The following is a case update prepared by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, analyzing a recent decision of interest:
The Fifth Circuit has held that a key condition precedent to a debt buyer’s obligation to perform had not been satisfied, due to the seller’s breach of its representations and warranties; further, the buyer did not have to show that it was materially prejudiced by the seller’s breach. [Conn Credit I, L.P., vs. TF Loanco III, L.L.C., 2018 Westlaw 4292022 (5th Cir.).]
FACTS: A furniture retailer and its financing affiliate entered into an agreement to sell charged-off consumer accounts to a bulk debt buyer. The sale was to take place over a period of time, with blocks of debt to be assigned in separate installments. The master agreement provided that the buyer would be obligated to purchase a given installment “only if” the seller’s representations and warranties were true as of each closing date.
During the course of the relationship, the buyer discovered that the seller had violated state law by withholding required refunds from its retail customers, in breach of its representations and warranties. The buyer refused to continue to purchase the accounts. The seller brought suit. After a bench trial, the district court entered judgment for the seller, finding that the alleged breaches were immaterial.
REASONING: The circuit court reversed, holding first that the buyer’s obligation to perform was subject to a condition precedent. Since the seller’s representations and warranties were false, the buyer had no duty to perform.
The court then held that the trial court erred in imposing a materiality requirement, since there was no Texas state law authority for the proposition that a valid condition precedent is unenforceable where the non-breaching party has not been materially prejudiced by the failure of the condition. Therefore, the buyer did not need to show that it was prejudiced by the seller’s failure to satisfy the condition.
AUTHOR’S COMMENT: This is one of those “man bites dog” opinions: the court strictly enforced a contractual condition precedent. Most courts strain to find that conditions are really covenants in disguise, a result that keeps the contract alive while preserving the parties’ damage remedies. Here, the failure of the condition terminated the deal, and the party invoking the condition did not even have to show that the failure of the condition was materially prejudicial.
As is almost always the case, there were other parts of the agreement that did contain materiality provisions, which enabled the seller to argue that the clause containing the condition precedent should be construed in light of that concept. That “borrowing” argument prevailed at trial but not on appeal. Since it is so rare for courts to strictly enforce conditions based on representations and warranties, might it make sense for a drafter to include a subsection expressly stating that the representations and warranties are not subject to a materiality standard?
These materials were written by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, for his Commercial Finance Newsletter, published weekly on Westlaw. Westlaw holds the copyright on these materials and has permitted the Insolvency Law Committee to reprint them.