I recently was confronted with a question where an individual that I was working with had explained that they entered into a contract with a vendor and the very next day, the vendor told them that the sales rep had priced the contract lower than what they could deliver the actual services for and as such, they were canceling the agreement arguing that it was not a valid contract.
This got me to thinking…While it may be self-evident, the formation of a contract is quite complex and there are many nuances as to what constitutes an actual valid contract. So… I'm going to dedicate this blog post to a class entitled “Contracts 101… The anatomy of a valid (K).”
In this class session we are going to discuss what makes a valid offer.
So let's talk about the anatomy of a contract. For a contract to be valid 4 factors must be met. There must be a proper offer, a proper acceptance, consideration must be present and there must be no defenses to the enforcement of the contract.
Seems simple enough right?...Oh boy, just wait till you hear what I have to say on the subject.
WHAT LAW DOES THE COURT APPLY?
Let's first understand the difference between the sale of goods and the sale of services.
The sale of goods (where the court considers goods to be movable tangible personal property) falls under article 2 of the Uniform Commercial Code. The Sale of Services Including the Sale of Real Property, the Sale of Intangible Personal Property and Other Types of Services Generally Are Governed under the Common Law. Why Is This Important? Because the Law Treats Certain Aspects of the Contract Differently Depending on Whether You're Selling Goods or Whether You Are Selling Services.
Now you may be asking… Hey Brian, I sell both goods and services together so how will the law treat me? I'm glad you asked. Generally, the courts will use two types of tests to determine what law (UCC or the common law) to apply in your situation.
1) The Graveman Test - this test is generally applied where there is a complaint against you for your product or service and the court looks at the portion of the transaction under which the complaint is based to determine whether this issue involves goods or services.
2) The Predominant Factor Test- under this test, the court looks at the entire transaction is a whole to determine whether it's predominant purpose was the sale of goods or the provision of services and will make a decision as to which law applies depending on which was more important.
WAS AN OFFER MADE?
Now that we understand what law we need to be concerned with, we now must consider whether an offer was actually made. The actual legal definition for an offer is:
"1) manifestation of present contractual intent, 2) containing definite and certain terms, 3) communicated to an identified offeree.”
1. Manifestation of Present Contractual Intent - Under the law, there is what's known as "the objective theory of contract formation." This theory relies on whether an objective reasonable person or would believe that an offeror has intended to be bound by the contract if the offer was accepted by the offeree. In other words, did the person making the offer actually intend to make the offer? Or was there some underlying reason that would not make the offer valid?
It is important to keep in mind that generally, when you quote a price to someone this is not considered an offer but merely an invitation to receive an offer. In addition, a newspaper advertisement is generally not considered an offer unless (and this is important) the newspaper ad contains enough material terms about the offer to make the offer appear to meet an objective theory of contract formation and the newspaper advertisement identified the offeree.
2. Containing Definite and Certain Terms - At common law, an offer required all the essential terms to be valid this included: the quantity, time for performance, identity of the parties, price and the subject matter. Article 2 of the Uniform Commercial Code dealing in the sale of goods has softened this issue so that only the identity of the parties and quantity of goods need to be stated for a valid offer. However, it is always recommended whenever you make an offer to include as many material terms as possible.
What happens if a material term is missing? Well, the court will look at either the course of performance (the previous performance between the parties under this particular contract), the course of dealing (how these particular parties performed under a different contract), or trade usage (where there are no prior dealings between the parties but, there is some custom in the industry that the court can follow).
3. Communicated to an Identified Offeree - This of course is the simplest of the issues and the bottom line here is make certain that when you make an offer you communicated to a specific identified party and not just the world in general.
IS YOUR OFFER STILL OPEN?
In many situations an offer can actually terminate. An offer can terminate on its own terms however, an offer can also terminate due to a lapse of time, the death of the one who made the offer, destruction of the subject matter (if it goes to the heart of the deal) and even illegality.
A rejection by the offeree can terminate an offer and remember once an offer is terminated it is no longer valid so, an offeree cannot reject your offer and then run back to you and say "I've changed my mind!" Once your offer has been terminated it is dead. And remember, you can also revoke your offer either directly or through an indirect revocation as long as the offer is revocable and this brings us to our next issue.
IS YOUR OFFER REVOCABLE?
Generally, the offer is freely revocable. However, there are certain situations where your offer may not be revoked.
1) An Option Contract - A promise by an offeror to hold an offer open for a particular period of time that is supported by consideration (will get into consideration later) will be irrevocable for the agreed period of time. However, if an offeree has an option contract with you and rejects the offer and you as the offeror detrimentally rely on this rejection than the option contract will be revocable.
It is important to note, that even if there is no exchange of consideration for an option, the mere recital of consideration will make the option contract enforceable and non-revocable.
2) Merchants Firm Offer (UCC 2-215) - If your business that sells goods, beware of this provision under the Uniform Commercial Code. Under this provision, a writing signed by a merchant that gives assurances that the offer will be held open will make the offer irrevocable during the time stated. If there is no time stated, then the offer will be held open for a reasonable time not to exceed 90 days.
3) Equitable Option / Promissory Estoppel - If an offeree detrimentally relies on your offer, and the offer is reasonable, foreseeable and substantial, than the offer will be considered irrevocable for a reasonable period of time.
4) Unilateral Contract - Where you make an offer where acceptance of the offer is based on performance rather than an actual agreement to accept the offer, your offer will be irrevocable once the performance has begun. You as the offeror must give the offeree a reasonable amount of time to complete the performance was their performance has started. Keep in mind, there is a minority rule in the law where the offer under a unilateral contract may be revocable at any time until the performance has been completed but again this is a minority rule and you should not rely on it.
So there you have it, this is your first class in a series of going through the anatomy of the contract. I hope you'll find some of this information extraordinarily helpful and I think you'll really appreciate the next class which will talk about an acceptance of your offer.