Terms and Conditions of Scope Letter as Part of Contract Under California Law

Author: LegalEase Solutions 

RESEARCH MEMORANDUM

Introduction

Aeroplate negotiated with ISEC with regard to supplying and installing fume hoods in accordance with a contract Aeroplane had with the government. ISEC sent Aeroplate a scope letter specifying the work to be done and prices, along with terms and conditions. Aeroplate sent back a purchase order with the same price quoted in the scope letter, and a very brief summary of the work. ISEC then began performance.

Question Presented

Were the terms and conditions in the scope letter part of the final contract?

Short Answer

Yes. Because the contract is primarily one for the sale of goods, rather than services, it is governed by the UCC. The UCC has abolished the mirror-image rule and therefore Aeroplate’s purchase order was an acceptance of the scope letter, not a counteroffer. Even if the purchase order can be construed as containing different terms—which factually it can’t—those terms did not replace the terms of the scope letter.

Discussion

  1. The Contract is Governed By the UCC, Because The Main Purpose of the Contract Was to Acquire goods, and the Installation Was Incidental.

The UCC applies to “transactions in goods.” (Cal. U.S. Com. Code § 2102.) “Goods” are defined in the Code as “all things (including specially manufactured goods), which are movable at the time of identification to the contract for sale.” (Cal. U.S. Com. Code § 2105.) The UCC does not apply to transactions involving service, but when the contract involves both goods and services, courts must look to the “essence” of the agreement. (Filmservice Labs., Inc. v. Harvey Bernhard Enters., Inc. (1989) 208 Cal.App.3d 1297 [256 Cal.Rptr. 735], 1305; RRX Indus., Inc. v. Lab-Con, Inc. (9th Cir. 1985) 772 F.2d 543, 546.) The court discerns what is the predominant factor—whether the thrust of the contract is the rendition of service, with goods incidentally involved, or whether the transaction is a sale of goods, with labor incidentally involved. (United States ex rel. Bartec Indus., Inc. v. United Pac. Co. (9th Cir. 1992) 976 F.2d 1274, 1277; Bonebrake v. Cox  (8th Cir. 1974) 499 F.2d 951, 960.)

In determining whether a sale and installation contract is covered by the UCC, courts must examine the purpose of the transaction. (Neibarger v. Universal Coops., (1992) 439 Mich. 512, 536 [486 N.W.2d 612].) “If the purchaser’s ultimate goal is to acquire a product, the contract should be considered a transaction in goods, even though service is incidentally required. Conversely, if the purchaser’s ultimate goal is to procure a service, the contract is not governed by the UCC, even though goods are incidentally required in the provision of this service.” (Id.) In Neibarger, the plaintiff contracted for defendant to install a milking system for a dairy farm, and later discovered the system was improperly designed and installed. (Id. at 516.) The court held that plaintiff’s main goal was to acquire goods—to purchase a milking machine. (Id. at 536-37.) As in Neibarger, in the instant case Aeroplate’s main goal was the procurement of goods—the fume hoods. The hoods are only manufactured by two companies in the United States, and therefore no reasonable person could look at the product itself as “incidental.”

If the main thrust of the contract was the sale of goods, it does not matter that the installation services were significant. For example, in Republic Steel Corp. v. Pennsylvania Eng’g Corp. (7th Cir. 1986) 785 F.2d 174, plaintiff contracted for the design, manufacture, and installation of two steel furnaces for use in its plant. Defendant was authorized to purchase the component parts as plaintiff’s agent. The contract also provided for engineering, design, start-up, and training services. (Id. at 176.) Even though the service component of the contract was substantial, the cost of the furnaces and components was approximately $5 million. Thus, the contract was predominately one for the sale of furnaces, with the services incidental thereto. (Id. at 181.)

