Contractors Rights to Payment Under a Letter of Intent

Contractors Rights to Payment Under a Letter of Intent

This Article looks at some of the common issues which arise from the use of ‘Letters of Intent’ in the construction industry prior to the execution of a formal contract for the works.

It is fairly common practice that parties to construction contracts initially use letters of intent, the reasons for these practice can be because:-

Construction Contracts can be very complex and detailed documents which take considerable time and effort to prepare check and execute, thus in many cases a letter of intent can mitigate any delays which would result in commencing the works while the parties prepared and agreed the content of any proposed contract.

Developers or end users of a property of facility are sometimes under pressure to start works and complete projects for such reasons as financing; to meet obligations to third parties or simply because a project is required to be put into operation as quickly as possible.

The Contractor may similarly be desirous to obtain a letter of intent to confirm the project and end speculation and risk of not being awarded the project.

The declining use of letters of acceptance in favour of negotiation to obtain more favourable price and conditions with a potential contractor.

Some of the issues that are created by the parties adopting and using letters of intent are:-

Establishing if there is indeed a contract formed by the letter and subsequently on what basis.

Establishing if an ancillary contract to perform the Works exists whilst awaiting the execution of a contract for the substantive part of the Works is formed on the execution by the parties of a formal document.

Establishing what (if any) are the Contractor’s rights where the Developer/Owner/Employer abandons or cancels the project before any form contract is executed.

Establishing if the consultant employed by the Owner’s actually had the authority to execute a letter of intent on behalf of the owner with the Contractor

Of course there are many other issues and potential issues raised by the use of letters of intent and this article hopes to explore some of these.

To establish if a contract has been formed it is essential to show there was an offer and an acceptance of that offer. Words alone can not always be the sole consideration in establishing the intent of the parties. The Courts also take into consideration the intent and actions of the parties in their dealings with each other.

In the famous case of British Steel Corporation v Cleveland Bridge and Engineering Co Ltd [1984], the Owner in a letter to the Contractor advised him of their intention to enter into a supply contract and proposed a number of terms and conditions which were never at any stage agreed to be the Contractor. The parties exchanged correspondence to each other asserting their respective preferred terms, but they never achieved any agreement. The Contractor eventually completed the works, but the owner insisted that the Contractor was liable for liquidated damages due delays in delivery of the goods (the delivery schedule was in fact one of the terms which the parties had failed to agree). As a result the court found that no contract had been formed. The judge stated:-

“There can be no hard and fast answer to the question whether a letter of intent will give rise to a binding agreement; everything must depend on the circumstances of the particular case.”

A common area of dispute occurs is when a contractor starts work on the strength of a letter of intent and the owner decides not to proceed with the project. This presents the Contractor with two major problems:

Establishing how he will get paid for the works performed. Will it be on the basis of the contents of the letter of intent, his offer or alternatively on a quantum meruit basis if it deemed no contract has been formed by the letter of intent

Establishing whether he has a remedy against the Owner for breach of contract.

In the case of Turriff Construction Limited v Regalia Knitting Mills Ltd [1971], the Contractor requested a letter of intent to “cover it” for design work under a proposed design and construction contract.

The Employer through a letter signed by one of its directors wrote to the Contractor as follows:

“As agreed at our meeting…it is the intention of Regalia to award a contract to Turriff to build a factory… All this to be subject to obtaining agreement on the land, and… The whole to be subject to agreement on an acceptable contract.”

Shortly after this the project was cancelled by the Owner and he denied any liability to Turriff in respect of the expenses the contractor had incurred executing design works to that date.

 When the case came to court the judge reasoned:

“A Letter of Intent will ordinarily have two characteristics, one, it will express an intention to enter into a contract in future and two, it will itself create no liability in regard to that future contract.”

The Contractor failed in their quasi-contract claim for payment of designs costs under quantum meruit as a result of the express agreement as to payment for interim work in the letter of intent. The court held that the parties had turned their minds when the Contractor requested the letter of intent. This together with the inclusion of “Subject to…” in the letter of intent had shown that to the parties had failed to form a substantive contract. An ancillary contract for the design works as a result of the pre-contract discussions and the letter of intent was held to exist.

From this judgment it is commonly accepted that Contractors who execute works under a letter of intent will usually be able to obtain payment for works executed on the basis on the letter either under the doctrine of quantum meruit where it is held no contract was formed or where it is held an ancillary contract is in place on the basis of that contract.

MALCONLAW