The In-House Lawyer

Until very recently no other sphere of commercial activity could match the financial markets for the size, volume and speed of their dealings. Trades involving enormous sums are often negotiated and agreed within the space of a few short telephone conversations, or during the course of a single evening, by sophisticated professional traders experienced and versed in the customs of the particular market. Often the broad commercial terms of a transaction are negotiated and it is left to the parties’ legal advisers to supply the detailed terms on which the deal is to be done.

It is perhaps unsurprising then, when markets turn sour, that parties start to look at the agreements they have made to see if there is any way that the consequences of what has become a bad bargain can be avoided. An easy way to achieve such a result is if it can be argued that no contract was concluded in the first place. This article looks at two cases that have featured disputes relating to the formation and existence of contracts in these markets and highlights the approach taken by the English court to answering the perennial question: do we have a deal?

Bear Sterns Bank plc v Forum Global Equity Ltd [2007]

The first case concerned a dispute arising from the purported acquisition, concluded in the distressed debt market, by Bear Sterns (BS) of commercial paper (the Notes) issued by the Italian and Dutch members of the Parmalat group. Following the collapse of the Parmalat group the Notes defaulted and were transferred to Forum. In November 2004 Forum filed claims in the administration of the Parmalat group.

The claims in the respective administrations made the value of the Notes uncertain. The real value of the Notes lay in whatever was recovered in the administration. The only value in the claims lay in the fact that the Notes would be converted into shares to be issued by a new Parmalat entity.

During a series of telephone and e-mail exchanges on 14 July 2005 Mr Franzese of BS made an offer of €2.85m for the Notes to Minerva of Forum’s broker. This offer was rejected, but Franzese asked Minerva to give him a price at which Minerva would close a deal so that he could get instructions to ‘give this an end’. Minerva recognised in evidence that this was the language of a trader in the market who wanted to complete a transaction. Minerva then spoke with his client, Mr Pasquali, and informed him of the impasse in concluding the deal.

Later that day Pasquali called Franzese. It was not in dispute that the price agreed on during this call was €2.9m and that the settlement date for the trade was discussed but not agreed upon. Further conversations between Franzese and Minerva took place in which Franzese reported that a deal had been done and that Franzese would call the next day to ‘fix a settlement window’ for the trader. No conversation to ‘fix a settlement window’ took place the next day. BS’s lawyers prepared the first draft of the documentation and negotiations ensued.

September arrived and BS were keen to move things along as the shares in the new Parmalat entity were shortly to be issued. The draft documentation was still incorrect and Forum was still unhappy with some of the terms, including the purchase price. By 6 October the shares in new Parmalat had been issued but the deal was still not concluded. Further drafts were exchanged the following week but agreement could not be reached on the documentation. On 21 October, Forum wrote to BS to inform it that Forum had decided not to proceed to execute the documentation. The letter stated that the transaction should have been settled within the period of time between the last week of August and the first week of September and that BS should have paid the purchase price before the end of the first week of September 2005. BS sued.

At trial Forum advanced three principal arguments in its defence:

1. that by agreeing to defer reaching an agreement about when there should be settlement, on 14 July the parties had made nothing more than an agreement to agree;
2. that the agreement was too uncertain to be an effective contract; and
3. that the parties did not intend to create legal relations.

The judge did not accept Forum’s first argument that the discussions concerning the settlement date indicated an intention to defer the conclusion of the agreement and was an agreement to agree. The judge referred to the Court of Appeal’s judgment in Pagnan Spa v Feed Producers Ltd [1987] that:

‘… there is no legal obstacle which stands in the way of the parties agreeing to be bound now while deferring important matters to be agreed later.’

The judge said:

‘If parties have shown an intention to be contractually committed, albeit while deferring discussion of some aspect or aspects of the deal, then the court will recognise a contract unless what remains outstanding is not merely important but essential in the sense that without it the contract is too uncertain or incomplete to be enforced.’

This somewhat begs the question as to what are considered to be the ‘essential’ points, as the discussions that took place between the lawyers clearly showed that there were important matters that remained outstanding in relation to the transaction. These formed the basis for the second of Forum’s arguments, that the contract was too uncertain to be enforced. This argument was rejected.

