1 ESSAY CONTRACTS WITHOUT CONSENT: EXPLORING A NEW BASIS FOR CONTRACTUAL LIABILITY † EN HAHAR MRI B -S O This Essay explores an alternative to one of the pillars of contract law, that obligations arise only when there is “mutual assent”—when the parties reach con- sensus over the terms of the transaction. It explores a principle of “no-retraction,” under which each party is obligated to terms it manifested and can retract only with some liability. In contrast to the all-or-nothing nature of the mutual assent regime, where preliminary forms of consent are either full-blown contracts or create no obligation, under the no-retraction regime, obligations emerge gradually, as the positions of the negotiating parties draw closer. Further, the no-retraction liability regime can be coupled with different damage measures to advance various social goals, including optimal reliance. The theory is applied to areas of contract for- mation that have produced inconsistent jurisprudence, such as precontractual li- ability and misunderstandings, and resolves them in a simple and unified fash- ion. Finally, the analysis provides a fresh understanding of the obligation to negotiate in good faith and explores a new criterion for gap-filling in incomplete contracts. NTRODUCTION I One of the pillars of the law of contract formation is the principle of mutual assent. According to this principle, a contract forms only when the positions of the two parties meet. When the parties represent † Professor of Law and Economics, University of Michigan Law School. Contact at [email protected] This Essay originates from many discussions with Lucian Bebchuk. I benefited from helpful suggestions by Barry Adler, Ian Ayres, Allan Farnsworth, Alon Harel, Christine Jolls, Roy Kreitner, Kristin Madison, Robert Mikos, Ariel Porat, Alan Schwartz, Brian Simpson, James J. White, and faculty workshop participants at Harvard Law School, University of Michigan, Tel-Aviv University, University of Southern Cali- fornia, Yale Law School, and the Contract Panel at the 12th Annual Meeting of the American Law and Economics Association (held at Harvard University, May 2002). Finally, I am grateful to the Interdisciplinary Center in Israel for hosting me during the period in which this Essay was written. Financial assistance from the John M. Olin Center for Law and Economics at the University of Michigan Law School is thankfully acknowledged. (1829)
2 1830 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 different conceptions of the terms under which they intend to deal, no contractual liability arises, and both are free to walk away. Mutual assent has many implications for contract law theory and doctrine. Importantly, it sets the boundary between the precontrac- tual and the contractual stages. Prior to attaining a consensus, while an agreement is still being negotiated, no liability arises between the parties. At some point in time, the positions of the parties (or, more correctly, their outward manifestations) meet, and full expectation li- ability emerges. Liability, in other words, does not accumulate con- tinuously. Rather, it rises abruptly as soon as the “qualitative” assent test is satisfied. This principle also implies that a contract cannot exist when the parties remain silent over some important elements of the deal. True, statutory and judicial gap-fillers have eroded this traditional common law approach. Nevertheless, in important areas of the transaction, an absence of affirmative assent to terms still implies a non-contract. Many of the rules characterizing the legal consequences of the communications at the contract formation stage are also corollaries of the mutual assent principle. For example, a communication is an of- fer—such that it can be accepted unilaterally—only if it is definite; a response to an offer that does not manifest assent—that changes some of the terms—is deemed a rejection and terminates the power of the offeree to unilaterally conclude a deal; and an offer is revocable at any time prior to its affirmative acceptance. This Essay suggests that the consensus principle embodied in the mutual assent doctrine might not be a desirable instrument to ad- vance the goals of potential transactors. It argues that limiting con- tractual liability to cases in which a consensus was manifested fails to reflect the different “tones” of the “understandings” and commit- ments that parties may express throughout the negotiations. As a re- sult of this failure, the basis for contractual liability, in some situations, may be too narrow to induce optimal reliance by the parties. As an alternative to the consensus-or-nothing structure, this Essay explores a no-retraction principle. The basic insight is the following: A party who manifests a willingness to enter into a contract at given should not be able to freely retract from her manifestation . The oppos- terms ing party, even if he did not manifest assent, and unless he rejected the terms, acquires an option to bind his counterpart to her represen- tation or charge her with some liability in case she retracts. In contrast to the mutual assent approach, the no-retraction prin- ciple developed here suggests that when two parties attach different,
3 2004] CONTRACTS WITHOUT CONSENT 1831 but equally plausible, meanings to their agreed-upon contractual obli- gation, the absence of consensus would not negate any liability. In- a stead, under the no-retraction principle, each party should have right to enforce a contractual obligation according to the meaning intended by . Further, even when the parties have not reached a full-blown the other agreement or an understanding over terms, as in the case where both parties make serious, but nonconforming, precontractual representa- tions of the proposed terms, the legal consequence should not be mu- tual rejection accompanied by the freedom to walk away. Rather, the bilateral options: each party representations of the parties give rise to can bind (with the magnitude of liability to be specified below) the other to the terms that party proposed. If the proposal is incomplete most favorable and gaps need to be filled, they will be filled with terms (within reason) to the proposing party. Thus, while a party is unable to retract, it is only from a deal that includes terms she proposed, supplemented by terms most favorable to her. I will argue that the en- forced-against party has no reasonable grounds to reject a deal con- taining such terms. Another way to conceptualize this idea is to view liability as a process of continuous convergence. Initially, when the consensus is “thin”—when the two parties differ on many terms of the deal—the option that each party acquires (to enter a deal that is very different from what she proposes and very favorable to the other party) is of minimal burden to the other party. As negotiations move forward and consensus grows, the option that each party acquires becomes more valuable. It is an option to enforce a deal that includes all the terms agreed upon, supplemented with the terms proposed by the other party. Finally, when the two parties reach a full agreement, i.e., mu- tual assent, the value of this option is identical to the value of the con- tract. Thus, in effect, the greater the “fraction” of a contract the par- ties have, the greater the “fraction” of contract liability the plaintiff can enforce. The no-retraction principle provides a new underpinning for Lon 1 Fuller’s famous notion of “an ascending scale of enforceability.” 1 Letter from Lon L. Fuller to Karl N. Llewellyn, Professor of Law, Columbia Uni- - , C A. H S. S & R R excerpted in versity (Dec. 8, 1938), UMMERS OBERT ILLMAN ON OBERT 41 (4th ed. O : T , D , P R ELATED OCTRINE BLIGATION AND TRACT AND RACTICE HEORY 2001). This idea was introduced in L. L. Fuller & William R. Perdue, Jr., The Reliance Interest in Contract Damages (pt. 2), 46 Y L.J. 373, 420 (1937) (objecting to the “all-or- ALE nothing attitude” of contract law and urging for a more balanced legal approach that recognizes varying degrees of enforceability).
4 1832 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 Fuller argued that weaker measures of damages—restitution and reli- ance damages—should be available when the grounds for enforce- ment are weaker. Liability for retraction satisfies Fuller’s ascending scale notion, since it correlates the magnitude of liability with the de- gree of consensus. It differs, however, in important ways from Fuller’s scale, which was limited to three discrete steps of damages and which lacked a criterion for when “enforceability” should be weaker. Liabil- ity under the no-retraction regime is continuous, with the continuity achieved not by switching among damage measures, but by affecting the terms of the deal that the plaintiff can enforce. It provides an op- erative measure for scaling enforcement that tracks the degree of con- sensus: the closer the parties’ positions have come, the more severe the liability consequence. The no-retraction principle may seem a strange basis for liability in a system that is so fundamentally attached to the consensus/ agreement principle. Precisely because it seems sufficiently strange to contract scholars and practitioners, such an alternative perspective is not commonly recognized. But the conception of contractual liability arising from a one-sided promise, rather than a two-sided consensus, is not so foreign to historians of the common law. Prior to the nine- teenth-century emergence of the theory of contract, consensus ad idem assumpsit liability was implemented through the action of —the wrong of breaching a promissory obligation created by one party. It is only in more recent times that contractual liability merged with the notion of 2 consensus. Further, the divorce of obligation from consensus/unanimity and its grounding instead on a principle of “rejectability”—on whether it is 3 reasonable to reject a bargain—is a familiar idea in moral philosophy. It is recognized that the notion of consensus as the moral justification for obligation is narrower than the notion of what is unreasonable to 4 Accordingly, the no-retraction principle provides a specific reject. 2 See A. W. B. Simpson, Innovation in Nineteenth Century Contract Law , 91 L.Q. R . EV 247, 257-58 (1975) (explaining that the notion of consensus was assimilated into the see also Philip A. Hamburger, The common law by nineteenth-century treatise writers); Development of the Nineteenth-Century Consensus Theory of Contract , 7 L. & H . R . 241 IST EV (1989) (exploring the gradual evolution of consensus notions in common law since medieval times). 3 See, e.g. , T. M. Scanlon, Contractualism and Utilitarianism , in U TILITARIANISM AND B 103, 110-12 (Amartya Sen & Bernard Williams eds., 1982) (describing contrac- EYOND tualism as an alternative to utilitarianism that focuses on the reasonableness of rejec- tion, rather than on the reasonableness of acceptance). 4 Id. at 117.
5 2004] CONTRACTS WITHOUT CONSENT 1833 conception of non-rejectability. It is also consistent with extra-legal “no-going-back” norms in negotiations, which, for example, infor- mally sanction a party who responds to the other party’s concessions 5 In this Es- by toughening, rather than softening, her own proposals. say, I will not explore in any depth these historical, philosophical, or sociological aspects. They are mentioned here in passing to suggest that the consensus principle of contract formation—being such a fundamental part of our modern legal and economic heritage—is not the only sensible basis for liability and to propose that an alternative 6 no-retraction basis is at least possible. In fact, if one looks carefully enough, it is easy to find numerous instances within existing doctrine in which contractual liability is founded not on consent, but on a variant of the no-retraction ap- proach. For example, there are circumstances in which offerors can- not retract their offers either because they chose to make “firm offers” or because the law imposes an irrevocability principle. Here, offerors 7 Similarly, where the are legally bound even before acceptance. agreement leaves a term to be further negotiated, courts might forbid a party to reject a proposal made by the other party that is very favor- 8 In rationalizing these and related “inter- able to the rejecting party. mediate liability” doctrines, the courts explicitly invoked the justifica- tions underlying the no-retraction principle. Accordingly, the no- retraction regime can be viewed not as a doctrinal innovation, but rather, as a unifying principle. Recognizing such a principle would accord greater consistency in the application of existing precontractual 5 , F 22-23 (1976) (observ- C I See,e.g. N , H N OW ATIONS KLÉ EGOTIATE RED HARLES ing that in international negotiations, it is “improper . . . to revert to a harder position from a more conciliatory one”). 6 This exploration of an alternative basis for liability is different than the explora- tion initiated by scholars like Professor P. S. Atiyah, who examine the case for reliance- See based liability. P. S. A , T HE R ISE AND F ALL OF F REEDOM OF C TIYAH 1-7 ONTRACT (1979) (introducing the argument in favor of reliance-based liability). The approach developed in this Essay is different in that it maintains the promise , rather than harm or benefit , as the basis of liability, but does not require consent. 7 See, e.g. , Drennan v. Star Paving Co., 333 P.2d 757, 759-60 (Cal. 1958) (stating that a subcontractor could not revoke its bid even prior to acceptance by the general contractor, if the general contractor relied upon that bid). 8 See 1 J.M. P , C C § 4.3, at 577-79 (rev. ed. 1993) (sur- ONTRACTS ERILLO ORBIN ON veying cases in which indefiniteness was cured by terms that are maximally favorable to “Agreeing to Disagree”: Filling the defendant (the retracting party)); Omri Ben-Shahar, Gaps in Deliberately Incomplete Contracts , 2004 W . L. R . (forthcoming) (manuscript at EV IS 33-40, on file with author) (outlining several existing doctrines that fill contractual gaps with terms most favorable to the defendant).
