Sunday, December 12, 2010

Why Many Standard Terms Are Included

Most purchase contracts will contain common terms that describe the following:
 The parties to the contract
 The general intent of the parties entering the contract (in a recitals sections).
 The obligations of the Parties
 The term of the Contract and any rights to extensions
  How Changes, or Modifications to the Contract are made
  The Price that will be paid
  The Payment terms
  The Delivery terms
  The Warranties and Representations of the Supplier regarding their performance or their Product or Service
  Limitations on liability on both the types of damages that may be claimed and/or limitations on the amounts of damages
  Termination rights of the parties for breach of the agreement (with or without cause)
  Confidentiality or lack of confidentiality of the information exchanged
  The events that constitute a Breach / Default of the Contract, the breaching party’s right to cure, and consequences / remedies for the breach
  How disputes will be managed and where there will be heard
  General Indemnifications for personal injury or property damage
  Intellectual Property Indemnifications for claims of Intellectual Property Infringement
  Governing law for disputes, where actions may be commenced
  Provisions for recovery of Attorney’s fees in the event of a dispute
  Requirement for Notices
  Entire Agreement or Merger provisions that limit interpretation of the contract to its four corners
  Severability of clauses in the event the courts find one of the clauses to be unenforceable or illegal
  Time of the essence provisions for performance
  Survival provision that describe what terms will survive the termination or expiration of the agreement.
  Order of precedence provision in the event there is an inconsistency between various documents
  Requirements for a waiver of contract rights
  Catch-all provisions for performance of work or services
  Rights to equitable remedies
  Representation of authority by signing parties
  Force Majeure rights in the event of acts beyond the parties control
  Assignment rights, if any

In addition, most contracts will also contain either specifications or a statement of work that fully describes the product or service that the Buyer wants to purchase. Within those documents there may also reference other documents that further describe the responsibilities of the parties. Depending on what you are buying or licensing the terms you use may have certain variations or additions to cover the unique issues or risks associated with that type of purchase. For example some of the warranties that you would require for a Supplier providing a service will be different than the warranties you would want if the Supplier was providing you a Product or piece of equipment.

Let’s talk about each of these terms from the perspective of why you would have them in your contract and what the legal issues, costs or risks are involved.

Parties to the contract.
Many times a Supplier is not one company, they are a number of legally independent companies that may share the same brand name and have interlocking ownership. The parties to the contract section will define the specific legal entities that are entering into the agreement. From a legal perspective, since this identifies the company you are dealing with, you need to make sure that the specific party that is signing the contract has the authority to bind that company, and that the company name is correct, otherwise the other party could argue the contract is voidable  If the contract were voidable, you have the risk of not being able to enforce the contract or being able to pursue any of the remedies. The second aspect of defining the parties to the contract is that it will highlight any time the Supplier’s entity is not the parent company. If the contract is with a Supplier’s subsidiary or affiliate, that’s who your contract is with and you would be limited to only being able to seek recovery from that subsidiary or affiliate, unless the Supplier parent company was made part of the agreement by providing what is called a Parent of Company Guarantee. If you contract only with the subsidiary or affiliate, depending upon their size and assets, this could substantially reduce the amounts you could recover in the event of a problem with their performance. It does you little good negotiating terms and conditions only to find out that the entity signing the agreement doesn’t have the assets or resources to meet those commitments, so if there is the potential for major cost or risks being involved in the relationship. always try to get a Supplier entity that has the assets and resources to stand behind the commitments to be a party to the agreement . That can be done by eitherhaving the contract be with that entity or have them provide a guarantee for the subsidiary.. .

Intent of the parties entering the contract (recitals).
As we discussed in the basics on contract law, in the event of a dispute the courts willl use the rules of contract construction  to interpret contracts to determine the parties intent. As you are limited to what’s within the “four corners of the agreement” in that review a recitals section of the agreement will basically explain what the intent and/or circumstances where that led up to the agreement that helps establish the intent of the parties. From a cost or risk perspective the main risk is that without it, your intent may not be clear and the courts will determine the intent by the agreement itself, only looking to parol evidence where it is unclear.

Obligations of the Parties.
The obligations of the individual parties may be spelled out either within the contract or may be established in the statement of work or specifications. As we found out about how courts will interpret a contract, you should realize that what you want the other party to do needs to be included within the four corners of the contract or it may not be enforceable. Eerything that was important to you in making the decision to purchase the product or service from the Supplier such as representations about what they would do, how the product would perform all need to be captured as part of their obligations or the risk is you may wind up purchasing something that doesn’t work for you, meet your needs, require additional work or correction which can add substantially to your cost.  Since specifications and statements of work need to become part of the contract to establish the obligations of the parties, they also need to be checked to ensure that all that has been promised is included in them. Just like terms of the contract they also need to be written using language that established the right standard of commitment for the Supplier’s performance. For example a quality specification that says that the Supplier “should” do something doesn’t obligate the Supplier to do it. If its critical you need language that established firm commitments by using “shall” or “will” take certain actions. In a later paragraph I’ll highlight some of the keys in writing good specifications / statement of work.

Contract Term. 
As we learned one of the excuses from performance under the contract is if the contract were to lapse. This means that the selection of the term of the contract is important if you have a long term program that may require performance over an extended period of time. Another reason to be concerned about the term of the contract is that once the contract has lapsed, the Supplier no longer is required to honor the terms of the agreement except for those that were included in a “survival” provision and suppliers could use this along with your need for continuing performance to simply change your price or the terms they will agree to so the risk with the terms is primarily financial as you may wind up paying more and getting less if you don’t manage the terms correctly.  If you want to manage against this risk you either need to have a long enough term so you know all work is completed, or you need to have a way built into your agreement where it either self extends in limited increments unless either party provides notice of their intention to not have it extend, have an option to extend it for a pre-agreed term, or have a method by which you have advance notice of what the Supplier will do so you can plan accordingly.

