Saturday, February 12, 2011
Contracts are frequently made up of multiple documents that are either attached to or incorporated by reference into the Contract. Those documents may incorporate other documents. The way contracts are interpreted is that all terms will be looked upon as complimentary with one another and will have the same priority unless the agreed differently. In the event of a conflict, in interpreting what has been agreed, you look to the contract to see if the parties agreed on the priority between the individual sections or documents. That priority is what is referred to as the “order of precedence”.
Many standard contracts will have order of precedence provisions that address the order of precedence as between the standard documents that make up the contract such as between the Contract, Statement of Work and Purchase Orders.
If the Statement of Work in describing a product has both a drawing and specification and the two are in conflict, what happens? Which has priority?
What if you incorporate the Supplier’s specification into your contract and that specification contains language that could reduce or conflict other requirements of the contract or add additional terms?
When you have multiple attachments or incorporate multiple other documents into a contract, you need to ensure that you establish an order of precedence between all of the attached or incorporated documents to ensure that in the event of a conflict, the document will be interpreted according to the priority you want.If there a key terms in the agreement that you want to have priority over other terms in the same agreement the order of precedence is usually done by what's called "trumping" terms where you make it clear that if there is a conflict with another section that section has precedence or would specifically exclude other sections in interpreting that term.
Another important thing to remember is order of precedence is only looked to in the event there is a conflict between the documents. For example if Document 1 required Items A through M to be provided and Document 2 required N through Z, the agreement would include items A through Z. If requirement R in Document 2 conflicted with requirement C in the Document 1, you would look to the precedence established between Document 1 and Document 2. If Document 1 had priority, only the conflicting portion of Document 2 would not apply to the agreement.
Where this is especially important is when you will be incorporating Supplier generated documents into your Contract like a proposal or their specifications. These documents could include terms that conflict with your terms. They could also reduce their commitments or put additional obligations on the Buyer. Simply relying on the order of precedence and making the Supplier generated documents a lower priority won’t protect you in all instances. It will protect you if something directly conflicts. It won’t provide protection against additional or different terms that may be included in the Supplier’s document that don’t conflict with the terms of other documents. For those situations you can either incorporate only those sections of the Supplier documents that you fully agree to upon or incorporate the document and specifically exclude those problematic terms from the incorporation. If you commonly purchased products that are defined by the Supplier’s specifications, you could also include language in the document that has the highest priority to the effect that any incorporation of Supplier Specifications into the agreement is limited to Supplier’s technical specifications and specifically excludes and business or legal terms contained in the specification.
As a suggestion, if you are dealing with a Supplier that posts their specifications on line take a look at them and you’ll probably see what I mean. I once did an audit looking to see if Suppliers had included use restrictions in their specifications and found a large percentage. They and other problematic terms usually were on the last page of the Specification and some Suppliers went as far as to place the language in much smaller print !
In every contract you negotiate certain commitments the Supplier is obligated to provide. The important aspect of the parties to a contract is whether the party signing the contract has both the assets and resources to make good on their contract obligations. When you purchase through a Supplier affiliate or Channel, what you are really doing is creating a contract between that Company and you, not between you and the Supplier. Companies that may have the Supplier name in their title may be owned in part by the Supplier, but they are legally independent companies for which the Supplier is not legally responsible. Many companies sell through affiliates or channels that are independent of them as a way of managing potential liability. Suppliers want you to purchase from affiliates or channels to either reduce the negotiation you can do. They may also want you to purchase from certain affiliates for tax reasons. In any of these cases, the purchases shouldn’t be to your disadvantage or provide you with any less protection than if you purchased it from them directly.
Always verify that the party can meet all the obligations of the contract, especially from a financial perspective. Many affiliates and many channels may not be able to meet all commitments. If the Supplier wants you to purchase from affiliates demand that you get no less protection than if you purchased from them directly. If you need a Supplier’s parent company involved to provide the necessary protection you can either make them a party to the contract where they agree to be jointly and severally liable, or you can have them execute a form of company or parent guarantee in which they assume financial responsibility for their affiliates performance.
