With a clear intent

The recent judgment of Mr Justice Akenhead in the case of Diamond Build Ltd v Clapham Park Homes Ltd [2008] EWHC 1439 (TCC), delivered on 25 June 2008, is refreshingly clear on the way the letter of intent was interpreted.

What is a letter of intent?

Despite the existence of very well drawn standard form buildings and engineering contracts, the relationships formed between the participants in the building process are complex. Notwithstanding the existence of the standard forms the process of putting together a formal contract is time consuming.

To enable the participants to 'get on with it' it is common practice to enter into letters of intent to allow for preliminary issues to be resolved or to allow the contractor to take possession of the site and commence works. These take many forms, but are inherently dangerous because they do not map out the entire contractual relationship between the participants.

Can a letter of intent be a separate contract?

It has long been clear that a letter of intent can amount to a contractual relationship. In British Steel Corporation and Cleveland Bridge v Engineering Co. Ltd [1984] 1 All ER 504, it was held that a letter of intent could give rise to a contract, either through the letter forming the basis of an ordinary executory contract under which each party assumed reciprocal obligations to the other, or under a unilateral contract where the letter is a standing offer that would form a binding contract if acted upon by the offeree.

In effect all of the usual elements for formation of a contract have to be in existence, that is offer, acceptance (usually by conduct) and intention to create a legal relationship. In this case it was held that a binding contract was not created by the letter of intent because the parties were never ad idem.

The offeree could not, therefore, succeed on a counter claim for late delivery because the court would only imply that the works had to be completed within a reasonable time.

The offeree, however, was permitted to sue on a quantum meruit.

In more recent times the courts have shown a greater inclination to find the existence of a contract. A good example of how a letter of intent can form a binding contract is the well-known case of Turriff Construction Ltd v Regalia Knitting Mills Ltd [1971] 9 BLR 20. This case concerned an offer by a contractor to carry out feasibility studies prior to a formal contract. The employer sent a letter of intent to the contractor. The feasibility study was carried out but the formal contract was never entered into. The employer refused to pay because there was no binding contract. It was held that the letter of intent was a binding contract allowing the contractor to claim reimbursement.

Are there risks of a letter of intent?

These are many. A couple of examples might be:

- if works are carried out under an

instruction from an employer the contractor is entitled to a reasonable sum for those works. If the formal contract is not entered into that reasonable sum may be higher than the tendered sum; and

- In Cleveland Bridge mentioned above the judge refused to award damages to the employer notwithstanding the contractor did not meet deadlines of which it was fully aware.

In Diamond Build, the defendant intended to carry out refurbishment works to some houses and flats. The plaintiff was instructed to tender based upon a specification, tender drawings and a form of tender. The specification referred to the JCT Intermediate Building Contract 2005 with Contractors Design, which was to be executed as a deed.

The plaintiff tendered and a letter of intent was sent to the plaintiff. The letter of intent stated when the works were to commence and the contract sum and further stated:

- that the JCT Intermediate Contract would be entered into;

- that if the formal contract was not entered into the plaintiff would be reimbursed its reasonable costs up to the date when the defendant notified the plaintiff that the formal contract would not be entered into (costs capped at £250,000);

- the undertakings given in the letter of intent would be extinguished on the formal contract being entered into.

The works were commenced by the plaintiff and the defendant drew up and signed the formal contract and sent it to the plaintiff. The plaintiff did not complete the formal contract.

Disputes arose and the defendant wrote to the plaintiff giving notice that no further work was to be carried out under the letter of intent.

The parties had acted as though the formal contract had been entered into and the plaintiff contended that the JCT Intermediate Form of Contract governed the relationship between the parties.

The judge had to consider the status of the letter of intent. His judgment is very clear and details his reasoning. This is of considerable assistance in understanding the court's approach and assisting draftsmen in drafting future letters of intent:

'I now turn to the construction of the letter of intent. The first question to consider is whether from its terms and its acknowledgement and acceptance by DB (the plaintiff), the letter of intent gave rise to a contract in itself. I have no doubt that it did give rise to a (relatively) simple form of contract.

'My reasons are as follows:

(a) while the first paragraph merely confirms an intention to enter into a contract, the second paragraph effectively asks DB to proceed with the work;

(b) there is an undertaking in effect, pending the execution of a formal contract to pay for DB's reasonable costs, albeit up to a specific sum;

(c) the fact in the penultimate paragraph that the undertakings given in the letter are to be 'wholly extinguished' upon the execution of the formal contract point very strongly to those undertakings having legal and enforceable effect until the execution of the formal contract;

(d) the fact that the specification referred to in the letter required a contract under seal demonstrates that the parties were operating with that in mind;

(e) The very fact that DB was asked to (and did) sign in effect by way of acceptance the letter of intent points clearly to the creation of a contract based on the terms of the letter of intent itself.'

The works carried out by the defendant were of a greater value than the cap. The effect of the letter of intent being construed as the contract controlling the relationship of the plaintiff and defendant was that the cap was applied and the contractor did not obtain reimbursement above the cap.

The judgment of Mr Justice Akenhead clearly illustrates the need for clear drafting and a clear understanding of the relationship between the employer and the contractor. The plaintiff could have saved himself by ensuring that the value of the works carried out at no time exceeded the cap, and that his contractual relationship was replicated in his sub-contracts.

The judge at the beginning of his judgment highlighted the dangers of letters of intent if the parties do not quickly enter into the main contract.