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LEGAL ASPECTS OF BUSINESS ADV. R.R. RAMTIRTHKAR MUMBAI z NEW DELHI z NAGPUR z BENGALURU z HYDERABAD z CHENNAI z PUNE z LUCKNOW z AHMEDABAD z ERNAKULAM z BHUBANESWAR z INDORE z KOLKATA z GUWAHATI © Author No part of this publication may be reproduced,...

LEGAL ASPECTS OF BUSINESS ADV. R.R. RAMTIRTHKAR MUMBAI z NEW DELHI z NAGPUR z BENGALURU z HYDERABAD z CHENNAI z PUNE z LUCKNOW z AHMEDABAD z ERNAKULAM z BHUBANESWAR z INDORE z KOLKATA z GUWAHATI © Author No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording and/or otherwise without the prior written permission of the publishers. First Edition : 2013 Published by : Mrs. Meena Pandey for Himalaya Publishing House Pvt. Ltd., “Ramdoot”, Dr. Bhalerao Marg, Girgaon, Mumbai - 400 004. Phone: 022-23860170/23863863, Fax: 022-23877178 E-mail: [email protected]; Website: www.himpub.com Branch Offices : New Delhi : “Pooja Apartments”, 4-B, Murari Lal Street, Ansari Road, Darya Ganj, New Delhi - 110 002. Phone: 011-23270392, 23278631; Fax: 011-23256286 Nagpur : Kundanlal Chandak Industrial Estate, Ghat Road, Nagpur - 440 018. Phone: 0712-2738731, 3296733; Telefax: 0712-2721216 Bengaluru : No. 16/1 (Old 12/1), 1st Floor, Next to Hotel Highlands, Madhava Nagar, Race Course Road, Bengaluru - 560 001. Phone: 080-22286611, 22385461, 4113 8821, 22281541 Hyderabad : No. 3-4-184, Lingampally, Besides Raghavendra Swamy Matham, Kachiguda, Hyderabad - 500 027. Phone: 040-27560041, 27550139 Chennai : 8/2 Madley 2nd street, T. Nagar, Chennai - 600 017. Mobile: 09320490962 Pune : First Floor, "Laksha" Apartment, No. 527, Mehunpura, Shaniwarpeth (Near Prabhat Theatre), Pune - 411 030. Phone: 020-24496323/24496333; Mobile: 09370579333 Lucknow : House No 731, Shekhupura Colony, Near B.D. Convent School, Aliganj, Lucknow - 226 022. Mobile: 09307501549 Ahmedabad : 114, “SHAIL”, 1st Floor, Opp. Madhu Sudan House, C.G. Road, Navrang Pura, Ahmedabad - 380 009. Phone: 079-26560126; Mobile: 09377088847 Ernakulam : 39/104 A, Lakshmi Apartment, Karikkamuri Cross Rd., Ernakulam, Cochin - 622011, Kerala. Phone: 0484-2378012, 2378016; Mobile: 09387122121 Bhubaneswar : 5 Station Square, Bhubaneswar - 751 001 (Odisha). Phone: 0674-2532129, Mobile: 09338746007 Indore : Kesardeep Avenue Extension, 73, Narayan Bagh, Flat No. 302, IIIrd Floor, Near Humpty Dumpty School, Indore - 452 007 (M.P.). Mobile: 09303399304 Kolkata : 108/4, Beliaghata Main Road, Near ID Hospital, Opp. SBI Bank, Kolkata - 700 010, Phone: 033-32449649, Mobile: 7439040301 Guwahati : House No. 15, Behind Pragjyotish College, Near Sharma Printing Press, P.O. Bharalumukh, Guwahati - 781009, (Assam). Mobile: 09883055590, 08486355289, 7439040301 DTP by : HPH Editoria Office, Bhandup (Sunanda) Printed at : M/S Sri Sai Art Printer Hyderabad. On behalf of HPH  To, My Daughter - ANUJA For her help beyond appreciation  A W ord About the B ook There is no dearth of books on Business Law, especially for the management courses. Yet this attempt can be distinguished for its focus on explaining the relevant provisions of law from a managerial perspective. Certain Universities including Pune University have long back changed the nomenclature of the subject from Business Law to Legal Aspects of Business with the intent of conveying to the students (and the faculty members dealing with the subject) that the emphasis should be on the Business rather than law. The title Legal Aspects of Business carries this spirit unlike the term Business Law which is more akin to terms such as Civil Law or Criminal law. My endeavour is to make the book more student-friendly. I have explained the law in a language as simple as possible, bearing always in mind that the readers are management students and not the law students. This had to be done not at the expense of essential and minute discussion of law, wherever warranted. At the same time, I have not lost sight of the fact that the book is intended for the would-be managers. Its aim is to enable them to make effective managerial decisions being aware of the legal environment surrounding them. I sincerely hope that this book, thus designed, shall meet the approbation of the students and faculty alike. I heartily welcome, nay, look forward to any suggestions for improvement. Needless to say that I shall be grateful for the same. Author  Introduction to Law Relating to Business Knowledge of law, to a greater or lesser extent, is essential for every individual. Hence it is popularly said that ignorance of law is no excuse. The need for the managers of any organization to know the broad principles of law governing their decisions and actions need not be over-emphasised. For example, a manager dealing with a banker or entering into contract with another on behalf of his organization needs to know his rights and obligations more than any ordinary individual. No manager or his organization can afford a managerial decision without any regard to its legal repercussions. The branch of law which controls and regulates the business related activities or commercial activities is known as Business Law. It is obvious that there is bound to be a plethora of such legislations. It is neither possible nor necessary to learn about all of them. What is necessary is to study the laws that are fundamental. They are fundamental in the sense that the rules and principles embodied in them are imported in other legislations. Therefore, a fair amount of knowledge of these fundamental legislations would enable the managers to easily understand the requirements under the other laws. For example, after one has become adequately familiar with the law of contract he is certainly in a comfortable position to deal with a situation involving law of insurance. This is so because insurance is basically a contract and hence apart from the insurance-specific rules, the principles of law of contract are uniformly applicable. We begin our discussion with law of contract which is to be found in the Contract Act, 1872.  C ONTENTS 1. The Indian Contract Act, 1872 1-82 Nature of Agreement and Contract Offer and Acceptance Consideration Capacity of Parties Free Consent Legality of Object Contingent Contract Performance and Discharge of Contract Quasi-Contracts Remedies for Breach of Contract Indemnity and Guarantee Essentials of Agency Creation of Agency Agency of Necessity Nature and Extent of Agent’s Authority Difference between Sub-Agent and Substituted Agent Termination of Agency 2. Bailment and Pledge 83-94 What is Bailment What is not Bailment Difference between Bailment and Licece Finder of Goods Pledge or Pawn 3. Partnership 95-106 Definition and Nature of Partnership ‘Partners’, ‘Firm’ and ‘Firm Name’ Difference between Partnership and Company Relations of Partners to one Another Rights of a Partner  Duties of a Partner Relations of Partners to Third Parties Types of Partners 4. Sale of Goods Act, 1930 107-132 Brief Introduction Distinction between Sale and Agreement to Sell Goods Perishing of Goods Price Conditions and Warranties Transfer of Property Performance of Contract of Sale Unpaid Seller and his Rights Buyer’s Rights Against Seller Auction Sale 6. Negotiable Instruments Act, 1881 133-171 Introduction What is a Negotiable Instrument? Characteristics of a Negotiable Instrument Essentials Elements of a Promissory Note Essentials Elements of a Bill of Exchange Maturity of an Instrument Classification of Negotiable Instruments Parties to Negotiable Instruments Rights or Privileges of a Holder in due Course Essentials of Valid Acceptance for Honour Paties 4. Companies Act, 1956 172-247 Company and its Formation Distinction between Partnership and Company Memorandum of Associations Prospectus  Contents of a Prospectus Shares and Debentures Difference between for Feiture and Surrender of Shares Managerial Personnel – Personnel – Board of Directors – Manager Accounts and Audit Investigation, Majority Rule and Minority Interest 5. Other Laws 248-289 Introduction Who is a Consumer? Consumer Disputes Redressal Agencies State Commission National Commission Procedure on Admission of Complaint Consumer Protection Councils The Patents Act, 2002 The Trade Markets Act, 1999 Information Technology Act, 2000 Offences Under the Act  THE INDIAN CONTRACT ACT, 1872 1 THE INDIAN 1. CONTRACT ACT, 1872 NATURE OF AGREEMENT AND CONTRACT The terms contract and agreement are used interchangeably in day to day language and are treated as synonymous. However, under the Contract Act they are defined to mean different. An agreement, in common sense, is a situation where something suggested or proposed by one person is consented to or is approved by another to whom such suggestion is given or proposal is made. In our daily life, we enter into innumerable such agreements with various persons. For example, when you suggest to your friend that you two should have a cup of tea in the canteen, you are putting forward a proposal to him. It may be accepted or rejected by him. If accepted, it becomes an agreement. However, when one trader makes a proposal to another to buy any goods at a certain price, the suggestion he is putting forth is different. If his proposal is accepted by the trader to whom the proposal is made, the result is an agreement between the two as in the previous example, but with a difference - the difference between the two types of agreements is that the former is an agreement while the latter is a contract. The difference essentially lies in the fact that in the former agreement there is no intention of the parties to the agreement to create legal relations and it is purely social in nature while such intention is there in the case of the latter agreement. Failure to honour the social agreement may bring disrepute to the failing party, but not the legal consequences. In both the cases, there is an element of meeting of minds or concurrence between the two individuals, but in the first case the agreement is not backed by law. In the second example, we notice that the concurrence between the parties is not merely a social interaction, but something more than that. The second example is the case of contract which is also an agreement with a difference and the difference is that it is enforceable by law. An agreement is defined as – ‘every promise and every set of promises forming consideration for each other is an agreement.’ Therefore, a promise is an agreement. An offer, when accepted, becomes a promise. So we can say that an agreement is the result of an offer by one person being 2 LEGAL ASPECTS OF BUSINESS accepted by the other (to whom the offer is made). Every such agreement may not be a contract. It depends on whether such agreement is legally enforceable or not. The definition of the term contract under the Contract Act is therefore – “Contract is agreement enforceable by law.” It can be thus noticed that a proposal by one party and its acceptance by the other give birth to an agreement between the two. When such agreement is legally enforceable, it is called a contract. We can therefore say that – Offer + Acceptance = Agreement Agreement + Legal enforceability = contract From the above equations we can conclude that every contract is an agreement but every agreement is not necessarily a contract. This is so because in order to be a contract, the agreement needs legal enforceability. The question now arises as to what is it that confers upon an agreement the legal enforceability? In other words, under what conditions an agreement becomes a contract? An agreement becomes contract only when it possesses certain characteristics or features. These features are known as essential elements or ingredients of contract. If all these essential elements are present in an agreement, then it acquires the status of contract. If any of these essential elements is absent, the agreement remains unenforceable by law and hence does not become contract. These essential elements are briefly discussed below and those requiring elaboration are separately discussed in the ensuing sections. Essential Elements of Contract 1. Offer The terms offer and proposal mean the same thing. The Contract Act uses the term proposal. Any agreement between two or more parties has to begin with one party putting forth a suggestion to other so that the other person or persons can consider the same and decide whether to agree with the same or not. For example, A may say to B that he wants to sell his car for Rs, 60000/- and whether B is interested in buying the same. Here, A is making an offer to B. Therefore, communication of a lawful offer by one party is the first step towards the formation of every agreement. It is obvious that without any offer there cannot be any agreement. (The law relating to Lawful Offer is discussed in Chapter 2) 2. Acceptance The person to whom the offer is made has now to consider the offer and examine it from the view-point of his benefits and decide whether to reject the offer made or accept the same. Communication of lawful acceptance by the offeree is the next step in the formation of contract. The moment a valid offer is accepted by the offeree in a valid manner, an agreement is born. (if other essential elements of contract are also present, then a contract is born.) Acceptance, in a way,  THE INDIAN CONTRACT ACT, 1872 3 makes the agreement in its complete form. In the words of Sir Anson – “Acceptance is to an offer what a lighted match is to a train of gun powder. It produces something which cannot be recalled or undone.” It means that the gunpowder which is lying idle or dormant explodes immediately the moment it comes in contact with a lighted match. Similarly, an offer by itself is inactive. The moment it is accepted it becomes active, i.e., it produces an agreement giving rise to mutual rights and obligations. Acceptance converts an offer into a promise. (The law relating to Acceptance is discussed in Chapter 2) 3. Intention to Create Legal Relations The parties to the agreement must intend to create legal relations among them. Agreements which are social or friendly in nature, for example going for a picnic together or agreement to lunch together etc. are the agreements where there is no intention of the parties to create legal relationship between them. As such, these agreements are not contracts. The test to determine whether the parties have or do not have any such intention is to ask a simple question. Do the parties intend that legal consequences should follow if any party breaks the agreement? If the answer is positive, it shows that the agreement is intended to be a contract. On the other hand, if the answer is negative, the agreement is not a contract. To illustrate, take a case where one person invites his friend at his home for lunch. On failure of the friend to turn up for the lunch, the person giving invitation cannot prosecute him for compensation for the loss of unconsumed food. Similarly, if the person giving invitation fails to arrange for the lunch on arrival of the friend, the invitee cannot prosecute him for the inconvenience caused. In an interesting case (Balfour vs. Balfour), the husband agreed to pay a monthly amount to his wife to meet the maintenance expenses. On his failure the wife prosecuted him. The court held that such agreement is not a contract and hence not legally enforceable, because no legal relations resulted from the agreement It is always presumed that the intention to create legal relationship is absent in social or domestic agreement, whereas such intention is presumed to exist in the agreements which are commercial in nature or which are trading agreements. Thus, in an agreement to buy and sell certain property, there is an intention to create legal relations and therefore such agreement is a contract. 4. Consideration In simple terms, Consideration means the benefit that each party stands to receive out of the contract. When one person buys any property from another, it is either because he wants to put the property to use in a manner beneficial to him or he may want to sell it at a higher price in future. In either case, he receives or stands to receive some benefit from the purchase of property. This benefit is his consideration. Similarly, the person who sells the property receives the price of the property and this payment of price is his benefit through the agreement of sale. It is consideration for the seller. Consideration is the price paid by one party for the promise of the other. 4 LEGAL ASPECTS OF BUSINESS If any party to the agreement stands to gain nothing from the agreement, such agreement is not enforceable by law as it is not a contract. Consideration being an essential element of contract, both the parties must benefit from the agreement. When ‘A’ agrees to give a gift to ‘B’ on his birthday, the agreement between them is not a contract because there is no gain for A. Therefore, no legal consequences will follow if ‘A’ later fails or refuses to give the gift to ‘B’. Gratuitous promises are not enforceable at law. Consideration has to be lawful and may be in the form doing something for the benefit of the other or refraining from doing something for the benefit of the other. (The law relating to Consideration is discussed in Chapter 3) 5. Capacity of Parties or Competence of Parties The parties entering into agreement must be competent to contract or must have legal capacity to enter into contract, otherwise such agreement is not a contract and therefore not enforceable by law. The term capacity should not be confused with the term ability. Any person may have the ability to enter into an agreement, but he may not be competent to contract. For example, a minor person, i.e., one who has not completed his age of 18 years may enter into an agreement. But the Contract Act declares a minor to be not competent to enter into contract, except under certain circumstances. Therefore, the agreement entered into by or with a minor cannot be a contract and therefore not enforceable by law. A person who is minor or a person suffering from insanity or madness is not competent to contract. Additionally, there are other categories of persons who are declared to be incompetent to contract. Competence of parties is an essential element of contract and hence if any of the parties to an agreement is not competent, such agreement is not a contract. (The law relating to Competence to Contract is discussed in chapter 4) 6. Free Consent Free consent of all the parties to an agreement is another essential element of contract. Mere consent of the parties is not sufficient. Such consent has to be a free consent, in the absence of which the agreement may not be contract. There are certain elements such as coercion, undue influence etc. which vitiate free consent. Two or more persons are said to consent when they agree upon the same thing in the same sense. The consent is said to be free when it is not obtained by undue influence, coercion, fraud, misrepresentation or mistake. If the contract is induced by any party by obtaining the consent of the other using any of the first four factors, the contract becomes avoidable at the discretion of the party whose consent is so obtained. In other words, such party has a choice whether to reject the contract or accept it and insist on performance. (The law relating to Free consent is discussed in Chapter 5)  THE INDIAN CONTRACT ACT, 1872 5 7. Lawful Object In order to be a contract, the purpose of the agreement or its object must be lawful. If the object with which an agreement is entered into is unlawful, it is a case of illegal agreement, and obviously such agreement cannot be a contract. The object of an agreement is unlawful when – It is forbidden by law; or If permitted, it would defeat the provisions of any law; or It is fraudulent or involves injury to another; or It is immoral or opposed to public policy An agreement where one person lends money to another on interest is enforceable by law as it is a contract. However, if the person lending money knows that the money so lent is to be utilised for production of illegal liquour, then it is a case of illegal agreement and therefore it is not a contract. 8. Writing and Registration According to Contract Act, an oral contract is as good as written contract. There is no general requirement that a contract has to be in a written form. However, in the case of certain agreements it is the requirement of law that they shall be reduced to writing, if they are to be legally enforceable. Further, in some cases it is also required that the agreement shall not only be in writing but it must also be registered as per the law of registration of contracts. For example, an oral agreement to buy or sell movable goods is perfectly enforceable by law as it is a contract. However, an agreement to buy or sell immovable property such as land or building, has to be in writing and also it has to be registered with the competent authorities. If it is not written and registered, such agreement will not be a contract and therefore cannot be enforced in the court of law. 9. Certainty The Contract Act provides that if the meaning of any agreement is not certain or the meaning is not capable of being made certain it is not enforceable by law. In other words, if the terms of agreement are such that they cannot be precisely interpreted or if they are vague and ambiguous, such agreement does not acquire the status of contract and remains unenforceable at law. The reason for this is simple. In the event of any subsequent dispute between the parties over the agreement, the court is expected to decide the dispute on the basis of what was actually agreed between the parties. However, if the agreement itself is so vague that no certain meaning can be derived from it, no court can adjudicate the dispute. For example, A agrees with B to sell his house for a good price. The term ‘good price’ may mean any price, because it is left to subjective interpretation of different individuals. It is impossible for any court to ascertain the intention of the parties. It is also not possible for the courts to declare the price in view of the prevailing market rates because the intention of the parties at the time of entering into agreement is more important and the sole conclusive factor, and not the market rates. 6 LEGAL ASPECTS OF BUSINESS 10. Possibility of Performance Agreements must be capable of performance. An agreement to do an act impossible in itself is void, i.e., not enforceable at law. For example, A agrees with B to make his dead relative alive by magic in consideration of ` 50,000/-. The agreement is not enforceable by law and therefore not a contract. Two points must be noted in this context. It must be remembered that impossibility of performance is not the same thing as difficulty in performance. A person may undertake to do something under an agreement which may require no special effort. However, subsequent to formation of agreement, he may realize that his perception was wrong and the performance is more demanding or exacting or it is more expensive. Under such circumstances, the party has to discharge his obligation under the agreement, howsoever costly the performance is. For example, ‘A’ agrees to supply certain steel products manufactured in his factory to ‘B’ for certain price. Later, ‘A’ realizes that he has quoted a price which is quite below the market rate. Here, ‘A’ has to perform his obligation even though it may mean a loss to him. He cannot claim impossibility of performance. The second point to be noted is that the impossibility discussed here is the impossibility existing at the time of formation of the agreement and not the subsequent one. For example, ‘A’ agrees to sell his house to ‘B’ for a certain price. Subsequent to the agreement, the house is destroyed in earthquake. Now the performance has become impossible. However, it is a case of void contract. In other words, the agreement is a contract at the time when it is entered into, but subsequently becomes impossible. (Void contracts are separately discussed under discharge of contract.) 