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The Basics of Contract Formation
Most business managers and closely held business owners enter into a
variety of contracts in the ordinary conduct of their day-to-day
business. Lawyers are not consulted, formal agreements are not prepared
and often people do not even recognize that they are entering into a
contractual relationship. In practice this usually works quite well.
Occasionally, however, misunderstandings and disagreements do arise.
Frustration and disappointment can result if the parties do not
understand the nature of their relationship and the basic elements that
create or negate the existence of an enforceable contract. This article
summarizes the basic elements involved in the formation of a valid
contract.
What is a Contract
The most common definition of a contract is a legally enforceable promise
or agreement. In most circumstances an enforceable agreement involves
a set of mutual promises or a promise to do something in exchange for
an agreed performance.
Mutual Assent
The basic elements leading to the formation of a contract are usually the
making of an Offer, Acceptance of the Offer and Consideration. Essential
to the formation of an enforceable contract is mutual assent to the matter
agreed upon, as evidenced by the expressed intention of the parties.
What matters is what is “objective intent”, e.g., what a reasonable and
objective observer would understand a person’s intent to be. Thus, you
cannot escape an otherwise valid agreement by claiming it was just a joke,
even if that had been your true intention, unless the other party knew or should
have known that the offer was not serious.
Offer and Acceptance
Although in most circumstances an express offer and
a corresponding acceptance can be identified, there is no particular
formality required. In some cases, such as where two parties
simultaneously sign a written agreement containing mutual promises, it
can be difficult to determine which party made the offer and which
accepted and usually it doesn’t really matter. In other cases, such as
the exchange of purchase order and sales confirmation forms containing
conflicting terms, the determination of which document constitutes the
offer can be critical to determining the terms of the agreement.
a corresponding acceptance can be identified, there is no particular
formality required. In some cases, such as where two parties
simultaneously sign a written agreement containing mutual promises, it
can be difficult to determine which party made the offer and which
accepted and usually it doesn’t really matter. In other cases, such as
the exchange of purchase order and sales confirmation forms containing
conflicting terms, the determination of which document constitutes the
offer can be critical to determining the terms of the agreement.
In general, an offer is a promise to do or refrain from doing something
in the future in exchange for a specified performance or promise of
performance. However, in order for an offer to be the basis for a
contract it must be made in a manner that expresses a willingness to
enter into a bargain. A mere expression of intent or an invitation to
negotiate does not provide the basis for a contract.
in the future in exchange for a specified performance or promise of
performance. However, in order for an offer to be the basis for a
contract it must be made in a manner that expresses a willingness to
enter into a bargain. A mere expression of intent or an invitation to
negotiate does not provide the basis for a contract.
Depending on the nature of the offer, acceptance may be by performance
of an act or by a promise. A contract resulting from an offer that can
be accepted by performance is sometimes referred to as a unilateral
contract. In other circumstances, acceptance is given by the Offeree
(the person to whom the offer is made) communicating to the Offeror an
agreement to provide the requested performance (such as the delivery of
goods, provision of services or the payment of money) on the terms
offered. The process of offer and acceptance results in a “mutuality of
obligation” or “bargained for exchange” which is at the heart of a valid
contract. It is important that acceptance be communicated to the Offeror
within the time allowed by the offer or, if no time limit is stated,
within a reasonable time. At times, however, offer and acceptance can
occur by implication, as when you take your laundry to the cleaners or
your car to be serviced, even if no words are spoken or writings
exchanged.
of an act or by a promise. A contract resulting from an offer that can
be accepted by performance is sometimes referred to as a unilateral
contract. In other circumstances, acceptance is given by the Offeree
(the person to whom the offer is made) communicating to the Offeror an
agreement to provide the requested performance (such as the delivery of
goods, provision of services or the payment of money) on the terms
offered. The process of offer and acceptance results in a “mutuality of
obligation” or “bargained for exchange” which is at the heart of a valid
contract. It is important that acceptance be communicated to the Offeror
within the time allowed by the offer or, if no time limit is stated,
within a reasonable time. At times, however, offer and acceptance can
occur by implication, as when you take your laundry to the cleaners or
your car to be serviced, even if no words are spoken or writings
exchanged.
Consideration
A promise must be supported by consideration in order to
be enforceable as a contract. Consideration is the value given for the
promise or performance of the other party. In a “bilateral contract”,
each party’s promise is the consideration for the promise of the other.
The most common consideration in ordinary commercial transactions is, of
course, the payment of money for the sale of goods or the performance of
services.
be enforceable as a contract. Consideration is the value given for the
promise or performance of the other party. In a “bilateral contract”,
each party’s promise is the consideration for the promise of the other.
The most common consideration in ordinary commercial transactions is, of
course, the payment of money for the sale of goods or the performance of
services.
Conclusion
While the basic principles of contracts apply in the majority
of circumstances, there are many distinctions and exceptions. Variations
may occur due to the subject matter of the contract, the types of
parties or the particular industry involved. There are also many other
areas to explore, such as the role of conditions, warranties,
indemnities and remedies. These topics will be covered in future
articles.
of circumstances, there are many distinctions and exceptions. Variations
may occur due to the subject matter of the contract, the types of
parties or the particular industry involved. There are also many other
areas to explore, such as the role of conditions, warranties,
indemnities and remedies. These topics will be covered in future
articles.