COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

Chapter 1
Commercial and legal objectives
of contracts

What is a commercial contract?

Contracts are used in widely varying situations. A contract may be required to
confirm a transaction such as the sale or supply of products, materials or assets,
or for the provision of services, or to create a legal relationship. A contract may
be verbal or written. It may be expressed in very simple words or it may be
extremely complex, in which case it is likely to be in the form of a long written
document with appendices and schedules. Whatever the contract is about, it is
an arrangement made between two or more parties as an agreement with respec-
tive rights and obligations, which legally bind them.

The contracts being discussed in this book are those made for commercial purposes
between businesses, including not-for-profit organisations. These principles also
apply to contracts made in the public sector, although in practice other special
rules, such as regulations on public procurement tendering also apply, which
are beyond the scope of this book. Consumer contracts are also excluded.

Why have contracts?

In the cut and thrust of commercial life, contracts are often taken for granted.
But it is worth taking a step back to analyse the reasons for having contracts.
This will better enable a good contract to be drawn up that meets the partic-
ular purpose for which it is required.

Investment
One commonly held view is that a contract is simply a document to be kept as
a regrettable insurance in case something goes wrong – a ‘disaster purchase’.
If matters do not work out, as a last resort the contract can be invoked, to provide
a legal remedy for the fault that has occurred. But this is a negative and reac-

6 A THOROGOOD SPECIAL BRIEFING

 1 COMMERCIAL AND LEGAL OBJECTIVES OF CONTRACTS

tive view of contracts. It also means that attention is not paid to creating a good
contract, because at the outset both parties assume that it will succeed, and no
one believes that it could possibly go wrong.

However, it is more practical to use the law positively as a resource, to create

a contract that will achieve the parties’ respective strategic and commercial aims,
as an investment, to regulate the commercial relationship.

Framework of rights and responsibilities

Each party to a contract comes to the negotiating table with different objec-
tives – perhaps to sell or buy products, make a profit, or obtain a good service,
acquire something useful for a business, or add value to research. Taking the
perspective that a contract is an investment, a contract may be negotiated that
will properly reflect each party’s requirements and their different interests in
the outcome, as a nexus of rights and responsibilities – one party’s rights mirrored
as the other’s obligations for both parties’ mutual benefit.

Identification of important issues

A good contract establishes and reflects the specific terms that are important to
the parties. It can become a focus for discussing and clarifying their respective
intentions. In this way it is effectively a plan to ensure that all the relevant issues
are covered in precise language, and that there is agreement and mutual under-
standing; for example, what is being included for the price being paid, and what
would incur separate charges.

Certainty
One major function of a contract is to provide continuing certainty, which is impor-
tant for commercial activities and relationships. A contractual relationship should
survive any changing business circumstances or changes of personnel in either
party.

Anticipation of contingencies
A contract can anticipate and allow for possible contingencies. If there are future
possible events that the parties envisage might occur, a contract can state what
would happen in those circumstances. For example, if the contract is with a consul-
tancy service organisation for the provision of services by an individual
consultant from that organisation, and the appointed consultant is subsequently

A THOROGOOD SPECIAL BRIEFING 7

 COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

promoted or otherwise moves on, the contract can clarify whether the client is
permitted to have a say in the choice of the consultant’s successor.

Source of reference
The contract framework can act as a guide or checklist to ensure that all the issues
are considered and recorded. Then it can become a useful source of reference
for the parties working together while the contract is in force – for instance if a
reminder is needed about how the management meetings are convened and who
should attend.

Risk management
A contract allocates risks and liabilities between the parties according to how
much risk they are each prepared to accept or pass on. Some risks may be elim-
inated or avoided, but others may have to be controlled and managed. For
example, one risk is that payment may be made late. It can be managed by a
contractual provision for interest to be due and payable in that event.

Enforceability
If contract terms are important enough to negotiate, they are important
enough to remember and carry out. Once a contract has been negotiated and
signed, it is a mistake to regard it as something “put away in a drawer” and never
subsequently referred to. If the expectations set out in the contract are not met,
the contract should be formally enforceable.

