Contracts

Content

 
 

1. Introduction

A contract is an exchange of promises between two or more parties to do, or refrain from doing, which is enforceable in a court of law. It is a binding legal agreement. That is to say, a contract is an exchange of promises for the breach of which the law will provide a remedy.

Agreement is said to be reached when an offer capable of immediate acceptance is met with a "mirror image" acceptance (i.e., an unqualified acceptance). The parties must have the necessary capacity to contract and the contract must not be trifling, indeterminate, impossible or illegal. Contract law is based on the principle expressed in the Latin phrase pacta sunt servanda (usually translated "pacts must be kept", but more literally "agreements are to be kept"). Breach of contract is recognized by the law and remedies can be provided.

Technically, any oral agreement between two parties can constitute a binding legal contract. The practical limitation to this, however, is that only parties to a written agreement have material evidence (the written contract itself) to prove the actual terms uttered at the time the agreement was struck. In daily life, most contracts can be and are made orally, such as purchasing a book or a sandwich. Sometimes written contracts are required by either the parties, or by statutory law within various jurisdictions for certain types of agreement. For example when buying a house or land.

Contract law can be classified, as is habitual in civil law systems, as part of a general law of obligations (along with tort, unjust enrichment or restitution).

As a means of economic ordering, contract relies on the notion of consensual exchange and has been extensively discussed in broader economic, sociological and anthropological terms.

 

2. Contractual formation

In common law systems, the five key requirements for the creation of a contract are: 1. offer and acceptance (agreement) 2. consideration 3. an intention to create legal relations 4. legal capacity 5. formalities

In civil law systems, the concept of consideration is not central. In addition, for some contracts formalities must be complied with under what is sometimes called a statute of frauds.

Where a product in large quantities is advertised in a newspaper or on a poster, it may be an offer, but generally speaking it will be regarded as an invitation to treat, since even when large stock is held it is still limited, whilst the response to an advertisement may be unlimited.

2.1. Offer and acceptance

The most important feature of a contract is that one party makes an offer for an arrangement that another accepts. This can be called a 'concurrence of wills' or 'ad idem' (meeting of the minds) of two or more parties. The concept is somewhat contested. The obvious objection is that a court cannot read minds and the existence or otherwise of agreement is judged objectively, with only limited room for questioning subjective intention. Richard Austen-Baker has suggested that the perpetuation of the idea of 'meeting of minds' may come from a misunderstanding of the Latin term 'consensus ad idem', which actually means 'agreement to the [same] thing'. There must be evidence that the parties had each from an objective perspective engaged in conduct manifesting their assent, and a contract will be formed when the parties have met such a requirement. An objective perspective means that it is only necessary that somebody gives the impression of offering or accepting contractual terms in the eyes of a reasonable person, not that they actually did want to form a contract.

Offer and acceptance does not always need to be expressed orally or in writing. An implied contract is one in which some of the terms are not expressed in words. This can take two forms. A contract which is implied in fact is one in which the circumstances imply that parties have reached an agreement even though they have not done so expressly.

2.2. Consideration and estoppel

Consideration is known as 'the price of a promise' and is a controversial requirement for contracts under common law. It is not necessary in all common law or civil law systems, and is considered by some to be unnecessary as the requirement of intention to create legal relations by both parties meets the same requirement under contract.

The idea is that both parties to a contract must bring something to the bargain, that both parties must confer some benefit or detriment (for example, money, however in some cases money will not suffice as consideration - e.g., when one party agrees to make part payment of a debt in exchange for being released from the full amount). This can be either conferring an advantage on the other party, or incurring some kind of detriment or inconvenience towards oneself. Three rules govern consideration.

Consideration must be real, but need not be adequate. For instance, agreeing to buy a car for a penny may constitute a binding contract. While consideration need not be adequate, contracts in which the consideration of one party greatly exceeds that of another may nevertheless be held invalid for lack of real consideration. In such cases, the fact that the consideration is exceedingly inadequate can be evidence that there was no consideration at all. Such contracts may also be held invalid for other reasons such as fraud, duress, or being contrary to public policy. In some situations, a collateral contract may exist, whereby the existence of one contract provides consideration for another. Critics say consideration can be so small as to make the requirement of any consideration meaningless.

