The Law of Contract

Overview

Introduction

Understanding contracts  is fundamental to understanding  business law because without agreements that are legally binding and enforceable there could be almost no business. Most areas of business life contain contractual elements, e.g. banking,

insurance, investment and partnerships. It is easy to make an arrangement or to enter an understanding, but this is different from being committed to  a legally binding contract. Consider  life without legally effective contracts: customers could not buy goods using cheques (a cheque  comes from the customer’s contract with their bank); employees and employers could not contribute to pension funds to produce a pool of funds to be invested.

A contract is a promise or a set of promises that are enforceable at law. Although the law will enforce  it, this does not mean  that a contract has  to be  made solemnly, in writing and witnessed. In fact, usually none of these formalities are required. Instead, there are eight essential elements to  a legally enforceable contract in Malaysia. In this topic we examine these elements and also consider what happens when  things do not go according to plan.

Objectives

At the end of this topic you will be able to:

•    outline the law of contract

•   list and describe the essential elements of a contract

•   describe the    common law remedy for breach of contract.

An offer needs to be distinguished from an invitation to treat. An invitation to treat is not an  offer, but a type of preliminary   communication   between the parties at the stage of negotiation. Examples are a price list, a display of goods with price tags in a self-service supermarket, an advertisement or an auctioneer inviting bids for a particular article.

A display of goods does not amount to  an offer. This rule was clearly determined in an English case, Pharmaceutical Society of Great Britain v. Boots Cash Chemists Ltd [1953] 1 QB  401. Boots was prosecuted under  the Pharmacy Poisons Act 1933 which stated that drugs could not be  sold  by anyone other than the registered pharmacist. The  Pharmaceutical Society of Great Britain alleged that:

(i)   the goods on the display shelf constituted an offer

(ii)  by taking the goods from the display, the customer was accepting the offer

(iii) it was at this point that a contract of sale was entered into without the supervision of a registered chemist.

This  argument  was rejected by   the English Court of Appeal. It stated that a display of goods was an invitation to treat and not an offer. The offer occurred when    the customer  selected the   goods and   took  them to   the registered pharmacist  who  could accept or reject the offer. The offer was accepted by the chemist entering the price of the drug into the cash register, and it was at this point that a contract came into existence. Thus, the contract was entered into in the presence of a registered pharmacist.

In Malaysia it has been held that:

•  an advertisement is  only an invitation to applicants to make an offer and not an offer itself. Coelho v. The Public Services Commission [1964] MU 12

•  quotations for a printing job were merely a supply of information which was really an invitation to enter into a contract. Preston Corp. Sdn. Bhd. v. Edward Leong a Ors. [1982] 2 MU  22.

Every contract is said to be formed by the acceptance of an offer. This process of offer and acceptance may  be by express words, followed by words  from the other party like, ‘Okay, it’s a deal’, or by actions only such as the offer being made by showing  the cashier a newspaper and tendering payment which is accepted by the cashier takirjg the money, or both express words and actions combined.

An offer has certain characteristics.

•  It can be made to a particular person or to the general public. If made to a  particular person, only that person  may accept it. If made to the general public, anyone who meets all the terms of the proposal may accept it.

• It must be communicated.  The  person who seeks to accept a proposal must be able to demonstrate  communication  of the proposal  to them. The fact that the other party has done  something which coincides with the proposal without being  aware of its existence, does not bring an agreement into being. For example, a person who casually returns lost property to its owner  cannot legally claim a reward if he or she is unaware of it at the time, but  subsequently discovers the existence of an offer of reward for its return.

An offer needs  to be distinguished from an invitation to treat. An invitation to treat is not an offer, but a  type of  preliminary  communication  between  the parties at the stage of negotiation. Examples are a price list, a display of goods with  price tags in a self-service supermarket, an advertisement or an auctioneer inviting bids for a particular article.

