Contracts: Terms, Time and Negotiation

With so many different types of business contracts and so much to understand about negotiations, disputes, breaches and litigation, it’s no wonder business owners and executives often are confused. There’s a plethora of educational articles online about contract negotiation and even some silly contract songs on YouTube, but the bottom line is that if business owners don’t invest ample time in reviewing contracts, they likely will get burned.

To save on legal fees, some business owners may pull contract forms off the Internet or create their own agreements, a strategy that is penny wise and pound foolish. “Business owners and executives drafting contracts is a big reason our litigation department exists,” says Daniel Hulsizer, an attorney with Phoenix-based Warner Angle Hallam Jackson & Formanek PLC. “The best advice is not to dabble; if the contract has potential adverse consequences if you breach it, have a professional draft it.” Business executives can help their attorneys in drafting contracts by participating, being available for questions and having a good understanding of what they consider to be the salient points of the contract and the terms important to them. He notes, “The attorney can only be as focused as the client, and cannot get in the client’s mind to decide the important business points.”

Hulsizer and his firm represent entrepreneurs and business owners in construction, real estate development, manufacturing, service and other industries. When drafting contracts, one common mistake he sees relates to a misunderstanding of the contract terms. “Probably the most common mistake is not fully fleshing out the terms of the agreement,” he says. “What one person understands or thinks certain words or provisions mean may not be the same as that the other party understands.” Noting the importance of having the significant words and terms adequately defined within the document, as well as well-thought-out provisions that are clear and to the point, he says, “Anything left to interpretation or guessing is only going to lead to litigation.”

“There are no shortcuts to reviewing contracts,” says Steven Lippman, an attorney with Burch & Cracchiolo, P.A., a Phoenix firm that provides business and corporate law services in a variety of areas, from forming and maintaining a business entity to overseeing the legal aspects of business transactions and effective representation if a matter reaches litigation, as well as representing a wide array of government agencies at all levels. “The business owner and the business owner’s counsel should read every word in contracts and make sure that the business owner understands the terms in the business’s contracts.” When a problem does arise, it’s often due to insufficient time spent negotiating terms and reviewing provisions. “It is not so much the use of legalese, but the failure to read all contract terms until only after a problem arises and not prior to signing the contract,” he says, observing that business owners get busy in their daily lives, but by not taking this time to carefully go over the contract they may end up signing one with terms contrary to their best interest.

Another common mistake Lippman sees is the failure of business owners to draft a buy-sell agreement to determine what happens in the event of an owner’s death or disability. “It is better for business owners to have a plan in place from when a business is initially formed as to how the business owners will value a business owner’s interest in the business in the event that one of the owners dies or becomes disabled or wants out of the business,” he says.

Business owners and executives also should carve out plenty of time for negotiations, which often involve a volley of back-and-forth. “Typically, the first draft of the contract and the first response from the other side have provisions that are completely unnecessary given the circumstance. Sometimes we call those provisions ‘throwaway provisions.’” Hulsizer says the initial draft is usually completed in a manner to more than fully protect that party. That causes the responding party to do the same and include similar provisions, as well as probably removing some of the first party’s over-the-top provisions. This may sound like a waste of time and money, but, Hulsizer explains, “This process allows both parties to really participate in negotiations — by getting the other side to cave on some point.” The true purpose of having these “throwaway provision” is to protect the provisions that really matter and typically aren’t negotiable.

In addition to being vigilant and wary when entering into a contract, Hulsizer says it’s OK to walk away if the risk is too great. “When faced with a contract, step back and really assess as many of the ‘what ifs’ as possible, and only at that point — if you can live with the consequences — proceed. Otherwise, you need to renegotiate the deal until you get to the point where you are as comfortable as possible or terminate negotiations and move on.”