Contract clauses: types and specimen clauses
As discussed above, there is no legal requirement for contracts to follow a particular format or layout, but it is customary for modern commercial contracts to do so.
The notes below set out the different sections of a typical commercial contract and the kinds of clauses (and provisions that may be included within clauses also dealing with other issues) that might be included in each section. Example clauses are given in respect of those provisions which amount to complete clauses in themselves.
This is not intended as an exhaustive list. Furthermore, not all of the types of clauses and provisions set out below will be relevant to every type of commercial contract. However, the contents of the following sub-sections can be used as a rough checklist for drafters who wish to check that they have covered the most obvious aspects of the contract being prepared.
Affiliates: the term ‘affiliates’ refers to individuals or companies connected with a party to the contract.
Charges: the term ‘charges’ refers both to fees, costs and payments to be made under the contract or incurred by one of the parties, or to legal charges (e.g. mortgages) on property, etc.
Commencement date: the date on which the agreement comes into effect, or the obligations under the agreement commence.
Completion: the term ‘completion’ can mean either the formal coming into effect of the contract or the completion of work to be done under the contract.
Exclusive, non-exclusive and sole: where these words have particular meanings; e.g. as applicable to agency or distribution agreements.
Force majeure: the circumstances under which the parties may be released from their obligations under the contract (see below).
Intellectual property: the extent and nature of the intellectual property dealt with and to be protected by the parties under the contract. This may be defined by means of a general definition in the definitions section, cross-referenced to a schedule in which the various aspects of intellectual property to be protected is defined and itemised in detail.
Interpretation: the way in which the parties should interpret references to: legislation (i.e. to include future amendments); gender (i.e. references to ‘he’ may also include ‘she’ and vice versa); singular and plural forms of words used in the contract; headings, etc.
Expressions of time (months, years, etc.): the way in which the term ‘month’, ‘year’, etc. should be interpreted.
Parties: the names to be used in referring to the parties in the contract (e.g. expressions such as ‘Employer’ and ‘Employee’, or ‘Company’ and ‘Distributor’ may be used in place of the parties’ full names.
Price: the payment terms and interest rates applicable.
Sub-contracting: the identification and role of particular sub-contractors that will carry out aspects of the work agreed between the parties in the main contract.
Territory: definition of the territory to which the contract applies.
11.3 MAIN COMMERCIAL PROVISIONS
This clause indicates the existence of a legal relationship or that a person has not relied on certain statements or facts. Here is an example:
Party A acknowledges that Party B has assigned certain R&D contracts with Party C to Part A (‘R&D Contracts’).
Vocabulary: to ‘assign’ means to transfer, and ‘R&D means ‘research and development’.
In this clause, one party appoints another party to carry out specified tasks or fulfil a specified role. It is important to ensure that the clause is clear about who is being appointed, what they are being appointed to do, whether and how much they will be paid for doing it and how long the appointment is to last.
Here is an example, in which one party appoints another to provide certain services.
Party A hereby appoints Party B to provide haulage services in the Territory for the Term in return for the Payments, and Party B accepts such appointment.
Vocabulary: ‘haulage’ means transportation, usually by lorry. The ‘Territory’ refers to a specific geographical area defined elsewhere in the contact, and the nature of the ‘Payments’ will also be defined elsewhere in the contract.
11.3.3 Audit and records
This type of clause is needed where payments under the contract are calculated by reference to a variable factors (e.g. extent of work done or sales received) and provides a right of audit – i.e. a right to carry out an official inspection of financial records – to the party that will receive such payments. The clause should deal with such questions as what records may be examined, whether copies may be made of them, how long the right to inspect will continue for, who bears the costs of the audit, etc.
The example clause below empowers the authorised representatives of each party to inspect certain records:
The authorised representative of each party shall be entitled at that party’s expense to inspect and audit the books, accounts and records relating to the subject matter of the contract, the times at which such inspection shall take place to be agreed between the parties in advance of each inspection.
Vocabulary: the ‘subject matter’ of the contract means the deal the contract is designed to put into effect, and ‘in advance of’ means before.
11.3.4 Best endeavours
This provision is generally contained within another clause, and it creates a qualified obligation whereby a party must demonstrate a high level of commitment and effort towards achieving a certain result, but is not absolutely obliged to achieve it (e.g. ‘A shall use its best endeavours to sell the Products as specified in Appendix II’). Generally speaking, this kind of formulation should be avoided if it is possible to indicate specific and absolute obligations.
Here is an example of a best endeavours clause relating to dispute resolution.
If the unresolved dispute is having a material and adverse effect on the Project, the Parties shall use their best endeavours to achieve an expeditious resolution of the dispute.
Vocabulary: ‘material’ in this context means significant, and ‘adverse’ means harmful. The word ‘expeditious’ is frequently used in legal contexts to mean quick.
This provision is generally contained within another clause and indicates when performance of the obligation contained in that clause is to start. Particular care should be taken in drafting where the commencement date is different from the date of the contract or where different parts of the contract commence on different dates.
The example clause below stipulates the commencement date in a fixed term contract.
This provision is generally contained within another clause to indicate when certain defined activities are to take place. Care should be taken to ensure that the meaning of the word ‘completion’ is clear and unambiguous in the contexts in which it is used.
This example clause provides a definition for the term ‘Completion Date’.
The ‘Completion Date’ means the date of actual completion of the matters detailed in clauses [ ] and Completion shall be construed accordingly.
Vocabulary: the word ‘construed’ means interpreted. ‘To construe’ is to interpret.
11.3.7 Conditions precedent and subsequent
This provision is generally contained within another clause (see 8.1.4 above).
Here is an example of a condition precedent in relation to the grant of a patent.
