Contract clauses, clause library, boilerplates, miscellaneous clauses and characteristic contract provisions. Blog posts discussing them

Entire agreement and merger clauses

Every once in a while, I address a classic miscellaneous clause. This time, I would like to discuss entire agreement clauses (also referred to as, amongst other names, merger clause).

For examples of previous blogs click here (on severability), click here (on counterparts), click here (on language and translations) or here (some notes on best efforts).

Often, a contract will replace a preceding contract, a letter of intent or a mere exchange of e-mails in which the basics of a possible transaction are fine-tuned. Also, a contract is in many cases the end-result of what started with an information memorandum, a ‘binding bid’ or one or more (product or business) presentations. Furthermore, during the negotiations, the parties will likely have expressed their intentions as to how they would perform in certain specific cases or how they would generally behave in a certain context. When it comes to important or otherwise key issues of the transaction, the parties will include these in the final contract. At the same time, the parties will generally have acted in a promotional mood to get the deal done, without necessarily assuming all promises made. Eventually, they will write down in their contract the minimum of what is important or necessary and, later on, they will probably perform, formally committed or not, also in light of the other party’s behaviour.

This is why contracting parties limit their contractual obligations to what is negotiated and written in the contract itself and why they wish to exclude preceding communications and arrangements. Obviously, what will be carved out by the arrangement should be limited to what needs to be carved out (and not also cover unrelated or adjacent arrangements). If a term sheet or letter of intent needs to terminate, this should preferably be done explicitly by including all identifiers of a contract. Strictly speaking, this needs to be done by the relevant party to any such letter of intent in order to achieve full certainty but in real life no one will bother if an affiliated company does so.

Entire Agreement. This Agreement constitutes the entire agreement between the Parties on the subject matter of this Agreement and supersedes any preceding agreement between the Parties on the subject matter of this Agreement only. In particular, the Letter of Intent on the Acquisition of all Shares in Johnson Distribution Services Holding GmbH dated 18 May 2008 between [A] and [B] is hereby terminated.

The binding effect of an entire agreement clause remains somewhat uncertain and always subject to interpretation. The European Member State laws somehow accommodate the above considerations, given the following provision in the Draft Common Frame of Reference (DCFR), an authoritative preparatory work for a European Civil Code:

Art. II. – 4:104: Merger clause

(1)  If a contract document contains an individually negotiated clause stating that the document embodies all the terms of the contract (a merger clause), any prior statements, undertakings or agreements which are not embodied in the document do not form part of the contract.

(2)  If the merger clause is not individually negotiated it establishes only a presumption that the parties intended that their prior statements, undertakings or agreements were not to form part of the contract. This rule may not be excluded or restricted.

(3)  The parties’ prior statements may be used to interpret the contract. This rule may not be excluded or restricted except by an individually negotiated clause.

(4)  A party may by statements or conduct be precluded from asserting a merger clause to the extent that the other party has reasonably relied on such statements or conduct.

If mutual trust and cooperation are important characteristics of a transaction, the contracting parties should be reluctant to insert an entire agreement clause in their contract. This may be particularly sensitive if extensive discussions between them have led to various arrangements, which have not necessarily been incorporated in the transaction agreements. Of course, if arrangements in a letter of intent have been renegotiated or were the subject of giving and taking of other benefits, the exclusion of a specific document is recommendable. A drafter should consider the impact of emails and other arrangements in the block notes of one party but not the other.

Guidelines for experts (a forgotten alternative for arbitration?)

An all too often underestimated means for settling disputes is the appointment of an expert (or binding advisor). Contract drafters do not see the clear advantages or even fail to recognise its effectiveness in various cases.
This blog highlights its use and gives some guidelines for drafting expert settlement clauses.

It is important to distinguish dispute settlement by arbitration from expert-determination proceedings. Arbitration is suitable when the parties have a true dispute, in terms of differing opinions on the interpretation of a contract, disputes as to whether one party can be held liable or if there is a deadlock in decision making. In the last case, a more sophisticated mechanism such as mediation or a dispute board would probably be even more desirable. Expert determination proceedings are relevant in relation to matters that require the establishment of facts. Accordingly, many argue that arbitration rather relates to legal issues whereas expert determination relates to a matter of fact. Of course, the parties may be in dispute on the establishment of a certain value, amount or quality level, and most disputes can be traced back to questions of how much should a party pay, but on the basis of the distinction legal vs. factual question, in practice it is very well possible to determine the appropriate procedure to the issue at hand.