11. Not Expressly Declared as Void Certain agreements are expressly declared to be void (i.e., not enforceable by law and therefore not contracts) under the Contract Act. Agreement in restraint of marriage, or agreement in restraint of trade, or a gambling agreement are some of the examples of agreements which can never attain the status of contract. They are declared to be void and not enforceable at law. Now we shall discuss the above essential elements of contract in detail one by one. However, before doing so, it would be more pertinent and suitable to understand various ‘kinds of contracts’ first. Kinds of Contracts 1. Void Contract In general sense, the term ‘void’ means completely lacking something or empty. In legal sense, the term means ‘having no legal force.’ Void contract, therefore, means a contract which has no legal value or effect at all. According to the Contract Act – ‘A contract which ceases to be enforceable by law becomes void, when it ceases to be enforceable.’  THE INDIAN CONTRACT ACT, 1872 7 The term ‘ceases to be enforceable’ means a contract which was enforceable at law, but at some subsequent point of time and due to some reasons, it has lost the legal value and is no longer enforceable by law. Thus, a void contract is not void from the time of its birth. It was binding on the parties when it was entered into, however, subsequent to its formation, it has become devoid of legal value due to some reasons. The reasons why a contract becomes void are as follows: (a) Supervening Impossibility: After the formation of contract, its performance may become impossible. This is known as supervening impossibility. In such case, the contract becomes void. For example, ‘A’ contracts to marry ‘B’. After this contract, ‘B’ goes mad. The contract of marriage becomes void. (b) Subsequent Illegality :‘A’, a merchant from Maharashtra contracts to sell 100 quintals of sugar to ‘B’, another merchant from Gujarat. After the contract has been entered into, the Maharashtra Government prohibits sale of sugar outside the state of Maharashtra due to scarcity of sugar. The contract now becomes void, because the performance of the contract would now be an illegality. (c) Contingent Future Event Becoming Impossible: In a contract, where one party undertakes to do or not to do something on the happening of an uncertain future event, the contract becomes void when the event becomes impossible. For example, ‘A’ contracts to sell to ‘B’ certain raw material which is arriving by ship, on the condition that the ship reaches safely. The ship sinks at the sea during its journey. Thus, the contract becomes void. 2. Voidable Contract The contract, where one party (and that party alone) has a choice whether to go ahead with the contract or avoid or cancel it, is a voidable contract. According to Contract Act, ‘an agreement which is enforceable by law at the option of one party, but not at the option of the other, is a voidable contract.’ Such agreement is enforceable by law or it is a perfect contract until avoided by the party at whose option the contract was voidable. A contract becomes voidable when the consent of one party has been obtained by fraud, undue influence, coercion or misrepresentation. Such contract is voidable at the option of the party whose consent was so obtained. However, the option to cancel the contract should be exercised by the aggrieved party within a reasonable time and before any third party interest is created. For example, ‘A’ threatens to shoot ‘B’ if he does not sell his house to ‘A’ for ` 10 lacs. ‘B’ agrees. This contract has come into existence without free consent of ‘B’, i.e., by using coercion and therefore such contract is voidable at the option of ‘B’. Similarly, when a party to the contract promises to do a certain thing within a specified time, but fails to do so, the contract becomes voidable at the option of the other party, if the time is the essence of the contract. For example, ‘A’ agreed to sell and deliver to ‘B’ 100 quintals of sugar within 10 days. If ‘A’ does not supply the sugar within the specified time, the contract is voidable at the option of ‘B’. 8 LEGAL ASPECTS OF BUSINESS Consequences of Rescission of Contract If a party to a contract has a choice either to avoid/cancel the contract or to go ahead with the contract, and if such party chooses to cancel the contract, then it is but necessary for such party to return the benefits, if any, received from the other party, under the contract. Further, the other party obviously is under no obligation now to perform his promise under the contract. The Contract Act provides for the same thing. It states that when a person at whose option a contract is voidable rescinds it, the other party need not perform any promise made by him under the contract. If the party rescinding a voidable contract has received any benefit from another party under the contract, he shall restore such benefit to the person from whom the benefit was received. For example, ‘A’ contracts to sell his house to ‘B’ for a certain price. Later, ‘A’ rescinds the contract on the ground that his consent was obtained under undue influence. If ‘A’ has received any money from ‘B’ as part payment of the price, he must refund the same to ‘B’. 3. Illegal or Unlawful Contract Such contract does not exist. The term illegal contract is self-contradictory. If it is illegal, it cannot be a contract. We have already seen above that contract is agreement enforceable by law. Thus, illegal contract would mean an illegal agreement which is enforceable by law. Obviously, such cannot be the case since no illegal agreement can be enforced at law. Therefore, it must be noted that there is no contract as illegal or unlawful contract. Unless it is lawful or legal, it cannot be a contract. (There can, however, be an illegal agreement.) Void Agreements Another important term which is often confused with the term void contract is void agreement. There is marked difference between void agreement and void contract. Void contract is already discussed above. Void agreement is an agreement which is never enforceable at law. It is called void ab-initio i.e., void (not enforceable by law) right from its birth or inception. For example, an agreement with a minor is a void agreement, because a minor is not competent to enter into contract. It is never enforceable at law. On the other hand, void contract is an agreement which is also a contract (enforceable by law) when it is entered into, but has subsequently become not enforceable due to certain reasons. These reasons are already discussed above. It may be noted that no contract can be void ab-initio, but an agreement can be void ab-initio (right from inception) At this point, it shall be relevant also to see the difference between void agreement and illegal agreement. Illegal agreement and void agreement are both void ab-initio or not enforceable by law right from the beginning. Except this similarity, there are following differences between the two: All illegal agreements are void but all void agreements are not necessarily illegal. For example, if the terms of the agreement are not certain, it is a void agreement, but not an illegal agreement. An  THE INDIAN CONTRACT ACT, 1872 9 agreement where one person agrees to pay certain money to another for killing a third person is a case of illegal agreement and obviously it is void also. Further, all the other agreements which are connected with an illegal agreement or are incidental to it are also illegal if the parties to other agreements are aware of the illegality. So the original illegal agreement is capable of passing the stigma of illegality to other incidental agreements also. Therefore, in the above example, any agreement between a financer and the person who wants a third person killed is also an illegal agreement, provided the person who lends money is aware of the purpose for which the money is going to be used. On the other hand, if an agreement is merely void, the incidental agreements are not void. For example, ‘A’ borrows money from ‘B’ under an agreement for buying some goods from ‘C’, who is a minor. The agreement between B and C is void, because it lacks the essential element of contract i.e. competence of parties. However, the collateral agreement between A and B is not affected and it remains a contract. Express contracts are those contracts where the offer and acceptance constituting the contract are made in words, spoken or written. So an agreement made over telephone or through correspondence is an example of express contract. Implied contract is one which is entered into by the parties not through the words, but through their conduct or behaviour. Thus, when a porter in uniform approaches you at a railway platform and takes up your luggage, and you show him the way to your compartment, there is an implied contract between you and the coolie, under which you are required to pay for his services. Both offer and its acceptance have been communicated not by the words, but by the conduct. Implied contracts have the same force of law as the express contracts. Quasi contract is a term used for such contractual relations between the parties which exist as if the parties have entered into a contract, without there being any contract between the two in the usual sense. Unlike other contracts, there is no offer or acceptance. The parties may not have met each other ever before and yet the relations that emerge between them are such as if they have entered into contract. In fact, the term quasi contract is not used under the Contract Act. It provides for the ‘certain relations resembling those created by contract.’ For example, when one finds the goods lost by another, he is under obligation to return the goods to the owner. Similarly, when one makes an overpayment to another by mistake, the person receiving the excess money is under obligation to refund the same. The Contract Act treats these obligations as if they are contractual obligations and therefore the term ‘quasi contract’ is used. The Latin term quasi means – ‘as if or ‘almost’ and therefore quasi contract means – seemingly or apparently a contract but not really a contract. OFFER AND ACCEPTANCE During our discussion in the last chapter on essential elements of contract, we have seen that a lawful offer is the first step in the formation of contract. The second step is its acceptance by the 10 LEGAL ASPECTS OF BUSINESS person to whom the offer is made. Once a lawful offer is made and it is lawfully accepted, the contract comes into existence. (Provided, of course, the other essential elements are present.) We shall now discuss the rules of lawful offer and its lawful acceptance in detail. The Offer or Proposal The terms Offer and Proposal are synonymous and they mean one and the same thing. We shall use both the terms in our discussion. The Contract Act uses the term Proposal. It defines proposal as – “when one person signifies to another his willingness to do or abstain from doing anything, with a view to obtaining the assent of that other to such act or abstinence, he is said to make a proposal.” From the bare perusal of the above definition, the following points can be easily noticed. (a) There must be expression or communication of willingness to do or refrain from doing something; (b) Such expression must be made to another person; (c) It must be made with the object of getting the assent of that other person. It follows that a general enquiry or a casual declaration of intention is not an offer. For example, ‘I may sell my house for ` 5 lacs’ or ‘I am thinking of selling my house if I get ` 5 lacs’ is not a proposal. On the other hand, ‘Will you buy my house for ` 5 lacs?’ or ‘I am willing to sell my house to you for ` 5 lacs’ are the examples of proposal. The person making the proposal is called the promisor and the person accepting the proposal is called the promisee. Legal Rules as to Offer 1. Offer may be Express or Implied. An offer can be in words, spoken or written, or by conduct. An offer which is made in words is called express offer and the offer that is gathered from the conduct of the person is called implied offer. When ‘A’ says to ‘B’ that he wants to sell his house to him for ` 5 lacs, it is an express offer. When a coolie approaches you at the railway platform and picks up your bags, he is making an implied offer. 2. Offer must be Capable of Giving Rise to Legal Consequences and Creating Legal Relation. An offer by one person to his friend to take him to a movie is not a valid offer in the eyes of law. Ordinary social agreements do not involve legal intentions and therefore are not binding. It is presumed by law that offers made during the course of business are intended to create legal relations between the parties. Parties expect that legal consequences shall follow if there is breach of contract by any of the parties.  THE INDIAN CONTRACT ACT, 1872 11 It may be noted that even in commercial transactions, if the offer is made and accepted with clear understanding that there shall be no legal binding and that if the agreement is broken by either party no legal consequences shall follow, then such agreement shall not be a contract. 3. The Terms of Offer must be Certain and Definite; the Terms must not be Vague or Loose. In order to create a binding obligation, it is necessary that the terms on which the parties agree are certain. Therefore, the terms of offer must be certain. In other words, the terms must not be so worded that different interpretations are possible for different persons. For example, ‘A’ buys a horse from ‘B’ and promises to buy another if the first one proves to be lucky. In this case, there is no binding obligation on ‘A’ to buy the second horse because what is a lucky horse is not certain. 4. An Invitation to Place Offer is not an Offer. An offer must be distinguished from mere quotation or invitation to offer. Certain communications, either by way of advertisements or otherwise, are such that they are meant to only pass on the information to the people who may be interested in the same. Such communication by itself is not an offer. The person who is making such communication is in fact inviting the others to place their offers based on the information so communicated, if they so wish. For example, when you notice any garments displayed at the window of a garment shop with a price tag attached, indicating that a particular garment is for the price mentioned, it is not an offer. It is only an invitation to you to enter the shop and place your offer saying you would like to buy that particular garment for the price. Now it is for the shopkeeper either to accept your offer or reject it. Display of garments with price tags is merely circulation of information to others that the shopkeeper would be interested in dealing with any one who is willing to buy the garment roughly for the stated price. When you enter the shop to buy the garment, it is you who is making an offer. When the shopkeeper takes the money from you, he accepts the offer, and the contract is formed. If the display of garments or goods with prices marked on them is considered to be an offer, then tender of money by any person would be acceptance of the offer and the contract is formed. It would be a binding obligation on the shopkeeper to sell the item to you, which is not the case. Quotations, price-lists or display of goods with prices marked etc. do not constitute offer. Similarly, an advertisement of sale of goods by action is not an offer. It is an invitation to others to attend the auction and place their offers by making highest bids at the auction. Furthermore, it is not even obligatory on the auctioneer to conduct the auction sale as per the advertisement and he may withdraw the auction any time. The prospective buyers or bidders cannot complain for the loss of time and money in coming to the place of auction. 5. An Offer may be General or Specific An offer is either general or specific depending on to whom the offer is made. When ‘A’ makes an offer to ‘B’ to sell his scooter for ` 10,000/-, we call it a specific offer since the person to whom 12 LEGAL ASPECTS OF BUSINESS it is made is a specific person. When ‘A’ says to all his friends in his class that anyone can buy his scooter by paying him ` 10,000/-, it is called a general offer. When the offer is made to a certain person, it is obvious that only he can accept the offer, whereas in the case of a general offer, any person from the world at large, (or any person from the group if the offer is made to a group) can accept the offer. Such offer is accepted by complying with the condition prescribed in the offer. (In the above case, by paying ` 10,000/-) If ‘A’ has lost his book and says to ‘B’ – “if you find and return my book, I shall pay you ` 100/-.” This is specific offer since the offeree is ascertained and specific. On the other hand, if ‘A’ declares in the class or puts up a Notice on the Notice Board saying – “anyone who finds and returns my book shall be paid a reward of ` 100/-”, it is a case of general offer. Any person who finds the book and returns it to ‘A’ accepts the offer by fulfilling the requirement mentioned in the offer. Consequently, there is a contractual obligation on ‘A’ to pay the reward to that person. It is worth noting here that offer must have been communicated to the offeree, i.e., offer must have come to the knowledge of the offeree. In other words, a person complying with the requirement under the offer without the knowledge of the offer cannot claim to have accepted the same. In the above example, if a student from the class of ‘A’ who is not aware of any Notice of reward, finds and returns the book to ‘A’, cannot be said to have accepted the offer because he did not know about the offer. As such, there is no obligation on “A’ to pay the reward to such person. Another point worth noting is that special terms which are intended to be part of the offer must be specially communicated at the time of acceptance or before the acceptance. Subsequent communication of special terms will not be binding on the acceptor. Take the above example where one student returns the lost book to ‘A’ with its cover page torn or spoiled. ‘A’ cannot refuse to pay the reward on the ground that the cover page of the book is torn or spoiled. Such special term ought to have been communicated before the contract came into existence. 6. Offer must not Contain a Term the Non-Compliance of which would Amount to Acceptance If a person making an offer to other states that if the offeree does not respond or does not reject the offer within a stipulated period, it shall be presumed that the offer has been accepted by him. Such offer is not a valid offer. The reason is obvious. There cannot be any obligation on any person to respond to every communication made to him. No contractual obligation can arise if he does not reply. 7. Two Identical Cross-Offers do not Make a Contract When two persons make identical offers to each other without being aware of each other’s offer, one offer cannot be treated as acceptance of the other. For example, ‘A’ writes a letter to ‘B’ offering to sell his house for ` 5 lac. At the same time, ‘B’ writes a letter to ‘A’ offering to buy his house for the same price. These are cross offers and none of them is acceptance, because there cannot be any acceptance without the knowledge of offer. As such, no agreement results.  THE INDIAN CONTRACT ACT, 1872 13 Lapse and Revocation of Offer Having discussed the rules of valid offer, let us now understand the circumstances under which an offer lapses or becomes invalid. Once an offer has lapsed or has become invalid, there cannot be any acceptance of the same and consequently there cannot be any resultant agreement. An offer comes to end under the following circumstances: 1. An offer lapses by rejection by the offeree The most obvious mode by which an offer lapses is its rejection. When ‘A’ offers to sell his scooter to ‘B’ for ` 10,000 and if ‘B’ declines or refuses to buy the scooter, the offer is rejected and thus lapses. It may be noted that such rejection of offer may be either an outright rejection or by any amendments suggested by the offeree. Thus, if ‘A’ offers to sell his scooter to ‘B’ for ` 10000/-, ‘B’ may either reject the offer or may agree to buy the same at ` 8000/-. In either case, it is rejection of the original offer. This is so because when ‘B’ suggests any change in the terms of the offer, he is, by implication, rejecting the terms of the offer as originally proposed to him. Conditional acceptance is nothing but rejection of offer. It may also be treated as counter-offer. In both the situations the offer lapses. 2. An offer lapses after the time stipulated or after reasonable time. An offer does not remain open for acceptance for ever. It lapses when the time mentioned in 1 A says to B Will you buy my scooter for Rs. This is offer by A to B 10000/- 2 B says to A I will buy it, but for Rs. 8000/- This is rejection of offer by B and also a counter offer by B to A 3 A says to B No, I do not want to sell it for This is rejection by A of the counter offer Rs. 8000/- made by B 4 B says to A Okay, if you insist, I will buy it This is not an acceptance of the offer made for Rs. 10000/- at point No. 1., because no offer survives which can be accepted. Original offer has expired with its rejection at point No. 2. Hence this is altogether a fresh offer by B to A. As such, no agreement takes place 5 A says to B (1) Here then, take the scooter. (1) This is acceptance by A of the offer of B OR made at point No. 4 OR (2) No, I have changed my mind. (2) This is rejection by A of the offer of B I do not want to sell the scooter. made at point No. 4 14 LEGAL ASPECTS OF BUSINESS the offer for its acceptance has expired. If no such time is specified in the offer, then the offer lapses after the expiry of reasonable time. What is reasonable time depends on the facts of the case. For example, an employer posts his offer of employment to a candidate after he has been selected in the interview. If it is mentioned in the appointment letter that the candidate has to communicate his acceptance within a period of one week, then the offer of employment lapses after the week has expired. However, if no such time is mentioned in the appointment letter, the offer lapses after a reasonable period. In this case, what is reasonable period would depend on the understanding between the employer and the candidate as regards the urgency in filling the vacancy and other factors prevailing at the time of interview. 