Contract Law: Third Party Rights, E-Contracts & Damages

Third-Party Beneficiary Rights: New York's Leading Decisions

Judge Hiram Grey of the Court of Appeals of New York adjudged the case of Lawrence v. Fox in 1859. The case concerned Mr. Holly, who lent $300 to Mr. Fox on the condition that Fox would repay the money to Mr. Lawrence the very next day, as Holly owed Lawrence that sum. What followed, however, was quite different. Fox chose to ignore the verbal promise he had made to Holly and did not repay Lawrence, following which Holly filed a case against Fox for breaking his word. Fox argued that the oral statement of a bystander could not be treated as a binding testimony in a court of law, and that his promise to Holly was not supported by consideration. He further argued that Lawrence could lay no claim to the $300 because Lawrence had never been in a contract with Fox himself.

This argument captured the attention of the judge and gave rise to the doctrine that a third party may indeed enforce a contract made for his own benefit. Thus, Lawrence v. Fox became a classic case in contract law. The traditional principle holding trustees liable to beneficiaries was upheld through a common-law analysis, and Judge Grey applied it in an entirely new manner to reach the conclusion that a third party could hold a contracting party to a promise made for that third party's benefit. The ruling was well ahead of its time and has remained the basis for third-party beneficiary law to this day.

In HR Moch Inc. v. Rensselaer Water Co. (1928), adjudged by Benjamin N. Cardozo, the court built upon the foundation of Lawrence v. Fox. The case involved a breach of contract between a water company and a city. The water company had contracted to supply the city with water for various uses, including firefighting. When a fire broke out at the warehouse of HR Moch Inc. and destroyed the building and its contents, the owner sued the water company for breach of its contract with the city, arguing that insufficient water had been made available. The court ruled, however, that the warehouse owner could not invoke the contract between the city and the water supply company. Liability to third parties was therefore limited, and the concept of a "trivial reward" was introduced to define that boundary.

These two cases together — Lawrence v. Fox and HR Moch Inc. v. Rensselaer Water Co. — serve as the lower and upper limits of third-party beneficiary rights. Whereas one granted a third party the benefit of a verbal contract, the other denied that a third party could hold a contracting party liable. This is what makes them conceptual "bookends": distant from each other in outcome, yet together defining the full scope of the doctrine.

Professional Liability Without Privity

The question of professional liability without privity became paramount in Ultramares Corp. v. Touche, also adjudged by Benjamin N. Cardozo. The case involved a money-lending agency, Ultramares, which lent money to Fred Stern & Co. against a financial statement of that company. Fred Stern subsequently engaged the auditing firm Touche, Niven and Co. to prepare an auditing statement, which he then presented to Ultramares — without Touche's knowledge that a third party would rely upon it. Stern had falsified his books, rendering Touche's statement incorrect. When Stern defaulted on his loan and filed for bankruptcy, Touche was brought to court for presenting a false statement of accounts. Justice Cardozo ruled that, although Touche had been negligent, no action could be taken against the firm due to a lack of privity — there was no contract between Touche and Ultramares, and Touche was therefore not answerable to Ultramares.

A contrasting outcome arose in Glanzer v. Shepard, in which Judge Cardozo also played a significant role. A bean seller retained public weighers to weigh a shipment of beans and required them to produce a weight certificate for the buyers. The certificate was falsified and the buyers suffered a loss. The Court of Appeals found that the weighers were aware that the buyers would rely on the certificate and would suffer a loss if it were falsified. This knowledge made the weighers responsible for their actions, despite the absence of privity between them and the buyers. The Glanzer v. Shepard decision established that some duty of care may attach even without a direct contractual relationship, where the professional knows that a specific third party will rely on the work product.

In Credit Alliance Corp. v. Arthur Anderson & Co., Credit Alliance, a financial services company, offered loans against a financial statement prepared by Arthur Anderson & Co. for a particular borrower. The firm did not perform thorough due diligence, and when the borrower filed for bankruptcy, Credit Alliance sued Anderson, arguing that the firm had known its work was intended to support a loan application from their company. Anderson denied this, and the case was dismissed on the ground that there was no privity between the two companies, leaving Anderson not liable for the borrower's default.

These three cases — Ultramares, Glanzer, and Credit Alliance — together shaped landmark decisions regarding professional liability without privity. The Glanzer case established that a duty of care could be imposed on professionals who know a specific third party will be harmed by their misrepresentation, even absent a direct contract. These cases remain important precedents concerning misrepresentation and the absence of privity of contract.

In Rodin Properties — Shore Mall v. Ullman, Shore Mall builders borrowed $49 million from Rodin Investors. The firm Cushman and Wakefield appraised the financial situation, and the loan was granted on the basis of that appraisal. When Shore Mall defaulted, Rodin argued that Cushman and Wakefield had breached its obligations to a party for whose benefit the appraisal had been prepared, and that the appraisal had been materially falsified. The Supreme Court initially ruled that Cushman and Wakefield was not guilty. However, the Appellate Division reversed this decision, finding that the firm had indeed misrepresented the facts, and holding that when a third party relies on a professional opinion in order to take action, the professional will be answerable for any misrepresentation. The authors of the relevant article conclude that lenders should include provisions in loan agreements expressly holding third-party professionals responsible, as this both provides lenders an additional avenue of recourse and incentivizes professionals to perform their work more carefully.