With these reasons in mind during the contract’s drafting and negotiation, a
contract can be agreed which is fit for purpose. Perfectionism is not always achiev-
able or even necessary. The objectives in constructing a contract are based on
the assumption that the parties want to do business together, and can reach mutual
agreement about the way that the business should be carried out. Point scoring
or posturing is of no value.

It is also worth weighing up whether the expense, effort and time of major nego-
tiation is warranted. If the subject matter is high value, complex, involves a long
time scale to implement or is going to have a critical impact on the business of
either of the parties, then there will be no question that time should be spent
in agreeing a contract. But if the arrangement is for a sale of simple goods, which
have been sold thousands of times before, or the contract is low value, then
although it is still important to agree the terms of the sale, it may not be real-
istic to spend days, weeks or months in finalising the small print.

8 A THOROGOOD SPECIAL BRIEFING

 1 COMMERCIAL AND LEGAL OBJECTIVES OF CONTRACTS

Contract title
The title of a contract should make it clear what it is about from a legal and
commercial perspective. The commercial representatives of both parties may
give the agreement an inaccurate working title, such as ‘Marketing Agreement’
or ‘Agency Contract’, when the main purpose of the agreement is to set out the
arrangements for product distribution by a contractor who is independent of
the supplier, not an agent, where agreed marketing arrangements are only a
small part of the overall terms and conditions. The title should reflect the content.

Contract introduction or recitals

Normally an agreement starts by naming the parties to it, and this is discussed
further in Chapter 2.

Next, although it is not obligatory, it is usually helpful to state the purpose of

the agreement, and the facts of which the reader should be aware in order to
understand the document. The background to the arrangements may set the
scene. The relationship of this agreement to other contracts may be relevant.
This section may simply be called ‘Introduction’ or ‘Background’, or it may be
in more technical language, headed ‘Recitals’ followed by ‘Whereas’.

Such information serves as an introduction, and does not actually comprise terms
or conditions of the agreement. Consequently promises, undertakings, warranties
or assurances by either party should not be included at this point, and it is useful
to make it subject to the terms of the agreement, so that if there is any conflict
between what it states and the content of the terms themselves, the construc-
tion of the latter will not be affected by it.

A THOROGOOD SPECIAL BRIEFING 9

 COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

This illustration is for a simple consultancy agreement, the Client and the
Consultant having previously been identified as parties to the contract:

Introduction
The Client has agreed to engage the services of the Consultant to
provide computer consultancy, programming and related services
from time to time as an independent contractor, and the Consultant
has agreed to accept such engagement on the following terms and
conditions.

Another simple, but more technically expressed, example is for a contract for
specific development of software that has already been licensed by the Licensor
to the Licensee, as these parties would already have been identified:

WHEREAS:

a) By a Software Licence Agreement dated…the Licensor has

licensed software to the Licensee subject to its terms and
conditions;

b) The Licensee wishes the Licensor to carry out modifications,

enhancements, or further development from time to time in
relation to such licensed software;

c) The Licensor will carry out such work on the terms and
conditions of this Contract and its associated appendices, as
these may be added to the Contract from time to time by mutual
agreement in writing and thereby incorporated into the
Contract (‘Appendices’);

IT IS THEREFORE AGREED:

10 A THOROGOOD SPECIAL BRIEFING

 1 COMMERCIAL AND LEGAL OBJECTIVES OF CONTRACTS

Contract formation life cycle

Ways of doing business evolve, and consequently contracts change in style,
content and scope. Formal or less formal language may be preferred, and either
is acceptable, so long as the wording is clearly expressed.

The essence of the contract

A common, but inadvisable, starting point for drafting a contract is by using a
precedent with apparently the same objectives or one that has previously met
a similar purpose. Ideally the starting point should be to set out the principal
requirements of the commercial arrangements for which a contract is needed,
and the relevant legal terms considered. The focus will be on outlining the main
principles of the contract relationship or transaction; and the essence of the
contract: a description of the products or services concerned, identification of
any special conditions and exclusions, and the principal contributions each party
will make. Only once this has been done should a precedent or template be
consulted, as a check that everything necessary has been covered.

Producing the first fully worded draft

The draftsperson can begin by drawing up a structure or skeleton of headings.
This first draft may well be incomplete. There may be clause headings without
the detail, or gaps left, or schedule headings without the content, or alternative
proposals put forward as options.

