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An Ounce of Prevention is Worth a Pound of Cure

Who wants to go through all of the stress, expense and hassle of documenting a business relationship in a clear, comprehensive contract? It is always easier and more expedient to have a verbal contract or an incomplete imprecise written contract. Until something goes wrong.

Posted: December 22, 2015

Without contracts in place with its long-time supplier and its sales representatives, a U.S. distributor of parts used in manufacturing plants lost both its exclusive right to distribute the product it had sold for many years, along with some of its sales people, to a large conglomerate that acquired their supplier.
By failing to attach terms and conditions to its quotation or effectively incorporate them in some other manner, a manufacturer of components used in underground mining equipment failed to limits its liability in a lawsuit that was filed against it. (Photo courtesy of Stefan Flöper)

That maxim is never truer than when it comes to making sure that you are appropriately documenting your commercial relationships. It is always easier and more expedient to have a verbal contract, or an incomplete imprecise written contract, than it is to go through the stress, expense and hassle of documenting your business relationships in clear, comprehensive contracts. And most of the time, the easy way works fine: you trust your business partner and they prove to be trustworthy . . . they view your verbal deal the same way you do. Or maybe you do not document the terms of your deal accurately, but your customer has a good memory and is honest, so all is fine. This kind of contract-free existence can go on for a long time to the satisfaction of everyone. But it is not a best practice.

Often (but not always, if you’re lucky) you will find yourself, at one time or another, learning the hard way about the value of having and using clear and complete commercial contracts in place. Over the years, I have been involved in many matters where a party wished in retrospect that they had properly documented a business relationship. I want share two examples of them in the hope of saving someone else the stress, cost and uncertainty that is the price of lax commercial contracting practices. The following facts have been altered so that the parties are not identifiable – but they have not been exaggerated.

ABC, a company based in North Carolina, is the U.S. distributor of a certain product used in many manufacturing plants. This distributor has built a profitable business on the basis of this product, which represents 90 percent of their sales. ABC has sold the product in the eastern part of the U.S. and Canada for 30 years through a network of sales representatives. ABC has a good, long-term relationship with the manufacturer of the product, a company in Switzerland that uses outside sales representatives and has operated without contracts with their sales representatives or with their long-time supplier.

About a year ago, the long-time supplier was acquired by a large conglomerate. At first everything was fine, but eventually it became clear that the conglomerate had decided to try to sell the product itself in ABC’s territory, direct and through sales representatives, cutting out ABC altogether. The long-time supplier abruptly changed prices and procedures, making it more expensive and cumbersome for ABC to get product, and tried to convince ABC’s sales representatives to join its team. These sales representatives were a loyal group, but they had families to feed and bills to pay, so when it became clear that ABC was losing its exclusive right to distribute the product it had sold for many years, some of them made secret deals with the long-time supplier out of fear that they would otherwise have no product to sell.

ABC can sue the long-time supplier, but the cost and time involved with litigation is enormous, and there is a great deal of uncertainty in any situation where there isn’t a clear breach of a written contract. If ABC had contracts in place with its long-time supplier and its sales representatives, this whole scenario could have been avoided. A typical supplier contract would spell out ABC’s territory and rights to sell products in that territory. Typical sales representative agreements would require the sales representatives to perform through the end of a stated term. The long-time supplier and the sales representatives would both have been required to give advance notice of termination. And if they failed to comply with the contracts, a straightforward breach of contract case would be available.

In another situation, DEF is a manufacturer that sold parts that were subject to being value-added by their customer and then incorporated into underground mining equipment. DEF knew that it should attach terms and conditions to its quotation and acknowledgement forms, but the sales people didn’t see the point of doing this (and anyway, it took extra time). So DEF decided that it would be good enough to attach the terms and conditions to its acknowledgement, but not to its quotation.

A dispute arose because a customer of DEF claimed that 12 of DEF’s parts were defective and filed a lawsuit against them. If DEF could have shown that they did attach terms and conditions to its quotation (or incorporated its terms and conditions by reference into the quotation and provided them separately to the customer), it would have had the upper hand in the litigation in terms of forum selection clause, and limitation on liability. In other words, even if DEF could have shown that the part didn’t meet specifications, they would have had a good argument that the damages were limited under the terms and conditions, and would have been able to require litigation in a court near home, among other helpful clauses. Instead, by failing to attach terms and conditions to its quotation (or to utilize an effective alternative method of incorporating them), DEF disadvantaged itself in the litigation.

In both cases, because the parties failed to use good contracting practices, they became involved in expensive and time-consuming litigation. The problems faced by the parties in these examples can happen to anyone – even very smart businesspeople, like those running this distributor and this manufacturer – who doesn’t follow good contracting protocols. It is advisable to have an experienced lawyer review your contracting practices before disaster strikes. The fact is that litigation generates far more revenue for lawyers than counseling clients on good contract practices, but it is still in your best interest to hire a lawyer to review your commercial practices and recommend the use of appropriate contracts to avoid litigation.

The moral of these stories is clear: an ounce of prevention – when it comes to following best practices with commercial contracts – is worth a pound of cure.

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