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November 26, 1997


The opinion of the court was delivered by: TRAGER


 This diversity action for breach of contract raises a surprisingly novel question: what is the effect of an estimate in an output contract when the supplier produces less than the stated estimate? I conclude that New York law would hold that good faith, rather than the stated estimate, would control whether a breach has occurred.


 Plaintiff Canusa seeks damages for lost sales as a result of an alleged breach of contract by defendants Lobosco as well as attorneys' fees in connection with an equipment lease to Lobosco. The case was tried without a jury, where the following facts are found.

 Plaintiff Canusa is a Maryland corporation that recycles and brokers waste paper. A&R Lobosco ("Lobosco") is a New York corporation that receives, collects, cleans and resells this recyclable paper to paper mills or brokers like Canusa. Michael Lobosco is A&R Lobosco's president.

 In late 1992, Lobosco entered into an agreement with the City of New York to accept 850 tons per week (3,400-3,500 tons per month) of material to be recycled. See Trial Tr. (Tr.) at 233; Def.'s Ex. A, "Agreement and Bid Specifications" at B-7. To handle this paper, Lobosco needed a bailer, a piece of equipment to process and bale the recyclable paper. At about the same time, Canusa heard from a third party also in the paper recycling business that Lobosco had obtained a City contract and might be looking for a baler. See Tr. at 337-9. Lobosco had put down a deposit on a baler with another firm, but ultimately decided to enter into an arrangement with Canusa because Canusa would finance the baler, while the other arrangement obligated Lobosco to obtain separate financing. See id. at 237. Canusa's president, Bruce Fleming, testified that Canusa only enters into baler financing agreements to obtain a steady supply of paper. Fleming testified that Canusa obtains 30% of its paper from contract sources like Lobosco and obtains the balance in the spot market. Of that 30%, approximately half, or 15% of Canusa's total supply of waste paper comes from agreements similar to the one Canusa had with Lobosco.

 Lobosco began receiving recyclables from the City in January of 1993; later that month, Michael Lobosco entered into negotiations with David Knight, a Canusa vice president, for a baler. See id. at 236. On March 15, 1993, the parties entered into an Equipment Lease secured by a personal guarantee signed by Michael Lobosco. See Pl.'s Ex. 1 ("Equipment Lease"); Pl.'s Ex. 2 ("Personal Guarantee"). Among other things, the Equipment Lease provided that the lessee (Lobosco) would be liable for costs, fees and reasonable attorneys' fees for any action taken to preserve Canusa's rights. See Pl.'s Ex. 1, P 14.

 The lease also provided that Lobosco was to pay rent, but did not specify an amount. The lease did, however, refer to an "Output Agreement" ("Agreement") that the parties had entered into on March 1, 1993. See Tr. at 56. Thus, Lobosco would finance the baler by supplying Canusa with paper, which would then be credited to its account. Michael Lobosco testified that under these agreements Lobosco was to pay $ 1,551.00/week toward the baler; any amounts of paper sent in excess of that would be credited to Lobosco's account. See id. at 240. Michael Lobosco also testified that he was aware that Canusa would resell his paper to third parties. See id. at 238.

 The Agreement (captioned an "Output Agreement") recited that the parties were entering into an output contract with a five-year term, but it also contained language stating that Lobosco would initially ship 1100 tons per month of number 8 quality old news print (ONP 8) *fn1" per month to Canusa in 1993, and 1500 tons per month thereafter (1994-97). Both parties presented evidence that they understood this number to mean the minimum number of tons Lobosco was obligated to provide to Canusa. See Tr. at 123, 241. The Agreement also provided that the price per ton of ONP would be set each month between the parties and defined acceptable ONP. Fleming described ONP 8 as "anything that normally comes in a household newspaper." Tr. at 36. Materials that have no relationship to paper, such as garbage, masonry, metal, etc., are called prohibitives. Materials that are acceptable in small amounts are called outthrows. Examples of outthrows include Sunday newspaper magazines and coupon circulars. See id. Some paper products, most notably telephone books, are also considered prohibitives. The Agreement specified that no prohibited materials would be accepted, and that total outthrows could not exceed one quarter of one percent (.25%) by weight. See Pl.'s Ex. 3 P 8. The Equipment Lease and Guarantee provided for the application of Maryland law, while the Agreement provided for the application of New York law.