As in Republic Steel Corp., it should not matter that goods were purchased from a third party. Aeroplate goes to great lengths in its statement of facts to portray ISEC as an “installer” of Fisher-Hamilton. However, Aeroplate admits that it tried to procure the fume hoods elsewhere and was unable to do so. Another “installer” was unable to obtain the fume hoods because it couldn’t procure one from an approved “supplier.” The reason Aeroplate chose ISEC is because it could obtain an approved fume hood. The main goal in contracting with ISEC was not to take advantage of ISEC’s installation expertise, but rather to obtain an approved fume hood that would meet EPA standards.

The fact that the fume hoods are standardized according to rigid guidelines also supports a finding that the contract involves the sale of goods. In RRX Indus. v. Lab-Con Inc. (9th Cir. 1985) 772 F.2d 543, plaintiff contracted for the supply and installation of a computer software package for its medical labs. The court held that service elements of the contract, including installation, training employees, fixing bugs, and upgrading the system, were insufficient to defeat the true nature of the contract—the sale of a computer system. RRX Indus. was distinguished in Data Processing Servs. v. L.H. Smith Oil Corp., (Ind. Ct. App.) 492 N.E.2d 314. In Data Processing Servs., a computer programming firm was hired to design, develop, and implement a data processing system to meet the customer’s specific needs. (Id. at 318.) The court held that the case was unlike the sale of computer hardware or generally-available standardized software, and distinguished RRX Indus. as involving prepackaged software. (Id. at 319.) Because the programmers were designing the software for the individual needs of the customer, the case was more analogous to a client seeking a lawyer’s advice or a patient seeking medical treatment then a customer buying corn or soap. Thus, the UCC did not apply. (Id.)

The instant case is more analogous to RRX Indus. than to Data Processing Servs. Although the scope letter does specify some customization to Aeroplate’s individual needs, the fume hoods were not being designed from scratch on an individualized basis. In fact they must be manufactured in accordance with fixed, stringent standards. As Aeroplate admits, it is difficult to procure fume hoods that meet the government standards, and this was the main asset that ISEC provided.

Although some recent caselaw supports the proposition that the sales and service portions of a contract can be segregated, with different law applied to each, the instant case is not amenable to that approach. In Tk Power v. Textron (N.D. Cal. 2006) 433 F.Supp.2d 1058, the contract involved the development of a prototype product, which would subsequently be tested and eventually mass-produced. The court found that the development of the prototype was a service, based on the Data Processing Servs. analysis, as it was entirely customized, and the purpose was not for use of the prototypes as goods, but for testing and development. (Id. at 1062.) But the final part of the contract, the mass production, did involve the sale of goods. (Id. at 1063.) The court held that the two parts could be severed, with the UCC applying to the goods portion of the contract and non-UCC law to the services portion. In determining severability, courts consider: 1.) Whether the non-goods aspect of the transaction is clearly distinct and easily separable from the goods aspect; 2.) Whether the alleged performance or non-performance pertains solely to the non-goods aspect of the transaction.; and 3.) Whether it makes sense to apply the UCC to the non-goods aspect of the transaction and whether applying non-UCC law accords with the parties’ intent. (Id. at 1064.) Severability does not depend on whether the contract delineated separate prices for the sale and installation portions. (Id. at 1063-64.) The court held that all three factors were present and that even if the mass-production phase of the contract was predominately for the sale of goods, applying common-law principles to the segregable, services portion of the contract comported with the purposes of the UCC to “simplify, clarify, and modernize the law governing commercial transactions.” (Id. at 1064-65; See also Fab-Tech, Inc. v. E.I. DuPont de Nemours (D. Vt. 2006) 2006 U.S. Dist. LEXIS 92236.)

In the instant case, the installation and sale portions of the contract were not distinct, but rather were intertwined. Moreover, it would not make sense to apply conflicting rules of contract formation, so that as to the goods portion of the contract the purchase order was an acceptance, but under the sales portion the purchase order was a counteroffer. Because the contract was primarily for the sale of goods, and the service portions cannot be severed, the UCC applies to the entire contract.