The appropriateness of expert determination is often overlooked. Typical examples of matters that can be subjected to expert determination are:

  • the determination of the final purchase price (and purchase price related elements) under a share or business purchase agreement;
  • the question whether or not the delivered products or services meet the agreed product specifications;
  • the determination of the amount of damages;
  • the determination of a root cause of certain damages (e.g., whether a defect in a delivered product was caused by a hidden defect in the product itself or by external circumstances);
  • the valuation of important assets or of a business or legal entity in the event of an exit procedure (e.g., if a party terminated a joint venture or if a partnership share needs to be bought out);
  • if it is undesirable that a party gets access to confidential information of the other party (e.g., determinative sales or turnover figures in connection with a royalty audit).

The questions for the expert must be rather straightforward and should not involve assessments that may trigger elaborate discussions between the parties or otherwise a judgement as to what is ‘reasonable’ or ‘appropriate’ under the circumstances. This does not mean, of course, that an expert should not be reasonable or should disregard all circumstances. It also does not mean that an expert’s opinion may not contain any speculative elements. Furthermore, a careful expert will likely give each party an opportunity to explain the case (and respond to the explanations of the other party) before reaching a final determination.

What is important in the case of expert determination clauses is that:

  • the expert’s involvement is based on clear (objective) triggering criteria;
  • the expert’s independence from both parties is properly secured, although the expert who is engaged for an audit of the other party’s books and records would only need to be “reasonably acceptable”;
  • the expert’s appointment should take place expeditiously, implying that the contract should provide for clear deadlines to object or agree on a proposed appointment and, failing consensus, for (the chairman or president of) a named authoritative expert institute that will make the appointment in case of disagreement; and
  • high level expert determination principles, the failure of which may likely give rise to disputes between the parties, are clarified beforehand (and ideally in the contract itself).
  • the expert should have adequate access rights to the information needed for its determination, subject to such information being kept confidential (including, in some instances, vis-à-vis the other party). Such information or access should be given promptly.
  • It may be desirable to provide for an allocation of the costs of the expert, depending on the outcome of the expert’s determination. In case of a royalty audit, it would be appropriate to allow for a threshold for any excusable misstatements or relief.

In case of an audit right, it would be appropriate to limit the frequency of subsequent audits if a preceding audit did not reveal any significant irregularities. It is common to provide that such audit should take place during normal business hours and, depending on the nature of an audit and the matters to be audited, to require reasonable prior notice.

This is not in English

It is not used very often, but every once in a while you might encounter it: a boilerplate on the contract’s language. Such miscellaneous provision should foresee what might likely happen…

…if the contract is translated into another language (e.g., because the local law requires that contracts are drawn up in an officially recognised language in order for the contract to be valid and enforceable). It is important to recognise this and to determine which version will prevail in case of inconsistencies or contradictions between the two. The following provision on the prevailing version in case of a translation of the contract:

Language. This Agreement has been drawn up in the English language. In case of discrepancies between the English text version of this Agreement and any translation, the English version shall prevail.

The first sentence may sound superfluous, but realise: a translator should not translate the word English into (the characters saying) “Chinese”. In that case, the reader of the Chinese version must be alert that another text version might be slightly different. Rather, supposedly, a translator will translate English into its translated equivalent and the meaning stays the same (ceci n’est pas en français).

Assignment of contracts clauses

In the free eBook published earlier today (click here to go to the download page), we discuss ‘assignment’ clauses: a type of miscellaneous clause (or ‘boilerplate’) that prohibits the ‘sale and transfer’ or, more correctly, ‘sale and assignment’ of an agreement. This blog post is a paragraph of the eBook.

Many contracts will provide for a prohibition to assign the rights and obligations under the agreement. Normally, each party should be able to negotiate that the approval of the other party to an assignment will not be unreasonably withheld or delayed:

Assignment. No Party shall assign its rights or obligations under this Agreement in whole or in part, without the prior written approval of the other Party, which approval shall not be unreasonably withheld, conditioned or delayed.

