This article is written by Shubhanker Jhingta who is pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.
A Memorandum of Understanding usually refers to a preliminary agreement between parties entering into a contract, before they reach a formal agreement. It is also called a Letter of Intent. Unlike a formal agreement, which is contracted to create obligations, an MOU is a non-formal agreement. The only intention is to help the parties reach an understanding, it is legally non-enforceable; it can only create obligations when a binding understanding is created from the clauses of an MOU.
Purpose of an MOU
Even though an MOU is not legally enforceable, it can serve certain purposes such as:
- It helps in setting up an outline and framework for the forthcoming negotiations.
- It helps the parties decide or commit to the project.
- It enforces the need for settling key commercial terms before an actual contract is undertaken.
- It can also help a third party understand the gist or essence of the project.
- Processes like merger clearance or FIRB approvals are done after a MOU is entered into.
Since MOU is not a legally binding agreement, care has to be taken that the MOU does not create any legal obligations on the parties; else it may restrict the parties from negotiating a more complete agreement.
Contents of an MOU
Every MOU is specific to a particular project, however, some common terms include:
- The first clause is to identify the parties entering into the agreement in relation to the project;
- Identify whether the MOU is legally binding or not;
- Stating the conditions to completion and pointing out the key commercial terms;
- Conducting due diligence and related processes;
- Identifying the key deliverables associated with the project;
- Lock-out and exclusivity clause to make the agreement binding or non-binding, as the case may be;
- Confidentiality clause; according to the terms and conditions of the project;
- Allocating costs related to various projects, when the agreement is binding;
- Lastly, to identify the governing law and jurisdiction with respect to the agreement.
From the above contents, it is pertinent to point out that some of the clauses are intended to legally bind the parties, while the others are generally non-binding.
Binding or Non-Binding
MOU are usually non-binding on parties, it is essential that an MOU is drafted with care and precision, since a party may often renege on its commitment to the project. In the case of Masters v. Cameron certain categories were identified to classify an MOU, these are:
- Category one (binding)- In the first category, the parties have agreed to be bound by the conditions stated in the MOU, however, they wish to restate their agreement to delve into the specificities and make the agreement more precise and complete.
- Category two (binding) – In such categories, the parties have agreed to be bound by the MOU, but the enforceability is conditional on the performance of a certain event.
- Category three (not binding on the parties) – In the third category, parties agree to be bound by the terms only when a formal agreement is executed between the parties.
In essence, for parties to be legally bound by the terms of the MOU, the intention of the parties and certainty to be legally bound has to be identified. If the two factors exist, then the agreement is legally binding.
Enforceability in India
The Indian Contract Act, 1872 is responsible for governing the MOU, the Specific Relief Act, 1963 is also responsible for enforcing the MOU through the doctrine of estoppel. However, to make the MOU enforceable through the Specific Relief Act, the same has to fulfil the conditions prescribed by the Indian Contract Act, 1872. If it does not fulfil the required conditions under the Indian Contract Act, then the parties can approach the court based on the principle of promissory estoppel and equity. If the parties want to enforce an MOU, the same shall be registered along with the relevant clauses to safeguard the interest of parties.
Indian courts have also come up with various judgements with respect to the validity and enforceability of an MOU. In the case of Jyoti Brothers v. Shree Durga Mining Co., the Court stated that the contract to enter into a contract is invalid from the legal viewpoint. However, the same can be taken into consideration if one of the parties has acted on reliance on such understanding. In a contradicting judgement in the case of Kollipara Sriramulu vs. T. Aswathanarayana & Ors., the parties held that the MOU and the binding contract can exist in harmony with each other and the legality of one does not invalidate the legality of the other.
In another case of Jai Beverages Pvt Ltd. v. State of Jammu and Kashmir and Ors., the Court held that if the conditions stated in the MOU are acted upon by the parties, the party shall be able to reap the benefits arising out from the MOU. In light of the literature mentioned above, it can be concluded that the binding nature of MOU depends on the intention of the parties, the language of the agreement and the nature of the agreement. The conduct post-execution is also a relevant factor in deciding the enforceability of MOU.
The Courts do not require strict precision in drafting documents; however, the essential terms which form the essence of the contract must be clear and certain. Terms like “usual terms” and “fair and equitable price” can be considered vague and courts may often find difficulty in interpreting the same, thereby, invalidating the enforceability of the MOU. Therefore, all the terms which objectively seem important to an MOU must be included in the agreement to make it enforceable.
In the landmark case of Structural Waterproofing & Ors v. Mr. Amit Gupta, the Delhi High Court came to the conclusion that without any misrepresentation or coercion the enforceability of an MOU cannot be denied.
International MOU is formed like a treaty and registered with the United Nations treaty collection; the same is kept secret and confidential. Like National MOU, the binding nature of International MOU is too determined by the intent of the parties entering into an agreement, and the legal position of the parties while entering into the agreement are also necessary to determine the same. The ICJ in a case involving Qatar and Bahrain on 1st July 1994 stated the legality of the document, where the court defined certain standards for the legality of an MOU.
The parties entering into an MOU need to be aware of the legal and practical implications while entering into an agreement. The Government can help the enforceability of MOU by laying down certain guidelines with respect to the same because currently there is no effective way to determine the enforceability of an MOU. The parties need to ensure their intention is clear while entering into an agreement, and from the current perspective on MOU; it is clear that MOU lacks the effectiveness to secure certainty in a transaction, its ability is more moral than legal.
- Damian Mc Nair, Memorandum of Understanding, January 2016, https://www.pwc.com.au/legal/assets/investing-in-infrastructure/iif-39-memorandum-feb16-3.pdf
- Enforceability of a Memorandum of Understanding by Alba Law Offices, November 2016, https://www.legallyindia.com/views/entry/enforceability-of-a-memorandum-of-understanding
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