Innovation@work: Understanding Contract Boilerplate
By: Kristin Mendoza
Many contract provisions, such as description of goods or services, pricing and duration of the contract will be tailored to the specific deal terms between two parties. These are important provisions and care should be taken to make sure that details in these provisions are both accurate and consistent with the parties’ intention.
Additional provisions, often referred to as “legal boilerplate” tend to get less attention by the parties because they assume that these are static, non-negotiable provisions. Experienced contract negotiators know that this is not the case and the legal boilerplate can contain terms that sometimes favor one party more than another. For this reason, it is important to read the full contract, identify any provisions that seem to disfavor your position and evaluate whether those provisions should be the subject of additional negotiation.
If a party fails to perform as required under a contract and the failure is significant, a breach of contract will occur and the non-breaching party may be entitled to damages. However, sometimes those failures can cause losses and damages to the non-breaching party or other third parties than are broader than the basic terms of the contract. For example, if you hire someone to come in and clean your office and while doing so, they spill chemicals on your computer server causing it to crash and lose data stored on it, then the damage caused to you and potentially your customers goes beyond the basic terms agreed to for cleaning the office. Similarly, if you hire a computer programmer to write a piece of software for your business and they incorporate source code that belongs to someone else, then the programmer has subjected you to infringement claims by the rightful owner of the code, the potential damages for which are broader than the underlying terms of the contract.
For these types of claims and instances, contracts will contain an indemnification provision. Generally speaking, indemnification is an obligation by the party providing indemnification (the “indemnitor”) to reimburse the other party to the contract (the “indemnitee”) for all claims, damages or losses incurred by the indemnitee as a result of the indemnitor’s actions. Indemnification provisions can be quite short in some contracts which generally means that the indemnitor is agreeing to a broad reimbursement obligation.
However, because the reimbursement obligation tends to include reimbursement for attorneys’ fees and other costs – which can be sky high – the indemnification should be carefully considered and negotiated. At a minimum, a company agreeing to be an indemnitor should require prompt notice of any claims from the indemnitee and should have the right to assume the defense of the matter so as to try to contain costs. Limitations on the types of actions giving rise to the indemnification obligation, a maximum dollar amount to be paid and other limiting terms can also be explored.
Litigation is expensive and should only be used as a last resort when it comes to contract disputes. A dispute resolution provision can be used to provide an alternative means of resolving disputes between two parties to a contract in an effort to avoid the high costs of litigation. Dispute resolution can take a variety of forms. It can be as simple as a requirement that senior management of both parties have a meeting to try to resolve any issues under the contract. If senior management on both sides might be too deeply entrenched in the dispute, a third party mediator can also be used. Agreeing to either a management meeting or third party mediation are generally non-binding, meaning that if the parties are still unable to agree on how to move forward, either party is still free to file a lawsuit.
Arbitration is another form of dispute resolution and is often included as a binding obligation in a contract. With arbitration, an independent third party is appointed as the arbitrator who sits in the role of judge. Both parties are able to present evidence and legal arguments to the arbitrator. The arbitrator will then issue a decision on how the dispute is to be resolved and both parties must abide by the arbitrator’s decision. If you are thinking that this sounds like a mini trial, you would be correct. However, the rules for conducting an arbitration are rather informal and much of the procedure is left to the arbitrator’s discretion.
In addition, unlike in litigation where a party is only paying for the costs of its own attorneys, a party in arbitration must also pay one-half of the arbitrator’s fee for handling the case. For this reason, arbitration can sometimes be as expensive as litigation and arbitration provisions should also be carefully considered and drafted to require the parties to use the arbitration procedure as expeditiously as possible.
A newer form of dispute resolution is occurring online. Companies like Modria offer a completely online form of dispute resolution that is ideal for high volume customer disputes with low value claims. The platform is in use on eBay® where the average claim value is $100 and it resolves most customer disputes in a quick and low-cost way. These platforms may become a mainstream form of resolving disputes between businesses and their customers in the future and may start appearing in more end user license agreements for software and apps.
An assignment provision can permit one party to a contract the right to transfer its obligations to an unknown third party. If you have decided to do business with another business based upon its reputation and skill, it can be an unwelcome surprise to find out that the contract is now being performed by someone else. It is not uncommon or unreasonable to require that consent be obtained prior to a proposed assignment of the contract.
Governing Law and Venue
As you read through the boilerplate provisions of many contracts, you are likely to come upon some language stating that the contract will be governed by the laws of a particular state. While the principles of contract interpretation do not vary widely among states, there can be meaningful differences from time to time, and it is useful to know which contracts principles are to be applied in the event of a dispute over how particular contract language is interpreted. The general convention is that the party who drafted the contract and is providing the goods and/or services will choose the state where it is headquartered, as the one whose laws will apply to contract interpretation and disputes. There is some justification to this convention as the provider of goods and services wants to ensure that all of its contracts with its customers are interpreted consistently.
Coupled with the choice of law for interpreting the contract can be a provision about where lawsuits must be filed. Similar to the choice of law, the party who drafted the contract will frequently choose the state where it is headquartered as the place for filing lawsuits. However, because courts in one state are perfectly capable of and have the power to apply the laws of another state in adjudicating a matter if a contract says that it must, the justification for selecting a home state for a lawsuit is merely a matter of convenience and cost. For parties that are transacting business from a considerable distance, this provision can disproportionately impact one party. For this reason, any language designating venue for lawsuits in a particular state should be carefully considered.
Should two parties enter into a contract and discover that an adjustment needs to be made with respect to the scope of services, the timeline for performance or pricing, then a provision that allows amendments in writing is helpful. However, it is important that any such provision require that amendments be in writing and signed by the parties so that both have a record of the changed terms. It is seldom a good idea to agree to deviate from what a contract requires over the telephone or through email as informal conversation can lead to less precise language than what the original contract required and can result in confusion over actual terms.
The provisions discussed above are just a sample of the many types of boilerplate provisions that can be included in standard contracts. Admittedly, deciphering the legalese can be a chore for most non-lawyers. However, at the end of the day, contracts are put in place to provide a framework and certainty for a business relationship. It is therefore worth the investment to understand the entire framework so as to avoid any misunderstanding or uncertainty after the relationship has begun.
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