FROM: Sid Hemsley, Senior Law Consultant
DATE: April 13, 2005
RE: Wastewater ContractCity A, City B, City C
On March 2, I opined that under the wastewater treatment contract City A, City B, and City C entered into in 1989, the percentages of wastewater treatment capacity to which they are entitled under the contract do not change when upgrades are made to the wastewater treatment plant. I have been asked - and agreed--to revisit that opinion, for the purpose of determining whether that opinion is correct, and if it is correct, whether any doctrine or law would change those percentages or render them irrelevant.
There has been some concern expressed that I did not understand that the wastewater treatment plant had undergone two upgrades for which City B and City C had paid, following the completion of the " PROJECT" of which the contract speaks, and that the wastewater treatment plant capacity has gone from 800,000 gallons per day to a capacity of 2,000,000 per day. However, I did understand that fact on March 2.
During my revisit of the contract, I have looked for some evidence that the parties intended that future plant expansions would change the percentages of reserve capacity. But careful re-study of that contract leads me to conclude that those percentages do not change. It likewise appears to me that the contract is unambiguous. For that reason, all the rules that give the courts considerable leeway in interpreting contracts in favor of one party or other are not triggered. However, the covenant of good faith and fair dealing that applies to all contracts in Tennessee, and/or the doctrine of implied contracts may require City A to supply City B and City C with reasonable wastewater treatment in excess of their reserve capacities provided for in the contract, at least for the short run. But there are even problems with applying that covenant and doctrine to the contract at issue. City B and City C may have simply entered into a contract that appeared to be a good bargain in 1989, but turned out to be a bad bargain as growth patterns among the cities changed.
As I pointed out in my March 2, opinion, several provisions of the contract expressly and by implication speak of a division of the plant capacity as follows: City A, 78.3%; City B, 11.7%; City C, 10.0%.:
- Article III, Para. 1: The cities are allocated the non-grant cost of the " PROJECT" in the above percentages.
- Article III, Para. 5: The cities " will pay into the Project Construction Fund the above amounts..." [which apparently refers to the above percentages].
- Article III, Para. 6: The cities are allocated those percentages of liability for the payment of any deficits in the fund from which construction costs of the PROJECT are paid.
- Article III Para. 6: The cities are required to pay for deficiencies in the account set up for paying the initial construction cost proportionately " according to the percentages described above and in Paragraph # 1 of this Article III. "
- Article III, Para. 8: The cities are denominated the " owner[s]" [of the project] solely for the purposes of the depreciation, in the amounts of the above percentages.
- Article V, Para. 1: This provision expressly says that " Each city shall have reserved to it the proportion of total capacity as is defined in Article III," then it goes on to expressly provide that, " City" shall have reserved to it 78.3% of the capacity of the " PROJECT." City C shall have reserved to it 10% of the capacity of the " PROJECT." City B shall have reserved to it 11.7% of the " PROJECT."
- Article VI, Para. 1: The initial distribution of the costs of maintenance of the " PROJECT" is calculated on the above percentages.
- Article VI, Para. 9: Each city is responsible for the establishment and maintenance of a depreciation fund in an amount based on the above percentages, and " these percentage figures will not vary according to subsequent use by the cities."
It has been suggested to me that the contract speaks of that division of capacity with respect only to the specific project about which the contract speaks. It is true that term " PROJECT" in the contract refers to a specific plant expansion, but it also refers to the wastewater facility in several contexts, including contexts that relate to the future use of the plant after its completion.
Article I, of the contract, defines " Project" twice. Under '7 " PROJECT" is defined as:
Those costs are those which are involved in the actual construction of the project under the amended 201 Plan and are to include the construction costs and any costs directly attributable to the implementation of the project including but not limited to: (a) the costs of contracts awarded to contractors; (b) the costs of the acquisition of land or materials; (c) the costs of services of attorneys, engineers and/or consultants on this project; (d) the costs of advertising of bids or other administrative costs reasonably related to the implementation of the Amended 201 Plan.
