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					                                                                                     CHAPTER 15
                                                                                      ILLEGALITY

I.     OBJECTIVES:
       This chapter is designed to teach students about the circumstances under which a contract is
       unenforceable because it violates public policy. After reading the chapter and attending class, a
       student should be able to:
       A. Understand and explain the concept of illegality as the term is used in contract law.
           1. Explain the rationale for refusing to enforce contracts on the ground of violation of
               public policy.
           2. Explain how courts determine whether a contract is illegal.
       B. Describe typical contracts that are frequently declared void by statute (e.g., wagering
           agreements).
       C. Explain and give examples of contracts that violate statutes.
           1. Describe the status of contracts to commit illegal acts and contracts that promote illegal
               acts.
           2. Describe the standards used to determine whether contracts in which a party agrees to
               perform some regulated activity for which he is not licensed.
       D. Understand that courts have the power to declare public policy and to refuse to enforce a
           contract that violates a court-declared public policy.
           1. State the standards used to determine whether a contract clause that restricts competition
               or controls other post-employment conduct will be determined to be illegal.
           2. Understand the nature of exculpatory clauses and describe the standards used to
               determine whether an exculpatory clause will be enforced.
       E. Explain the concept of unconscionability, describe the factors that are considered in
           determining whether a contract is unconscionable, and explain the consequences of
           unconscionability.
       F. Understand and explain the implications of contracts of adhesion.
       G. State the effect of a court's determination that a contract is illegal and describe the situations
           in which a party may be able to obtain some remedy even though a contract has been
           determined to be illegal.

II.    ANSWER TO INTRODUCTORY PROBLEM
       A. Yes. This problem is based on an actual case, Wilson v. Kealakekua Ranch, Ltd., 551 P.2d
          525 (Hawaii 1976). The court there ruled for Wilson on the ground that the fee aspect of the
          statute was a revenue raising rather than a regulatory measure. The court therefore
          concluded that the annual fee provision of the statute was not intended to protect the public
          and that it is unlikely that the legislature intended unenforceability of contracts.
       B. Yes. The licensing requirements are designed for the protection of the public. A contract in
          violation of a regulatory statute will not be enforced.
       C. Yes. It must pay him the sum agreed upon because the contract was valid. However, if
          Wilson had never been a licensed architect, the court could refuse to give Wilson any
          remedy.

