A Heads of Agreement (‘HOA’) sets out the key commercial terms of a proposed agreement used as a tool for negotiations before finalising an agreement. The document represents the intention of the parties to continue negotiating a contract in a more formal setting such as with lawyers and accountants. Generally, not seen as a binding document and commonly used when entering a commercial contract.
An HOA is an effective document as it acts as a place of record for the key terms agreed on to date, providing a framework for the parties to negotiate a final business contact at ease. While an HOA is equipped at providing transparency in the pre-contractual stages of a business agreement, it is not always clear whether the document is legally binding. To understand the risks involved and the weight of the key terms agreed on, it is important to ascertain whether it will be legally enforceable.
When is an HOA relevant?
As mentioned, an HOA should be used in the pre-contractual stages of a commercial transaction or business arrangement when wishing to negotiate key terms of the contract without having to sort out the formal legal terms and technicalities of the contract. It becomes an increasingly relevant document when a formal contract cannot happen instantaneously but the parties want to express a strong intent to collaborate.
What should an HOA include?
Generally, it can include anything relevant to what you have discussed and agreed upon with the other party but it should intend to cover the main commercial terms consented by the parties. These are some points that an HOA would likely include:
- an intent to collaborate and enter a formal relationship;
- what each party will bring to the table;
- some standard clauses regarding the applicable law ;
- what information is confidential;
- conditions (if any) that must be fulfilled before the transaction can occur.
Without getting into unnecessary detail, the document should ensure that all the key points that have been agreed to are recorded. The document will be used as a basis for preparing the final contract, so whether binding or not, do not record anything in the document that you are not prepared to be bound to.
Legally binding?
Determining whether the HOA is binding is indicative of the risks involved. Generally, the intention is that the HOA is not binding in relation to the proposed key terms. Regardless, it is important that you agree with the other parties on the binding nature of the document in order to protect yourself as the enforceability will depend on how it is drafted.
Classifying the agreed key provisions as non-binding, meaning they cannot be enforced in court, better serves the purpose of HOA. The document is intended to be a short-term agreement that is prepared and signed relatively quick. Parties are likely more willing to commit to non-binding obligations, thus, speeding up the process.
Preparing the HOA should not involve friction as it will likely set a negative tone from the onset of the negotiations. An initial commitment to non-binding obligations encourages a smoother agreement process.
Indeed, some terms of an HOA can be binding without declaring the whole document binding. Typically the binding parts of an HOA are provisions relating to confidentiality, exclusivity and intentions to further collaborate or negotiate.
Where the parties intend to exchange valuable information or collaborate together to develop something new, then provisions relating to ownership of intellectual property should be binding.
Note, the document should express which terms are binding and which are not. If you do intend for the HOA to be binding, you should make sure that it includes:
- the parties’ details (the full legal name and ABN);
- Express signature and date; and
- all essential terms of a contract are addressed.
However, the purpose of an HOA is not to be binding but to provide the parties with comfort and certainty that there will be a contract.
Beware…
An HOA is an important document that provides a sense of clarity and security before entering a commercial contract. While it will rarely be enforced as it precedes a binding contract, still be sure to look out for a clause expressing the binding or non-binding nature of the agreement. Undoubtedly, the most common risk associated with an HOA is that it is drafted in such a way that is binding even when that was not the intention of the parties.
Phil is a director at OpenLegal. He has over 16 years experience working in private practice and in-house counsel in Sydney and London, giving him expertise in employment law, IP, finance, leases, dispute resolution, insurance and contracts.
Raymond is a legal intern at OpenLegal, working with our legal content team. He is currently a penultimate student at the University of Technology Sydney, studying a Juris Doctor degree with an undergraduate Bachelor of Global Studies. He is particularly interested in Intellectual Property law and the increasing internationalisation of that area of business.
