LAWS1104 - LECTURE NOTES ON CONTRACT LAW LECTURES 13-15 It would be useful to begin our study of contract law by defining

a contract. A contract has been described an agreement between two or more parties giving rise to obligations which are enforced or recognised by law. While it is generally true that most contracts arise from agreement, there are some which are legally binding because they comply with certain formalities. It has therefore been suggested that it would be more accurate to describe a contract as a legally binding promise, or a set of legally binding promises, rather than a legally binding agreement. Contrary to popular belief, contracts need not be in writing, unless required by legislation. So, it is possible to have oral contracts, written contracts, as well as partly oral and partly written contracts. But in practice most contracts are reduced to writing, especially if they are complex and involve significant sums of money. Contracts vary significantly in complexity and size, and both individuals and abstract legal entities (such as companies) can be parties to contracts. In a typical day you would probably enter into a number of contracts without even realizing that you have done so. For example, you may buy a newspaper, take a bus to classes, and buy food at the cafeteria. They are all examples of contracts. The general principles of contract law that we will be learning in this unit apply to all contracts, regardless of their size or complexity. But there are some categories of contracts that are subject to specialized rules. For example, consumer sale of goods contracts are governed not just by the general principles of contract law, but also by the Australian Consumer Law. According to Carter & Harland: The law of contract is concerned with four major topics: (1)the making of the contract (2)the content, effect and enforceability of the terms of the contract; (3)the performance and discharge of the contracts; and (4)rights and remedies in the event of default in the performance of the contract. Contract law will help you answers questions like, at which point of time a contract was made; on what grounds can a contract be set aside; what terms were agreed by the parties; which party has failed to live up to his or her obligations; and what remedies are available to the non-defaulting party to the contract. 1

It is important to recognise that contract law should not be viewed in isolation to other areas of law. The law of torts, equity and restitution will often be able to provide a remedy sought by the non-defaulting party that the law of contract is unable to do so. For example, if an auditor fails to take reasonable care when auditing a company, the auditor may be liable to the company for breach of contract as well as for negligence. Statutes also play a role in regulating contracts. For example, the Australian Consumer Law and the Sale of Goods Act have a profound impact on the law of contract. Apart from the terms of the contract itself, the main sources of contract law in Australia today are: (1)Common law and equity (non-statutory law) (2)Sate legislation (e.g., Sale of Goods Act) (3)Commonwealth legislation (e.g., Australian Consumer Law) In theory, there is only one contract law in Australia, as High Court decisions on contract law are binding on all Australian jurisdictions. However, in practice, there are some variations between states and territories because of the differences in statutory law. English decisions on contract law that have been adopted by the Australian High Court are binding on the courts, but those which have not been adopted only have persuasive force. In this segment of the unit, I shall be focusing on contract law principles derived primarily from case law. But you should bear in mind that some of these principles have since been modified by statute. Professor Peter Sinden will, in his segment of the unit, discuss how contract law in Australia has been modified by statute. When you are examined in the final exam, you will be required to be familiar with both aspects of contract law. AGREEMENT For a legally enforceable contract to be formed three essential requirements must be met. First, the parties must have reached an agreement. Secondly, the parties must have intended the agreement to create legal relations between them. Thirdly, the parties must have provided consideration. We shall begin by examining the first of those requirements. Generally, the parties must reach an agreement on what Lambiris described as everything necessary to make their transaction workable. The courts cannot enforce incomplete agreements. But, this does not however mean that every precise detail of the transaction must be expressed. As long as the essential terms have been agreed, the agreement is enforceable. 2

The traditional approach for determining whether an agreement exists is based on the offer-acceptance analysis. Under this approach, the courts ask whether an offer has been made by one party to another and whether the offer has been accepted by the party to whom the offer was made. The adoption of this approach is however not without limitations. Problems can arise when a contract is preceded by extensive and complex negotiations. Establishing at which point agreement was reached then becomes a difficult exercise. But despite its limitations, the rules relating to offer and acceptance are still a useful starting point for the study of contract formation. Offer An offer has been defined in Treitel on the Law of Contract as: [An] expression of willingness to contract on specified terms, made with the intention that it is to become binding as soon as it is accepted by the person to whom it is addressed From the above definition it is clear that an offer has the following features: it contains terms that are certain; it is made to another person (or persons); and the person making it is prepared to be bound if the offer is accepted: Partridge v Crittenden [1968] 2 All ER 421. No formal language is required to make an offer. Usually an offer takes the form of a promise to do something or to refrain from doing something,, in exchange for a promise to do or refrain from doing something else, for e.g., I will sell you my bike if you will pay me $100 for it. What is important is that the offer must be promissory in nature: Placer Development Ltd v Commonwealth (1969) 121 CLR 353. Whether an offer has been made depends on whether it would appear to a reasonable person in the position of the offeree that an offer was intended: Carlill v Carbolic Smoke Ball Co [1893] 1 QB 256. In other words, the courts will use an objective approach to determine whether in fact an offer was made. It is necessary to distinguish an offer from a number of similar things. First, an offer must be distinguished from puff. Puff or sales talk is an exaggerated statement that no reasonable person would believe. It is made with the intention of encouraging the listener to enter into contract. Secondly, an offer must be distinguished from the mere supply of information. In Harvey v Facey [1893] AC 552, a prospective purchaser sent the following telegram to the owner of a property: Will you sell us Bumper Hall Pen? Telegraph lowest cash price. The owner replied: Lowest price 900. The prospective purchaser sent a second telegram agreeing to buy the property at that price, but the 3

court held that there was no contract. The owners response to the prospective buyers first telegram was nothing more than the supply of information and the second telegram sent by the prospective buyer was an offer which was not accepted. Thirdly, an offer must be distinguished from an invitation to treat. An invitation to treat is an invitation to others to make offers. There is a presumption in law that advertisements (see Partridge v Crittenden [1968] 2 All ER 421) and price lists are not offers but invitations to make offers. But, in the final analysis, a court will examine the intention of the parties from was written or said. For example, in the Carlill case the smoke ball company advertised that it had deposited 1000 with a bank with the objective of shewing our sincerity in the matter. According to the court, by depositing the money and making that particular statement, the company was dispelling the suggestion that the advertisement was an invitation to treat. Another example of an invitation to treat is goods on display in a selfservice shop. In Pharmaceutical Society of Great Britain v Boots Cash Chemists (Southern) Ltd [1953 1 QB 401, listed poisons had to be sold under the supervision of a registered pharmacist in the United Kingdom. Boots ran a self-service pharmacy. Customers chose products on shelves and paid for them at the counter. Near the counter was a registered pharmacist, who could stop any particular sale. Boots was charged with breaching the statutory prohibition and the issue was whether the display of goods on shelves constituted an offer to sell. The court held that the display of goods was not an offer to sell, but an invitation to treat. Other recognized instances of invitation to treat include auctions and tenders. With an auction, a call for bids is an invitation to treat. Each bid represents an offer and it may be accepted or rejected by the auctioneer. Similarly, an announcement inviting tenders from interested parties is usually construed as an invitation to treat. Each tender submitted is an offer: Spencer v Harding (1870) LR 5 CP. Whether acceptance of a tender would amount to a contract depends on the wording of the announcement calling for tenders. If it calls for the supply of a definite quantity of goods over a definite period of time, acceptance of the tender would give rise to a contract. Acceptance For an agreement to be made, the offer must be accepted. An acceptance may be described as an indication of readiness to contract on the offered terms. Once accepted, an offer cannot be withdrawn. For there to be a valid acceptance, the offeree must accept the precise terms of the offer. In other words, the offer and acceptance must 4

correspond with each other. The acceptance must be communicated to the offeror (but there are some exceptions to this rule, the most important for our purposes being the postal rule. Also, an offer can only be accepted by the person to whom the offer is communicated (e.g. if A makes an offer to B, C cannot accept the offer, as only B can accept it) This is because an acceptance must be in response to an offer. The acceptance of an offer must be in reliance of an offer and not for some other purpose. In R v Clarke (1927) 40 CLR 227, the WA Government offered a reward for information leading to the arrest and conviction of the murderers of two police officers. C, who knew about the reward, was arrested and gave certain information which satisfied the terms of the offer. Later he claimed the reward but was unsuccessful as it was held that there was no true acceptance. The information he gave, by his own admission, was not made with the view to obtaining the reward, but to clear himself of the charge of murder. C was therefore not acting on the faith of, or in reliance, of the offer of reward. The Government had no contractual obligation to pay the reward, although it could have been argued that it had a moral obligation to do so. An acceptance must be unqualified and any conditional assent is not an acceptance. Phrases such as subject to contract, subject to finance and subject to approval of my solicitor usually create a strong presumption that the agreement is not binding until the condition is fulfilled. In Masters v Cameron (1954) 91 CLR 353 C agreed to sell to M his farm for 17,500. Both signed a memorandum, which stated, inter alia, This agreement is made subject to the preparation of a formal contract of sale which will be acceptable to my solicitors on the above terms and conditions. M paid a 10 per cent deposit, but later the sale did not go through. The court held that there was no contract as the parties were not bound until a formal contract was signed. C, was therefore not in breach of contract. Usually, it is the offeree who notifies the offeror of acceptance, but a third party can also do so. Acceptance can take the form of conduct instead of words, e.g., when a property developer pays an architects progress claims even though no formal contract had been signed: Empirnall Holdings Pty Ltd v Mark Machon Paull Partners (1988) 14 NSWLR 523. Here the developer had, on the facts, dispensed with the need to communicate the offer. For unilateral contracts the communication of acceptance is impliedly waived and performance would constitute acceptance. (A unilateral contract is one in which only one party is under an obligation to do an act, e.g. where one person

offers a reward for the return of a lost dog.) With unilateral contracts, only completion of the act would constitute acceptance. Earlier it was mentioned that a contract is formed upon receipt of acceptance. This is subject to one important exception. Where parties contemplate acceptance by post, the postal rule will apply. Under this rule, acceptance is effective the moment it is posted, even if it never reached the offeror, provided the acceptor was not at fault. The rule first appeared in Adam v Lindsell (1818) 106 ER 250. There D wrote to P on 2/8 offering to sell wool and requiring an answer in the course of post. The letter was misdirected and only reached P on 5/9. On the same day, P posted its acceptance which was delivered to D on 9/9. As D had not received a reply, it sold the wool on 8/9. The court held that D was in breach of contract as acceptance was complete when the letter was posted. Since an offeror can stipulate the method of acceptance, the operation of the postal rule can be negated by requiring actual communication. For example, the postal rule will not apply where the offer states that acceptance must be received or notified: Holwell v Securities Ltd v Hughes [1974] 1 All ER 161. Although the postal rule applies to acceptances by mail and telegram, attempts to extend its operation to other forms of communications have generally not met with success. For instantaneous communication, such as telephone, telex, facsimile, and email, acceptance is effective only when received. In Entores Ltd v Miles Far East Corp [1955] 2 QB 327, P, who was in London telexed an offer to D, who was in Amsterdam. D accepted the offer, also by telex. The court held that the postal rule did not apply to instantaneous communication and as the telexed acceptance was received in London, the contract was made there and not in Amsterdam (See also Brinkibon Ltd v Staghag Stahl Gmbh [1983] 2 AC 34 where the same principle was applied.) As far as email is concerned, the relevant state legislation will determine when it is received (unless the parties agree otherwise). For example, under s 13(1) of the WA Electronic Transactions Act, an electronic communication is received when it reaches the information system designated by the addressee of the communication. However, if no information system has been designated, the communication is received when it comes to the attention of the addressee. 13. If the offeree uses a facsimile machine, computer or telephone, or other means of instantaneous communication, acceptance will not be effective if it is garbled or cut off by some technological or human error. In other words, the communication must be received in an 6

intelligible form. Where a telex or facsimile is received outside normal office hours, it may not be treated as received until office hours the following working day: Schelde Delta DeShipping BV v Astarte Shipping Ltd [1995] 2 Lloyds Rep 249. The offeror cannot impose a condition that silence on the part of the offeree will amount to an acceptance. This was illustrated in Felthouse v Brindley (1863) 142 ER 1037. There F wrote to B, offering to buy his horse for a certain price. He added that if he did not hear from B, he would consider the horse his at the price. The horse was inadvertently sold by B at an auction and F sued B for conversion. However, the action failed as B had not accepted the offer. The court held that silence does not constitute acceptance. Generally, acceptance is communicated in the same way in which the offer was made. For example, if an offer is made by post, it will usually be accepted by post. The offeror may however prescribe a particular method of communicating acceptance. Failure to comply with the prescribed method of communication may mean that the acceptance is invalid. But, a quicker and more efficient method of acceptance will however be effective, unless the offer prescribes only one method of acceptance. Lapse/revocation of offer Generally, an offer may be revoked by the offeror at any time before acceptance. One exception to this rule is when the offer takes the form of an option (i.e., where the offeree provides the offeror consideration for keeping the offer open) (see Goldsborough Mort v Quinn (1910) 10 CLR 674). For a revocation of an offer to be effective, it must have been received by the offeree: Byrne v Van Tienhoven (1880) 5 CPD 344. What this means is that the postal rule does not apply to revocations, even though it applies to acceptances. The revocation of an offer may be communicated by the offeror, or by a reliable third party. What is essential for an effective revocation is that the offeree is put on notice before acceptance. In Dickinson v Dodds (1876) 2 Ch 463 Dodds offered to sell some houses to Dickinson for 800 on Wednesday. His letter stated that the offer was to be left over until Friday, 9 am. Despite this statement, Dodds sold the houses to another buyer on Thursday. Dickinson heard of this from a third party on Thursday evening. Before 9 am on Friday morning, Dickinson purported to hand Dodds a formal acceptance. The court said that the offer had been validly revoked. So long as the offeree learns of the revocation from a reliable third party, the revocation is effective. Another way that an offer may lapse is when the offeree makes a counter-offer. A counter-offer is the acceptance of an offer, but on new 7

or varied terms. The original offer is treated as having lapsed and new offer made by the original offeree to the original offeror. This rule was illustrated in Hyde v Wrench (1840) 49 ER 132. There D offered to sell to P a farm for 1000. P replied that he would buy it for 950. When D refused to sell at that price, P purported to accept the original offer of 1000. P sought specific performance of the contract, but the court held that there was no contract. By making the counter-offer, P had rejected the original offer which could not be revived. However, a mere request for information does not constitute a counter-offer: Stevenson, Jacques & Co v McLean (1880) 5 QBD 346. But, it is important that the request for information is not phrased in such a way that it can be treated as a counter-offer or rejection of the offer. With counter-offers, complication can arise when parties exchange their own standard forms in the course of communicating with each other. In Butler Machine Tool Co Ltd v Ex-Cell-O Corp (England) Ltd [1979] 1 WLR 401, the vendor of machinery quoted a price on its standard form, which contained among other things, a price variation clause. The buyer placed an order for machinery on its own order form with a different set of conditions (there was no price variation clause in the form). The vendor signed and returned the acknowledgement slip (which formed part of the buyers order form) to the buyer. The main issue before the court was whether the vendor could rely on the price variation clause in its quotation. The court held that vendor could not do so. When the buyer placed the order, it constituted a counter-offer as the terms of the order differed from the vendors terms and the vendor by acknowledging the order was accepting the buyers counteroffer. Here the battle was won by the party who fired the last shot and not the one who got the blow in first. An offer will usually state a time limit for acceptance. Once the time limit has passed, the offer will lapse. In other words, it can no longer be accepted. An offer may also lapse if the offer is immediately rejected by the offeree. The time limit for acceptance may be expressly stated or implied as was the case in Ramsgate Victoria Hotel Co v Montefiore (1896) LR 1 Ex 109. In that case, M applied for shares and was informed five months later that the shares had been allotted. M refused to take up the shares alleging that the offer had lapsed. The court held that Ms refusal was justified since the offer had lapsed because it was not accepted within a reasonable time. INTENTION TO BE LEGALLY BOUND We have so far established that agreement is the foundation of most contracts, but not all agreements are legally enforceable. There are two other essential requirements that must be present for an 8

agreement to be legally enforceable and they are an intention to contract and consideration. In other words, even if there is an offer and an acceptance of that offer, no legally binding contract comes into being unless these two additional requirements are satisfied. So the next topic we will be examining is intention to create legal relations (or sometimes referred to as legal intent or contractual intent). It is not always that parties intend their agreements to have legal significance. For example, if X promised to buy his daughter a car if she passed her university examinations, he would not expect to be sued for breach of contract if he did not fulfill his promise. Where the parties lack the intent to be legally bound by their promises, there is no legally enforceable contract. A major difficulty with this requirement is that people make agreements on a daily basis, but rarely expressly state whether they intend to create legal relations. In view of the difficulties associated with determining legal intention, the courts have developed their own approach to the issue. Courts traditionally look at the contexts in which the agreements were made to ascertain whether the parties intended to create legal relations or not. Under the traditional approach, courts make a distinction between business or commercial agreements, and social or domestic agreements. With social or domestic agreements, there is rebutabble presumption that the parties do not intend to be legally bound. The courts will require objective evidence on the part of the party seeking to enforce the contract to rebut this presumption. On the other hand, with business or commercial agreements, there is a rebutabble presumption that the parties intend to create legal relations. Here the onus is on the party claiming that that the agreement is not legally binding to rebut that presumption. In Ermogenous v Greek Orthodox Community of SA Inc (2002) 187 ALR 92, the High Court suggested that a court should look at all the circumstances and this includes the context in which the agreement was made. In other words, context should be one of the many factors, not the main determining factor, whether the parties intend the agreement to be legally binding. Social/domestic agreements As mentioned earlier, it is generally presumed that social or domestic agreements are not intended to be legally binding. Social or domestic agreements can take a number of different forms. They may, for example, be between a husband and wife. Balfour v Balfour (1919) 2 KB 571 involved a wife who could not accompany her husband from England back to Sri Lanka for medical reasons. Her husband promised to pay her a monthly allowance until she could rejoin him. When he ceased payment she sued him for breach of contract. The court held that the agreement was not intended to be legally binding. The wife 9

was unable to provide evidence to prove otherwise. (See also Cohen v Cohen which involved an agreement entered into before the parties were married.). However, the outcome may have been different had the parties been separated (see, for example, Merritt v Merritt [1970] 1 WLR 1211). Another type of agreement within this category is an agreement between different family members. Wakeling v Ripling (1951) 51 SR (NSW) 183 involved an agreement between a man and his sister (and her husband). The man, a bachelor, persuaded his sister and brotherin-law who lived in England, to come and live with him in Sydney. He also agreed to leave them his property when he died. A year later, they quarreled and he reneged on his promise and disinherited them. The court held that they could sue him for breach of contract. The volume of correspondence between parties and the seriousness of the move was sufficient to overcome the presumption the parties had not intended to create legal relations. The third type of agreement within this category is an agreement of a purely social nature, such as an agreement between friends. The courts are unlikely to find such agreements legally binding. Sometimes however, such agreements can have serious consequences, as when friends pool financial resources to enter a competition or a lottery. For example, in Simpkins v Pays [1955] 1 WLR 975, D, Ds granddaughter, and P regularly entered a fashion competition run by a Sunday newspaper. The entries were always in Ds name, but P and Ds granddaughter contributed towards the postage and other expenses. They did so on the understanding that the prize, if won, will be shared with them. When one of their entries was successful, D refused to share the prize. The court held that the parties had clearly intended that their agreement would be legally enforceable when a prize was won. P was therefore entitled to a share of the prize. Business/commercial agreements With business or commercial agreements, the courts will enforce them unless there is clear evidence that the parties did not intend them to be legally binding. It is nevertheless possible for a clause to be inserted into a business agreement to the effect that the agreement is not legally binding. Such a clause is called an honour clause and its validity has been upheld by the court in Rose & Frank Co v JR Crompton & Bros Ltd [1925] AC 445. In that case, an agreement between a manufacturer and a dealer giving the latter selling rights in the formers products contained a clause which stated that neither the arrangement between the parties nor the document on which it was written was to be regarded as a formal or legal agreement. It also said that the parties honourably pledged themselves to the 10

arrangement. The validity of the clause was upheld on the basis that it was a clear expression of an intention not to be legally bound by the arrangement. The issue of legal intent is often raised in letter of comfort cases. A letter of comfort is an assurance given to a creditor that a debtor will perform his or her obligations. For example, a bank may ask the parent company of the debtor company for security and the parent company gives a letter of comfort instead. Although a letter of comfort is meant to be morally binding, there have been attempts to make it legally binding. For example, in Kleinwort Benson Ltd v MMC Bhd [1989] 1 All ER 785, the bank argued that the letter of comfort given by the parent company in support of loans given to its subsidiary gave rise to legal obligations. The presumption of legal intent was rebutted because the parent company had earlier refused to give a guarantee to the bank. In Banque Brussels Lambert SA v Australia National Industries (1989) 21 NSWLR 502 , the issuer of the letter of comfort was not able to rebut the presumption that the document was legally binding because the bank had rejected an earlier draft of the letter on the basis that it contained a statement that it was not a guarantee. CONSIDERATION Apart from Agreement and intention to create legal relations, the third element of a valid contract is consideration. Generally, the law will not give effect to a gratuitous promise. So for example, if I promise to give you $100, such a promise is not enforceable unless supported by consideration. The common law insists that only promises that are part of some bargain will be recognized as creating a legally binding obligation. Usually, when parties intend their agreement to be legally binding, consideration is also present. It is important to recognize that while consideration and intention to create legal relations are interrelated, both concepts are nonetheless distinct: Coulls v Bagots Executor and Trustee Co Ltd (1967) 119 CLR 460, 478. Definition In simple terms, consideration is the price paid for a promise. For e.g., if X promises to pay Y $300 if Y cleans Xs swimming pool, the consideration for Ys promise to clean the pool is Xs promise to pay $300. For a popular definition of consideration see Currie v Misa (1875) LR 10 Ex 153 at 162: some right, interest, profit or benefit accruing to the one party, or some forbearance, detriment, loss or responsibility given, suffered or undertaken by the other.

11

Carter & Harland has criticized the above definition as not requiring consideration to be casually connected with the promise which it is intended to support. They offer the following alternative definition of consideration: some act or forbearance involving legal detriment to the promisee, or the promise of such an act or forbearance, furnished by the promisee as the agreed price of the promise. According to them, this definition captures the element of exchange, which is central to the concept of contract. Consideration may take several different forms. It may take the form of a benefit (such as payment of money) to the promisor (i.e., the person making the promise). Alternatively, consideration can take the form of a detriment (such as refraining from doing something) to the promisee (i.e., the person receiving the benefit of the promise). Consideration may also take the form of a promise. In an executory bilateral contract (i.e., one which has not been performed), each partys promise is consideration for the others promise. In a unilateral contract, such as the contract in the Carlill case, the promisees performance of the requested act is the consideration for the promise and vice versa. Under common law a simple or informal contract must be supported by consideration, otherwise it is not enforceable. (Note that simple here means that the contract is not executed in a deed. A contract involving complex terms can take the form of a simple contract.) Whereas, a contract made by deed (i.e., a formal contract) does not require consideration. So for example, if X promises to pay Y a $1000 in a deed, Y can enforce that promise even if Y had not given any consideration to X. We will not concern ourselves with promises in the form of a deed here as we will cover it later when we deal with the form requirements of contracts.

