A. THE PROBLEM: “I want it on the jobsite yesterday!”
In buying out a construction project, a general contractor (GC) or a subcontractor will likely negotiate and enter into equipment leases that cost, on an item-by-item basis, $10,000 to $20,000 per month – and could, by project completion, cost millions. Virtually all heavy equipment is available on a rental basis, from the largest cranes to exotic bits for directional drilling. Most contractors seem to find renting more attractive than owning heavy construction equipment, as the acquisition and maintenance costs can be staggering.
In the rush from contract award to full mobilization, equipment leases and agreements are often negotiated quickly. Weak or ambiguous leasing contracts can lead to unanticipated charges for transportation, repair and additional rental charges at project completion when personnel are being reassigned and profit margins are being squeezed. By the time the equipment lessor brings suit, there may not be much an attorney can do, as project personnel have moved on emotionally, geographically or both, and the opportunity to document equipment usage and repair will have passed. This article will outline some of the legal issues in negotiating equipment lease contracts with an eye toward preventing unnecessary disputes at project close-out.
B. CONTRACT FORMATION.
Under common law, a lease of personal property is a bailment for hire. A personal property lease is created when the lessee agrees to furnish consideration for the right to the possession and use of goods over a specified period of time. The lease of construction equipment is a contract like any other contract, and the process of contract formation necessarily includes offer, acceptance and consideration. The leasing process, however, is typically a little different than a publicly bid or privately negotiated construction contract.
The lessor (equipment owner) and lessee (GC or subcontractor) are rarely in the same city – and may not even be in the same state. The lessor typically sends a form lease to the lessee that includes blanks filled in for the lease rate and term and a set of general conditions. The lessor's lease form may be very one-sided, particularly as to maintenance of the equipment (all) and the condition in which the equipment will be returned (perfect). The lessee will review the lessor’s form lease and either mark it up before signing, or attach its own purchase order (PO). The lease can be executed in any number of ways:
- The two forms (lease and PO) will cross in the email, and the parties will sign both;
- The lessor will cross out parts of the lessee’s handwritten material and then sign;
- The lessee will incorporate the terms of its PO by reference;
- Sometimes only one party will sign a form agreement; or
- Neither party will think to sign anything, because in most cases the people exchanging the forms are not authorized to sign contracts for the company.
Lease agreement formalities are never on the front burner when a project is being bought out and ramped up. In any event, the lessee is eager to get the equipment on-site and the entire transaction will be completed in a relatively short period of time. At least one court has accepted the position that industry practice is to ship the equipment being leased before contract formation.
The difficulties inherent to negotiating equipment leases are illustrated by the Idaho case of Essex Crane Rental Corp. v. Weyher/Livsey Constructors, Inc.In that case, representatives of the lessor and lessee (neither of whom had actual contractual authority from their employers) met to discuss the terms of a crane rental. The two representatives signed a handwritten memorandum of their discussion, part of which stated that the lessee would not agree to the terms of the lessor’s standard lease. The lessor delivered the crane, and it was used by the lessee for two months. The lessee sent a letter to the lessor that purported to enclose a PO; however, the PO was not enclosed. The lessor then mailed copies of its lease to the lessee requesting payment. The lessee responded in writing that it did not accept the terms of the lease and that the whole agreement between the parties was contained in the PO. The lessee then stated that internal policy prevented it from paying for the crane without a signed PO and sent its PO to the lessor. The lessor signed the PO “subject to our lease # 03190.” All of which raises a central question:
Was there, at this time, a meeting of the minds of the parties as to the terms of the equipment rental?
C. APPLICABLE LAW.
Construction contracts are service contracts that are governed by the common law of contracts and other applicable statutory material (e.g., prompt payment acts, mechanics’ lien laws, etc.). Article 2 of the Uniform Commercial Code (UCC), as adopted in North and South Carolina applies to the sale of goods, but not to service contracts. In fact, considering the difference between “goods,” and the protracted duties assumed under a construction contract, Article 2 of the UCC may be unsuitable for service contracts. A lease is a transaction in goods, but title to the goods is not transferred, and a “sale” as contemplated by the UCC does not occur. UCC Article 2, therefore, does not apply to equipment leases, except by analogy.
Article 2A of the UCC, however, does apply to lease transactions. It is based on the Uniform Personal Property Leasing Act (1985) and includes sections formerly in UCC Article 9 on secured transactions regarding personal property leases used as security in lease-to-purchase agreements. Parts of Article 2A apply only to “consumer leases” and are not applicable to construction equipment leasing. Other parts of Article 2A, however, do apply to equipment leases.