A display of goods does not amount to an offer. This rule was clearly determined in an English case, Pharmaceutical Society of Great Britain v. Boots Cash Chemists Ltd [1953] 1 QB 401. Boots was  prosecuted under the Pharmacy Poisons Act  1933 which stated that drugs could  not be sold by  anyone other than the registered  pharmacist. The Pharmaceutical  Society of Great Britain alleged that:

(i)   the goods on the display shelf constituted an offer

 (ii)  by taking the goods from the display, the customer was accepting the offer

(iii) it was at this point that a contract of sale was entered into without the supervision of a registered chemist.

This  argument  was rejected by the   English Court of Appeal. It stated that a display of goods was an invitation to treat and not an offer. The offer occurred when  the   customer selected  the   goods and   took them  to   the registered pharmacist  who could accept or reject the offer. The offer was accepted by the chemist entering the price of the drug into the cash register, and it was at this  point that a contract came into existence. Thus, the contract was entered into in the presence of a registered pharmacist.

In Malaysia it has been held that:

•  an advertisement is only an invitation to applicants to make an offer and not an offer itself. Coelho v. The Public Services Commission [1964] MU 12

•  quotations for a printing job were merely a supply of information which was really an invitation to enter into a contract. Preston Corp. Sdn. Bhd. v. Edward Leong a Ors. [1982] 2 MU 22.

Every contract is said to be formed by the acceptance of an offer. This process of offer and acceptance may  be by express words, followed by words from the other party like, Okay, it’s a deal’, or by actions only such as the offer being made by showing the cashier a newspaper and  tendering payment which is accepted by the cashier taking the money, or both express words and actions combined.

An offer has certain characteristics.

•  It can be made to a particular person or to the general public. If made to a particular person, only that person may  accept it. If made to the general public, anyone who meets all the terms of the proposal may accept it.

•  It must be communicated.  The person who seeks  to accept a proposal must be able to demonstrate  communication  of the proposal to them. The  fact that the other party has done something which coincides with the proposal without being  aware of its existence, does not bring an  agreement  into being. For example, a person who casually returns lost property to its owner        cannot legally claim a reward if he or she is unaware of it at the time, but subsequently discovers the existence of an offer of reward for its return.

•  It can be terminated by:

 (i)  acceptance, in which case it becomes an agreement

(ii) rejection, in which case it ceases to exist

(iii) being offset by a counter offer (which amounts to rejection of the original offer). Of course, the parties can continue their negotiations with subsequent offers

(iv) being   withdrawn prior to acceptance, in which  case generally the withdrawal  will only be effective when it comes to the notice of the person  to  whom  the   proposal was made.   This is also  known as revocation

(v)  lapsing due to the death of one of the parties before acceptance

(vi) lapsing because it was not accepted within a specified time (i.e. the proposal  stipulated a time within which it had to be  accepted) or generally within a ‘reasonable time.

An acceptance is assent (unconditionally) to the terms of the offer. The Act states that  acceptance must be   communicated in some usual and reasonable manner if no particular method  of acceptance is  specified in the offer. If the offer does specify a particular method of acceptance,  and it is not followed, the proposer can insist on it within a reasonable time of receiving some other communication of acceptance. If the proposer does nothing, he or she is deemed to have accepted. The duty to object to the manner of acceptance lies with him or her.

There  are a  few exceptions  to  the general rule that acceptance  must  be communicated. These are:

•     The offeror has dispensed with the need for it.

•     The  offeror allows the party to whom the offer is made to  accept in the form of an act stated in the offer. This exception requires that something positive be done. Generally, silence,  absence of response  or just total disregard of the offer is not acceptance as there is no positive act that can      be related to the offer.

•  The  offeror allows the acceptance of any consideration for a reciprocal  promise  (a  promise   which forms  the, consideration  or  part  of the  consideration for another promise) which may be offered with an offer. For example, if A sends B a-theque for RM500 with the offer that it will be the consideration for B’s agreement to sell his motorcycle, B will ‘be deemed to have accepted  the offer if he or she cashes the cheque even though he or she  has not communicated    their acceptance to  A.  B has  accepted  a  consideration for a reciprocal promise offered with an offer.

