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Ethics in Contracts Essay

Abstract:

When creating a contract, a negotiator is not only doing so to reach an agreement between two or more parties, but to create an agreement that is durable; whereby parties of the contract are legally bound and committed to its promises . “A legally binding contract is defined as an exchange of promises or an agreement between parties that the law will enforce, and there is an underlying presumption for commercial agreements that parties intend to be legally bound” [1]. When a contract does not expressly address a contingency that occurs, the morality of breach is assumed here to depend on what the contract would have said had it addressed the contingency. Morality in contracts becomes crucial to parties entering into a contract. This is where the role of ethics comes in.

Introduction:

The etymology of “business” relates to the state of being busy either as an individual or society as a whole, doing commercially viable and profitable work. The most common form of business all around the world is corporation. There are more than 2 partners who either wholly or has limited liability over the business. In such a scenario the need to bind by certain terms arose both within the organization by the stakeholders and outside the organization with the suppliers and wholesalers. This dire need gave rise to “contracts”. The leaders of the organization cooperate with a set of written rules bounded by every other stakeholder.

HOW CONTRACT?

It all started as an idea of shaking hands, the idea it expresses has had greater impact on Business ethics. Just a simple handshake denotes the idea of agreement in economic contexts. A contract is an agreement entered voluntarily by two or more parties, each of whom intends to create one or more legal obligations between or among them. The elements of a contract are offer and acceptance by competent persons having legal capacity who exchanges consideration to create mutuality of obligation, and, in some circumstances, do so in writing. A contract is always enforceable by law and has the following essentials.[2]

1.Intentions to create a contract
2.Offer and acceptance
3.Consideration
4.Capacity to enter into contract
5.Free consent of the parties
6.Lawful object of consideration

Being Ethical in contracts is behaving in accordance with social conventions, religious beliefs and law where the humans are basically evolved in a moral sense and possess the ability to engage in moral behaviour. The law here is aforesaid liability in contracts where the generic importance is of getting a fair share in corporation profits. That is why it becomes extremely important to maintain ethics in contracts. The lawful object of consideration is considered very important in the contract and ethics related to contract.

This is because in case of contract breach ethically or non-ethically reimbursing the value of lawful object of consideration is hereby treated as lawful. It is therefore imperative that contracts are created to be as durable as possible so parties are unable to find legal ‘loopholes’ and use their power, wealth, ignorance or cultural differences in setting contracts aside. Apart from that the ethical behaviour of the parties involved in contract adds an extra layer to the contract thereby keeping the best interest of people involved in contract. The following factors seem to affect the ethics involved in contracts.

Cultural Flexibility

Japanese culture for instance, the creation of a contract symbolises formation of a working relationship, and not a legally binding agreement. Some groups will regard the contract as being flexible in terms that if any problems or issues arise, the parties will reassess the obligations of the agreement and negotiate ways to preserve the relationship. Being Ethical and professional at the same time is viewed with high regard by the Japanese. However, this is not generally the ‘Western’ view on contracts. In relation to the ethical issue of cultural relativism, a business is obliged to operate in a manner acceptable to the host country, both legally and morally.

The example cited here dealing with Shell portrays the fact of having contract as per the ethical behaviour of the host country. In those cases, there arises a question, is it morally wrong for a Western party to hold a Japanese party to the contract when it is known that the Japanese party would not have intended to be legally bound? Or is it unethical or immoral of the Japanese to sign such an agreement, even though they mean well when signing it, knowing the Western party intended to be legally bound by the contract but themselves see the contract as more of a flexible agreement?

1.Shell Oil : Brent Spar incident

Popularly known as the Nigeria/Spar episode which taught the company to be ethical in its host country. In its action to maximize profits Shell articulated roundtables of 14 countries which brought together 159 shell executives and 145 external participants including opinion leaders and journalists. In this meet Shell articulated a contract which ensured its commitment to health, safety and environment. It set the same as the goals of the company. The step to the goal was supposedly implemented immediately by setting up safety team to manage HSE and Shell publicly announced its commitment towards human right and health safety[4]. Shell’s initiatives in the wake of Nigeria and Brent Spar signalled a fuller recognition of subtlety of ethics. With the completion of a pipeline connection to the oil terminal at Sullom Voe in Shetland, the storage facility had continued in use but was considered to be of no further value as of 1991.

