General Principles of

Law of Contract

Dr. R. Rajesh Babu

IntroductionoFundamental to all business/commercial transactions

oThe Indian Contract Act,1872 creates an obligation between the parties and not against the whole world (right in personam).

oThe Act lays down the general principles relating to formation, performance and enforceability of contracts and the rules relating to certain special types of contracts like, Indemnity and Guarantee; Bailment and Pledge, and Agency

o Separate enactments: The Partnership Act; the Sale of Goods Act; the Negotiable Instruments Act.

What is a Contract?• A contract is “An agreement enforceable by law”

• ‘Every promise and every set of promises, forming the consideration for each other is an agreement.’

• A promises B a laptop. B promises Rs. 10 and A agrees. Is this a contract or an Agreement?

• All contracts are agreements but all agreements are not contracts.

Conditions for enforceability‘All agreements are contracts, if they are made

by the free consent of the parties competent to contract, for a lawful consideration and with a lawful object, and are not hereby expressly declared to be void.’ (S. 10)

Essential elements of valid Contract:1. Valid Offer and Acceptance2. Consideration 3. Capacity to contract4. Free consent of the parties 5. Lawful object of the agreement6. Certainty and consensus ad idem

Elements of Contract

ConsiderationConsideration Free ConsentFree Consent

ContractContract

AgreementAgreement(Offer and (Offer and

acceptance)acceptance)

CapacityCapacity

CertaintyCertainty

Lawful Lawful ObjectObject

1. Offer and Acceptance• Carlill vs. Carbolic Smoke Ball Co (1892).

1.1 Specific and General Offer

• Specific Offer: • made to a specified person or a group of

persons - can be accepted only by the person to whom made.

• General Offer: made to the world at large.• can be accepted by anyone by complying with

the terms of the offer.• Offer may be express or implied

Case…

• A Customers in a self-service shop selected a medicine which could only be sold by or under the supervision of a qualified pharmacist.

• The shelves are not supervised by a pharmacist, though a pharmacist supervise the transaction at the cash desk.

• Pharmacist charged with unauthorized sale.

• Guilty?

1.2 Offer vs. Invitation to offer

• Taxi for hire.• Prospectus issued by a company.• Tenders – bid• IPO• Price-catalogues, price lists, quotations• Display of goods with a price-tag in a shop

window. • E-commerce – eg. www.shoppersstop.com

1.3 Acceptantce

• Acceptance must be absolute and unqualified (counter-offer)

• Acceptance must be communicated to the person making the offer (in the manner mentioned – eg – email/fax)

• Would silence imply acceptance? Eg. Discount on DVD for CC holder. Duty to deny?

• Offer and acceptance can be revoked by notice, expiry of time (reasonable time)

1.3 The Postal Rule (mailbox rule)

Day 1: Ramesh makes an offer to Suresh.

Day 2: Ramesh decides to revoke the offer and puts a letter in the mail to Suresh.

Day 3: Suresh puts a letter accepting the offer in the mail.

Day 4: Suresh receives Ramesh's revocation letter.

The letter of revocation can be effective only when received, that is Day 4. However, a contract was formed on Day 3 when the letter of acceptance was posted. It is too late for Ramesh to revoke the offer.

Acceptance is from the date of letter not when offeror opens. Acceptance is complete as soon as the letter is put into the box.

Telephone, fax, telex, email?

Consideration • Nestle ran a sales promotion whereby if persons sent in 3 chocolate

bar wrappers and a postal order for 1 shilling 6d they would be sent a record. Chappel owned the copyright in one of the records offered and disputed the right of Nestle to offer the records and sought an injunction to prevent the sales of the records which normally retailed at 6 shillings. Under s.8 of the Copyright Act 1956 retailers were protected from breach of copyright if they gave notice to the copyright holders of the ordinary retail selling price and paid them 6.25% of this. Nestle gave notice stating the ordinary selling price was the 1 shilling 6d and three chocolate bar wrappers. The question for the court was whether the chocolate bar wrappers formed part of the consideration. If they did it was impossible to ascertain the value they represented and therefore Nestle would not have complied with their obligation to give notice of the ordinary retail selling price. If the wrappers were a mere token or condition of sale rather than constituting consideration, then the notice would be valid and Nestle could sell the records.

