Aluminum Co. of America v. Essex Group, Inc.

MEMORANDUM OPINION AND ORDER

Plaintiff, Aluminum Company of America (ALCOA), brought the instant action against defendant, Essex Group, Inc. (Essex), in three counts. The first count requests the Court to reform or equitably adjust an agreement entitled the Molten Metal Agreement entered into between ALCOA and Essex. The second count alleges that the Molten Metal Agreement was modified by oral amendment and that Essex has breached the amended agreement. The second count seeks a declaratory judgment that the alleged breach by Essex excuses ALCOA’s further performance and seeks as well an award of damages caused by the alleged breach of Essex. The third count asks for a declaratory judgment that ALCOA’s prior notice of termination of the Molten Metal Agreement was proper or, in the alternative, that ALCOA may terminate the Molten Metal Agreement if it be determined by this Court to be a contract for the sale of goods. Essex denies all of ALCOA’s material allegations. Essex further counterclaims that ALCOA is liable to it for damages based on ALCOA’s failure to deliver to Essex the amounts of molten metal ALCOA is contractually obligated to deliver under the Molten Metal Agreement and seeks entry of an order specifically enforcing its right to receive molten aluminum from ALCOA in the amounts requested.

Jurisdiction is based upon diversity of citizenship and amount in controversy and is one of the few issues in the case sub judice not in dispute.

In 1966 Essex made a policy decision to expand its participation in the manufacture *56 of aluminum wire products. Thus, beginning in the spring of 1967, ALCOA and Essex negotiated with each other for the purpose of reaching an agreement whereby ALCOA would supply Essex with its long-term needs for aluminum that Essex could use in its manufacturing operations.

By December 26, 1967 the parties had entered into what they designated as a toll conversion service contract known as the Molten Metal Agreement under which Essex would supply ALCOA with alumina which ALCOA would convert by a smelting process into molten aluminum. Under the terms of the Molten Metal Agreement, Essex delivers alumina to ALCOA which ALCOA smelts (or toll converts) into molten aluminum at its Warrick, Indiana, smelting facility. Essex then picks up the molten aluminum for further processing.

The price provisions of the contract contained an escalation formula which indicates that $.03 per pound of the original price escalates in accordance with changes in the Wholesale Price Index-Industrial Commodities (WPI) and $.03 per pound escalates in accordance with an index based on the average hourly labor rates paid to ALCOA employees at the Warrick plant. The portion of the pricing formula which is in issue in this case under counts one and two is the production charge which is escalated by the WPI. ALCOA contends that this charge was intended by the parties to reflect actual changes in the cost of the non-labor items utilized by ALCOA in the production of aluminum from alumina at its Warrick, Indiana smelting plant. In count one of this suit ALCOA asserts that the WPI used in the Molten Metal Agreement was in fact incapable of reasonably reflecting changes in the non-labor costs at ALCOA’s Warrick, Indiana smelting plant and has in fact failed to so reflect such changes.

It is ALCOA’s contention in count one of its complaint that the shared objectives of the parties with respect to the use of the WPI have been completely and totally frustrated, that both ALCOA and Essex made a mutual mistake of fact in agreeing to use the WPI to escalate non-labor costs at Warrick. ALCOA is seeking reformation or equitable adjustment of the Molten Metal Agreement so that pursuant to count one of its complaint, the pricing formula with respect to the non-labor portion of the production charge will be changed to eliminate the WPI and substitute the actual costs incurred by ALCOA for the non-labor items used at its Warrick, Indiana smelting plant. Essex opposes relief under count one contending that: 1) ALCOA cannot obtain reformation of the Molten Metal Agreement on the grounds of mutual mistake since ALCOA has failed to establish any antecedent agreement on pricing not expressed in the Molten Metal Agreement; 2) ALCOA assumed the risk that its prediction as to future costs would be incorrect; 3) ALCOA has failed to prove that enforcement of the Molten Metal Agreement would be unconscionable.

ALCOA alleges in the second count of its complaint that when it became evident that the WPI was not accomplishing the objectives of the parties under the Molten Metal Agreement, discussions were begun between ALCOA and Essex which culminated in a meeting held between Mr. Krome George, Chief Executive Officer of ALCOA, and others of ALCOA and Mr. Paul O’Malley, President of Essex, on July 21, 1975. At that time, Mr. George and Mr. O’Malley allegedly orally agreed to reform the Molten Metal Agreement to reflect the original objectives of the parties. The oral agreement allegedly replaced the WPI with the actual costs incurred by ALCOA. Essex denies entering into the alleged oral agreement and has accordingly refused to perform consistent with its terms. In its second count, ALCOA requests that declaratory judgment be entered whereby Essex’s breach of its alleged oral agreement to reform the Molten Metal Agreement be declared sufficient grounds to excuse any further performance by ALCOA of that Agreement. In addition, ALCOA seeks that it be awarded damages in excess of *57 $11,900,000 accruing to the date of judgment resulting from Essex’s breach, plus interests and costs.

ALCOA asks in its third count that it be excused from further performance of the Molten Metal Agreement. ALCOA alleges that its performance is excused by a clause which is contained in a document referred to as the December 27, 1967 Letter Agreement (the Side Letter Agreement). That clause provides that ALCOA and Essex, acting in good faith, entered into the Molten Metal Agreement with the understanding that it was a contract for the furnishing of services by ALCOA to Essex. The clause further provides that in the event a final decision of a court construed the Molten Metal Agreement as a contract for the sale of goods it could be terminated by either party. The Side Letter Agreement was a product of concern that an admittedly preferential price to Essex would threaten a violation of the RobinsonPatman Act if the various transactions could be lumped together and considered to be in substance the sale of aluminum rather than what appears as a matter of form, the sale of services.