The lack of a settlement date was not fatal to the deal as there could be a term implied in the agreement that the contract should be concluded within a reasonable time. It was not, on the evidence, custom and practice in the market that a settlement date had to be agreed to conclude a legally binding trade. Moreover, agreement as to the precise structure of the deal was not important. The trade contemplated that the ‘commercial benefit’ in the Notes was to be transferred to BS, and: ‘The parties recognised that the machinery by which it would be done would be agreed in discussions between their lawyers’. The absence of agreement as to the representations and warranties that would be included in the documentation was not important as the law would imply any terms necessary to give business efficacy to what was agreed.

As to an intention to create legal relations, Forum advanced four points:

1. the agreement was to be referred to the lawyers to document it;
2. Franzese did not in this case follow his usual practice when concluding a deal;
3. the settlement date was to be discussed further by the principals and would not be left to the lawyers, indicating that they would deal with that important matter in the future; and
4. reliance was placed on the fact that there was no evidence to suggest that Forum ever agreed to be bound to the conditions which BS sought to impose on the deal.

These arguments were also rejected. The fact that lawyers were instructed to document a transaction did not as a matter of market practice mean that a deal had not been done. For the same reason, no weight was attached to the fact that Franzese did not observe his usual formalities when concluding the trade. Similarly, no significance attached to the fact that the principals were to revisit the settlement date in due course – various administrative arrangements had to be made by Forum with its custodian to conclude the delivery of the Notes. Finally, there was no evidence that Forum ever disputed BS’s conditions; the most that Forum had said was that it would have to take legal advice on them.

The second case concerned a loan agreement (the term sheet) that was negotiated during one evening in July 2007. The first claimant, Maple Leaf (ML), was a hedge fund. Astin, the second claimant, was an investment manager specialising in capital markets transactions. The defendants, Rouvroy and Trylinski, were the chief executive and deputy chief executive of and majority shareholders in Belvédère SA (Belvédère), a French company at the top of a group of companies engaged in the production and distribution of drinks.

Rouvroy and Trylinski were in urgent need of funding to conclude a private placement of Belvédère’s securities, which would ensure that they retained control of Belvédère. A term sheet was prepared by Astin and was heavily negotiated by e-mail and telephone during the evening of 25 July. Negotiations were conducted through Astin. The term sheet went through a number of iterations. By the time the parties expressed themselves content with the terms (in the early hours of 26 July), the essential structure of the deal was as follows:

• ML would lend €30m to Rouvroy and Trylinksi, to subscribe for warrants in the shares of Belvédère;
• Rouvroy and Trylinksi would establish a special purpose vehicle or share acquisition vehicle (SPV) and would transfer the warrants and additional securities to the SPV as collateral for the repayment of the loan;
• on 1 August 2008 or, if earlier, one year from the funding date ML would be repaid the amount of the funding, together with an uplift of 25%;
• the SPV or the defendants would grant to ML and Astin a call option over the warrants; and
• the lenders should have the right to borrow the securities held by the SPV during the term of the term sheet.

Lion Capital LLP was also a party to the term sheet, pursuant to which it was to subscribe €20m for shares in return for similar rights to those of ML.

The term sheet contained an English governing law and an English exclusive jurisdiction clause. It made Rouvroy and Trylinski jointly and severally liable with the SPV, and personal guarantors of the obligations of the SPV until such time as it was established. The footer on the version that was signed stated:

‘This term sheet is a financing transaction and contains proprietary and confidential information. The terms included are intended to create a binding obligation on the part of the borrowers, the management (specifically [Rouvroy] and [Trylinski]) and their affiliates. This term sheet shall serve as the legally binding document until such time as agreed amongst the parties is finalised [sic].’

The term sheet was signed on behalf of ML and by the defendants on 25 July. Lion Capital did not sign the term sheet, but its representative (who was travelling at the time and had no access to the appropriate facilities) expressed acceptance of the terms by e-mail sent from his Blackberry.

On 26 July, in accordance with its obligations under the term sheet, ML completed its subscription for warrants in Belvédère. Certain of the terms (relating to the number and price of the warrants that would be subscribed) were subsequently varied by agreement on 26 July, but no SPV was ever established. On 1 August the successful completion of the private placement was announced. Subsequent to this, the defendants sought to renegotiate the terms.

