The Paris Energy Series No.

3: Pre-contractual agreements: how to keep out of the woods

Michael Polkinghorne White & Case llp, Paris Courtney Kirkman White & Case llp, Paris A verbal contract is not worth the paper it is written on.1 But they dont end there. You then find yourself before a local court in Fredonia, facing a claim for breach of contract brought by the other party. The action is brought in the village or town of the other party, where you fear that the local judge may be partial. You have engaged a local attorney who tells you that under local (civil) law principles, liability may attach to your MOU, notwithstanding that this would not be true in your own legal system. 2 What went wrong? Section 2 of this article will discuss what went wrong the common law lawyers expectations based on his own legal system versus the realities of pre-contractual liability in (for the most part) civil law systems. Section 3 of this article will set forth considerations for your next MOU (or other preliminary agreement). Michael Polkinghorne Partner

1. Introduction
Imagine this scenario. You are counsel for a company, and learn that your companys business people have signed a Memorandum of Understanding (MOU) regarding a potential transaction in the fabled country of Fredonia. Being from a common law jurisdiction, your companys business people made sure to follow your instructions, and hence ensured that the MOU included language stating that the MOU was subject to execution of a contract and/or was just an agreement to negotiate. Given that this is an MOU, there is no applicable law clause or dispute resolution clause. Unfortunately, the negotiations fall through. Your companys business people are disappointed about failing to reach a deal, but imagine that matters end there.

Courtney Kirkman Associate

1 2

Sam Goldwyn (1882-1974), cited in The Great Goldwyn (Alva Johnston: 1937). Fredonia is a civil law system whose law is based upon French and Islamic law.

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Pre-contractual agreements: how to keep out of the woods

2. What went wrong? Common law v. Civil law

Your companys business people made the mistake of ignoring the important differences between common law and civil law regarding pre-contractual liability for business negotiations. Business people from common law jurisdictions often erroneously assume that liability does not come into play before an actual contract is signed. This view is false in both civil and common law jurisdictions, and is particularly dangerous with respect to civil law jurisdictions, where courts are more willing to find pre-contractual liability.

limiting the parties freedom to negotiate will have a chilling effect on the parties willingness to enter into negotiations (which would stifle business).6 As a result, it is often said that agreements to agree are unenforceable. Any potential pre-contractual liability of the parties depends largely on the phase of the negotiations in which the parties found themselves when one party broke off the negotiations. Although the phases of negotiations are often fluid and indeterminate, the following three general categories suffice for our purposes: (1) the parties have engaged in preliminary negotiations by discussing a transaction, but have not agreed to anything; (2) the parties have made a preliminary agreement in which they have agreed on certain terms but left other terms open; and (3) the parties have agreed on all material terms and intended to memorialize them in writing, but did not actually do so.7 The potential liability and remedies for each phase of negotiations are discussed in turn below.

2.1 The common law lawyers expectations

The common law lawyer typically thinks that his client can walk away from business negotiations at any time before a formal contract is signed, free of the risk of liability. To be extra careful, he may add language to any preliminary agreement such as subject to contract. In many (but by no means all) respects, he or she would be right. In common law systems, courts have traditionally given parties an expansive freedom of negotiation.3 This has been referred to as common laws aleatory view of negotiations: a party that enters into negotiations in the hope of benefit must also bear the risk of loss should the negotiations fall through.4 In the words of an English court, a party to negotiations undertakes this work as a gamble, and its cost is part of the overhead expense of his business which he hopes will be met out of the profits of such contracts as are made.5 This aleatory view of negotiations reflects a concern that

2.1 (A) Preliminary negotiations

If the parties have simply engaged in preliminary negotiations about a possible transaction but have not agreed to anything, each party is free to walk away from the negotiations without fear of liability vis--vis the other party.8 Common law courts in the United States have not as a rule recognized any general obligation of good faith or fair dealing arising out of the preliminary negotiations themselves.9 The general duty of good faith and fair dealing set forth in the Uniform Commercial Code and the