At this point a decision will be taken on the sequence of clauses, discussed later
in this chapter.

Schedules
A schedule is often used for definitions to be expanded, for descriptions or for
setting out details. For example ‘Territory’ may be defined as “‘Territory’ means
the countries listed in the Territories Schedule”. It may need to be completed
in the first place by the people who are technically involved, such as for the defi-
nition of ‘Software’ or the description of ‘Technical Specification’ and reviewed
for precision and clarity. Sometimes a schedule will consist of information that
may need to be conveniently referred to during the lifetime of the contract, such
as the procedure for meetings, or of information that may be varied from time
to time (as allowed for within the contract) such as a price list. The body of the

A THOROGOOD SPECIAL BRIEFING 11

 COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

document must contain a statement referencing and incorporating the schedule.

Traditionally a schedule consists of paragraphs and sub-paragraphs rather than
clauses and sub-clauses.

Iterative discussion and agreement

The other party will review the draft initially sent, amend or add to it, or remove
any provisions that it finds unacceptable, and return it. These modifications will
then be considered by the proposing party. The review and negotiations will
be an iterative process, and may take place by sending the document backwards
and forwards, without meetings or between meetings, as well as at face-to-face
meetings.

It is neither constructive, courteous nor professional to amend a draft simply

on account of style.

It is preferable to deal with a group of related matters together, such as the

payment terms and sanctions for non-payment or late payment. Opportunities
for trade-offs can then be taken logically together.

It may not be necessary to draft an amendment at the meeting itself where the
revision has been discussed. Under pressure it may be hard to compose appro-
priate wording. Outside the meeting it is often easier to devote time to consider
wording that accurately states what has been agreed.

Execution and implementation

Under English law, once all the terms of the contract have been agreed, it is not
normally necessary for it to be signed formally for it to take effect. However, a
contract in writing where the terms and conditions have been negotiated, will
typically be concluded by each party signing. The contract may be implemented
immediately on execution, or with an agreed timetable, or at a later agreed date,
depending on what it states.

Sequence of contract terms

The sequence of clauses will affect the presentation and understanding of the
contract, but is a matter of art, not an exact science. There is no one single correct
method to achieve this structure, and different people will hold different but
equally valid views as to which is the best sequence for negotiators and for future

12 A THOROGOOD SPECIAL BRIEFING

 1 COMMERCIAL AND LEGAL OBJECTIVES OF CONTRACTS

readers of the contract. Considerations will include: how to keep the order logical;
stating the most important rights and obligations early, and the exceptions and
contingencies later; whether to incorporate contractual events chronologically;
which clauses are required for good legal practice rather than for their signifi-
cance to the particular terms being negotiated, and where they can most
reasonably be located. For a lengthy contract, a Contents page is helpful.

The following is one possible sequence for clause headings for a contract for
supply or purchase of products or services, although the final decision will depend
on the particular content and purpose of the contract.

Where the clause is discussed further in this book, the chapter reference is given:

• Parties’ identities and addresses (Chapter 2);

• Purpose of the contract; introduction or recitals (this chapter);

• Definitions (Chapter 5);

• Duration of the contract and any renewal (Chapter 6);

• Prices, charges and payment terms for the products or services;

• Obligations of supplier – e.g. product development, preparation and

delivery;

• Obligations of customer – e.g. to pay for the products;

• What is excluded from the contract – e.g. if services are being provided,
there may be certain services specified to be outside the scope of what
has been agreed for the charges being made;

• Supplier’s intellectual property rights – e.g. if the contract is a software

licence;

• Supplier’s warranties – e.g. that the services will be provided with

professional skill and care;

• Supplier’s indemnities and limits of liability (Chapters 4 and 7);

• Confidentiality provisions (Chapter 7);

• Termination provisions (Chapter 6);

• Standard ‘housekeeping’ or ‘boilerplate’ contract provisions, such as:

– Entire Agreement (Chapter 3);

– Assignment and Novation (Chapter 2);

– Force Majeure, Notices, Waiver, Severability (Chapter 6);

• Law and Jurisdiction (Chapter 3).

A THOROGOOD SPECIAL BRIEFING 13

 COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

Which party should initiate the contract?