Chappel v Nestle [1960] AC 87 House of Lords

• Held:

The wrappers did form part of the consideration as the object was to increase sales and therefore provided value. The fact that the wrappers were simply to be thrown away did not detract from this. Therefore Chappel were granted the injunction and Nestle could not sell the records as they had not complied with the notice requirements under s.8.

2. Consideration ‘An agreement made without consideration is void…’ (Sec

25) Consideration means something which is of some value in

the eye of law… Consideration must be mutual. Both parties must receive

something of value. Involvement of money is not required. “ When at the desire of the promisor, the promisee or any

other person has done or abstain from doing, or does or abstain from doing, or promises to do or abstain from doing, something, such act or abstinence or promise is called consideration ”

 It may be: the promisee has done or abstained from

doing; or promises to do or abstain from doing; Including - forbearance, deteriment, loss

or responsibility given, suffered or undertaken

2.1 consideration… Consideration need not be ‘adequate’:

A contract to sell horse worth Rs. 50000 for Rs. 1000? Whether consent is freely given? – coercion, fraud,

mistake! Forbearance to sue! Sufficient consideration?

BUT consideration must be ‘sufficient’, i.e. not: performance of a public duty or a duty imposed by law performance of a previous contractual obligation Promise to pay less than amount due – no

consideration. Part payment as full discharge.

2.2 Consideration Not illusory: An agreement will not be enforced if

the consideration is so vague as to be illusory.

o Vijaya Minerals Pvt. Ltd v. Bikash Chandra Deb (C-HC 1996): Agreement to sell manganese and iron ore – price in agreement only 16% of the current market value.

o Bank of India v. Swaranakar (SC 2003) – Agreement against revocation – VRS – once applied cannot withdraw – ‘promise to keep an offer open needs consideration to make it binding…’

2.3 Exceptions to consideration

Mutual love and affection- Any agreement, made without consideration, is valid if it is made on account of natural love and affection between the parties, standing in near relation to each other, provided it is expressed in writing and it is registered under the law.

Promise to compensate for something done: Any agreement, made without consideration, is valid if it is a promise to compensate a person, who has already voluntarily done something for the person making the promise.

Promise to pay a debt, barred by Limitation law: Any promise, made in writing and signed to pay a debt, is binding on the person signing it even though it may be barred by the law of limitation.

2.4 Test cases1. A, promises, for no consideration, to give to B Rs 1000.

2. A, for natural love and affection, promises to give his son, B, Rs. 1000.

3. A, finds B’s purse and give it him. B promises to give Rs. 50.

4. A owes B Rs. 1000, but the debt is barred by limitation Act. A signs a written promise to pay B Rs. 500.

5. Agreement to swim and cross Ganga for Rs. 1000.

3. Free and Genuine ConsentTwo or more people are said to consent when they

agree upon the same thing in the same sense. However, if the consent is obtained through: Coercion undue influence fraud misrepresentation mistake

Contract induced due to coercion, fraud, or misrepresentation is voidable.

Where both parties to an agreement are under a mistake as to a matter of fact essential to the agreement, the agreement is void

• Workmen of Appin Tea Estate vs. Industrial Tribunal (1966): The demand of the workers for bonus was accepted after a threat of strike. The question was, whether such a decision between the Union of the workers and the Indian Tea Association could be declared void on the ground that there was coercion? 

