Cut out the jargon from contracts

Sometimes, it is difficult to spot jargon in contracts.  We are so used to seeing certain words and phrases that they become “part of the furniture” when drafting a contract.  Even if we don’t actively use an expression, it appears in sample wording that we copy and paste.  Unless we have lots of time for freehand drafting, the temptation is to let it remain undisturbed.

Examples are easy to find – eg without prejudice to the generality of the foregoing.  It could be said that this phrase doesn’t use any legal terms, but it has a distinctly lawyerly flavour.  If an expression of this kind is needed, IP Draughts prefers the slightly more straightforward without limiting the scope of clause X.

A similar example is notwithstanding the provisions of clause Y.  Early in his career, IP Draughts sometimes worked with a client who was Turkish, an engineer and a professor.  Although his English was very good, it became apparent from a discussion about a contract that this client thought notwithstanding meant, in effect, subject to.  In other words, the exact opposite of its actual meaning.  This incident made IP Draughts very aware of the risk of misunderstanding when using complex contractual language.

Some examples are very old-fashioned (English) language – eg using the verb determine instead of terminate. Some are sonorous phrases that seem designed to be read out in public, but have no place in a modern contract – eg to have and to hold  which still appears in some IP assignments.

Some are Latin or contain medieval French – eg mutatis mutandis or last will and testament. Thankfully the (originally Norman French) word testament is disappearing from template wills.  Some lawyers disagree, but IP Draughts thinks there is no excuse for using mutatis mutandis in an era where copying and pasting clauses from one part of a contract to another can be done so easily.

Some are the use of legal expressions out of context.  Referring to gross negligence in a contract invites an uncertain interpretation if the contract ever comes before a court.  See this example.  The court will be asked to apply a concept from one branch of the law (tort) and apply it to another branch of the law (contract).

Another example that has been mentioned recently in a blog article (here) is moral turpitude.  Apparently the expression appears in many US employment contracts.  If the employee is convicted of a crime of moral turpitude, the employer can terminate the contract.  This is another example of taking a phrase from one branch of the law (crime) and using it in another branch (employment).  The authors of this article recommend that the phrase be not used in contracts.

IP Draughts has on several occasions ticked a box on a US immigration card certifying that he has not been convicted of any crime of moral turpitude.  As far as he recalls, this phrase did not feature in his English criminal law lectures at university, so he is not sure what it means.  His working assumption has been that it refers to a sexual offence that begins with a b.  Much as he dislikes prissy word censorship, on reflection he would prefer not to attract the kind of internet attention that might come from using the word in a blog posting.  As for the use of the term moral turpitude in a landing card, if a qualified lawyer from a common law jurisdiction doesn’t know what the phrase means, how likely is it that the 99.99% of passengers who are not common lawyers will do so?

By all means use legal terms in contracts where it is necessary or useful to do so.  Often, though, legal expressions in contracts are a convenient shorthand rather than a strict necessity, and can and should be avoided in the interests of clarity and communicating with non-lawyers who may have to understand the contract.

 

When should a purchaser indemnify a supplier?

Supppliers of goods and services sometimes require their business customers to indemnify them against third party claims arising from the use of those goods and services.

IP Draughts has reviewed several contracts recently where strong indemnity terms have been included.  This seems to be a trend; IP Draughts doesn’t recall so many contracts having such strong terms in the past, but maybe his memory is failing.  Recent examples to cross IP Draughts’ desk have included the terms of business of two companies that provide IP strategy services, and the master services agreements of several CROs – Clinical Research Organisations – that provide services supporting the clinical development of pharmaceutical products.

Professional services

Whether any indemnity is included in a commercial contract is a matter of commercial policy, which may be informed by practice in the relevant industry sector.  For instance, the standard terms of engagement of Anderson Law LLP do not ask clients to indemnify the firm against third party claims arising from the use of any legal advice that the firm provides to the client.  Perhaps we are behind the times in using a very simple engagement letter.

By contrast, IP Draughts has recently advised a client that wanted to consider some tax advice that a top 4 accountancy firm had prepared for another organisation.  Before being given access to this advice, the client was required to sign a 6-page letter of indemnity that included terms such as the following:

You might think that requiring a 6-page indemnity before being given access to some basic tax advice is overkill; I couldn’t possibly comment.

