INTRODUCTION
Commercial contracts are legally binding agreements regulating business relations between individuals or businesses, where the terms of an agreement are drafted in a transparent way and agreed upon by both parties at the same time. A well-drafted commercial contract is needed for the rapidly growing commercial sector in India. A commercial contract should be drafted and structured without any loopholes. A commercial contract must be drafted without any ambiguities to facilitate smooth and hassle-free execution of the contract. Every contract has two sets of clauses, one is General Clause and the other is a specific clause. General clauses are present in all contracts as they form a basic structure of the whole contract, they are also known as boilerplate clauses. Specific Clauses on the other side are some tailor-made clauses, drafted according to the nature of the contract. They can vary from contract to contract to fit the best interest of the parties.
In this article, we explore the basic rules and tips for commercial contract drafting. Read on!
Essential Clauses Of Commercial Contract Drafting
Confidentiality is a very important aspect of any commercial transaction. There may be a lot of information exchanged between two parties in the course of a commercial transaction, which is not supposed to be made public information. Similarly, there may be many terms of the transaction itself, which are not supposed to be made public. Therefore, it becomes critical to ensure that the information exchanged remains confidential between the parties, at least until the party to whom the information belongs consents to its disclosure.
- FORCE MAJEURE
The phrase force majeure literally translates as a “greater force.” The force majeure clause specifies situations that are outside the control of the parties and are unforeseeable, and under which the parties cannot be compelled to perform under the contract. This clause should always be included in commercial contracts, as it can protect parties from circumstances that arise that are beyond anyone’s control. Covid-19 is the most recent and important example of uncontrollable circumstances by which almost every person in the world affects. In such situations, the clause helps parties to continue or vacate their legal relationships even after not performing the terms of the contract.
- INDEMNIFICATION
Indemnification, also referred to as indemnity, is an undertaking by one party (the indemnifying party) to compensate the other party (the indemnified party) for certain costs and expenses, typically stemming from third-party claims. Indemnification can also cover direct claims, which are claims or causes of action that one contracting party has against the other. This is an extremely important clause without which a contract is effectively incomplete. This is because the Indemnification clauses allow a contracting party to customize the amount of risk it is willing to undertake in each transaction and with every counterparty and at the same time protect itself from damages and lawsuits that are more efficiently borne by the counterparty
- TERMINATION
In business, things are not always planned, and thus the inclusion of a termination clause in commercial contracts is very important for such unplanned things and situations. Where a specific term is mentioned in the contract, the contract terminates upon expiry or even before the expiry as agreed by the terms. This section of the contract must clearly lay out the circumstances under which one or both parties may terminate the contract, irrespective of the time left under the agreement. For example:
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Termination on expiry of the term
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Termination at will or convenience
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Termination due to change of control
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Termination due to death or disability
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Termination due to insolvency
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Termination for cause
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Force majeure
- NON-SOLICITATION
Non-solicitation clauses are legally binding contract provisions that restrict the solicitation or negotiation of a party. They are most often used between companies or individuals to prevent them from approaching employees and customers. For many companies, it prevents competitors from “poaching” their most skilled employees or profitable customers. In other words, the purpose of a non-solicitation clause is to protect the business from competitors, clients, or other parties taking critical employees or contractors. This can fundamentally hurt the business if they lose its talent or consumers.
- JURISDICTION
Jurisdiction refers to the territorial jurisdiction of the court of law. These days, cross-border transactions are very common. When the parties to a contract are located in more than one state, it may not be clear which state’s laws govern the arrangement. Therefore, commercial contracts should always specify the state that will have jurisdiction over the agreement, so that it is perfectly clear which laws are applicable. For example, in a domestic agreement, one party may be in Mumbai and the other in New Delhi, so the parties may agree on the courts of Mumbai to have jurisdiction in case of disputes. Use the word “exclusive jurisdiction” if you want that only the particular court should have jurisdiction over the matter.
- DISPUTE RESOLUTION
A dispute resolution clause is just a clause showing the details of resolution alternatives, while a dispute occurs between the parties. An Arbitration clause is almost preferable to a conventional dispute resolution clause (which will only specify the governing law and the jurisdiction of courts). Almost every legal relationship has conflicts that can create disputes between the parties in the future. To solves these disputes easily and to save money and time, parties should describe the procedure of dispute resolution in terms of the contract.