III.   SUGGESTIONS FOR LECTURE PREPARATION:
       A. Introduction


170                                                                                     Chapter 15: Illegality
           1. Discuss the meaning of "illegality" in contract law and explain that "illegal" often means
              that the contract is against public policy rather than that the contract is a violation of the
              criminal law.
              Straub v. B.M.T. (p. 323): Agreement made between an unmarried couple, in advance of
              a child‟s conception, that mother would not hold the father either financially or
              emotionally responsible for the child was held to be against public policy and
              unenforceable.
              Points for Discussion: This case demonstrates that individuals‟ freedom of contract is
              always subject to courts‟ power to declare and enforce public policy. Why should
              financial responsibility for a child be a matter about which parents cannot enter into a
              binding contract, especially in advance of the child’s conception when one of the parents
              wants to have a child and the other doesn‟t? What policies are most influential in the
              court‟s decision here, the father’s duty to support the child or the inability of the parents
              to contract away the rights of a third party, their child? Would the policies cited by the
              court negate a mother‟s promise not to hold a sperm donor financially liable for the
              child‟s support? What is the significance of the fact that Straub had an ongoing
              relationship with Todd? Would Straub have any claim under promissory estoppel here?
           2. Explain that when a contract is held to be illegal, courts generally refuse to enforce it
              even if it was a clear, voluntary agreement between individuals who had capacity to
              contract and was supported by consideration.
           3. Explain that this area of contract law involves the weighing of competing public policies
              (the public policies that favor allowing people to order their own relationships through
              contracts vs. other public policies that may be adversely affected by the contract).
           4. Note the different functions courts engage in when they determine whether a contract
              was illegal (interpreting statutes, weighing the strength of various policies, declaring
              policies of their own creation).
              a. Convey that the decision to hold a contract illegal is not a "knee jerk" reaction every
                  time a contract interferes with a public policy. Courts will consider the extent of
                  interference with the public interest, even when one of the parties has violated a
                  statute. The case about the fertilizer supplier cited as a text example, Amoco Oil Co.
                  v. Toppert, 56 Ill. App. 3d 595, 371 N.E.2d 1294 (1978), is a good example. Note
                  that in that case the seller had already supplied the fertilizer and the buyers allegedly
                  owed the sellers $55,000 plus interest. In such a case, would public policy really be
                  served by permitting the buyers such a windfall because the seller had failed to
                  comply with a technical statutory requirement?
        B. Agreements in Violation of Statutes
           1. Agreements Declared Illegal by Statute
              a. Discuss usury statutes, Sunday laws, and wagering statutes. Make it clear that these
                  statutes vary from jurisdiction to jurisdiction. Note that Sunday laws are not nearly
                  as prevalent as they once were, and that most states have made substantial in-roads
                  on their Sunday laws. It is also worthwhile to distinguish wagering agreements from
                  legal agreements relating to uncertain events, such as stock transactions and
                  risk-shifting agreements.
                  Example: Pepsi Cola Bottling Co. of Luverne, Inc. v. Coca-Cola Bottling Co.,
                  Andalusia, 534 So. 2d 295 (Ala. 1988) (soft drink bottling company's instant cash
                  game was not a lottery).
           2. Agreements in Violation of Public Policy Manifested in Statute

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      a. Discuss how public policy may be manifested in a statute, even though the statute
         does not expressly address the validity of contracts. A good example would be a
         statute providing criminal penalties for acting as a real estate broker without a
         license. The statute forbids certain conduct on pain of criminal liability, but may not
         tell us what should happen if an unlicensed person contracts to act as a real estate
         broker. It is up to the court to determine whether either of the parties should be able
         to obtain a remedy if the contract is breached.
         Example: Problem Case #6.
      b. As an example of a contract that was held to be illegal because it violated the public
         policy of several state statutes, see In the Matter of Baby M, 109 N.J. 396 (1987).
      c. Discuss the status of contracts to commit crimes and torts and contracts that are legal
         on their faces but which promote crimes or torts.
      d. Discuss the status of contracts involving violations of licensing laws. Discuss how
         the nature of the public interest protected by the statute will determine the outcome
         of the case to a large extent. Distinguish regulatory statutes from revenue raising
         statutes; give examples of each. Make the point that avoiding forfeiture is also
         important.
         Bergantzel v. Mlynarik (p. 326): A non-lawyer hired to help an accident victim
         negotiate with insurance companies and possibly an attorney was not entitled to
         recover the unpaid portion of her fee because she was engaged in the unauthorized
         practice of law. The court found that the attorney licensing statutes are regulatory
         measures and that the acts that Bergantzel promised to do amounted to the practice
         of law because it involved the exercise of professional judgment.
         Points for Discussion: Why is it challenging to develop a clear definition of the
         practice of law? What other jobs, professions, and even products involve the
         application of legal knowledge? You might want to discuss some of the recent
         instances involving questions whether “do it yourself”-type legal books and software
         involve the unauthorized practice of law. See a story about the Texas Bar‟s concerns
         about Nolo‟s Living Trust Maker at http://www.nolo.com/texas/index.cfm and
         Parsons Technology‟s Quicken Family Lawyer at
         http://www.nolo.com/texas/parsons.html. Is it fair that Bergantzel did what she
         promised to do, yet will not get paid for it? If so, what is the justification for this
         result?
         Examples: Contrast Problem Case #3 with the Introductory Problem.
      e. Sometimes the degree of forfeiture would be so large in comparison to the relatively
         minor public policy at risk that the court will enforce a contract that violates a
         regulatory statute. Most regulatory licensing statutes provide for some criminal-type
         penalty, such as a fine, for violation of the statute. A court may determine that that
         statutory penalty is sufficient to deter and punish violations of the statute, and that
         the further sanction of refusal to enforce the contract is superfluous.
         Example: Lavine Construction Co. v. Johnson, 101 Ill. App. 3d 817, 428 N.E.2d
         1069 (1981). There, a contractor who was obligated to perform building and
         electrical services hired a subcontractor to do the electrical work. The subcontractor
         failed to obtain a permit for electrical work from the City of Chicago. The electrical
         work accounted for $221 of the $5,700 contract price. The homeowner refused to
         sign a completion certificate and pay the contract price, challenging the contract on
         the ground of illegality. The court construed the ordinance requiring the permit as

