10 points to look for in a draft agreement

once overYou are sent a draft agreement and asked to review it. No other instructions are given. You are expected to know what the client wants, without asking. In the case of technology-related agreements, perhaps they think you don’t need to know the subject-matter, or that you wouldn’t understand it.

Some people are willing to go along with this, and to advise as a ‘paper exercise’ without knowing anything about the subject-matter of the deal, what commercial discussions have already taken place, what are the client’s objectives and priorities, and so on.

IP Draughts is very reluctant to advise on this basis.

In IP Draughts’ experience, digging into the details and discussing the project with the client’s representative is usually essential, and is always efficient, if the agreement is to be well-drafted and protect the client’s interests. Persistence is sometimes required to coax useful instructions out of a client who may be wary of lawyers and legal documents, or who may simply not appreciate what information his legal adviser needs in order to conduct a useful review.

tenWhether or not such a discussion takes place, there are points that come up time and again in contracts drafted by others, which an experienced lawyer or commercial manager is likely to consider during a review of the draft. They are not necessarily the most important points to consider for an individual transaction, but if the terms proposed in these areas are not appropriate, they will probably need to be changed. IP Draughts’ list of the top ten follows. Some of these points may overlap, eg a term may be both odd and anti-competitive.

  1. Which contract law applies and is it a binding contract? Some readers may be surprised that this point is placed first in the list. After all, isn’t the law of the contract a deal point that gets traded during negotiations? Perhaps, but in order to give legal advice on a contract, it is first necessary to establish which law applies. If the adviser is not qualified to advise on that law, he should point this out to the client and suggest that he takes advice from a suitably-qualified lawyer, unless he already has an understanding with the client that these points are to be taken as read and that advice is being given on the assumption that the law of the contract is one that the adviser is familiar with. If the agreement does not appear to meet the requirements for a binding contract, eg because it is an ‘agreement to agree’, this should be pointed out to the client.
  2. Has the right type of template been used? Most contracts nowadays are prepared using a template. Very few agreements, in IP Draughts’ experience, are written entirely ‘freehand’. A useful point for the adviser to consider is whether an appropriate template has been used. Sometimes the drafter picks the wrong template, and it may speed negotiations to suggest a different template before the detailed wording is reviewed. Linked to this point is whether the template has been prepared to be suitable for a different system of laws. For example, US templates are sometimes seen, even when neither party to the proposed contract is based in the USA. While it may not be possible to change the template, recognising its origins may flag up to the adviser some general points that will need to be considered. For example, do terms such as “represents” and “indemnifies” have meaning under the law of the contract, particularly in civil code countries? Generally, liability-related clauses may require additional scrutiny to ensure that they are effective under the law of the contract.
  3. Do the terms seem to be generally well-drafted? An initial, high-level review of the draft agreement may reveal whether it seems to be generally well-drafted and how much work might be required to bring the drafting up to an acceptable standard. The client may wish to know the adviser’s views on this point before time is spent in extensive redrafting. There are many reasons why the drafting may be sub-standard. For example, the drafter may not be a specialist in contract drafting, and may have bolted poor-quality wording into a well-drafted template. Or the drafter may have used the text of a previous agreement, and have failed to modify it appropriately to reflect the different circumstances of the present transaction.
  4. Have the right entities been named as parties? Has the client considered which legal entities should be the parties to the contract? In the case of a group of companies, does the contracting party own the relevant IP and other assets that are needed for the contract, and does it have sufficient financial and other assets to meet any liabilities that it may incur under the contract, or should a parent company guarantee be sought? In too many cases, IP Draughts finds that the name of the party at the top of the agreement is different from the name above the signature blocks. Or that the name is incomplete, eg missing “Ltd” or “Inc”, the place of incorporation, or some other identifier. Who the parties are is of critical importance to any contract.
  5. Do the definitions make sense? Many of the contracts on which IP Draughts is asked to advise have detailed definitions of terms such as intellectual property, products, field, and so on. These definitions are key to interpreting the parties’ rights and obligations under the contract. Sometimes, definitions don’t make sense or are circular, eg because two definitions cross-refer to one another in a logic loop. In some cases, definitions are not used in the contract, or terms are capitalised but not defined. These points may be overlooked by a careless drafter, but they may be critical to the interpretation of the contract.
  6. Are the main terms of the contract – work, payment, etc – clear and sufficiently precise? If the client has not provided detailed instructions, any review of these terms may have to be limited to a general sense check.
  7. Are there ‘odd’ terms: very onerous, one-sided, unusual or missing? An experienced contract drafter will recognise terms that stick out like a sore thumb, and which a client will probably expect you to point out. For example, in a licence agreement, if the licensor is being asked to license improvements without any limits on the scope of the improvements or the duration of the obligation, this would be something that IP Draughts would wish to point out to a licensor client. missMissing terms, such as an absence of a limitation of liability clause, may be more difficult to spot on a quick review, but the reviewer will generally want to stand back from the draft and consider whether any obvious terms are missing.
  8. Are there anti-competitive terms? A legal review of a draft agreement will usually include spotting whether there are any obviously anti-competitive terms in the agreement, which might fall foul of competition (antitrust) laws. Common examples might include exclusivity provisions in a research collaboration agreement, or obligations on a licensee or distributor to charge a particular price for products, which would amount to price-fixing. There are many other examples of terms which should ring alarm bells in the mind of the legal adviser, when reviewing a draft agreement.
  9. Are the liability terms (warranties, indemnities, limits of liability) acceptable? There are several issues here, including (a) are there appropriate warranties or disclaimers for each party, (b) should the client be limiting liability for breach of contract, etc, (c) is it acceptable for the other party to limit liability, (d) are the liability clauses clear and legally effective, (e) are there indemnities, and do they make sense, and are they acceptable and have suitable conditions been included, eg as to conduct of claims, and (f) are the indemnities subject to the clauses that limit liability? Unfortunately, some liability terms, particularly indemnities, are drafted in a dense, legalistic manner, and their meaning is not always as clear as it should be.
  10. How can the agreement be terminated, and what happens after termination? In some contracts, this topic is far more important than its placing in this list would suggest. For example, a sponsor of research work may need to be able to stop the work on short notice if poor results are obtained from the research or if its priorities or budgets change. The consequences of any early termination, including financial consequences, should be spelt out in the contract. Don’t accept a clause that simply says that clauses that are meant to survive termination will survive. This is very lazy drafting. The clauses in question should be identified.