Under '10, " PROJECT" is defined as:
[T]he regional wastewater treatment facility consisting of the wastewater treatment plant, transmission lines, pipes, drains, physical collection points, plants, buildings, and equipment related thereto and such capitalized expenses such as interest and engineering and inspection fees which will be solely operated, and maintained by City A. This term does not include any existing structures or lines which will become a part of the " PROJECT" as envisioned under the AMENDED 201 PLAN.
Article III, speaks of: " Non grant project costs." Those are defined as " costs" used for construction of the " PROJECT..." and allocates those costs among the three cities: City A 78.3 %, City B 11.7%, and City C 10%. City A 's responsibility for, and authority over, all phases of construction and contract-letting for the " Project." Ownership of the project after its completion. The cities are " owners" of the project for purposes of depreciation in the above amounts, but " Title" to all realty located within the " PROJECT" situs will remain unchanged and City A hereby conveys no title nor covenants to convey any title to realty to either City B or City C. Presumably, the realty includes the plant itself, which would probably be considered part of the realty. Article IV, gives City A responsibility for the continued maintenance of the " PROJECT." Article V, allocates capacity of the " PROJECT." Article VI, allocates future costs of operation, water treatment and maintenance of the " PROJECT." Article VII, governs " Implementation" of the " Project," which that article makes clear involves various aspects of the future operation of the wastewater facility after its completion, and the transmission by City B and City C of its sewerage to the " PROJECT."
Several facts relative to the PROJECT seem important with respect to the allocation among the three cities of reserve capacity set out in the contract:
First, the allocation of reserve capacity reflects what the parties paid in non-grant funds used to finance the " PROJECT" : City A, 78.3%; City B, 11.7%; and City C, 10%). In that connection the contract also provides that, " It is understood that each city is submitting or has submitted to City A its best estimate as to the reserve capacity that it requires in order to furnish services to its residents" [Article III, '1(D).]. As I understand the facts, when the contract was signed by the cities in 1989, the shift in growth among the cities that has occurred over the past couple of years was not contemplated. For that reason, it is arguable that those reserve capacities were based on what all the parties at the time thought were realistic.
Second, throughout the contract it is clear that City A was totally responsible for the construction of the PROJECT, and is totally responsible for the operation of the plant and the liability that attaches to that operation. For that reason, arguably, it is logical that when the contract was signed the parties understood that City A would have considerably more reserve capacity than would City B and City C.
Third, the contract itself provides that it continues into the future past the construction of the project. Article IX, says that, " The duration of this contract is to be indefinite and continuing." Article VII, provides that, "N o party shall have any right to cancel or amend this agreement or its terms and any attempt to modify this agreement shall be considered a disputed matter.... " Although the wisdom of cities entering into indefinite contracts may be questionable, such contracts appear to be legal and binding. [See Hamblen County v. City of Morristown, 584 S.W.2d 673 (1979).]
The heart of the contract with respect to future wastewater plant expansions is Article 5, which I will quote in full below:
Establishment and Reservation of Capacities
to City B and City C
1. Reserve Capacity : Each city shall have reserved to it the proportion of total capacity as is defined in Article III. City A shall have reserved to it 78.3% of the capacity of the " PROJECT." City C shall have reserved to it 10% of the capacity of the " PROJECT." City B shall have reserved to it 11.3% of the capacity of the " PROJECT."
2. Future Capacity Expansion : In the event that the needs of the municipalities result in the need to physically expand the treatment facility then each city shall be required to fund that portion of the costs of the expansion attributable to its increased use above its reserved capacity.
However, no municipality shall be required to contribute to expansion costs of the facility unless it is exceeding its reserve capacity.
3. City B and City C agree to provide City A upon the anniversary date of this Agreement, with a five (5) year projection of needs, it being recognized that the above flow tabulation is an estimate only based on data contained in the AMENDED 201 PLAN. If the needs of either City B or City C are projected to exceed those tabulated above, City A agrees to cooperate with City B or City C in providing needed treatment capacity in a timely and mutually satisfactory manner.
4. City B and City C shall have the opportunity to review and comment on all contract documents, procedures, and other items relating to future construction aspects required to accommodate needs of City B or City C which will result in increased costs to City B or City C.
