Are Your Contracts Litigation Waiting to Happen?

The law school definition of a “contract" is simple: offer, acceptance and consideration. I offer you $100 for a “car.” You pocket the money and hand over a set of keys. We have formed and performed a contract and all is right in the world. Unless I expected the keys to a Ferrari and received keys to a rusty, unreliable East German Trabant. You might say "My mistake, let me get the correct keys.” More realistically, you might respond “You want a Ferrari for $100? Here, take your money back; I can't afford such a deal.” If I insist that you took my money and are now required to deliver a Testarossa, you might respond: “So sue me.”

Our lawyers will begin shopping for vacation homes, while you and I start taking money from productive programs and setting aside time for depositions, discovery and hearings. Consider the vast array of issues our learned counsel may dispute:

• Was there a "meeting of the minds"?

• Was buyer simply mistaken or confused?

• Did seller mislead buyer?

• Would it be against public policy to enforce the deal as buyer understands it?

• Was buyer hoping to take advantage of a seller he thought to be unsophisticated (i.e. one who didn't know the true value of that “strange looking” foreign car)?

Of course, the fireworks may be short - circuited by an impolitic question from the judge: ''What does the contract say?''

You may have noticed that I have made no mention of a written contract. Therefore the case is merely my word against yours. Did you really offer a Ferrari for $100? Did I hand over my money without at least specifying what make and model vehicle I expected in return? This uncertainty explains the old legal proverb that “oral contracts are not worth the paper they are written upon.” Without a document setting forth the agreement, and without any witnesses regarding whether you offered me a Ferrari, the judge has limited options. She can tell me to accept the Trabant, or a similarly priced vehicle, or take my money back.

This example, although a bit extreme, illustrates the value of a written agreement. That document provides an independent source of information regarding the nature, extent and terms of the agreement. It provides a reference a third party – typically a judge – may consult when asked to enforce the agreement. As such, it forces the parties to focus on the details of the transaction. Winston Churchill once quipped that “there's nothing quite like being fired upon to focus one's attention." The business equivalent is being asked to sign a contract, to say, in effect, “I believe this document, this deal, represents a good deal for MY company." By signing, one also implies that "I have done my homework on this transaction and we are adequately protected."

Yet, even if our agreement for “a car,” had been put in writing, dispute would not have been precluded. We failed to define the “car,” to specify make, model, year, color, engine, interior, etc. We would have given our attorneys lots to argue over. Despite the risks that can result from a poorly prepared contract, drafting is often an afterthought. “We'll let the attorneys fill in the details later” may get the project started quickly, but it also creates a variety of potential exposures, such as:

• Lost savings opportunities;

• Late or flawed performance;

• Expensive, time consuming disputes over what is, or is not, to be delivered;

• Delivery of unsatisfactory services or final product.

A sound contract will tell a story, without any unanswered questions. It will identify who will do what, when, how, why, and for how much. It will also provide a “safety net” of remedies to protect the parties in the event something goes wrong. A contract that addresses both obvious and reasonably foreseeable contingencies is one with reasonable chances of success. In contrast, a contract filled with undefined terms and unanswered questions is a litigation waiting to happen.

Working With Your Attorney, Part One

Once upon a time I was in-house counsel and had a close working relationship with Jim, Contracts Manager in the IT unit. One day Jim sent me a request for a contract. “Vendor is ABC, price is $2.5 million, split 40/60. Product is a custom program called Killer App.” I drew up the appropriate contract. We would pay $2.5 million, with 40% up front (not always a wise thing to do) and 60% upon final delivery (and passing acceptance tests). All of the work product would belong to us, including all intellectual property rights. My CIO signed; ABC’s lawyers reviewed it and their CEO signed. I filed the executed agreement and went to the next project.

A few days later Jim called and said “We need to change the ABC agreement.”

“Why?” I asked. “I thought they had signed off.”

Jim explained that there had been a mix-up. Our company wanted to front the money to develop ABC’s new flagship product. In return, we would receive a no-charge license and free support ad infinitum. “They want a new agreement that says they own the work product,” Jim said.

I was in a bit of a quandary. ABC’s lawyers had blessed the contract. More, I had been a business lawyer too long to simply give away an asset. I replied “What’s it worth to them?”

Jim laughed and said he’d follow up with management. Later that day our CIO called. He complimented my mercenary instincts, but directed me to make the necessary changes. I did, but I also “extorted” a coffee mug from ABC’s sales rep. I wanted something to commemorate the occasion.

