What Are the Four Elements of Forming a Commercial Contract?

You will frequently enter into commercial contracts with your customers and other businesses as a business owner. A contract is essential for conducting business, as it backs up your agreement with a legal right. Knowing when you have a valid contract is essential for understanding your legal relations with other parties. This can be useful if you ever end up in a dispute. This article will outline the four key elements of contract formation in commercial contracts and elaborate on some key points you should keep in mind. 

What Are the Elements of a Contract?

To create a binding contract, there are four essential elements. These must all be present for a legally binding agreement to exist. Without the elements, you will not have created a valid contract. Therefore, you cannot take the other party to court for breach of contract. For this reason, knowing the contractual elements is highly important. 

The four key elements are:

• offer;
• acceptance;
• consideration; and
• intention to create legal relations.

Importantly, while most business contracts are written in writing, an oral or implied contract can be equally valid. 

As long as all four key elements are present, you can make a contract orally. Oral contracts, however, can be more difficult to prove in court. As such, it is a good idea to keep your agreements in writing. 

What is an Offer?

An offer is a proposal of the agreement and its terms. You must make it thoughtfully and it must also be sufficiently clear, specific, and complete. In most cases, you must directly communicate an offer. However, it can be made indirectly through a third person acting on your behalf. Such a person is usually referred to as your agent. An offer is distinct from an advertisement or ‘invitation to treat.’ 

For example, apples placed on a grocery store’s shelf are considered an invitation to treat. An invitation to treat is an invitation to make an offer, in other words, an advertisement. The offer is made when the customer takes the apple to the cashier and proposes to buy it. 

Another example of an offer is if you are looking to enter into a contract with a marketing agency. They may make an offer when providing you with a quote to provide marketing services. 

If a person makes an offer but then decides to revoke their offer, the revocation must be communicated to the other party. The offer will be valid until revocation is brought to the other party’s attention.

What is Acceptance?

Acceptance is the agreement to the proposed terms of the contract, as made through an offer by the other party. You form a legally binding agreement when your acceptance is communicated to the person who makes the offer. 

Acceptance can be communicated in various ways, such as in person, over the phone or in writing. This can be important because the exact time and date you form your contract can significantly affect a dispute. 

Further, if your response does not agree to the exact terms proposed by the other party, it will not amount to an acceptance. Instead, it will constitute a counter-offer. The other party must then accept your counteroffer for the contract to be formed. 

What is Consideration?

Consideration requires that both parties give each other something of value as part of the contract. Consideration can take various forms, including money, services or shares. For example, suppose you buy an apple from a grocery store. The consideration from the grocery store is the apple, and from you, it is your money.

Usually, a contract will only be valid with consideration. Consideration must be given in exchange for a promise in the present or future. Generally, if consideration is made before the contract is valid, it will not be valid. Contracts made in a deed are a notable exception to this. A contract made in a deed is, quite simply, a written contract that is made within a formal deed document with more formal signature requirements

Consideration is significant as it shows both parties have made a commitment and they must follow through with their obligations. In commercial contracts, courts are likely to find that there is valid consideration. Your contract is unlikely to fail because the consideration is not good enough. 

What Are Intentions to Create Legal Relations?

The intention to create legal relations is the final element of contract formation. This is the requirement that both parties intend to bind themselves with the contract. When assessing this, the court will look at the context in which the contract was made. 

For example, if you agreed on a napkin in a pub as a joke, a court will be less likely to find that you intended to create legal relations.

Other Elements

Some further conditions are necessary beyond the four key elements. For example, the:

• parties must have the mental capacity to make a legally binding agreement; and
• contract terms must be clear and unambiguous.

Ensuring the parties have legal capacity before signing a new contract is essential. Contracts can be intimidating. As such, it is important that whoever signs on behalf of your company can show legal capacity before signing. You must demonstrate you are capable of understanding the obligations, terms and consequences of the contract before agreeing. 

The terms of the contract must be clear and certain. They should include the crucial terms of the agreement. This might include aspects such as the services provided, price, delivery date and any other essential terms required for the contract to be executed. 

Additionally, having clearly written terms is important from a practical perspective. This allows the parties to look back on the agreement and be certain of what was agreed on. Having clear terms tends to reduce the amount of disputes. Each party can clearly see what they have agreed to. Contracts also typically tend to set out how certain situations should be handled. 

Commercial Contracts Checklist

Download this free Commercial Contracts Checklist to ensure your contracts will meet your business’ needs.

Download Now

Key Takeaways

If you are entering into commercial contracts, you may wish to rely on your legal rights as part of the contract at some point. To be able to do this, you need to have a valid and legally binding agreement. This requires the four elements of contract formation. There are four essential elements of forming a contract: offer, acceptance, consideration, and intention to create legal relations. Beyond this, the terms of the contract must also be unambiguous, and the parties must have the mental capacity to agree.

If you have any questions regarding contract formation, contact our experienced contract lawyers as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.