Commercial contracts: when is there a binding agreement?

The recent Supreme Court decision in Darzi Group Pty Ltd v Nolde Pty Ltd[1] illustrates the danger of a tenant moving into possession of premises before a formal lease has been executed.

In this case, the tenant entered into occupation of the premises and commenced paying rent to the landlord after the parties had executed a heads of agreement (HOA). Despite lengthy negotiations and apparent subsequent agreement on the terms of the lease, the landlord never returned a signed copy of the lease to the tenant.

The Court held that both parties did not intend to be bound by the lease until execution and exchange had taken place – largely because the landlord demonstrated conduct that was inconsistent with what was agreed in the lease.

Background

The signed HOA stipulated the basic commercial particulars of the lease transaction, including the rent, commencement date and a term of five years plus three five-year options to renew.

The tenant anticipated the formal lease to reflect the terms of the HOA. However, the terms of the lease drafted by the landlord were starkly different to those contained in the HOA. This resulted in two years of extensive negotiations between the parties. The parties eventually reached an agreement on the terms in a document which the Court referred to as the ‘15 June Lease Document’ (Document). The commercial terms in the Document differed from the HOA in respect of rent, the term and the commencement date of the lease.

The tenant signed the Document and returned it to the landlord for execution. The landlord did not sign the Document. Rather, the landlord attempted to renegotiate its terms. The tenant subsequently lodged a caveat on the title and commenced proceedings seeking to enforce the lease on the terms of the Document.

The central issue for the Court was whether a binding lease had come into effect after the tenant had signed and returned the Document to the landlord.

Criteria for a ‘binding agreement’

Whether a binding lease existed in the terms of the Document was a matter to be determined by ascertaining the ‘objective common intention of the parties, having regard to the language used by the parties, their conduct and the surrounding circumstances known to the parties’.[2]

Objective common intention and language

Although the Court considered that the terms of the Document ‘reflected the terms that had been agreed in correspondence and were sufficiently clear and certain to be capable of forming a binding contract’,[3] the issue was whether the parties intended that the terms in the Document would be binding only upon execution and exchange.

The Court emphasised that where parties are acting through legal advisers in commercial lease and conveyancing transactions, there is a presumption that no binding agreement arises until there has been a formal execution and exchange of counterpart or there is ‘the completion of some ceremony which marks the stage at which a contract comes into existence’ (for example, the parties expressly agreeing to be bound before a finalised lease is signed).[4]

It was held that the parties at no stage suggested that they were to be bound immediately once all terms had been agreed. Rather, that most of the correspondence was marked ‘without prejudice’. In this respect, the Court commented that it was reasonable to consider this to be consistent with an intention not to be bound until the execution of the Document had taken place.  Further, the tenant’s continued request for return of a duly executed lease by the landlord reflected the need for execution and exchange of the ‘15 June Lease Document’ before the parties were bound by it.

Surrounding circumstances

The Court then considered whether the subsequent conduct and communication between the parties supported a finding of a binding agreement. In that regard, the following aspects of subsequent conduct were considered:

• Payment of rent by tenant: payment of a higher rent in conjunction with continued occupation was evidence of part performance of the terms under the Document.[5] The tenant had paid rent since September 2016, including the increases consistent with the terms of the Document. However, such payments did not commence until the landlord’s solicitor sent an email setting out alleged rental arrears in an amount inconsistent with rental amount agreed under the Document.
• Acceptance of rent by landlord: the landlord had continued to accept rental payments from the tenant, but, had done so in circumstances where it contended a higher rent was payable, and had not issued any invoices or demands for rent since September 2016. Such conduct did not unequivocally indicate that the terms of the Document were binding, but instead that the landlord was acquiescing to rent being paid in a lesser amount than it considered due.
• No charging of outgoings by landlord: no invoices were submitted by the landlord in respect of outgoings.
• Disputed claim under caveat: whilst the landlord had taken no steps to remove the caveat, it had made clear that it rejected the tenant’s alleged claim under the caveat.

From these circumstances, the Court found that the correspondence between the parties’ solicitors and the surrounding conduct of the parties demonstrated that the parties did not intend to be bound by the terms of the Document until it had been signed and exchanged. This was largely because the landlord had demonstrated conduct that was inconsistent with the terms of the Document.

The Court did however hold that a statutory five-year lease existed between the parties pursuant to section 16 of the Retail Leases Act 1994 (NSW). This was because the tenant had entered into occupation of the premises and had been paying rent, which was accepted by the landlord. Unfortunately for the tenant, judgment was delivered just five months before the expiration of this statutory five-year term.

Key takeaways

The decision illustrates the impact that the conduct of parties to a commercial contract (and their solicitors) might have when determining whether the contract is effective from the date of agreement, or whether it is effective from the date of execution and exchange. 

Where parties do not wish to be bound by the terms of an agreement until such agreement has been executed and exchanged, it is recommended that this is expressly stated.[6]

Moreover, parties to a retail shop lease should be aware that a statutory lease may be imposed even where conduct indicates that the parties do not intend to be bound until execution and exchange has taken place.

^{[1] [2019] NSWSC 335.
[2] Australian Broadcasting Corporation v XIVth Commonwealth Games Ltd (1988) 18 NSWLR 540; Toll (FGCT) Pty Ltd v Alphapharm Pty Ltd [2004] HCA 52; Darzi Group Pty Ltd v Nolde Pty Ltd [2019] NSWSC 335 at [108].
[3] Darzi Group Pty Ltd v Nolde Pty Ltd [2019] NSWSC 335 at [124].
[4]  Summit Properties Pty Ltd v Comserv (No 784) Pty Ltd (1981) 2 BPR 97; Viva Plastic Pty Ltd v Stoermer [2006] NSWSC 948; Darzi Group Pty Ltd v Nolde Pty Ltd [2019] NSWSC 335 at [112].
[5] Darter v Molloy [1993] 2 Qd. R. 615; By Design (Aust) Lty Ltd v Cannington Nominees Pty Ltd [2008] WASCA 23; Darzi Group Pty Ltd v Nolde Pty Ltd [2019] NSWSC 335 at [159].
[6] Realm Resources Pty Ltd v Aurora Place Investments Pty Ltd [2019] NSWSC 379.}