Consideration must not be from the past and must move from the promisee.

Civil law systems take the approach that an exchange of promises, or a concurrence of wills alone, rather than an exchange in valuable rights is the correct basis. However, in common law systems the concept of culpa in contrahendo, a form of 'estoppel', is increasingly used to create obligations during pre-contractual negotiations. Estoppel is an equitable doctrine that provides for the creation of legal obligations if a party has given another an assurance and the other has relied on the assurance to his detriment. A number of commentators have suggested that consideration be abandoned, and estoppel be used to replace it as a basis for contracts. However, legislation, rather than judicial development, has been touted as the only way to remove this entrenched common law doctrine. Lord Justice Denning famously stated that "The doctrine of consideration is too firmly fixed to be overthrown by a side-wind."

2.3. Intention to be legally bound

There is a presumption for commercial agreements that parties intend to be legally bound (unless the parties expressly state that they do not want to be bound, like in heads of agreement). On the other hand, many kinds of domestic and social agreements are unenforceable on the basis of public policy.

2. 4. Third parties

The doctrine of privity of contract means that only those involved in striking a bargain would have standing to enforce it. In general this is still the case, only parties to a contract may sue for the breach of a contract, although in recent years the rule of privity has eroded somewhat and third party beneficiaries have been allowed to recover damages for breaches of contracts they were not party to. There are two times where third party beneficiaries are allowed to fall under the contract. The duty owed test looks to see if the third party was agreeing to pay a debt for the original party. The intent to benefit test looks to see if circumstances indicate that the promisee intends to give the beneficiary the benefit of the promised performance. Any defense allowed to parties of the original contract extend to third party beneficiaries

2. 5. Formalities and writing

Contrary to common wisdom, an exchange of promises can still be binding and legally as valid as a written contract. A spoken contract should be called an oral contract, which might be considered a subset of verbal contracts. Any contract that uses words, spoken or written, is a verbal contract. Thus, all oral contracts and written contracts are verbal contracts. This is in contrast to a "non-verbal, non-oral contract," also known as "a contract implied by the acts of the parties", which can be either implied in fact or implied in law.

Most jurisdictions have rules of law or statutes which may render otherwise valid oral contracts unenforceable. This is especially true regarding oral contracts involving large amounts of money or real estate.

If a contract is in a written form, and somebody signs the contract, then the person is bound by its terms regardless of whether they have read it or not, provided the document is contractual in nature. Furthermore, if a party wishes to use a document as the basis of a contract, reasonable notice of its terms must be given to the other party prior to their entry into the contract. This includes such things as tickets issued at parking stations.

3. Contracts

3. 1. Bilateral v. unilateral contracts

Contracts may be bilateral or unilateral. The more common of the two [citation needed], a bilateral contract, is an agreement in which each of the parties to the contract makes a promise or promises to the other party.

In a unilateral contract, only one party to the contract makes a promise. A typical example is the reward contract: A promises to pay a reward to B if B finds A's dog. B is not obliged to find A's dog, but A is obliged to pay the reward to B if B finds the dog.

An offer of a unilateral contract may often be made to many people by means of an advertisement. In that situation, acceptance will only occur on satisfaction of the condition. If the condition is something that only one party can perform, both the offeror and offeree are protected – the offeror is protected because he will only ever be contractually obliged to one of the many offerees; and the offeree is protected, because if she does perform the condition, the offeror will be contractually obliged to pay her.

In unilateral contracts, the requirement that acceptance be communicated to the offeror is waived. The offeree accepts by performing the condition, and the offeree's performance is also treated as the price, or consideration, for the offeror's promise.

3. 2. Factors in selecting contract types.

