Is your side letter legally binding?

It is common practice for businesses and individuals to sign side letters in business transactions and/or commercial arrangements.

Care always needs to be taken when preparing a side letter to ensure that it is in fact a legally binding contract if that is what the parties to the side letter are intending it to be.

The recent case of Barbudev v Eurocom Cable Management Bulgaria EOOD & Others has highlighted that care must be taken to ensure that the side letter is not an agreement to agree.

The case concerned the disposal of a company ("X"), where it was provisionally agreed that the principal shareholder of the seller, Mr Barbudev, would have shares in the buyer's newly merged company. During negotiations, it soon became apparent that the terms of Mr Barbudev's investment could not be agreed before the disposal of X was completed. Accordingly, the parties entered into a side letter.

3 years down the line, X was sold, and for various reasons Mr Barbudev's investment agreement had still not been signed. The court had to decide whether the side letter constituted a legally enforceable contract, or if it was in fact no more than an agreement to agree.

Mr Justice Blair subsequently ruled that the side letter was not legally enforceable. In coming to his decision, the judge answered 3 questions:

• 1 There had been no intention to create legal intentions - the principal terms of the side letter showed that it was not intended to be legally binding;
• 2 The side letter constituted an agreement to agree - it gave Mr Barbudev the opportunity to invest on terms to be agreed, which the purchaser agreed to negotiate in good faith. Therefore, although key terms were agreed in principle, there was no finality; and
• 3 There was insufficient certainty of terms - the terms in the side letter were not comprehensive and the parties were only seeking to reach an agreement. No agreement had actually been reached.

Accordingly, if you find yourself in a position where a side letter is required, you must make sure that the side letter is very clear about its purpose.

A side letter needs to set out the key terms which have been agreed and must be signed as if it is a contract with consideration passing if it is to be legally binding. If the side letter is not intended to be legally binding, this should be clearly stated within it.

Should you require any advice or further information with regards to this issue, then please contact Annelie Carver on 01392 687714, or email her at annelie.carver@michelmores.com.