  1. Because the UCC Abolished the Common-Law, “Mirror-Image” Rule, the Purchase Order Represented an Acceptance of the Terms in ISEC’s Scope Letter.

Under the common-law “mirror image” rule, an acceptance had to mirror the offer exactly. Thus, a purported acceptance at variance with the offer was treated as a counteroffer. (Transwestern Pipeline Co. v. Monsanto Co. (1994) 46 Cal.App.4th 502, 514 [53 Cal.Rptr.2d 887]). This is the rule to which Aeroplate alludes in its summary judgment opposition.

For example in Apablasa v. Merritt & Co. (1959) 176 Cal.App.2d 719 [1 Cal.Rptr. 500], plaintiff alleged in a breach of contract suit that a contract had been formed by a series of correspondences. Plaintiff contended that a letter it sent constituted an offer and that defendants accepted the offer by sending a return letter stating: “After careful consideration I have decided to accept your proposition as outlined in your letter to me of August 24th, 1955 with this proviso: that you agree to put this product in production within a definite period of time from the date of the signing of any agreement between us.” (Id. at 725.) Although the court rejected the argument that an offer was ever made, assuming arguendo that there was an offer, the court held that defendant’s letter could not constitute an acceptance. (Id.) Summarizing the mirror-image rule, the court held:

It is fundamental that without consent of the parties, which must be mutual, no contract can exist. Consent cannot be mutual unless all parties agree upon the same thing in the same sense. Hence, terms proposed in an offer must be met exactly, precisely and unequivocally for its acceptance to result in the formation of a binding contract, and a qualified acceptance amounts to a new proposal or counteroffer putting an end to the original offer. An offer must be approved in the terms in which it is made. The addition of any condition or limitation is tantamount to a rejection of the original offer and the making of a counteroffer. A counteroffer containing a condition different from that in the original offer is a new proposal and, if not accepted by the original offeror, amounts to nothing. Where a person offers to do a definite thing and another introduces a new term into the acceptance, his answer is a mere expression of willingness to treat or is a counter proposal, and in neither case is there a contract; if it is a new proposal and it is not accepted it amounts to nothing. [Id. at 726 (internal citations and quotations omitted).]

Because the defendant introduced a “proviso,” the letter was at variance with Plaintiff’s alleged offer, and therefore no binding contract was formed. (Id. at 727.)

The Uniform Commercial Code abolishes the common-law, mirror-image rule for contracts. “Generally, section 2-207(1) converts a common law counteroffer into an acceptance even though it states additional or different terms.” (Diamond Fruit Growers, Inc. v. Krack Corp (9th Cir. 1986) 794 F.2d 1440, 1443). Under Uniform Commercial Code section 2207, the common-law counteroffer becomes an acceptance if it contains a “definite and seasonable expression of acceptance” and, between merchants, the additional terms of the “counteroffer” become a part of the contract. (Transwestern Pipeline Co. v. Monsanto Co. (1996) 46 Cal.App.4th 502, 514 (Ct. app. Cal. 1996)[ 53 Cal. Rptr. 2d 887].) Section 2207 reads as follows:

(1) A definite and seasonable expression of acceptance or a written confirmation which is sent within a reasonable time operates as an acceptance even though it states terms additional to or different from those offered or agreed upon, unless acceptance is expressly made conditional on assent to the additional or different terms.

(2) The additional terms are to be construed as proposals for addition to the contract. Between merchants such terms become part of the contract unless:

(a) The offer expressly limits acceptance to the terms of the offer;

(b) They materially alter it; or

(c) Notification of objection to them has already been given or is given within a reasonable time after notice of them is received.

(3) Conduct by both parties which recognizes the existence of a contract is sufficient to establish a contract for sale although the writings of the parties do not otherwise establish a contract. In such case the terms of the particular contract consist of those terms on which the writings of the parties agree, together with any supplementary terms incorporated under any other provisions of this code.

[Cal. U.S. Com. Code § 2207].

