The Dangers of Side Letters

Introduction

Whilst not a brand new case, we have chosen to review ACN 151 368 124 v Pro-Pac Packaging (Aust) Pty Ltd 2017¹ because it highlights the dangers of an increasing trend in our industry – use of the side letter to get around formal document negotiation deadlocks and deadlines.  Unfortunately the case highlights that side letters are a short cut and as such have inherent risk attached to them.

In some cases if inconsistent with the main contract, side letters will be void.

Case Facts

ACN 151 368 124 v Pro-Pac Packaging (Aust) Pty Ltd was handed down in NSW Supreme Court in mid 2017.  The case dealt with a number of areas of law but our main focus is the enforceability of a side letter/ agreement.

ACN 151 368 124 (Seller) was selling its business to Pro-Pac Packaging (Aust) Pty Ltd (Buyer).  The parties entered into a number of formal documents (Sale Agreements) for a sale price of $6 million which catered for completion payments, deferred payments (of $1M by 4 equal pay instalments over 2 years) (Deferred Payments), stock transfers and earning incentives.

At the same time the parties entered into a side letter (Side Letter) which affected the terms of the formal Sale Agreements.

The Side Letter provided that:

1. in consideration of the Seller granting to the Buyer a licence to occupy under the Sale Agreements the Buyer would pay the Seller the Deferred Payments (which was already due under the Sale Agreement); but
2. if the Premises were sublet, assigned or otherwise disposed of prior to 31 July 2015, the Seller would make a partial refund of the Deferred Payment and waive all future instalments of the Deferred Payment.

Paragraph (b) of the Side Letter was triggered and the Seller did not honour paragraph (b). The parties went into dispute with the Buyer relying on the Side Letter.

Justice McDougall determined that as paragraph (a) of the Side Letter granted the Buyer the same licence to occupy as the Sale Agreements did, there was no good consideration passing and therefore the Side Letter was unenforceable.

In addition, Justice McDougall referred to Hoyts’ Pty Ltd v Spencer²  which would also defeat the Buyer’s claim as a collateral contract which relies on the principal contract as consideration must be supplementary only to the main contract, cannot impinge on it or alter its provisions or the rights created by it.  In these circumstances the parties must have the full benefit of the main contract. That is a supplemental agreement with no consideration cannot be inconsistent in any way with the principal contract.

Notes

Altering a main contract via a side letter is not without risks particularly where no new consideration is given. Simple agreements rely on consideration to be binding, a deed does not. In order to avoid exposure that a side arrangement is not enforceable side arrangements should always be documented by deed.

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¹  [2017] NSWSC 913
²  [1919] HCA 64

Authored by:
Lui Scipioni, Partner, Melbourne
Paul Trovato, Lawyer, Melbourne