Bus 311 Business Law

Chapter Overview

8.1 Seller’s Obligations • Goods Not Shipped by a Carrier (§ 2-503) • Delivery by Seller to Specific Destination (§ 2-503) • Shipment by Seller Through a Common Carrier

(§ 2-504) • F.O.B. and F.A.S. Shipping Contracts (§ 2-319)

8.2 Buyer’s Obligations • Duty to Pay (§§ 2-507, 2-511) • Right of Inspection (§ 2-513) • Insurable Interest (§ 2-501)

8.3 Defective Title and the Bona Fide Purchaser (§ 2-403(1))

8.4 Risk of Loss (§ 2-509) • Non-Carrier Cases • Destination Contracts • Carrier Contracts

8.5 Chapter Summary • Focus on Ethics • Case Study: Southland Mobile Home Corp. v. Chyrchel • Case Study: McKenzie v. Olmstead • Critical Thinking Questions • Hypothetical Case Problems • Key Terms

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8 Learning Objectives

After studying this chapter, you will be able to:

1. Describe and give examples of the seller’s rights and obligations under the sales contract.

2. Describe and give examples of the buyer’s rights and obligations under the sales contract.

3. Explain the difference between shipping and destination contracts.

4. Describe the concepts of risk of loss and insurable interest.

5. Define and explain the significance of a bona fide purchaser.

Performance of the Sales Contract and Risk of Loss

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CHAPTER 8Section 8.1 Seller’s Obligations

Once a contract for the sale of goods comes into existence, it is important to deter-mine the duties of the buyer and seller. In addition, it is necessary to determine precisely when title to purchased goods passes from the seller to the buyer, and when the buyer acquires enough of an interest in the goods that he may purchase insur- ance to protect himself against loss or damage to goods before obtaining possession. As is usually the case under the Uniform Commercial Code (UCC), the buyer and seller are free to control most of these matters by specific contract provisions.

Example 8.1. Beta Corp. con- tracts to buy a shipment of sugar from Sugar Inc. The contract pro- vides that Beta will bear the risk of loss if the goods are damaged in transit. If the sugar is contami- nated while being shipped, Beta must bear the loss and Sugar is not responsible.

But when the buyer and seller do not specifically agree in their contract as to who should bear the risk of loss for goods damaged in transit, or when or by what method the buyer must pay for goods shipped to the buyer by the seller, the UCC steps in and provides the answer by default. It is imperative that both the buyer and seller be aware of the

UCC provisions relating to risk of loss and passage of title under the code in order to avoid potential economic loss.

8.1 Seller’s Obligations

The obligations that the seller incurs under a contract for the sale of goods differ slightly depending on whether the goods are to be picked up by the buyer at the seller’s place of business, whether the seller must deliver the goods to the buyer herself, or whether the seller must ship the goods through a third-party carrier such as UPS or the U.S. Postal Service.

Goods Not Shipped by a Carrier (§ 2-503) When a contract for the sale of goods does not require the seller to ship goods to the buyer via carrier, § 2-503 of the UCC requires that a seller tender delivery of goods (make the goods available) to the buyer by placing conforming goods (in other words, what the buyer contracted for) at the buyer’s disposition, giving sufficient notice to enable the buyer to take delivery. Seller must tender delivery at a reasonable hour and make the goods available for the buyer to take possession of them. This is true whether the seller is to allow buyer to pick up the goods at her place of business or other designated location, or if the seller is to deliver the goods herself (or if the seller’s employees are to deliver the goods). Consider the following examples:

A well-drafted sales contract should specify who bears the risk if the goods are damaged in transit.

Charles Rex Arbogast/Associated Press

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CHAPTER 8Section 8.1 Seller’s Obligations

Example 8.2. Buyer buys a lawn tractor from ACME Lawn Care. ACME promises to notify buyer when the tractor arrives at her warehouse from the factory, and buyer agrees to pick it up at ACME’s warehouse. A week later the tractor arrives and ACME calls buyer at 2:00 p.m. on a Sunday for him to pick it up. The buyer is not home at that time, and seller does not call back again. The next day, seller sells the tractor to another buyer. Has seller discharged her obligation of tendering delivery? Clearly not, since making a single attempt to call buyer during the weekend is not enough of an effort to tender the goods.

Example 8.3. Under the above facts, assume that seller calls buyer on Sun- day as well as during regular business hours each day for the next week, and then sells the tractor to another customer. Will that suffice to discharge her obligation of tendering delivery? In this situation, seller has made a good-faith effort to tender the tractor to buyer and has discharged her duties under the contract. She would have a good chance of recovering her lost profit from the sale from the buyer, since buyer did not meet his obligation of accepting the goods within a reasonable time after they were appropriately tendered.

