Danger: unexploded MOU

danger uxbThis blog has previously commented on the dangers of signing those short, preliminary documents that have a variety of names: Memoranda of Understanding (MOUs), term sheets, heads of terms, heads of agreement and letters of intent.  Usually the danger is that people sign them without realising that they may be legally binding (particularly in some international transactions); sometimes, as this post discusses, the danger is that people decide they want them to be legally binding and yet the terms are inadequate to cover the transactions in which they are being used.  IP Draughts’ practical suggestions for dealing with these issues, including suggested wording for a term sheet, are discussed in the articles linked above.

IP Draughts was reminded of these articles by a recent article on the China Law Blog, about the dangers of signing MOUs with Chinese parties.  It seems that the Chinese party will often consider that the MOU is the final agreement, whereas the overseas (eg US) party thinks it is merely a prelude to negotiating a more detailed agreement.  The China Law Blog article comments that this difference in perspective can be viewed as a difference between the civil law approach  and the common law approach.

civil codeA central feature of civil law systems is the codification of different areas of law in a document known as a civil code.  The civil code originated in Napoleonic France, and was later re-booted in Germany in the late nineteenth century.  Most countries in continental Europe have a civil code that is based on either the French model (eg Spain) or the German model (eg the Netherlands).  Several countries in Asia have a civil code, which IP Draughts understands to be usually based on the German model.  These countries include China and Japan.  This is not to say that the laws in these various countries are the same or even close to the same, but they do have certain core principles in common, which in some areas are different to the core principles of common law systems, including those of England, most US states, and many Commonwealth countries.

One of the civil law principles has a Latin name, culpa in contrahendo.  Depending on how this principle is interpreted in an individual jurisdiction, it may lead to some or all of the following conclusions:

  1. A party should not pull out of negotiations once he has declared an intention to enter into an agreement with another party.  Signing an MOU could be treated as evidence of such a declared intention.
  2. A party should not negotiate with other parties once he has declared an intention to enter into an agreement with one party.

mind the gapIf the parties sign an MOU but fail to sign a subsequent agreement, under the civil law system the terms of the MOU may be enforced as a binding agreement and the court may be prepared to “fill in the gaps” as to the parties’ rights and obligations in areas not covered by the MOU.

In IP Draughts’ view, this last point does not mean that contracts are unnecessary and that all a party needs is an MOU.  Rather, it is a last resort if the parties have failed to enter into a more detailed agreement.  The China Law Blog article mentioned above may give the impression that Chinese practice in this area (ie of relying solely on an MOU to govern contractual relations) is entirely based on its civil code system of law; if so, IP Draughts doubts whether this is completely correct.  Perhaps it would be more appropriate to say that some Chinese parties prefer to avoid very lengthy US-style contracts and know that a detailed MOU could be enforced in the Chinese courts.  Thus, Chinese practice reflects cultural preferences, combined with the legal safety-net of a civil law approach to interpreting MOUs.

openIn IP Draughts’ experience, the parties in international negotiations often have different expectations as to how their agreement will be negotiated, executed and administered once signed.  These differences sometimes only emerge at a late stage of negotiations, or even after their agreement is signed.  The answer, in IP Draughts’ view, is to have a discussion about process at the outset and as discussions continue.

yakety yakSometimes, commercial parties are reluctant to discuss what may appear to be side issues, preferring to focus on building up a good interpersonal relationship and on finding agreement on core commercial terms.  This preference is understandable but short-sighted, in IP Draughts’ view.  By taking nothing for granted, by talking around the core commercial issues, and by taking the time to get to know the other party and how they operate, parties can build up a much better mutual understanding.  Or at least reduce the risk of being caught out by unexpected moves.  The parties’ lawyers may be well placed to have this kind of discussion if the commercial representatives are reluctant to do so.

1 Comment

Filed under Commercial negotiation, Contract drafting

One response to “Danger: unexploded MOU

  1. I’ve seen MOUs that say explicitly that the MOUs are provisional, are not enforceable in any jurisdiction, do not bind either party to reach a definitive agreement, and do not restrict either party from pursuing similar discussions with any third party. Can anyone cite a case in which a court in China or another civil law jurisdiction disregarded such language and enforced the MOU anyway?

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