Article 5, says at least two things about the reserve capacities and future plant expansions:
First, Article 5, '2, anticipates future wastewater treatment plant expansions, and the method of the payment of such expansions. It says--twice--that the cities that exceed their reserve capacities must pay for needed plant expansions. It also says that the cities that do not exceed their reserve capacities are not required to pay for plant expansions. Article 5, '2 does not clearly say is what event triggers the need for a plant expansion. Does the entire reserve capacity of the plant need to be consumed before a plant expansion is needed, or does only the consumption of one municipality's reserve capacity need to be consumed? Article 5, '2, says the trigger is the " needs of the municipalities" [plural]. Apparently the parties have treated the contract the latter way, although whether City B and City C, did so voluntarily, I am not sure]. City B and City C exceeded their allocated reserve capacities, and paid for the last two plant expansions, for which they have obviously increased their capacities as measured in gallons, but not in reserve capacity.
Second, Article 5, '3, does recognize that the " flow tabulations" [presumably the reserve capacities] are an " estimate." That provision says that on the anniversary date of the contract,
City B and City C agree to provide City a five year projection of needs, in recognition that the " above flow tabulation" [presumably, the reserve capacities because no other flow tabulations appear " above" ] is an estimate, based on the data in the AMENDED 201 PLAN.
At first glance, it can be argued that if the reserve capacities set out in the contract are based on " estimates," the contract contemplates their change. Unfortunately for City B and City C, that does not appear to be true. It would have been easy for Article 5, or some other provision of the contract to provide that if plant expansions are made by one or more of the cities, their reserve capacities will change, or that if the five year projection of needs on the part of City B and City C reflected a different " flow tabulation" than the reserve capacities contained in the contract would change under some rules set out in the contract. It would have been equally as easy for Article 5, or some other provision of the contract to provide that the five year projection of needs would occur every five years, or on any other kind of regular schedule. But Article 5, '3, simply says, that " If the needs of either City B or City C are projected to exceed those tabulated above, City A agrees to cooperate with City B or City C in providing needed treatment capacity in a timely and mutually satisfactory manner ." That provision does not even imply that the percentages of reserve capacities change, unless the parties agree to such a change. I do not know if City B and City C ever did a five year projection of needs on the anniversary date of the contract, but it appears that the projection was a one time shot rather than an ongoing one.
Article 5, '4, supports the conclusion that Article 5, '3, did not contemplate a change in reserve capacities. It says that, " City B and City C shall have the opportunity to review and comment on all contract documents, procedures, and other items relating to future construction aspects required to accommodate needs of City B or City C which will result in increased costs to City B or City C." The right of review of those items is far cry from the right of City B and City C to a change in their reserve capacities.
It has been held that where a contract is clear on its face, it will be enforced. In Whitehaven Community Baptist Church v. Holloway , 973 S.W.2d 592 (Tenn. 1998), a question was whether a document was a warranty deed or a mortgage. The plaintiff proffered an affidavit that, in the Court 's own words indicated that the plaintiff " misunderstood the nature of the contract and the document it signed." The Court pointed to the fact that the document itself was labeled " WARRANTY DEED," and declared that, " An elementary precept of contract law, however, is that a court will not look beyond the four corners of a contract or to the parties 'intention when the language of the contract is clear." [Citations omitted.] [At 596] It is also said in Realty Store, Inc. v. Tarl Partnership , 153 S.W.3d 366 (Tenn. Ct. App. 2004), that " The Court is compelled ' to give effect to the intention expressed by the language used, whatever may be thought about the harshness of the result. '"
It appears to me the contract between City A, City B and City C is clear on its face on the issues of who pays for plant expansions and what effect they have on the reserve capacities, even though the contract produces a harsh result for City B and City C.
But City A makes the significant promise to City B and City C in article V, '3, that if the five year projection of needs indicates a change in the flow tabulations, it will " cooperate" with them in " providing needed treatment capacity in a timely and mutually satisfactory manner." As I pointed out above, I do not know if the five year flow projection was done on the anniversary date of the contract, or anytime thereafter, but City B and City C have already paid for two plant expansions. I am not sure how the courts would treat that conduct on the part of City B and City C. Where the conduct of the parties themselves indicate they put a particular construction on the contract, and that construction is reasonable, the courts will adopt that meaning of the contract. [See Hamblen County v. City of Morristown, 65 S.W.2d 331 (Tenn. 1983); Appling v. Ellendale 122 Property , 718 S.W.2d 261 (Tenn. Ct. App. 1986).] I do not know whether the insistence of City B and City C that under the contract they are entitled to increased reserve capacity when they pay for plant expansions was a position held at the time the time the contract and the expansions were made, or is a johnny-come-lately arguments that arose only when they experienced growth that they did not anticipate at the time the contracts were signed.