Brent Spar became an issue of public concern in 1995, when the British government announced its support for Shell’s application for disposal in deep Atlantic waters at North Feni Ridge (approximately 250 km from the west coast of Scotland, at a depth of around 2.5 km)[3]. This put issues of societal expectation in sharp relief. These incidents forced shell to recognize that people around the world come to place a heightened value on conservation of natural resources. Nigeria on the other hand had distinctively non European ethical expectations for companies. The evolving ethical attitudes of emerging economies, made Shell recognize that unless it changes global and regional changes in attitudes it cannot draw a line between ethical and unethical behaviour.

Nigeria and Brent Spar forces shell to realize the importance of social contracts that framed business activities. Shell later on monitored the changing communal understandings as they played a growing role in company’s actions. Shell started to factor social contracts into ethical decision making process. Ethical games in business are played with different rules in different countries. In companies multinationals and corporations’ racial gender and world, questions of clash and compatibility between family and work are now assumed to be proper province of corporate management. Shell with its troubles it faced in early 90s due to Brent spar incident stands as a perfect example to approaching ethical issues in business.

The differences in cultural expectations can predictably lead to the more economically powerful party attempting to negotiate that all breaches will be dealt with ultimately by courts from their own culture, applying their own cultural and legal rules. This then highlights the issue of different legal rules existing in different countries which enable contracts to be set aside. The list of exceptions to finality of contracts varies from one jurisdiction to another, and this is often placed under the label ‘frustration of contracts’. Some jurisdictions, notably Australia, Israel and India, imply a term of good faith into contracts. A final way in which terms may be implied due to fact is through a previous course of dealing or common. The Uniform Commercial Code of the United States also imposes an implied covenant of good faith and fair dealing in performance and enforcement of contracts covered by the Code, which cannot be derogated from. [5]

Lack of Informed Consent

Some acts cannot legally take place because of a lack of informed consent. Another person is generally authorised to give consent if an individual is unable to. These cases sometimes result in a party refusing to comply with the terms of the contract. This usually is exploited by many unethical behaviour. 2.This was the case in Gerbert and Gerbert (1990) FLC 92-137 [1], where a husband settled for 10% of assets against his probable entitlement to 40%, and it was held that there was no miscarriage of justice as the husband acted feely and was advised to seek legal advice. In cases where an individual is provided limited facts, serious ethical issues may arise. It is unethical to hold someone to a contract when they clearly had no awareness of exactly what they were signing and committing themselves to, due to ignorance. It is unethical for a lawyer to encourage the signing of a document if they are clearly not fully understanding of the document.

Wealth

If the chance of success and money is opportune to a wealthy person, their capacity and willingness can give rise to alleging various legal justifications for breach. A few years of legal expenses may only be a small proportion of their empire, and the resulting attrition and disparate investment in the conflict may eventually encourage other parties to renegotiate the disputed In terms of moral relativism, most people would agree that it is ethically wrong to use wealth to control a situation and to ‘force’ people into renegotiating clauses in contracts if they are unable to afford the legal bill accompanying a dispute. In situations such as these, the ‘little man’ usually loses out and will ultimately succumb to the power of the other party or parties. 3.Gujarat Housing Board vs Vipul Corporation on 21 June, 2004 [6] Housing Board was awarded a contract to Vipul Corporation for Water Proofing work of 360 Middle Income Group Houses at Valsad on 22.11.1994, being highest bidder, on accepting the tender.

