How having the right contract provisions can safeguard you in litigation Featured

8:00pm EDT May 26, 2010

No matter how much you trust the other party, you should never sign a contract without reading it and having an adviser review it. The days of doing business with a handshake are over, and the provisions contained in your contract can make all the difference should litigation arise out of that contract, says Courtney Hill, a senior attorney at Theodora Oringher Miller & Richman PC.

“You really need to make sure that what you and the other party are agreeing to is in writing,” says Hill. “Should you find yourself in a situation where the other party isn’t complying with the agreement, and it’s not in writing, you’re going to have a long road to hoe and a lot less protection than if everything is in writing.”

Smart Business learned more from Hill about what kinds of provisions every contract should include and how using them correctly can protect you in case of litigation.

What provisions should a business owner include in contracts?

Indemnity clauses are very important. With an indemnity clause, one or both parties agree to compensate the other for damages arising from the contract. If you are a business owner and you are sued or have to pay damages because of a contract between you and Party X, you want to make sure that X is the party that is actually liable for the liability or loss arising out of that contract. An indemnity clause ensures this. And, of course, you would want to try to make that indemnity clause as broad as possible. It is also wise to back up the indemnity clause with an insurance requirement so that if you have to exercise the indemnity clause, you can be sure there is money to support the payment of any damages, loss or liability.

On the other hand, if you are Party X, you need to know what you are agreeing to indemnify — you want to make sure that it is a narrowly tailored indemnity clause so you’re only on the hook for loss, liability, or damages you actually caused.

An indemnity clause can be a very effective tool and it is important for both parties to pay attention to what they are agreeing to do.

What other provisions should be addressed in a contract?

An arbitration clause may be important, depending on whether you prefer to arbitrate any dispute that may arise out of the agreement. Arbitration can be very beneficial because it’s quick and, therefore, less costly than long, drawn-out litigation. However, make sure you flesh out the arbitration clause by including the venue for arbitration, what rules will apply to the arbitration, the number of arbitrators that are going to be chosen, how the arbitrator should be selected, any discovery that the parties want to have and any appeal rights that you want to retain.

Also, attorneys’ fees and cost provisions are very important to include. In litigation or arbitration in California, the prevailing party doesn’t automatically recover attorneys’ fees; in most cases, the only way you can recover attorneys’ fees is by contract, so including an attorneys’ fees provision is a good idea.

You can also designate the venue for litigation, which can be a very effective tool by making litigation more difficult. If one party is in California and the other is in New York, you can state that if the party in California is going to sue, it has to go to New York to do so, and if the party in New York is going to sue, it has to come to California to sue. That makes it more difficult and more expensive for the party filing the lawsuit, so it will think twice about doing it.

How important is it to include a termination provision?

Termination provisions are important as they define the abilities of the contract parties to terminate the contract. Normally, there are three termination types found in contracts: termination without cause; termination with cause; and immediate termination for cause. However, some countries have laws that prevent you from terminating the contract, even if you have cause, so pay attention to the laws where the other party is located. You can designate the law you want to apply to the contract, so it may be important to designate California law.

Can business owners write and review contracts on their own, or should they engage an adviser?

The parties can prepare a letter of intent document setting forth the business terms. They should certainly set out what they envision the terms of the contract to include. However, it should then be handed over to a lawyer to draft the actual agreement that is going to be executed.

Many business owners just sign a contract without reading it or really understanding it, especially if they trust the party on the other side. Then they find themselves in a bad situation because they used a form contract, the relationship falls apart and they’re in litigation with a signed provision that’s going to be used against them.

Especially with newer businesses, owners may not want to incur what they view as unnecessary costs of retaining an adviser. It may cost a little more up front to have a good agreement in writing that is reviewed by an appropriate party, but it’s going to be less costly in the long run should litigation arise.

If you have an agreement that has good contract provisions, that litigation is going to be a lot easier and quicker to resolve, and a lot less costly.

Courtney Hill is a senior attorney at Theodora Oringher Miller & Richman PC. Reach her at (310) 788-3575 or chill@tocounsel.com.