6 1834 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 liability doctrines and may resolve many other problematic features of the mutual assent doctrine. To illustrate a doctrinal implication of the proposed approach, consider the situation of a misunderstanding, often regarded as the pedagogical benchmark of the consensus principle. Under the doc- trine of mutual assent, where the two parties assign different, but equally plausible, meanings to a basic provision of the contract, and where neither party has reason to know of the other’s intent, no meet- 9 ing of the minds—and thus no contractual liability—can be found. Where, for instance, the buyer of a cotton shipload intended it to ar- that sails in October, and the seller in- Peerless rive on a ship named tended it to arrive on a different Peerless ship that sails in December, 10 Under the no- no contract had been formed between the parties. retraction approach, in contrast, each party would have the option of enforcing the contract, albeit in line with the meaning intended by the other party. For example, if market conditions changed after an agreement was reached and one of the parties attempted to retract opportunistically, the retracting party could be forced to perform the deal as she intended it. Another important situation in which the no-retraction regime applies is that of preliminary agreements. Currently, drawing the line are not enforceable and between precontractual understandings that implicates one of the most confusing contractual agreements that are doctrines in contract law. While this line is important to draw—it is the difference between “all” or “nothing” liability—in practice, it is also very difficult to draw in a consistent manner, leading to a confus- 11 Under the no-retraction ap- ing and unpredictable jurisprudence. proach, no line needs to be drawn. When parties reach an agreement in principle over some fundamental terms but plan to further negoti- ate, each party acquires the option to bind the other to a deal that in- cludes the terms agreed upon, supplemented by proposals made by the other party and terms most favorable to that party. In other words, each party can enforce a full agreement that is at least as 9 § 20(1) (1981). R C (S ) ECOND ONTRACTS ESTATEMENT OF 10 Raffles v. Wichelhaus, 159 Eng. Rep. 375, 375 (Ex. 1864). 11 E. Allan Farnsworth, Precontractual Liability and Preliminary Agreements: Fair See . 217, 259-60 (1987) (“It would be dif- . L. R Dealing and Failed Negotiations , 87 C EV OLUM ficult to find a less predictable area of contract law.”); K. N. Llewellyn, On Our Case-Law of Contract: Offer and Acceptance (pt. 1), 48 Y L.J. 1, 13-14 (1938) (lamenting that ALE rules governing preliminary agreements “are utterly devoid of . . . meaning” when ap- plied to the facts).
7 2004] CONTRACTS WITHOUT CONSENT 1835 profitable to the other party as it had plausibly hoped for when enter- ing the preliminary agreement. Part II of this Essay will explore these and additional implica- tions of the no-retraction principle. It will offer a fresh look at the requirement of “definiteness” and examine the implications of the no-retraction regime for the doctrines of offer and acceptance and for the duty to negotiate in good faith. This inquiry will also yield an al- ternative approach to gap-filling in incomplete contracts, a potential contribution to the theory of default rules. Before proceeding, however, it is worth emphasizing what this Es- not about. It is not about the debate between objective and sub- say is jective theories of assent. The no-retraction idea is a substitute for the mutual assent approach, whether taken as an objective idea (conver- gence of “manifestations”) or as a subjective principle (meeting of the consen- minds). The no-retraction principle replaces the element of , the notion that the “positions” of the parties ought to meet. It can sus therefore be equally relevant to either the objective or subjective ap- proaches, as both embody this notion. Further, this Essay is not about contract law being subsumed by tort principles. True, no-retraction liability can resemble tort liability; it results from a unilateral action not much different than, say, liability for misrepresentation. However, it is nonetheless the will of a party—a “promise”—that ignites liability. The obligation is voluntary and promise-based, yet decoupled: A con- two, potentially different, bargains , with each party “responsi- tract can be ble” for one. Some of the ideas developed in this Essay have been studied pre- viously. For example, the concept of attaching liability to relied-upon precontractual representations was carefully developed in recent lit- 12 and has appeared in earlier legal writings on the precontrac- erature 13 In addition, as mentioned above, the idea of tual duty of good faith. 12 See, e.g. , Lucian Arye Bebchuk & Omri Ben-Shahar, Precontractual Reliance , 30 J. . 423, 431-43 (2001) (analyzing how alternative liability schemes promote S L TUD EGAL optimal levels of precontractual reliance); Richard Craswell, Offer, Acceptance, and Effi- cient Reliance , 48 S . L. R . 481, 507-43 (1996) (exploring efficient reliance as an TAN EV implicit economic rationale underlying courts’ decisions in contract formation cases); When Should an Offer Stick? The Economics of Promissory Estoppel in Preliminary Avery Katz, Negotiations , 105 Y L.J. 1249, 1270-77 (1996) (examining the effects of promissory ALE estoppel on the incentives of negotiating parties). 13 See, e.g. , Charles L. Knapp, Enforcing the Contract to Bargain , 44 N.Y.U. L. R . EV 673, 684 -86 (1969) (arguing that a party to a negotiation should be held liable for withdrawing from a partial agreement when the negotiations have given rise to a mu- tual commitment to bargain in good faith to complete a contract).
8 1836 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 a “sliding scale of enforceability” originates from Fuller. This Essay builds on those earlier ideas to develop a general view, uniform across various areas of contracting, of the gradual ascent of liability—of “con- And while many of the doctrinal implications tracts without consent.” of the no-retraction principle have also been explored previously, these applications have not been viewed before through the general lens developed in this Essay, as representing this “contracts without consent” pattern. The analysis is divided into two Parts: Part I examines the abstract properties of a principle of no-retraction; Part II applies that principle and briefly explores some doctrinal implications of a no-retraction regime. I. T HE O RINCIPLE HEORY ETRACTION N -R P : T A. The All-or-Nothing Nature of Contractual Liability One of the most fundamental features of contractual liability is its emergence in an all-or-nothing fashion. This legal dichotomy is strik- ing because the positions of the parties, who contemplate a deal and negotiate its terms at arms length, converge in a gradual, rather than abrupt, fashion. The process of overcoming differences in initial bar- gaining positions and eventually achieving consensus is normally a continuous one. During the course of dealmaking, different compo- nents of an agreement are typically negotiated sequentially and re- solved in piecemeal fashion. Nevertheless, while the parties’ mani- fested will to be bound exhibits this gradual ascent, the legal conse- quences attached to it have a discontinuous structure. Initially, when the parties’ positions are far apart and their will to be bound is weak, there are no legal consequences arising from the negotiations. As the positions of the parties grow somewhat closer and their will to be bound increases, the legal consequences remain null. Eventually, however, there comes a point in the negotiation process at which the positions of the parties are sufficiently close— when their will to be bound is sufficiently strong—that the legal conse- quences shift abruptly to full contractual (that is, expectation) liabil- ity. While the difference in the legal consequences is qualitative—no liability versus full liability—the threshold at which the consequences change is not always qualitatively distinguishable. The difficulty lies in the fact that the doctrine of mutual assent only measures whether suf- ficient proximity between the parties’ positions has been achieved. It is possible that the threshold of mutual assent may be crossed even
9 2004] CONTRACTS WITHOUT CONSENT 1837 though some issues are left up in the air, so long as the accumulation of the agreed-upon issues is sufficient to set off a presumption of full agreement. Due to the vagueness of this threshold, courts have been inconsis- tent in their attempts to draw the line between the no-liability precon- 14 tractual stage and the full-liability contract. Cases with similar facts, in which the degree of the understanding between the parties was comparable, have been decided differently. Opportunistic retractions from relied-upon understandings have at times been permitted, whereas harmless retractions that occurred immediately after “hand- 15 This unpredict- shake deals” sometimes have led to heavy damages. ability of the law also has adverse ex ante effects. First, parties might need to specify explicitly the legal consequences to be attached to each negotiation stage, thus increasing transaction costs. Second, and more importantly, the unpredictable dichotomous legal regime makes it more difficult for the parties to ascertain the degree of confidence with which they should go ahead and rely on representations made by their negotiating or contracting partners. Nevertheless, all-or-nothing mechanisms are often hailed for the certainty that they provide. This line of reasoning argues that if liabil- ity arises only after a qualitative test is satisfied in full, the parties will be able to recognize the incidence of liability with greater precision. But while the advantage of certainty is surely associated with specific consent rituals, such as the handshake, the wedding ceremony, or the notary seal, it is hardly apparent in instances where the qualitative test is substantive in nature, lacking any ritual. In contract law, the 14 Commentators have complained about the resulting inconsistency of case out- comes. See Gerald B. Buechler, Jr., The Recognition of Preliminary Agreements in Negotiated Corporate Acquisitions: An Empirical Analysis of the Disagreement Process , 22 C L. REIGHTON . 573, 574 (1989) (“[T]he decisions in this area . . . continue to appear both con- R EV fusing and inconsistent to the point where it is said to be virtually impossible to predict When Does the “Fat Lady” Sing?: the outcome in a particular case.”); Harvey L. Temkin, , 55 F An Analysis of “Agreements in Principle” in Corporate Acquisitions L. R . 125, ORDHAM EV 130 & n.23 (1986) (noting how decisions in this area have been inconsistent and how this lack of clearly defined rules has led to uncertainty among negotiators); sources supra note 11 (summarizing this area of the law as confusing and unpredictable). cited 15 Compare Cont’l Labs., Inc. v. Scott Paper Co., 759 F. Supp. 538, 539, 542 (S.D. Iowa 1990) (finding no liability where parties reached an oral agreement that resolved, after many rounds of negotiations, most principal issues and where retraction occurred after one party announced that it “was no longer interested in the venture”), with Tex- aco, Inc. v. Pennzoil Co., 729 S.W.2d 768, 859-66 (Tex. App. 1987) (holding a party liable for lost profits and punitive damages notwithstanding the fact that the parties’ agreement in principle had resulted from only a brief round of negotiations and the defendant’s retraction occurred almost immediately thereafter).
10 1838 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 qualitative test of consent—being a standard, not a bright-line rule— does not increase certainty, as it may be satisfied independently of any evident ritual. The No-Retraction Principle B. Under the no-retraction regime, a party who manifests a willing- ness to enter into a contract with some given terms should not be able freely from her representation. The opposing party, even to retract prior to expressing assent, and unless he affirmatively rejected the terms, acquires an option to bind his counterpart to her representa- tion, and a violation of this option would lead to some liability. Thus, the triggering event that creates liability is not the convergence of two wills, as is the case under standard assent doctrine, but rather, the manifestation of only one will. Once an individual manifests her in- tent to deal under some terms, she makes a unilateral commitment not to retract from a deal conforming to these terms. This principle can apply at different stages of the interaction. At an advanced stage of the transaction, when a full-blown agreement is reached but the parties dispute its proper interpretation, neither party can retract from her own intended interpretation; namely, each may be bound to their own interpretation if the other party so chooses. Earlier in the negotiations process, when an understanding emerges over some components of the transaction, neither party can retract 16 Finally, even at from the terms of the preliminary understanding. early stages of the negotiations, as soon as a party manifests an intent to be bound to some terms, she (alone) cannot freely retract from these terms. 16 A similar approach to precontractual understandings is suggested by Allan Farnsworth. See Farnsworth, supra note 11, at 280-81 (explaining that reneging on terms is unfair dealing and should constitute a breach of the duty to bargain in good See Itek Corp. v. faith). Variants of this approach were applied in several famous cases. Chi. Aerial Indus., 248 A.2d 625, 629 (Del. 1968) (stating that an informal letter of in- tent to merge obligated parties to make a good faith attempt to reach a formal con- tract of merger); Grouse v. Group Health Plan, Inc., 306 N.W.2d 114, 116 (Minn. 1981) (finding liability where the defendant health clinic revoked its offer of at-will employment only after plaintiff quit his job and declined other employment in reli- ance on the clinic’s offer); Hoffman v. Red Owl Stores, Inc., 133 N.W.2d 267, 275 (Wis. 1965) (imposing damages for breach of a promise that never materialized into a con- tract, based on a reliance/promissory estoppel theory).
11 2004] CONTRACTS WITHOUT CONSENT 1839 1. A Comparison of the No-Retraction and the Mutual Assent Principles More methodically, the no-retraction approach differs from stan- dard assent doctrine in several fundamental respects: No Consensus a. A party can be bound in the absence of a consensus over terms. A party is bound to the terms she represented, irrespective of whether the other party represented identical terms or any terms at all. Liabil- ity under this approach, like tort liability, results from a unilateral wrongful action of a party—in this case, retraction from a representa- tion. Put differently, the no-retraction principle “decouples” the legal conception of intent-to-be-bound. Under standard doctrine, either both parties have an intent to be bound, or neither has, as the intent to be bound is inferred from the fit between the parties’ positions, namely, the “thickness” of the consensus. Therefore, the fewer terms included in the understanding, the less likely courts are to recognize 17 the existence of an intent to be bound. Under the no-retraction ap- proach, in contrast, each party’s intent can be inferred separately, and each may intend to be bound to a separate set of terms that favors herself. Consensus is the point at which the “two intents” converge, but the intents may exist prior to, and independently of, convergence. Under this approach, it is not consensus that creates liability, but rather, each individual’s separate manifestation of intent (and, in- deed, it is possible for only one party to be bound). It should be noted that this is not a dramatic departure from existing grounds of obligation. For example, when courts supplement contracts with standard gap-fillers, these additional terms are binding, not because the parties consented to them (they never did), but because they pro- 18 It is this same ra- vide a rational basis for contractual obligation. tional basis that is invoked by the no-retraction approach, applied to each party separately. It might be rational for each party to accept a different set of terms, and it is these terms that the law would prohibit her from rejecting. 17 U.C.C. § 2-204 official cmt. (2003) (“The more terms the parties leave open, the less likely it is that they have intended to conclude a binding agreement . . . .”). 18 See A Bargaining Theory Approach to Default Provisions and Jules L. Coleman et al., . J.L. & P . P ’ 639, 707-09 (1989) (ground- Disclosure Rules in Contract Law , 12 H OL ARV Y UB ing default rule theories on rationality, rather than on the consent fiction).
