Thomas v. Gusto Records, Inc.
939 F.2d 395 (1991)
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Rule of Law:
When a contract is silent on a material term, such as the royalty rate for a specific type of income, a court may admit evidence of industry custom and usage to fill the gap, provided the custom does not contradict an express term of the agreement.
Facts:
- Plaintiffs B.J. Thomas, the Shirelles, and Gene Pitney are successful musicians who entered into recording contracts with Scepter Records in the 1960s.
- The contracts for Thomas and the Shirelles specified royalty rates for records manufactured and sold by the company and for foreign sales by licensees, but were silent regarding royalties from domestic licensing of the master recordings to third parties.
- Gene Pitney's contract similarly set royalty rates for records sold by the company or its affiliates but did not address royalties from licensing to unaffiliated third parties.
- Over several years, the master recordings of the plaintiffs' songs were transferred through a series of conveyances.
- In the mid-1980s, defendant G.M.L., Inc. purchased the master recordings, and its sister company, defendant Gusto Records, Inc., began selling and licensing copies of them.
- Gusto and G.M.L. profited from the sales and licensure of the plaintiffs' masters throughout the 1980s without paying royalties to the plaintiffs.
Procedural Posture:
- The plaintiffs sued Gusto Records, Inc. and G.M.L., Inc. in the United States District Court for breach of contract, seeking unpaid royalties.
- Following a five-day bench trial, the district court found in favor of the plaintiffs, awarding them a total of $843,209.89 plus prejudgment interest.
- Gusto Records, Inc. and G.M.L., Inc., as appellants, appealed the district court's judgment to the United States Court of Appeals for the Sixth Circuit.
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Issue:
Does a court err by looking to industry custom and usage to determine royalty rates for income streams, such as domestic licensing, where the recording contracts are silent or ambiguous on that specific issue?
Opinions:
Majority - Boyce F. Martin, Jr.
No, a court does not err by looking to industry custom and usage to fill gaps in a contract that is silent or ambiguous. Under New York law, custom may be used to clarify ambiguities or to 'fill gaps' in an agreement. The contracts for Thomas and the Shirelles were silent on domestic licensing royalties; therefore, introducing industry custom (a 50% royalty rate) does not contradict any express term. Similarly, the term 'licensee' in the foreign royalty clause, when read in context with 'subsidiary, affiliate, [and] nominee,' refers to entities with a business relationship to the master's owner, not independent third-party licensors. The court also held that defendants assumed the liability for unpaid royalties from the prior owner based on their conduct, such as claiming rights to pre-sale income. Finally, where a defendant's 'unseemly' and 'woefully inadequate' record-keeping makes an exact calculation of damages impossible, a court may accept a plaintiff's reasonable estimate as long as it is based on a 'stable foundation'.
Concurring-in-part-and-dissenting-in-part - Kennedy
The majority is correct on all points except for holding the appellants liable for royalties incurred by the prior owner, Koala Records. While an implied assumption of liability is possible when a contract is silent, the district court made no specific factual finding that such an implied term existed in the sale from Koala to the defendants. The expert testimony alone was insufficient to support a finding of an industry custom of assuming such liabilities. Therefore, the case should be remanded for the district court to make a specific finding on whether the defendants impliedly assumed the prior owner's royalty obligations.
Analysis:
This decision reinforces a fundamental principle of contract law: courts will strive to give effect to the parties' intentions and prevent unjust enrichment by using evidence of industry custom to fill gaps in incomplete agreements. It firmly rejects the argument that silence on a term implies a zero-royalty obligation, which would lead to a harsh and commercially unreasonable result. The ruling also serves as a significant deterrent to poor or manipulative accounting practices, establishing that a party who causes uncertainty in damages cannot then use that uncertainty to escape liability. For future cases, it solidifies that damage calculations do not require 'theoretical perfection' when a defendant's own misconduct makes precision impossible.
