Siempre que firme

Or, everything you wanted to know about formation of contract...

"Give him anything he wants; just make sure he signs" says the Italian football manager to his stooge as he sends him off in his Renault Laguna to hire the footballer David Ginola. The advert ends, predictably, with Ginola signing a cheque to buy the car from the stooge rather than signing the contract.

Similar confusion occurs every day in the construction industry. Employers, thinking that the construction of their development is being done under a straight forward JCT98 contract, discover in court that either the terms governing the work are actually contained in twenty six letters to and from the contractor; that they have inadvertently accepted the contractor's standard terms, or that there is no contract at all.

It is not only small subcontractors who are engaged on a casual basis to carry out work following nothing more than a simple order; even international corporations building multi-million pound infrastructure projects sometimes end up with their contract documents awry.

The reason is simple: negotiating contracts takes a long time and an employer can rarely afford to wait until a contract is signed before works commence. The plan is to continue negotiation of the tendered contract documentation during the construction period and aim to sign the contract some time during that period. Often, however, the contract is never signed either because the parties never agree on the key terms, or because it gets forgotten amongst correspondence dealing with AIs, RFIs, CVIs and programmes etc.

Does it matter?

Whether or not there is a contract, and which terms apply, only becomes important where there is a dispute.

If a formal contract has not been concluded then in the event of a dispute the parties will undoubtedly argue about which terms apply. If there have been negotiations then each side will say that their own position is the correct one, and that the other party accepted their points. Acceptance of another party's terms can happen without having to write in a letter "we accept your terms". It may be deemed to have occurred if there is silence on the subject, or if the conduct of a party implies that he has accepted a term.

If there is no contract at all (see below for how this can happen), then some of the consequences could be:

• the contractor will be entitled to be paid on a "quantum meruit" basis - i.e. the actual cost of the work plus profit rather than lower, tender prices, as well as items which an employer would normally expect to be factored into the price of the finished work, such as the cost of preparatory work;
• the Housing Grants, Construction and Regeneration Act 1996 will not apply, which means that the contractor will not have the right to payment by instalments, nor the benefit of restrictions on set-off, and neither party will have a statutory right to bring an adjudication;
• the contractor will probably not have an obligation to continue and complete the work, nor to complete it within a reasonable time. Therefore there will be no damages for delay;
• it will be very difficult for an employer to claim damages for breach of contract of any type. This means that where a contractor claims the price of work done, the only likely defence available to an employer will be abatement of price for defective work; any other counterclaim or set-off will probably fail;
• arbitration clauses are likely to fail.

So how does a contract come about then?

The first point is that you do not need to have a single, formal signed document to have a contract - but it helps. An unsigned document can still be a valid contract if its terms have clearly been agreed by both parties.

Even if there is no formal document, a contract may still be salvaged out of correspondence and/or negotiations between the parties, and any court will do its best to find a contract by looking at all the communications and picking out the terms which have been agreed.

The four constituent elements of a contract are: offer, acceptance, intention to create legal relations and consideration.

The majority of disputes arise out of how to define acceptance, although this frequently involves a further analysis of the offer.

The contract process starts off with an offer, but the contract is not formed (assuming that there is no dispute about the intention to create legal relations or consideration) until acceptance has occurred.

Acceptance is a final and unqualified expression of assent to the terms of an offer. This is where the difficulty lies. Frequently a party will respond to the terms of the offer with a long list of its own conditions. If any of these terms do not correspond with the terms of the offer, then this response will be a counter-offer, not an acceptance. The counter-offer will "kill" the offer and thus become the terms which then have to be accepted by the other party. If the other party fails to accept this offer then there will be no contract at all.

In other words, where the purported acceptance introduces a new term into the bargain rather than being a clear acceptance of the offer, then no contract will have been formed. Remember though that acceptance can sometimes be implied by silence and by conduct - so if you do not agree with the terms proffered by a party in response to your own, then it is advisable to say so in writing.