12 1840 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 Asymmetry b. A prominent feature of assent-based liability is the fact that the terms each party can enforce are identical. If, say, a contractual term p (or a gap-filler) specified a price, , both parties can enforce only that price. Under the no-retraction principle, in contrast, each party might have the option to enforce a different set of terms. If the seller > p , and the buyer proposed a price, p ), (with p p proposed a price, S S B B each party may enforce a transaction with a different price: the buyer p may enforce a deal that includes the seller’s proposed price, , and S vice versa. Thus, this regime has a built-in asymmetry. Each party can be forced to transact under one set of terms (her own proposal) but, at the same time, can force the other to transact under another set of 19 This asymmetry is consistent with terms (the opponent’s proposal). the notion that each individual, having proposed a different bargain, should be confronted with a different restriction on what she may rea- sonably reject. Specifically, while each individual may reject the terms that the other proposed, there is less of a reason to allow each indi- 20 vidual to reject the terms that she herself represented as acceptable. c. Biased Supplementation of Missing Terms When a party makes an incomplete representation, in the sense that it is silent about some elements of the deal, and if the other party acquires an option, the option must specify how these missing ele- ments should be supplemented. The standard gap-filling approach in contract enforcement utilizes “reasonable” or “majoritarian” 21 22 terms; contra proferentem or more sophisticated approaches utilize 19 Note that the asymmetry is only with respect to the content of the gap-fillers. In other respects, the parties are in symmetric relations because both hold, and both are subject to, an option to deal. 20 It is beyond the scope of this Essay to inquire into the philosophical underpin- nings of the non-rejectability of an individual’s own representations. For a discussion of the “will theory” origins of the binding force of promises, see J , T G AMES ORDLEY HE P O 161-237 (1991). More M D C ONTRACT ODERN OCTRINE RIGINS OF HILOSOPHICAL generally, for the moral basis of this principle of obligation, see Scanlon, supra note 3. 21 See, e.g. 211-12 (3d ed. 1999) F , § 3.28, at , C , E. A ARNSWORTH LLAN ONTRACTS (noting examples of courts inserting reasonable terms for price and time of perform- ance). 22 See N. K , C 5 M C , § 24.27, at 282-83 ( Joseph ORBIN ON NIFFIN ONTRACTS ARGARET M. Perillo ed., rev. ed. 1998) (interpreting ambiguous contract terms to “adopt the meaning that is less favorable in its legal effect to the party who chose the words”).
13 2004] CONTRACTS WITHOUT CONSENT 1841 23 In principle, similar gap-filling tech- “information-forcing” defaults. niques could apply under the no-retraction regime; however, this would pose several problems. First, it is not unreasonable to reject majoritarian terms, even if they are reasonable. That is, there may be a “region” of reasonable terms such that a party’s insistence on terms that are in the favorable end of this region and her refusal to be obli- gated to the midrange or average term is not unreasonable. Second, with standard gap-fillers, the emergence of liability would cease to be gradual. Liability resulting from a preliminary understanding will by and large resemble the liability under a fully specified agreement. With standard gap-fillers, the set of terms in both instances will, on average, be the same. The burden of the no-retraction regime under the standard gap-filling approach will be high: As soon as a party makes a preliminary representation, it can be bound to the “average” contract. Accordingly, the no-retraction regime would be appealing if the missing terms were supplemented by terms (within the most favorable set of reasonable terms) to the enforced-against party. We can think 24 This “biased” supplementa- of such gap-fillers as “pro-defendant.” tion in favor of the defendant satisfies two objectives. First, as will be shown, it has sufficient “teeth” to protect the other party against op- portunistic retractions, and thus, it provides optimal reliance incen- tives. Second, it effectively guarantees that the final agreement to be enforced is no worse than what the party who made the proposal or entered the partial understanding could have intended. This is the only agreement of which it can confidently be said that this party manifested her “constructive” intent to be bound. She may have pragmatically hoped for something less favorable, but in the absence of an affirmative statement, the only terms that we can safely impose on her without bending her will are her most favorable terms. These 25 are terms that she has no reasonable or rational grounds to reject. As courts intuitively recognize, if one party concedes the terms that are most favorable to the other party in order to overcome the 23 See, e.g. , Ian Ayres & Robert Gertner, Filling Gaps in Incomplete Contracts: An Eco- L.J. 87, 91-118 (1989) (identifying situations in , 99 Y nomic Theory of Default Rules ALE which efficiency-minded courts should fill gaps in a way that is clearly unfavorable to one or both of the parties). 24 Another way to conceptualize this gap-filling approach is pro-proferentem (“in fa- vor of the drafter” of the proposal), as distinguished from the contra proferentem doc- trine (“against the drafter”). 25 See Coleman et al., supra note 18, at 648-49 (asserting that the absence of a con- sent-based justification does not diminish the rationality-based justification).
14 1842 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 indefiniteness of an agreement, “there is no longer any way the provi- 26 Conse- sion[s] may be construed to [the other party’s] detriment.” quently, resisting the enforcement of such an agreement is unreason- able, being inconsistent with the party’s prior representations. d. Opting Out of the No-Retraction Regime The no-retraction regime attaches more costly consequences to early communications between the parties. In a sense, the “freedom contract” is weakened. As a result, parties that place great value from on this freedom can choose to opt out of the liability consequences and opt into the consensus regime. The no-retraction regime is merely a default: Techniques like revocable offers, non-binding pro- posals, and letters of intent, which are already common in light of ex- isting forms of precontractual liability, could be used to reserve the right of free retraction. 2. Implications of the Key Features of a No-Retraction Approach Several implications of the above properties should be noted. First, while contractual liability under the mutual assent framework is created abruptly, liability under the no-retraction principle accumu- lates in a continuous fashion. This liability is still triggered by a dis- crete event: a serious unilateral representation of terms by a party. However, in terms of relations between the representations of the two parties, the effective burden of this type of liability increases gradually. Initially, before much consensus is achieved, the option granted to the opposing party imposes only a small burden on the proposer. As the negotiation moves along and the proposals made by each party be- come less one-sided—and thus begin to represent an emerging com- promise—the burden of the no-retraction principle grows. That is, the value of the option granted to the opposing party increases. When the proposals made by the parties converge, the burden they impose equals familiar contractual liability. At this stage, the grounds 27 for liability can shift from no-retraction to consent. A second, related implication is that parties would have the ability to create obligations that will eventually depend on the identity of the 26 Busching v. Griffin, 542 So. 2d 860, 864 (Miss. 1989). 27 The idea that the basis for liability can shift over time, as the parties introduce new elements into their relationship, is a central theme in Atiyah’s view of contractual liability. See A , supra note 6, at 3-4 (describing the process by which “the ground TIYAH for imposing  liability shifts”).
15 2004] CONTRACTS WITHOUT CONSENT 1843 party seeking enforcement. When parties are unable to agree on how to resolve some issues, they will often leave the terms open or am- biguous in order to avoid a negotiation breakdown. Under standard 28 contract law, this practice might render the contract unenforceable. The no-retraction principle’s use of decoupled supplementation pro- vides a different solution to this problem. Where the missing provi- sions’ content depends on the identity of the party against whom en- forcement is sought, the law would guarantee that the issues at stalemate will not provide any basis for unilateral retraction from the rest of the deal. A further implication worth noting involves certain polar situa- tions. At one extreme, the parties’ proposals completely overlap. In this case of consensus, the no-retraction approach does not change any of the familiar legal consequences associated with assent-based contractual liability: Both parties are obligated to an identical set of terms. At the other extreme, the parties have made no proposals at all, never having entered into negotiations. The logic underlying the no-retraction approach, which dictates that missing terms in the pro- posal be supplemented by the terms most favorable to the party against whom enforcement is sought, can be stretched to provide a basis for obligation even in the absence of proposals, and even prior to any negotiations. Each party can be given an option to force a transaction on the counterparty based on the terms offered by that counterparty (of which there are none) and supplemented by terms most favorable to the counterparty (constituting the entire deal). This polar case represents a transformation of all property rules into liability rules: Endowments can now be taken non-consensually, albeit priced in a way so favorable to the endowment holder that it elimi- nates, at least from the holder’s economic perspective, any cost of such a move. This last observation explains why liability for retraction ought to be restricted to proposals that are sufficiently rich in detail, or serious. This familiar constraint is regularly applied under the mutual assent regime, whereby contracts are supplemented by gap-fillers only to the extent that the terms over which there is consensus provide a sufficient basis to infer intent to be bound. Likewise, under the no-retraction regime, a party will be bound to her unilateral represen- tation—which can also be supplemented by her most favorable 28 1 P note 8, § 2.8, at 134 (“[A] ‘contract to make a contract’ is not a , supra ERILLO contract at all.”).
16 1844 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 terms—if the representation provides enough detail to infer that party’s intent to contract under its terms. The mutual assent regime restrains its supplementation methodology in order to protect the voluntary nature of contracts and to preserve the domain of property rules; the same restraint can be employed by the no-retraction regime. Recall: the no-retraction principle is a substitute only to the con- sensus element of the mutual assent regime. Otherwise, it incorpo- rates all the remaining “checks and balances.” The Measure of Damages C. The no-retraction principle is a basis for liability, not a damage measure. It replaces the consensus principle as a basis for contractual liability, and consequently, it determines when liability arises, but not its magnitude. The principle of no-retraction can therefore be cou- pled with various measures of damages, depending on the underlying objective that the remedy seeks to promote. The magnitude of opti- mal damages, then, would depend on context and the underlying so- cial objective. There are various social objectives that can justify different meas- ures of damages. Take, for example, the economic perspective. One goal of damages is the prevention of opportunistic breach and the promotion of efficient investment in the relationship. This goal is 29 Ac- generally consistent with the expectation measure of damages. cordingly, the no-retraction liability will be coupled with expectation damages in circumstances in which expectation damages are desir- able. If a party has already performed a contract and seeks to enforce it upon a retracting, opportunistic opponent, expectation damages would apply. It is important to note that whenever the no-retraction principle provides a basis for liability that would otherwise not exist under the mutual assent principle, this basis for liability affect the quan- does tity of expectation damages. The plaintiff can only enforce the terms . The expectation remedy is thus calcu- as intended by the defendant lated according to the value of the deal to the enforcing party, using the terms offered by the retracting party (which, recall, are supple- mented in a manner most favorable to the retracting party). As a re- sult, this is a less generous measure of damages than the standard one 29 See R 190 (3d ed. 2000) C E & T , L U LEN HOMAS AW AND OOTER CONOMICS OBERT (illustrating how “perfect expectation damages create incentives for efficient perform- ance and breach” and “elicit efficient commitment from the promissor to perform”).
17 2004] CONTRACTS WITHOUT CONSENT 1845 applied in contractual breach. Likewise, with respect to specific per- formance, the plaintiff can only enforce the deal intended by the de- 30 fendant. There are, however, other contexts in which economic goals would be promoted if the no-retraction liability were coupled with the more modest reliance measure of damages. For example, in situations in which parties have not completed the negotiations but merely have reached some preliminary understandings, the social goal is to induce them to make efficient reliance and choice-of-partner decisions in light of the potential for holdup. In such cases, the optimal remedy for retracting from the understandings and the proposal would be re- 31 liance damages. In general, any applicable damage measure under the standard mutual assent basis for liability could apply under the no-retraction basis for liability as well. The no-retraction principle provides an al- occasion for the apportionment of these damages, not an al- ternative measure ternative . Thus, all the familiar standards for quantifying a measure of damages, such as foreseeability and certainty, continue to apply to damages under the no-retraction approach. D. Implementation The no-retraction regime supplements deals with terms most fa- vorable to the retracting party. Unlike majoritarian terms, which can be constructed based on evidence regarding market practices, “most favorable” terms require courts to be able to generate two sets of pro- visions, depending on the party seeking enforcement. Is the task of identifying such terms too burdensome for courts to accomplish? It is important to recall that difficulties in application were a perceived feature of another “intermediate” precontractual liability standard, namely, the duty to negotiate in good faith. Indeed, one critic labeled good faith as “an amorphous concept, manifested in endlessly variable settings and forms, . . . [that] does not identify a 30 For example, in Ontario Downs, Inc. v. Lauppe , 13 Cal. Rptr. 782 (Ct. App. 1961), the parties agreed in principle over the sale of 16 acres of land for $50,000, but in- tended to negotiate where, within the seller’s 450-acre lot, the 16-acre tract lay. Id. at 784. The court determined that if the buyer had no contractual right to select the tract location, it could only enforce a deal that included a tract designated by the seller. Id. at 787. 31 This argument is developed rigorously in Bebchuk & Ben-Shahar, supra note 12, and it is illustrated with simple numerical examples in Part I.E, infra .
