Contract Basics series #1: Working without a written contract
Published 27 May 2015
Welcome to the first of our series of simple briefings aiming to highlight some of the more common issues relating to contracting. We will be releasing a new alert every month for the next 12 months, each focussing on a different topic.
Working without a written contract
It is a common misconception that for a contract to be legally binding, it must be in writing and signed by the parties. In fact, provided that the key elements of a contract are present – offer, acceptance, consideration and the intention to form legal relations – the parties will be legally bound to each other to deliver on the arrangements. If these factors are present but there is no clear record of each party's agreed duties and responsibilities, the arrangements will be governed by a set of unwritten, implied and often uncertain contract terms – risky for all parties.
What are the key risks of working without a written contract?
- The most obvious risk relates to misunderstandings between the parties as to what has actually been agreed e.g. precisely what will be delivered, within what timescale, and to what standard? Without written terms, establishing the scope of a contract may come down to an analysis of one party's word against the other: an unsatisfactory and potentially expensive path that can lead to damaged relationships, formal disputes and even legal action. Additionally any attempt by a purchaser to enforce rectification against a standard which the provider does not recognise is likely to prove ineffective, time consuming and expensive; the purchaser could even find itself in breach of contract if it attempts to exercise rights that it doesn’t actually have e.g. by assuming it has a right to terminate (e.g. for perceived poor performance) in circumstances where that course of action is found not to have been warranted.
- In the event of a dispute as to how much should be paid in exchange for services actually performed/goods provided, the parties may find themselves in the uncertain position of having to rely on an analysis by a court of what is a fair and reasonable payment for those services or goods.
- If a breaching party is unable to evidence an agreed financial cap on its liability and the matter goes to court, the court would decide that party's financial liability to the other party by considering the extent to which its actions caused the other party's loss. The breaching party could well find that it has exposed itself to a level of loss that bears no relationship to the value of the contract whatsoever.
- Beware of unwritten variations to earlier written contracts. Even if a written contract includes a clause stating that all variations to the contract must be in writing, if the behaviour of the parties strongly indicates that a change has been agreed, that change is likely to be enforceable. After all, just as it was open to the parties to agree that changes have to be in writing, they can equally also agree to change their minds on that point!
Avoiding the risks
- If appropriate, consider drawing up "heads of terms" documenting the principles that the parties have agreed will govern the arrangements. This process should flush out any areas of contention and should make the process of negotiating and agreeing a written contract far more straightforward.
- Marry in haste – repent at leisure! Make sure you leave enough time in advance of the contract start date to negotiate and draft a suitable contract; this process often takes longer than expected.
- There can be a temptation to 'fudge' an agreement in order to get signatures on the page and 'get on with it', but this could be storing up problems for the future, when they will invariably be messier and more expensive to resolve. If contract negotiations are really going badly (e.g. there are several major sticking points), maybe it's time to think again about whether the deal (or the other side) is actually suitable.
- Proper contract management is key to avoiding the risk of unwanted implied variations – the individuals responsible for administering a contract need to understand each party's contractual rights and responsibilities in detail and take steps to ensure that they are adhered to. This will necessitate educating others (e.g. service delivery people) to stick to the processes set out in the contract and not hold themselves out as having authority to vary contract terms, where this is not the case.
For these reasons, it is very good practice to always have a written contract – it need not be complicated or lengthy, and you could save yourself the time, money and stress that can result from managing undocumented arrangements. If we can help you with any of the issues raised above, please do not hesitate to get in touch.