Example 8.4. Assume the same facts as in question 1 above, except that the seller sent buyer a post card telling the buyer that the tractor had arrived and could be picked up at any time within the next week, and also left a telephone message to the same effect on buyer’s voice mail. If buyer was away on vacation and did not get either message in time and seller sold the tractor to another customer eight days from the date of the original notification, has the seller discharged her duty to tender delivery? Unless she had reason to know that the buyer would be away on vacation (e.g., if the buyer specifically had told her this), the seller’s notice to the buyer and her keeping the tractor available for delivery to the buyer for seven days would suffice as a valid tender of delivery. Once again, the buyer would be in breach of contract and liable for the seller’s lost profits on the sale.

Unless the sales contract states otherwise, the tender of delivery must be made by seller at her normal place of business or, if she lacks a regular place of business, at her home under Section 2-308 of the UCC. If a buyer wants goods to be delivered to his home or elsewhere, he must specifically make this a provision in the contract for the sale of goods.

Delivery by Seller to Specific Destination (§ 2-503) If the seller takes on the responsibility to deliver goods to the buyer as part of the sales contract, Section 2-503 requires her to tender delivery at the agreed-upon location by ten- dering delivery of the goods at a reasonable hour after giving the buyer reasonable notice that the goods will be delivered.

Example 8.5. Brent orders a television set from BCA Electronics, who offers free home delivery and installation. He is told that the set will be delivered within the next week. Three days later, BCA attempts delivery of the set at 2:00 p.m. on a Sunday. Not finding Brent at home, BCA’s delivery person

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CHAPTER 8Section 8.1 Seller’s Obligations

returns the set to the store, and it is subsequently resold. When Brent com- plains a week later that his set has not been delivered, BCA’s manager tells him that a delivery was attempted and, since he was not home to receive it, the sales contract was canceled. The manager also tells Brent that she’ll be happy to ship him another set, but at a higher price. Brent, who is not amused, sues.

In this case, the seller will argue that she discharged her obligation by tendering delivery of the set, and that if anyone is in breach it is Brent for not having been home to receive it. Brent will counter that the seller’s tender of delivery was not reasonable in terms of time or notice. Brent, of course, is correct. Attempting a single delivery without confirming someone will be at home is not reasonable notice, nor is tendering delivery at 2:00 p.m. on a Sunday. Previous notification of the date and time of delivery or attempts at delivering the goods at different times of the day would suffice in most instances to discharge the seller’s obligations, as long as these attempts are reasonable.

Shipment by Seller Through a Common Carrier (§ 2-504) When the seller agrees to ship goods to the buyer, as opposed to delivering them herself, the seller’s duties under the contract are discharged under Section 2-504 of the UCC when she entrusts the goods to a common carrier (such as the postal service or UPS), obtains and ships to buyer any necessary documents for him to obtain the goods from the carrier once they arrive at their destination (e.g., a bill of lading), and promptly informs the buyer that the goods have been shipped.

Example 8.6. Serafina Inc. accepts an order for 100 cashmere sweaters from Belle Boutiques. Serafina agrees to ship the goods UPS. Serafina has UPS pick up the goods, and sends Belle a confirmation that the goods have shipped. Belle does not need any additional documentation to collect the goods from UPS. Serafina’s duty is discharged.

F.O.B. and F.A.S. Shipping Contracts (§ 2-319) Section 2-319 of the UCC defines the seller’s duties under F.O.B. and F.A.S. contracts. The acronym F.O.B. stands for Free On Board. When goods are shipped F.O.B., a seller is obligated to place the goods in the hands of a carrier without additional cost to the buyer, but the buyer then pays the freight charges and insurance, if desired. F.A.S., on the other hand, stands for Free Along Side a vessel. When a seller is bound to ship F.A.S., she must place the goods alongside a ship (e.g., delivery is left on a dock for loading to the ship), with the buyer bearing the cost for the actual loading and transportation of the goods by the vessel.

F.O.B. generally refers to the seller’s plant or other place of business. Many, but not all, goods purchased by consumers by mail are shipped F.O.B. seller’s plant, which means that the seller will place them in the hands of a carrier such as UPS, Federal Express, the U.S. Postal Service, or some other shipping company at the seller’s plant, then charge the buyer for the shipping cost.

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CHAPTER 8Section 8.1 Seller’s Obligations

Example 8.7. Brian orders a video game from Amazon with stan- dard shipping. This is an F.O.B. contract because Amazon will ship the order by U.S. Postal Ser- vice (since Brian did not spring for the next-day delivery option via UPS) but Brian will pay for the shipping charge of $2.38.

Although F.O.B. seller’s plant is the stan- dard shipping arrangement for most businesses, it is possible to ship F.O.B. buyer’s plant or any other location. If a seller ships F.O.B. buyer’s plant, then she will bear the risk and the cost of get- ting the goods over to the buyer’s plant, but not of unloading the goods or specif- ically delivering them inside the buyer’s plant. Likewise, even though F.A.S. con- tracts generally specify the closest port to the seller’s plant, it is possible to ship to any other location as well. A seller who ships F.A.S. S.S. American Dream, N.Y.C. agrees to place the goods alongside the ship American Dream in New York City without charge to the buyer; the buyer must then bear the cost of loading the goods onto the ship, as well as their transportation to their ultimate destina- tion and insurance, if desired, against loss or damage during transit.

