Preliminary agreements and the risk of litigation

An agreement reached between parties through formal and informal mediations, settlement conferences, or the exchange and acceptance of offers may or may not create a binding and enforceable agreement. The enforceability of preliminary agreements including ‘heads of agreement’, ‘letters of intent’ or ‘memorandums of understanding’ is an ongoing source of litigation where it is unclear if the parties intend to be bound immediately.

Often the parties plan for a more formal and comprehensive document to follow, but intend the preliminary agreement to be binding. The steps a solicitor takes after an informal settlement is reached, and how that preliminary agreement is recorded, will determine whether the risk of subsequent litigation, initiated by a party’s withdrawal from the agreement, can be avoided. Ideally, the parties would execute a formal written agreement at the time of settlement. However, the reality can be very different. 

In Masters v Cameron (1954) 91 CLR 353, the High Court considered classes of contract and determined they would only be binding in two sets of circumstances: (i) where the parties have agreed terms and intend to be immediately bound to their performance but propose to have the terms restated in a form which will be fuller or more precise but not different in effect; (ii) where the parties have agreed upon all the terms of the arrangement, but have made performance conditional upon execution of a formal document. 

A third class recognised circumstances where the intention of the parties is not to make a concluded bargain unless and until they execute a formal contract. A now accepted fourth class first emerged in Baulkham Hills Private Hospital Pty Ltd v GR Securities Pty Ltd (1986) 40 NSWLR 622 at 628, where the parties intend to be bound, but expect to make a formal contract containing additional terms in substitution for the first contract.