Budgetel Inns, Inc. v. Micros Systems, Inc.

Citation8 F.Supp.2d 1137
Decision Date22 June 1998
Docket NumberNo. 97-C-301.,97-C-301.
PartiesBUDGETEL INNS, INC., Plaintiff, v. MICROS SYSTEMS, INC., and Fidelio Software Corporation, Defendants.
CourtUnited States District Courts. 7th Circuit. United States District Court of Eastern District of Wisconsin

Charles H. Barr, Croen & Barr, Milwaukee, WI, Theodore J. Cohen, Spolin & Silverman, Santa Monica, CA, for plaintiff.

William H. Levit Jr., Godfrey & Kahn, Raymond J. Manista, Godfrey & Kahn, Milwaukee, WI, for defendant.

DECISION AND ORDER

ADELMAN, District Judge.

This case involves an important unresolved issue in Wisconsin law: whether the Wisconsin Supreme Court would apply the economic loss doctrine — which bars tort claims arising out of commercial contract disputes — to preclude a claim of fraudulent inducement to enter into a contract.

In this case, Budgetel alleges that it was induced into signing an agreement with defendant Micros System, Inc. only because Micros made certain promises, which it had no intention of performing. Defendants argue that even if plaintiff's allegations of fraud in the inducement are true, the economic loss doctrine requires that plaintiff's fraud claim be dismissed. I conclude that the Supreme Court of Wisconsin would say Budgetel's fraud claim is not barred by the economic loss doctrine.

I. FACTUAL AND PROCEDURAL BACKGROUND

Budgetel, which operates a chain of hotels, was in the market to purchase a new software system to handle its increasingly complicated property management system. Defendant Micros touted its 8500 system as being both brand new and ideally suited to meet Budgetel's needs. On March 11, 1993, Budgetel and Micros entered into a contract pursuant to which Micros was to supply Budgetel with property management system software, system support, and maintenance, in exchange for a license fee of $250,000 and ongoing maintenance and support fees of about $150,000 per year. Micros also was to provide Budgetel with future releases of the 8500 software and interfaces between that software and other software systems used in the lodging industry.

About three months after signing the contract, however, Budgetel learned that Micros had acquired an interest in defendant Fidelio Software Corporation, that it was no longer marketing the 8500 software and that Micros's sales personnel were being reassigned to promote Fidelio's system instead. Over the course of the next year or two, Micros dramatically reduced the personnel available to provide Budgetel with support and maintenance assistance for the 8500 system.

On March 25, 1997, Budgetel filed this case alleging, among other things, that Micros knew of its Fidelio plans prior to contracting with Budgetel and that it fraudulently induced Budgetel into buying the 8500 software, which Micros planned to eliminate.

The case was randomly assigned to Magistrate Judge Patricia J. Gorence pursuant to 28 U.S.C. § 636(b)(1)(B) and Local Rule 13.03. Following a motion to dismiss by defendants, Magistrate Judge Gorence recommends dismissal of four counts of the complaint: (1) fraud (i.e. intentional or fraudulent misrepresentation), (2) negligent misrepresentation, (3) violation of the Racketeer Influenced Corrupt Organizations Act (RICO), 18 U.S.C. § 1961 et seq., and (4) violation of the Wisconsin Organized Crime Control Act (WOCCA), Wis.Stat. § 946.80 et seq. As to the two misrepresentation counts Magistrate Judge Gorence based her recommendation on the economic loss doctrine. Budgetel objected only to the portion of the recommendation advising dismissal of the fraud claim as barred by the economic loss doctrine. Defendants have responded to Budgetel's objections and the matter is now ready for my consideration.

A district court must review de novo recommendations of the magistrate judge to which either party timely objects. 28 U.S.C. § 636(b)(1)(C); United States v. Raddatz, 447 U.S. 667, 673-76, 100 S.Ct. 2406, 65 L.Ed.2d 424 (1980). Any other aspect of the recommendation may be reviewed de novo as the district court sees fit. Delgado v. Bowen, 782 F.2d 79, 82 (7th Cir.1986). As to the recommendation to dismiss the RICO, WOCCA and negligent misrepresentation claims to which plaintiff did not object, I have reviewed them, concur with them and accept them without modification. No further discussion of those counts is required.

II. THE ECONOMIC LOSS DOCTRINE

Wisconsin substantive law governs Budgetel's state-law fraud claim. In evaluating the viability of the claim, I apply the substantive law as declared by Wisconsin's highest court. See Erie R.R. Co. v. Tompkins, 304 U.S. 64, 58 S.Ct. 817, 82 L.Ed. 1188 (1938). If Wisconsin law is unclear because the Supreme Court of Wisconsin has not spoken on the issue, my task is to predict how that court would decide the question today. Rodman Indus., Inc. v. G & S Mill, Inc., 145 F.3d 940, 942 (7th Cir.1998). Absent guidance from any Wisconsin courts, I may look to other jurisdictions to predict how the Supreme Court of Wisconsin would decide the issue. King v. Damiron Corp., 113 F.3d 93, 95 (7th Cir.1997). Federal courts sitting in diversity, however, must be circumspect in expanding the boundaries of established state jurisprudence; we should hesitate to expand state law in the absence of any indication of intent by the state courts or legislature. Id. at 97.

