Contract Basics Series 2: Contract Formation - Inadvertently creating binding contractual obligations - DAC Beachcroft

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Contract Basics Series 2: Contract Formation - Inadvertently creating binding contractual obligations

Published On: 29 June 2015

Welcome to the second of our series of simple briefings aiming to highlight some of the more common issues relating to contracting.

Inadvertently creating binding contractual obligations

Beware of communications sent for negotiation purposes only unexpectedly becoming an enforceable contract. 

There is often an assumption that a contract is not legally binding until it is in writing and signed by the parties – wrong! As a result, organisations make offers, counter-offers and informally negotiate the terms of proposed agreements every day over the phone and via email without realising that they may have already entered into a binding contract.

Case law shows that even those limited types of contracts, which are subject to special rules that require them to be in writing and signed (for example, guarantees), can be created by a series of relatively informal negotiating emails - even those containing 'text' speak' - provided the parties intend to be bound; it is not necessary that all material terms are contained in a single, stand-alone document. As for the signature requirement, the Courts have held that an electronic signature at the bottom of an email exchange concluding the contract is sufficient, and that a first name, initials, or perhaps even a nickname would suffice. 

A contract is ordinarily formed where certain key elements – offer, acceptance, consideration and intention to create legal relations – are present. Although acceptance of the terms of a contract is usually indicated by way of signature it is important to remember that this is not the only way. For example, the parties can indicate their agreement to a contract by simply going ahead and performing their obligations under it.

If you do not intend for correspondence such as email exchanges to have binding legal effect until the execution of a final written contract then appropriate precautions need to be taken from the outset to make this clear. 

Avoiding the Risk

  • Always have the four key elements of contract formation in the back of your mind when negotiating contracts. 
  • Use words such as "offer", "agree" and "accept" carefully and think before you respond during the negotiation stage with comments that could be interpreted as indicating that all the terms of a contract are settled and the only thing left to do is to record them in a formal written agreement. 
  • If you are in pre-contractual negotiations and do not intend the negotiations to constitute a binding contract, a good way to indicate this is to include the words "subject to contract" on all communications and agree with the other side, up front (and in writing!) that the parties do not intend to be bound until a formal written document is executed. Whilst this is not a failsafe way of mitigating the risk it helps to evidence that this was the parties' intent.
  • In addition, offers, counter-offers and terms of proposed agreements should be explicitly caveated if they are intended to be subject to any relevant conditions. For example, if an offer is subject to board approval, negotiation of a satisfactory contract or outstanding due diligence then always make sure that the other party is made aware of that.
  • When negotiating a contract take steps to ensure that no work commences in advance of the terms of the contract being agreed. Offers can be made and accepted by behaviour so starting the work yourself, or permitting the other side to begin work may in itself be used as evidence a binding contract has already been created. If part of the works or services need to commence before the final contract has been agreed, then at least make sure that the terms which apply to that part are appropriately documented.
  • Do not rely on the absence of a signature. A signature is not always required to evidence 'acceptance' of a contract, and an electronic signature at the bottom of an email may well be taken to be sufficient to authenticate a legally binding contract.

If you are in any doubt as to the risks you may be taking in exchanges of correspondence forming part of your pre-contract negotiations do seek legal advice. Of course, if we can help you with any of the issues raised above, please do not hesitate to get in touch.