Letter of intent revisit

A letter of intent (LOI), also called a term sheet, expression, or indication of interest in the commercial sectors is an informal offer or recap of the parties’ position on how they would proceed on a business proposal or venture.

In the shipbuilding and offshore industry, where discussions on technical, commercial, and legal matters leading up to a formal contract are complex and lengthy, letters of intent (LOIs) will often be used as the prelude to the formation of a formal contract. Thus, LOIs will be used:

 ·       Where the scope of work has been identified, but there are still outstanding items like the selection of main engine suppliers, financing, guarantees, and board approvals that need to be finalized.

 ·       At other times, LOI may be signed on condition that the parties will enter into a shipbuilding contract after the buyer’s bid for a shipbuilding project is successful, or where the parties intend to bid for a project jointly. (The intent of such LOIs is to secure a slot space and shipbuilder’s assurance for the vessel construction).

 ·       Also, shipbuilders will need LOIs with their subcontractors and suppliers in anticipation of entering into formal subcontracts and supply contracts to support potential shipbuilding projects.

 The formality for the formation of a binding contract is equally applicable to LOI. It has been said that the phrase ‘letter of intent’ is not a term of art, and its legal effect will depend on the circumstances of each case[1], and the construction of the communications between the parties and their actions.[2] 

In RTS Flexible Systems Ltd v Molkerei Alois Muller GmbH & Co. KG,[3] Lord Clarke said that in order to consider whether a contract is binding the court will have to examine the parties’ words and conduct, to objectively conclude whether they intended to create legal relations, and had agreed upon all the terms which they regard or the law requires as essential for the formation of legally binding relations. Even where certain terms of economic or other significance are not finalised, an objective review of their words and conduct may show that such terms were not intended as a precondition to a binding and legally enforceable agreement.

Where an LOI is qualified by the rubric “subject to contract”, there will be no binding contract until a written contract is signed.[4] In contrast, it is also possible for an agreement that is ‘subject to contract’ or ’subject to written contract’ to become legally binding if the parties later agree to waive such conditions.[5]

The parties may agree to bind themselves to agreed terms, leaving certain subsidiary and legally inessential terms to be decided later. In Pagnan SPA v Feed Products Ltd,[6] it was held that although certain terms of economic significance to the parties were not agreed upon, neither party intended agreement of those terms to be a precondition to a concluded agreement. The parties regarded them as relatively minor details which could be sorted out without difficulty once a bargain was struck. The parties agreed to bind themselves to agreed terms, leaving certain subsidiary and legally inessential terms to be decided later.

Where the scope of work has been identified, the parties may agree that they will not be bound unless board approval from the parties is obtained or outstanding requirements are fulfilled. In such a case, the parties are not bound until respective board approval is obtained.[7]

If an agreement is “subject” to some event it will likely be classified as a pre-condition rather than a performance condition where (a) the fulfilment of the subject involves the exercise of a personal or commercial judgment by one of the putative contracting parties (e.g. as to whether that party is satisfied with the outcome of a survey or as to the terms on which it wishes to contract with any third party, and (b) such event that can only be resolved by one or both of the parties removing or lifting the subject, rather than occurring automatically on the occurrence of some external event such as the granting of a permission or licence, the “subject” is likely to be a pre-condition rather than a performance condition.[8]

Disputes concerning LOIs may arise where one party starts work based on an LOI but before the conclusion of a final contract.

In RTS Flexible Systems Ltd v Molkerei Alois Muller GmbH & Co. KG.,[9]  RTS and Muller entered into a letter of intent (“LOI”) for the provision of work and equipment to automate Muller’s product re-packaging process. The terms of the LOI provided that:

 ·       RTS shall build, deliver, complete, install, and commission certain equipment for Muller.

·       The agreed price was GBP 1,682,000.

·       RTS shall begin all work and supply by a certain date.

·       The final contract (based on Müller's amended form of MF/1 contract) shall be finalised and signed within 4 weeks of the LOI.

While negotiations were ongoing, but before the terms of the final contract were agreed, RTS commenced work based on the LOI. The LOI expired on 27 May 2005. The final version of the draft contract was agreed upon in the e-mail exchanges of 19 and 25 May, 29 June, and 5 July. Though ready for execution, it was never signed. Subsequently, problems arose, and this led to a variation of the delivery plans on 25 August 2005. A dispute later arose between the parties, which led to litigation between the parties. RTS asserted that there was a continuing contract on the terms of the LOI. Alternatively, if there was no contract, RTS was entitled to a quantum meruit, or if there was a contract, it was on MF/1 terms. Müller’s case was that there was a contract on the basis that Müller would pay the price, namely £1,682,000, in return for the goods and services that RTS had agreed to provide as set out in a number of specific documents.

On appeal, the UK Supreme Court (UKSC) had to decide whether there was a contract between the parties after the expiry of the LOI and, if so, the terms thereof. The UKSC noted the perils of parties agreeing that work should proceed before a formal written contract is executed, and also commented that the “moral of the story is to agree to terms first and start work later”. The court identified the relevant principles to be applied and listed three possible conclusions that were open to it.

 ·       There was no contract between the parties - the court considered that it was unrealistic to presume that the parties did not intend to create legal relations as the parties had agreed the price and substantial work had been performed. This must have formed part of a contract between them. As the parties accepted that the letter of intent expired and was not revived, the contract containing the price must be for some other agreement.

