It is often the case that a formal construction
contract will never be concluded. Care should therefore be taken to
ensure that other communications passing between the parties that
are intended to be legally binding are; and those that are not, are
The basic principles of contract formation are well
known. It's all very well when one party makes an offer that is
then accepted by another and the parties proceed happily with the
conclusion of their contract. But in the real world, especially
with building contracts, things are very rarely that simple. The
question of when arrangements between two parties give rise to a
binding contract regularly crop up in the construction industry.
The need for a binding contract is so that the agreement can be
legally enforceable in the courts. Due to a number of different
factors – time constraints for one – work has often
begun before a formal contract has been executed. In large
projects, it is often some years after the commencement of the
works before the parties' intentions are formally put into writing.
So, in what circumstances will a court determine that a binding
building contract exists?
The components of a binding
Put simplistically, there are four ingredients
required to make a binding contract:
There must be an offer
An offer is a promise by one party to enter into a
contract on certain terms. It must be: specific, complete, capable
of acceptance, and made with the intention of being bound by
acceptance i.e. that no further bargaining takes place.
An offer should be contrasted to an invitation to
treat. This merely invites the other party to make an offer and
does not carry the intention to be legally bound. For example, in
the case of an auction sale, it is the bidder (not the seller of
the property who is standing in the background) who is generally
considered to be the person making the offer, so that the seller is
not bound by bids and may withdraw his property from the sale
without accepting an offer if the bid is below the reserve price.
By entering his property into the auction catalogue, the seller is
merely providing an invitation to treat, in a similar way to an
employer putting work out to tender.
When drafting letters at the early stages of a
construction project, the author should be careful not to use any
wording which he intended to be only an invitation to treat but
which the other party – and perhaps more importantly the
court – could construe as an offer.
The offer must be unequivocally accepted and
must not amount to a counter-offer
If an offeree (i.e. the person to whom the offer
was made) purports to accept an offer but his acceptance does not
match the terms of the offer – disregarding trivial
variations – then no contract is deemed to have been formed.
Rather than accepting the initial offer, the offeree makes a
counter-offer. This amounts to a rejection of the initial offer so
that no contract exists. Where a counter-offer is accepted, then
its terms – rather than those of the original offer –
become the terms of the contract.
There must be consideration
In addition to the necessity for an offer to be
accepted, there is also a requirement that a promise – unless
expressed in the form of a deed – must be supported by
consideration in order for it to be enforceable. This is because
the law assumes that people do not get anything for free i.e. the
person giving the promise must be given something in exchange for
There is extensive case law which considers what
can constitute sufficient consideration and whether it is possible
to enforce a promise in the absence of consideration.
The simple message: if there are any doubts about
the consideration, record the agreement in the form of a deed.
Both parties must intend to become legally
A contract cannot be made without the intention for
the agreement to be legally binding. An objective test is used by
the courts to determine the intention of the parties: it asks
whether a reasonable person would regard the agreement as legally
binding. In building contracts, this is rarely an issue as there is
a presumption, albeit rebuttable, that the parties intend to create
legal relations in commercial agreements. A party would have to
produce clear evidence to the contrary if it wanted this
presumption to be rebutted.
The implications of this rule should be considered
carefully where parties might wish to record that the terms of
their pre-contract negotiations are intended to be non-binding. For
example, where there is no intention to become legally bound, this
should be stated specifically rather than relying on the "Subject
to Contract" label. However, bear in mind that there may be times
when you want certain terms of the letter to be legally binding
such as confidentiality clauses.
When a "contract" is not a
Poorly drafted letters of intent cause numerous
problems in the construction industry. The parties can sometimes be
held to have unwillingly created binding obligations where they had
not actually intended to do so. In British
Steel Corporation v Cleveland Bridge and Engineering Co
Ltd  1 All ER 504, a dispute arose
concerning whether a contract arises from a letter of intent.
Cleveland Bridge successfully tendered for the fabrication of steel
work. British Steel were iron and steel manufacturers. The court
decided that the question of whether a contract to manufacture
cast-steel nodes had come into existence "must depend on the
true construction of the relevant communications which have passed
between the parties and the effect (if any) of their actions
pursuant to those communications." It was held that there was
no "hard and fast rule" to answer the question of whether
a letter of intent will give rise to a binding agreement.
