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This article will explain what a Memorandum of Understanding (or MOU) is and when you may need to use one.

A Memorandum of Understanding is generally considered a first step in negotiating a formal binding (or end) agreement.  Some parties like to use a Memorandum of Understanding to identify key aspects of a deal before they go into the time and expense of drafting full agreements for a transaction.  It’s a great way to have the difficult conversations up front and to ensure that everyone is on the same page.  If parties are not on the same page it can save the time and expense of drafting up the end agreements unnecessarily.

1. Is a Memorandum of Understanding legally binding?

Often parties do not want a Memorandum of Understanding to be binding.  Generally, a Memorandum of Understanding will state that the parties do not intend for the document to be a binding legal agreement (except in relation to some aspects). This is because it generally does not contain the full terms of the transaction or deal; think of it more as the ‘rules of negotiation’ to reach the final agreement.

However, there are parts of a Memorandum of Understanding that some parties may wish to be binding, for example:

• term
• which parts are binding and which are not binding
• exclusivity of negotiations
• access to materials for due diligence.

2. What is a Memorandum of Understanding?

Like an agreement, a Memorandum of Understanding will be unique to the situation.  Each one is drafted to cover the specific issues that the parties intend to negotiate or address in their end agreement.  A high-level analysis of a Memorandum of Understanding would look something like this:

• What type of end agreement will the parties ultimately enter into?
• Who will be doing what under the end agreement?
• What are the risks that each party will accept under the end agreement?
• What are the costs under the end agreement?
• What happens if the parties cannot enter into an end agreement by a particular date?
• Are there any conditions precedent to the end agreement being entered into or performed?
• Confidentiality provisions
• General boilerplate provisions relevant to the arrangement

3. Can I sue for breach of a Memorandum of Understanding?

This will depend on the terms of the Memorandum of Understanding and the circumstances surrounding your loss.  If the terms of the Memorandum of Understanding are binding in parts (for example exclusivity and confidentiality) and those obligations are breached, then it may be open to a party to sue the breaching party for losses.

However, if the terms of the Memorandum of Understanding were not intended to be binding and the parties do not end up entering into the end agreement (such as the sale of business or partnership agreement), then a court is not likely to enforce an incomplete arrangement onto the parties.

4. What is the difference between a Memorandum of Understanding and a contract?

A Memorandum of Understanding is generally not a binding document whereas a Contract is usually intended to be a legally binding document. 

Often a Memorandum of Understanding will be subject to the parties making further enquiries or investigations about the subject matter, whereas a contact, once signed, is generally intended to be acted upon from its commencement (which is usually at the same time as signing). 

It is common for a Memorandum of Understanding to be incomplete. For example, there may be provisions saying “the parties intend to include usual warranties”, whereas a contract would include full text of all obligations the parties intend to take on under the contract. 

5. Is a Memorandum of Understanding risky?

It can be quite risky for parties to enter into a Memorandum of Understanding rather than an end agreement containing complete legal provisions.  However, there are instances where it can be appropriate, for example, if one party wishes to lock the other party into exclusive negotiations regarding the end agreement.  We recommend talking to one of our lawyers regarding your proposed arrangement so that we can discuss whether a Memorandum of Understanding is appropriate for your needs and if so, how to best protect yourself and ensure the right parts are binding.

In some instances where parties are clear on the contractual terms, it can make sense to go straight into drafting the binding end agreement rather than having an Memorandum of Understanding.

One final point is to ensure that the Memorandum of Understanding is signed correctly so that it is binding (to the extent you desire) on the parties.

Key takeaways

• A Memorandum of Understanding is a document which outlines the rights and responsibilities between parties prior to entering into a formal and binding agreement.
• A Memorandum of Understanding can be helpful for parties to establish a better understanding of the formal agreement they intend to enter into at a later time.
• Generally, a Memorandum of Understanding will not be legally binding. However, it is important to make sure that the agreement is properly constructed so that you are only bound by the terms you desire.

Gladwin Legal are experts in commercial and business agreements. If you would like to know how we can help, please contact us for a no-obligation quote.