Intellectual property licensing

IP Draughts has for many years included in licence agreements drafted for universities a provision under which the licensee indemnifies the university against claims by the licensee’s customers and others.  A rationale for such a provision is that the licensee is the one that is developing commercial products and that has a business relationship with its customers; it is inappropriate that a university, funded by the public purse, should be exposed to this type of commercial risk.

By contrast, many commercial software licence agreements include a provision in which the licensor indemnifies the licensee against claims from third parties alleging infringement of intellectual property.

Thus, there is not a single approach to indemnities in IP licensing transactions; it all depends on the circumstances of the parties, relevant industry practice, and the individual deal.

Technical and project management services

Coming back to the example of CRO agreements, a recent agreement included the following indemnity:

Customer shall defend, indemnify and hold harmless CRO, its Affiliates and their respective officers, directors, employees and agents (“CRO Group”) from and against all Losses arising from Claims arising from or related to …Customer’s or any other person’s use, consumption, sale, distribution or marketing of such Study Materials

This indemnity was qualified in the situation where the liability could be shown to have resulted from the CRO’s default.  The general principle, though, is that the CRO seeks an indemnity in respect of downstream use of the pharmaceutical product in respect of which the CRO provided services.

Similarly, in some terms that IP Draughts reviewed recently, a supplier of IP strategy services included the following provision:

The Client shall indemnify Supplier and each of its partners and associates (each of the foregoing an “Indemnified Person”) against any and all actions, claims, losses, liabilities, damages, costs, charges and expenses which it or they may suffer or incur in any jurisdiction or which may be made or taken against them relating to or arising out of or in connection with, directly or indirectly and to the extent lawful, the consulting services or any Indemnified Person’s role in connection therewith … save, in each case, to the extent that the same shall have resulted from a breach of the terms of the agreement by Supplier or from any Indemnified Person’s fraud, negligence or wilful default or a material breach by any such Indemnified Person of any law applying to such person.

In IP Draughts’ view, there is no overwhelming logic that says that service providers should be indemnified by their clients.  There is a point of view that professional indemnity insurance is there to deal with the remote risk of third parties suing a service provider, and therefore indemnities should not be needed (assuming the service provider is insured).

Provisions of this kind seek to allocate risk in a particular way.  Equally, IP Draughts has seen consultancy agreements prepared by investors on behalf of spin-out companies where the risk allocation is in the other direction, and the client company seeks an indemnity from the consultant in respect of liabilities arising from the use of the output of the consultant’s services.  IP Draughts has always thought such a provision to be harsh and inappropriate when dealing with individual academics, and that including such a provision reflects a particular mindset among some investors, based on a mathematical approach to risk analysis that is out of place when dealing with technology start-up companies.

As mentioned already, IP Draughts is seeing a trend towards service providers seeking strong indemnities from their clients and customers.   He wonders whether this trend is based on anything more than herd instinct. Over the years he has seen many other instances of changes in “standard” contract wording that appear to be based on general trends and little more. Examples include confidentiality obligations that require orally-disclosed information to be confirmed in writing, royalty terms in patent licence agreements that limit royalties on patent applications to application that are no more than X years old,  and audit clauses that limit the right of audit to a year or two after the payment was made.

Readers, are you aware of any compelling reason why indemnities by customers are becoming more prevalent in commercial contracts?  Or is IP Draughts’ perception based on a random blip in the contracts he has seen, and not part of a wider trend?  And do we need these provisions or are they another example of unnecessary complexity in contracts?

10 tips for successful contract negotiations

Some of the following points touch upon negotiation techniques, but the main thrust of this article is about the process for conducting successful negotiations.  Being professional and having an efficient process can be just as important, if not more important than some of the softer skills of negotiations.  Regrettably, the process is sometimes dismissed as a bureaucratic detail by the impatient negotiator.