D. CONTRACT FORMATION UNDER COMMON LAW: Mirror images and last shots.
Assume the equipment lessor sends a form lease to the potential lessee (GC or subcontractor). Under common law, the sending of the lease is an offer. There is no contract unless and until the offer is accepted. Under common law, the acceptance must match the offer exactly. This is sometimes called the mirror image rule. An acceptance that differs materially from the offer, however, is not acceptance. Rather, it is a counteroffer, and a counteroffer is a rejection in that it puts the power to form a contract back with the original offeror (lessor).
For example, the lessor sends a form lease with general conditions. The lessee responds with a form purchase order with general conditions that differ materially from those in the form lease. Is there a contract? No. The first offer has been rejected. The lessor has the power of acceptance as to the counteroffer, but the lessee’s power to accept the original offer is terminated. If, instead of accepting the counteroffer, the lessor returns the form lease or materially modifies the counteroffer, the parties have begun a battle of the forms; i.e., forms are exchanged until someone gives up and signs, or someone begins performance (e.g., by accepting payment with the tendered counterclaim). In the event of a dispute, the general rule is that the last shot rules; in other words, the last form sent before performance controls the terms of the agreement. The mirror image rule, the last shot rule and the resulting battle of the forms have all been criticized by the legal and business communities as likely to produce a contract to which neither party has actually consented.
The common law of contracting is summarized in the Restatement (Second) Contracts (1981). The Restatement includes several provisions that are directly relevant to equipment leasing but are rarely mentioned in a conventional battle of the forms analysis. Restatement § 202 (4) provides:
Where an agreement involves repeated occasions for performance by either party with knowledge of the nature of the performance and opportunity for objection to it by the other, any course of performance accepted or acquiesced in without objection is given great weight in the interpretation of the agreement.
The negotiation of equipment leases is exactly the kind of situation that Restatement § 202(4) addresses. The parties may have worked together on other projects. The parties may be leasing many pieces of equipment for a single project. In either case, prior performance and course of dealing will be relevant to the resolution of any disputes. For example, if the lessor signed the lessee’s PO on some but not all of the leases, and did not specifically object to it when presented, then there is strong support for the lessee’s position that the PO applies to all leases.
Restatement § 205 provides that “Every contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement.” In this context, “good faith and fair dealing” is defined as honesty in fact. This does not foreclose hard bargaining, but it should prevent openly deceptive practices.
Restatement § 206 provides that a contract document be interpreted against the draftsman; i.e., against the party who supplied the words or from whom a writing otherwise proceeds. This rule would apply to all form contracts whether a lease or a purchase order, but it generally applies only to the interpretation of ambiguous terms.
Restatement § 211 applies specifically to standardized (form) agreements:
- Except as stated in Subsection (3), where a party to an agreement signs or otherwise manifests asset to a writing and has reason to believe that like writings are regularly used to embody terms of agreements of the same type, he adopts the writing as an integrated agreement with respect to the terms included in the writing.
- Such a writing is interpreted wherever reasonable as treating alike all those similarly situated, without regard to their knowledge or understanding of the standard terms of the writing.
- Where the other party has reason to believe that the party manifesting such assent would not do so if he knew that the writing contained a particular term, the term is not part of the agreement.
Section 211 works two ways: (1) a party signing a form contract is charged with knowledge of the terms in the form; (2) but, if the offeror knows that the offeree is unaware that an objectionable term is included in the form, that objectionable term is not part of the agreement. The purpose of § 211 is to prevent the offeror from taking advantage of the offeree.
A typical “battle of the forms” analysis generally assumes that the parties are not having oral discussions. This is possible in today’s world of electronic communication, in which hand- modified documents can be scanned and exchanged many times over the course of a day. On the other hand, oral communication between the parties may occur and may be relevant to the interpretation of the resulting agreement, or it may modify a written contract. Further, in the event that the parties never reach an agreement, equity would protect the equipment lessor by providing a recovery in quantum meruit; i.e., for a reasonable value of the goods and services provided. Quantum meruit is also called unjust enrichment; that is, an equity court will prevent a party using the equipment of another from being unjustly enriched thereby.
E. THE UCC APPROACH: A contract with no agreement.
UCC § 2-207 represents the effort of many scholars over many years to eliminate the common law “battle of the forms”:
§ 2-207. Additional Terms in Acceptance or Confirmation.
- 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.
The additional terms are to be construed as proposals for addition to the contract. Between merchants such terms become part of the contract unless:
- the offer expressly limits acceptance to the terms of the offer;
- they materially alter it; or
- notification of objection to them has already been given or is given within a reasonable time after notice of them is received.
- 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 Act.
