Copyright (c) 2011 All rights reserved. http://works.bepress.com/adam_b_badawi Recent documents in Adam B. Badawi en-us Mon, 03 Jan 2011 13:29:39 PST 3600 http://works.bepress.com/adam_b_badawi/3 http://works.bepress.com/adam_b_badawi/3 Wed, 16 Sep 2009 10:53:14 PDT The literature on contract theory expects parties to use incentive mechanisms that minimize the costs of verifying breach in court if these mechanisms can effectively deter breach. This paper tests this hypothesis about relational governance in the context of franchising, an organizational form that provides parties with a suite of governance choices that span the range from those that require little or no verification to those that entail expensive and uncertain litigation. While relational governance options may be inexpensive, they may not be as effective as using incentives that require enforcement of written contracts, such as the threat of contract damages for breach. Using a newly collected dataset of franchise contracts, this paper documents and quantifies the tradeoffs between relational governance and contract enforcement. The empirical evidence provides support for the theory that when franchisors can use relational governance to police the behavior of franchisees they are willing to forego credible threats of damages, as measured by the presence of liquidated damages terms in contracts. Adam B. Badawi http://works.bepress.com/adam_b_badawi/2 http://works.bepress.com/adam_b_badawi/2 Wed, 16 Sep 2009 10:51:19 PDT A recent movement in contracts scholarship—the so-called New Formalism—seeks to justify limitations on the introduction of extrinsic evidence to interpret contracts on the instrumental grounds of efficiency and empirical observation. Less attention has been directed at the development of a similar instrumental argument for the more contextual types of interpretation observed in the Uniform Commercial Code and the Restatement (Second) of Contracts. This Article engages this question by arguing that the relative ability of transactors to draft complete contracts is likely to be an important determinant of their preferred interpretive regime. Where low contracting costs allow commercial parties to draft relatively complete contracts, it is understandable that these parties would have a strong preference for formal contract rules. This approach may best ensure the interpretation of these contracts in accordance with their express terms. But when contracts are more difficult to write—and hence contain more gaps—transactors may prefer interpretive rules that allow courts to fill in contractual gaps based on extrinsic evidence such as industry custom, unexecuted drafts, and other indications of the parties’ understanding of their obligations under the contract. At least in some instances, the use of this ex post evidence may be more cost effective relative to the ex ante investments that would be necessary to draft more complete contracts. To explore this problem, this Article adapts the framework used to predict vertical integration in the New Institutional Economics literature to identify the variables that are likely to affect the ability to draft complete contracts. This adapted model argues that the frequency and uncertainty of a transaction are the key variables that will determine the amount that parties are likely to invest in filling contractual gaps. The predictions generated by this model help to explain why some transactors, such as the grain, cotton, and diamond merchants studied by Lisa Bernstein, have strong preferences for formal interpretation. The model also suggests why industries that involve infrequent and uncertain transactions—such as construction, tailored software, and the market for mergers and acquisitions—do not share the preference for formal interpretation advocated and observed by the New Formalists. Adam B. Badawi http://works.bepress.com/adam_b_badawi/1 http://works.bepress.com/adam_b_badawi/1 Wed, 16 Sep 2009 10:49:01 PDT Prohibitions on contract are a common technique for achieving desired policy outcomes. By deeming certain bargains unlawful or contrary to public policy, judges and other policy actors expect to prevent some of the harm that these contracts can create. The presumptive remedy used to accomplish this goal is non-enforcement—which leaves the parties in the position that courts find them. But the standards that govern whether to impose this stern remedy do not place third-party harm at the forefront of the analysis. Consequently, the current framework can underdeter harmful contracts and overdeter contracts that may be harmless. These effects can be exacerbated, moreover, by the pervasive ambiguity that accompanies many contract restrictions. Parties may fear the forfeitures that non-enforcement can impose even when they believe quite strongly that a contemplated contract would be held to be legal.This Article examines this potential for underdeterrence and overdeterrence by analyzing the incentives that different remedies provide and the relationship of those incentives to the prevention of harm. While non-enforcement has a unique ability to deter, it should not enjoy the status of a presumptive rule—rather its use should be tied to the prevention of harm. Courts should be particularly wary of applying the non-enforcement remedy when ambiguity has the potential to amplify the concerns of overdeterrence. This analysis thus suggests a reformed framework that can minimize some of the problems with the current approach.Such a framework would expressly acknowledge ex ante expectations about ambiguity and harm in the analysis of potentially illegal contracts. Recognizing these concerns can diminish the disincentive to innovate and the underdeterrence of harm that the current regime promotes. Examples from the regulation of professional licensing and practice and restrictions on trade with rogue nations show how the proposed framework can lead to better outcomes. Adam B. Badawi