By Dr. Gary L. Deel, Ph.D., J.D.
Associate Professor, Dr. Wallace E. Boston School of Business
A legally valid contract requires several important components, including an offer and an acceptance, consideration, capacity, and mutual assent. A presumption of “fairness” tends to underscore the intent and spirit of most legal contracts, but this assumption raises an important question: Do contracts have to be fair in order to be legally enforceable?
Legal Contracts Cannot Be ‘Unconscionable’
Various courts have established that contracts must be minimally fair; at the very least, legal contracts cannot be “unconscionable.” An unconscionable contract is one that is “so one-sided or so unfair that it shocks the conscience,” according to UpCounsel. In this sense, we might look at unconscionability as an extreme degree of unfairness.
But how do we decide when legal contracts are unfair to the point of being unconscionable? For instance, what if there’s a contract where one party simply benefits far more than the other? Suppose, as an example, that Jack agreed to mow Jill’s lawn every week for the next two years in exchange for a one-time payment of five dollars today.
Now, is this contract fair? Most people would probably argue that it isn’t. The value of Jack’s time in mowing Jill’s lawn every week for the next two years is almost certainly more than five dollars. But is it unfair enough to be unconscionable?
According to the Legal Information Institute of Cornell Law School, courts have expounded on the types of circumstances that often support a finding of contractual unconscionability. They include:
- When a contract is unfair or oppressive to one party in a way that suggests abuses during its formation
- When there is evidence of both unfair bargaining and unfair substantive terms
- When there is an absence of meaningful choice by the disadvantaged party
Note that what all of these circumstances have in common is a requirement for some level of unfairness in the bargaining and negotiation process. In other words, it isn’t enough that the exchange of value is lopsided or that the gains and losses of the respective parties are uneven. Instead, there must be some evidence of unfairness or foul play – such as coercion or misrepresentation – in the formation of the contract.
In the contract between Jack and Jill, there is no such evidence. There is no reason to believe that Jack was forced or pressured to agree to the contract’s terms.
Similarly, there is no reason to believe that Jack was tricked into signing the contract through fraud or deceit. In the absence of information to the contrary, we can only assume that Jack and Jill are both adults of sound mind who understood and appreciated the nature of their commitments.
So their agreement, while arguably unfair to Jack, does not meet the standards of “unconscionable.” Instead, it is a legally valid contract.
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The Case of Batfilm Productions v. Warner Brothers and Legal Contracts
This distinction between unfairness and unconscionability may seem trivial. But it has been the focus of serious legal battles, including disputes in the entertainment sector. One such case was the California state court lawsuit, Batfilm Productions v. Warner Brothers.
In 1979, plaintiffs Benjamin Melniker and Michael Uslan acquired the motion picture rights to the “Batman” comic book franchise. And through a series of contractual agreements and subsequent assignments, Melniker and Uslan (and their company Batfilm Productions) courted an arrangement with Warner Brothers Studios to produce three “Batman” films:
- Two live-action films starring actor Michael Keaton – “Batman” and “Batman Returns”
- An animated film, “Batman: Mask of the Phantasm”
According to the contract between Batfilm Productions and Warner Brothers, the plaintiffs were to receive compensation for the film rights through two methods. First, Warner Brothers was required to make several lump-sum payments – some upfront and some deferred to later dates – and ultimately all of these payments were made. Second, the other form of compensation owed to the plaintiffs – and the component over which the dispute at the center of this lawsuit emerges – was a portion of the films’ “net profits.”
No net profits were ever paid to Melniker or Uslan. The explanation that Warner Brothers gave for the lack of payment was that the films never actually generated any “net profits.”
However, the plaintiffs argued that Warner Brothers had used some shady and evasive cost accounting practices in order to show that the films never made a profit and to consequently avoid paying remuneration to Batfilm Productions. The issue before the courts in this lawsuit was whether the way that Warner Brothers defined and calculated “net profits” under the contract could be considered fair and/or conscionable.
