Your 8 Step Guide to Navigating Business Contracts
It’s easy to feel lost when first reading the language used in business contracts; all those details swirling around are important, but often difficult to follow. Placing legal terms in context, and gaining an understanding of provisions, are great ways to start feeling comfortable with this common contract that’s the backbone of every transaction.
Step 1: Parties
This can mean anything from giant corporations, to two family members making an agreement over the dinner table. This term, meaning the who of the transaction, seems like the most basic part, but is frequently overlooked.
What should you look out for in this most basic of sections?
Since a contract is all about governing the relationship between two persons or entities, it’s important to get everyone’s name right. Improperly designating an entity or person can make it possible for them to not keep up their side of the bargain, by saying “Ha! We never had a contract in the first place!” Be sure to protect yourself by making certain certain that:
- Businesses are properly designated (LLC, LLP, S Corp, etc.)
- Formal, legal names – not abbreviated nicknames – are used
- Spouses are included, if they are to be a formal party or signatory
By making sure each party is labeled by their proper, legal, and formal name, you avoid a common mistake that can cause a lot of problems …and already have a big leg up in the process.
Step 2: Exhibits and Schedules
These terms may sound complicated, but exhibits and schedules are simply a formal way of introducing any other documents that will be attached to the contract. These attachments may be necessary to reference for proof, or clarification, of an agreement.
It’s essential that any documents referenced in the contract are actually located, prepared, and attached. Failing to do so can easily foul-up a contract and make it unenforceable by allowing either party to dispute what was intended to be referenced in the first place.
Step 3: Recital Section
No, this one has nothing to do with public speaking, we promise! The Recital section is intended to light the way and help anyone reading the contract to understand the big picture. This is important should any difficulties arise with the interpretation of each party’s intent when they entered the contract.
Found at the beginning of the document, the statements in this section are not legally binding, so be sure to always repeat significant contract terms in the main body of the contract, after the phrase “The parties agree as follows.”
Step 4: Acknowledgement of Consideration
Basically meaning “what each party is offering in exchange for the other party’s promise” the Consideration element of a contract is often pretty obvious. It can mean the promise to do something, not to do something, the exchange of benefits or rights, and is the essential reason for your agreement.
The “Acknowledgement of Consideration” is a carefully worded section which defines your agreement as “good and lawful,” therefore ensuring it is legally binding in the event of litigation. Typical wording for this section is:
“For good and lawful consideration, the sufficiency which is acknowledged, and includes the mutual representations, warranties, covenants, and agreements set forth herein, intending to be legally bound, the parties hereto hereby enter into this agreement.”
Step 5: Terms
This section makes up the main body of your contract and provides a comprehensive list of essential information. It should specify in detail every aspect of your agreement, including:
- Time of performance
Additionally, most contracts make sure to specify in writing that the written and signed document contains the entire agreement.That way, neither party can claim the terms were modified by verbal or extraneous agreements. If you chose to include this statement, be sure all essential terms and provisions are stated in the written contract -or you may be out of luck when it’s time to enforce them.
Step 6: Remedies
After parties form a contract, they have to perform (do what they agreed to do). If a party doesn’t perform as promised, they are in breach of contract and must determine a remedy, which is essentially “how to make things right, if stuff goes wrong.” This is usually an amount of money which is enough to compensate either party, should the contract not be fulfilled.
This important clause is like a reserve parachute: you hope you’re not going to need it, but are sure glad it’s there when you do! Potential remedies should be spelled out in your contract, and it may be cautious to limit the remedies allowed to “return of earnest deposit.”
Depending on your agreement, you also may want to consider specifying what is equitable (equal) relief, or specific performance in your contract to ensure that the non-breaching party receives sufficient compensation.
It’s also important to consider that proof of loss is difficult in certain situations. When your agreement has intangible, or non-monetized benefits, both parties should agree on what the cost of damage is ahead of time, and clearly state so in the contract.
Step 7: Termination of Agreement
Even contracts need to have an emergency exit!
And like emergency exits, these should be clearly defined before embarking on your legally binding agreement. The Termination of Agreement clause specifies under what conditions the contract may be terminated by one, or both, of the parties.
Common reasons for early termination of a contract include:
- Mutual consent of the parties
- By either party – if a condition cannot be fulfilled and neither is at fault
- By the seller, if the purchaser has made any misrepresentations
- Warranties or Covenants
It’s also important to consider what “rights” survive the early ending of a contract in any of these situations: confidentiality and nondisclosure provisions, right to recover confidential information, and rights of indemnifications are all examples of common terms which must be held to, even in the case of contract termination.
Step 8: Anticipate Potential Problems
When it comes to Business Contracts, an ounce of prevention is worth a pound of cure. As you are drafting up your contract, always prepare for the worst-case scenario by assuming the agreement will be breached and result in litigation.
In order to make sure you’re protected, spell out in your contract which state’s laws will apply, as well as which court will have jurisdiction over any disputes.
This “just in case” attitude may lead the parties to agree on specific performance, or relief, without proof of damages. It’s also becoming more common to provide an option for, or require, either mediation or arbitration, as a fail-safe option in case things go askew.
Reading contract clauses and understanding them may prevent you from accepting an offer, or entering into an iron clad contract, that you could possibly regret. If there is any doubt over the meaning of any clauses then legal advice should be sought out and no signature should be granted until you’re confident in your understanding of the clarifications that have been made.