By: Alan J Yacoubian, Johnson, Yacoubian & Paysse
It is virtually impossible in the new age of e-commerce for a business not to be required to execute some form of a written contract, as the days of handshake agreements are long gone. As such, it is essential that owners and managers of any business fully understand the terms, provisions and wording of any contract that they are asked to sign. While it is strongly recommended that you consult an attorney before ever signing a written contract, it remains important to understand the terms and provisions of any contract that you are being asked to sign. This article will briefly address the major terms and provisions of a contract that you should know. Remember: What you don’t know, might hurt you!
1. Never Give Up Your Right to Negotiate the Contract’s Terms.
Although many contracts are presented to businesses as a form document that are “presumably” not subject to change, most contracts are negotiable depending upon the need for the services and the incentives of each party. While it goes without saying that you want to make the deal happen, remember, so does the other party. As such, communicating to the other side your contractual needs and expectations are critical. Two simple rules of negotiating are that “you never know until you ask,” and “always be willing to walk away.” In reviewing contracts, simply accepting the terms of the contract when not all the terms are beneficial to your interests makes little sense. As there is an incentive on the part of both parties to enter into the contract, explain to the other side your concerns with respect to the “proposed” terms of the contract, and any additions or deletions that you believe are necessary.
2. Ensure the Parties Have Been Properly Identified.
Contracts can be entered in the name of an individual or a business entity, and it is important, especially when conducting a review of contracts for a business, that the parties be properly identified. If you are entering into a contract as an individual, the identity of the party is fairly simple. However, when an individual is entering into a contract on behalf of another person or a business, it is necessary to properly identify the party so as to ensure that the proper party is responsible for the terms of the contract. More particularly, when a representative of a company is entering into a contract, the party executing the contract on behalf of the company should ensure that the company is correctly identified and that the document reflects that the individual is acting on behalf of the company with the company’s authority. This becomes important when issues arise as to performance under the contract and any penalty provision that may be invoked. If the person who executes the contract does not clearly specify that he is executing the contract on behalf of the company or another individual, the person may become personally liable for performance of the contract. An example of a potentially confusing situation is the business person who is the sole owner and operator of the business. If that individual executes a contract for services or goods associated with the business, in order to maintain the protection of any corporate structure such as an LLC or corporation status, the individual must execute the contract clearly identifying that he is executing such a contract on behalf of the company in order to avoid any personal liability. As such, the signature of the individual must note that the individual is executing the contract on behalf of the business in order to avoid any potential claims against the individual. Finally, the proper identity of the other party involved in the contract is important should it become necessary to legally enforce the terms of the contract judicially.
3. Complete All Blanks in Pre-Printed Form Contracts.
When executing any pre-printed form contract often used by national companies for customary services, the contract may contain blanks in order to ensure the flexibility of utilizing the standard contract for various businesses and/or customers. It is important to ensure that all blanks are completed at the time of execution so that any blank spaces cannot be filled in later, thereby altering the terms and conditions of the contract. In addition, if there are any additions or deletions to the form contract, these additions or deletions should be initialed by both parties to ensure that the additions and/or deletions are clearly noted and agreed upon by both parties.
4. Verify the Accuracy of Contract’s Terms.
In reviewing the contract, it is important to determine whether the terms of the contract such as price, amount, duration, or any services to be rendered, are accurately identified so that when you execute the contract you have a full understanding as to your obligations under the contract and the obligations of the other party, thereby avoiding any confusion upon the execution of the contract. Check dates, deadlines and notice provisions to ensure they are accurate and work well for you. In short, you should understand every provision of the contract before you sign it. For example, ensure all obligations as to the length of the contract and/or price for services or goods to be rendered under the contract are consistent throughout the contract should those terms be repeated in different sections of the contract. Any confusion in the contract’s terms could render the contract ambiguous and will be construed against the drafter of the contract. Bonvillian Builders, LLC v. Gentile, 29 So.3d 625 (La. App. 1st Cir. 2009); Hinchee v. Soloco, 971 So.2d 478 (La. App. 3d Cir. 2007). As such, complete consistency in a contract is necessary in order to avoid any contention that the contract is vague and ambiguous and thereby not subject to enforcement.