In many cases, the parties would like to make an extra carve-out for intra-group restructurings of activities or the performance under the contract by an affiliate, whether for tax or other geographical reasons. This would be the typical example for the applicability of shall not be unreasonably withheld. However, contracting parties may seek more certainty. Uncertainty becomes particularly problematic when a party prepares a divestment of the business. Obviously, when the new investor in such business is a competitor of the customer, the latter’s refusal to unconditionally approve assignment is reasonable. In other cases, the parties want to be free to assign the agreement (i.e. the rights and related obligations) as part of a sale of the entire business to which such agreement relates. The uncertainty may be covered by a specific exception:

…, except that Seller may assign its rights and obligations under this Agreement in connection with a sale of all or a substantial part of its business to which such rights and obligations pertain.

The more complete version will also require a re-assignment in case of divestment of the Affiliated Company and have an additional provision:

Seller shall procure that an assignee Affiliate assigns back the assigned rights and obligations, immediately prior to such assignee ceasing to be an Affiliate of it.

The exception and related assign-back provision can, of course, accommodate both parties. Note, however, that there is a greater logic that a purchaser does not want to source from its competitors or from suppliers with a questionable background (e.g. suppliers obtaining products manufactured by children or in an environment-polluting way) than vice versa. Child labour or pollution of the environment are matters that a company would typically want to control upwards the product chain and not down.

In case of private equity and other leveraged transactions, the purchaser may need to be able to assign its rights (and obligations) freely under the share purchase agreement, in order to be able to obtain financing more easily. In such case, the seller would keep some control over the financing parts of the transaction by a restrictive assignment clause. The caveat that assignment shall not unreasonably be withheld or conditioned will give the seller at least the opportunity to review the financing obligations and analyse the potential consequences of an assignment of the rights (and obligations) under the share purchase agreement to the banks and other lenders involved. A relaxed assignment clause facilitating the purchaser would be as follows:

Assignment.  No Party may assign or transfer any of its rights or obligations under this Agreement without the prior written approval of the other Party, except that:

  1. each Party may assign any of its rights under this Agreement to its Affiliates; and
  2. Purchaser may assign any of its rights under this Agreement to any of its lenders or to any person acquiring all or substantially all of the rights or assets of Target after the Completion Date,

provided, however, that no such assignment shall relieve an assigning Party of its obligations under this Agreement.  For the avoidance of doubt, Purchaser may grant security interests in its rights under this Agreement to its lenders.

Please note that an assignment clause does not relieve the parties to an assignment from fulfilling the requirements of the applicable law to such assigned rights and obligations. In order to give an assignment of rights its full effect (i.e. enforceability against the debtor and an obligation on the debtor to perform vis-à-vis the assignee only) most jurisdictions require a (written) assignment notice to the debtor[1]. An assignment of obligations would usually be subject to the consent of the debtor although under English law a distinction is drawn between novation and the assignment of a contract; whereby the latter does not require consent although will only be effective so as to assign the ‘benefit’ and not the ‘burden’ of the contract.

[1]      See Common Frame of Reference Section III.5.1 (Art. III. – 5:104 ff.) and compare the U.N. Convention on the Assignment of Receivables in International Trade (12 December 2004).

Independent contractors – no partnership established

Contract drafters can influence the interpretation of a contract. They cannot influence the legal qualification of the contractual relationship (unless certain qualifiers are taken out or added). Still, in many (mostly common law originating) contracts a miscellaneous clause is inserted that emphasises the non-existence of a legal quality or qualification. This blog post is about the redundancy (non-sense) of such clause.

The discussion below also appears in today’s free eBook (on Miscellaneous (boilerplate) clauses, part 1 (click here to download).

Although the categorisation of a contract or contractual obligation is a matter of law, in certain contracts originating from a common law environment there may be disclaimers such as:

Independent contractors. The Parties are independent contractors. Nothing in this Agreement shall be deemed to constitute a partnership or joint venture between the Parties or constitute any Party to be the agent of the other Party for any purpose.

