Zapata Hermanos v. Hearthside Baking Co ( 2002 )

In the
United States Court of Appeals
For the Seventh Circuit
____________
Nos. 01-3402, 02-1867, 02-1915
ZAPATA HERMANOS SUCESORES, S.A.,
Plaintiff-Appellee,
v.
HEARTHSIDE BAKING COMPANY, INC.,
d/b/a MAURICE LENELL COOKY COMPANY,
Defendant-Appellant.
____________
Appeals from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 99 C 4040—Milton I. Shadur, Judge.
____________
ARGUED SEPTEMBER 13, 2002—DECIDED NOVEMBER 19, 2002
____________
Before POSNER, DIANE P. WOOD, and EVANS, Circuit Judges.
POSNER, Circuit Judge. Zapata, a Mexican corporation that
supplied Lenell, a U.S. wholesale baker of cookies, with
cookie tins, sued Lenell for breach of contract and won. The
district judge ordered Lenell to pay Zapata $550,000 in at-
torneys’ fees. From that order, which the judge based both
on a provision of the Convention on Contracts for the In-
ternational Sale of Goods, Jan. 1, 1988, 15 U.S.C. App., and
on the inherent authority of the courts to punish the con-
duct of litigation in bad faith, Lenell appeals.
2 Nos. 01-3402, 02-1867, 02-1915
The Convention, of which both the U.S. and Mexico are
signatories, provides, as its name indicates, remedies for
breach of international contracts for the sale of goods.
Zapata brought suit under the Convention for money due
under 110 invoices, amounting to some $900,000 (we round
liberally), and also sought prejudgment interest plus at-
torneys’ fees, which it contended are “losses” within the
meaning of the Convention and are therefore an automat-
ic entitlement of a plaintiff who prevails in a suit under
the Convention. At the close of the evidence in a one-week
trial, the judge granted judgment as a matter of law for
Zapata on 93 of the 110 invoices, totaling $850,000. Zapata’s
claim for money due under the remaining invoices was
submitted to the jury, which found in favor of Lenell. Lenell
had filed several counterclaims; the judge dismissed some
of them and the jury ruled for Zapata on the others. The
jury also awarded Zapata $350,000 in prejudgment inter-
est with respect to the 93 invoices with respect to which
Zapata had prevailed, and the judge then tacked on the
attorneys’ fees—the entire attorneys’ fees that Zapata had
incurred during the litigation.
Article 74 of the Convention provides that “damages
for breach of contract by one party consist of a sum equal
to the loss, including loss of profit, suffered by the other
party as a consequence of the breach,” provided the con-
sequence was foreseeable at the time the contract was
made. Article 7(2) provides that “questions concerning
matters governed by this Convention which are not ex-
pressly settled in it are to be settled in conformity with the
general principles on which it is based or, in the absence
of such principles, in conformity with the law applicable
by virtue of the rules of private international law [i.e., con-
flicts of law rules].” There is no suggestion in the back-
ground of the Convention or the cases under it that “loss”
Nos. 01-3402, 02-1867, 02-1915 3
was intended to include attorneys’ fees, but no suggestion
to the contrary either. Nevertheless it seems apparent that
“loss” does not include attorneys’ fees incurred in the liti-
gation of a suit for breach of contract, though certain pre-
litigation legal expenditures, for example expenditures
designed to mitigate the plaintiff’s damages, would proba-
bly be covered as “incidental” damages. Sorenson v. Fio
Rito, 413 N.E.2d 47, 50-52 (Ill. App. 1980); cf. Tull v. Gun-
dersons, Inc., 709 P.2d 940, 946 (Colo. 1985); Restatement
(Second) of Contracts § 347, comment c (1981).
The Convention is about contracts, not about procedure.
The principles for determining when a losing party must
reimburse the winner for the latter’s expense of litigation
are usually not a part of a substantive body of law, such
as contract law, but a part of procedural law. For ex-
ample, the “American rule,” that the winner must bear his
own litigation expenses, and the “English rule” (followed
in most other countries as well), that he is entitled to
reimbursement, are rules of general applicability. They
are not field-specific. There are, however, numerous ex-
ceptions to the principle that provisions regarding attor-
neys’ fees are part of general procedure law. For example,
federal antidiscrimination, antitrust, copyright, pension,
and securities laws all contain field-specific provisions
modifying the American rule (as do many other field-
specific statutes). An international convention on contract
law could do the same. But not only is the question of
attorneys’ fees not “expressly settled” in the Convention,
it is not even mentioned. And there are no “principles” that
can be drawn out of the provisions of the Convention
for determining whether “loss” includes attorneys’ fees;
so by the terms of the Convention itself the matter must be
left to domestic law (i.e., the law picked out by “the rules
of private international law,” which means the rules gov-
erning choice of law in international legal disputes).