5. Know When the Contract Terminates and Potentially Automatically Renews.
When entering into a contract, it is extremely important to know each party’s contractual right to terminate the contract during the duration of the contract and whether the contract has an automatic renewal provision. With respect to termination rights during the term of the contract, contracts typically have provisions providing grounds for termination, such as failure to provide services or goods, or failure to pay in accordance with the terms of the contract. In reviewing the contract, you should be aware of any notice provisions that are required in order to trigger the right to terminate before expiration of the term. Many contracts will have a thirty-day written notice provision which requires the party seeking to terminate the contract to notify the other party in writing thirty days in advance of any potential termination and the reasons for such termination. The contract will likely also provide the other party the opportunity to “cure” any issues noted in the thirty-day notice of termination allowing the other party to comply with the terms of the contract in order to allow the contract to continue as agreed upon. In some contracts, each of the parties may have the right to terminate the contract without any penalty, while in other contracts the right to terminate during the term of the contract would be the result of any breach by the other party. Furthermore, a contract which contains a termination provision may also include a penalty provision, such as an acceleration of the payment under the contract based upon the value of the contract, if the contract is terminated without proper reason. As such, it is important to review and potentially negotiate any termination provision to protect your interests should you or the other party attempt to terminate the contract prior to the expiration of the term.
Along with understanding the termination provisions, it is important to confirm whether the contract is designed to automatically renew at the expiration of its term and/or if the contract can be renewed by simple notice to the other party. Such automatic renewal provisions can cut both ways depending upon whether you wish to have multiple options to renew the agreement especially if it is a lease. Many contracts contain a provision that thirty days prior to the expiration of the initial term, a party may have the right to extend the contract for another contract term by notifying the other party in writing at a certain address. Failure to follow the terms of such a renewal process could result in the right of the other party to refuse to renew the term of the contract. For these reasons, it is important to fully understand the renewal provisions of a contract and ensure that any renewal requirement is followed in accordance with the contract.
6. Protect Your Intellectual Property.
In many contracts, a party’s intellectual property, such as trademarks or trade secrets, are the subject of the contract, and any provisions regarding intellectual property must be clear as to ownership of the intellectual property and the use of such intellectual property during the term of the contract and following the expiration of the contract. For example, a computer software company may be contracted to create a new system of organization for a business that currently does not exist in the market. In such a situation, the parties to the contract must clearly address the ownership of the intellectual property following the contract’s expiration or upon completion of services rendered under the contract so as to ensure that the parties understand who owns the intellectual property and who has the right to use the intellectual property. Furthermore, in a contract which involves the use of intellectual property, a provision must be included that requires the other party to the contract to return any intellectual property to the owner of such property and prohibit the other party from using knowledge of the intellectual property without the consent of the other party. The contract should contain a penalty provision for any violation of the agreement with respect to intellectual property in order to ensure that the parties respect the ownership rights of the intellectual property.
7. Protect Your Confidentiality and Proprietary Interests.
Many contracts inevitably require the parties to exchange confidential information that may be proprietary and/or involve trade secrets. Contracts should include a definition of what constitutes confidential information, such as customer lists, recipes, payroll, etc., along with any exceptions to the definition of confidential information. In addition, a period of time for the non-disclosure of such information should be established and a penalty provision put in place. Finally, the confidentiality provision should extend to both the individual or company executing the contract along with any employees, agents or independent contractors of the company or individual to ensure that any confidential information is not divulged by individuals not explicitly made a part of the contract.