Rules governing consideration Over the years, courts have developed a number of rules relating to consideration. The following are some of the rules governing consideration which you should be familiar with: First, past consideration is not good consideration. Past consideration refers to consideration provided after the promise has been given. As consideration is the price paid for a promise, it must be given in response to the promise and not after it has been made. A good example of past consideration is provided by Roscorla v Thomas (1842) 3 QB 234. There a warranty given by the seller to the buyer that a horse was sound and free from vice (i.e., free from bad habits) was 12

given after the horse had been bought. The horse turned out to be vicious and difficult to control. As the promise was given after the horse had been bought, the consideration was past. The promise was therefore not enforceable. There are however exceptions to this rule on past consideration. Where a promise relates to work done on the understanding that it would be subsequently rewarded, the courts may enforce it. Generally, with services performed in a commercial or professional setting at the request of the client, even if no specific compensation is promised until after the service has been rendered, the courts will presume that the service was never intended to be free of charge. Here the court will treat the work done as executed consideration rather than past consideration. See Pao v Lau Yiu Long [1980] AC 614 and Ipex Software Services Ltd v Hosking [2000] VSCA 239. The second rule is that consideration must move from (i.e. be given by) the promisee (i.e., the person to whom the particular promise was made), or by someone acting on the promisees behalf: Dunlop Pneumatic Tyre Co Ltd v Selfridge & Co [1915] AC 847. Where a promise is not supported by consideration, the promisee is regarded as a volunteer. However, consideration need not move to the promisor (the person who has made a particular promise). The promisor may direct that the promise flow to a third party. A good example is when A promises to give B a guarantee (a guarantee is a legally enforceable promise to answer for the debt of another) if B lends money to C. Here Bs consideration for As promise flows to C and not to A. Where the promise is made to joint promisees, both need not provide consideration. It is sufficient that one of them has provided consideration to the promisor. Also, it does not matter which of the two promisees provided consideration. In Coulls v Bagots Executor and Trustee Co Ltd (1967) 119 CLR 460, Mr. C agreed with ONeil Construction that the latter can quarry and remove stones from land owned by Mr. C in exchange for ONeil Construction paying royalties to him and his wife. Although the court held that a promise made to two or more joint promisees can be supported by consideration provided by one of the promisees, the promise (in this particular case) was unenforceable as Mrs. C was not a party to the contract. The contract was only between Mr. C and ONeil Construction. Had it been between Mr. & Mrs. C and ONeil Construction the position have been different. The third rule is that consideration must be something of value in the eyes of the law. For example, where the consideration is too vague or uncertain then it is not good consideration. In White v Bluett (1853) 23 LJ (NS) Ex 36 the promise made by a son to his late father not to 13

complain about how his father distributed his property in exchange for forgiveness of a loan given by the father was held to be illusory consideration. Compare this case with the US case, Hamer v Sidway 124 NY 538, 27 NE 256 (1891), where a nephews promise to his uncle to refrain from drinking, smoking, swearing and gambling until he was 21 was held to be good consideration for the uncles promise to give him a sum of money. The court held that by refraining from something that he was legally able to do is consideration for the uncles promise. In this case, the uncle did acknowledge that the nephew was entitled to the money except that the uncle died before payment was made. A promise made out of a sense of moral obligation to the promisee is not sufficient consideration: Eastwood v Kenyon (1840) 113 ER 482. The fourth rule is that the law requires that consideration be sufficient. But this does not mean that it must be commercially adequate. In other words, consideration must be valuable even if it is not equivalent in value with the promise. In Chappel & Co Ltd v Nestle Co Ltd [1960] AC 87, N offered records for a shilling and sixpence plus three chocolate bar wrappers. The Copyright Act permitted the making of records for sale provided a royalty was paid, based on a fixed percentage of the ordinary retail selling price. N stated that the ordinary retail selling price was a shilling and sixpence and the claimant argued that their copyright was infringed. The issue before the court was whether the wrappers were part of the consideration (if they were, the retail selling price was much more than a shilling and sixpence). The court held that they were part of the consideration even though the wrappers were of no value to N. A purely nominal consideration may be good consideration as was illustrated in Thomas v Thomas (1842) 2 QB 851. There a promise to pay 1 per annum in rent was regarded as good consideration for the agreement to be legally enforceable. However, the surrender of a sham legal claim is not good consideration: Holdsworth v Holdsworth [2001] WASC 25. But it would be good consideration if it was a valid legal claim, which later proves to be without merit: CTN Cash and Carry Ltd v Gallagher [1994] 4 All ER 714. Sufficiency of consideration is determined at the time the contract is entered into and not at the time of breach. Below is a summary of instances when a court will find consideration is insufficient to support a promise: (1) Performance of a public duty cannot constitute good consideration, unless what is done exceeds what is required of the person performing it. In Glasbrook Bros Ltd v Glamorgan County Counci l [1925] AC 270, there was a strike in the colliery. The company wanted a stationary 14

guard to protect the colliery, but the police thought that a mobile unit was sufficient protection. It was finally agreed that the police will place a stationary guard at the colliery in exchange for a fee. Later the company refused to pay the fee on the basis that the police were merely performing a public duty. The court held that the additional protection provided by to a colliery was good consideration for the companys promise to pay for the stationary guard. (2) The same principle applies to the performance of a contractual duty already owed. In Stilk v Myrick (1809) 170 ER 1168, Stilk was a seaman employed to work a ship from London to Baltic and back. In the course of the voyage, two crew members deserted the ship and the captain promised to distribute their wages to the rest of the crew if they continued to work ship back to London. Later, the captain refused to pay and Stilk sued on the promise. The court held that no consideration had been provided as the original agreement provided that the crew had to do all that they could in an emergency and desertion was one example of it. However, this rule has to some extent been weakened by the English decision in Williams v Roffey Bros & Nicholls (Contractors) [1991] 1 QB 1. In that case, D sub-contracted work to P for 20,000. After 16,200 had been paid, P fell into financial difficulties because the agreed price was too low. D promised to pay P an additional 10,300 in exchange for a promise from P to complete the work. There was no evidence to suggest that the promise was given as a result of fraud or duress. After some additional work had been done, P abandoned the job because D failed to pay the additional amount. The court held that subject to a deduction for defects in the work, P was entitled to 4,000 because D had received a practical benefit. D benefited from not having to find a replacement contractor, as well as obtaining some protection from breaching the main contract which included a penalty clause. (For an Australian case involving the practical benefit test see, for e.g., Musumeci v Winadell Pty Ltd (1994) 34 NSWLR 723.) (3) Where a debt is involved, payment of a lesser sum on the due day in supposed satisfaction of a greater sum is no satisfaction of the whole debt (i.e., payment of a lesser sum is no consideration for a promise to forego the balance). This is known as the rule in Pinnels Case (1602) 77 ER 237. The court stated at 237 that: payment of a lesser sum on the day in satisfaction of a greater, cannot be any satisfaction for the whole, because it appears to the judges that by no possibility can a lesser sum be a satisfaction for a greater sum. But the gift of a horse, hawk, or robe, etc in satisfaction is good.

15

The rule in Pinnels Case was applied in Foakes v Beer (1884) 9 App Cas 605. There B obtained a judgment against F for approximately 2090. The parties agreed that if F paid 500 immediately and the rest of the amount in installments, B would not take proceedings on the judgment. After F had paid the entire sum, B sued F for 360 in interest on the debt. F, relying on the agreement refused to pay the sum, but the court held that as no consideration had been provided by F, F was legally bound to pay the debt including interest. However the rule in Pinnels Case will not apply where the debtor offers something different as consideration. For example, the debtor may pay a lesser sum but a couple of months earlier than the due date, or the debtor may pay a lesser sum plus something else, even if nominal in value. It may also be possible to rely on promissory estoppel (see below) to overcome the rule in Pinnels Case (see for e.g., Collier v P & M J Wright (Holdings) Ltd [2008] 1 WLR 643). However, because Foakes v Beer was not mentioned in Williams v Roffey Bros & Nicholls (Contractors), it would not be possible to extend the principle of Williams case to part payment of a debt: Re Selectmove Ltd [1995] 1 WLR 474 at 481. Promissory estoppel (this topic is not covered in Lambiris) The requirement that there must be consideration present in any simple contract if it is to be enforceable has sometimes allowed the promisor to resile on his or her promise and leave the injured party without any remedy. To ameliorate this injustice, the courts have developed the doctrine of promissory estoppel. The modern doctrine of promissory estoppel had its origins in the obiter dictum of Denning J (as he was then) in Central London Property Trust v High Trees [1947] 1 KB 130 where he indicated that an equitable estoppel may arise where the representation was one of future intention. Not surprisingly, promissory estoppel was originally called High Trees estoppel. Denning LJ explained this principle more fully in Combe v Combe [1951] 2 KB 215, 220: where one party has, by his words or conduct, made to the other a promise or assurance which was intended to affect the legal relations between them and to be acted upon accordingly, then, once the other party has taken him at his word and acted on it, the one who gave the promise or assurance cannot afterwards be allowed to revert to the previous legal relations as if no such promise or assurance had been made by him, but he must accept their legal relations subject to the qualification which he himself has so introduced, even though it is not supported in point of law by any consideration but only by his word. 16

One of the most significant cases on promissory estoppel in Australia is Walton Stores (Interstate) Ltd v Maher (1988) 164 CLR 387. There, the Mahers owned commercial premises which they proposed to replace with new premises that Waltons were to lease. During the course of negotiations, the Mahers were given the impression by Waltons lawyers that the formal contract was forthcoming. Although nothing had been signed, the Mahers demolished the old premises and begun construction of the new premises. The Mahers had done this on the assumption that they had a concluded contract. Waltons were aware of this but remained silent because they had a change of commercial plans. Eventually the Mahers were informed by Waltons lawyers that Waltons did not intend to proceed with the lease. The Court held that Waltons were liable for damages on the basis on that they were estopped in all their circumstances on their implied promise to complete the contract. The elements of promissory estoppel as stated by Brennan J Walton Stores may be summarized as follows: The plaintiff (P) assumed or expected that a particular legal relationship exists/will exist between P and the defendant (D); D has induced P to adopt that assumption or expectation; P acts/refrains from acting in reliance on that assumption or expectation; D knew or intended P to do so; Ps action or inaction will cause detriment if the assumption or expectation is not fulfilled; and D has failed to act to avoid that detriment whether by fulfilling that expectation or otherwise. For equitable estoppel to operate, Priestly JA in Silvoi Pty Ltd v Barbaro (1988) 13 NSWLR 466 at 472 added that there must be an element of unconscionability. In other words, it must be unconscionable for D to depart from that assumption or expectation after P has relied on the assumption or expectation created by D. Promissory estoppel may be temporary in the sense that the promisor can withdraw the promise by giving reasonable notice of an intention to do so. In most cases, promissory estoppel acts as a defence to the promisors claim to enforce his or her strict legal rights. In other words, promissory estoppel acts as a shield rather than a sword. It is important to note that promissory estoppel cannot be asserted in lieu of a traditional contract claim. So for example, if a promisee has given consideration for and relied on the promise, there is a contract and no promissory estoppel. According to the authors of Principles of

17

Contract Law, there are two reasons for this. First, if the plaintiff has enforceable contractual rights arising from a promise, the plaintiff cannot be regarded as suffering a detriment as a result of reliance on that promise. Secondly, equity only acts to supplement the common law. So if the common law provides a remedy, equity will not intervene. It is also important to note that when the plaintiff succeeds in a plea of promissory estoppel, the court does not necessarily force the defendant to honor the promise as this would be tantamount to enforcing a gratuitous promise. There is no intention to abandon the doctrine of consideration at this stage. The court will look at what detriment has been suffered and then do what is necessary to eliminate that detriment. In some cases, it may just be damages; in others, a suspension of the promisors pre-existing rights (e.g. High Trees case); and in extreme cases, the defendant may be held to his or her promise (e.g. Waltons case) There are two limitations on the doctrine of promissory estoppel and they are: First it is not a new cause of action. Thus, it is often said that promissory estoppel acted as a shield and not a sword. However, it is not entirely true that it is used solely for defence. It can provide the foundation for a cause of action. E.g. in the Waltons case, the Mahers were able to enforce a non-contractual obligation by preventing the Waltons from denying the existence of a binding contract. In other words, the action was for specific performance and promissory estoppel was used to establish the existence of a contract. Second, the doctrine is limited to a suspension of the promisors rights and does not terminate them. In other words, the promisor can still withdraw promise by giving reasonable notice, provided the parties can resume their former positions. (e.g., High Trees case).

Capacity One of the requirements of a valid contract is that the contracting parties must have the necessary legal capacity to contract. So even if the elements of a binding contract are present, the contract may still lack legal effect if one or both parties lack legal capacity. There is a presumption at common law that contracting parties have the necessary legal capacity, unless they belong to certain categories of 18

persons with limited or no capacity, such as minors, mentally disabled persons, or drunkards. Legal capacity is usually not a problem as in most cases the contracting party, whether a natural person or an abstract legal entity, will have capacity to contract. There are however certain categories of person who lack or have limited capacity to contract. Care should be exercised when contracting with them. Following changes to the law in Australia, corporations now have the legal capacity of natural persons. In other words, they can enter into any contract that a natural person can. However, if they are statutory corporations, their enabling statute (i.e. the statute under which they were established) may limit their powers to contract. It is important to note that even though corporations have the legal capacity of natural persons, they can only act through natural persons clothed with the necessary authority. So for example, directors of a company possessing the necessary authority can enter into contracts on behalf of their companies. Such contracts are binding and the companies can sued and be sued on the contracts. Even if a company were to enter into the contract directly (i.e. not through an agent), it would still require the directors and company secretary to execute the documents. Minors In Australia, the capacity of minors to contract is governed by either the common law, or the common law as altered by state legislation. A person below the age of 18 years is considered a minor under the Age of Majority Act 1972 (WA). In Western Australia, the applicable law governing the capacity of minors to contract is the common law. There is limited enforceability of contracts against minors at common law. The whole purpose of this rule is not just to protect minors from harsh and oppressive contracts, but to also allow minors to contract where it is essential or for their benefits. A minor is not prevented from voluntarily complying with a contract and the issue of capacity only arises when the minor reneges on his or her obligations and is resisting legal action. Lack of capacity has been described as a one-sided rule. What this means is that a minor can use lack of capacity as a defence, but not the other party to the contract. Under common law, contracts with minors fall into one of the following categories: Contracts binding on minors Contracts binding on minors unless repudiated Contracts not binding on minors unless ratified We will look at each category of contracts separately.

19

Contracts binding on minors 1. Contracts for necessaries: a. The word necessaries refers to goods and services (e.g., food, clothing) reasonably required for the minors station in life, or for the minors actual needs at the time of sale and delivery (concept of necessaries has a similar meaning under the Sale of Goods Act, s 2). It is not possible to give an exhaustive list of necessaries. Even if goods can be classified as necessaries, they will not be regarded as such if the minor is amply supplied. In other words, whether an article is a necessary, depends on the answer to two questions: (1) is the article capable of being a necessary? (2), and if it is, is it a necessary for that particular minor? b. The second issue was dealt with by the court in Nash v Inman [1908] 2 KB 1. There, while I, a minor, was studying at university he was supplied with 11 fancy waistcoats by N. When he failed to pay, N sued for the debt, but failed because I had been amply supplied with clothes by his father. As such the additional waistcoats were not necessaries for him, even though they could be necessaries depending on the minors station in life. c. In Scarborough v Sturzaker (1905) 1 TAS LR 117, the minor periodically rode his bike to work, some 15 km away. He bought a new bike and traded in his old bike as part payment before delivery of the new one. He then attempted to avoid the contract. The issue was whether the new bike was a necessary. The court held that it was, but it would not have been had the old bike not been traded in. This is because had the new bike not been traded in, the minor would have been sufficiently supplied with goods of that type (i.e., he would have two bikes). d. Where a contract with a minor is valid, the minor has to pay a reasonable sum for the goods received under the contract, but not the actual price of the goods. A minor is not liable for a loan taken purportedly to buy necessaries, as there is no guarantee that it would be used for that purpose. But the minor would be bound by the contract to buy the necessaries. 2. Beneficial contracts of service They are contracts for employment of the minor which improves the minors prospects for the future or station in life. Beneficial contracts of service include contracts of apprenticeship, cadetship, training and education. In Roberts v Gray [1913] 1 KB 520, G, a young professional billiard player agreed to go on a tour with R, an adult professional. R spent time and money making the 20

necessary preparations. Later, a dispute arose and G repudiated (treating it as at an end) the contract before the tour began. R sued for damages and G pleaded his infancy. R succeeded because the court held that the tour was for Gs benefit. (See also Hamilton v Lethbridge (1912) 14 CLR 236. Contracts binding unless repudiated They are contracts by which the minor acquires an interest in property of a permanent nature with obligations of a continuing nature (e.g., lease of land, purchase of shares in a company). These contracts are binding on the minor until repudiated by the minor during minority, or within a reasonable time after attaining majority. What is a reasonable time depends on the circumstances of the case. For example in Rain v Fullerton (1900) 21 LR (NSW) EQ 311, a mortgage entered into by a minor could not be avoided two years after attaining majority. Tow years was not considered reasonable in the circumstances. Once the contract is repudiated, the parties no longer have any future obligations, but are still liable for those liabilities that have accrued up to the date of repudiation. In Steinberg v Scala (Leeds) Ltd [1923] 2 Ch 452 the plaintiff, who was a minor, applied and obtained partly paid shares (i.e. shares where the entire price had not been paid) in the defendant company. After she had been allotted the shares by the company, she sought to be freed from future calls (i.e., demands from the company to pay the remainder of the share price) and to recover the money that she had already paid. The court held that in repudiating the contract, she was freed from liability for future calls, but she could not recover any money that she had paid. There was no failure of consideration, as she got the shares she wanted. In other words, for recovery to succeed there must be a total failure of consideration (obtained no benefit at all for the payment). Contracts not binding on minors unless ratified All other contracts with minors are not binding on minors. Such nonbinding contracts can be divided into two sub-categories. The first subcategory of contracts is contracts that are not binding unless ratified (i.e., confirmed) by the minor within a reasonable time after attaining majority (for e.g., a trading contract), and the second sub-category is those contracts that cannot be ratified as a result of statutory intervention (for example in some states, not possible to ratify a loan contract to a minor). In Mercantile Union Guarantee Corp Ltd v Ball [1937] 2 KB 498, Ball, while a minor, carried on business as a haulage contractor. He entered into a hire purchase contract to buy a truck for use in his business. When he fell behind in arrears, he was sued by the

21

hire purchase company. The court held that he was not bound by the contract as it was a trading contract and not a contract for necessaries. It is important to note that minors can be held liable for tort, if they are able to differentiate between right and wrong. However, if a minor has induced a person to contract by representing that he or she is of full age, the minor cannot be sued in fraud, if the effect of the action is to enforce the contract. In R Leslie Ltd v Sheill [1914] 3 KB 607, P lent D money and when D defaulted, P tried to sue D. D had falsely represented to P that he was of full age. Realizing that no action could be maintained in contract, P sought to recover the money under the tort of deceit. The court held that although a minor can be liable for his or her torts, P cannot, by an action in deceit, make D indirectly liable on contract. However, had D retained the original coins or notes, he may be ordered to return the money on the basis of unjust enrichment (restitution). Mentally Disabled & Intoxicated Persons Under common law, a contract with a mentally disabled or intoxicated person is valid, unless it can be established that the person was so incapacitated that he or she could not understand the nature of the contract entered into, and the other person was aware, or ought to have been aware, of the persons incapacity. The burden of proving incapacity, and knowledge of incapacity, is on the drunkard or lunatic. When both conditions are satisfied (and provided the other party cannot prove that the contract was entered into in a period of lucidity), the contract is voidable (i.e., brought to end and property/money transferred returned to each other) at the option of the person who is mentally disabled or intoxicated (or their representatives). The contract must be repudiated within a reasonable time. An example of a case involving an intoxicated person who entered into a contract is Blomley v Ryan (1956) 99 CLR 362. There R who owned some property, started drinking heavily rather late in life. During one of his drinking bouts, he agreed to sell his property to B on very generous terms. When R came off his drinking bout, he sought to repudiate his contract. The court set aside the contract on the basis that when the contract was negotiated, R was to Bs knowledge, incapable of forming a rational judgment about the terms, even though he was capable of understanding the general nature of the transaction. In other words, there is no need to prove total inability to understand the transaction. It is possible for the drunkard or lunatic to ratify the contract at some later point in time, provided that the drunkard or lunatic is capable of understanding the terms of the contract at the time of ratification. For 22

example, in Matthews v Baxter (1873) LR 8 Ex 132, D , who drunk that he was incapable of knowing what he was doing, certain property and was successful. When he sobered up he the contracts. Later he refused to complete the contracts and him. D was liable because he had ratified the contracts.

was so bid for ratified P sued

Ratification could be express or implied. McLaughlin v City Bank of Sydney (1912) 14 CLR 684 provides an example of implied ratification. There M while temporarily insane left the management of his financial affairs to his wife. She entered into a number of transactions on his behalf. Four and a half years after he recovered his sanity he sought to repudiate those transactions. He was unsuccessful as inaction for such a long time was in effect a ratification of his wifes actions. In all states, including WA, mentally unsound and intoxicated persons who purchase goods that are necessaries must pay a reasonable price. For example, s 2 of the Sale of Goods Act (WA) 1895 state that: Capacity to buy and sell is regulated by the general law concerning capacity to contract, and to transfer and acquire property: Provided that where necessaries are sold and delivered to an infant or minor, or to a person who by reason of mental incapacity or drunkenness in incompetent to contract, he must pay a reasonable price therefor. The fact that the seller knows about the buyers mental condition is irrelevant because the latter is under an implied condition to pay for the goods. This rule however does apply to sale of non-necessaries. PRIVITY OF CONTRACT Assuming there is a contract, the terms have been identified and the parties possess the capacity to contract, the next issue is: who is bound by the contract and who has rights under it? Under the privity of contract rule, only the original parties to a contract may sue and be sued on it. What this means is that only original parties have rights and obligations under the contract. In Tweddle v Atkinson (1861) 121 ER 762, T was engaged to marry Gs daughter. Both G and Ts father agreed that each would pay T a 100 to provide for the couple after their marriage. They also agreed that T should be able to sue for money. When G died without paying sum, T sued the executor (i.e., the person managing the estate of the deceased person). His action failed as he was a third party and did not provide consideration. The privity of contract doctrine owes its origins to the bargain theory of contract. Under this theory, only those who have given something in return for the promise or performance should have enforceable rights under it.