•   The  postal acceptance rule. The illustration given in the Act concerning an acceptance that is mailed is as follows:

(i)   B  accepts As offer by a letter sent by post

(ii)  the communication of the acceptance is complete:

 –      as against A, when the letter is posted

 –     as against B, when the letter is received by A.

As with offers, acceptance can be  revoked (or withdrawn) before the acceptance is complete, but not afterwards.

2.3   Consideration

Even  where the elements  of offer and  acceptance are present, consideration is essential to any valid contract. Every contract contains at least one promise and consideration is the price paid for a promise.

Under the  Act, an   agreement without consideration is void (i.e. of no effect), subject to the exceptions noted below.

The  most   common example  of consideration is the money you pay for goods in a shop; however, consideration can also take the form of not doing something  you have  a right to do.

The  Act provides the following exceptions to the general rule  concerning consideration:

•  An  agreement   made  on account  of natural love and affection   between parties standing in near relation to each other. In Re Tan Soh Sim [1951] MU 21, an attempt   was  made to define ‘near relation’. Justice Briggs stated that ‘natural’ meant ‘reasonably to be expected having regard to the normal  emotional feelings of human beings. If the emotional feeling or the relation are not apparent, an agreement could not stand under this exception.

•  An  agreement  to   compensate for a past voluntary act. This refers to a promise  to   compensate a   person  who  has  already   voluntarily done  something for  the promisor. See J.M.   Weatherspoon Et Co Ltd.  v. Henry Agency House [1962] MU 86 .

•   An  agreement  to compensate a person who did an act which  the pro.misor was legally compelled to do. The illustration in the Act itself is as follows:

•   A supports B’s infant son. B promises to pay A’s expenses in so doing. This is a contract.

•   An  agreement to pay a statute barred debt. A statute  barred debt is one that cannot be recovered through  legal action because of a lapse of time fixed by law. The illustration contained in the Act is as follows:

•   A owes B  RM1,000, but the  debt is barred by limitation. A signs a written promise to pay B RM500 on account of the debt. This is a contract.

To be valid, consideration must comply with the following requirements:

•  it must be given in exchange for a promise

•  it must have some value

•  it need not  be adequate. The illustration given in the  Act is: A agrees to sell a horse worth   RM1,000 for RM10.  A’s consent to  the agreement was  freely given. The agreement is a contract notwithstanding the inadequacy of  the consideration

•  it must be given by someone,  even  if not given by the  person to  whom the promise was  made.  Section 2(d) of the Act dearly  states that consideration can  be given by ‘any other person’.

2.4   Intention to Create   Legal  Relations

An  intention to create legal relations is the third element  that is essential to a valid contract.

For an   agreement to  be treated as a  contract, the parties  involved  must have intended  to  enter into a legally  binding  relationship. A contract will not  be enforced  if the court thinks the parties did not intend to create legal relations. In a  commercial situation, however, this intention is  presumed  until the contrary is shown.  Manifestly inadequate  consideration in  a    non-commercial situation may well  lead  a court  to  conclude that there  was   no intention   to create legal relations. It follows   that  the  law will  find it  difficult to  enforce   many arrangements  made   ‘within a family’, as there is frequently no evidence  of any intention to create a formal legal relationship.

If an agreement is expressed   to be ‘subject to contract’, in other words, if the parties state that they will  not  be  bound until a formal    agreement has  been prepared  and signed, it is clear they had no intention of entering into contractual relations.

The  position would be different,  however,  if the parties  intended to be  bound by a  preliminary  agreement that  contemplated  the   preparation of more  formal documentation   at a later date. A    common   example of this situation would  be the offer and acceptance  of finance which are  almost always  followed by security documents,  etc. In  other words, it is possible to  have  a contract  to  make  a contract.

2.5   Certainty

The terms  of a  contract must not  be vague.  An   agreement  that seems  to be a contract  may not be  one due  to uncertainty as to what the parties have actually agreed  upon. This element is covered by s. 30 of the Act.

If the  language used  is too  vague a court is  likely to hold  that there is  no concluded agreement.   The contract is void for uncertainty. If there is a failure to agree on a fundamental or vital term of an  agreement, the  contract would  fail for incompleteness.