Changes, or Modifications to the Contract. 
In most companies you want to have control over who on your side may agree to changes and for the Supplier, you also have the issue of whether the party agreeing to the change has the authority to makes the change which could potentially make the change unenforceable. So most contract will require that changes may only be made by certain authorize parties or the agreement may delegate authority to certain individuals or authorize the use of certain processes or tools to make limited changes to the contract.  The main risk associated with this is making sure that you get what you negotiated and that well meaning individuals aren’t making change to the Contract without getting the appropriate consideration for making those changes. The other risk is without the controls being in place, you could have individuals that have apparent authority be authorizing changes and additional work that adds to your cost

The pricing terms will establish the price that you will pay for the product or service and pricing should include the pricing terms should include pricing for any future items that you may need or want to buy from the Supplier. If the contract contemplates repetitive purchases over time you would include the prices based on the various items and volumes both for current and future purchases. If you will need to purchase spare parts, repairs or maintenance services or upgrades, there is no time better than with the initial purchase to establish what the cost of those items will be so you can control the life cycle cost or the product or service. The biggest risk to manage in negotiating the pricing is being able to control the cost of those future purchases especially if you are not dealing with a commodity type of product where multiple sources of supply would be available. As part of the Pricing section you would always state the currency of the purchase so there is no confusion. For example if you said dollars that could mean US Dollars, Canadian dollars, Australian dollars, Hong Kong Dollars, Taiwan Dollars, Singapore dollars, etc,. State the price in both words and numbers (in event of a conflict the written amount would have priority over the number).  The major issue cost issue in the price that will be paid is any foreign exchange risk that may exist if you commit to make payments in another currency.

Payment Terms. 
Payment terms don’t just establish the number of days in which to make a payment, they may also establish the requirements for a payment to be due, such as the work or product must be accepted and the supplier must submit a correct and “conforming” invoice. They must provide all of the detail that payment term requires be included on the invoice that would allow you accounts payable function to do things like match the supplier’s invoice to your.  The major cost issue in payment terms is simply cash flow, and the time value of money where the longer you can hold onto and get the benefit of the money involved the better it is for you. On vary small purchases this may not mean much, bit the cumulative value of a difference between 30 and 45 or 60 days can be substantial.

Delivery Terms. 
From a legal perspective the delivery terms that you select will determine when the title and risk of loss transfer from the Supplier to the Buyer.  Delivery terms should include both the specific delivery term, such as FOB, Ex-Works and the specific delivery location where delivery will occur. In a contract you always want both as the difference in costs may be different depending upon the specific delivery location, so you don’t want to give the Supplier flexibility to ship it from another location where it could cost you more unless you specifically agree to it. From a cost perspective the delivery term will determine when the responsibility for the cost of delivery such as freight, diuties, freight forwarders, or custom’s brokers will transfer from the Supplier to the Buyer. From a risk perspective the delivery term will determine who is responsible for any loss or damage that will occur to the items while they are in transit. The delivery terms may also impact cost and risk of any other activities that may be linked to when delivery occurs.
Payment obligations, periods of time in which to accept or reject the product or when the warranty commences may be tied to delivery of the product or service and there could be a significant difference depending on whether delivery occurred at the Supplier location or your location.  For example if you purchased a piece of equipment in Asia that needed to be shipped to your location in the United States by surface shipment, it could take 30 days to do that. If you tied
payment to delivery, and per your delivery term the delivery occurred at the suppliers dock,  you could wind having to pay for it before you receive it losing any cash flow value the payment terms provide. If you had the same thirty days to accept it, you could wind up having your right to accept or reject lapse prior to its actual delivery at your location. If you have a warranty of 12 months and that was tied to delivery, you would be losing a full month of the warranty benefit while it is in transit. Depending upon the delivery term you may need to adjust your other terms to ensure you don’t lose those benefits.  For example instead of a 12 month warranty, you could go after a 13 month warranty so you get the full 12 months benefit of the warranty. For a good understanding of the specific delivery terms and what the responsibilities of the parties are under each,  I would suggest that you buy a copy of the “Incoterms” that are published by the International Chamber of Commerce.  

Warranties and Representations
As we learned earlier a warranty is a representation of a fact or a representation of performance. As a warranty, if the fact or performance is not true (meaning the fact isn’t true or the performance isn’t as committed) that would constitute a breach of the agreement. Under a breach of the agreement, if the breach is un-cured by the Supplier the Buyer could claim damages and may terminate the agreement for cause. Lets look at several common warranties:

It has the right to enter into this Agreement
The purpose of this is primarily for enforcement to show that they had the right to enter into the agreement so the agreement isn’t voidable.
Performance will comply with applicable laws
The purpose of this is to both set expectations on their performance but also to be able to recover the cost of any damages sustained by the Buyer if the Supplier failed to comply with such requirements. If would also give the Buyer the right to terminate the agreement if the supplier was not complying and failed to cure that after receiving notice from the buyer.
no claims or lien exist or is threatened
The purpose of this is to avoid having to pay any additional cost beyond the purchase price because a claim or lien clouds the title. This would allow the buyer to recover any direct costs associated with the breach of the warranty
Products are free from defects in material and workmanship
This is the normal product warrany for which the supplier will be obligate to provide a repair, replacement of possibly refund or credit of the purchase price if a defect in the product occurs. If you wanted to recover more than just your direct costs sustained, in addition to the warranty you would need a separate provision such as an Epidemic Defect provision that would allow the recovery of incidental or consequential costs
Products are free of defects in design
This is included so if there was a defect in the design of the product that couldn’t be cured, you could terminate the agreement for cause without being liable for any commitments. Further it would allow for the ability to collect direct damages associate with the defect,
Products are safe for use
This is included for several purposes. One is if there was a safety problem that couldn’t be cured, your could terminate the with cause and without liability for any commitments made. It would also provide for the ability to recover any direct damages associated with the problem
Products are new and do not contain used or reconditioned parts
For you to sell your product as new, all parts of the product must be new, and selling you a used or recondition product would not only be of less value, it could cause you to sell your product for less value. To prevent that you ask for a warranty that the product is new
The Services will be performed in a good workmanlike manner using reasonable care and skill and in accordance with the relevant specification
This is used to primarily set the standard of performance. If performance was problematic you could claim breach and if that breach was not cured, you could terminate the contract and sue for any damages sustained.