3. An offer lapses if not accepted in the prescribed mode, or in the usual or reasonable mode. As the offeror is entitled to receive the acceptance within the prescribed time, (if at all the offeree chooses to accept the offer) he is also entitled to receive the acceptance in the mode prescribed by him in the offer itself. If no such mode is prescribed by him, the acceptor is bound to communicate his acceptance in some usual or reasonable mode. Let us take the same example given above. The employer posts his offer of employment to the selected candidate stating that if the offer is acceptable, the candidate should sign the copy of appointment letter and return the same to the employer’s office. If the candidate, instead, telephones the employer to communicate his acceptance, the employer is entitled to insist that the offer be accepted in the mode prescribed, failing which he can treat the offer as rejected. However, if the employer does not so insist, he is deemed to have accepted the acceptance. 4. An offer lapses by the death or insanity of the offeror before acceptance. If the offeror dies or becomes insane before acceptance, the offer lapses provided that this fact comes to the knowledge of the acceptor before acceptance. The Contract Act provides that a proposal is revoked by the death or insanity of the proposer, if the fact of his death or insanity comes to the knowledge of the acceptor before acceptance. It is clear from the language of the provision that if the acceptance is given by the offeree in ignorance of the death or insanity of the offeror, it is valid acceptance since the offer does not lapse. Similarly, if the offeree dies or if he becomes insane before acceptance, the offer lapses. 5. An offer lapses by revocation An offer is revoked by the communication of notice of revocation by the proposer to the other party. A person may change his mind after having made an offer and may thus withdraw or revoke his offer. In such situation, there remains nothing to be accepted. It must, however, be noted that such revocation is possible only till the moment the offer is not accepted. For example, ‘A’ offers to sell his scooter to ‘B’ for ` 5000/-. He may subsequently change his mind and communicate to ‘B’ that he is revoking the offer and that he does not want to sell the scooter.  THE INDIAN CONTRACT ACT, 1872 15 In the above example, if ‘A’ asks ‘B’ to communicate within a week, it is not necessary for ‘A’ to keep the offer open for the week and then revoke it. ‘A’ may revoke the offer on the next day itself, provided it has not been accepted by ‘B’ by that time. The Acceptance Agreement comes into existence when an offer made is accepted. It is the acceptance which gives rise to contractual obligations. The term Acceptance is defined under the Contract Act as – ”When the person to whom the proposal is made signifies his assent thereto, the proposal is said to be accepted. A proposal, when accepted, becomes a promise.” Thus, ‘acceptance’ is the expression by the offeree giving assent to the terms of the offer. It is the acceptance which converts the offer into a promise and gives rise to contractual obligations. In order that acceptance is valid, it has to be in comp,liance of certain rules. Let us discuss these rules one by one. Legal Rules Regarding Valid Acceptance 1. Acceptance must be given only by the person to whom the offer is made. The definition of acceptance begins with the words – ‘when the person to whom the offer is made’ -, meaning thereby that only the person or persons to whom the offer has been made are competent to accept the offer. Thus, when ‘A’ makes an offer to ‘B’, it is only ‘B’ who can accept the offer and no one else. When an offer is made to a specified class of persons (e.g. students of a particular class) a student from that class can accept the offer. When an offer is made to the world at large (e.g. reward for finder of lost goods) it can be accepted by the person having knowledge of the offer. Let us take an example of ‘A’ who is running a motor driving school under the title ‘Mr. A’s driving school’. He sells the business to ‘B’ of which ‘C’ is not aware. He sends an offer letter to ‘A’ enrolling his name for specialized driving classes which is now accepted by ‘B’. Later, ‘C’ cancels the idea of joining the driving classes. ‘B’ cannot proceed against ‘C’ because there is no contractual relationship between ‘B’ and ‘C’. The logic here is that if you intend to enter into contract with ‘A’, then ‘B’ cannot put himself in the place of ‘A’ without your consent. 2. Acceptance must be absolute and unqualified In order to convert a proposal into a promise, the acceptance must be absolute and unqualified i.e. unconditional. In other words, if the offeree decides to accept the offer, he has to accept the whole of the offer as it stands and without making any changes in the same. If the offeree suggests any change in the terms of the offer, it would amount to counter-offer or the rejection of the original offer. But it is not a valid acceptance. For example, If ‘A’ offers to sell his scooter to ‘B’ for ` 5000/-, ‘B’ has to either reject the offer or accept it. If he decides to accept the offer, he has to merely give an affirmative response. If ‘B’ adds any conditions, there is no acceptance in the eyes of law. Thus, if ‘B’ accepts the offer willing 16 LEGAL ASPECTS OF BUSINESS to pay ` 4000/- immediately and ` 1000/- in the next month along with interest, it is a conditional or qualified acceptance and therefore not a valid acceptance. 3. Acceptance must be communicated in some usual or reasonable manner, unless the manner is prescribed in the offer itself. As already seen under our discussion on lapse of offer, the acceptance must be communicated in the manner prescribed in the offer. If the offer of employment directs the candidate to sign his acceptance on the copy of the appointment letter and return the same to the employer, the candidate has to exactly do the same. Telephonic communication by the candidate that he is accepting the employment is not a valid acceptance in the eyes of law. When the mode of acceptance is not prescribed in the offer, the acceptance must be communicated in some usual or reasonable mode. What is reasonable depends on the facts of the case. In the above example, if the appointment letter issued to the candidate does not mention about the mode of acceptance, but two copies of the offer-letters are posted to him, it is reasonable to expect the candidate to sign the duplicate and return the same. Alternatively, telephonic confirmation of receipt of the appointment letter along with acceptance would be reasonable mode of acceptance. Express Acceptance is one where it is communicated through words, spoken or written. Implied Acceptance, on the other hand, is communicated by the conduct of the acceptor. Implied acceptance of an implied offer also gives rise to legally enforceable agreement. If a shoe polisher approaches you at the railway platform and starts polishing your shoes, it is an implied offer. If you allow him, it is your implied or tacit acceptance, giving rise to contractual obligation under which you are required to pay for his services. The Contract Act provides that if the acceptance is not communicated in the mode prescribed by the offeror, the offeror or proposer may, within a reasonable time after the acceptance is communicated to him, insist that his proposal shall be accepted in the prescribed manner, and not otherwise, but if he fails to do so, he accepts the acceptance. It may further be noted that mental acceptance is not effective. In other words, the offeree having a mind or desire to accept the offer is not sufficient. Communication of acceptance must reach the knowledge of the offeror. In the above example, if the candidate signs the copy of the offer of employment, but does not post it, it cannot be called valid acceptance. 4. Acceptance must be made within reasonable time or before the offer is terminated. As the offeror can prescribe the mode of acceptance, he may also specify the time during which the offer may be accepted. Acceptance made after the expiry of the said time period is ineffective and not valid. If the time limit is not prescribed, then the offer must be accepted within a reasonable time. Again, what is reasonable is a question of fact. If the offer of employment received by the selected candidate mentions the time limit within which its acceptance has to be communicated, the candidate has to abide by the same, if he wants to accept the offer. However, if no time limit is specified in the offer letter, the offer has to be accepted within a reasonable period. In this case, if the candidate conveys his acceptance after one year, it is not a valid acceptance.  THE INDIAN CONTRACT ACT, 1872 17 Communication of offer, Acceptance and their Revocation So far as the contracts which are entered into by the parties in person, i.e. when they are face to face there is no question of withdrawing the offer or acceptance. An offer is made, acceptance is given and the contract is born. In many cases, the contract is immediately discharged where both the parties perform their respective obligations under the contract. For example, when you buy a pen from a shopkeeper, every step is taken almost at the same point of time. The offer is made, acceptance given, (or rejected and counter offer made and accepted) price paid, pen delivered and the contract discharged. However, when the parties are not face to face and not dealing in person, and instead when they are transacting with each other through correspondence or by post, it is necessary to determine at what point of time the contract has come into existence. The moment a valid acceptance is made, a contract is born. And once a contract is born, both the parties are bound to each other under the terms of the contract. No one can now retract. The primary purpose of Contract Act is to assure the parties that promises once given shall be fulfilled. Hence, it is crucially important to ascertain from plethora of correspondence at what point of time the contract has come into being. In this behalf, the Contract Act lays down the following rules: 1. Communication of offer. Communication of offer is complete when it comes to the knowledge of the person to whom it is made. Thus, when an offer is made by post, the communication of offer is complete when the letter of offer reaches the offeree. 