There are many factors that the contracting officer should consider in selecting and negotiating the contract type. They include the following:

• Price competition. Normally, effective price competition results in realistic pricing, and a fixed-price contract is ordinarily in the Government’s interest.
• Price analysis. Price analysis, with or without competition, may provide a basis for selecting the contract type. The degree to which price analysis can provide a realistic pricing standard should be carefully considered.
• Cost analysis. In the absence of effective price competition and if price analysis is not sufficient, the cost estimates of the offeror and the Government provide the bases for negotiating contract pricing arrangements. It is essential that the uncertainties involved in performance and their possible impact upon costs be identified and evaluated, so that a contract type that places a reasonable degree of cost responsibility upon the contractor can be negotiated.
• Type and complexity of the requirement. Complex requirements, particularly those unique to the Government, usually result in greater risk assumption by the Government. This is especially true for complex research and development contracts, when performance uncertainties or the likelihood of changes makes it difficult to estimate performance costs in advance. As a requirement recurs or as quantity production begins, the cost risk should shift to the contractor, and a fixed-price contract should be considered.
• Urgency of the requirement. If urgency is a primary factor, the Government may choose to assume a greater proportion of risk or it may offer incentives to ensure timely contract performance.
• Period of performance or length of production run. In times of economic uncertainty, contracts extending over a relatively long period may require economic price adjustment terms.
• Contractor’s technical capability and financial responsibility.
• Adequacy of the contractor’s accounting system. Before agreeing on a contract type other than firm-fixed-price, the contracting officer shall ensure that the contractor’s accounting system will permit timely development of all necessary cost data in the form required by the proposed contract type. This factor may be critical when the contract type requires price revision while performance is in progress, or when a cost-reimbursement contract is being considered and all current or past experience with the contractor has been on a fixed-price basis.
• Concurrent contracts. If performance under the proposed contract involves concurrent operations under other contracts, the impact of those contracts, including their pricing arrangements, should be considered.
• Extent and nature of proposed subcontracting. If the contractor proposes extensive subcontracting, a contract type reflecting the actual risks to the prime contractor should be selected.
• Acquisition history. Contractor risk usually decreases as the requirement is repetitively acquired. Also, product descriptions or descriptions of services to be performed can be defined more clearly.

3. 3. Types of contracts

There are a lot of types of contracts. They are:

• Fixed-Price Contracts
• Firm-fixed-price contracts
• Fixed-price contracts with economic price adjustment
• Fixed-price incentive contracts
• Fixed-price contracts with prospective price redetermination
• Fixed-ceiling-price contracts with retroactive price redetermination
• Firm-fixed-price, level-of-effort term contracts
• Cost-Reimbursement Contracts
• Cost-sharing contracts
• Cost-plus-fixed-fee contracts
• Cost-plus-incentive-fee contracts
• Incentive Contracts
• Structuring multiple-incentive contracts
• Fixed-price contracts with award fees
• Cost-reimbursement incentive contracts
• Indefinite-Delivery Contracts
• Definite-quantity contracts
• Requirements contracts
• Time-and-Materials, Labor-Hour, and Letter Contracts

But we are going to describe the most commonly used of them.

1. Cost-Reimbursement Contracts provide for payment of allowable incurred costs, to the extent prescribed in the contract. These contracts establish an estimate of total cost for the purpose of obligating funds and establishing a ceiling that the contractor may not exceed (except at its own risk) without the approval of the contracting officer. A cost-reimbursement contract may be used only when:

• The contractor’s accounting system is adequate for determining costs applicable to the contract; and
• Appropriate Government surveillance during performance will provide reasonable assurance that efficient methods and effective cost controls are used.

The use of cost-reimbursement contracts is prohibited for the acquisition of commercial items.

2. Incentive Contracts are appropriate when a firm-fixed-price contract is not appropriate and the required supplies or services can be acquired at lower costs and, in certain instances, with improved delivery or technical performance, by relating the amount of profit or fee payable under the contract to the contractor’s performance. You can find:

• Cost incentives
• Performance incentives
• Delivery incentives

3. The purpose of Materials Contracts is: Direct materials means those materials that enter directly into the end product or that are used or consumed directly in connection with the furnishing of the end product or service.

