Case law on the enforceability of a term sheet

Kanchan J Modak

AQUILAW, Delhi

kanchan.modak@aquilaw.com

Sakchi Agarwal

AQUILAW, Kolkata

sakchi.agarwal@aquilaw.com

A term sheet is often considered the first formal step towards a series of actions that unfold during a mergers and acquisitions (M&A) transaction. Often drafted as a ‘memorandum of understanding’ or ‘head of terms’, a term sheet crystallises the ‘in principle’ commercial understanding of the parties, while the finer details of the transaction are typically negotiated and translated into definitive documents.

Given the nascent stage of the negotiations between the parties, term sheets are ordinarily intended (whether or not explicitly specified) to be non-binding, barring a few clauses (such as exclusivity, dispute resolution and confidentiality), which are explicitly specified to be binding. Due to these seemingly contradictory clauses on the binding nature of a term sheet, questions regarding its enforceability frequently arise when the underlying commercial understanding between the parties fails to materialise. From the perspective of Indian contract law, the enforceability of a term sheet depends not merely on its nomenclature, but also on whether it contains the essential ingredients of a valid contract - particularly, the presence of consensus ad idem.

These issues were examined in detail by the Delhi High Court in a dispute between Oravel Stays Private Limited (OYO) and Zostel Hospitality Private Limited (Zostel). While analysing the judgment issued by the Delhi High Court in the case (Oravel Stays (P) Ltd v Zostel Hospitality (P) Ltd, 2025 SCC OnLine Del 3377), this article examines the guidance emerging from judicial precedents on key considerations to be borne in mind when drafting a term sheet.

The background to OYO v Zostel

OYO and Zostel are entities engaged in the hospitality business in India. The parties had entered into a term sheet, pursuant to which OYO had agreed to acquire the identified assets of Zostel (including its employees, intellectual property, confidential data and customer base). As a consideration for the proposed acquisition, the shareholders of Zostel were to receive seven per cent of the shareholding in OYO, and the founders were to receive a payout of USD 1m, at the closing of the transaction. Notably, the preamble of the term sheet expressly declared the term sheet to be unilaterally determinable and non-binding until the execution of key definitive agreements between the parties. During the course of the negotiations on the definitive agreements, disagreements arose between the parties due to which the definitive agreements were ultimately not executed. Meanwhile, based on OYO’s instructions, Zostel had already undertaken significant steps towards the completion of the conditions precedent under the term sheet, including the termination of hotel contracts, the transfer of customer data and communicating with its stakeholders on the acquisition. Accordingly, Zostel contended that the term sheet was binding and enforceable between the parties and sought enforcement of the consideration agreed under the term sheet. It is also relevant to note that the term sheet had been unilaterally terminated by OYO.

When the dispute came to be adjudicated, the arbitral tribunal held the term sheet to be a binding and enforceable agreement. Applying the ‘substance-over-form’ approach, the arbitral tribunal observed that the enforcement of a term sheet should be assessed holistically, instead of merely relying on its nomenclature. Relying on the subsequent actions of the parties, it was held that the conduct evidenced a waiver of the parties’ intent for the term sheet to be non-binding. Accordingly, the arbitral tribunal concluded that Zostel was entitled to pursue appropriate proceedings for specific performance of the term sheet, including the execution of the definitive documents. However, given the absence of executed definitive documents, the tribunal could not grant any other relief since the obligations and remedies governing consummation of the transaction were intended to be comprehensively set out in the definitive agreements, which admittedly had never been executed between the parties.

With OYO challenging the arbitral award, the Delhi High Court, in its ruling, disagreed with the arbitral tribunal’s conclusion on enforceability. Setting aside the arbitral award on the grounds of public policy, the Delhi High Court reasoned that consensus ad idem had not been established in respect of several key aspects, including the terms of the subscription of shares in OYO by Zostel.

Essential elements of enforceability

A ‘term sheet’ that entails the subsequent execution of definitive documents can be considered enforceable if there was a well-established ‘consensus ad idem’ or ‘meeting of the minds’. While deciphering the enforceability of a term sheet, courts have consistently placed heavy reliance on the intention of the parties to assess whether a binding contract has been concluded through a term sheet. Often the intention of the parties is evaluated through various interpretive tools, including the language and the terms and conditions of the term sheet, the surrounding negotiations, correspondence and the conduct of the parties.

The term sheet between OYO and Zostel stands as a sterling example of precise and deliberate drafting, leaving no ambiguity as to the parties’ intentions. While term sheets are commonly made subject to the execution of definitive agreements and other conditionalities, the term sheet in the present case went a step ahead by expressly stipulating that it would remain non-binding until the parties’ commercial understanding was crystallised into definitive agreements. In other words, the rights under the term sheet were not merely contingent upon the execution of definitive agreements, rather it was unequivocally provided that no rights would trigger while the execution of definitive document remained pending. While refraining from indulging in the merits of the award, the Delhi High Court remarked on its disagreement with the arbitral tribunal’s approach, based on various factors, including that (1) apart from certain specific clauses, the preamble to the term sheet expressly characterised the term sheet as non-binding; (2) the entirety of the proposed transaction remained subject to the execution of definitive documents and the satisfaction of specific conditions required for the closing of the transaction; and (3) the term sheet had been terminated by OYO, which had been acknowledged by Zostel.