18 1846 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 32 Despite these difficul- manageable body of law for analytic inquiry.” ties, the good faith duty is now an integral part of most legal systems, and implementation problems are no longer perceived as reasons to 33 It is also important to recall that other doctrines of gap- abolish it. filling instruct courts to pick out one-sided terms. The doctrine of , for example, designates gap-fillers that are least fa- contra proferentem 34 More generally, penalty de- vorable to the drafter of the contract. fault rules also require courts to utilize one-sided, non-market terms. Having to supplement deals with terms most favorable to the re- tracting party does not necessarily imply that courts would bear a more burdensome judicial task. In most situations, courts would only have to know the range of reasonable terms and then determine whether the retracting party insisted on terms outside this range. In a precontractual setting, when a party retracts from an understanding by refusing to accept a proposal to settle the remaining issues, the court would have to determine if terms exist that are reasonable, but more favorable, to the retracting party than those proposed. Further, there are compelling reasons to believe that the task of filling gaps with terms most favorable to the defendant is within the courts’ institutional capability. First, in adversarial proceedings, this type of one-sided evidence is precisely what each party presents to the court. Even in the current system, where courts look for majoritarian terms, parties provide self-serving evidence concerning disputed ele- ments. This evidence is treated with justified suspicion by courts that are seeking midrange gap-fillers, but in a no-retraction regime, it would be useful for picking the end-range, or most favorable, gap- fillers. For example, in cases involving an agreement to agree over the price, the court can choose the price as assessed by the defendant’s 35 Second, the court can extract the information by expert witness. 32 Eric M. Holmes, A Contextual Study of Commercial Good Faith: Good Faith Disclosure see also . L. R . 381, 382-83 (1978) (footnote omitted); , 39 U. P in Contract Formation EV ITT Limitations on the Obligation of Good Faith Clayton P. Gillette, , 1981 D L.J. 619, 642-49 UKE (discussing the problems surrounding the good faith standard within a section entitled “Administrative Difficulties in Remedying Bad Faith”). 33 Melvin Aron Eisenberg, See , 88 C . L. The Emergence of Dynamic Contract Law AL . 1743, 1807-08 (2000) (maintaining that the difficulty in identifying bad faith R EV should not be a reason for failing to recognize the general duty). 34 See R § 206 (1981) (providing for “[i]nter- (S C ) OF ONTRACTS ESTATEMENT ECOND note 22, § 24.27 (rev. ed. 1998) supra , pretation [a]gainst the [d]raftsman”); K NIFFIN (discussing the contra proferentem doctrine). 35 See, e.g. , Lassiter v. Kaufman, 581 So. 2d 147, 148-49 (Fla. 1991) (affirming the trial court’s decision to pick the price assessed by the defendant landlord’s expert
19 2004] CONTRACTS WITHOUT CONSENT 1847 instructing the defendant to designate the missing terms, with the threat that, if the defendant fails to do so reasonably, the court will 36 pick its own term. It should be noted that the principle of no-retraction could be translated into legal commands either by rules or by standards. Noth- ing in the shift from a consent regime to a no-retraction regime af- fects the level of precision or generalization of the liability norm. The mutual assent approach is sometimes implemented by rules (e.g., of- fer and acceptance) and other times by standards (e.g., majoritarian gap-fillers). Similarly, no-retraction can be a basis for rules (e.g., of- fer-irrevocability) or for standards (e.g., pro-defendant gap-filling). In the end, however, it might well be that a mutual assent regime with majoritarian defaults is cheaper to administer than a no- retraction regime with pro-defendant gap-fillers. In this case, one contribution of the present analysis is in fleshing out an additional reason for the prevalence of the mutual assent regime. This regime has maintained an intuitive appeal, not because it is the natural way for contractual obligations to arise, but rather because it is the easier way for contractual obligations to be enforced. E. The Efficiency of the No-Retraction Regime The no-retraction regime was presented above as a conceptual ad- vance, as a “natural” legal platform for tracking the progress of nego- tiations. It provides a more flexible set of tools for transforming the understandings between parties into legal obligations. This Section attempts to rationalize the no-retraction regime on the basis of in- strumental, rather than conceptual, grounds. It demonstrates that the no-retraction regime proves superior in settings in which the social goal is to encourage precontractual reliance. In addition, it addresses the concern that a no-retraction regime would chill the incentives of parties to make proposals and distort their decisions to enter and exit negotiations. witness in a contract that featured an option to renew under a price to be agreed upon by the parties). 36 This technique was used in Ontario Downs, Inc. v. Lauppe , 13 Cal. Rptr. 782 (Ct. App. 1961). In that case, the court allowed the defendants to choose a parcel of land to give to the plaintiff in fulfillment of a contract, with the threat that failure to select a reasonable parcel would result in the court allowing the plaintiff to choose. Id. at 787.
20 1848 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 1. The Holdup Problem Anytime before or after the agreement, a party can make reliance investments—expenditures that raise the value of the completed transaction, but that have no value otherwise. It has long been recog- nized that such investments are subject to a distortive holdup prob- 37 lem. When the party who incurs the cost of the investment appropriates its full benefit, the incentives to invest are optimal. Un- derinvestment occurs when the investing party bears the entire cost of the investment but enjoys only a fraction of its benefit. Consider, specifically, an investment that is made after some ini- tial proposals or understandings have been discussed, but before the parties have bound themselves to a particular division of the “pie.” Take, for example, the case where two merging firms have reached some understanding over the terms of the merger, but have not final- ized the agreement. At this stage, one of the firms can make a rela- tionship-specific investment, which would increase the value of the merger should it be finalized. The social goal at this stage is to induce 38 optimal, surplus-maximizing investment. 2. Comparison of the Liability Regimes Let us compare two liability regimes. The first—the standard mu- tual assent rule—imposes no liability on the parties prior to their reaching a full-blown consensus. If, following the investment, the other party insists on terms that are more aggressive than the ones discussed preliminarily and an agreement fails, no liability arises. The second—the no-retraction principle—imposes reliance liability on the other party if he retracts from the preliminary understanding. Each liability regime creates different incentives for the parties in- volved in this merger example. Under the mutual assent regime, there is no contract yet, and both parties are free to bargain for their 37 The holdup problem arises when parties cannot contract over reliance expendi- tures due to high transaction costs, non-verifiability of the investment, and strategic Katz, supra note 12, at 1278 (describing the holdup problem in See considerations. See generally Alan Schwartz, Incomplete relation to precontractual reliance investments). , in 2 T Contracts N P D E L 277, 278- ICTIONARY OF EW CONOMICS AND THE ALGRAVE AW HE 79 (Peter Newman ed., 1998). 38 While this goal is strictly efficiency-oriented, it does not conflict with any fair- ness- or distribution-oriented goals. Since the maximization discussed here is precon- tractual, the subsequent contract will divide the surplus between the parties according to factors independent of the maximization itself (e.g., the bargaining power of the parties, legal constraints, etc.).
21 2004] CONTRACTS WITHOUT CONSENT 1849 share of the surplus that was added by the investment. In particular, they can ignore the pre-investment representation of terms, as it does not lead to any liability. Their final agreement may deviate from the initial terms and will instead divide the new post-investment surplus. Because the cost of the investment will already be sunk, it will not be factored into the subsequent bargaining. Thus, the investing party can only capture a fraction of the ex post surplus, but since she bears 39 its entire cost, her incentives to invest will be suboptimal. Under the no-retraction regime, in contrast, the opposing party is limited in its ability to ignore previous understandings and proposals it made and to extract a portion of the increased surplus. Such bar- gaining strategies amount to a retraction, and if they are sufficiently aggressive, they will lead to negotiation breakdown coupled with, at the very least, an imposition of reliance liability on the retracting party. This power to impose liability protects the investing party from feeling pressured to acquiesce to new, adverse terms. While renego- tiation might still occur, the retracting party must restrain its position to avoid negotiation breakdown. A retracting party cannot make a claim to a division of the pie that leaves the investing party with a negative payoff, given her investment. In effect, any additional dollar the investing party contributes increases the share of the surplus she subsequently can extract by one dollar, enabling her to enjoy the full benefit of the investment. Thus, the investing party cannot be held up by the retracting party, and her incentives to make investments in 40 Put differently, a full-blown contract this interim stage are optimal. 39 The following example illustrates this distortion. Consider a sale transaction where, prior to any investment by the buyer, the buyer’s valuation is 100 and the seller’s cost is 0. Assuming equal bargaining power, the parties reach an initial under- standing over a price of 50. The buyer can make an investment of 30, increasing her valuation by 50, to 150. It is efficient to make this investment and increase the net sur- 150 – 30 ). Without the investment, the price will remain 50 and plus from 100 to 120 ( 100 – 50 ). With the investment, when the ex post the buyer’s net payoff will be 50 ( surplus will increase to 150, the buyer expects that the seller will retract from the initial understanding and that the subsequent agreement will set a price of 75 (midrange of 0 and 150). This will leave the buyer with a net payoff of 45 ( 150 – 75 – 30 ), lower than the payoff without the investment. Thus, the efficient investment will not be made. 40 To see how the rule against retraction resolves the holdup distortion, consider again the above numerical example. Supra note 39. In the bargaining round that fol- lows the buyer’s investment, although the buyer’s valuation increased to 150, the seller cannot insist on a price greater than 120. A higher price will leave the buyer, who in- vested 30, with a negative net payoff; the buyer will prefer to reject it and impose re- traction liability on the seller, thus getting her cost reimbursed. Therefore, the subse- quent price must lie in the range between 0 and 120 and—assuming equal bargaining power—will equal 60. The buyer’s net payoff will be 60 ( 150 – 60 – 30 ), greater than
22 1850 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 is unnecessary to protect precontractual reliance; the milder no- 41 retraction liability, coupled with reliance damages, will suffice. 3. Incentives to Enter Negotiations The no-retraction principle reduces the parties’ freedom from contract. In contrast to the all-or-nothing regime, under which a sig- nificant portion of the negotiation is conducted without any liability consequences, the no-retraction principle makes it costly for the par- ties to cease negotiations. This early liability consequence, it might be argued, would discourage parties from entering negotiations, making 42 proposals, and reaching precontractual understandings. In situations where parties enter negotiations for reasons other than to transact, this conjectured chilling effect is surely valid, but it may also be quite desirable. If, for example, a party is entering nego- tiations with an innocent opponent only to extract information from that opponent or to assert pressure on a third party, the negotiations have no social value, and reducing their incidence by attaching liabil- 43 Even if the motivation of the ity to retraction is a valuable effect. party in entering negotiations is more innocent, forcing her to bear the non-investment payoff of 50, and thus, the buyer will elect to invest. Note that a retraction does occur, but it is mild enough so that an agreement can still be com- pleted. 41 This regime, although utilizing reliance damages, does not lead to the familiar See , e.g. overreliance problem, as identified by Steven Shavell and others. , Steven Shav- , 11 B ell, Damage Measures for Breach of Contract . 466, 479-80 (1980) (ex- J. E CON ELL plaining how reliance damages can lead to excessive investment). The reason, in a nutshell, is that under no-retraction liability, the reliance investment is not guaranteed to yield returns; there is still the risk that a contract will not be formed and that the investor will have to bear her costs. 42 See 1 E. A F , F C § 3.26, at 361 (2d ARNSWORTH ONTRACTS LLAN ARNSWORTH ON (describing a “chilling effect” of discouraging parties from entering negotia- ed. 1998) Communication and Courtship: Cheap Talk Economics and the tions); Jason Scott Johnston, , 85 V Law of Contract Formation . L. R . 385, 416-17, 445-46 (1999) (arguing that liabil- EV A ity for pre-trade representations in the event of negotiation breakdown would cause “the market to shrink” and would force parties to use more cautious bargaining strate- gies, thereby wasting opportunities for efficient trade); Wouter P.J. Wils, Who Should Bear the Costs of Failed Negotiations? A Functional Inquiry into Pre-Contractual Liability , 4 J. E 93, 103 (1992) (claiming that precontractual liabil- & E H TUDES CONOMISTES UMAINES ity “tends to lower inefficiently the incentives of parties to enter contract negotiations at the outset”). 43 Indeed, under doctrines such as good faith bargaining and misrepresentation, courts have limited the freedom of parties to strategically enter (and exit) negotia- note 42, § 3.26, at 354 -55 (describing an example , supra tions. See, e.g. , 1 F ARNSWORTH of intentional misrepresentation in lease negotiations in which a court awarded dam- ages based on the lessee’s reliance losses).