It is important to note that in many standard boilerplate agreements, most of the time the warranty provisions are not carved out of the limitation of liability provision which then would limit the recovery for the breach of a warranty to only direct damages. 

From a cost and risk perspective most warranties will provide you with the right to recover any direct costs that you sustain for the breach of that warranty. For example if you contracted to have work done on your facility, and the supplier used subcontractors to perform the work, under many jurisdictions those subcontractors would have the right to place a “mechanics lien” or “materialman’s lien” against the property to ensure they get paid. If the Supplier didn’t pay them, you could have a situation where you have paid the Supplier and would now have to pay to have the liens removed. The warranty against any liens would provide you with the ability to recover your direct costs from the Supplier to extinguish the liens so you would have to pay twice.

Limitation of liability
The traditional limitation of liability provision will have several main sections.
  • The first is the general limitation of liability that will preclude the parties rights to claim damages other than direct damages
    • “Neither party shall be liable to the other party for indirect, consequential, special damages or for loss of profits of revenue:
This limits both what the Buyer can recover but it also limits what the Supplier can recover from the Buyer to only direct damages
  • If there are certain sections or paragraphs where you would need something more than direct damages because of the nature of the problem or costs you would need a carve out from the limitation
    •  “the above limitation shall not apply to sections ____ and ____,
  • The third portion is Supplier will want to limit their liability to a specific dollar amount.  In general there are several types of liability that will exist under the contract. For example there will be contractual liability for things like the breach of the agreement. There may be liability associate with third party claims for either personal injury or property damage caused by the Supplier, their personnel, subcontractors or their product, There may also be third party liability for claims of intellectual property infringement, Lastly the contract may contain certain sections where you need to recover other than direct damages, The key here is if you negotiate a single limitation amount, that amount would apply to all claims so you either need to have that amount be high enough to cover all the potential costs and risks, our you need to separate it out and establish different limits for the different types of potential liabilities. The other key in negotiating caps that the amount is the basis or frequency of the cap. If you just establish a cap, it will apply to the entire contract, as long as that contract is in effect. Alternative to that can be to negotiate caps that are linked to sales where when the amount of sale increases the cap increases, make it an annual cap, so the full amount refreshes every year, or tie it to a per incident situation. As this is the biggest way the supplier may transfer cost and risk to the Buyer, this is one of the most important clauses in any negotiation.
  •  The last portion is the Buyer limiting their liability. Unless you have specific firm purchase commitments you have made or have included confidentiality provision in the contract, the Buyer’s primary obligation is to pay for the products or services ordered and in most cases the buyer would limit their liability to the amount of the orders made, but not yet paid for.  
From a cost or risk perspective, the limit of liability provision has a huge potential cost and risk impact on the Buyer as:
  1. It creates limitations on the types of damages that the Buyer may claim
  2. It can create limitations on the amount of damages the Buyer may recover where the Buyer would be assuming the risk and cost of any damages in excess of that amount.
  3. It is needed to limit the types of damages and the amount of damage the Buyer may sustain if the Buyer were to breach the contract. For example without it, if the Buyer breached the contract the Supplier could potentially seek damages for lost revenue, lost profits, special and incidental costs, etc.

There are a number of different types of insurances that a Buyer may want to require a supplier to maintain as part of the contract. The most common are Comprehensive General Liability that is intended to cover personal injury or property damage caused by the Supplier, Suppliers workers or subcontractors., Workers Compensation or Employers Liability Insurance is intended to cover any injury to Supplier’s own personnel. Automobile Liability covers personal injury and property damage cause by a vehicle driven by supplier or supplier’s employees. In addition there could be other types of insurances that may be required depending on what you are purchasing such as Errors and Omissions for any design or consulting liability, insurance on stored materials and completed operations still under the supplier’s control. In addition a contract may also require bonds that are usually issued by insurance companies such as performance (covers any increased cost of re-procurement if supplier fails to perform), payment (covers and costs should the Supplier not pay its subcontractors and suppliers) and fidelity (to cover potential theft by the Supplier’s employees.)  For the basic liability provisions (General, Auto and Workers compensation) what the insurance provisions do is provide protection that stands behind the general indemnification. A general indemnification does not do much good if the supplier has no assets to stand behind it or could easily move assets to another company to avoid the liability, so insurance provisions provide the guarantee that you will at least have the value of the insurance policy that could be collected if you can’t collect from the Supplier.


Termination without cause
Buyer’s use the termination without cause provision mostly in three situations. One is the relationship with the Supplier is not working, and performance is not bad enough to terminate for cause. A second is the business needs or reasons for the contract may have changed and it requires the Buyer to mover in an alternative direction. A third is the Buyer has identified another source that can provide the product or service better or cheaper. The issues that you encounter in the negotiation of a termination for convenience clause will have remedies for the supplier that vary based on the nature of what you are buying.  For example, if you are buying a custom product, they may want to be covered to all their costs associated with the cancellation such as materials on order, in inventory, the cost of any work in progress, etc, For example, in a service contract involving personnel, they may want to be reimbursed for reasonable down time until the personnel can be re-assigned.  The most difficult negotiation of termination without cause provisions are usually with Suppliers that made significant investment to win the business and will now have a major gap in their production schedule that they need to fill and they will normally want the cost to terminate to be substantial so that cost of termination will need to be taken into account in determining when it will be used. Many times you may be able to reduce the cost of termination simply by committing that if the work is started again within a certain period of time, they will be given the business subject to mutual agreement on any changes to the cost needed to complete the work.   

