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Intention to be bound: High Court construes commitment letter against equity participant

09 November 2016. Published by Parham Kouchikali, Partner and Matthew Evans, Senior Associate

The High Court held that the defendant signatory to a commitment letter intended to be legally bound by that document and was consequently in anticipatory repudiatory breach of contract. The decision highlights the need for contracting parties to be clear in documenting both their internal and external decision-making processes.

Key Facts

The Claimant, Novus Aviation Ltd (Novus), is Bahamas-incorporated arranger of acquisition and lease finance for commercial aircraft, operating out of Europe, Asia and the Middle East. Alubaf Arab International Bank BSC(c) (Alubaf) is a Bahrain-incorporated bank.

Novus entered into discussions with Alubaf regarding equity financing for the purchasing of a number of new Airbus 330-300 aircraft to be delivered to Malaysia Airlines.

Alubaf expressed an interest in participating, with an initial mandate of USD 10m. The purchase was to be funded by way of equity and debt finance, with Alubaf to provide the majority of the equity financing. Special purpose vehicles were to be incorporated in order to acquire and lease the aircraft (together, the Transaction).

Accordingly, and in accordance with its usual practice, in May 2013 Novus provided Alubaf with a Commitment Letter for signature.  The letter stated that Alubaf's commitment "shall be conditional upon satisfactory review and completion of documentation for the purchase, lease and financing". The letter was approved by Alubaf's investment committee, and was duly signed by Alubaf and returned to Novus (Commitment Letter). The Commitment Letter contained English governing law and a non-exclusive jurisdiction provision in favour of the English Courts. The Commitment letter was not countersigned by Novus.  In parallel, Alubaf signed a management agreement with Novus, pursuant to which Novus became entitled to receive certain management fees, which were linked to the price of the aircraft at particular points in time (Management Agreement). Alubaf accepted that the Management Agreement was intended to be legally binding, once executed. During May 2013, draft transaction documents were provided to Alubaf, and steps were taken to progress the Transaction.

In early June 2013, Alubaf's board of directors decided not to proceed with the Transaction for commercial reasons (principally, Alubaf's desire not to consolidate within its accounts the acquiring special purpose vehicles), and Alubaf withdrew. There was insufficient time for Novus to source alternative participation in the deal, and accordingly Novus brought proceedings against Alubaf. Novus claimed a repudiatory breach by Alubaf of the Commitment Letter and the Management Agreement. Novus sought damages of c. USD 8m, represented by the loss of opportunity to receive certain of the fees under the Management Agreement.

Alubaf argued in its defence that there was no legally binding agreement between the parties, because:

(i) the Commitment Letter was not intended to be legally binding (Issue 1) and/or was void for uncertainty (Issue 2);

(ii) although Alubaf's Head of Risk and Compliance had signed the Commitment Letter, he did not have authority to bind Alubaf to provide funding for the Transaction (Issue 3); and

(iii) there was, in any event, no binding contract made because it was not counter-signed by Novus and returned to Alubaf before Alubaf withdrew from the Transaction (Issue 4).

Decision

Mr Justice Leggatt held that Alubaf had objectively intended to be bound by the Commitment Letter. Alubaf had undertaken a binding commitment, which it had broken. The Court refused permission to appeal. Alubaf has applied to the Court of Appeal for permission, which application remains outstanding as at the date of this article.

Issue 1 – Intention to create legal relations

The Court cited the leading Supreme Court authority of RTS Flexible Systems Ltd v Molkerei Alois Muller GmbH & Co KG.  Whether a party intends to be legally bound depends not upon the parties' "subjective state of mind, but upon a consideration of what was communicated between them by words or conduct, and whether that leads objectively to a conclusion that they intended to create legal relations and had agreed upon all the terms which they regarded or the law requires as essential for the formation of legally binding relations".

Applying this test, the Court found it to be plain from the terms of the Commitment Letter that it was intended to create legally binding relations.  Any doubt about this was dispelled by the provision entitled "Governing Law", which stated: "This Commitment Letter Agreement (including the agreement constituted by your acceptance of its terms) and any non-contractual obligations arising out of or in connection with it (including any non-contractual obligations arising out of the negotiation of the Transaction) shall be governed by, and construed in accordance with English law".

The Court acknowledged that, while in principle it is possible to create a document in which some parts are legally enforceable and others are not, if that was indeed the parties' intention, one would expect to see the "distinction between the two qualitatively different types of provision clearly signalled".

Issue 2 – Certainty

The Court decided that, as a matter of construction, the words "conditional upon satisfactory review and completion of documentation" created a single condition, not separate requirements of satisfactory review followed by completion of the documentation.

The Court reiterated that making a finding that a document lacked sufficient certainty, where the parties had intended to create legally binding obligations, was "one of last resort". Alubaf's right to reject documentation for being not "satisfactory" was sufficiently certain and capable of objective assessment. The judge decided that the condition gave Alubaf a contractual discretion (rather than an absolute right) to determine "satisfaction" and, as such, the discretion had to be exercised in good faith for the purpose for which it was conferred and not in a manner that was "arbitrary, capricious or irrational".

Issue 3 – Authority

Novus was entitled to rely on the apparent authority of Alubaf's Head of Risk and Compliance, which made questions of actual authority "academic". Looking at the communications between the parties, Novus could reasonably assume that the Head of Risk and Compliance was duly authorised.

Issue 4 – Failure to counter-sign

The Court noted that acceptance of an offer can be communicated by conduct. Despite the Commitment Letter anticipating signature by both parties, the Commitment Letter did not state expressly that it would become binding only upon both signatures. The Judge therefore concluded that Novus could signal its acceptance by other means, which it had done by proceeding with the transaction.

Comment

Whilst the decision ultimately turned on the words of the Commitment Letter, it demonstrates that a court will take a pragmatic approach to determining intention to create legal relations. If a document looks as if it is intended to be legally binding, the court will be hesitant to hold otherwise and interfere with the parties objective intentions. The Court also firmly rejected the notion that subjective intention can be relevant to determine the legally binding nature of an arrangement.

The decision emphasises the importance of a joined-up approach in commercial negotiations between the parties' negotiators, lawyers and ultimate decision makers. If a party wishes not to be legally bound, it will have to document that position very clearly.