Contract Law

Contract Law

In this lesson, you’re expected to learn about:
– the rules of a contract
– the main elements of a contract
– the classification of contracts

What is a contract and what are its goals?

A contract is a voluntary arrangement, express or implied, between two or more parties, in which there is a promise to do something in return for a valuable benefit that is legally enforceable.

In a contract the “promisor” is someone who makes a promise and the “promisee” is a person to whom a promise has been made.

Rules of a Contract

The parties’ agreement is reflected in a contract as to the rules that will govern their transaction. The rules generally include:

• The statement of facts that each party made which induced the other party to enter the transaction;
• Each party’s promises as to its future performance;
• Each party’s rights;
• The events that must occur before each party is obligated to perform; and
 How the contract will end, including the events that constitute breach and its remedies.

By reaching the agreement, each party to a contract acquires rights and duties relative to the rights and duties of the other parties.

When drafting a contract, the document should serve multiple purposes such as:

• accurately memorialize the business deal
• set the party’s rights and obligations
• advance their goals and reduce their risks
• prevent litigation

NOTE: Although the law of contracts differs in detail from one legal system to another, their broad outlines are similar in most legal systems. For the purpose of the contract law lessons, the explanations about contracts will be done from the perspective of American law.
[Optional] What is a Contract?
Watch this 3-minute video to learn more:
In order to have a valid contract, the party’s agreement should contain all of the following elements:

1) offer and acceptance;
2) mutual agreement (assent) as an intention between the parties to create binding relations;
3) “consideration” meaning something of value that each party receives or expects to receive from the contractual deal, i.e. money, goods, or services;
4) legal capacity of the parties;
5) genuine consent of the parties; and
6) legality of the agreement.

Enforcing a Contract

The lack of one of the essential elements of a contract results in an unenforceable agreement.  

NOTE: Some types of contracts may require specific formalities, such as a memorialization in writing as a condition to become legally enforceable.

Contracts are part of our daily life: every purchase in a store or online shop, meal in a restaurant, or even an appointment with a doctor involves a contractual relationship. It does not matter that these contracts are oral, based on gestures, or on a course of conduct. Mere informality does not render a contract less binding, as long as it has the essential elements discussed above.

Interpreting a Contract

The basic principle of a contract interpretation is to determine the “intention” of the parties from words to actions taken as a whole – not from isolated words or actions.

Major contractual commitments, especially international ones, are typically set out in a lengthy document, or in a set of documents, and their terms are reached by negotiations (bargain). When the ultimate agreement is reached, if the parties signed and exchanged the documents at the closing, there is no question that they have given their assent to a contract.

However, sometimes there are problems in determining precisely what the agreement is and what the parties really wanted when they signed the contract because the intent of the parties is clouded by ambiguity (language is susceptible to more than one interpretation), vagueness (not clear or definite in expression or understanding), and/or contradiction.

In those situations, in order to interpret the party’s intention, a court may consider certain extrinsic evidence such as course of performance, course of dealing, usage of trade, and implied meanings. Also, reasonableness and certain common sense rules may be used to resolve contradictions and uncertainty.

The meaning of terms is determined within the context of the document as a whole, and not in isolation, as courts are required to harmonize all provisions and to avoid a construction that would render one or more provisions meaningless.

NOTE: When interpreting ambiguous and vague contract provisions, a court has a lot of discretion and it is difficult to predict the result of its interpretation. This is why the language of a contract must be given its plain and ordinary meaning.

[Optional] What is Consideration?
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Contracts can be classified in several different ways considering:

1) Performance

• Bilateral contract: based on an exchange of promises from both parties – a promise for a promise;

• Unilateral contract: also called a one-sided contract. Only one party makes a promise in exchange for an act (or abstention from acting) by another party.

2) Formation

• Express contract: when the terms of a contract are stated in words, written or oral, at the time of formation of the contract;

• Implied contract: the evidence of the agreement is other than words, written or oral. There are two types of implied contracts:

(a) implied-in-fact: the agreement is manifested by circumstances of the case and conduct of the parties.
(b) implied-in-law (or quasi-contract): it is a contract created by law. Rights and obligations arise not by an agreement but by operations of law in order to avoid unjust enrichment – one party has rendered a benefit to another under such circumstances that fairness and equity require compensation.

3) Enforceability

• Valid: when all the essential elements are present and can be enforced in a court of law.

• Unenforceable: when the contract has not properly fulfilled legal formalities and so suffers from some technical defect.

• Void: has no legal effect, does not create legal rights and obligations and cannot be enforced by either parties – e.g. an illegal agreement made under threat of physical force.

• Voidable: is binding on only one of the parties. The other party has the right to affirm or void the contract at any time – e.g. an agreement made under duress or through fraud.

[Optional] The What, How & Why of Contracts
Watch this 6-minute video to learn more:
What is a Preliminary Agreement?

• A preliminary agreement is an “agreement to agree”. The parties set out most of the terms of the deal and they undertake to continue negotiating on other matters to reach agreement on some terms that are left open but will be contained in the “definitive agreement”.

• Depending on the outcomes sought, the parties may intend that a preliminary agreement is legally binding, or that it simply sets out agreements in principle without giving rise to legal obligations. Jurisdictions, even within the United States, vary as to their interpretation of what makes an agreement final or definitive, and the jurisdictional variance becomes even more complex when entering into international transactions. This is why it must always be stated clearly whether the parties intend to have a binding preliminary agreement.

• In the absence of a signed definitive written agreement, courts will analyze the intent of the parties to be bound by informal agreements.

• If a party breaches the preliminary agreement and does not, for instance, conclude the ultimate agreement, the other party may require its conclusion, specific performance of the contract, or compensation for costs relating to the negotiations. The parties may also agree, in the preliminary agreement, on a contractual penalty payable by the breaching party to the other.

The completion date of the definitive contract is usually set out in the preliminary agreement. If no date has been set, the definitive contract should be concluded within a reasonable time, if thus requested by one of the parties.

Below are some types of preliminary agreements and these terms are often used interchangeably:

– Letters of Intent (LOI)
– Memorandum of Understanding (MOU)
– Term Sheet

NOTE: Preliminary agreements are usually signed in complex projects such as joint ventures or mergers & acquisitions. Its major goal is to protect the parties from confidentiality breaches, trade secret and intellectual property infringement, and competitive advantage as early as possible in the negotiations.
Mini Case Study: Example of a Quasi-Contract

Cotnam v. Wisdom
Supreme Court of Arkansas
Citation: 83 Ark. 601, 104 S.W. 164 (1907)

Brief Facts: Mr.Harrison, deceased, is represented by the Appellant* who inherited intestate**. Harrison was thrown from a street car. Appellees, surgeons, performed a difficult operation in an attempt to save his life but failed. Mr. Harrison, could not give consent expressly or impliedly to the surgery since he was rendered unconscious.

Issue: Can damages be awarded based on implied contracts?

appellanta person who applies to a higher court for a reversal of the decision of a lower court.
** intestatenot having made a will before one dies.
Holding: Yes, damages can be awarded based on implied contracts when the contract is based on an implied duty of one party to another. Surgeons were entitled to recover cost of difficult operation performed in an effort to save the life of Mr. Harrison under a quasi-contract or implied contract theory.

Rule of Law: A quasi-contract or implied contract is a legal fiction where although there is no promise or contract in fact, one will be implied by the law to remedy unjust enrichment.

Jim Rohn