Termination for Cause.
The main use of a termination for cause provisions is when the performance is continually failing to meet the commitments of the contract and is affecting the Buyer and their costs in a number of ways. For example, if a supplier is having a consistent problem with quality, that will be creating both direct and indirect costs for the buyer in terms or higher inventory levels, more re-work, additional management, etc. etc.  In the negotiation of a termination for cause provision, the main issues that you negotiate are:
1.    The acts that give rise to termination for cause.
2.    The period of time in which the party has the right to cure the breach.
3.    The rights and obligations of the parties resulting from the termination.
While normally you may be able to simply agree that termination may occur for any material breach of the agreement, there may be times when you need to spell out the specific provisions that can give rises to termination. Number 1 on the suppliers will always be payment by the Buyer. For a Buyer the key provisions would always include breach of any warranties or separate representations, the Bankruptcy of the Supplier and the failure to meet the various performance and delivery requirements in the contract. Part of that may be the negotiation of various performance standards that constitute a breach. For example how late must a delivery be for it to be a breach or be counted towards a breach. How many times must something occur before it becomes a breach, etc..

As part of any negotiation, the issue of cure is important and it may require clarifying what is subject to a cure and what is not. For example, if you have confidentiality obligations in your contract that the Supplier breached, that may not be subject to cure as there is no way to remedy that type of breach and the damage done.  Also as part of the negotiation for the items that you will allow a cure period to correct, you may need different cure periods depending upon what is breached.  One of the problems that I’ve always been concerned with is repetitive breaches and cures where the performance is a problem but they continue to cure within the cure period. To deal with that I’ve included language in contracts where there is a limit on the number of times they may cure the breach and once reached, the next breach would not have the ability to cure and that would constitute grounds for termination.

In the negotiation of a termination for cause provisions I’ve seen some suppliers want to be compensated for their costs for any finished goods, work in process, and customer materials they have or can’t cancel. To me this is like rewarding them for bad behavior since they were the ones that breach the agreement and I’ve consistently avoided paying them anything. It was their problem of performance that caused the termination in the first place and the cost of that should be an expense to them and not the Buyer who may not have any value or use for the products.

The receipt of another party’s confidential information creates both a duty to manage the information and confidential and a liability if you fail to properly manage the information.  The receipt of another party’s confidential information also creates a potential risk if the information is either directly or inadvertently used by recipient in their products as it created an infringement of the disclosing party’s intellectual property rights.  As such most companies include confidentiality provisions to limit and control the receipt of another party’s confidential information as a way of managing the risk. For example, they may include language that says that everything exchanged is non-confidential and if it is confidential it would need to be managed under a separate non-disclosure agreement. 

Consequences / Remedies for Breach.
In specific sections of the agreement you may establish specific remedies that will apply for failure to meet the requirement of an individual term. Those remedies can be extremely broad such as would occur if you said “In addition to all remedies set forth in this Contract, Buyer shall have all remedies available at law or in equity”. The remedies may be included in a single section such as for on-time deliveries, you may establish specific remedies or consequence if the Supplier failed to meet the delivery date which could range from canceling the order without, liability, having the supplier pay for costs of expedited shipment, or requiring the supplier to take extra steps or investments to prevent future late deliveries such as establishing on site stocking at no charge. In warranty provisions you could have language that allows you to have warranty work performed by others with the supplier bearing the cost if they fail to meet their obligations, or you could require that they stock replacement material at their cost and risk. These additional remedies are intended to reduce the risk or cost of the non-performance by the Supplier, prevent on-going occurrences, or transfer the cost and risk back to the Supplier.  Here’s another example, you could agree to a specific response time for providing replacement of defective products or warranty returns based on average number of failures, but could have requirements that require shorter response time the more frequently the problem occurs as each problem adds additional cost of risk to the Buyer. Quality or warranty problems require carrying additional inventory levels to deal with higher than normal levels of defective products and that adds to the Buyer’s costs. With some of the remedies or consequences the goal is to push the cost of the problem back to the supplier. A good example of this is having the right to do inspection or rejection of products by lot as that allows you to send the entire lot back if you find a certain number of defects. This avoids the cost of the Buyer having to inspect all to determine if they are good or bad and pushes that cost back to the Supplier. 

There are several ways that disputes may be managed. They can be resolved between the parties through a problem escalation process, the parties can agree to use a third party such as an arbitrator to decide for them, or the dispute can be litigated in the courts. Each approach has its own advantages and disadvantages. Problem escalation may resolve a number of disputes simply because the matter is being heard by individual that may not be directly involved in the “heat of the battle” and can look at the issue from a broader perspective, but there is no guarantee there will be agreement.  Most companies do not like to use arbitration as they believe that it is too easy to commence a claim, and the decision of the arbitrator may be biased. For disputes that would be litigated in the courts, the agreement should establish which law will govern and where the case must be brought (jurisdiction).  For example if you were a Buyer in New York and were dealing with a Supplier in California and only specified that the applicable law be New York law, if your company had legal presence in California such as a sales office, the Supplier could commence the action in the courts in California and serve your California office where you would then have to defend the action in California, but the California court would have to interpret the contract in accordance with the laws of New York. If you wanted to make sure that the action was heard in a New York court, you would need to specify that the jurisdiction for commencement of any actions is either the courts of the State of New York or the Federal Court in the State of New York. If you didn’t want to have to defend it any place in New York, you could be specific on which court it would be heard in. Each party will want the applicable law and jurisdiction to be most favorable to them.