·       There was a contract between the parties on limited terms - as the parties treated the agreement of 25 August as a variation of the agreement that they had reached by 5 July, it made no commercial sense to hold that the agreement between the parties contained some of the terms agreed by 5 July.

·       There was an agreement on some other wider terms - the court considered that as the parties had reached an essential agreement by 5 July, none of the issues remaining after that date was regarded by the parties as an essential matter which required agreement before a contract could be binding.

According to the UKSC, it was possible for an agreement that is ‘subject to contract’ or ’subject to written contract’ to become legally binding if the parties later agree to waive that condition. The court held that on or by 25 August, the parties had agreed to waive the “subject to contract” provision. Any other conclusion makes no commercial sense. The UKSC unanimously allowed the appeal, set aside the order of the court of appeal, and held that the parties reached a binding agreement on or about 25 August 2005 on the terms agreed by 5 July (as subsequently varied on 25 August), and that the binding agreement was not subject to contract. In arriving at its decision, the UKSC also stated, inter alia, that in order to consider whether a contract is binding the court will have to examine the parties’ words and conduct, to objectively conclude whether they intended to create legal relations, and had agreed upon all the terms which they regard or the law requires as essential for the formation of legally binding relations. Even where certain terms of economic or other significance are not finalised, an objective review of their words and conduct may show that such terms were not intended as a precondition to a binding and legally enforceable agreement.

Is there a binding contract when work was carried out pursuant to an LOI that envisages that the parties will eventually sign a Protocol Agreement which was never signed?

In Arcadis Consulting (UK) Ltd v AMEC (BCS) Ltd,[10], AMEC engaged Acardis to carry out certain design works for a car park in anticipation of a formal Protocol Agreement that did not materialize.  The relevant correspondences between the parties were as follows: 

8 November 2001- an email with attachments comprising a Protocol Agreement, in the form of an umbrella agreement for design work to be performed by Arcadis on two projects; (1) Wellcome Building and (2) Castlepoint Car Park. The attachments included Condition 2A, limiting Arcadis' liability for defective work to the lesser of (a) “The reasonable direct costs of repair, renewal and/or reinstatement of any part or part of the Sub-Contract Works to the extent that the Client [AMEC] incurs such costs...”; or (b) “The sum stated in Schedule 1”, which was left blank.  ( The November Terms) 

January 2002 - new terms, including a and proposed a limit of liability in the sum of £110,000 were introduced (“the January terms”). 

6 March 2002 - AMEC letter instructing Arcadis to start work on the Castlepoint Car Park project, "to be carried out in accordance to the Protocol Agreement and Terms and Conditions associated that we [AMEC] are currently working under with yourselves" (First Letter of 6 March).

6 March 2002 - AMEC’s second letter of 6 March 2002 with schedules, which includes a proposed limit on Arcadis' liability to £610,515. 

 The car park was defective and would have to be demolished and rebuilt at about £40 million, including damages. Arcadis denied liability and also argued that if they were liable, there was a contract under which their liability was capped at £610k. AMEC contended that there was no contract because the correspondence envisaged a final contract, which was never finalized.

Coulson J, the judge of first instance, decided that (1) there was a simple contract (“the Contract”) resulting from AMEC’s first letter of 6 March 2002 (“the First 6 March Letter”); (2) no set of terms and conditions were incorporated into the Contract; (3) the cap on liability was not applicable as the Protocol Agreement was not concluded, and there was uncertainty on whether the parties intended to be bound by such a cap.

However, the Court of Appeal (CoA) held that there was an interim contract (“the Contract” ) where Acardis was performing work, and a final contract or Protocol Agreement, which would supersede the interim contract once agreed upon. According to the CoA, a contract had been formed by the first letter of 06 March 2002 and the November Terms were the agreed terms referred to and incorporated by reference into it. Thus, the cap on liability under Condition 2A (a) of the November Terms applies to the interim contract.

In so doing, Dame Elizabeth Gloster (with whom Lord Justice Holroyde and Lord Justice Underhill concurred) considers Goff J’s analysis in British Steel Corp v Cleveland Bridge & Engineering Co Ltd [1984] 1 All ER 504,  that, if parties are in a stage of negotiation and one party asks the other to begin work “pending” the parties entering into a formal contract, it cannot be inferred from the other party acting on that request that he is assuming any responsibility for his performance, except such responsibility as will be assumed under the terms of the contract that both parties are confident will be shortly finalized.

Case Reference

 [1] ERDC Group v Brunel University [2006] EWHC 687 (TCC), per HH Humphrey Lloyd QC at para [27].

[2] Tesco Stores v Costain Construction [2003] EWHC 1487 (TCC), per HHJ Richard Seymour QC at para [160].

[3] [2010] UKSC 14, per Lord Clarke at para 45.

[4] In Star Steamship Society v Beogradska Plovidba (The Junior K) [1988] 2 Lloyd’s Rep 583, it was held that the effect of the phrase was to prevent any contract from being concluded until all of the terms had been agreed upon.

[5] RTS Flexible Systems Ltd v Molkerei Alois Muller GmbH & Co. KG. [2010] UKSC 14.

[6] [1987] 2 Lloyd’s Rep 60.

[7] Windschuegl (Charles H) Ltd v Pickering & Co Ltd (1950) 84 Ll L LR 89, 92).

[8] Nautica Marine Limited v Trafigura Trading LLC [2020] EWHC 1986 (Comm).

[9] [2010] UKSC 14.

[10] [2018] EWCA Civ 2222.