The party whose regular business is the subject matter of the agreement, such
as the sale of goods, will be likely to have at least a basic format for its contracts,
if not standard terms and conditions, covering all relevant points. It may be more
economical for the other party to review that document (but not necessarily).
However, a party who believes it is the most powerful, may insist on its own
draft contract as a starting point. For example, a major blue chip company or
public sector customer may wish to propose its own terms, where the contract
is of very high value, or where it perceives that the contract will be prestigious
for a small or new supplier; whether or not this is actually the most efficient
way to proceed.

Standard terms and conditions

A party, usually the supplier, may habitually make its contracts on its standard
terms and conditions.

This does not mean that the contract cannot be negotiated. It should still be read
and carefully reviewed, and any objectionable issues negotiated, or terms added
if required by the other party.

Standard terms and conditions have the following advantages for the party who
has drawn them up.

Covering all relevant areas

The terms and conditions should contain a coherent set of interdependent provi-
sions for the sale or supply of the goods or services, according to the supplier’s
way of doing business and so that nothing is overlooked. They must also allow
for what the supplier knows will be required as a matter of course by its customers.

Taking account of business interests

The supplier must be committed to its terms and conditions, to the extent that
its sales people can defend each one with clear commercial and legal reasons.

14 A THOROGOOD SPECIAL BRIEFING

 1 COMMERCIAL AND LEGAL OBJECTIVES OF CONTRACTS

Consistency
Terms and conditions will essentially offer identical terms to all customers with
similar requirements. Customers often expect that the terms of their contracts
are the same as, or certainly no worse than, anyone else’s.

Identifying and protecting proprietary interests

Proprietary rights should be identified, defined, asserted and acknowledged in
a contract, the owner not merely relying on the general law. Third party rights
may need to be expressly reserved.

Limitations and exclusions of liability

In standard terms and conditions, limitations and exclusions of liability must always
be justifiable to be enforceable. The justification may be expressly stated in the
terms. It may be in terms of the risk to the supplier, or the limits may be associ-
ated with insurance cover, or by reference to the overall price charged, which
will be directly related to the terms on which the goods or services are supplied.

Supplying the same goods or services to many customers

Where the supply or purchase is of relatively low value, standard terms can ensure
that the supplier’s pricing policies and proprietary rights are still safeguarded.

Framework agreements
A framework agreement sets out the main principles of agreement between the
parties for a number of discrete transactions, individually agreed from time to
time, which may take place over many years.

For example, the supply of goods may be governed by a framework agreement

which sets out the criteria of the payment terms, rights and obligations of each
party, supplier’s warranties and general contract clauses, binding the supplier
to supply goods on those conditions over an agreed period. These terms and
conditions will be negotiated only once, at the outset.

The customer may be required to place orders for a minimum quantity or value
of products over the agreed period, or there may be no commitment to do so.
Each time the customer requires goods, it will place an order for the products

A THOROGOOD SPECIAL BRIEFING 15

 COMMERCIAL CONTRACTS – LEGAL PRINCIPLES AND DRAFTING TECHNIQUES

to which the agreement applies, or make a selection from the supplier’s cata-
logue that may be updated from time to time. Each order will be an individual
contract that is made subject to the framework agreement terms and conditions.

The prices for the goods may be set as part of the framework agreement, but
will more usually be agreed as part of an individual order, perhaps from the up-
to-date catalogue. Any special requirements, such as for delivery or customisation,
will be specified as part of the order.

Framework agreements are also often used as the basis of the supply of serv-
ices of various kinds, or for project developments.

Presentation aspects
A contract that is well presented and visually agreeable is more likely to be read
and understood.

This may be achieved as follows:

• A readable typeface and font size;

• Headings, sub-headings and indentations;

• Short sentences;

• Numbered clauses and paragraphs;

• Avoiding ambiguities; for instance, by repeating a name rather than

using a pronoun if there is likely to be any doubt;

• Clear formal language; note that there is normally no need to include

the obvious to lengthen a contract unnecessarily: for example at law1
the masculine will automatically include the feminine and the singular
will include the plural. If this exceptionally does not apply, it would
be worth stating;

• Use of commas and semi-colons in a contract where these are gram-

matically correct, and assist understanding.

1 S61, Law of Property Act 1925

16 A THOROGOOD SPECIAL BRIEFING