4 Nos. 01-3402, 02-1867, 02-1915
U.S. contract law is different from, say, French contract
law, and the general U.S. rule on attorneys’ fee shifting
(the “American rule”) is different from the French rule
(loser pays). But no one would say that French con-
tract law differs from U.S. because the winner of a con-
tract suit in France is entitled to be reimbursed by the
loser, and in the U.S. not. That’s an important difference
but not a contract-law difference. It is a difference result-
ing from differing procedural rules of general applicability.
The interpretation of “loss” for which Zapata contends
would produce anomalies, which is another reason to re-
ject the interpretation. On Zapata’s view the prevailing
plaintiff in a suit under the Convention would (though
presumably subject to the general contract duty to mitigate
damages, to which we referred earlier) get his attorneys’
fees reimbursed more or less automatically (the reason for
the “more or less” qualification will become evident in
a moment). But what if the defendant won? Could he
invoke the domestic law, if as is likely other than in the
United States that law entitled either side that wins to
reimbursement of his fees by the loser? Well, if so, could
the plaintiff waive his right to attorneys’ fees under the
Convention in favor of domestic law, which might be
more or less generous than Article 74, since Article 74
requires that any loss must, to be recoverable, be foresee-
able, which beyond some level attorneys’ fees, though
reasonable ex post, might not be? And how likely is it
that the United States would have signed the Convention
had it thought that in doing so it was abandoning the
hallowed American rule? To the vast majority of the
signatories of the Convention, being nations in which loser
pays is the rule anyway, the question whether “loss”
includes attorneys’ fees would have held little interest; there
is no reason to suppose they thought about the question
at all.
Nos. 01-3402, 02-1867, 02-1915 5
For these reasons, we conclude that “loss” in Article 74
does not include attorneys’ fees, and we move on to the
question of a district court’s inherent authority to punish
a litigant or the litigant’s lawyers for litigating in bad
faith. The district judge made clear that he was basing
his award of attorneys’ fees to Zapata in part on his indig-
nation at Lenell’s having failed to pay money conceded
to be owed to Zapata. Although the precise amount was
in dispute, Lenell concedes that it owed Zapata at least
half of the $1.2 million that Zapata obtained in dam-
ages (not counting the attorneys’ fees) and prejudgment
interest. Lenell had no excuse for not paying that amount,
and this upset the judge.
Firms should pay their debts when they have no legal
defense to them. Pacta sunt servanda, as the saying goes
(“contracts are to be obeyed”). In the civil law (that is,
the legal regime of Continental Europe), this principle is
taken very seriously, as illustrated by the fact that the
civil law grants specific performance in breach of con-
tract cases as a matter of course. But under the common
law (including the common law of Illinois, which is the
law that choice of law principles make applicable in this
case to any issues not covered in express terms by the
Convention), a breach of contract is not considered wrong-
ful activity in the sense that a tort or a crime is wrongful.
When we delve for reasons, we encounter Holmes’s argu-
ment that practically speaking the duty created by a con-
tract is really just to perform or pay damages, for only if
damages are inadequate relief in the particular circum-
stances of the case will specific performance be ordered.
In other words, and subject to the qualification just men-
tioned, the entire practical effect of signing a contract is
that by doing so one obtains an option to break it. The
damages one must pay for breaking the contract are sim-
ply the price if the option is exercised. See Oliver Wendell
6 Nos. 01-3402, 02-1867, 02-1915
Holmes, Jr., The Common Law 300-02 (1881); Holmes, “The
Path of the Law,” 10 Harv. L. Rev. 457, 462 (1897).