Example 8.8. Soho Inc. contracts to sell 50 mattresses to Brehon Hotels Corp. in Dublin, Ireland, to be shipped F.A.S. S.S. American Dream N.Y.C. Soho is responsible for the mattresses until Soho has placed the goods on the dock alongside American Dream in the port of New York. It is Brehon’s responsibility to obtain insurance, to pay the cost of loading the goods onto the Dream, and to pay the freight charge to Dublin. If the goods are dam- aged during the voyage, Brehon will bear the loss.

But if seller agreed to ship the goods F.A.S. Dublin, Soho would be obligated to ship the goods free of charge to a port in Dublin and unload them there.

When a sales contract is silent about the method of shipment, F.O.B. seller’s plant is pre- sumed, and the seller discharges her contractual obligation by placing in the hands of a carrier the goods to be shipped to the buyer. For the seller’s obligation to be discharged, she must naturally ship conforming goods—that is, goods that are of the type, qual- ity, and condition deemed acceptable under the contract. A seller who under a contract to ship a crate of Florida oranges ships Florida grapefruits or spoiled Florida oranges obviously does not discharge the seller’s contractual obligation, but rather is guilty of a breach of contract.

F.A.S. stands for Free Along Side, meaning that once the goods are delivered to the dock alongside the ship, the cost of loading and transporting passes to the buyer.

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CHAPTER 8Section 8.2 Buyer’s Obligations

8.2 Buyer’s Obligations

Like the seller, the buyer has certain obligations imposed by the UCC in every sales contract, including the duty to pay for the goods and the obligation (and right) to inspect them under certain circumstances. The Code also determines at what point the buyer acquires a sufficient insurable interest in goods that the buyer has ordered but not yet received.

Duty to Pay (§§ 2-507, 2-511) When a sales contract does not require shipment by carrier, the sale price of the contract is payable in cash at the time that delivery is tendered by the seller, unless the contract itself specifies otherwise. In the absence of agreement to the contrary, in F.O.B. or F.A.S. ship- ping situations, even though the seller’s duties under the contract are discharged as soon as she places conforming goods in the hands of a carrier, payment will not be due from the buyer until the goods are tendered to him and she has had the opportunity to inspect them (Section 2-507).

Example 8.9. Breanna, who is in New York, orders 100 Kashmiri rugs from Kash Karpets, who are in India, F.O.B. SS Indian Star. When Kash places the good on Indian Star’s dock, Kash’s duty is discharged. However, Breanna is not obligated to pay for the goods until they arrive in New York and she has a chance to look them over.

Unless otherwise agreed, buyer must make payment for the goods once they have been tendered and he has had a reasonable opportunity to inspect them as a precondition to taking possession of the goods. Payment by check is allowed unless the contract states otherwise; but the seller or his agent (e.g., the carrier) can also demand payment in cash. If cash is demanded, the seller must give the buyer sufficient time to get the cash. If pay- ment by check is accepted, the buyer’s obligation under the contract is not discharged until the check is actually paid; if the check bounces, the buyer is in breach of contract (Section 2-511).

Example 8.10. Shawn orders a giant-screen television set to watch the upcoming World Series. When it arrives, he pays for it with a check. After the World Series, his check bounces. Aside from the potential criminal lia- bility for passing a bad check, Shawn is also guilty of breach of contract and must pay for the price of the set and any incidental and consequential damages, such as bounced check fees paid by the seller.

In this example, the seller could have refused the check at the time of the delivery, but would then have had to give Shawn a reasonable amount of time to get either cash or a certified check (which is similar to cash because it’s guaranteed by a bank) from his bank.

Obviously in these situations, trouble can be avoided by the seller’s specifying the method of payment. Sellers today often use payment by credit card rather than check or cash to avoid problems with bouncy checks and the risks of carrying large sums of cash.

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CHAPTER 8Section 8.2 Buyer’s Obligations

Right of Inspection (§ 2-513) Under Section 2-513 of the UCC, the buyer has the right to inspect goods before paying for them. However, if goods are shipped C.O.D. (cash on delivery) or when payment is made against a document of title—a negotiable instrument that gives its holder the right to receive goods in the hands of a carrier or other third party—the buyer does not have the right to inspect the goods prior to payment.

Example 8.11. Seller ships a computer system to buyer C.O.D. through the U.S. Postal Service. The boxes arrive in perfect condition and there is no indication from them that they do not contain what buyer ordered. Buyer must pay for the system without inspecting the contents of each box. If the buyer refuses to pay for the delivery unless he can open the box to verify that it is the computer system he ordered and that it works, he will be in breach of contract and liable for damages, including the shipping costs, the C.O.D. charges, and the seller’s lost profits.

If the goods turn out to be nonconforming because of some defect, he can return them or otherwise recover damages from the seller; but he must initially accept the goods themselves whether or not they are conforming. If this seems unfair to the buyer, keep in mind that he always has the option of requiring goods to be shipped other than C.O.D. if he wants to retain the right of inspec- tion prior to acceptance of the goods.