The purpose of the clause is to avoid the consequences of an unwanted legal relationship. For example, if a contract, obligation or ‘legal act’ would entail a certain level of dependency, partnership or joint venture; in common law countries, such circumstances may create an unwanted legal structure with undesired (financial or tax) obligations. This imposes important ‘duties of loyalty’ upon the fiduciary, such as a duty to disclose all conflicts of interest and a duty to subordinate the fiduciary’s own interests in favour of those of the other party. However, a contractual denial of the existence of such relationship or facts is not likely to be determinative of the legal effect, at the same time, consider whether the unwanted relationship is realistic at all.

No authority. A more valuable miscellaneous clause would be to provide expressly that the contract does not implicitly grant a power or authority of one party to act on behalf of the other party. This is because the agency doctrine of ‘apparent authority’ may apply. Under this doctrine, a person becomes bound by the acts of someone else, its agent, if after becoming aware of those acts, the former, as (apparent) principal, has been behaving in an acquiescent manner or must otherwise be deemed to have (tacitly) accepted the consequences of such acts (by its apparent agent). An argument to support the opposite intentions is reflected in the following sentence of an ‘independent contractors’ clause. Note, however, that since such provision is not also addressed to unrelated third parties acting in reliance on the representative’s acts, its effectiveness is limited to the internal relationship between the ‘apparent principal’ and its ‘agent’:

No Party shall have any authority to act for or bind the other Party in any way, or to represent that it has such authority.

Typically, a miscellaneous clause on ‘independent contractors’ is dispensable. A stipulation that one party shall not represent the other is of limited use.

Mediation and arbitration

A very important type of miscellaneous clauses is about dispute resolution. Once it comes to a dispute or to a (major) claim, it may well be helpful to provide for a method that prevents a hard-way solution being adopted. If parties go into court or arbitration, the relationship is about to be finished for a long period of time. What can you do about it? This post addresses mediation, dispute boards and escalation clauses.

Mediation. Once it comes to litigation, the termination of the contract is almost inevitable. Therefore, in complex or relational contracts in which unwinding the contract may give rise to  another source of dispute, providing for mediation may be desirable.
It is a matter of best practice to link the mediation and arbitration provisions to each other. Normally, you would probably want to have the mediations coordinated and administered by the same institute as a subsequent arbitration (if any). Each arbitration institute mentioned above also provides for ADR (‘alternative dispute resolution’) procedures (see their respective websites for text model clauses). Many people believe that mediation has no reasonable chance of success if one of the parties does not sincerely wish to settle the dispute. Therefore, a mediation clause is primarily a voluntary procedure, albeit that the admissibility of an obligatory mediation clause before arbitration may vary. This subtlety depends on the actual wording of the provision.

Dispute boards. Recent developments have led the ICC to establish a standard dispute board procedure for preventing major disputes under medium- and long-term contracts or under project-related agreements. The idea is that dispute boards are set up at the outset of a contract term and remain in place and are remunerated throughout its duration. The dispute board is a kind of ‘supervisory board of the contract’. Comprising one or three members thoroughly acquainted with the contract and each party’s performance, the dispute board informally assists the parties, if they so desire, in resolving disagreements arising in the course of the contract. Depending on the setup, the dispute board may make recommendations or even decisions regarding disputes referred to it by any of the parties. Needless to say, the ICC provides support where necessary or helpful. Examples for contract provisions can be found on their website.

Escalation clauses. In contractual relationships between major parties that regularly do business with each other, an ‘escalation clause’ providing for the escalation of a dispute to the principal executive officers would be another means of dispute settlement. The idea behind an escalation clause is that the party who threatens the relationship between the parties should subsequently face internal discussions as to whether and how the senior executives must be involved (i.e. including the career-limiting effects of such involvement). In other words, both parties will go up the hierarchical ladder of their organisation upon the occurrence of the contractual triggering event. The senior executives selected should not have been directly involved in the dispute, but need to have the authority to bind the party they represent.
The escalation clause contains several incentives; the persons directly involved in the dispute may be reluctant to escalate given the ‘shameful’ aspect that they were not able to settle the matter themselves, whereas the senior executives may spend only such time on the matter as the (financial) interest justifies and they will settle as quickly and pragmatically as possible. Such escalation would be more effective if they must consider the higher desirability of all relationships between the parties or if they can compromise on other disputes or irregularities as well.