23 2004] CONTRACTS WITHOUT CONSENT 1851 the cost she inflicted on an opponent would correct the otherwise ex- cessive incidence of failed negotiations. There are, to be sure, legitimate factors affecting the willingness of parties to enter negotiations and the freedom they seek to exit ne- gotiations. However, to the extent that parties enter negotiations that have the potential of increasing overall surplus, a no-retraction re- gime would enhance, rather than diminish, their willingness to nego- tiate. The truth of this counterintuitive argument lies first in the fact that, while the no-retraction regime curbs a party’s ability to exit freely, it also provides her with the security that her counterpart will not exit unilaterally. There is a symmetric upside to participating in a regime that restricts the freedom to retract. More importantly, as stated above, the no-retraction regime im- 44 proves the parties’ incentives to make precontractual investments. These added investments increase the value that the parties eventually will divide in the contract, making both of them better off relative to a regime—such as the all-or-nothing regime—that does not provide similar reliance incentives. A rule that prohibits retraction from a pre- liminary representation, so long as it is coupled with reliance liability, will unambiguously lead the parties to enter into negotiations in more cases in which there is a potential surplus than they would in the ab- 45 sence of liability. 44 Supra note 40 and accompanying text. 45 This proposition is proven formally in Bebchuk & Ben-Shahar, supra note 12, at 456. To illustrate this effect, consider again the above example, supra notes 39, 40. Assume now that the seller’s cost is not 0, but 110, and that if the parties enter negotia- tions, the seller makes an initial proposal of a price, after which the buyer can invest and negotiations resume. Assume, as before, that the buyer can increase her valuation from 100 to 150 by investing 30. This is a case where a potential surplus of 10 exists 150 – 110 – 30 ), but only if the buyer invests. ( Under the mutual assent regime, the buyer will not invest. The buyer expects that, no matter what the seller’s original price proposal was, if she were to invest and in- crease her valuation to 150, the final price will be set midway between 110 and 150, at 130, thus leaving the buyer with a negative net payoff ( 150 – 130 – 30 = –10 ). Expect- ing that the buyer would not invest and that the surplus will remain negative, the par- ties will not enter negotiations. Under the no-retraction regime, as long as the seller’s initial proposal did not ex- ceed 120, the buyer will invest. If the buyer invests, the seller cannot demand a price greater than 120, as this will lead to breakdown in negotiations and liability. Thus, the price will be set midway between 110 and 120, at 115. This leaves the buyer with a positive net payoff ( 150 – 115 – 30 = 5 ) and thus, the investment will be made. The seller, too, will end up with a positive payoff of 5 ( = 115 – 110 ). Expecting the invest- ment and the resulting positive payoffs, the parties will enter negotiations. Hence, only under this regime will the parties enter negotiations.
24 1852 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 Intuitively, the no-retraction regime can be viewed as a commit- ment device. When parties negotiate a deal, their lack of commitment and their freedom to walk away chills the incentives of their negotiating partners to make reliance investments. This lower reliance level pro- duces smaller contractual pies. For the same reason that parties enter long-term, rather than short-term, contracts—to encourage relation- ship-specific investment—the no-retraction regime increases the par- 46 ties’ investment in the relationship, thus increasing the surplus. In- deed, the recognition that precontractual liability enhances the con- 47 tractual surplus is increasingly prominent in court decisions. 4. Unwanted Transactions Another concern arising from the parties’ diminished freedom contract involves allocative inefficiency: Parties might end up from sticking with unwanted contractual partners and, consequently, miss out on opportunities to maximize the potential surplus. There are several ways to address this concern. Note, first, that parties are not bound to a relationship if it is indeed less efficient than its alternatives. They can, of course, abandon partners, although they will effectively have to share with the rejected party a piece of the in- creased surplus that is created by the more efficient transaction. To return, though, to the question of allocative efficiency, it is true that the burden of liability can lead to an inefficient choice of partner. If, say, the initial negotiation partner invested an amount, R , in reliance, and a new partner appears, offering a transaction that is more efficient but not sufficiently so as to enable the initial partner to R recover and still enjoy a greater surplus, the new partner will not be accommodated. While this concern is valid, a couple of observations 46 This claim, that the surplus is enhanced under the no-retraction regime, does not imply that both parties are necessarily better off under the liability rule. It might well be that the non-investing party, having to negotiate under the potential burden of liability, is worse off than he would have been under the all-or-nothing regime. This distributive effect, however, will not distort the incentives to enter negotiations. A party whose payoff was positive in the absence of liability will not experience a negative payoff under the no-retraction regime. For a technical proof of this claim, see Beb- chuk & Ben-Shahar, note 12, at 456-57. supra 47 See, e.g. , Copeland v. Baskin Robbins U.S.A., 117 Cal. Rptr. 2d 875, 884 -85 (Ct. App. 2002) (claiming that parties should have assurance that their investments in the negotiations will not be wiped out by the other party’s retractions); see also Venture Assocs. v. Zenith Data Sys., 96 F.3d 275, 278 (7th Cir. 1996) (“[A complex negotiation] often is costly and time-consuming. The parties may want assurance that their invest- ments . . . will not be wiped out by the other party’s footdragging or change of heart . . . .”).
25 2004] CONTRACTS WITHOUT CONSENT 1853 reduce its severity. First, the potential for the emergence of more at- tractive partners should be taken into account when reliance is in- vested. The greater this potential, the less that should be invested in reliance by the initial partner. If courts can limit reliance liability to , not actual, reliance, then the amount of reliance that will reasonable be invested when there is a significant chance of a more efficient 48 Second, while reliance by the initial partner partner is small. becomes a barrier to efficient contracting when a new partner arrives, it increases the efficiency of the contract when a new partner does not arrive. These two observations, taken together, suggest that, if the likelihood of a new partner is high, reliance is not likely to be great (and thus not a significant barrier) and, if the likelihood of a new partner is low, reliance is likely to be elevated, its fruit being enjoyed with high probability. Thus, the expected loss from unwanted part- 49 ners is fairly small. PPLICATIONS OCTRINAL A II. D The consensus principle underlies many of the fundamental doc- trines of contract formation. Accordingly, an alternative conception of liability would affect the way these doctrines are rationalized and applied. In this Part, I will begin to explore some of the prominent implications of a no-retraction regime. Assent and Misunderstandings A. An illustrative case in which a dispute arises regarding the inter- pretation of a contract’s language is one of misunderstanding. A 48 When courts can verify the level of reasonable reliance, the investment is con- tractible and the underinvestment problem can be resolved if the parties expressly specify the desired level of reliance. Indeed, parties often do, and courts are willing to protect such agreements. See, e.g. , Hoffman v. Red Owl Stores, Inc., 133 N.W.2d 267, 274 (Wis. 1965) (examining a situation in which the parties agreed specifically on pre- contractual investments). 49 R denote the relationship-specific investment and V(R) Formally, let the net surplus function satisfying ′ > 0 and V V < 0 . Assume that there is a probability, ′′ π , that, after R is sunk, a more efficient relationship will materialize, with a net surplus of * , maximizes W + (1 – and is characterized )V(R) – R W R . The optimal investment, π π * * (1 – by the first-order condition (R , which ) = 1 )V R ′ as a function of . We can write π π * satisfies dR /d , the lower is the optimal < 0 , that is, the higher the probability of W π * ) < V(R investment that courts ought to protect. An inefficient transaction occurs when * * * W < V(R ; as ) + R increases, R decreases, and the likelihood of an inefficient transac- π * * * W will lie between V(R tion—the chance that V(R ) ) + R and —declines (although it does not reach zero).
26 1854 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 misunderstanding occurs when the parties agreed on a particular term but dispute its proper meaning. Does a “chicken” mean a young bird suitable for broiling and frying or an old fowl suitable only for 50 Does an obligation to deliver cotton via the ship Peerless stewing? mean the vessel carrying this name that sails in October or the one 51 Under the prevail- carrying the same name that sails in December? ing objective theory of assent, the law seeks to trace and enforce the more reasonable among the competing meanings. Accordingly, if one party actually knew at the time of contracting that the other party attached a different meaning, or had reason to know of the attached meaning, this party is “at fault” for the misunderstanding. This fault is thus the basis for tipping the scales in favor of the meaning attached 52 by the other party. When no party is at fault—i.e., neither knew or had reason to know of the meaning attached by the other—there is no remaining basis for tipping the scale, and contractual liability does not arise. Al- though both parties intended to be bound, in the absence of a clear way to select among the competing interpretations, both parties are 53 free to walk away, even if one has already performed its obligation. Formally, this no-enforcement outcome—the only logical solution under the mutual assent approach—is a neutral solution, biased to- ward neither of the proposed interpretations, equally barring each party from enforcing its intended contract. Effectively, however, the no-enforcement solution is usually favorable to the defendant. If the dispute is over the existence or nonexistence of an obligation, the no- enforcement solution happens to be precisely the outcome favored by the defendant, who, at the time of trial, claims that no obligation exists. 50 See Frigaliment Importing Co. v. B.N.S. Int’l Sales Corp., 190 F. Supp. 116, 117 (S.D.N.Y. 1960) (embodying a contractual misunderstanding of the term “chicken”). 51 Raffles v. Wichelhaus, 159 Eng. Rep. 375, 376 (Ex. 1864) (resolving a con- See Peerless ship). tractual misunderstanding over the meaning of the 52 § 201(2) (1981). (S R ) C OF ONTRACTS ESTATEMENT ECOND 53 Id. §§ 20(1)(a), 201(3). There are two ways through which courts reach the no- enforcement result. First, the absence of one reasonable interpretation implies that there is no meeting of the minds and thus no contract, and consequently, none of the contractual obligations can be enforced. This is the rationale of cases like Raffles , 159 Eng. Rep. 375, but such cases are quite rare. Second, and more common, are cases in which the plaintiff simply cannot show that her interpretation is more reasonable. In such circumstances, courts do not imply an absence of a contract, but simply fail to en- force the obligation demanded by the plaintiff. In the procedural standoff with the defendant, because the plaintiff did not meet the burden of persuasion, the defen- dant’s position—the meaning she attaches to the contract—prevails. See, e.g. , Frigali- ment Importing , 190 F. Supp. at 121 (holding that, in order to prevail, the plaintiff has to sustain the burden of showing that its meaning is more reasonable).
27 2004] CONTRACTS WITHOUT CONSENT 1855 And even if both parties agree that an obligation exists but merely dispute its affirmative scope or meaning, it is often in the interest of one of the parties, in light of changed circumstances, to have no obli- gation at all. While these cases of pure misunderstanding are quite rare, they constitute an important conceptual benchmark of the consensus prin- ciple and have served as the point of departure in the study of mutual 54 It is problematic, then, that under the mutual assent assent doctrine. doctrine, the court reaches a result that matches neither party’s in- tent. Both parties intended to be bound to something , an intention that this otherwise logical outcome frustrates. The no-retraction approach achieves a different result. The existence of a contract is not at stake, but merely its content. Since there are two competing interpretations, the outcome under the no-retraction approach can also be one of the two. Each party has an option to enforce the deal, but only under the terms intended by the other . Note, paradoxically, that by giving the plaintiff an option to enforce a contract based on the meaning assigned by the defendant, the pro-defendant bias inher- ent in the no-contract result is actually . The defendant diminished cannot escape the deal altogether—an outcome she might, in light of changed circumstances or opportunistic motives, prefer—but must yield to the plaintiff’s power to enforce the deal as she, the defendant, intended it. To illustrate the economic sense of a no-retraction approach, con- 55 ship case. sider the Peerless A contract for the sale of cotton provided for the shipment to be on a vessel identified as the Peerless , sailing from Bombay to Liverpool. The buyer intended the shipment to ar- rive on the Peerless vessel that departed in October, while the seller in- tended the shipment to arrive on the Peerless vessel that departed in 56 Peerless arrived, the buyer refused When the December December. to accept the seller’s shipment, and the seller sued. Unable to pick the more reasonable interpretation, the court held—and many com- mentators consider this an inevitable and logical implication of the mutual assent doctrine—that no contract existed and the buyer right- 57 fully rejected the shipment. 54 See, e.g. , M L C A , C C ONCEPTS AND ASE NALYSIS IN THE ARVIN AW OF HIRELSTEIN 36-38 (4th ed. 2001) (introducing the consensus ad idem principle by de- C ONTRACTS scribing the Peerless case). 55 Raffles , 159 Eng. Rep. 375. 56 Id. 57 Id. at 376.