23

Similarly only those who have received something have obligations under the contract. So under the privity rule even if a third party is to specifically benefit from a contract, the third party cannot sue to enforce that benefit (see Beswick v Beswick [1968] AC 58). For example, if Y enters into a contract with X under which X will pay B $500, and if X fails to pay B, B cannot sue X as B is not a party to that contract. (Also, B did not provide any consideration to X.) To make matters worse, Y and X can vary the contract without reference to B. If X fails to perform, Y can sue for specific performance, which would be the appropriate remedy. However a problem may arise if Y decides to sue X for damages for breach of contract. What is the amount of damages that should be awarded? Since Y did not suffer any actual loss, the damages awarded will probably be nominal. Exceptions to Privity Rule: The doctrine of privity of contract can sometimes lead to injustice and a number of exceptions have developed. There are some who argue that there are actually no true exceptions to the common law rule, as most of the so-called exceptions (below) derive their basis from statute, or some other branch of law. We need not, in this unit, concern ourselves with the validity of this argument. Agency law One way a non-contracting party can enforce a contract is to argue that the privity of contract does not apply and that the person contracting was acting on his or her behalf. Under the law of agency, an agent with the necessary authority can contract on behalf of a principal. For example, if X, as Ys agent, contracts with Z on behalf of Y, Y as principal can sue and be sued on the contract. This is the case even if the existence and identity of the principal is not disclosed to the other party. Under the doctrine of the undisclosed principal, the principal can take the benefit of, and be personally liable for, the acts of the agent. Tort law Privity of contract is not relevant to the tort of negligence. For example, in Donoghue v Stevenson, the consumer was able to sue the manufacturer even though she was not in any contractual relationship with the manufacturer. Another example is Hill v Van Erp (1997) 188 CLR 159. There, C employed H to prepare a will for her which included a disposition to VE. H failed to ensure that the will was properly attested and as a result the disposition in favour of VE failed. Although VE was not a party to the contract between C and H, she sued H in tort and succeeded. 24

Statutory law Under s 48 of the Insurance Contracts Act 1984 (Cth), third party beneficiaries have a direct right of action to enforce a liability insurance contract. Another example of how statute has modified the privity rule is s 11 of the Property Law Act (WA). Under s 11, a third party can enforce a contract where one of the contracting parties is obligated to confer some benefit on the third party. The contracting parties can vary the contract, provided the contract has not been adopted (i.e., acted in reliance of it to his or her detriment) by the third party. However, in any proceedings brought by the third party, the defendant may take advantage of any defences that may be available against the counterparty. Assignment An assignment is an arrangement whereby one party transfers some or all of the benefits under the contract to a third party. Assuming X has entered into a contract with Y, X can assign Xs benefits to B. Y is now obliged to tender performance to B and not X. B has effectively taken Xs place. Y need not be informed about the assignment by B. But the danger of not notifying Y is that Y can discharge its obligation by performing it for Xs benefit. The end result of a valid assignment is that the third party acquires the rights under the contract and has the right to sue to enforce them subject to equities (i.e., any defences the defendant can raise against the original party to the contract). It is not possible to assign obligations, except by novation. [However, this does not mean that it is not possible to delegate performance to a third party (as the promisor remains liable), provided it is not a promise to perform personal services.] A novation takes the following form. Assuming X has entered into a contract with Y, X and Y can both agree with Z that in consideration of Y discharging X from its obligations under the contract, Z will undertake Xs obligations to Y. Z is then obliged to perform in place of X. With novation, the original contract is terminated and a new one substituted. The consent of all three parties is required for novation. ITL Notes (Lectures 16-18) Assuming that a contract has been formed the next key task is ascertaining the rights and obligations of the contracting parties. They are found in the terms of the contract. However, ascertaining the rights and obligations of the parties can be problematic for two reasons. First, the parties may have differing views on what constitutes a term of the 25

contract. One party may allege that a particular obligation is a term of the contract, but the other may allege that it is not. Secondly, even if it is agreed that a particular obligation is a term of the contract, the parties may have differing views on its meaning and legal effect. For example, one party may allege that breach of a particular term gives rise to a right to terminate the contract, but the other party may argue that it only gives rise to a right to damages. We call determining the contents of a contract and interpreting its provisions construction of a contract. When trying to identify and construe the terms of a contract, the courts attempt to give effect to the presumed intention of the parties. They achieve this by adopting an objective approach to construction, i.e., what reasonable persons in the position of the parties would have intended and not what the contracting parties actually intended (i.e. their subjective intentions). With complex commercial agreements, the contracting parties will usually record their agreement in a formal written document signed by both parties. As mentioned earlier, not all contracts are in writing, or for that matter need to be in writing. A contract only needs to be in writing when required by law. So it is possible to have written contracts, oral contracts and partly written and partly oral contracts. Identifying the terms of an oral contract will obviously be harder for oral contracts. While it may appear that identifying the terms of a written contract is easy, this is far removed from reality. It is not unusual for the terms of a contract to be found in the communication through which the contract was made. For example, in the course of negotiating a contract, one party will make various oral statements which may be relied on by the other party to enter into the contract. Some of these pre-contractual statements may form terms of the contract, while others may have no legal effect at all. Terms of a contract may be divided into express terms and implied terms. Terms actually expressed by the parties are called express terms. Sometimes, however, the courts will recognize the existence of other terms even if the parties have not articulated them. We call these terms implied terms (they will be covered in another lecture). Since pre-contractual statements may have legal significance, we should consider the various possible legal effects of pre-contractual statements. Generally when parties to a contract go to court and disagree as to whether a particular pre-contractual statement has any legal significance, the court has a number of options open to it. It can decide based on the evidence presented that the alleged statement was never made in the first place. That would usually be the end of the matter. But if the plaintiff can convince the court that the statement was made, then the court may have to decide whether it is one of the following things: 26

Puff - A puff is an exaggerated statement and is not meant to be taken seriously. It is akin to sales talk. For example, the vendor of a property may describe it as the best house on the street. Representation - A representation is a statement inducing entry into a contract, but is not intended to attract contractual liability. It remains outside the contract. Term A term is a statement made that is intended to have legal effect as part of the contract. It may be part of the main contract or form the basis of a collateral contract.

There are good reasons why a representee (i.e., the person to whom the statement was made to) may prefer that a pre-contractual statement is a term of the contract. If it is a term of the contract and subsequently turns out to be untrue, the representee will be entitled to damages for breach of contract. Where a major term has been breached, the contract may also be terminated (i.e., the parties are released from performance of the remaining obligations). If the precontractual statement is a representation and it turns out to be untrue, the representee is entitled to rescind the contract on the basis of misrepresentation. When a contract is rescinded, the contract is treated as never having existed and the parties are restored to essentially their former positions. Any money paid or goods delivered must be returned. As rescission is an equitable remedy the court has a lot of discretion whether to award it or not. Generally, where restitution is not possible, the remedy of rescission is lost. Damages may be awarded, not under the law of contract but under the law of torts, for negligent misrepresentation and fraudulent misrepresentation. However, there is award of damages for innocent misrepresentation. Express terms Express terms are terms that have been actually declared or stated, either in writing or orally. In other words, express terms of a contract may be in written or oral form. Terms may be expressly agreed in various ways. For example, they may have been discussed, or included in a signed document, or referred to on a ticket or notice. Sometimes there is disagreement over whether something said is a term of a contract or not. This is especially the case when there are extensive negotiations preceding conclusion of the contract. Parties negotiating a contract make various statements to each other. For example, when a person is buying a car, the seller may tell the buyer that the car is capable of accelerating from zero to 50 miles in five seconds, or that it had only one owner, or that it is accident free. But not all these

27

statements will eventually be included in the written contract. When one of these statements turns out to be false, the buyer may wish to seek some kind of remedy. The type of remedy available to the buyer depends on whether the statement is a representation or a term of a contract. So how does a court decide whether a pre-contractual statement is an express term of a contract? Whether a pre-contractual statement is an express term of a contract depends on the promissory intent of the parties and, in the case of a written contract, the operation of the parol evidence rule. We will begin by looking at how courts decide whether the parties intended a statement made during pre-contractual negotiations is a term of the contract. This intention is made explicit in some cases, but in other cases, the courts must determine from the words used and the context in which they were said whether the statement is a term of the contract. The courts will apply an objective test would a reasonable person in the position of the parties conclude from the parties words and conduct that the statement was to be a term of the contract? (Handbury v Nolan (1977) 13 ALR 339) Promissory intent Below is a list of factors that are relevant when determining the intention of the parties: Whether the language used suggests such a promissory intention, e.g., words such as promise, agree, guarantee, warrant, would suggest that the statement has promissory intent. In JJ Savage & Sons Pty Ltd v Blakney (1970) 119 CLR 435, the seller of a boat stated in a letter to the buyer that the estimated speed of the boat was 15 miles per hour. The court held that this statement was a mere expression of an opinion. Therefore it was not a term of the contract, even though the buyer acted on it. The importance and timing of the statement. Where there is a short interval between the making of the statement and conclusion of the contract, there is a better likelihood that it would be treated as a term. For e.g. in Van den Esschert v Chappell [1960] WAR 114, a statement that a house was free from white ants made just before the buyer signed the contract of sale was treated as a term of the contract. The fact that the inquiry was made and an affirmative answer received just before conclusion of the contract would suggest that it was meant to be part and parcel of the contract.

28

Where the maker has special knowledge and skill, the statement is more likely to become a term of the contract. In Oscar Chess Ltd v Williams [1957] 1 All ER 325, W offered to buy a Hillman from OC and offered a second-hand Morris as trade in. According to the registration book, the car was manufactured in 1948, when in actual fact it was a 1939 model. W confirmed that it was a 1948 model, but unknown to him the book had been altered by the previous owner. The court held Ws statement was a representation, as W possessed no special skill or knowledge. The dealer was in a position to verify the accuracy of the statement. But the court arrived at a different conclusion (on similar facts) in Dick Bentley Productions Ltd v Harold Smith Motors Ltd [1965] 1 WLR 623, There, HSM, a car dealer, told DB, the buyer of a Bentley, that the car had only driven 20,000 km since being fitted with a new engine and gear box. This was not true as the car had in actual fact travelled 100,000 km. The court held that the dealers statement was a term as the dealer had special skill and knowledge and should have realized that the buyer would rely on it. The court also took into account the likely importance of the statement in the minds of the parties when deciding whether it was a term.

Parol evidence rule Where a contract has been reduced to writing, the parol evidence rule is a major obstacle for anyone trying to prove that a pre-contractual statement is a term of the contract. (The rule does not apply to oral contracts.) Under the parol evidence rule, where a contract has been reduced to writing, it is presumed that it contains all the terms of the contract. In other words, extrinsic evidence (i.e., evidence outside the actual document) cannot be used, or relied upon to add, subtract from, or vary the written terms of a contract. Extrinsic evidence is not limited to oral statements, but includes previous drafts of the agreement, and letters exchanged during pre-contractual negotiations. Therefore under the parol evidence rule, extrinsic evidence, which includes precontractual statements, earlier drafts of the contract, and letters, is inadmissible in court. To ensure that a contract is treated as being wholly in writing, the parties may include in the contract an entire contract or entire agreement clause. The purpose of the clause is to make it clear that the parties intend that the entire agreement is set out in the written contract. For an example of how such a clause is worded see Nemeth v Bayswater Road Ltd [1988] 2 Qd R 406: all the terms are contained in this written agreement and no representation, warranty, covenant 29

or other matter or thing whatsoever not specifically contained herein shall have any force or effect, or be of any validity whatsoever. Entire agreement clauses perform the same function as the parol evidence rule. Normally, if a written contract also includes an entire agreement clause, it is highly likely that the court will refuse to enforce any term not specifically included in the contract. Due to the harshness of the parol evidence rule, the courts have recognized a number of exceptions to the rule. We will now look at some of these exceptions. One way around the parol evidence rule is to treat the pre-contractual statement as a collateral contract. The concept of a collateral contract was explained by Lord Moulton in Heilbut Symons & Co v Buckleton [1913] AC 30 at 47: It is evident, both on principle and on authority, that there may be a contract the consideration for which is the making of the other contract. If you will make such and such a contract I will give you one hundred pounds, is in every sense of the word a complete legal contract. It is collateral to the main contract, but each has an independent existence. A collateral contract is a contract, usually between the same parties as the main contract, concluded before, or at the same time, as the main contract for the purpose of inducing one of the parties to enter into the main contract. For a collateral contract to exist, two requirements must be met. First, the party making the statement must have intended it to be a promise. Secondly, the other party must have entered into the main contract on reliance of the statement. In De Lassale v Guildford [1901] 2 KB 215 despite finalization of the lease terms, the tenant refused to conclude the deal unless the landlord assured him the drains in the property were in good order. The landlord gave the assurance but it subsequently turned out that the drains were not in good order. The court held that the assurance was a separate collateral contract, the consideration for which the tenant entered the main contract. As the drains were not in good order, the landlord had breached the collateral contract. Although collateral contracts are usually between two parties, they may sometimes involve a third party. In Shanklin Pier Ltd v Detel Products Ltd [1951] 2 KB 854), P engaged painting contractors to paint its pier. D induced P to use its paint by promising that it would last 710 years. The contractors bought and used Ds paint but it only lasted three months. P successfully sued D for damages. Ds assurance that the paint was suitable was a collateral contract which was breached. P provided consideration by entering into the contract with the contractors (i.e., the main contract) stipulating that Ds paint be used. 30

It is important that the collateral contract is consistent with the main contract or it will not be accepted by the court. In Hoyts Pty Ltd v Spencer (1919) 27 CLR 133, H agreed to sublease premises from S on condition that S could terminate the lease with 4 weeks notice. According to H, it only signed the lease because S had verbally promised not to exercise the right unless required by the head lessors. When S terminated the lease without being required to do so by the head lessors, H sued for breach of alleged collateral contract. H failed because the court held that the promise made by S was inconsistent with the terms of the sublease and had the effect of interfering with its terms. Other exceptions to the parol evidence rule include the following; Where the contract is intended to be partly oral and partly written. For example, in Van den Esschert v Chappell [1960] WAR 114, just before signing a contract to buy a house the buyer inquired from the vendor whether the house was ridden with termites and was assured that it was not. The court held that the assurance was a term of the contract because it was made just before putting pen to paper and was intended to be made part and parcel of the contract. In view of the timing of the statement there was no time to write in this additional term. Also, an inquiry regarding the presence of white ants was most important in the context of a house purchase. Where the written contract does not truly express what was agreed among the parties. When this happens, either party may seek rectification. Rectification is an order of the court that a written agreement be amended so that it represents what the parties intended. In such a case extrinsic evidence would be required to show what was agreed and that there a mistake was made when reducing it to writing. Where there is some latent ambiguity, such as the subject matter of the contract or the intended parties cannot be identified. The courts will allow extrinsic evidence to be introduced to resolve the ambiguity. Implied terms The express terms of a contract may fail to provide for the consequences of something happening. This is because the parties to a contract could not possibly provide for every contingency that could disrupt the performance of the contract. Even if the parties could foresee a particular contingency, they may consider that the risk of it

31

occurring is so remote that it would not be worth the while to try to deal with it in the contract. When a contract fails to provide for a particular event happening, the court has two options open to it when a dispute arises. It may consider that the express terms should prevail. In other words, losses should lie where they fall. Alternatively, the court may decide to fill the gap with a term that provides a different allocation of risk than would be the case if the express terms were to prevail. Take for example, the lease of a house where the contract does not specify which party is responsible for mowing the lawn and pruning the trees. Adopting the first approach, the court can decide that since neither party is responsible, the tenant should either live with an unkempt garden or do something about it, at his or her own expense. Alternatively, the court could adopt the second approach and fill the gap with a term to the effect that the landlord should be responsible for the upkeep of the garden, as the landlord has a duty to maintain the property which includes the house and the surrounding areas. Gap-filling terms are called implied terms. Implied terms can be viewed as yet another exception to the parol evidence rule. The law recognises three main categories of implied terms and they are: Terms implied in fact Terms implied by custom Terms implied in law As implied terms are basically gap-fillers, they will not be implied if they have been expressly excluded by the parties, or are inconsistent with the express terms of the contract. Generally, courts are reluctant to imply terms into a contract as they do not see it as their role to rewrite contracts, but merely to interpret them. Nonetheless, under some circumstances, courts will imply terms and we will begin by looking at terms implied in fact. We are going to briefly cover this topic here, as we will be covering them in greater detail in a subsequent lecture. Terms implied in fact Sometimes a court will recognise a term even if the parties did not articulate that particular term. This will happen where it is obvious that the parties intended the term to be included in the contract, but for some reason failed to do so. We call such a term a term implied in fact (Lambiris calls it a term implied ad hoc). According to Chen-Wishart (Contract Law, 2nd ed., OUP, p 410), the idea behind implication in fact is that whether through forgetfulness, lack of time, or bad drafting the parties failed to include a term which they would have done, had they thought about it, or had the time to draft properly. When a court is

32

asked to imply a term into a contract, it must ascertain, as objectively as possible, the presumed (i.e., unexpressed) intention of the parties. In Australia, the conditions for implying a term in fact were laid down by the Privy Council in BP Refinery (Westernport) Pty Ltd v Hastings Shire Council(1977) 180 CLR 266, 283. The court held that for a term to be implied by the court, the following conditions (which may overlap) must be satisfied: The term must be reasonable and equitable (i.e., fair to both parties and not impose a burden to one party) It must be necessary to give the contract business efficacy (i.e., it must be necessary to make the contract effective and workable). This was illustrated in the Moorcock [1886-90] All ER Rep 530. There, P contracted with D to use Ds jetty to discharge and load his vessel. Both parties knew that the vessel would lie at the bottom of the river at low tide. When this happened the vessel sustained damage because of the uneven condition of the river bed. P sued D and was successful because the court implied a term into the contract that D would take reasonable care to ensure that the river bed was in a condition not to cause damage to the vessel. It must be so obvious that it goes without saying. This is a restatement of the officious bystander test in Shirlaw v Southern Foundries (1926) Ltd [1939] 2 KB 206, 227: if, while the parties were making their bargain, an officious [intermeddling] bystander were to suggest some express provision for it in their agreement, they [i.e., the parties] will testily suppress him with a common oh, of course! . It must be capable of clear expression and reasonably certain in its operation. It must not contradict any express term of the contract, or deal with any matter already dealt by the express term. (See, also, the Lambiris text at pg 46. The criteria stated by Lambiris are essentially the same as the above.) Terms implied by custom Courts may imply terms into a contract where there is an established practice or custom in a particular trade or industry. For example, in Sagar v H Ridehalgh & Son Ltd [1931] 1 Ch 310, D who employed P as a weaver, made some deductions from Ps wages for cloth not properly woven. There was an established custom in the Lancashire region where P worked which justified such a deduction. The issue was whether such a term could be implied into that particular contract. It was held by the court that even though some mill owners did not make

33

such a deduction, more than 85 per cent of them did. Such a term could therefore be implied into the contract. Terms implied by custom play an important role in commercial law. In Con-stan Industries of Australia Pty Ltd v Norwich Winterhur Insurance (Australia) Ltd (1986) 160 CLR 226, the High Court gave the following principles for implying a term on the basis of custom: The existence of a custom or usage that will justify implying a term into a contract is always a question of fact The custom need not be universally accepted but there must be evidence it is so well known and acquiesced in that everyone making the contract can reasonably be presumed to have imported the term A term will not be implied where it is contrary to the express terms of the contract, and A person may be bound by a custom even if he or she had no knowledge of it. Terms implied in law Terms may be implied under the general law (non-statutory law) or under statute. We can divide terms implied by the general law into two main categories. The first category is the universal implied terms, i.e., terms implied into all contracts. For example, it is implied into all contracts by the general law that the parties to a contract will cooperate with each other in the performance of the contract (see Perri v Coolangatta Investments Pty Ltd (1982) 149 CLR 537). The second category of terms implied by the general law is the generic implied terms, i.e. terms implied by the general law into particular types or groups of contracts. For example, it is implied into all doctorpatient contracts that the doctor will exercise reasonable care and skill when treating a patient, but there is no implied term that the doctor will act in the patients best interest (see Breen v Williams (1996) 186 CLR 71). Legislation can also imply terms into a contract. For example, Under both the Trade Practices Act and the Sale of Goods Act, goods sold must be of merchantable quality and fit for the purpose they are sold. We will be covering this in more detail later. Relative importance of terms The common law right to terminate a valid contract depends on the importance of the term that had been breached. Lambiris has described termination as rejecting flawed performance and putting a stop to further performance. Traditionally, terms of a contract were

34

divided into conditions and warranties. A condition is a major term of the contract as it goes to the essence of the bargain. In other words, a party would not have entered into a contract, unless assured of its strict or substantial performance and it was apparent to the other party. Breach of a condition gives rise to the right to damages and the right to terminate performance of the contract, thus making it a very important term. (There is one small exception to the above principle. There is no right to terminate if the breach of the condition is so insignificant. This is what is called the de minimis rule.) In Associated Newspapers v Bancks (1951) 83 CLR 322, a cartoonist contracted with a newspaper to provide a weekly strip, entitled Us Fellers. The newspaper agreed to feature the cartoon strip in the front page of the comic section of the Sunday edition of the newspaper. On three occasions, the cartoon strip appeared on the third page. The cartoonist protested but was ignored by the newspaper and he decided to terminate further performance of the contract. The court held that the cartoonist was entitled to terminate the contract as there was a breach of a condition. The cartoonist would not have agreed to the contract had he not been assured that his work would be in the front page. A warranty, on the other hand, is a term of the contract subsidiary to the main purpose of the contract. Any breach of warranty only entitles the injured party to damages because the contract can still be performed in substance and damages will be sufficient to compensate the injured party for any loss or inconvenience suffered. In Bettini v Gye (1876) 1 QBD 183, B signed a three month singing contract with G. B agreed to be in London six days before the start of his engagement for rehearsals. He arrived two days before the start and G refused to proceed with the contract. B sued for damages for breach of contract. The court held that, having regard to the length of contract and the nature of the performance, the rehearsal clause was not vital and therefore only a warranty and not a condition. Breach of a warranty did not entitle G to terminate the contract. B was therefore only entitled to damages for wrongful repudiation of the contract. It is important to note that what the parties call, label or describe a term is not conclusive. In Schuler AG v Wickman Machine Tool Sales Ltd [1973] 2 WLR 683 S, a manufacturer of presses, granted sole selling rights to W. The contract provided that it shall be a condition of the contract that W would send its named representatives to visit certain UK motor manufacturers at least once a week. Either party could terminate the contract if the other committed a material breach and failed to remedy it within 60 days. When W breached the term, S attempted to repudiate the contract. The court refused to treat the 35

term as a condition and held that to do so would lead to very unreasonable results. For example, nothing in the term allowed for days lost through sickness or resignations of the named representatives, etc. However, dividing terms of a contract into essential and non-essential terms is not always so clear-cut. There are some terms that are incapable of being classified as either conditions or warranties until the results of the breach have been examined. For this reason, the courts have recognised a third class of terms called innominate or intermediate terms. The remedy for breach of an innominate term depends on the effect of the breach. If the breach leads to serious consequences, then the non-defaulting party can terminate the contract and sue for damages. But, if the consequences of breach are not serious, then the non-defaulting party must continue with the contract, and sue for damages. In Cehave NV v Bremer Handelsgesellschaft mbH [1976] QB 44, the court refused to allow termination of the contract as the breach did not deprive the nondefaulting party of a substantial part of the benefit. Another useful case on this topic is Hong Kong Fir Shipping v Kawasaki Kisen Kaisha Ltd [1962] 2 QB 26. There, P chartered a vessel to D for 24 months. The contract contained a promise by P that the vessel was in every way fitted for cargo service, i.e., it was seaworthy. Although the vessel was in reasonably good condition, it had to be maintained by an efficient and competent staff because of its age. Due the incompetence of the chief engineer and other causes, about 20 weeks of sailing time was lost due to engine trouble. D repudiated the charter and P sued for damages for breach of contract. The issue before the court was whether seaworthiness was a condition. If it was not, D had no automatic right to repudiate the charter. The court held that it was not helpful debating whether the term was a condition or a warranty, as it was neither of the two. The correct approach was to look at the events which occurred as a result of the breach and to decide whether they had deprived D of substantially the whole of the benefit under the contract. Since it did not, D could not terminate the contract. Conditions precedent and subsequent A contract is subject to a condition precedent if the contract does not come into existence, or need not be performed, until a particular condition is fulfilled. (When we use the expression condition here it refers to an event.) There are two kinds of condition precedent: The first type of condition precedent is the condition precedent to the formation of a contract. For example, in Pym v Campbell [1856] 119 ER 903, the agreement for a sale of a share in an 36

invention stated that contract was not to be binding unless the invention had first been approved by a third party. In other words, there was no contract until the condition precedent (which was the granting of the approval) was fulfilled. Another example of a condition precedent to the formation of a contract is the acceptance of an offer subject to preparation of a formal contract. The second type of condition precedent is the condition precedent to the obligation of a party to perform. Here, a legally binding contract has come into existence, but the obligation to perform the contract depends on fulfillment of the condition precedent. An example of such a condition precedent is a contract of sale for land subject to the buyer obtaining finance. Neither party will be obliged to perform the contract until finance is obtained, or the condition is waived. However, as there is a binding contract, the vendor, for example, would be in breach if he or she sold the same land to another party without giving the buyer an opportunity to obtain financing.