3 4 5 6 7 8 9

E. Allan Farnsworth, Precontractual Liability and Preliminary Agreements: Fair Dealing and Failed Negotiations, 87 Colum. L. Rev. 217, 221 (1987). Id. R.J.P. Kottenhagen, Freedom of Contract to Forcing Parties into Agreement: The Consequences of Breaking Negotiations in Different Legal Systems, 12 IUS Gentium 58, 67 (Spring 2006), quoting William Lacey (Hounslow) Ltd. v Davis [1957] 2 All ER 712, [1957] 1 WLR 932 (QB). Farnsworth, supra note 3, at 221. Alan Schwartz and Robert E. Scott, Precontractual Liability and Preliminary Agreements, 120 Harvard Law Review No. 3, 661-707 at 664 (January 2007). Id. Farnsworth, supra note 3, at 222.

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Pre-contractual agreements: how to keep out of the woods

Restatement (Second) of Contracts does not appear to extend this far.10 Unless there is evidence that the parties intended to be legally bound in some way by such preliminary negotiations, US courts will not impose liability.11 The same is true for England.12

2.1 (b) Preliminary agreements

When parties negotiations have reached a stage where the parties have agreed on certain (but not all) terms of an eventual contract, parties often like to memorialize this in writing, often in an effort to minimize the uncertainties of negotiation.13 Preliminary agreements can take many different forms, including letters of intent, commitment letters, memoranda of understanding, heads of agreement and agreements in principle, to name a few.14 Although the content of these types of preliminary agreements will vary, they generally set out the points agreed upon by the parties, while other terms are left open for negotiation. A key issue in determining liability at this stage is whether, and to what extent, the parties intended to be legally bound.15 The common law courts default rule is the presumption that a preliminary agreement is not a binding contract.16 Under English law, parties

to a preliminary agreement can stipulate that the agreement is subject to contract and thereby substantially reduce (but not eliminate) the risk that the agreement will be deemed a legally enforceable contract.17 Even here, however, exceptions can arise.18 Under American law, a court will consider the following factors in determining whether an MOU or letter of intent is binding on the parties: (1) the amount of detail; (2) the language used; (3) the presence of escape clauses; (4) the use of subject to formal contract/definitive agreement language; (5) contrariety; (6) the complexity of the transaction; (7) the behavior of the parties in the precontractual stage; and (8) custom.19 An agreement to negotiate may set out the parties agreement on certain terms of an eventual agreement.20 However, if the parties fail to reach a final agreement, they are not bound by any allegedly final agreement. 21 As a practical matter, if managers enter into an agreement to negotiate and then turn matters over to their companys lawyers, the managers have not bound the company in the event that the parties lawyers fail to reach an ultimate agreement.22

10

11 12 13 14 15 16 17 18 19 20 21 22

As the relevant provisions of the Uniform Commercial Code and the Restatement (Second) of Contracts provide that they apply to contracts, they do not, by negative implication, apply to pre-contractual negotiations. Farnsworth, supra note 3, at 221 and 239. Section 1-203 of the Uniform Commercial Code, Obligation of good faith, provides: Every contract or duty within this Act imposes an obligation of good faith in its performance or enforcement. U.C.C. 1-203 (1978). Section 205 of the Restatement (Second) of Contracts, Duty of Good Faith and Fair Dealing, provides: Every contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement. Restatement (Second) of Contracts 205 (1981). Comment c to Section 205 specifically provides that Section 205 does not deal with good faith in the formation of a contract. Schwartz and Scott, supra note 7, at 664 and 668-673. Paula Giliker, Pre-Contractual Liability in English and French Law (Kluwer 2002) at 32-36. Farnsworth, supra note 3, at 249. Id. at 250. Mirian Kene Omalu, Precontracutal Agreements in the Energy and Natural Resources Industries Legal Implications and Basis for Liability (Civil Law, Common Law and Islamic Law), J.B.L. 2000, JUL, 303-331 at 308-321 (2000). Schwartz and Scott, supra note 7, at 674-675. Ralph B. Lake, Letters of Intent: A Comparative Examination Under English, U.S., French and West German Law, 18 Geo. Wash. J. Intl L. & Econ. 331, 335 (1984-1985). Schwartz and Scott, supra note 7, at 675. Lake, supra note 15, at 336. Lake notes that the English rule is that when a condition in an agreement provides that the agreement is not a legally binding contract, the condition governs the agreement and renders it unenforceable at law. See the English court decision in ProForce Recruit Ltd. v The Rugby Group Ltd. ([2005] EWHC 70 (QB)) in which the court found that there was an enforceable contract in place despite the agreements subject to contract clause. Kottenhagen, supra note 5, at 64-65. Farnsworth, supra note 3, at 251. Id. Id.

