The attitude towards and ability to lend money inevitably change during times of economic uncertainty. So, in these times the question as to whether lenders are legally obliged to provide funding to potential borrowers becomes particularly pertinent. This article looks at instances in which these types of obligations can arise. In Part II of this article, consequences of a wrongful refusal to lend and how lenders may seek to avoid such obligations will be explored.
Determining whether there is an Obligation
For term loans a claim based on an “obligation to lend” could be based on a failure to disburse funds at all. There have been cases in which borrowers have claimed that lenders failed in their obligation to advance further loans to complete projects. For revolving facilities, a claim could be based on a lender’s refusal to re-advance a sum that has been repaid under a facility. In relation to overdraft or demand facilities a claim may result from the exercise of what the lender could see as a right to terminate a facility.
It is contract law which decides questions as to the loan agreement parties’ various obligations, in the absence of any property right created by way of security.  Evaluating the obligation to lend therefore includes determining whether there is a binding contract to advance funds and whether under the terms of that contract the lender has grounds to refuse to advance those funds.
Smaller loans are often made by use of a commitment (or facility) letter from the lender which contains the basic terms of the loan and constitutes an offer, which is accepted by the borrower. However, in larger loans it is usual that the letter is followed by formal documentation. The commitment letter in the latter situation may constitute: (a) a binding obligation to lend, (b) a commitment to lend if certain conditions are met, or (c) an expression of intent to enter a contract.
A contract is formed when there has been an offer made, when that offer is accepted, when consideration passes between the parties, provided that the parties intend to create legal relations. Financing contracts are often created through on-going discussions, lengthy negotiation processes and in stages.
Intention to Enter into Legal Relations
An important question is whether the parties, objectively speaking, can be said to have intended for an agreement to have been reached. The application of the objective test examines what the parties said and did and not what they intended to say or do.
Market Practice, Conduct of Parties and Terminology
A modern application of the objective test for intention is seen in Bear Stearns Bank plc v Forum Global Equity Ltd. The main issue in this case was whether the Claimants (“Bear Stearns”) concluded a contract with the Defendants (“Forum”) that Bear Stearns would acquire from Forum some distressed debt by way of notes. Bear Stearns said that a contract was concluded on July 14, 2005 in a teleconference between the parties. It was undisputed that then, the relevant parties agreed upon a price for the notes and “something was said about a settlement date, but no specific date was agreed”. Forum disputed that they made any binding contract stating, inter alia, that the parties did not intend to create legal relations. Andrew Smith J decided:
“the proper approach is, I think to ask how a reasonable man, versed in business, would have understood the exchanges between the parties. Nor is there any legal reason that the parties should not conclude a contract while intending later to reduce their contract to writing and expecting that the written document should contain more detailed definition of the parties’ commitment than has previously been agreed”.
In assessing the necessary intention to create contractual relations, it was seen by the court as important to consider the market in which the parties were conducting their negotiations. For instance, evidence that the usual “point of contract” for trading such assets is orally in telephone conversation was considered.
What terminology communications connoted was also of relevance. The Defendant’s acceptance of what the Claimants stated to be a “firm bid” of Eur2.9 million “evinced an intention to conclude a contract”. Similarly, in Novus Aviation Ltd v Alubaf Arab International Bank BSC(c) Leggatt J concluded, ‘I think it plain from the terms of the commitment letter that it was intended to create legally binding relations. Any possible doubt about that conclusion is dispelled by the provision headed “Governing Law’”.
The Significance of Signatures
Signatures to agreements, while desirable are not necessary to evince an intention to enter into a legal agreement. This was demonstrated in Maple Leaf Macro Volatility Master Fund and another v Rouvroy and another which involved a funding agreement.
The Appellants argued that the only way the funding agreement could become binding was by the appending of the signature of all relevant parties. The court did not accept this. In his judgment, Longmore LJ stated:
“…The signatures are evidence and no doubt the best evidence of what had been agreed, but they are not themselves conditions of the agreement.”
He continued by echoing the words of Steyn LJ, “The fact that the transaction was performed on both sides will often make it unrealistic to argue that there was no intention to enter into legal relations.”
“Subject to Contract” – A Silver Bullet?
On the other hand, it is possible to provide expressly that there is no binding contract by stating in a preliminary document such as a commitment letter or term sheet that it is “subject to contract”. However, the mere inclusion of this phrase in preliminary documentation will not prevent the parties from being contractually bound to each other if their subsequent conduct contradicts this expression.