- LIMITATION OF LIABILITY
This clause provides a financial cap on the amount of liability or limits the liability to certain kinds of losses only, whether with respect to an indemnity claim or with respect to a breach or otherwise. Limitation of liability clause is a must for a commercial contract, it helps to limit the liability of the parties and at the same time, it gives a warning to them. For example, a clause can state that a party can claim direct losses but not indirect or consequential losses.
- PAYMENT TERMS
A payment term clause in a contract is one of the Standard Clauses providing for the payment of goods or services in a commercial transaction. This resource also includes standard language addressing late payments (including interest charges), invoice disputes, and set-off rights. Payment terms clauses can help mitigate the risk of non-payment, provide protection against chargebacks, or leverage your intellectual property rights by restricting access to content until after the customer has paid.
- INTELLECTUAL PROPERTY
An intellectual property clause is a contractual provision governing the ownership, title, and rights of the intellectual property of either party or both parties. The clause should intend to cover every area of IP, whether you have legally registered it or not. This will allow you to protect your creative works regardless of whether they have been formally logged as a patent or trademark.
- NON-COMPETE
Non-compete clauses are closely connected with the exchange of confidential information. It is essential for the business to ensure that the information is not used for the purpose of either setting up a competing business by the person to whom it is provided or for the purpose of sharing it with a competitor. Important information such as the top customers, and the term they have been offered, if used for setting up a competing business or provided to the competitors, can have a significant adverse impact. For example, a chef in a restaurant will clearly be privy to the recipe of its signature dish which can be very popular. If he just takes this recipe and starts his own restaurant and sells it to a competitor, it will take away quite a few restaurant customers.
- ACCEPTANCE AND ACKNOWLEDGEMENT
Acceptance clauses are commonly found in contracts concerning the provision of complex goods or services such as computer systems or building works. An acceptance clause typically describes the method and the criteria for determining whether the purchaser of goods or services accepts them. Among other things, an acceptance clause should specify: (a) the method of acceptance; (b) the date and place of acceptance; (c) the criteria used to determine whether what is to be provided under the agreement is accepted or rejected, for example when measured against a detailed specification, and where appropriate, any tolerances, etc.
An Acknowledgement clause, on the other hand, is a Standard Clause intended to demonstrate that the parties understand and agree to the terms and conditions contained in a commercial agreement.
- NOTICE
A notice clause in a commercial contract primarily serves two purposes:
A proper notice clause in a commercial contract will clearly indicate the procedure to be followed for valid delivery of the notice and a “deemed delivery” provision so that the chances of disputes by a dishonest party claiming non-receipt of notice are minimized.
- ENTIRE AGREEMENT
An entire agreement clause aims to ensure that all the terms and conditions governing the rights and obligations of the parties are set out in a single contractual document, superseding all prior negotiations and agreements. The goal of such a clause is to prevent contracting parties from relying upon statements or representations made by them during negotiations for the purpose of claiming that they had agreed to something different than what is stated in the contract at the time of a dispute.
- NO WAIVER
A no waiver clause is a standard clause in most commercial contracts. No waiver clause is very important in a commercial contract as it limits the waiver by parties. In practice, while operationalizing and implementing contracts, there may be various deviations from the written letter of the contract. From a technical perspective, they could amount to a default, but for practical purposes, it may work for both parties. The parties can therefore let go of the insistence on strict performance of the contract terms by each other. However, this should not mean that the party which accepts a deviation or different form of performance has no right to subsequently insist that the performance is as per the contract, with respect to future conduct. A non-waiver clause doesn’t mean that there should not be any waiver by any party. Rather it means that if a party has waived its right to strict performance once, that does not amount to a perpetual waiver of the right.
Mistakes To Avoid While Drafting A Commercial Contract
- Too Lengthy And Technical
Drafting a contract by using very complicated and technical language is not a good practice. Contracts should always be drafted in simple and plain English which can also be understood by a layman. Always avoid unnecessary clauses which only make the contract too lengthy, because a very long contract is not always a good contract. The use of short sentences, if possible, in active voice is preferred rather than using long sentences in passive voice. Such long sentences make the reader forget and get confused about what the contract drafter is actually trying to say.