ML claimed that there was a valid and binding agreement made on 25 July. The defendants had three main points in defence to this allegation:

1. There was no intention on its part to create legal relations. They admitted to signing the term sheet but said that, in their experience of conducting business in France, signing a term sheet did not give rise to a legal obligation to be bound by the terms that had been agreed but only to a commitment to negotiate further terms. There was some support in the evidence for the view that in France term sheets were not regarded as legally binding documents.
2. The term sheet was too uncertain to be of legal effect. It made no provision for, for example, the membership or direction of the SPV or how it was to be prevented from disposing of the securities that were to be transferred to it or how it was to meet its tax obligations. It was argued that these were matters of importance and that no binding contract would have been concluded without agreeing these points.
3. That there was no contract because the agreement was not signed by or on behalf of Lion Capital.

The defendants had further defences to the claim, that the termination provision contained in the agreement was penal, and the arrangements were unenforceable under consumer protection legislation. These defences were rejected.

On the question of whether the defendants had made a legally binding commitment, the judge accepted that the defendants believed when they were signing the term sheet that they were not contractually bound by the terms contained in it. However, this did not assist the defendants. English law applies an objective test to the question of whether the parties have entered into a contract, the principles of which were set out in Pagnan Spa. The term sheet had to be construed as a whole, and objectively it did convey to the defendants an intention that they would be legally bound once it had been signed. The only circumstances in which this would not apply are where parties to an agreement do not understand the other party to be evincing an intention to be bound by it or did not form a concluded view. The question here was whether Astin and ML did not believe that the defendants would be bound to the term sheet once they had signed it. The judge found ample evidence of this.

On the second point, that the term sheet was too uncertain to be contractual, there is authority that where both parties have started to perform an agreement this often makes it unrealistic to argue that it is void for uncertainty or that there was no intention to create legal relations. The judge was not persuaded that the absence of agreement about the fine detail concerning the SPV rendered the contract unenforceable. He noted that the term sheet provided that the defendants ‘take all steps to establish [the SPV]’. The defendants therefore had an obligation to establish the SPV and discretion as to how this was to be achieved.

The judge rejected the defendants’ third point that there was no binding agreement between all the parties because Lion Capital had not signed the term sheet. In rejecting the argument the judge noted:

‘Although the formation of contract is conventionally analysed in terms of whether a contractual offer was accepted, the law does not require rigorous compliance with an analysis along these lines. Nor does it require that any particular communication or act must in itself manifest that the party intends to contract: the court will, if appropriate, assess a person’s conduct over a period and decide whether its cumulative effect is that he has evinced an intention to make the contract.’

Applying this reasoning, the judge held that Lion Capital had expressed itself in agreement with a previous version of the term sheet and the differences between the subsequent version and the version to which Lion Capital had agreed were mostly to Lion Capital’s advantage. Lion Capital was therefore to be taken to have accepted improvements to the terms. Lion Capital had also sent a further communication two days after the term sheet had been signed, again expressing its agreement with it. Further, Lion Capital actually decided on 30 July to pursue separate funding with the defendants and Lion Capital made it clear that it did not wish to disturb the arrangements made with ML; the defendants did not dispute at this point that the term sheet was actually in place and in force. The fact that Lion Capital concluded its own, separate funding with the defendants evidenced that the term sheet did have contractual effect and also that Lion Capital’s decision to pursue alternative funding and ML’s, Astin’s and the defendants’ assent to this arrangement amounted to a further agreement that the terms agreed between ML, Astin and the defendants were those agreed in the term sheet.

The defendants were found to have concluded a legally binding agreement when they signed the term sheet.

Conclusion

The cases discussed above have required the court to deal with a morass of evidence about whether a contract was concluded. In each case, the crucial point upon which the court has focused is whether it is possible to spell out of that evidence an intention on the part of the parties to be bound and thereby to create a legal relationship. Provided that the court can do this, formulaic requirements such as the communication of a firm offer and acceptance become less important in deciding whether a contract has been made. In making such an assessment, the court will have particular regard to the custom and practice in the market and/or any previous dealings between the parties.

Where a party begins to perform an agreement but then takes a point that it is too uncertain to be enforced, it is likely to have such points decided against it. If a contract is too uncertain to be enforced, the court seems to take the view that the corollary is that the contract is too uncertain to be performed. As the judge noted in Bear Sterns, a case where the only real meeting of minds concerned the price of the Notes, where terms are missing, or left to be agreed at a later date but are not in the event agreed, the law will imply that which is necessary to make the agreement work. Parties should take note, in light of these cases, of just how little is in fact required for the court to find that a legally binding and enforceable agreement was concluded.

Alex Leitch, partner and David Butler, associate, SJ Berwin LLP.

E-mail: alex.leitch@sjberwin.com; david.butler@sjberwin.com.