Defining an Agreement to Agree
What is an agreement to agree?
An agreement to agree is an agreement to negotiate a future agreement. It is a "pre-contract" agreement, which sets out the intention of the parties to enter into a further agreement in certain circumstances. A true agreement to agree does not create any binding obligations on the parties, except to continue negotiating the proposed contract in good faith. However, an implied term may arise that the parties will negotiate in good faith to bring the proposed contract into effect or the parties may agree a term that requires them to conclude a further contract. Such a term was implied in the case of Walford v Miles [1992] 2 AC 128, where the House of Lords held that there was an implied obligation for the parties to a joint venture to negotiate in good faith a formal contract and to reach agreement within a specified time. In the subsequent case of RTS Flexible Systems, however, the Supreme Court refused to imply a clause requiring the parties to reach agreement within a certain period of time. Therefore , the parties in the latter case were left to the "no contract" position until they had concluded formal contracts (in principle terms). Whilst there are limited cases in which a party to an agreement to agree could be forced to conclude a formal agreement, it remains a useful tool when negotiating commercial contracts. For example, an agreement to agree is regularly used to set parameters for agreement at a later date and to document the agreed terms which will be the basis for further negotiations. An agreement to agree might also be used to invite an acceptable third party to join a contract, or to provide the terms on which a person is prepared to serve as a director or shareholder. An agreement to agree will only be enforceable in a limited number of circumstances. In the absence of an express term or an implied term requiring a party to "negotiate in good faith", a party to an agreement to agree cannot be compelled to formally enter into the contract or perform the obligations therein. However, if a party fails to negotiate a formal contract and/or to negotiate with good faith and intention or fails to negotiate in line with the agreement, this may give rise to a claim for damages.
Legality of Agreements to Agree
Despite their prevalence in various industries and business contexts, agreements to agree are generally not legally valid. The general legal rationale for strict enforcement of contracts is to promote certainty and stability in commercial transactions. For this reason, courts typically enforce contracts that are both complete and definite, enforcing the parties’ mutually-ascertained intent in executing the agreement. Courts will not recognize agreements where there is no agreement reached or only contingent agreements with contingent terms and the parties have not formed an intent to enter into a contract (i.e., agreements to agree or agreements to negotiate).
Courts usually hold agreements to agree as unenforceable. See, e.g., Fletcher v. Rumsfeld, 295 F.2d 580, 582 (D.C. Cir. 1961) ("There can be no valid, legally enforceable contract that is based on an agreement to agree[.]") Courts, however, acknowledge that agreements to agree may be enforceable where, for example, a binding contract exists for one party to negotiate in good faith for ultimate agreement, where the right of first refusal is for a major portion of the assets of the corporation, or where one party is obligated to purchase from the other certain commodities on the open market at a fair market value.
How They Differ from Binding Agreements
It is well established that the requirements for enforcement of a binding contract include the ability to offer and acceptance, consideration, competent parties, and mutuality of obligation with the central issue of certainty. As has been said, "[I]f an agree- ment is so uncertain that its meaning must be left to the opinion of some person to be thereafter chosen, it will not be enforced in any of the Courts." Keating v. Halsey, 65 N.J.L. 486, 7 A. 190 (Sup. Ct. 1886).
In the context of agreement to agree, uncertainty arises when key elements of a contract are not yet settled and require further negotiation in order to identify them, i.e. essential elements which would be contained in a fully enforceable contract.
For an agreement to agree to be entered into by the courts, there must be sufficient certainty and specificity to make the agreement binding on the parties. It is essential that when a contract is finally accepted, the terms are sufficient to ascertain with reasonable certainty the intentions of the parties. If the intention is lacking, uncertainty will lead to unenforceability. For example, a contract for the sale of land is required to be in writing to be enforceable. If, for instance an agreement to purchase property only states that "We agree on tomorrow at 4 PM we will come together and agree on all the deals" would this be sufficient, or is further clarification needed?
It is important to stress again that an agreement to agree means that there is definitely some form of agreement, but the fact that the parties have not yet agreed on all the terms is not fundamental or unusual to the contract. Most often in business, an agreement is made by two parties yet they have not settled some of the terms which are irrelevant to the main purpose of the contract. The agreement is made and instead of establishing all the terms up front, the parties agree to establish the remaining terms at a later date.