28 1856 [Vol. 152: 1829 UNIVERSITY OF PENNSYLVANIA LAW REVIEW Unfortunately, the no-contract outcome allowed the buyer to es- 58 cape a speculative contract opportunistically. The no-retraction ap- proach would have elegantly avoided this undesirable result. The buyer-defendant, who claimed to have assigned a different meaning to the shipment term, would not have been forced to accept the seller’s meaning, but at the same time would not have been able to retract from his own meaning. The seller-plaintiff could choose whether to accept the deal as the buyer intended it—that is, according to the Oc- tober terms—or to not enforce it at all. Given the facts of this case, the seller would surely have opted to enforce the deal under the buyer’s terms. The existence of two plausible meanings should not have led to the one result nobody intended, namely, no contract. The result arising from the no-retraction principle is consistent with another solution courts have crafted when unable to select a meaning that is more reasonable, a solution that accords with the pro- cedural allocation of the burden of persuasion. Consider, for exam- ple, a deal involving the sale of chicken, with a misunderstanding be- tween the seller and the buyer over what quality of chicken was 59 In a suit by the buyer, who expected a higher quality of required. chicken than the one intended (and delivered) by the seller, the seller prevailed since the buyer was unable to prove that her interpretation 60 This is consistent with the no-retraction ap- was more reasonable. proach: A contract exists, but the buyer can only enforce the terms intended. Even though that the seller intended, not the terms as she 58 Brian Simpson’s historical account of this case makes it fairly clear that the S C , L buyer-defendant acted opportunistically. A. W. B EADING IMPSON ASES IN THE RIAN C L 151-53 (1996). It turns out that the buyer, who intended for the cotton AW OMMON to arrive on the October Peerless , never explicitly requested delivery when the October arrived, two months before the seller made his own tender attempt. at 152. Peerless Id. Simpson demonstrates that the buyer lost interest in the entire transaction since the spot price of cotton dropped between the time the contract was formed and the arrival d to 15¼ of the October ship, from 17¼ per barrel. Id. The contract, which was an d instrument of financial speculation on future prices, turned out to be a losing deal for the buyer, who could now acquire the same cotton on the spot market for significantly less. In fact, by the time the December vessel arrived, the spot price recovered back up to almost 17 d . That is, the buyer’s loss would have been 2 d per barrel under his own interpretation of the contract, but only ¼ per barrel under the seller’s interpretation. d The buyer wanted the obligation to be dismissed, not because of the meaning the seller attributed, but rather because circumstances changed and the contract turned out to be unprofitable. 59 This example is modeled after Frigaliment Importing Co. v. B.N.S. International Sales Corp. , 190 F. Supp. 116 (S.D.N.Y. 1960). 60 See id. at 121 (noting that both meanings could be grounded in objective defini- tions of the disputed term and that, as a result, the plaintiff did not sustain the burden of showing that his meaning should prevail).
29 2004] CONTRACTS WITHOUT CONSENT 1857 there was no meeting of the minds, and even without supplementing the disputed term with a court-drafted one, the obligation is enforce- able in accordance with the dual-option logic. The terms enforced are the ones intended by the party who turns out to be the defendant. Note, though, that a Frigaliment -type result is reached under rules of procedure rather than principles of contract. The court enforces a contract and chooses its terms even though there is no mutual assent and no clear way to select the more reasonable interpretation. Had the substantive assent doctrine been applied, rather than the proce- Peerless -type result of no con- dural rule, it would have mandated a 61 A contractual obligation was enforced, in this case, despite the tract. substantive assent doctrine, and solely because of the rules of proce- dure. (One can imagine a different scenario in which the seller is the plaintiff, seeking payment for delivery that the buyer rejects; there, the court might rule against the seller, as he too would fail to meet the burden of persuasion.) The results in Peerless and Frigaliment expose, therefore, a tension between the substantive law of assent and the procedural law of contract dispute resolution. The no-retraction ap- proach overcomes this tension. It provides the missing contract- theoretical basis for ’s decision to enforce a version of the Frigaliment contract that depends on the identity of the defendant. It thus unifies the procedural and substantive perspectives, which can otherwise lead to conflicting results. Precontractual Agreements and the Contract/No-Contract Boundary B. During the course of negotiations, parties often reach preliminary understandings acknowledged by handshakes, written memoranda, and the like. At times, these understandings explicitly state that the parties do not intend to be bound until further agreement is reached. Often, however, the existence of intent to be bound is ambiguous and is inferred from surrounding circumstances, such as the comp- rehensiveness of the understanding. What sets these understandings apart from regular, enforceable contracts is their manifest incomplete- ness or the fact that the parties have made it clear that they are in- tended to be supplemented via further negotiations. 61 Indeed, a year after issuing the Frigaliment Importing decision, Judge Henry Friendly admitted that the case might better have been decided on substantive assent grounds. Dadourain Exp. Corp. v. United States, 291 F.2d 178, 187 n.4 (2d Cir. 1961) (Friendly, J., dissenting).
30 1858 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 Precontractual agreements and agreements to agree pose a diffi- cult adjudicative task under the mutual assent doctrine. On the one hand, it is clear that some consensus has been reached and some commitment made; thus, allowing the parties to walk away freely would frustrate their initial accomplishment. On the other hand, the parties have made it clear that additional agreement needs to be reached before there is a “contract,” and thus, enforcing their precon- tractual understanding as if it were a contract (and filling its gaps with court-imposed reasonable terms) would deprive the parties of the power they sought to maintain—to reject unfavorable additional terms. Courts, forced to abide by the contract/no-contract dichotomy of the mutual assent doctrine, have found it difficult to reach consis- 62 Adjudication in this field has been criticized as “con- tent decisions. 63 65 64 “all over the board,” and the “least predict- “inconsistent,” fusing,” 66 67 in the entire area of contract law. able” Given this unpredictable pattern under the mutual assent regime, the no-retraction principle has the potential of providing a framework for a more consistent treatment of precontractual agreements. Under 62 In the area of lease contracts, for example, one court has noted that the deci- sions dealing with agreements to agree are “in hopeless conflict.” Walker v. Keith, 382 S.W.2d 198, 199 (Ky. 1964). 63 Buechler, note 14, at 574. supra 64 Temkin, supra note 14, at 130 n.23. 65 Stephen R. Volk, The Letter of Intent , 16 I . 143, 464 (1986). . . R S EC ON NST EG 66 See supra note 11, at 259-60 (declaring that “[i]t would be difficult Farnsworth, to find a less predictable area of contract law”). 67 This confusion can be illustrated by comparing the decisions in two leading Texaco, Inc. v. Pennzoil, Co. , 729 S.W.2d 768 (Tex. App. 1987), and R.G. Group, cases, Inc. v. Horn & Hardart Co. , 751 F.2d 69 (2d Cir. 1984). In both cases, the parties reached an agreement on a substantial portion, but not all, of the terms and acknowl- edged that they had an “agreement-in-principle,” 729 S.W.2d at 791, or “hand- Texaco, R.G. Group, shake deal,” 751 F.2d at 73. In each situation, one party retracted, not be- cause it was dissatisfied by the resolution of the missing terms, but rather because it was seeking opportunistic gain, against its previously stated intent. R.G. Group, 751 F.2d at 74; Texaco, 729 S.W.2d at 786. In Texaco, the court found that the deal was enforceable as a contract and awarded damages of record-setting magnitude. Texaco, 729 S.W.2d at R.G. Group , on the other hand, the court found that the deal was unen- 795, 866. In forceable and awarded no damages. , 751 F.2d at 79. The court in R.G. R.G. Group Group reasoned that in a complex deal with so much at stake—in that case, a 25-branch franchise agreement amounting to millions of dollars—“it would be unusual to rely on an oral understanding,” and thus, “a requirement that the agreement be in writing and Id. at 77. Ironically, although in Tex- signed simply cannot be a surprise to anyone.” aco, the stakes and the complexity were far greater—a sale of control in a giant oil con- glomerate with a complex ownership structure, where damages exceeded $10 billion— the court found that intent to be bound could be manifested even prior to the memori- alization of all the details into the written agreement. Texaco, 729 S.W.2d at 795.
31 2004] CONTRACTS WITHOUT CONSENT 1859 the no-retraction approach, parties would be bound to the terms of the precontractual understanding. But unlike standard contracts, these precontractual agreements would not be supplemented by “rea- sonable” gap-fillers. Instead, each party would have the option to en- force a contract that contains the agreed-upon terms, supplemented with terms proposed by, or most favorable (within reason) to the other party. Thus, each party has the option to enforce upon the other party a full agreement that is at least as profitable as the other party had plausibly envisioned when entering the precontractual agreement. The no-retraction approach, when implemented through this dual- option devise, provides an intermediate, rather than all-or-nothing, liability consequence to the parties’ precontractual agreement (simi- 68 There are dif- lar, again, to Fuller’s “sliding scale of enforceability”). ferent levels of intensity to precontractual agreements: they can lie anywhere on a continuum between very preliminary to almost full consensus. A regime that focuses only on extremes and restricts the legal outcome to either full expectation liability or no liability at all can rarely reflect the varied tones of parties’ partial understanding along this continuum. It also leads the parties to make less-than- optimal reliance decisions. And being so inherently unpredictable, it adds a component of risk that might chill the incentives of parties to reach partial agreements. In contrast, under the no-retraction re- gime, the burden of liability is proportional to the intensity of the agreement. When very few terms are included in the preliminary agreement, the option that each party has to enforce a contract is relatively less burdensome to the other party, since the many missing terms are supplemented in a way most favorable to the other party. As more terms are contained in the agreement, less one-sided supple- mentation is needed and the option each party has becomes more burdensome to the other party. When the precontractual under- standing is comprehensive and needs no supplementation, the option to enforce it converges with standard contractual liability. Another way to view the continuity property of the no-retraction regime is to compare the terms of the deal contained in the options that two parties have. A preliminary agreement is, in effect, two con- tracts, each containing a different set of supplemented terms, with each party having the option to enforce only one of them. When the 68 See sources cited supra note 1 (pressing for an ascending liability scheme that would be based on different measures of damages).
32 1860 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 preliminary agreement contains very few terms, the two contracts are very different from each other. As more terms are contained in the preliminary agreement and less one-sided supplementation is re- quired, the two contracts converge until, when the preliminary under- standing is comprehensive, the two contracts become identical. C. Good Faith in Negotiations The gradual rise of liability under the no-retraction principle pro- vides a systematic foundation for one of the more ambiguous doc- trines in contract law—the requirement to negotiate in good faith. In the presence of precontractual agreements, and especially in the presence of an “agreement to agree,” courts have increasingly regu- lated the freedom from contract. While deciding not to enforce these agreements as full-blown contracts, courts require the parties to con- 69 tinue negotiations in a bona fide attempt to reach a full agreement. In addition, they tailor some measure of reliance liability to a breach 70 It is not clear, however, what the duty to continue nego- of this duty. tiations in good faith requires. As a result, the parties are left uncer- tain as to what type of bargaining tactic might be deemed unreason- able. The no-retraction approach can resolve this ambiguity. For the good faith duty to be instrumental in inducing optimal precontractual reliance, the negotiation tactics ought to conform, at the very least, to the no-retraction principle developed here. A party would be deemed in violation of the duty if she retracts from terms she previously agreed to or if she refuses to accept new terms offered by the other party that are the most favorable terms for which she can reasonably hope. Refusal to contract under such terms manifests a motivation to break, rather than successfully culminate, the negotia- tions, and thus exhibits bad faith. Consequently, if a party insists on terms that exceed standard or av- erage market terms and refuses to accept reasonable, split-the-difference 69 See, e.g. , Teachers Ins. & Annuity Ass’n of Am. v. Tribune Co., 670 F. Supp. 491, 499 (S.D.N.Y. 1987) (holding that a commitment letter represented a binding prelimi- nary agreement and, thus, obligated both parties to seek to conclude a final agreement by negotiating in good faith). 70 See, e.g. , Arcadian Phosphates, Inc. v. Arcadian Corp., 884 F.2d 69, 73-74 (2d Cir. 1989) (discussing how a party may be liable for out-of-pocket expenses based on a breach of its duty of good faith); Copeland v. Baskin Robbins U.S.A., 117 Cal. Rptr. 2d 875, 885 (Ct. App. 2002) (“[D]amages for breach of a contract to negotiate an agree- ment are measured by the injury the plaintiff suffered in relying on the defendant to negotiate in good faith. This measure encompasses the plaintiff’s out-of-pocket costs in conducting the negotiations . . . .”).