It appears that at the last moment, when work was about to be started, the work was obstructed. Housing Board was sincerely trying to create an atmosphere which may enable the contractor to perform the contract. It appears that the Housing Board also took the defence of frustration of the contract as per sec. 56 of the Contracts Act. Vipul Corporation lost the case but it hardly did anything to their business that they were able to pay the indemnification amount in the contract and started bidding for other contracts as if nothing had happened with their wealth. This was because of the large amount of accumulated wealth.

Undue Influence

Undue influence is an equitable doctrine that involves one person taking advantage of a position of power over another. The law presumes that in certain classes of relationship there will be a special risk of one party unduly influencing their conduct and motives for contracting. The general rule is whether there was a relationship of such trust and confidence that it should give rise to such a presumption 4.An example of such a case is Odorizzi v. Bloomfield School District CA Ct of App 54 Ca Rpt 533 [1964]. The plaintiff was under contract as a teacher. He was arrested, and the next day he allegedly was pressured by his superiors to sign and deliver his resignation.

He was cleared of the criminal charges, and then he sought to be reinstated by the school district. They refused, so he sued to rescind his resignation. He claimed that his resignation should not be enforced because, among other things, he signed it under the “undue influence” of his superiors. When a party has placed their confidence and trust in another and this relationship is broken, the view of moral relativism will generally see this situation as being wrong. Here we see that the implications of Ethics in contracts being ignored.

Ensuring Ethics of Contracts

•A longstanding relationship –a contract with them raise incentives to perform •Avoiding making contracts with cultural groups that view contracts as the ‘beginning of a relationship’, rather than a legally binding agreement [1] •Clarifying whether ‘yes’ means ‘maybe’ or ‘no’ and whether signed and detailed contracts are considered to be binding, morally, legally and/or in reputation, •How any future misunderstandings and problems will be addressed to be discussed at the time of the contract •Only going into contract with parties that are stable and reliable •Attempting to reduce buyer’s remorse by

•Making congratulatory speeches about the agreement’s benefits
•Never agreeing quickly to any clauses
•Adding post-agreement gifts and bonuses
•Publicize the deal by mutual agreement. A wider audience will then place expectations on all parties to perform, or risk losing face and credibility in future arrangements. Most people have a strong desire to act consistently with their own clear commitment

Signing a contract

We focus so much on deal substance and style that we often lose sight of the problems that can arise at the most critical time of all—when pen is hitting paper. If a lawyer mishandles contract execution, it can lead to a malpractice claim, professional discipline and a very angry client (or, more likely, former client) A DEAL ISN’T “DONE” UNTIL YOU SEE A FULLY SIGNED AGREEMENT (or, better yet, cash in the bank)

5.As a great example of this, see International Telemeter v. Teleprompter, 592 F.2d 49 (2d Cir. 1979). Kirsch’s client told Kirsch that it had signed a settlement agreement, but Kirsch didn’t get the signed copy into his possession. Kirsch then relayed the alleged good news to the other side. However, Kirsch’s client had a management change before delivering the signed copy, and the new management balked at the settlement. This left Kirsch in the middle—he had told the other side that the agreement was done (and had authority to do so), but his client had reversed course and was saying the deal was never signed. Not only did Kirsch’s eagerness cost Kirsch a client (he resigned), but he has very few defences if his former client sues him for malpractice based on being committed to a deal they didn’t want.

This issue also comes up with press releases—no public announcements of a completed deal until you see the fully signed contract. 6.ONGC vs Streamline Shipping Co. Pvt. Ltd. on 22 March, 2002 [7] On 19-2-1999 the appellant floated a tender for manning, running, operating, repairing and maintenance on hire of three vessels under Group IX i.e. Samudrika 2, Samudrika 7 and Sindhu 9. The respondent was one of the tenderers. On 30-12-1999 a contract was signed between the appellant and respondent for vessel Samudrika 2 for the primary term of 2 and half years from 9-12-1999. Clause 1.10.1 of the agreement provided. In the case above a contract was floated between ONGC and Streamline shipping co. for maintenance of three vessels.