Force majeure – tips and tricks

In the previous blog post, I addressed the legal impact and the business issues in connection with events of force majeure. In this post, I will reflect both sides’ definition of what a force majeure event entails: the excuse-seeking manufacturer, service provider or other supplier vs. the firm customer seeking enforcement of the contract (no excuses). Furthermore, I will give contractual clauses providing for each side’s solution.

A manufacturer, service provider or supplier will likely include a provision as follows:

Notification of Force Majeure. A Party prevented from fulfilling its obligations duly and timely because of an event of Force Majeure shall inform the other Party without undue delay and make reasonable efforts to terminate the Force Majeure as soon as practicable. The Parties shall consult with each other in order to minimise all damages, costs and possible other negative effects.

For the purpose of this Section, Force Majeure means any and all circumstances beyond the reasonable control of the Party concerned, including acts of God, earthquake, flood, storm, lightning, fire, explosion, war, terrorism, riot, civil distur­bance, sabotage, strike, lockout, slowdown, labour disturbances, accident, epidemic, difficulties in obtaining required raw materials or labour, lack of or failing transportation, breakdown of plant or essential machinery, emergency repair or maintenance work, breakdown of public utilities, changes of law, statutes, regulations or any other legislative measures, acts of governments, supranational organisations or other administrative or public agencies, orders or decrees of any court, acts of third parties, delay in delivery or defects in goods or materials supplied by suppliers or subcontractors or an inability to obtain or retain necessary authorisations, permits, easements or rights of ways.

Effects. The Party prevented from fulfilling its obligations shall not be required to remove any cause of Force Majeure or to replace or provide any alternative to the affected source of supply or the affected facility if that would require additional expenses or a departure from its normal practices, or to make up for any quantities not supplied. If an event of Force Majeure has occurred, the Party prevented from fulfilling its obligations is entitled to allocate, in a manner it considers reasonable, the available quantities of Products amongst its customers and its own requirement.

Obviously, the customer will seek a different type of wording:

Notification of Force Majeure. A Party prevented from fulfilling its obligations duly and timely because of an event of Force Majeure shall promptly inform the other Party specifying the cause of Force Majeure and how it may affect its performance, including a good faith best estimate of the likely scope and duration of interference with its obligations, and shall make best efforts to terminate or avoid the Force Majeure circumstances as soon as practicable. The Parties shall consult with each other in order to minimise all damages, costs and possible other negative effects. For the purpose of this Section, Force Majeure means unforeseeable and unavoidable circumstances entirely beyond the control of the Party concerned, such as acts of God and wars.

Effects. The Party other than the Party prevented by a Force Majeure event shall be released from performing any of its obligations for the duration of the Force Majeure event. Furthermore, if an event of Force Majeure continues for more than 60 days, such latter Party shall be entitled to terminate this Agreement or any purchase order or part of a purchase order, with immediate effect and without liability to the Party prevented by the Force Majeure. Upon remediation of the Force Majeure event, the Party prevented by the Force Majeure shall promptly resume performance on all purchase orders of the other Party (which have not been terminated).

Aspects of force majeure clauses. The middle ground is somewhere in between. An event of force majeure should be reasonably unforeseeable, out of the debtor’s control and reasonably unavoidable[1]. Once an event of force majeure has occurred, whether contractually excusable or not, it is often possible to solve its consequences or at least to establish an appropriate way forward. In such circumstances, it may well be important for the customer to receive all relevant information promptly and probably also to be involved in choosing the remedies. In view of the consequences and entitlement to stay involved, even a buyer or contractor may prefer to widen the scope of the force majeure situations and get an informed, preferred customer position.

Choice of law in national contracts

You have probably seen it before: two parties from the same country (rather: jurisdiction) who insert a choice of law clause in the agreement. Is it valid? What happens if one party moves abroad? Can the parties choose a foreign law? That’s what this blog post is about.

In order for a choice-of-law clause to be effective, a contract must be ‘international’. If a contract is not ‘international’, the effect of the choice-of-law clause is that only the supplementary law (ius dispositivum) from the local law of the contracting parties is replaced by the chosen law; the mandatory law of the contracting parties’ jurisdiction cannot be contracted away.

