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California Business Contracts: What is the Frustration of Purpose Defense?

If your San Diego business finds itself defending a lawsuit claiming breach of contract, one possible defense to the case is the legal doctrine of Frustration of Purpose. This is one of several legal doctrines that will excuse performance of commercial contracts based on unforeseen events, extreme hardship and/or other circumstances that, in fairness, should allow a party to avoid its obligations. Other similar doctrines include the impossibility and force majeure doctrines.

If the frustration doctrine is interposed as a defense to breach of contract, California courts will look at the contract and business transaction to discern the fundamental purpose or reason underlying the contract/transaction and at the claimed unanticipated supervening circumstances to determine if they have “substantially destroyed” the purpose of the contract/transaction for both parties to the contract. Thus, to prove the defense, the party asserting frustration must prove that

  • The frustration was so severe and harsh that the basic purpose of the contract was destroyed
  • The supervening circumstance/event was unforeseen and not the fault of one of the parties
  • The frustration was of the type not regarded as within the risks that were assumed under the contract and
  • The frustration was recognized by both parties to the contract (that is, both parties’ purposes were frustrated)

See FPI Development., Inc. v. Nakashima, 282 Cal.Rptr. 508 (Cal. App. 3rd Dist. 1991). The fact that frustration of purpose is needed for both parties is the key aspect of the frustration doctrine and is the main feature that distinguishes the frustration excuse from the impossibility excuse. In general, the frustration excuse will be available only if both parties are still performing. If one party has fully performed, the frustration excuse will not be allowed. Frustration of purpose is also rarely available if one side to the contract has only the obligation of payment. As an example, if the contract is for the supply of raw materials, if one party has paid, frustration of purpose is not a possible defense, but impossibility might be (if the raw materials cannot be obtained any more).

A good example is the case of Peoplesoft USA, Inc. v. Softek, Inc., 227 F. Supp. 2d 1116 – Dist. Court, ND California 2002). That case involved the licensing of software by Softek, Inc. from Peoplesoft. The software was intended for use by Softek’s subsidiary to create program interfaces use by the Puerto Rican Treasury Department. By virtue of a licensing agreement, Softek was obligated to pay for software, but after the agreement was signed, the Puerto Rican Treasury Department decided to use a different program to build its interface. Since the Peoplesoft programs were not being used, Softek did not pay under the license agreement and Peoplesoft sued. Softek tried to defend against the breach of contract by asserting the frustration of purpose doctrine. Softek argued that the supervening event was the decision to use a different program made by the Puerto Rican Treasury Department. This was unforeseeable and this, according to Softek frustrated the entire purpose of the licensing agreement.

However, the court rejected the argument because the frustration was not recognized by both sides, the decision was not entirely unforeseeable, Peoplesoft had fully performed by delivering the software for use and, based on a reading of the agreement, the risk of non-use was built into the risks assumed under the agreement. Based on those facts, the court held that Softek could not avoid its obligations under the licensing agreement by means of the defense of frustration of purpose.

Contact San Diego Corporate Law

For further information, please contact Michael Leonard, Esq. of San Diego Corporate Law. Mr. Leonard has the experience to draft your contracts properly to meet the needs of your business. Mr. Leonard’s law practice is focused on business, transactional, and corporate matters. Mr. Leonard can be reached via email or by calling (858) 483-9200. San Diego Corporate Law proudly provides legal services to business owners in San Diego and the surrounding communities. Like us on Facebook.

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