Contracts: What Could Possibly Go Wrong?

Contracts

What Could Possibly Go Wrong?

By Diane M. Calabrese / Published December 2018

Photo by iStockphoto.com/simpson33

Intent, terms, and transaction are spelled out. What could possibly go wrong? The short answer is, a lot. A contract may be no more enforceable than an agreement sealed with a handshake if one party chooses not to honor it.

“The contract is only as good as the other person and yourself who agreed to it,” explains Jim Gamble, owner of Crystal Cleaning Company LLC in Antioch, CA. “You have little recourse other than to sue if the other party wants out.”

Imagine a contract is worth $20,000, says Gamble. Hiring an attorney may cost that much or more. Suing a client is not an option for most contractors. “It’s not going to work,” says Gamble.

Losing a suit when trying to have a contract enforced may not be the worst-case scenario. The process itself can be risky because adverse publicity may have an even greater effect. It will “tarnish your reputation” if the other party—a very large entity, for instance—says “you didn’t do a good job” in order to get out of the agreement.

Gamble, who has been in business 30 years, says he learned early on that multi-year contracts can be perilous. “Now, I do not sign any three-year contracts,” he says.

Generally, a multi-year contract includes a discount to the client. Discounting a job $5,000 the first year might seem reasonable if a contractor has two years of guaranteed work beyond that, explains Gamble.

Too often, however, there’s a management change at a company (e.g., a new facilities director), or the client wants out for some other reason. There’s little a contractor can do. Unless a contractor has a multi-million-dollar company, it’s difficult to pay legal fees.

Even a simple contract that’s written to describe the work to be done may become problematic for the contractor. “Let’s say you draw up your own contract,” says Gamble. If there is any “legalese,” the interaction “escalates” with the client bringing in an attorney.

“When you do a two-paragraph agreement, they’ll sign that,” says Gamble. Once attorneys are involved, the client may want more favorable terms and so on. “You lose time and energy working on the contract.” It’s even worse if the contractor is including a discount, as there’s a loss of money.

Worry less about securing multi-year contracts, advises Gamble. Instead, focus on doing quality work and charging appropriately for it. “We are doing only premium work,” he says.

Gamble notes that helping contractors learn “how to work less while making more” is one of his passions. Maintaining and promulgating high standards is another.

Water reclamation and following methods with environmental safeguards are the places contractors should invest time, explains Gamble. “As for contracts, I only do a one-year contract.”

Detailing Scope

Many contractors use a standard agreement form that details for clients what the contractor will do. The agreement can be amended or amplified before it is signed.

When presenting a proposal to a client, it’s “very important” to “explain exactly what is included” in the work proposed and “the responsibilities of for each party”—including payment, says Henry Bockman, president of Commercial Restorations in Germantown, MD.

Bockman explains that a proposal would include in detail the scope of work, the process and procedures to be used, and the terms and conditions of the agreement. The proposal also reminds the client of the information that it has provided to the contractor.  For example, a note would remind the client “we have been informed there are no underground pipes or wires in the areas…” and that Bockman’s company will not be held liable for damages to unexpected or undisclosed underground systems. Other notes document that “all cleaning will be done in compliance with the Federal Clean Water Act” and the sort of work that OSHA regulations preclude.

The terms and conditions section in a proposal from Bockman’s company not only outlines the payment requirements for the client, but it enumerates the insurance coverage that his company will maintain. The proposal he shares with us is a model of clarity.

Contracts are necessary, says Bockman. “They are only overrated if you’re not worried about making sure you meet the client’s expectations or getting paid.”

Despite the lengthy experience Bockman has with contracts, there can be issues that arise. “The scope of the work, insurance requirements, or payment terms are the most common problems,” he says.

Contracts should solidify—not muddy—an interaction between a client and a business. “Not specifying exactly what is included in the scope of work is what causes most problems,” says Bockman. “That’s why the proposals—contracts—that we use are very detailed.”

Colleagues in the industry can be a valuable resource when developing a contract or a proposal, says Bockman. “I suggest comparing contract forms with other contractors to ensure that you’re not missing any minor details. Then, have a lawyer review them.”

Documentation

A contract documents an understanding between two parties. The transaction (consideration in the legal lexicon) it encompasses may involve money, goods, service, employment, etc.

Roy G. Chappell, CEO of Chappell Supply and Equipment in Oklahoma City, OK, has extensive experience with contracts in many areas of business, and he advocates the use of contracts.

“A good contract can never be overrated,” says Chappell. “Some contracts can be very simple on small purchases, but with a large transaction that covers land and building, the contract should be very detailed.”

Sales, employment, and real estate transactions all merit contracts, says Chappell. A sales contract should include a list of items with quantity of each, as well as point of delivery and date of delivery.

In addition, if applicable, the model and serial numbers of equipment (items) being sold should be listed, says Chappell. “Customer information should be added with their payment terms and should record that a service manual and operations manual have been provided to the customer.”

Chappell cautions that even though manuals have been provided and the issuance is documented, demonstrating operation of equipment is important. “Go over the full instructions on how to operate and care for equipment.”

Photo by iStockphoto.com/SARINYAPINNGAM

Employment agreements are another form of a contract. “Every employee should have an employee agreement completed when they are first hired,” says Chappell. “This should be very detailed and include his or her job description, duties,
who he reports and answers to, pay schedule and/or commissions, and territory to provide services to.”

Detail on employee contracts or agreements should extend to particulars such as sales leads, says Chappell. Leads may be provided, the employee may be responsible for finding leads, or some combination of the two.

More information reduces the chance of “gray areas” that “cause confusion” and become a distraction, explains Chappell. “It is always best to have an attorney and human resources look over everything to make sure all points are covered and understandable.”

The place that many businesses err when a transaction is involved is not in the day-to-day working with clients (whether providing a service or making a sale) or even in interaction with employees. It is in the transactions that happen less frequently, such as real estate. Selling a business and buying a business are two other infrequent and large transactions that require extra care when arriving at an agreement.

“When you purchase real estate, never sign a contract until you know how it is zoned and where all the utilities are located,” says Chappell. “Be sure to reserve the right to have a phase three environmental impact study done,” he explains, “and do not buy if the tract does not pass.”

Real estate is a significant purchase. Due diligence is a must, says Chappell. Learn about everything from “the compaction ratio of the soil to help determine the cost of the foundation” to the crime rate.

A high crime rate in an area can send insurance premiums soaring. It can also lead to time-consuming recovery dealing with losses from vandalism and theft. The surrounding property values and the types of industries or businesses in the area are also good indicators of
the nature of a location, says Chappell.

Real estate is a huge investment. Chappell says a buyer should take care to not become overextended. If planning a move, he suggests buying and paying for the land first and then constructing a new facility. This is another area where contracts enter the picture. Banks and owners are willing to negotiate terms that will enable the buyer to complete the transaction.

Contracts document the understanding of the parties regarding a transaction. That’s a good thing. It’s not the only thing, however. All understanding between customers and businesses hinges on communication. “Over the last 35-plus years, one thing that I’ve found about customers is that if you’re listening, they will tell you the problem they want to overcome,” says Chappell. “You should ask some questions, but make sure that you are letting them do most of the talking and that you are listening to what they are really saying. Then, go from there to sell to their needs.”