The obligations contained in paragraph [ ] of this contract shall not come into effect until the day after the date on which Party A receives formal notification from the Patent Office that a patent has been granted.
Vocabulary: the phrase ‘come into effect’ means to become legally valid.
This provision is generally contained within another clause and has a variety of meanings: (1) that a contracting party is responsible for obtaining various consents necessary for the contract to proceed; (2) that a party is warranting that the necessary consents have been obtained; and (3) that a party may not take certain steps unless the consent of the other party has been obtained. The main issue to be considered when drafting such a provision is whether the requirement for consent should be made subject to a provision that it cannot be reasonably withheld.
Here is an example of a clause prohibiting assignment of the contract by either party in the absence of written consent from the other party.
This contract and all the rights under it may not be assigned or transferred by either party without the prior written consent of the other party.
Vocabulary: the phrase ‘prior written consent’ means agreement given in writing before assignment of the contract occurs.
This clause generally takes the form of a stipulation that one party must consult with another party before taking certain actions (note that this does not amount to an obligation to obtain the other party’s consent, but is more onerous than a mere obligation to inform the other party). The drafting of this kind of clause should take into account the question of what actually qualifies as proper consultation, how much time should be allowed for this process to take place, in what form the advice should be given, etc.
The clause set out below stipulates a general duty to consult and consider recommendations made by the other party.
Party A shall consult with Party B and give good faith consideration to any recommendations made by Party B.
Vocabulary: the phrase ‘good faith consideration’ means genuine consideration. In other words, Party A must give genuine thought to recommendations made by Party B.
This clause stipulates the currency in which payments are to be made under the contract, and is often contained in a payments clause. The clause should also specify whether payment can only be made in that currency, how and when the currency is to be converted, and who bears the risk of the currency exchange rate changing between the date of the agreement and the date on which payment is in fact made.
Here is a simple clause specifying the currency and manner of payment.
All sums payable under this contract by Party A to Party B shall be paid in euros by direct bank transfer to Party B’s bank account number [insert number] held at [insert name and address of bank].
11.3.11 Deposits and part payments
This clause stipulates when, under what circumstances, and in what amounts deposits or part payments are to be made in respect of purchases handled under the contract.
The example clause given below provides that one party must pay a non-returnable deposit to the other party.
Party A shall pay to Party B a deposit in the sum of [ ] within seven (7) days of the date of signature of this agreement. If Party A fails to pay the balance of the Contract Price by [insert date] or seeks to terminate the Order, Party B may retain all of the deposit.
Vocabulary: a deposit is a preliminary payment made in the purchase of an item, which may or may not be returnable if the purchase is not completed. In this case, the deposit is not returnable if Party A does not pay the rest of the agreed price or tries to terminate the order.
11.3.12 Exclusive, non-exclusive and sole
See note above. This provision may be contained within a main commercial clause (see above), or may also be a stand-alone clause.
Here is a clause granting an exclusive licence to sell certain products.
Party A hereby grants Party B, subject to the provisions of this contract, an exclusive licence to manufacture, use and sell the Licensed Products in the Territory.
Vocabulary: an exclusive licence is one granted to only one party (as opposed to a non-exclusive licence). Therefore, under this clause Party B is the only one able to manufacture, use and sell the Licensed Products in the specified territory.
This provision gives a means by which the parties can adjust prices for goods and services or salaries or wages in order to take account of the effects of inflation. It should stipulate the method of calculation, the index used, whether notice should be given in case of increases, etc. Such a provision is often contained within a payment clause.
The example clause given below is taken from a UK contract and provides a means of increasing a salary automatically by reference to the Retail Prices Index (which is the primary consumer price index used in the UK).
On each anniversary of the Commencement Date, the Salary specified in clause [ ] shall be increased by the percentage by which the Retail Prices Index has increased during the preceding year.
Vocabulary: ‘preceding’ means previous.
This provision specifies whether interest should be charged on late payments of contractual debts, at what rate it should be charged and whether any other rights are obtained by the party receiving payment. It is often contained in a payments clause.
The clause set out below simply provides for the payment of interest at a specified rate on invoiced amounts paid late.
All sums payable by Party A to Party B under this contract shall be paid against invoice within [insert time period] of the date of invoice, and in the event of late payment all sums due shall bear interest at the rate of [insert percentage] per month.
Vocabulary: the expression ‘paid against invoice’ means that Party B must send an invoice to Party A stating the amount to be paid and the date on which payment must be made, and Party A must pay as stated in the invoice.
11.3.15 Net sales value
This provision is usually contained within a payments clause, where payments are calculated by reference to the amount of a party’s sales of goods (e.g. in agency and sales agreements). The word net indicates that certain items (VAT, insurance, etc.) may be deducted from the amount actually charged to the customer.
The example given below shows how the net sales value definition can be applied in a payments clause.
The Licensee shall pay to the Licensor a royalty being a percentage of the Net Sales Value of all the Licensed Products sold by the Licensee.
Vocabulary: the word ‘royalty’ means a payment made to an author or patent holder in respect of the use or sale of published work or products.
An ‘option’ is a contractual right for one party (the ‘option holder’) to elect to bring into force a certain term of a contract. Options often relate to the purchase of land or shares or to take a licence (e.g. in relation to intellectual property). They generally continue for a specified term and are exercisable on pre-agreed terms.
An option clause should include a clear statement of what the option holder receives on exercising the option. It should also cover the questions of whether the option is exclusive or not, whether a lock-out agreement (an agreement not to negotiate with a third-party during the period of the negotiations) is being created, what payment is to be made for the option, and how the option may be exercised, etc.
The provision set out below is taken from an option clause in a franchise agreement, and provides the franchisee with a right of first refusal where the franchisor indicates its aim to grant a franchise to a third party in respect of a further retail outlet.