4. Labor-hour contract is a variation of the time-and-materials contract, differing only in that materials are not supplied by the contractor.

5. A letter contract is a written preliminary contractual instrument that authorizes the contractor to begin immediately manufacturing supplies or performing services.

3. 4. Uncertainty, incompleteness and severance

If the terms of the contract are uncertain or incomplete, the parties cannot have reached an agreement in the eyes of the law. An agreement to agree does not constitute a contract, and an inability to agree on key issues, which may include such things as price or safety, may cause the entire contract to fail. However, a court will attempt to give effect to commercial contracts where possible, by construing a reasonable construction of the contract.

Courts may also look to external standards, which are either mentioned explicitly in the contract or implied by common practice in a certain field. In addition, the court may also imply a term; if price is excluded, the court may imply a reasonable price, with the exception of land, and second-hand goods, which are unique.

If there are uncertain or incomplete clauses in the contract, and all options in resolving its true meaning have failed, it may be possible to sever and void just those affected clauses if the contract includes a severability clause. The test of whether a clause is severable is an objective test — whether a reasonable person would see the contract standing even without the clauses.

4. Setting aside the contract

There can be three different ways in which contracts can be set aside. A contract may be deemed 'void', 'voidable' or 'unenforceable'. Voidness implies that a contract never came into existence. Voidability implies that one or both parties may declare a contract ineffective at their wish. Unenforceability implies that neither party may have recourse to a court for a remedy. Rescission is a term which means to take a contract back.

4. 1. Misrepresentation

Misrepresentation means a false statement of fact made by one party to another party and has the effect of inducing that party into the contract. For example, under certain circumstances, false statements or promises made by a seller of goods regarding the quality or nature of the product that the seller has may constitute misrepresentation. A finding of misrepresentation allows for a remedy of rescission and sometimes damages depending on the type of misrepresentation.

There are two types of misrepresentation in contract law, fraud in the factum and fraud in inducement. Fraud in the factum focuses on whether the party in question knew they were creating a contract. If the party did not know that they were entering into a contract, there is no meeting of the minds, and the contract is void. Fraud in inducement focuses on misrepresentation attempting to get the party to enter into the contract. Misrepresentation of a material fact (if the party knew the truth, that party would not have entered into the contract) makes a contract voidable.

4. 2. Mistake

A mistake is an incorrect understanding by one or more parties to a contract and may be used as grounds to invalidate the agreement. Common law has identified three different types of mistake in contract: unilateral mistake, mutual mistake, and common mistake.

A common mistake is where both parties hold the same mistaken belief of the facts. A mutual mistake is when both parties of a contract are mistaken as to the terms. Each believes they are contracting to something different. The court usually tries to uphold such a mistake if a reasonable interpretation of the terms can be found. However, a contract based on a mutual mistake in judgement does not cause the contract to be voidable by the party that is adversely affected.

A unilateral mistake is where only one party to a contract is mistaken as to the terms or subject-matter. The courts will uphold such a contract unless it was determined that the non-mistaken party was aware of the mistake and tried to take advantage of the mistake. It is also possible for a contract to be void if there was a mistake in the identity of the contracting party. A mere mistaken belief as to the credibility of the other party is not sufficient.

4. 3. Duress and undue influence

Duress has been defined as a "threat of harm made to compel a person to do something against his or her will or judgment; esp., a wrongful threat made by one person to compel a manifestation of seeming assent by another person to a transaction without real volition. An innocent party wishing to set aside a contract for duress to the person need only to prove that the threat was made and that it was a reason for entry into the contract; the burden of proof then shifts to the other party to prove that the threat had no effect in causing the party to enter into the contract. There can also be duress to goods and sometimes, the concept of 'economic duress' is used to vitiate contracts.