Small Business Newsletter
Ten Things To Consider Before Signing A Vendor Contract
When small businesses contract with vendors of goods and services, most such contractual relationships go well. However, it is important to know that many vendor contracts have language that could prove very harmful to the small business, in the event a problem ever did arise between the parties. Accordingly, it is important that small businesses, before contracting with a vendor, take time to review the terms of the contract and assess the risks those terms may present.
Many problems can be avoided by keeping the following ten things in mind when considering a contract with a vendor.
(1) Do your homework: perform some (easy) research on the vendor.
Knowledge is power, and it can only help to learn about the vendor you are dealing with. Other small businesses are a great source of knowledge about vendors. Talk to others who have previously done business with the vendor. Ask if the vendor was reasonable to negotiate with, and if the vendor was positive or negative to deal with during the course of the contractual relationship.
You can also learn much general information about a vendor by performing a general internet search at sites like www.google.com, and by entering as keywords the vendor’s name and related terms of interest (e.g. “XYZ Corporation” and “pricing”). If you have heard the vendor has had legal troubles with its customers or creditors, you may wish to check court records to verify the legal cases (if any) exist. You may check Wisconsin court records free of charge at the following web address:
(2) Do not assume financial terms, or other material terms, are not negotiable.
It is common for those not versed in negotiations to accept vendors’ initial offers, assuming such offers are non-negotiable, “take it or leave it” propositions. However, most vendors are quite flexible with pricing and other material terms. This is particularly the case if the vendor knows you are well-informed about its range of prices offered, and knows you are well-connected with its other customers and potential customers.
(3) Put all significant agreements in writing.
This should go without saying, but all too frequently parties agree to important contractual terms and fail to put those terms in writing. Even agreements between “friendly” parties should be put in writing. At the very least, this should be done to keep accurate records of important obligations. Further, it is important the parties have a written legal document because it is an unfortunate truth that things can and have gone wrong between parties who are on friendly terms initially.
Thus, it is important that any important contract be in writing. The next issue for consideration is who writes it. Usually, it is the vendor, who will present you with its standard/form contract. When this occurs, there are several considerations to keep in mind before you sign the contract presented to you.
(4) Don’t feel you have to accept a vendor’s “standard” contract as is: you can (and often must) request changes to it.
Many persons presented with a standard contract from a vendor will instinctively sign the contract, without reading the fine print. This is particularly true in cases where the general financial terms are agreeable, and the small business feels confident there will be no troubles or legalities to worry about. There may well be nothing to worry about. However, there are many one-sided provisions that are commonly found in vendors’ standard contracts, and there is no reason to give vendors needless advantages. Remember that “standard” contracts are drafted with the drafting parties’ best interests in mind.
Be skeptical when you review a contract that you or your attorney didn’t draft. Let the vendor know you wish to take time to carefully read the contract, and that you won’t be shy about requesting changes to the contract if need be. A vendor who bargains in good faith should be open to revising its contract. The following points describe the type of language you should be on the lookout for, and that you may need to revise.
(5) Watch out for unfavorable provisions tailored to the vendor’s “choice.”
Often a vendor’s standard contract will have a “choice of law” section that, in the event there is a legal dispute, chooses the body of law that will apply to the contract’s enforcement. Often, the “chosen” law will be the law of the state in which the vendor’s business headquarters is located. If this is not your state, please note that agreeing to this “choice” would likely place you at a disadvantage if there were disputes later. In the case where an out-of-state law is chosen, most local attorneys who could represent you would not be familiar with the law chosen by the vendor, while the vendor’s corporate attorneys would be well-versed with that law. Please note that the vendor likely “chooses” laws because they are favorable to the vendor.
Similarly, a vendor’s standard contract often has a “choice of forum” provision, in which the vendor chooses a favorable court or other legal setting that contractual disputes must be taken to. For example, the vendor may chose that disputes can only be litigated in the state court where the vendor’s headquarters are located. It is also common for vendors—particularly large ones—to require that disputes be subject to binding arbitration using an arbitrator of the vendor’s choice. You should not sign away your constitutional right to take any disputes you have to court.
If you see a “choice of law” or “choice of forum” provision in a vendor’s standard contract, it is usually in your best interest to ask that the clause is stricken in its entirety. In the event there is a legal dispute later, it is better to let default jurisdictional laws—as opposed to the vendor’s “choice”—define which laws and forum will be involved with said dispute.
(6) If a provision seems like a good idea but is one-sided, make it mutual.