Why such lenity? Perhaps because breach of contract is
a form of strict liability. Many breaches are involuntary
and so inapt occasions for punishment. Even deliberate
breaches are not necessarily culpable, as they may en-
able an improvement in efficiency—suppose Lenell had
a contract to take a certain quantity of tins from Zapata
and found that it could buy them for half the price
from someone else. Some breaches of contract, it is true,
are not only deliberate but culpable, and maybe this
was one—Lenell offers no excuse for failing to pay for
tins that it had taken delivery of and presumably resold
with its cookies in them. Refusing to pay the contract
price after the other party has performed is not the kind
of option that the performing party would willingly have
granted when the contract was negotiated. The option of
which Holmes spoke was the option not to perform be-
cause performance was impossible or because some more
valuable use of the resources required for performance
arose after the contract was signed. Zapata argues, more-
over, perhaps correctly (we need not decide), that Lenell
refused to pay in an effort to extract a favorable modifica-
tion of the terms of the parties’ dealings, which would
be a form of duress if Zapata somehow lacked an effec-
tive legal remedy. Professional Service Network, Inc. v. Amer-
ican Alliance Holding Co., 238 F.3d 897, 900-01 (7th Cir. 2001);
Alaska Packers’ Ass’n v. Domenico, 117 Fed. 99, 100-04 (9th
Cir. 1902). But Zapata did not charge duress, and probably
couldn’t, since it had a good remedy—this suit.
It is true that nowadays common law courts will some-
times award punitive damages for breach of contract in
bad faith. But outside the field of insurance, where refus-
als in bad faith to indemnify or defend have long been
punishable by awards of punitive damages to the insured,
Nos. 01-3402, 02-1867, 02-1915 7
the plaintiff must show that the breach of contract involved
tortious misconduct, such as duress or fraud or abuse of
fiduciary duty. See, e.g., Miller Brewing Co. v. Best Beers
of Bloomington, Inc., 608 N.E.2d 975, 982-83 (Ind. 1993);
Story v. City of Bozeman, 791 P.2d 767, 776 (Mont. 1990);
E. Allan Farnsworth, Contracts § 12.8, pp. 788-89 (3d ed.
1999). This is the rule in Illinois, Morrow v. L.A. Goldschmidt
Associates, Inc., 492 N.E.2d 181, 183-86 (Ill. 1986), and Zapata
has not tried to come within it. For that matter, it did not
ask for punitive damages, and the judge had no authority
to award attorneys’ fees in lieu of such damages. He
could not have awarded punitive damages if Zapata had
asked for them but had been unable to prove tortious
misconduct by Lenell, and even more clearly he could not
award them when they had not been requested.
The decision whether punitive damages shall be a sanc-
tion for a breach of contract is an issue of substantive
law, and under the Erie doctrine a federal court is not
authorized to apply a different substantive law of con-
tracts in a diversity case from the law that a state court
would apply were the case being litigated in a state
court instead. And obviously that rule must not be cir-
cumvented by renaming punitive damages “attorneys’
fees.” United States ex rel. Treat Bros. Co. v. Fidelity & Deposit
Co. of Maryland, 986 F.2d 1110, 1119-20 (7th Cir. 1993);
see also Chambers v. NASCO, Inc., 501 U.S. 32, 52-55
(1991); Association of Flight Attendants, AFL-CIO v. Horizon
Air Industries, Inc., 976 F.2d 541, 548-50 (9th Cir. 1992). It
is true that this is not a diversity case, but the Erie doc-
trine applies to any case in which state law supplies the
rule of decision, see, e.g., O’Melveny & Myers v. FDIC, 512
U.S. 79, 83-85, 87-88 (1994), here by incorporation in the
Convention.
The inherent authority of federal courts to punish mis-
conduct before them is not a grant of authority to do
8 Nos. 01-3402, 02-1867, 02-1915
good, rectify shortcomings of the common law (as by
using an award of attorneys’ fees to make up for an ab-
sence that the judge may deem regrettable of punitive
damages for certain breaches of contract), or undermine the
American rule on the award of attorneys’ fees to the prevail-
ing party in the absence of statute. Morganroth & Morganroth
v. DeLorean, 213 F.3d 1301, 1318 (10th Cir. 2000); Association
of Flight Attendants, AFL-CIO v. Horizon Air Industries,
Inc., supra, 976 F.2d at 548-50 (9th Cir. 1992); Shimman v.
International Union of Operating Engineers, Local 18, 744
F.2d 1226, 1232-33 and n. 9 (6th Cir. 1984) (en banc). These
cases and others we could cite make clear that it is a
residual authority, to be exercised sparingly, to punish
misconduct (1) occurring in the litigation itself, not in
the events giving rise to the litigation (for then the pun-
ishment would be a product of substantive law—designed,
for example, to deter breaches of contract), and (2) not
adequately dealt with by other rules, most pertinently
here Rules 11 and 37 of the Federal Rules of Civil Proce-
dure, which Lenell has not been accused of violating.
