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Wednesday, March 14, 2012

Privity and the Ties that Bind...

As a business owner myself, I completely understand the frustration of not getting paid! Or, still better -- being the sub-contractor on business contracts that for reasons not related to your conduct, the prime does not get paid, and so YOU don't get paid.

We at Hanover Law are business lawyers (among other things!). Payment is often the number one reason why clients come to us with business disputes, and the first discussion Hanover Law has with them -- are you in privity?

As a concept, privity stems from the root word "privy" meaning, "to be a party to". Privity developed as a formal legal doctrine in the mid-1800's in England as an attempt to define why, without consideration, a third-party had no rights in a contract (i.e. "privity" was the term coined to describe this state). While there are some clear exceptions to the rule of privity, essentially, the original meaning still stands.

An example of "in privity" would be:
ABC Company signs a contract with Parent Company to produce 1000 widgets. ABC fails to produce the widgets, so Parent company refuses to pay. ABC sues Parent claiming their failure to perform was caused by negligence on the part of Parent.

This example has both Parent and ABC in privity of contract (i.e. parties to the contract) and, as such, each party may correctly bring action to enforce the terms or agreements stipulated in the contract, or bring action in equity or at-law for damages stemming from a breach.

An example of "no privity" would be:
ABC Company signs a contract with Parent Company to produce 1000 widgets. Florida Firm completes the widget order and sends the product to Parent Company per instructions from ABC. Parent Company decides NOT to pay ABC Company for a non-defenseable reason. ABC Company fails to pay Florida Firm, siting Parent's failure to pay ABC, but refuses to sue Parent Company for fear of losing future business. Florida Firm sues Parent Company to make them pay because ABC Company won't.

While Parent Company and ABC are still in privity, Florida Firm is NOT in privity with Parent Company. Therefore, a suit by Florida Firm against Parent Company fails.

Frequently, privity problems create very awkward situations. In the case of the example above, it is completely reasonable to assume that Florida Firm had a good and long term working relationship with ABC Company. However, if Florida Firm can't sue Parent Company for not paying -- who must they sue? You got it -- they must sue ABC, the company with which they DO have a contract. This creates tense situations between long-time suppliers and trusted accounts. If Florida Firm sues ABC, then ABC would have to sue Parent Company to get the money back they owe Florida Firm.

Follow the paper! The trick to understanding privity is to follow the business contracts. With whom does each party have a written agreement? While this is not always the only indication of privity, it is an excellent starting point. To claim a breach of contract, you must show privity. Generally, to show privity, you must show a contract between your company and the individual or firm that breached the contract.

It is possible to use the concept of privity as a defense in a tort action (specifically negligence). However, most jurisdictions have depreciated this use, citing to the standard established by Judge Cardonozo in the early 20th century where conduct that is "foreseeable" as effecting this plaintiff is sufficient to overcome the burden of privity (the test is a little more complicated, but is but summarized as "foreseeable plaintiff").

If you are currently under contract and have a dispute, let us help! We're business lawyers. Get a business attorney on your side. You may reach us at 703-402-2723. We're happy to help, and your first call is always free.

Sean R. Hanover, Esq
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