Opinion ID: 3044762
Heading Depth: 2
Heading Rank: 1

Heading: Losses Related to Defective Lock-Nuts

Text: Elastic Stop Nut of America (“ESNA”), an operating division of Harvard, manufactured lock-nuts for use in commercial and military aircraft engines and airframes. 8 Harvard sold the lock-nuts to various distributors, who resold them to aircraft manufacturers. Military and commercial specifications required that the lock-nuts be baked for 23 hours in order to withstand extreme temperatures during use. Failure to comply with this requirement could result in a condition called “hydrogen embrittlement” which could cause the locknuts to crack and fail. In 1993, it was discovered in the course of an internal investigation that certain of Harvard’s lock-nuts were defective because they had not been baked for 23 hours as required. When the defect was discovered, Harvard informed its customers and stopped shipping the lock-nuts pending further investigation. Prior to the time Harvard stopped shipping the lock-nuts, there were no reported instances in which the failure of an ESNA lock-nut caused an accident or resulted in personal injury or property damage. In some cases, efforts were made to 9 recall and rework some of the lock-nuts. However, several distributors who had received the defective lock-nuts refused to pay for them because they could not be resold and/or had to be recalled. Harvard’s largest customer - Harco - filed suit against Harvard based on the sale of defective lock-nuts, alleging: (1) breach of contract; (2) breach of implied warranty of merchantability; (3) breach of the implied covenant of good faith and fair dealing; (4) fraud; (5) negligent misrepresentation; and (6) civil RICO violations. The suit was ultimately settled in an agreement dated April 22, 1996. Pursuant to that agreement, Harvard paid Harco $820,000 and Harco agreed to “release and discharge” Harvard from “any and all claims asserted” in Harco’s complaint. Harvard then entered into settlement agreements with other distributors, whereby ESNA forgave a total of $3,009,807 in receivables for the lock-nuts. Harvard 10 subsequently claimed that it should be allowed to treat all these expenses as “product liability” losses eligible for a ten-year carry-back.