NEWS // Smart Use of Contracts
Companies can use contracts in their favour by setting out payment terms that work to their advantage. The use of initial/up-front payments are one way of getting cash in the door at the outset of the contract. Similarly, giving customers a better deal if they make their payments quickly or pay by direct debit each month also helps to ensure that payments are made on time. Another way of reducing the risk of delayed or non-payment is to ensure the company’s contract includes the right to charge interest on overdue accounts and specifically excludes set-off and/or counterclaims so that the paying party is required to pay all sums due irrespective of any claim they may have against the company.
Businesses can also use their contracts to try to lock customers in for longer periods of time thus keeping a stream of income flowing into the business over an extended time. Making the “initial term” longer than a standard 12 month period can be useful and having the contract roll over each year unless terminated with a significant notice period also allows businesses to plan ahead. Of course, businesses also need to plan their exit when things go wrong. The termination provisions are important and companies should ensure that there are termination rights on the insolvency of the other party and may wish to include termination rights for persistent breaches (such as late payment).
Contracts are an essential aspect of risk management for any business – there will always be risks that cannot be avoided altogether but contracts can be used to allocate who will bear the risk. If the company sells goods, specific provisions such as a “retention of title” clause and “proceeds of sale” provision should be considered. Insurance requirements, indemnities and limitation of liability provisions are three other provisions that can be used to allocate risk. In terms of insurance, the parties to the contract need to decide who will be responsible for taking out insurance, the type of insurance that is required and the extent of the insurance (for example the minimum amount for any one claim under professional indemnity insurance). Properly drafted indemnities are also a useful tool as one party to the contract is effectively agreeing to be responsible for the other party’s loss in certain specified circumstances. Indemnities can be capped by the limitation of liability provisions or remain unlimited provided they are not too broadly drafted. And last but certainly not least, businesses need to ensure that the limitation of liability clause is set at an appropriate cap that will not be struck out by the courts for being too low and thus “unreasonable” but will also be a sum that is manageable for the business in terms of insurance cover.