The recent case of Williams v. Jones, QBD (David Blunt QC), unreported, 25/02/2014, highlighted the application of some of the cardinal principles of the law as to the formation of contracts.
It is trite law that a contract may be formed without the execution of a written document and may even be created orally. As Lord Clarke set out in RTS v. Muller UKSC 14: whether there is a binding contract between parties depends upon what they have agreed. The result does not depend upon the parties’ subjective state of mind, but upon a consideration of what was communicated between them by words or conduct, and whether that leads objectively to a conclusion that they intended to create legal relations and had agreed upon all the terms which they regarded or the law requires as essential for the formation of legally binding relations. This requires reasonable certainty as to the contractual terms. Even where certain terms of significance to the parties have not been finalised, an objective appraisal of the parties’ words and conduct may lead a court to conclude that they did not intend the finalisation of such terms to be a condition precedent to a binding contract.
In Williams v. Jones, the claimant (Williams), as executrix of the estate of the deceased (a Mr. Batters), claimed damages from the defendant (Jones) for failing to perform an alleged oral agreement. The claimant’s case was that Batters and Jones had entered into an oral agreement under which Jones agreed to arrange the purchase of Batter’s shareholding in a company. Batters died and Jones never completed the share purchase transaction, claiming that the proposed share purchase had been conditional upon (inter alia) entry into a formal written agreement. A formal written agreement had been drawn up and Batters and Jones had intended to execute it.
Williams claimed that the written agreement had been intended simply as a record of the agreement, while Jones asserted: (i) that it had to be executed before the agreement could become binding; and (ii) although there was no express stipulation that everything was subject to contract, such a condition was implied.
Sitting as a judge, David Blunt QC concluded:
- Even though certain matters remained outstanding(including the creation of a written agreement), there was a sufficiently certain agreement in place several months before Batters died. By the time of Batters death, there was in fact a final form written document and ready for signature - there were no terms that were still yet to be agreed.
- Although the parties had intended that their agreement should be recorded by a formal written document, they had not intended that their oral agreement should be “subject to contract”. The mere fact that one party pressed for the completion of formal documentation was not an indication that he regarded the agreement as not being legally binding until such documentation had been completed. It was significant that Batters and Jones were friends; an arm’s length transaction might provide some grounds for distinction.
On this basis, an agreement had come in to existence already.
Williams was awarded nearly £200,000 in damages. However, in the context of high risk, high value industries, the consequences of an unexecuted oral agreement can be of much greater financial severity. Those within the oil and gas industry will recall the infamous Texan case of Texaco, Inc. v. Pennzoil Co., 729 S.W.2d 768 (Tex. App. 1987). (For further information about this case, see the excellent narrative by Thomas Petzinger, Jr. in “Oil and Honor: The Texaco-Pennzoil Wars”, 1999 Beard Books, Washington D.C.)
Pennzoil argued that it had entered into an agreement whereby Pennzoil would acquire Getty Oil. Pennzoil signed a Memorandum of Agreement, together with majority shareholders in Getty, but Getty itself did not sign. The transaction remained subject to the approval of Getty’s board. Getty rejected the offer in the memorandum but after further negotiation accepted another price offered. The parties issued a press release. However, investment bankers for Getty continued to look for higher offers and found Texaco, which made an alternative offer to Getty’s board. The Texaco offer was accepted and a completed SPA executed.
Pennzoil then sued Texaco for the tort of interference with its alleged contract to acquire Getty Oil. Texaco asserted that there was no binding contract because the memorandum was subject to the approval of Getty’s board of directors and would expire by its own terms if not approved. In addition, no SPA had been agreed. However, in the opening words of Joe Jamail, Pennzoil’s counsel:
“This is a case of promises…and what those promises meant to Pennzoil, and what they ultimately meant to Texaco…The question ultimately that you are going to have to decide is what a promise is worth, what a handshake is worth, what a contract is worth. Because that’s what a contract is: a promise.”
The court in Pennzoil relied upon two issues of principle, which are similar to those in English law as applied in Williams v. Jones. First: that the determination of whether a party intended to be bound by an unexecuted contract is a question of fact. Second: the terms of a contract must be ascertainable to a reasonable degree of certainty in order for a contract to be enforceable.
Pennzoil won the case; in late 1985 it was awarded $11 billion. (However, just before Christmas, 1987, the two companies agreed on a US$3 billion settlement as part of Texaco’s financial reorganisation.)
Taken together, Williams v. Jones and Texaco v. Pennzoil act as a warning that unless care is taken, negotiations can have created a binding contract before the lawyers get all the details worked out. Texaco v. Pennzoil reveals the potential financial ramifications, whereas Williams v. Jones acts as reminder of the English law approach to contract formation and throws the relevance of the following practices into sharp relief:
- An objective assessment of what was communicated between parties by words or conduct during negotiations may lead to a conclusion that there was an intention to create legal relations, notwithstanding the absence of an executed agreement.
- The fact that a transaction is performed (or part performed) by both sides will often make it unrealistic to argue that there was no intention to enter into legal relations and difficult to submit that the contract is void for uncertainty.
- The mere fact that one party presses for formal documentation of an agreement to be completed is not an unequivocal indication that that party regards the agreement as not being legally binding until the completion of the documentation.
- Marking a draft contract as “subject to contract” and/or expressing that “this draft is in its entirety not to be legally binding” will assist a court in finding that there is no intention to create legal relations. However, it is not definitive and the parties conduct suggests a deal has been done and the “subject to contract” wording waived by conduct.
- Where lawyers are involved on both sides, formal written agreements are to be produced and arrangements made for their execution; this creates an inference that the parties are not bound unless and until both of them sign the agreement.