A contract is subject to a condition subsequent where the parties obligation to perform is immediately binding, but will come to an end should the condition specified in the contract materializes. For example, there might be a term in a contract which states that performance of the contract is subject to Xs import licence not being revoked. Another example is a term which states that the contract to buy goods will terminate if the exchange rate falls below 70 US cents per Australian dollar. The distinction between condition precedent and condition subsequent has been criticized by Mason J in Meehan v Jones (1982) 149 CLR 571 as artificial. In a sense a condition precedent is also a condition subsequent depending on how one looks at it. Where there is a non-fulfillment of a condition precedent or the occurrence of a condition subsequent, the contract is terminated automatically or at the election of one party. No claim for damages can be made as there is no breach of contract. Exclusion clauses An exclusion clause is a term of a contract that is aimed at either excluding or limiting legal liability of one or more parties. (It is also known as an exemption, exception, or limitation of liability clause.) A valid exclusion clause can protect the party, for whose benefit it was inserted into, from the consequences of breach of contract and tortious conduct such as negligence. Exclusion clauses are usually found in standard form contracts (where one party insists that the other party 37

either take it, or leave it). The courts are usually suspicious of such clauses. For an exclusion clause to be effective, it must not only form part of the contract, it must also be wide enough to cover the breach in question. So we will first look at how an exclusion clause can be incorporated into a contract. There are many different approaches to incorporation. Generally, when a person signs a document, that person is bound by its terms, regardless of whether that person has read or understood the contents. In LEstrange v Graucob Ltd [1934] 2 KB 394, P purchased a cigarette vending machine from D. The sales agreement had a clause which stated the agreement contained all the terms and conditions of sale and that any express or implied terms not stated are excluded. (At that time in the UK there was no consumer protection legislation in place yet.) P signed the agreement without reading the clause. Later, the machine did not work. She sued D claiming that she had not read the contract, but Scrutton LJ said that in the absence of fraud, a party signing a contract is bound by it. However, a misrepresentation as to the effect of an exclusion clause, no matter how innocent, can preclude a party from relying on the exemption clause to escape liability. In Curtis v Chemical Cleaning & Dyeing Co [1951] 1 KB 805, P took a white satin dress trimmed with beads and sequins to Ds shop for cleaning. The shop assistant gave her a docket headed receipt and asked her to sign it. When asked the reason for the signature, the assistant replied that it was to exempt D from risk of damage to the beads and sequins. But in actual fact the docket contained a clause exempting the company from any damage, howsoever arising. The dress was returned with stains and P sued. D tried to rely relied on the clause to avoid paying damages but failed as the effect of the clause had been misrepresented, albeit innocently. Sometimes a supplier of goods or services may attempt to include written terms (including an exclusion clause) into what would otherwise be an oral contract. For example, the supplier of services may deliver a document (like a ticket or receipt) containing written terms to the customer, or display the terms in a sign on the suppliers premises (like a sign at the entrance of a car park). Whether the terms have been incorporated into the contract would depend on two main questions: First, whether reasonable steps had been taken to bring the terms to the notice of the customer, and secondly, whether notice had been given before, or at the time, the contract was formed. If the answer to either question is in the negative, then the terms in question have not been incorporated into the contract.

38

Let us now look at the first question relating to knowledge or notice in greater detail: If a person actually knows that a document given to him or her, or a sign displayed, before or at the time the contract was formed contains contractual terms (including the exclusion clause) he or she is bound by the terms regardless of whether the terms were read or not. (Too bad if the recipient was too lazy to read the terms!) This is because the person is taken to have been given reasonable notice of the terms. If a person is given a document which a reasonable person in the circumstances would expect to contain terms, the presentation of the document will be sufficient notice of the terms in the document. For example, a bill of lading (which is a contract for carriage of goods by sea) is a standard contractual document and a reasonable person would expect to find terms in it. As such if a person is given a bill of lading he or she will be bound by the terms regardless of whether the terms were read. (See Parker v South Eastern Railway Co (1877) 2 CPD 416.) If the terms are included in a document (such as a voucher, receipt, or docket) which would not reasonably be thought to contain contractual terms, the person seeking to incorporate the terms into the contract must take reasonable steps to bring them to the notice of the party to be bound by it. For example, in Causer v Browne [1952] VLR1, P took his wifes dress for dry cleaning and was given a docket which contained an exemption clause. The clothes were damaged and when P tried to claim damages, D tried to rely on the exemption clause. The court held that D was not entitled to rely on the exclusion clause as the docket was one that might reasonably be understood to be only a voucher for the customer to produce when collecting the goods and not understood to contain conditions exempting the defendants from their common law liability. If the terms are displayed on a sign, they must be in such a form that they are likely to be brought to the notice of the person to be bound by it, either before or at the time the contract was made. In Thornton v Shoe Lane Parking [1971] 2 QB 163 P drove car to the entrance of Ds automated parking station, received a ticket and drove in. The ticket referred to conditions of issue displayed on a sign on the premises. The conditions stated, inter alia, that D was exempted from personal liability suffered on Ds premises. P was injured and sued D who relied on the exclusion clause. D argued that the clause was incorporated into the

39

contract by means of the ticket issued by the automated vending machine inside the entrance to the car park. The court however held that D had not taken reasonable steps to bring the clause to Ps notice. In order to read the terms, P would have to leave his car and go to a pillar opposite the machine. The outcome of cases such as Thornton v Shoe Lane Parking depend very much on nitty-gritty facts such as the size and position of the sign. However, where there has been a previous course of dealing, the courts may imply terms (including an exclusion clause) into the contract. For the term to be incorporated by course of dealings, the course of dealings must have been regular and uniform. In Olley v Marlborough Court [1949] 1 KB 532, the Olleys arrived at hotel, paid in advance and went up to hotel room given to them. On one of the walls of the room was a notice which said that the hotel would not be liable for articles lost or stolen, unless they have been handed to the manageress for safekeeping. A little while later, the wife closed the self-locking door and hung the key on the board in the reception. A third party took the key and went to her room and stole her furs. She sued and the hotel was held liable. Here, notice of the clause was given after the contract was entered into. The court however said that the outcome would have been different had the Olleys been frequent visitors of the hotel. Even if it is clear that the exclusion clause had been incorporated into the contract, the court must still determine whether it applies to the conduct in question. Generally, courts are reluctant to give such clauses more effect than necessary. When determining whether an exclusion clause covers the conduct in question, the primary rule in Australia is the intention of the parties, which in turn depends on the construction of the contract. In Darlington Futures Ltd v Delco Australia Pty Ltd (1986) 161 CLR 500 at 510 the court stated the rule as follows: [T]he interpretation of an exclusion clause is to be determined by construing the clause according to its natural and ordinary meaning, read in the light of the contract as a whole, thereby giving due weight to the context in which the clause appears including the nature and object of the contract, and where appropriate, construing the clause contra proferentem in case of ambiguity. In other words, the exclusion clause is to be determined according to the ordinary construction of contracts. However, where there is any ambiguity, the clause will be construed contra proferentem. What this means is that if, using the ordinary principles of construction, the exclusion is capable of more than one meaning, then it will be construed against the party seeking to rely on the clause.

40

A number of secondary rules have been developed to assist in the application of the primary rule. One example of a secondary rule is the four corners rule. The most famous formulation of the rule is by Scrutton LJ in Gibaud v Great Eastern Railway Company [1921] 2 KB 426 at 435: if you undertake to do a thing in a certain way, or to keep a thing in a certain place, with certain conditions protecting it, and have broken that contract by not doing the thing contracted for in the way contracted for, or not keeping the article in the place in which you have contracted to keep it, you cannot rely on the conditions which were only intended to protect you if you carried out the contract in the way in which you had contracted to do it. If a contracting party steps outside the four corners of a contract, he or she will generally lose the protection of the exclusion clause. The four corners rule applies almost exclusively to bailment contracts. (A bailment comes into being when one person is knowingly in possession of goods which belong to another.) For example In Sydney Corp v West (1965) 114 CLR 481, the plaintiff parked his car in the defendants car park and was issued with a ticket. The ticket stated that it had to be presented before the car could be taken away from the car park. It also stated that the defendant w would not be liable for loss or damage to any vehicle however such loss [or damage] may arise or be caused. The car park attendant allowed a rouge to drive the car away even though the rogue was unable to produce the ticket. The court held that the defendant could not rely on the exemption clause as the defendant had been negligent and dealt with the plaintiffs goods in a way which was not permitted by the contract (namely, drive the car out of the car park without producing the parking ticket). An issue that often arises is whether an exclusion clause in a contract applies to protect a person from liability for negligence. The reason why the resolution of this issue is especially important is that negligence frequently results in personal injury or damage to property rather than just economic loss (as is usually the case with breach of contract). In Canada SS Lines Ltd v The King [1952] AC 192, the Privy Council laid down three rules of construction in regard to exclusion of liability for negligence. First, an express exclusion of liability for negligence should be given effect. The most effective way for a person to exclude liability for negligence is to specifically refer to negligence as an excluded head of liability. Secondly, where there is no reference to negligence, the court should consider whether the words are wide enough to cover negligence, with any ambiguity to be resolved contra proferentem. Thirdly, if the words are wide enough to cover liability for negligence, a court must consider other possible bases for liability before reaching a conclusion whether it was negligence that the clause 41

was in effect excluding. A common example of where the third rule applies is where the defendant is subject to both a contractual and tortuous duty. In White v John Warwick & Co Ltd [1953] 2 All ER 1021, W hired a bike from JW. The contract contained a clause stating that: Nothing in this agreement shall render the owners liable for any personal injuries to the riders of the machine hired. W was injured when the saddle tipped and sued JW. He brought two alternative claims against JW one for breach of contractual warranty to supply a bike reasonably fit for the purpose it was hired, and the other for negligence. The court held that there were two bases of liability: liability in contract, which did not require proof of negligence and liability under tort which required negligence. Since the clause did not did not expressly refer to negligence, it could not be applicable to liability under that basis. In other words, W could succeed in the action for negligence. There were two factors which probably influenced the court. The first factor was that the plaintiff suffered a personal injury and not just an economic loss. The second factor was that the plaintiff was a consumer who entered into a standard contract with a business person. With standard contracts, there is usually no room for negotiation. Unusual or onerous clause A party intending to rely on an unusual or onerous clause must clearly bring it to the attention of the other party. As Lord Denning said in J Spurling Ltd v Bradshaw [1956] 1 WLR 461 at 466, the clause would need to be printed in red ink on the face of the document with a red hand pointing to it before the notice could be held to be sufficient. This rule would apply to any unusual clause (e.g., a particularly onerous clause), not just an exclusion clause. In Interfoto Picture Library v Stiletto Visual Programmes Ltd [1989] 1 QB 433, P ran a business which included the hire of photographic transparencies. D, who was involved in advertising, borrowed some transparencies from P for a client presentation. P sent 47 of them to D together with a delivery note containing a number of conditions. One of the conditions required the return of the transparencies within 14 days, failing which a fee of 5 per transparency per day thereafter would be imposed. D, who did not read the conditions, did not return them until four weeks later. He was billed 3783.50 by P but refused to pay and P sued. The court held that P was only eligible for a claim in quantum meruit (as much as he has deserved) and not the full amount, as having regard to the onerous nature of the clause, sufficient notice had not been given to D.

42

ITL Notes (Lectures 19-21) Terms implied by law In one of our previous lectures we briefly looked at the different categories of terms implied (i.e., imposed) by law into contracts (as opposed to them being agreed by the parties themselves). We are now going to examine the topic in greater detail, as it is becoming an increasingly important area of contract law. There is bound to be some overlap with the earlier lecture. Terms implied by law fall into two main categories: (1) terms implied by common law (or general law) and (2) terms implied by legislation. First we will look at terms implied by common law. Terms implied by common law can be further divided into two sub-categories: (a) universal terms and (b) generic terms. Terms implied by common law Universal terms implied by common law According to Lambiris there is growing acceptance in Australian law that there are some terms that should be implied into all contracts and that such terms are often referred to as universal terms. One important universal term is the duty to cooperate and do what is reasonable so that both parties get the benefit of the contract. Griffith CJ in Butt v MDonald (1896) 7 QLJ 68, 701, said: It is a general rule applicable to every contract that each party agrees, by implication, to do all such things as are necessary on his [or her] part to enable the other party to have the benefit of the contract. A simple example of the need to cooperate is the customer being available for fittings when a tailor is making clothes to order. Other examples provided by case law include the following: Perri v Coolangatta Investments Pty Ltd (1982) 149 CLR 537: P agreed in April to buy property in Cronulla from CI subject to the sale of his property in Lilli Pilli. When P failed to sell his property by August, CI terminated performance of the contract. The court held that P had not done what was reasonable to sell his Lilli Pilli property to allow completion of the sale of the Cronulla property. CI was unable to deal with its property while it remained subject to the sale of the Lilli Pilli property. Although no time was stated, it was an implied condition that the Lilli Pilli property would be sold within a reasonable time. Secured Income Real Estate (Aust) Ltd v St Martins Investment Pty Ltd (1979) 144 CLR 596: SM purchased property from SI for a price to be determined by the occupancy of the property during 43

a specified period. When it appeared that the property would not be fully let, SI applied to SM to lease the remaining space. SM refused and SI sued SM for breach of the implied term to cooperate. The court held that while there was an implied term of the contract to cooperate, it was not breached as SMs refusal was based on reasonable grounds. SM was not confident that SI would be able to pay the rent. Another important universal term is the duty to act in good faith, and this has been interpreted to mean the duty to exercise contractual powers honestly and reasonably. A simple example of a dishonest use of a contractual power is when one party uses a right to deliver in instalments to make an unreasonable number of very small and inconvenient deliveries. Other examples provided by case law include the following: Alcatel Australia Ltd v Sarcella (1998) 44 NSWLR 349: S leased a new building to AA for seven years. Under the terms of the lease, AA was to maintain the building and pay for any work required by the local council. Some years later, S caused the council to inspect the building for fire safety. Following the inspection the council ordered AA to insulate the stairwell against fire. AA claimed that S was bound by the implied term of good faith and reasonableness to ensure that AA was not subjected to the expense and impact of an unreasonable fire order. The court held that while such a duty may be implied into a contract in NSW, it was not a breach of the duty for the lessor to ensure that the building was adequately protected from fire. Burger King Corporation v Hungry Jacks Pty Ltd [2001] NSWCA 187: HJ was the Australian franchisee of BK, a US franchisor. Under the franchise agreement, HJ was obliged to open a certain number of outlets each year. HJ and BK did not have a good relationship and BK decided to force HJ to sell out its franchise so that it could increase its own participation in Australia. BK made it impossible for HJ to perform its contractual obligations by refusing to give approval for new outlets. BK then gave HJ notice that it was terminating the franchise agreement because of HJs failure to open the required outlets. The court held that BK had a duty to exercise its contractual power to approve new outlets in good faith. In other words, BK had to exercise its power honestly and reasonably, but it had not done so as its main purpose for refusing approval was to force HJ to sell out its franchise. Generic terms implied by common law Generic terms are terms that are implied by the common law into certain types or categories of contracts, such as sale of goods 44

contracts; lease contracts; insurance contracts; contracts between a doctor and patient. They are meant to fill gaps in the contracts left out by the parties. For certain types of contracts terms have become so standardized that they are implied in all contracts of that type, in the absence of any contrary intention. For example, in contracts for the provision of professional services, the common law will imply a term that requires the professional to exercise the degree of care reasonably expected of a person in the industry and exercising and professing to have that particular skill. So, for example, a doctor when treating a patient is expected to comply with this standard of care. Although the doctor is expected to exercise reasonable care, there is however no requirement that the doctor act in the best interest of the patient, as this might result in the doctor being liable for treatment that went wrong even the doctor was not negligent (see Breen v Williams (1996) 186 CLR 71). Similarly, in bailment contracts, the common law will imply a term that the bailee (i.e. the person in possession of goods) will exercise reasonable care in relation to goods belonging to the bailor (i.e., the owner of good, s or the person with right of possession) if no such term is expressed in the contract. In Pitt Son & Badgery Ltd v Proulefco (1984) 153 CLR 644, P bought wool at an auction and left them in storage in PS&Bs shed. The wool was destroyed by a fire lit by a drifter. It was held that PS&B had breached its duty as bailee to take reasonable care to keep out intruders who might steal or damage the wool. The shed had not been properly fenced, the premises had not been well lit, and no guard had been employed to prevent unauthorized entry into the shed. Although generic terms are normally standardized terms, it does not necessarily mean that new terms cannot be mplied into particular categories of contracts. Whether a term is suitable for implication by the common law depends on whether it meets the test of necessity. A term is necessary if enjoyment of the rights conferred by the contract would or could be rendered nugatory, worthless, or, perhaps, be seriously undermined: Byrne v Australian Airlines Ltd (1995) 185 CLR 410, at 450. The test of necessity was applied in Liverpool City Council v Irwin [1977] AC 239. There, the tenants of a 15-storey apartment block refused to pay rent in protest against the appalling way the common areas of the building (namely, the stairs and lifts) were maintained. The landlord of the building was a public authority which was responsible for providing public housing for members of the public on the basis of need. Although the contract between the landlord and the tenants contained a list of obligations owed by the tenants, nothing was said about the landlords obligations. The House of Lords held that the landlord owed an implied obligation to take reasonable care of the 45

common areas and was prepared to imply this term into tenancies of high-rise buildings. Lord Wilberforce said that the stairs and lifts were essentials of the tenancy without which life in the dwellings, as a tenant, is not possible. But while there was an implied obligation to take care of the common areas, it was not an absolute obligation. In other words, while there was an obligation, for example, to maintain the lifts, it was unfair to expect the landlord to ensure that the lifts were working all the time. Terms implied by legislation Terms are also put into different types of contracts by legislation. An important example of this is Sale of Goods legislation. Each Australian state and territory has its own sale of goods legislation based on English Sale of Goods Act 1893. Your textbook makes reference to the Victorian legislation, but I have made references to the Western Australian legislation and so the numbering of provisions in the notes and the text will differ. (There is a conversion key in the prescribed textbook which you can use.) The Sale of Goods Act is not mandatory in the sense it does not apply irrespective of the wishes of the parties. It is intended to apply in cases where the contract does not deal with that particular matter. Any term implied by the legislation can be excluded by express agreement or by course of dealings. The Sale of Goods Act applies to domestic sale contracts as well international sale contracts not covered by the Sale of Goods (Vienna Convention) Act. It deals with matters such as when and how delivery of goods should be made; when and how payment for goods should be made; and when ownership in goods passes to the buyer (provided these matters are not covered in the sale contract itself).

Sale of Goods Act 1895 (WA) The SGA applies to any contract for the sale of goods whereby the seller transfers, or agrees to transfer, the property in goods to the buyer for money consideration, called the price (s 1(1)). Goods include all chattel personal other than things in action and money. Chattel personal includes any tangible property other than land (e.g., machinery), whereas things in action refer to intangible forms of property (e.g., debt). Two types of contracts for the sale of goods are covered by the SGA: Sale of goods contract where property (ownership) in the goods is transferred to the buyer at the point of sale; and

46

Agreement to sell goods where the transfer of property takes place either in the future, or is subject to some condition. An agreement to sell becomes a sale when property in the goods is finally transferred to the buyer. Contracts for the sale of goods must be distinguished from a number of other similar transactions like barter contracts (exchange of goods) and contracts for work and labour, and contracts for provision of services where goods may be incidentally supplied (e.g., provision of medical service where medication and dressings are supplied). The distinction between a sale and an agreement to sell is important as each transaction gives rise to different rights. With a sale of goods contract, the seller can sue the buyer for the price of the goods in the event the buyer defaults (i.e., refuse to pay the price), while the buyer can sue the seller for damages if the seller defaults (i.e. fails to deliver goods), and, for conversion if the seller wrongfully dispose the goods. The risk of loss to the goods after the sale is with the buyer because property has passed to the buyer. With an agreement to sell goods, the seller can sue the buyer for damages if the buyer defaults, while the buyer can sue the seller for damages if the seller defaults. However, the risk of loss to goods is with the seller as property has not passed to the buyer. Now we are going to look at certain provisions regarding the quality of goods implied into all contracts for the sale of goods. Before doing so, I like to draw your attention to a few important points: First, these legislative provisions can be excluded or varied by agreement or by course of dealings (s 54). Secondly, the SGA makes no distinction between consumer contracts and commercial contracts. They are all treated the same by the SGA. Thirdly, the provisions will usually not apply when the individual selling the goods are not in the business of selling or dealing in goods of that kind (i.e., private sale). For private sale, the doctrine of caveat emptor (let the buyer beware) applies. In other words, it is left to the buyer to check that the goods are of the quality required, or stipulate in the contract the qualities required. Fourthly, breach of a condition entitles the buyer to reject the goods and claim damages, if the buyer suffered any loss. This is subject to two exceptions. (1) Section 11(1) of the WA SGA gives the buyer the option of treating the condition as a warranty. In other words the buyer can continue with the contract but claim damages. (2) Section 11(3) states that where the buyer has accepted the goods, or where the goods are specific goods and

47

property has passed, breach of a condition only entitles the buyer to treat it as a breach of warranty and claim for damages. Finally, there are equivalent provisions, known as consumer guarantees in Schedule 2 of the Competition and Consumer Act 2010 (Cth). Schedule 2, which is called The Australian Consumer Law only applies to consumer transactions, The Competition and Consumer Act is a commonwealth law, but has been adopted by the states and territories through amendments to their Fair Trading Acts. Professor Peter Sinden will be covering consumer guarantees later in his segment of the unit and we will therefore not be discussing them in this segment of the unit. However, a sound understanding of the SGA provisions will be most useful when you study consumer guarantees.

Below are terms which are implied into all sale of goods contracts by the WA sale of goods legislation: Section 13 (sale of goods by description) When goods are sold by description, there is an implied condition that the goods will correspond with the description. Goods do not correspond with the contract description if they are essentially different from the goods bargained for by the buyer. Trying to establish whether goods are of a different kind is not simple. Some rules have been developed to establish when goods are sold by description. According to Pentony et al, the following are examples of sale by description: They are unascertained goods (e.g. dozen bottle of whisky). As such goods have not been identified and agreed upon at the time of sale, they can only be sold by description. They are specific goods (i.e., goods identified and agreed upon at time of sale) that the buyer has not seen and is relying on the sellers description see Varley v Whipp [1900] 1 QB 5130 nearly new machine), or, They are specific goods that the buyer has seen, but sold as goods answering a description. One example is where buyer is relying on the sellers description of goods to meet his or her requirements. In Elder Smith Goldsbrough Mort Ltd v McBride [1976] 2 NSWLR 631, P bought a bull at a stud farm but the bull proved infertile. Even though the bull was a specific good, it was also sold by description. No way for P to ascertain at time of sale whether it was fertile and had therefore relied on sellers description. Another example is where the goods describe themselves. In Beale v Taylor [1967] 3 All ER 253, B

48

bought a car described as a 1961 Herald Convertible but later discovered that the back half of the car was a 1961 model welded to the front half of an earlier model. Even though the car was a specific good, B had relied on the sellers description that it was a 1961 model and therefore a sale by description. This implied condition applies even though the goods are not sold by a dealer, i.e., it applies when goods are sold by individuals who are not in the business of selling or dealing in such goods. Section 14(1) (fitness for purpose) If a buyer makes known to the seller the particular purpose for which the goods are acquired, and shows reliance on the sellers skill or judgment to provide goods suitable for that purpose, and the goods are of a description that is in the course of the sellers business to supply (even if the seller did not manufacture the goods), there is an implied condition that the goods are reasonably fit for such purpose. Unlike s 13, s 14(1) does not apply to private sales. Let us examine each element of s 14(1) in greater detail: The first requirement is that the buyer must make known his or her particular purpose. This may be done expressly or impliedly. Where the purpose is obvious, there is no need for the buyer to expressly mention the purpose. Just by asking for the goods, this requirement is satisfied. But if the product has more than one purpose, the buyer must indicate the purpose for which they will be used. A useful case is Priest v Last [1903] 2 KB 148 where the plaintiff bought a hot water bottle at the defendants shop. He was sold a water bottle which burst and scalded his wife after it was used the fifth time. Although the defendant argued that he was not liable as the plaintiff had not made known the particular purpose, the court held that water bottle was not fit for purpose since it was used for its obvious purpose. A water bottle unlike other products had only one purpose. The second requirement is that the buyer must make known his or her particular purpose in circumstances showing reliance on the sellers skill and judgment. Courts have generally interpreted reliance widely, especially where the goods turn out to be harmful or dangerous. This is reflected in the words of Lord Wright in Grant v Australian Knitting Mills Ltd [1936] AC 85 at 99: reliance will seldom be express: it will usually arise by implication from the circumstances. Thus, to take a case like that in question, or a purchase from a retailer, the reliance will generally be inferred from the fact that a

49

buyer goes to the shop in the confidence that the tradesman has selected his stock with skill and judgment. The seller will be liable even if the buyer partially relied on the sellers skill and judgment. This was illustrated in Christopher Hill Ltd v Ashington Piggeries Ltd [1972] AC 441. There, the plaintiff asked the defendant, who was in the business of compounding food for domestic animals but knew nothing about mink, to make a food compound for the plaintiffs minks. The formula for the food compound was provided by the plaintiff, who was an expert in the nutritional requirements for minks. The food compound contained an ingredient which was poisonous and the plaintiffs minks died. The plaintiff sued for, among other things, breach of the implied condition of fitness for purpose. The court held that the defendant was liable. Even though the plaintiff did not rely on the defendant for the formula for preparing the food compound they relied on the defendant to select ingredients of a suitable quality. The ingredient in question was poisonous not only for the plaintiffs minks but also other animals. The third requirement is that the goods must be of a description which is in the sellers course of business to supply. There is no requirement that the seller supply that particular good. So long as it belongs to the class of goods that the seller usually supplies is sufficient. The seller need not be the manufacturer of the goods they sell to be liable. There is no implied condition as to fitness of purpose if the contract is a contract to supply goods under their patent or trade name, unless the buyer makes it clear that he or she is also relying on the seller to supply suitable goods (see Baldry v Marshall [1925] 1 KB 260. In other words, if the buyer had, on his or her own, formed the judgment that the goods were suitable for his or her purpose, without relying on the seller, there is no implied condition of fitness for purpose. Section 14(2) (merchantable quality) If goods are bought by description and the seller deals in goods of that description (even if the seller did not manufacture the goods), there is an implied condition that the goods will be of merchantable quality. This condition is not implied into private sales. Merchantable quality is not defined in the SGA. There have been many different judicial definitions of merchantable quality. For example: In David Jones v Willis (1934) 52 CLR 110, Starke J stated that: The buyer has "a right to expect, not a perfect article, but an article which would be saleable in the market" under that description. Goods are not of "merchantable quality" if, in the form in which they are tendered, they are of no use for any

50

purpose for which such goods are normally used, and hence are not saleable under that description In Australian Knitting Mills v Grant (1933) 50 CLR 387 at 418, Dixon J stated: The condition that goods are of merchantable quality requires that they should be in such an actual state that a buyer fully acquainted with the facts and, therefore knowing what hidden defects exist and not being limited by their apparent condition would buy them without abatement of the price obtainable for such goods if in reasonably sound order and condition without special terms. There is no right or wrong definition, just alternative formulations. Generally goods are of merchantable quality if they are commercially saleable. In other words, they suitable for the purpose or purposes for which goods sold under the description are ordinarily used. So even if the goods are not fit for the buyers particular purpose they may still be of merchantable quality. However, s 14(2) does not apply if the buyer has examined the goods in such a way that ought to have revealed the defects complained of. In other words, if the buyer inspected the goods and the defects were obvious than the seller will not be in breach of the term. The goods must remain merchantable for a reasonable period after they have been sold and this equally applies to fitness for purpose.

