I am a Small Business - What Contracts Do I Need?
Every second of every day, someone enters into a legally binding agreement.
It might be a lease for an apartment or space in a commercial building. It might be a master services agreement because your business needs services from another entity. It might be a confidentiality agreement to ensure that the information exchanged between two parties remains between those two parties.
Contracts can be between individuals, between an individual and a business, or between two businesses. While contracts are important no matter who the parties are to the contract, for businesses, in particular, contracts are a valuable tool in establishing and developing new relationships, extending existing relationships, and consummating transactions. The contract establishes how the parties will work together, each party’s duties and responsibilities, and how those duties and responsibilities will be enforced.
There are so many types of contracts that a small business may use. Before we delve into the types of contracts, let’s get back to basics.
The Basics
What is a Contract?
A contract is an agreement, either written or oral, between two or more parties that creates a legally binding obligation. Once both parties sign the contract, there is now a binding agreement relating to the rights and obligations that are to be fulfilled by each party.
What makes a contract enforceable?
There are certain essential elements that are required to make a contract legally enforceable. Those elements are:
(i) Offer: a promise by a party to another party that they will (or will not) perform a specific future action. Example: I will pay you $1000 for your couch.
(ii) Consideration: something of value promised in exchange for the actions (or nonactions) defined in the offer. The most common form of consideration is payment for services provided or goods delivered.
(iii) Awareness: proof that both parties clearly understood and agreed to the terms and conditions of the contract.
(iv) Capacity: the individuals signing the contract are of the minimum age required in the locale to sign a contract and have soundness of mind to understand the contract they are signing.
(v) Legality: all contracts are subject to the governing law set forth in the agreement.
(vi) Acceptance: an expression, through words or actions, that the parties to the contract agree to the terms and conditions set forth in the contract.
Essential Contracts
As was stated earlier, contracts are everywhere. Most people probably do not even realize that they are using contracts in everyday life. For example, rental car agreements, terms and conditions to purchase an airline ticket, or a cell phone contract. Contracts are part of the fabric for practically every service that you perform or receive. They govern so many parts of life, from the actions of individuals to the actions of Fortune 500 companies. For new or small businesses, there are certain essential contracts that could impact the business, and therefore it is important to keep the below essential contracts up to date (i.e., reviewed on an annual basis) and well-tailored for the businesses’ needs.
Governing Document
Most business owners might think that the agreements set forth below should be listed first, but the governing document for the organization (e.g., Operating Agreement, Partnership Agreement, Bylaws, etc.) is extremely important to help mitigate disputes if they arise between members or owners. While no one really wants to consider the unthinkable when entering a contractual relationship, the fact of the matter is that members or owners will disagree, and the realities of the ownership or operation of the business will change over time, and if the governing document does not reflect clear agreement on what to do in certain circumstances, disputes will arise. There may be disputes over the distribution of profits, approval of large capital expenditures, or how to buy out a business owner’s interests. Without clear guidance from the governing documents, those disputes can distract from the management of the business. Therefore, whenever there is a change in the number of people that are managing the business or that have an ownership interest in the business, or a change in operation, be sure to have the governing document reviewed and updated accordingly.
Sales Agreement/Bill of Sale
If the unfortunate should happen and your business ends up in a dispute with a customer, having a tightly drafted Sales, Agreement/Bill of Sale will be critical. Your Sales Agreement/Bill of Sale helps facilitate sales transactions and customer engagement. A well-drafted Sales Agreement/Bill of Sales will contain clear and concise language relating to price, type of services or quantity of goods provided, term of the agreement, events of default (i.e., failure to fulfill a contractual obligation), and remedies in the event of default or breach (i.e., breaking the terms set out in a contract).
- Financial terms such as payment terms, fees for past due payments, interest charges on past due payments, and any collection costs, should be clearly spelled out.
- An often-overlooked area of a contract is the legal name of the contract entities. It is extremely important that the contract property identifies the full legal name (in addition to any trade name or DBA) of the parties to the contract. If the contracting party is an individual, the individual’s full legal name, and not a nickname, should be used. If the contracting party is an organization, the name set forth on the organization’s Articles of Incorporation or Articles of Organization (or similar organizing document) is the name that should be included in the agreement. Most organizations’ names end in “Corp.,” “Corporation,” “LLC,” “PLLC,” or “LLP.” Additionally, for an organization, the signature line should list the full name and title of the person signing on behalf of the organization, have a line for their signature, and the date. Example:
ABC, LLC
Printed Name: Janet Doe
Signature: ___________________________
Title: President
Date: March 16, 2022
- Who has the authorization to enter into contracts on behalf of the business should also be clearly stated in the Sales Agreement/Bill of Sales or Services Agreement?
Services Agreement/Vendor Agreement
While a Sales Agreement/Bill of Sale might be the most common agreement used with a customer, a Services Agreement/Vendor Agreement may be the common agreement used with a vendor or supplier. The statements made above relating to a Sales Agreement/Bill of Sale also apply equally to a Services Agreement/Vendor Agreement with a vendor or supplier.
Independent Contractor Agreement
Not every business will have W-2 employees. Some businesses will use 1099 contractors instead of W-2 employees. In that event, it is extremely important to have a well-drafted independent contractor agreement that every short-term employee/contractor or consultant signs.
Restrictive Covenants for Key Employees and Independent Contractors
Employment agreements frequently contain restrictive covenants, like a non-compete or non-solicitation provision, that are intended to help a business keep current and former employees, or even independent contractors, from disclosing the businesses’ confidential or proprietary information or from using such information to compete against the business. The provisions are designed to protect a business’ investment in training their employees.
Non-Compete
A non-compete provision or agreement limits a former business partner or former employer’s ability to own or work for a competitor for a specified period of time. While the law recognizes an employer’s right to protect its legitimate business interests, the law also recognizes that employees have a right to work when and where they choose. Non-compete agreements inhibit commerce and limit a person’s ability to earn a living in the industry in which they had been working. Public policy disfavors these kinds of agreements which is why non-compete agreements must be reasonable in geographic scope and time.
Non-Solicitation
When an employee leaves, a non-solicitation provision or agreement is important to ensure that the departing former employee does not take the business’s clients or other employees to a competitor. Courts are more understanding of this type of restrictive covenant because a non-solicitation provision or agreement does not necessarily restrict an employee’s ability to work. However, as with non-compete provisions or agreements, a non-solicitation must still be reasonable based upon the “totality of circumstances.”
Confidentiality Agreement
A confidentiality agreement sometimes referred to as a non-disclosure agreement or NDA, protects the business by providing that the recipient of confidential information of the business will hold the information in strict confidence, not disclose the information to third parties, and only use the information for the purpose in which it was disclosed. The most important thing to remember about a confidentiality agreement is that it should be signed before any confidential information is disclosed.
Limitations on Computer and Internet Use
Most businesses provide their employees with computers or laptops for the employees to do their jobs, and as a result, most employers have policies in their employee handbook that limit an employee’s computer usage to business-related functions. Some employers require employees to sign a document where they acknowledge that they have read, understood, and will abide by the businesses’ policies. Computer usage policies, including internet policies, can help protect a business in the event that an employee accesses, downloads or uploads inappropriate material using a business-owned computer.
The above list is by no means exhaustive, but the list does outline some of the essential contracts for new businesses and small and growing businesses. The important thing to remember is that these contracts need to be well thought out and well-drafted because they are vitally important to the success of a business.