General Indemnification
Under the theory of agency, the Buyer may be liable for the negligent or intentional acts of the Supplier, the Supplier’s employees and the Supplier’s subcontractors.  If Buyer purchase a product from the Supplier and resells that product, by being part of the sales chain, the Buyer may also be liable to 3rd parties for personal injury or property damage that is caused by the Supplier’s product.  To protect against the risks and costs of those potential 3rd party claims most Buyer’s agreements will require the Supplier to “defend, indemnify, and hold harmless” the Buyer from such claims. The requirement to “defend” makes it the Supplier’s responsibility to pay for all legal costs associated with the defense of the claim. The requirement to “indemnify” makes the supplier be responsible to pay all costs or damages awarded by the courts that the Buyer may be required to pay. The requirement of “hold harmless” eliminates the Supplier making a claim against the Buyer for actions caused by the Supplier’s negligent or intentional acts.  From a cost and risk perspective the goal is to transfer all cost and risk of actions by the Supplier to the Supplier to both avoid those costs and to avoid the impact any claim like that would have on the Buyer’s cost of insurance as rates vary with the incidence of claims.

Intellectual Property Indemnification
Third parties may make claims against the Buyer for infringement of their intellectual property rights if that infringement was caused by the Buyer or the Supplier. If the claim is based on the product or service that was provided by the Supplier, there could be an injunction against further use; there could be royalties that need to be paid for what has already been used or sold. It could require the replacement of infringing items with non-infringing items so the potential risk and cost to the Buyer could be substantial.  In a traditional Intellectual property indemnification provision you would have many of the same terms as the General Indemnification. It will require the Supplier to “defend, indemnify, and hold harmless” the Buyer from such claims. The requirement to “defend” makes it the Supplier’s responsibility to pay for all legal costs associated with the defense of the claim. The requirement to “indemnify” makes the supplier be responsible to pay all costs or damages awarded by the courts that the Buyer may be ordered to pay. The requirement of “hold harmless” eliminates the Supplier making a claim against the Buyer for actions caused by the Supplier’s negligent or intentional acts. In addition to the indemnification, an IP indemnity provision will usually include specific remedies that the Supplier is required to perform as a result of the infringement such as get a license from the Intellectual Property owner to use their IP, Provide a product that is not infringing. The more you need or are locked into using the specific product, the more important having these alternative remedies becomes. Traditionally the major point in this negotiation is who can decide which remedy is implemented. The Supplier will want to have the option to take the remedy that is the least expensive for them. The Buyer will want the remedy that is the least expensive and has the least impact on their business to manage the potential cost and revenue impact.  The last part of any IP indemnity provision is exclusions that the Supplier may have from providing the indemnity, such as claims resulting from their following a Buyer provided design. As exclusions eliminate your ability to recover any costs, any exclusions need to be clear and carefully drafted.

Recovery of Attorney’s fees
If a claim goes to litigation the old saying that “only the lawyers will win” is probably true.  The cost of litigation can be substantial and in claims made against the buyer by 3rd parties such as for personal injuries, property damage or infringement, if the plaintiff wins they will normally be awarded attorney’s fees which can be substantial. So being able to collect for attorney’s fees is being able to recover a potential cost.  One of the tactics that I’ve seen in negotiation of attorney’s fees with a Supplier is their desire to include a reasonableness standard on attorney’s fees. As between the Buyer and Supplier limiting the liability to reasonable attorney’s fees may be acceptable as it protects both parties from excessive costs. It is not OK when dealing with 3rd party claims where legal fees are part of the courts award.  That’s what the Buyer would need
To pay the 3rd party and that’s what the Supplier needs to pay the Buyer. If you included a reasonableness standard on legal fees including in a 3rd party award, it would do two things. It would allow the Supplier to delay payment while the concept of the reasonableness gets agreed or litigated. It creates a situation where the Buyer may get less from the Supplier than what they were ordered to pay creating an additional cost to the Buyer.   

The requirement to provide a notice to the other party may exist in a number of clauses. For example if you were going to terminate for convenience or wanted the Supplier to cure the breach of the contract, you would need to provide them notice. If the Supplier is allowed to stop producing a product that you use, you may require and “end of life” notice. You could have a contract where the term self extends unless either party provides notice of their intent not to extend it.  If the Supplier is allowed to make periodic price adjustments you may want advance notice of any price changes so you can take appropriate actions. A notice section within a Contract will usually define who the notices must be provided to for them to be effective, how notices must be provided, and when notices are effective. For example, if you sent a Supplier a “Notice to Cure” a breach, its important to be able to establish that it was delivered to the required party, and when it was delivered as their obligation to cure and your clock for when you could proceed to terminate is normally tied to a certain period after their receipt of the notice.  The risk of costs associated with the notices provision is if you fail to follow the specific requirements of the notices provision, the notice may not be effective, which would prevent you from taking certain desired actions until you do it correctly  

Entire Agreement or Merger provisions
In the rules of contract construction we learned that courts will look only to the four corners of the contract to interpret the intent of the parties. An “entire agreement” or “merger” clause re-affirms that and basically says that the parties agree that the contract represents the final agreement of the parties on the subject matter and that any and all prior agreements discussions or document have been merged into the contract so the full intent of the parties is expressed there. There is nothing wrong with this type of provision, it just requires that you make sure that if there was discussions, promises, commitments and other document that were part of the motivation to get you to agree to sign the contract, they need to be addressed in or made part of the contract or they will not apply. The main risk is if you failed to capture everything within the contract you could wind up getting less that what you believe was committed or promised and correcting that could cost additional money.

Severability of clauses
All a severability clause does is tell the courts that the intent of the parties is not to have the contract voided or voidable if a specific clause becomes unenforceable or illegal. In agreeing to a severability clause the parties are saying that they will look to the courts to determine the intent of the parties or to insert a term in the interpretation of the contract based on prior dealings between the parties or common trade practice. This clause eliminates the risk that your entire agreement could be unenforceable of a single clause became unenforceable of illegal. 

Time of the essence provisions
When inserted into a specific section or the contract a “time is of the essence” standard would require that the specific date or times for performance must interpreted exactly.  It can also help establish that the breach of a specific date or time for performance is a material breach.  The risk that a “time of the essence” standard is used for is to prevent delays that may be legally acceptable, but would not be acceptable for you. For example, if you had a major event and ordered materials for that event,  receiving them after the event would not be acceptable, so you would establish a delivery date prior to the event, make it clear that time is of the essence for that delivery, and if the Supplier fails to delivery by that date you may terminate the contract for cause effective immediately and try to avoid any liability of cost if the Supplier delivered it after the needed date.  It clearly puts the Supplier on notice that the date is fixed and must be met.