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Pre-contractual agreements: how to keep out of the woods

Although the parties to an agreement to negotiate are not obliged to reach a final agreement, they are obliged to negotiate with each other. Breach of an agreement to negotiate occurs when one party obstructs the negotiation process to prevent the reaching of an agreement. Such obstruction can take the following forms: (1) refusal to negotiate (unreasonable delay can amount to an effective refusal); (2) improper tactics, including inflexibility; (3) unreasonable proposals; (4) non-disclosure of material information; (5) negotiation with others; (6) reneging on agreed terms; and (7) breaking off negotiations.23 Parties to a preliminary agreement may also be obliged to negotiate in good faith, depending on the particular common law jurisdiction. There appears to be an obligation of good faith and/or fair dealing with respect to preliminary agreements in the United States, but this does not appear to be the case in England.24 Although English law does not recognize the validity of such an obligation, it does appear to accept obligations to use best endeavours.25 Common law courts have often been unwilling to enforce agreements to negotiate and other preliminary agreements on the grounds of uncertainty, indefiniteness, or lack of clarity regarding the parties intent to be bound. 26 A member of the English House of Lords stated as far back as 1857: An agreement to enter into an agreement upon terms to be afterwards settled between the parties is a contradiction in terms. It is absurd to say that a man enters into an agreement till the terms of that agreement are settled.27 English courts will, as a rule, not enforce preliminary agreements in the absence of a formal contract.28

A second reason for common law courts unwillingness to enforce agreements to negotiate, at least in the United States, is the courts difficulty in determining the scope of the obligation of fair dealing and/or good faith under the agreement. 29 However, legal scholars have noted that courts have not made much effort to determine a standard of fair dealing in the context where negotiations fail to result in an agreement.30 Courts will consider, inter alia, the following factors:31 (1) Language of the agreement do the parties specify good faith or best efforts (which is generally considered a higher standard than good faith)? (2) Exclusivity or non-exclusivity of the negotiations. (3) Duration of the negotiations the longer the duration, the greater the parties expectations become of reaching an ultimate agreement. (4) What was disclosed during the negotiations. (5) What was to be kept confidential during the negotiations. (6) Any previous relationship or history of dealing between the parties. (7) Any relevant trade practice. The standard of fair dealing under an agreement to negotiate usually requires: (1) actual negotiations with no imposition of improper conditions; (2) sufficient disclosure about parallel negotiations to enable the other party to make competing proposals;

23 24 25

26 27 28 29 30 31

Id. at 273-285. Schwartz and Scott, supra note 7, at 664. Halsburys Laws of England Contract Vol. 9(1) Section 631. Giliker, supra note 12, at 34-35. English courts will enforce express best endeavours or all reasonable endeavours clauses. See Lambert v HTV Cymru (Wales) Ltd [1998] EMLR 629 (CA). English courts have also found that a duty to use ones best endeavours may be implied by market practice, even where there was no express best endeavours clause in the contract. See General Accident Fire and Life Assurance Corporation v Tanter, The Zephyr [1985] 2 Lloyds Rep 529 (CA). Farnsworth, supra note 3, at 264-265. Giliker, supra note 12, at 32-35. Farnsworth, supra note 3, at 264. Lake, supra note 15, at 346. Farnsworth, supra note 3, at 267. Id. at 269. Id. at 272-273.

