Agreement to agree and whether a promise to negotiate later can be enforced

An agreement to agree is a clause, or an entire document, in which the parties commit to settling some commercial terms at a later date rather than at signing. It is the difference between "we will supply you at the price in this contract" and "we will negotiate a price with you later". Australian courts will not enforce most of them, because the law will not guess what the parties would have agreed. This article explains what an agreement to agree is, why courts demand certainty, the narrow situations in which such a promise can be enforced, and how to draft deferred terms so they hold up if you need them to.

What is an agreement to agree?

An agreement to agree is a promise to reach agreement in the future. Parties use it where they want to lock in a relationship but cannot yet pin down every detail, such as the price for a multi-year supply arrangement, minimum order quantities or delivery logistics.

There are good commercial reasons to defer a term. A supplier and customer may want to test each other over a trial period before committing to volumes. A price for year three of a supply contract may depend on market conditions that do not yet exist. A joint venture may need the lawyers to settle a full agreement before the venture can start. In each case the parties want the relationship to proceed, while leaving a specific term for later.

The concept appears in two forms:

• A clause inside a full contract: a distribution agreement may say the parties "will negotiate the wholesale price in good faith" for each renewal year, or that a lease renewal will proceed "on terms to be agreed".
• A standalone preliminary document: heads of agreement, memoranda of understanding and letters of intent routinely record the framework of a deal and leave the detailed commercial terms to be negotiated in the final contract.

The problem is immediately apparent. If you do not know what you will agree to in the future, neither does the court, and the court has no way to fill the gap when one party later refuses to agree.

Certainty: why courts are reluctant to enforce them

For a contract to be enforceable, its essential terms must be sufficiently certain and complete. Price, subject matter and quantity are usually essential. Where those terms are left entirely to a future agreement, the contract is typically void for uncertainty, because the court cannot supply a term the parties never agreed.

The leading Australian authority is Coal Cliff Collieries Pty Ltd v Sijehama Pty Ltd (1991) 24 NSWLR 1. The case concerned a joint venture arrangement for a coal mine that included a promise that the parties would "proceed in good faith to consult together upon the formulation of a more comprehensive and detailed agreement". The New South Wales Court of Appeal held that particular clause was unenforceable for uncertainty. Just as importantly, the court also said there is no general rule that a promise to negotiate is never enforceable. Whether such a promise binds depends on the construction of the particular contract, as later cases such as Kirkby v Turner [2009] NSWCA 131 confirm.

The same reluctance appears where the parties have not reached a final bargain at all. In Australian Broadcasting Corporation v XIVth Commonwealth Games Ltd (1988) 18 NSWLR 540, the ABC and the organisers of the 1990 Commonwealth Games had agreed in principle on a sponsorship arrangement, with the details left to be negotiated later. The court applied an objective test of intention, asking whether a reasonable person would have taken the parties to intend to be bound. It found there was no binding contract: the essential terms were not agreed, and the parties did not intend to be bound until a formal agreement was reached.

When an agreement to agree can be enforced

There is one well-established situation in which a promise to negotiate does bind: where the obligation is defined tightly enough that the court can tell what it requires.

United Group Rail Services Ltd v Rail Corporation NSW [2009] NSWCA 177 concerned a dispute resolution clause in a large construction contract. The clause required the parties' senior representatives to "meet and undertake genuine and good faith negotiations with a view to resolving the dispute". The Court of Appeal held the clause valid and enforceable. What made it work was its context: the subject matter was an identified dispute, the process was defined, and the object was a resolution of that specific dispute. The court could tell what good faith negotiation meant in that setting, so the obligation had content.

The same case shows the trap at the other end. A companion clause referred unresolved disputes to mediation at the "Australian Dispute Centre", a body that did not exist. That mediation clause was void for uncertainty. A mechanism meant to resolve uncertainty is only as good as its detail, and a reference to a fictional institution is as useless as no mechanism at all.