The usual scenario is that many legally significant exchanges take place: letters; standard terms; meetings; telephone conversations and actions. All these can introduce new terms or accept old terms at any time. At some point it is hoped that all the terms will have been agreed and at that point a contract will have come into being. As soon as this has happened then the contract is formed and subsequent negotiations will not affect it.

So, does that mean that if everything has been agreed apart from, say, the colour of the door frames then there will be no contract?

Not quite. This is where it gets complicated! In order to form a contract, the parties only need to agree on the essential terms. These can be defined as:

• terms without which the contract cannot be enforced or commercially workable; and/or
• terms which are essential in the eyes of the parties - ie that they at that time regarded as being requisite for a contract.

So if the colour of the door frames was, in the clear opinion of both the parties, an essential term without which the contract could not go ahead, then indeed there would be no contract.

This is of course unlikely. Such essential terms are more likely to be price, time and a broad description of the works.

However, if the parties do not appear to have considered price or time to be essential, then these terms can be implied into the contract under the Sale of Goods and Services Act 1982: that a reasonable price will be paid, and that works will be carried out and completed within a reasonable time.

It is worth mentioning at this point that the rules of evidence do not allow you to say in court "actually, I always thought that the colour of the door frames was an essential term" or the like. The subjective intentions of the parties is determined by the judge from the documents presented to him in evidence. He decides, putting himself in the shoes of each party making a particular contract at a particular time for a particular purpose, what their intentions as reasonable commercial men or women are likely to have been.

So is there any way of making it clear during negotiations that no contract is agreed until a formal document has been signed?

Yes, and this is frequently attempted - both successfully and unsuccessfully. The easiest method is to use the words "subject to contract" and to stipulate from the start that the agreement will not take effect until a document is formally executed. Such stipulations will be examined by the court to determine if the intention really was that the agreement was not to be legally binding until such a document was signed; if the document was merely intended only as a solemn record of the agreement, or if the negotiations resulted in a preliminary contract entitling the contractor to a reasonable remuneration.

Does this mean that a party will always be entitled to be paid for work done, even if the work is only done in anticipation of a contract which is never eventually awarded? Where does that leave costs of tendering?

A promise to award a contract is usually unenforceable and therefore work done in trying to win a contract normally goes unrewarded. However, there have been some cases in which a party has been rewarded. In these cases, the party who had done work managed to show that it had relied on an understanding to its detriment, or to the advantage of the other party, and that the services provided were not normally of the kind to be provided for free. Therefore it is as well to be cautious when engaging, for example, a consultant to do a site study with the implication that the consultant will then be awarded a full services contract. It should be made clear that the consultant will not be paid for the site study, and that the right is reserved to tender for the final contract with no guarantee that the consultant will win.

Letters of intent - do they create a contract?

Unfortunately there is no straight answer to this question. It will depend on the facts in each case, and on the way the letter of intent is worded. A contract certainly could come into existence following a letter of intent if the letter clearly showed that the parties had agreed reciprocal obligations; or if it was a clear offer which was accepted by being acted upon by the other party.

Summary

• An offer is a willingness to contract with the intention that it is to become legally binding as soon as it is accepted.
• Acceptance is the final and unqualified expression of assent to the terms of the offer.
• The offer and the acceptance must correspond.
• The parties must agree on all terms they regard as being requisite to bring the contract into existence.
• For the purposes of the above, the court will ask:
  • Were the relevant terms in truth agreed?
  • Did the parties intend to be bound despite the absence of agreement of the relevant terms, and are those terms capable of being supplied by operation of law, custom or implication?
  • Did the parties intend to be bound as above and did they consider that those terms were objectively inessential in the sense that the contract was complete, workable and enforceable without them?
  • Despite the failure to agree before performance of the contract began, was there a later agreement of the relevant terms which brought into existence a contract relating back to pre-contractual performance?
• The parties must not omit a term regarded as essential by law, although if it is not expressly agreed, it may be implied by law
• Where there is a stipulation for a formal written document, it is a question of fact whether or not the agreement will take effect until the document is executed.
• Where performance has been rendered, the court will seek to find a contract if possible.
• Just make sure he signs! For further information, please contact Vanessa Hall on [email protected] or on +44 (0)20 7367 2670.