The vessels were damaged pretty badly in an exploration expedition and ONGC sought their help as per contract. But the streamline shipping company due to the high cost that may be incurred, viewing their personal interests acted unethically in contract and avoided to repair. In the 1990s, this issue reached a zenith as lawyers scrambled to obtain equity in clients, either as part of undertaking the representation or as directed shares when clients were lining up for an IPO. Seeking big payoffs, some lawyers took pretty aggressive interpretations of the rules to engage in these transactions, but it would be a mistake to relegate this behaviour to the dot-com boom. Instead, doing business with clients occurs in all aspects of the legal profession, and it poses significant risks in every format.

Parties’ concern of breach

Still another reason why it may be rational for parties not to take pains to include many contingent provisions in a contract concern the general possibility of renegotiation of their contract. The reason why we would expect only limited use of contingent provisions is that our legal regime, under which parties usually are able to commit breach and pay damages, serves as an implicit substitute for contingent provisions. Under this regime, a party will be motivated to perform if the cost of so doing is not high, in order to avoid paying damages; whereas he will be led to commit breach if the cost of performing is high, because paying damages will be less expensive than performing. This behaviour – performing when the cost is below a threshold and not performing when the cost would exceed a threshold – is in at least qualitative alignment is considered unethical. Still another reason why it may be rational for parties not to take pains to include many contingent provisions in a contract concerns the general possibility of renegotiation of their contract.

The parties can anticipate that if they do not provide for a troublesome contingency and it occurs, they will often be able to renegotiate and resolve their problem. If, for instance, the seller finds that it would be unexpectedly costly to perform when the contract requires that, he might be able to obtain a release from his obligation by paying the buyer some bargained-for sum. Of course, the outcome of such renegotiation may be uncertain and it may introduce an added risk into a contract. The question of the morality of breach is when contracts are incomplete. To ascertain whether a breach in a contingency that was not explicitly provided for is moral or immoral under our definition, one needs to determine whether performance would or would not have been required had the contingency been expressly addressed, and whether the parties to the incomplete contract know this.

The morality of breach of incomplete contracts occurs when damages equal the expectation measure. When sellers have to pay damages for breach, they will be motivated to obey the contract if the cost of performance is less than the damages they would have to pay for a breach. If, though, the cost of performance exceeds the damages they would owe for a breach, they will have a financial reason to commit breach. Hence, they will tend to commit breach if and only if the cost of performance exceeds the measure of damages. Ethics comes in this aspect when the sellers has the cost of performance exceeds the damages they have to pay. The ethical aspect is whether to perform the contract or not. Since the penalty is very less compared to the cost of performing the work, the contractor tends to do violate the contract and pay the penalty.

This should be avoided by corporations to create a good reputation within its peers. In order to avoid this circumstance, the contracting parties now-a-days agree to have the compensation amount to be greater than the cost of doing the actual work. The case regarding the state of Kerala precisely portrays this part of the ethics in contracts. 7.State Of Kerala vs United Shippers And Dredgers Ltd. on 15 July, 1982 The Government of Kerala through Superintending Engineer, Irrigation Central Circle, Trichur, entered into a contract with the respondent on 19-9-1975 to do the work of improvements to Champakkara Canal-Dredging works and allied works. The work was agreed to be completed on or before 15-7-1976. The agreement also required the contractor to maintain progress in work as prescribed in the schedule in Clause 3 of the agreement.

There was also a provision in the contract to enable penalty to be levied in case of failure on the part of the contractor to maintain stipulated progress. The contractor did not maintain stipulated progress and extensions of time were granted on contractor’s requests as per supplemental agreements. Or account of the delay in maintaining agreed progress in the work; penalties were levied against the contractor at the rates prescribed. After the completion of the work end the drawing of the final bill, disputes arose between the contracting parties and as provided in the agreement. From withheld amount a sum of Rupees 7,35,000/- (Rupees seven lakhs and thirty five thousand only) shall be refunded to claimant by the respondents.”. The United shippers Ltd. performed the breach on account of the cost of compensation being higher than the cost of performing contract.