If the Supplier is forcing you to purchase from a Channel getting protected is a little more difficult. Suppliers won’t agree to be liable for breach of the agreement by their Channels as 1) they have no control over the Channel’s actions and the Chanel could be making commitments independent of the Supplier and 2) they have no financial interest or stake in the Channel and don't want to be liable for an independent company. If you must buy through a Channel, the best approach to get protection would be to get a separate agreement with the Supplier where they agree to provide certain protections directly to you for purchases through their channels. Most of the time what you would need the to provide is a commitment to provide certain warranties and indemnities directly to you.Those are things they do have control over so they should be passing them on to you. Without it you can't make a claim against the Supplier as you would have no "privity of contract" on those purchases.
In your contract always make sure that you include the correct legal name for the party that you are dealing with and where they are incorporated and the location of their principal business address.
In negotiating payment terms you negotiate:
· The actual term for payment (such as net 45 days);
· The event that authorizes payment (such as from the date of delivery or date of shipment);
· The requirements for making any payment (such as the receipt of a correct and conforming invoice).
As Supplier’s have experienced unscrupulous customers who use delaying tactics to delay making the actual payment to get the benefits of the cash flow, most Suppliers want a firm commitment to pay that is tied to an easily tracked event and may want to charge interest for late payments. As you have the most leverage to get problems resolve before you make payment, always seek to negotiate the payment term to have the payment be made well after you have received and have the ability to test or inspect the item to ensure it works and meets the requirements. If you require longer terms to perform acceptance and test, you may consider a form of payment schedule where you continue to retain a substantial portion of the price until the required acceptances can be performed so you keep that leverage.
When dealing with work that routinely involves a payment schedule, Suppliers will always have the tendency to try to front end load the schedule so they both get free financing of the work but also to reduce the risk of what they may lose if they don’t complete the work. Always make sure that you pay them less than the value of the work they have performed so you have that difference and the natural lag in payments as leverage to get the work done. Always avoid having the obligation of payment from being separated from the Suppliers obligation to perform. For example, never tie a payment schedule to dates alone as the Supplier could be substantially behind in performing. Link payments to a clear deliverable or milestone that they have to meet to be paid.
Suppliers will want some protections against being abused on payments, especially for the issue of non-conforming invoices. When needed you can add the specific requirements for a conforming invoice to your contract so it’s clear what they need to provide.
On the issue of late payments, a lot depends on how the rest of your contract is structured. If you clearly have provisions in your contract where you can collect from them every time they don’t do what they committed to do you may need to grudgingly agree. If you don’t have damages they must pay if they don't perform, I would link the two together and offer them a deal. If they pay damages every time they fail to perform, you will pay them late payment charges every time you don't perform.
If you give them leeway before they are subject to damages or costs, look for leeway in return regarding when late payment charges will be collected.. If you must agree to pay late payment interest charges always negotiate a rate that is close to their cost of money and never leave it open ended. If you leave it open, they can charge the maximum amount that is allowable by law in that jurisdiction and that could be substantial.
Aside from the administrative requirements of invoices required for payment the only other thing you may do is agree upon how frequently you may be billed and whether that may be done electronically or not. A Supplier relationship may have a huge number of transactions that if billed separately would create a blizzard of paperwork and overwhelm your accounts payable function. So most times you try to negotiate monthly consolidated billings or bi-weekly consolidated billings. As most companies do disbursements only once or twice a month, daily or weekly invoicing would really wind up being scheduled to be paid for one of those disbursement times and wouldn’t provide any advantage.
When Suppliers are concerned about collection, which can especially be the case with international sales, they might want what’s called a “Letter of Credit” or Bank Guarantee. Letters of credit are issued by financial institutions and guarantee payment by the financial institution upon completion of the conditions that are stated in the Letter of Credit. The Supplier needs to provide proof that they have met the requirements of the letter of credit. Commonly providing a copy of the “Bill of Lading” showing proof of delivery to a carrier would be common in Letter of Credit requirements. Payment under a letter of credit does not need to be immediate, it can be set at a point in time in the future after the conditions have been met. While Letters of Credit may be good for the Supplier in making sure they get paid, they aren’t good for the Buyer. First they cost money to create and unless the Buyer has a credit line with the financial institution they would tie up the Buyer’s capital from the issuance of the Letter of Credit until delivery occurs and payment is made. Worse is the fact that you are paying for what you purchased before you are able to test or inspect the product. That places the risk of collection on the Buyer if its defective and the price should be refunded. It also gives the Buyer no leverage to get corrections made as they have been paid.