What is a Contract?
It’s not easy to overstate the importance of agreements and contracts in the business context. The terms “contract” and “agreement” are often used interchangeably, but they are not exactly the same – so the first thing we should do is explain where the difference lies:
An agreement is an arrangement between two or more parties to do, or refrain from doing, something. It is a meeting of the minds – the arrival at a common intention by multiple parties.
A contract, on the other hand, is an agreement that is enforceable by law.
To put it a different way, all contracts are agreements but not all agreements are contracts.
This distinction may seem like quibbling over semantics, but starting with a proper definition of contract will allow you to better understand the importance of contract law for businesses. For instance, while we all know that contracts are extremely common in the business world, you may be surprised to find out that every time you go to a local coffee shop and buy a cup of coffee, you are entering into a contract with the business. It’s a very simple contract – you give them money and they give you a cup of coffee in return – but it is a contract nonetheless.
So how do we create a contract? Well, in order for an agreement to constitute a legally enforceable contract, it must have these four essential elements:
Offer
A contract requires that one party offers to do something under certain terms. An offer must be a kind of act that expresses an intention or willingness on the part of the person making the offer (the “offeror”) and creates a power of acceptance in the person to whom the offer is made (the “offeree”).
The posting of a price list at a coffee shop is an offer – “I will give you a cup of coffee if you give me $2.00.”
Acceptance
A contract cannot be unilaterally imposed on another person. Therefore, a contract requires that the offeree agree to, or accept, the offer.
A customer who orders a coffee from the barista is accepting the offer.
Consideration*
Consideration is a very important legal concept and has a different meaning in law than in regular usage. In a contract, consideration does not refer to thoughtfulness, or deliberation, or anything like that. Rather, consideration here means the exchange of value between the parties – i.e., that each of the parties gets something, or expects to get something, from the agreement.
In our example, the exchange of value is this: the coffee shop gets $2.00 and the customer gets a coffee.
Intention
The parties to a contract must intend to enter into a relationship that is legally binding. This, however, doesn’t mean that each person must turn their mind to the legal nature of every single transaction they enter into. In general, courts apply an objective test to the intention requirement – in other words, if a person behaves in a way that a reasonable person would consider to demonstrate an intention to enter into a contract, then the intention requirement is met.
In a coffee shop, it would be reasonable to assume that a person who orders a coffee is intending to purchase it at the offered price.
These are the four essential elements of a contract. Unfortunately, things are rarely so simple – and there are circumstances in which a contract is not legally binding even if, at first glance, all of these requirements appear to have been met. Enforceability is perhaps the most important feature of a contract, so some common circumstances that may render a contract unenforceable will be discussed in an upcoming post.
*A Note on Consideration
While the short description of consideration set out above is sufficient for a basic introduction to contract law, it is important to note that this legal concept is quite complex. More advanced contracts, like most business and commercial contracts, involve much more important stakes than our $2.00 coffee example and therefore require more nuanced understanding of all elements of contract law including, in particular, consideration.
Consideration is not always expressed in dollar values, nor does it always involve physical things (like a cup of coffee). Sometimes consideration is in a promise to do something – other times, it can be a promise to refrain from doing something. And these are just a few of the many intricacies of the legal concept of consideration in contract law.
The above provides information of a general nature only and does not constitute legal advice. All transactions and circumstances vary and specific legal advice is usually required to meet your particular needs. Please consult with a lawyer if you have a legal question.
