Caudill v. Prophet21

Citation: Caudill Seed & Warehouse Co. v. Prophet 21, Inc., 123 F.Supp.2d 826 (E.D. Pa. 2000), on reconsideration, 126 F.Supp.2d 937 (E.D. Pa. 2001).

Senior District Judge Lowell Reed examined in detail the scope of U.C.C. §2-719, as set out in 13 Pa.C.S.A. § 2719, ruled that a software licensee stated a valid claim by saying in its complaint that (a) the software didn't work, (b) the developer didn't fix it, and (c) it had to obtain working software elsewhere. He ruled that the limitation of liability and exclusive remedy clauses in the license were inapplicable to the alleged facts.

The limitation of liability clause in the license agreement is standard, providing that Prophet 21 will not be liable for


 * [direct damages|direct]], indirect, consequential or resulting damages or injury due to failure of, or otherwise arising out of the Software. . . . LICENSEE'S SOLE AND EXCLUSIVE REMEDY FOR ANY FAILURE OF THE SOFTWARE SHALL BE THE WARRANTIES CONTAINED HEREIN AND THESE ARE IN LIEU OF ANY AND ALL OTHER WARRANTIES.


 * Warranties of merchantability and fitness for a particular purpose are disclaimed, and damages limited to the cost of the software.

The warranty clause provides


 * Prophet warrants that … (ii) the software shall operate in conformity with the then current documentation; (iii) if the licensed Software fails to function in accordance with this Documentation, Prophet 21 will, for a period of one year from the date of shipment, without charge to Licensee, make all corrections required to make the Software operate. The Licensee is responsible for sending evidence of the nonconformity to Prophet 21. Prophet 21 will respond by finding the cause of the nonconformity and correcting the same.

Section § 2719(b) states, “Where circumstances cause an exclusive or limited remedy to fail of its essential purpose, remedy may be had as provided in this title.” The comment to this section says, “Where an apparently fair and reasonable clause because of circumstances fails in its purpose or operates to deprive either party of the substantial value of its bargain, it must give way to the general remedy provisions of this Article.”

In refusing to dismiss the complaint, the court held


 * [t]he exclusive remedy here involved the repair or replacement of defective software, and plaintiff alleges that the software was never repaired or replaced because of the negligent, reckless, or intentional misconduct of Prophet 21. Drawing all inferences in favor of the plaintiff, as required by law, . . . I conclude that Caudill has stated a claim that the exclusive remedy for breach of warranty in the licensing agreement . . . failed in its essential purpose, and therefore, the limitation of liability clause does not operate to defeat all of plaintiff's claims.” In a footnote, Judge Reed says, “Caudill has stated a claim for breach of express warranty.

The court then turned to Caudill's contention “that because the only remedy available in the agreement has failed in its essential purpose, the damages disclaimer fails as well and Caudill is entitled [to] the full range of damages available under the U.C.C., including compensatory and consequential damages.”

The parties have stumbled into a legal quagmire that has divided courts across the nation. . . whether the failure of an exclusive remedy referenced in a limitation on liability clause should result in the mooting of the remaining limitations of liability, including damage disclaimers. In other words, is a limitation on liability clause a house of cards that collapses when the exclusive remedy is removed?

There being no Pennsylvania court decisions directly on this question, Judge Reed then examined two Third Circuit cases that interpreted the identical language in New Jersey and Wisconsin statutes. The former was the celebrated Chatlos Systems, Inc. v. National Cash Register Corp., which predicted that New Jersey would hold “that failure of an exclusive remedy provision did not also invalidate a damage disclaimer similar to the one at issue in this case.” The latter was Ragen Corp. v. Kearney & Trecker Corp., also involving computer hardware, and predicted that Wisconsin “would hold that the failure of the exclusive remedy rendered the damage disclaimer inoperative.”

Noting that federal district courts in the Third Circuit have generally favored the Chatlos approach, Judge Reed strongly disagreed:


 * First of all, the conclusion flies in the face of the language of the Pennsylvania Commercial Code, which states, “Where circumstances cause an exclusive or limited remedy to fail of its essential purpose, remedy may be had as provided in this title.” [citing §2719] That means that when an exclusive remedy fails, a buyer may seek the entire range of remedies available under the UCC . . . including consequential damages, if proven. . . . [I]n stating that a remedies available under the UCC when an exclusive remedy fails of in its essential purpose, the drafters of the UCC implicitly instructed that the damages disclaimer has no force when an exclusive remedy fails. . . . The courts adhering to the Chatlos line of reasoning would leave the buyer defenseless, essentially holding that a limitation on liability clause constitutes unilateral disarmament on the part of the buyer. I believe that outcome to be unreasonable. Such a reading leaves the buyer completely at the mercy of the seller, because the buyer's only remedy is the seller's assurances that it will repair or replace.

Predicting that the Supreme Court of Pennsylvania would reach the same conclusion, he wrote that “because I conclude that plaintiff Caudill has adequately stated a claim that defendant's conduct resulted in the failure of the essential purpose of the software licensing agreement, Caudill may, at this stage, seek the full range of damages available under the UCC, including consequential and incidental damages.”

The Court dismissed two counts, one for breach of implied warranty because it directly contravened that limitation of liability clause, and a second for fraud, which he ruled was just the contract counts in different language.

On the motion for reconsideration, Judge Reed again ruled against the defendant on breach of express warranty. Prophet 21 claimed that because Caudill alleged that the software did not work in conformity with Prophet 21's “representations,” and did not use the word “Documentation” in its pleading, the count should be dismissed. Not so said the court: “The word ‘representations' is inclusive of any ‘documentation’ provided by Prophet 212 to the plaintiff, including technical manuals, online documents, and other documents delivered with the software.”

Similarly, defendant argued that because plaintiff's claim for damages beyond the limitation of liability in the agreement did not “specifically allege that the exclusive remedy clause ‘failed in its essential purpose,”’ plaintiff's only remedy was the repair or replacement provision of the license. Again, “defendants demand far more than the Federal Rules of Civil Procedure do.”

However, in view of a recent Third Circuit decision applying Pennsylvania law, Judge Reed dismissed a “claim for the breach of duty of good faith and fair dealing.”