Section 2-512 states that whenever payment is required without inspection (e.g., C.O.D. shipment under Section 2-513), the buyer may nevertheless refuse acceptance of the goods whenever the good’s nonconformity to the contract appears without an inspection. In other words, if it is obvious that the goods are nonconforming, they need not be accepted even when the buyer does not have the right of inspection. Consider the following:

Example 8.12. Buyer orders a Mac C.O.D. When delivery is tendered to him, he notices that the boxes that the system comes in are clearly labeled “IBM, Inc.” He need not accept the system, since it is clear without an inspection that the delivery is of nonconforming goods (i.e., an IBM computer instead of a Mac).

Example 8.13. Buyer orders a computer system C.O.D. When it arrives, the boxes are seriously damaged and waterlogged. The buyer can refuse delivery without inspection, since it is obvious without inspection that the goods are nonconforming (i.e., damaged).

A buyer should inspect goods as soon as possible to make sure they conform to the contract.

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CHAPTER 8Section 8.2 Buyer’s Obligations

When the buyer has the right of inspection prior to payment for the goods, he must bear the cost of the inspection if one is desired. But if the goods are found to be nonconforming, he can recover the cost of the inspection from the seller.

Insurable Interest (§ 2-501) Once goods to a contract become identified, a buyer acquires an insurable interest in them, entitling him to insure against the goods being damaged, destroyed, lost, or stolen.

Example 8.14. Brandon places an order for 50 Kiss-Me-Kate dolls with Ser- ena’s Doll Factory. Serena boxes up 50 of the specified dolls and prints labels with Brandon’s address, which she attaches to the box. At this point, Brandon has an insurable interest in the dolls, although he does not at this point own the dolls.

It is important to note that the buyer often has an insurable interest before he acquires legal title to the goods. In other words, the law acknowledges that once goods under a contract are identified, the buyer has enough of an interest in them to purchase insurance coverage guaranteeing their safe arrival, even though at that point he usually does not own the goods, and would not be responsible for their loss or damage.

Goods become identified to a contract as soon as the seller marks them in preparation for shipment, or otherwise separates them from the remainder of seller’s stock by clearly identifying them as the goods that are to be shipped to or picked up by the buyer. Exam- ples of identifying goods to a contract sufficiently so as to give the buyer an insurable interest in them would include:

• Roping off a section of the seller’s warehouse with the goods that are to be shipped to the buyer;

• Tagging goods in a warehouse for future shipment to the buyer;

• Packaging goods for shipment to the buyer in boxes that are clearly marked with his name and address;

• Placing all goods to be shipped to the buyer on board a ship in a shipping container labeled as belonging to buyer.

In short, any action by seller that marks specific goods from her stock for even- tual shipment to buyer will suffice as identifying the goods to the contract.

When the manufacturer of these stuffed toys boxed them up and labeled the boxes with this store’s name and address, the store acquired an insurable interest in the toys, even though the store did not yet own them.

Zoonar/Thinkstock

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CHAPTER 8Section 8.3 Defective Title and the Bona Fide Purchaser (§ 2-403(1))

8.3 Defective Title and the Bona Fide Purchaser (§ 2-403(1))

If a seller has full rights to goods and transfers them to the buyer, there is valid title. The buyer now owns the goods and seller has no rights to them. But if the seller did not have a right to the goods, the seller cannot transfer title to the buyer. Example 8.15. Corey steals Alanna’s bike and sells it to Caitlin. Since Corey had no rights in the bike, and thus no title, he cannot pass title to Caitlin. Alanna has the right to get the bike back.

However, sometimes things get more complicated. If the seller obtained the goods through fraud or deception, the seller may nonetheless get voidable title. This means that while the original owner has the right to get the goods back from the seller, if the seller has transferred the goods to a buyer, under some circumstances that buyer will then take title.

Example 8.16. Stephen buys Jessica’s bike but pays for it with a check that bounces. By the time Jessica finds out the check is no good, Stephen has already sold the bike to David, who paid fair market value. Here, while Jessica could have recovered the bike from Stephen, it is likely she cannot take it back from David.

The UCC provides that a person with voidable title (such as Stephen) can transfer valid title to a buyer, if that person is a bona fide good faith purchaser for value (BFP for short). To qualify, the buyer must:

1. Have given value for the goods. Since David (the new buyer) paid a reasonable price to Stephen, he can show this element.

2. Have acted in good faith. David had no reason to know that Stephen had obtained the bike with a bad check.

Consider the following situation:

Example 8.17. Angelina buys the Elite model Italian racing bike from Alonzo for $400. The bike is in perfect condition, and Ange- lina knows that they sell new for $1,200, and used ones go on eBay for around $900 in good condi- tion. It turns out that Alonzo bought the bike from Cycle Shop a week ago, paying for it with a fraudulent credit card. Can Cycle Shop get the bike back from Angelina?

Here, the answer is yes, because Ange- lina is not a BFP. Although she did give value in the form of $400, she was not

If a buyer is offered a deal that seems too good to be true— beware! The title to stolen goods typically stays with the original owner.