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                  not implicitly prohibiting the enforcement of contracts entered into without such
                  permits.
            3. Contracts in Violation of Public Policy as Declared by Courts
               a. Note that courts have traditionally had broad powers to declare public policy. Before
                  the recent "age of codification," courts often had the primary responsibility of doing
                  so, at least with respect to determining what contracts would be enforced. (A good
                  example of this is the policy against restraints on competition, which was originally
                  developed by courts, but is now reflected in federal and state antitrust legislation).
               b. Discuss how public policy changes with changing social, economic, and
                  technological climates. For example, ask the class how they think courts would have
                  treated contracts between unmarried cohabitants 50 years ago.
               c. Discuss the policy favoring free competition. Illustrate some contracts that might
                  restrain competition. Give some examples of ancillary covenants not to compete, and
                  show how they can be valuable business tools as well as very limiting to employees
                  and others who sign them. Discuss the standards for determining whether a
                  no-compete will be enforced. Ask why the clauses are scrutinized more thoroughly in
                  employment contracts than in contracts for the sale of businesses. Log-On (p. 331)
                  provides some references to articles that students can read if they want to learn more
                  about non-competes.
                  Jay’s Custom Stringing v. Yu (p. 329): A company that customizes rackets for
                  professional tennis players and operates a concierge service was unable to enforce a
                  non-compete with a racket stringer, where the non-compete purported to restrict
                  competition in any of the employer‟s activities “anywhere on earth.” The court held
                  that the agreement was overbroad in both its territory and its activity restrictions.
                  Points for Discussion: Which of the post-employment restrictions discussed in the
                  text are exemplified by the agreement between Jay‟s and Yu? What is Jay‟s rationale
                  for the “anywhere on earth” restriction? Why doesn‟t the court agree that this
                  rationale justifies the worldwide restriction? What is the relevance of the fact that
                  some of the information Jay‟s claims as a “trade secret” wasn‟t really kept secret?
                  What is the significance of the fact that Jay‟s was also involved in the retail, travel,
                  and concierge businesses? Why did the court refuse to use the “blue pencil”
                  approach and reform the agreement to make it reasonable?
                  Additional Examples: Problem Cases #1 and 5 and Cukjati v. Burkett, 772 S.W.2d
                  215 (Ct. App. Tex. 1989) (veterinarian was not engaged in a "common calling"; non-
                  competition agreement in employment contract was nevertheless unreasonable and
                  unenforceable). .
               d. Discuss exculpatory clauses, giving examples of the circumstances in which they are
                  often used. Tell why they are vulnerable to attack on public policy grounds. Explain
                  the standards that are used to determine whether an exculpatory clause will be
                  upheld.
                  Leon v. Family Fitness Center (p332): Leon joined the Family Fitness Center and
                  signed a lengthy, small-print contract that contained an exculpatory clause. Leon was
                  injured when a sauna bench on which he was lying collapsed under him. He brought
                  a tort action against Family Fitness Center, and Family Fitness Center asserted the
                  exculpatory clause as a defense. The court held that the clause was not enforceable
                  because it was not easily readable. It also noted that Leon did not assume the risk of
                  the defective sauna bench, as that was not a known risk.