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and (3) continued negotiation until an impasse has been reached unless there is a reasonable justification for breaking off the negotiations.32 A third reason for common law courts unwillingness to enforce agreements to negotiate is the difficulty in providing a remedy, given that the parties cannot know in advance the outcome of their negotiations. 33 For this reason, expectation interest and specific performance are not generally considered to be appropriate remedies.34 Instead, the appropriate remedy is usually reliance interest but only if the non-breaching party in fact relied and suffered harm.35 The party seeking recovery must show reliance and prove that its loss was caused by that reliance (including expenditures in reliance and any lost opportunities).36 Thus if a party to a preliminary agreement fails to negotiate in good faith, the other party may be entitled to recover its reliance expenditures.37 In addition to good faith/fair dealing, liability for preliminary agreements has been found on other grounds, although it has been noted that [t]he legal rules that have evolved to treat claims of precontractual liability travel under a confusing array of legal doctrines.38 Common law courts have increasingly recognized the following grounds for imposing pre-contractual liability: (1) unjust enrichment; (2) fraudulent or negligent misrepresentations made during the negotiations; and (3) specific promises made during the negotiations.39 Recovery based upon unjust

enrichment is restitution, by which the wrongful party must return the benefit to the wronged party.40 Recovery based upon misrepresentation or specific promises made during the negotiations is based upon reliance interest (by which the wrongful party is liable for the loss suffered in reliance on the misrepresentation or promise).41 It has been said that none of the three grounds described above gives rise to recovery of an expectation interest (i.e., profits) or the remedy of specific performance, however.42 Courts have also allowed recovery based on the doctrine of promissory estoppel, although it appears that the courts grant recovery on this basis in only very limited circumstances.43

2.1 (c) All terms agreed, but no writing

A third scenario is that in which the parties had agreed on all material terms of an agreement and intended to later memorialize their agreement in a writing, but one party backed out before the writing was done.44 In this case, courts may find that there is a binding contract if they conclude that the intent of the parties was to be bound and that the parties did not intend for the formalization of their agreement to be essential.45 The problems here tend to more of proof (who said what) than principle. One point: if there is a binding agreement, with all the requisite terms, the mere addition of subject to contract at the top will not change this.46 It is all a question of intention.

32 33 34 35 36 37 38 39 40 41 42 43

44 45 46

Id. at 284 and 286. Id. at 267. Id. at 263-264. Farnsworth, supra note 3, at 267. Id. at 267-269. Schwartz and Scott, supra note 7, at 664-665. Id. at 663. Farnsworth, supra note 3, at 222. Kottenhagen, supra note 5, at 68-69. Farnsworth, supra note 3, at 223. Id. at 224. Id. at 223. Kottenhagen, supra note 5, at 69. Schwartz and Scott, supra note 7, at 668-671. Schwartz and Scott argue that the much-taught case of Hoffman v. Red Owl Stores, Inc., in which the court allowed Hoffman to recover sunk costs on the basis of the doctrine of promissory estoppel, has little precedential value and that most courts have established strict limitations on using the promissory estoppel doctrine to impose liability based on representations made during negotiations. (Hoffman v. Red Owl Stores, Inc., 133 N.W.2d 267 (1965)). Id. at 664. Id. See ProForce v The Rugby Group, supra note 18.

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Pre-contractual agreements: how to keep out of the woods

2.2 The civil law position

In comparison with common law courts, civil law courts are much more willing to impose liability on parties with respect to pre-contractual negotiations. The concepts of good faith and fair dealing in business negotiations are firmly entrenched in civil law systems. The concept of a duty of good faith and fair dealing dates back (at least) to 1861.47 At that time, a German jurist named Rudolf von Jhering set forth the theory that parties to pre-contractual negotiations have a duty of good faith, fair dealing, care and loyalty.48 A breach of this duty a culpa in contrahendo (fault in negotiations) results in recovery of reliance damages. German courts have applied von Jherings theory as a basis for liability in failed negotiations.49 A similar view was developed in France in 1907 by a French scholar named Raymond Saleilles.50 Saleilles put forth the view that a party that has entered into negotiations must act in good faith and cannot break off the negotiations arbitrarily without compensating the other party for reliance damages.51 It has been suggested that whereas the common law of contract focuses on the bargain, the civil law of contract focuses on the relationship between the parties.52 It has also been suggested that since

contracts are formed with less formality in civil law systems (the formal contract is not the dramatic event it is in common law), civil law courts are more likely to find that the parties are legally bound at an earlier stage of the negotiation process.53 It has also been noted that French law is far more willing to contemplate contractual obligations at an early stage and less concerned with the demands for security and stability in the market place, which influence its English counterpart.54 Similar to common law systems, pre-contractual liability differs depending on the stage of the parties negotiations.

