In a Contract Case, Stick to Contract-Based Claims
We’ve written often about two recurring issues in contract disputes that limit a party’s ability to bring a section 75-1.1 claim: the economic-loss rule and “substantial aggravating circumstances.” The economic-loss rule provides that, in most cases, a breach of contract does not give rise to tort claims between contracting parties. The “substantial aggravating circumstances” doctrine holds that a breach of contract cannot support a section 75-1.1 claim unless substantial aggravating circumstances surround the breach.
A recent decision from Judge Robert Conrad, Jr. in the Western District of North Carolina addresses both issues, with stark reminders that tort and section 75-1.1 claims rarely belong in contract disputes between sophisticated businesses.
Invoice Disputes Sever the Connection between IT Companies
Horizon then entered into a Master Services Agreement with CS Technology, Inc. to assign different projects to CS Technology through Statements of Work. The Statements of Work provided details on allowable expenses, as well as establishing pricing for different types of work. Shortly after Horizon and CS Technology agreed on a Statement of Work to perform IT work for Horizon’s customer, CS Technology began working on that project.
The Master Services Agreement required CS Technology to invoice Horizon monthly. Horizon had to pay “correct” invoices within 30 days. If Horizon disputed the content of an invoice, it had to notify CS Technology within 20 days but still pay the undisputed portions of each invoice. The Agreement also required the parties to engage in a collaborative dispute-resolution process for disagreements over invoices.
Horizon disputed charges on several invoices. As required by the Master Services Agreement, Horizon and CS Technology tried to resolve the issues by walking line-by-line through the disputed invoices. After these efforts ended, a CS Technology employee sent an email confirming what he thought the agreed-upon resolution was. He was apparently mistaken, as Horizon continued to dispute significant portions of the invoices.
CS Technology eventually stopped working on the project. Just under a year later, CS Technology sued Horizon for the unpaid invoices. Horizon counterclaimed against CS Technology. Each side asserted claims for breach of contract, fraud, negligent misrepresentation, and section 75-1.1 violations.
Fraud and Negligent-Misrepresentation Claims: Incompatible with Breach-of-Contract Disputes between Sophisticated Businesses
For its fraud and negligent misrepresentation claims, CS Technology claimed that Horizon misrepresented its intent to participate in the contractually required invoice-review process in good faith. At the end of that process, CS Technology alleged that Horizon agreed to pay a specific portion of the disputed invoices, but never did.
Horizon, on the other hand, based its tort claims on allegations that CS Technologies billed for items prohibited by the contract and disguised those improper charges in its invoices.
The court observed that CS Technology and Horizon were “sophisticated, commercial parties” with “detailed contracts” that governed both what could be invoiced and the invoice-review process. Allowing “the parties to pursue tort claims in what is, at its core, a pure contractual dispute would be inconsistent both with North Carolina law and sound commercial practice.” Because the parties’ tort claims concerned performance under and compliance with their contracts, the court held that the economic-loss rule barred those tort claims.
Disguising Improper Charges: Aggravating, But Not Enough for a Section 75-1.1 Claim
The court’s view of the case as a “pure contractual dispute” carried over to its consideration of the section 75-1.1 claims, which centered on the same conduct as the tort claims. The court, however, did not address the economic-loss rule’s impact on the section 75-1.1 claims. As we’ve noted, that rule’s applicability to section 75-1.1 claims is murky.
Instead, the court focused on whether the parties’ conduct could rise to the level of substantial aggravating circumstances needed to support a section 75-1.1 claim. In that analysis, the theme that only breach-of-contract claims belong in contract disputes continued to shine through. Among other quotations, the court recited a memorable passage from the Fourth Circuit’s Broussard decision, bemoaning the fact that section 75-1.1 claims are “boilerplate” in nearly “every complaint based on a commercial or consumer transaction in North Carolina.”
With that background, the court noted that substantial aggravating circumstances typically involve “forged documents, lies, and fraudulent inducements.” Ultimately, the court concluded that none of the conduct underlying the section 75-1.1 claims—including CS Technology’s alleged “disguising” of improper invoice charges—amounted to substantial aggravating circumstances. The decision does not delve into the details of how CS Technology allegedly disguised the improper charges.
If the facts are egregious enough, however, could fraudulent billing practices be substantial aggravating circumstances? Perhaps so, but it would be an uphill battle. A 2016 North Carolina Business Court opinion, Forest2Market, Inc. v. Arcogent, Inc., addresses whether overbilling or concealing improper bills qualifies as substantial aggravating circumstances. That decision, like CS Technology, concluded that it does not. Other decisions, however, have suggested that concealing a breach of contract may amount to substantial aggravating circumstances.
Different Defenses, Common Themes
The policy underlying the economic-loss rule is that bargained-for risk allocations in contracts, not tort claims with open-ended liability, should govern contract disputes. A similar theme underlies the rule that a breach of contract cannot support section 75-1.1 liability—and the treble damages that follow—unless substantial aggravating circumstances exist. These themes were prevalent in the CS Technology decision, which narrowed the case to only contract-based claims.
CS Technology offers a lesson for defending section 75-1.1 claims involving contractual relationships: Raise both the economic-loss rule and lack of substantial aggravating circumstances as defenses. Although these defenses turn on different facts, they share a common theme: that contract disputes should rarely involve extracontractual claims.
Author: Steven Scoggan