To Have and Have Not: the Application of U.c.c. Section 2-719 to Clauses Limiting Remedy to Repair or Replacement and Excluding Liability

• Publication year: 1979

UNIVERSITY OF PUGET SOUND LAW REVIEWVolume 2, No.2SPRING 1979

To Have And Have Not: The Application Of U.C.C. § 2-719 To Clauses Limiting Remedy To Repair Or Replacement And Excluding Liability For Consequential Damages In Commercial Contracts

Joan L. Roth(fn*)

In June of 1970, John Schroeder bought a used truck from Fageol Motors, Inc. for use in his auto-hauling business. Before agreeing to buy the truck, Schroeder was assured the original "warranty" would cover the vehicle for another 94,000 miles.(fn1) The "warranty"(fn2) included clauses excluding liability for consequential damages and limiting all remedies to the repair or replacement of defective parts.(fn3) After four months and only 36,000 miles of use, a casting defect caused the truck's engine to explode. Although both Fageol and Cummins Engine Company(fn4) repeatedly attempted to repair the truck, it never again functioned properly.(fn5) Schroeder finally sold it and brought suit against Fa-geol and Cummins for damages, including lost profits,(fn6) resulting from breach of warranty and negligence.

The trial court entered judgment in favor of Schroeder and the court of appeals affirmed.(fn7) Both courts held that the defendants had breached express warranties to repair the vehicle and that the clause excluding Fageol's liability for consequential damages was ineffective.(fn8) The Washington Supreme Court reversed and remanded the case for full hearing on whether the clause excluding consequential damages was unconscionable.(fn9)

The facts of Schroeder v. Fageol Motors, Inc.(fn10) exemplify a common commercial situation. A product is sold to a commercial buyer under a contract containing "warranty" and "limitation of liability" clauses. These clauses typically 1) disclaim all warranties except an express warranty that the product is free of defects in materials and workmanship and 2) limit remedies exclusively to repair or replacement by the seller of defective parts, often expressly excluding liability of the seller for the buyer's consequential damages. A defect causes the product to break down or to fail to function as promised, and the seller either cannot or does not return the product to a fully-functioning, defect-free condition within a reasonable time. The parties end up in court with the seller claiming the unpaid purchase price, if any, and the buyer claiming damages for breach of warranty. A primary and difficult issue in these cases is whether the buyer can collect consequential damages for lost profits predominantly caused by the seller's failure to repair.

This article will examine the legal questions presented to a court in such a situation, with special reference to the opinion of the Washington Supreme Court in Schroeder. After outlining the subsections of section 2-719(fn11) of the Uniform Commercial Code and suggesting a method for determining to what language in a contract the section should apply, the article discusses the concept of unconscionability that courts must consider under section 2-719(3). It then examines the applicability of section 2-719(2), the "failure of essential purpose" section, to the Schroeder facts and argues that its application should result in an award of consequential damages, regardless of the fact that the exclusion of consequential damages is conscionable. The article concludes by suggesting a conceptual approach that may aid courts in solving similar problems.

I. Applicable Code Sections

As the Washington Supreme Court recognized in Schroeder, a court's first task when presented with a Schroeder-type situation is to clarify the distinction between warranty disclaimers and remedy limitations and the Code sections applicable to each. The court quoted White and Summers's treatise to make the point:A disclaimer clause is a device used to exclude or limit the seller's warranties; it attempts to control the seller's liability by reducing the number of situations in which the seller can be in breach. An exclusionary clause, on the other hand, restricts the remedies available to one or both parties once a breach is established.(fn12) Both the Washington court and White and Summers used the term "exclusionary clause" instead of "remedy limitation."(fn13) The choice is unfortunate for two reasons. First, the term "exclusionary clause" is confusing. The role of warranty disclaimers is to "exclude" implied warranties of merchantability and fitness for a particular use, but by the court's terminology they are "disclaimers" and not "exclusionary clauses." Remedy limitations may not "exclude" anything but only limit the amount recoverable on breach, as in a limitation of recovery to the return of the purchase price. Such a clause, however, is an "exclusionary clause" by the court's terminology. Second, using the term "exclusionary clause" may lead to improper application of section 2-719 if a court fails to recognize that a clause limiting remedy to repair or to a return of purchase price is an "exclusionary clause" to which section 2-719 applies.(fn14) Notwithstanding the court's terminology, this article will use the term "remedy limitation."