2.2(a) Preliminary negotiations

(i) Liability In some civil law systems, pre-contractual liability for preliminary negotiations is based upon tort law instead of contract law. This is the case in France. Under French law, the general catch-all tort liability clauses of the French Civil Code are generally used as the basis for liability for preliminary negotiations.55 Under French law, pre-contractual liability may be found in situations of preliminary negotiations, in contrast with common law systems.

47 48 49

50 51 52 53 54 55

Omalu, supra note 14, at 326. Farnsworth, supra note 3, at 240. Omalu, supra note 14, at 326. Farnsworth, supra note 3, at 240. Omalu, supra note 14, at 326. Farnsworth, supra note 3, at 240. The Bundesgerichtshof (the highest court in Germanys system of ordinary jurisdiction) found in one judgment: A fault in contractual negotiations that renders one liable for damages can also exist in that one party awakes in the other confidence in the imminent coming into existence of a contract subsequently not concluded and this causes the latter party to incur expenses. Farnsworth, supra note 3, at 240, citing the judgment of July 14, 1967, Budesgerichtshof, W. Ger., Lindenmaier-Mhring, Nachschlagewerk des Bundesgerichtshofs, BGB 276 (Fa.) no. 23 (1968). Omalu, supra note 14, at 327. Farnsworth, supra note 3, at 240. Omalu, supra note 14, at 327. Farnsworth, supra note 3, at 240. Lake, supra note 15, at 342. Giliker, supra note 12, at 4. Lake, supra note 15, at 342-343. Giliker, supra note 12, at 45. Article 1382 of the French Civil Code provides: Any act whatever of man, which causes damage to another, obliges the one by whose fault it occurred, to compensate it. (Tout fait quelconque de l homme, qui cause autrui un dommage, oblige celui par la faute duquel il est arriv, le rparer.) Article 1383 of the French Civil Code provides: Everyone is liable for the damage he causes not only by his intentional act, but also by his negligent conduct or by his imprudence. (Chacun est responsable du dommage qu il a caus non seulement par son fait, mais encore par sa ngligence ou par son imprudence.) (Articles and official translations available at http://www.legifrance.gouv.fr.)

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Pre-contractual agreements: how to keep out of the woods

The most common categories of claims relating to preliminary negotiations are: (1) unjustified and abusive rupture of negotiations (the most common form); (2) negotiation without a serious intent to contract; (3) failure to cooperate; (4) misuse of information gained in confidence (for example, trade secrets, know-how or confidential information); (5) entry into negotiations with the goal of preventing the other party from negotiating with a third party; (6) conducting parallel negotiations in bad faith; and (7) failure to disclose essential and material facts.56 Under French law, simply breaking off preliminary negotiations does not per se constitute a fault unless done in bad faith. Bad faith will be judged from the circumstances, including: (1) the timing or suddenness of the rupture; (2) the expenses incurred; (3) the preparatory work done; (4) the importance of the transaction; (5) the stage of the negotiations; (6) the length of the negotiations; (7) whether the parties are professionals or not; (8) any publicity put out by the party breaking off the negotiations; (9) the rupturing partys behavior; and (10) the justification provided by the rupturing party.57 No single criterion is, by itself, determinative of bad faith. French judges consider all of the circumstances. The leading French case on the issue is a decision by the Cour de cassation (the Supreme Court) in 1972.58 The facts are as follows: The claimant and the exclusive distributor in France of American-made machines for the manufacture of cement pipes conducted intensive negotiations, during the course of which the claimant visited the US to observe the machines and obtain additional information. The distributor was later found to