Sean Gallup/Getty Images

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CHAPTER 8Section 8.4 Risk of Loss (§ 2-509)

acting in good faith. The suspiciously low price should have tipped Angelina off to the fact that Alonzo may not have had clear title.

8.4 Risk of Loss (§ 2-509)

As we have previously seen, a valid contract for the sale of goods comes into exis-tence either as soon as the buyer’s order is accepted or as soon as the goods are shipped, whichever comes first. Problems can arise in the interim period between the time when the contract arises to the time that the conforming goods are finally ten- dered to the buyer—if goods are destroyed, damaged, or stolen without the fault of either party, for example. The question then becomes: who must bear the risk for the loss? Con- sider the following situations:

Example 8.18. Buyer orders goods. Seller acknowledges the order and agrees to ship the goods via carrier within 48 hours. After packaging the goods and addressing them to the buyer, but before seller turns them over to a carrier for shipment, the goods are destroyed in a fire at seller’s warehouse.

Example 8.19. Buyer orders goods and seller ships goods via carrier. While the goods are in transit, the carrier gets into an accident that destroys or damages the goods.

Example 8.20. Buyer orders goods and seller ships goods via carrier. While they are in transit, the goods are stolen from the carrier.

In each of the above examples, neither the seller nor the buyer is at fault with regard to the damage or theft of the goods. If the parties have not contractually determined who will bear the risk of loss between the time that a contract is formed until delivery and accep- tance of the goods by the buyer, the UCC determines who must bear the risk of loss using the rules discussed below.

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CHAPTER 8Section 8.4 Risk of Loss (§ 2-509)

Non-Carrier Cases When goods under a sales contract are not to be delivered by carrier (e.g., when they are to be picked up by the buyer or are to be delivered by the seller), the risk of loss passes from the seller to the buyer upon the buyer’s physically taking possession of the goods if the seller is a merchant, or upon the seller tendering delivery of the goods to the buyer if the seller is not a merchant. The following should help to clarify this point:

Example 8.21. Gladys offers to sell her stationary exercise bike to Michael for $200. Michael agrees and pays her $200, and is told by Gladys that he can pick up the bike 6:00 p.m. that day. At 6:30 p.m., a thief breaks in to Gladys’s home and steals several items, including the bike that Michael had purchased. (Even thieves need to keep fit.) Michael arrives at 7:00 p.m. and demands that she turn over the bike. When she explains that the bike was stolen half an hour earlier, he is not amused and demands that she return his $200.

In the Media: E-Books: New Fights Over Buyer and Seller Rights

If someone purchases a book in a Barnes & Noble store, the book is the buyer’s property. In fact, it qualifies as “goods” under Article 2 of the UCC. If that buyer orders the same book from Amazon.com, it is as if the purchase were made in person. However, what if the book is an e-book, “shelved” on Amazon’s popular tablet gadget and e-reader, Kindle?

In 2009, Amazon erased two copies of George Orwell’s most famous books, 1984 and Animal Farm, from many customers’ Kindles. (Ironically, Orwell is known for his out- cry against the censorship and dictatorship of Joseph Sta- lin’s Soviet Union, which controlled every aspect of people’s lives, including what information citizens had access to.) Amazon claimed it eliminated the paid-for texts because MobileReference, the seller of those Amazon e-copies, lacked the digital rights from the books’ publisher. E-books are delivered by way of a wireless network and Amazon can use this connec- tion to take away texts purchased via the network.

One disgruntled former owner of 1984 was 17-year-old Justin Gawronski, who also lost the annota- tions and notes he had put on his Kindle for his school’s summer assignment. He filed suit and about a month later Amazon settled the case. The settlement included a promise not to delete any more e-book purchases and an offer to return the books along with any annotations or notes to all Kindle owners or to present $30 gift certificates to all affected customers. Justin’s legal fees were $150,000, and Amazon paid those, as part of the settlement.

Goods must be tangible, movable personal property, according to the UCC. So as it concerns e-books, two key questions arise: is an e-book “goods,” if it has a physical counterpart; and does a buyer of an e-book have actual ownership of it or simply a license to access it on a tablet?

Sources: http://www.nytimes.com/2009/07/18/technology/companies/18amazon.html http://www.guardian.co.uk/technology/2009/jul/22/kindle-amazon-digital-rights http://www.pcworld.com/article/172953/amazon_settles_kindle_1984_lawsuit.html

Should e-books be qualified as goods?

Mark Lennihan/Associated Press

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CHAPTER 8Section 8.4 Risk of Loss (§ 2-509)

The answer as to who must bear the loss of the exercise bike depends on whether Gladys is a merchant (one who deals in the buying and selling of goods of that kind during the regular course of business). Assuming that Gladys is not in the business of selling exercise equipment, Michael bears the loss in the last example. Since Gladys tendered the bike at 6:00 p.m., the risk of its loss (provided that the bike was available for Michael to pick up by the appointed time) shifted to him as of that time. If the bike was stolen or otherwise dam- aged or destroyed without the fault of Gladys at any time after 6:00 p.m., Michael must bear the loss. If the bike had been stolen at 5:30 p.m., Gladys would bear the loss, since she did not tender it to Michael until 6:00 p.m. under their agreement. On the other hand, if Gladys is a merchant who sells exercise bikes in the regular course of business, she would bear the risk of loss until Michael actually took delivery of the bike.

