I was recently invited to give a talk on “business contracts” to a group of entrepreneurs and SME business owners. I realized that many business owners lack a basic understanding of certain important legal concepts, one of which is about the contract. As such, I have decided to cover this simple but yet important legal topic in this and the next article.
What is a contract?
Many entrepreneurs jump into building a company without considering important issues like contracts and agreements. Contracts play a crucial role in managing the relationship between companies and business partners.
Dealing with contracts is part of running a business. You may be a purchaser of goods or services; a supplier of goods or services or a business partner of a venture you recently set up. In each of this situation, you will be entering into a contract, and that little document will specify terms which set out the agreement reached between the parties to prevent disputes and misunderstandings. A contract also provides legal remedies if one party does not uphold his end of the contract.
So, what is a contract? It can be anything from a formal written document to a purely oral promise.
A contract is an oral or written agreement to do work in exchange for some benefits, usually in the form of payment. Although an oral contract is still legally binding (except for specific situations where the contract must be in writing), most contracts nowadays are in writing.
For a contract to be legally binding, it must contain four essential elements, namely:
- offer – what you offer to the other party to buy
- acceptance – when the other party agrees to buy your offer
- intention to create a legal relationship – a serious commitment to enter into a binding contract
- consideration – something of value to be exchanged between the parties
However, if a contract has any of the following elements, it will not be considered as a binding and valid contract:
- illegal – if a contract is for an illegal purpose (for e.g. selling drugs, prostitution, illegal gambling)
- lack of capacity – if the other party is a minor (below 18 years of age); a bankrupt; a mentally-ill person; a person under influence of drug or alcohol when entering into the contract
- unconscionable conduct – if a party is forced, coerced, deceived or misled into signing a contract
Written or oral contract?
Depending on the value or seriousness of the subject matter, as a general rule, I always encourage parties to sign a written contract.
It is because a written contract provides more certainty, sets out clearly the details of what was agreed from the outset as well as minimizes risks as it is much safer to have something in writing than to rely on someone’s word or your own memory.
If you do not have a written contract, parties are likely to have disputes over what was actually agreed because both are relying on own memory (a typical “your words against my words” kind of situation). The court will not enforce the contract if you are unable to prove the existence of the contract or its terms.
When a written contract is essential?
These are some of the tips to help you in deciding whether you should enter into a written contract:
- when the contract price is large enough to make or break your business i.e. high-risk transaction;
- where there are quality requirements, specifications or specific materials that must be used;
- where there is some doubt as to whether the other party has enough money to pay you;
- when you need to have certain types of insurance for the type of work you do;
- where the contract contains essential terms, such as a critical date for the completion of the work before payment can be made;
- where parties need to keep certain information confidential;
- when it is required by your insurance company for professional indemnity insurance.
Other types of contracts recognised by law.
An oral contract or some call it a handshake agreement is nonetheless a valid contract provided it fulfills the 4 elements stated above. However, the challenge lies in proving the existence of such a contract.
You may want to keep any paperwork/conversations that are associated with the contract so that in the event there is a dispute, you can still use them as evidence. These would include emails, WhatsApp chats, minutes of the meeting, purchase orders or fee quotes with relevant details, list of specifications and materials, etc.
This is an unwritten contract that can be inferred from parties’ conduct, actions and the circumstances. For example, if a vendor sends goods to a customer, and the customer takes the goods without paying and uses those goods to make products or re-sell for a profit, a contract to buy and sell those goods might be inferred.
The customer must pay for the goods because an implied contract has been created.
This is a pre-prepared contract where most of the terms are set in advance. And it leaves little or no room for negotiation.
The most common example would be the terms and conditions that you usually have to agree to before you subscribe to a service. This type of contract tends to be one-sided (“take it or leave it”) that benefits the party who prepared the contract.
So, please read the fine print because if you don’t, you cannot later argue that you didn’t understand or read it before you sign.
This type of contract will need to be drafted in a fair manner too, in light of the new unfair term provisions under the Consumer Protection Act 1999.
Tips for signing a contract
Now that you know how important it is to sign a contract, below are some tips for signing a contract.
Before you sign
- read every word, including the fine print;
- ensure that it reflects the terms and conditions that were negotiated;
- seek legal advice, if necessary;
- allow plenty of time to consider and understand the terms;
- don’t be pressured into signing anything if you are unsure;
- never leave blank spaces on a signed contract – cross them out if you have nothing to add;
- make sure that you and the other party initial any changes to the standard contract;
- obtain a copy of the signed contract, make sure it is stamped, and keep it in a safe place.