Section 15 (sale by sample) According to Lambiris a sale by sample is when the parties agree to define the quality of goods by reference to a sample. Merely showing a sample of something to a buyer does not make the sale a sale by sample. If the sale is a sale by sample, there is an implied condition that the bulk of the goods will correspond with the sample in quality and the buyer will have a reasonable opportunity of comparing the bulk with the sample and the goods will be free of any defect not reasonably apparent in that sample that makes them unmerchantable. It is important to include reference to the sample in the agreement, if the agreement is reduced to writing. Otherwise, the court may apply the parol evidence rule to exclude the inclusion of any additional oral terms (see LG Thorne & Co Pty Ltd v Thomas Borthwick & Sons (A/Asia) Ltd (1955) 56 SR (NSW) 81). ITL Notes (Lectures 22-24) Discharge of Contracts

51

In contract law, discharge means releasing a party to a valid contract from his or her contractual obligations. When the contracting parties are discharged from their contractual obligations, the contract is discharged. When we say that a contract is discharged, we mean that it is terminated (or, to put it more simply, brought to an end). The contract may be terminated even though there may still be obligations that have not been performed. While the parties are released from all future obligations and have no further liability towards each other, they are still liable for those obligations that have accrued prior to termination of the contract. According to Carter, even though a contract is terminated, the contract remains the source of actions in respect of breaches prior to termination, the basis for assessing damages, and also the criterion for deciding what terms can be enforced notwithstanding discharge of the contract. Some examples of clauses that will survive termination include arbitration clauses, exclusion clauses, restraint of trade clauses and liquidated damages clauses (or agreed damages clause). However, if the contract is invalid in the first place, these clauses may have no effect. It is crucial to understand that termination of a contract is distinct from rescission of a contract, even though the terms are sometimes used interchangeably. It has been suggested by Burrows that a source of confusion is that some textbook writers refer to termination for breach as rescission for breach. When a contract is rescinded for, say, misrepresentation or undue influence, the contract is treated as though it never existed. The parties are restored (if not exactly, at least substantially) to their original positions. Damages are not awarded for breach of contract, as there is no contract in the first place. So it is best to avoid using the terms rescission and termination interchangeably. There is also another point worth mentioning at the outset and, that is, termination for breach is distinct from termination for frustration which we will cover at the end of this week. An example of how a contract is terminated for frustration is when the subject matter of the contract is destroyed after the contract has been concluded, but before performance is due. Termination for frustration happens automatically, but it is not the case with termination for breach. When there is a breach of a condition, or a serious breach of an innominate term, the non-defaulting party has a choice whether to terminate the contract or not. There are many ways in which a contract can be terminated and the five main ways are as follows: 52

1. 2. 3. 4. 5.

By By By By By

performance agreement operation of law breach frustration Discharge by Performance

According to Carter & Harland performance refers to the acts which a party must do in order to fulfil (perform) the duties created by the contract. Performance usually involves payment of money, or the supply of goods or services. Generally, when a party has performed a contract according to its terms, that party will be discharged from further performance and would be entitled to the contract price. For example, if A has contracted with B to sell and deliver some goods to B on 1 April in return for $3000, once A has delivered the goods to B on that date and B has accepted them, A is entitled to the contract price of $3000. Whether a party has performed and the contract discharged, depends on the time and order of performance, and the type or nature of performance required. Let us now look at the time and order of performance. The parties to a contract may expressly provide for the time of performance in the contract. For example the contract may state that the delivery date for goods is 1 October 2010. Timely performance is usually a prerequisite for contracts for the sale of land, or contracts for the sale of goods. Where no time for performance is stated, the contract must be performed within a reasonable time. What is a reasonable time depends on the circumstances. An issue that is often raised is whether failure to perform in a timely manner would entitle the non-defaulting party the right to terminate the contract, or claim for damages. The answer to this question depends on whether timely performance is critical to that particular contract. Where timely performance is of the essence, late performance is treated as breach of a condition of the contract. The contract, for which timely performance is crucial, will expressly stipulate that time is of the essence. Courts tend to be very strict in enforcement of the deadline where such a term is included in the contract. For example, in Union Eagle Ltd v Golden Achievement Ltd [1997] 2 All ER 215, the purchaser delayed closing of the sale of a flat in Hong Kong for 5 minutes. The court held that this was too late and the purchaser forfeited the 10% deposit paid earlier. But even if there is no express stipulation, such a term may be implied into the contract. A good example is where the contract is for the sale of perishables. But where time is not of the essence, there is considerable leeway given. 53

Even if the parties did not originally agree to time being of the essence, the non-defaulting party may still make it so by serving a formal notice to complete to the defaulting party. Smilie Pty Ltd v Bruce [1999] NSW ConvR [55-886] involved the sale of real property where time was made of the essence by notice to complete. The solicitor for the purchaser arrived on time but without the funds, which were to follow shortly. Rescission of the contract and forfeiture of the deposit paid were held to be effective. The notice to complete must state that failure to perform within a stated extended time will be regarded as a breach of contract. The additional time given to the defaulting party to perform must be reasonable and the non-defaulting party must be ready, willing and able to perform. Unless a contract states otherwise, there is a presumption against time being of the essence in a sale of goods transaction (s 10 of Sale of Goods Act 1895 (WA)). It is possible to divide the parties obligations under a contract into independent and dependent obligations. Obligations are independent when one party is required to perform, regardless of whether the other party does so. On the other hand, obligations are dependent when one party must perform before the other is required to do so. The obligations in most sale of land and sale of goods contracts are dependent. Take for example a contract for the sale of goods. The buyer is not required to pay for the goods until they are delivered and accepted. The presumption is that obligations are dependent, unless stated otherwise. But even if obligations are dependent, in practice, performance of those obligations usually would usually take place concurrently. Generally, for a party to be discharged by performance, the performance must correspond exactly with the requirements of the contract (also referred to as complete performance). But, a partys ability to perform usually depends on the other party either not preventing performance, or not refusing a tender of performance. The refusal of one party to accept the tender of goods or services by the other party can constitute a breach of contract, giving the other party the right to terminate the contract for breach, as well as claim for damages. In other words, a party can discharge his or her obligations by just being ready, willing and able to perform. When both parties have fully performed their contractual obligations, the contract is said to be discharged by performance. But what if performance falls short of perfection by an insignificant margin? For example, if you deliver goods short of a negligible quantity, does that mean that the contract can be terminated? The 54

maxim de minimis non curat lex (the law does not concern itself with trifles) would normally apply. In Shipton, Anderson & Co v Weil Bros & Co [1912] 1 KB 574, there was an oversupply of 55 pounds of wheat in a contract calling for no more than 4950 tons. Even though the seller was not asking to be paid for the over supplied amount, the purchaser refused to accept delivery. The court held that as the amount oversupplied was insignificant, the buyer had to accept delivery. Anything less than complete performance (and provided the de minimis rule is not applicable) of the contractual obligations is partial performance. Partial performance is a breach of contract. Partial performance of a condition may justify rejection of the performance and termination of further performance. The non-defaulting party is also entitled to claim damages for breach of contract. However, partial performance of a warranty will only entitle the non-defaulting party to a claim for damages. There is no right to terminate the contract. Whether a party, who has partially performed a contract, will succeed in recovering any payment from the non-defaulting party depends on the nature of the performance required and the extent of the performance tendered. As a general rule, when a contract is partially performed, the defaulting party has no entitlement to be paid. In Sumpter v Hedges [1898] 1 QB 673, P contracted to build two houses for D for 565. When the houses were little more than half complete, P ran out of money and abandoned the job. D had little choice but complete the work himself. P sued for payment of the work he had done, but was unsuccessful. It was held that just because D obtained a benefit did not constitute acceptance. The acceptance was not free and willing. P was therefore not entitled to receive any payment from D. However P could recover the value of the loose materials left as D had a choice whether to use those materials or return them. However, the non-defaulting party who has accepted partial performance voluntarily is obliged to pay for the work done, or goods supplied, and not for the whole contract amount (see Steele v Tardiani (1946) 72 CLR 386)). If a breach of a condition is relatively minor (but not trivial so that the de minimis rule applies) so that the plaintiff can get the expected benefit of the contract, the performance is called substantial performance (and not partial performance, even though substantial performance it is a form of partial performance). Although substantial performance is still a breach of a condition, performance cannot be rejected, or further performance of the contract terminated. The effect of substantial performance is to treat the breach of condition as a warranty. There are several criteria that have to be met before the doctrine of substantial performance can be invoked: the defaulting 55

party has not abandoned the job; the defects in question are not substantial; the costs of rectification are minor, the contract does not require perfect performance, and damages are an adequate remedy. The application of the doctrine of substantial performance is best illustrated by looking at the following cases: Hoenig v Isaacs [1952] 2 All ER 176 and Bolton v Mahadeva [1972] 1 WLR 1009. In the Hoenig case, P agreed to redecorate Ds flat for 750 to be paid as the work proceeds, and balance on completion. Only 400 had been paid when work was completed. D refused to pay the balance on the grounds that the work had been poorly done. However, the court held that P had substantially performed and was entitled to the contract price less a deduction of approximately 55 (about 7% of contract price) being the cost of remedial work. In the Bolton case, P had agreed to install a central heating system for 560, but when work was completed D refused to pay on the basis that it did not heat house properly and gave off an offensive fume. It would have cost around 174 (about 35% of contract price) to remedy the defects. The court held that this was not substantial performance and P was not entitled to recover anything. Here the court not only took into account the costs of rectification, but also the nature of the defect. It is also useful to mention here something about divisible contracts and entire contracts. Sometimes, what may appear to be one contract is reality two or more separate contracts. Such a contract is called a called a divisible contract or severable contract. A good example of a divisible contract is a contract for delivery of goods in instalments. Where a contract is a divisible contract, the party performing the contract can recover for work performed for each part (provided there is complete performance of the part), regardless of whether the other parts have been performed. For example, if a contract provides for goods to be delivered in four instalments and only the first two instalments have been made and accepted, the defaulting party can claim payment for the goods delivered, even if it does not proceed to deliver the remaining two instalments. An entire contract, on the other hand, is a contract where complete and exact performance is required. A contract to install a swimming pool which states $40,000 payable on satisfactory completion of construction is an example of an entire contract. Contracts which provide for payment in one lump sum are usually, but not always, entire contracts. For a contract to be treated as an entire contract it must indicate that complete performance is a condition of payment. Whether a contract is an entire contract or a divisible contract is a matter of construction. Where a contract is an entire contract, it is not discharged if performance is defective or incomplete. The defaulting 56

party will not be able to claim payment of the contract price, or insist that the other party perform his or her obligations. For this reason, courts are generally reluctant to treat contracts as entire contracts. Discharge by Agreement A contract can be discharged or varied by the agreement (or consent) of the parties. Such an agreement may be found in the original contract itself, or in a subsequent contract: Where the agreement to discharge is found in a clause in the original contract: It is not unusual for long-term contracts to contain a clause giving the parties an election to terminate the contract by, for example, giving a reasonable period of notice. Sometimes a contract may state that unless a particular event occurs, the contract does not come into existence or the obligation to perform does not arise. Such a term is called a condition precedent. At other times, a contract may state that the occurrence of a particular event may terminate the obligation to perform or provide a right to terminate future performance of the contract. Such a term is called a condition subsequent. If the condition precedent or subsequent was inserted into the contract solely for the benefit of one party, the courts will interpreted that term to give the party the right to elect whether to continue with the contract or not. Suppose X agrees to buys Ys land subject to local council approval for Xs application for land development. If no approval is given, the court will not necessarily hold that the contract is terminated. Y will still be bound by the contract if X decides to proceed to buy the property. Since the condition was put solely for the benefit of X, X has the right to waive it. Where the agreement to discharge is found in a subsequent contract: Even if the parties did not make any express provision for discharge in the original contract, they may still do so in a subsequent contract. Where both parties expressly agree to release each other from future obligations, this is called a bilateral discharge of the contract. However, where only one party releases the other from future obligations, this is called a unilateral discharge of the contract. There are two kinds of unilateral discharge of contract. Where the promise to discharge is supported by consideration, this is called accord and satisfaction. But, where the promise to discharge is not supported by consideration, but made under seal it is called a release. Discharge by Operation of Law 57

There are a number of circumstances under which the law allows an innocent party to terminate a contract for future obligations and they are: Where there is a material alteration of a written contract by one party without the consent of the other party, the innocent party can terminate the contract and be discharged from future obligations (e.g., when a lender increases the loan amount to a borrower without the approval of the guarantor, the contract of guarantee may be set aside). Where one party is bankrupt or insolvent, the trustee in bankruptcy (a person vested with the assets of a bankrupt) can elect to disclaim the contract and be discharged from future obligations. The injured party can claim for damages, but would have to stand in line with other unsecured creditors for a share of the bankrupts estate (which may not amount to very much in most cases). Where a person with an obligation to perform a personal service dies, or becomes incapacitated, either the contract is terminated, or the other party has the option of terminating the contract for future obligations. Discharge by Breach A contract is breached when one party fails to perform his or her contractual obligations at a particular time and/or to the required standard of performance without a lawful excuse. The burden of proof lies with the party alleging breach of contract. Depending on the importance of the term breached, the breach can be classified as a breach of condition, a breach of warranty or breach of an innominate term. When there is a breach of a condition, or a serious breach of an innominate term, the non-defaulting party has to elect whether to affirm the contract and sue for damages, or terminate the contract and sue for damages. If the non-defaulting party choose not to terminate the contract with full knowledge of the facts giving rise to the right to terminate, the non-defaulting party is bound by that decision, regardless of whether it is has obtained legal advice or not. The election to terminate need not be express. It can be inferred from the conduct of the innocent party. It is important that the innocent party make an election within a reasonable time of learning of all the relevant facts giving rise to the right to terminate. However, a breach

58

of warranty only entitles the non-defaulting party to a claim for damages. Section 11(3) of the WA SGA, states that where the buyer has accepted the goods, or where property has passed to the buyer, the breach of any condition can only be treated as a warranty, unless agreed otherwise. Unless permitted by law, any purported termination may give rise to liability for damages. It is possible to sub- divide breaches of contract according to whether they take place before or after the time set for performance. The first category of breaches is called anticipatory breaches. It covers breaches that take place before performance of the obligation is due by either repudiation (i.e., refusal to perform), or by impossibility of performance. The second category of breaches is called actual breaches. It covers breaches that take place when, or after, performance is due. Most courts will not permit the non-defaulting party to terminate a contract unless that party was itself ready, willing and able to perform its obligations at the relevant time. A purchaser of land, for example, cannot terminate for failure of the vendor to complete, if the purchaser did not have sufficient funds and was not able to complete. However, if the vendor intimates to the purchaser that tender of performance is pointless, then the purchaser need not tender performance. In Foran v Wight (19879) 168 CLR 385 the sale of land was supposed to have been completed on 22 June (time was specified as being of the essence in this respect), but on 20 June the sellers solicitors advised the buyers solicitor they would be unable to settle on 22 June as they could not complete registration of the right of way as required under the contract. On 22 June neither party attempted to settle. Two days later, the buyer terminated the contract and claimed the return of the deposit. The seller argued that the termination was invalid as the buyer did not have the funds on the date of settlement. The High Court held that the termination was valid. Because of the vendors implied intimation that it was pointless for the buyer to tender the purchase price, the buyer was not required to show that that they were ready and willing to do so on the settlement date. A very important point to note about anticipatory breach is that the non-defaulting party is entitled to terminate the contract and sue for damages immediately after the breach is accepted. The non-defaulting party does not have to wait for actual breach to take place on the due date of performance. But if the non-defaulting party sues for damages, it is subject to the duty to mitigate its losses. Suppose X enters into a contract with Y on 1 July for the delivery of goods on 1 December. If on 1 August, X advises Y that it would not be able to deliver the goods on 1 December, Y can on that date itself terminate the contract, buy the 59

same goods elsewhere and sue for damages being the difference between the contract price and the actual price paid. There would be no requirement for Y to wait until 1 December for actual breach to take place. In fact, it might be risky for Y to do so as some supervening event may take place rendering the contract discharged by frustration. If the contract is frustrated, Y would not be able to recover any damages from X. An incorrect assertion of a right to terminate a contract for a breach by one party may itself be treated as an anticipatory breach by the other party. So, one has to be very careful about terminating a contract for breach as it could have adverse repercussions if it turns out that the law does not permit termination for breach of that particular term. For example, in Commonwealth of Australia v Amann Aviation Pty Ltd (1991) 174 CLR 64, AA won a government tender for airborne coast watch services around WA. The contract stated that AA should have their new planes fitted out as soon as possible. When AA experienced some delay in getting their new planes completely fitted out, the government gave AA notice to terminate the contract. AA treated the governments notice to terminate as anticipatory breach and terminated the contract and sued for damages. The court held that as time was not of the essence for the start of the service the government had breached the contract. It was therefore liable to AA for damages. Any election to terminate a contract must be by clear and unequivocal words or conduct. However, in certain circumstances, even inaction can be clear and unequivocal conduct. Vitol SA v Norelf (the Santa Clara) [1996] 3 All ER 193 illustrates this point. In that case, Vitol agreed to buy a cargo of propane under a contract that required the carrying vessel to leave port by a designated date. The seller, Norelf, was only two days late in loading the vessel when Vitol sent a telex rejecting the cargo and repudiating the contract. It claimed that the vessel was unlikely to be able to leave the port on time. (But, the vessel eventually did leave on time.) Norelf did not respond to Vitols telex, or attempt to deliver the goods. Norelf resold the propane to another party and sued Vitol for damages, amounting to the difference between the contract price and the resale price. The trial court held that Norelfs refusal to deliver the goods amounted to an implied election to treat Vitols conduct as anticipatory breach. It awarded Norelf damages, but this decision was reversed on appeal. Norelf then appealed to the House of Lords which allowed the appeal. Discharge by Frustration Performance of a contract may be affected by events that take place after the contract is made but before performance is due. These post60

contract events can convert what would otherwise be a profitable contract into an unprofitable one, or make it impossible for one of the parties to perform. For example, if X enters into a contract to manufacture and sell goods to Y in another country, its ability to perform the contract may be affected if, for example, its factory is destroyed by a fire, or if a law is passed prohibiting either the exportation or importation of those goods. The question that arises is whether the parties must still perform their obligations. The common law is generally reluctant to relieve a contracting party of its obligations because of some impediment to performance. Until the seventeen century, the doctrine of absolute liability applied. For example, in Paradine v Jane (1647) 82 ER 897, J leased land from P for an agreed sum. During the lease period, war broke out and J was deprived of its use by the invading army. He stopped paying rent and P sued. It was held that J had to pay the rent, regardless of what had happened. This was justified on the basis that the parties could, had they wanted to, included a clause to deal with this eventuality. This absolute obligation doctrine was harsh and unfair and had the potential to cause injustice. By the nineteenth century, the courts began to take a less strict approach and this was illustrated in Taylor v Caldwell (1863) 122 ER 309. There C hired a concert hall to T, but before Ts performance could take place, the hall was burnt down. T claimed damages from C, the owner, for not fulfilling his part of the bargain. The court held that as the hall had been destroyed by fire without fault on either side both parties were excused from performance. Cases like Taylor v Caldwell eventually led to the development of the doctrine of frustration. Frustration has been defined in the following terms by Lord Radcliffe in Davis Contractors Ltd v Fareham Urban District Council [1956] AC 696 at 729 : Frustration occurs whenever the law recognises that without default of either party a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract. Non haec in foedera veni. It was not this that I promised to do. Frustration deals with the situation where performance of the contract becomes radically different through no fault of either party. The supervening event (i.e. post-contract event) that brings about the radical change is called the frustrating event. It is important to note that the supervening event does not need to render performance 61

impossible. All that is required is that the frustrating event makes the possible means of performing the event radically different from what both parties had in mind when they entered the contract so that it would be unjust to hold the parties to their bargain. As Lord Radcliffe said in Davis Contractors Ltd: [I]t is not hardship or inconvenience or material loss itself which calls the principle of frustration into play. There must be as well such a change in the significance of the obligation that the thing undertaken would, if performed, be a thing different from that contracted for. Where the concept of frustration applies the contract is automatically terminated and the parties are discharged from their future obligations. There is no need for anyone to elect to affirm or terminate the contract. The contract is frustrated regardless whether the parties are aware that a frustrating event had occurred. There are two important provisos to the doctrine of frustration. First, neither party must be at fault. Secondly, the event must not have been anticipated or provided for in the contract. In other words the parties must not have included any provision in the contract to deal with the frustrating event. Most commercial contracts will expressly state the consequences of certain events taking place. (Clauses which perform this task are called force majeure clauses, but they are rarely used in non-commercial contracts.) If so, the parties rights are regulated by express terms and not by operation of the doctrine of frustration. The test for deciding whether a contract is frustrated is objective. If it can be inferred that the parties have assumed the risk of changed conditions, then they remain bound by the contract even if performance is impossible. But, if it cannot be inferred that they assumed the risk, then the contract is frustrated. Just because it is more expensive or onerous for one party to perform the contract does not justify treating the contract as frustrated. For example, in Tsakiroglou & Co Ltd v Noblee & Thorl GmbH [1962] AC 93, T sold some goods to N and agreed to deliver them by sea. Although no route was specified the shortest route was through the Suez Canal. An outbreak of war in the region led to a closure of the canal. Ships had to take a longer route which added considerably to the cost of performing the contract. Despite this, the court held that the contract was not frustrated. Since neither party must be at fault, if frustration is self-induced, then the contract is not regarded as terminated by frustration. In Maritime National Fish v Ocean Trawlers (1935) AC 524, the defendants operated five fishing trawlers, one of which was chartered from the plaintiffs. Since the vessels were fitted with otter trawls they required licences. However the Minister in charge only granted them three 62