Vendors’ standard contracts often provide for terms and ideas that you may wish to take advantage of, but are only provided for the vendor’s benefit. Such provisions may include the following:
- Attorneys fees are provided to the vendor if it wins a legal dispute with you, but not vice versa. If you see such a provision, you should revise the contract to make the provision mutual, such that you would be awarded attorneys fees if you prevailed in a legal proceeding. If the vendor refuses this reasonable request to make the provision mutual, you should consider removing the provision altogether.
- Legal deadlines may be shortened for you to pursue a legal action, but not vice versa. Typically, a contractual party would have six (6) years to bring a legal claim in Wisconsin from the time the other party breached (violated) the contract. Vendors’ contracts often limit the time you can bring a legal action to a shorter time period (for example, two years). You may decide it is a good (and fair) idea for both parties to limit their deadline to that shorter timeframe, and may request the provision be made mutual. If the vendor refuses, you should remove the provision altogether, so both parties are subject to whatever deadlines are set by law.
- Penalty monies for breach may be provided to the vendor if you breach the contract, but not vice versa. You may feel it is fair that both parties agree to potential penalties, so both parties have financial incentive not to breach the contract. However, if the vendor will not agree to subject itself (as you would be) to potential penalties for breach, you should remove the provision.
- Indemnification (waiver of legal liability) may be granted to the vendor for any mistake that you make. While this is only fair, it is also only fair to make such indemnification mutual, so the vendor agrees you will not be legally responsible for any mistakes that the vendor makes.
The foregoing provisions in a contract are often good ideas, assuming they are apply to both parties. If you are ever presented with one-sided versions of the provisions above, you should either revise the provisions to make them mutual, or strike the provisions altogether.
(7) Review for vague terms, and revise them.
Far too frequently, contracts are sloppily drafted, and important terms are not described clearly. For example, a contract’s terms regarding payment may not specify important details, such as when payments are due, in what form they should be made, what sort of payment issue constitutes a breach, etc. If a contract provision is important, make sure it describes the most important details, and contemplates all of the important scenarios, the parties can think of.
(8) Make sure the contract provides disincentives for the vendor to breach it.
It is important for a contract to identify what breaches of the contract would be important or “material.” Many contracts do define what breaches are material, and usually cite breaches of important payment or performance obligations. However, too many contracts stop there: they identify what actions constitute a breach, but do not describe what the consequences of breach would be.
A contract should provide potential penalties to discourage the parties from breaching it. For example, a contract could provide that, in the event one party makes repeated underpayments, the other party would be entitled to terminate the contract immediately, and recover double the amounts owed plus any attorneys fees and court costs expended to recover the amounts. When such penalties are laid out in advance, it discourages the parties from breaching the contract, because they already have a clear idea of the consequences.
(9) Pay close attention to contract termination provisions.
Before you sign the contract, it is important to be fully aware of provisions regarding the ending or cancellation of the contract. Make sure you understand, and are comfortable with, the following issues regarding contract termination:
- When the contract term ends.
- Whether the contract automatically renews.
- What you would need to do to terminate the contract. For example, to end the contract, you may be required to provide the vendor with written notice 90 days before the contract anniversary date. Review what the terms regarding termination require, make sure it is not difficult or harmful to end the contract under circumstances in which you would want it to end.
- Whether there are any penalties to you for terminating the contract. This is especially important to review, as occasionally contracts will have extremely severe penalties for contract termination (e.g. payment of a large monetary penalty) that do not match the circumstances (e.g. penalty payment required even if you terminate the contract for vendor’s non-performance).
(10) Consult with an attorney (at least for important contracts).
Having legal representation is advisable for any contract, although some small businesses are understandably concerned about the potential time and costs involved with legal representation. Further, if a small business takes into account the considerations above, it can reduce its risks significantly. Moreover, if a contract involves minor payments and/or obligations, there may not be as much financial risk in avoiding legal review. You may believe, correctly, that if such a contract is breached and the worst happens, life would comfortably go on.
However, if you are contemplating a contract that is important, and that you cannot afford to have any difficulties with, it is advisable to obtain legal counsel to draft and/or review the contract’s terms. While legal representation comes with a cost, the cost of legal assistance with drafting and/or reviewing a contract is far less than the costs of legal representation in the event there is litigation later. Contracting is an area where an ounce of prevention equates to a pound of cure, as the saying goes. If you are considering an important contract, an attorney can help to make sure you are in the best position possible, before, during, and after the contractual relationship.