Thus, under Uniform Commercial Code section 2207, subdivision 1, the purchase order was an acceptance of the scope letter, and Aeroplate’s contention that the purchase order was merely a counteroffer is without merit. As a factual matter, the purchase offer did not contain any terms different or additional to the scope letter. It simply provided a brief summary of the work described in the scope letter and the same price quoted in the scope letter. Since there were no additional terms, the remaining subdivisions of section 2207 are irrelevant—Aeroplate accepted the offer, and the terms and conditions in the scope letter became a binding contract.

  1. Even if Aeroplate’s Acceptance in the Purchase Order Can Be Considered Inconsistent With the Offer in the Scope Letter, The Inconsistent Terms Were Not Part of the Contract Under the UCC.

 Even if the purchase order did contain “new or additional” terms, for the purposes of the UCC, the terms and conditions in the scope letter—the offer—are still part of the contract, because the offer was made clearly contingent upon incorporation of the terms and conditions, and the acceptance was not expressly made contingent upon acceptance of the allegedly new terms in the purchase order. (See Lockheed Elecs. Co. v. Keronix, Inc. (1981) 114 Cal.App.3d 304, 310-11 [170 Cal. Rptr. 591].) In Lockheed, Keronix sent a purchase order to LEC for delivery of computer cores. The purchase order expressly limited acceptance to certain terms and conditions in the purchase order. LEC then sent back a “quotation,” and an acceptance, stating that the standard LEC terms and conditions apply. (Id. at 307-08.)

In determining which party’s terms and conditions were applicable, the court  looked at Uniform Commercial Code section 2207, subdivision 1, to determine if there was a contract. Under this subdivision, since the acceptance by LEC was not expressly made conditional upon the assent to the different terms, it acted as an acceptance even though it stated different terms and conditions. (Id. at 312.) Although under Uniform Commercial Code section 2207, subdivision 2, these additional terms would become part of the contract between merchants, subdivision 2(a) excepts new terms in the acceptance from becoming part of the contract where the offer expressly limits acceptance to the terms of the offer. (Id. at 311.) The court found that Keronix’ purchase order did expressly limit acceptance because the purchase order stated: “This order expressly limits acceptance to the terms stated herein, and any additional or different terms proposed by the Seller are rejected unless expressly assented to in writing by Buyer.” (Id. at 310-11.) Thus LEC’s new terms in the acceptance did not become part of the contract, but Keronix’ terms did. (Id. at 311.)

Even if Aeroplate’s purchase order’s omission of the terms in the scope letter could be considered as affirmatively additional or different terms, the situation would be identical to Lockheed, and the new terms wouldn’t apply. ISEC’s scope letter expressly limited acceptance to the terms in the scope letter: “If an award is made to ISEC, Inc., the General Contractor acknowledges that they have read, understood, and agree to all terms and conditions of ISEC, Inc.’s offer to sell, and will incorporate these terms and conditions in ISEC Inc.’s subcontract.” Thus, ISEC expressly made a subcontract contingent on incorporation of the terms in the scope letter. The only difference between this case and Lockheed is that in Lockheed the offer was called a “purchase order” and the acceptance a “quotation,” whereas in the instant case the offer was dubbed a “scope letter” and the acceptance a “purchase order.” Regardless of the names, as in Lockheed, the acceptance in the instant case did not make the contract conditional upon agreement to any new terms or conditions, so Aeroplate’s purchase order operated as a valid acceptance. Since ISEC’s offer did expressly make a subcontract conditional upon incorporation of the terms in the scope letter, even if the omission in Aeroplate’s acceptance could be considered new or additional terms, they were not incorporated into the contract.

