When reasonable grounds for insecurity arise with respect to the performance of either party the other may in writing demand adequate assurance of due performance and until he receives such assurance may if commercially reasonable suspend any performance for which he has not already received the agreed return.
Hornell Brewing Co. v. Spivy
Plaintiff, a supplier of alcoholic and non-alcoholic beverages, including Arizona iced tea, was approached by defendant about him wanting to become a distributor for plaintiff. Defendant was known as a wealthy and successful beer distributor, so plaintiff orally gave defendant the exclusive right to distribute Arizona products in Canada. This arrangement was later written when defendant requested a letter to secure financing with, but the details of the arrangement were not included.
In a year, defendants' unpaid invoices totaled over $100,000 and their check to pay part of this had bounced. Defendant sent plaintiff a copy of a letter saying that he had been approved for $1.5 million of credit from Vanguard, but this credit never materialized.
Defendant arranged for plaintiff's chairman to speak with Metro, a factoring company, and plaintiff believed it to be a bank that would provide defendant with a line of credit. Plaintiff then offered defendant $300,000 in credit once the previous balance was paid off. However, defendant never paid off the arrears. Defendant instead told plaintiff to contact Metro.
Plaintiff contacted Metro and said that it would resume selling to defendant and offer him up to $300,000 in credit if Metro paid the $79,316.24 arrears by May 2. Metro paid on May 9, and defendant immediately ordered ~$400,000 more of product afterwards. Plaintiff however learned that defendant's warehouse was empty and that he had no staff or trucks for distribution whatsoever but was merely a sham.
Plaintiff wrote to defendant, offering up to $300,000 in credit based on the $1.5 million of credit defendant was approved for, but plaintiff required proof thereof. Defendant did not respond at all. Plaintiff began to discuss with defendant a termination of their agreement, but defendant did not sign such a proposed agreement. Plaintiff therefore sued.
Did defendant's refusal to provide proof of credit constitute a repudiation of the parties' agreement?
"Reasonableness," "adequacy," and "adequate assurance" are defined by commercial standards.
See:UCC § 2-609
Declaratory judgment for plaintiff.
Plaintiff clearly had reasonable grounds to be insecure about defendants' ability to perform as defendant had not paid for past shipments, had bounced checks, no financing, and did not sell even a small fraction of the product. Merely failing to pay on time alone can give rise to reasonable grounds for insecurity.
While defendant did pay the arrears off, there were more reasons to be insecure about his ability to pay. Plaintiff offered up to $300,000, indicating that he intended to test defendant's ability to pay consistently. Defendant instead ordered more than the max plaintiff proposed. Plaintiff never received any documentation about defendant's relationships with Metro or Vanguard. Defendant also misled plaintiff about the scope of his operation with the empty warehouse.
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Defendants' failure to respond constituted a repudiation of the distributorship agreement, which entitled plaintiff to suspend performance and terminate the agreement.