A good illustration of this is in Rugby Group Ltd. v ProForce Recruit Ltd. Here the appellant (“Rugby”), a cement manufacturer appealed a decision made in a claim that had been brought by the respondent (“Proforce”) an employment and recruitment agency. ProForce contended that Rugby’s failure to look to them to provide their additional personnel requirements at the site was in breach of an agreement. One of Rugby’s arguments was that by virtue of the words “subject to contract” the agreement was not an enforceable contract and therefore ProForce’s claim must fail. In delivering his judgment, Field J said however:
“… the agreement cannot be regarded as being executory because after it was signed the parties did those things that the agreement contemplated that each should so for the benefit of the other.”
“[T]hose things” included the fact that ProForce supplied personnel and equipment defined in the agreement and Rugby paid monthly charges for personnel and equipment, leaving the court to conclude that the parties were to be taken to have entered into an implied binding contract on the terms of the agreement.
Conduct of the parties subsequent to making the document that is ‘subject to contract’ is therefore important. Professor Rawlings has suggested that it might be the case that a letter containing the essential terms required to operate a loan but stating that no obligation will arise unless formal contracts are drawn up will turn into a contract if the lender advances, and the borrower accepts the funds. This conclusion, he notes, need not be affected by the fact that the parties continue to negotiate and to agree new terms since these may merely constitute a variation of the original contract rather than a failure to agree.
A recent decision of the Supreme Court of New South Wales highlighted “four” categories of agreement to contract. In essence these were:
where parties have reached finality in arranging all the terms of their bargain and intend to be immediately bound but:
at the same time propose to have the terms restated in a form which will be fuller or more precise but not different in effect, or nevertheless have made performance of one or more of the terms conditional upon the execution of a formal document, or they expect to make a further contract in substitution for the first contract, containing, by consent, additional terms, or
the intention of the parties is not to make a concluded bargain at all, unless and until they execute a formal contract.
Certainty of Essential Terms
For a contract to be binding the parties must express their agreement in a form which is sufficiently certain to be enforceable in court.
In the UK Court of Appeal case Beddow v Cayzer, Mummery LJ stated:
“… If the express terms that are pleaded are significant, but are too uncertain and vague to be legally enforceable, there can be no concluded and binding agreement...”
Uncertainty may arise from one of several sources. For instance, an agreement’s terms may be too vague to be enforced by the courts, or the agreement could be incomplete because parties have not settled some aspect of it.
Agreements to Agree
Agreements may contain a clause whereby the parties are to later decide on a particular aspect of the arrangement, that is, they may make an agreement to agree.
The leading authority where an agreement was held void and unenforceable as an agreement to agree remains the House of Lords decision in May and Butcher v. The King where in a purported contract, decisions on prices, quantities and dates of purchase of tentage were deferred.
Later, the proposals made by the claimants for purchase were not acceptable to the defendants, who said they considered themselves no longer bound by the agreement.
In his judgment Viscount Dunedin stated:
“To be a good contract there must be a concluded bargain, and a concluded contract is one which settles everything that is necessary to be settled and leaves nothing to be settled by agreement between the parties. Of course it may leave something which still has to be determined, but then that determination must be a determination which does not depend upon the agreement between the parties.”
In the High Court decision in K/S Victoria Street (a Danish Partnership) v House of Fraser (Stores Management) Ltd and others John Randall QC noted that “[t]he leading authority where an agreement has been held, in the face of …an agreement to agree…, to be sufficiently certain, with the court being able to supply the necessary mechanics to make the agreement work, is another decision of the House of Lords, Sudbrook Trading Estate Ltd v Eggleton …Thus an agreement is not incomplete merely because it calls for some further agreement between the parties. Even the parties' later failure to agree on the matters left outstanding will vitiate the contract only if it makes it 'unworkable or void for uncertainty'.”
In lending transaction documents, it may be possible to create certainty by reference to various mechanisms, such as where the contract refers to external objective criteria that would be used if a determination has been made, or by the use of a master agreement to which a transaction is stated to be subject. However, an “agreement may lack contractual force where, though it lays down a criterion for resolving matters which are left open, it goes on to provide that the principles for determining the application of that criterion are to be settled by further negotiations between the parties”.