Upon the termination or expiration of a contract, all terms are no longer applicable between the parties. As the parties recognize that there are activities and actions that will need to extend beyond the term of the agreement, they will include a “survival” provision where both parties mutually agree upon which of the contract terms will survive the termination or expiration of the contract and be applicable for that period after the agreement has expired or been terminated. For example any provision dealing with potential future liability such as taxes, warranties, Indemnification will need to survive. Terms that would be used to interpret the contract and the liabilities under it such as limitations of liability,  order of precedence, merger, and severability of clauses would need to survive. Terms addressing potential litigation between the parties on those surviving obligations such as the choice of law, forum or jurisdiction,  limitation fo actions, waivers of jury trials would also need to survive. There may be other obligations that, depending on the nature of the relationship will need to survive. If you ordered a product prior to the expiration of the agreement and the Product was delivered to you after the expiration, you would want all the terms of the agreement to apply to that purchase, and I’m sure that the supplier would want the Buyer’s obligation to make payment to also survive.

Order of precedence
Frequently contracts are made up of a number of documents. There will be the contract itself and there will also be other documents that are incorporated by reference into the contract or are incorporated by reference into a document that is incorporated by reference into the contract.  There is a general presumption that all the documents will be complimentary in creating the obligations of the parties. All this creates the potential for there it be inconsistencies between all the various documents and what an order of precedence clause does is in the event of an inconsistency, it will determine the what the intent of the parties was in establishing the order of priority given to the various documents in resolving the inconsistency.  For example if one document said that the Supplier must do A though M and another document said that the Supplier must do N through z there would be no inconsistency and the supplier would be required to do A through Z.
However if one document said that the Supplier had to do A within thirty days and another document said that the Supplier had to do A in forty five days, there would be an inconsistency and you would need to look at the order of precedence to determine which document had priority so you could decide if it was 30 or 45 days.

A waiver is the intentional and voluntary giving up of a right that may be done either by express statement or by one of the parties conduct (such as the Buyer not enforcing a right they have under the contract against the Supplier). Waiver provisions are intended to prevent the giving up of a right by conduct,  so that for waver to be effective for the remainder of the term of the agreement it must be done by an express statement such as amending the contract.  For example is the Supplier breached the agreement by failing to deliver on time and you took no action in that one case, by your failure to take action you would of waived the right to take action on that breach. If the supplier continued to fail to delivery on time and you continued to let them and take no action, without a waiver clause you could be prevented from taking future actions if they were late in delivering as by your actions you would waived your right. With a waiver clause, irrespective of the number of times that you failed to take action you would still retain the right and could take action on the next or subsequent occurrences. This eliminates the risk to a party of losing the ability to enforce a contract right simply because in the past they failed to enforce that right. 

Catch-all provisions for performance of work or services.
Within the body of the contract or sometimes within the scope of services, statement of work or specification most companies will include a “catch all” provision such as “Supplier will provide all management, plant, labor, materials and equipment necessary to perform the work” or “Supplier will provide and pay for all necessary permits and fees necessary to perform the work”. The goal of  catch all provisions is to simply ensure that the price being paid is all inclusive and there are no additional or hidden costs or charges that must be paid by the Buyer to complete the work.

Commencement of actions
What a commencement of actions provisions will do is place a finite time limit after the cause of action has occurred for one of the parties to bring an action against the other.  What this does is prevent a pilling up of claims to the end of a long term contract and it forces the claim to be made while the information about the circumstances is still fresh in the memories of the parties and while most of the parties are still available to provide their information and/or recollection of events.  A commencement of action provision does not force all claims to be made in a specific period, it simply forces claims for which the party has knowledge to be brought within the required period.  For example if a Commencement of actions provision required that all actions must be brought within two (2) years from the date on which the cause of action was first discovered,  if there was a Product liability suit against the Supplier for which the Buyer could be liable, the Supplier would have 2 years from that date to commence action against the Buyer. If two years later there was a different suit against the Supplier that would be a difference cause of action, and they Supplier would have two (2) years from that suit date to commence an action. The biggest risk and cost that a commencement of action suit is intended to protect against is
not being able to adequately defend against a claim because the information is no longer fresh or the knowledgeable people are not available or can’t be found.

Jury trial waivers.  If a dispute were to be brought to court there are two ways a case may be heard. It can be made solely by a Judge that will rule on the facts and provide the appropriate award, or it can be brought to a jury who will determine the facts and the award. Under law, a plantiff or defendant can request a jury trial. To avoid having a jury trial the contract will seek agreement by the parties to waive the right to a jury trial. 

Rights to equitable remedies
Contractual remedies primarily provide you with the right to collect money damages. There can be situations where money damages would not be sufficient for the potential damages you could sustain,  so you may want the right to equitable remedies which are primarily injunctive relief of specific performance.
For example if you provided a Supplier with confidential information under a confidentiality agreement and they breached their confidentiality obligation money damages may not be enough to cover the damages you may sustain, so if you had the right to equitable remedies, you could go to the courts and seek injunctive relief to force them to stop disclosing the information in addition to being able to sue them for damages. If you contracted to purchase something that was absolutely unique and could not be procured elsewhere and the Supplier refused to later sell it to you, if you had the right of injunctive relief  you could seek an order for “specific performance” where the courts would order the Supplier to transfer it to you.  One of the advantages of injunctive relief is if the court orders it and the other party fails to do it, it becomes a contempt of the court’s order which can result in criminal charges. The risk of not having equitable remedies provided for in your agreement is simply limiting the types of remedies that may apply which may be inadequate for the type of damage that could be sustained.