In their suit, Melniker and Uslan outlined eight different claims about specific cost accounting considerations, which they argued Warner Brothers improperly manipulated. The details of these eight claims are too complex to be thoroughly explained in this article, but they included production fees, tax and interest allocations, and profit margins on specific revenue lines such as VHS video sales.
The court reviewed each and every one of the eight claims, and they ultimately found Warner Brothers’ practices to be fair. They found the cost estimates for production to be reasonable and the accounting methods to be proper. The court also determined that Warner Brothers’ methods for calculating profits were generally in line with industry standards. Finally, they opined that the circumstances under which Batfilm Productions and Warner Brothers negotiated and formed the contract were free and fair.
The court did note that the contract itself might have been arguably unfair in terms of the exchange of value and the potential for gain or loss in the possible eventualities following production and release of the movies. But there was nothing to suggest that both Batfilm Productions and Warner Brothers were not well-informed and aware of the risks and opportunities at the time they committed to the deal.
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Adhesion Contracts
The court even went so far as to describe the agreement as one of adhesion, which, according to Investopedia, is a contract in which “one party has substantially more power than the other in setting the terms.” However, adhesion contracts are not illegal per se.
Millions of consumers sign off on adhesion contracts every day. For example, whenever you subscribe to a new cable or cell phone provider, there is almost always a standard boilerplate contract that the provider requires you to sign.
And these legal contracts are decidedly not open to revision or negotiation. The provider insists upon the contract to remain as it is in its entirety or there is no deal. But this power imbalance during formation does not automatically mean such legal contracts are unconscionable.
Legal Contracts Generally Give One Party More Power Than the Other
Overall, negotiating power is rarely ever perfectly balanced between any two parties seeking to create a legal agreement with each other. But as long as all parties are informed and free to choose whether or not to make a commitment, power dynamics alone will typically not render a contract invalid or unenforceable.
Crucially, the court in the Batfilm Productions case noted a particularly damning detail that made the plantiffs’ argument that they were victims of underhanded tactics by Warner Brothers hard to swallow. Benjamin Melniker, who served as primary negotiator for Michael Uslan and himself in the agreement with Warner Brothers, previously served as a senior executive and general counsel for a major production studio. In that capacity, Melniker oversaw negotiations and processing for these kinds of movie rights agreements all the time.
In other words, Melniker was a lawyer with significant experience in this specific field of entertainment contract arrangements. So the idea that he could not appreciate the risk and anticipate the potential fallout from this agreement was laughable.
The court noted: “No one is less likely to have been coerced against his will into signing a contract like the Warner Agreement than Mr. Melniker. This former general counsel and senior executive of a major motion picture studio (Metro-Goldwyn-Mayer) knew all the tricks of the trade; he knew inside and out how these contracts work, what they mean, and how they are negotiated.”
In finding for Warner Brothers in this case, the court explained that our societal principles are premised on the idea that both parties to a contract have a duty to understand the nature of their commitments. And they are free to make bad deals and weather the consequences if they fail to honor that duty.
Courts can serve a remedial function when parties are the victims of deliberate trickery, deceit or coercion by others. These are the kinds of circumstances that might make a contract invalid for unconscionability. But to suggest that courts should interfere in a contract whenever one party simply isn’t happy with the outcome of their bargain runs contrary to the values we place around due diligence and personal accountability.
The court noted: “This society, this country, this culture operates on the basis of billions of bargains struck willingly every day by people all across the country in all walks of life. And if any one of those people could have their bargain reexamined after the fact on the ground that it was not fair or on an assertion that it was not fair, we would have a far different type of society than we have now; we would have one that none of the parties to this case would like very much.”
When It Comes to Contracts, Both Parties Should Do Their Due Diligence
The lesson in the Batfilm Productions case is “caveat emptor,” which is Latin for “let the buyer beware.” The bar to proving unconscionability in contracts is a high one to clear, and in the absence of evidence to support such an undertaking, general imbalance in the end game of contract execution is not grounds for judicial intervention.
So do your due diligence and take care to properly vet legal contracts before you make a firm commitment. This action should help you to avoid disappointment and conflict later on.
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