2. Communication of acceptance. Communication of acceptance is complete – (a) as against the proposer, when it is put in a course of transmission to him, so as to be out of the power of the acceptor; (b) as against the acceptor, when it comes to the knowledge of the proposer The Contract Act gives the following illustration to simplify the rule. (a) ‘A’ proposes, by his letter, to sell a house to ‘B’ at a certain price. The communication of proposal is complete when ‘B’ receives the letter. (b) ‘B’ accepts ‘A’s proposal by a letter sent by post. The communication of acceptance is complete – as against ‘A’, when the letter is posted; as against ‘B’, when the letter is received by A Communication of revocation The communication of revocation is complete – As against the person who makes it, when it is put into a course of transmission to the person to whom it is made, so as to be out of the power of the person who makes it; 18 LEGAL ASPECTS OF BUSINESS As against the person to whom it is made, when it comes to his knowledge. (In the illustration give above -) A revokes his proposal by telegram. The revocation is complete as against A when the telegram is dispatched. It is complete as against B when B receives it. B revokes his acceptance by telegram. B’s revocation is complete as against B when the telegram is dispatched, and as against A when it reaches him. Revocation of proposal and acceptance The Contract Act provides that – A proposal may be revoked at any time before the communication of its acceptance is complete as against the proposer, but not afterwards. An acceptance may be revoked at any time before the communication of the acceptance is complete as against the acceptor, but not afterwards. In order to better understand the above rules, let us take an example. A makes an offer to sell his house to B by post and he sends the letter on 1st January. The communication of offer is complete when this letter reaches B. Now B writes back to A accepting the offer by his letter which is posted on 4th January. The communication of acceptance is complete as against A on 4th January when the letter is dispatched by B so as to be out of his power. The communication of acceptance is complete as against B when the letter reaches A. It may be remembered that once the communication of acceptance is complete as against the proposer (i.e., 4th January), he cannot revoke the proposal. The contract has now come into existence giving rise to legal obligations. A could have revoked his offer before the letter of acceptance was dispatched by B, but not afterwards. Having sent the letter of acceptance, if B now desires to revoke his acceptance, he has to communicate his revocation to A, before the communication of acceptance is complete as against B. In other words, B has to dispatch his revocation of acceptance in such a way that it reaches A before the acceptance comes to the knowledge of A. In the above example, if B (having dispatched his acceptance on 4th January, now wants to revoke his acceptance, then he has to send his revocation so that A receives the revocation before he receives the acceptance. To sum up the points discussed above, it can be stated that – 1. The communication of a proposal is complete when it comes to the knowledge of the person to whom it is made. 2. The communication of an acceptance is complete, as against the proposer, when it is put in the course of transmission to him, so as to be out of the power of the acceptor, and as against the acceptor, when it comes to the knowledge of the proposer.  THE INDIAN CONTRACT ACT, 1872 19 3. The communication of a revocation is complete, as against the person who makes it, when it is put into a course of transmission to the person to whom it is made so as to be out of the power of the person who makes it, , and as against the person to whom it is made, when it comes to his knowledge. 4. A proposal may be revoked at any time before the communication of its acceptance is complete as against the proposer, but not afterwards. An acceptance may be revoked at any time before the communication of the acceptance is complete as against the acceptor, but not afterwards. CONSIDERATION Consideration is an essential element of contract. When two persons enter into an agreement, both expect some benefit out of the agreement. This benefit is called consideration under the Contract Act. It is this benefit which distinguishes an agreement from a contract. In other words, if the parties to the agreement do not promise some benefit to each other reciprocally, the agreement is not a contract. Therefore, in social agreements or friendly agreements, where one person promises another some benefit without any gain in return, there is no intention to create serious business relations between the parties. Hence, such agreements are not contracts. Parties to such agreement do not intend that legal consequences should follow, if the agreement is not honoured by any one of them. In the words of Pollock – “an act or forbearance of one party, or the promise thereof, is the price for which the promise of the other is bought, and the promise thus given for value is enforceable.” Thus, consideration is the term used in the sense of a quid pro quo (i.e., something in return) and must be either a benefit to the promisor or a detriment to the promisee or both. A promises B to deliver a letter to C personally in Mumbai if B would pay him ` 500/-. The consideration for A’s promise is the payment of ` 500/- which is a benefit to A and detriment to B. Looking at the contract the other way round, the consideration for B’s promise is A’s taking the pains of going to Mumbai and delivering the letter which is a detriment to A and the benefit to B. It must be remembered that the element of detriment is essential for consideration. Therefore, a promise to keep an offer open is not an enforceable promise. (It is not a contract.) For example, A makes an offer to B and says: “I will keep the offer open for a week.” B replies: “I thank you for keeping the offer open for a week.” Here, there is an agreement between A and B under which A has promised something to B, but it is not a contract. This is so because no consideration has passed from B to A for A’s keeping the offer open for a week. However, if B promises to pay some amount to A for keeping his offer open and A accepts it, there would be binding contract on A’s part to keep the offer open for the week. Consideration is the foundation of contract because it is the very purpose for which the parties enter into contract with each other. In the common example of sale and purchase of an article, the seller enters into contract because his purpose is to get the money or price from the sale of the article and the buyer enters into contract because his purpose is to obtain the article. The ‘payment 20 LEGAL ASPECTS OF BUSINESS It therefore follows that a person who is stranger to the consideration can sue for the performance of the contract, because the consideration moves on his behalf from some other person. This is known as ‘Doctrine of constructive consideration’ which enables a stranger to the consideration to sue on the contract, provided he is party to the contract. However, if a person is stranger to the contract, he cannot sue on the contract. For example, A, who is indebted to B, sells his property to C, and C, i.e. the purchaser of the property promises to pay the debt of B. If C fails to pay the debt of B, B has no right to file a suit against C because there is no contract between B and C. Thus, the rule is that a stranger to contract cannot sue on the contract. (Trust, family settlements and agency are some of the exceptions to this rule. A transfers property to the trustee B for the benefit of C. C can sue on the contract, though he was not a party. At the time of partition of family property, a settlement may be made for the benefit of other members of the family. Such members can sue on the settlement though they are not party to the settlement. Where a contract is entered into by an agent, the principal can sue on it.) 3. Consideration may be past, present or future The words used in the definition clearly indicate that the consideration (either in the form of some act or abstinence) may have been given in the past, or being given in the present, or promised now but to be given at some future time. Therefore, it is not only the act or abstinence of the past or present (something done or not done in the past or something being done or not done in the present), but also a promise to do or not to do certain act in the future constitutes consideration. At the desire of B, A renders to him services for a month. After the month, B promises to pay ` 5000/- to A for his services. The consideration for B when he makes such promise is past consideration, because he has received the services in the past. Where A sells and delivers a pen to B and B pays ` 10/- being the price of the pen, it is a case of present consideration. It may be noted that in this transaction, if B promises to pay the price in future, it is yet a case of present consideration. Here, the consideration for B is the pen and consideration for A is the promise of B to pay. It can also be said that for B it is executed consideration while for A it is executory consideration. A promises to supply 5 tons of steel to B every month and B promises to pay the agreed price at the time of each delivery. This is an example of future consideration where a promise is exchanged for promise and the promise is to do something in future. It is also known as executory consideration because the liability of both the parties is outstanding. 4. Consideration must be ‘something of value’ in the eyes of law. The fourth essential element of consideration is that it must be something of value in the eyes of law. It should be noted that consideration need not be adequate, because what is adequate is to be decided by the parties and not by the law. The law of contract insists on presence of consideration and not its adequacy. For example, if A promises to sell his car to B for ` 500/- (which price is much below the market rate), the promise is enforceable at law.  THE INDIAN CONTRACT ACT, 1872 21 However, it may be noted that shockingly inadequate consideration may be a good evidence to support a claim of any party that his consent to the agreement was not a free consent. Consideration must be real and not illusory. Similarly, it must not be physically and legally impossible. It must also not be uncertain. Promise to make a dead man alive is not valid consideration because it is not physically possible. A promise to do something which is prohibited by law is illegal consideration. A promise to pay a good price for goods is vague and uncertain and hence not valid consideration, because what is good price is not certain. When no Consideration is Necessary Although as a general rule there cannot be any contract without consideration, there are some exceptions where an agreement is a contract even without consideration. These are the exceptions to the rule – ‘No consideration – no contract.’ These exceptions are as follows. a. Agreement made on account of natural love and affection An agreement made without consideration is enforceable as contract, if it is, (a) Expressed in writing, (b) Registered under the law of registration of documents (c) Made on account of natural love and affection, and (d) Between the parties standing in near relation to each other If the above four conditions are satisfied, an agreement is a contract even when there is no consideration. Thus, where A promises in writing to his son that he would transfer certain property to him and registers the document, it is a contract. It must be remembered that all the four conditions have to be independently satisfied. Where a husband, due to frequent quarrels and disputes, signs and registers a promise to his wife that he would pay a certain sum to her per month provided she stays away from him, is not a contract. Here, though the three conditions of near relations, writing and registration are satisfied, the agreement is obviously not entered into out of natural love and affection. b. Agreement to compensate for past voluntary services. If a promise is made to a person who has already voluntarily done something for the promisor in the past, such promise is contract and enforceable at law, though at the time of making the promise there is no consideration moving from that person to the promisor. For example, A finds B’s purse and returns it to him. B promises to give him ` 100/-. This is a contract. It can be noticed from the above example, that – A has rendered services to B in the past and such services were rendered voluntarily without expecting anything in return or without being required by B, B is under no obligation to make any promise to A, and Yet B, subsequent to enjoying services of A, makes a promise to compensate for the services 22 LEGAL ASPECTS OF BUSINESS When B is making a promise to A, there is no consideration moving from A to B, and as such in the absence of consideration there is no contract. This is as good as a promise of gift. However, such promise is a contract even without consideration. This exception is not limited to the promisor receiving services himself. For example, A supports B’s minor and infant son which is the duty of B. Subsequently, B promises to pay A’s expenses in so doing. This is a contract. It may also be noted that the promisor need not be competent to contract when he receives the services. Thus a promise made after attaining majority to pay for the foods supplied voluntarily to the promisor during his minority is a contract. Past consideration and compensating past voluntary services must not be confused. In past consideration, the services are not rendered voluntarily and there is an obligation on the part of the person receiving services to pay for the same. On the other hand, under this exception, the services are rendered voluntarily and there is no obligation on the part of the promisor to make any promise. c. Agreement to pay a time-barred debt. In every country including India there is law of limitation which prescribes the period within which legal action can be taken against defaulting person. This law is based on the principle that Law comes to the help of those who are diligent about their rights and not to the help of those who are sleeping over their rights. Different periods of limitation are prescribed under the Limitation Act for initiating different types of proceedings. This period is three years for money recovery suits. Hence, on default by the debtor in repayment of money-dues, the creditor must proceed against him within a period of three years from the date of default, otherwise the right of the creditor to proceed against the debtor is lost and the debt becomes a time-barred debt. It cannot be now recovered. Here, as the creditor no longer has any right to recover the debt, similarly the debtor has no obligation to pay the debt. There fore, when the debtor or his agent makes any promise to the creditor to pay the time-barred debt, such promise is without any consideration. However, such promise or agreement is a contract even without consideration. For example, A owes B a sum of ` 1000/- but the debt is barred by the Limitation Act. A signs a written promise to pay B ` 500/- (or ` 1000) on account of the debt. This is a contract. It means that now if A fails to pay the debt, B can recover the amount from B. In other words, a fresh period of limitation would start from the date of the promise. For this exception to apply, the following conditions must be satisfied. The debt must be such that the creditor cannot recover on account of law for the limitation of suits; There must be an express promise to pay the time-barred debt. Mere acknowledgement of indebtedness is not enough; and The promise must be in writing and signed by the debtor or his agent.  THE INDIAN CONTRACT ACT, 1872 23 d. Completed gift Simply stated, a gift (and not a promise or agreement to give a gift) is a contract and requires no consideration. We have seen that a promise of gift is not a contract because there is no consideration moving from the promisee to the promisor. However, if such gift is actually given it is binding on the parties. In other words, it cannot be recovered by the donor on the ground that there was no contractual obligation to give the gift. For example, A promises to give ` 100 to B on his birthday. Such promise or agreement is not a contract because there is no consideration for A. However, when A actually gives the gift to B, such completed gift is binding on them. e. Contract of agency Section 185 of the Contract Act provides that no consideration is required to create agency. This is to prohibit the principal to deny the contractual obligations incurred through his agent on the ground that there was no contract between the agent and the principal as there was no consideration. f. Contribution to charity A promise, though gratuitous, would be enforceable, if on the faith of the promise, the promisee has suffered some detriment or undertaken any liability. In our discussion on concept of consideration at the beginning of this chapter, we have seen that consideration consists of some detriment to the promisee, though it may not be of any benefit to the promisor. Thus, if A makes a promise to a hospital to donate certain sum, and based on the promise the hospital management undertakes construction of an operation theatre, thereby incurring liability towards the construction-contractors, the hospital management can recover the amount from the promisor, if he later refuses to pay the promised amount. In a decided case of Kedar Nath V/s Gori Mohammad, the defendant had agreed to subscribe ` 100 towards the construction of a Town Hall at Howrah. The secretary of the Town Hall on the faith of the promise called for plans and entrusted the work to contractors and had undertaken liability to pay them. It was held that, though the promise was to subscribe to a charitable institution and there was no benefit to the promisor, yet, it was supported by consideration because the secretary suffered a detriment in having undertaken a liability to the contractor on the faith of the promise made by the defendant. Two points need to be noted in this behalf. The first is that the promisee must have incurred some liability on the basis of the promise, in order to make the promise legally enforceable. The second point is that such promise can be enforced only to the extent of detriment suffered or the liability undertaken. If no liability is undertaken on the basis of such gratuitous promise, it is not legally enforceable. g. Remission of performance If the promisee agrees to accept a lesser performance of the promisor in lieu of what was agreed under the existing contract, such subsequent agreement is a valid contract, even though without consideration. 24 LEGAL ASPECTS OF BUSINESS For example, a bank may enter into agreement with a defaulting borrower whereby the bank may permit the borrower to pay a lesser amount than what is due and finally settle the loan account. Such agreement by which the bank agrees to accept a lesser performance than what it is entitled to (i.e. may agree to accept a lesser amount giving up part of its claim) is an agreement without consideration. However, it is a valid contract. This exception is also applicable to contracts where the promisee extends the time of performance by the promisor. Such contracts need not be supported by consideration. CAPACITY OF PARTIES The next essential element of a valid contract is ‘capacity of parties’ or ‘competence of parties’ to enter into contract. The Contract Act provides that “every person is competent to contract who is of the age of majority according to the law to which is subject, and who is of sound mind, and who is not disqualified from contracting by any law to which is subject.” Therefore, a person in order to be competent to enter into a valid contract must satisfy the following conditions: (a) He must be a major, according to the law to which he is subject; (b) He must be of sound mind; and (c) He must not be disqualified from contracting by any law to which he is subject. We shall now discuss these conditions one by one. (a) Minor According to the Indian Majority Act, a person who is under 18 years of age is a minor and a person who has completed the age of 18 years is a major. There is one exception to this general rule. The minors whose property is under the control of a guardian appointed by the court, attain majority at the age of 21 years. An agreement with a minor is absolutely void and not enforceable by law against the minor. The law relating to agreements by or with a minor can be stated as follows. 1. Minor’s agreement is absolutely void and minor cannot bind himself by a contract The law relating to minor is with a view to protecting their interests rather than to debilitating them from contracting. Therefore, there is nothing in the Contract Act which prevents a minor from becoming a promisee. The term incapacity means the incapacity to bind oneself by any contract, and not the incapacity to derive benefits under any contract. An agreement entered into by or with a minor is void as against him. An agreement with a minor is void ab-initio i.e. right from the beginning and the other party to the agreement cannot enforce the agreement against the minor. Even if a minor has received any benefit under the agreement, he cannot be asked to return the benefit or make compensation. Thus,  THE INDIAN CONTRACT ACT, 1872 25 if a minor person has obtained a loan and makes a default in its repayment, the creditor cannot sue the minor for the recovery of loan. 2. Agreements which are beneficial to minor are valid contracts As we have noted earlier, the law relating to agreements with minor is for protection of the rights of minors. It does not prohibit the minor from receiving any benefits through agreements. Accordingly, any agreement under which a minor has to merely receive certain benefits without there being any obligation imposed on him is a valid contract. Thus, if a minor lends money to another, he can recover the money by filing a suit if there is a default in its repayment. Hence, a minor can be admitted in a partnership firm, but only for sharing the profits of the firm and he cannot be held liable for the losses. A minor cannot take part in the management of the firm. His liability to third parties is limited to the extent of his share in the assets of the firm. He cannot be held personally liable for any obligation of the firm, as is the case with other partners. Similarly, the Apprentices Act 1961 provides for apprenticeship contract under which a minor can be engaged as an apprentice in factories and commercial establishments. The Apprentices Act was passed with a view to providing opportunity to young persons to learn various trade skills. Under the apprenticeship contract the minor is required to pay the compensation amount if he discontinues the training before the apprenticeship period. Under The Trade Unions Act, 1926 a minor is competent to become a member of a registered trade union and though he cannot become an office bearer of the trade union, he can enjoy all the rights of a member, can execute instruments and give aquittances as are necessary. 3. No ratification of agreement on attaining majority Ratification is subsequent approval or authorization of any act or agreement. An agreement entered into by or with a minor cannot be ratified on attainment of majority by the minor. For example, if a minor of 15 years of age agrees to sell his property after 5 years, he would have to execute the sale at the age of 20 years, when he is major. However, the earlier agreement being a nullity and having no existence in the eyes of law, there is in fact nothing to be ratified. In such a situation the minor will have to enter into a fresh contract of sale of property on attainment of majority. Ratification relates back to the time when the agreement was made and it is essential for valid ratification that the original agreement was valid i.e. enforceable by law. Further, if a minor borrows money during his minority and executes a promissory note in relation to the same debt on attaining majority, the promissory note is null and void, because at the time when the promissory note is made, it is without consideration. 