Professors Robert Hillman and Jeff Huyghe proposed a "rule of reason" for determining whether contracts to agree are enforceable, suggesting that a "contract to contract" may not be enforced if it contains "gaps" in the contractual relationship that are open to interpretation and could lead the court to resolve risks and uncertainties in an unagreed manner.
When considering whether or not an agreement to agree contract is enforceable, important considerations include:
-Business or Commercial context
-Amount of precision that is possible in the agreement
-Nature of the contract and what is required to be agreed upon in the future
-Complexity of the contract (if complex, courts are less likely to enforce)
-Magnitude of the contract international/national
-The extent of parties commercial relationships
If it is clear that the intention of the parties is to finalize the contract later, and that they were comfortable not fully knowing what the contract will require, then it is likely that the courts will enforce as intended.
The difference between an agreement to agree and a legally binding contract depends on the degree of detail included in the agreement. If the agreement includes such information as the price or the method to determine price, quantification of the subject matter, time frames, and method of purchase, the agreement may be close to structured offer and acceptance. However, if the agreement does not apply the "rule of reason" the legal position may be that the parties are not bound until the overall agreement is finalized, despite agreeing to agree on some elements.
Case Law and Decision Making
The application of agreements to agree in the modern legal world has been shaped significantly by judicial decisions. Courts have on many occasions had to determine the enforceability of agreements to agree and the situations where they arise and the results can be surprising.
For example, in Schneider v Heathcote, the owner of a horse breeding business entered into an agreement with a consultant to provide advice as to what horses to breed. In entering the contract, the business owner could not have known that his horse breeding business would be sold in 6 years later for a sum just short of £15 million.
As the business owner had entered into the agreement that stated ‘a rolling programme of purchases and sales will be agreed between us’ there was insufficient certainty in the agreement to create any legal obligation. Although at the outset the business owner and the consultant had genuine intentions to agree on what horses were to be bred at some point in the future, this did not amount to an agreement.
In another example that is often cited by judges in this area, the contracting parties agreed to enter into a franchise deal. In the case of Grant v Brinignton, a contract was drafted to form a local taxi business but there was no signature in place to indicate the parties’ agreement to the terms. As the parties had different understandings of the essential terms of the agreement, the court found that there was no concluded contract between them. Further, the offer to enter into a implied option agreement was not accepted and as such no binding contract came into existence. This again highlighted to the judge that there was an intention to create an option agreement but never accepted and therefore no legally binding contract. There is a small body of case law around agreements to agree but it is clear that they are only worth contemplating in limited and unusual cases – those which may not otherwise be binding as options; the agreement to further agree should not be considered a substitute for a formal agreement.
Indeed, Lord Diplock in the case of Walford v Miles characterised such an agreement as lacking in ‘certainty as to the terms of any subsequent agreement that the performance of it would not be possible.’ He agreed ‘it is likely that the fiction of an incomplete agreement should be abandoned altogether.’
Advantages and Disadvantages
Agreement to agree can have potential benefits if it is used in the right context. It is most useful during preliminary negotiation stages, allowing the parties to reach a certain level of agreement on the key terms and provide themselves with a binding contractual framework (in the form of the Agreement to agree) to proceed with negotiations.
However, the potential drawbacks and risks must also be acknowledged. From the outset, the parties must likely identify what the key terms are/will be so that they can include these in the agreement to agree. This is very difficult without knowing the other party’s position.
This is also because, although the agreement to agree will be binding, it will not commit either party to enter into the main contract in question . This means that any negotiations devolving from the agreement to agree could be for a significant period of time and once the negotiations have taken place, either party may still walk away without being obliged to enter into the main contract. This could leave the other party in a troublesome situation if they have invested a lot of time and money into the negotiations in order to obtain a contract (which could be in discussions with an exclusive development partner) and then the other party walks away from the negotiations without entering into the main contract. This could happen for any number of reasons, including an improvement in the economic climate, better commercial opportunities elsewhere or simply some other reason.
Alternatives to Agreements to Agree
Analysis of Alternatives to Agreements to Agree
While Agreements to Agree ("ATA") have long been the subject of scholarly, commercial and judicial critique (see for example my recent comment on significant developments and case law in this area), most take as a given that there exist only a relatively limited set of alternatives. This section will review those alternatives, argue that they have been under-utilised, and suggest why this might be the case.
