Contract Risk Assessment

– or Bridging the Gap Between Commerce and Contracts (with pragmatism and common sense.)

Contracts don’t have to be measured in inches – it’s a long time since lawyers were paid by the word. Neither do they have to be some academic foray into the distant realms of possibility. On the other hand, they do have to afford you the protection you need when things don’t go quite as planned.

We are all used to the concept of risk analysis as it pops up in most areas of our life, – from Councils taking the conkers off trees in case someone throws a stick up and it falls and injures a passer-by (I didn’t make that up!), to assessing the risk that our computers will send all our personal data across the ether to a student hacker. Why then, do we so often fail to ‘risk-assess’ our contractual arrangements?

It often seems as if the contractual process is, for many organisations, a purely administrative one: Agree deal, find document that looks as if it might fit the bill, change the names and products, sign it and file it. Note that there was no actual consideration of the relevance of the document in that process – no assessment of the risks involved in this particular transaction and how they might differ from the previous one.

For example, I’ve come across cases where no account was taken of the different lead times or specialist safety requirements and storage conditions for a client’s products in agreements for their manufacture – both of which could have had significant cost (and liability) implications. Similarly, when taking on a new customer, it may be wise to look for a quicker get-out clause than you would use in a contract with an established customer, or to spell out what you will (and will not) do for them in greater detail if they have less experience of dealing with organisations like yours.

The corollary to the above is an agreement of mine which has recently been reviewed by a firm of solicitors acting for one of the parties. Their suggestion that we ought to include a clause making it clear that all payments would be made in Sterling made me smile – the agreement is between two East Midlands (UK) organisations with no international connections and involves relatively small sums of money. What did I say about lawyers being paid by the word?!

My advice to anyone negotiating or drafting contracts would be to carry out a risk assessment, but be pragmatic. Look at:

What can go wrong?
What is the probability that it will go wrong?
What are the implications of it going wrong in terms of time, money and reputation?
Is the risk one you are prepared to live with, or should it be covered by the contract?
No contract can protect you against all possible risks, and if a risk is slight and the implications minor, you may be prepared to accept it, for the sake of the brevity of the document. However, if the probability of the ‘event’ is high and/or the implications are severe, it ought to be covered.

How each identified risk which you want to have covered will actually be dealt with in the contract is then a matter for a closer look at the risk analysis. Simply highlighting the matter may be enough for a highly probable – low risk event, whereas a more detailed and ‘technical’ clause will be appropriate for a high-risk event.

The overall aim should always be to make the length and complexity of the contract appropriate to the risks you face. If it needs to be 20 pages long, fine. But if it only needs to be 2 pages long – save the trees, and your money!

Don’t risk it. Always create your contracts with clarity.