The official comments to the UCC indicate that § 2-207 was intended to clarify two situations: (1) when the document confirming an oral agreement adds terms that were not previously agreed to; and (2) when the forms exchanged are inconsistent. In the second instance, which is characteristic of leases and purchase orders crossing in the email, the additional terms are incorporated unless they materially alter the agreement. Once performance has begun, there is a contract that consists of the exchanged documents to which both parties agree. The failure of UCC § 2-207 to meet either goal satisfactorily has been noted. If UCC § 2-207 applied to equipment leases, paragraph 3 would still not resolve a material conflict between the lessor’s lease form and the lessee’s PO. A dispute over paying for costs of repair, for example, would probably remain in limbo as an issue on which the parties failed to agree. In short, UCC § 2-207, even if applied by analogy, does not provide a predictable legal backstop when the parties to the lease transaction fail to agree. In such a case, courts would have little choice but to resort to the “last shot” rule – with all its shortcomings – or to basic principles of equity and unjust enrichment.
UCC Article 2A applies to “any transaction, regardless of form, that creates a lease.” The Official Comment states: “This Article governs transactions as diverse as the lease of a hand tool to an individual for a few hours and the leveraged lease of a complex line of industrial equipment to a multi-national organization for a number of years.” The Forward to Article 2A is even broader:
Article 2A will apply to transactions involving billions of dollars annually. It will apply to consumer’s rental of automobiles or do-it-yourself equipment, on the one hand, and to leases of such items as commercial aircraft (to the extent not preempted by federal law) and industrial machinery, on the other. The text recognizes the differences between consumer and business leasing, while resting upon concepts that apply generally to any personal property lease transactions.
Article 2A does not have a provision analogous to UCC Art. 2-207. It does, however, have its own parole evidence rule:
§ 2A- 202: Terms with respect to which the confirmatory memoranda of the parties agree or which are otherwise set forth in a writing intended by the parties as a final expression of their agreement with respect to such terms as are included therein may not be contradicted by evidence of any prior agreement or of a contemporaneous oral agreement but may be explained or supplemented:
- By course of dealing or usage of trade or by course of performance; and
- By evidence of consistent additional terms unless the court finds the writing to have been intended also as a complete and exclusive statement of the terms of the agreement.
Article 2A also allows course of performance or practical construction to be used in interpreting a lease contract:
§ 2A-207. Course of Performance or Practical Construction.
- If a lease contract involves repeated occasions for performance by either party with knowledge of the nature of the performance and opportunity for objection to it by the other any course of performance accepted or acquiesced in without objection is relevant to determine the meaning of the lease agreement.
- The express terms of a lease agreement and any course of performance, as well as any course of dealing and usage of trade, must be construed whenever reasonable as consistent with each other; but if that construction is unreasonable, express terms control course of performance, course of performance controls both course of dealing and usage of trade, and course of dealing controls usage of trade.
UCC Article 2A, however, does not eliminate the “battle of forms” except by analogy with UCC Art. 2-207.
So, what happened in the Essex Crane case and the issues it raised regarding the negotiation of equipment leases? The court faced a confusing (but not atypical) set of facts and the choice of applying the UCC by analogy or not. After much consideration, the court decided to apply the UCC and held, on motion for summary judgment, that the lessee’s performance (payment) after receipt of the PO signed “subject to our lease # 03190” established the lease as the full and only contract between the parties. As can always happen with litigation, however, the court’s reasoning was in vain. The U.S. Ninth Circuit Court of Appeals reversed the opinion on the ground that issues of fact precluded summary judgment. Specifically, the court remanded the case for a determination as to whether the lessor had created apparent authority in its agent that would make the handwritten memo (“no lease”) an offer capable of acceptance. It is obvious who lost the case. It is not obvious who won. The law is like that sometimes.
F. CONCLUSION: There is no legal substitute for a clear agreement.
Equipment leases for construction projects are often negotiated quickly and with an exchange of forms and confirming memoranda that may be confusing as to what the parties have actually agreed. Unfortunately, the law does not provide a clear path for resolving disputes that may arise between lessor and lessee. The law will not write a contract for parties who have failed to agree. The common law “last shot” rule may bind the parties to a result to which neither consented. UCC 2-207 may recognize a contract that lacks the terms that really matter. And, UCC 2A- 202 and 207 will allow testimony of additional terms, course of performance and practical construction, but without any assurance of a result other than the frustration and cost of litigation. Leasing equipment for the construction project is, therefore, a matter that deserves close attention to detail as forms are exchanged. There is no substitute for a clear agreement. An experienced, dedicated equipment manager is essential to the well-organized construction project. At the same time, a legal review at the time of leasing may save a lot of money when the project is being closed out.