Friday, December 10, 2010

Contract Enforceability

Having a contract doesn’t protect you against certain costs and risks if the contract isn’t enforceable.

Things that affect enforceability are:
  1. Whether the contract has been formed.
    1. legal defenses to the formation of a Contract that can make a contract void are:
                                               i.     Mistake (such as a mistake in their Bid upon which the Contract is based.
                                             ii.     Misrepresentation by the other party
                                            iii.     Fraud in the inducement by the other party
                                            iv.     Illegality of purpose, or subsequently illegality of purpose where a new law makes certain performance illegal
                                             v.     Lack of capacity such as the Contract being signed by a minor, someone with mental problems, under the influence or not having the authority to make the commitment on behalf of the party.
                                            vi.     Failure to comply with requirements of the statute of frauds, (see below)
                                          vii.     Unconscionable (contains terms that would not be enforceable as a matter of public policy).
  1. Whether performance has been excused
    1. Conditions that would excuse performance are:
                                               i.     Subsequently illegality such as a change in the law that makes the performance illegal.
                                             ii.     Impossibility, where the work cannot be done.
                                            iii.     Impracticability, where it is not capable of being done
                                            iv.     Frustration, such as one party failing to meet their obligations can frustrate the other party allowing them not to perform
                                             v.     Rescission, where the parties have agreed to stop it. 
                                            vi.     Novation, where the parties agree that another party will complete the work and the original party is excused from performance, and
                                          vii.     Lapse; such as where the contract term may have lapsed without the work being completed

An assignment does not discharge the assigning party from their obligation to perform. The assigning party will remain secondarily liable for performance unless there is also a “novation” where the other party excuses the assigning party from performance and agrees to only look to the new party for performance.

A force majeure is not an excuse to performing. It’s an excusable delay to performance

If a contract is enforceable, its terms and conditions may be enforced.

The first question is who may it be enforced against?
To answer that you must look at the “Privity of Contract”

The Privity doctrine means that for a person or entity to have a legal right to contract benefits, they must be a party to the Contract. Exceptions to this are when a contract is assigned to another party or a party is made a “third party beneficiary” to the contract.

For example:
Those two parties may only enforce an Agreement between Buyer and a Supplier.

BUYER uses “Participation Agreements” for its Affiliates to contract with the Supplier or a Supplier Affiliate to create “privity” between the Buyer Affiliate and the Supplier or Supplier Affiliate.

As “affiliates” separate independent legal entities, if you contract with a Supplier Affiliate that is the only party you could be able to enforce the contract against.  It’s then important to ensure that if you are contracting with an affiliate only, that affiliate has the assets and resources to stand behind the contract commitments they are making. If they don’t, you either risk not being able to recover all your damages if there is a problem. The only way to manage that risk is to consider having the Affiliate’s Parent Company provide what is called a “parent guarantee” where they agree to be financially responsible for the performance of their affiliate. 

The issue of privity also comes into play in outsourced procurement activities.

If BUYER negotiates an agreement with a Supplier and wants a third party to be able to purchase at Buyer’s terms, on its own the third party has no right to do so. They do not have privity of contract with the Supplier.   

Likewise if a third party purchases the products under their own agreement, BUYER would not have privity of contract on those purchases and could not enforce those terms directly with the Supplier.

The exception to this what’s called a “third party beneficiary” A third party beneficiary is not a party to the contract, but they get legal rights to enforce the contract or share in the proceeds because the parties to the contract agreed to allow them those rights.
For example if a Supplier agrees to extend the BUYER terms to the Third Party and agrees that BUYER will be a “third party beneficiary” to those purchases.  In doing so, BUYER would have privity of contract with the Supplier on purchases made by the third party and BUYER can enforce its contract terms directly with the Supplier.

Suppliers may be unwilling to extend BUYER terms to third parties, so an alternative that has been used is for the Supplier to agree that BUYER may enforce its contract terms directly with the Supplier on those third party purchases.

The second question is what may be enforced?

The contract rights that you have will be determined by 2 things. 
  • The status and content of the contract on the date the cause of action arose. 
  • How courts will interpret the contract

For example, all of Buyer’s main rights in a Base Agreement will cover Products, Services or Deliverables that are identified in the Statement of Work.
  • If a Product, Service or Deliverable was not added to the SOW, you could not enforce those terms if there were a problem with them.
  • If the SOW had the term lapse, would not be able to enforce the terms on purchases made after the term lapsed.

If the cause of action arose after the expiration or termination of the contract, you would only have the right to enforce the specific terms listed in the contract that says they will survive the expiration or termination of the agreement.

For example, if you are incorporating the terms of another agreement in your purchases or contract you need to understand whether the form you are using is a “point in time” document or whether it has “auto-updating” provisions.
·      A point in time document will only incorporate the terms of the underlying agreements that were in effect when your document was created. Any change made to the underlying agreements, if desired, would need to be added by amendment.
·      An auto-updating document incorporates the specific changes to the underlying agreements that are agreed. It could include all changes, or it could be limited to just things like part numbers, services, deliverables and their prices.

 In seeking enforcement in the Courts, the rules of Contract Construction will be followed.