My client’s startup was in a rapid growth phase. Over the course of business, the CEO negotiated and signed what appeared to be a fairly simple agreement on his own. Unfortunately, there was an ambiguous provision that wasn’t properly negotiated. The contract also lacked a termination clause – meaning there was no way out of the agreement.
As his business grew and became profitable, the counterparty took advantage of the situation and alleged that the clause was in fact an exclusivity provision and that my client was in breach. The clause dragged my client into a costly lawsuit that posed an existential threat to his business.
Moral of my client’s story? An ounce of prevention is worth a pound of cure.
Here are three practices you can implement to significantly improve the outcome of your contract negotiation.
1. Identify your Bottom Line and Pick your Battles
First, work with your attorney to identify the terms that matter the most to the success of your business. Yes, you need to protect your company and secure the best terms for your business, but it’s also important to your business that you efficiently negotiate the contract so you can move on. The essence of contract management is finding the balance between maximizing operational and financial performance while minimizing risk.
Contract management is about maximizing operational and financial performance while minimizing risk.
[tweetthis]Contract management is about maximizing operational and financial performance while minimizing risk[/tweetthis]
Deciding the terms and clauses worth fighting for upfront will avoid a situation in which you waste your time and money fighting trivial battles, creating work for both parties and delaying the contract turnaround process.
If there are potential issues with these key terms, your lawyer will communicate them to you and together you’ll decide how far your lawyer should go to get them.
2. Find the Right Negotiation Tone
Contract negotiation isn’t about “winning” or “losing” – it’s about settling on the best terms possible given the particular business context at play. Your attitude and tone should be informed by your business’ relationship with the counterparty.
Your instinct may be take a hard line and push to get the “best” terms possible, but this is typically not the right tactic. An aggressive tone can slow the process by offending the counterparty and putting them on the defensive. I’ve seen situations where hardline tactics caused a basic NDA to take three weeks to turn around when it could and should have taken two days to close. You may be labeled as difficult and the counterparty will be less inclined to deal with you in the future. They may even walk away from the deal. There’s a time and a place to take a hardline.
If you have or envision an ongoing business relationship, such as in a sales, joint venture or partnership agreement, it’s most important to set the stage for a positive relationship and compromise will be the goal.
On the other hand, if the contract negotiation is a one-time interaction, there’s no urgency to get the contract signed and your business will continue to succeed without it, a more aggressive approach may fit the bill.
Lastly, you need to consider the nature and reputation of the counterparty. Are they trustworthy? Have you done business with them before? And what is the risk of breach? If you are skeptical, it’s always better to err on the safe side and take harder line – regardless of how eager you are to close.
3. Identify your Bargaining Power and Leverage your Position
You should work with your attorney to analyze your position relative to the counterparty. Assess who you will be negotiating against and whether they will be receptive to extensive comments or multiple redlines.
For example, if you’re a small startup negotiating with an established VC investor, you will obviously have little bargaining power. This process will go much more smoothly if you involve your lawyer as soon as you start thinking about raising capital.
In negotiations with venture capitalists, you should keep your comments to a minimum and only address fatal flaws and red flags – problematic or off-market terms that would expose your business to an unacceptable degree of risk. Examples of red flags include broad sweeping indemnity obligations, indefinite terms, restrictive noncompetes and exclusivity provisions.
In negotiations with venture capitalists, you should only address fatal flaws and red flags.
[tweetthis]In negotiations with venture capitalists, you should only address fatal flaws and red flags[/tweetthis]
Similarly, if you’re purchasing software rights from a large corporation, you have basically no leverage since you need their software while they merely want your money. In this case, you’ll obviously have little room to maneuver and may need to accept the agreement as it stands.
On the other hand, if you’re offering free marketing space on an app you’ve developed, you have considerable leverage, so you should take a harder line. You could require, for instance, the other party to agree to indemnify you against third party claims arising from its misuse of the app.
If the contract is urgent, you may want to take a more commercial approach. This means looking only for major red flags and fatal flaws. If there are none, then wrap it up right away.