ALCOA argues it should be permitted to terminate the Molten Metal Agreement under the terms of the Side Letter Agreement. ALCOA urges that this Court should determine whether the Molten Metal Agreement is a contract for the sale of goods.

As previously indicated, Essex has filed a counterclaim to the ALCOA complaint. The original counterclaim of Essex contends that under the terms of the Molten Metal Agreement as implemented during the years 1977, 1978 and the first six months of 1979, ALCOA has, on numerous occasions, breached the Molten Metal Agreement by improperly failing to deliver the amounts of molten aluminum required by the contract. This first counterclaim asks that Essex be awarded damages in an amount as to fully compensate it for the failure of ALCOA to deliver molten aluminum in accordance with the terms of the Molten Metal Agreement.

The amended counterclaim of Essex arises as a result of a letter dated June 4, 1979, in which ALCOA informed Essex that it was reducing by 15% the amount of its deliveries of molten aluminum requested by Essex. ALCOA claims to have this authority under the terms of the Molten Metal Agreement. Essex contends that ALCOA does not have any such authority and its amended counterclaim additionally asks for an order enforcing the Molten Metal Agreement and awarding damages accordingly.

Simply put, if possible, ALCOA seeks relief from this Court in a three count complaint, while Essex opposes ALCOA’s requests and itself seeks relief via a counterclaim.

The Court finds, based upon consideration of all the evidence, that ALCOA is entitled to reformation of the Molten Metal Agreement. At the same time, ALCOA’s requests for relief in counts two and three are denied as is the request for relief by Essex in its counterclaim.

COUNT ONE

ALCOA’s first count seeks an equitable modification of the contract price for its services. The pleadings, arguments and briefs frame the issue in several forms. ALCOA seeks reformation or modification of the price on the basis of mutual mistake of fact, unilateral mistake of fact, unconscionability, frustration of purpose, and commercial impracticability.

A.

The facts pertinent to count one are few and simple. In 1967 ALCOA and Essex entered into a written contract in which ALCOA promised to convert specified amounts of alumina supplied by Essex into aluminum for Essex. The service is to be performed at the ALCOA works at War-rick, Indiana. The contract is to run until the end of 1983. Essex has the option to extend it until the end of 1988. The price *58 for each pound of aluminum converted is calculated by a complex formula which includes three variable components based on specific indices. The initial contract price was set at fifteen cents per pound, computed as follows:

A. Demand Charge $0.05/lb.

B. Production Charge

(i) Fixed component ' ,04/lb.

(ii) Non-labor production cost component .03/lb.

(iii) Labor production cost component .03/lb.

Total initial charge $0.15/lb.

The demand charge is to vary from its initial base in direct proportion to periodic changes in the Engineering News Record Construction Cost-20 Cities Average Index published in the Engineering News Record. The Non-labor Production Cost Component is to vary from its initial base in direct proportion to periodic changes in the Wholesale Price Index-Industrial Commodities (WPI-IC) published by the Bureau of Labor Statistics of the United States Department of Labor. The Labor Production Cost Component is to vary from its initial base in direct proportion to periodic changes in ALCOA’s average hourly labor cost at the Warrick, Indiana works. The adjusted price is subject to an over-all “cap” price of 65% of the price of a.specified type of aluminum sold on specified terms, as published in a trade journal, American Metal Market.

The indexing system was evolved by ALCOA with the aid of the eminent economist Alan Greenspan. ALCOA examined the non-labor production cost component to assure that the WPI-IC had not tended to deviate markedly from their non-labor cost experience in the years before the contract was executed. Essex agreed to the contract including the index provisions after an examination of the past record of the indices revealed an acceptable pattern of stability-

ALCOA sought, by the indexed price agreement, to achieve a stable net income of about 4$ per pound of aluminum converted. This net income represented ALCOA’s return (i) on its substantial capital investment devoted to the performance of the contracted services, (ii) on its management, and (iii) on the risks of short-falls or losses it undertook over an extended period. The fact that the non-labor production cost component of ALCOA’s costs was priced according to a surrogate, objective index opened the door to a foreseeable fluctuation of ALCOA’s return due to deviations between ALCOA’s costs and the performance of the WPI-IC. The range of foreseeable deviation was roughly three cents per pound. That is to say that in some years ALCOA’s return might foreseeably (and did, in fact) rise to seven cents per pound, while in other years it might foreseeably (and did, in fact) fall to about one cent per pound. See Table I.

Essex sought to assure itself of a long term supply of aluminum at a favorable price. Essex intended to and did manufacture a new line of aluminum wire products. The long term supply of aluminum was important to assure Essex of the steady use of its expensive machinery. A steady production stream was vital to preserve the market position it sought to establish. The favorable price was important to allow Essex to compete with firms like ALCOA which produced the aluminum and manufactured aluminum wire products in an efficient, integrated operation.

In the early years of the contract, the price formula yielded prices related, within the foreseeable range of deviation, to ALCOA’s cost figures. Beginning in 1973, OPEC actions to increase oil prices and unanticipated pollution control costs greatly increased ALCOA’s electricity costs. Electric power is the principal non-labor cost factor in aluminum conversion, and the electric power rates rose much more rapidly than did the WPI-IC. As a result, ALCOA’s production costs rose greatly and unforeseeably beyond the indexed increase in the contract price. Table I illustrates the relation between the WPI-IC and ALCOA’s costs over the years of the contract, and the resulting consequences for ALCOA:

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