I like this story because it illustrates several things, including the need to involve lawyers in the transaction process. Had I known more about the deal, I could have got the contract right the first time. I would not have an amusing story, but the companies would have saved time and money.

Jim and I took a cue from this transaction and revised our procedures. We created a standard contract request template requiring internal clients to fully describe the transaction. When in doubt, we asked for more information. The CIO also endorsed a requirement that Jim sit in on all negotiations over a certain dollar amount. I also sat in on these from time to time, with the informed consent of the vendor.

An attorney can only draft from what he/she knows. If that knowledge is flawed or incomplete, the contract will be flawed, resulting in unnecessary delay. In addition, regarding the lawyer as merely a scribe, to be involved only at the last minute, can deprive the parties of the lawyer’s experience and insight. No one will be pleased if the lawyer is asked to provide a contract “tomorrow,” and he/she replies “But you have overlooked this, and this, and this and this.”

"L" Is For "Leverage"

“Make him an offer he can’t refuse,” is a brilliant example of leverage in negotiations, although it has two small flaws:

• Violence is generally bad for business; and, on the other hand,

• Most businesses are not willing to pay any price for a deal.

Rather, Vendor wants to make the most money possible, and Customer wants to spend the least. The final deal will reflect the skill, tenacity and leverage possessed by each party. In addition, successful performance of a contract may be directly influenced by the leverage retained by Customer.

During negotiations, leverage is directly proportionate to Customer’s options. The more options – the easier it is to say “No” to any one Vendor – the more leverage Customer has. I can recall when, many years ago, “negotiating” with IBM for data services meant haggling over volume discounts and service hours. There were competitors in the market, but none of them rivaled IBM’s reputation for service and cutting edge technology. With little competition, IBM had no incentive to change its standard terms and conditions.

Today there is vigorous competition in most sections of the IT market. Few companies dominate their fields, giving Customers room to negotiate. But it is all too easy for Customer to surrender that advantage to Vendor. Once Customer has said “You’ve got the deal,” Vendor has no incentive to make concessions. Better to award the contract only after the competing vendors have made their best offer on price and terms and standards and service levels and warranties, etc. Also, consider requiring vendors to comment on your standard contract terms as part of RFP. Vendors who request unreasonable changes, or an unreasonable number of changes, may be weeded out early in the process. Time spent on needless negotiation will only delay project completion and a difficult negotiation may portend a difficult relationship.

For a Customer, at least, leverage should not end when the contract is signed. If the agreement calls for Customer to pay in full up front, or at specified interval (e.g. at 30, 60 and 90 days), Customer will lose a major lever – withholding payment if work is late or not up to the agreed standards. This approach requires care if it is to be successful. Timetables and standards must be reasonable and mutually agreed. Standards must be subject to objective measurement. That was Customer will be protected against a delay of “a few days,” that turns into a few weeks, while Vendor is protected against a Customer’s decision that they don’t like (or can’t afford) the product.

Legend has it Archimedes said “Give me a lever and I will move the world.” The business lawyer might well say “Give me more leverage and I’ll get you a better deal.”

The Wordsmith Is In, Part One

Lawyers have a reputation for being poor writers. We are regarded as wordy, repetitive, wordy, given to overly complex sentences and wordy.

Some complexity in legal drafting cannot be avoided. After all, many contracts record complicated transactions.

But that does not mean lawyers should stop trying to draft contracts that are as clear and brief as possible

To that end we offer some suggestions from George Orwell. His essay, "Politics and the English Language," was first published in May, 1945.

A scrupulous writer, in every sentence that he writes, will ask himself at least four questions, thus:

1. What am I trying to say?

2. What words will express it?

3. What image or idiom will make it clearer?

4. Is this image fresh enough to have an effect?

And he will probably ask himself two more:

1. Could I put it more shortly?

2. Have I said anything that is avoidably ugly?

AND.....

I think the following rules will cover most cases:

1. Never use a metaphor, simile, or other figure of speech which you are used to seeing in print.

2. Never us a long word where a short one will do.

3. If it is possible to cut a word out, always cut it out.

4. Never use the passive where you can use the active.

5. Never use a foreign phrase, a scientific word, or a jargon word if you can think of an everyday English equivalent.

6. Break any of these rules sooner than say anything outright barbarous.

These rules sound elementary, and so they are, but they demand a deep change of attitude in anyone who has grown used to writing in the style now fashionable.