A contract is ‘international’ if there is an element of some significance in the agreement that points to a jurisdiction other than the law which would otherwise be assumed to apply in the usual course of things. This is most obvious if the two parties are established in different jurisdictions but also when both contracting parties are from the same jurisdiction and delivery of the goods takes place abroad; a sales contract is generally considered to be ‘international’. It is not clear in all jurisdictions when a contract becomes ‘international’ but the prevailing opinion is that the criteria are relatively easily met.

Time of internationality. The relevant time for measurement is always the moment of contracting (the time of consensus) between the parties. This implies that if one party relocates abroad, in principle, this does not affect the internationality of the agreement. In other words, the agreement does not become international as a consequence of such event after entering into the agreement. Nevertheless, the threshold for assuming internationality is low and if the parties anticipated the relocation, that might be sufficient to expressly choose the applicable law (and accordingly, but subject to the court’s assessment, a foreign law can be chosen).

Waiver clauses in contracts

In many contracts, a provision is inserted saying that a party may waive its rights provided it is specific and in writing. In European legal systems, such clause is unnecessary: vast case law provides that a waiver of rights must be clear and unequivocal, expressed by a person authorised to represent the waiving party. In this blog I discuss a useful way of providing for waiver provision in the miscellaneous article.

Most European member state laws provide that the failure of a party to claim or enforce its rights does not automatically qualify as a waiver of such rights. Also, if a party does ‘waive’ its rights in a certain situation, member state laws will not easily presume a blanket waiver. Still, despite the compulsory nature of that principle and the great reluctance of courts to assume a waiver, many contract drafters provide for wording that reflect the law, resulting in something

Franchisor and Franchisee may by written instrument unilaterally waive or reduce any obligation of the other under this Agreement.  Any waiver granted by Franchisor shall be without prejudice to any other rights Franchisor may have and shall be subject to continuing review by Franchisor.

In certain cases, a waiver provision is useful and more adapted to the way it works in real life. For example, if it is more specific as regards its scope or effects:

Waivers. A failure of a Party to enforce strictly a provision of this Agreement shall in no event be considered a waiver of any part of such provision. No waiver by a Party of any breach or default by the other Party shall operate as a waiver of any succeeding breach or other default or breach by such other Party. No waiver shall have any effect unless it is specific, irrevocable and in writing.

The above clause specifies what may or may not be the consequence of a party’s behaviour or (informal) remarks.

Court or arbitration?

An important question in cross-border contracting is (or should be) whether or not to settle disputes by means of court proceedings (for which you would probably choose an exclusive jurisdiction) or by means of arbitration (sometimes combined with mediation). But why would you choose for arbitration? The arguments are in this blog post.

The important decisive factors for arbitration instead of public court proceedings are:

  • Enforceability of a decision. Arbitration is almost inevitable if there is no treaty between the countries in which the final decision must be executed and the country of an agreeable court (e.g. a convention for the enforcement of foreign judgments, such as the Convention of Lugano or the ‘Brussels Regulation’). The New York Convention of 1958, facilitating the enforcement of arbitral awards, has been ratified by an impressive number of countries.
  • Confidentiality. In arbitration, even the existence of a dispute is secret. If this is important, it may be desirable to provide that the arbitration institute will not publish the arbitral award (or at least not any identifying elements of the case).
  • Greater expertise of arbitrators. The parties may provide for effective appointing rules to establish the arbitral tribunal. Even if the parties did not provide anything on the nomination or appointment of arbiters, an arbitration institute will likely consider the desirability of bringing a true expert ‘on board’.
  • ‘International’ approach of a dispute. In court procedures, the foreign party will likely feel uncomfortable and uncertain about the somewhat patriotic or chauvinist attitude the court may take vis-à-vis its local counterpart. Also, in arbitration, the tribunal may be more receptive to international quality standards or service levels and transnational best practice rules (e.g. Lex Mercatoria) and less amenable to formalities required by the applicable law.
  • Speed, although arbitration is sometimes slower. This argument is often misplaced. It is not generally true that arbitration is slower than court proceedings. On the contrary, in some countries civil procedures are considerably slower or much more burdensome.
  • Adaptability of the arbitral procedure.

Whatever the parties agree, they should certainly not provide for arbitration and a choice of court at the same time. Also, if the choice is made for arbitration, it is highly unusual to provide for a right of appeal (not even in a court) and the decision not to choose arbitration should not be driven by the lack of such right of appeal.