Practical Tips for Avoiding Contract Disputes: Part I

Editor's Note: This article is the first in a two-part series. Part I discusses how to minimize contractual disputes. Part II in December will examine the role business insurance plays in contract negotiation and dispute resolution.

We all want to get that purchase order. We live and die by that order, and it can make or break us in so many ways. It helps us keep our business running and helps us pay our bills, but it also may cost us more money and legal trouble in the long run than it was ever worth.

In the heat of that thrilling moment when a successful tender is made, or hands are shaken over a new venture, it can be easy to downplay the importance of the contractual terms that will govern your relationship from that moment forward. You want to start quickly so that the product can move out and the profits roll in. You have already agreed on the price and some basic terms, so the rest should just fall into place and you can start making money on the contract, right?

It may not be that easy. What you may not realize is that hiding in those seemingly unimportant and subsidiary details of your contract are clauses that can cost you a lot more than you bargained for, particularly if you don't realize they exist or know their consequences.

Worse yet, you may never have committed the terms of your agreement to paper. Without an actual document to refer to, you could be left with a warehouse full of inventory. Essentially, if the customer says your product failed to meet certain specifications, and you have nothing in writing that says otherwise, you could find yourself stuck in a he said/she said court battle that lasts for years.

Know the Terms

One example of potentially costly hidden terms that may catch you off guard are document destruction clauses.

These clauses, intended to protect confidential information, require contracting parties to assume responsibility for destroying documents and data that in any way relate to the contract or its performance.

Compliance with such clauses may be a pricey undertaking, as the compilation and management of documents and electronic data is complicated, time-consuming, and expensive, particularly when outside consultants are required to locate and destroy data and metadata (data about data).

If you don't know these clauses are there, or just ignore them, they may cost you even more in the long run if you fail to comply, leaving your company vulnerable to liability for breach of contract.

Not knowing that a contract contains a document destruction clause before signing it may also place your company in an impossible predicament if, for example, it is a member of the International Organization for Standardization (ISO) and is required by its certification to keep (and not destroy) all records.

Document destruction clauses are only one example of what may initially appear to be insignificant contractual terms that actually can leave your company financially and legally vulnerable.

Avoiding Conflict

So how do you avoid facing conflicts that may arise from contractual disputes, and so-called hidden terms, in your own contractual dealings?

Part of the answer is debunking the myth that these terms are hidden. You don't need a magic decoder to find these clauses; they are visible in the contract, but only to those who choose to read them. The problem is that parties too often underestimate the significance of properly drafting and understanding contracts.

Contractual disputes arise because parties fail to address or put down in writing the terms they want to see govern their relationship at the time contracts are formed. Contributing to the problem is the fact that parties also don't take the time to understand the meaning or significance of the words they are agreeing to be legally bound by.

To avoid or minimize contractual disputes before conflicts arise, you should:

1. Consult a lawyer. It may save you time and money in the long run to have an expert review the documents during the negotiation stage and to ensure the contract is a clear reflection of your interests. It can be more costly and unpredictable to wait until there is a conflict to hire a lawyer. You may already have found yourself stuck in an expensive and drawn-out legal battle.
2. Be the contract writer. It may be useful to take the home field advantage and draft the contract with the help of your lawyer. It goes without saying that the best person to draft a contract that reflects your intentions is you. Just be sure to use caution and seek legal advice because ambiguous terms may be interpreted against your interests if the matter ever finds its way to court.
3. Clarify potential misinterpretation. Understanding expectations is key to avoiding costly misunderstandings. Try to identify where there may be room for misinterpretation in required specifications or timelines for completion of work, and address those issues with the other side before making an offer. This will allow you to have the flexibility to change prices, specifications, and even your decision to submit an offer before it is too late.
4. Don't sign anything you haven't read or don't understand. Your signature is evidence of your awareness, understanding, and agreement with a contract's terms. Carefully read every clause to see if it represents your intentions and interests. Be sure that you are willing and able to perform the terms as stated. If not, the time to negotiate different terms is before signing.
5. Document all negotiations, and ensure the contract reflects the agreement. The contract should be a clear reflection of the intentions of the parties and the agreement made between them during their precontractual negotiations. It is important to keep a written record of all negotiations to refer to if conflicts arise, because it creates a lasting record that may prove what the parties actually intended, if it ever comes into question.
6. Make sure that you can comply with all contractual terms. Don't find yourself stuck in a position where you realize after signing a contract that you can't perform one or more of its terms. If you are not familiar with the contract, you may agree to terms that do not reflect the current state of your company. It may be worthwhile to involve parties familiar with the rights and obligations of various facets of your company in this review.
7. Use clear and concise language. It is necessary for the terms of your contract to be readable and unambiguous, as they will be turned to for guidance during the course of the work, as well as for direction if conflicts arise.
8. Know everyone's rights and responsibilities. After negotiating the best possible terms for your company and making sure the agreement reflects that bargain, familiarize yourself with your obligations and those of the other side. It is crucial to understand shared expectations in order to avoid breaching terms. It is also important to know your rights to be able to identify when a breach has occurred against your interests.
9. Know your official capacity. If you are entering into a contractual agreement with another party on behalf of your company in your capacity as a director or officer, be sure that you actually have the authority. Also, in order to avoid personally obligating yourself, be sure when you sign the contract in your authorized capacity as a corporate officer that it is clearly indicated that you are signing as an officer or director of the company on its behalf and not in your personal capacity.
10. Define clear consequences for failing to comply with terms. Despite making every effort to avoid conflicts, they may still happen. Having a strategy built into the contract for dealing with disagreements can save time and money and provides some measure of certainty when relationships break down.

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