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There’s no guarantee? Contractual certainty and the use of “subject to contract”

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It is often assumed that the words "subject to contract" will serve as an adequate indication that a legally binding agreement is not intended to come into being until execution by signature.  It might be natural then to assume that the absence of such words will produce a binding contract even where unsigned - after all, a contract does not need to be in writing to be perfectly enforceable in law.  However this is not always the case and the Court will take a number of factors into account in deciding whether a contract has been concluded. 

The recent Court of Appeal decision in Investec Bank (UK) Ltd v Zulman [2010] demonstrates the complexities of this area of law and provides useful guidance for avoiding contractual pitfalls.      

Case outline

In 2004 Ashbury Confectionery Ltd required finance of around £2,000,000.00 and applied to Investec Bank for a loan.  The Bank agreed to the provision of finance on the condition that two of Ashbury's directors, David and Arnold Zulman give a guarantee securing the lending, negotiations for which were expressly "subject to contract".  The Zulmans signed the guarantee which stipulated that they would only become liable as guarantors where Ashbury's liability to the Bank exceeded £2,000,000.00.  In 2006 Ashbury decided to repay a portion of the loan.  To account for the reduced loan amount, it was determined that the limit on liability contained within the guarantee should be lowered.  An amended guarantee was accordingly prepared, the form and content of which was agreed between the parties but the guarantee was not signed before the company went into administration.     

It was in 2008 that Ashbury went into administration owing around £1,700,000.00 to the Bank.  The Bank accordingly sought to enforce the amended guarantee, however the Zulmans refused to admit liability, arguing that as they had not signed the document it was not binding and consequently the original guarantee should remain effective.  The Bank contended that because negotiations for the original guarantee were expressly subject to contract, while negotiations for the amended guarantee were not, the parties had intended the amended guarantee to be binding even though it remained unsigned. 

The Court found in favour of the Zulmans.  It was made clear that each case of this sort will be decided on its own facts.  The crucial factor for the Court in reaching its decision was that the amended guarantee contained a provision that the Zulmans would "seek independent legal advice" before entering into the amended guarantee.  This was considered to be an indication that the parties had not intended the agreement to be binding until signed.      

Implications

The importance of contractual certainty cannot be overstated.  Indeed, in the Zulmans' case, a lack of certainty prevented their personal liability for a large sum, to the detriment of the Bank which was precluded from calling in its guarantee.  The case highlights that the Court will look at a range of factors when ruling on contractual status and without careful thought, negotiations and agreements can produce unexpected and frustrating consequences.   

If you would like detailed advice on any of the above issues then please contact Simon Young, Partner and head of our Commercial Litigation department on 0113 222 3206 or at simon.young@clarionsolicitors.com

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