Business Law: The Ethical, Global, and E-Commerce Environment, 12E                                    173
            Points for Discussion: What is the relationship between an exculpatory clause and
            the tort concept of assumption of risk? To what extent did Family Fitness Center‟s
            contract comply with the relevant California statute? Could this case be argued as an
            unconscionability case? According to the court‟s opinion, what must a contract
            drafter who wants an exculpatory clause to be enforceable do? Consider having the
            class work in small groups to “re-draft” the contract to comply with the court‟s
            opinion, then have groups exchange drafts and critique the other group‟s draft.
            Additional Examples: Problem Cases #8 and 9.
      4. Unfairness in Contracts: Unconscionability and Contracts of Adhesion
         a. Note that classical contract law did not normally concern itself with the fairness of a
            contract, so long as the contract was not induced by fraud, misrepresentation, duress,
            mistake, or undue influence. Discuss how this rule served the purposes of
            predictability/stability (one could count on his deal being enforced) and how it
            permitted businesses to shift many of the risks that they created.
         b. Point out that the doctrine of unconscionability is a significant departure from the
            posture taken by classical contract law toward fairness in contracts. Why would
            modern courts be more willing to evaluate the fairness of a contract than courts were
            100 years ago? (Possible answers: increased use of form contracts, disparity of
            bargaining power, less interest in protecting capital of business today than in early
            days of industrialization).
         c. Discuss the provisions of UCC 2-302. Note how the definition of unconscionability
            is left open.
         d. Discuss the meaning of unconscionability. Give examples of the procedural and
            substantive aspects of unconscionability.
            Ramirez v. Circuit City Stores, Inc. (p. 337): When Ramirez applied for a job with
            Circuit City, he signed an application form that included a very detailed arbitration
            clause. Ramirez later brought a class action suit against Circuit City for California
            Labor Code violations, and Circuit City filed a petition to compel arbitration
            proceedings. The opinion concerns the issue whether the arbitration agreement was
            enforceable. The court held the arbitration agreement to be unconscionable and
            unenforceable.
            Points for Discussion: Does this case indicate that all arbitration clauses in
            standardized contracts are unconscionable? What about this agreement set it apart
            from most arbitration agreements? What was the procedural unconscionability here?
            What was the substantive unconscionability? Does the result in this case make for
            good public policy? How can a business like Circuit City enhance the chances that
            its arbitration agreements will be enforceable?
            Examples: Problem Cases # 7 and 10.
         e. Note that unconscionability is primarily a consumer doctrine, but it has been used by
            some commercial parties, such as those who are in an inherently dependent position
            (e.g., franchisees) and small businesses who were relatively disadvantaged in their
            knowledge and bargaining power.
            Example: Problem Case #10.
         f. Note how the concept of unconscionability has been adopted by courts in many cases
            outside the reach of Article 2 of the UCC (e.g., landlord-tenant relationships).



174                                                                            Chapter 15: Illegality
                  Example: Weaver v. American Oil Co., 276 N.E.2d 144 (Ind. 1971) (exculpatory
                  clauses in service station lease declared to be unconscionable--great facts for
                  discussion).
              g. Discuss the consequences of a finding of unconscionability.
              h. Discuss the meaning and effect of contracts of adhesion. Note that a contract of
                  adhesion can be conceptualized as a particular type of unconscionable contract.
                  Contracts of adhesion may be analyzed using the language of unconscionability as
                  well as, in some situations, the concept that offers include only those terms that the
                  offeree has reason to know of.
                  Example: Problem Cases #2 and 7.
              i. Ethics in Action (p. 339): This question is based on Murphy v. McNamara, 416 A.2d
                  170 (Conn. Super. Ct. 1979). There, the court emphasized the inequality of
                  bargaining power here and the unconscionably high sales price. It stated that, “[a]n
                  agreement for the sale of consumer goods entered into with a consumer having
                  unequal bargaining power and which calls for an unconscionable purchase price,
                  constitutes an unfair trade practice.” The ethical issues raised by McNamara‟s Rent
                  to Own plan would focus on a stronger party taking advantage of its greater
                  sophistication and bargaining power to obtain a contract that it could not have
                  obtained with a party of equal sophistication and bargaining power. It would seem
                  that McNamara‟s disclosure of the total contract price would resolve the problem of
                  taking advantage of Murphy‟s lack of sophistication. On the other hand, it is
                  desirable for individuals to act responsibly for their own protection, and allowing
                  parties to avoid doing so does not encourage personal responsibility on the part of
                  contracting parties.
        C. The Effect of Illegality
           1. Discuss the general rule of "hands-off-illegal bargains." What purpose does such a rule
              serve?
              Example: Problem Cases #4 and 6.
           2. Discuss the exceptions to the "hands-off" rule.

