Common business contract provisions and what they mean
Before signing a business contract, be sure you understand all it contains.
Many situations like buying a business, hiring employees, leasing commercial premises, and partnering with vendors call for business contracts with various provisions. You may think contract provisions come in "standard boilerplate," but they often aren't standard at all.
Many contract provisions can be negotiated or tailored. These provisions become important if there is a dispute.
While you should always consult your attorney when writing and negotiating business contracts, here are some common contract provisions and their significance.
Indemnification and warranty provisions
An indemnification provision states that the indemnifying party will cover the indemnified party's financial losses or damages if a third party asserts a claim. A warranty provision describes a commitment or an assurance that one party makes to the other.
Many parties will ask to remove warranties and indemnifications from contracts whenever possible, or will request a cap on the dollar liability. In some cases, a party might request the opposing party agree to similar, reciprocal obligations.
Contract term length
A well-written contract includes specific wording such as "The effective date is X" or "This agreement is effective as of X." Then it specifies an ending date such as "Through December 31, 2015" or "Terminates after a period of two years." Make sure contract start and end dates are clear.
Some contracts automatically renew at the end of the term, unless one party gives notice not to renew. Others require both sides to agree to renew.
If the relationship is crucial to your business, consider locking in renewal rights. If you cannot predict whether you will want to renew on the same terms, don't allow your company to be locked into an automatic renewal.
Set calendar reminders about contract expirations so you can take advantage of renewal rights and give yourself time to renegotiate.
A termination provision describes the circumstances in which a contract may be terminated early.
There are three main types of termination clauses:
- "For cause": One party may terminate early as a result of nonperformance by the other. Be sure the contract thoroughly defines what constitutes nonperformance.
- "Without cause": One party may choose to terminate for no reason other than wanting to end the contract.
- "Force majeure": Sometimes called "Act of God," this means the contract may be terminated or suspended if a natural disaster or something else beyond the control of the parties makes performance impossible.
A notice provision describes how each party must give notice to the other(s) of important events such as contract violation, termination, or renewal. Usually, notice must be given in writing, with proof of delivery.
It is becoming more common to allow email notice, although many lawyers advise against it because of issues with proof of delivery. If email notice is to be given to your company, specify a central company email address rather than an individual employee's that must be used.
Choice of law and forum
These provisions assert which state's, country's, or organization's laws will be used to govern parties' rights, as well as where and before whom the dispute will be settled. While this kind of provision may seem unimportant, keep in mind that you likely have more knowledge about local laws, and it might be less expensive to go to court near you. You might prefer to specify a neutral arbitrator to the time and expense of a court trial.
Contracts can protect your business, but they can also expose your business to unnecessary liability if you sign them without understanding their provisions. Read every contract carefully, and always consult with your legal counsel.