licences. The defendants applied the licences to three of their own vessels and returned the chartered vessel to the plaintiffs. When sued by the plaintiffs for rent, the defendants argued that the contract was frustrated. The court held that the contract was not frustrated as the defendants had consciously elected to allocate the licences to their own vessels and not to the chartered vessel. The frustration stemmed from the defendants voluntary acts and was therefore self-induced. The effect of frustration under common law is that future obligations under the contract are discharged and the resulting losses must lie where they fall. One or both parties may suffer losses, but there is no way of adjusting the losses so that they are evenly distributed. This is unfair, since both parties are equally free from blame. Some jurisdictions have introduced legislation to alleviate the harshness of this rule, but Western Australia continues to follow the common law position. Under common law, any payments made are not refundable unless there is a total failure of consideration. Obligations accrued to the frustrating event must be fulfilled. For example, if goods or services were delivered before the date of frustration, they must be paid for. Partial performance of the contract prior to frustration does not give rise to a restitutionary claim in respect of that performance. In Fibrosa Spolka Akcyjina v Fairbairn Lawson Combe Barbour Ltd [1943] AC 32, a British company entered into a contract with a Polish company to manufacture and install a number of textile machineries in Gdynia. The Polish company paid a large deposit to the British company. But before any shipment could be made, war broke out. Shipment became impossible after Germany took control of Poland as it became illegal to trade with the enemy. The contract was frustrated and the court allowed the Polish company to recover the deposit. Even though the British company had expended time and effort building the machines, none of the benefit had flowed to the Polish company. In other words, as there was a total failure of consideration, the deposit could be recovered Below are some of circumstances under which a contract has been treated as frustrated: 1. Destruction of subject matter Taylor v Caldwell (discussed above). 2. Illegality Esposito v Bowden (1857) 119 ER 1430 (e.g., if war breaks out it would be illegal to perform some contracts). 3. Frustration of purpose Krell v Henry [1903] 2 KB 740: H hired a flat from K for 2 days and paid a deposit. H wanted the flat to view King Edward VIIs coronation procession. When King became ill, the coronation was postponed. H refused to pay the 63

agreed balance of the rent and K sued. K failed as contract was discharged for frustration of purpose. The very foundation of the contract had disappeared. 4. Changed circumstances Codelfa Construction Pty Ltd v State Railway Authority of NSW (1982) 149 CLR 337. We are talking here of impossibility in a commercial sense. There the contractor had agreed to excavate tunnels for the Eastern Suburbs Railway. Its intention, which was made known to the Rail Authority, was to work 3 shifts, 7 days a week. The excavation work generated a lot of noise and vibration and 3 months after work started the local residents obtained an injunction (based on the tort of nuisance) which made it impossible for the contractor to carry out work on the basis contemplated. This came as a surprise to both parties as they thought that the Rail Authority would be immune from court injunctions. The contractor was forced to work reduced hours causing extra costs and time. Even though the Rail Authority extended the deadline by one year, Codelfa wanted extra compensation for extra costs incurred to work past the original deadline. The court held that the performance required of Codelfa was radically different from that contemplated at the time the contract was entered into and therefore the contract had been frustrated. One of the risks of keeping a contract on foot after there is an anticipatory breach is that an intervening event may frustrate the contract and the non-defaulting party may lose the right to claim damages. ITL Notes (Lectures 25-27) REMEDIES FOR BREACH OF CONTRACT Introduction to Remedies A plaintiff who establishes that the defendant has breached the contract is entitled to ask the court for a remedy. The main remedies for a breach of contract are: The award of common law damages; Termination of performance; The equitable remedies of specific performance and injunction; A claim in restitution (under some circumstances). Statutory remedies (e.g., under the Trade Practices Act/Australian Consumer Law) Agreed remedy (e.g. agreed damages clause)

64

It is important to note that a legal or common law remedy is entitled to be exercised as of right (i.e., court generally not concerned with whether plaintiff was morally correct, provided the innocent party acted promptly), whereas an equitable remedy is discretionary in nature (court takes into account a number of factors like morality of parties, hardship to parties, etc and may refuse the remedy if the innocent party is not deserving enough). There are also a number of extra-curial remedies (remedies outside of the courts) that an innocent party can rely upon. Some examples of such remedies are: Settlement of the dispute on reasonable commercial basis (accord and satisfaction); Mediation with an independent person to try and reach a settlement; Arbitration involving an independent umpire who settles the dispute by making a binding award. Self-help remedies like recaption (recovery of property through peaceful means) or assertion of a common law lien (retaining possession of property belonging to the other party as security). According to Carter & Harland, contractual remedies may also be divided into remedies awarded in specie and remedies awarded in substitution. A person asking for a remedy in specie gets whatever he or she has asked for. On the other hand, a person asking for a remedy in substitution gets a sum of money in substitution of performance of the contract. Examples of a remedy in specie are recovery of a debt (or liquidated sum), specific performance, and injunction. An award of damages is an example of a remedy awarded in substitution. It is open to parties to agree in advance to qualify, restrict or exclude payment of damages (through exemption clauses). It is also open to them to quantify in advance the amount of damages payable in breach (through agreed damages or liquidated damages clauses). It is not uncommon for a plaintiff to seek more than one remedy, even if the remedies are inconsistent with each other, and wait to see which remedy the court will award. The plaintiff only needs to make an election when judgment is awarded and the plaintiff wishes to seek an order from the court. For example, if X makes alternative claims for damages and specific performance based on termination, a decision only needs to be made when the court decides in favour of both claims. The purpose of an election is to ensure that the plaintiff does not recover twice in respect of a single loss and that the remedies are mutually compatible.

65

Damages for Beach of Contract General Principles It is important to recognise that when a person breaches a contract, that person is not doing anything illegal (at worst, it can be seen as immoral). No law has been broken and the defaulting party is not a criminal. Sometimes a breach of contract may be due to circumstances beyond the persons control. At other times, the breach may be a logical and proper decision. If the breach is serious (e.g., breach of a condition, or a serious breach of an innominate term) the innocent party may elect to treat the contract as discharged and also sue for damages. But if the failure to perform is a breach of warranty, or a minor breach of an innominate term, the innocent party may only sue for damages. The contract remains on foot and both parties must continue to perform their respective obligations. So it is always possible to claim damages when a contract has been breached; regardless of how serious the breach An award of damages would compensate most breaches of contract and is therefore the most common remedy. Damages are often the only remedy that the innocent party can claim. The object of damages is to compensate the innocent party, and not to punish the party that defaulted. Although the object of damages in contract and tort are similar, they differ in one important respect. The award of damages in contract law is to place the innocent party, in so far as money can, in the position he or she would have been had the contract been performed (Tabcorp Holdings Ltd v Bowen Investments Pty Ltd [2009] HCA 8. However, the award of damages in tort is to place the injured party, in so far as money can, in the position he or she would have occupied had the tort not taken place. Sometimes, it may be more advantageous to claim damages for breach of contract than under the law of tort because it is possible to claim loss of profits under contract law but not under the law of tort (subject to some exceptions). An innocent party is normally assured of recovering damages for losses actually suffered. So if the losses suffered are proven, the innocent party will be able to claim substantial damages. Sometimes however the innocent party may not have suffered any actual losses even though the contract has been breached. In such a case, the innocent party will only be able to recover nominal damages, which is a token sum to acknowledge that there has been a breach. For example, in Luna Park (NSW) Ltd v Tramways Advertising Pty Ltd (1938) 61 CLR 286, even though the plaintiffs were able prove a breach of a contract, there was no evidence of actual loss or damage caused by the breach. The court therefore awarded nominal damages (a sum of one shilling) against the defendants. 66

Exemplary damages are those damages awarded to punish or deter the wrongdoer. Courts will rarely award exemplary damages for a breach of contract. This was illustrated in Ruxley Electronics Ltd v Forsyth [1966] 1 AC 344. There, the appellants agreed to build a pool for the respondent but constructed it nine inches less than the agreed depth. Although the pool was still safe for swimming and diving, the respondent sued for the costs of rebuilding the pool. The costs of rebuilding the pool in accordance with its correct specifications would have been out of proportion to the benefit that would have been gained by the respondent. Awarding the amount asked would have been tantamount to the court punishing the appellants. As a consequence, the court allowed a smaller amount in damages for the loss of amenity (loss of the pleasure of having a pool of the correct depth). Damages for breach of contract are normally unliquidated, i.e., they have not been agreed beforehand. It is therefore left to the court to decide the amount that should be paid when there is a breach of contract. Generally, no one is entitled to windfall damages. So no matter how many causes of action, or how many defendants are involved, the total damages that can be recovered are restricted to the losses actually suffered by the claimant. However, if the parties have agreed on the damages beforehand, then it is possible that the damages recovered may be more (or sometimes less) than the actual losses suffered. It is also important to note that when awarding damages only the net loss actually suffered is recoverable. So for example, the court will take into account the value of any asset in the hands of the innocent party, the expenditure necessary to perform the contract and any saved costs. Generally damages are awarded at the date of breach, but sometimes the courts can depart from this rule. When courts are assessing damages they will also take into account the market value of the subject matter at the date of breach and whether the loss is capable of mitigation. There are two main bases of assessment for damages: expectation loss and reliance loss. Expectation damages (sometimes also called damages for lost profits) are damages calculated to reflect expectation loss (also called loss of bargain). They are meant to compensate the non-defaulting party for the lost profits or value reasonably expected from the contract in question had it been properly performed. Sometimes however it is not possible to quantify the expectation loss. The non-defaulting party can claim compensation for expenses incurred in reliance on the contract. This type of damages is called reliance damages. The object of reliance damages is to put the nondefaulting party in the position that he or she would have been before 67

entry into the contract. In this sense, reliance damages are similar to damages for tort. Reliance damages were claimed in McRae v Commonwealth Disposals Commission (1951) 84 CLR 377 and Commonwealth v Amman Aviation Pty Ltd (1991) 174 CLR 64. In McRae damages were claimed for wasted expenditure as it was difficult to place a value on what the defendants purported to sell, whereas in Amman Aviation the plaintiffs were unable to prove that they would make a profit on the contract. The method of assessing damages is a matter ultimately for the court. Limitations on Award of Damages A defendant should not be held responsible for every loss suffered and that is why the law has imposed a number of limitations on the award of damages. These limitations are: Causation Remoteness Mitigation. Sometimes the parties may themselves agree beforehand on the amount of damages that should be recoverable on breach. We call these damages liquidated damages or agreed damages. Where a contract contains a liquidated or agreed damages clause, the nondefaulting party cannot claim more than what was agreed. The agreed amount may be more or less than the actual loss suffered. We will now look at each of the above three limitations in greater detail. CAUSATION: The first limitation on the award of damages is that damages must have been caused by the breach of contract. There must be a causal connection between the defendants breach and the plaintiffs loss. The traditional test for causation is the but for test. The courts would ask whether the loss would have been suffered, but for the breach of contract. If the loss would have been suffered anyway, no more than nominal damages would be recoverable. Reg Glass Pty Ltd v Rivers Locking System Pty Ltd (1968) 120 CLR 516 involved a contract to supply and install a burglar-proof door at the plaintiffs premises to provide security from burglary. Despite installation of the door, thieves were able to break into the shop and steal stock belonging to the plaintiff. The court held that the loss suffered by the plaintiff resulted from the breach of contract, as the door when locked was not reasonably fit to keep burglars out. As a result, the plaintiff was entitled to damages for breach of contract. In most cases, it is easy to establish the causal link between the breach and the loss. The difficulty arises when there are multiple causes, or the party claiming damages has in some way contributed to

68

the loss. Where there is more than one cause for the loss, it is generally sufficient that the breach of contract was a cause of the loss. But if the loss is the result of some other cause, damages will not be awarded notwithstanding a breach of contract. For example a subsequent event which contributes to the loss may sometimes break the chain of causation. We call this intervening event novus actus interveniens. The break in the chain of causation was illustrated in Alexander v Cambridge Credit Corp Ltd (1989) 9 NSWLR 310. There, the auditors, in breach of their contractual duty to the company, failed to qualify their report in relation to provisions for doubtful debts. As a result, the value of the companys assets was overstated. The company continued to trade, but a couple of years later got into financial difficulties and went into receivership. However it was not the breach of contract but the events subsequent to the breach (namely, some bad business decisions and external developments adverse to the companys business) that led to the collapse of the company. So, despite the breach of contract, the auditors were not liable for damages. In the past, if a plaintiff in an action for breach of contract was partly to blame for his or her loss, damages were not reduced to reflect the plaintiffs fault. This was in contrast to the position in tort. As often the same set of facts can give rise to concurrent liability in contract and tort, the extent of damages awarded depends on whether the defendant is sued in tort or contract. This less than satisfactory position has been criticized and legislation in the various States and Territories have now been amended to allow damages for breach of contract to be reduced where the plaintiff is guilty of contributory negligence and the breach is concurrent and coextensive with a duty of care in tort. For WA, see Law Reform (Contributory Negligence and Tortfeasors' Contribution) Act 1947 (WA), ss 3A and 4. REMOTENESS: The second limitation on the award of damages is that damages must not be too remote. In Hadley v Baxendale (1854) 156 ER 145, Alderson B, at 115 explained the test for remoteness in the following terms: Where two parties have made a contract which one of them have broken, damages for breach of contract should be such as may fairly and reasonably be considered either arising naturally, that is, according to the usual course of things from such breach of contract itself, or such as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it. It is obvious from the above that Hadley v Baxendale test has two limbs or branches. Under the first limb, the plaintiff can recover losses 69

flowing naturally from the breach according to the normal course of events (we call this direct losses or immediate losses). Under the second limb, the defendant is liable for losses though not closely linked to the breach must have been in the contemplation of both parties as a probable result of the breach (we call this indirect losses or consequential losses). In Hadley v Baxendale, the owners of a flour mill employed a carrier to carry a broken crankshaft to a particular place so that it could be used as a pattern for a replacement crankshaft. The carrier promised it will be there by the next day, but was delayed by five days. As a result the mill was longer out of commission than it should have been and profits which would otherwise have accrued were lost. The mill owners sued for loss of profit, but failed. The reason why it failed was because the carrier was not told that if it did not reach the destination on time, the mill would be out of commission. The loss of profits was something that the carrier did not contemplate as the carrier was unaware that the mill did not have a spare crankshaft. Most mills at that time would have had a spare crankshaft and would therefore have been kept running. So the mill owners failed on both limbs one and two. The owners failed on limb one because a reasonable person in the position of the carrier would have expected that the mill would have a spare crankshaft and the losses were not those arising naturally from the breach. They also failed on limb two as they could not prove that the carrier had special knowledge, i.e., knowledge that the mill did not have a spare crankshaft and so would be shut down pending manufacture of a new one. The losses were therefore not in the contemplation of both parties as a probable result of the breach. The test in Hadley v Baxendale was applied in Victoria Laundry (Windsor) Ltd v Newman Industries Ltd [1949]2 KB 528. There, a laundry contracted for the purchase of a new boiler. The old boiler had not broken down, but the laundry wanted a new boiler to expand its business. The manufacturer of the new boiler was aware of the laundrys plans and also knew that the laundry wanted the new boiler urgently. The contract called for a 5 June delivery but delivery was delayed by some 20 weeks. As a result of the delay, the laundry was unable to expand its business (including fulfillment of a number of highly lucrative contracts with the Ministry of Supply). The laundry sued the manufacturer for damages. The court held that the laundry could recover damages for the 20 weeks of lost profits from the usual type of business that it could have taken on had the extra boiler had been delivered on schedule. However, in the absence of special knowledge on the manufacturers part, the laundry could not recover the additional losses that the laundry suffered by its inability to accept the highly lucrative contracts with the government department. As the 70

manufacturer did not have that special knowledge it was not liable for the additional losses. The following propositions can be derived from Lord Asquiths judgment (at 539) in Victoria Laundry (Windsor) Ltd v Newman Industries Ltd: Damages are only recoverable for such part of the loss actually resulting as was at the time of the contract reasonably foreseeable as liable to result from the breach. What loss was reasonably foreseeable at the time of the contract depends on the knowledge possessed by the parties, or at the very least, by the party in breach of contract. Knowledge possessed is of two kinds: The first kind refers to imputed knowledge. The defendant is presumed to have known that the loss would result. Even if the defendant did not actually know that the loss was likely to result, he or she ought to have known. [Damages for this kind of loss are called general damages.] The second kind refers to knowledge which the defendant actually possesses of special circumstances of such a kind that breach in those circumstances would cause more loss. What this means is that the plaintiff has to prove that, not only did the defendant actually know of the special facts, but also would have foreseen that the loss was likely to result from the breach. [Damages under the second limb are called special damages or consequential damages.] An issue that has attracted significant debate is the degree of likelihood of loss resulting from a breach of contract. In the Victoria Laundry case, Lord Asquith used the phrase reasonably foreseeable as liable to result. In C Czarnikow Ltd v Koufos (or the Heron II) [1969] 1 AC 350, the House of Lords considered this an inappropriate test for contract damages as it was liable to be misunderstood with the test for damages in tort. Lord Reid at 389 said that the term foreseeable was too wide because a great many extremely unlikely results are reasonably foreseeable. He also said that the phrase liable to result was too vague. The reason why tort imposes a wider liability than contract is because it is not possible in tort for an injured party to protect himself or herself against an unusual risk. But in contract, if one party wants to be protected against such a risk, he or she can bring that risk to the other partys attention before the contract is made. The House of Lords came up with various alternatives, such as would very likely, liable to result and serious possibility or real danger.

71

Notwithstanding whether the differences in formulation in both cases are real or illusory, it is generally accepted that the test for contract damages is much narrower than the test for damages in tort. According to Paterson, Robertson and Duke, what the plaintiff must establish is that there must be high but not a near certainty or oddson probability of loss. In other words, there is no requirement that the probability of loss is more likely than not to happen, but the probability of loss should at least be substantial. Another way of looking at this is that while there is no need for the probability to be more than 50%, it should at least be somewhere between 30-50%. If say the likelihood is less than five percent, then it is likely that the loss is too remote. Another issue relating to remoteness is the extent of damages that has to be contemplated. It is one thing to require a reasonable person in the position of the defendant to contemplate the likelihood of a particular type of loss occurring, it is another thing to require that same person to contemplate the precise extent of the loss. The general rule is that there is no requirement for the defendant to contemplate the extent of the loss. Once a plaintiff has proven that the defendant would have contemplated with a substantial degree of possibility that the type of loss would occur, it is irrelevant that the extent of loss was somewhat greater than anticipated. In H Parsons (Livestock) Ltd v Uttley Ingham & Co [1978] QB 791, D had contracted with P to supply and install a hopper to store nuts for pigs to feed on. D knew that the hopper had to be ventilated, but failed to do so. As a result, the nuts became mouldy and the pigs died of E coli. When P sued for the value of the dead pigs, D argued that it was not reasonable to contemplate that the pigs would die of E. coli infection. D was held liable for damages as the court held that D would have contemplated that if the nuts became mouldy, the pigs would become ill from eating the nuts. There was no necessity to prove that there was a substantial possibility that the pigs would be afflicted with that particular infection, i.e., E coli. MITIGATION: The third limitation on the award of damages is that the plaintiff will not be able to claim for loss that arises from his or her failure to take reasonable steps to mitigate the loss. All that is required of the plaintiff is that the he or she acts reasonably. Under the principle of mitigation, there is no obligation on the part of the plaintiff to take positive steps to reduce the loss. Any action, or lack of action, on the part of the innocent party, however, must be reasonable. For example, if a buyer refuses to take delivery of goods, it is expected the seller will try to sell the goods to another party. If a person is wrongfully dismissed, it would be unreasonable if the person did not accept a similar appointment with the same benefits and status in another company. The idea behind mitigation is to avoid waste of resources. 72

However, the plaintiff is not obliged to take risks or spend money that he or she cannot afford to mitigate the loss. In Burns v MAN Automobile (Aus) Pty Ltd, M supplied a defective prime mover to B. The defects in the vehicle only became apparent after a year. B persisted in using the vehicle because he could not afford to repair it. The problems with the vehicle disrupted Bs business. As a result B accumulated substantial operating losses. B sued for damages to compensate for the lost profits over the four years that the vehicle was expected to have a useful life. In considering Bs duty to mitigate, the court held that a plaintiffs duty to mitigate his [or her] damages does not require him [or her] to do what is unreasonable and it would seem unjust to prevent a plaintiff from recovering in full damages caused by the breach of contract simply because he [or she] lacked the means to avert the consequences of the breach. If a plaintiff has acted reasonably in the circumstances, the fact that the loss is increased as a result of his or her actions does not affect the plaintiffs ability to recover in full. This was illustrated in Esso Petroleum Ltd v Mardon [1976] 1 QB 801. The case revolved around a negligent misrepresentation made by Esso to a certain service station about the stations estimated monthly throughput (turnover). The misrepresentation was also held to be a promissory and therefore a term of the service station lease contract. Rather than immediately rescinding or terminating the contract because of the misrepresentation, the lessee kept running the business and incurred considerable additional losses. Those additional losses were recoverable by the lessee even though they could have been avoided had the lease been rescinded or terminated immediately. The court held that the plaintiffs attempts to make the business profitable were a reasonable, though ultimately unsuccessful, course of action for the lessee. So what this mean is that reasonable actions taken by a plaintiff to mitigate loss are at the risk of the defendant. It is important to recognise that the so-called duty to mitigate arises only on actual breach or when there is acceptance of an anticipatory breach. The plaintiff must also be in a position to mitigate. For example, if there is no ready market for goods delivered but not accepted, the plaintiff cannot mitigate. If the mitigating action results in no loss, or in a gain, no damages can be obtained. So for example, if the buyer delivers goods which are not accepted by the buyer and the seller manages to resll the goods to another buyer at a profit, no damages can be claimed. In considering damages, a court may also allow damages to compensate for the extra time and effort expended by the plaintiff. In Cut Price Deli Pty Ltd v Jacques 49 FCR 397, the franchisee was induced to enter into a franchise agreement based on 73

certain predicted trading figures which turned out to be incorrect. The franchisee had to work extra hours to mitigate the loss caused by the misinformation and was awarded compensation for working the extra hours. Special Categories of Damage There are certain types of injury or loss which because of their very nature presents problems when awarding damages for breach of contract. The first type of injury is injured feelings or other mental distress. This is a very special category of injury because awarding a plaintiff breach of contract damages for injured feelings, or for loss of enjoyment, or for mental distress comes very close to punishing the defendant. As mentioned earlier, the purpose of civil damages is to compensate the plaintiff and not to punish the defendant and the award of exemplary damages (which is damages to punish the defendant) are exceeding rare. Until the 1970s, the common law would not award any significant breach of contract damages for mental distress unless the distress resulted from a physical injury to the plaintiff caused by the defendants breach of contract. Damages for any other type of mental distress were viewed as exemplary damages and considered improper in civil actions for breach of contract. This principle was applied in cases like Addis v Gramophone Co Ltd [1909] 488. There, A was employed by G to manage a business in India on a salary and commission basis. G wrongfully dismissed A without giving him the required six months notice. The House of Lords held that although A was entitled to recover damages for the salary and commission that he would have earned during the required period of notice, his employers were not to be penalized in damages for the oppressive way that they dismissed him. In other words, A was not entitled to any exemplary damages. However, the common law took a major step forward in this area during the 1970s. In Jarvis v Swan Tours Ltd [1972] 3 WLR 954 the court held that where the purpose of the contract was to provide enjoyment, or peace of mind, or to prevent distress, damages could be awarded for injured feelings or other mental distress suffered as a result of a breach of contract. In Jarvis, J, a solicitor, booked with S Tours a 15-day Christmas winter sports holiday at a hotel in Zurich. He did so on the basis of S Tours brochure which described the holiday as a house party, and promised a variety of entertainment including excellent skiing, a yodeller evening, a bar and afternoon tea and cakes. The holiday turned out to be a big disappointment due to the absence of proper skiing facilities and other promised services. For example, in the second week J was the only person at the hotel. P was awarded 125 damages as the court held that the rule against the