The UCC often holds merchants to a different (usually higher) standard than non- merchants. While it may seem unfair to hold a merchant responsible for goods that are in her possession even though they belong to another (e.g., goods that a customer has pur- chased but not yet picked up), most merchants are protected by insurance to cover such losses as a matter of course, whereas consumers who make an occasional sale of goods are not nearly as likely to be protected by insurance if they suffer a similar loss.

Destination Contracts When the seller agrees to deliver goods to the buyer as part of the sales contract, the risk of loss passes to the buyer when the goods are tendered to him at their final destination.

Example 8.22. Rest Rite Mattresses sells a mat- tress and box spring set to Buyer under a contract that includes delivery and setup of the mattress in Buyer’s home. On the way to Buyer’s home, the delivery van is struck from behind while waiting at a red light by a drunken driver, and the mattress is damaged.

Since delivery had not yet been tendered to the buyer, Rest Rite must bear the loss (it can, of course, sue the drunk driver who is ultimately at fault for the accident). If, on the other hand, the delivery was attempted after duly notifying the buyer and the buyer was not at home, the buyer would be responsible for the loss if the van were struck by the drunk driver on the way back to the factory, since the risk of loss would pass to the buyer as soon as the delivery was tendered.

Carrier Contracts Whenever a sales contract requires a seller to turn over the goods for shipment to a carrier but does not obligate her to deliver the goods to a specific location (e.g., F.O.B. and F.A.S. delivery contracts), the risk of loss passes to the buyer as soon as the seller places the goods in the

If the seller had a destination contract for the goods spilled in the road, he will have to bear the cost of the damage.

James Gibbard/Associated Press

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CHAPTER 8Section 8.5 Chapter Summary

hands of the carrier. If the goods are damaged while they are in the hands of the carrier, the buyer will bear the risk of loss. (The buyer may, however, sue the carrier if the goods are damaged, lost, or stolen due to its negligence.)

Example 8.23. Sam orders a microwave oven from Nuke-M-Good Co. and agrees to pay $100 F.O.B. seller’s plant. Seller arranges delivery through SPD Delivery Service, which is to collect the freight charges from Sam upon delivery. After SPD’s driver picks up the package at the seller’s plant, he drops it on the way to his truck. Sam must pay Nuke-M-Good for what will be a damaged (and dangerous) microwave oven on delivery. His only recourse will be to sue SPD for its driver’s negligence.

8.5 Chapter Summary

The UCC allows buyers and sellers considerable latitude to structure their own trans-actions, but it also contains many provisions that will govern the agreement oth-erwise. In some cases, these provisions may relate to matters the parties haven’t even contemplated. The Code provides specific obligations for a seller, which can differ depending on shipping methods and terms. It also provides duties for the buyer, includ- ing details relating to the obligation to pay for the goods, and the buyer’s rights of inspec- tion. Another very important issue concerns who bears the risk of loss, should the goods be damaged. Again, the UCC has different rules depending on the situation involved.

Many people may not be thinking about goods being destroyed en route, or issues such as insurance coverage, when they place an order. But the UCC, in essence, has already anticipated many of the things that can go wrong with a sales contract.

Focus on Ethics

Ernest contracted to buy 300 head of cattle from Gang Ranch in Canada for $240,000. The money was to be paid by wire transfer to Gang’s bank once the cattle had cleared customs in the United States. Because of a delay at the border, the cattle were cleared on a Saturday, when the bank was closed. Ernest took possession of the cattle, which were branded with the GR brand, but did not receive a bill of sale. Gang did not get the wire transfer of money.

Meanwhile, Ernest sold the cattle to Van Graf for $200,000. Van Graf paid for the cattle and took pos- session of them, but did not get title documents as required by law.

Gang Ranch sued Ernest for the $240,000, but was only able to recover $140,000. Gang Ranch then sued Van Graf for the remaining money due. Van Graf argued that he was a BFP (bona fide good faith purchaser), but the court found that the lack of title documents meant he had not acted in good faith. Van Graf had evidence that it was usual in the industry that the documents arrived after the sale, but since legally the documentation was required, the court held that title to the cattle had not passed to Van Graf, and he was liable. (continued)

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CHAPTER 8Section 8.5 Chapter Summary

Focus on Ethics (continued)

In another case involving a possible BFP, in 1938 a Jewish man named Grunbaum had his property confiscated by the Nazis, pursu- ant to statutes in effect in Vienna at the time. The property included a valuable drawing by Egon Schiele, known as Seated Woman with Bent Left Leg. Grunbaum later died in a concentration camp. The drawing was sold and resold over the years, until finally in the 1960s it was bought by David Bakalar for $4,300. Bakalar later put the drawing up for sale at auction, but the winning bid (over $600,000) was withdrawn when the Grunbaum family raised ques- tions regarding title. A court in New York found that if the property was stolen, title would not have passed to any of the buyers over the years. (It was left to a later legal proceeding to determine if that was the case. Eventually a court ruled that Bakalar was a BFP, but it was partly because the Grunbaum heirs had not brought their claim in timely fashion.)