IV.     RECOMMENDED REFERENCES:
        A. E. ALLAN FARNSWORTH, CONTRACTS (3rd ed. 1998).
        B. Arthur Alan Leff, Unconscionability and the Code--The Emperor's New Clause, 115 U. PA.
           L. REV. 485 (1967).
        C. James C. Koslowski, Liability Waivers and Releases Overview: Can You Say
           “Exculpatory?” http://classweb.gmu.edu/jkozlows/p&r396.htm

V.      ANSWERS TO PROBLEMS AND PROBLEM CASES:
        1. No. The court found that “the one-year duration of EarthWeb's restrictive covenant is too
           long given the dynamic nature of this industry, its lack of geographical borders, and
           Schlack's former cutting-edge position with EarthWeb where his success depended on
           keeping abreast of daily changes in content on the Internet.” It also determined that Schlack‟s
           position was not sufficiently unique and extraordinary to justify the restrictions. Finally, the
           court stated that Schlack‟s employment had not exposed him to any information that would
           rise to the level of a trade secret. Earthweb, Inc. v. Schlack. 71 F. Supp. 2d 299 (S.D.N.Y.
           1999), aff’d, 2000 U.S. App. LEXIS 11446 (2d Cir. 2000).

Business Law: The Ethical, Global, and E-Commerce Environment, 12E                                     175
      2. No. The court stated that “[t]he form is a standardized contract offered to Broemmer on a
         „take it or leave it‟ basis. In addition to removing from the courts any potential dispute
         concerning fees or services, the drafter inserted additional terms potentially advantageous to
         itself requiring that any arbitrator appointed by the American Arbitration Association be a
         licensed medical doctor specializing in obstetrics/gynecology. The contract was not
         negotiated but was, instead, prepared by Abortion Services and presented to Broemmer as a
         condition of treatment.” The contract terms were beyond the reasonable contemplation of
         Broemmer, who was under a great deal of stress and was not experienced in commercial
         matters. Broemmer v. Abortion Services of Phoenix, Ltd., 840 P.2d 1013 (Sup. Ct. Ariz.
         1992).
      3. No. Arizona law conditions an action for unpaid work on proper licensure. This is done to
         protect the public from unscrupulous or unqualified contractors. Crowe was not licensed
         when the contract was made or when performance was begun, and it does not matter that he
         was later licensed. The court stated that, “the statute requiring a contractor to possess a
         contractor‟s license before he may recover for work done was designed for the protection of
         the public and must not be defeated in order to accommodate one who has violated the
         provisions of the statute. Permitting an unlicensed contractor to recover on the ground that a
         loss would result to him otherwise would completely nullify the statute since every
         unlicensed contractor would sustain a loss or forfeiture unless he were allowed recovery.”
         Crowe v. Hickman’s Egg Ranch, 41 P.3d 651 (Ariz. Ct. App. 2002).
      4. No. The court stated that a "basic principle of contract law is that agreements to commit a
         crime are illegal, void." Courts will not order damages for the breach of such contracts, so
         even if it were postulated that the judge breached a contract with Strickland, Strickland
         "would be devoid of legal means of recovering whatever money he paid for the sought
         performance of an illegal act." State v. Strickland, 400 A.2d 451 (Md. Ct. Spec. App. 1979).
      5. No. Because the employer operated the type of business where repeat customers were
         unlikely, there is no proprietary interest in its part in any “stock of customers” and their good
         will. Thus, Steamatic had no legitimate interest to be protected. Without such an interest,
         noncompetition agreements are unenforceable. Rhea's surreptitious conduct in removing his
         papers from Steamatic's files was determined to be irrelevant. Steamatic of Kansas City, Inc.
         v. Rhea, 763 S.W.2d 190 (Mo. Ct. App. 1988).
      6. No. The court decided that the agreement was “nothing more than an attempt by each of the
         five lottery ticket-holders to increase his or her odds of winning some portion of the Florida
         lottery. Stated differently,…the agreement…was that Dickerson would pay the plaintiffs a
         sum of money upon the happening of an uncertain event over which no party had control,
         that is, upon Dickerson‟s ticket winning the Florida lottery.” As such, the court held that it
         was founded on a gambling consideration, and was therefore, void. Dickerson v. Deno, 770
         So. 2d 63 (Sup. Ct. Ala. 2000).
      7. No. The court noted that contracts of adhesion are not per se unenforceable, but they do open
         up the question of whether the “weaker party consented to the fine print, and if so whether
         the adhesionary clause is unduly burdensome or extremely harsh.” The court said that even
         if this contract were a contract of adhesion, the plaintiff should not prevail because there was
         no small print in the contract or any question that the purchaser know or should have known
         about the extra ticket provision. It also concluded that the extra ticket provision was not so
         burdensome as to be unconscionable. Gilbert v. Andry, 2002 La. App. LEXIS 1744 (La. Ct.
         App. 2002).
      8. No. Benjamin‟s argument was that the release was unenforceable because it did not specify
         the exact risks he was releasing. However, the court pointed out that the release here did