- Not Including A Comprehensive Dispute Resolution Clause
A well-drafted dispute resolution clause is essential and provides parties seeking to resolve a dispute with certainty as to process and procedure. This is even more prevalent in an international setting where the parties are based in different jurisdictions. The dispute resolution must contain a comprehensively drafted jurisdiction clause and arbitration clause for the smooth resolution of conflicts.
- Using Dubious And Inappropriate Online Templates
Almost all types of agreements in use are available on the internet and some people readily use these available materials by just changing the required information. Though convenient, this is not the right thing to do. Researching on the internet about any specific clause or any specific agreement is okay, referring to these templates is an acceptable practice, but directly copying all the clauses is not. The main reason behind it is that these readily available agreements are not drafted according to your client’s situation and needs and directly copying all the clauses can be adverse to your client’s interest. Drafting a contract according to the parties is very essential because the whole idea to draft a contract is to write down the terms and conditions which are agreed upon by the parties and not that of any different case.
- Lack Of Clarity In The Definition Clause
Any ambiguity in the definition of terms used in the contract leads to misinterpretation of the contract. A clear precise definition clause is therefore mandatory for a well-drafted contract. One of the responsibilities of a young lawyer is to ensure all capitalized terms used in the contract are defined. Defined words should be distinguished from normal words by capitalizing the first letter of each word. The definition clause makes the contract easy to read and understand even by a layman, so it is important that the definition of every technical term in the contract is given in the definition clause and there should be a high degree of clarity overall.
- Not Maintaining A Checklist
To draft a well-structured contract you need to maintain a checklist of clauses, in this way you will not miss out on any of the requisite clauses that are essential to your contract. After understanding the requirement of the parties, you should construct a checklist as to what clauses need to be included in your contract. When one is finalizing a draft, one can always look at the checklist and see if an intellectual property or payment terms, or termination clause has been missed while drafting the agreement.
Before entering into a contract, parties sometimes have a tendency to ignore thorough due diligence, maybe because of the reputation of the partner with whom they are contracting or some other reason. This assumption leads the party to give calculated risks whereas in such situations real risks are often overlooked due to the lack of proper due diligence. The parties must therefore conduct adequate due diligence before entering into a contract.
- Using Gender-Specific Language
Gender-specific language may mislead, distract, or offend some readers. You can avoid using gender-specific language by using a plural noun or repeating the noun. For example, “Directors will not receive compensation for their services.”- this sentence avoids gender-specific language by using the plural noun “Directors.” In the example, “The Executive Director will not receive compensation for the Executive Director’s services.”- the sentence avoids gender-specific language by repeating the noun “Executive Director.”
- Messing Up The Punctuation
Single punctuation can change the meaning of the entire clause and put the parties under the potential threat of costly litigation because of the conflict of thoughts. An out-of-place comma can lead to multiple interpretations of the clause. The use of superfluous language and inappropriate punctuation marks can lead to misinterpretation of contracts.
- Using Inconsistent Language
In non-legal writing, authors aim to vary their language to make for more interesting prose. Contract drafters, however, must avoid variation and inconsistency. Maintaining consistency is more important than avoiding repetition. For example, if you refer to the subject matter of a sales contract as “goods,” use the same term throughout the contract to refer to that subject matter instead of calling it “items” or something different.
- Poor Formatting And Lack Of Proofreading
Many times, the drafter makes typographical errors while drafting and these mistakes not only give a very poor impression of the drafter but may also end up impacting the contract itself. Proofreading is very important for a well-drafted, error-less contract. However, if one does not proofread his/her agreement, then one is likely to end up not getting the opportunity to rectify a lot of errors.
Furthermore, good formatting skills are one of the specialties of a good drafter. Many experienced lawyers do not know how to use formatting tools in MS Word and that leads to a very poor formatting experience. One of the main things to do is to always justify your text after completing your contract. One can learn formatting skills from the internet and use them while drafting the next contract.
CONCLUSION
Commercial contracts are in high demand in the commercial sector as India remains a developing country and right now the commercial sector is in full recovery post the Covid-pandemic. The drafting of a commercial contract may vary from person to person or depending on the purpose, but there are some specific clauses that must be there if the contract is to be made effective. Drafting proper clauses in a commercial contract can help a business to run smoothly but at the same time ambiguity in clauses can risk the business. Therefore, a proper arrangement of clauses and a proper checklist of important clauses should be there while drafting a commercial contract.
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