The ethical aspect of this made contracts thereafter to rewrite them in lieu of having the cost of compensation and the cost of lost profit to be included in the terms of contract. Had the parties been ethical, it wouldn’t have required the contracts to reinvent their terms for this sake. For example, if the measure of damages is $125 instead of the expectation of $200, breach will occur whenever the cost of performance exceeds $125. Consequently, if breach occurs when the cost is between $125 and $200, for instance when it is $150, the complete contract would have insisted on performance. Such breach would be immoral and unethical, if the seller realizes that the true expectation is $200.

Given the conclusions reached in the prior section, what can be said about whether the breach that we see in practice is moral or immoral? If damages tend to be fully compensatory, we could say that breach tends to be moral, as breach should occur if and only if contracting parties would have allowed non performance had they addressed in their contracts the contingencies that engendered breach. But if damages are not really compensatory, breach might be immoral.

Situations portraying Ethics

Damages tend not to reflect the often considerable delays that victims of breach suffer. The legal costs are not compensated. In view of the foregoing, the practical reality seems to be that breach could be immoral or moral, that we have to inspect the reasons for breach and the knowledge of the party committing breach to know which the case is. To gain an understanding of these issues, a small-scale survey was conducted [8]. The number of respondents were 41. The survey consisted of four questions, each of which asked about the morality of breach and could be answered as follows: (1) definitely unethical; (2) somewhat unethical; (3) neither ethical nor unethical; (4) somewhat ethical; (5) definitely ethical. Assigning a score of 1 to definitely unethical, a score of 2 to somewhat unethical, and so forth. Hence, the lower score, the less ethical a respondent felt breach would be. The first question was designed to ascertain whether respondents believe that breach in general is unethical. It was as follows: 8. [8]“Suppose that a Renovator has made a contract with a construction company to do a Home decor.

The Renovator then discovers that the job would cost him a lot more than he had anticipated because the price of decor equipment has risen sharply – so the Renovator would lose money on the job. Is it unethical for the Renovater to break his contract with the company?” Note that the question does not mention whether damages would be paid. The average answer score was 2.41, meaning about midway between somewhat unethical and neither ethical nor unethical. Also, 38 of the 41 respondents found breach unethical or ethically neutral; only 3 of respondents answered that the breach would be somewhat ethical (none as definitely ethical). 9.[8]“Suppose that a Renovator has made a contract with a construction company and finds that his costs have risen sharply due to an increase in the price of decoration equipment. Suppose too that the Renovator and the company did not discuss this unlikely possibility when they made their contract.

However, the Renovator knows what they would have agreed to if they had discussed this possible large cost increase in advance: They would have agreed that the contract would be cancelled if there was a large cost increase – the Renovator would be excused from the contract. Under these assumptions, is it unethical for the Renovator to break his contract?”The average answer score was 3.0, meaning ethically neutral. Also, 17 of the respondents found breach more ethical in this question than they had in the first question; none of the respondents found breach less ethical than in the first question. 10.[8] “Suppose that a kitchen Renovator has made a contract with a construction company and finds that his costs have risen sharply due to an increase in the price of decoration equipment. Suppose too that the Renovator and the comapany did not discuss this unlikely possibility when they made their contract.

However, the Renovator knows what they would have agreed to if they had discussed this possible large cost increase in advance: They would have agreed that the contract would remain in force despite a large price increase – the Renovator would still have to do the job.” The average answer score for this question was 1.56, which is to say, midway between definitely unethical and somewhat ethical. All but three of the respondents found breach to be somewhat or definitely unethical, and the other three considered it ethically neutral. Further, 31 of the respondents found breach to be less ethical than in the prior question where the hypothesis was that performance would not have been agreed to. 11.[8]“Suppose that a kitchen Renovator has made a contract with a construction comapny and finds that his costs have risen sharply due to an increase in the price of decoration equipment.