1. If it doesn’t seem right, don’t do it. Over the years, IP Draughts has come to trust his instincts: if the deal (or the other party) smells rotten, it probably is.  If people are asking for things that don’t make sense, or if they bluster when asked for information about their organisation or ultimate owners, there is probably a hidden agenda.  Sometimes, the client’s commercial leader is so keen to make the deal happen – so close to the action – that they don’t realise that there is a strong fishy smell.
2. Keep it simple and conventional. Overly-creative deal structures are fraught with difficulties.  In IP Draughts’ experience, the parties who come up with them tend to believe that, through persistence and imagination they have found a win:win solution that addresses everyone’s stated concerns and removes a difficult roadblock.  Yet the structures often require much more extensive legal drafting than the commercial parties realise when they dream up the structure.  IP Draughts recalls a joint venture and licensing structure that Elan Pharmaceuticals presented to one of his clients about a decade ago.  His summary of it took up about 6 pages of text, and involved colour coding different parts of the deal structure (loan, licensing, share ownership, control, etc) to make it comprehensible to his commercial colleagues.  IP Draughts much prefers to see simple, straightforward deals that everyone understands, even if they don’t achieve all the subtle advantages (eg tax or liability) that are obtained by more complex arrangements.
3. Agree the main elements of the contract before drafting a written contract – work, price, etc.  But only the main elements – don’t get bogged down in details.  If you are using a term sheet, it should be no longer than 2-4 pages.  If it gets any longer, tear it up and start again, focussing only on key points.  If presented with a lengthy term sheet that has pages of IP-related definitions, push back and go for something much simpler, or go straight to drafting and negotiating the final agreement.
4. Involve your lawyers. Successful contracts are a team effort.  Choose high quality, user-friendly lawyers and involve them at an early stage.  They bring useful skills, such as clear and accurate recording of the commercial terms of the deal, and they may have experience that will assist you in the negotiations. They are well-placed to fill in any gaps that you may have left in your commercial discussions, and to point out any issues, eg that the proposed terms do not comply with company policy or are illegal.  You may also need other professionals in the team (eg scientists, accountants) and similar comments could be made about effective use of their skills.
5. Manage your lawyers. To get best value from your lawyers, and best value for money, you need to give them proper instructions and guidance.  Some lawyers, if left in a vacuum of instructions, will take every point, and push it to the nth degree until told to stop.  This may be counter-productive for the deal, and is almost certain to involve wasted expenditure.  It may be tempting to “leave it to the lawyers”, particularly if they have more experience than you of the type of transaction.  But that is no excuse for abdicating responsibility.  Ultimately, the client takes the commercial decisions about what goes in the contract, not the lawyer.  This is a good and valuable division of labour.  You will get far more value out of your lawyers if you manage them effectively.
6. Manage your colleagues. In some organisations, the commercial leader will seek input from colleagues in different departments, eg finance, sales, patents, tax.  This may result in a shopping list of terms that the organisation requires, which the commercial leader must propose in the negotiations.  That is fine as far as it goes, but someone – usually the commercial leader – will at some point need to bargain on some of the requested terms, and may need to make concessions.  There may be an internal negotiation on the terms, just as important as the external one with the other contracting party.  Separately, there may be an issue of the other contracting party seeking to “divide and rule” by having discussions with other people within the commercial leader’s organisation.  The commercial leader needs to ensure that the organisation speaks with one voice and can take rapid decisions.
7. Think a few steps ahead. Some commercial leaders don’t plan ahead; others are very good at planning.  If you want to hold a negotiation meeting on a particular date, think backwards to how long before the meeting a draft agreement must be prepared, and whose approval or input will be needed for the draft. If you want to involve a particular lawyer in a meeting, make sure they are  available before booking flights for yourself to attend the meeting.  If you need to have the agreement signed by a particular date, think about whether there needs to be a Board meeting to approve the agreement and how much notice is required to hold a Board meeting.  None if this is rocket science, but mistakes of this kind happen sufficiently often to make it necessary to make these obvious points.
8. Give yourself time and space to negotiate the final contract. Sometimes, a client’s commercial representative is so eager to get the deal done that they make concessions too early (assuming that the other party will reciprocate), or take other unwise decisions.  For example, he may have heard his opposite number agree with him that both parties want to get the deal done quickly and will work at full speed to make it happen.  But while, for the client, that means turning around drafts in 24 hours, for the other party it may mean turning around drafts in 2 weeks.  Turning a draft around in a very short space of time may be technically possible but can lead to mistakes or points being overlooked.  Nor is it necessary to decide things instantly, except perhaps in the last rounds of negotiations when the issues have narrowed and been rehearsed internally.  On a similar theme, don’t call people up, unannounced, and expect them to negotiate the contract terms (or accept this from the other party), at least not if lawyers are to be involved.  This approach to negotiating may be fine for a certain kind of spontaneous free spirit, but for busy lawyers it can be immensely irritating, particularly if they aren’t prepared for the discussion.
9. Try to understand the other party’s point of view. Try to work out what the other client wants from the negotiations.  Ask lots of questions.  Don’t assume they have the same objectives as your organisation.  One example is what working quickly means, as mentioned earlier. Another example that IP Draughts has encountered is  where the parties to a proposed collaboration have fundamental, and irreconcilable objectives in relation to IP ownership and use.  Because the parties didn’t spend time discussing these objectives, but moved straight to detailed drafting, these differences only became apparent after several rounds of drafting, with each party proposing subtle changes of language that did nothing to address the other’s fundamentally different point of view.
10. Don’t lose focus when you think the deal is done.  There is an understandable tendency, when the last negotiating point has been discussed, agreed, and struck from the list, for parties to relax and start making assumptions about the contract process.  IP Draughts was involved in a contract recently where the client assumed, based on the other party’s comments about urgency, that the other party would sign the agreement and return it within 24 hours.  The commercial leader was away for a few days and was not pleased when she returned to the office to find that the contract was no further forward, and indeed the other party had found a number of further drafting points that they wished to discuss.  If it is important, try to discuss and agree everything, down to when the final version will be prepared for signature, who will be signing it and when.  Similarly, if you don’t intend to involve your lawyers in the signing of the agreement, you need to manage the signing process with the same attention to detail that the lawyers would bring.  Basic points like signing in the right place, filling in the signer’s name and job title, dating the agreement, etc, can and do get overlooked.

