Gary Cohn
Contractual Risks
Reading a contract before signing it may not be as enjoyable as reading a bedtime story but it will probably save you from future nightmares! It will help you identify the risks to your business (whether they are commercial, financial or operational) but most importantly give you an opportunity to mitigate them.
The Risks!
Sales contracts are often seen as simply a vehicle to increase business and turnover; however not all business is good business and whether it is good business depends on what is written in your contract.
Risks can take many forms: they can make your business more complex and more costly to operate (e.g. if the contract requires you to deviate from your standard product or services); they may affect your profit margin (e.g. if you have a people based business and a multi-year contract without indexation) or they may affect your revenue (e.g. if a multi-year contract can be terminated early for convenience at no cost to your customer).
So how do you handle the risks?
My handy tip is to look at 5 buckets of mitigation (like the 5 fingers of one hand):
- Negotiate with your customer! Your first option is to negotiate the risk away by speaking with your customer: talking through a problem clause will usually identify what is the real concern that the other party is trying to protect against and as a result the clause can often be refined or removed and replaced with another type of protection. For example, the need for a guarantor will usually disappear if the customer can demonstrate the solidity of its balance sheet to the provider.
- Negotiate with your subcontractor! If you are using a subcontractor, you may have the opportunity to flow down the obligations to them if it relates to the part of the contract they are delivering.
- Price the risk: your customer may want you to take on additional obligations (e.g. 24/7 monitoring of a service) but this may require you to employ additional staff- if you can identify and communicate the additional cost to the customer, they can then decide if they want to pay for it or in fact delete the requirement from the contract. The same applies to situations where customers ask for a higher insurance cover than you currently have.
- Absorb the risk: you may instead decide to absorb the cost of the additional obligation and not charge it to your customer; this may be justifiable from a commercial perspective (e.g. new important logo in your customer portfolio) but of course this will affect your margin.
- Operational mitigation: you may decide not to change a clause but instead to take additional measures e.g. safety measures in order for the risk not to materialise.
Of course, knowing that you are adequately insured for a particular risk will be a comfort to you, but insurance levels should not be used to replace sensible commercial negotiations.
As shown above, contract negotiations often need to involve different parties in an organisation (e.g. sales, legal, finance, operations etc) to bring a variety of perspectives.
But what we must not forget to consider is what may be MISSING from a contract as this will be usually key for your protection (e.g. caps on liability, non-poaching clause etc).
So do not keep the contract to yourself, share it with the right people in your organisation and your lawyer for their input (subject to any obligation of confidentiality of course!).
Happy reading!
Written by Caroline Leuder
Principal at My Inhouse Lawyer
One of our values (Growth) is, in many ways, all about cultivating a growth mindset. We are passionate about learning, improving and evolving. We learn from each other, use the best know-how tools in the market and constantly look for ways to simplify. Lawskool is our way of sharing with you. It isn’t intended to be legal advice, rather to enlighten you to make smart business decisions day to day with the benefit of some of our insight. We hope you enjoy the experience. There are some really good ideas and tips coming from some of the best inhouse lawyers. Easy to read and practical. If there’s something you’d like us to write about or some feedback you wish to share, feel free to drop us a note. Equally, if it’s legal advice you’re after, then just give us a call on 0207 939 3959.
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