The Uniform Commercial Code separates warranty disclaimers and remedy limitations and treats each in a different section: section 2-316'(fn15) covers warranty disclaimers while section 2-719(fn16) deals with remedy limitations. Courts, however, have had difficulty determining which section to apply to a particular clause and have often confused the two sections.(fn17) One cause of the confusion is the drafting practice of including remedy limitations in the same paragraph-or even the same sentence-as warranty disclaimers.(fn18)

In determining which Code section to apply, courts should not be mislead by such drafting but should look at the purpose of the language used in each clause. Warranties and warranty disclaimers are concerned with the quality of the products. Language that describes a quality of the product, such as being free of defects, is clearly an express warranty. Language that indicates the product does not have certain qualities, such as being merchantable or fit for a particular purpose, is a warranty disclaimer to which section 2-316 applies. In contrast, language which describes what the buyer can or cannot request, or what the seller will or will not do, upon a finding that the machine is lacking a warranted quality, is a remedy limitation to which section 2-719 applies. In Schroeder, the Washington Supreme Court correctly found the language in Fageol's warranty that excluded the seller's liability for consequential damages to be an exclusionary clause (remedy limitation) to which section 2-719 applied. However, the court did not apply its own distinction between exclusionary clauses (remedy limitations) and warranty disclaimers to overturn the appellate court's finding(fn19) that there was a "warranty" to repair or replace defective parts, and thus did not reach the question of whether what was really a remedy limitation to repair or replace had failed of its essential purpose under section 2-719(2).

Section 2-719 contains three subsections governing contractual limitation of remedy. Subsection (1) allows parties to limit remedies such as to a return of purchase price or to repair and replacement of defective parts.(fn20) Such a limited remedy is exclusive only if expressly stated to be so.(fn21) Official Comment 1 to section 2-719 adds that any "reasonable" limitation of remedy should be given effect, but warns that a contract must provide "at least a fair quantum of remedy for breach of obligations or duties outlined in the contract" to avoid being found unconscionable.(fn22) Such a fair quantum of remedy is necessary to insure reasonable protection against breach.(fn23)

Although the language of section 2-719(1) does not specifically say that a fair quantum of remedy must be provided, such a requirement could be read into the section. The reasoning would be that the section only allows parties to "alter" or "limit" remedies, and not avoid them, indicating that some remedy must be left. Courts not wanting to read a fair quantum requirement into section 2-719(1) may employ section 2-302,(fn24) the unconscion-ability section, to enforce this clear requirement of the Comment. This article will refer to section 2-719(1) as though the fair quantum requirement were enforceable under it.

Section 2-719(2) states that: "Where circumstances cause an exclusive or limited remedy to fail of its essential purpose, remedy may be had as provided in this Title."(fn25) This subsection enforces the fair quantum requirement in the special situation where a remedy limitation, which appeared reasonable at the time of contracting, failed to provide one party with a fair quantum of remedy after breach due to unexpected circumstances. The test, according to the Official Comment, is whether either party has been deprived "of the substantial value of the bargain."(fn26) If so, the clause "must give way to the general remedy provisions of the Article."(fn27)

Finally, section 2-719(3), as the Comment states, "recognizes the validity of clauses limiting or excluding consequential damages but makes it clear that they may not operate in an unconscionable manner."(fn28) The reference to unconscionability incorporates the general standards for determining unconscionability developed under section 2-302. It also appears to relate to the fair quantum requirement of...