have withheld information from the claimant. The distributor suddenly terminated the negotiations and contracted with the claimants competitor. The distributors contract with the claimants competitor included an exclusive distribution clause for fortytwo months. The Cour de cassation concluded that the negotiations had been broken off suddenly (brutalement), unilaterally and without any legitimate justification, for which the distributor was liable.59 The Court of Appeal of Riom, following the reasoning of the Cour de cassation, found: If freedom [of contract] is the main principle in the pre-contractual period and includes the freedom to break off negotiations at any time, it is still true that when the latter have reached a length and level of intensity such that one party may legitimately believe that the other is about to conclude the contract and in readiness encourages him to incur certain expenses, breaking off such negotiations is wrong, causes loss and gives rise to reparation.60 Another French example involved the case of two parties who had negotiated for a period of four years, during which they held numerous meetings and made various proposals.61 One party broke off negotiations citing internal difficulties, which it admitted had nothing to do with the quality of the product in question.62 The Cour de cassation found that the party that broke off negotiations had shown a lack of fairness (loyaut) and did not have a legitimate reason for doing so at that stage.63

56 57 58 59 60 61 62 63

See, inter alia, Giliker, supra note 12, at 126-128. Giliker notes that in contrast to English law, French law imposes a pre-contractual obligation on parties to disclose information. Giliker, supra note 12, at 123-126. Kottenhagen, supra note 5, at 80 (discussing Cass. Com. 20.3.1972 JCP 1973 II 17543). Giliker, supra note 12, at 123. Kottenhagen, supra note 5, at 80. Giliker, supra note 12, at 123. Kottenhagen, supra note 5, at 80-81. Giliker, supra note 12, at 124 (discussing Court of Appeal decision of Riom, June 10, 1992; RTD civ. 1993, p. 343, note J. Mestre). Giliker, supra note 12, at 125 (discussing (St Laboratoires Sandoz c/St Poleval) Com., April 7, 1998 D 1999.514 note P. Chauvel, JCP 1999 E Jur 579 note J Schmidt-Szalewski). Id. at 125. Id.

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Pre-contractual agreements: how to keep out of the woods

It appears from these and other decisions of French courts that the following key factors, taken together, can give rise to liability: (1) the advanced stage of negotiations; (2) the amount of work already undertaken; and (3) the suddenness of the breaking off of negotiations.64 French courts do not consider concurrent negotiations with third parties, in the absence of an exclusivity clause in the preliminary agreement, to constitute an actionable fault.65 Moreover, unless required by the terms of their preliminary agreement (by a clause de sincerit), a party does not even have to inform the other party that it is negotiating with a third party.66 However, French courts may find a party liable for leading another party to believe that it was negotiating solely with that other party and that a contract was almost certain, while it concealed its negotiations with third parties.67 Parties should not reveal confidential information gleaned from preliminary negotiations, even in the absence of a confidentiality clause (accord de confidentialit) in a preliminary agreement. A party who uses or disseminates such information without authorization from the other party commits a tort (concurrence dloyale or parasitaire).68 French courts do not require a finding of intent to harm the other party in order to impose precontractual liability.69 Although evidence of such intent would certainly support a claim of bad faith, malicious intent is not itself necessary for a finding of liability.

A legitimate justification for breaking off negotiations is a defense against a claim for unjustified rupture of negotiations. Examples of legitimate justifications for breaking off negotiations include financial reasons, a change in circumstances, or the parties simple inability to agree on key points (of course these depend on the circumstances).70 (ii) Remedy The remedy for wrongful breaking off of preliminary negotiations can be either a limited form of specific performance or the payment of damages. The remedy of specific performance is very limited and indeed highly controversial. A judge cannot force a party to sign a contract where the parties have not agreed on the terms.71 However, a French judge may order the parties to recommence negotiations.72 The French judge may even appoint a mandataire-ngociateur to follow the negotiations and note his findings to the judge in a report should the negotiations fail, although this remedy is exceptional and controversial.73 The remedy of damages and interest is by far more common.74 A party can recover its expenditures, including preparatory studies, travel for negotiations, expert reports, etc., if such expenses were reasonably and timely made in the circumstances.75 Although French law does not allow recovery of loss of profits, it does allow a claim for loss of the chance (perte de chance) to conclude the