2.6   Capacity  to Contract

Who can enter into a contract? As  a general rule any natural person can enter any contract. Some  rights to contract may be qualified or denied, e.g.  in the case of minors (younger than 18 years old).

There  are  some   exceptions  to this  general  rule  for minors:   contracts for ‘necessaries’ (goods and services   reasonably necessary   to  the  minor’s actual requirements) and  contracts of scholarships. There is also other legislation which allows minors to enter into valid agreements in relation to, for example, insurance and apprenticeship.

A meeting  of minds and free consent is the basis of a contract. A person suffering from mental disability at the time of the contract, lacks the capacity to contract. This mental incapacity can be due to  a mental disorder or due to sickness, alcohol or other drugs.

Companies  can  only contract  within  the  limits of their powers  found in their memorandum and articles of association. If they act beyond those powers, those acts are ultra vires. Section 20 of the Companies  Act  1965 mitigates this  harsh rule. It provides that no act of a company  is to be invalid by reason only of the fact that the  company lacked the capacity  or  power to do the act. However,  the doctrine of ultra vires still applies in certain specified situations.

2.7   Genuine   Consent

Without consent,  there  can be no   agreement and no contract.  Consent must   be free and not secured  through such   means as fraud, coercion,  undue influence or

misrepresentation. Section 14 provides:

‘Consent is said to be free when it is not caused by:

(a)  coercion, as defined in Section  15

(b)  undue  influence, as defined in Section 16

 (c)  fraud, as defined in Section 17

(d)  misrepresentation,  as defined  in Section 18

(e)  mistake,  subject to Sections 21, 22 and 23.

Consent is said to be so   caused when  it would  not have been given but  for the existence  of  such coercion,  undue    influence, fraud,   misrepresentation   or mistake.’

Any  of these  circumstances,  if proven,  impair the  validity of  an   agreement because consent is not free.   The   agreement is either void (as in the case of a mistake essential to the agreement)  or voidable  (as in all the, others). Voidable’ means that one party can elect to avoid the contract.

2.8   Lawfulness of Object

Section 2(g) of the Act provides that an agreement not enforceable  by law is void. Section 10 also refers to lawful object of an agreement and s-. 24 specifically refers when  the object of an agreement  is not lawful as follows:

“the consideration or object of an agreement is lawful unless-‘

(a)  it is forbidden by a law

(b)  it is of such a nature that, if permitted, it would  defeat any law

 (c)  it is  fraudulent

(d)  it involves or implies injury to the person or property  of another.

(e)  the  court regards it as immoral   or opposed to  public policy.’

This section is illustrated by four examples   of lawful considerations and seven examples of  agreements that are  unlawful.

2.9   Formalities
The general rule is that a contract can be made orally, in writing, or by conduct. There are exceptions,  however, to  the general rule in s. 10(2) of the Act. This section refers to the fact that various statutes make   some  types of contract unenforceable  unless they are in writing or some other special requirement  is followed. In fact, the Act itself does so concerning agreements made on account of natural  love and affection  between parties  standing in near  relation and agreements  to pay a statute-barred debt, both of which must be in written form. Sees. 26.

2.10  Remedies  for  Breach of Contract
When  there is a breach of contract the party not  in default may claim one  or more of the following remedies:
Rescission of Contract —  where a contract is breached in a sufficiently serious way, the injured party may  elect to terminate it immediately. That party may   then sue for breach   of contract, and is freed from  any future liability under the contract. If it does not elect to terminate, the contract is at an end only if the defaulting party has rendered it incapable of performance.
Damages   — the type of  damage recoverable is set out in s. 74. An injured party is entitled to damages  arising naturally from the  breach. If special damages are claimed he  or she must show that the other party knew at the time of making the contract that  the special toss was likely to result from the breach, but  such compensation   is not to be  given for any remote  and indirect loss or  damage sustained  as  a result  of the   breach. Section  76  confers  entitlement  to compensation  for any damage sustained by the party that has the right to rescind the contract.
Specific  Performance — this is a decree of the court directing that the contract shall be  performed  according to its terms. For the circumstances in which this remedy is available see s. 11 of the Specific Relief Act. This remedy will not be granted where  monetary  compensation is adequate.
Injunction  — injunctions are orders of the court restraining a person from doing something.  A grant of an injunction would prevent a defaulting party from doing a wrongful  act such as breaking a contract or committing a tort (a wrong). It is a remedy classed in Part III of the Specific Relief Act as ‘preventative relief. There is a large body of case law on the grant of injunctions.