8. Understand Hold Harmless and Indemnity Provisions.
A key element to any contract when reviewing the terms is any potential hold harmless and indemnification provision. The hold harmless provision means that you are agreeing that you will not hold the other party responsible for any liability that may arise out of the contract, and when you agree to defend and indemnify another party, you are agreeing to protect that party from liability or loss that may arise out of any transaction under the contract. Any such agreement to hold harmless and indemnify should be completely mutual even if the other party can never cause any liability for you. As such, any hold harmless and indemnification provision that is unilateral and not mutual should be negotiated to be support both parties. Furthermore, if you are required to defend and indemnify the other party, you should attempt to limit the scope of such indemnification to liability arising out of your own fault. In addition, if the contract does not require insurance coverage associated with the obligation to defend, hold harmless and indemnify, you should consider securing such coverage on your behalf given the potential costs associated with the liability created by a hold harmless and indemnification provision. Finally, should the contract include insurance coverage requirements associated with this provision, we would recommend that the policy name you or your business as an additional insured under the other party’s policy.
9. Avoid Choice of Law, Venue and Liquidated Damages Provisions.
One contractual provision which many individuals and businesses often fail to fully appreciate the ramifications of is a choice of law and venue provision. Many contracts utilized by national companies include choice of law and venue provisions favorable to their interests, i.e. where the individual or the company is located. As such, a company which is located in New York may seek to have any litigation and any jurisprudence associated with the enforcement of the terms of the contract located in New York, thereby requiring the other party to the contract to litigate any disputes in New York. For a business or individual in Louisiana, the costs associated with such litigation can be staggering. For these reasons, we often recommend that clients insist that such provision be removed from the contract and that the venue and choice of law be determined by operation of existing laws that are designed to be more equitable. Accordingly, in any contract, it is recommended that the choice of law and venue provision be established in the city or location where you or your business is located. Typically, such local venues provide more favorable treatment for the party in any litigation. Moreover, any party to a contract should anticipate having to subject itself to the jurisdiction and venue of the court where the contract is performed.
Finally, contracts drafted strongly in favor of one side may include a liquidated damages provision. Liquidated damages are a specific dollar amount established as a penalty for a breach of a contract without any regard to the type of breach or the amount of damages incurred as a result of the breach that occurred. As such, we strongly recommend that any contract which contains such a liquidated damages provision be revised to delete this provision, as the amount sought to be utilized as a penalty often exceeds the actual cost of the breach and has no bearing on the nature and extent of such a breach.
10. Understand Dispute Resolution Provisions.
Many contracts include a provision to address the framework for resolving disputes. Typically, such a dispute resolution provision includes a requirement to either arbitrate or mediate a claim prior to filing litigation or in lieu of filing a lawsuit. While such provisions seek to reduce legal expenses associated with any contractual dispute, it is important to understand the rights one is giving up by agreeing to such an alternative dispute resolution process. An arbitration proceeding is similar to a court proceeding but not presented to a judge but rather an arbitrator who renders a binding decision in favor of one party or the other. A mediation is a less formal vehicle for resolution wherein the parties meet to discuss issues in front of a mediator who attempts to resolve the parties’ issues on a mutually agreeable basis and not simply render a decision in favor of one party or the other. If the contract contains such a provision, you should determine whether the provision gives the party flexibility in determining the identity of the arbitrator or mediator, the location of such arbitration or mediation, and whether such arbitration or mediation is binding and represents the only recourse should a party dispute the result of a mediation or arbitration. It is always advisable to preserve your right to file a lawsuit in the event such dispute resolution proves unsuccessful.
The above guidelines are not an exhaustive list of issues to be addressed and reviewed in entering into a contract. Each contract has its own separate issues based upon the nature of the services, goods, etc. that are the subject of the contract. Clearly, it is risky at best to execute any contract that contains provisions that you do not understand or are strongly against your interests. For these reasons, it is always advisable to consult an attorney to review the terms of a contract in order to ensure that your rights are fully protected and to prevent you from unknowingly assuming liability under a contract. Nevertheless, it makes good sense to have a “working” knowledge of the typical elements of a contract.