The practical line is this. A bare promise to "negotiate in good faith" over terms that are still open is unenforceable. A defined obligation to negotiate, attached to an identified subject matter and a workable process, can be enforced. Everything turns on how much content the words actually carry.

Drafting deferred terms so they hold up

If you need an agreement that defers some terms but stays enforceable, the aim is to give each deferred term content now, or build a mechanism that can supply it later:

• Lock down the essentials: leave open only the terms that genuinely cannot be fixed at signing. Price, subject matter and quantity should be decided, or given a formula.
• Use an objective standard: instead of "price to be agreed", use "the price published by the industry body", or "market rate as determined by a nominated valuer".
• Provide for a third party to decide: an expert determination, valuation or arbitration clause can authorise an independent person to set the outstanding term if the parties cannot agree.
• Define the negotiation process: specify who must meet, within what timeframe, how many sessions, and what happens if agreement is not reached.
• Annex a draft of the future agreement: if the "agreement to be negotiated" exists in draft form, the court can identify its content and enforce an obligation to negotiate it in good faith.
• Know when you want it non-binding: if the document is meant as a statement of intent only, use words such as "subject to contract", "in principle" and "may" rather than "shall", and include no mechanism for resolving uncertainty. That combination is what makes an agreement to agree genuinely non-binding.

A worked example: the supply deal that fell over

A Melbourne coffee roaster signs a heads of agreement with a national cafe chain to supply beans for three years. The price is "to be negotiated in good faith" and minimum order quantities are "to be agreed". On the strength of the deal, the roaster borrows to buy a larger roaster and takes on extra staff.

The chain's procurement team then offers a price below the roaster's cost of production. The roaster refuses, the chain walks away, and the roaster sues for breach of the heads of agreement.

The claim fails. Price and quantity are essential terms, and both were left to a future agreement. The promise to negotiate in good faith has no defined subject matter the court can enforce, so the heads of agreement is void for uncertainty on the essential terms. The roaster has spent real money relying on a document that was never a contract.

Had the heads of agreement fixed the price by a formula, or provided for expert determination if the parties could not agree, the position would have been very different. The roaster could have enforced the arrangement, or at least sued on a defined obligation the chain had breached.

Common misconceptions about agreements to agree

Several misunderstandings recur in practice, and each one is costly:

• Signed means enforceable: a signed document with uncertain essential terms is not enforceable. Coal Cliff and the ABC case both involved documented arrangements that failed for uncertainty or lack of intention to be bound.
• Never enforceable: an agreement to agree is not automatically void. United Group Rail shows that a defined obligation to negotiate in good faith, attached to an identified dispute and process, is enforceable.
• Good faith makes it binding: adding "in good faith" does nothing on its own. Good faith needs something to bite on. Without a defined subject matter, process or timeframe, "negotiate in good faith" is a promise the court cannot measure.
• The label decides: calling a document a heads of agreement does not make it non-binding, and calling it a contract does not make it binding. Courts look at the objective intention of the parties and the certainty of the terms, whatever the document is called.

How a contract lawyer can help

The line between enforceable and unenforceable deferred terms is a fine one, and it is drawn by the specific wording of your document. A lawyer can help in three ways. Before you sign, a review identifies which essential terms are left open and whether the document does what you intend it to do, binding or not. Where you want it to bind, a lawyer can draft the certainty mechanisms, such as expert determination clauses, pricing formulas and defined negotiation processes, so that every deferred term has a way of being supplied. And if the other side has already walked away, a lawyer can assess whether your particular clause is enforceable on its construction and what remedy, if any, you actually have.

The question to answer before you sign

Before you sign any document that defers a commercial term, ask yourself one question: if the other party never agrees to that term, what do you actually have? If the honest answer is nothing workable, then the document is a statement of intent, not a contract. That can be a perfectly sensible outcome, as long as it is a decision you make deliberately, rather than a discovery you make in a dispute. The parties who lose real money on agreements to agree are the ones who treated a signed piece of paper as a binding deal when the courts would never have enforced it. Make the document match what you actually want it to be, and you will know where you stand before the other side walks away.