The case of Sherwood v Walker, which comes from late 19th century Michigan, asks the question, what happens when both parties to a contract base their agreement to the contract on a mistaken understanding of the situation? Mr. Sherwood was a banker, and he wanted to buy some cattle from Mr. Walker who imported inbred black Angus cattle, like the ones you see in this photo. He went to one of Walker's farms but didn't like any of the cattle there. He then went to a second farm where he was told the cows were probably barren. And he decided to buy a cow named Rose the II of Aberlone. Sherwood called up Walker, and they agreed to a price that came to about $80 at $0.05 per pound. But when Sherwood went to pay for and pick up Rose, Walker refused to sell, because Rose had turned out to be pregnant. This is a suit for replevin, that is, Sherwood is claiming that Walker should be ordered by the court to give Sherwood his, namely Rose the II of Aberlone. One interesting thing about this case is that the majority opinion and the dissenting opinions tell the story of how Sherwood and Walker came to agree on the sale. Judge Morse, for the majority, says that both Sherwood and Walker were convinced that Rose was barren and, therefore, only valuable for her meat. That's why the price was so low. And by the pound, a dairy cow would fetch a price more than ten times higher, around $850, and would be valued based on her ability to bear calves and produce milk. In this story, both parties are mistaken about Rose. Justice Sherwood, in his descent, suggests that, Sherwood, the plaintiffs, suspected all along that Rose wasn't barren. He bought her on the hope that she might turn out to be able to bear calves and give milk. On this view, at most, one of the parties was truly mistaken about Rose's condition. The question the court must answer is, can Walker get out of the contract now that both parties know that Rose is ten times more valuable than either of them thought? Both of the lower courts had said no and ruled for Sherwood, but Justice Morse reversed ruling for Walker. He says that when assent to a contract was based, quote, upon the mistake of a material fact and that mistake is mutual, a party can refuse to go through with the transaction or even get it reversed by the courts. The question is, what counts as a mistake of a material fact? Justice Morse gives a rather unhelpful metaphysical, even Aristotelian answer. He says that when a mistake gets to, quote, the substance of the thing, the contract is unenforceable. But when it only gets to the condition or value of the thing, it's still enforceable, even if that very condition or quality is what motivated the parties to enter into the contract in the first place. For Justice Morse the question of whether a cow is barren or not gets to the very core of the substance of what sort of creature Rose is. And so walker can refuse to sell her. The question of whether a horse is sound, on the other hand, is, in his view, a quality or accident, no matter that it may be viewed as essential to the buyer. It isn't clear though exactly how to extend Justice's Morse's distinction to other cases. Section 152 of the second restatement provides a bit more guidance. If the parties are both mistaken when making the contract as to a basic assumption and that mistake has a material effect on the agreed exchange of performances, the party who is made worse off, relative to the party's original expectation, has the option to void the contract. The exceptions in section 154 of the restatement allow for the parties themselves to apportion the risk of mistake between themselves. For the court to decide that it is reasonable under the circumstances for one party to bear the risk or for a party to assume the risk by agreeing to the contract knowing that he or she is missing essential information. These are exceptions that are important, because they make the mutual mistake doctrine merely a default. While the doctrine sets out conditions where contractual duties can become voidable, the seller's right to void can be eliminated ex ante by the party's allocating the risks of a particular mistake to a particular party in question. Under section 154, the parties could've agreed that the seller would bear the risk that Rose would turn out to be much more valuable. It still may be difficult for the parties to prove that they based their agreement on certain assumptions. But in a case like Sherwood, the defendant can point to the fact that the agreed upon price clearly reflects the going rate for a barren cow as evidence that their negotiations were premised on that assumption. So here's a quiz. Walker agrees to sell Sherwood a beautiful home, and they negotiate a satisfactory price. Unbeknownst to them, the house Is currently on fire. Which party has the right to void the contract under Restatement 152, Sherwood, Walker, both, neither? Well, the buyer, Sherwood, can void the contract under section 152. Both parties are mistaken and the house being unburnt was certainly a basic assumption to the contract. Without evidence that the parties allocated this risk to the buyer, say, with a contractual provision requiring Sherwood to take out fire insurance before closing, the mutual mistake doctrine would place the risk of this basic assumption failing with the seller, by giving Sherwood the right to void the contract. I've earlier suggested that formation defenses help courts police, or shore up, the revealed preference inference that a contractual agreement actually increases value. That's one way of explaining why courts make agreements voidable when one of the contracting parties lack the cognitive capacity to know what's in his or her best interest. It can also help explain the mistake doctrine. If the contractors were mistaken about a basic assumption, it undermines the court's confidence that the contract is value enhancing. Small mistakes aren't enough to undermine a court's confidence. If we learn that a racehorse goes a bit faster or bit slower than the parties thought, the buyer still probably values the horse more than the seller. But larger mistakes that go to the heart of what the parties were exchanging might make a court wonder whether the buyer values the horse more than the seller. By making the contracts voidable, it saves the parties from the extra burden of having to bargain their way out of a bad deal. Imagine, for example, that Taylor agrees to buy a used piano from Tom for $1,200. As Taylor is starting to load the piano into her truck, both Tom and Taylor see that $10,000 is taped inside the piano. Tom sues Taylor, arguing there is mutual mistake as to a basic assumption. Not knowing about the $10,000 is a pretty large mistake. But it might not undermine our confidence that Taylor is the higher valuer of the piano. Taylor and Tom would have contracted for a higher price, probably $11,200, if they'd known about the money taped inside. But the court might not make the contract voidable in this kind of circumstances, because there is still gains of trade. Applying this revealed preference idea to the case at hand in Sherwood vs Walker, is to ask whether the parties mistake was sufficient to undermine our confidence that Sherwood is the higher valuer. Sure, they would have contracted for a higher price if they knew she was pregnant. But is Sherwood the higher valuing owner of a pregnant cow? If Sherwood owned a glue factory and only bought cows for the value of their parts, then we might think that this is a kind of mistake, if corrected ex ante, that would have stopped the parties from contracting at any price. In earlier cases, we have seen that parties must have a meeting of the minds in order to have a valid contract. In Sherwood, we've seen that the parties must meet in a place close enough to the truth. If the mistake they made is important enough, it goes to the substance of the thing in Justice Morse's words, or is a, quote, basic assumption, in the words of the restatement. The parties who come to regret the bargain when they find out the truth then has the option of voiding it. Of course, it may be difficult to convince a court that a particular belief was a basic assumption or that the assumption is material. But the big innovation of the restatement is to more clearly establish that the mutual mistake voidability is merely a default allocation of risks that can be contracted around by the parties themselves.
