Learning Objective
Introduction
What is the Law of Contract?
Essential Elements of a Contract
Contracts entered into on Bursa Malaysia Securities Berhad
Summary
Self-Assessment
Introduction
Understanding contracts is fundamental to understanding business law because without agreements that are legally binding and enforceable, there can 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 into an understanding, but this is different from being committed to a legally binding contract. Consider life without legally effective contracts: customers cannot buy goods using cheques (a cheque comes from the customers’ contracts with their bank); stockbroking companies cannot buy and sell shares on behalf of clients if borrowers cannot raise capital through bills of exchange, etc.
A contract is a promise or a set of promises which are enforceable by law. Although the law will enforce a contract, this does not mean that it has to be made solemnly, in writing and witnessed. In fact, usually none of these formalities are required. Instead, there are 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.
What is a code of conduct?
A code of conduct, also known as privacy and code of conduct, is a defined set of rules, principles, values, employee expectations, behaviours, and relationships that a business considers important and believes necessary for its success. You can find the code of conduct for an organization in its employee handbook. Human resources may also provide new employees with training materials to assist them in learning the code. A code of conduct lists the principles and ideals that distinguish a company, with some more relaxed than others. An organization’s code of conduct reflects on the organization’s culture and creates a message that all employees and other stakeholders can use for reference…Read more
Securities Commission Malaysia (SC) Code of Ethics
The code outlines high standards of conduct in areas such as compliance with laws and regulations, conflicts of interest, fair dealing with shareholders, information disclosure, risk management, and sustainability. It applies to all directors and secretaries in Malaysia, regardless of their size or industry…Read more
What is the Law of Contract?
The right of all individuals to engage freely in agreements and commercial relations with other individuals is recognised as one of the outstanding symbols of freedom. When people enter into an agreement, the agreement or promise may be legally binding because it is a “contract”; however, not all agreements are contracts.
The law of contract is that branch of the law that tells us when a promise is legally binding. Contract is a common law concept. In Malaysia, however, the law of contract is predominantly found in the Contracts Act 1950 (Revised 1974), and where this Act does not deal with some aspect of the law, the common law can be applied.
A contract is an agreement that is enforceable by law. Where a contract exists, the parties to it have rights and obligations. Generally, these rights are confined to the parties of the contract and do not apply to third parties.
The basis of a contract is an agreement, although not all agreements are automatically contracts. Some agreements are not contracts because they lack certain essential elements.
Essential Elements of a Contract
If an agreement is to become a contract, it must contain all of the following elements:
(a) Offer and acceptance
(b) Consideration
(c) Intention to create legal consideration
(d) Certainty
(e) Capacity to contract
(f) Genuine consent
(g) Lawfulness of object
(h) Required formalities
Several of these are found in s.10 of the Contracts Act 1950 that states that an agreement must be made “by free consent of parties competent to contract for a lawful consideration and with a lawful object”.
When one or more of the essential elements of a contract is missing, the agreement is not a contract that the law will enforce.
Offer and Acceptance
An agreement must be constituted by an offer or proposal by one party and acceptance of the offer by the other party.
Invitation to treat
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 of Pharmaceutical Society of Great Britain v. Boots Cash Chemists Ltd (‘Boots’) [195311 QB 401. Boots was prosecuted under the Pharmacy Poisons Act 1933 which provided that drugs could not be sold by anyone other than a registered pharmacist.
The Pharmaceutical Society of Great Britain alleged that:
(a) The goods on the display shelf constituted an offer
(b) By taking the goods from the display, the customer was accepting the offer
(c) It was at this point that a contract of sale was entered into without the supervision of a registered chemist
This argument was rejected and it was held 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.
The position of the courts in Malaysia is that:
(a) An advertisement is only an invitation to applicants to make an offer and not an offer itself
(b) Quotations for a printing job are merely a supply of information which is really an invitation to enter into a contract2.
Offer
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 proposal 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 or a proposal has certain characteristics:
(a) 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.
(b) The proposal must be communicated. The person who seeks to accept a proposal must be able to demonstrate communication of the proposal to him/her. 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/she is unaware of it at the time, but subsequently discovers the existence of an offer of reward for its return.
(c) An offer can be terminated by:
(i) An acceptance, in which case it becomes an agreement.
(ii) A rejection, in which case it ceases to exist.