Questions for Discussion

1. In both of these situations, Van Graf and Bakalar had paid a lot of money for the property in question. Why aren’t they considered to be BFPs? Does it seem fair to you?

2. Van Graf was technically violating a law by not having proper documentation, but he was also doing things according to normal industry practice. Was he acting ethically?

3. If the law had not required certain documentation for the sale of cattle, do you think Van Graf would have had title to the cattle? Would that make him a BFP?

4. In the case of the drawing, note that the law in Austria at the time allowed such confiscation, and in fact the Nazis got the drawing after Grunbaum signed a power of attorney authorizing his wife Elizabeth to make the transfer. The documentation stated that the property was being given in payment of taxes (apparently imposed on Grunbaum for being Jewish). Arguably, then, the Nazis were acting legally but few would find they acted ethically. Does this result seem consistent with the Van Graf case? How might the two results be explained?

5. Note that Bakalar bought the drawing about 25 years after the Nazis obtained it from Grun- baum, and it had changed hands several times since. Should that make any difference with regard to who has title?

Title to goods such as cattle can sometimes be difficult to determine. The cattle are branded, but may change hands several times after that.

Lefteris Pitarakis/Associated Press

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CHAPTER 8Section 8.5 Chapter Summary

Case Study: McKenzie v. Olmstead

587 N.W.2d 863 (Minn. Ct. App. 1999)

Facts: McKenzie ordered a custom-made trailer from Olmstead, a merchant. According to Olmstead’s testimony, McKenzie requested that Olmstead ship the trailer to Olmstead’s Elk River site, a location where he sold trailers. Olmstead did and had the trailer stored inside a fenced and locked area. After more than a month, McKenzie decided to pick up the trailer and asked Olmstead to leave it outside the fenced area. Olmstead followed McKenzie’s instructions but warned him that the trailer would not be safe. Two days later, McKenzie arrived to pick up the trailer, but it was stolen. McKenzie sued Olmstead to recover the purchase price of $3,620. McKenzie claimed that it was Olmstead who suggested put- ting the trailer outside the fenced area, despite McKenzie’s worry that it might be stolen,

Case Study: Southland Mobile Home Corp. v. Chyrchel

500 S.W.2d 778 (Ark. 1973)

Facts: Gloria Chyrchel bought three mobile homes from Southland Corp. A service crew employed by Southland was to install a new gas range in one of the mobile homes. While they were doing the work, Gloria smelled gas and asked the crew to check for leaks. Several days later, before the work had been completed, there was an explosion and the mobile home was severely damaged. Southland refused to replace the unit or give Gloria a refund, saying that the sale was complete before the explosion and risk of loss had already passed to Gloria, the buyer.

Issue: Had seller tendered conforming goods to the buyer, thus passing risk of loss?

Discussion: While it was true that the mobile homes were delivered, the contract price included instal- lation of the units. Southland admitted that they had agreed to get the trailer ready for occupancy. This was not done. Furthermore, under UCC Section 2-510, the court found that the trailers did not conform to the contract, and where the buyer could exercise a right to reject the goods, risk of loss remains on the seller until cure of the defect or acceptance. The court noted that prior cases had established that nonconformity should be measured in terms of the performance of the totality of the seller’s contrac- tual undertaking.

Holding: Southland still had risk of loss and is liable to Gloria Chyrchel.

Questions for Discussion

1. Why did the court find Southland had not yet delivered the goods, even though the mobile home was clearly on Gloria’s lot?

2. Is there anything either party could have done in writing the contract so that this litigation could have been avoided?

3. If Southland had delivered and set up the trailer, and three weeks later Gloria’s renter moved in and was injured when one of the steps broke, would the situation be different with regard to risk of loss?

(continued)

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CHAPTER 8Section 8.5 Chapter Summary

Critical Thinking Questions

1. What is the difference between an F.O.B. and an F.A.S. contract? If you were a seller, which would you prefer?

2. What are the rules with regard to when and how a buyer must pay for goods? 3. What does BFP stand for? What is the significance of a buyer being a BFP?

Case Study: McKenzie v. Olmstead (continued)

promising to secure it with a ball coupler lock. McKenzie argued that he hadn’t received the good and that under Minnesota’s UCC, the risk of loss passes to the buyer only upon receipt of goods if a seller is a merchant. The trial court found that the parties had a “contrary agreement,” that altered the tra- ditional UCC rule, and that the risk of loss had shifted to McKenzie. The trial court ruled for Olmstead, and McKenzie appealed.

Issues: Did the parties have a “contrary agreement” that shifted the risk of loss from the merchant seller to the buyer?

