Commercial negotiations are commonly conducted by email where the parties express informal agreement on the terms and say ‘it is subject to contract’ or ‘subject to the execution of a contract’.
A party might use the expression ‘subject to contract’ or similar expression, thinking that they will not be bound until a formal contract is executed. In some circumstances, you may be immediately bound even though a formal contract is not executed.
In Stellard Pty Ltd v North Queensland Fuel Pty Ltd  QSC 119, a seller who had been attempting to play one buyer against another argued there was no binding contract for the purchase of a roadhouse.
The buyer successfully argued the exchange of emails was a binding contract, even though the emails used the expression ‘subject to contract’.
In Stellard, the actual communications and conduct of the parties were material to the Court’s decision.
The seller and buyer in earlier communications had reached agreement on the details of the property being sold, the purchase price, deposit, valuation of stock, the length of the due diligence period and the date and place for settlement.
The seller also provided to the buyer the seller’s ‘draft contract’ containing the seller’s special conditions. Special condition 4 required the buyer’s directors to provide a guarantee.
The seller and buyer had further telephone conversations where the buyer said that the contract would be generally on the terms of the written contract provided, with due diligence including environmental investigations. The buyer did not agree to provide any guarantee.
The seller asked the buyer to put its offer in writing.
The following then occurred:
- An email was sent by the buyer saying:
This offer is of course subject to contract and due diligence as previously discussed. We are hopeful of effecting an exchange of contracts next Monday but need acceptance of our offer immediately so we are in a position to instruct the appropriate consultants to carry out the necessary investigations.
I look forward receiving your client’s confirmation that our offer is accepted as clearly both parties are now going to start incurring significant expenses.
- Approximately 45 minutes later, the seller responded by email:
We accept the below offer which we understand will be subject to execution of the contract provided (with agreed amendments) on Monday, minimal due diligence period and the provision of all information/reports, etc. that are obtained by the purchaser during the due diligence period.
We look forward to progressing the matter further on Monday.
- On the Monday, the buyer’s solicitors provided to the seller an amended contract deleting the special condition 4 guarantee and inserting two new special conditions relating to due diligence and environmental conditions.
The seller’s case
The seller argued there was no binding contract because:
- The alleged ‘offer’ contained in the email exchange was not an unconditional offer capable of unqualified acceptance because it was expressed to be ‘subject to contract’.
- The parties had not reached agreement as to the material terms of the proposed transaction, namely whether the directors of the buyer would be required to execute a personal guarantee. The seller had sent a draft contract, which included a provision requiring a guarantee, but this had not been accepted by the buyer.
- The parties did not manifest an intention to become legally bound to a contract and no intention could be inferred where the parties did not progress to the point of execution and exchange of a written contract.
Whether or not a contract has been formed requires an objective determination of the intentions of the parties.
The following principles are relevant:
- The mere fact that the parties contemplate the signing of a formal contract, subsequent to an informal agreement, does not mean that an informal agreement is not presently binding.
- The fact that the parties contemplate the drawing up and signing of a formal contract is a consideration that may point to the conclusion that no presently binding agreement was intended until that formal contract is executed.
- The following factors may make it less likely that the parties intend to be immediately bound before the signing of a formal document:
- the existence of important matters where the parties have not reached consensus; and
- depending on the subject matter, that the parties have not used solicitors but intend to do so for the drawing up of their formal agreement.
- Depending on the size, importance and complexity of the subject matter, the less formal the initial agreement, the less likely it will be that it was intended to be legally binding and enforceable.
- Even where the parties have agreed on the major matters, their subsequent conduct may indicate that they did not intend to be bound until the other issues between them were resolved in a formal document.
- It is necessary in every case to consider the nature and importance of the transaction that the parties contemplate.
- To determine the intention of the parties, a court may examine their subsequent conduct.
- Where a binding agreement is said to have been formed as a result of correspondence, it is necessary to look at the correspondence as a whole. It is wrong to isolate any part of the correspondence from the rest in order to prove or disprove the existence of a binding agreement. The same approach should be taken to the analysis of words and phrases within the correspondence.
After analysing the communications of the parties, the Court held:
- The emails could be considered in light of the prior conversations.
- The subsequent conduct was also relevant.
- The buyer could not point to any conversation or any stipulation in any communication that the provision of a guarantee was a condition precedent to the formation of a binding contract.
- There was no evidence to suggest that the provision of the personal guarantees was a matter essential to the entry into the contract.
- The absence of agreement regarding the personal guarantees did not affect the existence of the contract asserted by the buyer.
- The parties had demonstrated an intention to be immediately legally bound even if a formal contract was not signed.
- The email communications indicated that the parties were content to be bound immediately and exclusively by the terms they had agreed upon while expecting to make a further contract in substitution for the first contract (containing, by consent, additional terms).
Stellard highlights the potential for legal uncertainty as to whether there is a binding contract, where parties reaching informal agreement or consensus during negotiations use the expression ‘subject to contract’ or similar expressions.
Although Stellard dealt with email communications, the principles discussed are equally applicable to other forms of correspondence.
The seller’s position in Stellard would have been greatly improved if the seller had clearly stated in its communications that the provision of the personal guarantees was a matter essential to the entry into any contract and that there would be no binding contract until the personal guarantees were provided.
To reduce the risk of being bound in circumstances where you do not want to be bound, it would be prudent to:
- avoid using terminology such as ‘offer’ and ‘acceptance’;
- avoid merely saying ‘subject to contract’ or using similar expressions;
- clearly state, for example:
- there is no concluded agreement;
- what matters are essential matters or condition precedents that must be complied with before there is any binding agreement;
- where applicable, that you do not agree to the terms of a ‘draft contract’ that has been provided;
- that further material matters still need to be negotiated and agreed;
- there will be no binding agreement unless and until:
- the terms of a formal agreement are negotiated and agreed; and
- the formal agreement is signed and exchanged by the parties.