• It was held that because of the doctrine of collective bargaining under the Industrial Dispute Act the demand of the workers could be backed by a threat of strike. Such a threat was neither a threat to commit an offence under the IPC, nor was it unlawful detaining or threatening to detain any property and hence it did not amount to coercion, and as such the agreement was valid.• Statutory Compulsion is no coercion

• Shri Krishan Vs. Kurushetra University 1976 SC, - a candidate for the LL.B. exam, who was short in attendance, did not mention that fact in the admission form for the exam. Neither the Head of the department nor the University authorities made proper scrutiny to discover the truth. Has he committed fraud?• It was held by the SC that there was no fraud by the

candidate and the University had no power to withdraw the candidature of the candidate.• Silence is no fraud• Exceptions :

(1) When there is a duty to speak, keeping silence is fraud - (Uberrimae fidei) – Director’s responsibility (2) When silence is, in itself, equivalent to speech, such silence is a fraud.

4. Parties competent to contract

The following persons are incompetent to contract Minors Persons of unsound mind Persons disqualified by law A person is of sound mind for the purpose of

contracting if at the time of contracting, he is capable of understanding the contract and capable of making a rational judgment as to the effects of the contract upon his interests.

In India, a contract done by a minor or person of unsound mind is absolutely void ab initio.

5. Lawful object

The object is unlawful if It is forbidden by law, Is of such a nature if permitted it would

defeat the provisions of any law,It is fraudulentThe court regards it immoral,The court regards it opposed to public policy.

Thus every agreement of which the

consideration or object is unlawful is void.

Dixon v Francis [1956-60]oThe Appellant agreed that the Respondent would have

the right to live in her house and occupy the garage free of cost “so long as he and his wife live together in peace”. Is this agreement valid?

oHeld: In order to constitute a valid contract the parties must so express themselves that their meaning can be determined with a reasonable degree of certainty.

oThe language used was so obscure and so incapable of any definite or precise meaning that the court is unable to attribute to the Parties any particular contractual intention.

Classification according to validity

• Voidable contract: An agreement enforceable by law at the option of one or more of the parties thereto., but not at the option of the other.

• Eg: Consent obtained by force.

• Void agreement: An agreement not enforceable by law is void.

• Void contract: A contract ceases to be enforceable by law becomes void when it ceases to be enforceable.

Void AgreementsoAgreement without consideration is voidoAgreement in restraint of marriage is voidoAgreement in restraint of trade oNon-compete Agreements?opartial and not total; unreasonable; public interest

oAgreement in restraint of legal proceedings oAgreements by way of wager/ bet. Wager contract is

one in which parties professing opposing views on the result of an uncertain event, mutually agree that depending on the outcome of such event, one will pay or hand over a sum of money or other stake.

oSection 294-A , IPC

Agreements by way of wager, void :S. 30 • Subhash K. Manwani v. State of MP (2000) MP HC...

“….to treat an agreement by way of wager as void, is that the law discourages people to enter into games of chance and make earning by trying their luck instead of spending their time, energy and labour for more fruitful and useful work for themselves, their family and society.”

• Exceptions: (1) Horse racing; (2) Prize competitions : The Prize Competitions Act, 1955; (3) contests, where the results are based predominantly on skill, rather than on mere chance; (4) Lotteries sanctioned by specific legislation.…

Prenuptial AgreementsPrenuptial Agreements

Privity of Contract• Only a Party to a Contract (not a stranger) can sue

on it. The contract can confer rights or impose obligations only on the parties to the contract.

There are two aspects of this doctrine. 1.Only parties to the contract are entitled under it. • Rights or benefits may be conferred upon a third

party but such a third party can neither sue under the contract nor rely on defenses based on the contract.

2.Secondly the parties to a contract cannot impose liabilities on a third party

Exceptions to Privity Rule…• Agency: The rule here is that if one of the

contracting parties contracts as an agent, then either the agent or the principal, but not both, can sue to enforce the contract.

• Trusts: The law of trusts can enable a third party beneficiary to initiate action that will enforce the promisor’s obligation.