Discussion: The appellate court found that, under the Minnesota’s UCC, Olmstead is indisputably a “merchant,” and “receipt of goods” by a buyer means “taking physical possession of goods.” However, if the parties have a “contrary agreement,” then the risk of loss may be shifted to the buyer even if he or she did not take the physical possession of the goods. A “contrary agreement,” to be valid, should be explicit and understood by both parties. In the present case, the appellate court refused to overturn the trial court’s agreement with Olmstead’s testimony—that the parties expressly discussed leaving the trailer outside the fenced area, that McKenzie ordered the trailer moved outside the fence in order to pick it up, and that he was aware that the trailer could not be secured there. McKenzie assumed the risk of loss by instructing Olmstead to leave the trailer outside the fenced area and demanding Olmstead to act upon these instructions. Therefore, there was a “contrary agreement” between the parties, and the risk of loss shifted to McKenzie when the trailer was moved outside the fenced area at the Elk River site.

Holding: The decision of the trial court is affirmed.

Questions for Discussion

1. What was the basis for the legal dispute between McKenzie and Olmstead? 2. Why did McKenzie argue that Olmstead should bear the risk of loss for the stolen trailer?

What legal theory did McKenzie use to support his position? 3. Why did the trial court rule in favor of Olmstead? What is a “contrary agreement”? 4. What was the reasoning of the appellate court to affirm the decision of the trial court? 5. Do you agree that the parties had a “contrary agreement” that was explicit and understood by

both parties? If you were a buyer in this case, what would you do to ensure that the risk of loss stays with the seller?

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CHAPTER 8Section 8.5 Chapter Summary

Hypothetical Case Problems

Case 1. Buyer orders an entertainment system from Audio World and asks that Audio World deliver it C.O.D. via its delivery department.

A. When the system arrives, buyer wishes to pay by credit card. May he do so if the delivery person objects? Explain.

B. If buyer offers to pay by check and the delivery person demands cash, what can buyer do?

C. If buyer pays by check, when will the contract be fully discharged? D. When will the contract be discharged if the buyer pays cash? E. If the shipping carton is intact upon delivery and is marked as contain-

ing the entertainment system that buyer purchased, may he nonetheless demand to inspect it before paying for it?

Case 2. Nowanda Hardy, a seller of gourmet popping corn, orders a metric ton of popping corn from a local farmers’ cooperative.

A. Before the corn can be shipped to Ms. Hardy, lightning strikes the grain elevator containing corn. Who will bear the risk of loss? Explain.

B. If the farmer’s cooperative had placed the corn in a shipping container marked “for shipment to Nowanda Hardy” and lightning then struck the container, destroying the corn, would your answer to A above be the same? Why?

C. Would Ms. Hardy have had an insurable interest in the corn under exam- ple A above? What about in example B? Explain.

D. If the farmers’ cooperative had placed the container with the corn in the hands of a carrier under an F.O.B. shipping contract and the luckless con- tainer was then struck by lightning, who would bear the loss? Explain.

Case 3. Sonia, the owner of a grocery store, offers to sell her motorcycle to Ken for $1,000. Ken accepts, pays the $1,000 price, and agrees to pick up the bike at 9:00 the next morning.

A. If the motorcycle is stolen overnight, who will bear the risk of loss? B. If the bike is stolen at 9:15 a.m., before Ken can pick it up, whose loss

would it be? C. For purposes of the UCC, is Sonia a merchant with regard to this transac-

tion? Explain. D. If Sonia regularly bought and sold motorcycles, as well as groceries, and

the motorcycle in question was stolen at 9:15 a.m., before Ken could pick it up, whose loss would it be?

Case 4. Fresh Pop, a soft drink manufacturer, agrees to ship 10,000 cases of its soda pop from New York to Los Angeles under a contract calling for delivery F.O.B. buyer’s plant. When Fresh Pop places the goods in the hands of a carrier in New York, the soda is in perfect condition. However, by the time it arrives to the buyer’s plant in California, much of the soft drink has been ruined due to damage suffered in transit that was not the fault of either Fresh Pop or the buyer.

A. Between Fresh Pop and the buyer, who must bear the loss? Explain. B. Would your answer be the same if the shipping contract specified delivery

to be made F.O.B. seller’s plant? Why?

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CHAPTER 8Section 8.5 Chapter Summary

BFP (bona fide purchaser) An innocent party who pays value for goods in good faith.

C.O.D. Cash on delivery. Payment in money must be made when the goods are tendered (delivered).

common carrier A third party who has the duty of transporting goods. Modern examples include the government postal service and private services such as FedEx and UPS.

F.A.S. (Free Along Side) a named ves- sel Seller at his expense and risk must deliver goods alongside the named vessel (for example, a ship) and obtain proper receipts.

F.O.B. (Free on Board) place of destina- tion Seller must deliver the goods at the place named and bears the expense and risk of shipping.

F.O.B. place of shipment Seller is obli- gated to put the goods into the possession of the carrier at the specified place. Seller bears expense and risk until goods are in the carrier’s possession; from then on, the risk is the buyer’s.

voidable title Limited rights in goods, inferior to those of an owner.

Key Terms

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