33 2004] CONTRACTS WITHOUT CONSENT 1861 proposals from her counterpart, this is not a bad faith negotiation 71 In line with the no- practice and should not give rise to liability. retraction principle, this party has not retracted from actual or con- structive previous representations. But when the other party caves in and concedes all the contested issues, either in accordance with this party’s previous demands or in accordance with the best alternative this party can potentially find elsewhere, then the refusal of this party 72 Put differ- to finalize a deal can be construed as bad faith conduct. not ently, one way to determine bad faith is to assess the terms that are proposed. The defendant would want to show that there exist some more favorable terms that were not proposed and that are within the reasonable domain; the plaintiff would want to show that any term more favorable to the defendant beyond what was proposed is not reasonably attainable. In contrast to much of the good faith jurispru- dence, this approach determines whether the defendant’s negotiation position is in good or bad faith not by the value of this position to the 73 To be sure, there plaintiff, but rather by its value to the defendant. are many ethical factors that bear on the issue of what is bad faith in negotiations. This analysis does not exhaust such inquiry. The point here is more limited: To the extent that the social concern is to en- courage parties to rely on and invest in the negotiations, the good faith obligation can be instrumental in promoting this goal. In fact, all that is required is a fairly lenient good faith standard, placing a minimal burden on the parties. If parties are precluded from reject- ing their own most favorable terms, optimal reliance would ensue. 71 See, e.g. , PSI Energy, Inc. v. Exxon Coal USA, Inc., 17 F.3d 969, 973 (7th Cir. 1994) (holding that a coal supplier had not negotiated in bad faith by insisting on a price that was above the market price). 72 This principle was rejected in Roberts v. Adams , 330 P.2d 900, 902 (Cal. Ct. App. 1958) (finding no violation of the duty to negotiate in good faith when parties failed to agree on terms of payment, despite the plaintiff’s willingness to pay the entire price in cash upfront). See also A/S Apothekernes Laboratorium for Specialpraeparater v. I.M.C. Chem. Group, Inc., 873 F.2d 155, 159 (7th Cir. 1989) (finding no violation of the duty to negotiate in good faith when a party refused to approve a deal that granted all the contested issues in its favor). In the latter case, however, the concession was made after the agreed-upon, sixty-day term to negotiate expired. at 156. Id. 73 For the view that bad faith should be assessed by the value of the terms to the plaintiff , see White v. NLRB, 255 F.2d 564, 565-66 (5th Cir. 1958) (examining the value of the defendant’s offer to the plaintiff in order to determine whether the defendant negotiated in bad faith); Eisenberg, supra note 33, at 1810 (asserting that good faith requires a party to accept a fair implication of any agreed-upon term); Farnsworth, su- pra note 11, at 277 (highlighting potential examples of unfair dealing by focusing on the value of proposals to the conceding party).
34 1862 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 The Requirement of Definiteness D. The requirement that the agreement be definite is another impli- cation of the mutual assent principle. When the agreement fails to include important terms, it is difficult to determine whether mutual assent was reached. When there is no sound basis to infer what terms the parties might have wanted, the presumption of consent is refuted and no remedy can be provided. To hold otherwise is to “make the contract over” and undermine the privilege of consent that the de- 74 The choice under existing law is, again, between fendant reserved. 75 no contract and a full-blown supplemented contract. The common law has traditionally tended toward the no-contract outcome. For example, a landlord who granted a tenant an option to extend a lease at a price to be agreed upon was not bound in the re- 76 newal period; his promise was deemed insufficiently definite. This traditional result has been weakened under the Uniform Commercial Code’s (the Code) “contract with open terms” approach, that more aggressively supplements the parties’ agreement with reasonable or 77 Nevertheless, both tradi- majoritarian terms, including price terms. tional common law and the Code share the premise that the problem is dichotomous: either a full-blown contract can be assembled with the aid of gap-fillers, or no contract exists at all. In contrast, under the no-retraction principle, a promise that is insufficiently definite can give rise to an intermediate result. The party who seeks enforcement of the incomplete agreement is granted an option to enforce the transaction supplemented with terms that are the most favorable (within reason) to the other party. The tenant, in the above example, could enforce a lease extension under the 74 See Sun Printing & Publ’g Ass’n v. Remington Paper & Power Co., 139 N.E. 470, 471 (N.Y. 1923) (presenting Judge Benjamin Cardozo’s famous dictum, “We are told that the defendant was under a duty . . . to accept a term that would be reason- able . . . . To hold it to such a standard would be to make the contract over”). 75 To illustrate this dichotomy, consider the opinions in Sun Printing , 139 N.E. 470. An agreement left the price of future installments open, to be resolved in later nego- tiations. When a finalized agreement was not reached, but after the parties performed some of the immediate obligations, the parties disagreed as to whether there was a binding contract. The court split between two views. The majority, led by Judge Car- dozo, reversed the appellate court and held that no binding obligation existed. Id. at 342. Meanwhile, the dissent, led by Judge Frederick Crane, argued that the court could supplement the agreement with a reasonable and fair provision. Id. at 350-51 (Crane, J., dissenting). 76 Joseph Martin, Jr., Delicatessen, Inc. v. Schumacher, 417 N.E.2d 541, 544 (N.Y. 1981). 77 U.C.C. § 2-305 (2003).
35 2004] CONTRACTS WITHOUT CONSENT 1863 landlord’s most favorable price index—a price no lower than what the landlord could have sought when the agreement was to be reached. This option is not equivalent to enforcing the indefinite promise as a contract. The gaps, under this option approach, are filled with terms different than the average/majoritarian terms. Using such ma- joritarian terms would impose obligations on the defendant that she has not willed. Instead, the missing terms must be such that the com- pleted deal is guaranteed to be no worse than what the retracting party could have presumptively intended when the incomplete prom- ise was made, and it is enforced only if the promisee so chooses. Indeed, in some situations, courts overcome the indefiniteness of the agreement, using a “cure by concession” technique that is effec- tively identical to the no-retraction regime. A party that seeks to en- force an agreement can concede the missing terms by accepting terms 78 In his landmark deci- that are the most favorable to the other party. 79 Sun Printing & Publishing Ass’n v. Remington Paper & Power Co. sion in , Judge Benjamin Cardozo makes reference to such a technique: If price and nothing more had been left open for adjustment, there might be force in the contention that the buyer would be viewed, in the light of later provisions, as the holder of an option. This would mean that [the buyer] . . . would have the privilege of calling for delivery in ac- 80 cordance with a price established as a maximum. Cardozo, however, rejects this approach in his decision. Thus, while some courts have overcome the problem of indefiniteness in this 81 way, this approach is by no means universal. The following Section 78 F See , supra note 21, § 3.29, at 219 (explaining “cure by consen- ARNSWORTH sus”). 79 139 N.E. 470 (N.Y. 1923). 80 Id. at 470 (citation omitted). 81 For example, when parties left the payment terms “to be agreed upon,” courts have allowed the buyer to “concede” the full payment in cash and with no delay, namely, in a manner most favorable to the seller. See, e.g. , Morris v. Ballard, 16 F.2d 175, 176 (D.C. Cir. 1926) (concluding that the purchaser could enforce a deal that had not resolved the terms of payment if he was ready to pay the agreed price under such terms as the vendor might impose); Matlack v. Arend, 63 A.2d 812, 817 (N.J. 1949) (stating that if the buyer “waives all credit and offers to pay cash, the defense that the agreement is too indefinite is untenable”). It is not that courts perceive the full payment in cash as the reasonable term that the parties intended. In fact, often- times it is quite clear that the parties hoped to agree on installment or credit terms. Rather, courts regard the buyer’s willingness to make full payment in cash as a waiver that “obviate[s] any need to come to any agreement as to the manner and form of payment.” Shull v. Sexton, 390 P.2d 313, 318 (Colo. 1964).
36 1864 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 discusses the instances in which using this gap-filling approach would be desirable. E. Filling Gaps in Incomplete Agreements The no-retraction regime’s solution to the problem of incom- plete representation—the option each party has to enforce a contract supplemented by terms most favorable to the other side—can be viewed as a basis for a different principle of gap-filling in incomplete agreements. In contrast to the “mimic the parties’ will” approach that fills gaps with reasonable or majoritarian terms, and also in contrast to the information-forcing default rule that fills gaps in a way that mini- mizes information and communication costs, the no-retraction ap- proach selects “pro-defendant” defaults: one-sided terms most favor- able to the enforced-against party. Such default provisions are not aimed at minimizing contract-drafting costs (as are the mimicking de- faults), nor do they purport to regulate the information flow during the negotiations (as do “penalty” defaults). Instead, they monitor the parties’ decisions to exit negotiations and retract from earlier repre- sentations. Moreover, if they are coupled with the reliance measure of liability, they can efficiently regulate precontractual reliance decisions. This gap-filling approach provides a solution to a problem that is one of the least-theorized sources of contractual incompleteness: par- 82 In these situations, in ties’ inability to agree over a disputed issue. order to avoid a breakdown in the negotiations and a collapse of the relationship, parties may choose to leave the issue open or resolve it in ambiguous terms. This incompleteness has little to do with drafting costs (in fact, ambiguity is often more expensive to draft), nor with asymmetric information. The all-or-nothing approach and standard gap-filling techniques would clearly violate the parties’ choice to re- serve mutual veto power on the resolution of the disputed issue. In fact, any gap-filling approach that utilizes definitive default provi- sions would, if anticipated by the parties, have the ex ante effect of precluding them from leaving an issue unresolved. The biased sup- plementation approach under the no-retraction regime, which effec- tively provides a dual -provision default—with its content depending on the identity of the party seeking enforcement—is consistent with 82 : C , O - H See, e.g. & J L M A , A T N OW OORE GREE OHN ATER ART ON LIVER O GREEING R (Nat’l Bureau of Econ. Research, Work- O D N R I T O ULE OT HAT ULE UT BUT N TRACTS ing Paper No. W10397, 2004) (offering a theoretical model of agreements that are de- signed deliberately incomplete).
37 2004] CONTRACTS WITHOUT CONSENT 1865 the parties’ strategic choice to disagree. In a sense, under this regime, the parties can agree ex ante that the unresolved issue will never pro- vide a basis for a unilateral decision to exit the deal, since the other party has an option to concede it, and they can do so without actually resolving the issue. The decoupled default terms enable parties to 83 create an obligation without mutual assent. The Mechanics of Offer and Acceptance F. Consensus theory is the foundation of the offer-and-acceptance model of contract formation. If the parties have to reach consensus in order to create contractual liability, then it is necessary to identify two communications that manifest identical terms, and before such a con- temporaneous union of communications occurs, both parties must be 84 Thus, doctrines that address the relations between free to walk away. communications that are either non-identical or that create timing is- sues, such as revocation of offers, counteroffers, and battles of forms, among others, are all corollaries of the consensus principle. Accord- ingly, a liability regime that does not build this principle and does not require consensus would have numerous implications for the legal consequences of the offer, acceptance, and other precontractual com- munications. Before examining these implications, however, a point of caution is in order. The offer-and-acceptance model of contract formation is not always a useful representation of the negotiation process. In fact, under the premise that motivates much of the analysis through- out this Essay—that mutual assent is reached piecemeal—the offer- and-acceptance model is quite synthetic. There is not a single com- munication in which a party sets forth the comprehensive list of terms it desires, to which the other party says “I accept.” Instead, communi- cations proceed in many rounds, each relating to a different aspect of the deal. Full-blown offers or counteroffers, if they exist, only trail and memorialize a course of partial understandings. Nevertheless, if the no-retraction idea is to have a general appeal, it must apply to the 83 The argument that parties are often interested in this type of unresolved or in- supra terim commitment is developed more fully in a companion paper, Ben-Shahar, note 8. 84 See Adams v. Lindsell, 106 Eng. Rep. 250, 251 (K.B. 1818) (“The defendants must be considered in law as making . . . the same identical offer to the plaintiffs; and then the contract is completed by the acceptance of it by the latter.”); Simpson, supra note 2, at 258-62 (discussing the historical evolution of the offer-and-acceptance doc- trine).
38 1866 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 simple transactions in which communications do fit within the of- fer/acceptance metaphorical framework. Accordingly, the following is a tentative exploration of a few implications of the no-retraction approach. 1. Doctrines that Permit Costless Retraction Under the mutual assent regime, a party that manifested its will- ingness to enter an agreement under some terms can freely retract as long as the other party has not accepted these same terms. Thus, if the communication amounts to what the law deems to be an “offer,” current doctrine establishes that it can be withdrawn at no cost before the intent to be bound becomes mutual, namely, any time prior to ac- 85 Under the no-retraction principle, however, retraction in ceptance. such circumstances is not free, particularly if the other party relied on the proposal. The offeror who revokes the offer must reimburse the offeree at least for the reliance investment incurred after the offer was made. Similarly, if the communication does not amount to an “offer” but is merely a solicitation of offers, or an invitation to deal, current doctrine allows the soliciting party to retract prior to (and even after) the response by the other party, whereas the no-retraction regime will impose liability on the soliciting party who is now unwilling to deal under the terms she solicited. In some contexts, the law already recognizes mild versions of a no- retraction principle. When a subcontractor makes a bid, which the general contractor uses in computing her own bid, the subcontractor 86 cannot revoke his terms, even before they are affirmatively accepted. It is not consent that creates liability, but a one-sided, relied-upon proposal. The no-free-revocation rule raises several potential concerns. First, each party might be less willing to communicate proposals and would 85 U.C.C. § 2-205 (2003); Petterson v. Pattberg, 161 N.E. 428, 429 (N.Y. 1928) (holding that an offer is revocable anytime before acceptance even though the offeree incurs costs in reliance). 86 Drennan v. Star Paving Co., 333 P.2d 757, 759-60 (Cal. 1958). Some courts have criticized this deviation from the mutual assent regime for its one-sided liability, expos- ing subcontractors to bid shopping and bid chopping. , Pavel Enters., Inc. v. See, e.g. A.S. Johnson Co., 674 A.2d 521, 528 (Md. 1996) (noting that Drennan ’s reasoning has been criticized based on the fact that subcontractors are bound to general contractors but general contractors are not bound to subcontractors). These courts have not rec- ognized, however, the possibility of applying the no-retraction regime bilaterally . Gen- eral contractors, too, can be barred from retracting: once they incorporate the sub- contractor’s offer into their own bid, they may not retract.