(iii) Being offset by a counter proposal (which amounts to rejection of the original offer) Of course, the parties can continue their negotiations with subsequent proposals.
(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.
(a) A lapse due to the death of one of the parties before acceptance.
(b) A lapse 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.
Acceptance
An acceptance is assent (unconditionally) to the terms of the proposal. The Contracts Act 1950 states that acceptance must be communicated in some usual and reasonable manner if no particular method of acceptance is specified in the proposal.
The following are a few exceptions to the general rule that acceptance must be communicated:
(a) The proposer has dispensed with the need for it.
(b) The proposer allows the party to whom the proposal is made to accept in the form of an act stated in the proposal. This exception requires that something positive be done. Generally, silence, absence of response or just total disregard of the proposal is not acceptance as there is no positive act that can be related to the proposal.
(c) The proposer allows the acceptance of any consideration for a reciprocal promise (a promise which forms the consideration for another promise) which may be offered with a proposal. For example, if A sends B a cheque for RM500 with the proposal that it will be the consideration for B’s agreement to sell his motorcycle, B will be deemed to have accepted the proposal if he cashes the cheque even though he has not communicated his acceptance to A. B has accepted a consideration for a reciprocal promise offered with a proposal.
(d) The postal acceptance rule. The illustration given in the Contracts Act 1950 concerning an acceptance that it is mailed is as follows:
(i) B accepts A’s proposal 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 proposals, acceptance can be revoked or withdrawn before acceptance is complete, but not afterwards.
Consideration
Even where the elements of the 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 Contracts Act 1950, an agreement without consideration is void (i.e. of no effect), subject to the exceptions noted below.
The most common example of consideration is money. However, consideration can also take the form of not doing something you have a right to do.
The Contracts Act 1950 provides the following exceptions to the general rule concerning consideration:
(a) An agreement made on account of natural love and affection between parties standing in near relation to each other.
(b) An agreement to compensate for a past voluntary act. This refers to a promise to compensate a person who has voluntarily done something for the promisor.
(c) An agreement to compensate a person who did an act which the promisor was legally compelled to do. The illustration in the Act is as follows:
A supports B’s infant son. B promises to pay A’s expenses in so doing. This is a contract.
(d) An agreement to pay a statute-barred debt. A statute-barred debt is one that cannot be recovered through legal action because of a time limit imposed by law. The illustration contained in the Act is as follows:
(e) 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:
(a) It must be given in exchange for a promise
(b) It must have some value
(c) 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
(d) It must be given by someone, even if not given by the person to whom the promise was made. S.2 (d) of the Contracts Act 1950 clearly states that consideration can be given by “any other person”.
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 a 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 the court to conclude 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 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 that they had no intention of entering into contractual relations.
The position will be different, however, if the parties intended to be bound by a preliminary agreement that contemplated the preparation of more formal documentation later. A common example of this situation is the offer and acceptance of finance that is almost always followed by security documents, etc. In other words, it is possible to have a contract to make a contract.
Certainty
The terms of a contract must not be vague. An agreement that seems to be a contract, may not in fact be one due to uncertainty as to what the parties have actually agreed upon. This element is covered in s.30 of the Contracts Act 1950.
If the language 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 will fail for incompleteness.
Capacity to Contract
Who can enter into a contract? As a general rule any natural person can enter into a contract.
Some rights to contract may be qualified or defined, e.g. in the case of minors (a person younger than 18 years old).
There are some exceptions to this general rule for minors, called contracts for “necessaries” (goods and services reasonably necessary to the minor’s actual requirements) and contracts of scholarships. There is also other legislation that allows minors to enter into valid agreements in relation to, for example, insurance and apprenticeships.
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 mental disorder or due to sickness, alcohol or other drugs.
A company formed under the Companies Act 2016 (CA) may or may not have a constitution. The rights, powers, duties and obligations of the company, each director and each member are set out in its constitution. If there is no constitution, then these rights, powers, duties and obligations shall be guided by and in compliance with the CA. A company is restricted from carrying on any business or activity that is not within the objects set out in the company’s constitution. Similarly, s.21 of the CA states that a company shall be capable of exercising all the functions of a body corporate and have the full capacity to carry on or undertake any business, and it has the full rights, powers and privileges to do so.