Insofar as he focused on Lenell’s behavior in the litiga-
tion itself, which, to repeat, is the only lawful domain of
the relevant concept of “inherent authority”—the authority
could not constitutionally be extended to give parties
remedies not available to them under the law of the
state that furnishes the substantive rules of decision in
the case—the judge punished Lenell for having failed to
acknowledge liability and spare Zapata and the judge and
the jury and the witnesses and so on the burden of a trial.
But as it happens, the fault here was in no small measure
the judge’s. Well before the trial, and long, long before
Zapata’s lawyers had run the tab up to $550,000, they
had moved for partial summary judgment, claiming that
Lenell in answer to Zapata’s requests for admission had
acknowledged liability for $858,000 of the $890,000 sought
Nos. 01-3402, 02-1867, 02-1915 9
in the complaint. The judge had denied the motion on
the ground that partial summary judgment cannot be
granted unless the grant would give rise to an appealable
judgment. This was error. Rule 56(d) of the civil rules is
explicit in allowing the judge to grant summary judgment
on less than the plaintiff’s whole claim, and there is no
hint of any requirement that the grant carve at a joint
that would permit the judge to enter a final judgment
under Rule 54(b). If the plaintiff had two separate claims,
and the judge granted summary judgment on one and set
the other for trial, he could also if he wanted enter final
judgment on the first dismissal, enabling the defendant
to appeal immediately under Rule 54(b). If instead the
plaintiff had as here one claim, and the judge granted it
in part, the defendant could not appeal—the conditions
of Rule 54(b) would not be satisfied—yet it is evident from
the wording of Rule 56(d) that this would be a proper
partial summary judgment, for the rule expressly author-
izes an order “specifying the facts that appear without
substantial controversy, including the extent to which the
amount of damages or other relief is not in controversy.” No
purpose would be served by confining the rule as the
district judge did. If anything, judicial economy is better
served by a partial summary judgment that is not ap-
pealable, since a Rule 54(b) appeal normally interrupts the
proceedings in the district court.
Since the challenged award of $550,000 in attorneys’ fees
cannot stand, we need not pick through the record to see
whether some of the counterclaims or other moves by
Zapata during the trial were sanctionable apart from Rule
11 and Rule 37. But it may be useful by way of guiding
further proceedings on remand to point out that to the
extent that those rules place limits on the award of sanc-
tions under them (for example by the provision of safe
harbors in Rule 11), those limitations are equally limita-
10 Nos. 01-3402, 02-1867, 02-1915
tions on inherent authority, which may not be used to
amend the rules. Kovilic Construction Co. v. Missbrenner, 106
F.3d 768, 772-73 (7th Cir. 1997). For federal rules of pro-
cedure have the force of statutes. See id.; 28 U.S.C. § 2072(b).
One issue remains for discussion. Although we have
treated the appeal so far as if the only issues concerned
attorneys’ fees, Lenell also argues that the jury verdict
should be set aside because the judge by his comments
in open court signaled to the jury his scorn for Lenell’s
case. There were only a couple of such comments (many
more, however, at sidebars outside the jury’s hearing),
and we do not think they could have changed the out-
come. But we also think that judges should be very cau-
tious about making comments in the hearing of a jury
about the quality of a party’s case or lawyers. For if he
signals to the jury the judge’s opinion as to how the case
should be decided, he undermines the authority of the
jury. Collins v. Kibort, 143 F.3d 331, 336 (7th Cir. 1998);
Nationwide Mutual Fire Ins. Co. v. Ford Motor Co., 174
F.3d 801, 805, 808 (6th Cir. 1999); see also Ross v. Black &
Decker, Inc., 977 F.2d 1178, 1187 (7th Cir. 1992).
From what we have just reported about the judge’s
statements during the trial and from the tone of a number
of other statements that he made in the course of this
litigation, we think it best that the further proceedings
that we are ordering be conducted before a different judge,
in accordance with 7th Cir. R. 36.
REVERSED AND REMANDED.
Nos. 01-3402, 02-1867, 02-1915 11
A true Copy:
Teste:
_____________________________
Clerk of the United States Court of
Appeals for the Seventh Circuit
USCA-02-C-0072—11-19-02