Wednesday, May 6, 2009

"R" is for "Remedy"

A “remedy” is a tool used when a contract goes bad. Statutory law provides a set of “default” remedies, but they are far from perfect. They are designed to “make a party whole,” to deliver “the benefit of the bargain.” In most cases that “benefit” is measured in cash, and the definition of “benefit” might seem unduly narrow. In addition, statutory remedies are retroactive, and do little to promote performance of the agreement.


A contracts with B for 100 widgets, at $1.00 each. B fails to deliver and, after a ten day search, A finds C, who provides the widgets for $1.20 each. Also, because of the delay, A incurs a $20 penalty to D. How much does B owe A?

The first claim would be for the extra $20 for the widgets. A expected to pay only $1.00 each, and bid the work based on that price. A incurred the extra cost only because of B (something B would dispute). A may also want to claim the cost of personnel time and lost productivity incurred in the search for a replacement supplier. In addition, A may feel B is liable for the performance penalty.

A’s claims for personnel time and the performance penalty are problematic. Courts tend to focus on the contract price, and are reluctant to add extra costs not contemplated in the agreement. The claim for personnel time could be dismissed as a cost of doing business, and as something A could have controlled, either by making sure B was ready and able to deliver on time, or by having a backup plan. The same logic could apply to the performance penalty, unless the contract between provided that B would pay for it, or the contract contained a “time is of the essence” clause, which would allow A to argue that B should bear the costs. If A recovers only $20, after spending much time and money on litigation, A is unlikely to feel it was “made whole.”

Statutory remedies are not the only ones available to commercial parties. They are free, within reason, to fashion their own remedies. The statutory remedies exist as a default to serve those parties who do not stop to fashion their own.

In the case of A and B, A might have built in a timetable, with penalties if B failed to deliver on time. In return, B might have insisted that A have a viable backup plan, or B could have bought insurance to cover its own exposure.

The more complex or sophisticated the transaction, the greater the likelihood that statutory remedies will be inadequate. All the more reason for parties to design their own. These should:
  • Encourage vendor to perform on time and within budget;
  • Provide that timely performance will result in full and prompt payment.
A carefully crafted set of remedies will help keep the project on track. Certain approaches have repeatedly demonstrated their value:
  • Tie payment to performance, not merely to the passage of time. Pay when X is completed, not on the 30th day after the contract is signed.
  • Define “success” clearly and in terms that can be objectively measured.
  • If the project is large or complex, break it into separate phases, permitting customer to call off further work after each phase.
Other Tools:
  • Mutually agreed acceptance testing standards and procedures, combined with an opportunity for vendor to correct defects. Customer also may want the right to bring in a third party, at vendor’s expense, if vendor is unable to promptly solve the problem.
  • Warranty coverage, beginning on with first productive use, rather than delivery or installation.
Specifications, specifications, specifications.
  • What will the product do?
  • How will performance be measured?
  • When will it be ready?
  • What will it cost?
  • Who will do the work?
Careful planning can eliminate unreasonable expectations and reduce the chance of unpleasant surprises. As Poor Richard taught us: “An ounce of prevention is worth a pound of cure.”

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