There is no shortage of alternative approaches to ATA in private law, but their prevalence in commercial practice often seems limited. In addition to Options contracts, the visitor with an interest in these matters may want to consider Letters of Intent, Memorandum of Understanding, Pre-contract agreements, or even conditional contracts. Rather than discuss each of these approaches in turn, I intend to highlight some of their advantages and limitations in turn in order to outline the range of alternatives.
Letters of Intent and Memorandum of Understanding are probably the two most common alternatives to ATA. A letter of intent ("LOI") may be used to express the intention of the parties to enter into an agreement in the future, albeit without any form of binding commitment. In this scenario, the LOI may also contain a range of formal or informal provisions, from pricing provisions to terms, scheduling or about contract governance. From a practical point of view, a LOI can assist a party or an adviser to identify those provisions which may be more likely to be subsequently incorporated into the definitive contract. LOIs are amongst the most widely used alternatives to ATA and can have a wide range of different legal effects, from those which make them legally binding to those which do not.
Memorandum of Understanding ("MOU") is generally used for more informal, non-binding agreements. The term is used almost exclusively in common law jurisdictions and arguably has a meaning and usage distinct from an LOI. However, both use similar language and can be used to express the intention of the parties to enter into an agreement in the future, albeit without any form of binding commitment. Some commentators use the terms interchangeably, while others see important differences. Given the lack of clarity around the distinction between LS and MOU, this paper will refer to both of these documents as "LOI/MOU".
Because they are used so often, the wording of an LOI/MOU varies considerably. It is important, therefore, to consider what is missing – or excluded – from both. Many practitioners and employers in the UK and the rest of Europe are aware that it is necessary to state in a contract (or MOU, in this case) that it is "subject to contract" in order to assert that there is no intention of a binding contract being formed by the parties. Indeed, there are useful paragraphs on this point and others in the Commercial Negotiation Guide provided by the International Association for Contract & Commercial Management (IACCM). The words "without prejudice" are also sometimes used to express an intention not to create contractual obligations.
There are other alternatives to ATA than LS or MOUs. Pre-contract agreements can, for example, be used to set out the principal aspects of the parties’ contract to serve as a framework for more detailed contractual arrangements in the future.
Conditional contracts are fairly common in North America. A conditional contract is an enforceable preliminary agreement between parties in which the occurrence of one or more conditions has been made essential to bring the contract into force. The parties are obliged to perform their contractual obligations only when the specified event occurs, and continue to be bound by the underlying contract if the event fails to occur.
This suggests that ATA could apply after the conditions have been satisfied, leaving the underlying contract as the main framework for the remaining contractual terms. While under UK law this does not work, it is suggested here that ATA can be used after all the conditions have been satisfied. The same is true of pre-contract agreements and LOI/MOU.
ATA can be transposed from a commercial negotiation environment into a legal environment rather easily. If a court decision in any common law jurisdiction were to uphold such a facility, it would become a generally useful tool which parties might choose to adopt as part of a contract negotiation, in a similar fashion that pre-contract agreements have been used in other formative stages or phases of a contract negotiation.
Tips on Drafting Agreements to Agree
While the use of ‘agreement to agree’ provisions may be on the wane, the typical ‘agreement to agree’ type objective will remain common in everyday business transactions. The lack of legal effect gives rise to strong policy arguments favouring the rejection of ‘agreement to agree’ clauses altogether (or at the very least, an express severance clause).
However, some clients do want certainty as to their future negotiations with a partner or what they may be agreeing to and therefore may want to consider adopting a position whereby: The first two disciplines are a matter of sound drafting discipline. The mere presence of an entire section entitled "Agreement to Agree" however, does not magically clothe the provision with the necessary certainty to be legally binding .
The third discipline in appropriately identifying different contracts or agreements chosen can involve a variety of contractual drafting techniques including: Some additional practical tips for ‘agreement to agree’ provisions:
• Clear and objective commitment to the spirit of good faith that both parties intend to contract is preferable to a generic good faith clause.
• Clarity about which aspect of the agreement the parties are discussing or intend to discuss is preferable to a vacuum.
• There needs to be some certainty about the parties’ future negotiations, or else they should not engage and run the risk of a deadlock.
• For a party who really wants to compel another party to engage in negotiations and achieve agreement on the terms of the transaction, the better approach is to have the other party commit to some reciprocal consideration, albeit expressed as an agreed position. The frequency of this in the commercial context has resulted in the rise and rise of MoU’s or heads of agreement.