Battle On The Bench

Author:Mr Victor Metsch
Profession:Smith Gambrell & Russell LLP

Our legal system operates on the expectation that there is a rule of law that stands as a clear and unambiguous guidepost for retrospectively judging the conduct of our personal and business affairs. However, that assumption is regularly and routinely tested by the fact that our judges often cannot agree on the application of the law to an undisputed and finite set of facts.

A recent decision by the Appellate Division in Wyle Inc. v. ITT Corp., 2015 NY Slip Op 05877 (decided on July 7, 2015), illustrates the enigma where the three-judge majority (Mazzarelli, J.P., DeGrasse and Mazonet-Daniels, J.J.) and the lone dissenter (Moskowitz, J.J.) emphatically debated and categorically disagreed on the legal standard to be applied to the undisputed documentary facts.

The First Department majority held that Supreme Court "properly concluded that the [plaintiff's] fraudulent inducement claim was not duplicative of the breach of contract claim". However, the dissent countered that:

The issue presented in this case is far less clear cut than the majority memorandum would suggest. In fact, when considering whether a misrepresentation of a contractual warranty can sufficiently support a separate cause of action for fraud, or whether the allegation of a fraudulent misrepresentation merely duplicates a claim for breach of contract, this Court has reached different results depending on the specific facts presented. Because I believe that under the applicable line of cases, the misrepresentation here supports a claim for breach of contract but not a separate claim for fraud, I respectfully dissent.

The facts of the case were set forth in the dissent:

This action arises from alleged misrepresentations by defendant ITT Corporation in connection with its sale of nonparty CAS, Inc. to plaintiffs Wyle Inc. and Wyle Services Corporation (collectively, Wyle). According to the allegations in the complaint, ITT acquired CAS's parent company, nonparty EDO Corporation, but planned to sell CAS, as CAS was not profitable for ITT's business.

CAS, a defense contractor, provided engineering, scientific, and technical services to the federal government, and earned most of its revenue through defense contracts with the government. Payment for CAS's work under its contracts with the federal government was governed by a Professional Engineering Services schedule (PES schedule), which CAS negotiated with the government's General Services Administration (GSA). A PES schedule set forth the basic terms and conditions, including pricing and rate ceilings, by which the federal government was permitted to buy commercial products and services from companies holding the PES schedule. PES schedules generally had a defined period of performance, and gave the GSA the option to extend the period. Further, the GSA had the right to audit the PES schedules and adjust the rates set forth in them. Although contracting officers from the GSA usually performed the audits, the GSA's Office of Inspector General (OIG) would occasionally become involved. Audits by the OIG typically resulted in rate reductions, and therefore negatively affected the profitability of a contractor's business.

Plaintiff alleges that in early 2010, the GSA notified CAS that it intended to extend one of CAS's PES schedules, which provided the labor rates for CAS's largest contract with the government. The GSA requested that CAS submit new proposed rates, and CAS did so. On March 1, 2010, the OIG sent CAS a letter apprising CAS that the government had chosen CAS's PES schedule for a "pre-award" audit.

During the OIG audit, Wyle decided to buy CAS. The terms of the sale were memorialized in a Stock Purchase Agreement (SPA), dated August 7, 2010, under which Wyle agreed to pay EDO $235 million to acquire all of CAS's capital stock. Before agreeing to pay the purchase price, however, Wyle insisted that EDO agree to a series of representations allegedly designed to ensure that the potential risks associated with CAS's government contracts were disclosed. According to Wyle, these representations were important because anything that could negatively affect CAS would impair the value of the company.

Thus, Wyle alleged in the complaint, Wyle required EDO to disclose all audits that were ongoing when the parties entered into the contract. Specifically, Article III of the SPA governs "Representations and Warranties of the Seller [i.e., EDO] and the Company [i.e., CAS]." The SPA required EDO and CAS to make certain representations and warranties, including a representation that CAS would disclose whether any of its contracts were under audit as of the date of the SPA. To that end, the SPA stated:

"Section 3.15(c)(v) of the [accompanying] Company Disclosure Schedule lists each Government Contract or Government Bid to which the Company is a party which, to the Company's knowledge, is as of the date hereof under audit by any Governmental Authority or any other Person that is a party to such Government Contract or Government Bid."

EDO, however, allegedly failed to disclose OIG's ongoing audit.

Ultimately, the sale transaction closed on September 8, 2010, without disclosure of the OIG audit. Six months later, on March 4, 2011, GSA announced the results of OIG's audit; the audit resulted in rates lower than CAS had submitted for the new PES schedule and a rate reduction under the then-current PES schedule, which was not due to expire until April 2011. CAS signed the new schedule on March 23, 2011.

In December 2011, after unsuccessful demands for contractual indemnification of the loses arising from EDO's breach of section 3.15(c)(v) of the SPA, Wyle commenced this action, asserting a breach of contract claim for breaching the warranty that required disclosure of the OIG audit, and for refusing to indemnify Wyle for losses caused by that breach. Wyle argued that had it known about the OIG audit, it would have paid less for CAS. By order entered November 14, 2012, the court granted ITT's motion...

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