The article has been written by Veerashwar Jadaun, pursuing a Certificate Course in Advanced Commercial Contract Drafting, Negotiation & Dispute Resolution from LawSikho. It has been edited by Zigishu (Associate, Lawsikho) and Ruchika Mohapatra (Associate, Lawsikho).
The article has been published by Rachit Garg.
In the date of structuration and virtualization of businesses, it’s necessary that anywhere you invest time and money is secured, and the other party won’t back down on their promises. In order to enforce these promises, the contract helps to create a set of binding terms & conditions. The contract creates a right for enforcement of the contract if one party backs down.
Say, Magan goes to a renowned e-commerce website to purchase the latest phone. He pays the amount to the vendor and receives an affirmation that the phone will be delivered to his house in 10 days. After 9 days he receives a package at his doorsteps, but inside that package is an Apple (fruit). In this scenario, the vendor has not fulfilled his part of the contract and now it can be enforced against him for the delivery of the Phone.
The above scenario shows how a contract can be used by the aggrieved party to make sure that the terms and conditions of a contract are fulfilled. So this is a contract, but how is it different from Commercial Contracts?
What are commercial contracts?
Commercial Contracts are a type of contract that is mostly used in businesses that are connected to buying and selling of goods and services and these parties include customer suppliers, partners, distributors, entrepreneurs, etc. Commercial contracts are mostly drawn up by a lawyer or a person of legal background, as it contains a complex set of terms and conditions which can not be identified by a normal person. This set of terms and conditions is carefully drafted so that the other party can’t use any loophole or ambiguity in the contract for their benefit.
Here is an example of a terrible contract: in the year 1980, IBM entered into a contract with Bill Gates’s Microsoft to develop software (MS-DOS) to be used in their computers at $75,000, but out of ignorance, they let Microsoft keep the copyright of the software. Later the same software became the main software for computer applications during the Desktop revolution. If IBM would have kept the rights with them they would have received billions out of it. This is what terrible contracts affect people.
In India, these contracts are governed under the Indian Contract Act, 1872, which governs every business activity. A contract can be made either verbally or written, a written contract is preferred as it has all the clauses and detailed information about the promise and a written contract is easily enforced in the court of law. Commercial contracts are agreements regulating business relationships between individuals and are usually in writing, but they can also be verbal.
Different types of commercial contracts
- NDA (Non- Disclosure Agreement)– This agreement creates an obligation on a party/parties to not disclose any particular information which should remain confidential for the survival of a business or any other reason. Example- Coca-Cola Secret Recipe is something that if it were to go out in public would destroy the entire company within a night.
Key terms: Duration of Agreement, Obligation to Disclose, Return of Information.
- Employment Agreement– When a new employee joins a company this type of agreement is formed to ensure the rights and liabilities of the employee. Employee agreement is traditionally used in the corporate world while a new Employee is joined to a company.
Key terms: Salary, Benefits, Work Schedule, Vacation Allotment, Confidential Information.
- Settlement Agreement– These agreements are formed for the settlement of a dispute among the parties by coming to an agreement. In this agreement the parties agree to an outcome of a dispute between them. This is done to save time and not to get stuck in long court cases which may go on forever.
- Co-Founders Agreement– When a startup is formed, this contract is formed so that the founders of the startup may determine their ownership & responsibility in the company. This safeguards the rights of founders as everything is predetermined so there is less scope for any dispute that may cause loss to other founders.
Key terms: Share vesting, Responsibilities, Changes in duty when the company grows, investment to be made.
- Loan Agreement– In case you take a loan from a bank this agreement is formed to ensure the repayment of the loan. It includes the terms and conditions under which the financial institution has made the loan available to the borrower. Before the loan is granted it is ensured that the person is in need of the same.
Key terms: amount borrowed, terms of repayment & interest, Security for the loan, Action in case of default of loan.
- Franchise Agreement– To set up a new franchise, the Franchisor and Franchisee enter into an agreement for the formulation of their duties during the institution of the franchise and thereafter. Under this agreement the Franchisor grants certain rights to operate a business within the name/ face provided by the Franchisor in exchange for some royalties or interest in the business.
This type of contract is most commonly used throughout the world as no company has enough funds to open up their shop/office in every city. Therefore, these companies look for franchisors to invest in their company and open a franchise. Companies like McDonald’s, KFC, Starbucks, BurgerSingh, etc. use similar contracts to open up stores.
Key terms: Royalties, place of shop, equipment assistance, professional training, initial investment.
- Corporate Lease Agreement– It is used to rent your property to another individual. It determines the term of the lease and other necessary information. This ensures the right of both parties as it’s a common practice that the lessor exploits the lessee in terms of unlawful financial demands. The agreement is an important piece of information for both parties. Key terms: duration of Lease, information of tenant & landlord, rent, guarantor.
- Advisor Agreement– When a company hires an advisor for work, this contract is put in place to establish the advisor’s services and lay out the terms and conditions of the agreement.
Key terms: equity given to advisor, services given, limit of powers of advisors, term of agreement.
- Share Subscription Agreement– When it is established that the company has agreed to sell a specific number of shares to an individual/person at a certain price. The purchasers become shareholders of the company. This is the first set of documents that a company issues to the investor, by which the investor gets affirmation of the allotment of shares.
Key terms: control of investor, return on investment, valuation of shares, confidentiality, indemnity.
- Shareholder Agreement– These types of agreements are much more complex & wider in comparison with a share purchase agreement. It is formed between a shareholder and an investor. When an investor invests in a company this contract ensures his rights and authority in that company. It also helps in resolving any dispute that may arise in future and ensures that no shareholder is treated unfairly.
Key clauses of commercial contracts
Preamble/Recitals– This is not a clause in a Contract but it plays an important role in the interpretation of the contract. This is placed at the beginning of the contract explaining the purpose behind the contract.
Term Clause– Duration for which the parties are entering into the contract is stated in this clause, It states from exactly what date the contract is enforced and till which specific day it will remain intact
Termination Clause– This type of clause states the condition under which the contract may be terminated by any of the parties. This clause also guides the parties to the process after the termination of the contract.
Dispute Resolution Clause– Due to any uncertain work or breach of contract the parties may refer the matter to dispute resolution (ADR, Negotiation, Mediation, etc.). As the Courts already have enough burden of other cases, a matter would take years to solve, therefore, dispute resolution will make sure that both the parties work their way out themselves.
Confidentiality Clause– When parties share any confidential information during the process of a contract, this clause ensures that no party discloses that information to any party outside the contract.
Breach of commercial contracts
The most common remedy for breach of contract is monetary damages which are also known as “compensatory damages.” These Compensatory damages can include both “expectation” damages, i.e. what the non-breaching party expected to make on the deal, as well as consequential damages along with any additional losses occurring as a result of the breach. In certain circumstances, parties can also seek specific performance, injunctive relief and rescission of contracts in case of a breach.
Each word that goes into a contract carries some importance and even a single sentence or word can lead to any unwanted loss to a party. While the formulation of the contract is done everywhere in this world, parties need to refer to a lawyer before rectifying the contract, because legal terminologies are complex and require specialization. Commercial contracts are required in today’s world as the parties to determine the liability of parties as a legally binding contract may help the parties to not suffer unreasonably, and it is therefore that the understanding of a contract is important.
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