Representation of authority by signing parties.
As we learned, if a contract is signed by a party that does not have the authority to enter into the contract on behalf of their company, such a contract is voidable.
As the goal is to create an enforceable contract, one way of reducing the risk of having the contract be voidable is to require the parties to the contract to represent that they are duly authorized to sign the agreement and that may be done by a separate clause or simply noting within the Signature Block the words
“Duly Authorized” or  “Authorized Representative”. If the individual that signed the contract wasn’t authorized to sign, the company may still be able to void the agreement, but the other party may be able to go after the signer of the contract personally for fraud as they represented that they were authorized.

Force Majeure
A force majeure event create an excusable delay in performance for the period of the force majeure. The most commonly negotiated things within a force majeure provision are the events that constitute a force majeure. For example in addition to the normal natural disasters, wars or embargoes, a Supplier may want labor actions such as strikes or lockouts fot be a force majeure event. I’ve had some that wanted to have the failure of their subcontractors or suppliers to perform to constitute a force majeure. As a Buyer you traditionally want to limit the events to things that are strictly beyond the Supplier’s control. A strike may be beyond their control, but a lockout isn’t as it would be the Supplier that is preventing the union members from working.  Simply saying that you can’t perform because your suppliers or subcontractors didn’t perform shouldn’t be acceptable as they should have tools in place to protect against such non-performance or it should be limited to when the subcontract is unable to perform because of acts of god. Another issue that may need to be addressed in creating a force majeure provision is what is the impact to you if you were to receive the performance at some time in the future when they have been able to recover? Do you still need or want the product? Should you have the right to terminate any orders without liability if they are unable to recover within a specific period?  The key cost or risk points in a force majeure situation is what, if any, impact will there be if you receive performance as a much later date where you may no longer want or need it, or may have needed to procure your needs from another supplier in the interim?

In an assignment, the party making the assignment is transferring rights and obligations to a third party.  Many times the reason why you selected a Supplier in the first place and agreed to pay the price was because the work was going to be done by them and not some third party. Likewise a supplier may have agreed to sell to you at certain terms and pricing based on their dealing with your company not some third party. So most agreements will either prohibit the assignment of the agreement, or require approval of the other party where consent to the assignment would not be unreasonably withheld or delayed. For both parties the restriction against assignment can be a problem if there were to want to sell the business that is associated with the contract, so some assignment provisions may allow assignment without consent if the major portion of the Business associated with the contract is sold to a third party. There are two types of assignment. An assignment only would have the original party remain secondarily liable under the contract. An assignment and novation would excuse the original party from liability and the party whose contract was assigned would only be able to look to the new entity. The risks to the Buyer under an assignment fall into either the potential loss of value or the ability to recover potential costs or damages from the new party.  For example, if you contracted to have Michaelangelo paint a picture, you wouldn’t want that to be assigned to Joe Smith.  For example,  assume that you had a substantial amount of products that you purchased from the Supplier in which you could have potential warranty, defect, or third party liability claims, you wouldn’t want to have the agreement be assigned and novated to a new company that didn’t have the assets or resources to meet the contact commitments.

Depending on what you purchase or license, the marketplace you operate in, the risks associated with the purchase, or the risks associated in dealing with the specific supplier, there are a number of additional provisions that you may want or need to include in your contract, but making sure that you start with at least these will provide you with a good starting point.


When I draft a Contract or review a Contract, I look at each agreement from 5 different perspectives.

·      First, I check to see if there are certain risks which should be managed and that require having basic legal provisions such as indemnity, patent indemnity, and warranty.

·      Second, I check to see if  “administrative” type provisions have been included that describe how all the different processes between the parties will be managed:
o   What is required for invoicing;
o   How payments will be made;
o   How RMA processes will be managed;
o   How warranty returns are managed; who receives notices; etc.

·      Third, every contract must have specific business provisions that define the unique aspects of the relationship such as
o   Pricing.
o   Delivery.
o   Logistics.
o   Changes.
o   Other factors such as the Supply Chain or the total cost and life cycle cost factors of the relationship.

·      Fourth, every contract should have performance provisions that define what is required and what happens if the requirements are not met. Performance provisions are requirements such as:
o    Specifications;
o    Drawings;
o   Quality requirements,
o   Performance improvement requirements,
o   Certain warranty provisions,
o   Delivery performance,
o   Required costs reductions, etc.

·      Fifth, every contract should also identify how certain promises that are made will be backed up. For example:
o    If a supplier provides and indemnity against third party claims, that should usually be backed up with a requirement for the supplier to provide the necessary insurance coverage to stand behind the commitment.
o   For smaller supplier it might mean a parent guarantee.
o   For some work it could be bonds or financial guarantees provided by a third party

While each of these five different perspectives is distinctive in nature, contract terms may combine some or all aspects of each into an individual clause. For example:
o   A warranty provision will always contain the specific legal warranties the supplier is making.
o   If will also contain business aspects such as what is warranted, for how long and what may be certain exclusions to that.
o   A warranty provision will usually contain administrative provisions such as how to make claims against the warranty through the RMA process.
o   A warranty provision will may also have performance provisions such as defining the actions the supplier must take depending upon the extent of the claims, with higher failure rates requiring a higher degree of performance and faster response.
o   A warranty could include requirements to assign warranty rights from third parties.
o   A warranty could also include a specific requirement such as a performance bond to ensure the obligations are fulfilled.

Most contracts will have a number of key elements
  • A title
  • An introductory paragraph that identifies the parties
  • Recitals that describe the intent of the parties entering the contract
  • Definitions of terms
  • Key conditions for the contract
  • Representations, Warranties, Covenants, Indemnities, Guarantees and Releases
  • Events of Default and Remedies for default
  • Boilerplate terms
  • Signature blocks
  • Exhibits and attachments

The title should describe the nature of the contract being entered into such as Agreement for the Purchase of Goods or Software Licensing Agreement.