176                                                                                  Chapter 15: Illegality
            relieve Gear of liability “caused or alleged to be caused in whole or in part by the negligence
            of the releasee.” Therefore, the court stated, “the release did expressly release liability
            caused by its own negligence.” In addition, Benjamin was an experienced skater who was
            familiar with the risks of roller hockey. He was also a lawyer, who understood the meaning
            of the language of the release. Thus, it was a valid release of claims based on Gear‟s
            negligence. Benjamin v. Gear Roller Hockey Equipment, Inc., 11 P.3d 421 (Ariz. Ct. App.
            2000).
        9. Yes. The court decided that this was not a case in which the party benefited by the clause
            owed a duty to the public. The agreement did not involve a disparity of bargaining power,
            and it was fairly executed. In addition, the clause was clear and unambiguous. For these
            reasons, it was enforceable. Milligan v. Big Valley Corporation, 754 P.2d 1063 (Sup. Ct.
            Wyo. 1988).
        10. Yes. The court examined two issues: (1) the relative bargaining power of the parties, their
            relative economic strength, and the alternative sources of supply; and (2) whether the
            challenged term was substantively reasonable. The court noted that a last-minute cancellation
            in this type of agreement "places the seller in the untenable position of absorbing the loss or
            negotiating with the buyer to accept the goods at a reduced price." The buyers in this
            industry were the "big sharks" and had the ability to impose such terms on sellers. The court
            concluded that there was sufficient evidence to support the trial court's judgment that the
            contract was unconscionable. Gianni Sport Ltd. v. Gantos, Inc., 391 N.W.2d 760 (Mich. Ct.
            App. 1986).

IV.     ONLINE RESEARCH: EXAMPLES OF NON-COMPETES AND EXCULPATORY
        AGREEMENTS
        Using key word searches such as “non-compete” and “release AND sample,” students should be
        able to find a number of examples. Some examples of non-competes can be found at
        http://www.ilrg.com/forms/nocompet.html and
        http://www.alllaw.com/forms/employment/employee_non-compete/. Some examples of
        exculpatory clauses can be found at https://www.caring-products.com/swim_release.htm,
        http://www.horse-insurance.com/rol.doc, and http://www.mcfyp.org/pdf/s7.PDF.




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