Tuesday, March 22, 2011

Effective Dates


When you refer to an “effective date” when discussing contracts it means the date that the parties agree that the contract will commence or be effective from that date forward.  You can set any date as being the “Effective Date” as long as the parties agree.

The effective date may be established a number of different ways.

A retroactive date to cover purchases made in anticipation of the contract.
  • This contract shall be effective retroactive to January 1, 2011.
A firm date established in the contract body.
  • This contract shall be effective on July 5, 2011
The date the contract is last signed by the parties.
  • This contract shall be effective on the date last signed by the parties
A date in the future.
  • This contract shall take effect on December 5,2012

From a practical standpoint, the effective date needs to take into account the term of the Agreement.  What you don't want to do is have an effective date that starts the term and have that cut into the length of your contract coverage period when you are not buying anything.  If there is going to be a delay in making purchases or getting deliveries, the earlier you make the effective date, the longer the agreement term you would want. For example, it could be effective today and have a 3 year term, or it could have an effective date a year from now and have a 2 year term and both would provide the same length of coverage.  The key is the length of coverage and making sure that the effective date doesn't reduce that term of coverage.

If there is a possibility that a key date that could start the use of the contract could slip, you could also work that into the term.  For example:
"the Term is based on an expected completion of ___________ by ______ .  For any delays to that date the parties mutually agree that the term shall be extended on a day for day basis."

You would normally want to establish a retroactive effective date when you have already purchased something and you want the purchase terms to be applied retroactively to those purchases. In making those purchases you could mutually agreed that the terms of the future agreement will retroactively apply to those purchases. In that case the effective date of your agreement would not need to be retroactive as the parties already agreed to apply those terms to those purchases.

In negotiating the combination of the effective date and the term need to be worked closely together. In most cases you want to have a fairly long term for purchases.  For example if you made the effective date be the date the agreement was signed, and had a one year term and the product you were purchasing had four-months lead time prior to delivery, the real effective period of your contract is 8 months rather than a year. If you wanted a full twelve months of contract deliveries you would need to change either the effective date or the term. For example, you could have the contract become effective on the first delivery and remain in effect for 12 months. Alternatively you could have the contract be effective immediately, but have the term be 16 months to take into account the impact of the lead time on your deliveries. 

Whether you need to be guaranteed a full term for purchases really depends on a number of things such as how easy or costly it will be to switch Suppliers. For example, if you had to exercise an option relating to future periods where you would have significant liability if you were to terminate the agreement for convenience after that, you would want as long as possible to evaluate the Supplier’s performance before you have to act on the option.   

In addition, you may have either a condition precedent or a condition subsequent that can affect the enforceability of the agreement.  If you have an effective date established for the future, a condition precedent could affect whether the agreement actually takes effect.
For example:
This Contract shall take effect on July 5th, 2012 provided that the prime lending rate is no greater than ____%

In this example the prime lending rate being below the specified percentage would be a condition precedent to the contract taking effect. If the prime lending rate was higher than the agreed percentage, that condition precedent would not have been met and that Contract wouldn’t take effect.

If you have an effective date established and at some time in the future and a condition subsequent is met, your commitment could end or it could force a re-negotiation. For example:
This Contract shall take effect on July 5, 2009 and shall remain in effect as long as the exchange rate between the U.S. Dollar and Japanese Yen is no less than ____ and no greater than ____.  
The range is called the “band-width” and if the exchange rate is outside the band-width and the parties fail to reach agreement on a revised Price, either party may terminate this Contract without liability as the condition subsequent has not been met.

2 comments:

  1. Effective date of contract shall be treated as the the both party agreed and signed the contract. The commencement date for service shall mean that the firm shall carry out the deliverable as per the time line given

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  2. Dear Anonymous, yes, a contract may include a separate date for commencement of service. Many times you may be concerned with disruption of activities so you may also require that once commenced that it be performed diligently or you may establish a completion date tied to when the work commences.

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