If the kitchen Renovator breaks his contract with the company, suppose that (as contract law says is required) he compensates the construction company for his losses – for delay, inconvenience, having to hire another renovator, and so forth. Is it unethical for the Renovator to breach his contract?”The average answer score for this question was 3.56, which is about midway between ethically neutral and somewhat ethical. In summary, the individuals participating in the survey found the simple, unqualified fact of breach to be unethical on average (2.41 was the average for question 1). In other words, the felt reaction to the fact of breach is that it is an unethical act. However, when individuals were prompted by being told what contracting parties would have agreed to had they discussed the particular contingency that arose, individuals tended to change their evaluation of the morality of breach, finding it better or worse in the expected way.

When informed that if the problematic contingency had been discussed, the contracting parties would have said no duty to perform, individuals found breach ethically neutral (3.0 was the average for question 2). When apprised that if the problematic contingency had been discussed, the contracting parties would have said there was still a duty to perform, individuals found breach to be quite unethical (1.56 was the average score for question 3). And when told that breach would be accompanied by full damages payments, individuals again changed their opinion of breach, finding it to be somewhat ethical (3.56 was the average score for question 4). An important normative aspect of many commentators’ writing on breach is their moral advice. Their writing often suggests that individuals and corporations ought to feel a general ethical duty to obey contracts, that is, a desire to obey contracts above and beyond that due only to having to pay damages for breach.

If we could shape individuals’ moral feelings, we would want corporations to put a thumb on the scale in favour of contract performance. According to a perfectly calibrated and flexible moral system, the moral sentiments would come into play if and only if they are needed to correct the too-great incentive of a “bad man” to commit breach, when the personal benefit from breach would exceed damages but not the true value of the expectancy. This ideal moral system is consistent with the spirit of traditional advice, and is inconsistent with the spirit of efficient breach theory, in that morality has a useful role to play. The actual moral system, however, is not as flexible as the ideal one. The moral impulses probably cannot be freely tailored to turn on for this kind of contract breach and to turn off or that one.

The implications for moral advice about breach become complicated, for when giving moral advice, we have to consider the degree to which the advice will be understood as special to the circumstances of the breach, or as having a more general effect, and thus entailing the implicit disadvantages just mentioned. A striking instance of such thinking is that underlying the approach of the German Civil Code to contract performance, according to which the general remedy for breach is supposed to be specific performance.

Had it been that contracts are to an important extent incomplete promises and thus on reflection that the morality of promise-keeping does not imply that performance should always occur. Damages are inadequate because it is time-consuming and expensive for the legal system to resolve what would often be contentious proceedings about subjective elements of loss from breach. It may be that our legal system works better avoiding the costs of ascertaining these problematic elements of loss, relying on moral forces, such as they are, to fill the gap in inducing appropriate performance.

Conclusion

The implications article for the general normative thrust of the writing of traditional commentators concerned with the morality of breach and also of the efficient breach theorists. Assuming that the social objective is to promote an corporate measure of social welfare, one based on individuals’ utilities. In particular, our moral feelings which have been portrayed as Ethics throughout will have a direct effect on social welfare because they are themselves components of corporate utilities and they will also exert an indirect influence on social welfare because they provide incentives toward socially desirable behaviour. In any event, the belief that there is a clear and overarching moral reason to alter contract law to enhance the keeping of contracts appears to me to be the product of an over simple view of the moral sentiments and of a related failure to take into account the importance of the incompleteness of contracts.

List of references

1.http://www.bond.edu.au/law
2.Course material on Indian Legal System-IIMC
3.http://en.wikipedia.org/wiki/Brent_Spar
4.Ties that Bind- Donaldson and Thomas
5.http://contracts.uslegal.com/elements-of-a-contract/
6.http://www.indiankanoon.org/docfragment/927021/?formInput=gujarat%20housing%20board%20vs%20vipul%20corporation 7.http://www.indiankanoon.org/docfragment/1617242/?formInput=ongc%20vs%20streamline%20shipping 8.A Social Contracts Approach to Business Ethics By Thomas


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