Limits to Liberality
Judges generally do not want to “incur the reproach of being the destroyer of bargains”. In implying terms, the courts may reference established customs and trade usage and terms may be implied by reference to previous dealings between parties.
Limits to what can be implied by courts however are seen in the 2015 UK Supreme Court case, Marks & Spencer plc v BNP Paribas Securities Services Trust Co (Jersey) and another where it was emphasized that it must be necessary to imply the term and that it is not sufficient that it would be reasonable to do so. The reasonable reader: (i) is treated as reading the contract at the time it was made and (ii) would consider the term to be so obvious as to go without saying or to be necessary for business efficacy.
It is not unusual that for a timely close of negotiations, some discretion is given to one party (usually the lender) in relation to some aspect of the transaction terms. Courts have placed limits on such discretion. A leading case on this matter is Paragon Finance plc v Staunton & Paragon Finance plc v Nash where mortgages contained a clause in which interest rates were variable at the Claimant’s discretion.
In his judgment Dyson LJ reasoned:
“I would hold that there were terms to be implied in both agreements that the rates of interest would not be set dishonestly, for an improper purpose, capriciously or arbitrarily. I have no doubt that such an implied term is necessary in order to give effect to the reasonable expectations of the parties… there was an implied term of both agreements that the Claimant would not set rates of interest unreasonably in the limited sense that I have described.”
In Socimer International Bank Ltd (in liquidation) v Standard Bank London Ltd, Rix LJ observed that “Implications of good faith and rationality, and of lack of arbitrariness or perversity, are standard, for they represent the very essence of business, and other, relationships. Once one goes beyond them, however, the matter becomes much more uncertain.”
The Short of It
It has been suggested that in practice ultimately it comes down to a determination of the stage the parties have reached: is there an enforceable agreement, or have the parties not yet arrived at that position and are still negotiating? In determining the matter the court seeks to discover the intention of the parties and in order to do so will consider both the documents and any apparent acts of performance that have taken place. However, not sparing effort to ensure that the prospective borrower and lender are “on the same page” in negotiations for lending contracts may spare a tribunal the task of looking through the imperfect lens of a reasonable man in hindsight.
 Deslauriers and another v Guardian Asset Management Limited (Trinidad and Tobago)  UKPC 34
 Alastair Hudson, The Law of Finance (Second Edition, Sweet & Maxwell 2013), 973
 The issue of validity of a contract can also have a bearing on the question. For instance, invalidity based on misrepresentation or mistake in pre-contractual negotiations can give rise to an avoidance of the contract, recovery of damages or other remedies.
  All ER (D) 103 (Jul)
  EWHC 1575 (Comm)
  EWCA Civ 1334 
in G. Percy Trentham Ltd v Archital Lucifer Ltd  1 Lloyd’s Rep 25 at p 27
  EWHC 70 (QB)
 ProForce subsequently appealed this decision successfully in the Court of Appeal [Proforce Recruit Ltd v The Rugby Group Ltd  EWCA Civ 69] in relation to other findings that had been made in favour of Rugby by Field J, but the Court of Appeal did not reverse Field J’s conclusion on the “subject to contract” point.
 Philip Rawlings, “Avoiding the Obligation to Lend”  Journal of Business Law 91
Bobi Damcevski v Emilios Demetriou & Ors 2018 NSWSC 988
  EWCA Civ 644 
  2KB 17
 K/S Victoria Street (a Danish Partnership) v House of Fraser (Stores Management) Ltd and others  EWHC 3006 (Ch).
 sitting as a deputy High Court judge
  1 AC 444
 K/S Victoria Street (a Danish Partnership) v House of Fraser (Stores Management) Ltd and others  EWHC 3006 (Ch). (citing Chitty on Contracts (30th ed 2008) vol 1)
 Hillas & Co. Ltd v. Arcos Ltd  All ER Rep 494
 Hillas v. Arcos  All ER Rep 494
  UKSC 72
  2 All ER 248
 The limited implication in which “unreasonably” was understood in a sense analogous to the Wednesbury sense. See also Socimer.
  EWCA Civ 116
 The application of these principles in relation to discretion in an employment contract was recently seen in the Jamaican Court of Appeal case of Beverley Williamson and Richard Roberts v The Port Authority of Jamaica Supreme Court Civil Appeal No 117/2017
 Philip Rawlings “Avoiding the Obligation to Lend”,  Journal of Business Law 91