Activity 1
Case Study

A charitable foundation  (whose objective is the provision of financial and other assistance  to employees  of fund    management  companies  who   have   become destitute) requests written proposals from Malaysian fund management  companies to be responsible for the management of its investment portfolio of RM 50 million. Mega  Fund  Managers   Bhd. (an  investment  management   group   with a social conscience) submits a proposal that includes a nominal RM1 fee each year for its services in place of its normal fee calculated as  a percentage of  funds under management.    No other fees or reward will be charged by Mega Fund Managers for its services.
The chairman of the   committee of  the charitable foundation  telephones the managing director of Mega Fund Managers and advises her that the committee has approved Mega  Fund  Managers’ submission  and that she should ‘go ahead’  and invest the RM 50 million. Mega Fund Managers proceeds to invest the foundation’s funds.
Does a contract between the charitable foundation and Mega Fund Managers exist? Provide reasons for your answer.
(Hint: In relation to the facts presented in the case study, examine each of the essential elements of a contract.)

3.0   Summary
In this topic we considered  the law  of contract. We defined   a contract and examined the essential  elements that must  be present for  the formation of a contract. The law of contract is very important in our everyday lives because it controls everything, from how to buy  goods in a shop, to ordering a  meal in a restaurant and to buying a house. It is also vital to transactions that occur every day in the business world including the relationship between a fund management company  and a client.
We also looked briefly at the remedies available for breach of contract.

In the next topic, we look more closely at another aspect of the legal relatignship between  a  fund management    company   and a  client —  the  law relating to negligent misstatement.

Suggested Answer to Activity
(Note:  the numbering of the  paragraphs below  relates to the eight essential elements of a contract described in the same order in the text.)

1. The ‘proposal by Mega Fund Managers is (despite its name) an invitation to treat rather than an offer. The proposal or offer is made by the chairman of the committee on behalf of the charitable foundation to Mega.  Mega Fund   Managers may accept  or reject the offer  (or may  make a  counter offer).
The offer is to  be appointed   as investment  manager to  the charitable foundation. It is a verbal offer made specifically to Mega Fund Managers.

By investing the  charitable foundation’s funds, Mega Fund  Managers  has immediately  and  unconditionally accepted the offer and has communicated its acceptance by so doing. While it would be unusual that  the offer and acceptance of a contract of this nature be made verbally, this does not of itself negate the contract. The proposer  (the charitable foundation) has dispensed  with the need for communication  of  acceptance by  requesting Mega Fund  Managers to ‘go ahead’ and invest the foundation’s funds.
The contract therefore  incorporates a proposal (offer) and acceptance of that offer.
2. There  is consideration for the contract even though it is a nominal RM1. The consideration need not be adequate since Mega Fund Managers has consented to  the  amount.  The consideration  may be   provided personally  by the  chairman rather than, the charitable foundation if required.
3. The parties clearly intended to create legal relations.
4. The terms  of-the contract appear’ to be sufficiently certain (as set out in Mega   Fund  Managers’ proposal) for   the   committee of  the charitable  foundation to approve Mega’s appointment.
5. The committee  of the charitable foundation would be  expected to have the capacity to make  a contract with Mega Fund Managers.
6. The charitable foundation and   Mega Fund  Managers appear to have freely consented to the  agreement and  the contract.
7. The  agreement    between   the parties has  a  lawful object,  being the investment of the foundation’s funds.
8. The contract is capable of being made orally, in writing or by conduct (and was made verbally by the chairman on behalf of the committee).


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