A. The Economic Loss Doctrine and Why It Exists

"Economic loss" is "defined generally as `the diminution in the value of the product because it is inferior in quality and does not work for the general purposes for which it was manufactured and sold.'" Northridge Co. v. W.R. Grace & Co., 162 Wis.2d 918, 925-26, 471 N.W.2d 179 (1991) (quoting Comment, Manufacturers' Liability to Remote Purchasers for "Economic Loss" Damages — Tort or Contract?, 114 U.Pa.L.Rev. 539, 541 (1966)). "Economic loss" encompasses direct economic loss, based upon the difference in value between what was received as compared to what was represented, together with costs of replacement and repair. It also includes consequential, or indirect, economic losses attributable to the product defect, such as lost profits resulting from the inability to make use of the product. Northridge, 162 Wis.2d at 926, 471 N.W.2d 179 (citing Note, Economic Loss in Products Liability Jurisprudence, 66 Colum.L.Rev. 917, 918 (1966)).

The "economic loss doctrine" is a judicially created doctrine providing that a commercial purchaser of a product cannot recover from a manufacturer under tort theories damages that are solely economic losses. Daanen & Janssen, Inc. v. Cedarapids, Inc., 216 Wis.2d 394, ___, 573 N.W.2d 842, 844-45 (1998). When contractual expectations are frustrated because of a defect in the subject matter of a contract, a party's remedy instead lies exclusively in contract. Raytheon Co. v. McGraw-Edison Co., 979 F.Supp. 858, 866 (E.D.Wis.1997).

The doctrine does not bar claims involving physical injury or physical harm to property, however, as those are considered proper tort claims. Daanen, 216 Wis.2d at ___, 573 N.W.2d at 845. Judge Barbara B. Crabb of the Western District of Wisconsin has given a good example of the use of the doctrine. If a lawn mower fails to work as intended and throws off a piece of metal, which lands in the operator's eye causing him to miss work and incur medical losses, those injuries can be recovered by a tort action. If, however, the lawn mower malfunctions, causing it to wear out in a short time and requiring repair or replacement, that is economic loss barred by the doctrine; the mower's owner may sue only in contract. Wausau Paper Mills Co. v. Chas. T. Main, Inc., 789 F.Supp. 968, 971 (W.D.Wis.1992).

The United States Supreme Court's decision in East River S.S. Corp. v. Transamerica Delaval Inc., 476 U.S. 858, 106 S.Ct. 2295, 90 L.Ed.2d 865 (1986) encouraged acceptance of the doctrine and the perceived need to separate tort claims from contract claims. East River involved supertankers that malfunctioned at sea because of manufacturing defects in the turbines. The plaintiffs, who had chartered the super-tankers, sued the turbine manufacturer in negligence and strict liability for economic losses. The Supreme Court rejected the tort claims, holding that a manufacturer in a commercial relationship has no duty outside of contract "to prevent a product from injuring itself." Id. 476 U.S. at 871, 106 S.Ct. 2295. According to the Court, "loss due to repair costs, decreased value, and lost profits is essentially the failure of the purchaser to receive the benefit of its bargain — traditionally the core concern of contract law." Id. 476 U.S. at 870, 106 S.Ct. 2295. The Court justified its decision as necessary to protect contract law from "drown[ing] in a sea of tort." Id. 476 U.S. at 866, 106 S.Ct. 2295.

As Judge Crabb has noted, the basic theory of the doctrine is straightforward:

Commercial entities are capable of bargaining to allocate the risk of loss inherent in any commercial transaction. Courts should assume that parties factor risk allocation into their agreements and that the absence of comprehensive warranties is reflected in the price paid. Permitting parties to sue in tort when the deal goes awry rewrites the agreement by allowing a party to recoup a benefit that was not part of the bargain.

Stoughton Trailers, Inc. v. Henkel Corp., 965 F.Supp. 1227, 1230 (W.D.Wis.1997).

The rule's merits are not universally accepted. Detractors have suggested that because even tort law reduces physical injury to monetary damages the distinction between physical injury and economic losses is a fiction, F. Malcolm Cunningham, Jr. and Amy L. Fischer, The Economic Loss Rule: Deconstructing the Mixed Metaphor in Construction Cases, 33 Tort & Ins. L.J. 147, 148 (1997), that the rule penalizes prudent conduct by requiring a plaintiff to await physical injury before being able to recover, id., or that the basis for the doctrine is merely judicial economy, as it is a bright-line rule to be applied as a matter of law, s...

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