74

award of damages for injured feelings or disappointment did not apply where the contract was one for enjoyment or entertainment. Another similar case in which the court was prepared to award damages for mental distress without any associated physical injury is Jackson v Horizon Holidays [1975] 1 WLR 1468. There, the plaintiff was allowed damages not only for his own disappointment in a ruined holiday but also the disappointment of his wife and children. This case not only awarded damages for mental distress but also got around the privity of contract rule (as neither his wife nor children had any contract with the defendant). This loophole was adopted by the Australian High Court in Baltic Shipping Company v Dillon (1993) 111 ALR 289. There a cruise ship sunk on the tenth day of a 14-day cruise. Dillon, who booked and paid for the cruise, suffered disappointment and distress when her holiday acme to an end prematurely. She sued Baltic Shipping and was awarded damages, as Baltic Shipping had agreed to provide pleasure, relaxation, and entertainment, but breached its contractual obligation to do so. The only other special category of injury or loss that we will cover in this lecture is loss of chance or opportunity to earn or win money. Even though it is not possible to say for certain what money would have been earned had the chance or opportunity not been taken away, damages can still be awarded. A case that deals with this category of loss is Howe v Teefy (1927) 27 SR (NSW) 301. There the defendant racehorse owner breached a contract to lease a racehorse to the plaintiff. The plaintiff was able to recover damages for a proportion of the prize money that he could have won and the winnings that he could have made betting on that racehorse. This was because he was able to convince the court that there was a more than 50 per cent probability that the horse would have won in some races. An English case dealing with a similar type of loss is Chaplin v Hicks [1911] 2 KB 786. There, H advertised a beauty competition in newspaper and asked readers to select 50 ladies, whom he would interview for 12 acting roles. C was one of them selected but was not given an opportunity to attend the interview. She sued H and H argued that she should only be entitled to nominal damages as she had less than one in four chance of being selected. The court, however, awarded her 100 damages. Although it was difficult to assess the possibility of selection, the possibility still had to be considered. Assessment of Damages As mentioned earlier, the date of assessment of damages is usually the date of breach. What this means is that the loss and market values are calculated at this date. The object of damages is to compensate the innocent party for actual loss suffered as a result of the breach of 75

contract. The general measure of loss recoverable is the amount of money to put the innocent party in the position that he or she would be in had the contract been performed. The plaintiff has a duty to mitigate damages (i.e. take reasonable steps to minimize the damages after breach has occurred) and if the plaintiff fails to do so, he or she faces a risk. The court will assess damages at the lesser of damages calculated at the date of the lawsuit (or the date of the delayed resale) and damages calculated at the date the plaintiff first had a reasonable opportunity to mitigate. The assessment of damages is best illustrated with an example involving the sale of goods. Assume the following facts: A buyer agrees to buy goods from a seller for $1,300 per ton. The contract is entered on 1 January and the date of performance (i.e. date for delivery of goods) is 1 October. The only damages claimed is the price of goods (we will not concern ourselves with any consequential losses). The goods have a ready market for resale (i.e., they can be sold almost immediately there is default). Scenario 1 (based on above assumed facts): If the buyer refuses to take delivery of the goods on the date of performance (i.e., 1 October) and if the seller mitigates by immediately selling the goods to another buyer for $1,000 per ton, the seller will receive $300 in damages ($1,300 - $1,000). If the seller is able to sell the goods to another buyer for $1,400 (instead of $1,000), then the seller will not be able to claim any damages as the seller makes a profit of $100 ($1,400 - $1,300). But, if the seller delays in selling the goods to another buyer until sometime later (for e.g. on date of lawsuit) when the price falls to $1,100, no damages will be awarded. This is the risk the seller takes for failing to mitigate when it can reasonably do so. Scenario 2 (based on above assumed facts): The buyer on 1 April (i.e., prior to the date of performance on 1 October) repudiates the contract (i.e., indicates an unwillingness to perform the contract). If the seller elects to accept the repudiation as an anticipatory breach and sells the goods for $600 per ton, the seller can claim $700 damages ($1,300 $600). Suppose the seller elects to treat the contract on foot and waits till the buyer defaults on 1 October. If the market price on that date is $400 per ton, the seller can claim damages of $900 ($1,300 400). Here the seller is better waiting for actual breach than terminating the contract for anticipatory breach. There is however a danger of keeping the contract on foot. If the contract 76

is frustrated on 1 September (a month before date for performance) no damages will be awarded as losses lie where they fall. Agreed (Liquidated) Damages Clause: Damages are normally unliquidated and what this means is that they have not been agreed beforehand. Parties to a contract are however free to agree on what damages are recoverable in the event of a breach. Such damages are called liquidated damages. With liquidated damages, the plaintiff gets exactly what he or she asked for, and issues such as the actual loss suffered will not come into the picture. The function of a liquidated damages clause is therefore to overcome the need for proof of loss in a claim for damages for breach of contract. A liquidated damages clause must be a genuine pre-estimate of actual loss and, if it is not, the court may treat it as a penalty clause. Deciding whether an agreed damages clause is a penalty clause or a liquidated damages clause is dependant on the circumstances existing at the time the contract is made, rather than at the time the contract is breached. How the parties describe an agreed damages clause is only presumptive and not conclusive. For example, in Clydesbank Engineering and Shipbuilding Co Ltd v Don Jose Ramos Yzquierdo y Castaneda [1905] AC 6, despite describing the agreed damages clause for late delivery as a penalty, the House of Lords held that it was a liquidated damages clause. If an agreed damages clause is out of proportion to the damage likely to be suffered as a result of breach (AMEV-UDC Finance Ltd v Austin (1986) 162 CLR 170 at 190), or, if it is extravagant and unconscionable in amount in comparison with the greatest loss that might conceivably be proved to have followed from the breach (Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd [1915] AC 79 at 87), then it would very likely be treated as a penalty. Where a liquidated damages clause is treated as a penalty clause, the court will strike it down and make its own determination as to what the damages should be. It will be then necessary for the party seeking damages to produce evidence of loss, otherwise the damages awarded will be nominal. The Dunlop Pneumatic Tyre is an important case for the purposes of an agreed damages clause as it summarises the guidelines for distinguishing a valid liquidated damages clause from an unenforceable penalty clause: What the parties call a clause is not conclusive. The date for determining whether the clause is a reasonable preestimate of damages is judged at the date the contract was entered into, and not the date of breach. 77

A clause will be construed as a penalty clause if it does not discriminate between a major breach and a minor breach. Difficulty in making a pre-estimate of damages is not a bar to a valid agreed damages clause, so long as it is a bona fide and reasonable attempt to pre-estimate damages.

Recovery of Debt Under certain circumstances a party to a contract may claim from the other party money owing under a contract through an action for debt (also called an action for a liquidated sum). Where, for example, it is agreed that goods will be sold for a certain price the seller can recover the agreed price if the goods have been delivered and accepted by the buyer. Such a claim is not a claim for damages as the claimant need not prove loss. If the seller suffers loss over and above the price of the goods, he or she may recover both the price of the goods as well as damages. It is important to note that the rules relating to remoteness, mitigation and penalty clause do not apply to a claim for a debt. According to Paterson, Robertson and Duke, two requirements must be satisfied for recovery of a debt. First the contract must impose an obligation to pay a certain sum of money. Secondly, the right to payment of the sum must have accrued (in other words, the sum of money must have been earned by performance of the obligation). Of course whether performance is sufficient for the purposes of claiming payment depends on whether the contract was completely performed or partly performed. Other Remedies Termination of Performance Although this was discussed earlier it is worthwhile reiterating some principles of termination. The remedy of terminating performance can consist either of rejecting performance for faulty performance (e.g., refusing to accept goods delivered because they fail to conform to specifications), or putting a stop to further performance (e.g., by refusing to allow any outstanding obligations from being performed). The plaintiff seeking to terminate performance of a contract must prove either breach of a condition, or serious breach of an innominate term of the contract (see, Associated Newspaper v Bancks (1951) 83 CLR 322; Cehave NV v Bremer Handelsgesellschaft mbH [1976] QB 44). If the plaintiff wishes to terminate a contract for anticipatory breach, it is important that the he or she elects to terminate within a reasonable time. Once done, the decision is final. Failure to terminate within a reasonable time may be treated as an affirmation of the contract. The decision to terminate must be unambiguous and may be communicated either by way of word or conduct. Sometimes, the contract may provide for the procedures to be followed for termination. 78

When a contract is terminated, only future obligations are terminated. Unperformed obligations (i.e., those outstanding at time of termination) must still be performed. They however can be discharged by payment of damages which are measured by the extent that their non-performance has caused loss. Statutory remedies It was earlier mentioned that sometimes terms may be imposed into a contract by legislation. For example, the SGA may imply into a contract for sale of goods that the goods are of merchantable quality and fit for the buyers stated purpose. If terms implied by law are breached, the remedies available are also prescribed by statute. Under the SGA, if a condition is breached, the buyer can reject the goods and terminate the contract (and also claim damages if loss is suffered), and if a warranty is breached, sue for damages for breach of contract (see s 11(2), SGA WA). However, the right to repudiate for breach of a condition is qualified (s 11(3) SGA WA). Where the buyer has accepted the goods, or where the goods are specific goods and property has passed, the buyer has to treat the condition as a warranty and sue for damages only. Specific Performance Specific performance and injunctions are both equitable remedies and subject to the discretion of the court. When exercising its discretion, the court will decide whether it is just to grant the remedy sought by the plaintiff. For example, if the plaintiff is in breach of his or her obligations, or is guilty of unreasonable delay in pursuing the action, the court will not grant the remedy sought. Failure of a defendant to comply with either an injunction or specific performance is a form of contempt of a court order. The defendant faces the risk of a fine or imprisonment for contempt. A decree of specific performance is an order that requires the parties to perform their obligations under the contract. Traditionally, the remedy has been restricted to contracts involving the sale of land. For example, if after a contract for sale of land has been concluded the seller refuses to sign the transfer of title form, an order of specific performance can be made to compel the seller to sign it. The reason why the remedy of specific performance may be awarded is that land is unique and damages are not an adequate remedy. Although in the past, the courts have been reluctant to award this remedy outside the context of sale of land, they are now increasingly willing to extend it to other sale contracts such as those nvolving unique goods. If specific performance requires constant court supervision, or would cause hardship to the defendant, or the contract is a contract of 79

personal service, the court will generally be reluctant to award it. Granting the remedy of specific performance for a personal service contract is tantamount to forcing someone to work for another person (akin to slavery). For example, in Lumley v Wagner (1852) 42 ER 687, the defendant, who was an opera singer, agreed to perform exclusively in the plaintiffs opera house but entered into a contract to sing in another opera house. The court would not order specific performance of the contract with the plaintiff but granted the plaintiff an injunction to stop the defendant from performing elsewhere. Injunction An injunction may be granted to restrain a breach of contract. Injunctions may either be prohibitory or mandatory. An example of a prohibitory injunction is an order prohibiting a party from doing something he or she has agreed not to do. For example, if X has agreed not to solicit Ys customers for a period of one year after leaving Ys employment and if X threatens to act in breach of this, Y can seek an injunction restraining X from doing it. A mandatory injunction, which is less common, is an order compelling a party to perform his or her contractual obligation. For example, if X has a right to inspect Ys register of members and if Y refuses to allow X to do so, X can seek an injunction from the court to prevent Y from refusing inspection. Like specific performance, injunction is a discretionary remedy and if damages are adequate, the court will not award it. Similarly, a court will also not grant injunctive relief if the plaintiff is either in breach of the contract or is not ready, willing and able to perform his or her outstanding obligations. Injunctions can be interim in nature or permanent. An interim injunction, which is sometimes called a temporary restraining order, is usually granted ex parte (i.e., only the applicant comes to court). The defendant does not get the right to come to court and argue against the interim injunction. This is because the usual purposes of an interim injunction are to prevent the defendant from transferring assets to a third party, or transferring the assets out of the jurisdiction, or dissipating the assets. If the defendant gets prior notice, there is a danger that the defendant can act before the injunction is awarded thus frustrating the purpose of the injunction. One of the requirements for getting an injunction is that the plaintiff is able to prove that he or she has a very good chance of success when the dispute goes to trial. The court will consider the balance of convenience and hardship between the parties and other who may be affected. The plaintiff may also be required to put up a security bond or other security that will be used to compensate the defendants for any losses suffered as a result of the injunction if the plaintiff is ultimately unsuccessful at the trial.

80

Restitution Under this remedy the defendant is required to return, or pay for, a benefit received from the plaintiff. For example, the defendant may be required to repay a sum of money received from the plaintiff, or pay a reasonable sum for goods or services provided by the plaintiff. The basis of restitution is unjust enrichment. What this means is that an order for restitution will be made if the retention of money would constitute unjust enrichment. Unjust enrichment has three elements: The defendant received a benefit (monetary or services); The benefit was obtained at the expense of the plaintiff (plaintiffs assets decreased in proportion to the increase in the defendants assets, or defendant has committed a wrong such as a tort or a crime) ; and The retention of benefit would be unjust (total failure of consideration or acceptance of the benefit). Satisfaction of all three elements, assuming there is no defence applicable or available, is necessary for a claim in restitution to succeed. Restitution differs from damages in one important aspect. With damages losses must be proved, but with restitution the defendant must have received some benefit. The remedy of restitution is not strictly a contractual remedy. It is available regardless of whether the benefit was received under a contract or not. If there is a valid and binding contract, restitution will normally not be granted as damages will be a more appropriate remedy. The plaintiff is entitled to restitution even though the defendant has disposed of the benefit received, as a restitution claim is a personal claim (against the person). A claim in restitution is especially relevant: Where parties are trying to recover money paid in error, or for which the parties received nothing in return total failure of consideration (see for e.g. the Fibrosa case.) Where the plaintiff is claiming reasonable remuneration for work done (quantum meruit) or for goods supplied (quantum valebant) under a void or partially performed contract. If the party claiming quantum meruit payment is in breach, he or she must prove that either the other party had agreed to the termination, or had freely accepted the benefit of the partial performance. In Pavey & Matthews Pty Ltd v Paul (1987) 162 CLR 221, the builders carried out building work for Paul under an oral agreement. The legislation provided that a building contract is not enforceable unless in writing and signed by both parties. When work was completed Paul refused to pay the outstanding

81

amount and the builders claimed for payment on a quantum meruit basis. The court held that Paul was obliged to pay otherwise she would be unjustly enriched at the expense of the builders. Limitation on Remedies We will now look at a number of factors that can preclude or limit the recovery of damages or other remedies. Statute of Limitations All common law jurisdictions have a similar statute and in WA, the specific statute is the Limitation Act 1935 (WA). Under this statute if a plaintiff waits too long, he or she may lose the right to bring an action for breach of contract. The underlying reason is that it is unfair to make the defendant to wait until memories are dim, witnesses have died or moved away, and evidence is difficult to locate. The time limitation usually runs from the date of breach of the contract. With most contracts the deadline is six years and with contracts in the form of a deed it is 12 years. It is important to note that the Statute of Limitations only blocks the ability to bring a lawsuit; the underlying rights remain alive. Also, if the defendant acknowledges the claim the right to sue is revived. For example, if the debtor acknowledges the debt (after the time for bringing legal action has passed) by making part payment the right to sue is revived. The parties can provide a shorter deadline for bringing legal action, but the deadline must be reasonable. However, the contract cannot provide for a longer period for brining action than that provided under the Act. Laches In addition to the Statute of Limitations, there is another time limitation when the plaintiff is pursuing an equitable remedy. With an equitable remedy, the court will always examine whether there has been any undue delay by the plaintiff in pursuing the equitable remedy. In other words, there are two layers of time limitation when a plaintiff is pursuing a remedy for breach of contract. The Statute of Limitations applies when the plaintiff is pursuing a common law remedy, and the laches apply when the plaintiff is seeking an equitable remedy. So while the plaintiff may get the common law remedy, he or she may still be denied the equitable remedy because the court feels that the delay in seeking the equitable remedy would be unfair to the other party or to an innocent third party. Relief against Forfeiture 82

The next limitation on damages is equitable relief against forfeiture. Like penalty clauses and the doctrine of substantial performance, the purpose of the doctrine of relief against forfeiture is to avoid a remedy that is way out of proportion to the nature of the breach and actual damages suffered. Under this doctrine a court will not allow a plaintiff to enforce a clause in a contract if the result would be the unfair forfeiture of a property right held by the defendant. The right could be a right in real property, or, a right in other types of property such as intellectual property (such as patents and copyrights). In Stern v McArthur (1988) 81 ALR 463, a married couple purchased a vacant land and built a house on it. They paid a deposit of $250 and owed $5,000 on the land which was to be repaid at the rate of $50 per month plus interest. After the couple divorced the woman continued to live in the house and was unaware that her ex-husband has stopped making payments for about 11 months. Meanwhile the land had greatly appreciated (to over $120,000). The woman stood to lose not just the land but also the house on it if the land was forfeited. The court granted equitable relief against forfeiture of property rights. According to the court any loss suffered by the seller could be fairly compensated by the award of money for the missed payments and interest. ITL Notes (Lectures 28-30) In the beginning of this segment of the unit, we looked at the key elements essential for formation of a contract. These elements included agreement, intent to contract, consideration, and capacity. Even if we have an apparent contract, the contract may still be invalid because of some defect in the contract. This week we will look at a number of factors that could render an apparent contract invalid. We call these factors vitiating factors. They undermine the validity of a contract by calling into question an essential ingredient of the contract, namely, the consent of the parties. Examples of vitiating factors are misrepresentation, mistake, undue influence, unconscionability and duress. Before proceeding further, it would be useful to explain a number of concepts which we will come across when discussing vitiating factors. When a contract is tainted by a vitiating factor, there are generally three possible outcomes: The first possible outcome when a contract is tainted by a vitiating factor is that the contract is treated as void ab inito (i.e. of no legal effect from the beginning). A void contract is really no contract at all. A void contract cannot confer any legal rights or 83

title to property, or impose any obligations on the parties. It cannot be made effective even by the party disadvantaged by the vitiating factor. No property can pass under a void contract. The second possible outcome when a contract is tainted by a vitiating factor is that the contract is treated as voidable. When a contract is voidable, the party disadvantaged by the vitiating factor must elect whether to bring the contract to an end (rescind the contract) or keep the contract on foot. Property can pass under a voidable contract, provided it has not been rescinded. When a voidable contract has been rescinded it becomes a void contract. The third possible outcome when a contract is tainted by a vitiating factor is that the contract is treated as legally unenforceable. An unenforceable contract is a valid contract, but due to some procedural defect cannot be enforced in court. For example, if a contract does not comply with the Statute of Frauds, it cannot be legally enforced in a court of law. Similarly, a contract with a minor for the purchase of non-necessaries cannot be enforced against the minor. However, if both parties agree to perform their obligations, title can pass and liability can arise for breach of contract.

When a party elects to bring a voidable contract to an end, we call that rescission. When a contract is rescinded, restitution should occur. Restitution means putting the parties back into essentially the same position they were in before the contract was entered into ( restitutio in intergrum). What this means is that any money paid or goods delivered should be returned and neither party has any remaining rights or obligations under the contract. It is important to remember that rescission of a contract is different from termination of a contract for, say, breach of a condition. Rescission means setting aside a contract from the beginning. The contract is treated as never have existed. Termination on the other hand, only absolves the parties from their future obligations. There is no discharge of obligations that have accrued up to the point of termination. There is a strong presumption that a contract which has all the essential ingredients (such as agreement, legal intent, and consideration) is a valid contract. The person relying on some vitiating factor to challenge the validity of a contract bears the burden of proving that it is not. There is, however, nothing preventing a person from relying on more than one vitiating factor, nor on statutory law such as the Trade Practices Act/ACL, for a remedy. 84

As rescission is an equitable remedy, it is discretionary (i.e., court may choose not to offer it). The right to rescind can be lost under certain circumstances, such as: The disadvantaged party affirms the contract , There is unreasonable delay in rescinding the contract, If the disadvantaged party acts in a way inconsistent with rescission, e.g., sells the subject matter of the voidable contract to a bona fide third party Where restitution is not possible, e.g. land, which is subject of the voidable contract, has been developed, or built upon Where third party rights are involved, e.g. a bona fide third party has acquired rights in the subject matter of the voidable contract. Misrepresentation We learnt earlier that certain pre-contractual statements could constitute representations. If these statements are untrue and involve material facts, we call them actionable misrepresentations (i.e., the injured party is entitled to some legal remedy). Misrepresentation has been defined in one leading text as a false statement of a material fact made by one person (the representor) to another person (the representee) in order to induce the other party to enter the contract and which has this effect. While it may appear obvious, it is worthwhile emphasizing that for a misrepresentation to undermine the validity of a contract it must be made by a party to the contract and not by some third party. But if made by a third party, the party rescinding the contract must prove that the other party has somehow been tainted by the misrepresentation. Common law misrepresentation is no longer as relevant today in Australia as in the past largely due to the greater reliance on statutory law, such as the Trade Practices Act/ACL. However, it is still relevant in a non-commercial context (i.e., when the transaction is not in trade or commerce). Also, litigants routinely rely on misrepresentation as an alternative to an action for misleading or deceptive conduct. A person who alleges misrepresentation must normally prove the following (common to all types of actionable common law misrepresentation): 1. False statement of fact or law: An actionable misrepresentation is basically a false statement of fact or law. In the past, incorrect statements made by a

85

representor (person making representation) as to the law could not amount to an actionable misrepresentation. But today, it would appear the courts are unlikely to place too much emphasis on the distinction between law and fact, especially when fraud has been established. Generally, expressions of opinions, predictions, or future intentions are not considered representations of fact. For example in JJ Savage & Sons Ltd v Blakney (1970) 119 CLR 435, the statement about the estimated speed of an engine was an opinion not a statement of fact. Similarly, puff or sales talk would generally not amount to actionable misrepresentations under common law. However, in certain circumstances, a statement of opinion or intention may be regarded as a statement of fact and a ground for avoiding a contract if it is false. For example, if a person states as his or her opinion something that he or she does not believe, that person makes a false statement of fact. In Edgington v Fitzmaurice (1885) 29 Ch D 459 at 483, Bowen LJ said that the state of a mans mind is as much a fact as the state of his digestion. Mere silence or non-disclosure does not constitute misrepresentation, but there may be situations where failure to disclose certain information may amount to an actionable misrepresentation e.g., contracts of utmost good faith, half truths, change in circumstances, parties in a fiduciary relationships, statutory requirements, etc. A statement made by a representor that is literally true may amount to a misrepresentation if material facts have been withheld which create a false impression in the mind of the representee. So a half truth may amount to a misrepresentation because of what it leaves unsaid. For example, In Dimmock v Hallet (1866) LR 2 Ch App 21, the seller of property who represented that the property was fully let was held to have misrepresented the facts to the purchaser when he failed to reveal that the tenants had served a notice to quit the property. In Krakowski v Eurolynx (1995) 183 CLR 563, the purchaser entered into a contract to buy retail premises for $1.56 million from the vendor. According to the lease agreement, the premises were rented for $156,000 per annum. However, the vendor failed to disclose that it had, under a separate agreement, agreed to give the lessee a threemonth rent-free period and money to fit out and stock the premises. The court held that non-disclosure of eth

86

separate agreement amounted to an actionable misrepresentation A representor owes a duty to the representee (person to whom representation is made) to correct a previous statement made if he or she discovers that the statement made was false. Even if the statement was true when made, but becomes false due to a change in circumstances, the representor is bound to inform the representee. In With v OFlanagan [1936] 1 Ch 575, the defendant sold his medical practice on the strength of the representations made that the practice earned a certain amount annually and had a certain number of patients. Between the time the representations were made and the conclusion of the contract, the defendant fell ill and left the running of the practice to others. This resulted in a fall in revenue and the number of patients. The plaintiff was successful in rescinding the contract on the grounds of misrepresentation. The defendant was obliged to inform the plaintiff of the circumstances that rendered the representations false.