Clients who agree fancy deal terms: when should you pour cold water?

An easy way of ‘getting a rise’ out of IP Draughts (one of many) is to comment in his hearing that lawyers like to make things complicated.  No they don’t, he is likely to reply, in a style that has been compared to Hillary Rodham Clinton answering a Republican question at a Congressional enquiry.  It is clients who make things complicated, with their innovative deal structures.  If only they stuck to ‘plain vanilla’ deal terms, the contract drafting would be so much easier, and the bill so much smaller.

This thought crossed IP Draughts’ mind more than once in recent weeks.  The deal that prompted it related to an early-stage technology company that was ‘boot-strapping’ with a modest loan and the goodwill of some individuals who were not being paid for their services.

These individuals were to receive some ‘sweat equity’ as compensation for their past efforts, and some further shares that were to be linked to the future performance of the company.  The conventional way of structuring the latter would be to issue share options whose exercise is conditional upon future performance.  In the UK, share options typically have tax advantages for the individuals who receive them, compared with a simple issue of shares.

For reasons that are entirely understandable, the parties to this transaction did not agree on share options.  Instead, they agreed that the individuals would receive shares now, which would be returnable to the company if performance targets were not met.  This is known as a share ‘buy-back’ arrangement.  The company’s chairman, who negotiated the basic deal structure, had experience of such an arrangement in previous transactions.

Until fairly recently, it was very difficult for a UK company to buy-back its own shares.  While it is now easier to do so, company law has required the parties to go through additional corporate procedures before such an arrangement is valid.  The tax treatment of such an arrangement has its own complexities that need to be considered.  Moreover, as the individual owns the shares, additional steps need to be taken to ensure that the company can recover them in situations where they are forfeited.

As if this did not add enough complexity to the transaction, there was also complexity in the performance targets and the precise number of shares to be forfeited if they were not met.  While it was fairly simple to describe the arrangement in high-level terms, the detailed drafting took several hours to get right to our satisfaction.  When we showed the drafting to colleagues they scratched their heads until we explained the deal to them.  At that point they said they thought the drafting worked and was clear and accurate, which was reassuring.  But we were left wondering whether it was right for parties to enter into arrangements so complex that the drafting cannot be immediately understood by an experienced corporate lawyer.

Naturally, we pointed this concern out to our clients and suggested a more simple structure.  However, the negotiations were too far advanced to make changes.  The clients’ response, once they had reviewed the detailed wording, was that both parties were “very pleased” with the drafting and that they recognised that the deal terms were “logically complex”.

In the end the deal (which had other elements to it, not mentioned here) required us to prepare 29 separate documents for signature.  Once signature had taken place, the client thanked us for our efforts and suggested that the deal structure would be “an interesting exam question for company secretaries and corporate lawyers”.

IP Draughts agrees that there is an exam question (or several) in this deal.  The question could focus on how to structure and document the transaction.  But a more interesting question would be what the role of the lawyer should be when faced with such a deal structure.

How far should the lawyer interfere in a structure that apparently experienced and sophisticated parties have agreed?  Should he make clear his reservations and then get on with making it happen?  Or should he devote a considerable amount of time into trying to persuade the parties to think again and come up with a simpler structure?

What do you think, dear reader?