The constitution of a company in the case of a company registered under the previous corresponding written law is the memorandum and articles of association as originally registered, or altered in accordance with that previous written law. The rights, powers, duties and obligations of such a company, each director and each member are set out in its memorandum and articles of association.
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. S.14 of the Contracts Act 1950 provides:
“Consent is said to be free when it is not caused by:
(a) coercion, as defined in s.15
(b) undue influence, as defined in s.16
(c) fraud, as defined in s.17
(d) misrepresentation, as defined in s.18
(e) mistake, subject to ss.21, 22 and 23
Consent is said to be caused when it would not have been given but for the existence of such coercion, undue influence, fraud, misrepresentation or mistake.”
(a) 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
(b) voidable (as in all others). “Voidable” means that one party can elect to avoid the contract.
Lawfulness of Object
5.2 (g) of the Contracts Act 1950 provides that an agreement not enforceable by law is void.
5.10 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 law
(b) It is of such 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.”
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 Contracts Act 1950. This section refers to the fact that various statutes make some types of contracts 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 statute-barred debt, both of which must be in written form. See s.26 of the Contracts Act 1950.
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:
(a) 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.
(c) Damages
The type of damage recoverable is set out in s.74 of the Contracts Act 1950. An injured party is entitled to damages arising naturally from the breach. If special damages are claimed, he/she must show that the other party knew at the time of making the contract that the special loss 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. S.76 of the Contracts Act 1950 confers entitlement to compensation for any damage sustained by the party that has the right to rescind the contract.
(c) Specific performance
This is a decree of the court directing that the contract shall be performed to its terms. For the circumstances in which this remedy is available, see. s.11 of the Specific Relief Act 1950.
This remedy will not be granted where monetary compensation is adequate.
(d) Injunction
Injunctions are orders of the court restraining a person from doing something. A grant of an injunction will prevent a defaulting party from doing a wrongful act, such as breaking a contract or committing a tort (a wrongful act). It is a remedy classed in part III of the Specific Relief Act 1950 as “preventive relief”.
Contracts entered into on Bursa Malaysia Securities Berhad
In terms of dealing in securities and the contractual relationship between the Exchange, Participating Organisations and their clients, generally, dealings are restricted to transactions between Participating Organisations and the Exchange. A client who wishes to buy or sell securities on the Exchange is required to do so through a broker. This legal relationship between the Participating Organisations is discussed in greater detail in Topic 8.
Further, as discussed previously in Topics 5 and 6, clearing participants who enter into a contract with the clearing house, shall carry out the contract settlement as they are bound by the settlement rules of the clearing house.
Although in principle, transactions on the Exchange are between a buyer and seller, under the principle of novation, the clearing house will replace the original contract between the buyer and seller of securities with two separate contracts. Under one contract, the clearing house becomes the seller to the buyer and in the other contract it becomes buyer to the seller. In this respect the clearing house becomes the counterparty to the contract providing greater protection in the event of a default by a clearing participant.
Summary
In this topic, we considered the law of contract. We defined a contract and examined the essential elements which must be present for the formation of a contract. The law of 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, to buying a house.
We also looked briefly at the remedies available for breach of contract.
Additionally, we discussed briefly the contractual relationship between the Exchange. Paricipating Organisations and their clients, in terms of dealing in securities. In the next topic, we will look at the legal relationship between a Participating organisation and a client. Part of this legal relationship, i.e. principal and agent, overlaps with contract law.
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.)
Suggested Answer:
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 ofitself 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).
Self-Assessment
The essential elements of contract include the following, EXCEPT:
a. Certainty
b. Consideration
c. Genuine consent
d. Invitation to treat
e. Must be in writing
f. Capacity to Contract
g. Offer and acceptance
h. Intention to create legal consideration
2. On Monday, 21 October 20X9, Sandy, a Marketing Representative of ABCCompany Sdn Bhd had promoted her company’s products and services by showing brochures to her clients. Based on the law of contract, the information given by Sandy is known as:
A An offer
B A consideration
C A genuine consent
D An invitation to treat
3. Which of the following remedies may be claimed by the party not in default in a contract when there is a breach of contract?
I Mental distress
II Monetary compensation
III Cancellation of a contract
IV Obtaining an order of a court restraining a person from doing a particular act
(A) I only
(B) I and IV only
(C) II, III and IV only
(D) All of the above