2. Reliance on the false statement to enter into the contract The representation must have been made by the representor with the intention of inducing the representee to enter the contract and the representee did actually enter into the contract as a result of that misrepresentation. Even if the representee discovers before entry into the contract that the representation is not wholly true, it does not mean that there is no inducement. In Sinclair v Preston [1970] WAR 186, a buyer bought property on reliance on the sellers false statement that bushes poisonous to cattle were only found in an isolated area of the property, when in fact this was not true. Before the formal contract was signed, the buyer discovered some additional areas with the poisonous bushes, but continued with the purchase. Despite this, the court held that the sellers statement was an actionable misrepresentation as it was a material inducement. While it is not crucial that the misrepresentation be the only inducement, it must however be one of the factors inducing entry into the contract. Another issue related to inducement is the materiality of misrepresentation. The test for materiality is whether a reasonable person would be induced by the representation to enter the contract. If the representor intended that the representee should act on the representation and the representee did so act on it, the issue of materiality does not arise. This would appear to be the case with fraudulent

87

misrepresentation. But if the claim is in respect of negligent misrepresentation, materiality would be a requirement. This is because the imposition of a duty of care in say, giving advice or information, requires that reliance be reasonable in all the circumstances: Shaddock v Parramatta City Council (1981) 150 CLR 225. Below are some situations where a false statement of fact did not give rise to an actionable misrepresentation Where the representee does not act on the representation : In Attwood v Small (1838) 7 ER 684 the buyer contracted to buy a mine. The vendor exaggerated its earnings and capabilities during negotiations. Not satisfied with the vendors claims, the buyer employed independent experts to value the mine. The experts confirmed that the vendors statements were substantially correct and the sale was completed. Six months later the buyer discovered that the statements were incorrect and tried to rescind the contract. The buyer was unsuccessful as it was unable to prove reliance on the sellers representation as to the worth of the mine, or that the sellers representation induced entry into the contract to buy the mine. Where the representee knows the statement to be false : A representee who knows that a statement is false cannot claim that he or she was induced to contract by its falsity. No reasonable person would do that. Just because the representee has the opportunity of verifying the statement but did not do so does not mean that the representee was not misled. In Redgrave v Hurd (1881) 20 Ch D 1 the representee had an opportunity to verify the facts but did not. The court still held that he had been misled as there was no evidence he knew the falsity of the statement. The negligence of the representee does not nullify the falsity of the statement. Historically, the law distinguished between fraudulent or intentional and innocent misrepresentation. The classification of a particular misrepresentation depends on the representors knowledge and intention when he or she made the false statement: Fraudulent misrepresentation involves deliberate untruth. In Derry v Peek (1889) 14 App Cas 337, the directors of a tramway company issued a prospectus stating that the company was entitled to use steam and other mechanical power to run their trams. They had applied to the government for approval, but had not received it. Relying on this and other statements, the plaintiff applied for shares in the company. When the government refused to grant authority to use steam trams, the company

88

failed and the plaintiff sued the directors for fraud. The court held that the directors were not liable because in order for fraudulent misrepresentation to be established, it must be shown that the false statements had been made knowingly, or without belief in the truth, or made recklessly, not caring whether they were true or false. The directors honestly believed that getting the approval from the government was a mere formality. Innocent misrepresentation occurs where a statement is made in the honest but mistaken belief it is correct. Two other categories of misrepresentation have since been introduced and they are negligent misrepresentation: Hedley Byrne Ltd v Heller & Partners [1964] AC 465 and statutory misrepresentation (s 52, TPA/s 18, ACL): Negligent misrepresentation: To establish negligent misrepresentation three elements must be established: existence of a duty of care, breach of the duty of care, and loss caused by the breach. The duty owed by the representor to the representee in this context is take reasonable care when making statements, providing information or giving advice. In deciding whether a duty of care exists, the courts will not just look at reasonable forseeability of damage caused by the misstatement but also whether the parties were in a special relationship (i.e., did the maker of the statement realize, or ought to realize that the representee intends to or is likely to act to act on it for a serious matter, and was it reasonable for the representee to act on it in all the circumstances?) Statutory misrepresentation: Section 52 of the TPA states that a corporation, must not in trade or commerce engage in conduct that is misleading, or deceptive, or is likely to mislead or deceive. Conduct is regarded as misleading it if it has the capacity to lead into, or cause, error. Any person who suffers loss because of a breach of s 52 is entitled to damages under s 82 to compensate for loss suffered. Although it appears that s 52 only applies to corporations, in actual fact it has a much wider reach (see s 6). In many instances it applies beyond corporations to individuals. With effect from 1 January 2011, s 52 of the TPA has been replaced by s 18 of the ACL. Section 18 applies to all transactions taking place after the ACL became law, while s 52 will apply to all earlier transactions. The wording of both sections is essentially the same except that s 18 has replaced corporation with person. Rescission is a potential remedy for all three types of misrepresentation (innocent, fraudulent and negligent) subject to the absence of any bars to relief (e.g. delay in bringing action, parties

89

cannot be restored to original position, etc). Although misrepresentation is part of the law of contract, it works in conjunction with the law of torts. When a person makes a fraudulent or intentional misrepresentation that person is also committing the tort of deceit. Similarly when a person makes a negligent misrepresentation that person is also committing the tort of negligent misstatement. That is the reason why a court may award damages for fraudulent and negligent misrepresentation. Otherwise the only option for the plaintiff is to rescind the contract. It is important to remember that misrepresentation does not give rise to a claim for breach of contract. However, it is possible in some instances for the false statement of fact to be also a term of the contract. In which case, you should consider both the remedies for misrepresentation and for breach of contract. Mistake The law of mistake is regarded by many as a confusing area of law. This is made worse by textbooks adopting different approaches to classifying mistake. But, since we have prescribed Lambiris as the textbook for this unit, we shall follow the approach adopted by it to avoid any confusion. A mistake is a misapprehension of facts. It might prevent the parties from reaching sufficient agreement to create a valid contract. Whether the parties have reached agreement despite the mistake is judged objectively. Not all mistakes are operative and courts will only set aside contracts arising from certain mistakes. Courts are understandably reluctant to invalidate contracts on the basis of mistake for fear of opening the floodgates and undermining confidence in the marketplace. Mistakes can be divided into three categories: The parties think they have reached objective agreement, but in actual fact they have not (mutual mistake) The parties have reached objective agreement, but the agreement is based on some assumed fact or facts about which both are wrong (bilateral mistake), and The parties have reached an agreement but one party is mistaken about some fact or facts, and the other party is aware of it (unilateral mistake). We will now look at each type of mistake in greater detail. Mutual mistake Parties to a contract may misunderstand the terms on which they are supposed to have reached an agreement so that there is no meeting

90

of the minds. While the parties may think that they have reached an agreement, there is in actual fact no agreement at all. The courts will ask whether a reasonable person, made aware of the facts, would infer that there was sufficient agreement to constitute a valid contract. If the answer is in the negative, the contract is void. This was illustrated in Raffles v Wichelhaus (1864) 159 ER 375. In that case W agreed to buy cotton from R. The cotton was in India and it was agreed the cotton would be shipped on the vessel, Peerless. There were two vessels of the same name carrying cotton from Bombay to London but leaving on different dates (one in October and the other in December). The court found that upon a reasonable interpretation of the facts, no contract could have been formed. Both parties had different vessels in mind when they entered into the contract. The court found that upon a reasonable interpretation of the facts, no contract could have been formed. Bilateral mistake Parties to an agreement may have reached an agreement, but the agreement is based on some assumed fact or facts about which both are wrong. For example, both parties may have made a mistake about the identity of the subject matter, or the existence of the subject matter, or the ownership of the subject matter. Whether a bilateral contract will render a contract void depends on whether the agreement was conditional upon the truth of the assumed fact or facts. If it can be inferred that the contract was conditional upon the truth of the assumed fact, the contract is void. Otherwise, the contract is valid despite the bilateral mistake. Where the bilateral mistake relates to the quality of the subject matter, the agreement will rarely be treated as void under common law. In Great Peace Shipping Company Ltd v Tsavilris [2003] QB, T entered into a contract with the owners of the ship, Great Peace, to render assistance to another ship, Cape Providence, which was in danger of sinking. Later it was discovered that the Great Peace was much further away from the Cape Providence than T or its owners had thought. T tried to cancel his contract with the owners of the Great Peace, but they refused to agree to it. When sued by the owners, T argued that the contract was void or voidable on the basis that both parties had mistakenly assumed that the Great Peace was the closest ship to the Cape Providence. The court held that the contract was valid as the mistake referred to the quality of thing (i.e., the closeness of the ship). The Great Peace was still close enough to perform the salvage operation and therefore not something different from what the parties bargained for.

91

Another case involving mistake as to the quality of the subject matter is Leaf v International Galleries [1950] 2 KB 86. There, P bought a painting of Salisbury Cathedral from D, which both mistakenly believed was painted by a famous artist by the name of Constable. Five years later P sought to rescind the contract on the basis of mistake but failed, as the court held that there was no mistake about the subject matter, only its attributes. It was the same beautiful painting that P had bargained for. (Also, P had taken too long to rescind, which in any case would have disqualified him from rescinding the contract.) Had P argued on the basis that the identity of the artist was a term of the contract, he may perhaps have succeeded, but this is purely speculative. Even if the bilateral mistake is of a fundamental nature, it must not have been induced by the party relying on it. In McRae v Commonwealth Disposals Commission (1951) 84 CLR 377, the respondent (CDC) invited tenders for the purchase of a tanker which was alleged to be lying at a particular location. The appellant (M) submitted a successful tender and was then supplied with the longitude and latitude of the location of the tanker. After incurring expenditure fitting out a salvage vessel, the appellant could not locate the tanker. It soon became clear no tanker existed at that location. The appellant sued for damages for breach of contract and the responded argued that the contract was void as a result of a common mistake as to the existence of the subject matter. This defence failed as the High Court held that there was no common mistake. Even it could be established that there was a common mistake, the mistake was induced by the reckless assertions of the respondent. Unilateral mistake Unilateral mistake occurs when only one party to the contract is mistaken about an assumed fact. There are different types of unilateral mistake. For example, one party may be mistaken about the terms of a contract, or the type of contract being created, or the identity of the other contracting party. Under Australian law, the contract is unlikely to be void at common law, but may be set aside by equity in special circumstances. For instance, a contract will be set aside for unilateral mistake if one party is under a misapprehension of fact and it is unconscionable for the other party to take advantage of it. This was illustrated in Taylor v Johnson (1983) 151 CLR 422. In that case, J offered to sell T 10 acres of land for $15,000, when in actual fact she wanted to sell it for $15,000 per acre. T, who must have been aware of the mistake, quickly accepted the offer. When J realized her mistake she refused to complete the sale. T sued for specific performance but was refused the remedy as the court held that J was labouring under a mistake and T went out of the way to ensure that she did not discover 92

the mistake. The court went further by rescinding the contract on the grounds. Of all the different types of unilateral mistake, mistake as to identity has caused by far the most problems because of conflicting decisions and distinctions drawn between identity and attributes. Generally, a mistake as to identity will prevent formation of a contract, as an offer can only be accepted by the person to whom it was made. So a contract where one party is mistaken as to the identity of the other party is void. But, where the mistake is as to the attribute (such as the creditworthiness) of the other party, the mistake does not prevent formation of a contract. The contract however is voidable at the option of the mistaken party. The reason is that the other party must have known about the mistake and would probably have induced it as well. As such the mistaken party can seek to rescind the contract for misrepresentation. (Mistake and misrepresentation often overlap in mistaken identity cases.) The mistaken party would have great difficulty trying to prove that he or she was mistaken as to the identity of the other party where the parties are dealing with each other on a face-to-face basis. Where parties are parties are dealing with each other on a face-to-face basis there is a strong presumption that the mistaken party intends to deal with the party physically present. This was illustrated in in Lewis v Averay [1972] 1 QB 198. There, D had bought a car from a rogue who had obtained it from P by pretending that he was Richard Greene, a well-known television actor. The rogue purchased the car with a cheque which was subsequently dishonored. P sued D for ownership of the car, but the court held that Ps unilateral mistake as to the identity of the rogue did not render the contract void, only voidable. Since D had bought the car in good faith, the rogue was able to transfer title to him. The court held that since the parties were dealing with each other on a face to face basis, there was a presumption at law that there was contract even though the rogue had fraudulently misrepresented himself as a different person. Where the parties are dealing with each other at a distance (for example, when negotiations are being conducted in writing), it is usually much easier for the mistaken party to prove that he or she was mistaken as to the identity of the other party. In Cundy v Lindsay (1878) 3 App Cas 459, P received and fulfilled an order by mail for handkerchiefs from what they thought to be a respectable firm known to them by reputation. In fact the order was not from that firm but from a rogue, who subsequently sold the handkerchiefs to D, an innocent third party. P sued D for conversion, but to succeed had to prove that the contract was void. (No property can pass under a void contract.) 93

The court held that the contract was void for unilateral mistake as P only intended to deal with that particular firm and no one else. As there was no contract between P and the rogue because of the mistake, no title had passed to the rogue and the rogue in turn could pass no title to D. Therefore P could recover the handkerchiefs from D. The principle in Cundy v Lindsay was recently affirmed by the UK House of Lords in Shogun Finance Ltd v Hudson [2004] All ER 215. In that case, a rogue obtained, by dishonest means, the drivers licence of a certain Mr. Patel. He then went to the premises of a car dealer and agreed to buy a car provided that hire purchase finance was made available to him. He was asked to complete a hire purchase proposal form which he did by giving Patels details. The form was faxed to Shogun Finance which then did a search on Patel. Satisfied with the outcome of the search, Shogun accepted the hire purchase proposal. The rogue paid the dealer a 10 per cent deposit, partly by cheque and partly by cash. (The cheque was subsequently dishonored.) Meanwhile, the rogue who took possession of the car sold it to an innocent third party and disappeared. Shogun sought to regain the car from the third party. The House of Lords held that since the rogue never had any face-to-face dealings with Shogun, there was no room for the application of the rule that they intended to deal with each other. Since the contract was void for mistake Shogun could recover the car. Duress Duress is illegitimate pressure exerted by one party to induce another party to enter or modify a contract. Often, it involves the use of violence or illegal threats against the person, the persons immediate family, or the persons goods. There is little difficulty establishing that actual violence constitutes duress of the person, but it is more difficult with threats. The threat must be the threat of violence calculated to cause death, bodily harm, or imprisonment and must actually cause that fear. When a person enters into a contract under duress, that person is not exercising his or her free will. The threat to take legal action or some other lawful action will not amount to duress. If a contract is entered into by one party as a result of duress, the contract is defective. The contract is voidable at the option of the threatened party. There are three main forms of duress: Duress of the person: Where a person enters into a contract because of actual or threatened violence to his or her person, or actual or threatened unlawful imprisonment. There is duress even if the conduct constituting duress is directed at the 94

persons immediate family or near relative. The use of violence or illegal threat need not be the sole reason, so long as it is one of the contributing factors for entering the contract. In Barton v Armstrong [1976] AC 104, B entered into several contracts with A after receiving several death threats. Although B was unable to show that he would not have entered into the same contracts in the absence of the threats, the contracts were still held to be voidable. For the plea of duress to succeed, the aggrieved party must have no real choice. Duress of goods: It occurs when one person unlawfully detains or destroys the goods of another, or threatens to do so. Although in the past, the common law did not recognize duress of goods, the modern view is that in appropriate cases a remedy for duress of goods is available. In Hawker Pacific Pty Ltd v Helicopter Charter Pty Ltd (1991) 22 NSWLR 298, HC sent a helicopter to HP for repairs. The repairs were not properly carried out and the helicopter was sent back for rectification. HP knew that the helicopter was badly needed by HC for a job and asked the staff of HC to sign a document absolving HP from any liability and agreeing to pay an additional sum. The court held that the implied threat not to release the helicopter without additional payment amounted to duress of goods. Economic duress: A recent development in the law of duress is the formal recognition of the doctrine of economic duress. Economic duress refers to threats against the economic wellbeing of a person. The leading Australian decision on economic duress is Crescendo Management Pty Ltd Westpac Banking Corp (1988) 19 NSWLR 40. There the court held that the proper approach to determining whether there was economic duress was to ask the following questions: (a) First, whether any applied pressure induced the contract? (b) Secondly, whether that pressure was illegitimate? (Pressure will be illegitimate if it consists of unlawful threats or amounts to unconscionable conduct). However, drawing a line between normal commercial pressure and illegitimate conduct is not easy. Economic duress is still an evolving concept and there are no clear guidelines on, for example, what type of unconscionable conduct would constitute illegitimate pressure.

The courts would permit the threatened party to rescind the contract as soon as the danger has passed. This right of rescission can be lost through ratification or affirmation. In North Ocean Shipping Co Ltd v Hyundai Construction Co Ltd [1979] QB 705 a contract to build a ship was stated in US dollars. When the US devalued its currency by 10%, 95

the ship builder threatened to stop construction unless a new contract was signed which included a 10% increase in price. The shipping company agreed to the new contract but later took legal action to recover the additional payment on the ground of economic duress. On the facts, the contract to pay the additional sum could be set aside for economic duress. However because it took nine months to act, the shipping company had impliedly affirmed the contract. It is not very clear whether damages are available when a contract is entered under duress. There is no breach of contract and any right to damages would probably be found in the law of torts (such as tort of intimidation). Undue Influence The doctrine of undue influence is primarily concerned with gifts, but may also be pleaded when a one-sided contract is involved. Undue influence involves the use of a position of influence or power possessed by one person over another in order to induce the latter to act for the formers benefit. As the judgment of the person subject to the influence is impaired, the person cannot act in his or her own best interests. The doctrine of undue influence was developed by equity and deals with pressure falling short of duress. It allows the court to set aside gifts or contracts tainted by undue influence. Common law provides no remedy for a contract entered into as a result of undue influence. There are no defined limits to situations where undue influence can be pleaded. Undue influence can originate in two ways: (a) In pre-existing relationships where a general undue influence is presumed or proven: For some pre-existing relationships the courts will presume that a contract or gift made resulted from undue influence. Examples of such relationships include the relationship between parent and child; solicitor and client; doctor and patient; trustee and beneficiary; religious adviser and disciple; and guardian and ward. Once the party seeking to set aside the contract or gift can point to the existence of such a relationship, there is a presumption that the contract or gift was the result of undue influence. The onus shifts to the party seeking to enforce the contract or to take the gift to rebut the presumption by showing that he or she did not abuse their influence. For other pre-existing relationships, such as, between husband and wife; banker and customer; and accountant and client, the weaker party must first show that the stronger party had a general controlling influence over the weaker 96

partys decision making. Factors that will be taken into account include emotional dependence; need for guidance and support in financial matters; whether parties lived together or were close relations; level of intelligence and education of weaker party; whether any independent legal advice taken; and whether the transaction was particularly advantageous to stronger party. Once this has been established, there is a presumption that the transaction that was entered into was tainted with undue influence. If the stronger party cannot rebut the presumption, the contract or gift will be set aside. In Johnson v Buttress (1936) 56 CLR 113, B gave a cottage to a long-standing friend, J. At that time, B was elderly, illiterate, and recently widowed. He placed considerable confidence in J. When B died, his son brought an action to set aside the gift on the grounds of undue influence. Even though their relationship was not one that fell within the established categories giving rise to the presumption of undue influence automatically, it was proven to be one where J had a general controlling influence over B and the gift was presumed to be tainted with undue influence. As J was unable to rebut that presumption the gift from B was set aside. (b)In cases where a general controlling influence is neither presumed nor proved, the weaker party must establish that actual undue influence was exerted by the stronger party. Where the parties are not in an antecedent relationship of trust and confidence, the party seeking to seek to set aside the contract or gift must prove that the other party exerted actual undue influence to such an extent that the first party could not exercise an independent judgment in relation to the transaction. Unconscionability At common law, unconscionable contracts cannot be set aside, but in equity they can be set aside. Unconscionability exists when one party is at a special disadvantage, and unfair or unconscientious advantage is taken of the opportunity created by the other party. The known special disability may be blindness, illiteracy, lack of fluency in language, or emotional dependence, trust (see Garcia v NAB (1998) 155 ALR 614). The leading High Court decision on unconscionability is CBA v Amadio (1983) 151 CLR 447. There an elderly migrant couple with poor business and English language skills executed a mortgagebacked guarantee in favour of a bank to secure a loan to their sons building company. They believed that their sons company was sound 97

and that their liability was limited in terms of length and extent. The bank knew that these beliefs were incorrect but did not recommend or provide them with an opportunity to seek independent advice. The company subsequently failed and the bank made a demand under the guarantee. The couple applied to court to have the guarantee set aside and was successful as it was entered into as a direct result of the banks unconscionable conduct. The main difference between undue influence and unconscionability is that: In the case of the undue influence, the weaker party did not reach a fully independent decision because in some way his or her will was influenced by the stronger party, Whereas in the case of unconscionability, the stronger party merely took advantage of the weaker partys position, but had no hand in influencing that weakness. When unconscionability is established, the contract is voidable (i.e., it may be set aside at the option of the weaker party). Other remedies may be available if it is not appropriate to set aside the contract. Illegality Illegality is usually raised as a defence when an action is brought to enforce a contract. An illegal contract or clause is either void ab inito or unenforceable. The concept of illegality is much wider than our general understanding of that term and covers even conduct that may not be an offence of any kind. At common law, if the parties agree to do something illegal, or do something legal but in an illegal way, the contract is generally invalid and cannot be enforced in a court of law. The underlying principle behind non-enforceability of illegal contracts is ex turpi causa non oritur actio (no action arises from a base cause). There are two broad categories of illegal contracts or contractual clauses: Those prohibited at common law: A distinction is drawn between illegal and void contracts at common law. Illegal contracts are contracts to commit an unlawful act, contracts that are sexually immoral, contracts which prejudice public safety and prejudice administration of justice, etc. Void contracts are contracts that attempt to oust the jurisdiction of courts, contracts that prejudice the status of marriage and contracts that constitute an unreasonable restraint on trade. Both illegal and void contracts are contracts that in some way offend public policy.

98

Those prohibited by statutes: Statutory provisions may also affect the validity of a contract. Modern commercial transactions are subject to a whole host of rules and regulations. Some statutes may expressly outlaw certain types of contracts. For example, a statute may prohibit a corporation from entering into contracts that would lessen competition. Other statutes may regulate the way certain contracts are performed. Finally, there are statutes that declare certain contracts or contractual clauses void. For the consequences of statutory illegality, you should look at the statute to see what the legislature intended.

The most common type of illegal contractual clause in the commercial world is the clause in restraint of trade. A clause is in restraint of trade has been defined in Petrofina (Gt Britain) Ltd v Martin [1966] Ch 146 as one where one party agrees with any other party to restrict his liberty in the future to carry on trade with other persons not parties to the contract in such manner as he chooses. For example, one party may agree as part of the terms of sale of his or her business not to carry on a certain type of business in a particular area for a particular period of time, or an employee may agree with his or her employer not to work for a competing employer for a fixed period of time after leaving employment. Not all clauses in restraint of trade are illegal. Only those that lessen competition or place unnecessary restrictions on a persons ability to find work are illegal. At common law, a restraint of trade clause will be held to be valid if it meets the test laid down in Nordenfelt v The Maxim Nordenfelt Guns and Ammunition Co Ltd [1894] AC 535: The restriction is reasonable in reference to the interests of the parties concerned, and The restriction is reasonable in reference to the interests of the public. Whether a restriction is reasonable or not depends on whether the covenantee (person taking the benefit of the clause) has a legitimate interest, and whether the interest goes no further than is necessary to protect the interest. Factors that will be taken into account include the duration of the restriction, the geographical territory involved, the consideration provide, and the bargaining powers of the parties. If restraint of trade clause is invalid, and it can be severed from the contract, the contract can stand alone unaffected by the restraint of trade clause. Otherwise the contract as a whole is illegal.

99

100