Everything should depend on the circumstances of the particular
In most cases, where work is carried out on the
basis of a request in a letter of intent, it will not matter
whether a contract did or did not come into existence because the
other party – who is simply claiming payment – will
simply be claiming on a quantum meruit basis (i.e. the
claim is one for reasonable remuneration as opposed to an award of
When a "contract" is a
ACT Construction Ltd v E Clarke & Sons
(Coaches) Ltd  EWCA Civ 972 is a recent case where the
courts have held that a contract, and therefore an implied
obligation to pay a reasonable sum for the works, existed. The
claimant contractor was instructed by the defendant to embark on
the necessary design work for a substantial redevelopment. A
dispute concerning payment arose. The judge decided to determine,
amongst other things, whether there had been a contract between the
parties. He held that as neither the scope of work nor the price
had been defined with any precision in the communications passing
between the parties, there could be no contract. On appeal, the
Court of Appeal stated that as long as there was an instruction to
do work and an acceptance of that instruction, there was a
contract. Their decision was based on the fact that in the absence
of a formal contract, there was "contractual quantum meruit"
whereby there was an agreement to carry out the works despite the
fact that all of the terms, including their scope and price, had
not been agreed.
The difference between the British Steel
case (where the court decided that there wasn't a contract) and the
ACT Construction case (where the court decided that there was a
contract) seems to be that where the parties are still discussing
fundamental terms, there will be no contract. Whereas, where
the meat of the contract has been agreed but negotiations are still
progressing concerning other – although not necessarily
insignificant – issues, there will be a contract.
The latest guidance on this subject comes from the
Court of Appeal in their judgment in Harvey Shopfitters Ltd v
ADI Ltd  2 All ER 982. Harvey were engaged to refurbish
a number of flats that were owned by ADI. A letter of intent was
issued to enable the works to start early. The letter was issued by
ADI's architect and confirmed ADI's intention to "enter into a
contract with [Harvey] on the basis of the tender sum of
£339,895.34". The letter also stated that the main contract
documents were being prepared for signature and would be in the
form of the JCT Intermediate Form of Building Contract 1994 Edition
(IFC84). Harvey were asked to sign and return a copy of the letter
if they were in agreement with the terms set out in it. Harvey did
this. No formal contract was ever signed. A dispute concerning the
terms of the letter of intent then arose. ADI contended that the
parties' contract was on the IFC84 conditions whereas Harvey argued
that it was merely a "simple" contract. Harvey pointed to some
wording in the letter which read: "if…the [IFC 84]
should fail to proceed and be formalised, then any reasonable
expenditure incurred by you in connection with the above will be
reimbursed on a quantum meruit basis". The Court of Appeal
held that the quantum meruit principle would only apply if the
IFC84 both "failed to proceed" and "failed to
materialise". The judge said that the court was entitled to
"look behind the apparent or literal meaning of the words of a
letter…to determine the true intent of the parties".
Having done this, the Court of Appeal held that
the judge at first instance was right to conclude that the parties
had agreed to a fixed-sum contract under the IFC 84 conditions. In
other words, the only circumstance in which Harvey would be
entitled to quantum meruit was if the contract did not proceed
and was not finalised.
Steps to consider if you wish there to be a
binding and enforceable contract
As the distinction between when the court will
conclude that a contract exists and when one doesn't is very fine,
a number of factors can usefully be taken into account when
drafting what is intended to be a legally binding document:
Clearly state that the document is intended
to be legally binding. If not all parts of it are, state those that
Ensure that there is sufficient
consideration – for more see above.
Make certain that all of the essential terms
of the contract are in clear and precise language.
State that the terms of the letter of intent
shall apply for the course of the project, providing that a formal
contract is not subsequently entered into. Alternatively, specify a
time limit if it is not intended to continue indefinitely.
Of course, if the document is not intended to
become legally binding, this should be made equally clear.
For further information please contact Adrian Bell
at firstname.lastname@example.org or on +44 (0)20 7367 3558