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    Checklist to ensure Heads of Agreement are binding

    Author: Phillips Fox       

    A recent Court of Appeal decision held that the relevant Heads of Agreement in that case was not a binding contract. It is best practice to enter into a substantive contract to ensure that the rights and obligations of each party are defined in absolute terms. However, in some
    situations it is necessary to have a binding Heads of Agreement and below, we have prepared a checklist for your convenience.

    Generally, when parties enter into a Heads of Agreement they do not intend
    for the agreement to be binding. A Heads of Agreement is an "agreement to
    agree" and often a number of essential terms have yet to be agreed. The
    "Heads" will usually state that it is not intended for the heads to be binding on the parties but rather the parties agree to enter into the heads as an act of good faith, and to show a commitment to the deal and the negotiating process. If it is intended that the "Heads" be binding on the parties, then the parties should probably enter into the substantive agreement. However, in some situations there may be commercial reasons to ensure that letters of intent or Heads of Agreement do create an enforceable contract that is binding on the parties. If it is intended that the Heads is to be binding on the parties then the parties and their solicitors should ensure that the form of agreement is drafted in such a way that is binding.

    In the recent Court of Appeal decision of Electricity Corporation of New
    Zealand Ltd v Fletcher Challenge Energy Ltd (CA, 10/10/2001; Richardson P,
    Thomas, Keith, Blanchard and McGarth JJ, CA 132/00, 88 pp) the majority took the view that, for various reasons, the Heads of Agreement was not a binding contract and was in the nature of a progress report.

    We have considered the majority's decision in that case and prepared a
    practical checklist highlighting the pitfalls and other matters you should bear in mind when entering into a Heads of Agreement, particularly if the parties intend to be bound by the Heads. However, the intention of the parties is of paramount importance and the surrounding circumstances of the case should be considered when determining whether a Heads of Agreement amounts to a binding contract. Therefore, our checklist has been prepared on the basis that it is to be used as a guide only and independent legal advice should be sought if you wish to ensure that a particular Heads of Agreement is, in fact, binding.

    Checklist
  • the Heads of Agreement should be dated and validly executed by both parties

  • there should be an explicit statement that the Heads of Agreement is meant to be binding


  • if an essential term is absent or uncertain, the agreement will be void for uncertainty or construed as incomplete, ie. the parties should have agreed the terms that are regarded as essential, for example:

    - In a simple Heads of Agreement to lease a building the following matters must have been agreed and should be accurately identified - the parties, the premises, the term of the lease, the rent or other consideration payable, review dates and rights of renewal



  • In the above case there was express reference in the Heads of Agreement to matters "not agreed". The Court determined that the matters marked not agreed had such substantial financial implications for both parties that they were marked not agreed as an indication of their importance and were therefore essential terms.



  • there should be a provision for agreement on outstanding issues to be reached by resort to an expert or an arbitrator or by another mechanism (in the above case, the Court determined that the matters not agreed were "of a kind which could not be expected to be settled for the parties by a Court or other third party" ie. the Court was unable to fill the remaining blank spaces.



  • you should ensure that all documents that are referred to as "attached" to the Heads of Agreement are attached, and that the parties have initialled all amendments and the foot of each page



  • if there is a particular form of agreement to be entered into at a later date (for example, the Auckland District Law Society Lease), then this should be attached or clearly identified in the Heads of Agreement to avoid uncertainty



  • the Heads of Agreement should be clearly drafted in plain English and
    accurately reflect the intention of the parties with all the essential terms and conditions incorporated.


    • This article is intended as a first point of reference and should not be relied on as a substitute for professional advice. Specialist legal advice should always be sought in relation to any particular circumstances and no liability will be accepted for any losses incurred by those relying solely on this article.

    Copyright Phillips Fox, 2001
    Author - Karyn Thomson, senior associate: karyn.thomson@phillipsfox.com

    December, 2001