If the terms of the offer and acceptance differ, the terms of the offer become part of a contract between merchants not only if the offer expressly limits acceptance to its own terms, but also if the varying terms of the acceptance materially alter the terms of the offer. (Steiner v. Mobil Oil Corp. (1977) 20 Cal.3d 90 [141 Cal.Rptr. 157, 569 P.2d 751].) In Steiner, the plaintiff, Steiner sought to contract with mobile for sale of its gasoline in a service station. Steiner negotiated with Mobile representatives for a competitive allowance—a 1.4 cents per gallon discount on Mobile’s tank wagon price, for ten years. (Id. at 95.) However, when presented with the standard Mobile form for competitive allowances, Steiner observed that it stated mobile could change or discontinue the competitive allowance at any time upon written notice. Steiner called the mobile representatives and stated that he would not go through with the deal if the competitive allowance could be revoked. (Id.) To placate him, the Mobile representatives sent a letter stating that the competitive allowance was part of the ten year retail contract and that “if Mobil management does not accept in full the above conditions outlined in your competitive offer, the above mentioned contract will be void.” (Id. at 96.) However, the letter was not put in the package given to the representatives’ superior, and Mobile’s acceptance package contained only the standard mobile form, that allowed Mobile to revoke the competitive allowance. (Id.) When Mobile subsequently attempted to reduce the discount, Steiner filed suit. (Id. at 97.)

The Supreme Court of California first held that under Uniform Commercial Code section 2207, subdivision 1, the parties had formed a contract. (Steiner, supra, 20 Cal.3d at p. 101.) Steiner had offered to enter into a ten-year dealer contract in which Mobile would give a 1.4 cents per gallon discount for the duration of the contract. By informing Steiner that they had a check for Steiner and sending the completed document package back to him, Mobile accepted the offer, despite the difference in terms resulting from the inclusion of the standard Mobile competitive allowance form. (Id. at 100.) Mobile’s acceptance was not made contingent on acceptance of the new terms. (Id.) However, the new terms—the Mobile standard competitive allowance form—never became part of the contract because of Uniform Commercial Code section 2207, subdivisions 2(a) and 2(b). The contract fell within the subdivision (a) exception because Steiner’s offer expressly made the deal conditional on a guaranteed competitive allowance throughout the ten-years. (Id. at 101.) Moreover, subdivision (b) applied because the acceptance materially altered the offer. (Id.) A material alteration is one that would “result in surprise or hardship if incorporated without express awareness by the other party.” (Id. at 102.) Since Steiner indicated to Mobile that he could not economically operate the service station without the discount, the alteration was material. (Id.) Thus, because Mobile’s new terms—the standard mobile form stating that the competitive allowance could be altered or revoked—never became part of the contract, Mobile formed a contract incorporating the terms of Steiner’s offer, under which the competitive allowance was unalterable. (Id.)

In the instant case ISEC’s offer, the scope letter, clearly stated that the terms and conditions in the scope letter were to be incorporated in any subcontract. Even if this is insufficient as an express condition of acceptance, under Uniform Commercial Code section 2207, subdivisions 2(a), it is sufficient to have alerted Aeroplate that changing the terms and conditions or failing to include them in the subcontract would “result in surprise or hardship.” Thus, under either Uniform Commercial Code section 2207, subdivisions 2(a) or 2(b), Aeroplate’s allegedly new or different terms did not become part of the contract, and did not alter or eliminate the terms and conditions in the scope letter, which Aeroplate accepted.

Conclusion

The terms and conditions in the scope letter were part of the final contract between ISEC and Aeroplate. Because the contract was primarily for the sale of goods, and the installation was incidental to the procurement of fume hoods, the contract is governed by the Uniform Commercial Code. The UCC has abrogated the “mirror image” rule that required the acceptance to exactly reflect the offer. Under the UCC, Aeroplate’s purchase order was sufficient to form an acceptance of ISEC’s offer, and therefore the scope letter became the contract. Even if the omission of ISEC’s terms and conditions in Aeroplate’s purchase order could be considered additional or different terms, they did not become part of the contract because ISEC’s offer expressly limited acceptance to the inclusion of ISEC’s terms and conditions, and because omission of those terms would have materially altered the contract.