64 65 66 67 68 69 70 71 72 73 74 75

Kottenhagen, supra note 5, at 81. Giliker, supra note 12, at 125. Civ. 2e, January 5, 1994, case No. 92-13856 (available at http://www.legifrance.gouv.fr); Court of Appeal of Versailles, March 5, 1992; RTD civ. 1992, p. 752, note J. Mestre; Franois Terr, Philippe Simler and Yves Lequette, Droit civil Les obligations (Dalloz 2005) at 185-186. Giliker, supra note 12, at 127. Giliker, supra note 12, at 127. Id. Com., October 3, 1978; Bull. civ. IV, No. 208; June 3, 1986, Bull. civ. IV, No. 110. Giliker, supra note 12, at 123-126. Civ. 3e, October 3, 1972, Bull. civ. III, No. 491. Giliker, supra note 12, at 124-125. Giliker, supra note 12, at 125. Pierre Mousseron, RTD Com. 1998 p. 243 at para. 73. Id. at paras. 75-76. Id. at para. 76. Giliker, supra note 12, at 129. Id.

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contract.76 Under this claim a party can recover a proportion of the anticipated benefit of the contract, representing the probability of success.77

2.2(b) Preliminary agreements

(i) Liability Civil law systems allow for a wide variety of types of preliminary agreements, similar to those found in common law systems (including, for example, agreements to negotiate, letters of intent, etc.). As in common law systems, the parties are free to memorialize their points of agreement as well as any wish to be legally bound by such agreement. Under French law, once a preliminary agreement is concluded, the basis for the parties potential liability moves from the realm of tort law (where it was for the preliminary negotiations) to the realm of contract law.78 French courts will consider the preliminary agreement to determine whether the parties had reached a sufficient consensus and intended to have a contractual agreement.79 There is a presumption that the failure to fulfill subsequent formalities will not prevent contract formation unless there is a clear showing of the parties intent to the contrary.80 (It has been observed that French courts have

demonstrated a particular willingness to overcome ambiguity in favour of contractual enforcement.81) Labeling the preliminary agreement as sans engagement (without commitment) will not of itself preclude liability.82 As mentioned above, French law imposes an obligation of good faith.83 What this means in practice is that a party must make serious, constructive and acceptable propositions which are likely to advance the negotiations, within a reasonable time frame, and should not go back on any points already agreed with the other party. (ii) Remedy Here again, the remedy for the wrongful breaking off of negotiations can be either a limited specific performance or damages.84 And as above, the French judge can order the parties to recommence negotiations, and can even appoint a mandataire-ngociateur to monitor the negotiations (although this is exceptional and controversial).85 As distinct from above, however, a French judge can even order the parties to sign a contract when the parties agreement has been memorialized in at least a partial draft contract.86 The remedy of damages and interest, however, is again by far the more common remedy.87 The injured

76 77 78 79 80 81 82 83 84

85 86

87

3me Civ., June 28, 2006; Bull. civ. III, No. 164; RTD civ. 2006, p. 754, note J. Mestre and B. Fages. Kottenhagen, supra note 5, at 81-82. Giliker, supra note 12, at 129-130. Giliker, supra note 12, at 130. Id. at 42. Id. at 52. Terr, Simler and Lequette, supra note 65, at 191. Giliker, supra note 12, at 52. Terr, Simler and Lequette, supra note 65, at 191. Giliker, supra note 12, at 52. Id. Article 1134 of the French Civil Code provides that [a]greements lawfully entered into [] must be performed in good faith. (Les conventions lgalement formes [] doivent tre excutes de bonne foi. ) (Articles and official translations available at http://www.legifrance.gouv.fr.) See also Giliker, supra note 12, at 42. Giliker, supra note 12, at 44. Giliker states that under French law, all contractual obligations are capable of specific performance. However, Giliker notes the practical difficulty of ordering specific performance in the context of negotiations: on ne saurait davantage contraindre une partie ngocier quun peintre excuter le tableau promis (you can no more force a party to negotiate than you can force an artist to paint ). See also Jean-Marc Loncle and Jean-Yves Trochon, La phase des pourparlers dans les contrats internationaux (The Negotiating Phase of International Contracts), RDAI/IBLJ N 1, 1997, at 29. Mousseron, supra note 71, at para. 76. Id. at para. 73. Mousseron states that a French judge may find that a preliminary agreement is binding (rput conclu ) where the parties agreed on its essential terms. See also Terr, Simler and Lequette, supra note 65, at 191. Terr, Simler and Lequette note that the parties lack of agreement on non-essential terms of a preliminary agreement will not prevent the French judge from finding that the preliminary agreement is binding (where the parties agreed on the essential terms). Terr, Simler and Lequette observe that the French judge has the liberty to evaluate the parties intent regarding the preliminary agreement. Loncle and Trochon, supra note 84, at 35. Giliker, supra note 12, at 44.

