Contracts and Contracting

Contract Definition
“A mutually binding agreement that obligates the seller to provide the specified products, services or results, and obligates the buyer to provide monetary or other valuable consideration.”
PMBOK Guide – 4th Edition, p. 315

A contract creates a “formal relationship between two organizations.”  A contract is like a marriage certificate (which is a form of contract) only with a lot of details about how exactly each party is expected to behave.

Like a marriage certificate, the terms of a business contract can be enforced through legal action if the parties involved are not able to settle their differences on a private basis.

Contracts exchange obligations and responsibilities.  One party pays the other for taking responsibility for delivering goods or services.

Terminology
Other names, such as agreement, MOU, SLA, understanding and purchase order may be used in place of the term contract. However, only a contract is a legally-binding agreement.

Documents do not need to be labeled as a contract in order to be legally binding. Whether or not a document constitutes a binding contract depends on the presence or absence of well-defined legal elements, the so-called “four corners.”

A legally binding contract typically must contain mutual consideration and legally enforceable obligations of the parties. There cannot be any barriers to the legal formation of the contract, such as fraud, duress, insufficient age or mental incapacity.

An agreement, understanding, MOU or purchase order may not have all the legally required ingredients, and therefore, is not necessarily a “legal” contract.  In other words, a contract may be a purchase order, agreement, or understanding, but the reverse may not be true.

Also, if an agreement cannot be enforced through the courts, it is not a contract.  Instead it is a “non-binding commitment,” sort of like a promise.

Essential Ingredients

  • Capacity or legal capacity: The parties entering into the agreement must have the legal authority to enter into the agreement on behalf of their organizations.
  • Consideration: Something must be given in exchange for something else.
  • Offer: There must be an invitation to make a deal, typically within a time limit.
  • Legal purpose: The deal must be legal; the contract obligations cannot violate the law.
  • Acceptance: An exchange of commitments must take place, possibly within a given time limit.  If there is a counter-offer rather than an acceptance, this condition has not been met.

Signatures
Notice that a signature is not listed as a required element to have a legal contract.  If both parties behave as if a contract is in place and meet the other requirements, then a legal contract exists between the parties and a signature is not required.

For example, when you order products over the Internet, you provide a credit card number but no signature. Nevertheless, you and the vendor have still entered into a contract where the vendor agrees to provide the product you ordered, and you agree to provide consideration by credit card payment.

Related Contract Terminology

  • Duress: Refers to a contract being signed under pressure where the signatory’s actions are constrained by threat.
  • Minors: Refers to the minimum age under which a person is not considered to be capable of signing a contract.  The courts cannot be used to force minors to live up to contract commitments.
  • Estoppel: Refers to a decision by an authoritative body that prevents someone from denying the truth of a fact that has already been settled.
  • Privity: Refers to the limitation that a contract cannot confer rights or impose obligations on any person or organization except those who have signed it.
    • If you hire a company and they hire subcontractors, you have no legal relationship (rights or controls) with the subcontractors as a consequence of having a contract with the primary contractor.
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