Memorandum of Understanding and Binding Agreement: What Actually Separates Them
A document is not unenforceable because it is headed 'memorandum of understanding', and it is not enforceable because it is headed 'agreement'. What decides the question is what the document says and what the parties did. This note explains what the label is worth and what actually matters.
Guide
The heading decides very little
Parties often sign a memorandum of understanding believing it commits them to nothing, and are surprised to find themselves in a dispute about whether it does. The heading on a document is one indication of what the parties intended, and a weak one. What a court examines is the substance: whether the parties intended to create legal relations, whether the essential terms were settled, and whether anything was given in exchange.
A memorandum that identifies the parties, states what each will do, fixes a price and says when performance begins is a contract, whatever it is called. A document headed 'agreement' that leaves the essential terms to be settled later may bind nobody.
What actually determines the answer
Three things do most of the work. First, whether the parties intended legal consequences — a document that says in terms that it is not intended to be binding, and is consistent with that elsewhere, is treated very differently from one that is silent. Second, whether the terms are certain enough to be performed: a court cannot enforce an obligation it cannot identify. Third, whether the arrangement is supported by consideration.
Conduct then affects all of it. Parties who begin performing — supplying, paying, taking possession — may find that they have made a contract by their behaviour even where the document was expressed to be preliminary. A non-binding document followed by binding conduct is a common and expensive combination.
Documents that bind in part
It is entirely possible, and often sensible, for a document to be non-binding as to the commercial deal but binding as to certain matters. Confidentiality, exclusivity for a period, who bears costs if the deal does not proceed, and how disputes about the memorandum itself are resolved are all commonly made binding while the substance is not.
Where that is intended, it must be said clearly: which clauses survive, which do not, and what happens if negotiations fail. A document that is vague about which parts bind is worse than one that binds entirely, because nobody can tell where they stand.
Making the document do what it is meant to do
If the intention is not to be bound, say so expressly, say that the parties will be bound only on execution of a definitive agreement, and identify the limited provisions that are to bind in the meantime. Then behave consistently with it.
If the intention is to be bound, do not use the language of intention and expectation. Write obligations: who does what, by when, for what payment, and what happens if they do not. The most common problem with commercial documents is not that they are badly drafted but that they are equivocal about whether they are meant to be documents at all.
Practical consequences to think about first
Before signing anything of this kind, it is worth asking what you would want to happen if the other side walked away tomorrow, and what you would want if you did. Those two answers usually reveal whether a binding document is wanted, and by whom.
It is also worth asking what is being disclosed and what is being relied upon. Parties frequently share commercially sensitive information, or begin incurring cost, on the strength of a document they believe commits nobody. Confidentiality and cost-sharing are precisely the things that should bind even when the deal does not.
Checklist
Practical Checklist
- Decide whether you want to be boundAnd whether you want the other side to be. The answers are often different.
- Say so expresslyA clear statement of binding or non-binding intention, consistent with the rest of the document.
- Identify which clauses bind regardlessConfidentiality, exclusivity, costs and dispute resolution commonly survive a failed negotiation.
- Check the essential terms are certainParties, subject matter, price and time. If any is left open, say expressly what happens.
- Deal with confidentiality before disclosingInformation shared cannot be unshared, whatever the document later says.
- Agree who bears cost if it does not proceedEspecially where one side is expected to spend before the definitive agreement.
- Behave consistently with the documentConduct can create a contract that the paper says does not exist.
- Fix the route to the definitive agreementWhat has to happen, by when, and what occurs if it does not.
Cautions
Common Mistakes
- Assuming the heading is decisiveIt is not. Substance and conduct decide the question.
- Signing a 'non-binding' document and then performingConduct can bind where the document says it does not.
- Leaving essential terms to be agreed laterAn obligation that cannot be identified generally cannot be enforced.
- Making everything non-bindingConfidentiality and cost-sharing are usually the clauses that most need to bind.
- Sharing sensitive information first and papering it afterwardsThe protection has to exist before the disclosure.
- Using aspirational language for real obligations'The parties intend to' is not the same as 'the party shall', and the difference is the whole point.
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About this note
Published by H.R. Legal Associate, advocates, Lucknow, for general information.
Written byH.R. Legal Associate
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Important
Disclaimer
This note is general information about an area of law. It is not legal advice, it is not an advertisement or a solicitation of work, and reading it creates no advocate–client relationship.
Whether a particular document is binding, and to what extent, depends on its terms, the surrounding circumstances and how the parties have behaved. A document should be assessed on its own facts before it is signed or relied upon.
Procedures, limitation periods, court fees, stamp duty, government charges and tax rates change, and what applies depends on the facts of the particular matter. Nothing here should be acted on without advice taken on your own documents, and no outcome is promised or predicted.
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