Subject to contract?

The recent case of Newbury v. Sun Microsystems [2013] serves as a reminder to anyone engaged in drafting, negotiating and concluding contracts (of whatever nature) that the subjective intention of the parties is irrelevant when a court asks itself if a contract has been formed.

FACTS

The facts of Newbury v. Sun are relatively simple.  Mr Newbury issued a claim against Sun for unpaid commission and Sun counterclaimed.  A few days before trial, on 3 June 2013, Sun’s lawyers wrote to Mr Newbury and offered him £601,464.98 plus costs of £180,000 payable within 14 days of acceptance in full and final settlement of his claim, “such settlement to be recorded in a suitably worded agreement”.

Mr Newbury accepted and when Sun subsequently tried to introduce additional terms such as a waiver of any claims against Sun’s parent, Oracle, Mr Newbury’s lawyer notified them that the terms of the letter dated 3 June 2013 formed a binding contract and they could not now seek to introduce new terms.

Sun’s lawyers did not agree.  As a result, Mr Newbury sought a declaration at court that a binding settlement had been reached.

OBJECTIVE TEST

The role of the court in these cases is to look at the contract as a whole, consider the surrounding facts and circumstances of the particular transaction and examine the words used against this background.  It then enquires “what would the reasonable commercial parties, using these words in those circumstances, reasonably have understood them to mean?”

It is important to note that, at no point, does the court ask itself “What did the party making the offer intend it to mean”, or, “What did the receiving party understand it to mean”.  The question is an entirely objective one.

In Newbury v. Sun, the court decided that a binding contract had been formed, namely to pay a certain sum by a certain date.  The reference in the letter of 3 June 2013 to “a suitably worded agreement” was not, the court said, a condition of the contract but mere confirmation that the parties would record the agreement in writing.

“SUBJECT TO CONTRACT”

The Court confirmed that, had Sun’s lawyer marked its 3 June 2013 letter “Subject to Contract” then a different outcome would have been reached because the effect of those words would have been to make it plain to the objective observer that no contract could come into force until all of the terms had been agreed and the document duly signed.

The words “Subject to Contract” are regularly used in property transactions and commercial contracts, but rarely used by litigators.  Why I am unsure, but cases such as this should serve as a salient reminder of the importance of those words.

IMPORTANT POINTS TO NOTE

• A contract is formed when, objectively viewed, two (or more) parties have entered into a binding agreement.
• Whilst the background circumstances can be relevant to the making of that objective     assessment, the steps taken after a contract has been formed have no bearing.
• Terms introduced after a contract has been formed do not, in the normal course of events, bind the parties.  For example, terms and conditions on the back of an invoice after a contract has been formed will not, without more, be binding.
• If you are taking a step which could be construed as an offer but you do not intend to be, (such as sending a draft proposal to a customer or a supplier), say so. For example, mark your offer “Subject to Contract”.
• A contract can come into existence immediately even though there are still further terms to be agreed or some further formality to be fulfilled e.g. Heads of Terms.  If the parties fail to reach further agreement on such further terms, the existing contract is not invalidated unless the failure to reach an agreement renders the contract unworkable.
• Except in exceptional circumstances, an oral contract is as enforceable as a written one.