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The Formation of Contracts

In order for a contract to form, there are four essential elements that need to exist: offer; acceptance; intention to be legally bound; and consideration.

1. Offer of Contract

The offer must be definite in its terms, such as clearly stating that something will be done for a price. An offer may be a quotation for work for a specific price, or there must be a way of calculating the price such as a formula or hourly rate. However, ball-park estimates and requests for proposals do not equate to an offer, as these lack the certainty that is required.

An offer will lapse and therefore no longer be open for acceptance when time for acceptance expires, or if the offer is withdrawn before it is accepted. An offer stands in contrast to an invitation to treat, which is only a willingness to enter into negotiations. Therefore, a contract is not formed if an invitation to treat is accepted, as such an acceptance equates more to an offer that then needs to be accepted for a contract to form. Examples of invitations to treat include catalogues, price lists and advertisements. There is a huge body of case law that distinguishes between invitations to treat and offers.

2. Acceptance of Contract

The offer can only be accepted in the terms that the offer is made. Therefore, if an acceptance is purporting to change the terms or add new terms, then this ‘acceptance’ is more a counter-offer. Only if this counter-offer is accepted in its exact terms is there true acceptance and a contract is formed.

The acceptance of an offer can be verbal, in writing or inferred by the conduct of the parties where that conduct indicates a state of mind that the offer was accepted and the parties have begun undertaking their respective obligations under the contract, called the Doctrine of Part Performance. Of course, there are certain contracts – most notably in real estate – that must be in writing and anything less is not an acceptance.

Furthermore, in relation to the Doctrine of Part Performance, where one party understands that the other party has not properly conveyed their acceptance of the offer but nevertheless allows the other party to discharge the contract as if there had been proper acceptance, the first party is prevented from arguing that there is no contract because of a promissory estoppel.

3. Intention to Be Legally Bound

For there to be a contract, the parties are required to intend to enter a legally binding agreement, namely to create legal relations that may be enforced at law.

This is closely related to capacity, so that a person without the capacity to understand or form any acceptance to an offer cannot be said to have the intention to be legally bound. Such a person is a minor or an intellectually impair person.

Also related to the intention to be legally bound is the defence of Non Est Factum, where a party argues that he or she did not know what the contents of the contract were, and this therefore has an impact on the intention to be legally bound.

4. Consideration

Consideration is the value that is attached to performance of the contract, so that one party promises goods or services in return for a promise from the other party to provide some benefit of value to the first party. The benefit of value is the consideration, often the price that a person pays under a contract; however, barter exchanges relate to products or services from one party for the return of products or services from the other party, and in such instances, the consideration is the products or services. The consideration may also be less tangible in value, such as, for instance, the promise not to exercise a right under another arrangement.

It is not necessary for the consideration to be fair between the parties, as the courts are not patriarchal over parties and as caveat emptor or buyer beware operates between parties. This also ties in with the self-determination and autonomy of the parties as citizens of society. However, the courts will intervene where one party has acted fraudulently or placed the other party under duress or taken advantage of the other party who is disadvantaged in some way in order to constitute unconscionable conduct.

Conclusion

Where these four essential elements are present, a contract is formed. Examples of contracts include partnership agreements in business, lease of premises, sale and purchase of real estate, and employment agreements.