But Article V, '3, of the contract does itself recognize that City B and City C may need plant capacity beyond the reserve capacities set out in the contract, and that City A will " cooperate" with those cities to provide such capacity " in a timely and mutually satisfactory manner." Other provisions of the contract also recognize that reserve capacity percentages assigned to the three cities will not reflect the actual contribution of the waste flow by the three cities. Those provisions of the contract take that into account by allocating the cost of the plant operation among the cities based on their actual contributions of waste to the plant.
There is a covenant of good faith and fair dealing implied in every contract (except employment contracts) in Tennessee. [See, for example, Wallace v. National Bank of Commerce, 938 S.W.2d 684 (Tenn. 1997); Covington v. Robinson, 723 S.W.2d 643 (Tenn. Ct. App. 1986); TSC Industries, Inc. v. Tomlin, 743 S.W.2d 169 (Tenn. App. 1987).] In Wallace, above, it is said that:
In Tennessee, the common law imposes a duty of good faith in the performance of contracts....The law regarding the good faith performance of contracts is well stated by the Court of Appeals in TSC Industries, Inc. v. Tomlin [citation omitted]....It is true that there is implied in every contract a duty of good faith and fair dealing in its performance and enforcement, and a person is presumed to know the law. See Restatement (2d) Contracts, '5 205 (1979). What this duty consists of, however, depends upon the individual contact in each case. In construing contracts, courts look to the language of the instrument and to the intention of the parties, and impose a construction which is fair and reasonable. In Covington v. Robinson [citation omitted], which was relied upon by the Court of Appeals in TSC Industries, Inc. v. Tomlin, the Court of Appeals held that in determining whether the parties acted in good faith in the performance of a contract, the court must judge the performance against the intent of the parties as determined by a reasonable and fair construction of the language of the instrument. In a later decision, the Court of Appeals held that good faith in performance is measured by the terms of the contract. " They [the parties] may by agreement, however, determine the standards by which the performance of obligations are to be measured." Bank of Crockett v. Cullipher, 752 S.W.2d 84, 91 (Tenn. App. 1988). ['At 686.]
City B and City C have exceeded their allocated reserve capacities, and apparently have been doing so for some years. Using the figures that City A provided to those cities on January 20, 2005, the present reserve capacities (counting the two plant expansions) and actual plant usage is as follows:
Reserve Capacity Actual Use (Average Daily Flow)
City A 78.3% (1,566,000 GPD) 17% (340,000 GPD)
City B 11.7% (234,000 GPD) 19% (380,000 GPD)
City C 10% (200,000 GPD) 13.6% (272,000 GPD)
Those figures indicate that City A has actually provided City B and City C wastewater treatment in excess of their reserve capacities, but that in terms of reserve capacity City A has been the major beneficiary of the two wastewater plant upgrades paid for by City B and City C. Under those facts, City B and City C have an argument that the obligation of good faith and fair dealing that applies to every contract, imposes some obligation on City A under Article V, '3, to provide them with wastewater treatment capacity in a manner that does not see City A accumulate reserve capacity greatly beyond its needs though plant expansions paid for by City B and City C. Article V, '3, does not appear to contain the standards by which City A's obligation is to provide " needed treatment capacity in a timely and mutually satisfactory manner." For that reason, the courts might have some leeway in that area helpful to City B and City C.