• Consumer contacts

Conclusion of a Contract: Discharge, Frustration, Breach and Damages

Discharge of a contractIt means that the contract has been performed and is no longer a pending legal obligation.A contract may be discharged by:1.Performance 2.Termination by time 3.Mutual agreement - by novation, alteration or recession (Sec.62), remission or waiver (Sec.63).4.Operation of law 5.Impossibility of performance (ss 37-67) 6.Breach of contract

3. Discharge by Mutual Agreement

• Parties are free to mutually abandon, modify or rescind the contract and the original contract need not be performed. Sec. 62

(i) Novation … - replacing party/contract (substantial alteration)

(ii) Rescission: - discharge of both parties from the obligations of a contract by agreeing to rescind the contract.

(iii) Alteration … must be a “material alteration”

• Remission or waiver: A owes B 27 lakhs. A pays Rs. 20 lakhs and B accepts in satisfaction of his full claim on A.

4. By operation of law

1. Material alteration;

2. Merger of an inferior contract into a superior contract;

3. Discharge of an insolvent;

4. When rights and liabilities under the same contract become vested in the same person

5. Impossibility or Frustration of Contract: Legal Excuses

• The general rule followed in most jurisdictions is that performance under a contract will only be excused in “extreme” circumstances or when the performance falls under a legally recognized excuse from performance. • Impossibility; Subsequent Illegality; Acts of

God/Nature; Death of a Party; Destruction; War

• Contract not frustrated by mere commercial difficulty: Merely because the procurement of the goods becomes difficult because of a strike in the mill, or there is a rise in prices, or a person will not be able to earn the expected amount of profits, is not enough to frustrate the contract.

• Benefits from void contracts: “When an agreement is discovered to be void, or when a contract becomes void, any person who has received any advantage under such agreement or contract is bound to restore it, or to make compensation for it, to the person from whom he received it”

5.1 Impossibility of Performance or Frustration of contract

• Initial impossibility: “An agreement to do an act impossible in itself is void”• A agrees B to discover treasure by magic. The agreement is

void. The performance of the agreement being impossible, the agreement is void.

• Subsequent Impossibility: Performance of contract was quite possible when it was made, but some subsequently event rendered its performance impossible or unlawful.• A contracts to take in cargo for B at a foreign port. A’s

Government afterwards declares war against the country in which the port is situated. The contract become void when war is declared.

6. Breach or non-Performance of contract

Breach of contract is failure of a party to perform his obligations under a contract. When one party commits a breach, the other party can claim damages or specific performance.

The breach of contract may be:•Actual breach of contract, or•Anticipatory or constructive breach of contract. - ‘when a party to a contract has refused to perform, or disabled himself from performing his promise in its entirety’

7. Remedies for breach of contract

The aggrieved party may:The aggrieved party may:

•Cancel the contract which will relieve him from all contractual obligations (rescission) •Cover and receive damages. •Demand specific performance •Demand injunction. •Recover any consideration given to the breaching party (restitution) •Recover proportionate payment for the work done (Quantum Meruit).

7. Damages/Compensation for breach

Damages are monitory compensation for the losses suffered or gains prevented due to the breach.

Types of Damages:•Vindictive or exemplary damages - punitive damages. e.g.. for dishonor of cheque. •Compensatory damages- general damages and special damages. •Nominal damages •Liquidated damages and penalty•Civil jail?

Suit for specific performance

• The Specific Relief Act, 1877 gives the court discretionary powers to order specific performance instead of or in addition to damages. The powers are subject to Sec.14 of the Specific Relief Act, 1877.

Suit for injunction:• Injunction is an order of the court restraining a

person from doing something which he promised not to do. This remedy is available where the contract contains a negative stipulation.

Remoteness of damage - Hadley vs. Baxendale rule

• On the breach of a contract such damages can be recovered,• (1) as may fairy and reasonably be considered

arising naturally, i.e., according to the usual course of things from such breach, OR • (2) as may reasonably be supposed to have been in

the contemplation of both parties at the time they made the contract.• The principle stated in the two branches of the rule is

virtually the rule of “reasonable foresight.” The liability of the party making the breach of contract depends on the knowledge, imputed or actual, of the loss likely to arise in case of breach of contact.