39 2004] CONTRACTS WITHOUT CONSENT 1867 prefer to wait for the other party to put forth a non-retractable pro- posal, thus preserving its own freedom to walk away cost-free. This problem could be particularly severe in situations where parties expect that new information will affect their willingness to transact. Further, parties might hesitate to enter negotiations, reducing the in- cidence of efficient contracting. As a general theoretical matter, this concern is not valid. Recall, first, that if, in light of fresh information, a party wishes to revoke a proposal, she can still do so under the no-retraction regime, but at a cost. The only difference between the no-retraction regime and the consensus regimes is who bears the cost of reliance sunk prior to the proposer’s retraction. A party who, in the course of negotiations, ac- quired new information, can revise her offer, or even dissolve the rela- tionship, but if this retraction leads to a negotiation breakdown, she 87 this must reimburse her counterpart’s expenses. As argued above, added cost of retraction would , not reduce, the payoff from increase contracting to both parties, including the proposing party. True, the latter must bear a cost of potential liability for retraction. This cost, however, is more than offset by the benefit she derives from the in- creased reliance investment by her negotiation partner. Namely, un- der the no-retraction regime, negotiating partners have the greater security that their counterparts will not retract and walk away from previous proposals, and in the presence of this enhanced security they will have a greater incentive to make precontractual specific invest- ments. These investments, in turn, increase the surplus that both par- ties end up dividing via the contract. Thus, the proposing party, by surrendering the absolute freedom to retract, energizes the oppo- nent’s investment and eventually enjoys the larger contractual pie. For example, a subcontractor is better off when his bid is irrevocable, because the general contractor is more likely to rely on this bid and to 88 incorporate it into her own bid. Another concern has to do with a party’s ability to make concur- rent proposals to numerous potential partners, where a contract can be entered into with, at most, one of the respondents. Would the proposing party be liable to respondents who are turned down for their response costs? Would such liability deter parties from making 87 Supra Part I.E.3. 88 See Drennan , 333 P.2d at 760 (arguing that the subcontractor benefits by having his bid irrevocable and thereby enabling the contractor to rely on it).
40 1868 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 concurrent proposals or from soliciting concurrent bids from multiple parties? The answer to this concern turns on what is deemed a retraction in the presence of multi-party bids. If it is clear that the intent of the soliciting party is to deal eventually with only one of the respondents, then the original proposal to the multiple parties can be understood to include an implicit condition that no more than one of the re- sponses can lead to a deal. Thus, to avoid the burden of excessive li- ability, the soliciting party need not opt out of the no-retraction re- gime, but merely clarify to the recipients (if it is not already clear) that the solicitation is not exclusive. Recall that the same problem arises under the mutual assent regime, when more than one party responds to an advertisement. The common law resolves this problem by classi- 89 The fying the advertisement as an “invitation” rather than an “offer.” 90 advertisement is not open for all recipients to accept. Here, a retrac- tion does occur if, say, the soliciting party insists on terms different all the responses that conform to than ones she initially set out, rejects the solicitation’s terms, or does not fairly consider one of the bids. But a retraction does not occur if the soliciting party is rejecting the 91 invited responses after impartially accepting one of the bids. A further concern that the no-retraction regime may raise has to do with the expiration of precontractual proposals. How long must a party, who made a proposal, wait before she can walk away from the negotiations without bearing liability for retraction? Surely, the pro- posal cannot be open indefinitely, binding the proposing party for- ever. Under the current regime, a party who made a proposal but then seeks to terminate the negotiations can freely revoke the pro- posal. Under the no-retraction regime, this course of action is not available, raising concerns that parties would be bound even when the negotiations turned stale. This concern can be dealt with by defining the retraction restric- tions with greater precision. Recall that the limitation on retraction is meant to prevent retractions that are associated with opportunistic holdups. Retractions that are a result of impasse—of exhausted bar- gaining and a sincere futility of negotiations—should not be grounds 89 R § 26, cmt. b, illus. 1 (1981). (S C ) OF ONTRACTS ESTATEMENT ECOND 90 Id. cmt. c (“In determining whether an offer is made, relevant factors include the . . . number of persons to whom the communication is addressed.”). 91 For a similar understanding of the obligation to entertain bids, see Heyer Prods. Co. v. United States , 140 F. Supp. 409, 413 (Ct. Cl. 1956); Farnsworth, supra note 11, at 238-39.
41 2004] CONTRACTS WITHOUT CONSENT 1869 for liability. In the same fashion that current law determines the length of time that unrestricted offers, if not revoked, remain open, no-retraction doctrine can determine the length of time that propos- als cannot be revoked. For example, the existing default rule estab- 92 Such a lishes that an offer expires after a reasonable length of time. rule, if applicable and effective under a regime that permits free af- firmative retraction, may also be applicable under a regime that does 93 The offeror’s interest to be free from fu- not permit free retraction. tile negotiations can be addressed by shortening the term that is con- sidered “reasonable” for an offer to remain open. Of course, the of- feror may retract even earlier and, to the extent that the offeree has not yet relied, do so without bearing any liability. In general, it might be feared that a no-retraction regime, by re- ducing each party’s unilateral control over the termination of the ne- gotiations, would introduce more uncertainty into the negotiations stage. Note, though, that the diminished freedom to retract may only increase, rather than reduce, the parties’ certainty as to their position. Under this regime the parties know that serious precontractual state- ments lead to certain intermediate liability. In contrast, under the current regime, parties are often uncertain whether their communica- tions have put them in the realm of contract. The variance inherent in this binary regime, where legal consequences are either null or harsh, is eliminated by the no-retraction regime. To be sure, transactors who are accustomed to the free-retraction regime might be intimidated by the no-retraction principle and, as a result, instinctively opt out of it. Such a reaction, however, can at most confirm how deep-rooted the consensus principle is in the ex- isting legal folklore. It cannot rationalize the consensus principle or 94 Indeed, under different legal systems, its free-retraction corollary. 92 See (S ) R C § 41 (1981) (stating that an offeree’s ECOND ONTRACTS ESTATEMENT OF power of acceptance will lapse after a reasonable amount of time unless the offer states otherwise). 93 A similar approach applies to contract negotiations under the National Labor Relations Act (NLRA), 29 U.S.C. §§ 151-169 (2000). Negotiations toward a collective bargain can be terminated, and offers withdrawn, if they have reached an “impasse.” A substantial body of case law defined the terms under which such withdrawal can occur. See Farnsworth, supra note 11, at 282-83 (discussing the “impasse” concept as it relates to breaking off negotiations). 94 Indeed, the requirement of mutual consent—and the need for an offer and an acceptance—has been so deeply rooted in the intuitions of scholars and transactors alike that it has often been packed into the definition of contract. James Gordley ar- gues convincingly that there is not a single satisfactory philosophical account as to why an offer cannot be conceived differently, for example, as a commitment that is binding
42 1870 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 offers are considered irrevocable unless the offeror expressly stated 95 otherwise. 2. Doctrines That Deal with Nonconforming Communications When parties exchange communications that do not manifest a consensus, e.g., counteroffers, forms containing different material terms, and the like, the mutual assent regime assigns all-or-nothing le- gal consequences to their negotiations. On the “nothing” side, under the rigid “mirror-image” rule of the common law, an offeree who ac- cepts most of the terms and adds or modifies others is presumed to reject the original offer, thereby terminating her power of acceptance. Namely, the original offer expires, and the original offeror is free to 96 Even under the less rigid approach of the Code, an of- walk away. material terms in response to an of- feree who is adding or modifying fer is rejecting the offer and, unless the offer is renewed, can no 97 On the “all” side, if the parties’ longer accept the rejected terms. conduct recognizes the existence of a contract, provisions are filled in 98 liberally. Under the no-retraction rule, nonconforming communications, whether counteroffers or concurrent proposals, do not automatically cancel out, but are instead baselines that each party sets for the other to accept. This exchange of proposals mode of negotiations repre- sents the prototypical case of gradual convergence of the wills. It is a continuous process whose essence, as argued in Part I, justifies 99 a “convergent” liability regime. Thus, neither party can unilaterally walk away from the terms it offered, unless the terms are affirmatively unless and until it is rejected by the other party. G note 20, at 175-80, , supra ORDLEY 234. 95 , Franco Ferrary, See, e.g. A Comparative Overview on Offer and Acceptance Inter ’ L.J. 171, 189-90 (1992) (observing that in Germany, Austria, , 10 B.U. I Absentes L NT Switzerland, and Portugal, an offer is considered irrevocable). In Germany, an offer is irrevocable after it has been received by the offeree, and it may provide that some ele- ments are left to the determination of the offeree. B G ÜRGERLICHES ESETZBUCH §§ 130(1), 315 (2000). 96 § 36(1)(a) (1981) (“[The] offeree’s (S ) C R OF ECOND ONTRACTS ESTATEMENT power of acceptance may be terminated by rejection or counter-offer . . . .”); see also Minneapolis & St. Louis Ry. v. Columbia Rolling-Mill Co., 119 U.S. 149, 152 (1886) (determining that, after making a counteroffer that was not accepted, the plaintiff could not fall back on the defendant’s original offer). 97 U.C.C. § 2-207(2) (2003). 98 § 2-207(3). 99 See supra note 27 and accompanying text (discussing how the no-retraction re- gime creates convergent liability).
43 2004] CONTRACTS WITHOUT CONSENT 1871 rejected. As a default, a counteroffer need not be deemed a rejection, but merely a basis for a reverse option. Following the counteroffer, each party has the power of acceptance. In particular, the original of- feror may either accept the counteroffer or refine its previous offer, but cannot retract by insisting on more aggressive terms. A party has, to be sure, a right to terminate the negotiations fol- lowing a rejection of its offer. As in the case of multiple concurrent re- spondents, where turning down one and choosing another bidder is not a retraction, in the case of multiple respondents, the of- sequential feror can turn and deal with a subsequent partner after the initial one rejected the offer. This last observation highlights the proper scope of the no-retraction regime. It is not designed to override parties’ le- gitimate motivation to exit negotiations. A party that makes represen- tations of terms may still turn around and refuse to deal if her partner delayed his response unreasonably, rejected her offer outright, or in any other way failed to manifest his acceptance of the offer. Viola- tions of the no-retraction principle occur, in principle, only if the re- fusal to deal under the previously represented terms is part of a bar- gaining strategy that aims at capturing a bigger share of the surplus than previously conceded. ONCLUSION C This Essay explores an alternative to one of the fundamental building blocks of the law of contract formation—the requirement of mutual assent. It does not propose any change in the type of liability that emerges when assent exists, but rather it explores an intermedi- ate species of liability that could emerge when mutual assent does not exist, prior to consensus. It shows that the two regimes converge when a consensus over terms exists; it is only when full consensus is lacking that the two regimes diverge. The analysis in this Essay focuses on one type of justification for the no-retraction liability regime, namely, an economic justification emphasizing reliance incentives. It identifies reliance damages as the optimal measure of damages for retraction from precontractual rep- resentations. It argues, however, that the no-retraction regime could conceptually be coupled with various measures of damages and tai- lored to promote other objectives of the transacting parties. Surely, other contracting goals and social concerns can be affected by a shift from an all-or-nothing regime to a continuous scale of enforceability, and they may rationalize other remedies.
44 1872 UNIVERSITY OF PENNSYLVANIA LAW REVIEW [Vol. 152: 1829 In comparison to the existing assent doctrines of contract law, the no-retraction principle provides a different approach to many fundamental problems of contract formation. Our brief transdoctrinal journey in Part II demonstrates that under the no-retraction approach, the legal resolution of mutual mistakes, precontractual agreements, conflicting proposals, and more generally, gaps in incomplete con- tracts, would be different than the existing order under the familiar assent regime. The analysis in this Essay, being exploratory in nature, is admit- tedly lacking in rigor and in nuance. As a substitute to the mutual as- sent “pillar” of contract law, the no-retraction principle potentially applies to numerous contexts, with implications to many doctrines, none of which were treated with sufficient detail here. A more com- plete defense of the no-retraction regime would also have to identify reasons why the consensus principle prevailed, historically. Accord- ingly, the analysis here is offered, not as a basis for reform, but as an inquiry into some basic conceptions underlying our legal tradition. It remains for future work to explore the extent to which the approach developed in this Essay has the horsepower to resolve pragmatically the problems that have proven difficult for current doctrine and to exam- ine whether these solutions advance the various social objectives asso- ciated with contract formation.