Tennessee law also recognizes the theory of implied contracts. It breaks such contracts down into contracts implied in fact, and contracts implied in law. The latter type implied contract has been defined as a contract imposed by operation of law, without regard to the assent of the parties, on grounds of reason and justice. One can argue that the lopsided benefit of reserve capacity that accrues to City A under the contract due to the plant expansions paid for by City B and City C and conclude that City A has been unjustly enriched under that contract. However, such an argument does not appear to receive much encouragement from Tennessee case law for the simple reason that there is an express contract between the parties on that point. In Jaffe v. Bolton , 817 S.W.2d 19 (1991), it is said about contracts implied in law that:
Quasi-contractual liability can be created where one person receives a benefit at the expense of another and it is unjust or inequitable for him to retain this benefit. 7 Tenn. Juris. Contracts, '103 (1983); Browder v. Hite, 602 S.W.2d 489 (Tenn. Ct. App.1980). The most important factor for the recovery under a quasi-contractual theory is that the enrichment must be unjust. Paschall 's, Inc. v. Dozier, 219 Tenn. 45, 47 S.W.2d 159 (1966). The primary purpose of implied contracts is to impose an obligation that ought to be done as a matter of justice and equity in the absence of express contracts. A contract cannot be implied, however, where a valid contract exists on the same subject matter . Taille v. Chedester, 600 S.W.2d 732 (Tenn. Ct. App. 1980). [At 26] [My emphasis.]
The Court looked at the lease agreement at issue in that case and concluded that:
The agreement entered into between the parties expressly provided the landlord was to retain the benefit of all the improvements to the property without any compensation to the tenant. This agreement as entered into in a businesslike manner, and the tenant cannot now complain that the landlord is unjustly enriched.... [At 26.]
[Also see Doe v. HCA Health Services of Tennessee, Inc ., 46 S.W.3d 191 (Tenn. 2001); Stickland v. Cartwright , 11 S.W.3d 766 (Tenn. Ct. App . 2003).]
That is the situation in which City B and City C might find themselves.
But City 's promise to " cooperate with City B and City C to meet their need for treatment capacity might carry those cities some distance. As is pointed out above, the contract is replete with recognition on the part of all the parties to the contract that one or more of them could exceed their reserve capacities. 13 A.L.R.2d 1233, titled Special Requirements Of Consumer As Giving Rise To Implied Contract By Public Utility To Furnish Particular Amount of Electricity, Gas or Water (which, retrieved from Westlaw is current to date), declares that:
As far as it is permissible to draw general conclusions from such little authority as there is, the general rule seems to be that in the absence of an express contract, there is an implied obligation on the part of the public utility company to use reasonable care to furnish the particular amount of electricity, gas or water which it knows the customer needs, if it can do so without discrimination against other consumers, there being no absolute duty to this effect within the contemplation of the parties.
The contract between City A, City B and City C contains express provisions as to reserve capacity, but is silent as to actual treatment capacity City B and City C might " need" under Article V, '3. The contract even anticipates usage by the cities in excess of their allocated reserve capacities. It is arguable that while there is a contract between the parties on the allocation of wastewater reserve capacities, it does not cover what actual capacity City B and City C may " need" under Article V, '3, and that that need is subject to a contract implied in law under which City A is required to use reasonable care to provide those cities with the amount of wastewater treatment they need.
There are more modern cases than cited in that annotation on the application of the law of implied contracts to utility services, but they involve situations where a franchise has been issued for the delivery of utility services and the franchise has expired, which satisfies the condition of contracts implied in law that there be no contract between the parties. [See, for example, City of Orland Hills v. Citizen's Utility Company of Illinois , 807 N.E.2d. 590 (Ill. 2004), and cases cited therein.]
Article VIII, provides for the arbitration of disputes by the Wastewater Finance Board. I have read in detail the functions and duties of that board as they are prescribed by Tennessee Code Annotated, '68-221-101 et seq., and find no support for the proposition that it will get involved in such disputes.
Alternatively, Article VIII, '3, provides for the non-binding arbitration of disputes between the cities under the rules and regulations set out in that article. It was held in City of Blaine v. John Coleman Hayes & Associates, Inc ., 818 S.W.2d 33 (Tenn. Ct. App. 1991), that all arbitration agreements, with some exceptions, are subject to the Uniform Arbitration Act contained in Tennessee Code Annotated, '29-5-301 et seq. The exceptions are contained in Tennessee Code Annotated , '29-5-302: " save on such grounds as exist at law and equity for the revocation of any contract;.... " , which, said the Blaine Court, included fraud. Needless to say, fraud does not appear to be an issue in the contract between City A, City B and City C.