3 Comments

Filed under Commercial negotiation, Contract drafting

3 responses to “10 points to look for in a draft agreement

  1. Thanks Vance. Very interesting to read your comments about price-fixing under US antitrust law. Price fixing is specifically mentioned in Article 101 of the EU Treaty and (although I am not a specialist in competition law) I am not aware of any general relaxation of the Commission’s attitude to price fixing clauses. Anyway, the alarm bell should probably ring if a price fixing clause is included, even if the subsequent analysis concludes that it is acceptable under the US rule of reason.

    • vrkoven

      Just to clarify, horizontal price fixing–that is, between competitors–remains an automatic offense, and is frequently punished by jail (or is that still gaol on your side of the pond) terms.

  2. vrkoven

    This is an excellent, well considered essay. I would like to add two reflections on some of your points. First, in point 2, if, as the Manual of Style for Contract Drafting admonishes, you avoid (and the reviewer therefore excises) the fraught terms “represents” and “indemnifies” and replaces them with more neutral phrasing such as “states” (or my preference, “affirms”) and “will be liable,” then even in a legal system that doesn’t recognize the specific legal categories you should get the right result–and there you are, out of your difficulty at once. Second, in point 8, while the situation under EU or English law may be different, in the US vertical price restraints are no longer “per se” (i.e. automatically) unlawful, but are subject to “rule of reason” analysis; and in most cases, where there is active inter-brand competition, the restraint within a particular supplier’s silo will not be problematic.

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