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party can recover its reasonable expenditures, including travel for the negotiations and experts reports, etc. The injured party will not recover lost profits, however.88

(2) Exclusivity. Do you want the negotiations to be exclusive? If so, include an exclusivity clause in your agreement. It is also a good idea to specify the duration of the exclusivity. (3) Confidentiality. You will want a confidentiality clause providing that all information exchanged during the negotiations (perhaps even the existence of the negotiations themselves) must be kept confidential and cannot be used or disseminated by the other party. You may even want the confidentiality agreement to extend to the very existence of the preliminary agreement, because there are certain situations where revealing even the existence of a preliminary agreement can be dangerous. (4) Best efforts clause. Do you want the other party (and yourself) to be obliged to use best efforts to negotiate and reach a final agreement? If so, you should include a clause to this effect. (5) Disclosure. You may want your preliminary agreement to set forth explicitly what each party needs to disclose to the other party during the negotiations. (6) Duration of the negotiations. You may want your preliminary agreement to set out minimum or maximum durations of the negotiations. (7) Exclusion of liability/binding nature. You want extra comfort, make any exclusion express for the avoidance of any doubt. (8) No extension to parent company. As a general rule (but particularly in civil law cases), you should specify clearly that any obligations attach to the relevant subsidiary and not to any parent or affiliate.

3. How can you better protect yourself in the future?

When entering into negotiations with another party, it is critical to consider the other partys background (i.e., civil v. common law). You should also take into account the differences between countries legal systems, even within the same legal culture (common or civil law). For example, as discussed herein, there are significant differences between English and US law regarding precontractual liability even though both are common law systems. This kind of analysis will help you understand the other parties expectations with respect to the negotiations. When you are considering entering into a preliminary agreement with the other party to the negotiations, carefully consider: (1) what you want to include in the preliminary agreement (and indeed also what you want left out); and (2) what matters you wish to be binding (and which not). Frequently, the problems arise because parties wish to have this second point vague (often a product of the desire to bind him but not me). You should take into consideration the following factors, and draft the provisions of the agreement accordingly: (1) Binding nature. Do you want your agreement to be legally binding? Your agreement should expressly state the parties intent in this regard. You may also include a clause providing that neither party will claim damages from the other in the event that a final contract is not concluded.89 If (as is often the case) you want parts of the agreement to be binding, be clear about which parts they are (see points (2) to (6) below).

88 89

Kottenhagen, supra note 5, at 81. Id.

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Pre-contractual agreements: how to keep out of the woods

(9) Conduct of the negotiations. As you can imagine, all the drafting in the world may not save you if you are shown to have acted in bad faith or in some other fashion attracting a courts censure. So be careful. In summary, your preliminary agreement should very clearly state the intent of the parties, particularly with respect to the binding or non-binding nature of each provision of that document. And any discussions or negotiations should be closely monitored to ensure that allegations of bad faith, lack of transparency and/or dishonesty can never stick. This is the best way to protect your company against unexpected claims of contractual or pre-contractual liability.

Michael Polkinghorne is a partner at White & Case based in Paris. Mr. Polkinghorne has a broad range of experience in arbitration and litigation in the areas of energy, project finance, construction, infrastructure, telecoms and defense procurement. He has served as counsel and arbitrator in arbitrations conducted under most major institutional rules and is an alternate member of the International Court of Arbitration of the ICC, where he is a member of the ICC Taskforce on reducing costs in complex arbitrations. He has covered disputes arising in many different countries, and has significant expertise in the area of foreign direct investment and acting for and against States. Courtney Kirkman is an associate at White & Case based in Paris. Ms. Kirkman specializes in international commercial arbitration and commercial litigation. The information in this article is for educational purposes only; it should not be construed as legal advice. Copyright 2009 White & Case llp

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