders build to a set of plans, specifications and schedules designed for assembling the thousands of building bits into a finished building on time and on budget. In construction, time is money.

Our builder needs its four HVAC units to go on the roof next week. Where are they? Well, when did you order them? Products like HVAC units have a production cycle. Look closely at the terms of that order paperwork. Failure to account for production lead time can mean costly “late” delivery. If the buy/sell paperwork conflicts on a delivery date then the UCC has a gap filler which supplements the parties agreement to include that delivery must be within a “reasonable time under the circumstances.” Normal production and delivery schedules are part of such circumstances. “Delay” to account for normal production and delivery schedules are not a breach of contract, they are the “circumstances” considered in forming a “reasonable time” delivery date. Our builder would not be allowed damages nor back charges to the HVAC supplier. Much to our builder’s dismay, it cannot pass on the cost of the extra crane rental time required for that later-than-expected lift to the roof.

Example 2: Risk of Replacement of Goods Damaged in Transit

What if one of the HVAC units is damaged by the carrier in transit? Who bears the risk to replace it? If the buy/sell paperwork conflicts on the risk of loss, then we look to the UCC for a gap filler. (Id. at Sec. 2-308, 2-319.) If the seller’s FOB term specifies its factory, then the risk of loss to the unit passes to the buyer at that point, and it is the builder/buyer’s problem to replace that unit. (Id. at Sec. 2-509.)

Example 3: Risk Associated with Performance of a Good

Once the HVAC units are on the roof and started up, one unit proves to have insufficient capacity to air condition an important zone of the building. It needs to be modified and upgraded in place to increase performance. Who bears that cost? Is that a defect and a warranty claim against the seller? If the buy/sell paperwork conflicts on warranty terms then the UCC has gap fillers, but they may surprise the builder.

Very likely the seller’s paperwork has only a limited repair or replacement warranty and disclaims all other warranties, and incidental and consequential damages. If that provision did not survive the battle of the forms paperwork conflict there is still a warranty, but it is only a warranty of merchantability, i.e., that the product passes without objection in the market and is fit for ordinary uses. (Id. at Sec. 2-314..) That is not the same as a warranty of fitness for a particular purpose—like having sufficient capacity to condition a particular part of the building. If the builder ordered and received four units of a particular model and configuration, then unless there is an actual defect in the manufacturing of the unit, the fact that it does not have the needed capacity is not a breach of warranty and the cost of the modification and upgrade is not chargeable to the seller.

Even if there was a defect in the unit, the builder has another concern related to UCC gap fillers. Unless the builder gives timely notice of the breach of warranty claim, the builder might be barred from having any remedy. (Id. at Sec. 2-607.)

Any one of these scenarios (and more) can and do happen in construction, highlighting the importance of paying attention to the fine print terms in the purchase order process. Even without express agreement on mirror-image terms, you may still have a contract. But it may not be the contract you intended. Make sure you’re minding the gaps to know the terms of your UCC contracts.