4. Non-applicability of principle of estoppel What would be the consequence if a minor has falsely represented himself as major and induced another person to enter into agreement? How does the law deal with, especially, the benefits received by the minor on account of such wilful misrepresentation? The principle of law of evidence which is applicable to such representation under other cases is known as ‘principle of estoppel.’ This principle states that, ‘where one person has, by his declaration, 26 LEGAL ASPECTS OF BUSINESS act or omission, intentionally caused or permitted another person to believe a thing to be true and to act upon such belief, neither he or his representatives shall be allowed, in any suit or proceedings between himself and such person or his representative, to deny the truth of that thing.’ The principle of estoppel is based on the rule that no one shall be allowed to take the benefit of his own wrong. For example, A represents himself to B as agent of C and this representation is made by A in the presence and within the hearing of C who does not deny. The fact is that the agency of A has been terminated by C few days ago. Here, C, by his silence (omission) induced B to believe that A is the agent of C. If now B transacts with A on the belief of agency and incurs loss due to negligence of A, C is liable to compensate B, as if he is the principal of A. The principle of estoppel is not applicable to minors. Thus, a minor falsely claiming himself to be major and obtaining a loan from a banker, cannot be compelled to repay the loan and such minor can always plead minority in defence of non-payment of loan. In other words, a minor is not estopped from pleading minority to avoid the contractual liability. The rule of estoppel does not apply to a minor on the ground that if it applied it would give a handle to dishonest traders to obtain false declaration in writing from the minor that he was a major at the time of entering into the agreement. At the same time, it must be noted that ‘minors cannot have a privilege to cheat people.’ Therefore, a minor may be ordered by court to return the benefit which he has received under such false representation. For example, if a minor fraudulently overstates his age and takes delivery of a motor car after executing a promissory note in favour of the trader for its price, the minor is not estopped from pleading minority and can escape liability under the promissory note. But the court on equitable considerations may order restitution i.e. compel the minor to return to the trader the car, if it is still with the minor or can be traced. 5. Minor’s liability for necessaries of life The Contract Act provides that if the necessaries of life are provided to a minor by any person, such minor is liable to pay for the same out of his property, if any. Thus, if any person provides the necessaries of life to a minor who is incapable to entering into contract, he can recover the price of such necessaries from the property of the minor. It should be remembered that it is only the property of the minor that is liable, and not the minor himself. If the minor who does not pay and also has no property, then the price of the necessaries cannot be recovered from the minor. What can be called the necessaries of life for a particular minor is a question of fact. Normally such necessaries include food, medical treatment, shelter and education. It may also include the cost of defending the minor’s interests in any civil and criminal proceedings. But it does not include the items of luxury. 6. Position of minor’s parents An agreement with a minor does not give the creditor any rights against the minor’s parents, whether the agreement is for necessaries or not. The moral obligation of a father to provide for his child does not impose on him any liability to pay the debts incurred by the child. The only case where a parent may be liable is when the child is contracting as an agent for the parent.  THE INDIAN CONTRACT ACT, 1872 27 7. Other points to be noted Minor can be an agent, but he cannot appoint an agent. In other words, a minor cannot be a principal. Minor cannot be adjudged insolvent, because he is incapable of incurring any liability. In the case of joint contract with minor along with an adult, it is the adult who is solely liable for the contractual obligations. If a minor and an adult jointly contract to purchase any property, the seller could enforce the contract against the adult. A minor cannot be a shareholder of any Company. However, fully paid up shares can be transmitted to him. If an adult is surety for the loan taken by a minor, the adult is liable under the contract though the minor is not, because the contract between the surety and creditor is an independent contract. Of course, a minor can never be a surety for the loan of another. (b) Persons of unsound mind In order to enter into a valid contract, it is also necessary that each party must be of sound mind. What do we mean by ‘sound mind’? Truly speaking, no definition can be given of sound mind, or for that matter of unsound mind. However, the Contract Act gives us the definition of a person of sound mind, but only for the limited purpose of entering into a contract. In other words, a person who is considered to be of sound mind for the purpose of contracting may not necessarily be of sound mind for other purposes. The Contract Act provides: ‘A person is said to be sound mind for the purpose of making a contract, if, at the time when he makes it, he is capable of understanding it and of forming a rational judgment as to its effects upon his interests.’ Accordingly, the requirement of the Contract Act is that the person entering into contract must understand the nature of the contract as a whole and must be in a position to determine whether it is beneficial or detrimental to his interests. It must be however remembered that what the law contemplates is the ordinary prudence of an average person. Shrewd and calculating business mind is not the requirement. Hence, a contact which eventually turns out to be detrimental to a party cannot be avoided by him on the ground of unsoundness of mind. What needs to be seen is whether the contracting party stood a reasonable chance of benefiting from the contract or not. It must be noted that burden of proving unsoundness of mind is on the person who wishes to deny the contract on the ground of his unsound mind. A person, who is usually of unsound mind, but occasionally of sound mind, may make a contract when he is of sound mind. Similarly, a person who is usually of sound mind, but occasionally of unsound mind may not make a contract when he is of unsound mind. Unsoundness of mind may be due to Idiocy, lunacy or insanity. It may be on account of drunkenness or extreme old age. When any party to a contract seeks to set aside the contract on any of these grounds, he has to prove his disability. 28 LEGAL ASPECTS OF BUSINESS An agreement entered into by a person of unsound mind stands on the footing as that of minor’s and hence it is absolutely void and not enforceable by law. If such person has derived any benefit out of the agreement, he cannot be compelled to restore the same to the other party. However, the property of a person of unsound mind is liable for the necessaries supplied to him, as in the case of minor. (c) Persons disqualified to contract The third category of persons who are not competent to contract are those who are disqualified from contracting by any law to which they are subject. The following persons are disqualified to enter into contract under certain circumstances as explained below: 1. Alien enemies. Alien is a person who is a citizen of a foreign country living in India. He is an alien enemy when his country is at war with India. (Alien friend is a foreigner whose country is at peace with India.) An alien living in India usually has full contractual capacity. On the declaration of war between his country and the Union of India he becomes an alien enemy, and cannot enter into contracts during the subsistence of the war, except by licence from Central Government. Contracts made before the war between an alien enemy and an India citizen are suspended for the duration of war and are revived after the war is over, provided they have not already become time-barred. 2. Foreign sovereigns and ambassadors. Foreign sovereigns and ambassadors are not disqualified from contracting. Such persons are fully competent to contract, however they enjoy certain privileges and therefore one has to be vary careful while entering into contracts with them. While they cannot be prosecuted in our Courts except with the prior permission of the Central Government, they can prosecute and enforce contracts in our Courts. 3. Convicts He is a person who has been found guilty by a competent court in India and sentenced to imprisonment. During the imprisonment, convicts are not competent to contract. They cannot even file suits on contracts made before imprisonment, when they are imprisoned. When such person gains freedom after being released, he becomes competent to contract and also to institute suits on earlier contracts. The period of limitation stops running against him during the period when he is in prison. 4. Companies and other legal or artificial persons. A Company or a Corporation is a legal or artificial person which has no physical existence. Such legal persons exist only in the eyes of law as they are created by law. They cannot enter into contracts the subject matter of which is beyond the scope of their constitution. For example, the constitution of a Company is its Memorandum of Association, which lays the scope of its activities. A Company cannot undertake any activity beyond its Memorandum of Association and therefore cannot enter into contracts relating to such activities. For example, a Company incorporated for  THE INDIAN CONTRACT ACT, 1872 29 manufacture of automobiles cannot enter into contract for purchasing sugarcanes from cane- producers. Trusts or Societies are other examples legal persons. Similarly, a Trade union cannot enter into contract beyond its Rules under the Trade unions Act. Further, a legal person cannot enter into those personal contracts which can be entered into only by natural persons, such as contract of personal service, contract of marriage etc. 5. Insolvent. Insolvent is a person whose total liabilities are more than his assents and who cannot satisfy all his creditors fully. Unless such person is discharged by the court, he cannot enter into contracts for sale of his property which is vested in the hands of the Official Receiver appointed by the Court. Barring contracts of sale of property, such persons are competent to contract. FREE CONSENT We have already seen that free consent of all the parties to agreement is essential to the idea of contract. The term ‘Consent’ is defined under the Contract Act as –‘two or more persons are said to consent when they agree on the same thing in the same sense.’ In fact, when such consent is not there, there is no agreement at all. Agreement involves meeting of minds which is called ‘consensus ad-idem.’ For a valid contract what is necessary is free consent. The term free consent is defined under the Contract Act as under: “Consent is said to be free when it is not caused by – 1. coercion, or 2. undue influence, or 3. misrepresentation, or 4. fraud, or 5. mistake (subject to other provisions of t