“Step one! We can have lots of fun.”
- Danny Wood, NKOTB
Okay, so negotiating and developing contracts may seem tedious for business owners. However, being proactive about your contracting process—the first pillar of Preventive Law—can ensure that you are not assuming unnecessary liabilities in the business relationship, and that prospective business partners are in fact qualified to do business with you.
A Cautionary Tale
We were engaged by a national product manufacturer with numerous vendors and materials suppliers. Over the course of many years, contracting had been delegated to the point where at least twenty managers across several departments were responsible for reviewing and signing contracts. There was no centralized process for vetting potential business partners to make sure there were no red flags. There were also no standard “pro-company” form contracts in place, outside of basic Non-Disclosure Agreements. This meant the company had been simply reacting to one-sided contracts provided by business partners, many of which were in complex transactional settings.
Long story short, these managers were signing contracts with multiple business partners, across multiple business functions, without fully understanding who they were contracting with or the liabilities and obligations being undertaken. They did not understand, and therefore could not negotiate, many of the legalese pitfalls contained in the one-sided agreements. And they definitely did not like being pulled away from production schedules to tend to eye-glazing tasks like this.
Ultimately, this led to the following problems for the company:
Assuming onerous obligations such as implementing impossible or impractical compliance programs, aggressive payment and credit-worthiness requirements, unreasonable inspection and acceptance periods, and overbroad and one-sided indemnification language;
Vague and one-sided contract termination provisions, giving business partners broad rights to terminate contracts for any reason and at any time without consequence;
Overbroad and ambiguous service provisions, resulting in projects continuing for much longer than what was initially anticipated (or desired);
Limited recoveries in the event of a breach of contract, including the inability to recover attorney’s fees when litigation became necessary as well as being forced to litigate in unfavorable venues; and
Business partners with significant safety histories and lack of appropriate insurance being given access to company premises to perform maintenance and repairs on heavy industrial equipment.
On more than one occasion, key suppliers had availed themselves of their one-sided contract provisions, resulting in substantial business interruption to the company. It was clear the company’s executive management did not understand the benefits of being proactive with its contract negotiation and development practices, and continued to find themselves having to react to problems that could have been avoided up front.
We worked with the company to become proactive in their contracting processes, rather than reactive, by applying Preventive Law methodologies. We started by dramatically minimizing the number of managers and departments involved. The procurement department was a natural fit to centralize this function, and its new director was more than happy to have more control over the contracting process.
We then worked with the director to develop proposed pre-qualification standards given different business settings, including vendor and supplier relationships. For example, in a vendor/supplier setting, the prospective business partner would have to provide the following documentation before being considered:
Compliance with appropriate safety incident standards, including Experience Modification Rates and OSHA incidence rates;
References from previous customers regarding performance and safety;
Copies of drug/alcohol, jobsite safety and accountability, accident reporting, emergency response, and project inspection policies in place governing vendor/supplier projects and employees while on-site; and
Copies of certificates of insurance on multiple lines of coverage, with appropriate additional insured endorsements in place that adequately protected the company.
We also developed a set of “pro-company” contracts which could be tailored across multiple business functions and deployed proactively, instead of the old practice of simply responding to the one-sided vendor/supplier forms received. Needless to say, our forms were also one-sided . . . but this time in the company’s favor! Of course, the process we developed was flexible enough to accommodate having to react to the other side’s forms when necessary.
We accepted the reality that some business partners would demand their forms be used. That was okay, and we did not want to immediately blow up relationships over initial stubbornness. Instead, if this occurred, the director would simply request a copy of the contract in Word or other editable format. Reasonable business partners should expect that you will want a copy to redline if they demand use of their one-sided form. And if they refuse to do so, this should be seen as a red flag warranting consideration of other business partners (hint, if they are going to be this difficult in these initial negotiation stages, just imagine how problematic they’ll become if there are any issues with regard to contract performance!).
After developing the standard process and forms, we worked with the director to obtain buy-in from executive management. Given the contracting problems the company had faced over a number of years, it was an easy sell. As such, we began implementing the process to ensure an enterprise-wide understanding and appreciation of what we were doing, as well as why we were doing it (all part of the Preventive Law protocol!).
Our Preventive Law team continues to be involved, particularly when:
The director or other side has questions about whether certain pre-qualification requirements can be limited or waived under a given set of circumstances;
We have deployed our own form contract, but the other side responds with its own redlines requiring review and evaluation;
The other side demands its own one-sided form be utilized, requiring redlines on our side to balance things out; and
Assistance is needed to develop negotiation strategies in order to arrive at acceptable contract language after the parties have dug in their respective feet after several rounds of back-and-forth redlining.
Following implementation, the company noticed immediate results:
Managers are not burdened with contract review tasks and are able to focus energy on managing their teams and making good products.
There is an enterprise-wide consistency around the contracting process.
Contracts with business partners are more balanced between the parties, and often even skewed in favor of the company when the other side signs the pro-company form without negotiating it (hint, our client is not the only one in need of Preventive Law assistance!).
Since the contract language has been discussed and negotiated in advance, issues with vague, ambiguous and overbroad provisions are minimized.
The company is able to perform effective gate-keeping early on to determine which business partners should be considered long-term fits for sustainable success, and which ones should not.
The contracting process finally supports the making and selling of product, instead of hindering it.
Contract negotiation and development may not be the sexiest part of running a business, but it is one of the most important. Deploying Preventive Law strategies can help you anticipate and respond to risks with prospective business partners, leveling the playing field in the process. As always, we’re here to help.