Memorandum of Understanding: Risks and Pitfalls
Written by Victor Hamit

Frequently, in the formative stage of a transaction or project, the parties seek to record in writing important aspects on which they believe they have agreed before proceeding to “formal” Contracts. Such a preliminary agreement is often referred to as a Memorandum of Understanding (MOU) or also frequently referred to as a Heads of Agreement, Letter of Intent, Statement of Intent, Statement of Agreement, or Terms Sheet amongst many other expressions. For the purposes of this Article, we use the expression MOU to describe such a preliminary agreement.

The description of the document does not automatically define its effect or intent. It is the words of the document that define its effect and intent.

A critical question to answer is do the parties intend the MOU to be legally binding between the parties:

In full;
In part; or
Not at all?
The second critical question in the context of MOU’s is; are the terms certain and clear?

It is surprising how often people believe that the expression MOU assumes a legally binding document, whilst others assume it is not a legally binding document. Even more surprising that two parties can walk away after signing an MOU with completely opposite views on the legal effect of the MOU.

Purpose of MOU

It is generally accepted that an MOU can fulfil a useful role in commercial transactions as a preliminary document. The MOU can assist the parties in developing a framework for further negotiations in order to finalise the terms.

Frequently, the MOU allows a due diligence process where there is a proposed acquisition of assets or amalgamation between Clubs. Sometimes the MOU might set out what the parties believe to be essential terms of a Lease with the balance of the terms to be in the Law Institute of Victoria standard form. Sometimes the parties do not wish the document to be legally binding at all, but simply a record of discussions and negotiations to be held.

Is an MOU binding?

Whether a MOU is binding is a question of general Contract Law – that is, there must be offer, acceptance, intention to be legally bound and consideration. However, in the case of MOU’s as noted above, the intention to create legal obligations and the certainty of the understanding are particularly problematic.

If the terms of the MOU are comprehensive or not complicated, such as the example of the Lease given above, then it may be prudent to draw the Lease document in final form and the parties can sign the final document.

If, however the parties insisted that an MOU be used with the intention that the MOU be legally binding and the terms certain, then this would be an example where an MOU was fully binding.

However the situation is not always so clear. Sometimes the parties are pushed into an MOU by a third party with a vested interest such as a sales commission offering the words “Let’s get something down in writing and the lawyers can sort it out later”!

To determine whether a party intended to be bound by an MOU, the Courts will adopt an objective approach and ask whether an intention to be bound can be reasonably inferred in the circumstances. It does not necessarily follow that the Courts will accept the desires of any particular party in determining whether legal obligations where formed.

Partly Binding

Most frequently parties wish only part of an MOU to be binding because they are seeking further information or negotiations in order to determine whether to finalise a transaction.

Where a due diligence approach is adopted, confidentiality of the information exchanged between the parties is critical. The exchange of information allows one party to determine whether to proceed with the transaction or not. In the event that a party decides not to proceed, then the other party may well want its confidential information returned and the confidentiality respected notwithstanding the transaction is not proceeding. Accordingly, a party would want to enforce a confidentiality provision should it be breached, even though the transaction did not proceed.

Non-Binding

Sometimes the parties wish to explore possible opportunities or hold discussion with third parties such as local Council’s in rationalising sporting facilities in a district. The parties may feel that a non-binding MOU has perceived advantages and uses such as the parties feel “bound” by a greater moral commitment if an MOU is produced. Similarly a written document can reduce the risk of misunderstanding or provide an aide-mémoire for a later formal Contract. On other occasions, the MOU may simply be an expression of intent to a third party such as a Government agency funding body for the development of, say, sporting infrastructure.

However, it is clear that the best way to deal with a non-binding MOU is to state in the document that it is not legally binding on the parties.

The Courts will not enforce an MOU which is simply a mere agreement for discussion or negotiation.

Conclusion

There is no such thing as a “standard” MOU and it is not the expression MOU that has meaning but rather the words of the document. Similarly, be on guard where a third party’s interests may be driven by commission. Oddly, if the expression “Contract” where used rather than MOU, it would appear that the parties would immediately show greater caution.

As noted, MOU’s can be an effective tool in commercial transactions to further the negotiation process. However, caution should be exercised in order to achieve your desired outcomes. Furthermore, you may wish to avoid the risk of creating legal obligations where you do not intend to do so, or fail to create legal obligations when in fact you do intend.

Article Published in Club Connect September 2013

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Victor Hamit
Wentworth Lawyers
Level 40,
140 William Street
MELBOURNE VIC 3000

Email: vhamit@wentworthlawyers.com.au
Website: www.wentworthlawyers.com.au

Tel: +61 3 9607 8380
Mobile: +61 408 590 706

Disclaimer:

These materials are provided as a general guide on the subject only, not as specific advice on any particular matter or to any particular person. Please seek specific advice on your own particular circumstances as situations and facts vary.
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