 From the beginning, the relationship was a rocky one. Canusa provided documentation demonstrating the actual tons of material shipped to it from 1993 into May 1994, Lobosco's last shipment date. *fn2" Only in the very first month of the contract, April 1993, did Lobosco come close to the estimate in the Agreement, shipping 942 tons. Michael Lobosco gave several reasons for his firm's inability to meet the schedule set in the Agreement. First, he stated that the materials from the City had a much higher proportion of garbage than what he had previously obtained from similar programs in the suburbs. See Tr. at 245. Second, he noted that he did not always get the amount promised under the City contract. See id. He also testified, without contradiction, that of the material he received from the City, ultimately 28% was convertible into ONP 8. Michael Lobosco derived this figure as follows: he testified that 30% of each load from the City consisted of prohibitives such as garbage, thus leaving 70% of the initial amount. Of this remainder, Lobosco estimated that 40% of it was ONP 8. See id. at 266. During this time, Lobosco also received about 150 tons per month of newspaper from other sources. See id. at 292.

 At the same time Lobosco was not meeting the specification of the Agreement, it was shipping another paper product to Mandala Recycling. See Tr. at 265; Pl.'s Exs. 15, 29-32. Lobosco testified that this product contained "50-60%" newspaper. See Tr. at 265. There was no direct testimony by the buyer or the seller as to the outthrow content of this proprietary package, which was to be sent overseas, but the principal of Mandala, Stephen Batty, testified that he was allowed "a little more latitude" in the material that he shipped to Indonesia. See id. at 223. *fn3"

 Beginning in September 1993, after a series of attempts to have Lobosco's output conform to ONP 8, Canusa offered to modify the Agreement. Specifically, Canusa offered to accept 500 tons per month of ONP 7/8 (also known as "export news") instead of the higher quality ONP 8. See Ex. 49-A, (Ltr. from David Knight to Mike Lobosco dated December 13, 1993); Ex. 49-B (Ltr. from David Knight to Ken Knigan of Lobosco dated September 13, 1993). Michael Lobosco never signed this agreement; however, he testified that he acted pursuant to his understanding of it. See Tr. at 261. Lobosco also testified that he told Knight not to ship this product to a newsprint mill because it would be rejected, but that Knight went ahead and did so. See id. Knight's testimony was similar, except that Knight stated that the material was rejected because it had rotted due to moisture. See id. at 146, 157-8. In the month following this amendment (October, 1993), the amount of paper Lobosco shipped to Canusa almost doubled.

 Although Lobosco had shipped 440 tons in January of 1994, that number decreased to 270 in February and zero in March. In January 1994, Canusa offered to accept a "baler fee" payment of $ 3.00 per ton, relieving Lobosco of any obligation under the Agreement. See Pl.'s Ex. 50 (Ltr. from Canusa to Lobosco dated January 25, 1994). In March 1994, Canusa again offered to modify the Agreement. Lobosco would pay, in addition to the regular baler payment, $ 3,000.00 per month. This amount was computed on the basis of a $ 2 per ton profit on the 1500 tons that Lobosco was to have shipped to Canusa. In return, Canusa would release Lobosco from its obligation under the Output Agreement. See Pl.'s Ex. 52 (Ltr. from Canusa to Lobosco dated March 30, 1994). Lobosco never accepted this proposal. See Tr. at 51-2. Canusa filed its complaint on June 27, 1994.

 Canusa sought damages for breach of contract, fraudulent inducement, and replevin of the baler. The parties entered into a stipulation of partial settlement on June 30, 1994, which provided that Lobosco would purchase the baler from Canusa, settling the replevin and rent claims, but that Canusa reserved all of its other rights under the Equipment Lease, guarantee, and Agreement. See Pl.'s Ex. 4 (Stipulation of Partial Settlement). At trial, Canusa's fraudulent inducement claim was dismissed; thus, only the ...

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