The introductory paragraph should contain the legal names of the parties to the agreement, their addresses, the type of company they are, and if they are incorporated the place of their incorporation. The introductory paragraph may also be used to establish when the contract commences (the effective date). The effective date can be whatever the parties agree, so an effective date could be the date it is signed, it could be retroactive to a prior date or it could scheduled to take effect at a future date. A “recitals” section, when included, will usually describe the circumstances or facts leading up to the agreement describing why the parties are entering into it the agreement. This helps show the intent of the parties in entering into the agreement in the event of a dispute.

The definitions section is used to create defined terms so that every time that defined term is used within the agreement, it has that specific meaning. For example “Product” shall mean a product that is listed in Attachment “A” So every time the capitalized word “Product” appears in the Agreement it means a product listed in Attachment “A”.
Defined terms may also be established within the text of the agreement  For example: The Ultra High Speed Combo Drive (hereinafter referred to as “Combo Drive” would create a situation where every time you wrote “Combo Drive” it would mean the “Ultra High Speed Combo Drive”. In large contracts where the list of defined terms could be multiple pages long, the Defined Terms may established in an Exhibit
Key conditions are the things such as ordering, delivery, payment, taxes, termination or cancellation.

Representations” are a statement of presently existing facts intended to produce reliance and action by a party such as entering into an agreement
A “Warranty” is a promise that the facts are as stated.
 A “Covenant” is a promise to act or not to act in the future.
A “Guarantee” is a promise that if another party does not perform the guarantor will.
An “Indemnity” is a commitment to hold another party harmless from losses to third parties
A release is the cancellation of a right to assert a right, claim or privilege

Within Procurement Contracts
  • You always have representations and warranties that you ask the supplier to provide with respect to their product or service.  The main difference between a representation and a warranty is if the representation is untrue, they party receiving the representation may cancel the agreement without liability, whereas the breach of a warranty allows both the right to cancel the agreement without liability and collect damages for the breach of the warranty.
  • A covenant might be added to a contract if you want the other party to act or nor act, A good example of a covenant would be a covenant not to compete where in consideration for your business the Supplier agrees that they will not compete against you for a specific period. 
  • The types of Guarantees that are most common in Procurement agreements are “Parent Guarantees” where the parent assumes financial responsibility for the acts of their affiliate.
  • Indemnities for both personal injury and property damage (the General Indemnification) and Intellectual Property Infringement are common in Procurement Agreements. .
  • Releases are not common in procurement contracts but could occur in situations where one of the parties is receiving extra consideration under that agreement in return for releasing a right or claim or privilege they have with the other party as a result of prior dealings. More commonly releases occur when there is a negotiated settlement of a claim between the parties.

Events of  Default can be:
  1. Failure to perform and obligation
  2. Failure to pay monies when due
  3. Failure to maintain a certain status or condition
  4. Breach or inaccuracy of a representation or warranty
  5. Bankruptcy or insolvency
  6. Default under another agreement

Events of default and remedies maybe described in an individual section such as what happens when a Supplier fails to deliver the product or perform the service on time, or default and remedies may be describe in general such as a “material breach of any terms of this Agreement where the remedy is primarily the right to terminate the agreement and claim damages. Limitation of liability provisions traditionally will limit the types of damages (remedies) that would be available in the event of a default.

In specifying the acts that can give rise to default and remedies, you need to there are rights and there are duties. 
  • A party who has a “right” does not need to exercise the right.  For example, either party may terminate the agreement as a result of a “Material Breach” by the other party. The right, expressed by “may” means its permissive and can be exercised and their sole option. If they elect not to exercise their right, they will be deemed to have waived that right.  To ensure that a single waiver of a right does not waive the right to exercise that option on the future, contracts will normally require that for a right to be waived it must be waived in writing by the parties to the agreement, so in most cases a single waiver by an employee would not constitute a waiver of that right.
  • Duties are mandatory and the language used to describe duties needs to affirm that the action is mandatory.  For example for future acts will or shall are used. “Shall” states a future obligation. “Will” states a future fact that must exist. A variation of this when the duty requires another action to occur in advance. That other action is called a “condition precedent”. The duty only will exist if the condition precedent has occurred.
    • For example, “if Buyer purchases 100 machines prior to December 31, 2012, Supplier shall pay a ten percent (10%) rebate on the purchase price of all machines”. 
      • The duty is to pay the 10% rebate on the purchase price.
      • That condition precedent to that duty is the required level of purchases must have been made by the specified date.

Boilerplate terms are things like
  • Requirements for making Amendments to the Contract.

·      Rights of Assignment by the parties

·      Choice of the Law that will be applied and jurisdiction for any litigation

·      Jury Trial rights

·      When actions must be brought (Limitation of Action) 

·      Where and how notices must be provided

·      Enforceability of Counterparts (separately signed documents)

·      Exchange of Information

·      Freedom of Action

·      Force Majeure

·      Obligations of Affiliates

·      Merger of Prior Communications

·      Order of Precedence between documents

·      Record Keeping and Audit Rights

·      Severability of the terms (in the event one term is found illegal or unenforceable)

·      What terms” survive” the termination or expiration of the Agreement

·      Requirements for a Waiver to occur

Signature blocks
Identify the parties and witnesses who sign by providing blank lines below their signature lines for their printed names and addresses.
Ensure that those printed lines are legible.
Be sure that corporate officers include their titles, the corporation name and the word "as." Failure to do this can result in personal liability of the officer. Example:
Money Corporation, a New York corporation

John C. Smith, as its President

Exhibits and Attachments
For an exhibit of attachment to be part of the agreement it must be incorporated by reference into the agreement. Simply attaching them to the Agreement does not make them part of the Agreement. To properly make them part of the Agreement they should be incorporated by reference within the body of the Agreement or within the body of another document that has been properly incorporated by reference into the Agreement. Incorporation of a document by reference is done by stating the incorporation by reference in the body of the Agreement where the specific document is referred to, or by incorporating those documents in listing of Exhibits and Attachments within the Agreement.