It stands to reason that the parties to a term sheet may have conflicting interests in regard to the enforceability of the document. While the investor (especially a financial investor with a minor stake) may prefer some flexibility at the preliminary stage, promoters or strategic investors may seek greater certainty and enforceability from the outset. Consequently, from a drafting perspective, it becomes pertinent to carefully articulate the term sheet in regard to the aspects outlined below.

The construct of a contract

An essential part of a legally enforceable contract is the presence of ‘consensus ad idem’ or the ‘meeting of minds’ between the parties. Accordingly, while drafting a term sheet, the parties must carefully consider the language and construct of the term sheet to ensure that it accurately reflects their commercial intentions in regard to its binding force. In certain circumstances, it may be preferable to avoid specific labelling of the term sheet as ‘binding’ or ‘non-binding’ and instead draft the term sheet in a manner that clearly and unambiguously conveys the commercial intent and flow of the transaction. In such circumstances, the enforceability of a term sheet, if subject to judicial scrutiny, is likely to be assessed holistically using the ‘substance-over-form’ approach, along with other considerations.

Conversely, where the client intends for a term sheet to have binding force, key contractual provisions could be included, such as (1) representations and warranties, especially on the power and authority of the parties to enter into and perform the obligations specified in the term sheet and (2) a token amount as consideration for exclusivity. The inclusion of a severability clause can also further the enforcement of the ‘binding’ provisions of the term sheet.

Conduct of the parties and conditions precedent

While the Court in OYO v. Zostel clarified that the subsequent conduct of the parties is not relevant to determine the enforceability of the term sheet, such subsequent conduct may be relevant to establish the presence of the consensus ad idem of the parties. Traditionally, courts have relied on correspondence between the parties to determine whether a legally binding and enforceable agreement has been reached between the parties, particularly in the absence of a formally signed agreement.[1]

Courts may also consider whether the term sheet contains rights and obligations subject to the fulfilment of further conditions or whether it records the steps that must be taken towards the completion of a transaction.[2]

In the case of GAIL (India) Ltd v. Sravanthi Energy Private Ltd and Ors (2021 SCC Online APTEL 74), although the parties had executed a ‘binding’ term sheet, the Court observed that none of the rights or obligations of the term sheet could become effective until conditions precedent under the term sheet were fulfilled. Consequently, the term sheet was held to be unenforceable as the rights flowing from the term sheet were contingent on the completion of certain identified conditions.

Conversely, in the case of M/s Best on Health Ltd (BOHL) v. M/s Bestech India Pvt Ltd (2014 SCC OnLine P&H 11490), the Court upheld the enforceability of the term sheet, which was explicitly labelled as binding but outlined the terms of a subsequent collaboration agreement to be executed. The Court noted that the proposed collaboration agreement was intended to merely enumerate the modalities of the binding terms and conditions, which were already agreed between the parties under the term sheet.

Accordingly, the term sheet becomes enforceable when it lays down the rights that are triggered upon the completion of the conditions specified thereunder, even when the modalities to be included in the definitive agreements are pending. Where the parties intend for the term sheet to be binding despite the other formalities to be completed, the same can be specifically included in the term sheet to avoid any misinterpretations.

Conclusion

In M&A transactions, term sheets set out the commercial understanding between the parties and provide a degree of transactional certainty, particularly for investors evaluating a target business in foreign jurisdictions. The arbitral award issued in the OYO v Zostel dispute had the potential to pave the way for a more purposive and commercial approach towards the interpretation of a term sheet.

Applying the principle of Occam’s razor, a term sheet, in its crude form, represents the first formal document executed by the key managerial personnel of the parties, after weeks or months of negotiations and preliminary diligence in regard to an assessment of the potential benefits and risks surrounding the proposed transaction. These circumstances could support the inference that the parties had arrived at consensus ad idem regarding the subject matter of the term sheet, and intended to create a valid contract or, at the very least, the semblance of a binding commitment through the term sheet.

In light of the inconsistent approach and differing judicial interpretation tools adopted by the courts in determining the enforceability of a term sheet, it is crucial for legal advisers and those drafting a term sheet to clearly and unambiguously establish the commercial intent of the parties. While exclusivity and confidentiality continue to remain the clauses typically expressed as binding, the addition of a token amount of consideration, representations and warranties and severability clauses may significantly strengthen the enforceability of term sheets as a whole.